St. Jude Medical Q3 2007 Earnings Call Transcript

Oct.18.07 | About: St. Jude (STJ)

St. Jude Medical, Inc. (NYSE:STJ)

Q3 2007 Earnings Call

October 18, 2007 9:00 am ET

Executives

Dan Starks - Chairman, President, and CEO

John Heinmiller - EVP and CFO

Eric Fain, President, Cardiac Rhythm Management Division

Mike Rousseau - President, U.S. Division

Joe McCullough - President, International Division

Analysts

Bob Hopkins - Lehman Brothers

Glenn Novarro - Banc America Securities

Glenn Reicin - Morgan Stanley

Rick Wise - Bear Stearns

Charles Han - Goldman Sachs

Joanne Wuensch - BMO Capital Market

Operator

Welcome to St. Jude Medical's Third Quarter 2007 EarningsConference Call. Hosting the call today is Mr. Dan Starks, Chairman, Presidentand Chief Executive Officer of St. Jude Medical.

This news release contains forward-looking statements withinthe meanings of the Private Securities Litigation Reform Act of 1995 thatinvolve risks and uncertainties. Such forward-looking statements include theexpectations, plans, and prospects for the company, including potential clinicalsuccesses, anticipated regulatory approvals and future product launches,projected revenues, margins, earnings and market shares.

The statements made by the company are based uponmanagement's current expectations and are subject to certain risks anduncertainties that could cause actual results to differ materially from thosedescribed in the forward-looking statements. These risks and uncertaintiesinclude market conditions and other factors beyond the company's control, andthe risk factors of other cautionary statements described in the company'sfilings with the SEC, including those described in the company's annual reporton Form 10-K, filed on February 28, 2007. See pages 13 to 20 and the quarterlyreport on Form 10-Q filed on August 9, 2007, see pages 26 to 29. The companydoes not intend to update these statements and undertakes no duty to any personto provide any such update under any circumstance.

At this time all participants have been placed in alisten-only mode and the floor will be open for your questions following thepresentation. It is now my pleasure to turn the floor over to Mr. Dan Starks.

Dan Starks

Thank you, Melissa and good morning everyone. Welcome to ourthird quarter 2007 earnings conference call. With me on the call today are JohnHeinmiller, Executive Vice President and Chief Financial Officer, Eric Fain,President of our Cardiac Rhythm Management Division, Mike Rousseau, Presidentof our U.S. Division, Joe McCullough, President of our International Division,and Angie Craig, Vice President of Corporate Relations.

I want to first ask John Heinmiller to conduct his normalreview of our third quarter results, along with his typical update for theentire St. Jude Medical business. I will then make a few comments and open itup for your questions.

As you listen to the guidance we provided for the fourth quarterof 2007, please keep in mind that this guidance does not take into account theimpact of Medtronic's recall of its Sprint Fidelis family of leads earlier thisweek. We know this event will impact our fourth quarter, but there are too manyunknowns for us to factor this late-breaking event into our guidance at thistime in a meaningful way.

And with that, let me turn it over to John Heinmiller. Goahead, John.

John Heinmiller

Thank you, Dan. Sales for the quarter totaled $927 million,up approximately 13% over the $821 million reported in the third quarter oflast year. Favorable currency translations versus last year's third quarterincreased this quarter's sales by about $20 million.

Earnings per share were $0.46 for the third quarter of 2007,a 21% increase over EPS of $0.38 in the third quarter of 2006.

Before we discuss our third quarter 2007 sales results byproduct category, with guidance for the remainder of 2007, let me comment onthe currency exchange rates we are currently using in our outlook for theremainder of 2007. The two main currencies influencing St. Jude's Medical'soperations are the Euro and the Yen. For the Euro, we are assuming each Eurowill translate into about $1.37 to $1.44. And for the Yen, we are assuming each114 yen to 118 yen will translate into $1.

Now, for the discussion of sales by product. For the thirdquarter, total cardiac rhythm management sales, which include revenue from bothour ICD and pacemaker product lines, were $588 million, up 13% from last year'sthird quarter. For the fourth quarter of 2007, we expect total cardiac rhythmmanagement product sales to be in the range of $570 million to $610 million.

For the full year 2007, we expect total CRM product sales tobe in the range of $2.300 billion to $2.340 billion, up approximately 12% to14% versus 2006. For the third quarter, ICD sales were $318 million, up 17%from last year's third quarter, and consistent with our previous guidance thatICD sales would be in the range of $305 million to $335 million this quarter.

US ICD sales were $222 million, up 13% from last year'sthird quarter. International ICD sales were $96 million, a 28% increase overthe third quarter of 2006, with $6 million of the increase due to favorableforeign currency translations.

For the fourth quarter of 2007, we expect St. Jude MedicalICD sales to be in the range of $310 million to $340 million. Given our fourthquarter ICD sales guidance, we now expect our full year 2007 ICD sales to beapproximately $1.257 billion to $1.287 billion.

For low-voltage device sales, for the third quarter totaled$270 million, up 9% from last year's third quarter, and at the high end of ourprevious guidance that pacemaker sales would be $255 million to $270 millionthis quarter.

In the United States pacemaker sales were $131 million, a7% increase compared with last year's third quarter. In our internationalmarkets, pacemaker sales were approximately $139 million, up 11% from the thirdquarter of 2006, including a $7 million increase due to favorable foreigncurrency translations.

