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Teleflex, Inc. (NYSE:TFX)

Q1 FY08 Earnings Call

April 29, 2008, 09:00 AM ET

Executives

Julie McDowell - Sr. VP, Corporate Communications

Jeffrey P. Black - Chairman and CEO

Kevin K. Gordon - EVP and CFO

Analysts

Deane Dray - Goldman Sachs

James C. Lucas - Janney Montgomery Scott

Operator

Good day, ladies and gentlemen, and welcome to the Teleflex Incorporated First Quarter 2008 Earnings Conference Call. My name is Sean, and I'll be your coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. [Operator Instructions].

I'd now like to turn the presentation over to your host for today's call, Ms. Julie McDowell, Vice President of Corporate Communications. Please proceed.

Julie McDowell - Senior Vice President, Corporate Communications

Thank you, Sean. Good morning. I'd like to welcome you to this conference call to discuss Teleflex's first quarter 2008 financial results. The press release is distributed this morning. That release and a set of slides to accompany our remarks on this call are posted on the Teleflex's website. Please note that this call will be available on our website and an audio replay will be available by dialing 888-286-8010, or for international calls 617-801-6888, pass code number 82788079.

Participating on today's call are; Jeff Black, Teleflex's Chairman and Chief Executive Officer; and Kevin Gordon, Teleflex's Executive Vice President and Chief Financial Officer. Jeff and Kevin will make brief prepared remarks, and then we will open up the call for questions.

Before we begin, I'd like to remind you that some of the matters discussed in this conference call will contain forward-looking statements, including but not limited to statements as noted on our slide. These comments relate to revenue growth, expected full year diluted earnings per share from operations before and after giving the effect of special charges, forecasts regarding operational performance, restructuring and other special charges, cash flow from operations, segment performance and operating profit margin percentage growth. We wish to caution you that these statements are in fact forward-looking in nature and are subject to risks and uncertainties. Actual results could differ materially from those in these forward-looking statements. Factors that can cause the actual results to differ materially from those forward-looking statements we make today are included in our press release and in our filings with the SEC, which can be accessed at www.SEC.gov.

I'll turn it over now to Jeff Black.

Jeffrey P. Black - Chairman and Chief Executive Officer

Good morning everyone. Thanks for joining us. I'll start with a quick summary; solid quarter for Teleflex and a great start to the year. Revenues for the quarter were $604 million, up 37% on acquisitions and currency. EPS excluding special charges was $0.85, clearly in line with our guidance and expectations for the full year.

The Medical segment delivered a strong performance on the bottom line more than offsetting weaker operating profit in the Aerospace and Commercial groups. Adjusted Medical segment operating margins were 20.9% for the quarter. The Arrow integration is delivering results and we are benefiting from operational efficiencies sooner than we expected. One of the positive takeaways of the pace of the integration efforts in this margin improvement is that it enables us to start ramping up investment in research and development ahead of our regional timetable.

Overall, both Aerospace and Commercial performed as expected, although Aerospace margins were pressured a little by investment costs and accelerated delivery of new systems, and Commercial struggled with the loss in power systems. Core revenue for Teleflex, overall, declined 2% on the big swing in sales in auxiliary power units for the North American truck market compared to the strong quarter just a year ago. Overall, operating margins before special charges for the year were 14.6%, up 30 basis points. Cash flow from operations adjusted for the tax payment on the gain of the sale of our automotive and industrial businesses was $41 million. So overall, we have made good progress in the quarter and we are reaffirming our full-year guidance of $3.70 to $3.90 for 2008.

Let me give you the first quarter highlights of our Medical segment, and then spend a few minutes detailing the composition of the segment with the addition of Arrow. Revenue growth in Medical this quarter was from the acquisitions and currency. Core revenue declined 1% compared to last year, but improved sequentially. There were number of puts and takes across the various product lines that Kevin will detail in his commentary. But in short, we had nice growth in Europe for surgical products, in both Europe and the Asian markets.

In North America, core revenues were down slightly, impacted by lower volumes for surgical products as we've seen a reduction in elective surgical procedures and continued price pressure and volume declines in urology. We saw some benefits from recently introduced Arrow products and introduced a new product for hemodialysis as well.

In the OEM business, we saw the order backlog for the OEM business improved towards the end of the quarter, a very positive sign for our orthopedic instrument product lines. And we have been achieving our integration plans even with the significant resources dedicated to the FDA compliance initiatives.

