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Andr Ballester - CEO

Demetrio Mauro - CFO


Mathieu Chabert - Bryan, Garnier

Scott Bardo - Berenberg

Stefano Lustig - Equita

Michele Baldelli - Exane BNP Paribas

Sorin S.p.A. (OTC:SORJF) Q2 2014 Earnings Conference Call July 30, 2014 11:00 AM ET


Good afternoon. This is the chorus call conference operator. Welcome. And thank you for joining the Sorin Group's Conference Call of Second Quarter 2014 Results.

As a remainder, all participants are in listen-only mode. After the presentation, there will be an opportunity to ask the questions. (Operator Instructions)

At this time, I'd like to turn the conference over to Mr. Andr Ballester, CEO of Sorin Group. Please go ahead, sir.

Andr Ballester

Thank you very much. This is Andr Ballester. I'm here with Demetrio Mauro, our CFO for our second quarter 2014 conference call.

I'd like to turn to page two and have you go quickly through the disclaimer, and once you've done that let's jump into the presentation with the highlights and the key achievements of Q2 2014.

Revenues were 190.6 million, which basically was on the high-end of our previously given guidance of 3% to 5%. We're showing a 4.4% growth, adjusting net profit of 10.8 was in line with our expectations.

In Q2, we had a very strong performance again from cardiac surgery. We'll see more details in a moment, driven in particular by cardiopulmonary products and also by the continuous penetration of Perceval.

In CRM, although we see early signs of stabilization where we still have a significant negative impact from lower volume in Japan, and again, we'll come back to that.

If you look now at our H1 adjusted net profit there, basically flat versus prior year, and this is despite a 4.5 million negative impact of foreign exchange. As also mentioned in our guidance, there is an impact of our additional investments in new ventures. Actually new ventures impacted our bottom line by 3.8 million or in other words a 1.8 million incremental expenses in new ventures versus last year.

In the second half of 2014, we'll have to confirm stabilization of the CRM business, particularly up by Japan and we're confident we're going to do that. We have profitability targets that we're confirming today, and last but not least, we'll have [informed] (ph) milestones in continuing our long-term growth initiatives. We've said in our press release, and I'm happy to confirm that we're confirming our previously communicated 2014 full year guidance for adjusted net profit, and we expect to be at the high-end of our previously given sales guidance.

So let's move now into more details of each business unit with slide number four; cardiac surgery, a very significant 9.4% growth versus the second quarter of last year at 126.8 million. This growth is driven first by the cardiopulmonary products with another exceptional performance in heart-lung machines of 38.7% growth versus the last quarter.

Oxygenators have had a significant growth of 5.2% growth since the same quarter of last quarter. And these results in oxygenators are consistent with our long-term goal of reaching a 1% market share gain per year over the next five years, in particular, thanks to the roll-out of Inspire.

In autotransfusion devices, we've kept a positive momentum in every major market and growing faster than the market at 7.2% with the sales of 15.7 million in the second quarter.

Moving on to slide five, more results of the cardiac surgery business on heart valves with some more contrasted performance there with the low volumes in emerging markets in the U.S., in mechanical valves creating a 9.8% decline in this segment. Although we've seen declines like that before, we're confident we'll restore a more normal picture in the second half of the year, particularly in the emerging markets.

On tissue valves, we're growing by 6.9% which is clearly above market growth, and we're particularly happy about performance in Perceval studies growing and overcompensating soft performance in our traditional valves business in the U.S.

In the second quarter and early third, we had a very important news from the regulatory standpoint. Our Mitroflow PRT treatment, which is the Phospholipid Reduction Treatment, anti-calcification treatment was approved by the FDA. We showed also at the AATS Congress in Toronto, Canada, the outstanding hemodynamic and clinical performance result of our Freedom Solo. We also had in July the CE mark for our brand new valve, CROWN PRT, and we also had the FDA approval of Solo Smart in July.

Just to give you a deeper perspective on our valve portfolio, I'll turn to page six. We really have a very innovative portfolio of products that will drive future growth in the surgical valve segments. We have Perceval, which is the best-in-class biological solution for aortic valve replacement, more than 6000 implants in 250 centers worldwide. Now, Perceval has been implanted for the first time in seven years ago, and we have excellent clinical performance confirmed by 50 peer-reviewed papers.

In H1 2014, we're demonstrating an accelerated growth compared to what we've seen in last year, and we're really confident we're moving towards our goal of hitting 80 million to 100 million sales by 2018.

The visibility and the confidence that we see growing in the surgical community, where we're assuring, we also had a positive news on the reimbursement front with the reimbursement in Czech Republic in the quarter. And last but not least, our IDE FDA trial is on track.

