CareFusion's CEO Discusses Q3 2011 Results - Earnings Call Transcript

Executives

Kieran Gallahue - Chairman and Chief Executive Officer

Carol Cox - SVP, IR

James Hinrichs - Chief Financial Officer

Analysts

Matthew Taylor - Barclays Capital

Christopher Demaree

David Turkaly - Susquehanna Financial Group, LLLP

Nikhil Hanmantgad - Goldman Sachs Group Inc.

Michael Weinstein - JP Morgan Chase & Co

Kristen Stewart - Deutsche Bank AG

David Lewis - Morgan Stanley

Richard Newitter - Leerink Swann LLC

Lennox Ketner - BofA Merrill Lynch

CareFusion (CFN) Q3 2011 Earnings Call May 5, 2011 5:00 PM ET

Operator

Good day, ladies and gentlemen, and welcome to the Third Quarter 2011 CareFusion Corporation Earnings Conference Call. My name is Dianna, and I'll be the operator for today. [Operator Instructions] As a reminder, today's conference is being recorded for replay purposes. I would now like to turn the call over to your host, Ms. Carol Cox, Head of Investor Relation. Please proceed.

Carol Cox

Thank you, Dianna. And welcome, everyone. Thank you for joining us on today's call as we provide an overview of our results for the third -- for the 3 and 9 months ended March 31, 2011, and provide an update to our guidance for fiscal 2011.

Our press release with the details in the third quarter results was issued today at 1:00 p.m. Pacific Time and posted on our website at carefusion.com. We filed our Form 8-K with the SEC. We also filed and posted several sites to the company of today's webcast, which may be found in the Investor Relations homepage with our earnings materials.

While we will not review each slide on today's call, the slides should be used as a reference guide by investors. The slides include comparisons of the results for the 3 and 9 months ended March 31, 2011, to the prior year period, as well as a financial outlook for full-year fiscal 2011 and definitions of our non-GAAP items in reconciliations to GAAP.

Joining me on today's call are Kieran Gallahue, our Chairman and CEO; and Jim Hinrichs, our Chief Financial Officer. Before I turn the call over, I would just like to make a few remarks. In today's call, we will discuss some non-GAAP financial measures including financial results on an adjusted basis. The reconciliation to GAAP measures can be found in our release, our slide and on the investors section of our website. We believe that this adjusted financial measures can facilitate a more complete analysis and greater transparency into CareFusion's ongoing results of operations, particularly in comparing underlying results from period to period. We would also like to remind investors that during today's call, we will be making statements that are forward-looking including statements about our FY '11 guidance. Actual results could differ materially from those expressed in our forward-looking statements due to risks and uncertainties including the risk factors set forth in today's release or filings with the SEC. We ask that you please refer to the cautions concerning forward-looking statements contained in today's release for a more detailed explanation of the inherent limitations of such statements. With that, I will now turn the call over to Kieran.

Kieran Gallahue

Well, thanks, Carol. Welcome, and thanks for joining today. As most of you know, I've spent the past 90 days in a ramp up mode reviewing our businesses, meeting with our employees and formulating many of the impressions I'll share during this call. The things will be consistent with those you've heard since I joined. We have great foundational products and good market segments with plenty of opportunity as we bring greater efficiency to the business and continue to expand our operating marks.

Before we get into that, I'd like to acknowledge that this will be Dwight Winstead's last earnings call with CareFusion. Dwight was instrumental in our spin out and will be greatly missed by the company. Thanks, Dwight.

All right, on to results. We had a solid third quarter right in line with the guidance provided to you last quarter. On the top line, revenue grew 4% to $867 million, with good leverage down the income statement. Gross margins expanded 2 percentage points to 52%, disciplined spending drove adjusted SG&A down 6% from the prior year resulting in adjusted operating earnings of $155 million, an increase of 49%. Adjusted EPS from continuing operations came in slightly ahead of our expectations at $0.42, a 75% increase over last year. All things considered, the team executed well and has put us in a strong position as we work to finish out the fiscal year.

Looking at our core businesses. We had healthy topline growth of 5% in the Critical Care Technologies segment led by Infusion and Dispensing. The Infusion business, in particular, continues to compete well in the market during this period of transition and had another record quarter in Q3. As you know, we have been closely tracking the available market opportunity as Baxter customers replace the install base of COLLEAGUE pumps. With an all-time record this quarter in committed contract, we are pleased with our progress against the aggressive goals the team set for itself at the beginning of the fiscal year. During Q3, we secured 30,000 new channels, 18,000 of which were Baxter replacements. There is a clear acceleration in contracts closing that has continued into Q4. In the past several weeks, we have been awarded contracts to replace more than 20,000 Baxter channels in addition to those secured in Q3.

These are contracts won in our Q4 that were installed during our fiscal '12 as with the majority of the contracts recorded in the second half of this fiscal year. Based on these results, we feel good about our position as we focus on closing out Q4 in the Infusion business. One more note on the Infusion business. We began this year providing channel data on a quarterly basis to give you additional color on this unique event, the Baxter COLLEAGUE pump conversion. I intend to update this data one more time in Q4, but since the majority of the opportunity would have been contracted by the end of our Q4 and for competitive reasons, we don't plan to provide it as we move into fiscal '12.