We have teams of people actively engaged in bringing our quality systems to full compliance, and expect this effort to continue through the reminder of the year. I am pleased with the progress here, but it is important that we keep this as a top priority for our organization.

On the last call, we were asked for some perspective on the medical revenue by region and product group. This slide will detail the way in which we look at our business. 90% of our revenues come from the critical care, surgical, cardiac product sold to hospitals, and healthcare providers, roughly, evenly divided between North America and the rest of the world, but clearly, with room for growth in places like Asia, Latin America and Eastern Europe. 10% of our revenues come from the sales of products to medical device manufactures as components of [ph] product sold worldwide. These reflect in new slide as OEM which stands for Original Equipment Manufactures. Critical care products are the largest product group, representing 63% of sales.

With Arrow, we added vascular access, regional anesthesia products to our critical care lines, and we added a cardiac care product category as well. Again, it should be noted that well over 80% of our total revenues come from disposable or single use products.

On our last call, we also mentioned some of the recent Arrow product introductions that are expected to contribute to the growth this year. Shown on this slide are just a few of the recently introduced Arrow products that are expected to contributed to future sales. The pressure injectable Central Venous Catheter launched earlier this year, and as the additional indication for pressure injectable up to 10 milliliters per second giving clinicians who perform CT scan the option of using an indwelling Arrow CVC without having to insert another catheter for the CT scan. This joins the pressure injectable PICC line Arrow introduced last year, and as shown here as well. Both products are available in the Maximal Barrier Precaution Trays.

Most recently, at the Society of Interventional Radiology Meeting, we introduced the next step Chronic Hemodialysis Catheter for release in the United States. It's nice to see the products with new products continuing during this period of integration, and we will continue to look forward to more.

Regarding integration, we're on track to achieve our targets for 2008 of pre-tax synergies, and in fact, have increased the expected savings to a range between $35 million and $40 million, at a run rate on annual pre-tax synergies of $70 million to $75 million by 2010. We've completed the first of our planned product line transfers and have announced plan for larger scale product transfers or facility consolidations, which are still early in the process, and expect them to occur over the next 18 months or so. It is also relatively early for any significant revenue synergies from changes in sales channels.

To-date, most of the activity has been in solidifying the leadership team, eliminating duplicate [ph] cost such as public company expense, reorganizing function of departments and streamlining operations. I'll move onto the Aerospace and Commercial highlights and then Kevin will give you a little bit more detail on the financials.

The highlight for Aerospace was the first shipment for the Boeing 767 special freighter and the Airbus 330/340. We're pleased to see the growing installed base for new systems on a wider array of airframes as we capitalize on our technology leadership in this market. As we mentioned on the year-end call, we have also been selected as SFE on the Boeing 747-8 scheduled for first delivery at the end of 2008 and also on the future Airbus A350 platform. We continue to invest here for new platforms and the surge and delivery scheduled for 2009 and beyond.

In Commercial, despite the down cycle in the marine market and a tough comp from last year, marine aftermarket and international sales delivered 2% core growth. Oil drilling activity in the Gulf region drove revenue growth in the rigging services as well. The weak spot with power systems were reduced demand for auxiliary power units, contributed to a 45% decline in revenues compared to a strong quarter last year. Overall, a good quarter with medical performance, offsetting the challenges in our smaller more cyclical businesses.

With that, let me turn it over to Kevin for little more detail.

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

Thank you, Jeff. Good morning everyone. Let's begin with the operating results for the quarter. Slide 12 provide the summary of results form continuing operations, noting the adjustments related to special charges in the quarter.

As Jeff indicated, revenues for the first quarter were $604 million, up 37% over the first quarter of 2007. Gross profit for the quarter increased 300 basis points to 39.7% as we benefited from the portfolio changes in the Arrow contributions in our Medical segment. Operating expenses of $151.6 million represented 25.1% of sales, a slight improvement from the fourth quarter of 2007 as we continue our Arrow integration efforts and invest in new technologies.

Operating income before special charges was $88.2 million, up 40% from $63.1 million in 2007. Adjusted operating margins of 14.6% represented an increase of 30 basis points compared to last year. Special charges in the quarter totaled $16.1 million, and operating income was $72 million, up 13.6%.