We also launched -- we just got approval and we're launching our new generation stented valve, and it's really a new generation based on our long history of 45 years of making heart valves and biological valves. In particular, it has the state-of-the-art hemodynamics and durability. It has the PRT treatment for improved anti-calcification, also better ease-of-use with a shorter rinse time and visible markers. And it also has improved radiographic visualization with new X-ray markers. So we're really pleased to launch this valve in Europe in the coming days.

Solo Smart is an evolution of the Freedom Solo, and I was referring to Freedom Solo right before as demonstrated offsetting the hemodynamic and clinical performance in the data presented at the AATS Congress in Toronto. This valve has 4000 implants, eight years of clinical experience. It is the closest thing you can think of to a native valve, and it provides superior hemodynamics. But also with the Solo Smart we do see the lack of surgery. We have a removable stents. It is a single suture line implant technique, and there is no rinsing before implantation. So, they're very innovative valve that will provide a choice for cardiac surgeons around the world, and now in particular, in the U.S.

Let's move to page seven; still challenging results for CRM, particularly in challenging pricing environment we saw a decline in the second quarter by 4.6%, 3.6% decline in low voltage and even higher 8% in high voltage. It's still a challenging pricing environment out there. But if we exclude the impact of Japan, where we have had a significant loss of share because of the lack of availability of the MRI compatible pacemaker, if we exclude Japan, we see flat sales in the quarter compared to the second quarter of last year, which is encouraging.

We have in particular positive momentum in Europe, pacemakers, thanks to KORA 100 and Reply 200, KORA being the MRI compatible product with Sleep apnea and Reply 200 being the Sleep apnea diagnosis pacemaker.

We've seen in contrast of soft performance in the ICD segment, driven particularly by various Just Pricing commissions in Europe.

We have presented a key study of algorithm SafeR, which is the ANSWER study at the Cardio CPR Congress in June, and this study demonstrates that SafeR significantly reduces heart failure events and improves clinical outcome, therefore just define our positioning as a premium product in the pacemaker segment.

I'm also pleased to report that our joint venture with MicroPort in China is now fully operational, and we made the first shipment to the joint venture during the quarter.

I'll now turn the microphone to Demetrio for a deeper dive into the financial results of the quarter. Demetrio?

Demetrio Mauro

Thank you, Andr Ballester. And let's move to slide number eight to read the financial highlights of the period. In the quarter, gross profit was 110.5 million relative to 111.4 million in the year before. As a percentage, operating gross margin was 58% in the quarter versus a 59.3% in the year before.

The gross margin reduction in the quarter is mainly attributable to an adverse foreign exchange impact, while positive manufacturing efficiencies almost entirely offset, (indiscernible) operational issues that solved the CRM performance in Japan in pricing erosion in CRM as reminded by Andr Ballester.

SG&A in the quarter were 73.2 million versus 72.4 million at the year before. As a percentage of revenues SG&A were 38.4% versus 38.6% for the year before. As comparable foreign exchange rate, SG&A increased in the quarter by 1.4%. Despite the challenging environment we are strengthening our commitment to research and development to support long-term growth of the company.

R&D expenses increased to 20.4 million in the quarter versus 90.2 million the year before. As a percentage of revenues R&D expenses increased to 10.7% versus 10.2% the year before. I wish to remind that this figure does not include research and development activities deployed by our external new ventures in heart failure and mitral space.

Let's move to slide number nine; EBITDA in the quarter was 28.6 million versus 31.2 million the year before. As a percentage of revenues, EBITDA margin was 15% versus 16.6% the year before. Again, in order to properly assess the underlying performance of the company we need to consider the impact of foreign exchange. Such impact was negative by €2.9 in the quarter and by €6.3 million in the first six months at EBITDA level.

As a matter of reference cost on foreign exchange rate EBITDA margin increased in the first six months, but is more than 50 basis points despite continuous incremental in diagnostic in the new ventures area as reminded by Andr Ballester.

Adjusted net profit in the quarter was 10.8 million versus 12.9 million the year before. Again, adjusted net profit was impacted by several both foreign exchange effect by 2.1 million and also by incremental new ventures sustaining by 2 million.

Let's move to slide number 10; cash flow in the quarter was negative by 11.7 million. Cash flow in the period started from a mismatch between one-off CapEx aimed at bringing the Mirandola plant back to (indiscernible) earthquake on one side and by the FDC's indemnification from the issuance, which is expected in Q4 on the other side.

A temporary peak in inventory related to a manufacturing footprint of the organization in fact equally related to the in-sourcing of critical manufacturing processes to the integration of the businesses acquired in the first six months, including the Oscor B also contributed to the negative cash flow performance in the quarter.

It is worth mentioned that in June the company is fully based down at the old [ELD] (ph) credit facility, and as previously communicated our new senior facility was created by ELD and fresh facility will be drilled down again in July.

