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NuVasive Inc. (NASDAQ:NUVA)

Q4 2007 Earnings Call

February 19, 2008 5:30 pm ET

Executives

Alexis V. Lukianov – Chairman of the Board, Chief Executive Officer

Keith C. Valentine – President, Chief Operating Officer

Kevin C. O’Boyle – Chief Financial Officer, Executive Vice President

Analysts

Analyst for Raj Denhoy – Bear Stearns

Bob Hopkins – Lehman Brothers

Matt Miksic – Morgan Stanley

Benjamin Andrew – William Blair & Company

Steve Lichtman – Bank of America Securities

Michael Matson – Wachovia Securities

Ed Shenkan – Needham & Company

Joann Wuensch – BMO Capital Markets

Operator

Greetings ladies and gentlemen and welcome to the NuVasive Incorporated fourth quarter 2007 and year end earnings. At this time all participants are in a listen only mode. A brief question and answer session will follow the formal presentation. (Operator Instructions) As a reminder this conference is being recorded. It’s now my pleasure to introduce your host Mr. [Nick Lidecko] of the [inaudible] group. Thank you Mr. Lidecko you may begin.

[Nick Lidecko]

Welcome to the NuVasive fourth quarter earnings conference call. NuVasive senior management joining us on the call today will be Alex Lukianov, Chairman and Chief Executive Officer; Keith Valentine, President and Chief Operating Officer and Kevin O’Boyle, Executive Vice President and Chief Financial Officer. NuVasive cautions you that statements including in this conference call that are not a description of historical facts are forward-looking statements that involve risks, uncertainties, assumptions and other factors which if they do not materialize or prove correct could cause NuVasive’s results to differ materially from historical results or those expressed or implied by such forward-looking statements. Potential risks and uncertainties that could cause actual growth and results to differ materially include but are not limited to the uncertain process of seeking regulatory approval or clearance for NuVasive’s product or devices including risks that such process could be significantly delayed, the uncertain process of administering a clinical trial such as that under way for NeoDisc, including the risk that the trial is delayed or products produces data suggesting that the device is not sufficiently safe or effective. The possibility that the FDA may require significant changes to NuVasive’s products or clinical study’s, the risk that products may not perform as intended and may therefore not achieve commercial success, the risk that the company’s financial projections may prove incorrect because of unexpected difficulty in generating sales or achieving anticipated profitability, the risk that competitors may develop superior products or may have a greater market position enabling more successfully commercialization, the risks that initial clinical data may call in to question the benefits of NuVasive’s products to patients, hospitals, surgeons and other risks and uncertainties more fully described in NuVasive’s press releases and periodic filings with the Securities & Exchange Commission. NuVasive’s public filings with the SEC are available at www.SEC.gov. NuVasive assumes no obligation to update any forward-looking statement to reflect events or circumstances arising after the date on which it was made. With that I’d like to turn the call over to Alex Lukianov.

Alexis V. Lukianov

Thank you everyone for joining us this afternoon for our fourth quarter and year end 2007 call. During 2007 we accomplished a number of strategic milestones that drove our financial and market penetration success. Our exclusive sales force made progress with product penetration while at the same time winning new accounts in new geographies. We introduced several new products that meaningfully expanded our product breadth in the lumbar, thoracic and cervical areas of the spine. We continue to train surgeons on our unique XLIF procedure while expanding its clinical applications and we made progress on our motion preservation strategy with further enrollment in our NeoDisc pivotal trial and obtaining CE Mark for European distribution.

Before outlining our operation progress during the quarter let me take a moment to briefly review our strong financial performance in the fourth quarter and full year 2007. Revenue in the quarter increased 54% year-over-year to $47 million. On a sequential basis this represents a 22% quarterly increase. Full year 2007 revenue increased 57% to $154.3 million while delivering $0.11 of non-GAAP profitability. NuVasive has become a competitive force in the [Euless] spine market. We have developed the sales force, product breadth, differentiation, pipeline, reputation for strong service and market awareness that we believe will propel us to approximately 5% market share in 2008.

Let me take a few moments to outline what we accomplished and add some perspective on how we plan to reach $500 million in revenue over the next several years while advancing our culture of absolute responsiveness at cheetah speed and being easy to do biz, in other words being the easiest spine company to do business with. Our exclusive sales force ended the year at 230 people which was in line with our yearly guidance of growing the group by 10 to 15%. This dedicated team has driven our market share gains in two important ways: deeper NuVasive product penetration and developing a presence in new US geographies while delivering strong service to our customers. To drive our penetration further we have expanded the US market from five regions to 11, each led by a sales director thus allowing a greater focus across the US market and creating greater career growth opportunities for our sales force. This strategy allows us to drive deeper penetration per account and improve responsiveness to the development of new business in each area. Because our proven approach to growing our markets is time consuming we expect many of our real line territories to ramp up over the next few quarters as we grow beyond the initial key account phase. As a result we expect revenue growth in the first quarter of 2008 to be marginal as the sales directors acclimate to the new geographic break outs, target accounts and work to back fill their own positions with new area business managers and spine specialists to support our expansion. We believe this transition positions us solidly on track to achieve revenue and profitability guidance in 2008. Our experienced sales professionals continue to educate surgeon customers on how to incorporate the entire suite of NuVasive products into their practices across the lumbar, cervical and thoracic regions of the spine creating smaller geographic footprints in each division while growing our total sales force, once again, by approximately 15% annually will service to seed and expand our coverage where we historically have under penetrated or not even had a presence.