For the fourth quarter of 2007, we expect total pacemakersales to be in the range of $260 million to $275 million, and we now expect ourfull year 2007 worldwide pacemaker sales to be in the range of $1.45 billion to$1.60 billion.

Atrial Fibrillation or AF product sales for the thirdquarter totaled $100 million, up 23% over the third quarter of last year, andconsistent with our guidance that AF product sales this quarter would be in therange of $93 million to $103 million.

For the fourth quarter of 2007, we expect AF product salesto be in the range of $100 million to $110 million, and we expect full year2007 AF product sales to be in the range of $393 million to $403 million.

Total sales of cardiovascular products for the third quarter2007 were $188 million, up 6% over the third quarter of 2006. As a reminder,products in the Cardiovascular division include mechanical and tissue heartvalves, Angio-Seal Vascular Closure, embolic protection, PFO closure and othercardiovascular devices.

Within this category of products, sales of vascular closureproducts in the third quarter of 2007 were $85 million, a 1% increase over thethird quarter of 2006. Sales of heart valve products in the third quarter of2007 were $68 million, a 6% increase over the third quarter of 2006. For thefourth quarter of 2007, we expect cardiovascular product sales to be in therange of $185 million to $200 million. And we expect full year 2007cardiovascular product sales to be in the range of $770 million to $785million.

Total sales of neuromodulation products in the third quarterof 2007 were $51 million, up 16% from the third quarter of 2006. For the fourthquarter of 2007, we expect sales of neuromodulation products to be in the rangeof $47 million to $52 million. And we expect full year 2007 neuromodulationsales up $198 million to $203 million.

The geographic breakdown of St. Jude Medical sales in thethird quarter of 2007 was 57% in the United States versus 43% outside the United States or OUS. And thiscompares to 58% US and 42% OUS in the third quarter of 2006.

A detailed geographic breakdown of this quarter's sales byproduct shows high voltage at $222 million US, $96 million OUS, low voltage at$131 million US, $139 million OUS, atrial fibrillation products at $46 millionUS and $54 million OUS, cardiovascular products at $83 million US and $105million OUS, and finally neuromodulation product sales at $44 million US and $7million OUS.

The gross profit margin in this quarter was 73.6%,representing a full percentage point of improvement over the third quarter of2006 and up three-tenths of a percentage point sequentially from the secondquarter of 2007. For the full year 2007, we continue to expect gross profitmargins to be in the range of 73% to 73.5%.

Our third quarter SG&A expenses were 36.4% of net salescompared to 35.4% in last year's third quarter, primarily reflecting theinvestments made in our U.S.field sales and sales support organizations and market development programsthat began in the second quarter of 2006.

In the second quarter of 2007, SG&A expenses as apercentage of net sales were 36.8%. We expect SG&A as a percentage of netsales to continue to drop slowly, as we leverage the expanded investments wemade in our sales and marketing programs in 2006 and in the first quarter of2007.

Research and development expenses in the third quarter of2007 were 12.6% of net sales, compared to 13.2% in the third quarter of 2006.For the full year 2007, we expect R&D expenses to be in the range of 12.5%to 13.0% of net sales, as we continue to balance delivering short-term results withthe right investments in long-term growth drivers.

Other expense was $8 million in the third quarter, and forthe fourth quarter of 2007 we expect the other income and expense line itemwill be a net expense of approximately $3 million to $5 million. For the fullyear 2007, we expect the other income and expense line item will result in anet expense totaling approximately $26 million to $28 million.

Year-to-date, our effective income tax rate was 27%, whichwe anticipate will approximate the effective rate for the full year of 2007.

Moving on to the balance sheet, at the end of September2007, we had $90 million in cash and cash equivalents, and $1.414 billion intotal debt. The outstanding debt on our balance sheet includes $1.2 billion of1.2% senior convertible debentures are issued during the second quarter of2007, $28 million of outstanding commercial paper borrowings, and $181 millionof notes issued in Japan, which are due in 2010 and bear interest at a fixedrate of 1%.

Next, I want to offer some comments regarding our EPSoutlook for the fourth quarter and the full year 2007. In preparing our EPSguidance we have assumed that in the fourth quarter of 2007 the share countused in our fully diluted EPS calculation will be about $352 million to $354million shares, with the weighted average outstanding shares for the full year2007 also at $352 million to $354 million range.

The company expects consolidated EPS for the fourth quarterto be in the range of $0.47 to $0.48, and for the full 2007 we now expect theconsolidated EPS to be in the range of $1.78 to $1.79.

Now, I'd like to turn it back to Dan Starks.

Dan Starks

Thank you, John. As we mentioned in our press release thismorning, our third quarter results reinforce our confidence that we will enter2008 well positioned to deliver earnings per share growth of at least 15%.Although, we will not be in a position to offer our guidance for 2008 untilnext quarter in accordance with a normal schedule, I would like to expand onthe reasons for our confidence.

First, we expect to continue to take share in the ICD marketduring 2008 due to new people, new products and new customers. With respect tonew people, the initiative we completed earlier this year to expand our U.S.field sales and support organization by approximately 450 people will fully impactour market share in 2008 for the first time due to the lapse of non-competerestrictions, the completion of training programs and the start-up lag timeinherent in normal selling cycles.

