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Hologic Inc. (NASDAQ:HOLX)

Q2 2008 Earnings Call

May 1, 2008 9:00 AM ET

Executives

John W. Cummings – Chief Executive Officer

Glenn P. Muir – Executive Vice President and Chief Financial Officer

Robert Cascella – President and Chief Operating Officer

Patrick J. Sullivan – Executive Chairman

Analysts

Eric Lo – Merrill Lynch

Ed Shenkan – Needham & Company

Ryan (for David Lewis) – Morgan Stanley

Amit Hazan – Oppenheimer

Tycho Peterson – JP Morgan

Jayson Bedford – Raymond James & Associates

Amit Bhalla - Citigroup

Charles Chun [ph] – Goldman Sachs [ph]

Isaac Ro – Leerink Swann and Company

Jonathan Block – Sun Trust

Rob Halosey [ph] – Dot Black Rock [ph]

Bruce Jackson – RBC Capital Market

Josh Jennings – Jefferies & Company, Inc.

Valerie Brown – Alliance Bernstein

Matthew Scalo – Canaccord Adams

Operator

Welcome to the Hologic Incorporated second quarter fiscal year 2008 earnings results conference call. Today’s conference is being recorded. Before we begin, management of Hologic Inc. has asked that the following statement be read. Certain statements made by management of Hologic Inc. during the course of this conference call may constitute forward-looking statements within the meaning of Private Securities Litigation Reform Act of 1995.

Such forward-looking statements involve known and unknown risks, uncertainties, and other factors which may cause actual results, performance, or achievements of Hologic to be materially different from future results, performance, or achievements, expressed or implied by such forward-looking statements. Such factors include, among others, those detailed from time-to-time in the company’s filings with Securities and Exchange Commission.

We expressly disclaim any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements to reflect any change in our expectations or any change in events, conditions, or circumstances on which any such statement is based. At this time, for opening remarks and introduction, I would like to turn the call over to Jack Cumming. Please, go ahead, sir.

John W. Cumming

Well, thank you very much, Angelina, and welcome, everybody. Good morning. Good morning. Today is our second quarterly conference call for fiscal 2008. And joining me on the call today will be Dr. Jay Stein, our Co-Founder and Chief Technology Officer; Pat Sullivan, our Executive Chairman; Rob Cascella, our President and COO; and, of course, Glenn Muir, our Executive VP and CFO.

Before proceeding, let me remind everyone about the Safe Harbor Statement accompany our press release as it applies to comments made during the call. Of course, we are pleased to share with you our fiscal second quarter results for the period ending March 29, 2008.

As is normal procedure, I am going to briefly touch on the highlights while Glenn will provide further details on our operational progress as well as guidance for the remainder of fiscal 2008. And then, of course, we will then open up the call for questions. To begin with, a little more than six months ago, we completed the acquisition of Cytyc. And all of us have been extremely busy in terms of aligning the companies and setting a framework to maximize resources.

And I am pleased to report that alignment efforts are progressing very well. We have a great global team. And everyone is working extremely hard to utilize the talents and the resources of both companies. I am pleased to report that this marked our 17th consecutive quarter of increased revenue and adjusted earnings growth. And let me take a few minutes to summarize some of these results.

As stated in our press release, fiscal 2008 second quarter revenues totaled $431 million, which represents 138% increase over the second quarter of fiscal 2007. On a pro forma basis, including the former Cytyc, revenues rose 23.1% for the same period. For the quarter, our non-GAAP adjusted net income increased 218% to 76 million compared to our non-GAAP adjusted net income of 24 million in the second quarter of fiscal ’07.

On a GAAP basis, we reported net income of 56 million or 22 cents per diluted share which included one-time, non-recurring, and other charges which Glenn will more fully describe in his portion of the call. Highlights of the quarter, breast health revenues were 223 million for the second quarter which represents a 41% increase of the 158 million for the same period in fiscal ’07.

Selenia full-field digital mammography system sales together with R2 CAD continue to set quarterly records. As you remember from our last quarterly conference call, we forecasted 395 Selenias for the second quarter. And once again, we surpassed our target by recognizing 418 Selenia systems as revenue in Q2.

The diagnostics in GYN Surgical business, with sales of 180 million, posted a 12% increase in total revenues over the comparable March quarter one year ago led by solid growth internationally with sales up 32%, and, of course, the inclusion of Full Term. As we reported on last quarter’s conference call, we introduced the concept of relationship selling versus transactional selling to our GYN Surgical sales associates at our national sales meeting held in January of this year with special focus on increasing utilization of NovaSure in the physician’s office.

For those of you that may be new to the Hologic story, our GYN Surgical sales associates currently sell NovaSure, which is a device used to perform minimally-invasive outpatient endometrial oblation procedures for the treatment of menorrhagia or excessive uterine bleeding. Over 2.5 million women are being treated in the U.S. for menorrhagia with approximately 1.4 million women being prescribed hormonal therapies generally to address this condition.

With ACOG’s expanded guidelines on recommending treatment of this indication, with endometrial oblation as a first-line approach to address heavy bleeding, these 1.4 million women become our prime market to transition to a NovaSure procedure. Therefore, it is management’s belief the key to continued success of the NovaSure business is securing longer-term order commitments from the office-based practitioner and, therefore, creating more of an annuity revenue model which moves us away from Cytyc’s past practice of a more transactional approach which focused on securing short-term orders with shipment generally in the same quarter.

We are now highly focused on growing annual standing orders from the office-based market which will allow us to focus on increased procedure volumes while lessening the reliance on current order bookings. The near-term impact will be lower quarterly expected revenue for Q3 compared to Q2. However, Q4 we are going to show sequential growth over Q3, and it will mark the beginning of getting product growth back on track with office-based backlog playing a key role in the future.

And it’s very important to note that although Q3 revenue will be lower than Q2, there will be a corresponding increase in backlog which will be recognized in the future as revenue upon shipment. And our goal is to draw approximately 30% of quarterly revenues from backlog after the sales force has sufficient time to fully present the program benefits to the physicians that perform office-based procedures during the next year.

What is important for everyone here to understand is what this program is going to do in building backlog. It’s going to eliminate these quarter ending AUP erosions that we have seen because there is going to be less deal making, which is going to be a result in improved gross margins. It’s going to improve our factory loading by shipping linearly, and it’s going to result in improved inventory management and lower costs.

And finally, it’s going to increase office-based procedures which will lay the foundation for the Adiana sales down the road. In summary, we are pleased with our continued progress driven by the sales of our breast health products with continuing market gains by our Selenia full-field digital mammography system. We are also committed to continue to focus on cost and organizational alignments to drive operating efficiencies.