Let me now summarize the financial highlights for the first six months on slide number 11. Revenues were 366.9 million suspensions lack versus the year before. Gross profit was 240.8 million, a decrease by 0.9% versus the year before. EBITDA was 55.4 million, a decrease by 3.8% versus the year before. And before specializing in the first six months was 32.4 million, a decrease by 5% versus the year before.

Net profit was 19.9 million, an increase of 11.1% versus the year before. And finally, adjusted net profit was 21.6 million, a decrease of 1.9% versus the year before.

I wish to conclude by providing our financial guidance for Q3 and full year. For Q3, we expect us to grow revenues from 2% to 4% at comparable foreign exchange rate compared to the same period of 2013. For full year, we confirm the full year guidance for adjusted net profit, which I remember it was from 55 million to 60 million, equivalent to adjusted EPS of $11.05 per share to $12.05 per share. And we expect revenues to be at the high-end of the guidance, which was sales growth from 3% to 5%.

And with this, I'll turn it to Andr Ballester.

Andr Ballester

Thank you very much, Demetrio. We'll now open up the Q&A session. Operator?



Excuse me. This is the chorus call conference operator. We'll now begin the question-and-answer session. (Operator Instructions) The first question is from Mathieu Chabert of Bryan, Garnier. Please go ahead.

Mathieu Chabert - Bryan, Garnier

Yes, good afternoon. Two questions from my side, first one on Inspire, could you maybe comment a little bit on the customer feedback that you're receiving as well as the timeline for the recreation of significant oxygenators?

And the second question, I know that it has become a recurring one, but anything specific to mention on the HLM performance in the quarter as it was very strong? Thank you.

Andr Ballester

Yes. Thanks for your question. Let me take the Inspire question first. It was very good feedback from customers. As you probably remember, we have done a large number of implants or -- before we actually launched Inspire. So the feedback from customer was positive before we launched and it's been confirmed now. So we're really pleased with the performance. It was launched -- if you remember the time it was launched in October of last year in Vienna.

At this stage, we have sold more than 70,000 units of Inspire. So it's really going well. We have more than 200 gallons. There is a very nice ramp up in Europe, where we had unlimited access to the products. Basically at the end of the second quarter we are already in Europe selling more Inspire than the older family of products. And that's because we are building -- I mean we are kind of capitalizing our own products, but also capturing some additional shares. We are still confident we will get this 100 basis point of additional market share in 2014 and moving forward every year thereafter.

In the U.S., as we mentioned during Q1 we really had a little bit of a challenge with manufacturing, by the manufacturing bottleneck. That was really an issue that was coming from a third-party supplier that we removed now and we're shipping products to U.S. customers. We do expect the same result in U.S. that we've seen in Europe.

Now, we've not spoken about what we call intercontinental, but we sort of rest of world we're doing very well in the emerging countries where the product is approved. We are expecting approval in China only in 2016, so we're still not there yet; and in Japan by the end of this year.

So overall, I'd say I'm very pleased with the results of Inspire. I must I'm even more pleased with the results of heart-lung machines that I think you kindly reminded as it seem to recur in stores. So I don't feel a very good time that it's another great quarter over our, let's say, our implied guidance, but it's great to have. So, what happens is that we've had another [affordable growth] (ph). It's fueled by a strong penetration in U.S., Europe, Australia, but if you go back and look at the reasons for this performance that is evolved, what our own expectations were. We're continuing to gain share because or rather we're gaining share still now as we felt we'd not because one of our main competitor after having some challenges with the FDA was supposed to get back to the market. And they currently have resolved their issues at the end, but it did not come back to the market yet, and it's hard for us to predict when.

Second, with the additional install base we have now increasing service revenues and that helps fueling some growth in the heart-lung machine. Last but not least because we have a very strong position, because we have innovative products, because we're launching regularly innovative accessories to add to our existing product line. We're benefiting from an increase in average selling price.

I know that sound like a broken record, but I know that this is not a sustainable performance. We are not going to continually reach high with this double-digit growth. I'm glad to predict that next quarter will be the first quarter when we are going to see signs of stabilization. We expect the second half certainly not to reflect the performance of the first half. And although we expect for the full year sudden growth in heart-lung machines, we don't expect the same profile than in the first quarter.

Actually when we look at the foreign portfolio in cardiopulmonary, we expect a stronger performance in the oxygenators segment driven by the penetration in the U.S. of Inspire and certainly a lower performance all over than in the first half of the year of heart-lung machines.

Mathieu Chabert - Bryan, Garnier

Okay. That's pretty clear. Just for, if I may, on the services revenue about HLM, could you give us an idea about the share of service revenue on turnover of HLM?