Adjusted segment profit for CCT grew 43%, demonstrating the leverage I mentioned from the revenue line down to the earnings line. Strong expense control played an important role in these results as it is somewhat weak comp in Q3 of fiscal year '10 to the Dispensing business.

Turning to Medical Technologies and Services segment. Our revenue declined 1% to $206 million, primarily due to the revenue from our Research Services business being included in the prior year Q3. We divested that business last year as we began the process of optimizing the portfolio. Excluding the research services result in the prior period, MT&S revenue would have grown a plus 8% in the quarter. We also realized -- finalized -- we recently finalized 2 other divestitures, selling the International Surgical Products business and the OnSite instrument repair businesses. With a focus on higher margin and higher growth portfolio in MT&S, adjusted segment profit grew to 86% to $26 million in Q3.

Our core MT&S business continued to perform well led by the sales of ChloraPrep and our Medical Specialties products. We continue to see strong sales of ChloraPrep in the U.S. and U.K., and we are laying the foundations for longer term growth outside the U.S. with recent launches in Germany and France and approvals in another 11 Western European countries.

Looking ahead as we close out fiscal 2011, our revenue guidance of low single-digit growth remains the same as we provided last quarter. With one quarter remaining, the most likely scenario puts us around the 1% to 2% topline growth for the year.

We are raising the lower end of our previously issued guidance range for adjusted EPS from continuing operations to $1.60 from $1.58. That narrows our outlook for the fiscal year to $1.60 to $1.65.

Now I'd like to make a few observations about the business after 90 days in the job. First and fundamentally, we have strong products, and we operate in valuable market segments. If you look across our businesses, we have expertise in 4 core areas: medication management, Infection Prevention, Respiratory care and then the O.R. We are looking closely at our innovation pipeline in these areas and the geographies where we participate. In most cases, we already have a strong foundation with an eye towards expanding our footprint into new geographies and market adjacencies that add incremental value to existing customers. We'll do this from both in organic perspective, as well as through M&A. Recent examples include our acquisitions of Medegen and Vestara, where we expanded our U.S. footprint with value-added adjacencies to our core markets. I don't currently see a need to invest in new verticals. That money and talent is better spent energizing and designing a world-class pipeline around our core businesses.

Second, we will continue to focus on margin expansion and continuous improvement of the business. We are rebalancing our spending to ensure we move resources from what I like to characterize as the back office to the front office, meaning closer to the customer. The point is to make sure that we stay disciplined about applying resources where they provide us with the greatest return. This also means simplifying our business, which will reduce our cost and more importantly, make us easier to do business with. As a relatively new spin off, formed through multiple acquisitions over the years, we have many information systems, legal structures and process disparities that add to our complexity in cost, without providing benefit to patients or providers. In the first 18 months as CareFusion, the team rightfully needed to separate from Cardinal and stand on its own. By the end of this fiscal year, we should have reached the point where we can look at all categories of spend and accelerate the simplification of the business, with the goal of redirecting funding towards core R&D and other growth drivers.

Finally, as it relates to our financial performance, my impression is that the company has done a good job executing on its EPS guidance but has struggled to meet revenue guidance. The nature of our capital equipment businesses is that we'll continue to have uneven results quarter-to-quarter, however, we intend to be disciplined in our forecasting and appropriately conservative in our guidance. It is also important to fundamentally recognize, we operate in attractive markets but markets that are growing in the low single-digit range. We can, and I expect we will, do better than that, especially in businesses where we are growing our share at a faster rate than the underlying market.

Our opportunity in the near term is to outpace the market on the bottom line as we rebalance our costs and feed the innovation pipeline to drive sustainable, longer-term revenue growth. We won't provide fiscal year '12 guidance until our next earnings call in August, but I don't see any reason to change the long-term operating earnings guidance that the company previously set of 11% to 15% growth. And the faster we simplify the foundations of our business, our systems and our structures, the more flexibility I believe we'll have to address the higher topline growth opportunities we'll have over the longer term.

So to summarize, I had a favorable view of the company when I joined in February, and after the first 3 months, I remain impressed with the portfolio of products, the global team and the growth opportunities we have in both the short and the longer term. I'm looking forward to taking your questions, but first, let me turn it over to Jim for his comments on the quarter. Jim?

James Hinrichs

Great, thanks, Kieran. And this afternoon, everyone, I'd like to talk about 3 things. First, I want to provide a quick recap of our 2 recent divestitures and the impacts that they have on our financial. Second, give some additional color commentary on the third quarter results and then finally, walk through the updated guidance that we provided. Before I do any of that, though, let's take a minute to summarize what I think are the 3 key financial headlines from the release. First, we had a very solid quarter on both the revenue and the operating earnings lines. We grew sales and earnings across our Infusion, Infection Prevention and Dispensing businesses. We maintained or expanded margins in essentially all of our businesses, and we decreased our adjusted operating expenses by 6% year-over-year. The result, as you can see, is great leverage to the bottom line and very strong earnings growth. Second, below the operating earnings line, we did have a couple of variances from our prior expectations. We had favorability on the interest and other line, and a higher-than-forecasted tax rate that partially offset that favorability, and I'll talk about each of those in just a minute. And then finally, we are making 2 adjustments to our full-year guidance as we move into the fourth quarter. First, in today's release, we've announced that we are narrowing and raising the bottom of our adjusted EPS guidance range by $0.02, so we are at a range now of $1.60 to $1.65 for the full year. In addition, we are lowering our operating cash flow expectation to $325 million to $375 million that reflect a push out to the portion of our cash flows into fiscal '12, that I'll explain in just a minute.