And we look forward to building upon this quarter’s success throughout the remainder of fiscal 2008 and to continue to enjoy the growth that we have internationally as a precursor to future gains across all product lines. And with that, let me turn the call over to Glenn. Glenn.

Glenn P. Muir

Thank you, Jack. I will now expand on the financial results of the quarter. And my comments are also summarized in a PowerPoint accessed on the IR page of our corporate website at www.hologic.com. My presentation today includes certain non-GAAP measures and a reconciliation of these non-GAAP financial measures to their most directly comparable GAAP counterparts as set forth in the same PowerPoint presentation at hologic.com.

This quarter represented the first that included revenues from the product lines acquired in the merger with Cytyc for the full quarter. Last quarter only included 10 of 13 weeks. Revenues of 431 million were at 23.1% higher than the marked quarter last year on a pro forma basis including Cytyc. Included in our GAAP results are two acquisition-related charges that total 31.6 million for the amortization of intangible assets and the inventory write-up to fair market value related to our acquisitions.

Absent these acquisition-related charges, our pre-tax earnings this quarter would have been 119.1 million. And using our effective tax rate of 36%, net income would have been 76.2 million or 29 cents per share. That’s based on 260 million shares outstanding. Revenues for the quarter came in $16 million higher than expected, led by an increase in Selenia sales. Our consolidated gross margins, adjusted for the acquisition-related charges, were 61.6% just under the range of 62 to 63% we were expecting.

Absent a $2 million inventory charge for our MRI extremity product line, our gross margins would have 62%, within the targeted range for the quarter. Our operating expenses, again absent the acquisition-related charges, were 127.4 million, slightly below the 130 million we were expecting. This combination of increased revenues, higher gross margin dollars, and lower operating expenses are what contributed to the better than expected bottom-line results.

As a reminder, our guidance was for non-GAAP adjusted pre-tax income of 110 million and EPS of 28 cents, which was based on 254 million shares outstanding. We now have four reporting segments, and I would like to touch on each briefly. First, our breast health, which is our largest, accounted for 52% of sales and includes product lines from mammography, R2 CAD, Suros breast biopsy, MammoPad, DRC digital detectors, the AEG selenium coatings, and the MammoSite breast brachytherapy.

This segment is also our fastest growing. It is up 41% year-over-year fueled by sales of digital mammography and the addition of the new product lines, the MammoSite breast brachytherapy product and then the MammmoPad comfort cushion. Since the MammoSite product line was acquired in the merger with Cytyc on a pro forma basis, if we include MammoSite in the year earlier period, our revenues increased 35%.

Our four main product lines all attained a new quarterly sales high. This included digital mammography, R2 CAD, Suros, and MammoSite. The expectation is for a sequential growth in these four product lines in Q3. But it was, again, Selenia that led all product lines in growth. Sales of Selenia, together with CAD, increased to 120 million versus 107 million last quarter. This included the sale of 418 Selenias up from 384 last quarter and higher than the 395 we targeted as demand continues to outpace our expectations.

Domestically, we shipped 319 Selenias and internationally we shipped 99. In the U.S. 95% of Selenias were shipped with digital CAD; it’s become standard. And as Jack stated, at quarter end our backlog of Selenias stood at 535, down 43 from the end of December. Our goal has been to begin to reduce backlog to shorten the lead time for shipments to our customers. This quarter we took 375 new orders, which was higher than last quarter.

Historically, Q2 has been our weakest order booking quarter, and we are encouraged by the order trends we are seeing. Based on early Q3 activity, we expect new orders booked in the current quarter to increase again. Selenia ASPs this quarter, as with last quarter, are stable. The primary drivers for our Selenia ASPs are not competitive factors as much as geographic mix, the product hardware configuration in either follow on or repeat orders.

If anything, this quarter we saw an increase in workstations and tech aids which would push up the overall order sales price a bit, but also depress slightly the gross margin percentage due to the mainly hardware component nature of the added product. For the quarter, though, our gross margins in the breast health segment increased slightly to 51% up from 50% in the December quarter and 48% in the year ago March quarter.

We move to diagnostics, our second-largest segment, accounted for 29% of sales and includes a ThinPrep and Full Term products. Revenues in this segment increased 16% over the comparable quarter of the prior year due to the inclusion of the Full Term product for the full quarter and increasing sales of the imager product. The ThinPrep product revenue met our expectations with domestic tests coming in at 8.8 million for the quarter.

We are continuing to expect between 8.7 and 9 billion tests in the U.S. market each quarter. Revenue growth is coming from international ThinPrep sales, imager sales both domestic and internationally, and the addition of Full Term in the most recent quarter. Looking at GYN Surgical, our third segment, accounted for 13% of sales and includes a NovaSure system and the future Adiana product when FDA approved.

As discussed, we changed the focus of our sales and marketing efforts for NovaSure this quarter. Although quarterly revenues were up 3% year-over-year, revenues declined $5 million from the immediately preceding adjusted 13-week December quarter. We have shifted emphasis away from hospital-based bulk purchase programs to individual use in the doctor’s office setting to stimulate long-term usage.

The key to future growth is making NovaSure the easy choice and the first line of treatment for women. To accomplish this, sales to the GYN surgeon for use in their office is critical. The greatest potential continues to be the majority of women who are first treated with hormonal therapies. This quarter began our shift in focus to this larger market opportunity. Our fourth segment, skeletal health, accounted for 6% of sales and includes the osteoporosis assessment, the Mini C-arm, and the MRI product lines.

This business continues to be challenging and affected by concerns over reimbursement uncertainty. That said, revenues were up 15% from December and 21% from Q2 last year due to an increase in the number of bone densitometers and Mini C-arms sold. We expect sales to be fairly flat for the balance of this fiscal year, but earnings are expected to rebound since Q2 was affected by an inventory charge.

Regarding our share count this quarter, our total fully-diluted shares outstanding increased at 260 million versus our expectation of approximately 254 million shares primarily due to the exercise in granting of additional stock options in the quarter. We are expecting the share account to only increase slightly from the 260 million in the remainder of the fiscal year. On the balance sheet, the one primary item to note is the term loan balance which is now only $90 million.

The term loan started at 1.1 billion in October and was paid down to 295 million at the end of December. This quarter we paid down an additional 205 million and expect it to be fully repaid at fiscal year, two years ahead of our initial goal. If I could now switch to our guidance for fiscal 2008 and first starting with Q3 ’08 our current June quarter, we expect continued increase in total revenues and in improvement in gross margins both sequentially and compared to the prior year.