We are taking a balanced approach to establishing our presence in new markets in order to ensure the accounts we develop experience the same absolute responsiveness in customer service that NuVasive has become known for. The momentum of deeper product penetration and an expansion into new markets will be a key driver of our revenue growth in 2008 and beyond. Our commitment to new product innovation and strategy of obsoleting our own products has resulted in a rapidly growing product offering. To ensure our sales force successfully sales across all of these product lines we will have a renewed focus on sales training in 2008. We fully understand the importance of providing a full spectrum sales training program to provide them with the product knowledge necessary to drive deeper account penetration and capture new business. The proper training of our sales force requires focus on product knowledge, anatomy, operating room protocol, clinical benefits of our products and techniques and special emphasize on our core MAS technology. To facilitate this we have expanded our sales training group, are adding multiple subject experts to the training team and developing new products and OR training modules to increase the proficiency of our sales representatives. Importantly we have taken the step of extending our training programs outside of our corporate headquarters and will be providing our sales force with a significant amount of training in the field to further our expertise.

In 2007 we introduced several new products further broadening our product platform and allowing us to stay ahead of the competition. Many of the new products we introduced in 2007 address the growing desire of surgeons to expand their clinical use of our MAS platform. Surgeons have broadened the lateral approach from the lumbar to the thoracic region of the spine as well as into adult degenerative scoliosis procedures. Our ability to move up the spine and provide surgeons with product systems to increase operative levels is extremely important for surgeon retention in concert with rapidly expanding indications.

I will now provide you with a summary of our product strategy for 2008 including details on several of our expanding product lines. We will continue to maintain our commitment to our MAS platform of NueroVision, MaXcess and specialized implants including the XLIF procedure. We expect our lumbar market share to grow in 2008 primarily resulting from a full sales year of several key products that were launched in 2007 including: XLIF procedures performed with our XLP lateral plate for single access surgery; XLIF procedures with our SpheRx DBR II for percutaneous medical screw fixation; XLIF and thoracic XLIF with our SpheRx II medical screw system for multi-level constructs; and XLIF thoracic to address the expanding indications of this procedure. The lumbar thoracic junction and the thoracic spine become an area of even greater differentiation for us as surgeons expand our lateral XLIF procedure through the MAS platform. Our lateral approach with applications in the lumbar and thoracic regions of the spine will provide opportunities in 2008 to expand revenue in two additional ways.

Through the increased usage of our growing platform of implants, including corn composites and by expanding our ability to address multi-level surgeries. Regarding our corn implants, we will continue to expand our offering including the introduction of [achilled] Implants, additional shapes and angulations, and one specifically designed for revision procedures. These are in addition to the unique XLP plates, SpheRx II, and SpheRx DBR II, medical screw systems and corn implants that are already compliment our XLIF procedure. We are also launching the Halo anterior plate to compliment our anterior corn system, so that with our MAS two lift approach, surgeons may approach the L5, S1 level from the front or from the back. The lateral approach applies to L4-5 up, and to the thoracic spine, and we now offer more choices of implants beyond key lifts for the L5, S1 level including anterior. Building on our strategy to expand our rudimentary position in the cervical spine, our cervical product offering will increase significantly.

In 2008, driven by new product introduction such as the Helix anterior cervical plates and VuePoint our posterior solution to the cervical spine, these new products together with our gradient cervical plate will deliver flexible and elegant solutions for the various preferences among surgeons for cervical fusion and provide our sales force with the necessary product offering to meet customer needs. With significant contributions from our new products, we expect our total cervical revenue to approximately double from 2007 levels. We continue to move forward with our motion preservation strategy for the cervical and lumbar spine, enrollment in the pivotal trial for cervical motion preservation device NeoDisc, continues to progress with expected enrollment completion in the first half of 2008. We also expect IDE approval for two of our other motion preservation devices later in 2008. These being surpassed our mechanical ceramic cervical disk replacement device, an XLTDR, our lumbar total disk replacement device designed for insertion through our unique lateral approach. In addition to these disk replacement devices we are currently developing a less rigid rod fusion system that will compete with dynamic stabilization constructs as well as evaluating alternative spinus process type devices. We believe motion preservation based initiatives will form a larger part of our product offering in the future. Finally, we’ll be introducing our next generation NeuroVision system which will provide precise and reliable nerve safety feedback while enhancing decision making during minimally disruptive spine procedures like XLIF. The real time directional feedback provided by the system delivers critical intraoperative information which has been used successfully in over 70,000 spine surgeries since its release in October, 2002.

Our next generation product will leverage our existing proprietary technologies to provide expanded multi-modality monitoring covering the entire spine. This new platform will also offer enhanced features such as customizable surgeon profiles, visual queues within the surgical field, and guidance technology that will further aid with implant placement. This new system fully embodies our philosophy obsoleting our own products, and will place us even further ahead of the competition in the area of surgeon driven nerve monitoring.

The beginning of 2008 also marks our initial entrance into the international markets beginning primarily with Europe. Our strategy for the international markets is a controlled roll out focused on infrastructure development and clinical education for select European surgeons. This initial establishment of a training presence will allow us to educate surgeons on our unique product offerings thus building a foundation for the adoption of our lateral approach surgery and motion preservation products. In 2008, our sales effort will be primarily focused on Germany, German speaking countries, and the United Kingdom, with a phased roll out to other European nations. We also expect to begin preliminary sales in these markets of our NeoDiscs, Surpass, and XLTDR devices, all of which have be CE marked. Sales of these devices will be limited initially as we build clinical experience. Overall our expectation is for the international contribution to be small in 2008, and become more significant as we enter 2009 with greater revenue for more markets including Latin America, Australia, and New Zealand. I would now like to turn the call over to Kevin for a detailed review of our financial results.

Kevin C. Valentine

Our revenue for the fourth quarter 2007 was $46.9 million a 53.9% increase of Q4 2006, and a 21.8 % increase over Q3 2007. Gross margin for the fourth quarter was 82.9% compared to gross margin in the fourth quarter of 06 of 83.1% and gross margin in the third quarter of 07 of 82%. Our Q4 2007 net loss was $1.1 million or a loss per share of $0.03 on a GAAP basis. On a non-GAAP basis the company reported net income of $2.9 million or $0.08 per share. The non-GAAP income per share is due to the realization of sales force efficiencies and the continuing strength of our revenue from innovative products. Our non-GAAP net income calculation in the fourth quarter of 2007 excludes stock-based compensation of $3.6 million and amortization of intangible assets of $400,000. For the year our non-GAAP earning per share was $0.11 which compares favorably to our guidance range of $0.06 to $0.09. Operating expenses for Q4 2007 totaled $41.2 million a 17.2% increase from the third quarter of 2007. The increase in operating expenses in the fourth quarter primarily reflects increase sales commissions, higher administrative expenses associated with infrastructure advancements, and international startup costs.

