The Cooper Companies' (COO) CEO Bob Weiss on F2Q 2014 Results - Earnings Call Transcript

Jun. 5.14 | About: The Cooper (COO)

The Cooper Companies, Inc. (NYSE:COO)

F2Q 2014 Earnings Conference Call

June 5, 2014 17:00 ET

Executives

Kim Duncan - Senior Director, Investor Relations

Bob Weiss - Chief Executive Officer

Greg Matz - Chief Financial Officer

Al White - Chief Strategy Officer

Analysts

Larry Biegelsen - Wells Fargo

Larry Keusch - Raymond James

Joanne Wuensch - BMO Capital Markets

Matthew O’Brien - William Blair

Steve Willoughby - Cleveland Research

Jon Block - Stifel

Jeff Johnson - Robert W. Baird

Matthew Mishan - KeyBanc

Operator

Good day, ladies and gentlemen and welcome to the Second Quarter 2014 The Cooper Companies Earnings Conference Call. My name is Philip, and I will be your operator for today. At this time, all participants are now in a listen-only mode. Later, we will be facilitating a question-and-answer session. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the conference over to your host for today, Ms. Kim Duncan, Senior Director of Investor Relations. Please proceed.

Kim Duncan - Senior Director, Investor Relations

Good afternoon, and welcome to The Cooper Companies’ second quarter 2014 earnings conference call. I am Kim Duncan, Senior Director of Investor Relations. And joining me on today’s call are Bob Weiss, Chief Executive Officer; Greg Matz, Chief Financial Officer; and Al White, Chief Strategy Officer.

Before we get started, I would like to remind you that this conference call contains forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995, including all revenue and earnings per share guidance and other statements regarding anticipated results of operations, market conditions and integration of any acquisitions or their failure to achieve anticipated benefits. Forward-looking statements depend on assumptions, data or methods that maybe incorrect or imprecise and are subject to risks and uncertainties. Events that could cause our actual results and future actions of the company to differ materially from those described in forward-looking statements are set forth under the caption Forward-Looking Statements in today’s earnings release and are described in our SEC filings, including the business section of Cooper’s Annual Report on Form 10-K. These are publicly available and on request from the company’s Investor Relations department.

Now, before I turn the call over to Bob, let me comment on the agenda for the call. Bob will begin by providing highlights on the quarter, followed by Greg, who will then discuss the second quarter financial results. We will keep the formal presentation to roughly 30 minutes and then open up the call for questions. We expect the call to last approximately 1 hour. We request that anyone asking questions please limit yourself to one question. Should you have any additional questions, please call our Investor line at (925) 460-3663 or email ir@cooperco.com. As a reminder, this call is being webcast and a copy of the earnings release is available through the Investor Relations section of The Cooper Companies’ website.

And with that, I will turn the call over to Bob for his opening remarks.

Bob Weiss - Chief Executive Officer

Thank you, Kim and welcome everyone. A solid quarter with continued momentum, top line growth with 7% with revenues of $412 million, this was 9% in constant currency and excluding Aime from prior year results. CooperVision grew 9% in constant currency and excluding Aime, while CooperSurgical was up 9%. GAAP earnings per share of $1.62 and non-GAAP earnings per share of $1.64, excluding certain acquisition related cost. Free cash flow was $65 million bringing our 12-month trailing free cash flow to $217 million.

Within CooperVision, we continued making progress with MyDay, our single-use silicone hydrogel lens. We ramped up our production and continued to grow sales and I am happy to say everything is progressing well. Additionally, our traditional hydrogel one-day business led by Proclear continued growing nicely resulting in total one-day growth of 21% for the quarter in constant currency and excluding Aime. Outside of one-days, our growth was driven primarily by Biofinity and Avaira, which both grew in the mid to upper teens.

Regarding CooperSurgical, our fertility business was strong again, up 17%. This drove 9% overall growth in surgical, which was very nice. From a gross margin perspective, we were at 65.1%, which met expectations especially given the strength of our one-day portfolio, including ramp up costs from MyDay.

From an operating margin perspective, we leveraged our operating expenses to grow our non-GAAP operating margin to a very nice 21.8%, up from 21.2%. This all led us to solid earnings per share and to us again raising the low end of our earnings per share guidance. Regarding guidance, I should also mention we maintained our revenue and continued to be comfortable with the drivers of our one-day lenses driven by MyDay and Proclear and our Biofinity and Avaira product families.

Now before I get into the specifics on vision and surgical I wanted briefly to touch on the soft contact lens market in calendar Q1 and our related performance. As you know we have been taking market share for years at around two times the market. In the first quarter the market grew 8% and we grew 9%. It’s important to know there was an anomaly in the quarter as Japan raised their sales tax effective March 31. And this resulted in a significant channel fill in Japan. I believe J&J and Alcon have mentioned it.

To net everything out we believe the best way to look at the market is on a trailing 12 month basis where we grew 11% and the market grew 6%. Final point on this the Japan event did not impact our fiscal second quarter as it netted it self out within the fiscal quarter between March and April. We are under indexed in Japan and Asia-Pacific and we don’t have any impacts on our third fiscal quarter.