With respect to new products, we are on track with the USand European launch of our current RF and Promote RF families of ICDs beginningat the upcoming AHA Scientific Sessions later this quarter and we expectanother strong flow of new ICD and pacemaker products throughout 2008.

With respect to new customers we continue to expand ourcustomer base in 2007 with first implants in new ICD accounts, growth of ourpacemaker market share and success in our ICD and pacemaker customer contractand program. Taking together, we expect these new people, new products, and newcustomers to make 2008 the eight year in a row which St. Jude Medical gains ICDmarket share and put us that much closer to our multi-year goal of achievingabout a one-third share of the global ICD and pacemaker markets.

A second reason we are confident about our growth prospectsfor 2008 is that we expect the global ICD market to continue to grow at anupper single-digit rate. Now, that all of the numbers are in for last quarter,we can confirm that the global ICD market grew about 7% on a year-over-year basisduring the second quarter of this year.

For our internal planning purposes as we look forward tonext year, we assume that the global ICD market will continue to grow at aboutthe same rate, combining single-digit growth in the US ICD market with double-digitgrowth in the international ICD market.

A third reason, we are optimistic about our growth goals for2008 is that we expect strong contribution to earnings per share growth fromproductivity gains. As we outlined in our Annual Investors' Conference earlierthis year, we expect to improve our net profit margin approximately five pointsover the five years beginning in the second half of 2007.

Our third quarter result show that we already are off to agood start with an 80 basis point improvement in net earnings as a percent ofsales over sequential quarters. Although, this clearly represents meaningfulimprovement, we caution that just as with revenue and market share metrics,productivity gains will not be linear and that it would be more meaningful tomeasure productivity over periods longer than a single quarter.

A fourth reason, we are excited about our growth opportunitylooking forward to 2008 and beyond is that our growth programs in atrialfibrillation, neuromodulation and stented tissue valves all are on track for2008. We expect revenue in each of these programs to continue growing atencouraging double-digit rates and become increasingly important to our growthprofile longer-term.

Before we open it up for questions, let me make two additionalpoints. First, the guidance we've offered this morning for the remainder ofthis year, reflects the strength we are seeing across all our businesses,including Cardiac Rhythm Management, Atrial Fibrillation, Neuromodulation andportions of our Cardiovascular business. As I mentioned previously, weformulated this guidance before Medtronic issued an advisory toward primaryfamily of high voltage leads earlier this week.

Second, St. Jude Medical is being asked whether we thinkMedtronic's advisory will impact long-term ICD market growth or create ameaningful shift of ICD market share. We think it is too soon to answer thesequestions. Experience has taught us how hard it is to predict what theconsequences will be when another company issues a product advisory. Wetherefore are staying focused on executing St. Jude Medical's long-term growthprogram across all of our product platforms and fully leveraging ourfundamental competitive advantages. We think it will take several quarters forthe long-term implications of Medtronic's product advisory to become clear.

With that, I would like to turn the call back to ourmoderator and open it up for questions. Melissa will you please post thequestions?

Question-and-AnswerSession

Operator

Certainly. (Operator Instructions). The floor is now openfor questions. Thank you. Our first question is coming from Bob Hopkins withLehman Brothers. Please go ahead.

Bob Hopkins - LehmanBrothers

Hi, and thank you for taking the question. First one is Icame a little late here, but just doing the math, it looks like you arelowering your full year ICD guidance by about $20 million to $30 million. And Iwas wondering if you could just comment on the reason why.

Dan Starks

We expect sequential quarter increase in our ICD sales on acore business basis, Bob. We see the core growth in the ICD market a little bitslower in the second half of this year than we previously anticipated. Moreimportantly, however, I think when we look forward to what is going to happennow in the fourth quarter of this year, we do expect really a very meaningfulimpact from the recall earlier this week of a competitive high voltage lead.And so, I think that all of us are going to need to recalibrate what do wethink is going to happen in Q4 now. We need to do that. Everybody else,clearly, is going to need to do that. We thought the most helpful thing wecould do this morning is show people the condition of our core business innormal circumstances, and then let everybody else figure out what adjustmentsmake sense in the same way that we're now going to do that on an internal basishere at St. Jude Medical.

Bob Hopkins - LehmanBrothers

But in essence is it the right read that you're being alittle more cautious in your guidance for Q4 on the ICD line because of therecall?

Dan Starks

No.

Bob Hopkins - LehmanBrothers

So that $30 million that's coming out of your guidance isdue to something else, just a broader slowdown that you are seeing away fromthe Medtronic issue?

Dan Starks

That's right.

Bob Hopkins - LehmanBrothers

Okay. And then have you seen anything in terms of yourconversations with doctors over the last couple of days that would indicateanything relative to the market?

Dan Starks

Well, we have. Bob, we are going adhere to our normalcommunications discipline and not talk about intra-quarter events. Thismorning, even though, I appreciate that there is strong appetite for that, andI appreciate its all for very good reasons. But, we think that this is avolatile situation. It's only just risen here on Monday. Our primary concern isto behave responsibly, take the high role, stand back, let physicians take careof their patient’s, it’s not the right time for St. Jude Medical to be runningin front of customers who really appropriately are paying attention to patientsand answering patient’s questions now that this recall has been announced.

