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Executives

David Hoffmeister - Chief Financial Officer and Senior Vice President

Eileen Pattinson - Senior Director of Investor Relations

Mark Stevenson - President and Chief Operating Officer

Gregory Lucier - Chairman and Chief Executive Officer

Analysts

Jonathan Groberg - Macquarie Research

Ross Muken - Deutsche Bank AG

Nandita Koshal - Barclays Capital

Tycho Peterson - JP Morgan Chase & Co

Quintin Lai - Robert W. Baird & Co. Incorporated

Daniel Arias - UBS Investment Bank

Isaac Ro - Goldman Sachs Group Inc.

Doug Schenkel - Cowen and Company, LLC

Jon Wood - Jefferies & Company, Inc.

Amit Bhalla - Citigroup Inc

Life Technologies (LIFE) Q2 2011 Earnings Call July 28, 2011 8:00 AM ET

Operator

Good day, ladies and gentlemen, and welcome to the Second Quarter 2011 Life Technologies Corporation Earnings Conference Call. [Operator Instructions] As a reminder, this conference call is being recorded. I will now like to turn the conference over to your host, Ms. Eileen Pattinson, Head of Investor Relations. Ma'am, you may begin.

Eileen Pattinson

Thank you, Shanon, and good morning, everyone. Welcome to Life Technologies Second Quarter Earnings Conference Call. Joining me on the call today are Greg Lucier, our Chairman and CEO; and David Hoffmeister, Chief Financial Officer. In addition, Mark Stevenson, our Chief Operating Officer, will be available during the Q&A portion of the call. If you haven't received a copy of today's press release, you may obtain one from our website at lifetechnologies.com.

I want to remind our listeners that our discussion today will include forward-looking statements, including, but not limited to, statements about future expectations, plans and prospects for the company. We believe these statements are based on reasonable assumptions, but actual results may differ materially from those indicated. It is our intent that these forward-looking statements be protected under the Safe Harbor created by the Private Securities Litigation Reform Act of 1995. Additionally, we will be discussing GAAP and non-GAAP measures. A full reconciliation of the non-GAAP measures to GAAP can be found in today's press release or on our website.

I will now hand the call over to Greg Lucier.

Gregory Lucier

Thanks, Eileen, and thank you all for joining us. I hope you've had a chance to review the press release that we issued earlier this morning. I'll begin by reviewing our results for the quarter at a high level, and provide our outlook for the remainder of the year. Then, I will turn the call over to David to walk you through our financial results in greater detail. To briefly review the highlights, total non-GAAP revenue grew 4% for the quarter to $945 million and grew 3% excluding currency. Non-GAAP earnings per share declined 2% for the quarter to $0.89 and grew 2% excluding the impact of the currency.

Our organic revenue growth was lighter than anticipated during the second quarter due to 3 main factors. I'd like to spend a moment on each factor. But before I do, I want to emphasize that we fully understand the issues, have detailed actions underway to address them, and remain confident in our strategic and financial position as well as the direction of the company.

The first factor that impacted our growth is macroeconomic-based. Consistent with what others in the life sciences tool space have seen, we continue to experience lower demand from academic- and government-funded researchers in the U.S. and Europe. If you recall, we also experienced this last quarter, particularly in the U.S. which we attribute into the uncertainty around funding caused by the delay in passing the federal budget. Our expectations at the time were that once the 2011 NIH budget passed in mid-April, sales growth would return to normalized levels. While we did see some improvement in demand at the larger, better-funded accounts, the return to previous rate of growth in the U.S. did not fully materialize as we had expected.

In Europe, budget pressures continue to impact demand, particularly in the United Kingdom and southern regions, which also lowered our growth in the quarter. As a result of the continued weakness in the funding environment in both the U.S. and Europe, we experienced softer sales in many areas of our business in the second quarter, including instrumentation and basic molecular and cell biology reagents.

In total, we estimate that reduced funding in the U.S. and Europe negatively impacted the growth rate of the company by approximately 1.5 points on a year-over-year basis and also relative to our original expectations.

The second factor that impacted our growth has to do with the lingering effects of the earthquake in Japan, which delayed shipments of the 5500 high-throughput sequencer. Our partner, Hitachi Japan, returned to full production in June. Despite shipping over 170, 5500 units, they were unable to complete all of the shipments that were planned for the second quarter. As a result, several million dollars of revenue will now shift to the third quarter as we continue to clear that backlog.

On the consumables side, because of the delay in shipping instruments, next-generation consumables were down year-over-year as customers transitioned to the new 5500 platform and begin to ramp up the utilization of that platform. We estimate that the decline in consumable sale has negatively impacted the growth rate of the company by approximately 0.5 point.

The final factor that impacted our organic revenue growth in the second quarter was related to our business in China. As you know, our China business has been growing rapidly over the last several years. During this time, we have been heavily dependent on the local dealer network to market and sell our products. In order to strengthen customer relationships, we took actions to optimize the existing dealer network and supplement it with our own direct sales force. As such, we have been hiring new sales representatives, order entry, technical support personnel to support the strategy, as well as bringing online much larger warehouse facilities across the country in Beijing, Shanghai and Guangzhou to better ensure product availability and faster delivery to our customers.