Now turning to CooperVision details, on the sales side we had ($331) million at CooperVision which put up solid top line results in the second quarter. And excluding the effects of the divestiture of Aime, a rigid cast permeable business in Japan, our CooperVision sales were up 9% in constant currency versus the second quarter of 2013. Our silicone hydrogel family continued to drive our top line with revenues of $161 million our silicone hydrogels were up 20% in constant currency. Our silicone hydrogel family is now very deep with monthly Biofinity, two weeks the Avaira line and now one day with just MyDay. And with the Proclear family we continued to gain share in hydrogels also during the second quarter. The Proclear family was up 8% in constant currency on the strength of one days. The overall family accounts for 26% of CooperVision revenues.

By lens type, there are also – we also kept our momentum with torics accounting for 32% of CooperVision and revenues up 8% in constant currency. And our multifocal is now 11% of CooperVision revenues, up 18% above the prior year. We continued to lead the market in these specialized categories. When it comes to the fastest growing model, modality, one day disposables or single use if you will, we put up stellar numbers with one day spheres up 15% in constant currency and overall one day use up 21% in constant currency ex-Aime.

Now, one very important point to understand about our product mix and the industry strategy of trading up 20% to 40% of silicone hydrogel lenses. It may appear that Cooper has caught up with the industry in trading up silicone hydrogel, CVI, our CooperVision is at 49% of its revenue in silicone hydrogels while the market is at 50% in dollars. In fact our mix masks how much room we still have to grow. For one day the silicone hydrogel market is at 13% and we are at 6%. For our other modalities the market is at 71% and we are at only 64%. Also our one day market share is still one half our overall all other products.

Geographically CooperVision foreign exchange headwinds have moderated on the top line with zero impact worldwide, although it took a strong pound and euro to offset year-over-year weaker yen and the Canadian dollar. From a revenues perspective we had put up solid constant currency growth in all regions. Our growth drivers are in the Americas continued strong affinity performance with the halo effect of Biofinity multifocal and the strong one day lead of Proclear sphere. In Europe our success in constant currency includes the MyDay rollout, including Biofinity multifocal halo effect as well as Avaira.

In Asia-Pacific, adjusting for the exclusion of Aime divestiture at year end or October 31, last year and for foreign exchange rates, Asia-Pacific was up 20% in constant currencies. Drivers include the Proclear family led by one-days and the Biofinity momentum. The sales increase in Japan effective or the sales tax increase in Japan effective April 1, which impacted calendar quarter one 2014 market data, was considerably flushed out in April when we have a decline year-over-year.

Looking at contact lens market, the worldwide market in the calendar first quarter was up 8% in constant currency, while CooperVision was up 9%. The soft contact lens market is now $7.4 billion. The market grew 6% on a constant currency basis the past 12 months. CooperVision was up 11% during the same period in constant currency. CooperVision’s market share gains were broad-based similar to past results. All modalities, all regions, all materials and all lens types.

For the calendar first quarter, the market growth was sponsored again by the one-day modality, up 16% and is now 41% of the soft contact lens market in dollars. Also sponsoring growth is the silicone hydrogel material, which grew 14% and now accounts for 50% of the soft contact lens market. For the calendar first quarter, CooperVision one-day was up 23% and silicone hydrogel was up 20% in constant currency. The soft contact lens market remains a trade-up market with the trade-up to one-days about 400% to 600% and a trade-up to silicone hydrogels about 20% to 40%. Also, it’s important to note that torics and multifocals have a long way to go in capturing the market opportunity, especially outside the United States.

Here CooperVision is the number one player worldwide. Geographically, Asia-Pac has done best, up 18% sponsored by the value-added tax or sales tax if you will increase that took effect on March 31. In calendar first quarter, CooperVision had offsetting events, the value-added tax and calendar period being flushed out in Asia-Pac, which did bring up the revenue on a calendar basis up 29%. Offsetting this was the impact of a January 1, 2014 price increase in the United States and some first quarter retail order delays in the United States, this net out to 9% growth for the calendar quarter for CooperVision as well as 9% in the fiscal quarter.

CooperSurgical, our women’s healthcare franchise turned in the solid top line performance. We were pleased with continued strength of top line growth in infertility which was up 17% above the prior year’s second quarter. Our fertility business now accounts for 36% of CooperVision franchise, our office in surgical business rebounded somewhat putting up a positive growth of 4% above last year’s quarters.

Little bit about guidance, we again slightly increased our earnings per share by raising the lower end of our previous guidance. This guidance reflects our successes in the second quarter in managing SG&A cost in spite of ongoing investment in the rollout of our MyDay, our new one-day silicone hydrogel product. Our MyDay plans remains intact starting Europe in 2014, expand into the U.S. in 2015, and then in Japan in 2016. We continue making progress with the ramp up of capacity and are on target for around $25 million in revenue this fiscal year. Our outlook for 2015 remains around $75 million as we continue to ramp up and to expand in Europe and expand in the developing into the United States markets.