And so it will take some time for us really to sort throughthis. And you know, as I am sure others appreciate, the last time we had thiskind of circumstance with meaningful recall from a competitive organization, itreally did create poor visibility in the short-term, and it did create a lot ofvolatility in the short-term. So, we expect less visibility, more volatility inthe short-term here in the fourth quarter, in the first quarter of next year.So, we'll work to make adjustments starting with the core business case thatwe've communicated this morning. But, we again think it be a little lessvisible and little more volatile.

Bob Hopkins - LehmanBrothers

Last question, I have is just on the sub 7 press releasethat you offer into the market place, one what percentage of your release are sub-7French of the Riata that are sold today? And secondly, how confident are youare that with your thinner lead that you don't have any fracture rates that arehigher than what you see with your normal leads?

Dan Starks

We are very confident about them. The question that you haveasked is exactly the first question that we always ask anytime another companyissues are recalled. That absolutely the first thing we say, okay, is thissomething that could be problem for us. What do we know about the payermechanism? What do we know about the design? How does that compare to any ofour products? Is there something here to that we have overlooked, that we needto be more alert to? And here also we've certainly done that in the case of theFidelis recall from Medtronic.

One thing here with respect to Fidelis is that, although weonly have known of the recall itself since Monday, we have been aware of theconcerned surrounding of the Fidelis rate of facture for some time, bothbecause of Medtronic's own letter in March of 2007, and also because of Dr. Hauserletter in Heart Rhythm Journal in July of 2007. So, just as Medtronic has andjust as other stakeholders have, we have been very focused on working tounderstand what the vulnerabilities of the Medtronic design are, what theirfailure mechanism is, is that something and whether that's something thatpotentially be a problem for our Riata line of products, and we are confidentthat it is not.

And to elaborate on that little bit, let me just go back tothe way that we even started to think about Riata family of leads when wedesigned it right on the first day. Part of our design process is to evaluatethe top causes of failure in our current generation devices, and then work thedesign improvements to get at and reduce the level of failure that we haveidentified in any current product families.

And so we did that with Riata in the same way that we havedone that with each of our ICD families, and each of our pacer family. Thepredecessor to our Riata family of high-voltage leads was our SPL family ofhigh-voltage leads, and before that it was our TDL family of high-voltageleads. You will see in the data that our SPL family of high-voltage leadsshowed improved reliability over a prior generation. And our goal then was tolook at, even though the SPL family of high-voltage leads has very good reliability,what are the most frequent failures in that product line, and what can we do toreduce those failures in our next generation of Riata family of leads.

The most frequent failure in that SPL family of leads,although, it was a low a level of failure, was occasional facture. So, as welook at the Riata family of leads, one of our primary design goals was to makeimprovement in the Riata family of leads that would reduce the opportunity foroccasional lead fractures. And so, we have a very high confidence that we'veaccomplished that here with our Riata family.

If you compare a cross-section of our Riata lead with thecross-section of the Fidelis lead, you'll see that they are very fundamentallydifferent design concepts. You'll see in Medtronic's own letter here andpreviously before they announced their recall they were busy telling customersthat our design was really very different from their design, and clearly it is.Our conductor coil is centered; it is surrounded by six protective cables. Wedesigned in redundant pacing and sensing, cable conductors. We maintained clearcompression lumens. We have a different coil design. When you look at across-section of the Fidelis lead you'll see that center conductor is offcenter, it's out toward the edge of the lead. You'll see that it's surroundedby no protective cables. It doesn’t have the redundancy in pacing and sensingcable conductors that we have. You'll noticed that as you compared to their Quattrothey took two compression lumens out that are really very clearly visible inthe Quattro cross-section.

And then probably most importantly, we have a very differentconnection technology with our conduction cables that to the electrodes and atthe proximal end of the lead we use a crimp and weld technique, which is along-standing, proven reliable technology and absolutely mandatory component ofour design criteria, the informed observers will determine that in the Fidelisdesign Medtronic for some reason departed from what they had done previouslywith a crimp and weld technique, and went to a bare spot weld right against thefilers of the conductor cable. So, there are profound differences that give usa very high confidence that we are Riata family of leads is very reliable, verydifferent from Fidelis, and not susceptible to the same mechanism of that hasunderlay the problems that Medtronic has experience.

And the proof that only as a person would compare whathappened in the initial design of the devices, and then what was the thinkingbehind the initial design of the devices? What were their priorities, as alwaysdevelopment groups have to make trade-offs when they choose this element ofdesign versus that element of design. Our trade-offs were focus especially onlead reliability and especially on reducing the opportunity for lead fracture.One of the consequences of that is that we have had physicians in the past theywere Fidelis lead is more flexible and they would like the fact that it is moreflexible. But, what we thought was that reliability was more important thanthat degree of flexibility, and with hindsight now we'll be tremendouslyvindicated.

As we look at with our clinical experiences with our Riatafamily of leads, we are again very encouraged as we look at our internal dataas of September 30, 2007 our documents reflect registered as implanted in theUnited States 121,220 Riata leads. Out of that cohort of registered implants inthe US, we see on a returned, analyzed and confirmed basis total of 13 facturesfrom all causes are about 20 times lower incidents are facture than Medtronicreports in their physician advisory earlier this week.