During the second quarter, we also placed a seasoned country leader in China who will manage the implementation of our growth strategy going forward. All of these actions better position us to build a sustainable, competitive advantage and better serve our customers over the long term, but it would not been without some short-term disruptions.

In the quarter, we experienced reduced demand from parts of our dealer network, as those dealers that will play a less prominent role in the future began to destock inventories of Life Technologies' products. The results were the temporary slowdown in growth, which negatively impacted the company's total growth rate by approximately 2 points. In hindsight, we could have managed the transition better and notified the dealers over the course of the year, versus the rapid change we chose. However, we're here now, and the good news is that the impact will be short-lived and we expect the sales growth in China will return to historic levels over the next couple of quarters. And we will have created a very valuable scientific sales force.

So when we look at Q2 as a whole, it's clear that we face some unexpected challenges impacting the top line. But we understand the issues and some of which we can control, like China, and some of which we can't, like government funding, but we're taking action to best position the business for the future against all of them.

As we turn our attention to the second half of the year, I'll take some time to walk you through our plans and expectations. We expect the second half constant currency revenue growth will be between 3% and 5%. The acceleration growth from the second quarter will result from China coming back online with growth in the low- to mid-teens, as well as continued growth in the Ion Torrent franchise. As you may have read in our recent press release, we achieved significant progress with the Ion Torrent technology over the last 6 months and expect that future growth will be fueled by new product introductions and expanded applications as the read length and throughput continue to increase off those semiconductor chips.

When looking at the macroeconomic environment, we do not expect the funding situation to worsen, but we're taking a conservative approach in planning for continued soft demand for both the U.S. and Europe government-funded research, at least through the end of the year. To mitigate the impact on our bottom line, we've taken a hard look at our organization and identified opportunities to increase profitability, by further optimizing our cost structure and boosting efficiency. We are accelerating a number of cost savings that were originally planned to begin later this year and next. These actions will take costs out of the second half of the year and create a leaner organization as we enter 2012.

While the first half of 2011 was challenging, we have a strong plan in place for the second half of the year. Our long-term strategies are intact, and I remain confident in our prospects for the future. We continue to lead the industry in innovative product offerings and see ample opportunity to accelerate rate revenue growth through solid execution in emerging and applied markets and delivering on the promise of next-generation sequencing, particularly Ion semiconductor sequencing. As we look ahead to 2012, we remain confident that we can deliver mid-single-digit revenue growth with the cost-saving initiatives I described earlier and the resulting margin expansion, we continue to expect double-digit earnings growth into 2012.

Before I turn the call over to David, I am pleased to also announce that the Board of Directors has approved an additional $200 million share repurchase authorization. We have approximately $300 million remaining on our previous authorization, so the addition of the $200 million will increase our total purchase authorization to $500 million. In general, the timing and amount of the purchases will depend on quarterly fluctuations in cash associated with operating cash flow, capital expenditures and further debt repayment.

With that, I'll hand it over to David to walk you through the details of the quarter and our outlook for the remainder of the year. David?

David Hoffmeister

Thanks, Greg. Taking a closer look at divisional results for the quarter. The Cell Systems division non-GAAP revenue was $243 million, an increase of 5% over the same period last year. Excluding the impact from currency, organic revenue grew 4% year-over-year. Mid-teens growth in the Bioproduction business was tempered by slower growth in other product areas, which were negatively impacted by continued funding pressures in the U.S. and Europe and the temporary slowdown in China.

Molecular Biology Systems division non-GAAP revenue was $432 million, a decline of 1% over prior year. Excluding the impact from currency, organic revenue for the division declined 2%. Strong sales of qPCR consumables and molecular testing kits for applied markets were offset by slower growth in government-funded accounts in the U.S. and Europe, as well as the temporary slowdown in China.

Genetic Systems division non-GAAP revenue was $265 million in the second quarter, an increase of 12% over the same period last year. Excluding the impact from currency, revenue increased 11%. Strong sales of the Ion Torrent PGM and the 5500 Series genetic sequencer were partially offset by reduced demand for CE instruments, the result of slower growth in U.S. and EU government-funded accounts, as well as reduced demand for next-generation sequencing consumables.

Demand for next-generation consumables is expected to pick up over the next few quarters, as more 5500 units come online and utilization ramps up. Ion Torrent sales totaled approximately $13 million, up 50% from the first quarter. We're very pleased with these results given the price point of $50,000 per unit and the limited consumables sales we've had so far.

Regional constant currency revenue growth rates for the quarter compared to the same quarter of the prior year were as follows: The Americas grew 3%; Europe, 2%; Asia Pacific, 3%; and Japan grew 8%.