Few comments about strategy, we continue with our successful strategy which I have frequently articulated in the past. We believe it is solid and it has delivered results. CooperSurgical is putting up solid results and is leveraging its infrastructure. The franchise was built with solid understanding of the value of critical math in a women’s healthcare market targeting the OB/GYNs. We follow the professional wherever they go, office, surgery center, hospital, or IVF center. Although the call points are different for reach, the leverage is considerable.

CooperSurgical’s second quarter 2014 gross margin was 65%. Operating margins were over 22%. And due to minimal capital expenditure requirements, CooperSurgical is a significant contributor to our free cash flow. We are dedicated to the strategy and will continue to do tuck-ins and non-U.S. acquisitions to leverage the CooperSurgical structure and products. At CooperVision, the strategy is more complex and is much more global in nature and the $7.4 billion soft contact lens industry, because of the uniqueness of our manufacturing platforms, we are the only company that participates with a very broad and very deep product portfolio.

Just to crystallize this point CooperVision aggressively promotes silicone hydrogel and non-silicone hydrogel that is the Proclear family. We emphasize branded and non-branded products. Note, private label does not mean lower operating margins. Actively, we promote and specialize in custom lenses with the high gross margin. And I might add that our gross margin on the private label and extended range lenses is good. We support all modalities that eye care professionals prescribe one-day, two-week, and monthly and we support all types of lenses: spheres, torics, and multifocals. With over 30% share in the high growth specialty lens categories, torics and multifocals, it is acknowledged by eye care professionals that we are pretty good at specialty contact lenses. For few eye care professionals, we challenge why the success of Biofinity toric for astigmatism. Put a great design together with a great material and great things can happen. You have seen similar success for the same reason with Biofinity multifocal, which first hit the market in the middle of calendar year 2011, almost three years ago.

On the capacity front, we are capable of delivering considerable more products where we had been previously supplied constraint. The Biofinity family Proclear one-day or one-day toric and are all in good capacity shape. Our newest endeavor is now ramping up MyDay or one-day silicone hydrogel. On pricing, we like the rest of the soft contact lens industry have a trade up strategy. Our new wears and existing wears are targeted for silicone hydrogels, the Proclear family and the one-day or single use lenses. Each creates more revenue per wearer, a one-day modality for example results in 4X to 6X for revenue per wearer. While this strategy sacrifices the gross profit margin that is the percent, it generally creates three to five times more profit per wearer. Of course, the strategy competes head on with the lens care space, since we are shifting the wearer revenue resources from lens care to contact lenses only.

Competing for lens care dollars is more of a problem for some of our competitors. In my opinion, we continue to be the most focused company in the industry lacking many of the distractions that some of our competitors have and are now going through. And by that with Biofinity, Avaira, Proclear and MyDay, we have a lot to talk about with eye care professionals all over the globe. As we look down the road over the next several years, we expect to continue improving our operating margins and deliver above average shareholder returns. We expect to continue to average double-digit earnings per share growth, while investing in geographic expansion and new product development.

In today’s market, we have a solid product portfolio to leverage all modalities, multiple materials, all lens types and we retained our expertise to emphasize customizing lenses for the 10% to 20% of those lens wearers that require other than standard sizes and/or designs. We have a lot of work to do before we come anywhere close to having exploited our number one contact lens family Biofinity. This is particularly true when it comes to geographic expansion and fully developing the Biofinity family of torics and multifocals around the globe. The same applies to Avaira, where the Avaira sphere was anxiously awaiting the relaunch of the Avaira toric. This combination has now put us in a much better position to exploit the U.S. two-week space owned by J&J and to also exploit our private label strategy more aggressively with this family.

While we already have a pretty respectable gross profit and operating margins, from a cost perspective, we have considerable upside yet to be fully developed. Upsides include the elimination of silicone hydrogel royalty with the expiration of the patents, a reduction of our manufacturing costs, among other things, improving molding cycle times, increasing capacity utilization and improving yields in general. Each of these are key goals for us. And as previously mentioned, our expansion plans include a lower cost labor location in Costa Rica that is now being built. This is a multi-year project that will further help us manage down our cost.

Also, given the considerable amount of free cash flow we generate, we will continue to look for tuck-in acquisitions and geographic expansion opportunities like Origio in our two businesses. The key requirement, however, is that each acquisitions must exceed our minimum investment rate. Each must achieve, over time, a hurdle rate that exceeds 10% return on investment capital.

Additionally, the markets for both women’s healthcare and soft contact lenses are much less developed outside the United States, and we generate a considerable amount of cash offshore due in part to our level of manufacturing outside the United States. As such, we will continue to aggressively invest in global expansion opportunities. With over 95% of the people on the planet outside the United States, we believe we will find opportunities to invest in other countries for decades to come, thereby sustaining a low effective tax rate indefinitely.

And finally, we again, this year demonstrated we are opportunistically willing to buy in some of our stock to maximize total shareholder return. We will however, keep everyone guessing as to the timing. In summary, before I turn it over to Greg, let me say how happy I am with the quarter operating results. Operationally we continue to outperform the market being almost two times on the trialing 12 month basis and 1.2 times an inflated calendar first quarter. Our trailing 12 months market share gains are deep covering all geographies, all modalities, all lens types, all lens materials in both branded and private label. Our family of products like Biofinity, Avaira, Proclear, one day, MyDay as well as fertility in women’s healthcare are very promising – each promising continued growth not only in the United States throughout the rest of the world. And we believe our optimism is with good reason.