Andr Ballester

Yes. I mean it is around 10%. It is a little above 10% of the total revenues and it's going in line with the revenues on a let's say on an annual basis. And you will not see with the service revenue the same swing that you might see in hardware sale because obviously there are recurring revenues.

Mathieu Chabert - Bryan, Garnier

Okay, that's very useful. Thanks a lot for sharing.

Andr Ballester



The next question is from Scott Bardo of Berenberg. Please go ahead.

Scott Bardo - Berenberg

Yes. Thanks so much for taking my questions. Yes, just one sort of general question first of all and then two follow-ups please. Andr Ballester, I think when you joined Sorin back in 2007 there was a lot of restructuring and profitability for the group you expanded considerably. It feels like we went through somewhat of a flat period. I think you mentioned for obvious reasons R&D is accelerating transactional impact send some pricing pressure. I just want to -- if the strategy of allowing top line to drive margin doesn't come through quite as expected whether you're increasing warming up to being a little bit more aggressive on the cost lines to progress profitability to the yields that we've seen in the past, so if we actually get through common tools that would be helpful.

Second question is on heart-lungs, firstly, and could you quantify what the growth of tissue valves would have been worth much to flow in the U.S. and more so in the U.S. to being stable. And secondly on second part of that question is from mechanical valves, I think we've seen a contraction in mechanical valves since 2008. Should we just be modeling and thinking and this is some sort of attrition franchise or is there reasons to I believe that we could start to resume to modest low single-digit growth, just some thoughts around that would be helpful. Thanks.

Andr Ballester

All right, Scott. Well, the first question on more of the strategic issue, I think we -- when we presented our stock plan last year, we said that we'll have significant investments to prepare growth and that that it will go through some kind of challenging years in 2014 and '15 while we're investing in growth opportunities, but still the growth was driven by base business. So we are not challenging our growth trajectory around 4% to 5% growth. When we were investing significantly above that trajectory to prepare for growth acceleration in '16 and '17, and that's the strategy we are implementing right now. So if you look at second quarter is a good example, we've invested more in R&D going on the significant faster than sales.

We're obviously investing new ventures and we're constantly investing normally cash in -- as we've done in the past for minority investments and we continue to feed these investments as we did the gross investing in infrastructure inside the company to prepare the launch of these products. And we have the negative impact or effects that certainly does not happen into normalize for effects. You'll see that for instance just for effects not taking jerk on the other investments with the investments we're making in R&D or in new venture, we're growing EBITDA margin by more than 50 basis points in the first half of the year.

So the underlying business except -- if you exclude the impact of effects is actually leverage. Now, is it -- are we seeing the same spectacular leverage that we have seen in 2009 and '10, unfortunately not. Okay? And ideally that this is our challenge in the next, say, a couple of years to be able to continue to pay for our investment with the base business while continuing to at least maintain our profitability. I don't think we can do much on the expenses of these things. There is always a spirit in this company of financial discipline. So we are certainly very, very cost conscious both in terms of G&A and in terms of manufacturing cost. But if you look at our SG&A for instance in the first half of the year, our cost effect will be flat. And so, it is hard to go way beyond that. I think we will spend all the money we're spending. We're spending it to prepare, all the incremental money we're spending to -- we're spending it for preparing incremental growth.

So that's conversation to be continued during our next strategic grant presentation, but I'd say this is clearly to-date. I mean we have a very robust base business. We have a business that's obviously suffers from foreign exchange impact and the impact as Demetrio mentioned is a very significant impact. If you exclude the impact of the effects in the first six months of the year our EBITDA margin is growing by more than 50 basis points. Now, we need to invest more if we want to grow double-digit in 2017 and '18 as we said in our stock plan. We are still in this trajectory and we are still confident that this is where we're going to end up.

So, on the more skeptical questions on the valve; mechanical valves, I think you've always said that we believe that cannibalization of mechanical valves like tissue valves is here to continue. Actually there is a movement -- there is a growth in the emerging countries that is compensated by more cannibalization in the developed countries and you should include the price difference between the emerging countries and the developed countries in mechanical valves then you have this picture. And I believe it will represent pretty much the market.

Now, you just take this on a kind of -- if you take this in a long enough period, you will see that our mechanical valve business is probably declining 3% to 5% per year, which is pretty much in line with what expect. We've been exiting quarters that are -- as they're maybe in the second quarter with the selling negative performance. If you go back in the last four quarters, we had one quarter of plus six, one quarter of plus one, one quarter of minus six and this quarter at close to minus 10. So don't only measure it on the second quarter. Big picture, it's a declining market and we are declining with the market.