Moving into the bulk of the call, before we dive into details of the quarter, let me give you a quick update on the divestiture of our ISP and OnSite services business, both of which are part of our MT&S segment. The transactions are closed now. The results of our ISP business are now officially in discontinued operations beginning in the third quarter. And so when you look at our financial, you will see the results are excluded from continuing operations both this year and last.

With respect to OnSite, the transaction closed at the end of March, the results from this business though are included in our third quarter results but will no longer be included starting in our fourth quarter. And for your information, in the quarter, we did book a one-time gain of $15 million related to the sale of this business, which is reflected in our GAAP earnings from continuing operations, but it is excluded from our adjusted P&L.

Moving now to the results for the third quarter. Total revenue for the company increased 4% compared to the prior year and that's 3% on a constant-currency basis. Our Infusion and Infection Prevention businesses were the key drivers of the revenue growth for us in the third quarter.

Moving down to P&L, we did improve margin significantly this quarter. We had favorable product mix and manufacturing and service savings that helped improve our gross margins to 51.6%, which is an increase of 210 basis points. These improvements combined with the benefits of our August 2010 restructuring, in just what I would describe as generally overall strong spending control, helped drive a 540-basis-point improvement in our adjusted operating margins which came in at 17.9%. As I mentioned in the last call, I continue to be pleased with the progress we're making on the margin front. I'd said it before, we're doing great but we can always do better. I continue to see opportunities, as Kieran mentioned, to drive margin expansion up and down the P&L both now and into the future. For the moment though for fiscal '11, we continue to expect gross margins to come in between 50% and 51%, and for our adjusted operating margin to come in around 17%.

Continuing down the P&L, looking at interest expense totaled $19 million for the third quarter. That's a decrease of $8 million versus last year, primarily relate to foreign currency gains as well as lower net interest expense in the third quarter of this year. For the full year, we expect that interest expense should come in around $85 million. It's a little lower than we expected for the full year primarily due to the favorable third quarter that I just described to you, and the fact that a portion of our currency losses related to ISP businesses have been now moved into discontinued operations.

Moving down to the tax rate. Last quarter, I talked about our ongoing tax rate as well as some of the discrete items that might pop up during the course of a quarter or year that are unpredictable in nature and may move our all-in reported rate, up or down in a particular period, but would not be part of our ongoing tax rate. In the third quarter, we actually had a couple of these items that resulted in a higher rate than our previous full-year guidance, though our adjusted effective tax rate for Q3 came in at 31.7%, that negatively impacted our earnings by about $0.02 a share versus a midpoint of our guidance, and that midpoint was about 29%. If you remember, we guided to 28% to 30%. This increase was driven by a couple of items. First, we had several discrete items that totaled about $2 million relating to adjustments dating back before the spin off. And second, we did have a catch-up adjustment to reflect a slightly higher full-year estimated tax rate as our forecasted mix of income shifted into higher tax rate jurisdictions for the full year.

As stated in the last call, we continue to believe that our ongoing rate for fiscal '11 will be within the 28% to 30% range. Of course, for modeling purposes, I realize that you need to know the all-in reported tax rate, not just the ongoing tax rate. Though when we include the year-to-date discreet items, that we had so far, a few others that we have identified in the fourth quarter, we expect that our all-in reported tax rate will be closer to 30%, which is at the top of our guidance range. Of course, the rates, as you know, is always subject to how we finish out the year and any yet unforecasted discreet items.

Continuing down to P&L. Adjusted income from continuing ops was $94 million, $0.42 a share, that compares to $53 million or $0.24 last year. Excluded from adjusted income are $9 million of net one-time items that consist of $24 million of one-time expenditures related to our August '10 restructuring, then off another nonrecurring cost, as well as merger and integration costs, and that $24 million of one-time expenditures were partly offset, as I mentioned earlier, by that $15 million gain that we have from the OnSite sale.

Moving to our segments. Critical Care Technologies had revenue of $661 million, that's an increase of 5% compared to last year. Adjusted segment profit was $129 million, that's a 43% increase over last year. Critical Care revenues in the quarter was driven by increases in Infusion and Dispensing. These, of course, were partially offset by the declines that we expected in our respiratory business due to the weak post-H1N1 virus that we've been talking about all year.