Because of our solid gross profit percent performance, we have been able to continue investing in geographic expansion, sales force expansion and R&D in the past the five years. Our improving operating income ratios have been cost of goods driven, leaving room to invest. Our balance sheet and our free cash flow are strong which is allowing us greater flexibility in acquisition activities and to continue select operational investing such as the BRIC expansion and focusing on our commitment to capital expenditures to support one day expansion strategy. Today’s one day market is over $3 billion and growing more than five times that of the rest of the soft contact lens market.

Not everyone will play, we have the products, the manufacturing platforms and the financial strength to move this needle and given the four times to six times trading up of the more compliant one-day wear, we are more than willing to trade-off our gross profit percent for the added profits from a one-day wear. And we remain committed to our 2018 objective of a 25% operating income target and related earnings per share growth impact. We have remained keenly focused on delivering improving results, mindful of our desire to invest and leverage prudently thereby delivering optimized long-term total shareholder return. While we did not purchase more shares of stock this past quarter leveraging our financial strength, this remains a viable use of free cash flow generation that we will continue to selectively use in the future.

With that, as always, a reminder that at Cooper our number one asset is our employees. To them, I express my appreciation for their dedication to creating value and delivering results.

And now, I will turn it over to Greg to cover some of our solid financial results.

Greg Matz - Chief Financial Officer

Thanks, Bob and good afternoon, everyone. Bob shared with you a pretty thorough review of the market and our revenue picture.

Now, let me start with gross margins. Looking at gross margins, in Q2, consolidated GAAP and non-GAAP gross margins met our expectations of 65.1% compared with 66.2% for GAAP and non-GAAP in Q2 last year. The vast majority of this difference was due to the mix impact and startup cost associated with MyDay. As we have discussed in the past, these costs are expected during a startup phase, where you are building capacity. We still expect this product to exit the year in the high single-digit margin range.

Looking at FX, the impact of FX on gross margins was negligible this quarter. In addition also for this year, we still expect gross margins in the range of 65%. CooperVision on a GAAP and a non-GAAP basis reported gross margin of 55.2% versus 66.6% for GAAP and non-GAAP in Q2 last year. As I just mentioned, this was mainly due to the cost associated with MyDay.

CooperSurgical had a GAAP and non-GAAP gross margin of 64.7%, which compares to 64.5% in Q2 ‘13. We saw some positive impact as the higher margin base business grew. Fertility with lower margins will continue to put pressure on our gross margin, as that part of the business continues to become a larger part of their mix.

Now, looking at operating expenses, SG&A in the quarter on a GAAP and non-GAAP basis, SG&A expenses increased by approximately 3% from Q2 last year to $155.8 million for GAAP and $154.8 million for non-GAAP and both were 38% of revenue, down from 39% in the prior year. The difference between GAAP and non-GAAP was about $1 million in acquisition-related costs, which were included in our GAAP numbers. SG&A on a non-GAAP basis declined 2% sequentially.

Now, looking at R&D. In Q2, R&D increased by approximately 12% year-over-year to $16.3 million, or up $1.8 million. R&D was 4% of revenue, up from 3.8% in Q2 ‘13 and 3.9% sequentially. We continue to expect R&D to grow faster than sales in fiscal 2014.

Now, looking at depreciation and amortization. In Q2, depreciation was $24.3 million, up $854,000 or 4% year-over-year and amortization was $7.5 million, down slightly or negative 1% year-over-year for a total of $31.8 million.

Moving to operating margins. For Q2, consolidated GAAP operating income and margin were $88.9 million and 21.6% of revenue versus $81.5 million and 21.2% of revenue for GAAP in Q2 last year. Non-GAAP operating income and margin were $89.9 million and 21.8% of revenue versus $81.5 million and 21.2% of revenue for the prior year. This represents a 9% increase in operating income over the prior year GAAP numbers.

In Q2, CooperVision had GAAP operating income and margin of $82.6 million and 25% of revenue versus $79.3 million and 25.6% of revenue for GAAP and non-GAAP in Q2 of the prior year. Q2 ‘14 non-GAAP operating income and margin were $82.8 million and 25% of revenue. This year-over-year slight reduction in margin comes from a reduction in gross margins partially offset by leverage in SG&A.

CooperSurgical had GAAP operating income and margin of $18.1 million and 22.3% of revenue versus $12.4 million and 16.6% of revenue for GAAP and non-GAAP in the second quarter last year. Q2 ’14 non-GAAP operating income and margin were $18.2 million and 22.5% of revenue. Operating income grew approximately 46% year-over-year on a GAAP basis. This improvement is largely due to an increase in gross profit and improved SG&A leverage.