The expected growth is primarily from our breast health segment. Increased demand for Selenias with R2 CAD and more rapid adoption of the Suros biopsy devices. For Selenia, we are targeting sales at 425 systems for the quarter, which is seven more than this past quarter and would result in an approximate $2 million increase in revenue. For the interventional breast solutions group, which includes our Suros biopsy tool, we are expecting another $2 million increase in revenues.

And then third, with our service group, it is also expected to contribute with an increase revenues of $2 million. This sequential increase of $6 million is expected to be offset by a 2 to $3 million decrease in digital detectors sold to Siemens. As we have discussed before, we made the decision last July to exit the business of providing our detector to other OEMs for use in their products. Our contract with Siemens is ending next year, and they will be decreasing their orders with us.

Although the impact is negative short term, it is very much a positive long term and will help further differentiate Selenia. This would put consolidated revenues at approximately 435 million. Consolidated gross margins are expected to hold at 62%. This does exclude the amortization and intangibles. Combined operating expenses are expected to be approximately 133 to 134 million or 31% of revenues.

This also excludes the amortization of intangibles. In Q2, our operating expenses came in about $3 million less than expected, which was primarily due to the timing of certain R&D projects and clinical trials which were pushed into this quarter for Q3. As such, we are expecting to see a 6 to $7 million increase in operating expenses this quarter. Due to the rapid pay down of the term loan, the interest expense is expected to drop significantly in Q3 to approximately 16 to $17 million.

When compared to Q2, the third quarter should see slightly higher gross margin dollars from the higher revenues, lower interest expenses, and higher operating expenses. Bottom line, we are expecting net earnings to be comparable to Q2 and to increase again in Q4. Next, our outlook for fiscal 2008 which ends this September 27th, we are looking forward to another year of quarterly records for revenues and earnings.

For fiscal 2008, we are looking for total consolidated revenues of 1.7 billion in our four reporting segments. First, in breast health, we are forecasting approximately 880 million in revenue that would be 52% of our total, representing approximately 30% growth over fiscal 2007 which is primarily attributable to an increase in Selenias. This is up from our expectation of 25% growth last quarter.

We are now projecting a year-over-year increase of 466 Selenias bringing us to 1,655 Selenias in FY ’08 up from 1,189 Selenias in FY ’07. This is also an increase of 75 Selenias from last quarter’s guidance of 1,580. Second, in diagnostics, we are forecasting 480 million in revenue, representing approximately 12 to 13% growth over fiscal 2007. This is due to an increase in international ThinPrep sales, worldwide growth in imager revenue, and the Full Term adoption.

Third, for our GYN Surgical, we are forecasting 215 million in revenue, which is flat with fiscal 2007, as we reposition the product in the primary care channel and continue our overseas expansion. And fourth, in skeletal health, we are forecasting 110 million in revenue. This is up 10% from the year before as we are beginning to make inroads in primary care. For gross margins, we are looking for combined gross margins of approximately 62% on an adjusted non-GAAP reporting basis.

This excludes the amortization of intangibles. And for operating expenses, our combined operating expenses are expected to be 510 to 515 million for the year. These also exclude the amortization of intangibles which are expected to be about 29 million, so that operating expenses are expected to be approximately 30% of sales. This is $5 million less than what we expected last quarter as we continue to streamline the businesses.

Included in the above are approximately $22 million of FAS 123-R stock compensation charges. We have not backed them out of our guidance but will indicate what they are quarterly and also disclose them in the press release. For interest expense at March 29th we had 1.725 billion of a convertible note bearing interest at 2% and $90 million left of the term loan at a LIBOR plus 225 to 250 interest rate.

In addition, we have about $12 million of a revolver that we use in Germany to fund our AEG operations. We now expect to completely repay the remaining term loan balance this fiscal year, all within one year, and significantly ahead of schedule. As such, our interest expense is expected to continue to decrease both this year, and even more significantly, next year. For this fiscal year, we still believe that total interest expense will be approximately $80 million.

Even though the cash payable to the bank for the interest owed is decreasing, it is offset by an acceleration in the amortization of deferred financing costs in the current year as the loan balance will be fully repaid. Our effective tax rate for the year is expected to be 36%. And we are expecting the shares outstanding to increase only slightly above our current 260 million in Q3 and Q4.

This should result in a weighted average number outstanding of 252 million for the year. Based on all of the above, we are continuing to expect non-GAAP adjusted pre-tax income of 450 to 455 million. And our EPS guidance for FY ’08 on an adjusted basis, 250 million shares outstanding, would be $1.15 to $1.18, which equates to the pre-split EPS at $2.30 to $2.35.

This is also absent the effect of merger-related charges such as that in process R&D charge and the amortization of intangibles. This guidance is consistent with the range we were comfortable with at the beginning of the year. And with that, let me turn it back over to Jack. Jack.

John W. Cumming

Thanks, Glenn. In closing, we believe we are making some solid progress on multiple fronts and– which will, of course, secure our future growth for years to come. Tomosynthesis, of course, is one example. The tomo project is going rather well. We are in regulatory discussions with FDA relative to our filing status and where we believe that we are proceeding as originally planned.

In addition, we have begun shipping at limited number of beta systems that are being built to support this phase of our development efforts. These systems are intended to allow us to better access to clinical utility of the exciting new tomosynthesis technology. And we are also working on the design of multiple clinical studies which are intended to assist us in the support of advanced applications and the development of a reimbursement rationale.

And finally, we did a soft launch of the system in Europe at this past European Congress for radiology meeting that was held in March. And our goal is to sell the product, in limited quantities, to strategically seed outside the U.S. markets and to develop valuable clinical use data. These systems are planned to be installed sometime in our fiscal ’09 first quarter. With respect to Adiana, we continue to communicate with the FDA on finalizing all open aspects of our clinical study requirements.

And our hope is that the most– that this most beneficial technology can enter the U.S. market early in our fiscal second quarter of fiscal ’09. We will also do a limited release of the product in selected European markets sometime during Q1 of fiscal ’09. In addition, we are preparing our infrastructure to support the manufacturing of this product. To elaborate a bit more in integration, we have completed multiple cross-selling initiatives throughout the company, and these have helped to leverage our ob-gyn diagnostic team, which will provide lead generation for the bone densitometry products and our breast surgical sales team selling and supporting our biopsy products.