I do want to pause a moment here and take a couple of minutes to talk about our Infusion expectations for the remainder of the year. As Kieran said in his remarks, we exited the third quarter at an all-time high for committed contracts. And given the additional contracts that we signed so far this quarter and are in the process of finalizing right now, we're very happy with the progress we're making. Most of these contracts were actually signed in March or are being signed right now. Though the normal 120-day or so delay between the committed contract and the subsequent revenue recognitions will push a little bit more of our pump revenue into fiscal '12. So to be clear, reiterating what I said last quarter, this is truly just a push out of revenue, got no impact on the company's overall revenue guidance this year, no impact on our earnings guidance for this year and no impact on our overall COLLEAGUE conversion expectation. We are basically locked in for our Q4 pump installs. We have achieved our Q3 committed contract target, and we're now in the process of signing more contracts as we have mentioned and scheduling our Q1 installs. So I guess in a nutshell, it's basically steady as she goes as we progress towards our COLLEAGUE conversion goals.

In our Medical Technologies and Services segment, revenues were $206 million, down 1% compared to prior year. Both our infection prevention and Med Specialty businesses reported nicely increased revenues, but these gains were essentially offset by loss of sales from divesting our research services business in May of last year.

Adjusted segment profit for MT&S increased 86% to $26 million, again, driven by positive sales momentum, a nice mix factor for us, restructuring savings and overall spending control.

Moving now to operating cash flow. For the 9 months ended March 31, our operating cash flow from continuing ops is approximately $221 million, capital spending totaled $110 million, and depreciation and amortization was $141 million. At March 30, we had $1.2 billion of cash, $1.4 billion in debt and for the full year, we continued to expect our capital spend to be in the range of $150 million to $160 million driven by spending in some of our large IT project that are necessary to get off the Cardinal Health transition service agreements as we enter fiscal year '12.

Also as I mentioned earlier, we are adjusting our operating cash flow expectations for this full fiscal year down to a range of $325 million to $375 million from the prior range of $425 million to $475 million, and this is really due to 3 items. So let me talk about 2 of them which make up the majority first. These 2 items that I'm going to talk about really represent a shift in cash flow from '11 into '12. First of all, the push out in installs in our Infusion business that we talked about last quarter and are talking about this quarter is actually moving a portion of our cash flow in the form of accounts receivable and inventory out of the fourth quarter and into the first quarter of next year. Second, as part of our efforts to stand up from Cardinal and exit the transition service agreement, we've been implementing a number of new systems to help us more efficiently run our businesses. In the last 90 days, we've actually implemented new ERP systems within both our Dispensing and MT&S businesses, and these implementations while they've gone generally well, there have been some short-term disruptions which are causing a delay in the timing of our invoicing and cash collections process. We are working through these issues. We fully expect to have them workout over the course of the next few months, and so I want to be clear in the case of these 2 items, both the infusion push out and the billing and collections disruptions, these are a temporary take down and cash flows, and we've already adjusted our FY '12 cash flow upward accordingly. The third item is a little bit different. It actually is a permanent takedown of operating cash flow. It really relates to the sale of our ISP business. So in our original plan for '11, we forecast the cash flows coming from operating earnings and a reduction in inventory or an improvement inventories from the ISP business of approximately $25 million to $30 million. Ultimately as you know, we decided to invest, divest this business and at that time, we shifted our focus away from these operating improvements that will drive inventory out and drive cash flow up and focus them more on divestiture process. We've sold the business in April and the proceeds from the sale of that business will be recorded in our investing activity. So what this means is while we will receive cash related to the ISP inventory. It's actually hitting our investing activity cash flow line rather than operating cash flow. So I hope that going into this level of detail makes it clear that while we're taking down our cash flow guidance for '11, it's really just a timing issue with 2 of the items and pushing cash flow from '11 to '12, and on the other item is being paid for inventory in a slightly different way.

Final note on the third quarter, we continue to make progress against our August '10 restructuring goals. Savings during the quarter were $31 million, and we're on track to achieve the high-end of our range which was $85 million to $95 million. We're going to achieve $95 million in savings for the restructuring that we did, and we expect that amount to increase next year by an incremental $25 million.

Looking ahead, I want to make a comment on the trends for the remainder of the year. Our third quarter did exceed our expectations by a little bit which gives us some relief for the build into the fourth quarter. So based on the normal strong fourth quarter we experienced on the Cap Equipment business, the sequential growth we continue to see in our Infection Prevention business. We do continue to expect revenues earnings to increase sequentially and be up year-over-year, which gets us to our full-year guidance number.

Like Kieran, before we move on to Q&A, I just want to reiterate that we plan to provide guidance for fiscal '12 in August when we report our year-end results for '11. And at that time, we also plan to provide an update on the progress that we've made against our long-term goals including ongoing initiatives and new initiatives that we're undertaking to achieve these goals and some of the opportunities we see both not in just '12 but also beyond. For that, I'll turn it over to you, Carol.

Carol Cox

Thanks, Jim. And, Dianna, before we turn it for the Q&A, I would just like to ask everyone, if possible, if you could limit yourself to one question and follow up if needed, so we can give everyone a chance to ask their questions. If you have a second question, I would ask you to please put yourself back into queue or you can certainly contact us after the call. So, Dianna, if you like to open it up.

Question-and-Answer Session

Operator

[Operator Instructions] And the first question will come from the line of David Lewis, Morgan Stanley.