I'm not sure I can really answer fully to your question on the tissue valve in the U.S. It's true that if we had, let's say, a flat business in the U.S. where it would be growing double-digit and we will be very happy about it because of the very, very strong performance in market flow. Europe is stabilized on traditional tissue valves and mitral floor is really growing faster in the first couple of years, I mean, in the second half of last year. So we haven't seen growth accelerating for us this quarter.

Now, let's -– just the effect of life, the impact of, let's say, the campaign that followed the Boston Children Hospital publication on the use of mitral floor in implants and although that's not the principle use of mitral floor, it's not going to be used in young children. But stay on and the PR impact have been very significant and it would suffer a lot in the U.S. But well, recall that we're launching the PRT treatments. So any doubts that might have brought up to the mind of our customers justify, but there are still some doubts of process that we'll resolve with the launch of PRT.

We're also launching Solo Smart in the U.S., which is the aortic valve that covers the various interest in which making progress to that first of all approved in the U.S. in the next 12 to two months. So I would say we are confident in the mid term to really benefit from high single-digit or double-digit growth in tissue valves.

We don't believe we are going to expect that long. We believe we are actually pretty optimistic on the second half of this year as far as tissue valves are our concern.

Scott Bardo - Berenberg

Thank you very much. Just a very quick follow-up on the first ones if I can; you mentioned it actually planned that you and share did -- I think last year and I think my recollection was that's actually prime quarter over 10% annualized earnings growth. Within that front, I think you talked about 2015 as well being where you might be investing in new ventures. Was that some sort of indication that earnings growth for 2016 should be below the sort of over 10% CAGAR or am I reading into that comment too much at this stage? Thank you.

Andr Ballester

Well, I think we will kind of talk about this when we come to -- because there are lots of moving parts. I mean we probably get on in the year to speak about 2016. What we said in the straight line is that we will not have a linear growth of 10% per year. I mean we never said that and our own internal financial models are clearly showing that we will accelerate growth on EPS as we accelerate top line growth. Okay? So that's something that we were pretty expecting. It's embedded in our 2014 guidance. We will disclose the 2015 guidance when time is gone.

From the implementation, a strategic implementation or from an implementation of our strategic plan viewpoint, we are d everything we've said. And I believe that our core business is growing 3% to 5% as we anticipated actually as you heard me say earlier a little faster than we had anticipated, particularly thanks to a good performance in cardiac surgery. We are leveraging our P&L at constant FX. I can't believe that the Euro is going to strengthen against all the other currencies forever. So we will see time when it's going to either at least stabilize, at least it is going to start strengthening and we will see this leverage on our actual numbers.

So I'd say on that part we're implementing the plan as we expected on the new ventures, which is the preparation for growth, we're very excited about some of the things that are coming through and we believe that, again, we are implementing very well our previous announcement. I too know this reference here at this stage, Scott. I feel comfortable. We're going to aim at the guidance for 2014. We are disclosing the 2016 guidance probably or later in the year, early next year, and it will be in line with our stock plan.

Scott Bardo - Berenberg

Okay. Thanks very much.

Andr Ballester



(Operator Instructions) The next question is a follow-up from Scott Bardo of Berenberg. Please go ahead.

Scott Bardo - Berenberg

(Indiscernible). Okay. Yes, thank you. Your guidance for revenues for the full year, it's just the upper end of your previously guided 3% to 5% range. I thinker growth expectations for Q3 towards the low end of that range, that would then imply to me a very strong double-digit performance in Q4, which we haven't seen almost sort of underlined by Sorin for some time sort of special effects and things. But could you just sort of help me understand whether I understand that dynamic correctly that you are expecting a whopping great Q4 and help me understand why that will be the case? Thank you.

Andr Ballester

Yes. And fair question, Scott. Look, we're dealing with constant currency here. So we're not talking about any FX impacts whatsoever. I'd be -- if you're (indiscernible) anyhow. So, if you look at what happens in Q4, I mean, it's basically the launch in Japan of our KORA pacemaker, which is the MRI compatible pacemaker. So our sales in Japan have dread down our CRM sales, but our overall sales for the company as well. And in Q4 we just do the opposite. As we're not directly in Japan there is a stocking impact in Q4 because of the launch of KORA. So that's why we are -- you should normalize this that that's certainly not -- I don't mean by any -- to say that we are a double-digit company yet. We will get there, but not yet. But Q4 is definitely if you do the math then it should be the high single to low double-digit growth.

Before Q3 and for the second half of the year we will expect that cardiac surgery will continue to have a positive trend. So we see basically a different trend that we have seen in Q2 or in the first half. As I said before the oxygenators products accelerating heart-lung machine decelerating. We should first of all continuing to really post accelerating growth to a certain extent and we will do mostly much of the impact in Q3 yet of our GRT and Solo Smart launch in U.S. We should see more in Q4. And again in Q4 that's kind of the compounding factor to make us confident. We'll have a very strong fourth quarter.