These are all new channels of distribution for us. Also, at this year’s ACOG meeting, which starts this coming Monday, we will feature a Selenia system to promote our distributing mammography strategy and hub-spoke concept of bringing world-class breast-imaging technology and clinical expertise to all women. And I hope to see some of you there. We are focused, clearly, on a long-term growth and enhancing shareholder value.

Each step we take today has a single focus. We are going to seize every opportunity available to us to profitably grow this business. And the steps we have taken with NovaSure is one example of how our long-term commitment to building a stable business with solid backlog to ensure steady growth. In addition, we are focused on increasing our presence in international markets with both surgical and diagnostic products.

And we intend to leverage our success with Full Term to aggressively penetrate the at-risk opportunity and are planning a rollout of our permanent contraception technology that will benefit by the foundation we are laying in the office space gynelogical market. We are not going to mortgage our future for short-term gain as we feel each of these opportunities are fundamentally strong and our products are decidedly superior.

From a purely performance perspective, we have made steady progress towards our long-term goals of driving top-line growth, improving profitability, and controlling our operating expenses while maintaining the quality and the reliability our customers demand and have come to expect from us. And to all of the Hologic associates worldwide, I want to tell you, from my perspective, without a doubt, there is not a better team of more dedicated, highly professional, passionate people in this industry.

After 30 years in this business, I finally get it, and perhaps it is because I am a slow learner or because I have never had the opportunity to surround myself with such a caring, dedicated, and motivated team of individuals. We are women’s health. We are the leader. Not just because we are the technology leader, not because we truly deliver the best service consistently, not because we are the market share leader in nine categories we compete.

We are women’s health because we have people that have a mastectomy on a Monday and are on the phone the same week with customers asking how they are doing and if they need assistance. It is associates that have had cancer surgery on their spine and had their mother drive them around two weeks later so they can serve their customer needs instead of focusing on their own. It is people that are going through chemo or radiation and go from the cancer center to the laboratory or the breast center to continue their days of sales, service, and application calls.

It is people giving up their vacations to go to impoverished lands to train people how to take mammograms, read PAP tests, perform partial breast radiation, help women with pre-term birth issues, perform bone density tests, rather than relax at a resort. We are a company of selfless people that have chosen to serve, that have a higher calling. And for this reason we are women’s health and, clearly, are number one in our markets.

And I feel honored to have the opportunity to share in this success. That being said, although we have succeeded on many fronts, it is clearly our belief that the best is yet to come. Now this concludes our opening remarks. And if we can now ask for questions, Angelina, if you would, let us go forward.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) We’ll take our first question coming from Eric Lo with Merrill Lynch.

Eric Lo - Merrill Lynch

Morning, guys. On the Selenia funds, can you talk about where you think your market share is in the U.S. and outside the U.S.? And where do you think that could go?

Robert Cascella

This is Rob. We believe we are running at somewhere north of 65% in the U.S. and averaging, overall, a third of the international markets with much stronger pockets in certain parts of the globe.

Eric Lo - Merrill Lynch

Have you guys been taking more share outside the U.S. lately?

Robert Cascella

Yes, we have. We have pockets of significant growth in market share in parts of Europe and Latin America. The Selenia has gained traction above many of our competitors, namely Fuji and Siemens and Siemens’s principle markets. So we are very, very pleased with how Selenia has emerged as the best in class digital mammography product, really, throughout the world at this point.

John W. Cummings

Eric, we did update our MQSA scorecard that’s on the hologic.com website. So we updated it through our March results. And in the U.S., our installed base is over 2,200 systems. So we are at, for an installed base, size 55%. So on a current run rate, we are gaining share of that 55%. So it is encouraging.

Eric Lo - Merrill Lynch

Can you also comment on where you think Fuji is in terms of their ability to ramp up the past today? Have you seen increased competition coming from them, either from the unit side, but also, perhaps, from the pricing side?

Robert Cascella

I think that there is a nominal pickup in terms of their ability. But again, it would appear that is only in cases where they is a strategically significant account that we are both vying for. In general, they are not offering the essential, on a widespread basis, particularly here in the United States. We see a little bit more activity internationally. But no, I do not feel as if we have seen a meaningful increase in that product availability.

And I also do not feel that they have become overly aggressive relative to pricing. I think they are selling products, not to presuppose what GE’s strategy is, but I think they are selling product based on what they believe to be appropriate pricing, which tends to be in line with where they been in the past.

Operator

And we’ll move on to our next question coming from Mr. Ed Shenkan with Needham.

Ed Shenkan - Needham & Company

Thanks, Jack. I was wondering if you could tell us how many imagers were placed in the quarter. And also, pricing for Selenia, we are guessing that it looks like it might have gone up in the quarter, maybe you could comment.

John W. Cumming

Well, we are not giving out numbers on the placement of the imagers anymore. I can tell you though, Ed, that– I mean the next question would roll usually to Qwest [ph 40:18], and that is that the rollout that we have done with Qwest is going along very well. We expect, over the course of the next year, to be doing a majority of those tests with our imager. Certainly WebCorp has been a very valued user of imager as other independent labs.

It is not just the placement of the imagers, it is up to them to use those imagers. And we have maintained at about a 55% plus number of our slides being imaged. And that continues to rise. As far as the pricing on the Selenia, I would let Rob answer that.

Robert Cascella

Yeah. With respect to ADPs where– we believe that respect to Selenia, as Glenn indicated during the talk, that they are stable. I think the perception of the mathematically calculated ASP is really driven by a higher content of some of the peripheral products that were included in this quarter’s shipments, that being workstations, and connectivity managers, and things like that. So we don’t see a decline.

We think that it is stable. But as we have talked about relative to geographic mix and configuration mix, the mathematically driven ASP calculation might be a bit misleading. Gross margins, that’s an important indicator, are up for the quarter in that particular business.

Ed Shenkan - Needham & Company

And on NovaSure, it is surprising that you would expect a sequential decrease going forward on the disposables. You would think once docs are using your product and they like it, they are going to keep using it. Maybe you’ll get fewer of the, what, $10,000 a unit NovaSure controllers. But I would certainly expect these disposables to keep growing. Maybe you could walk us through why that should slow down.

John W. Cumming

Ed, this is– that is an excellent question. And I would tell you, it is two-fold. And one, quite frankly, that we have been caught off guard about this, genuinely surprised. As we have made this transition from hospitals to physicians because of the 1.4 million women that are being treated with hormonal therapies, what happens is that we have not as aggressively detailed the hospital market as we have in the past.