David Lewis - Morgan Stanley

Kieran, first question for you, maybe it's a combination, Kieran/Jim question. Just in terms of -- what is that earliest do you think we'll get an update on what our plans to the balance sheet, not specifically moving into new verticals, but specifically capital deployment dividends, things of that nature? And Maybe, Jim, you could update us on -- I've noticed some movements in the cash flow, but what do you think is the steady state cash flow number as we head into next year or what do you think the business is a steady state cash flow as today given we have pushed around a bit. And I have one follow-up.

Kieran Gallahue

Well, we certainly plan on getting into detail about the coming year as we get into the August call. I will say in general, on capital deployment, we feel comfortable with where we're at the moment. We're very careful about our uses of cash. We have done some recent divestitures which have provided some cash balance coming into the company, but we've also have the ability or at least the opportunity to fund some acquisitions, Medegen being one and this most recent here, just couple of weeks ago, was Vestara. Vestara, I think, is a great example of the types of areas that we feel very comfortable in looking for M&A activity and deployment of cash. That's a bolt-on acquisition, fits extremely well into our Dispensing business. It's an adjacency that can be sold through our current sales force, and it is customer meaningful and helps us live this whole idea of cradle to grave medication management. So we're really excited about that, and I think the one thing to say is that we're not going to let cash burn a hole in our pocket. We're not going to be looking to do acquisitions for the sake of doing acquisitions. They've got to make sense. Jim, do you want to...

James Hinrichs

Yes, sure. I mean, I would reiterate what you said, Kieran, we're absolutely looking for ways to get our cash put to work for and address the issues that you described, David. With respect to ongoing cash flow, it's -- certainly, last year was a great year, and this year has been a more difficult year for all the reasons we've talked about, both entering the year and then what we just talked about today. Steady state for us is probably somewhere in between where we were last year and where we are this year, and we'll have more information on that as we get into the August call and to provide more specific guidance for next year.

David Lewis - Morgan Stanley

Okay. Jim, just one follow-up on 2 dynamics in the quarter that was surprising. You talked about it a little bit, but the gross margins and tax rate, given the mix in the quarter, GMs [gross margins] are very strong, maybe you could talk about the sustainability of rate at these levels, as well as tax rate trends over the next 6 months? And heading into next year, should we be thinking about a number that's 30% to 32% or something that is below 30%?

James Hinrichs

Well, gross margins this quarter were very strong. We had a nice mix factor that we all set some nice specific efficiencies that were generated in specific businesses across the board. It was one of those quarters were a lot of things went right which is great on that line. We are expecting gross margins to come in for the full year at 50% to 51%, so that sort of implies a bit of a normalization moving into the fourth quarter to get to that mathematical average. And so that's probably answers your question there. With respect to tax rate. Yes, it continues to bounce around a little bit. We understand why it's moving around and many of these things are discreet items. I think, without getting too specific, I'll reiterate what I said the last call which is our ongoing rate for this year, we still believe, will be between the 28% and 30%, in that 28% to 30% range for the all-in reported rates because of some of these discreet items I talked about, we're going to be towards the upper end of that range closer to the 30%. For next year, I think the guidance would probably be very similar which is an ongoing rate of 28% to 30%, but discreet items, of course, as things change can move that around in any particular period. But I would probably continue to get the guidance we've given for this year which is 28% to 30% for next year.

Operator

And the next question will come from the line of Mike Weinstein, JP Morgan.

Michael Weinstein - JP Morgan Chase & Co

Just a couple of follow-ups, maybe to start with where David left off. The gross margins were very strong this quarter, does it imply that, basically, everything went your way this quarter. I just don't assume that everything goes your way in the fourth quarter that's why you're being a bit more conservative. But is there anything in there that we should view as one time that stands out or we should highlight?

James Hinrichs

No, not particularly. Like I said, we had some nice -- we had a nice mix component there. We had some savings that came through on the service line, as well as the cost of goods sold line. It was again just a strong margin quarter from a product, like I said, from a product mix standpoint within individual businesses. The product mix within businesses was very strong. Again, it was just a, on the margin of strong quarter when things go well your way -- things go well and go your way on the margin in more things than they don't. You end up with a quarter like this.

David Lewis - Morgan Stanley

Kieran, be interested in getting more commentary from you. You've stated on this call then on prior calls otherwise a few weeks that you feel like the portfolio is such that it's not necessarily going to give you the revenue growth that you ultimately aspire to, but that there is enough opportunity within the company that incremental cash is best spent on tuck-in deals and not necessarily big new platforms to add to the growth. Can you just add a little bit more on your thoughts on the existing portfolio and be able to create shareholder value with the assets you had in place today even though they be lower growth assets than you ultimately aspire to?