In CRM, I just mentioned it. So I think that's pretty much it. I mean the fourth quarter is going to be mostly driven by strong performance of CRM in Japan with the launch of KORA.

Scott Bardo - Berenberg

Okay, great. Thank you. And last one from me actually, I know there has been somewhat of a recurring questions, but sort of also comes onset a question about teach you cost savings. Can you give us some update as to where we are in the U.S. with CRM, have the feeling or understanding that we're still less making for that business in the U.S., and would you some update as to the strategy in the U.S., any developments that followed positively or negatively the direction of that business?

Andr Ballester

Well, the CRM business in the U.S. actually has done pretty well in the first half of the year. So if you think about the operation of the ongoing business in U.S. is going well in the first half of the year. But that doesn't change the fact that as we've said repeatedly now, we are not happy with the performance in the U.S. Not happy because it's diluted to our earnings. And not happy because we don't believe that we have a sustainable growth story in CRM U.S. given our kind of competitive disadvantage with the ordinance in terms of territory coverage and so on. So we've not made a decision yet regarding the, let's say, the change of strategy in the U.S. We are working on, let's say, there are lots of new products and again as I said before they're doing well.

We're also looking at our new initiatives through experiments, new business models. These new business models really would allow us to come out of this cash flow into a situation in which the more we invest the more we lose. And we have partners involved in these experiments. As I said before in previous calls these partners do not wish to communicate the fact that we are doing experiments. These partners programs are moving according to plan. As soon as we have, let's say, tangible results of these final programs we obviously will share that with you. We've not incorporated any upside for that matter, any downside from these pilots, from these innovative business models in our guidance and in our stock plan.

Right now, we're still in the experimentation phase. And now it sounds like it's a long phase. But essentially in foreign market that we do not want to miss an opportunity to find a creative way to penetrate this market, and we will exercise our usual discipline. If we see that we can't get there we will pick the decisions. But we are not at the point where we have to take these decisions, we are still working on new business models there.

Scott Bardo - Berenberg

Right. Thanks very much. I've no more questions.

Andr Ballester

Thanks, Scott.


Your next question is from Stefano Lustig of Equita. Please go ahead.

Stefano Lustig - Equita

Hi, good afternoon. I have four questions, if I may. The first one is related to the indication of one-off CapEx. And I ask if it's possible to have some more detail, and also the entity of this CapEx in Mirandola. And they're one-off in a sense that they're over or if there is still a portion of them to be executed in the next quarters.

Then, again on the financial aspect, the temporary increases in the investment inventories -- Demetrio can elaborate about on this subject. And then a question on Perceval, if it is possible to have a rough indication of the pace of growth for sales of Perceval; and finally on CRM, it has been mentioned that there is a problem of price pressure in Europe, and I was wondering if you can give us some rough indication, some flavor about the market share, also the market position in Europe. Thank you.

Andr Ballester

Okay. Thanks, Stefano. I'll let Demetrio handle the first two questions, and I'll go through number three and number four right afterwards. Demetrio?

Demetrio Mauro

Yes. Stefano, I'd say the cash flow was impacted in the quarter and in the first six months by a big -- in CapEx associated to the -- with our Mirandola plant. And this is doing some mismatch of Perceval, because we expect indemnification from the insurance to come in Q4. And we expect a positive contribution from insurance also at least €50 million to €80 million incremental in Q4.

As far as the CapEx are concerned, in the last quarter we did €22 million of CapEx, which is by far higher than the run rate in CapEx, which we normally have was approximately 50 million for the quarter. So you can consider 5 million to 6 million related to the repeating of the Mirandola plant. And again, this would be more than offset into for us. So we expect a positive, a very strong performance in cash flow in Q4.

More or less the same story in inventory, we have one-off (indiscernible) inventory, which is related to (a) the re-organization of the manufacturing footprints, because we're insourcing some critical stages of the manufacturing processes, such as the stabilization for instance. And secondly, we're reorganizing the manufacturing because we're integrating into our manufacturing footprint the acquisition so that we are leaving the first six months, in particular the Oscor acquisition in the Dominican Republic. These generated an absorption in cash by approximately 5 million in inventory.

Stefano Lustig - Equita


Andr Ballester

Okay. And so -- I'm sorry, Stefano. First of all, we've decided not to give a yearly guidance. So, first of all, I'm sorry, because we'd certainly have the -- overachieved our guidance except given one, but what I can tell you is that we were very pleased with Q2. Again, we're in the range of doubling our sales compared to last year on a quarter-over-quarter. So that's fairly encouraging. That's encouraging also as we move forward, because we only have the products today in Europe, and hopefully in 2015 or later in 2016 it will be in the U.S.