However, there has been a softness in hospital-based procedures. I mean there is no getting around that. Now have we lost market share is a question that, believe me, we have been asking, asking our field people. We have been out in the field with them talking to doctors. The answer is we have not lost market share, but the number of procedures in the hospital have gone down. Whether it is a function of a soft economy because this is a procedure that is elective that can be postponed, I don't know that.

But there was clearly a softness in the market this past quarter. It caught us by surprise. And we have adjusted it, we think, because of the programs that we have been marketing in the physician offices. We have been very encouraged by the backlog that we have been able to generate the first quarter and now into this second quarter. So to reiterate, we think these programs with long-term commitments is certainly the key.

But, as I said, softness in the market coupled with our shift into the physician market, certainly has been the result of the drop. We do believe that we are going to see the pickup again in Q4. And that’s fairly obvious from the trending we are getting today.

Operator

We will go on to our next question coming from David Lewis with Morgan Stanley.

Ryan - Morgan Stanley

Hi, guys, this is Ryan in for David Lewis. My first question is on gross margins. What with– you guys lowered the guidance for gross margins to 62% from a range of 62 to 63%. Could you provide some more detail the reason behind that?

Glenn P. Muir

Hey, Ryan. It is Glenn. I think one of the reasons is what we are seeing in this quarter and Q2, which as Rob indicated even on the Selenias themselves, there is a hardware component that’s increased beyond what we would have expected. So when you do the mathematical calculation, it leads you to believe the Selenia selling prices are higher. They are not really higher. We are selling more workstations and tech aids that plug into PAC systems. That, frankly, we are surprised about. We have built up a good business with that product line. And it is being connected right into the PAC. It is very hardware, I think, captive and it reduces the overall growth margin. It is not a huge margin on that. So we are seeing the revenues go up, but there is a little bit of an offset on the hardware side.

Ryan - Morgan Stanley

That’s helpful. And I know you made comments that pricing for Selenia has been pretty stable, but there– in the marketplace there has been some chatter that their pricing has become more aggressive from competitors such as such as Siemens and Fuji. Can you comment on what you are seeing there?

Glenn P. Muir

Those are just on Jack’s deals.

Robert Cascella

Yeah. I think, in general, we have Siemens at typical for Siemens, really look to approach some strategic Siemens hospitals or accounts with very aggressive programs. There are a handful of those. In some come cases, we will attempt to present a competitive bid. In other cases, we just– we simply can’t because they are too low. We do not see that frequently. We see that, as I say, in very selected accounts. But typically, today, it has been Siemens that has been the low-priced competitor.

John W. Cumming

Which is disappointing in that Siemens has always been one of the higher-priced competitors out there and have always held their margins. They are under, certainly, a lot of pressure in different areas right now. Their MR and CT has done extremely well in the market. I think it really is in response to slipping in market share as compared to, certainly, General Electric and ourselves. And it has been attempt to make placements.

And as I said earlier in the call, we are only to do things that add up to the long-term benefit. Doing deals that don’t make sense, where you can’t make even a reasonable profit on it, we’ll leave that to them. But clearly our technology is still taking the premium by our ASPs. And we expect that to happen. We also expect Siemens to come around and realize it is a failed strategy.

Ryan - Morgan Stanley

Okay. And lastly, on tomo, I just want to get an update on your thoughts on timing and of panel. I mean there is a radiology panel, I think, scheduled in August. And I was wondering if you are going to be on one of those or a little later?

Robert Cascella

We certainly don’t know at this point. The expectation is that we can be earlier or participate in what is scheduled as the August panel.

Ryan - Morgan Stanley

Okay.

John W. Cumming

We are talking almost every week.

Ryan - Morgan Stanley

Okay. That is it.

Operator

Okay. We’ll move on now to our next caller. Mr. Amit Hazen with Oppenheimer.

Amit Hazan - Oppenheimer

Hi. Good morning, guys.

Robert Cascella

Good morning, Amit.

Amit Hazan - Oppenheimer

I wanted to follow up first on NovaSure, which seems to be the biggest concern for people right now. I am hoping you can help us, first of all, in understanding what procedure growth in the U.S. was like last year and to what extent it slowed, right now, in this first quarter in the hospital setting, if I can first ask that.

John W. Cumming

When you say the hospitals, obviously, was it about the procedures were about 20% last year because the number of devices kind of follows the number of revenues. And this year it has dropped down in the, I would say, in the 10% area. Rob or Pat, do you want to add anything to that?

Robert Cascella

The only thing that I would say is that, I think specifically to your question, I think the growth last year was much more about displacing a current competitor in a market that had already established a need to do a minimally invasive procedure. What we are now finding is that we are changing a treatment pathway, and that is the rationale about why that is a better battle to be fought at the office-based market versus the hospital market.

John W. Cumming

Pat, do you want to add any?

Patrick J. Sullivan

Yeah. I would say that, traditionally, we had seen since 2003, when we first took a look at Novacept, that the procedure growth that we anticipated was about 50,000 procedures total market per year. And I think for the most part NovaSure got the lion’s share of that. And I think as we have moved the strategy to really focus on the office-based procedures over the last couple of quarters, historically [inaudible 50:03] liked to focus on that and put programs in place that really allowed the doctors the capability to do that testing in their office.

I think as Rob and Jack have both mentioned, the challenge now is to get the doctors to actually increase the number of procedures that they are doing in the office now that they have capability with the controllers to actually do that. And that is the strategy going forward.

John W. Cumming

And part of the slowdown on that is if you said– if the doctor said I think I want to do– I’ll do them in the office. They are not going to do them tomorrow because they are going to have to then prepare their staff forward. In some cases there will be some local anesthesia for people. So they are going to have to work through how that actual process is going to take place. So there is going to be at least a window of time where they prepare for that and how it is going to be scheduled within the facility.

Operator

And we’ll take our next question coming from Tycho Peterson with JP Morgan.

Tycho Peterson - JP Morgan

Hi. Good morning. Thanks for taking the call. Maybe just following up on the NovaSure trends here. I guess, is there any change to the underlying sales force here? And also, can you comment just on physician education as you move to go deeper in your existing in-office channels? How do we think about spending and driving either clinical data or additional physician education campaigns?

John W. Cumming

Well, I think we can split that between Pat and I. From the sales force, we did make a change in the sales force, which could have had an affect where we kind of bifurcated it, where we had people starting at the national sales meeting at the end of January just be selling to the NovaSure product and then the Adiana product and people that were on selling the ThinPrep and the Full Term product. But we are also talking about NovaSure and introducing the concept and selling it.

