Fresenius Medical Care AG & Co. KgaA Q3 2007 Earnings Call Transcript

Nov. 1.07 | About: Fresenius Medical (FMS)

Fresenius Medical Care AG & Co. KGaA (NYSE:FMS)

Q3 2007 Earnings Call

October 31, 2007, 10:15 AM ET

Executives

Oliver Maier - Sr. VP IR

Dr. Ben Lipps - CEO and Chairman

Lawrence A. Rosen - CFO

Analysts

Andreas Schmidt - Merrill Lynch

Holger Blum - Deutsche Bank

Martin Wales - UBS

Ilan Chaitowitz - Redburn Partners

Jack Scannell - Stanford Bernstein

Thomas Jones - JPMorgan

Hans Boström - Goldman Sachs

Oliver Maier - Senior Vice President Investor Relations

I think we can start to stick with the schedule. Good afternoon, good morning ladies and gentlemen and the audience as well as everybody who are joining us on the web. Thank you for joining us for Fresenius Medical Care's meeting today which will cover our Q3 and nine months 2007 results and achievements. By now you should have received all the respective material.

With us today as Fred [ph] mentioned at the beginning is Ben Lipps, our Chief Executive Officer, Fresenius Medical Care who will give you a business update on Q3 and the first nine months of Fresenius Medical Care, and Larry Rosen, our Chief Financial Officer who will brief you in more detail on the results for Q3 and the nine months.

As my duty I would like to comment on the Safe Harbor statement. As you can see the same applies actually as you've seen before. The presentation includes certain forward-looking statements. Actual results could differ materially from those included in the forward-looking statements due to various risk factors and uncertainties. All the risks factors and uncertainties are described in detail in the SEC flings and the filings with the Deutsche Börse. So, please have a look at it.

In compliance, as in the past with Section 401 of Sarbanes-Oxley, we have provided a reconciliation for any non-US GAAP measure that we utilize. So, please make use of the reconciliations which we provided.

So, that's it from my end. Ben, so let met turn it over to you for the presentation. Thank you.

Dr. Ben Lipps - Chief Executive Officer and Chairman

Thank you, Oliver. It is a pleasure to be here. I'd like to extend a warm welcome to everyone joining us here today. Our employees and associates around the world and those who have joined us on the Internet.

As you see from the financial statements for the third quarter we are very proud of and pleased with our results in the third quarter and for the nine months year-to-date. Our operating progress has continued. What I will cover today is the business update, Larry will cover the financials and the outlook and then we will open for question and answers.

Again before I start, I would like to thank the management board, all of our employees and associates for their continued dedication to producing the best quality products and services on a worldwide basis.

Also as I start here I would like to give you a little view of our footprint. You can see on the top of the slide that we produced our products in all of the three major businesses that we are... regions that we are in, North America, Europe and Asia-Pacific. This is particularly important to us because of the currency movements around the world and also because of our activities in those areas we tailor the products for the individual reimbursement or needs in those areas.

Now as you look at the bottom of the slide, you will see that we treat about 172,000 patients today on a worldwide basis. This is in 2,200 clinics. However, we also manage another 73 clinics and treat almost 175,000 patients on a worldwide basis. That means we treat about 175,000, we produced and sold products another 500,000. So it's very important that we continue to focus on our quality and our quality systems because we clearly provide life saving products to over 700000 dialysis patients on a worldwide basis.

Also we are very proud of the fact that we have now the leading position in each one of the areas in our patient care, areas of the world, regions of the world, the U.S., Latin America, Europe and also now Asia-Pacific where we treat about 11,000 patients.

Looking now at third quarter, clearly we continue to have strong momentum and earnings growth. Larry will talk about the actual details here. Our revenue growth was 9% in actual currency, 6% in constant currency and our earnings net income grew by about 27%. We are clearly on track to achieve or exceed the top end of our guidance. So we feel very comfortable about 2007 and achieving basically our goals for 2007.

Now, let's look at the revenue split. We have for the quarter around $2.4 billion in revenue. The U.S. turned in about $1.66 billion, they showed a growth rate of 3% that really understates the growth we have in the U.S. with one less day in this quarter compared to last year. And also we lost about 2% in terms of the EPO studies which I will show here later, EPO activities in the U.S. So organically we are growing about 4% but actually it's closer to 6% looking at the EPO effect.

Turning now to international, we had $760 million with revenue. It grew very impressively at 14% constant currency, 23% actual currency. Drilling a little deeper into international, Europe is about 70% of international. It grew at 9% constant currency. The services were about 10 and the products were about 8. Our growth driver or our growth achiever this quarter was Asia-Pacific with 43% growth in Asia-Pacific in constant currency. And it now has moved to about 6% of our total revenue on a worldwide basis. And Latin America continues to do very well. They continue to grow at double digit around 14%. So basically if you look at the world, our underlying growth then is quite good in each of the areas and we are very pleased with the revenue growth on a global basis.

Let's look at Dialysis Services on a global basis. Again I talked about the 3% in North America. I want to have your focus here on the international. We had a 32% growth in services in international and clearly if you look at that even in constant currency that's 23%. Now this fits with our strategy. I think you basically got to see the strategy last year in great detail at our Capital Markets Day here in September. We really are quite excited about the growth opportunities in Europe and Asia-Pacific and in many ways the service opportunity growth in those areas. And you can see here that in Europe we are growing basically at 9%... continue to grow at strong 9% or 10% in constant currency, services double-digit, in Asia-Pacific organically we're drawing about 19%. So we are doing very well. We are very, very pleased with the results in that area and there's tremendous upside in that area with respect to opportunities. Within the next five years both of those regions will be $15 billion plus in terms of market potential for us.