Slide 13 provides the reconciliation to the $0.85 EPS number from income from continuing operations before special charges. As we discuss the special charges, it is important to note that it relate entirely to the Arrow integration and Medical segment consolidation efforts. There was a committed focus on achieving the expected benefits from the portfolio emphasis on healthcare.

Restructuring costs in the quarter totaled $8.9 million or $6 million net of tax. We also had additional costs related largely to the Arrow integration of $294,000 or 219 net of tax, which were recorded in cost of sales and operating expenses. And as we mentioned on the year-end call in the first quarter we had additional transaction related charge, non-cash in the first quarter of 2008 for a fair market value inventory adjustment of $6.9 million or $4.4 million net of tax. This charge reduced reported gross profit, and it's the lap [ph] of such charges to be recorded in connection with the Arrow acquisition. Excluding these charges, income from continuing operations was $33.6 million or $0.85 per diluted share, compared to $0.85 per diluted share in 2007.

Slide 14 provides some perspective on the earnings number compared to prior year and the positive impact of our portfolio changes. First quarter 2007, earnings per share excluding special charges was $0.85. For the same period in 2008, operations contributed an additional $0.62 per share which was offset by higher interest expense and a higher tax rate of $0.55 and $0.07 per share respectively. This provide you a sense of the underlying performance of our operations, particularly the 61% increase in our Medical segment adjusted operating profit, and the impact this is expected to have as we reduce outstanding debt and effectively integrate Arrow into our tax structure. Continued expansion of the operating margins of the business and effective cash management will provide opportunity to reduce the debt and expand earnings growth.

Total outstanding debt was reduced $2.5 million in the first quarter of 2008, and net debt to capital as of the end of the first quarter was 53%.

Moving to cash flow, as we discussed on our outlook call in January, we're making income tax payments in the first and second quarters of 2008, related to the December 2007 gain on sale of our automotive and industrial businesses. These payments totaled approximately $90 million.

Excluding the impact of the $47 million tax payment related to this gain in the fourth quarter, cash flow from operations was $41 million in the first quarter of 2008, a 6% increase over the first quarter of 2007, and free cash flow increased 16% over the comparable quarter in 2007.

Operating cash flow for the full year 2008 will also be impacted by integration and restructuring costs of over $40 million. With that said, we expect to see continued strong cash flow as the year goes on, and we are comfortable with our guidance of over $250 million in cash flow from operations for 2008, excluding the aforementioned tax payments.

On the working capital front, the acquisitions of Arrow and Nordisk in the fourth quarter of 2007 negatively impacted our historical working capital metrics, and we are working to implement our strong cash management disciplines across these organizations.

We made improvements in inventory management across the entire company in the quarter; however, we experienced disappointing results in the area of accounts receivable. Naturally, there was the seasonality of certain businesses, such as marine, timing with large system shipments in the cargo systems business near the end of the first quarter, and certain significant customer payments received in early April. Regardless with a renewed focus in these areas we, of course, see this as an opportunity to continue to drive and improve the strong cash flow with the company. CapEx for the year, we continue to expect to be in the previously provided range of $60 million to $70 million.

Let's now look at first quarter results for the operating segments. Medical segment revenues increased 65% from $226.9 million in first quarter of '07 to $374.1 million in the first quarter of 2008. Core revenues declined 1% compared to first quarter last year, but improved sequentially, growing approximately 3% over the fourth quarter of 2007.

We've added a chart to illustrate revenue contribution by product category on a comparative basis. For critical care, the primary contributor to growth was the Arrow acquisition, with vascular access and regional anesthesia products adding a $112.8 million in revenue. We also saw a nice core growth for anesthesia and airway managerial products in Europe, and for respiratory care products in North America and Asia.

Urology products continue to see price pressure and lower volumes particularly in alternate sites in North America, while sales in European markets were up slightly. Surgical products had a good core growth in Europe and Asia across all product lines. This contrasted with a decline in surgical products sales in North America where we had a strong finish to the fourth quarter.

With the Arrow acquisition, we added a cardiac care product category and $21.7 million in revenues. And in the OEM business, we saw strength in specialty sutures, and at the end of the quarter, are growing order book for orthopedic instruments, an encouraging sign after several rough quarters. When compared with the prior comparable period, Arrow product sales grew 4%. This was largely North American growth. Revenues in Asia were impacted by a change in shipping terms to our Asian and Latin American distributors that reduced costs, but delayed product deliveries and revenue recognition in the first quarter. And we are still early in our sales channels changes in some of our other international markets.