If you look at only the 7 French version of that samedatabase, our documents reflect 34,937, 7 French Riata leads with only a totalof two factors from all causes in that experience. So, that is consistent withwhat we would expect to see and then I would further look at, we are going toupdate our lead performance report here. A week from tomorrow we will publishour updated performance report that will show on the Riata family the 8 Frenchversions at 30 months viability at 99.3% out of approximately 82,000 leads, andthat compares to at 30 months 99.1% viability reported by Quattro. And as youwould compare that to their Fidelis data at 30 months it compares to their97.7%, so all of this is consistent.

Our design is robust; it was intended to be robust. We airedon the side of reliability and the lead design. We have factored in redundancyand the design; we have done that in our Promote and Current family of ICDs. Wehave done that across our Unity family of the devices that we are so muchlooking forward to getting out into the field here over these next few years.It's really what we expect to have become the trademark of St. Jude Medical,our focus on safety and reliability of our devices.

Bob Hopkins - LehmanBrothers

Dan, thank you very much for the details.

Dan Starks

Welcome.

Operator

Thank you. Your next question is coming from Glenn Novarrowith Banc of America Securities. Please go ahead.

Glenn Novarro - Banc AmericaSecurities

Thanks. Good morning, Dan. I am wondering if we can justtouch briefly on the Japanmarket, because there is an incidence where Medtronic is going to be off themarket for let's call it several quarters. So, can you talk about what positionyou are in Japanto fill that void left behind by Medtronic? And what products you haveavailable, sales force? Do you have the ability from a capacity point of viewto even fill that market in Japanthat's behind? Thanks.

Dan Starks

Our answers are all positive, Glenn, to each component ofwhat you think about with respect to Japan. We have plenty of inventory,we are fully on the market. We now have several quarters of experience in ourfield organization, and we are prepared to step in and support customers to thefullest. As a person thinks about just the production and capacity and supply,you'll notice that our inventory is really very nicely built for growth. We'veincreased our inventory gradually here over this last number of quarters. Weproduce high-voltage leads at multiple sites. We have had our site set on substantivegain of market share and a growing ICD market. We've again placed a highpriority on being sure that we did not hold ourselves back from being as successfulas possible, so we're very nicely positioned to step in wherever we can be mosthelpful to customers in Japan, as well as in any other markets with goodproduct supply already out in the field with good production capacity of thatwe put in place anticipating our continued growth, and so we are good to go.

With respect to Japanin particular, let me ask President of our International Division, JoeMcCullough to comment further, what would you like to add with respect to Japan,maybe just starting with our view of the size of the Japan ICD market in aroundnumbers?

Joe McCullough

Sure. As we've said before we expect the total high voltagemarket in Japanto be around $200 million. I would like to just go back a little bit, and goover a little bit of history first, and that would answer why we are fullyprepare to be extremely competitive in the marketplace no matter what presents.As everybody knows, we bought Getz Brothers a number of years ago. And withGetz Brothers they have been selling our complete portfolio, our CRM portfoliofor sometime. We have a very nice large market share in Japan on our lowvoltage technology, and we have a very broad and confident and well trained CRMsales force in Japan that stretches and covers every part of Japan completely,and it has been historically for a number of years, and since we have acquireddebts and have our own direct St. Jude Medical, Japan organization. We havecontinued to build and improve on that very competitive sales force.

A number of quarters ago, I think it was last year, weintroduced our high voltage technology with the well trained sales force andthey are very competitive, and we have continued to gradually gain market sharein our high voltage program, because physicians continue to increased theirsupport of our rhythm management program. And as you know, we just introduced theCRT-D technology in Japan,and this launch will occur over a number of quarters going forward. And what Imean by that, as you well know we as well as the other manufacturers have beenasked by the Japanese regulatory authorities to conduct post-marketsurveillance studies, which we are doing. And we have a quite a few, and Iwon't go into the details of the number of accounts that have IRB approval toparticipate in that clinical studies, and the number of centers continue to addand starting next quarter and multiple quarters after that we'll continue tointroduce new technology into the Japanese market.

So, we are very confident that we will continue gain CRT-Dand traditional high voltage in Japan.What physicians have already told us and I was there just a moth or so ago, aboutour CRT-D technology is they appreciate the high voltage technology or the highoutput technology. They appreciate the Quick Site lead, because it'spositioning capability and its proven long-term stability. And over thequarters physicians have appreciated the value of our high voltage leadtechnology. So, we continue to receive very positive remarks from our customerabout our technology, and the level of service we are able to provide.Simultaneously, though, we've been continuing as others to train physicians on left-heartlead procedures and continue to train the sales force. So, we are fullyprepared to continue to gain market share in the high voltage arena.

Glenn Novarro - Banc AmericaSecurities

Okay. Great, thanks guys.

Operator

Thank you. Your next question is coming from Glenn Reicinwith Morgan Stanley. Please go ahead.

Glenn Reicin - MorganStanley

Good morning folks.

Dan Starks

Good morning.

Glenn Reicin - MorganStanley

Two questions; just really follow-ups here. Can you justremind if exactly whether you are abiding by the [Meyer Burke] recommendationswith respect to third-party review when you talk about quality? And just canyou give us little bit more assurance on Riata?

And then second, Dan, if you can talk a little bit about thesales force? Is there anyway to help quantify sort of where you are at in termsof the productivity of the new reps. Maybe talk a little bit about new accountsopened or if you can tell us what percentage of the reps are not productive, ifyou can give us any sort of color there as to what the impact was in the thirdquarter versus the second, and sort of what the step-up is in the fourthquarter or first quarter in next year?