Now let's talk about the organic revenue growth. It was 5% for the quarter. Again this was impacted by a couple of percent by the EPO, and you can see that essentially again looking at the numbers here we are very proud that the U.S. group now has achieved their 3% per year growth rate which is the market growth in the U.S. as far as same market treatment growth. And Europe and our international was a little lower at 4.9% than it normally runs but if you look below that at the revenue growth per treatment that was significantly above where we normally run, 7% a year revenue per treatment. That means that we are clearly getting paid for the quality that we are providing in the international therapy, in the international arena.

Now what that says is on an organic growth then, we are at about 12% in international which is pretty much where they have been running... it's a very, very impressive our revenue growth rate, organic revenue growth rate for the services business. And if you add it all together then we come out around 5% for this quarter in terms of organic revenue growth.

Now, let's talk a little bit more about the Dialysis Services revenue per treatment in the U.S. Compared to last year we grew 1% and in overall we went from 324 to 327. If you look sequentially we stabilized and again as I showed you last quarter because of the various turbulence in the area of basically EPO dosing and EPO utilization. If you look at our underlying growth rate that basically strips out to EPO, we're continuing to grow 5% in terms of dialysis growth in revenue per treatment. So, we have maintained that. We are very comfortable that as we go through this temporary period our underlying growth is still there in terms of our contracting and in terms of the actual payment for the services. But we think it stabilized. As I mentioned last time I will talk a little more about the anemia situation but we are very comfortable with the underlying growth in North America and it continues basically in that 4 to 5% range when you look at just the dialysis treatment which means that we are doing a good job with our contracting with our payers and we got a little bump this year in terms of Medicare.

Now our target for the year, we talked about where will we be at the end of the year. We feel now that we will probably be closer to 1% growth year-over-year in terms of the actual revenue because the couple of percent we lost in the EPO but we do believe that I will show you that we believe it will come back as we get into later this year into 2008.

Now let's go look at the quality outcomes, very impressive between 95%... 94% and 95% of the treatments that we provide in which we meet or exceed the prescribed therapy. And that's something that basically is in our hands. That's an expense that we are very willing to pay and we do a good job, and you can see that both international or in Europe as well as the U.S. we are in that 94, 95 range.

I'll talk more about hemoglobin in the U.S. but I am very proud of what we see happening in Europe. You can see that the hemoglobin outcomes have improved from 68% and that means 68% of the patients a year ago had a hemoglobin of 11 or greater. And again I think Docky [ph] and all the various world bodies have confirmed that there is a real benefit to try a target within that 11 to 12 in terms of mortality patient outcome.

Now in one year the group has moved that to 73% and again I think that is a major commitment and a major achievement on the part of our company again working with MDN [ph] in Europe and some of the activities that we talked about last year.

Now, the last point I'd like to make on that page is that we continue to see our hospitalization days in the U.S. continue. We're now at an all time low, 11 days. And just to reinforce that each day we save in the hospital saves our payers just on FMC's patients about $170 million. So, again we feel that we should clearly be paid properly but at the same time we're doing our part to reduce the costs in the health care system.

Now let's talk a little bit about anemia management in the US. I showed last time our four-year history here in terms of what our average hemoglobin is and again we measure this on a three-month average because of the cycling. And you can see that we are still on average within our targeted 11 to 12. But you can see overall on the right hand side we continue to see more patients are not above sub-11 or not above 11. In fact, we now have only 80 patients... 80% of our patients are above... equal to or above 11. And this is disturbing but this is really a part of the response that we have seen to all of the discussion about what is the right level. And I believe that as this continues with the various activities going on now, I would expect that our physicians will probably take some sort of corrective action and will come back in the 80 to 82 range which is probably the right place for us to operate and still provide good care but at the same time be cognizant of the upper end of the anemia range. So anyhow we drop down to 80 and I believe they will start sometime towards the end of the year or next year, we will start seeing this move back up.

Now, let's look at the products area. We continue to have excellent growth in the products business. This is a double digit again, look at the external sales, 12% constant currency on a global basis, 18% in the U.S. And I got to tell you that it includes two parts because we have the new Pharmatec in the products. And so if you just look at the dialysis products we're growing 12% in the U.S. which is clearly four times the market, and we are doing very well with our... what we call our renal pharma. And I will talk a little bit more about that later.

Internationally, we are growing at 9% constant currency again far above the market. And so our products continue to be accepted. We are clearly spending the money, expanding our plans to provide the products that are being demanded or being requested at this time. So the products business continues to really tuck along, going very well.

Now a few highlights here. I want to mention North America. We saw an impressive 70 basis point increase in margins. So even though we had to deal with the... basically with the EPO uncertainly situations through this quarter we were able through cost controls basically the products business growth and some of the various things that some guys were doing to, was to continue to increase our margin or at least keep it in the 17% range, very good job of cost control and doing all the right things.

In Europe, we had an organic growth of 8% and again they sustained their profitability. And so the internationals Larry will show you here came in right smack in the middle of where we expected them and summer months were always the most difficult. And finally we are very proud of our Asian Asia-Pacific group. They are making very good strides in integrating these acquisitions which you see almost added 6000 patients to their program this year and they are growing at 100%. So on a global basis each one of the regions are doing quite well and so is Latin America but I only have room for three. We have [ph] ultimate one for the next time okay.

Now looking at the dialysis products, I talked about the growth. One of the things we are seeing some very good traction in terms of our hots in the bone mineral metabolism area, our therapy there, therapy concepts there. We see PhosLo sales are in line with expectations and they provide 80% 79%.

Also if you look at Europe, one of the key drivers and this is really exciting is that our new 5008 machine continues to grow at over 100% a year and has been very well received. And so we are quite excited about that product in the international field and it's doing well.