Interest expense for the quarter was $1.6 million, down 36% year-over-year. Looking at the effective tax rate in Q2 the GAAP and non-GAAP effective tax rate was 9.3% versus Q2 ’13 GAAP effective tax rate of 4.4% and non-GAAP effective tax rate of 5.5%. As we have mentioned before the effective tax rate continues to be below the U.S. statutory rate as the majority of our income is earned in foreign jurisdictions with lower tax rates. As a reminder in Q2 ’13 we saw the favorable settlement of a multi-year foreign tax authority audit which reduced our quarterly effective tax rate by about 400 basis points.

Now moving on to EPS, our earnings per share on a GAAP and non-GAAP basis was $1.62 and $1.64 respectively versus $1.52 and $1.50 on a GAAP and non-GAAP basis in Q2 ’13 respectively. Excuse me, current quarter GAAP EPS does include the impact of acquisition related costs of approximately $1 million or $0.02 per share. There were no share repurchases in Q2, the impact on EPS for Q2 due to our Q1 share repurchases was approximately $0.02 per share and the impact for the year will be approximately $0.04.

Regarding foreign exchange, currency continues to have an impact on our business, but the net impact year-over-year especially on revenue is much less in Q2. From a year-over-year perspective for Q2, currency negatively impacted us by $0.02 and this was mainly driven by the yen, which was down 7.5% year-over-year. At the current FX rates, we now expect an approximate $0.25 negative FX impact on earnings per share in 2014, with the majority of the remaining impact actually hitting in fiscal Q4. This is reflecting the impact of the strengthening of the pound in our UK production cost and the impact to our P&L based on our inventory turns which we have discussed in the past. We expect a smaller production impact in Q3 but this should be offset with a favorable FX revenue impact. Net-net this yearly currency impact is close to the $0.21 impact we mentioned we gave our initial annual guidance in December. For today’s guidance we use today’s rates of the dollar of $1.36 for the euro, ($103) for the yen and $1.67 for the pound.

Moving on to balance sheet and liquidity, in Q2, we had cash provided by operations of $126.3 million, capital expenditures of $61.2 million resulting in $55.1 million of free cash flow. Total debt decreased within the quarter by $10.3 million to $335.4 million. We now have approximately $1 billion of total credit available as of April 30. Inventories increased approximately $6 million to $345.8 million from last quarter. For the quarter, we are seeing months on hand at 7.2 months, down from months on hand at 7.8 months last year and flat to last quarter. Accounts receivable continues to be well managed with DSOs at 51 days, down from 53 days in the prior quarter and down from 54 days last year.

For guidance as Bob mentioned we moved the bottom of GAAP EPS range up to $6.78 and left the top of the range at $7. On a non-GAAP basis we have increased the bottom of the range to $6.80 and have left the top of the range at $7.

With that let me turn it back to Kim for the Q&A session.

Kim Duncan - Senior Director, Investor Relations

Operator we are ready to open up the call for questions.

Question-and-Answer Session

Operator

Alright. (Operator Instructions) And your first question comes from the line of Larry Biegelsen with Wells Fargo. Please proceed.

Larry Biegelsen - Wells Fargo

Hi guys. Good afternoon. Thanks for taking the question. Just two for me, first is a clarification, Bob I don’t understand the 8% when you look calendar first quarter 2014, the 8% for the market and 9% for CooperVision, why that isn’t a fair comparison because your Asia-Pacific business was up 29% and did benefit from the buy-in from Japan? And second, can you talk about it wasn’t clear to me why the Americas was flat in calendar Q1. I know I think you are up 5% for fiscal Q2, but could you talk about what you saw in April and May? Thanks.

Bob Weiss

Okay, the 9% versus the 8%, 9% for us and 8% for the market, of course the market is inflated and keep in mind that Japan is a big part of the market. So, that inflation that occurred in March, the end of the calendar quarter is reflected in that. And your large players, if you will, in the Japanese market by far the largest player is J&J. So, it had a profound impact on J&J. It had a profound impact on the market relative to Cooper. While that percent is big, 29%, we are hugely under index. Our market share is about just a little above half the market share in Asia-Pac as it is in the rest of the world. So, the percentages don’t always add up with equal weighting if you will. Secondarily and that’s where Asia-Pac for the entire market, which is around 30% of the world matters a lot when it’s only half that for us, it matters a lot less.

Relative to the Americas, the Americas is coming off of a calendar quarter that was 15% for Cooper and it dropped from 15 to 0 in the next calendar quarter. We had our price increase, select price increase effective January 1, which had the impact of bringing revenues from January into December. And therefore, the calendar fourth quarter is inflated that flushes out considerably in January. Therefore, it doesn’t show up in the fiscal period like it does in the calendar period. So, we were artificially high on a calendar basis in that fourth quarter. And this is somewhat neutralizing that. Relative to the flush-out in April and May, most of the flush-out occurs in April with people buying forward into March in Japan and it had a minimal effect on our May results. And that has contracted into the guidance we are giving going forward.

Larry Biegelsen - Wells Fargo

Thanks for taking the question.

Operator

Alright. Our next question comes from line of Larry Keusch with Raymond James. Please proceed.