Dan Starks

Sure. On the first part of your question, Glenn, let merefer your question to President of our Cardiac Rhythm Management Division,Eric Fain and ask Eric, if you would like to comment on that?

Eric Fain

Sure. We are following the HRS recommendations. One of thebig things that came out of that was on the topic of having medical AdvisoryBoard Review of our data. We do that systematically ahead of our productperformance reports being published. We've recently had both on the device, sowe've established separate MABs for devices and leads. We have had meetingsrecently for both of those and they reviewed our data and will be reflected inour product performance report that will be published in the end next week.

Glenn Reicin - MorganStanley

Excellent.

Dan Starks

And then, on the question of sales force productivity, I'msure we won't give you the granularity that you'd like Glenn. But, let me referyour question to President of our U.S. Division, Mike Rousseau. Mike, how much insightare you prepared to offer on the topic of productivity of our expanded salesorganization?

Mike Rousseau

Well, Glenn, as you know, we will anniversary the '06 hires hereas we conclude Q4. They were now fully trained. We will be through the vastmajority of the non-compete period. The reps are going back into accounts, andentering what I would call a new selling cycle, where they are introducing ourtechnology looking to get it into the rotation. So, we have high confidencethat we'll start to see productivity increase as we work away into '08 andbeyond. So, I would characterize it as being on track.

Glenn Reicin - MorganStanley

And so Mike, let me just push you a little bit. I think lastquarter you are unwilling to give us a number on the percent of reps that hadnon-competes. If I am wrong you are welcome to offer it up as to what thatnumber was in the second quarter and compare that with the third? If you areunwilling to do that, if we take the number of reps that were under non-competein the second quarter, what percent of those have been freed up in the thirdquarter? And what percent it will be freed up in the fourth?

Dan Starks

Let me jump in. And I don't remember exact numbers, butdirectionally we can be pretty responsive. So, and again, I know that you havegood data on this and kind of good documents reflecting our priorcommunications. Not everybody in the call does, so bare with me just to giveeverybody just a reminder on how we ramped up the expansion of our field.

We started the initiative in the second quarter of 2006, andso that was small contribution in expanding our numbers there in the secondquarter of 2006. The biggest number, the biggest addition of headcount in asingle quarter in that initiative was in the third quarter of 2006. Then, wehad another good number, but smaller expansion of headcount in the fourthquarter of 2006. And then, smaller again tapered off in the first quarter of2007. So, it was really a bell curve with the third and fourth quarters beingwhere we added majority of our people.

As I recall out of that total 450, as I recall in roundnumbers it seems like something in the ballpark of about 180 of them wereexperienced reps. So, when you take out the ones that were not experiencedreps, and then appreciate that, that a number of those had to be involved intraining programs and they would be like new employees, some of them would havesome interesting clinical experience, others would be, we even hired people freshout of by medical engineering school. And so the ramp up on productivity ofthose people would be across the board depending on what the specialty was,depending what the background was.

But if you come into the 180 or so experienced reps, most ofthem had non-competes, they didn't all, but most of them had non-competes. Andthen typically it was a probably almost always a one year. So, there wasn'tmuch, there weren't many, I won't give you the exact numbers, I don't actuallyhave in front of me. But, there weren't that many people who came offnon-competes in the second quarter. The biggest numbers came off non-competesin the third quarter here of 2007. And so, remember now that just gives themthe ability to reengage, and thus now they need to start on the working througha normal selling cycle process. And then in lot of cases there are contractsthat are in place they are part of that normal selling cycle process. So, thatreally makes it a far more of 2008 impact. You do get the one-offs that arereally the exception where somebody is immediately productive.

We've got some of that last year with people who did nothave non-competes and we will get some of we have got and some of that thisyear as people have reengaged in the field. But, for the most part you wouldexpect to see, not now in the fourth quarter a number of people starting toreengage and in the first quarter of next year another second largest number ofpeople starting to reengage. And then during 2008 really seeing the impact of thosepeople back in front of their customers with the full product line, workingthrough contract issues, working to get people acquainted with the technologythat they, some of them have never used before and get comfortable with a smallvolume at the front end and then work to expand that into increasing volume.So, I didn't answer your question exactly, but directionally it's that kind ofa slope for growth and for return on investment in the expansion of our fieldorganization.

Glenn Reicin - MorganStanley

That's very helpful. And just anecdotally, have you beenhearing anything about the impact of having a year-off on these reps?

Dan Starks

Well, I mean, there is a typical experience, which is againincorporated into the comments that I've made to you. So, we took advantage ofthe year with experienced people to provide training were appropriate, and soit wasn't total lag times, sometimes there were other things that people coulddo productively that were permitted on to the non-competent and thinnerbusiness circumstances. But for the most part that year-off means that oncethey reengage, its not a question of how sharper they are in their expertise,its really a question of, okay, they're really now starting the selling cycle.There is a relationship in place to support the kind of process of that sellingcycle, but its still starting a selling cycle and so it's just a typicalexperience. I don't think we've seen anything unusual with this cohort anddon't expect to see anything unusual with this cohort versus our experienceover the last 10 and 20 years with similar kinds of processes.

Glenn Reicin - MorganStanley

Thank you very much.

Dan Starks

Welcome.

Operator

Thank you. Your next question is coming from Rick Wise withBear Stearns. Please go ahead.