And finally if you look at the Asia-Pacific, their product growth is around 14% constant currency which is really quite strong but it shows you the growth factor in that area. And clearly we continue now to benefit from the increase in coverage that the Chinese government basically is extending to their citizens. They are extending it to coverage, medical coverage through another 200,000 close... 200000 citizens... 200 million citizens which is about two-thirds the size of the U.S. Now the reimbursement is not the same but it clearly is a real opportunity for us to continue to grow there. And that's one of the reasons that we basically are increasing our production capacity foundation within China.

So, that's really where we are as far as Dialysis Services. I just wanted to mention that we feel the FDA advisory panel supported the anemia practices that we and the industry and our physician colleagues have been following. We do have a quite a bit of active dialogue going on with U.S. legislators. It is clearly a very interesting year in terms of legislative possibilities in the U.S. And so we are trying to basically work with the thought leaders in that area and make some progress in terms of basically some sorts of reform for the medical care for dialysis patients.

Eastern Europe, major growth area for us in terms of services 18%. Again I thought you... in Europe alone we had a revenue per treatment increase of 4% very, very impressive and if you look at some of our new therapies we have now online-hemodiafiltration has been recognized for reimbursement increase in Spain. And so we are really proud that we are able to develop these new therapies and then get them accepted by major payers in major countries. And finally I talked about the growth rate of over 100% in the Asia-Pacific area.

So I think at this time, the quick summary and turn it over to Larry. Again we keep our focus on quality. It's all about quality either in service or in products in our business. We have accelerated our de novo this year. You will see the CapEx is up. We are probably increasing de novo by 20 to 30% over last year, and we clearly have the focus on organic revenue growth. And finally the growth drivers that we have talked about now for the last couple of years are actually still very much there and quite frankly they're probably growth drivers for the mid term also. And that's the product market share, increased reimbursement based on quality and finally continue to expand our clinical network to many opportunities in Europe and Asia-Pacific.

And finally our renal pharma business, as we believe we are adding additional medical value here. We believe that that's going to be successful and grow and we are seeing signs of that at this point in time.

So, that's the summary then for the quarter, to give you a little overview of where we see ourselves. And I think at this point Larry I'll turn it over to you for the dollars and euros.

Lawrence A. Rosen - Chief Financial Officer

Thanks Ben and a very good afternoon to everybody. I am very pleased to report on another excellent set of results for Fresenius Medical Care. In Q3 we continued to build on the momentum that we established last year and in the first half of this year. And we had very good performance really on all metrics and as you will see at the end of the presentation we are very confident that we are going to achieve our objectives for the year.

Now let's get started and take a look at the P&L for Q3. As Ben mentioned our revenues for the quarter were up 9%. That was a 6% organic revenue growth and a continued good performance for the quarter and for the year. Operating income was $397 million, a 16.4% margin and a 12% increase over last year. So, clearly we are increasing our income by more than we're increasing revenues showing that we are getting leverage on the fixed costs in the business and really a very good performance in terms of operating income.

Interest expense was $95 million, and I think you heard Stéphane [ph] mention that we did have a one-time item of about $5 million related to the write-off of some financing fees. We also had some minor upsides in terms of one-time items in the interest line. So, really a clean number for interest would have been in the low $90 million but still quite a good performance compared to last year. We're down $5 million that's due to lower debt levels and also very slightly lower interest rates.

Income tax expense at 38% continued to be at the lower end of the range that we've talked about at 38, 39%. So, we are pleased with that performance and net income $181 million, so a very good performance up 27%. Before the one-time items that we had in 2006, on a reported basis we were up 30% for Q3.

Looking at the nine months we achieved $7.15 billion of revenue that was 16% revenue growth, 14% constant currencies and 7% organic growth. And we see the trend here as well. 23% growth in operating income again leveraged on the revenue growth that we are achieving. And we achieved 16.1% EBIT margin for the nine months. That 90 basis point increase is really attributable to underlying growth, probably approximately half of it is due to underlying growth of above the guidance that we have given on our Capital Markets Day of about 20 basis points a year. We are clearly ahead of that in the year 2007 where about half of the 90 basis points is coming from underlying growth.

The other two factors are having RCG for the full nine months whereas last year we only had RCG for six months and then the last factor is the completion of RCG integration and therefore the achievement of the remainder of the synergies that we are getting from the RCG acquisition. So those three factors really are what led to the 90 basis point increase. It's an excellent increase and we are very pleased with it for the year.

Income tax expense at 38%, again at the lower end of the range that we targeted at 38 to 39%. Minority increase, we see the significant... our minority interest we see the significant increase due to the increasing number of joint ventures both in the U.S. and also with the Taiwanese acquisition that we have done earlier in the year and also frankly the good performance in our JVs. So that's all led to net income of $520 million for the nine months. If you recall last year on a full year as reported basis, we had $536 million. So we've almost achieved in nine months what we achieved for the full year last year. It was a 28% growth after or before one-time items and 35% growth after one time items on a reported basis. So really good performance on the P&L and all through the P&L for the nine months.

Now looking a little bit further at operating margin by segment. You see on the left hand side, North America was up 70 basis points for Q3 and a 130 basis points for the whole nine months. And it really reflects the improvements that we have had in revenue per treatment, excellent cost control both in our clinics and in our manufacturing facilities, also very good plant performance. We are running at very good levels and are achieving some positive manufacturing variances. We divested the somewhat lower margin CVR business as we talked about last quarter. And finally the excellent business growth that we have seen in our product business and also the mix in our product business have also contributed to the excellent EBIT margin performance that we have seen in North America.

International continued to be at a very high level, a number that we have targeted between 17% and 18%. They remained in that range, comfortably in that range. We're slightly down from last year. It's primarily a mix issue where we are seeing very fast growth in the provider business and in particular in emerging markets. And of course as you begin to invest in emerging markets you have somewhat lower margins than you have in mature markets but then we see a quick pickup in profitability. But again in line with our performance target for international between 17 and 18% and a continued very good performance.