Operating profit for the segment, excluding acquisition related charges, was $78.1 million, compared to $48.6 million in last year's first quarter. Adjusted segment operating margins were 20.9%, reaching the 20% level early in the year. As Jeff mentioned, we are achieving operational efficiencies and benefits from the Arrow integration ahead of schedule, and this provides us with the opportunity to ramp up investment in R&D projects sooner than we had planned. We will begin this ramp up in earnest in the second half of 2008.

In Aerospace, revenues increased 17% in the quarter from $110.3 million to $128.7 million, principally as a result of a $14 million contribution from the Nordisk acquisition, which expanded our cargo containers business. Core growth was 3% for this segment. Strong quarter for cargo systems sales with the first deliveries of the Boeing 767 and the Airbus 330/340 systems, we also had an up tick in deliveries of narrow body cargo loading systems, and it increased year-over-year in aftermarket spares.

Repair products and service revenues declined slightly on the phase out of the lower margin products that occurred in the third quarter of 2007 with our facility consolidation. Operating profit was $12.3 million compared to $12.6 million in last year's first quarter. Segment operating margins were 9.5% in the quarter and included a contribution to earnings from the joint venture entered into with this type of [ph]services in 2007. The delivery schedule for A 330/340 systems for this year was accelerated during the quarter and will add shipments of additional systems in the coming quarters. This change will increase core revenue growth more than originally forecasted this year. At the same time, the delivery of a higher proportion on these systems and the investments in 747-8 schedule to launch at the end of the year creates some margin pressure this quarter and well for the next few quarters.

All in all, we are expecting low-double digit aerospace margins this year as we invest for future growth and continue to expand the installed base assistance to systems. At this point, higher margin aftermarket spare sales still represent less than 25% of cargo systems revenues. And we would expect to see revenues grow as our installed base edges and the proportion of spare sales increases.

Commercial segment revenues in the quarter were $101.8 million compared to $103.2 million in the prior year. As we noted earlier, marine core revenues grew 2% even as we faced increasingly difficult market conditions. Rigging services core revenues increased 11% on stronger sale in the Gulf region. However, this was more than offset by a decrease of 45% in revenues from the power systems business, most notably, truck auxiliary power unit, which was worse than we had expected, and as compared to their strong revenue and profitability in the first quarter of 2007.

Overall Commercial segment operating profit declined from $5.5 million to $2.8 million for the quarter, and operating margins slipped from 5.4% in '07 to 2.8% in 2008 due to the reduced volume, commodity pricing and technology investments in the alternative fuel business. During the quarter, we ramped up the deliveries of new alternative fuel systems on a new contract in Latin America.

Looking ahead, we expect to see margin improvement as the year progresses, as we benefit from cost containment and operational efficiencies we have put in place to deal with the market conditions.

Turning to the outlook, clearly, a very good first quarter, and we are reaffirming our full year guidance. Before special charges, we are forecasting an EPS range of $3.70 to $3.90 per diluted share for 2008, an increase of 14% to 20% over the $3.24 per share in 2007. Special charges, which principally relate to charges from the Arrow integration and the fair market value adjustments to inventory, are currently forecasted at $0.60 to $0.67 per share. Earnings per share from continuing operations including special charges are expected to be in the range of $3.03 to $3.30 per diluted share in 2008.

And with that, I'll turn it back to Jeff with more on the outlook for the year.

Jeffrey P. Black - Chairman and Chief Executive Officer

Thanks Kevin. There is no doubt we're facing some uncertain times with the economy and we'll certainly have some headwinds in some of our businesses; however, 2008 promises to be a strong year for Teleflex. The changes we have made to our businesses over the last few years, divestiture of lower margin, more cyclical businesses, and most importantly, the strengthening of our medical business with the acquisition of Arrow, have positioned us well to compete and grow profitably in this difficult environment.

Revenues are expected to exceed $2.4 billion in 2008. Overall segment operating margins are expected to be in the mid-teens for the year, a significant improvement over the margins prior to the changes in our portfolio. We see overall revenues and operating profit growth accelerating as the year progresses, resulting in a strong second half of the year. In Medical, we expect revenue growth to be driven by sales in international markets, continued penetration in critical care products, and improvements in our OEM business on better orthopedic device and instrument sales, the signs of which we have already begun to see.