Moving on to other items, second quarter non-GAAP gross margin was 64.2%, 350 basis points lower than prior year. Higher price realization was offset by the negative impact of currency and mix. Price realization in the quarter was between 1% and 2%, similar to prior years. Mix was lower due to higher sales of both 5500 sequencer upgrades and the Ion Torrent PGM instrument.

The decline in gross margin was greater than our guidance, due to the deliberate prioritization of upgrades over full-priced units during the quarter, resulting in higher sales of the lower-priced upgrades than we'd originally planned. Of the 350-basis point year-over-year decline in gross margin, approximately 300 basis points of the decline are due to items that are temporary in nature. The bulk of the decline, approximately 160 basis points, is due to the impact of the 5500 upgrades, which we expect to be complete in the next 2 quarters.

Approximately 100 basis points is due to currency, including the impact of our revenue hedging program, which ends on July 31. And 30 basis points is due to sales of the PGM instruments. Margins on the PGM are expected to improve as the product ramps up over the next several quarters.

On a sequential basis, gross margin decreased by 210 basis points, primarily due to higher sales of the 5500 sequencer upgrades, and the PGM, partially offset by increased productivity. Second quarter non-GAAP operating expenses were $344 million, an increase of 1% over prior year levels, and an increase of less than 1% on a sequential basis.

Operating expenses as a percent of revenue declined 120 basis points year-over-year and 170 basis points on a sequential basis. The decrease in operating expenses was the result of careful hiring and control of other spending. Non-GAAP operating income was $265 million, a decrease of 3% over prior year. Second quarter operating margin was 27.8%, representing a decrease of 230 basis points year-over-year. The decline in operating margin resulted from lower gross margins, partially offset by lower operating expenses.

In terms of non-GAAP other income line items, we had $1 million of interest income, a loss of $4 million from currency and other items and the interest expense for the quarter was $34 million. Our non-GAAP tax rate was 27.9%.

Our diluted share count for the quarter was 184.8 million shares. During the quarter, we repurchased approximately 1 million shares for $52 million and issued approximately 400,000 shares as part of the repayment of our $350 million convertible bond. As a reminder, other factors impacting share count in the quarter are dilution due to our remaining convertible debt and employee stock options and restricted stock units.

GAAP diluted earnings per share were $0.52, which includes $0.26 per share of acquisition-related amortization expense, $0.03 per share of noncash interest expense and $0.08 per share of business integration costs and other items, including costs associated with the discontinuation of a small product line.

On a non-GAAP basis, which excludes these items, diluted earnings per share was $0.89.

Moving on to the balance sheet and cash flow statements, our ending cash and short-term investments were $565 million. This compares to last quarter's balance of $735 million. The reduction in cash from last quarter is due to the repayment of the $350 million convertible bond. Cash from operating activities was $204 million. Capital expenditures were $17 million and free cash flow was $187 million. Return on invested capital was 80.6%. We remain on track to achieve our goal of 10% return on invested capital by 2012.

Our ending debt as of June 30 was approximately $2.7 billion. This balance is made up of our convertible debt of $450 million and senior notes of $2.3 billion.

Now let me take a moment and talk about our revised outlook for the second half and full year. Constant currency revenue growth, which includes the impact of acquisitions is now expected to be between 3% and 5% for the second half, with the third quarter at the lower end of this range. For the full year, constant currency revenue growth is expected to be between 2% and 4%.

As of June month-end rates, currency is expected to have a positive 3-point impact on revenue in Q3, and a positive $0.05 impact on earnings per share. In Q4, currency is expected to have a positive 3-point impact on revenue and a positive $0.06 impact on earnings per share.

Operating margin expansion is expected to be down 100 basis points year-over-year in the third quarter, resulting from a year-over-year decline in gross margins due to higher-than-planned sales of 5500 upgrades in the quarter. However, operating margins are expected to expand by approximately 50 basis points for the full year. For modeling purposes, it's important to note that the majority of our operating margin expansion will come in the fourth quarter due to the timing of cost reductions planned in the second half.

As a result of calling the $350 million convert in the second quarter, interest expense for the year will go down. Interest expense, net of interest income, is now expected to be $128 million for the full year. Other income and expense, which include foreign exchange and gains and losses is expected to total $10 million in expense for the full year. In total, other income and expense is expected to be approximately $138 million.

The second half tax rate is expected to be approximately 28%. Average diluted share count for the year is expected to range between 185 million and 187 million shares. This estimate does not include the impact of any additional share repurchases in the second half of the year.

While it's not our normal practice to provide quarterly earnings per share guidance, we recognize the potential difficultly in modeling this quarter. Therefore, non-GAAP earnings per share for the third quarter are expected to be between $0.85 and $0.90. The impact of our reduced revenue outlook will be partially offset by the acceleration of the cost-savings initiatives that were discussed earlier. As a result, we expect to deliver non-GAAP earnings per share between $3.70 and $3.80 for the full year.