Now turning to cash flow and then to our leverage ratio, we wanted to highlight again days sales outstanding, our performance on receivables, basically how fast our customers are paying us. And we have seen another one day improvement overall for the company. That was primarily driven by the U.S. business, down to 57 days, clearly leading the industry in this metric and we have seen a continued good performance in international staying at a sustainably lower level than we have seen last year and also in previous years at 114 days.

Now turning to cash flow, we had an excellent quarter for operating cash flow at almost 16% of revenues. This reflected that DSO performance but also good performance in other working capital areas, and of course a very good earnings performance drove good operating cash flow for the quarter.

We see the continuing trend of CapEx being somewhat higher than last year. Also acquisitions are higher than we have had in 2006, and this is really reflecting our growth opportunities and our ability to seize on those opportunities really all over the world. And we are very pleased to be able to do that and we're to have those opportunities. Even with that higher spending you see on the bottom that free cash flow after acquisitions is still almost the $100 million higher than similar quarter last year.

And again a similar performance for the full nine months, $890 million of operating cash flow, up 34% over last year before one-time items. If we would include the one-time items that we had in the first nine months of last year we would be up almost 100% in operating cash flow. And here again you see the higher levels of capital expenditures and acquisitions, again that's reflected in our full year target of $650 million and is primarily reflecting the excellent opportunities that we have to invest in growth in our business all around the world.

Now looking at our debt to EBITDA. We're also very pleased with this performance. You see on right hand side that we were at about 2.9 debt to EBITDA and clearly below the target that we've set for the end of the year which was to be below 3 to 1 and dearly getting in the range of our mid-term target which is between 2.5 and 3. So we're very pleased with our performance. It's one of the things that gives us the flexibility to be able to continue to build the business, to continue to seize on those growth opportunities that we see in the market. It's being driven somewhat by debt reduction by... primarily by what you see on the left hand side which is the strong improvements in our operating income. Our EBITDA you see that our last 12 months, EBITDA is just about $2 billion, at $1.9 billion, $1.7 billion for the last 12 months and this has continued to improve dramatically and has led to very good improvement in our leverage ratios.

Now just looking at a little bit longer perspective, we see that our earnings per share has grown at 16% for the last five years and you see the momentum that's built up over those years as demonstrated by Q3 of this year, where we had 29% growth in EPS.

Now to conclude the presentation, I want to confidently reconfirm our guidance for the year. We are very confident that our revenues will be above $9.5 million for the year and that will achieve our net income range of 685 to 705 clearly toward the top of that range. Our leverage ratio as you've seen is already below 3.0 and we reconfirm the CapEx and acquisition target at around $650 million for the year.

Thanks for your attention. And we'll be happy to answer any questions you have at this time.

Question And Answer

Oliver Maier - Senior Vice President Investor Relations

Thank you very much Larry. Thank you very much Ben for the presentation and I think same procedure as in the previous meeting. We start with questions here in the audience and even some questions we got already from the Internet and then we start opening up the audio lines. So who's going to be first? Andreas, great.

Andreas Schmidt - Merrill Lynch

Ben maybe a little bit provocative question in respect to anemia management. Why are you not supporting a more restrictive anemia management rules because if I remember back a little, some EDTA meetings there was quite good evidence that high-flux pill dose from Fresenius could compensate lower EPO, higher EPO dosage. So wouldn't that monopolize the business if you could show maybe also with slightly modified pill dose, different quartiles and different diameters that you have an ability to compensate or... yes if there is lower EPO usage you could compensate that and that would give you enormous market potential in the product side or in your clinics that people have to move into your clinics.

Dr. Ben Lipps - Chief Executive Officer and Chairman

Thank you, Andreas. I think what is being debated and discussed in the U.S. is not that issue. The question is what should the outcomes ranges be? In other words, between 10 and 12 would be the target. Is there a probably if you go over 13 because you know the pace is basically cycle through. So how much of a dose it takes to get there is not the discussion. So strictly what should the targets be and that's what we have been working with the FDA and the various bodies to support the data we had that shows that there is a definite improvement in mortality, actually all the way to 13. But we have no trouble operating in the quarter of 10 to 12 target.

Andreas Schmidt - Merrill Lynch

Couldn't you get the same mortality, let's say at 10 with modified treatment and pill dose and total concept?

Dr. Ben Lipps - Chief Executive Officer and Chairman

No, not totally because basically how you get to the outcome if you use more or less EPO is not an issue. Now I think there has been some data presented that you can clearly influence mortality with two... essentially two factors. One of them nutrition and the other one would be essentially hematocrit. So those of the two that we found over the years have the most influence on mortality.

Oliver Maier - Senior Vice President Investor Relations

Next question? Markus?

Unidentified Analyst

Hi thanks, Markus Krämer [ph]. The second quarter we saw some decline in EPO utilization after the safety discussions in the U.S. So how was the development in the third quarter? How do you see that going forward maybe to Q4 and next year? Thank you.

Dr. Ben Lipps - Chief Executive Officer and Chairman

Yes, at the end of second quarter I commented that we normally saw a cycling plus 2% or down 2% off of the mean. And that we had... we expected in third quarter to be at the lower 2% and I wasn't sure that it would normally rebound, it usually rebounds within a quarter and starts back up because of the 60 to 90 day half life. But right now we are at the lower range of that cycle, in other words, down 2%. The question is when will it start to basically increase again? And I had thought it might by fourth quarter, during fourth quarter based on the history. But at this point we are just not far enough in to know whether it will rebound or whether we're going to stably stay in this particular range for another quarter.

Oliver Maier - Senior Vice President Investor Relations

I think, I'll read one question from the Internet Ben that fits to Marcus' question. Did you see an increase in the number of blood transfusions in the U.S. patients given that the percentage of patients with hemoglobin above 11 decreased from 82 to 80?