Larry Keusch - Raymond James

Thank you. I know Bob you talked a little bit about MyDay being on plan and gave some sense of where you expect the margins to be, but could you dig in a little bit and then perhaps talk a little bit about the experience with the yields? And I was under the impression that there was an opportunity to actually exit fiscal ‘14 at an operating margin that was north of single-digits. So, if you could talk about that? And then I didn’t see any update for free cash flow and CapEx for the year in terms of guidance? So, that will be a question for Greg.

Bob Weiss

Okay. On the operating outlook for MyDay, I think we have been pretty clear on operating margin that we are not expecting operating margin in 2014 into ‘15 and we maybe investing into 2016 as we hope from Europe to the U.S. to Asia-Pac. Relative to gross margin, we indicated that we had a negative gross margin in the first quarter. It would move into a – I think upper single-digit mode the second half of this year and then move into teens in 2015. We are, I would say, on track or ahead of schedule a little in those areas. So, we are pleased with the progress we are making on moving the needle on profitability there. It would still be our intent however to invest in the rollout and not expect to make operating profit even in 2015 on MyDay.

Greg Matz

Yes. Larry, on the guidance, the guidance hasn’t changed. We still see free cash flow and CapEx above $200 million.

Larry Keusch - Raymond James

Okay. And just on that CapEx, sort of just help us all, how much above $200 million are we thinking, is it really closer to $250 million?

Bob Weiss

We are at a modal – we just came off $61 million quarter. Year-to-date, I want to say we are approaching $120 million. So we are running at $240 million. I would not be surprised if it’s north of $220 million by the end of the year, but we will kind of leave it in that, plus $202 million as high as $240 million range.

Larry Keusch - Raymond James

Okay, perfect. Thank you.

Operator

Alright. And our next question comes from the line of Joanne Wuensch from BMO Capital Markets.

Joanne Wuensch - BMO Capital Markets

Hi, thank you so much for taking my questions. Can we spend little bit of time on SG&A? That seems to be particularly well-managed. And I am curious how we should think about that as a go-forward metric?

Bob Weiss

Yes. As far as the SG&A is concerned, we are in the mode of moving into more leverage. We have been investing heavily over the last four, five years in the brick expansion as well as sales force expansion and R&D. And we would expect to over the next several years start really getting some meaningful leverage out of those areas. Particularly, where we have invested several years in certain countries we have been in the brick area, if you will, losing a fair amount of operating income in the startup mode. That’s been kind of masking the total P&L that you see worldwide. And now it’s time with revenue generation to get some leverage out of that. And that will continue over the next period while we say we are going from 22% OI to 25% OI that is more about SG&A leverage and it is about change in the gross profit margin. One thing noteworthy to put here in your thought process, however, is during the next three years we will continue to reduce cost of goods in terms of manufacturing. That will not necessarily show up in gross margin and in reduction of cost of goods, it will be masked by product mix as we shift into the one-day modality. The one-day modality will have basically a lower gross margin, but also lower operating expense ratio. So, there will be some – there should be through mix some improvement in operating cost over that timeframe also.

Joanne Wuensch - BMO Capital Markets

Okay. As a follow-up question, while you have us all here together, could you comment on the FDA warning letter that hit the website about three weeks ago? Thank you.

Bob Weiss

Yes. I am not going to say too much about it other than like any warning letter or 483, which preceded it we take FDA observation seriously and rest assured it’s getting our full attention. It was in Puerto Rico. I think some people have asked whether or not it was connected to anything that happened in the past, the recall of Avaira toric, the answer to that is no, it is not connected with any previous activity. It was more a result of inspection done that led to 483 that happened in December and January timeframe. And a lot of it had to do with CAPA’s and in documentation, which we are as I indicated taking seriously. At some point in time, the FDA and we would expect by the end of calendar year to come in and confirm the actions that we have taken. I don’t have anymore color on it than that at this juncture.

Joanne Wuensch - BMO Capital Markets

Thank you.

Operator

Alright. And our next question comes from the line of Matthew O’Brien with William Blair. Please proceed.

Matthew O’Brien - William Blair

Good afternoon and thanks for taking the questions. Bob, I was hoping first just to start with a clarification point and then get into my actual question after that if that’s okay, but on the clarification side I think what you are saying is with what went on in Asia-Pac and especially Japan giving your under-indexing there plus the strong comp you had in the Americas this time last year. The market growth rate is probably something around 5%, you guys did 9%, but on a rolling average basis you are probably a little bit higher than that. So you are still taking share roughly at about double the market rate and you anticipate that type of trend will continue going forward, is that the way that we should characterize the quarterly results?

Bob Weiss

That’s a pretty good summary. I would say we have never kind of said we think we can keep taking double or 2X indefinitely. So it’s nice that for the last three years we have done two. And if we look at it over a five year perspective, I think we average maybe about 1.8. So anything in the range we are talking about the 9% to 10%, we are happy with that obviously we want to beat it. And the market I do think has moved from the 4% to 5% now to the 5% to 6%, but you are correct the 8% is probably more like 5% to 6% and it is much about that.