Medical segment operating margins on an adjusted basis have been in the 20% range and we expect to maintain those levels for the full year. We still have a heavy emphasis on integration activities and investments in the next few quarters to ensure that we maximize the synergies from the acquisition, and we will be investing in research and development and FDA compliance as well.

With the focus on the integration of Arrow and the combination of the leadership teams, we've made great progress on the synergy execution. As a result, we now see pre-tax synergies in 2008 in the $35 million to $40 million range. We expect our early successes to carry through to generate the increased savings as the year progresses.

In Aerospace, we now expect to see somewhat higher core revenue growth for the full year than we forecasted in January. Revenue growth will somewhat be predominantly related to the cargo containers acquisition, but we will see an increase in the new system sales on the Airbus 330/340 system delivery schedule as the schedule accelerates throughout the year.

As we said, we continue to expect margins in aerospace to be in the low double-digit range, driven in part by the benefits of the consolidation in the repair business last year and the synergies related to the Nordisk acquisition. However, there will be offsetting pressures from the higher mix of new system deliveries.

In Commercial, no doubt, we're dealing with the tough end markets in the marine and truck, and we've been very cautious in our outlook as a result. On the revenue side, we expect to be relatively flat with growth in rigging services, offsetting the decline in power systems. We also expect to see full year margins improve year-on-year with a stronger second half compared to last year when we saw the downturn in the power systems occur. Margin improvement will largely be the result of cost containment and operating initiatives.

In conclusions, it was a solid first quarter for Teleflex. We have been focused on integration activities and on creating a strong foundation and this will continue to be our top priority throughout the year. While we've made significant progress on the integration of Arrow, we are also reaping the benefit of the synergies. At the same time, we are turning to the investments we need to start to drive the top line and create future growth for our medical group. Looking ahead, we are excited about the opportunities we see and feel good about the path to get there.

With that, I'll turn it back to Julie.

Julie McDowell - Senior Vice President, Corporate Communications

Sean, we can take questions now.

Question And Answer

Operator

Thank you. [Operator Instructions]. Your first question comes from the line of Deane Dray with Goldman Sachs. Please proceed.

Deane Dray - Goldman Sachs

Thank you. Good morning.

Jeffrey P. Black - Chairman and Chief Executive Officer

Good morning.

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

Good morning, Dean.

Deane Dray - Goldman Sachs

Do you guys [ph]... the policy you've made in operating margins in medical, read out of the blocks, comfortably above 20%. You've mentioned both... both of you mentioned the idea that you'll be able to ramp up R&D ahead of schedule. So just make sure we have the numbers right. You have been talking previously about a 2008 target of a blend of around 4% of R&D spend. So, where might that R&D number go for the second half? And what areas and how do you allocate this additional capital?

Jeffrey P. Black - Chairman and Chief Executive Officer

Let me first touch, I think Deane, one of the things we've done is we have identified, obviously, a great market opportunity, and antimicrobial coating. We have committed to continue to invest in that segment. And I think as we've explained to investors, since we have done the acquisition of taking some of those antimicrobial coatings across our broader product range is where we're going to stay focused right off the bed. So I would say that that would be our focus. We see that as the greatest opportunity. And I think we feel pretty good that we have a pretty solid foundation to build off of there.

Deane Dray - Goldman Sachs

So the idea is to... you have the ability to drive margins higher in medical or you'll just take that additional profit and reinvest in the... on the R&D side. So, we should still be thinking low 20s is a sustainable level?

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

I think that's the right answer, Deane. If we're going to reallocate some of that and get into the R&D spending little bit sooner, financially as we do that we are in the process of bringing in the right people and identifying them. It's going to take a little bit of time but it's going to ramp up over the second half of the year.

Deane Dray - Goldman Sachs

Okay.

Jeffrey P. Black - Chairman and Chief Executive Officer

Deane, I think we have seen... I mean we see opportunities to obviously drive margin improvement. I think we've come to a point that we feel good with our initial integration that we can really start moving towards investing. And I think at the end of the day, while I think we can drive the margins higher than what we've talked about, we really need to start to drive the top line and that's going to require a fairly significant investment. And quite frankly, I love to sit here and just say you turn this ticket on and you get new products, and especially with where we're focused in medical, I mean it's really an 18 month process, and I think we feel it's important. We continue to invest as we see the opportunity going forward.