R&D costs were $6.1 million in the fourth quarter excluding stock-based compensation. The increase in R&D spend from Q3 was related to the normal enrollment of subjects in the new disk clinical trial and development efforts related to our product pipeline. Excluding stock-based compensation, research and development as a percentage of revenue for Q4 2007, came in at 13% versus Q3 of 2007 at 14.7%. Sales marketing administrative expenses totaled $31.5 million excluding stock-based compensation versus $6.1 million in the third quarter. The increase in spending from Q3 was related to increased commissions associated with top sales representatives exceeding performance goals following the launch of new products late in the year. Excluding stock-based compensation sales marketing and administration as a percent of revenues for Q4 2007, came in at 67.1% versus Q3 2007 at 67.9%. The interests and other income for the quarter was $1.2 million. The stock-based compensation charge for the quarter of $3.6 million was recorded in our operating expenses and allocated as $563 thousand in R&D with a balance of $3.1 million in sales marketing and administrative expenses.

As of December 31, 2007 we had $87.9 million in cash, cash equivalents, and short and long term investments. Our operating cash burn was $9.6 million for Q4, which broadly reflects the development of our MIS product pipeline, including motion preservation, the national launch of new products and the build out of inventory and instruments to support future growth. Included in our cash burn were costs related to leasehold improvements for our new corporate facility and implantation costs for our ERP system totaling $5 million. Our operating cash burn is defined as cash used for operating activities plus additions to fixed assets. Our inventory position was $36 million at the end of Q4 and has increased each quarter in 2007 principally because of the rapid revenue growth, the 10 new products we released throughout the year, and the need to place inventory in the European markets. Orthopedics traditionally has a high working capital requirement. Specifically, to NuVasive our inventory to sales ratio, should average about 25% and may spike in a quarter depending on how many and what type of products get launched. Additionally, a corresponding increase has occurred in our property and equipment costs for the same reasons. Day sales outstanding or DSOs were 53 days in Q4, 07 compared to 56 days in Q3.

I will now provide guidance for 2008. For the full year of 2008 we expect revenue to be in the range of $204 Million to $208 million. We expect international revenues to contribute between 2 and 3% of total 2008 revenues. This revenue guidance is an increase of 32 to 35% over our prior year. As Alex mentioned, our sales force strategy for new geographical penetration in 2008 is to establish clinical education and market awareness followed by building the territories outward. We anticipate these sales management enhancements to be fully implemented by the second half of 2008 which gives us confidence in our full year financial guidance. We expect full year 2008 gross margins to be in the range of 81 to 82 % compared to 82.3% in 2007. We feel that this is a sustainable gross margin range which takes into account our international operation. From an operating expense perspective, before stock-based compensation, we expect research and development cost to average in the 12 to 13% range and sales marketing and administrative expenses averaged 62 to 63% of total revenues. These percentages compare favorably to 2007 when R&D was 14.5% and sales marketing and administrative was 70.1%. We expect these efficiencies in our operating expense base over 2007 levels to translate to GAAP earnings in 2008. Non operating income principally consisting of interest income should be approximately $3 million to $3.5 million in 2008. In accordance with investment policy guidelines, our cash is invested in short term investment grade instruments, and with recent market trends our yields will be reduced from 2007 levels. We expect full year 2008 stock-based compensation to be in the range of $19 million to $20 million and allocated on a percentage basis as follows: R&D 15%, sales marketing and administrative 85%.

As Alex mentioned, to provide the infrastructure necessary to achieve $500 million in revenues and beyond, we’ll be moving to a new leased campus style headquarters and converting to a new ERP software system, both of which will carry additional cost. Not withstanding these costs, we reiterate our commitment to marginal GAAP profitability for the full year 2008 and expect GAAP earning per share to be in the range of $0.02 to $0.05. On a non-GAAP basis which excludes stock-based compensation and amortization of acquired tangible assets, we expect 2008 earning per share to be in the range of $0.56 to $0.59. Reconciliation from GAAP to non-GAAP earning per share is disclosed in the table in our press release.

It is our policy to provide only annual guidance, however, in order to provide context for 2008 quarterly modeling purposes we are providing the following: for the first quarter of 2008, we expect revenue to be in the range of $47 million to $48 million with gross margins to be in the range of 81% to 82%. For first quarter 2008 revenues should see only a marginal increase sequentially due to our considerably strong fourth quarter 2007 and to allow for the new sales geographic territories to assimilate. We expect first quarter 2008 stock-based compensation to be in range of $5 to $5.5 million and allocated on a percentage basis as follows: R&D 15% and sales marketing and administrative expenses 85%. On a non-GAAP basis we expect first quarter 2008 earnings per share in the range of $0.01 to $0.03, on a GAAP basis we expect a loss per share in the range of $0.13 loss to $0.11. I would now like to turn the call back over to Alex for closing commentary.

Alexis V. Lukianov

We see the spine market growing at a 12 to 15 % pace bringing the size of the overall US implant market to $4.2 billion in 2008. This growth rate is supported by an increase in the number of procedures, particularly cervical and the introduction of technology focused on the approximately 500,000 fusion procedures performed annually. Within the $4.2 billion market MIS is still a small but rapidly growing segment. Our estimate for the number of procedures performed in an MIS fashion is less that 20%. As this segment continues to grow, eventually representing the majority of total procedures, we believe that our differentiated and easy to use MAS products, which we believe provide benefits over complex and poorly reproducible MIS techniques, will deliver greater market penetration and a double digit market share.