Kieran Gallahue

Sure, great question, Mike. Look, I think we are in some fundamentally strong core businesses that we are -- from a product perspective, we represent market share leadership in many cases, right? So we're a strong player in markets that are really foundational within the healthcare system. In some of those cases, we participate in a part of the market, and when you step back and you look at the problems that you're trying to solve, there are opportunities not only to gain additional market share, but there's opportunities to help redefine the solution in a slightly different way that allows you to generate value. I'll just use the Vestara example again as an example just because it's so recent, but it's certainly not the only one. That's an example of where, yes, it is going to be sold through Dispensing business, but is medical waste management exactly what we had talked about in dispensing in the past? No, it wasn't. But we have been adjusting the story to articulate that what we want to do is to help in the cradle to grave management of medication. And this helps do that, and it solves a very specific problem. And when you look at what that the characteristics of the business and what's required from the selling perspective and what's required from a technology perspective, it fits in well. So that's virgin territory, it's a growth area, but it fits within our core business. Medegen was another example of that of where it gets us into the nondedicated disposables with IP-protected technology, and it gives us a foundation where we can continue to invest in R&D and build off of those cores. And I can go on with ChloraPrep and PleurX, et cetera. So I think our businesses in and of themselves represent significant opportunities particularly when we slightly redefine the nature of what those markets are and what the solutions are that we can bring to those market. But life starts with fundamentals and that's where we're going to start. We focus on building our capabilities within these areas. We invest in R&D. We get the R&D pipeline moving at a more efficient rate than it has been in the past. Then there is both market share to gain, as well as new market opportunity.

Michael Weinstein - JP Morgan Chase & Co

Last question and I'll let some others jump in. Kieran, as you work with the board to establish performance metrics for management going forward, starting with that FY '12, what you think those metrics would be focused on? What would compensation be driven by? Will it be driven by earnings per share? Will it be driven by profitability, top line, return on capital? If you could help us out there.

Kieran Gallahue

Again, very good question. It just happens we just finished up our board meeting yesterday where that was a subject to discussion and continued dialogue. The top managers within the company will have a balance of short-term and longer term measurements. As an example, the intention to have is not only an annual variable bonus pool which would be based on such metrics as operating's earning percentages and revenue growth percentages, but also longer-term incentives that are tied to performance stock units which will be balance of metrics such as earnings per share development. So what we're trying to do is to take the top managers compensation, have a certain amount in base, a certain amount that's very much tied to annual performance metrics and then in the long-term incentives, have a mixture of options, RSUs and performance stock with that performance stock having some very aggressive goals, all of which are tied towards value drivers that are consistent with value generation for our shareholders.

Michael Weinstein - JP Morgan Chase & Co

That's helpful.

Operator

And the next question will come from the line of David Turkaly, SIG.

David Turkaly - Susquehanna Financial Group, LLLP

We've heard a little noise about your potential discounting there, and I know it's been discussed in the past, and we're just wondering if you might have a comment on that in terms of these contracts, how the ASTs are trending and knowing that your friends at Baxter actually fund some of the purchase if they switch or at least that's what we were assuming in the past, could you give us any update on what you're seeing from an AST standpoint and how that compares to your plan?

Kieran Gallahue

Yes, sure. We've been very pleased with our progress and gaining share not only from Baxter but from other competitors in the marketplace over the last several months. And as we noted in the commentary, we've seen an acceleration in that towards the end of Q3 and in fact, right through here into Q4. So we're very pleased with the team's performance on that. You're absolutely right. There are periods of time which are unusual where you need to compete in a way that's appropriate for the opportunity, particularly these perishable opportunities. And so what we did see some of the larger transactions, some of the larger customers, more high-profile customers, we did see that the pricing became somewhat aggressive, and it's below what we consider to be historical averages in the industry. And you've given some of the reasons why that was necessary. But as we move forward, one of the things that we have worked with the team on is that it does nobody any good to take those pricing levels and keep them consistent for the longer haul. And so now that those big transactions are behind us, obviously, we haven't seen them flow through into the install and the revenue line, but they're behind us from the transaction perspective, our intention is to go back to more normalized pricing. What I should note is that even on those deals where it was aggressive in the pricing, they're still quite profitable deals, because the focus has been on the capital itself but hasn't been on the dedicated consumable stream and, of course, these units represents significant number of years where there's potential for significant number of years of dedicated consumable stream. So the deal has remained profitable and that was always a benchmark for us. But again, the bigger transactions a little bit more price competitive. We think that's behind us, and our objective is certainly to move towards more normalized pricing in the industry.

David Turkaly - Susquehanna Financial Group, LLLP

And then as a follow-up. Again, to hit the margins, again the gross margin. I know we're all looking for some leverage given the TSA and some of the other SG&A levers that you had, but the gross margins were strong and I know you've mentioned facility rationalization in the past. Can you quantify where you stand on that? How many -- I'm not sure if you've spoken about it, or Kieran, but in terms of how many facilities you have, has that even begun yet? And what kind of upside do you see there as you kind of go through this plans and maybe begin to manufacture maybe across this Critical Care Technologies combining some of those efforts in the future.

James Hinrichs

Yes, this is Jim. We started -- it's been I believe with 23 facilities or as acquired, but we're planning to acquire another one. We're down to 20. Just closing down some of the less efficient and smaller facilities. Certainly the best, the easiest way to get after manufacturing savings is to reduce overhead in the manufacturing facilities, and we've got a group of people that are working on doing exactly that and have made great strides and you've seen some of that this year with gross margins and you've seen -- you saw it certainly in the third quarter. There is also an opportunity to rationalize facilities and manufacturing facilities that tends to be a longer term slightly more expensive type proposition, and I think there is opportunity there. As we go forward, I don't think that we're ready to commit anything right now on that front in particular other than saying we're looking at any and all possible savings opportunities on the cost of goods line including sourcing, which represents the bulk of immaterial and represent the bulk of our manufacturing cost, as well as overhead and labor opportunity.