Matthew O’Brien - William Blair

Okay, and then for my actual question. We are getting closer to the roll off of the U.S. component of the royalty to CIBA and you got a pretty big headwind right now with MyDay on the gross margin side of things, as we start to think about fiscal ’15, is it fair to think I know you don’t want to give too much in terms of numbers here, but is it fair to think we can get maybe 25% even up to probably not quite as high, but maybe 50% of the headwind from the MyDay product on the gross margin side offset by the royalty rolling off?

Bob Weiss

I am not going to put enough color on that. We have gone out of our way not to put too much color on how it weighs other than to make one point, which is some of the royalty savings we will invest. And it is factored into our model which is basically saying we are going to go from at one point in time with 20% to 25%. We now are more like 21% to 22%, 22% to 25% operating income between now and 2018. So that is still our objective and the royalties are factored in there and the MyDay is a weighting factor in that model over the next several years. And relative to gross margin, in concept you are right that one day, MyDay is taking it one way and the royalty will help minimize that, but I am not going to put more color on it than that.

Matthew O’Brien - William Blair

Fair enough. Thank you.

Operator

And our next question comes from the line of Steve Willoughby from Cleveland Research. Please proceed.

Steve Willoughby - Cleveland Research

Hey guys. Thanks for taking my question. I have a question and a follow-up to something – somebody else already asked. I guess first on the follow-up question, I am just wondering you mentioned the January might have been impacted by the price increases you put into effect January 1, I am just wondering do your competitors not also put in price increases at the beginning of the year and I am just wondering why they may not have seen the same buy ahead impact. And then my second question Bob is in your prepared remarks, if I understood you correctly backing into it, it sounds like MyDay generated maybe a little over $4 million in revenue, so I am wondering if you could confirm that and also maybe provide any commentary on how Biofinity growth was in the quarter?

Bob Weiss

Alright. Several things, the competitors still have price increases while we do and they are not across the board, some products get more and some products get none. Relative to, did the market show up, the market in the Americas in the fourth calendar quarter was 8%, so that was fairly robust compared to a trailing 12 months of six. So it was the strong quarter for the marketplace in the Americas. So that could be a factor, it certainly was a factor for Cooper. Relative to the question on MyDay you are not too far off with the $4 million to $5 million relative to where it is. We are at a $5 million. So, let’s say, a $20 million run-rate now, your math would not be too far off. Biofinity and Avaira, I think I indicated were mid to upper teens, both family of products were mid to upper teens. So that was a comment from my – I made that in my remarks.

Steve Willoughby - Cleveland Research

Okay, thanks so much.

Operator

Alright. And our next question comes from the line of Jon Block from Stifel. Please proceed.

Jon Block - Stifel

Great. Good afternoon guys. I was hoping you can hear me okay. I think two questions. Bob, just on the first one, I know there is a lot of moving parts with the market data due to the value-added tax, but I am guessing Europe should be pretty clean. The market was up 3% in 1Q, you guys were up 12% or sort of 4X. It’s a big number. And can you speak to what led to sort of 4X the market in Europe? And to what extent MyDay played a role there? And then I will go ahead and ask a follow-up.

Bob Weiss

So, you are totally right that we did very well in Europe, 4X the market and MyDay is certainly a contributor there. And we continue to do well with Biofinity and Avaira in Europe as well as really the migration of torics and multifocals. So both as to modality, it’s a factor, lens type, it’s a factor and product rollout is the factor, and all three kind of play well.

Jon Block - Stifel

Okay, great. And then maybe my second one has two parts if possible. The first one is just channel across the different markets again you mentioned a lot of moving parts. Are we normalized in the channel? You mentioned APAC did, but is that the case in the U.S.? And actually I will save the rest of my questions for offline. Thanks guys.

Bob Weiss

Relative to normalized in the channel, certainly we are normalized in the channel now as we have kind of gone through April-May. Relative to the channel, we look at calendar quarters there is no doubt that the second calendar quarter is going to be weak relative to the first calendar quarter, because of the size of that value-added tax or sales tax, if you will in Japan. So, that will no doubt influence the total market what came into the first quarter will come out of the second quarter and then it will be normalized on that front. I think the U.S. is by the end of the first quarter, calendar quarter is pretty normalized from any implications of price increases. And so I think most everything else is normalized.

Jon Block - Stifel

Okay, perfect. Thanks for your time.

Operator

Alright. And our next question comes from the line of Jeff Johnson from Robert W. Baird. Please proceed.

Jeff Johnson - Robert W. Baird

Thank you. Good evening guys,

Bob Weiss

Good evening.

Jeff Johnson - Robert W. Baird

Bob, wondered if I could maybe ask one follow-up and then my real question I guess from there? But on the MyDay revenues of around $5 million or so, I mean, can you talk maybe sequentially how that is trending and just maybe qualitatively how the rollout is going? I know you said well, but maybe any color about what you are seeing in some of your European markets where you have now launched the product? And some background maybe on how those plus powers are maybe or maybe not helping the uptake of that product?