Dr. Ben Lipps - Chief Executive Officer and Chairman

I don't have that data. We track it but it's very, very, very small. So, I don't think so because transfusion is just not a good way to handle the anemia management for patients. So, I don't think that we would any effect at this point in time.

Oliver Maier - Senior Vice President Investor Relations

Next question from the audience.

Holger Blum - Deutsche Bank

Holger Blum, Deutsche Bank. Just two quick ones. One on Spain. You mentioned the HDF reimbursement. And what would be the upside in absolute terms or could you share some numbers with us and to what extent we can see some similar developments in other European countries for online HDF? And secondly could you share the absolute cash flow number with us for the quarter? Thank you.

Dr. Ben Lipps - Chief Executive Officer and Chairman

With respect to HDF, we are practicing it in our clinics in Europe essentially probably more than an average 15% in growing just like we did in the U.S. when we felt the single use was by far the best medical practice. And we operate clinics in a numbers of countries. So I would expect over the next two years each of these countries will recognize the benefit of high-flux online-hemodiafiltration and we will see reimbursement. So I think Spain is just the beginning of that trend.

With respect to the PhosLo sales we are running at about a $50 million a year rate right now which is essentially, like I said quarter-to-quarter in the 70's over what was being sold by now [ph] a year ago. So and on a worldwide basis we are probably close to a $100 million in terms of our renal drug initiative on a yearly basis. And remember our target for 2010 is $400 million so we are still working towards that target.

Oliver Maier - Senior Vice President Investor Relations

Holger, okay. Larry I have one for you from the Internet. Just low on the debt to EBITDA ratio translates to lower interest expense going forward and do you give any guidance for interest expense for fiscal year 08?

Lawrence A. Rosen - Chief Financial Officer

I think we will give guidance for fiscal year 08 when we announce our full year results in February of next year. Generally lower leverage ratios or improved leverage ratios do lead to some improvements in interest costs and interest margins. And yes we have already seen some of that as we've deleveraged over the last 4 to 5 quarters.

Oliver Maier - Senior Vice President Investor Relations

Thank you. Next question from the audience.

Unidentified Analyst

Karla [indiscernible]. Looking at the brilliant development of PhosLo in the U.S and what are the... what was the stage of PhosLo in other regions outside the U.S. as they talk development and plans to launch it?

Dr. Ben Lipps - Chief Executive Officer and Chairman

Let me be a little humble on this brilliant success because in the U.S. that market is probably a $0.5 half billion market or $600 million market so, I am never too excited at 10% market share. But anyhow it is a start. As far as outside the U.S. we are essentially registering it or a product that we have similar to that along with it as a family of binders in Europe and I think we will start to see sales in Europe in 2008.

Oliver Maier - Senior Vice President Investor Relations

Ben I have one more question for you from the Internet. What sales growth for HD machines in North America affected by, was affected by FDA ban on Gambro machines, could you actually quantify the impact and do you foresee HD machines decline going forward now that Gambro, that Gambro ban seemed to be lifted and they're going to come back to the market?

Dr. Ben Lipps - Chief Executive Officer and Chairman

That's certainly a fair question. We certainly benefited in the U.S as well as I think around the world because of the cloud that emanates from one country to another one when you have an import ban. But... and we had sales I think running in the 15% range this year in terms of machines which is 5 times that market. So, I truly believe that there will be an impact and I don't know when but we will keep you informed. But I am pretty sure that we will drop back down to something it maybe high single digits or in the low double digits but it probably will have an impact. We have not seen it yet but it could.

Oliver Maier - Senior Vice President Investor Relations

Okay. Another question from the audience. If that is not the case, I think operator we can open up the audio lines for further questions. Hello, operator? Do we have any questions from the audio lines? We don't, that's good. So we will push all back, I don't know. We have an operator, okay, here we go.

Operator

Your question comes from the line of Martin Wales.

Martin Wales - UBS

Hi, can you hear me? Hello?

Oliver Maier - Senior Vice President Investor Relations

Yes, Martin we can hear you.

Martin Wales - UBS

Okay, all right. Just one question on your guidance, that might take you over top line guidance in a very controlled fashion, say that greater than $9.5 million or 9.5 or $1 billion sales for the year and [indiscernible] in the fourth the quarter. That applies that slightly higher third quarter, 3, 5 nearest in the end of reference. What... [technical difficulty]

Oliver Maier - Senior Vice President Investor Relations

Actually now we have an operator but we don't have line I guess. But Martin, you are fading in and out. Do you have a headset? If you would use a landline that will be appreciated because you are fading in and out. And we can't [multiple speakers]

Martin Wales - UBS

Hello.

Oliver Maier - Senior Vice President Investor Relations

Yes Martin.

Martin Wales - UBS

All right. Let me try it. Is that any clearer?

Oliver Maier - Senior Vice President Investor Relations

Not really to be honest.

Martin Wales - UBS

It's the only line I have afraid.

Oliver Maier - Senior Vice President Investor Relations

Here we go.

Martin Wales - UBS

Let's try. I am just looking at your revenue guidance for the year. I think it's saying greater leverage that in your guidance, is it $9.5 million or $1 billion? That would apply $2.35 billion decline in the third quarter. What circumstances make that happen?

Oliver Maier - Senior Vice President Investor Relations

I think it's about top-line guidance but Martin, I think we're going to come back to you because that line is pretty bad. So, I guess, I am going to... I guess cover that question later with you certainly.

Martin Wales - UBS

Okay.

Oliver Maier - Senior Vice President Investor Relations

Can we take the next question then please.

Operator

Yes sir. Your next question comes from the line of Ilan Chaitowitz with Redburn Partners.

Ilan Chaitowitz - Redburn Partners

Good afternoon. This is Ilan from Redburn here in London. Hi.