They now are focused clearly on diagnostics. So we have really two separate sales forces. One doing diagnostics, and one doing surgical. So there certainly could have been an interruption in the flow of that as we came out of the gate out of the national sales meeting. I think that Pat’s certainly in a better position to talk about the education as he has been the champion of getting that over the number of years.

Patrick J. Sullivan

Yeah. I think that when you look at the total number of what we call [inaudible 52:20] managers focused on NovaSure, the number is actually increased slightly over where it was last year to– we typically had a hundred folks and now we have got north of that as a result of preparing for Adiana. But I think we did split the sales force to focus one specifically on the office-based diagnostic procedure as well as focusing on the Full Term product, which we have a major strategic focus on.

And then give more attention and focus on to NovaSure. I would say that we have done and continue to do a fair number of physician education doctor-to-doctor selling events that we have found historically are very effective.

Tycho Peterson - JP Morgan

Okay. And then on ThinPrep, it looked like it was down a little bit quarter-over-quarter, but you are still within your kind of target growth rate here. Are you seeing any market softness? And then, also, I know Beckin [ph 53:11] has talked about getting a claim on the Digene HPV test. And if you could just talk about how you view that, that would be helpful.

John W. Cumming

Well, I am going to let Pat talk about his subject which is the HPV. I will just tell you that we do not see any softness in the U.S. The number tests are what they have always been. And Pat, I just– no has actually asked us about the test. So there is growth internationally. Quite frankly, what Pat has said for several years I am only echoing in that the market clearly is international growth. We are very happy with what is happening there.

We have got a great team throughout the world. And we have got– we have seen a lot of benefits coming out of European office and Australian office. We are now moving into the Asian operation, where we have got a service office in Beijing to help with our distributor there. And we are having a larger office for a presence in Hong Kong for all of the products. So we are not seeing any softness. And Pat, maybe you can talk about your favorite subject.

Patrick J. Sullivan

Yeah. The TriPath Imaging has tried– has failed twice now with the FDA of getting HPV approved– the Digene HPV approved test our their vial. It still has the same limitations it always has had. And I would find it interesting to believe that it may ever get an HPV approval out of the vial. I would say that even if they did at this late point, it really wouldn’t make a whole lot of difference because, in fact, most laboratories are offering it anyway as a self-validation that they do in spite of the fact that it is not FDA approved.

And in terms of the imaging device, we have also heard that TriPath Imaging has submitted data to the FDA. Again, that is another product that they have put before the FDA twice, and it’s been rejected. And I don’t think it would change the dynamics in the marketplace at all, even if it were approved.

Operator

(Operator Instructions). We will take our next question coming from Jayson Bedford with Raymond James.

Jayson Bedford – Raymond James & Associates

Hi. Good morning. Just a couple of quick questions and I hate to beat the NovaSure issue here but it seems like the concerns are around the surgical and gross margin. I am guessing that the two may be tied, to some extent, historically you seem to hold prices on the NovaSure boxes pretty well. I am just wondering, in your effort to go into the office are you discounting the boxes or is there an active placement program that has been initiated?

Robert Cascella

We are not discounting the boxes. What we are doing and not giving all of our strategies away, certainly for a long-term commitment from the doctors where they are buying the devices over an extended period of time there is the ability to be able to secure some favorable pricing but you would have not seen that today. You are only going to see it at quarters as roll on, if in fact they have done the volume that they would say. So that is going to be far out but you will see volumes up because of that. It has not been us out discounting or giving away controllers. It has not been that at all.

Jayson Bedford – Raymond James & Associates

Okay. And is the effort into the office is it focused on moving folks from the hospital to the office or is it primarily an opening new accounts?

Robert Cascella

Well, it is– there are a lot of people trained already on this that are doing the procedure in ample number in the hospitals. It is having those folks doing the procedures in the hospital to do it in their offices. That is the primary target.

Jayson Bedford – Raymond James & Associates

Okay, fair enough. And just lastly, on Selenia, of the orders how many would you guess, on a percentage basis, are coming from current Hologic customers versus perhaps stealing competitors’ market share?

Robert Cascella

I think that the way that we would look at it is about 15 to 20% of our business today is coming from competitive accounts. Those that were formally a [inaudible 57:33] analog account or those that were formally older GE digital accounts.

Jayson Bedford – Raymond James & Associates

Thank you.

Robert Cascella

Thank you Jason.

Operator

Onto our next question coming from Amit Bhalla with Citi.

Amit Bhalla - Citigroup

Hi. Thanks for taking a question. I wanted to ask you a question on the total company backlog, total product backlog at 379 was dramatically higher than the prior quarter and prior year probably ties in to what you have been talking about but maybe you could breakdown that total product backlog by maybe by segment just to give us a little bit more comfort in your guidance for the year. And I have another follow up.

Robert Cascella

On that backlog, just to be clear that backlog is total product backlog that would include the historically Hologic infrastructural Cytyc numbers. It is difficult to compare that to prior years. Cytyc never ran their business focused on the backlog so we are not comfortable with any backlog numbers from a historical perspective from that group. So we are starting a new trend of beginning to capture that information as we move forward. So unfortunately this is the first quarter where we can really give a combined all in consolidated number. We probably will not give that going forward on an individual segment basis. Although we will identify for Breast Health and in fact in the PowerPoint it shows that the Breast Health was almost 200 million. So that one segment was almost 200 million of that entire total which we would expect. That is what you would expect with the growth in Selenia and in that business 50% of the total anyway.

Amit Bhalla - Citigroup

Okay. Do you care to just give us a rough idea of the split between the other surgical diagnostics? I think I know the answer but if you could say it.

Robert Cascella

I think you answered it.

Amit Bhalla - Citigroup

Okay. The, I may have missed this, Selenia revenue, I do not think I heard it but could you gives us that number or give us a rough idea of how Selenia revenue grew.

Robert Cascella

The Selenia revenue and this is with the R2 [ph 59:52] cat for this quarter was 120 million. So that is up from Q1 that number was 107 million. That is really due to the growth in the number of Selenias from the 384 to 418 this quarter.

Amit Bhalla – Citigroup

Okay. And just a question, a little bit longer term. Can you give us a sense on how you are thinking about ’09 or beyond gross margin and growth rate targets to get a sense of how you think the business is going to unfold as these newer strategies play out on this high tech business? And that’s it, thanks.