So, the additional benefits we have in the quarter was just reimbursement in Czech Republic. I'm not saying Czech Republic is our largest market in the world, but it's still a nice market. And if you add this to the reimbursement you already have in Belgium and in Germany, and the additional reimbursements we're expecting in the next few quarters I think we're getting steam with Perceval.

So, again, happy with the sales doubling more or less in the first half of the year versus last year, and basically second quarter in line with that performance. I must say that we're now even more confident in our ability to it's -- the target we gave our sales and we shared with you a few quarters ago of hitting 80 million to 100 million by 2018. That's assuming an approval by the FDA, and that's not fully within our control, but we're doing everything we can to make sure we get approval by the FDA. And in that case, we'll be in a position to deliver €80 million to €100 million in sales coming from Perceval.

So, now in terms of CRM and the pricing pressure; unfortunately we're still seeing pricing pressure in Europe, and we have basically pricing that it goes down by, say, 5% on an annual basis in Europe. We're suffering less as we expected in pacemakers than the average of the market, because we've now regained our position in the high end of the market, thanks to the launch of REPLY 200 and KORA. So I think we can check the box in Europe. We're certainly not losing share, to the contrary, we're gaining share in volume in the pacemaker business. And currently we're seeing the market still very, very nervous with the pricing going down by an average of 5%.

Same on the high voltage, from a pricing standpoint, we have a little bit of a weaker product offering in high voltage until we launch our next product generation in about 12 months from now and so, we're suffering. We're being hit by the price erosion like everybody else. So that's why we're showing a negative performance in high voltage, in particular, in Europe.

So, now, the way we look at this is we look at the second half of the year and we have things going forward in the second half of the year. Not withstanding the fact that we're going to launch KORA in Japan and we've discussed this before during Scott's question that we're going to have an exceptionally high fourth quarter that is not a sustainable trend. We see the business outside of Japan stabilizing and it's now a confirmation of what we've seen in the first quarter. Our current forecast for the Q3 and Q4, general forecast for Q3 and Q4 are confirming the stabilization.

So I believe we're seeing the end of the -- the light at the end of the tunnel in CRM, both in Europe and U.S. and obviously in Japan as we're going to launch KORA.

Stefano Lustig - Equita

Thank you very much.

Andr Ballester

Thanks, Stefano.


Your next question is from Michele Baldelli of Exane BNP Paribas. Please go ahead, sir.

Michele Baldelli - Exane BNP Paribas

Hello to everybody. Thanks for taking my questions. And I have three questions. The first one is relating to the -- if you can disclose the amount of the losses in U.S. in the valve business, how many millions of Euros of sales, let's say, compared to Q2 of last year you lose?

Then, the second question is about the compression of the gross margin, and I'd like to understand how much of this is due to the price pressure?

And third point is about mechanical valves, just to understand if you're losing market share or (technical difficulty)? Thanks.

Andr Ballester

Thanks for the questions, and I'll start with the last one, and I'll let Demetrio answer on the gross margin. I'll come back to the question and just do it in reverse. Mechanical valves, as with business force is driven in part by performance in emerging countries that is fairly volatile; it is difficult to say one quarter, looking ahead just one quarter to loss market share on us. The big picture was not -- we'll have a better performance in Q2 and in Q4 in mechanical valves, and I believe that's what we believe the -- we could believe our internal forecast of this has been pretty accurate in the past.

So, the answer is, big picture, no. We're not losing market share mechanical valves. As a matter of fact, we believe that we have gained market share over the last few years, in particular, in emerging countries where we really were number one. We're number one valve manufacturer in China. And we're gaining market share in China regularly, but we're also gaining share in a lot of other countries.

Interestingly enough, we see a very good performance in mechanical valve in the developed countries in the second quarter. That is all in the first half, which is compensated by poor performance in the emerging countries. So, no share loss in mechanical valve, more of 3% market erosion there. As one of the two market leaders, we experience, let's say, live.

I'll let now Demetrio answer on the gross margin.

Demetrio Mauro

Yes. Michele, so the bridge for the gross margin in the first half was only just focused on the first half, because the numbers are more meaningful. We went from 59.2% in the first half of 2013 to 28.6% in the first half …

Andr Ballester

58.6 …

Demetrio Mauro

58.6% in the first half of 2014. So, the reduction was 50 basis points. We had 100 basis points of improvement were driven by manufacturing efficiencies in both cardiac surgery and Cardiac Rhythm Management. Then, the rest is almost equally split between foreign exchange impacts equally and to a lesser extent and the soft performance of the CRM business in Japan and also the pricing erosion in CRM.

Michele Baldelli - Exane BNP Paribas

Okay. So, it's roughly 50 basis points on …

Demetrio Mauro

Yes, with a little bit more in foreign exchange.