Rick Wise - BearStearns

Good morning.

Dan Starks

Good morning.

Rick Wise - BearStearns

Let me start with just a follow-up to your comments on thesounding, it sounds like quite profound design differences and performance ofthe Riata lead. Dan, a lot of people are confused by the MOD database whichseemingly has a lot of reports on Riata. Can you help people understand how torelate those numbers in MOD to the numbers you are giving us just conceptually?Thanks.

Dan Starks

Sure, I will ask Eric Fain to do it actually. But just letme kick it off a little bit before I defer to the expert on it. Keep in mindRick, as I know you would keep in mind, but everyone also keep in mind whenthey look at the MOD database, that's a whole hodgepodge, all kinds of events.There is a lot of redundancy there. I'll see someone as Eric Fain as he isregularly keeping me informed on these kinds on things. But, it includes aninitial reports, follow-up reports, manufacturer reports, user reports all on asame event. It's a statement of claims too. You are airing the side of, ifthere is possibility that something not be recorded and then you go ahead andrecord it. So, a number of those claims and reports that would be reflected inthe MOD database would be benign. So, there is just a whole a lot of differentthings that are captured in the MOD database. It's really very non-specific.

The best source of data, I think for an observer would bethe product performance reports. Again this product performance reports areprecise, they are rigorous, they eliminate the kind of the noise, and they arereviewed by our independent physician panel. So, I think the MON can be more ofdistraction than anything. It's useful to raise a question. It's not useful toanswer the question. So, one ought to answer the question using by production performancereport data that is completely documented with all the engineering quality,regulatory support appropriate and with the oversight of independent physicianpanel as well. So, I've stepped on Eric's toes a little bit, same things I knowhe would say. But, let me ask Eric if you would add more to people that look atthe MOD database and are working to understand what it means and what it doesn'tmean.

Eric Fain

Sure, I think Dan summed it up nicely. The other commentsI'd make Rick are also that, remember that the coding of these things is doneat different times in the process and when the complaint comes in things arenot as known, obviously, as they are at with the final analysis and then youare also reliant on what people choose to put in for reasons with the initialcomplaints and so no. But, I can tell you that we obviously have gone back anddone a rigorous review of our experience with the Riata lead, the data that Danmentioned previously is supported by that review. And we are comfortable withthat data is reflected accurately in our product performance report, and again,there will be an update on that at the end of the next week.

Rick Wise - BearStearns

Thanks Eric. Couple of follow-ups, Dan I've heard from severalphysicians I have spoken to post the Medtronic issue that there is likely to bemore emphasis going forward, even more emphasis going forward on remote accessand patient monitoring. I know you've lost your wireless ICD. Can you update uson how that's likely to impact St. Jude? And are you relatively disadvantagedfrom what at least some doctors are saying just that with Medtronic and Bostona little further ahead of you from our product point of view? Thanks.

Dan Starks

Let me, rather than giving my own comments, let me ask thepeople that are closer to the customers to comment. Let me ask President of ourU.S. Division, Mike Rousseau to comment first as this is a set of issues thatMike and his leadership team focus on, on a regular basis. What would you sayto answer Rick's question?

Mike Rousseau

Rick, as you know, we launched Merlin.net that allowed us toget and position ourselves in the market relative to remote follow-up and thatwas coming off with House call, which was the original remote follow-up forICDs for us to market actually. As we move forward with Current and Promote, wewill enter the RX space and be compatible sometime in the first half of '08, Imean, not wanting to make an estimate of when the FDA will give us certainsoftware approvals. But, we are confident in the first half as criteria. Oncethere, and remember there is lag between implant and when a physician willbegin to use the follow-up, we will, I think at that point actually move into aleadership position based on the fact that we are a open platform and we arethe easiest platform to move to the EMR space. And that will be the nextcritical factor in how we are going to follow patients and that's being able tobe seamlessly visible in electronic medical record. So, that's the productlayout, and all products moving forward will be supported by that system.

Rick Wise - BearStearns

And so, you don't expect it to be relatively disadvantage in'08 if there is some sort of more aggressive push in that direction?

Mike Rousseau

I think our timing would end up being, I would characterize itis just in time.

Rick Wise - BearStearns

Thanks so much.

Operator

Thank you. Your next question is coming from Charles Hollandwith Goldman Sachs. Please go ahead.

Charles Holland -Goldman Sachs

Good morning. Thanks for taking the question. Just twoquestions, first one is a quick follow-up on the question on Japan. And I am sorry if I missthis before, but what is the word on being able to mix and match Bes and cans outthere. Are there any legal considerations that we should take into account?

Dan Starks

Now, let me just kind of say, I actually whenever I get to askthe question or whenever we get to ask to question on legal considerations, Iam always careful to differ. So, I don't want to have any of us walk youthrough a legal opinion on Japan Law, and so I will duck that little bit. But,let me ask President of our International Division Joe McCullough to talk aboutwhat our experiences in the field with mix and matching in Japan on the ICD side in? What wethink the environment is there?

Joe McCullough

Normally physicians have not wanted to mix and match theleads with the devices, and I can't tell you what to expect in the future,because historically it happen somewhat to be very small percentage of thetime. So, I can't tell you what to expect in the future, that's just been theircultural bias for many, many years.