Deane Dray - Goldman Sachs

And just as a follow-up to that; two points. Jeff, can you just remind us of what has changed in the market regarding the reimbursement for infections in hospitals, and why the antimicrobial initiative looks promising. And then, Kevin, if one of the ways will meet [ph] measuring the success of R&D is new products. And maybe... I don't know if you have a product vitality index or an indication of what percent of new revenues come from new products. Is that something that you would be able to provide?

Jeffrey P. Black - Chairman and Chief Executive Officer

Yeah, I will touch on the first on the market driver for the opportunity. Last October whether it be just a stoke of genius or luck, literally two weeks after we had acquired Arrow, CMS which is the Medicaid, Medicare identified that they we will no longer reimburse for hospital-acquired infections effectively of October of this year. They do have a ramp in as to which procedures they will focus on. It's interesting, some of the conversation we've heard since then is that there are even... and again, I don't know if this is Medicaid or if this is further downstream, but the people are saying they may not reimburse in for hospital-acquired infection and they may not reimburse then before the original procedure which provided the infection.

So, I think those things all still need to be worked out. I will tell you there is a lot of activity in the hospital organizations of how do they deal with this dynamic, both from understanding, measuring containment, and more importantly, protecting their bottom line. So again, I... Deane, we feel we are well-positioned. I think if you look in the medical device market, we see many of our competitors also moving towards that area as well, because we think it's not only going to drive buying behaviors, but also provide margin enhancement.

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

Deane, in terms of the vitality index question, it's a good question as we move more... we moved more toward the healthcare side. And over the course of the last quarter, we've been having that discussion internally as to what is the best measure of that vitality index. I think we have got our parameters set up around that, and as we go forward, we will be introducing that and so.

Deane Dray - Goldman Sachs

Terrific. How about the idea... and I guess we shouldn't be surprised given the economic pressures. But your comment on some of the elective surgical procedure seeing some softness there, what specifically is going on and if you can put some numbers around that?

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

I just think [ph] we always talk about the economy not having a whole lot of impact on... fully on the healthcare. But when you have an elective opportunity, some times people make different choices. And I think we've seen a little bit of softness in our surgical side of our business in North America as a result of that.

Deane Dray - Goldman Sachs

Which product lines?

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

It's the surgical products, and when you look at surgical instrumentation in that area in particular.

Deane Dray - Goldman Sachs

But it's not surprising. You've seen both LASIK procedures falling off and dental procedures. So, I guess that's in the same boat. And then just to wrap up here, the appearance on the FDA compliance and SAP, please?

Jeffrey P. Black - Chairman and Chief Executive Officer

Yes, I'll deal with FDA. Kevin can deal with SAP. FDA, we are still moving forward. We recently met with our senior management team from the RAQA. It is a very detailed plan of driving getting to that compliance. I would tell you that I think our attitude is no question as soon as we can get there, the better off we will be. But at this point, we feel pretty confident that we are dealing with the issues. Again, if you go back and remember a lot of our issues were; our training records, process records, how do you deal with customer complaints, and some of those issues.

So, some of those things have been in place. What we are now trying to do is measure them and see if we've gained the kind of affectivity that we had hoped for. So, I think we feel pretty good about it. That does not mean to say that we do not have a lot of work still ahead of us. And I think as both Kevin and I have tried to imply, there are some costs associated with that which will... while we've seen good growth on our margins in medical, it will put a little bit pressure on them going forward in the year. So, we just want our investors to understand that.

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

In relation to SAP, Deane, the implementation as we said back in October went reasonably well. There were some bumps on the way. We continue to operate pretty well with this system, naturally, when you put in the system of that complexity, there is some learning curve and there is some efficiency loss that potentially have in the early part of it. There is no doubt we've experienced that. But on a total [ph] I would say our experience so far has been very positive, and we continue to move forward. The system doing quite well as you can see from the operating results.

Jeffrey P. Black - Chairman and Chief Executive Officer

And I think, the one think, we would not want to do is with our issue with receivables or a lack of collecting, we are not blaming on SAP.