During 2008 we have a number of initiatives in place that will serve to build the infrastructure necessary for our long term growth, allowing NuVasive to become a dominant force in the spine market.. We will relocate to our new corporate headquarters. The new campus style environment will accommodate all of our departments in a single location and enable growth up to 300,000 square feet over the next several years. This will allow us to leverage our unique culture of absolute responsiveness across the entire organization and continue to provide the best clinical education with our state of the art operating theatre. In addition to the relocation, we will also complete the conversion to a multi million dollar SAP enterprise software platform that will unify our operations and increase our operational efficiencies in headquarters, our distribution center in Memphis, our new office in London, as well as Germany. Consistent with our infrastructure investments we will significantly invest in our sales training program. This is a key initiative supporting our sales strategy, providing our entire sales organization with the resources and skills required to educate a greater number of spine surgeons on our unique products and technologies. While these initiatives will bring additional cost in 2008, they are necessary components of our planned growth trajectory. We remain focused on delivering operating leverage during 2008, and reiterate our commitment to marginal GAAP profitability for the full year.

In summary, we are pleased with our performance in 2007, making substantial strides toward $500 million in revenue over the next several years, together with significant operating margins. Our sales force has gained the momentum necessary to drive deeper penetration and expand geographically, our broad product suite is one of the most innovative in the industry, and allows us to address the complete needs of a spine surgeon. Our combination of industry leading innovation and the platform to distribute it will lead us towards approximately 5% US market share in 2008 and on to double digit penetration in the not too distant future. Despite all of our accomplishments regarding technology our unique and differentiated product platform and financial performance, our focus remains squarely on our core cultural values. These include absolute responsiveness to our customers, the ability to rely on fellow share owners to provide support, and deliver outstanding performance standards, and a dedication to being the easiest spine company to do business with. These values are the driving force behind everything we do, because of this focus we are able to bring products to market much faster, respond rapidly to customer needs, anticipate trends and have the courage to try new things. The growth in our business provides opportunities to grow our culture and bring our unique brand of responsiveness and service to more customers. The challenge of proliferating our cultural values in step with our revenues is one that our shareowners readily accept.

In closing we are extremely proud of the unique product offering we have built through our organic development efforts. This focus on internal development of advanced products and technologies is the foundation for our drive to $500 million. We also plan to be opportunistic about acquiring other products or technologies that represent synergistic additions to our core MAS platform and fit our goal of becoming the most innovative provider of spine surgery products. Our market position and strong exclusive sales force provide the right foundation to successfully integrate new strategic technologies into our company. We would now be pleased to answer any of your questions.

Kevin C. Valentine

Actually before we go to questions, in my prepared comments, our cash number was $89.7 million not $87.9 million let’s make sure we have that clarification. Now we can turn it over for questions please.

Question-and-Answer Session

Operator

Ladies and gentleman at this time we will be conducting a question and answer session. (Operator Instructions) Our first question today comes from the line of Raj Denhoy with Bear Stearns.

Analyst for Raj Denhoy – Bear Stearns

A question on guidance, given your long term outlook of mid 30% top line growth year-over-year, it looks like 08 might be a bit conservative? Is that a decent way to look at it, or could the growth in the out years actually pick up as you gain more territorial expansion and also get into Europe?

Alexis V. Lukianov

Well you know I think as we talked about during the call we’ve made a number of changes in terms of sales management that we want to be sure have the stickiness that we anticipate they’ll have in the first quarter so that’s why we’re really proposing that our growth will be somewhat marginal with regard to sequential growth over the first quarter over the fourth. So we feel very comfortable about our guidance and I think as we get further into the year we’ll see where that takes us but we think it’s the appropriate place to start.

Analyst for Raj Denhoy – Bear Stearns

Okay great and just in terms of sales force leverage at what point do you think that leverage is really going to start to flow through? You mentioned 11 regions now in the US that’s more than double from where you were not too long ago, you know obviously a number of new products here so when is that leverage start to kick in?

Alexis V. Lukianov

In terms of decreasing our expenses further you mean? Is that what you mean?

Analyst for Raj Denhoy – Bear Stearns

Yes exactly.

Alexis V. Lukianov

Well I think that we’ve certainly made some very strong strides in that area as Kevin talked about. I think we’ll see further leverage into 2009 and I think that’ll put us into a very strong position at that point.

Analyst for Raj Denhoy – Bear Stearns

Okay so 09. And then just last one on cervical, where do you think the cervical portion of your business can be in a couple of years? Can it be you know 10, 20% of the business? You know where do you see that becoming? Thanks

Alexis V. Lukianov

Well it’s below 10% now and we anticipate it moving to well above 10% as we go into 2008. Our belief is that over the next few years as total disc replacements come into vogue as we believe that they will on the cervical side and as NeoDisc makes its way into the market place there’s still going to be a very strong place for fusion. So building our position with fusion products first and then following in with NeoDisc we think puts us into a terrific place over the next three, four years with having really a strong foundation in the cervical arena and having the position of 20% or greater.

Operator

Our next question comes from the line of Bob Hopkins with Lehman Brothers. Please proceed with your question.

Bob Hopkins – Lehman Brothers

Couple of quick questions, first I think I know the answer to this but, should we anticipate that you will have any financing needs in 2008 or do you think you’ve got plenty of cash to give you the flexibility to run your business the way you want to run it and identify any opportunities?

Alexis V. Lukianov

I’ll let Kevin jump in here in a second but I think certainly we have plenty of cash with regard to being profitable with regard to doing the things that we need to do. I think concurrently we’re going to be looking at opportunities as we always do and see what makes sense and you know if something comes down the road that we really feel like we need to do and that requires additional funding then we’ll revisit that. But we certainly have what we need for operations for the next several years.

Bob Hopkins – Lehman Brothers

And then from an M&A perspective should we read into your comments that you’ve got a few things identified? Or are these more just general comments on what we should be looking for for the rest of the year?