Dr. Ben Lipps - Chief Executive Officer and Chairman

Hi Ilan.

Ilan Chaitowitz - Redburn Partners

I've got three questions. Firstly, just wondering it hasn't been done already, when you guys expect the final FDA labeling of EPO to come through. It seems like that be... that might still be having an impact on your business. Second question relates what I can see I think it's a $400 million cash drain in terms of the accounts receivable program. Could you just explain what happened there in Q3? Or what's going on? And if they had any P&L impact in the third quarter. And the final question I have just relates to the legislative outlook. Ben you alluded to it briefly. But I was wondering if you guys could talk a bit more about anything in terms of potential bundle of payments and MSP provision differentiated payment rates between large and small payers and the potential for further EPO price cuts.

Dr. Ben Lipps - Chief Executive Officer and Chairman

Okay. Ilan I will take two of those and Larry you'll take the cash one. The FDA label change there is a lot of discussion that there will be something I don't see it as particularly negative but it would be nice to clear the air because I do believe it has a lingering effect at this point. We are expecting to see something yet this year in that respect.

With respect to the legislative outlook, certainly basically on top of it every day but I will give you the view from a week ago. Essentially you know that the Congress appeal override the President's veto on the SCHIP. And it's my understanding now that both House and the Senate are working on a smaller SCHIP bill which is actually beneficial I believe for ESRD because at this point ESRD won't become a pay for this bill we think. So, right now and there is also a discussion to in House and the Senate on a Medicare bill and we believe that the industry has come together, the kidney care partners and specialty care providers have come together. And we do support MSP extension. We do support bundling with proper validation of it, and we also support the... a more defined update system. So, that's all being discussed, and I believe at this point in time I have got to say that everybody is working pretty hard and make sure we get this done so that we essentially can provide the best care for the patients. So, at this point I am still optimistic that there will be a bill that has some impact on ESRD.

Ilan Chaitowitz - Redburn Partners

Like any timing on that.

Lawrence A. Rosen - Chief Financial Officer

Okay. Ilan your question on the accounts receivables are... is a good one. We have used the proceeds of our bond issue that we did on July 2 to temporarily repay the accounts receivable program and February 1st next year as we have the maturity of our trust preferred security tranches we will refinance those using the accounts receivable facility. So really it was a good place to be able to put the proceeds of the bond issue. We wanted to do the bond issue at the end of June beginning July because we saw the market as continuing to be good. So we used those proceeds to repay the accounts receivable facility. We will see those balances grow back up as of February 1st next year.

Ilan Chaitowitz - Redburn Partners

Thank you.

Operator

Your next comes from the line of Jack Scannell from Stanford Bernstein.

Jack Scannell - Stanford Bernstein

Hi. I have two questions. First is Medicare owes Congress a report on a mechanism for implementing bundle pricing where the main EPO drugs and dialysis are bundled together. Do you know if the report's been submitted, where it is and when it will become public? And the second question is what's the earliest realistic date that the disease management products could be actually be offered to Medicare and what are the names of the barriers between or the barriers that will prevent it from happening?

Dr. Ben Lipps - Chief Executive Officer and Chairman

Jack, this is Ben. I will try to answer those. The Medicare bundling report which was mandated I think by the 2005 legislative act has been written to my understanding and is being reviewed in the executive branch. And it's my understanding that it will basically find its way into the public view sometime this quarter is the best guess that our group has. That's about all we know about it, we have not seen it.

As far as the Medicare and taking expanded care through the some of the demo or disease management, the vehicle to do that is the single needs program... a special needs program under the Medicare Advantage. And I think both we and DaVita have activities in that area. And again we think this is a very good program to keep alive in the future because it allows someone to coordinate the entire treatment and integrated care for these patients. So it's in the law at this point in time and it is... has sunset provision in 2008. So we are trying as part of the legislative package to keep this particular vehicle available to provide better patient care.

Jack Scannell - Stanford Bernstein

Okay, thanks guys.

Lawrence A. Rosen - Chief Financial Officer

So I will take a question coming from the web. Question is do you plan to refinance debt coming due in early 2008 or does your recent dollar deal meaning our dollar bond deal fulfill your capital market needs? I would say generally that we don't have any refinancing... significant refinancing needs where we have to go to the capital markets anytime soon or for that matter anytime in 2008. But generally in the mid term, our strategy is to be more balanced between the capital markets and the bank markets. In the past we were reliant on the bank markets. We have started to diversify somewhat with the bond deal that we have this year, and I think we'll see somewhat more of that depending on market conditions in future years. And really it depends on how opportunistically we can access the markets and how attractive we think the markets are in any one time. Again we're not forced to go to the market but we will probably do some more deals if we think the conditions are attractive.

Oliver Maier - Senior Vice President Investor Relations

Okay. Next question.

Operator

Your next question comes from the line of Tom Jones from JPMorgan.

Dr. Ben Lipps - Chief Executive Officer and Chairman

Hi Tom. Can you hear us all right?

Thomas Jones - JPMorgan

Hello, can you guys hear me all right?

Dr. Ben Lipps - Chief Executive Officer and Chairman

We can hear you.

Thomas Jones - JPMorgan

Good. I've got a couple of questions. One, will you just care to make some comments on the impact of foreign exchange on margins? It's very easy for us to model the top line but I just wondered whether the continuing deterioration of the dollar and steady rapid moves, has had... having any impact on the operating profit line. The second question just relates to interest rate hedging policy. From memory, you've upped your demand of your interest rate exposure that was hedged in early June. At that time the expectation for interest rates was more for interest rise rather than interest rate falls. We are now moving into interest rate falling environment. I just wondered what impact that might have on your interest rate hedges. And thirdly, on the subject of PhosLo, I just wondered if you have comments after the FDA's panel that it held on the issue of phosphate binders in previewing [ph]. And secondly when do you expect to hear from the FDA on PhosLo and previewing that you field the SNDA in January time? So, it should be any time soon.