Robert Cascella

Well, on the growth strategies for the former Cytyc businesses, diagnostic. We certainly expect it see growth. We are expecting 12 to 13% this year. Next year, I would say that we are looking at the, again, in that same type of range in the 10% plus range. In the surgical range, in the surgical area, we are expecting, right now with our [inaudible 1:01:09] I dare say we would be in the high single digits. I will have a much better idea at the end of this quarter depending on product backlog continues to grow. We are cautiously optimistic. We are not trying to sell you on something that is not there but the reality is, this GYN surgical business is a good, strong business.

It is a business that is doing north of $200 million with a very high margin. It is a business where we are at 60 to 65%. It is a business, that all of a sudden, in this past quarter we have seen some softness. There is no doubt that that is being monitored extremely carefully. As I said earlier we do not know how closely that is aligned to the economy.

We do know that through education, through training, through peer-to-peer, doctor to doctor, we can increase the number of procedures being done which is our total focus now in the physician office. I mean obviously we want procedures to be, to grow everywhere but in the physician offices with that growth we are going to be able to reclaim some of the luster that the product has had. This is one down quarter that we are expecting.

We are expecting it to go up in the fourth and we are expecting it go up beyond then. So we will get through this. And we expect the growth; let’s say at this point, to be in the high single digits for next year and we will clearly revisit that with you on our next conference call and certainly at the end of the fourth conference call. As we always do. We will be very forthright in where we are with you.

Operator

We will take our next question, comes from Charles Chun [ph 1:03:02] with Goldman Sachs.

Charles Chun – Goldman Sachs

Good morning everyone. Thank you for taking the question.

Robert Cascella

Morning.

Charles Chun – Goldman Sachs

So with the soft launch of tomosynthesis underway and I believe [inaudible 1:03:15] tomo manufacturing would likely ramp as we move into the summer time frame. Can you tell us how capital intensive that ramp might be? Should we expect a spike in the use of cash as well as inventories in the third quarter and fourth quarter here?

Robert Cascella

Yes this is Rob. No, we already have our production line established in our Danbury facility for it. All of the baby units are currently being built under manufacturing control. So, in terms of, any kind of capital build out or infrastructure build out not necessary for the product. We, both from a detector perspective and a gantry perspective, the lines of manufacturing have already been established. It is, in fact, the same people that have been building the current products and it is the same test equipment that has been used on the current products.

Charles Chun – Goldman Sachs

Okay. That is what I sus– just wanted to check. And then just a little bit of a bigger picture question for you Jack and perhaps a little bit more open-ended. So, essentially over six months of the acquisition behind you now, it sounds as if the integration is going well. You are obviously making changes where you need to but as you have looked at the businesses, are there areas where there may have been some element of under investment in the past and could you speak to where those opportunities might be where you could see a little bit more excitement if you were able to put some more resources there?

John W. Cumming

Well, that is a very good question. I would say that the we are focusing clearly on our R&D. We see product lines in– as an example, the MammoSite line that we have added additional resources in R&D there. We are clearly doing it in the NovaSure side. We have done it– NovaSure Adiana all as one and in the diagnostics area we are added resources. So when I look at what is the hiring queue to, the slots that we are trying to fill today are all R&D engineering slots. And it is because the fact is, that one in the diagnostic area we realize that the international market, which there is a real growth opportunity, the imager for that market is going to be different and at a different price point than the one today.

The system that we use to prepare the vials is different and has to be at different price point than the ones we have today. So we are working very hard on getting new systems to launch internationally that also can be used in small clinics here in the United States. On the GYN side, NovaSure too or SupraNova if you will, is a product that we just had a meeting with yesterday where we are going over with one or two variations of a theme in those products which will make the product, let’s say, an easier procedure on the woman, more tactile ease to use for the doctor, continuing to build in the reliability and safety that they would expect from a product like this. And also to hopefully to expand the use of that product.

On the MammoSite side we are heavily into the R&D on MammoSite two looking at different ways to handle regions in different places within the breast. We are looking at expanded and alternate indications for the way to treat it with, partial and accelerated breast radiation so the area of focus is R&D, new products. And that is the area we think we can make the greatest impact with by throwing resources against it. Does that help?

Operator

We will move on to our next question now coming from Mr. Isaac Ro with Leerink Swann.

Isaac Ro – Leerink Swann and Company

Hey guys. Thanks for taking the question. Just on Selenia. As we move towards so much emphasis, that is obviously in the news and people are becoming more aware of sort of the potential for it. What do you think are doing or need to do more of to ensure that your customers today do not really delay purchases of Selenia as they wait for the new box?

Robert Cascella

That is a great question. And one that we are preoccupied with everyday. I think the most deciding factor in the customer’s mind is one of price. It is a, from a broad scale perspective, it is not a proven technology. It is sold at a premium or would be sold at a premium so therefore the day-to-day working breast center what they are looking for is a profitable product that runs reliably, has great work flow, and that they can rely on. As a result of that, I think that they would still be the likely candidate to buy digital mammography or Selenia. I think the university settings and academic settings that are more interested in more research, experimentation and advance indications and applications. They will probably be the first market for our Selenia or for our tomosynthesis product, excuse me.

Isaac Ro – Leerink Swann and Company

Okay so it would it be fair to say that you are not really seeing much resistance to purchasing in the traditional hospital channel today as people learn about tomo.

Robert Cascella

No, I think that if we were to agressively promote it. I think there would be a different factor. We have some level of control over that but as I said, we are of the opinion and I think we see on a day-to-day basis that those customers that have not even bought digital yet are certainly not about to move to a product that sells a premium over current digital mammography. They are likely targets for the next two to three years on digital mammography. As though who have already converted digital, those early adopters are the most likely opportunity for tomosynthesis.

Isaac Ro – Leerink Swann and Company

Okay great and then just on competitive technologies. We had heard some rumblings during the quarter about CR being– having gained a lot of traction this year, various market data points kind of suggesting that. Have you seen that in the channel at all and what can you tell us if you have not already on the call, I might have missed it, about market share in the US in the quarter, is it creeping up past 65% or could you comment on that?

Robert Cascella

Yes. To answer the question about CR. Certainly we run into CR or Fuji products from time to time. We have not seen that as being a compelling, competitive factor in the marketplace. I think there is a subset of customers that probably view that as a bridging technology or an interim technology. But again I think I think the market share numbers would indicate otherwise relative to simply our market share continues to grow and we are taking market share away from the industry incumbents [ph 1:10:25] like a GE. And I think Cemens [ph 1:10:27] and Fuji are left with struggling for whatever remains of that 10% of the available market.