Deane Dray - Goldman Sachs

Kevin, when do you cross that inflection point from the learning curve to actually the SAP efficiencies?

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

Well, we have so soon. I think there is a bit more training that we're looking at, doing an investing in that. But we went from relatively unsophisticated systems to the complexity of SAP. So, getting all the people ramped up, all the way through the fully integrated system has taken a little bit of time. But I think we are making good progress.

Deane Dray - Goldman Sachs

Thank you.

Operator

[Operator Instructions]. Your next question comes from the line of Jim Lucas with Janney Montgomery Scott. Please proceed..

James C. Lucas - Janney Montgomery Scott

Good morning all.

Jeffrey P. Black - Chairman and Chief Executive Officer

Good morning, Jim.

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

Good morning, Jim.

James C. Lucas - Janney Montgomery Scott

First question on the medical revenues. Were there any voluntary product line rationalizations that impacted the core sales?

Jeffrey P. Black - Chairman and Chief Executive Officer

Yeah Jim. There were a couple of those [ph]. As you may recall in mid-year, last year we exited our guidewire business. I think we mentioned that probably mid-year, last year. And we had a couple of other smaller lines that dropped out.

James C. Lucas - Janney Montgomery Scott

Cumulatively, would that have a material impact on the core number that you reported?

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

Probably for the first half of this year, it's about $3 million to $4 million.

James C. Lucas - Janney Montgomery Scott

Okay. All right. And then on the R&D, you commented that it's an 18-month process. Could you provide a little bit more color there as to how much of that is the internal development process versus the compliance getting the certifications?

Jeffrey P. Black - Chairman and Chief Executive Officer

To be honest, Jim, I think most of it is internal. I would say you get to the last four to six months as when you're dealing with the external and your filings. But most of it is truly internal. I think again, we've talked before about Arrow has taken a holistic approach towards R&D. So, within their R&D they have RAQA, they have the technical files. I mean they really have taken a very professional approach, and that now itself takes time to work through the system. Myself as being a sales guy 18 months is an eternity, but I think that's just the nature. And I think if you're going to come out with products that are critical to saving people's lives 18 months probably doesn't seem like that long of a time period.

James C. Lucas - Janney Montgomery Scott

Okay. And I... hence my question to you was that does seem like a long time, but that's a very fair point. Following-up on the geographical, the economy that seems to be out there, when you take a look; Arrow very strong in North America, their core is strong. The core, the historical Teleflex medical business seems to have a much stronger presence internationally. And when you talk about the medical results in the quarter, the economy was there that you continue to struggle in North America. Could you talk a little bit more about what you are seeing there besides the potential slowdown on the elective surgeries?

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

In terms of... you're right. The growth that we saw from Arrow, I think we mentioned, was about 4% year-on-year was North American base. So we continue to have strength there as we got through the integration. In terms of the core Teleflex product line, Europe and our Asian and Latin American markets certainly are leading away for us. Certainly, urology is a bigger component of the European market, which is not a big piece of our U.S. sales, much more focused on the anesthesia and respiratory lines here.

So as we've proceeded with Arrow, good strength here, consistent with the past. As we seen in the North American side, it's been a little bit of pressure I think in terms of price on some of the Hudson product offering, but our folks are working through that well on the marketplace. Europe very strong and our product continues to be strong. We launched a couple of new products there, a couple of the acquisitions that we did Tott [ph]for example added good strength to that and to North America. But we continue to focus on getting new contracts working with GPOs and signing up longer-term deals here in North America.

James C. Lucas - Janney Montgomery Scott

Okay. And Jeff, with regards to the integration that seems to be going relatively well, where have the positive surprises come from so far. I mean have there been any one or two areas that really stand out, or is it just been fundamental blocking intently?

Jeffrey P. Black - Chairman and Chief Executive Officer

No, I would say to me the... one of the biggest positives is the sales force. What we found is Arrow has a very clinically oriented sales force, very capable of picking up some of our products, our anesthesia products, and where they have their core point in anesthesia any way. So, I would just say, I mean some times when you bring two organizations together, you get sales people looking over their shoulder. I do not believe we've taken any feet off the street, and I know they would like to add more feet.