Full year free cash flow is now expected to be in the range of $625 million to $650 million for 2011, including $100 million of one-time restructuring costs. Restructuring costs have increased from our regional estimate of $80 million due to additional restructuring actions that are now planned for the second half of the year.

Looking ahead to 2012 with restructuring largely complete, we expect free cash flow to increase in line with net income growth.

And with that, I'll hand the call back over to Eileen.

Eileen Pattinson

Thanks, David. We will now turn to Q&A [Operator Instructions] Operator, we are now ready for the Q&A portion of the call.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Tycho Peterson with JPMorgan.

Tycho Peterson - JP Morgan Chase & Co

Maybe just starting with maybe an obvious question on the academic markets. You're pretty consistent with a lot of your peers and calling out the academic softness. Can you give us a sense as to whether this really is a transitory issue. Obviously we have the dynamic of stimulus rolling off as well. So if you could just talk about how much you think could kind of linger going forward? And then maybe also I'll just touch on your ability to grow in a potentially flat NIH environment going forward?

Gregory Lucier

Well, as I said in the comments, we believe that this growth rate or reduced growth rate will continue through the end of the year. In terms of visibility beyond that Tycho, we're not sure yet, but we're thinking it's going to be in the certainly lower-single digits based on what we can see right now. Now second half of your question is, how can we grow in the face of that. I think it comes back to both our product mix, our geographies and then continue to expanding into these nonacademic markets. And so on the first one, it's clear more and more money is going towards next-generation sequencing, and we are very bullish on now with the 5500 coming finally online and the Ion Torrent ramping up considerably. So we think we have the right exposure there. You heard about my comments in terms of China. We're taking some pretty rapid and pretty bold actions in terms of becoming ever more direct across the region, emphasizing China here. And we think that will give us some growth rate and then finally our HID businesses, our Food, our Animal Health businesses give us some nonacademic exposure.

Tycho Peterson - JP Morgan Chase & Co

And then maybe with regards to sequencing since you mentioned the 5500, you've obviously had success with the PGM. How do you feel like [indiscernible] into the portfolio longer term? Is there a risk that with these delays and obviously the introduction of desktop systems that solid potentially could be in a kind of decline going forward?

Mark Stevenson

Tycho, this is Mark Stevenson. So we still see a place for the 5500 in the market and it's seen some adoption in terms of accuracy and its flexibility. But as you've actually pointed out, there's an increasing part of the market now that's growing very rapidly in these desktop-type systems where people really value this fast turnaround time. So as far as sort of further growth of the market, we really see it as decentralized part of the market, more and more labs that we visit who today might be buying some of our qPCR instruments, now growing quickly with the Ion Torrent.

Tycho Peterson - JP Morgan Chase & Co

And then last one for Greg, maybe are you able to put any parameters around kind of the cost-saving actions for the back half of the year and are those kind of facilities closures or just talk to your ability to kind of pull cost out of the system?

David Hoffmeister

Yes, Tycho, this is David, I'll take that. Right now, we're looking at savings in the range of $10 million to $20 million in the second half of the year. And so on an annual base run rate, that would be $40 million to $50 million.

Operator

Our next question comes from Quin Lai with Robert W. Baird.

Quintin Lai - Robert W. Baird & Co. Incorporated

The slowdown that you saw it looked like it was -- a lot of it also was in the Molecular Biology area. And so Greg, you sort of kind talked about people switching over the next-gen sequencing. I mean, is it taking traditional molecular biologists and now they've just become gene jockeys? Or is it really just funding issues and maybe people sitting on their budgets. A little bit of color on the Molecular Biology side, was it consumables? Was it instrument-based? Kind of what were you seeing?

Gregory Lucier

It's a good question, Quin. Let me give you a couple of impressions we have right now. So clearly, there is this shift towards sequencing in terms of the funding. I think our response to that is that evermore, researchers are taking a genetic analysis perspective. And as Mark rightly pointed out in the last answer, when you could start selling a sequencer for $50,000 and a qPCR instrument higher anyone sells about that as well, you're now faced with trade-offs, and I think you're starting to see that take place. So more prospectively though, we actually think this plays quite well into our portfolio in that there is a continuum of [indiscernible] sequence and then you'll validate the gene function. And so we're seeing really incredible double-digit growth at our Assay business, the consumables side of our qPCR business. And so getting that right mix kind of oriented is a big body of work that Mark and his team are working on right now. So those are the impressions we have, that's how we think it will all play out for us in that the consumables side of qPCR will have really robust growth over the coming years as it is evidenced today.

Quintin Lai - Robert W. Baird & Co. Incorporated

You've given preliminary 2012 guidance in mid-single-digit growth, so what is implied in the assumption for the academic market? And kind of your visibility to that?

Gregory Lucier

I think we're thinking right now it's essentially flat to 2011, and that's how we're planning our cost structure.

Quintin Lai - Robert W. Baird & Co. Incorporated

So then that means that the growth then has to come from pharma and emerging markets and applied markets in order to offset the flatness in academic in the U.S.?