Kevin C. O’Boyle

Well we’ve been looking at things for quite some time as you know we haven’t acquired anything since the start of last year when we did the Formagraft acquisition. We feel that there’s a number of areas that we would like to do additional acquisitions in, clearly there I think more things we could do in the whole non-fusion area if you want to call it that. There’s quite a few company’s working in that arena. Certainly more biologics, we don’t have a presence in tumor or trauma. We haven’t done anything in the vertebroplasty area. So there’s quite a few areas that we have not focused our unique technology on that I think we should you know continue to seriously consider and we’re looking under every stone and seeing what’s going to make sense for us in 2008 and 2009.

Bob Hopkins – Lehman Brothers

Okay great the OUS contribution that’s factored into your guidance, is that more in the $1 to $2 million range or is that in sort of the $5 to $10 million range?

Alexis V. Lukianov

No Bob, that was 2% to 3% of the overall revenue number. So it’s higher than that.

Bob Hopkins – Lehman Brothers

Okay for Europe in 08 2% to 3% of total revenues.

Alexis V. Lukianov

Yes.

Bob Hopkins – Lehman Brothers

Got it, okay. And then talking about this expansion in the number of territories going from five to eleven, when did this go into effect?

Alexis V. Lukianov

January 1st.

Bob Hopkins – Lehman Brothers

January 1st okay. And so those six new territories, what percentage of those are brand new territories versus chopping up existing territories into smaller pieces?

Alexis V. Lukianov

It’s all of it is chopping up existing territories. It’s taking the United States which had five territories and moving it into 11. So what we did is we took area business managers that have been very successful in growing our business, moved them into sales director positions and given them some additional responsibilities, taking existing sales directors and of course narrowed their scope and so now what we’re doing is with the expanded responsibilities of our sales directors we’re back filling for lack of a better term. But we’re adding new area business managers, new sales representatives as the stars that have really done a great job for us are now expanding and they’ve taken on an additional state or two. So it’s allowing us to overall focus our efforts with our top talent and to begin adding more area business managers and representatives underneath those sales directors.

Bob Hopkins – Lehman Brothers

Have you had any turn over as a result of the changes?

Alexis V. Lukianov

No.

Bob Hopkins – Lehman Brothers

Okay and then final question just on any pricing trends that you’re seeing out in the marketplace Alex and any comments on you know now that you’ve got a cervical artificial disc on the marketplace you know how you see the acceptance of that product and it’s impact on your business. Thank you very much.

Alexis V. Lukianov

We see the pricing environment being pretty stable. We have not seen really any changes or spikes in that. I think that it’s been consistent with the same environment that we saw last year going into this year, the metropolitan areas as usual looking for more discounting within the more rural areas and I don’t think that’s really changed very much. On the total disc replacement side as we move into Europe and position that we’ll see how that goes, we believe that it can be competitively positioned from a pricing perspective so we think we can command at least what markets getting if not a premium with near NeoDisc. So we’ll see how that goes. I think in the US what I’m happy to see is that the TDRs are being priced at a reasonable level compared to perhaps what was done on the lumbar side once upon a time. So I think that makes the market much more reasonable and I think the market much more open to the acceptance of cervical devices and I think paves the way for us in the next couple of years with NeoDisc.

Operator

Our next question comes from the line of Matt Miksic with Morgan Stanley.

Matt Miksic – Morgan Stanley

So couple of things, I guess one drilling down on cervical and a little on lumbar, anything going on in those markets, I mean [X-infuse] and Biologics, different growth dynamics potentially that you’re seeing are just are they growing at different rates as you move more into cervical?

Alexis V. Lukianov

No, we’ve not seen that yet. I think we’ll start to see that once they get past the reimbursement challenges with TDR. I think we’ll see the market start to grow in terms of the number of procedures being done on the cervical side. We’ve not seen that as of yet. We see the same growth rates that we saw in 2007 heading into 2008 at this point in time.

Matt Miksic – Morgan Stanley

And the additional growth around TDR’s would be what just driven by more people coming in for procedures in general?

Alexis V. Lukianov

Yes I think for certainly what the whole idea behind TDR is that it’s earlier intervention. Otherwise TDR doesn’t really work very well if you don’t come in for early intervention and come in before there is additional degeneration. So that means that there’s people waiting on the sidelines that are otherwise going to be waiting until there in the end stage of the disease to be treated. So our guess has been that that’s going to increase the size of the market by at least 10% and I think that’s conservative.

Matt Miksic – Morgan Stanley

Okay and then similarly in thoracic, I guess, if we look at the spine market as growing somewhere in the 10 to 12% range excluding Biologics, if that’s in fact what you see also any differences about thoracic, any differences maybe in the competitive landscape area versus cervical and lumbar?

Alexis V. Lukianov

No thoracic and lumbar we see as being consistent. We don’t see a difference there.

Matt Miksic – Morgan Stanley

Okay some color around the sales force, you talked about these carving up some of the territories, drilling down a little maybe deeper penetration into some of the territories, I mean part of the effort has been opening new accounts, right, over the past year-and-a-half as you went to a national footprint and you know to what degree is sort of servicing versus opening you know farming versus hunting becoming an important role for the sales force?

Alexis V. Lukianov

Well this does both. That’s exactly why we did it so that it gives us an opportunity to make sure that we’re looking after the accounts that we have and it allows our very best people to expand out and obtain additional business in areas where frankly we have next to no business. I can give you an example of an area, for example where we’ve done well like Chicago. We’ve done really a nice job of gaining market share there over a two year time period but we have next to no business what so ever in Michigan and we have some limited business in Wisconsin. So our sales director that had responsibility for largely the Chicago area has had his responsibility expanded and we believe that he’ll be very effective in not only in maintaining but growing Chicago market as well as expanding into the others that I mentioned. That’s the strategy throughout the United States and I think it’s just going to take a little time for the sales directors to readjust to new accounts, to position people and so there’s a little bit of an inflection point. That’s why we’re very comfortable about hitting the total number on the year but I think it’s going to give us even more gas for 2009 with regard to our goal for hitting $500 million in the way of the right infrastructure.