Kieran Gallahue

Jim, a very good description. I think the other thing to note is it's not just about rationalization of facilities, but rather the efficiency with which you operate those facilities. And one of the areas of significant focus for us is our continual -- continuous improvement focus which is a focus on lean techniques, it's a focus on the utilization of tools and Six Sigma and just do it sort of technologies or mindset that started the shop for. In fact, we were just down a couple of weeks ago, Jim and I and some of the other team members are just telling, one of our plants in Mexicali as an example, and doing a review of continuous improvement projects that were executed at the shop floor level. Just fantastic work that's being done to improve worker safety, to reduce cost, to improve efficiencies and allow us to put more volume through those plants without having to increase other forms of costly capacity. So just to highlight, it's not just about closing. It's also about building efficiencies.

David Turkaly - Susquehanna Financial Group, LLLP

So it sounds like we're pretty early.

Kieran Gallahue

We're early and we're -- but we're on a path that we're very encouraged by.

Operator

And the next question will come from the line of David Roman, Goldman Sachs.

Nikhil Hanmantgad - Goldman Sachs Group Inc.

This is Nikhil for David. I know you guys haven't commented before specifically on the range for this year, but the 1% or 2% revenue target that you mentioned earlier looks like it might be a little bit lower than what you guys at least [indiscernible] or was expecting previously. Why were you thinking about that? Is that mostly weakness in Respiratory that is the driver there?

James Hinrichs

Beginning there, we guided the mid-single digits. The last quarter we guided to low-single digits. I start to consider 1% to 2% to be right in the middle of low single-digits, so I'm not sure -- I don't think anything has changed much from our expectations standpoint. As we have gotten closer through the end of the year, we're able to hone down a little bit more and maybe tighten the range up instead of taking low-single digit, say, 1% to 2% which is a much tighter range. It does not -- I mean, if you -- there have been no changes, significant changes in our expectations how that the marries up with what other think is probably -- it's not my job necessarily to reconcile those things I wouldn't know how to, but I think we've gotten close to the end of the year, and we're able to reconcile, able to hone the range down a little bit.

Nikhil Hanmantgad - Goldman Sachs Group Inc.

Okay. And then, maybe secondly, when we generally think about getting back to mid-single digit range, what do you think about the drivers there? Is that going to be mainly the Infusion opportunity coming through and maybe next year whenever it comes through, or would it take most of the businesses getting incrementally better from here?

Kieran Gallahue

Look, there's opportunities across the business. We've got a number of businesses that are performing well and some that we think can perform even better. Certainly, Respiratory, as we've talked about it, it's had a tough year. Our expectation is that, that should moderate moving forward. Again, we'll talk about that more in detail in August. But we're, if you like, we're getting to the end of a real tough road here, and we should start seeing some, at least some moderation in that business. At the same time, is there opportunity as we see the Infusion contracts come to market, you bet. Obviously, capital runs maybe a little bit lower on the gross margin but certainly pulls through some very good topline. We've got -- Dispensing is being led in a great way, and the team is executing well. And then, of course, we have this other franchises such as ChloraPrep and PluerX, et cetera. So I don't think it's one area, but certainly moderation in Respiratory is going to help us.

Operator

And the next question will come from the line of Amit Bhalla, Citi.

Christopher Demaree

This is Chris in for Amit. Just had a quick question for you about your topline guidance again. I'm just wondering, what you're seeing in April that makes you so confident, because we feel like you're looking a little more back-end loaded than we were expecting. So in sort of the top-down capital spending, what are you seeing there? And just as a follow-up, on Respiratory, we're now coming off, we're now in May coming off the H1N1 comps, I'm just wondering what's your -- if you're seeing any improvement there at all?

James Hinrichs

Well, first of all, we've talked about this before. The fourth quarter is usually is a strong for all our capital businesses in terms of the total installs and total generated. So with respect to your specific model, I'm not sure how to comment on that other than to say we would expect sequential increases in essentially all of our capital businesses which would be a totally normal effect. As well is the fact that we've got this ChloraPrep deal, which is ChloraPrep has just been increasing sequentially for the last several years, and we continue to see that build into the fourth quarter. So I would say it's probably a somewhat normal effect for us to expect to be fourth quarter loaded and back-end loaded, and I would -- from a Respiratory standpoint, absolutely, Respiratory the hardest part of the comp. Last year it was really Q1 and Q2. We're sort of coming out of that. And Respiratory, like the other capital-driven businesses, tends to be very heavily focused on the fourth quarter. So I think you've hit on essentially all of the things that are relevant for that.