Gregory Lucier

Well, yes. And then also changing your mix inside those mature countries.

Operator

Our next question comes from Doug Schenkel with Cowen and Company.

Doug Schenkel - Cowen and Company, LLC

My guess is based on the way Ion Torrent has been tracking and nearly going that you're banking on probably about 2 points of growth from that product next year. You typically get about 2 points of price. So your 2012 guidance, recognizing that things maybe a little stronger, a little weaker for both of those variables, but your 2012 guidance implies on the surface that you're expecting very little volume growth. When you factor in new products, which I think we should given how much you're spending on R&D, it suggests that your existing businesses are going to continue to decline. Why does that, I mean, where is my math wrong? And if it's not, why would you make that assumption?

Eileen Pattinson

So Doug let me just clarify. So in terms of the pricing environment, we typically get between 1% and 2%, so I think you chose the high end of that side of the range. Ion is contributing considerably to growth, and we expect that trend to continue. But mid-single-digit growth in 2012, taking into account a number of scenarios, including the tougher academic funding environment in both U.S. and Europe, and we felt it prudent to provide a range that encompass a number of different scenarios there.

Doug Schenkel - Cowen and Company, LLC

Okay, all right. Let me ask I guess a high-level question about what happened in this quarter. There was an investor event where you seem to signal that there is a weakness in early May, and then you went out on your way to say that things were fine. You reported a number that I think some without your warrant to the preannouncement, the issues you've pointed to seem like they shouldn't have been surprising, the Japan earthquake obviously happened last quarter. The funding environment has been tough since last quarter. And your choice to make changes in China was your choice. Many are going to say that there was a total breakdown in communication and that at best you lack visibility on your businesses. There's been a series of missteps here. How do investors regain confidence in this team and that you finally got the outlook right?

David Hoffmeister

Well, let me take a first stab at that Doug, since I was the one that made the comment after the investor meeting. And the question, I believe at the time was, do you think that the uncertainty around the passage of the NIH budget will have an impact on your Q2 results? And my comment was, that it already had an impact at that point in time since the budget wasn't passed until mid- to 3rd week of April, so into the second quarter. What we wanted to clarify was that being the case, we still thought at that time that once the budget had been passed, that spending in the academic and government accounts would pick up and that the impact on the second quarter would be neutral or spending would recover. And we had some feedback from large accounts at that time that said that they were spending at the rate that they had been when fully funded. What we discovered as the quarter progressed is that, that wasn't the case, particularly in some of the smaller and less-funded accounts. And particularly at the end of the quarter, when we received some of our larger instrument sales, they just did not materialize. So that's what happened there. In terms of the earthquake, you're absolutely right, the earthquake happened in the first quarter. And we were working with our partner Hitachi to get it online, to get production back online. What we, and they believe at that time, was that they would be operating at full capacity and to meet our demand, which was 200-plus instruments. They did a great job. We actually placed 170 instruments, but they weren't able to produce all 200. And that was the cause of the shortfall in terms of revenue. And we made some specific decisions about, since we were going to come in short, to place upgrades as opposed to new instruments and that had an impact on our margins. And then finally, in China, China as Greg said, we made a decision to supplement the dealer network which has served us very well there with a direct sales force. We announced it. We identified some of the dealers, the dealers that would be with us long term and some of them that we were going to deemphasize and that had an impact on our revenues as they started to destock. As Greg said, in hindsight, maybe we could have managed that better but hindsight is 20-20. It is what it is. We know what the issues are, and we're working to correct them. Additional questions?

Operator

Our next question comes from Nandita Koshal with Barclays Capital.

Nandita Koshal - Barclays Capital

I was wondering if Greg, you could break down the second half guidance and maybe the 2012 outlook a little bit by subsegments? And then if you could get your thoughts around some of the larger pieces of those businesses like the PCR franchise or the research CE business?

Gregory Lucier

I'll defer to Eileen to give a bit more granularity on guidance, whether we do it on this call or on in subsequent calls. But as I had said earlier, when we think about how we grow in the future, there's clearly a product mix opportunity as more funding go towards sequencing and within that trend, as Mark highlighted, we see more and more money flowing into this economical approach to desktop sequencing and that leverages Ion Torrent. We also see good opportunity that as all those sequences get done, they have to be validated, and we're the #1 consumables company in the world for that type of technology with our qPCR Consumables business, so that should be good. And we also then see a continued growth across these emerging market regions. Look, China has been a very strong performer for us. We had a momentary 90-day blip here, it will be another great performance for us,, starting back up again in Q3. So China, Latin America, India, those places will also give us good incremental growth. So that's our general thinking right now and then underlying all of that, we just got to make sure that the organization is evermore lean and efficient, and as we highlighted we're taking actions to do that as well. So that's how we're thinking about the business. The company is strong, generates enormous free cash flow. It's very profitable, and we'll get through these kind of periods of time.