Lawrence A. Rosen - Chief Financial Officer

Okay. Tom, let me take the first two. The first one was what was the impact of foreign exchange changes and volatility on operating margins. Generally what we see that when we have operate, when we have foreign currency changes in particular dollar-euro or higher revenue changes and then generally increased U.S. dollar EBIT and in absolute terms but somewhat are slightly less EBIT margins because you get the full impact on revenues in a somewhat less impact on absolute EBIT still going in the same direction but you see a less of an impact on absolute EBIT and therefore the margins are to... the margin effect is slightly lower.

In terms of interest rate hedging our target is to be hedged that means to have fixed rate exposure of about 75% to 80%. We are at the high end of that range now at around 80%. We are fairly happy with that. We really want to be pretty conservative here and not have a lot of exposure to interest rate risk. And so we think with our debt portfolio the right level for us is to be at about 75% to 80% fixed and again that's about where we are at this point.

Thomas Jones - JPMorgan

Maybe I ask it in a different way then, there is interest rate hedges just hedging to the upside, I mean if the interest rates fall will you benefit or is it essentially fixed that amount?

Lawrence A. Rosen - Chief Financial Officer

We would benefit on the variable portion again the 20% or 25% variable interest rate exposure that we have. So if our interest rates fall we do benefit on that portion.

Dr. Ben Lipps - Chief Executive Officer and Chairman

With respect to the last, I guess that was October 16, the advisory panel on... where they discussed binders for CKD, I think in general we were pleased with the balanced outcome from the panel. And the real question is will FDA require pre or post market studies into clinical... additional clinical studies? We clearly believe this is an opportunity. Although from a commercial standpoint these patients still have residual renal function. So they don't need as many binders or as much in the way of phosphate binding as dialysis patients. So it's not something that we have in our radar screen in terms of the $0.5 billion market. It's there for a stage five so if it happens we will certainly participate in and it will be upside from a business standpoint.

Thomas Jones - JPMorgan

And is there anything in that $400 million, I think figure that you talked about earlier for pre renal?

Dr. Ben Lipps - Chief Executive Officer and Chairman

No, the market we are looking at is a stage five, it's not pre ESRD, no.

Operator

Your next question comes from the line of Hans Boström from Goldman Sachs.

Hans Boström - Goldman Sachs

Thanks for taking my question. I had two. First of all Larry, could you give us a sense of what the effect will be from the refinancing the bond issue [indiscernible]

Oliver Maier - Senior Vice President Investor Relations

Hans you're hard to understand. You are fading in and out. Can you pick up the phone maybe?

Hans Boström - Goldman Sachs

Do you hear me now?

Lawrence A. Rosen - Chief Financial Officer

So I think the question was what was the effect of the refinancing, the bond issue that we have done this year on our total interest expenses? And the answer is temporarily it results in very slightly higher average interest rates for us because we replaced a fixed rate issue at just around 7% with some lower interest cost debt. But of course as I said the real intention of the bond issue that we have done is to refinance some very high interest that which are the trust preferred securities which mature very early next year. So if you look at it for next year, it has a positive effect in terms of average interest cost.

Hans Boström - Goldman Sachs

And in fact, the question more related to what is likely to be the effect next year given that I believe it's about $600 million, bulk of debts are being refinanced. Could you give us a sense of what you would expect on unchanged interest rate... from today's level, why you would expect the... effect would be in terms of average borrowing cost, in terms of basis points for the group?

Lawrence A. Rosen - Chief Financial Officer

I think if variable interest rates would stay where they are today we clearly will see somewhat lower rates next year. But I think that... really don't want to say any more than that, we will give some guidance on that when we give overall guidance in February. But you could expect the average interest rate to be trending downward.

Hans Boström - Goldman Sachs

And another question relating to the indication above 1% improvements in revenue per treatment. Just to make clear I understand how you're calculating? Is this a fourth quarter 06 over fourth quarter 07 numbers you're looking at above $3 improvement or is there any other measure you are looking at?

Lawrence A. Rosen - Chief Financial Officer

Hans the 1% that Ben referred to was year end over year end. So year end last year we were at about 3.28. So, yes, we're talking about around $3.

Hans Boström - Goldman Sachs

Okay. Thank you very much.

Operator

Your next question comes from the line of Alex Surla [ph] from Merrill Lynch.

Unidentified Analyst

Good afternoon. Alex Surla from Merrill Lynch. Couple of questions. Firstly to follow-up on the Gambro question. If I understood correctly you said that you would expect to go maybe from 15% to high single digit growth. I just wanted to understand that because I thought if Gambro comes back not only will they hamper the existing growth but perhaps take back some of the share they lost. Therefore perhaps expecting that impact at least in the first year, let's say 08 to be higher than what you suggested. Secondly, if you can just give us guidance on tax. It appears to be trending lower, perhaps is this kind of trend we should model going forward? And the third question, it's also a little bit of a follow-up and that's on pricing in international. It has been growing quite fast around 6% or 7% this year. How should we model that going forward and in particular in Q3, how much benefit on the pricing did you get from Spain on that 7% in Q3?

Dr. Ben Lipps - Chief Executive Officer and Chairman

This is Ben. I'll take a couple of those. In terms of Q3, Spain basically minimal effect because it's just starting. As far as the Gambro, I am trying to be balanced here. I'd like to keep all 15%, okay. But I think in all fairness, if they... when they come back and quite frankly they are cleared to come back but they haven't started but I am sure they will. I believe that those groups that have Gambro machines which are less than a year ago would clearly probably want to look at their machines and see if they want to stay with Gambro. So we don't expect a major impact on our machine business but I think it will be unrealistic, the sooner will be no impact on our machine business. So I think I will stand by the high single digit and we are operating about 15% now. So there will be impact on us but quite frankly on the overall U.S. numbers, it won't be measurable.