Bob Weiss

Well, the product is going as fast as we can make it. So, it’s only looking to the market other than say the market likes what they see in Europe, that’s very plus, very good. Relative to our ability to continue to ramp up, we basically planned on more than doubling capacity during short window primarily in the second quarter, we were successful in that. So, when we say our rollout is proceeding to plan, starts with the capacity and the capacity is doing quite well. So that’s not an inhibitor as we continue to rollout. At some point in time, we will be – before we know, we will be gearing towards the best market, but there is no real expectation that we will have any meaningful going forward from 2015 into 2014 relative to the Americas or the U.S. market. So, things are going to plan. And we are, I mentioned, $25 million that we are targeting this year, we are now at $20 million run rate. And we would expect to have a decent shot at approaching that $75 million objective for next year.

Jeff Johnson - Robert W. Baird

Alright, that’s helpful. And then just on my other question, as I think through the next couple of quarters, obviously, you have got some of the pound headwinds on the gross margin. I think the market is somewhat worried about competition and just general gross margin impacts from MyDay. Your operating margin in the second half of last year was actually about 100, 150 basis points higher than in your first half of the margin comp. If you think about it that way, it gets a little tougher. And I put all that together and yet you are guiding to kind of an acceleration in EPS growth, the 15% to 21%, if I take kind of the range that’s out there now for the second half in your guidance. So, what gives you the confidence that I guess EPS accelerates from here, it was 13%, 14% in the first half and now you are talking about kind of mid to upper teens, is that 20% in the second half? How do you grow that fast EPS in with all the other kind of issues there I just mentioned?

Bob Weiss

Well, obviously one of the factors we mentioned that we are – we have been investing heavily in MyDay in the fourth quarter last year, invested heavy in MyDay in the first half of this year, while and that’s even at the gross margin line. So, as we move into a positive territory on gross margin that’s a big shift and we will start minimizing the size of the losses. So, that’s one thing is leverage. Our comp in the fourth quarter will be easier brought about by a couple of events that took place last year and certainly one of those was just the fact that we were accelerating MyDay forward with fittings that cost as well as conversion of equipment, which cost just a fair amount of money. So the comp is somewhat easier in the fourth quarter. And I think when you factor those two things together you will see that there is some logic to acceleration. We also had I think some degree of a – well, we had foreign exchange headwinds in the first quarter, but I think we are also anticipating more in the fourth quarter. Fourth quarter is more cost of goods related to lag of the strengthening of the pound getting to the P&L. That of course puts a little pressure on the gross profit line in that quarter. So that will serve somewhat as a headwind against the positive trends on MyDay in terms of cost of goods if you will.

Greg Matz

Yes. Jeff, if you look at the model, I think you will see the second half obviously you have a revenue increase second half over first half you got good control on gross margins. Bob mentioned some of the opportunities, also good control over OpEx, Joanne talked about the SG&A leverage. So, you put all that together. I think we are trying to manage this very, very tightly and that execution I think will deliver results that we have guided to.

Jeff Johnson - Robert W. Baird

Fair enough. Thanks, guys.

Operator

Alright. (Operator Instructions) And our next question comes from the line of Matthew Mishan from KeyBanc.

Matthew Mishan - KeyBanc

Good afternoon and thank you for taking my questions.

Bob Weiss

Good afternoon.

Greg Matz

Yes, good afternoon.

Matthew Mishan - KeyBanc

Yes. Can you talk a little bit about CooperSurgical, what you are seeing in the marketplace, I think last quarter, you said that some orders got pushed out of 1Q into 2Q. Are you seeing improvement here or is this just timing or?

Bob Weiss

I would say modest improvement, but at certainly 4%, we were pleased with in the context of the market and some of the shifting going on there. I would say the surgical outpatient side is still tough. So we don’t want to minimize that idea. Fertility has been doing a good job. We are very pleased with that, those results. And some of the products that we worked on last year in terms of second generation product, we are starting to see some modest benefits of that. So, those three variables still leave us feeling pretty good about the range we gave for guidance, which is still quite frankly, if you were to strip out idea, still pretty anemic expectation on the surgical and the office space in the U.S.

Matthew Mishan - KeyBanc

Okay. And it’s been two years since Origio, how would you describe the pipeline?

Bob Weiss

Well, Origio is a lot more about geographic expansion and certainly taking their product portfolio much more into the outside the U.S. world. The U.S. world is a little bit more mature right now. The pipeline there is – been some plus factors in the pipeline within Origio and the marketplace. And the other thing we are trying to do over time is shift the mindset a little from – away from less equipment more disposable which will lead to improving gross margins within that space. That space is a little, still somewhat a gross profit drag within the CooperSurgical mix, but improving if you will.

Operator

Alright. Ladies and gentlemen, that concludes the question-and-answer session of today’s call due to running out of time. And I will now turn the call back over to Bob Weiss for closing remarks.

Bob Weiss - Chief Executive Officer

Well, I want to thank everyone for joining us today. We look forward to updating you again in September on our quarterly progress and particularly on MyDay and the continued ramp up and rollout. And with that, I want to thank everyone for participating.

Operator

Ladies and gentlemen that concludes today’s conference. Thank you all for your participation and you may all now disconnect. Have a wonderful day.

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