Nandita Koshal - Barclays Capital

And in the CE business specifically, you talked about a bit of a slowdown, is that really more just macro-funding related? Or are you seeing those accounts increasingly trial the Ion Torrent machine and maybe wait for some of the other low-cost sequencers that are coming to market? Just trying to get a sense for the outlook for the research CE business, specifically.

Gregory Lucier

Look, there's no change in the research CE business outlook from what we've given before. In fact, in the quarter, the consumables part of that franchise was very, very good for us. So a lot of confirmatory testing going on, on the CE instrument. More and more people are realizing that it has to be, and is the gold standard for validating the sequences that were just done on the next-generation machines. So in the research side, again, I don't think we see a lot of growth going in terms of new instruments, but we see good growth on the consumables and virtually all of the growth in CE instruments is into molecular diagnostics, into forensics, into animal herd testing, all these different applied markets.

Nandita Koshal - Barclays Capital

I appreciate that. And if Eileen can give us some of the breakdown, I don't know if it's for now or for the follow-up call, but thanks for the help.

Eileen Pattinson

Yes. So Nandita, we probably will provide any further break down of the guidance that we've just provided. We've provided more detail than we normally do in terms of EPS for Q3 and the revenue growth for the second half. And 2012, it's still early days for us to break down our guidance any further than what we've got.

Operator

Our next question comes from Ross Muken with Deutsche Bank.

Ross Muken - Deutsche Bank AG

So as we think about kind of what's transpired in the business, and sort of the outlook for the rest of the year and then obviously, you gave some initial color on '12. I mean how should we think about your long-term view of growth here and then putting that in context of kind of the repurchase that was announced because I guess to your point before, Greg, this business generates a ton of cash, the valuation is obviously quite impaired, and there's obviously some degree of confidence on your end in the context of kind of returning the company to the historical growth that we've seen. So $200 million on a buyback even though you now have $500 million all in seems relatively small given the cash flow. So one, talk about sort of your confidence and the view of the sort of long-term strategic growth of the business? And then how you thought about sort of sizing that versus kind of the share repurchase?

Gregory Lucier

Well, in terms first of the confidence in the future, I wanted to convey that as a public company, you report every 90 days, and I think there is a tendency to trend line a 90-day result forever. And so I'd ask investors to step back for a moment and that choices were made in China as an example of our distribution strategy, had a 90-day impact and that will be back to mid-teens to higher growth. That would have really demonstrably change our growth rate and financial bottom line results in the quarter. The point simply is, I think it's really critical that we take steady hands through these periods, and so that's why it gives some confidence that we see look, this is going to be a mid-single-digit grower as it certainly was in 2010 and all the years before. And so we think we'll get back to that year by the end of the year going into 2012. So that's my kind of general qualitative comments around the confidence of the future. In terms of the buyback, we get a lot of those questions, Ross, and we have been, I think, historically a good provider of buybacks of returning cash to shareholders. And we will continue to do so in the future. At the same time, I want to make sure that we keep full financial flexibility as we move through the next couple of quarters. And the reason is that I just want to see how the economy unfolds, as I think my goal is to be a good steward of this company over the long term. And so before we go spend what some investors would like as a much bigger buyback, I think it's important that we hold on to more of our cash resources, and just make sure that we're understanding everything going on around us in the world. So that's the long and short of it. We may have bigger buybacks in the future, but right now, it's $200 million more which is not an insignificant amount of money.

David Hoffmeister

I think, Ross, the only thing that I would add maybe a little more specificity around Greg's comments on growth. One of the things we try to do was provide some of the details on some of the headwinds that we faced in the quarter. Our growth for the quarter was 3%. And there are -- other than the funding, the 2 main issues were the upgrades and the China situation. The upgrades accounted for 0.5 point of growth and China, we estimate was 2 points. So if you assume, give us the benefit of the doubt that we'll correct those situations, that adds 2.5 points to our 3, and so you're at 5.5 points of those growth at that point in time. And that's where we're saying even with the tough or no improvement in the funding environment going forward, we're looking at mid-single-digit growth. I think the other thing I'd say is we're looking at our cost base. And if we face slower growth, we'll take a look at our investments and our costs and adjust them accordingly, so that we can continue to deliver double-digit earnings growth.

Ross Muken - Deutsche Bank AG

Just a quick follow-up to that point David, so in the context of the forward outlook, not for just this year, but in the next, you noted, you think the funding environment will be similar to what see this year, and I think I'm in agreement with that, I think we've got another continuing resolution. That being said, in the event that the environment is sort of worst than what we're expecting, from that standpoint, how do you think about flexibility in the cost structure? I mean where do you see greater ways, is it on the SG&A line? Do you think the R&D as a percentage of sales is kind of the appropriate profit level given the returns you're getting there? Just trying to get a sense for where we've got the most degree of flexibility.