Hans Boström - Goldman Sachs

Okay.

Lawrence A. Rosen - Chief Financial Officer

On the tax rate we are at 38% for this year for the first nine months, again our target was 38%, 39% I think for the rest of the year we are not going to see very big difference from where we were in Q3. And in terms of 2008 and going forward again we will give guidance on that in February when we announce the full year results.

Dr. Ben Lipps - Chief Executive Officer and Chairman

On pricing international I am sorry I missed that. Our target for both international and for the U.S. is to increase our revenue per treatment about 2% a year. And we are doing better than that in international this year. We are just about half that if you look at the average for 2006 and compare to the average for 2007. What Larry and I always talk about is where we end in fourth quarter of 2006 where will we be at the end of 2007. So 2% is our target basically on a worldwide basis.

Hans Boström - Goldman Sachs

Could you elaborate on where the pricing is coming from maybe across regions in this year?

Dr. Ben Lipps - Chief Executive Officer and Chairman

Yes if you are looking at the U.S. obviously it's from commercial paying... commercial payers and the Medicare increase we got as of April. In terms of in the international area I think we had seven countries out of the 29 that we operate in where we received an increase primarily for quality. And so what happens in the international area, we will get a... we will see increases anywhere from 30% to 50% of the countries on a yearly basis, and they tend to be about every two years when we see the increases.

Hans Boström - Goldman Sachs

Okay.

Lawrence A. Rosen - Chief Financial Officer

Maybe just to build on that. Among those seven countries that where we had increases they were France, Spain, Italy and Argentina countries where we have quite big presence. And we typically will see increases as Ben said in around 30%, 40% of the countries each year.

Hans Boström - Goldman Sachs

Thank you.

Operator

Your next question comes from the line of Ann Feowa [ph] from Morgan Stanley.

Unidentified Analyst

Hello, good afternoon. Hello, can you hear me?

Dr. Ben Lipps - Chief Executive Officer and Chairman

Yes we can.

Unidentified Analyst

Hello can you hear me?

Dr. Ben Lipps - Chief Executive Officer and Chairman

Yes can.

Unidentified Analyst

So I have two questions. First of all, could you please give us some details on acquisition made this quarter? What are your intentions about potential acquisition? Any countries, regions that you are looking at now? And the second question, there is an increase in revenues from international services, how much further international margin dilution do you expect?

Dr. Ben Lipps - Chief Executive Officer and Chairman

I think and we are trying to decipher the questions. The first one I believe was where was the acquisitions, where were they executed in third quarter. And I think Larry, those have been pretty balanced, about half in the international to alliances clinic area and about half in the U.S. in terms of clinics and these are one-off clinics that I believe I think about 24 million right mow.

Lawrence A. Rosen - Chief Financial Officer

That's right Ben. That was during the third quarter. In the first half we were a little more towards the international region with the two fairly large acquisitions in Taiwan and Korea in Q3 was about half of that.

Dr. Ben Lipps - Chief Executive Officer and Chairman

We didn't understand your last question. If you could repeat that we could try to answer.

Unidentified Analyst

Yes, so there's increase in revenues from international services, how much further international margins dilution would you expect?

Lawrence A. Rosen - Chief Financial Officer

I believe that we are going to stay in our target range of 17 to 18%. Again you have a kind of balancing between the mix of countries and also as you invest in new countries, emerging countries then the margins tend to be fairly low at the beginning. When you have very few clinics you are spreading the fixed cost of the organization over a few number of treatments. But then as you continue to build up and invest in those countries we see some very good progression in margins. So I think it's reasonable to expect that international margins will stay in the range that we have established, again that's 17% to 18% range.

Operator

Your next question comes from the line of Jack Scannell from Stanford Bernstein.

Jack Scannell - Stanford Bernstein

And thanks for taking another question. I have not getting in anyone's way here. But two. The first is U.S. patients volume growth was maybe a little bit light this quarter. I just wonder what your views are on for sort of longer term at the etymological trends there and the balance between improved treatment maybe slowing the progression of CKD but also improved treatment meaning more people survived to ESRD. And then the second question was just around the bad debt expense and its volatility or stability. Is it something that is just fairly stable year-on-year reflecting sort failed Medicare copays or is this something that actually fluctuates and varies with any macroeconomic conditions?

Dr. Ben Lipps - Chief Executive Officer and Chairman

Hi Jack. This is Ben. I'll take the first one. I think we are pretty well convinced and we've seen... I think we just published a paper on right start that shows the same thing. That if patients in stage 4 are treated better medically more of those patients will live longer and eventually come to dialysis. Now it will take them longer to get to dialysis but they also become healthier. So, we don't see anything in of a negative fashion in trying to take care of stage 4, pre-dialysis patients. We see that this is probably the right thing to do and it certainly is not going to hurt our business, our dialysis business.

Lawrence A. Rosen - Chief Financial Officer

On debt expense we've seen a pretty long term trend of bad debt staying in just around the 2% range of revenues, maybe slightly more than 2%. And generally it is due to copays and that's pretty steady and pretty predictable. What's less predictable is the product business where we see somewhat more volatility. But even despite that where we have some variation from quarter-to-quarter we see pretty much on a year-to-year basis that we're right around 2%. And I don't think there is any reason to expect that it's going to change too much from that level.

Jack Scannell - Stanford Bernstein

Okay. Thanks very much

Operator

I am showing no further questions from the phone line.

Oliver Maier - Senior Vice President Investor Relations

Okay. If there are no further questions I would like to thank everybody for being here today. I wish you a safe journey back and see you next time actually in February. Actually in between the ones I don't see, I wish Merry Christmas. Thank you very much. Bye, bye.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!