Charles Holland -Goldman Sachs

Okay. Thanks a lot of Joe. And actually just to continue onthe international front. ICD sales outside the US saw some moderation in growth onwhat seems to be the easiest year-over-year comparison in 2007. Is thereanything to read into there? Could you just talk to what the trends are outsidethe USand if there is in back something that we are not seeing?

Dan Starks

Charles, I don't think that one ought to read too much intoany of the third quarter data. We have always cautioned people that whether thequarter data, regardless of what the view of the quarter data is that it's anawfully short period time and that there is so much that goes on timing wisewith respect to the both just the number of procedures and the way that daysfall and the way the orders fall that it really means a lot more to combine theresults of sequential quarters.

I think a six month period of time really is lot moremeaningful than our 90 day period of time. And we've just seen that again andagain. Over this last three years in particular that's become our mantra, iswhen we have a really strong quarter don't go nuts, when you have a weakquarter don't lose any sleep. That you really look at the trends across twoquarters in a row, there is lumpiness across different companies, the lumpinessdoesn't match quarters. There is so much that it will happen in the volume, in someof these high volume centers that will change the procedure of volume that theyhave it falling to one quarter versus another quarter. There are so manydifferent things that happen. Nobody would look at daily sales, so I think wegot something interesting and I appreciate, I am exaggerating to make the point.But, with a quarter sales it's a little bit more of the same than one wouldappreciate.

So, I ought to say don't read too much in other quarter. Themain thing I think in Q3 on the year-over-year basis it matched forseasonality, but the main thing in Q3 is the seasonality just across the boardall product lines, procedures seemed to be a little bit light everywhere. But,we expect to see, I think more importantly as you see, yeah, but going forwardnow what do we extrapolate. We expect healthy ICD market growth ininternational markets in 2008. Everything seems lined up nicely. The increase,the expansion of physicians that are trained in the business of providing ICDtherapy to people continues to build in all of these are emerging internationalmarkets that are increasingly important. Reimbursement continues. We don't seemajor differences in 2008 on the reimbursement side. So, I think you'll seeeverything just continue to go on pretty nicely in international markets withrespect to ICDs, that's our expectation. We expect encouraging double-digitgrowth in international ICD markets for 2008.

Charles Holland -Goldman Sachs

Okay. Fair enough. I just wanted to make sure there wasnothing fundamental out there. Thank you.

Dan Starks

You're welcome. Melissa, maybe I would take one lastquestion.

Operator

Thank you. Your last question is coming from Joanne Wuenschwith BMO Capital Market. Please go ahead.

Joanne Wuensch - BMOCapital Market

Thank you very much. To add some difference, can we pleasetalk about what's happening in your Brady sales line? Its growing faster than Iwould have expected and I'm curios what do you think the sustainability is ofhigh single-digit worldwide growth rate is? What do you think the market isgrowing at and who you think are taking your share from?

Dan Starks

All good question, Joanne. I will confess in advance that wewon't answer them precisely, but we'll do our best to partly respond to it. Youraised a great point here on pacing side and it really juxtapose with the ICDdynamics. So, if we back to a year ago or somewhere earlier this year, we beganto provide our guidance really emphasizing the expectations of pacing and ICDscombined. And if we appreciate that's not the convention, we didn't start downthis path attending to annoy anybody. We started down the path, because wewanted to start to provide the thinking that the rate of growth in the ICDmarket and the rate of growth in the pacing market interrelate and also thatshare trends interrelates. That's been our experience for fundamental reasons,it make sense to us and it's our experience.

So, we provide our guidance, we still give thedifferentiation, but we really think that the more meaningful guidance is, whatdo we think combined pacing and ICD sales are going to be? And what about thekind of combined market opportunity, blending growth rates on pacemakers withgrowth rates on ICD. And so, this quarter is a perfect example. We are up atthe high-end of the pacing guidance, we are not at the high-end of the ICDguidance, and that's not coincidence. The pacing market was a little bitstronger. There are patients that could have got an ICDs, they have got pacersinstead. You'll see our presence on the pacing side and the way we werecapturing those sales reflects, they does reflects the productivity andreflects to the effectiveness of our field organizations that we're, so manytimes these are exactly the same physicians, exactly the same implant centers,exactly the same field organization. We are in there for whichever proceduresthey are going to do, and if it's ICD procedures you are going to see may be alittle weaker pacing sales from us and stronger ICD sales. If it's pacingproducers you are going to see stronger pacing sales over what weaker ICDsales, which is what you saw now this quarter. So, that you are right thatthat's the flip side of what could we see on the ICD side. That will we expectstrength in pacing trends when we see a little bit weakness in ICD trends, butbig picture over time we expect the share trend to go along somewhat togetherand pacing and ICD. But what do we expect specifically for 2008, we will giveour guidance next quarter and we are not yet prepare to do it today.

Joanne Wuensch - BMOCapital Market

Okay, thank you very much.

Dan Starks

You're welcome and we’ve gone for over hour and now I'd liketo thank everybody for participating and joining us this morning and turn itover to our moderator Melissa for concluding comments.

Operator

Thank you. Today's call is being recorded and will beavailable for a replay beginning at 12 pm Eastern Standard Time. The dial-innumbers are for US 877-519-4471 and International 973-341-3080, and enter thepin number 9218664. Thank you, this does conclude today's teleconference.Please disconnect your lines at this time and have a wonderful day.

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