Andr Ballester

Okay. So, does that answer your question, Michele?

Michele Baldelli - Exane BNP Paribas

Just one about the losses of sales in U.S., but …

Andr Ballester

Yes. No, no I understand. Does that answer your fewer questions on the gross margin?

Michele Baldelli - Exane BNP Paribas

Yes, that is perfect.

Andr Ballester

Okay, all right. So, I'm not going to make you happy, I know this because I'm probably not going to give you a specific answer about the U.S. For competitive reason, we don't disclose our sales by regions and by products. Now, it's been significant. I tell you without this loss we'd haven't had probably the record quarter growth in tissue valves, because we're basically -- we'd stabilize our performance in Europe. We're somewhat going in emerging countries, and we have (indiscernible) are doing very well.

So, if you do the math you'll see that this is a pretty significant -- it's coming from the U.S. The important thing for me is to know whether this is permanent hit or this is something we'll capture at. There are few things -- let me believe that we'll regain momentum here. One is we have a very strong sales organization in U.S. We have strong leadership, strong sales organization and excellent context with key customers in the U.S., and they have confidence in our field organization. So I'd say that's a big asset to have.

Second, we're launching PRT in the U.S., and if there was any doubt in some customer's mind that we did not have, let's say, what was called a specific anti-calcification treatment, PRT is a great anti-calcification treatment that has been proven clinically, and it will help us to regain momentum in the U.S.

Thirdly, we have the Solo Smart that is just been approved in U.S. Although it's a segment of the market, it definitely -- we're doing the best valve in the segment, and we (indiscernible) Solo to help us gain market share in the stentless sub-segment of the tissue valves in the U.S.

Last but not least, we're continuing successfully to do our clinical trial for Perceval in the U.S., and this clinical trial is progressing well. And as of now, our current assumption is that we'll get approval sometimes late 2015. It does depend on us. It depends on the way obviously, but yes, we're confident we're going to bring all the data they need to give us (technical difficulty).

And so, I think we're seeing a lot of help coming, in light of some other situations where you see a degradation in your business and we do see nothing positive on the horizon (technical difficulty) signs of stabilization in towards the end of this year therefore allowing us to expect big, let's say, reasonably good performance in tissue valves in the second half of the year with a probably high single-digit growth for tissue valves in the second half of the year.

Michele Baldelli - Exane BNP Paribas

Okay. So let's go further with this question. The confidence that you were frightened to lose due to this heart-lung device business, is this something that now you see on your, let's say, relationship with surgeons to let's say, feedback at the previous level or is it something that is rather fully progressively increasing back to the previous level?

Andr Ballester

No, no. Actually it's going to take a while, because we we're dealing with lifesaving devices. We have customers who are very, very, I'd say, careful when they take decisions to chose one implant or another. We're going to take the time it takes to, let's say, demonstrate first of all that Mitroflow and Mitroflow PRT are very safe valves with great clinical results. We have all the evidence of that. It's also an evidence, as it's been used by the Special Advisory Board that we put together after the Boston Children Hospital crisis. And they have confirmed our thinking that basically Mitroflow is a great product, and it's going to be even greater with the PRT.

But it's going to take time. And I think we're going to gradually regain the lost ground, but again, I'm very confident that we'll in terms we have the products in particularly Mitroflow PRT, also because we have a very solid and experienced sales organization in the U.S.

Michele Baldelli - Exane BNP Paribas

But it is an argument more for 2015?

Andr Ballester

Well, it's hopefully going to be an argument for Q4 this year already. And I'd like to see signs of life in Q4, but yes, we'll see probably more -- it's going to be more discussions for 2015.

Michele Baldelli - Exane BNP Paribas

Okay, very kind. Thank you very much.

Andr Ballester

Thank you.


(Operator Instructions)

Andr Ballester

Well, [Haney] (ph), and I'd say it's now 6:00. We've been actually over our time. So I'd like to thank you all for attending this conference call. We believe that the second quarter sales are being very encouraging with the high-end of the guidance. Cardiac surgery is performing well above market growth. I mean I don't think anybody in cardiac surgery could depend to grow close to 10% as we've done in the second quarter. And CRM is still facing these challenges, but again, we believe we're reaching the end of the tunnel.

As I've been answering some questions, we're still committed to our earnings expectations or earnings guidance, but in doing that we're also still committed to prepare for long-term growth. And we'll continue to invest in research and development, and we'll continue to invest in new ventures. We'll continue to invest in new business models, because we believe that we can accelerate our top line growth moving forward.

So, thank you very much for your attention. Operator, back to you.


Thank you. Ladies and gentlemen, thank you for joining. The conference is now over, and you may disconnect your telephones.

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