Gregory Lucier

Yes, I think it's not so much a case of waste is that there's just opportunities for us to continually fine-tune and improve the way that we operate the business. And I think that as I've said before, we have opportunities on multiple levels. We are continuing to consolidate our manufacturing footprint. I think we have 6 plant consolidations underway currently this year or announced. And we're accelerating our productivity improvements in the plant, as well as looking at our manufacturing and operations overhead. So I think you'll see definite improvements on, and we can drive additional improvements, on the cost of goods line. I think on the slower growth environment, we'll certainly take a look at our R&D spending as a percentage of sales. Particularly as we've now completed the introduction of the 5500, there's opportunities for us to reallocate and reduce our R&D spending. And then finally on SG&A, we're taking -- we're continuing to look at opportunities there, which we've captured significant opportunities since the merger and as I've said to people before, I think we've got the 2 companies put together but we, by no means, fully optimized at this point. And so we're looking at things like continuing back-office consolidations, improving the way we go-to-market and refining the amount of money that we spend on promotions and how we do that. And so, of the $10 million to $20 million that I think that we can get out of the business in the second half of the year, I think those are the 3 lines that I would look at.

Operator

Our next question comes from Amit Bhalla with Citigroup.

Amit Bhalla - Citigroup Inc

Greg, I wanted to know if you could just dig a little deeper into the Cell Systems business. I know you talked about the strength within Bioproduction but there are a number of other lines within Cell Systems that I'd like to get a little more color on?

Gregory Lucier

Well, as you know, the Bioproduction business had another good quarter and building off a fantastic year last year. So we're in a good place there with that business. That was about a 13% organic growth rate in the quarter. We also see continued good mid-single-digit growth in the cell analysis of the portfolio, dyes, antibodies, things of that nature, so that's going okay. And then there are other areas that I think are under more pressure just due to funding issues that are experiencing kind of lower mid-single digit growth. So overall, good franchise. In fact, we probably want to orient more of our business into Cell Systems, in terms of organic growth and product development. So that's the color commentary.

Amit Bhalla - Citigroup Inc

And Greg, in terms of China, I think I heard you say 2 different things in the prepared comments. It sounded like you said the China piece would resolve itself over the next few quarters, but then I think in the Q&A, you're talking about a 90-day turnaround. Can you put some numbers around how many dealers were moved around? And what is the actual timing when to get back on track?

Gregory Lucier

Yes. So we think in the third quarter maybe just kind of make it the second half. The business will be in the mid-teens growth again and then moving into 2012, it will actually go higher than that like it had been in 2010 and prior to that. So you almost could draw a line that the business declined a bit in the first quarter, declined a little bit more than in the second quarter, and now we've actually already started see it return back to the second half of June now on to July and August. So again I would just say to investors, being a public company when you report every 90 days, you got to deal with these interim results like this. But I don't make a trend line out of this one. This is a conscious decision we made to change distribution strategy. Obviously, there would be some disruption that's more than we thought, but it's now coming back online and we're absolutely certain we made the right decisions to build a larger scientific sales force across that country. So again I think we'll be back on track here right now in this quarter.

Amit Bhalla - Citigroup Inc

Are you turning over half of your distributors, 90% of them just some rough idea will be great?

Gregory Lucier

You know, I'm not going to signal that because I think it's competitive information.

Operator

Our next question comes from Jon Groberg with Macquarie.

Jonathan Groberg - Macquarie Research

I just had 2 questions. One, a little bit more detail on the Genetic Systems business. Maybe you can let us know on the Ion Torrent kind of what you're seeing on consumable usage at this point and what you expect? And then on the 5500, people would do some diligence talk to customers because of Ion Torrent and seeing that, that's where you're investing. They are choosing not to invest in SOLiD anymore, canceling orders or moving to competitive platform. So maybe just what you're seeing on the cancellation front from 5500 as you think about your 3Q guidance?

Mark Stevenson

Yes. So firstly, on the Ion Torrent and consumables, really most of the revenue at the moment is still coming from the instruments themselves as people just thought to install, get them up and running the instruments. As we go forward and you would have seen in the [indiscernible] I mean you can go through thousands of chips to run a genome, and as we launch now the 316 [ph] chip, more applications come into that looking at doing whole genomes, expression and going into now the 318 chip that we'll launch in the fourth quarter. So we'll see more consumable usage going on and that will drive some of the growth and also saw improvement in margins. With regard to the 5500, we've certainly seen this adoption of the desktop sequencer and the performance improvement as caused for you to look again at Ion Torrent, and we'll certainly see some of the chips in the market as people look for different applications of a next-generation sequencing. And so some of our users have decided to go in that direction. The vast majority of our existing SOLiD users have actually decided to upgrade their systems. So we're giving customers that choice and as we continue to rollout the 5500s, we've seen good uptake. I'd say the vast majority of upgrades is into the 5500. Some decided they wanted to do other projects, [ph] come to us with Ion Torrent.

Operator

Our next question comes from Jon Wood with Jefferies.

Jon Wood - Jefferies & Company, Inc.

Just philosophically, does the constant -- when you got to constant currency now, should assume that mid-single digits next year it's possible that, that number includes some bolt-on transactions, more tuck-in type transactions rather than a true organic number?