To me, when you see the enthusiasm, when you see... I mean are people are thirsting for new products. And I think it's really our job to continue to invest to get them some of that stream coming at them. But mostly our people say how this is going to impact me. At this point, I think we had our national sales meeting a month ago or so, and very positive, very upbeat. And I think the reality is some times when you see new sales people come in who were motivated and invigorated, it drives some of your current sales people to move a little faster.

So, a competition is a great thing whether it's internal or external. But I would say to be honest, what we've seen in the sales force is probably been the biggest positive.

James C. Lucas - Janney Montgomery Scott

Okay. And Kevin, on the commercial side when you were talking about the weakness on the APUs, you said most notably truck. Could you talk... are you also seeing weakness on the train side as well?

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

Yeah, I guess that point was Jim, I was referring to the decline I think it was about 45% of the revenue, most notably the truck APU impacted that. But year-on-year actually, the rail business is up, Jim.

James C. Lucas - Janney Montgomery Scott

Okay.

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

Like we actually... the biggest decline came from there and a little bit in Europe, our alternative fuels business. But the good news on the Europe alternative fuels business is we are ramping up this order to go into Latin America, which is bringing in some nice revenue as we look forward.

James C. Lucas - Janney Montgomery Scott

Okay. Thank you.

Operator

[Operator Instructions]. Your next question comes from the line of Michael El Hadj [ph] with JPMorgan. Please proceed.

Unidentified Analyst

Good morning gentlemen.

Jeffrey P. Black - Chairman and Chief Executive Officer

Good morning.

Unidentified Analyst

A couple of quick questions if I may really centered on the balance sheet. With receivables obviously as you stated running a little bit ahead of where you would like them to be, are you able to provide any guidance as to where on a sort of blended basis the working capital number should ultimately end up for you guys? Now that you've got an increased share of the medical in the overall mix?

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

Well, we've always had a strong desire. I think we've had a working capital measure that we've put out there in the past that actually I guess we haven't included here in the last couple of quarters but, as we look at what we call our working capital or our asset velocity in that we're trying to get that down to the mid-teens and that should be the target that we drive to. Now that certainly the portfolio mix has changed a little bit, since we've set that objective with Arrow coming in and Nordisk coming in and our commercial group, a big piece of our commercial group dropping out with the sale. So we're looking at that metric and we have a goal to continue to drive towards that mid-teens number.

Unidentified Analyst

And the timeline around that goal would be sort of 2010 and beyond in keeping with your other metrics for that time period?

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

I would say that, we would feel pretty good about driving there as fast as we can and 2010 is probably not an unrealistic goal for us to set.

Unidentified Analyst

Okay. Also curious with the acquisitions now, you're sitting on quite an expensive real estate portfolio. Can you articulate your plans about releasing capital from that portfolio, if there are any plans?

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

I would tell you, Michael [ph] we don't really get into real estate strategies here, but I would say our real estate actually... portfolio actually decreased with the portfolio transition that we made last year. The number of locations that went away with the divestiture compared to what we brought in on an acquisition basis actually positioned us a little better.

Unidentified Analyst

Okay. The board has given you approval for $300 million stock buyback program. Is there an expiration to that program?

Jeffrey P. Black - Chairman and Chief Executive Officer

Well, there is not.

Unidentified Analyst

Okay. And does the bank agreement that you have, limit payment to equity holders?

Jeffrey P. Black - Chairman and Chief Executive Officer

I think we've disclosed that pretty clearly in our financial filing. That there are restrictions on certain lists, transaction, yes.

Unidentified Analyst

Okay. And a last question if I may, how should we be looking at the sort of effective tax rate that you'll be faced with over the next couple of years. Is... would 30% be reasonable?

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

Well, our projection for this year, Michael [ph], is in the 27 to 29% range. I think you'll see in the first quarter we were right in that range and I think for '08 that's where we're pretty comfortable at the moment. Naturally with the acquisitions, we will be driving integration and working on improving that.

Unidentified Analyst

Okay. Thank you.

Kevin K. Gordon - Executive Vice President and Chief Financial Officer

Okay.

Operator

[Operator Instructions].

Julie McDowell - Senior Vice President, Corporate Communications

Okay, Sean.

Operator

We have no questions at this time.

Julie McDowell - Senior Vice President, Corporate Communications

Thank you. And that concludes our call. An audio replay call will be available by dialing 888-286-8010 or for international calls 617-801-6888. Pass code number 30859245. Thank you for joining us.

Operator

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Good day.

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