Matt Miksic – Morgan Stanley

That’s top line leverage. Are there cost implications of going to this sort of multi-level sales force structure?

Alexis V. Lukianov

No. Actually to a large degree it’s less expensive for us.

Matt Miksic – Morgan Stanley

Okay. Just quick question on the cash trends and kind of where if you can give us an idea of where the low watermark here is for cash? I guess at some point this year you’re going to or maybe I don’t know if it’s this year, but where does that drop out assuming no significant acquisitions?

Kevin C. O’Boyle

You know we’ll burn cash in the first couple of quarters and then start producing some cash in the second half of the year. So the cash numbers shouldn’t change materially you know from beginning to end. So you know that’s obviously the cash position moving throughout the year.

Matt Miksic – Morgan Stanley

Okay and then on shares is that I don’t know if you gave the specific number but judging from your full year weighted number, you’re guidance for 08, I’m assuming that kind of pops up to something north of 40 towards the end of the year?

Kevin C. O’Boyle

You know we have it in our reconciliation of the press release Matt, it’s between GAAP and non-GAAP but it’s about $38 million, right around there for the weighted average shares outstanding for the year.

Matt Miksic – Morgan Stanley

Right. I guess I’m just, my question is that requires you to sort of be north of 40, to come out of the year over 40 raise to get fully diluted?

Alexis V. Lukianov

That goes to you know that’s a fully diluted calculation. That’s the denominator the fully diluted number.

Matt Miksic – Morgan Stanley

Understood. And the last question on NeoDisc and what I guess you’re seeing in the market at least when you keep doing the trial here in the US. Anything you’ve learned that you can talk about in terms of patient selection or maybe the way NeoDisc lines up against patients or appeals to patients relative to the other trials that are out there as well?

Alexis V. Lukianov

Well I think generally speaking the trial is going exactly as we would have anticipated a TDR trial to move forward with a different device. So we’re very pleased. Enrollment’s moving along nicely. We expect the outcome to be as anticipated. I’m going to ask Keith to jump in with any additional color as he’s closer to it than I am.

Keith C. Valentine

You know I think that the main point is that it is a completely complaint device and with a complaint device it opens up some additional flexibility but all of that needs to be proven out in the clinical trial itself. And we’re excited that the clinical trial provides a device that is fully imaging capable of CT, MRI so there’s a lot of modalities that are out there to evaluate the device and give better tracking of those patients as we get to the two year windows.

Matt Miksic – Morgan Stanley

Anything about the patients that are I mean you have the surpass as well but I mean is this you just find is there younger patients going for NeoDisc, older patients, what’s, any differences there?

Keith C. Valentine

It’s to hard to tell from a population perspective any major differences but you know we are assuming because this study is so similar to the number of other studies that have been run and we have the same variances across the country that we should have a pretty consistent population when compared to the other study’s.

Operator

Our next question is from the line of Ben Andrew with William Blair.

Benjamin Andrew – William Blair & Company

Just a few follow up s, I think most of the questions have been answered but if you look at the international market what is the opportunity, as 2008 unfolds to basically use that as an accelerator beyond what you’ve got in there? By which I mean how many kind of ripe opportunities are there territory wise and what chunk of those are you sort of going after in 08?

Alexis V. Lukianov

I think our business opportunities right now are in Germany and in the UK. That’s where we’re investing most of our time and resources so that’s really where the biggest pops are if you will for 2008.

Benjamin Andrew – William Blair & Company

And are there big differences in terms of the market dynamics there versus the US that we should be paying attention to as the year unfolds relative to volumes and revenue per case and things like that?

Alexis V. Lukianov

Well there’s big differences of course in terms of the systems and healthcare systems in general and the fact that there’s a lot more devices on the market and TDR’s been out there for years. What’s not different is that lateral TDR has not been in those markets so we’re still able to lead with very unique technology just like we have in the US and that puts us in a very strong position versus showing up with a pedicle screw system and another cage or what have you. So I think we’re in a terrific position with not only our [inaudible] products but also with NeoDisc that we’re planning to move forward with. So those are the two major products that we are going to focus on in 2008, primarily in those two countries and as we gain some traction then we’ll start working in other areas but we want to make sure that we stay focused and don’t get ahead of ourselves with regard to spending too many of our resources.

Benjamin Andrew – William Blair & Company

Okay and then maybe a question for Keith but as you look at the competitive dynamic out there, one of your competitors today announced what looks like effectively zero implant growth in the spine space and I’m curious if you’re seeing any change in overall market dynamics with some of the smaller physician owned firms coming in? )r what could really be driving some of the changes for the bigger players right now other than obviously taking share in some of the others but is there anything kind of beyond that that you can help us understand?

Keith C. Valentine

Yes I think there is what you just mentioned, there is certainly some nice growth out of some of the surgeon owned and some of the smaller spinal device companies but I don’t think you’re seeing any kind of limits to procedural numbers because of the advent of motion preservation. I think the market is expanding nicely just as Alex described for the cervical platform and will continue so as the reimbursement pathways unfold. So I think it’s largely a lot smaller competitors are taking more and more share now and that share is becoming a significant part to some of those larger players.

Operator

Next question is from the line of Steve Lichtman with Bank of America Securities.

Steve Lichtman – Bank of America Securities

On the international contribution for 08 the ramp here is a little stronger than we had expected so just to be clear what are the main drivers that you’re seeing driving that internationally? Is it XLIF as well as lateral [inaudible]?

Alexis V. Lukianov

XLIF and we’re planning to launch NeoDisc internationally and doing it in a small number of countries as I just outlined to Ben largely German speaking and UK and also of course with NeuroVision being one of the key products part of the MAS platform. So those are the key products that we will be driving out into those two countries primarily and then expanding from there.

Steve Lichtman – Bank of America Securities

Okay and when would NeoDisc launch overseas?