David Hoffmeister

No that's a true organic number.

Jon Wood - Jefferies & Company, Inc.

Okay. And then Greg, philosophically going forward that double-digit number in '12 and then out in the future, do you contemplate any capital redeployment in that number, is that effectively a EBITDA growth number?

Gregory Lucier

That is a EBITDA growth number.

Jon Wood - Jefferies & Company, Inc.

Okay. Last one for David, understanding your comments on the cash flow, why wouldn't free cash flow grow ahead of net income next year if there is restructuring charges that dissipate, if you will? So going from $100 million to some lower number, why doesn't that kind of drive free cash flow premium to net income?

David Hoffmeister

We could potentially.

Operator

Our next question comes from Dan Arias with UBS.

Daniel Arias - UBS Investment Bank

Just staying on the academic funding environment. You've said, and we've assumed, that those doing more cutting genomics work stand a better shot at seeing grant approvals in a pressurized funding environment. When you talk to customers right now, do they, at this moment, actually share this optimism or are they being as guarded as everyone else right now, just given the magnitude of the overriding issues?

Gregory Lucier

Mark and I can fric and frac on that, but clearly, they are being guarded. As somebody earlier said on the question, the stimulus is receding. It is very uncertain coming out of Washington any decisions and so people are being very guarded. At the same time, there is this underlying trend that there is more grants going to genetic research. And I would say that the Ion Torrent technology, which is incredibly economical versus these very hard expensive machines that we've seen in the first next-generation cycle are going to be tougher to purchase for these people, and so the Ion Torrent is really receptive to the moment, to the times.

Mark Stevenson

I would just add. It remains obviously a competitive granting process, and we see around the world that people want to get in published papers and just doing that work in thousands of labs around the world, you have now tools you and you can do a lot of genetic discovery with Ion sequencing and World Trade [ph] papers. So I think that's the trend that we're seeing that then draws funding into it and can create labs and getting money.

Daniel Arias - UBS Investment Bank

Okay. And then just on consumables pricing for the PGM. Those 314 chip was just reduced to under $100. Do you see ASPs following this pricing path as each chip is surpassed by a next-gen product?

Mark Stevenson

Yes, I mean we're really able to leverage the past semiconductors here. So as we come in with higher-performing chips, we were able to leverage the volume we get. The ASP follows the sort of pricing we're doing and just allow you to do more price per for the customer. As we look to further increase applications around that, you'll see some different ASPs on some of the future kits around this, but certainly we've seen good updates as the really 10x improvement that we're giving every 6 months to customers at the same price points. So the 316 giving customers a spec of 100 mega basis, they're actually getting more of that in their hands, and at the same price point that they were as of the 314 chips. So it's very well-received by our customers, and I think it will drive volume up with more applications.

Eileen Pattinson

Operator, we have time for one more question.

Operator

Our last question comes from Isaac Ro with Goldman Sachs.

Isaac Ro - Goldman Sachs Group Inc.

You talked a lot about the funding environment, recognizing it's very uncertain. But I just want to think about how we should look going forward on the sensitivity of your current guidance on marginal shifts, and the funding should in fact, the outlook be down in the U.S. going forward? And then maybe if you could add some color around how your assumptions differ domestically as well as maybe in the Western Europe?

David Hoffmeister

Well, as said earlier, our current guidance, our current outlook assumes essentially a flat funding environment. So in terms of what a downside case would be, I don't think we have that modeled in per se, and we'll have to see how this all plays out. In terms of Europe, we don't see any improvement happening there either. But we've resized the business there accordingly, as we indicated that the second quarter of last year, and it's kind of playing in line with what we had predicted at the second quarter in 2010. So I think the bottom line is just to reiterate, we see U.S. and Europe being about the same as it is in the second quarter. Our longer-term forecast is a flattish academic sector, but within that sector, we're seeing shift to this genetic research and given dollars are pressured, it's benefiting these kind of desktop sequencers that are very simple and low cost to use. So that's a little bit of what we can predict so far.

Isaac Ro - Goldman Sachs Group Inc.

I appreciate that. Just as a follow-up on China, you mentioned some of the transitions you're making operationally there. Can you maybe help us tease out where you think the normalized growth rate is for that market going forward? So that when you guys are back in a position to harvest the opportunity, we can get a sense of the relative change from what we saw this quarter?

Gregory Lucier

Yes, I think it's in the 20s percent, and we've certainly -- we did last year in 2010 and as we've gone through the first half of the year that changed our strategy. We haven't achieved that, but as I guided in the second half, we'll get closer to that again and in 2012, I think we'll be fully back online at the type of growth rate.

Eileen Pattinson

This concludes our second quarter earnings conference call. If there are additional questions, please feel free to contact me. The webcast will be available via a replay on our website for 3 weeks. Thank you again for joining us this morning.

Operator

Ladies and gentlemen, this does conclude today's conference. Thank you for your participation, and have a wonderful day.

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