Kieran Gallahue

If I just add one thing, just a general comment. I totally appreciate that we all are trying to build out your models and that makes total sense. I very much appreciate that. I think one of the things I had noticed sort of as new kid on the block here is that on the revenue side, in capital equipment heavy businesses, you get quarter-to-quarter variations. It's just sort of the nature of the business. They tend to smooth that when you get towards full year perspective. And I think there may have been in the past a lot of attention on the topline when I think realistically, when we look at this business, particularly as we go through last year, we go through this year, it's about operating earnings expansion, and then we'll be building the capabilities in order to drive both organic and non-organic growth at the topline over time. And I think the nature of that means that it's going to be more predictable at the bottom line, and I think that's why we've been very consistently able to be able to drive that bottom line growth even in the face of some lumpiness in the top line.

Operator

And the next question will come from the line of Lennox Ketner, Bank of America.

Lennox Ketner - BofA Merrill Lynch

Kieran, I just wanted to follow up on that in terms of building the capabilities. Did our topline growth over time as -- I was hoping maybe you could focus on R&D. It looks like R&D spend will be relatively flat this year. I'm just wondering how we should think about that going forward. I think the previous management team expect to get a 6% to 7% of sales. I don't know if you still think that's the appropriate range and just if that increase is something we should expect to see in the near term or if you're a more focused -- I'm figuring out what to invest in and it will likely take some time before we actually start to see those investments?

Kieran Gallahue

Yes, good question. So I think there was a statement in the past about investment in R&D, and I fully support that by the way. In addition, when you're looking at those types of metrics as we spent out certain businesses that are less likely beneath R&D investment, particularly the distribution oriented business, that number of about that 6% of revenues in these core, medical technology businesses makes absolutely sense. So I think building that level makes a lot of sense. We are and we will be and already are shifting the balance of that spend to make sure that it is in the areas that we think we can have the greatest payback. And the nature of those projects are going to be such that we believe we can increase the efficiency of the spend as well. So it's not just about how much -- how big the check is, it's about how you spend that check. We have some areas where we have some very good development capabilities. We have other areas where quite frankly I think that we can improve, and we're going to need to help those teams develop the skills and have the right skill set in order to contribute and make sure they are getting the payback on the spend. So I think it will build up. It's not going to be an overnight build, but I think as we get into August and talk about next year, we can give you a little bit better estimate of how we see that R&D spend ramping.

Lennox Ketner - BofA Merrill Lynch

Okay, it's helpful. And then, is it possible to get the contribution in Vestara agreement in the quarter?

James Hinrichs

We haven't broken that out separately. We did actually generate a good amount of revenue from Vestara contract, but we're not going to break that up separately. It's just not something we're going to do.

Operator

And the next question will come from the line of Kristen Stewart, Deutsche Bank.

Kristen Stewart - Deutsche Bank AG

I just wanted to go back to what you had said about the contract that you no longer be breaking them out, and you had mentioned that it's mainly because most of the number anything contracted by the end of the fourth quarter, so is it something that you would say, basically, the COLLEAGUE opportunity will already have been kind of the battle had been fought at the end of the year, fiscal year? And then basically, you're expecting to see the full benefit really occur on kind of your fiscal '12, obviously, that kind of brings to the end of that arrangement.

James Hinrichs

Yes. So historically, that kind of detail was never broken out. And I think because of the unique opportunity that was associated with it, the Baxter recall was felt that. It made sense to give a bit more granularity on that. It certainly made sense. Your statements are generally in line with what we believe. We don't think it will all be contracted by the end of the fiscal fourth quarter, but we do feel like it will be the majority. And so there are some deadlines that are associated with that recall that means that there has to be an endpoint of when there's installs and then when you back off the install timeline, the committed contracts have to come in well before that, right? So just by the nature of what have to happen by those agreements, it suggests that the majority of the work is going to be done from a committed contract perspective by the end of this fiscal year. If something changes on that, obviously, we would give you more detail on it. But just to be clear, we do plan on giving the next quarter. So when we get to the fourth quarter, we still plan on providing the information to you. We're just simply laying the tracks for after that.

Kristen Stewart - Deutsche Bank AG

Okay. And then, can you just maybe just go over what the FX contribution was in the quarter? I think it was about a percentage point on topline growth, but maybe just remind us what it was on an earnings basis and maybe put that into context with kind of how we think about. Kind of your guidance, you raise numbers, you should see a positive currency impact in the fourth quarter as well, so maybe just speak to what you're assuming there from a currency basis?

James Hinrichs

Well, so for the quarter, as I mentioned, it was about 1% of the topline and between $0.01 and $0.02 on the bottom line. For the rest of the year, we sorted that's roll currency going forward, but we're up against a strong or weak dollar last year. So as currently not anticipating a significant impact year-over-year of currency in the fourth quarter, either top or bottom line. I mean, top, there'll will be some of an impact, but bottom line, it's probably very little.

Kristen Stewart - Deutsche Bank AG

You're talking relative to where your expectations were last provided back in February?

James Hinrichs

Where expectations were provided versus last February, they're probably a modest positive like they were in the third quarter versus last year, it will be essentially a neutral. Again expectations are very modest positive maybe, a $0.01 or so. Is that clear?

Kristen Stewart - Deutsche Bank AG

Yes.

Operator

And the next question will come from the line of Rick Wise, Leerink Swann.