Alexis V. Lukianov

We actually had our first sale over there just recently so we’ve just begun but we’re short on the size of our sales force. So we want to be very realistic about what we can produce and that’s why we’re you know 2 to 3% we think is reasonable. We did get things started last year. We do have a few people so we have some momentum that we’ve brought into 2008 and we’re pretty excited about doing 2 to 3% of revenue and being able to grow that to ultimately 10% over the next few years as I’ve talked about before.

Steve Lichtman – Bank of America Securities

And originally you had spoken about perhaps seeding the market more with discs and then coming with XLIF perhaps just on concerns about training but obviously that’s not the case so can you talk a little bit about the training program?

Alexis V. Lukianov

Yes well what we talked about was that before we can do a lateral disc we need to make sure that we have centers that can do an XLIF procedure. So they have to learn the XLIF procedure so we’re going to certainly move down that path and I think what you’re talking about is the same it hasn’t changed. So we’re doing XLIF, we’re going to be doing some lateral TDR but we don’t plan to do a big launch in Europe, we’re just going to really be doing a smaller number of centers in that area. So it’s really NeoDisc and XLIF and we will be doing some surpass centers, doing a number of centers utilizing surpass in Europe but we don’t really look at those as being major generators of revenue which is it’s the primary question I was answering are what are the primary revenue generators for Europe.

Steve Lichtman – Bank of America Securities

Okay you briefly touched on a dynamic rod, can you flesh that out a little bit more perhaps in terms of potential timing and maybe a little bit of the characteristics of the product?

Alexis V. Lukianov

Well we’re talking about the second half of the year in terms of having and really are position is different is talking about a different approach to this so we’re not really talking about a dynamic rod as similar to what everybody else has. We’re approaching fusion in a different way and I think as we’re ready to launch that we’ll talk about it a lot more.

Steve Lichtman – Bank of America Securities

Okay and then on NeoDisc I know it’s early but is there any thought to being able to see some interim data over the two year follow up period. Have you given any thought to that?

Alexis V. Lukianov

We’ll we’ve certainly have some good data out of Europe which we’ve had presented on several times and you know we’re now approaching some pretty strong data in the US. I’ll as Keith to add any further comment.

Keith C. Valentine

Yes there’s a number of meetings coming up this year that have submissions are in place and we’ll see how they play out with getting time on the podium or getting time in posters. But you’ll absolutely start seeing some you know interesting data points from the study as it unfolds and certainly we have to do that under the guidance of how you can present data from single site or certain pooling rules of sites but you’ll start to see that over the course of the year.

Steve Lichtman – Bank of America Securities

Okay great and then you talked about sort of the restructure, a little bit of the sales force here in terms of the territories. Did you talk to the number of sales reps and the growth you’re anticipating in 08? If not could you give us a ballpark?

Alexis V. Lukianov

Yes. Similar to last year’s Steve, approximately 15%.

Steve Lichtman – Bank of America Securities

And in terms of timing is that earlier in the year, spread out during the year?

Alexis V. Lukianov

Spread out.

Operator

Our next question is from the line of Michael Matson with Wachovia.

Michael Matson – Wachovia Securities

I guess I noticed that you’re gross margin that you’re guiding to is a little bit below where you ended the year in 07 for the full year. I guess I can come up with a couple of reasons but I just wanted to hear your thoughts on that?

Alexis V. Lukianov

Yes. We wanted to make sure as we start selling internationally and as we all know they have lower ASP’s and therefore you know a lower gross margin that we take that into effect in our guidance.

Michael Matson – Wachovia Securities

Alright, that’s helpful. And then the guidance you’re showing a fairly big or I guess bigger than we had modeled loss in the first quarter but on a GAAP basis you’re guiding to slight profitability for the full year, so it looks like you’re going to be pretty profitable in the back half of the year. In other words there’s going to be a pretty significant ramp in your GAAP profitability throughout the course of the year. Does that seem right?

Alexis V. Lukianov

Yes. That is correct.

Michael Matson – Wachovia Securities

Okay and then revenues from your international sales, can you tell us what that was in the fourth quarter?

Kevin C. O’Boyle

Last year it was, I don’t know what it was in the fourth quarter but on the year it was less than a percent.

Michael Matson – Wachovia Securities

Okay alright and then for the sales force growth that you talked about, how much of that is going to be outside of the US versus in the US?

Alexis V. Lukianov

I’m sorry say that again.

Michael Matson – Wachovia

The sales force growth, I think one of Stevens question was about?

Alexis V. Lukianov

The answer to that was just about all US, very little outside the US. We’re going to be going with small core sales forces as we build up. As we talked about we’re saying 2% to 3% of revenue so that equates to what $6 million approximately something like that. So we want to make sure that we don’t overbuild our sales force.

Michael Matson – Wachovia Securities

Okay and then just taking a longer term view as you start to get towards that $500 million level in revenue in terms of your margin potential I mean is it fair to look at your operating margin potential being 20% to 25% and then net margin kind of in the 15% to 20% range over the long long run?

Alexis V. Lukianov

When we look at the operating margins you know at being you know 20% on a non-GAAP basis you know when we commit the $500 million mark. You know we’re comfortable with that. We’ve seen other who have very strong gross margins achieve that and with the potential of going higher so we think that’s very realistic.

Operator

Our next question is from the line of Ed Shenkan with Needham & Company.

Ed Shenkan – Needham & Company

Wanted to ask a little bit more on the market growth, an earlier caller talked about it some and you mentioned $4.2 billion market growing towards. What’s the expectation for growth in calendar year 08 and what are the market growths you estimate in the fourth quarter?

Alexis V. Lukianov

Well we estimate it to be about 12% growth for the year. It was, I think you know I think, I don’t have it for the fourth quarter in front of me; it was lower for the year. It was in right around 10%, 9% to 10% last year so really I think it started to pick up again going into this year but I don’t have those exact numbers in front of me.

Ed Shenkan – Needham & Company

As far as clinical data upcoming you know in an earlier call you talked a little bit about you know you hoped to get some NeoDisc presentations. Is there any other clinical data for other products that we should be expecting throughout this year?

Alexis V. Lukianov

Well we have quite a few presentations and papers that have already been written and you can anticipate quite a few things coming out over the course of this year additional papers being released on XLIF. There’s actually a book dedicated to XLIF that should be published towards the end of this year. So we’re very excited about that, which will be entirely dedicated to it, talking about all the techniques and experiences so that is certainly going to be a monumental publication.

Ed Shenkan – Needham & Company

Is that going to help some of the residency programs to you know increase adoption or is that just happening on its own?

Alexis V. Lukianov

I think that really just happens more through the fellowship programs where the surgeons who are using it are of course showing it to the fellows that are coming through but I think just in general there’s a very strong adoption process taking place in supply.

Operator

Our next question is from the line of Steve Ogilvie with ThinkEquity.

Steve Ogilvie – ThinkEquity Partners

You know with your very quick growth and obviously a lot of reps are excited to work for you guys and things are moving so fast and so well, I was wondering if you maybe talk to what checks and balances you put in place so as not to either get ahead of yourselves and to make sure you have quality in place? I mean, I guess one way of asking this is how do avoid the proverbial curse of missing a quarter once you move into the new headquarters?

Alexis V. Lukianov

Well how do you avoid it? I think you do everything you possibly can to prevent things like that from happening. You know that’s why I talked I think at length about what we’re doing with regard to sales training. We’ve completely worked to revamp the program that’s just unfolding over the course of this year. So we’re making sure that our expertise continues to rise with each individual and that allows us to go deeper as well as wider and that’s going to be important for our growth longer term. So that’s key obviously having our pipeline stay very strong so we continue to launch strong products. I think being able to roll out cervical in the first half of this year in a big way is certainly going to be a large advantage for our sales forces. We’ve not had a very strong cervical offering so now having both anterior and posterior systems to roll out is going to give our sales force I think some additional opportunities to really get in front of surgeons and not just talk about XLIF and thoracic XLIF and all the terrific things that are driving our penetration but to also be able to retain a surgeon’s business with cervical. So I think that’s critical. We do everything we can to make sure that our performance stays at the highest level possible, there are no guarantees in life and that is all we can really do.

Ed Shenkan – Needham & Company

Okay great and then final question, do you see you’re growth in the next year coming more from the existing base of customers? Or do you think you need to reach a lot of new doctors to hit your objectives?

Alexis V. Lukianov

I don’t think we need to reach a lot of new doctors. I think in fact what plays very well for us is our ability to capture more levels so we’ll certainly be doing both. We want to get new accounts especially in the territories that I talked about before where we haven’t been present so we want to make sure we get our sales representation into those areas. But our entire play over the course of 2007 which will hold true for the coming years is to be able to move into the thoracic spine, capture more levels, do adult degenerative scoliosis, do all the things that we’ve talked about and you know that’s just getting under way I mean that’s still very much in its infancy and I believe that’s going to really drive our revenues for many years to come.

Operator

Our next question is from the line of Joann Wuensch with BMO Capital.

Joann Wuensch – BMO Capital Markets

When you think about your $500 million goal do you think of it in terms of the types of products you need in your bag to reach there, the number of sales people and or the number of sort of sales per sales rep to reach that?

Alexis V. Lukianov

Well I think as we contemplate $500 million we believe that we can do it organically with what we have. We believe we can do it over the next several years and that’s why I’ve talked about being able to grow the top line around the mid 30% range. So I think our sales force will continue to grow at about the same rate that it’s growing right now. I expect us to continue to launch products and line extensions at about the same rate of approximately 10 product lines per year. So I think all of those things taken together are what allow us to continue to move forward and get to $500 million. If we’re able to come up with some acquisitions that make sense for us and are very additive to our technology and to the things that we want to do synergistically then I think that potentially allows us to do even more over the next several years beyond that.

Joann Wuensch – BMO Capital Markets

And is there a particular sales force number you have in mind to get to $500 million?

Alexis V. Lukianov

Well I think ultimately what I want to do is to have the sales force delivering in the range of $1.5 to $2 million in sales but that takes a solid per representative, but that takes a solid 18 months to even two years to accomplish. So it takes quite a while as you go into missionary territories before you get to that point. So I think you start to really get into a terrific position at the 400, 500 level. That’s really about where you want to be and that will get us closer to being the number two spine company over time.

Joann Wuensch – BMO Capital Markets

And my final question is when you first started hiring your new sales people about two years ago plus now, are those people still with you? You’re clearly growing it but are you retaining your core personnel?

Alexis V. Lukianov

I think that if you take a look at our turn over the sales side has been low. We really have, in fact we have our original sales people with us, the original four people from day one are now they’re sales directors their doing other things in the company on training side. So I think that’s one of the things that has been really solid the expertise within our company continues to grow on an ongoing basis and that’s what allows for very effective missionary selling of XLIF to surgeons as well as being able to confidently show surgeons how to move up the spine to the thoracic region because of that expertise.

Operator

Our final question is a follow up from the line of Matt Miksic with Morgan Stanley.

Matt Miksic – Morgan Stanley

Just one follow up and I apologize if you went over this earlier but I’m just looking at the increase year-over-year in stock-based comp and it looks like $6 million, $5 or $6 million or maybe like is that $0.15 a share is kind of what I’m getting, is that the right way to look at this?

Alexis V. Lukianov

It is.

Matt Miksic – Morgan Stanley

Okay. So that’s a significant amount of the step up year-over-year in SG&A and R&D is just around that number. Alright that’s all I got. Thanks again.

Operator

Thank you there are no further questions at this time. I would like to turn the floor back over to management for closing comments.

Alexis V. Lukiavon

Okay well thank everybody we’ll talk to you in April.

Operator

This concludes today’s conference. Thank you for participation. You may disconnect your lines at this time.

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