So no I mean– I think we see our share growing and in addition I think we see that there is much wider adoption of Selenia. And we have offered up multiple configurations of Selenia to be able to allow us to compete at different levels. We have a Selenia S for screening, we have a refurb Selenia that we use for highly competitive situations, and obviously, we had mid-to-upper care Selenias for those that are looking for [inaudible 1:11:03] workflow and con active benefits.

John W. Cummings

You know Rob I would add that in fairness to Fuji the– internationally is where they have certainly made an impact and Japan is their single largest market which I think you would expect. They also did well in France that had not reimbursement that benefited someone who already had a CR radiography product that could move into a CR mammography. So they did well initially in France. And there are certain areas, any area that you have found in countries that were highly CR, they have done well. In the, most of our competition is filled with General Electric and Cemens overseas because customers are looking for, clearly, a different higher end product that has the ability to do tomosynthesis. And my hats off to Fuji, I think it is a, kind of a place holder, if you will, especially in the United States if someone buys it because they will then eventually migrate to a– full field digital mammography that has the ability to tomosynthesis and other studies, which of course, the CR does not.

Operator

We will take our next question coming from Jonathan Block with Sun Trust.

Jonathan Block – Sun Trust

Hey guys, good morning. Maybe just two quick questions. First one just internationally Selenias seem very strong, I believe in ’99 and strong as today so maybe if you can just touch on what you are seeing with digital adoption [inaudible 1:12:40] US is it widespread across the board or are there specific markets where you think you are gaining strength?

Robert Cascella

There is no universal international market. What is happening and it is to our benefit, is that there are selective pockets of growth and they are primarily driven by changes in reimbursement policies. Budgets being allocated to public sector medicine within different countries. The UK is a great example of a couple of hundred million dollars being allocated to the conversion of digital mammography this year. While we are poised to take a significant share of that and hope to benefit by that as we have in the Netherlands, as we have in Germany, and so on and so forth. So when we look at the markets because Selenia has been defined as best in breed and we have improved our presence and our marketing support internationally. We are now garnering larger shares in these growth markets and that is what we are seeing in terms of the higher numbers that you folks are now seeing in our financial results.

We think that the growth in international is really just beginning. If we look at growth drivers for the next two to three years international will be a big factor in that for 2-D mammography, 2-D digital mammography. Selenia, alone tomosynthesis for the moment.

Jonathan Block – Sun Trust

Okay great. And just one other one, I think Jack, maybe bigger picture, post the merger you talk to some of the synergies having to do with distribution and strengthening that OUS. I guess here we are roughly six months later where does that stand and are there specific markets where you were weak and Cytyc was strong and vice versa where you have already made that change?

John W. Cumming

We have, I do not think where one was weaker, one was strong. What we have done is we are taking advantage of some of our strengths and I mean as an example, in the UK we have a major presence there with our office that was selling the Cytyc products.

We have now taken some individuals that have worked out of the office and they are moving over to support our distributors so we can get closer to distributors, work more with them on selling the imaging products and the bone density products. In addition we– because we have a – our office in Belgium and Brussels is where the imaging division has had its European headquarters we are using that facility and we have added some people that have been on the diagnostic side and they are now going to come over and be selling the interventional breast products throughout the [inaudible 1:15:18] and other areas so we are taking those core cities and we are taking people from those positions and putting them in other divisions selling other products.

We have – we are combining forces in Australia doing that between our two groups. In Asia, we have already merged our Hong Kong, both Cytyc and ourselves had offices in Hong Kong. We are going to be moving to a larger facility in ’09 where we will be servicing and having training for our Asian customers and as I said we have opened up an office in Beijing that initially was set-up to service the customer; the distributor of the selling PAP test but now that is going to be expanded where we are going to be helping our distributors that sell all products in mainland China.

We are utilizing the best of all worlds when it comes to this. And the same thing is happening, by the way, now in the Middle East where we have a presence in India and those folks are going to help manage that business for India and also for the Middle East. We have done the same thing in Latin America where we have combined resources. So it is going very well internationally. We are very pleased with what has happened so far and we will continue down that road.

Jonathan Block – Sun Trust

Okay, thanks gentlemen.

John W. Cumming

Thank you.

Operator

And our next question comes from Rob Halosey [ph 1:16:48] with Dot Black Rock [ph 1:16:49].

Rob Halosey – Dot Black Rock

Hi good morning. Could you just talk a little bit about the NovaSure, the office channel what percentage of the business that might represent now and are you looking to change the agreements that you have with the office based doctors going forward? Or are you just making, looking to making it a bigger percentage?

Robert Cascella

Actually all of the above. Historically, I mean, I think Pat maybe can give a historical perspective of that. Pat you want to talk about

Patrick Sullivan

I think historically we had started out about– only about 8% of the business, the NovaSure business was done in the office and I think if you looked at the, probably at the end of the last calendar year we were probably running close to 20% which was kind of the overall goal. Because I think there is, as we had learned, there are procedures in the office. The doctors that do the procedures in the office will do more of their procedures over time than if they have somewhat of a hassle of going to the hospital and getting gowned up, etc. So the strategy was always to go to the office and to really focus on that opportunity.

Robert Cascella

And what we are offering the doctors is a– instead of going in and having an initial stocking agreement with them. What we are doing is providing really a whole package of benefits to them by having a longer term commitment where there is more hands-on training, more peer-to-peer training. We are working closer with them in getting their office staff comfortable with the procedure and being able to discuss it intelligently; providing material for their patients and providing them the opportunity through greater utilization to have some economic benefits to that. So, it is trying to sell more in the office, having more procedures done in the office, and of certainly to more physicians.

Operator

We will move onto our next question with Eric Lo with Merrill Lynch.

Eric Lo – Merrill Lynch

Thanks for taking a follow up. Quick question on the Selenia side. Have you seen any impact on the credit crunch or hospital cash flow concerns in terms of pushing out orders or cancelling orders?

Robert Cascella

No we have not. I think it is– I know there has been a lot of concerns and a lot of press that has introduced the idea that the market is coming to a halt because of some credit issues. I think we are in a bit of a different market. We are selling a product that is at a lower price point than some of the big iron, if you will of MRs and CTs [ph 1:19:31] and furthermore, we are also in a market it, at the demand, is being forced to convert. So that our customers are at a point where they have delayed an inevitable conversion to a new technology that has become the standard of care so that as a result of that there is not as much discretion in the choice of moving digital. [Inaudible 1:19:58] digital today or you will loss revenues from women seeking mammography services from those that have that technology. So we have not seen a delay as a result of financing nor have we seen budget dollars being allocated, other modalities are being deferred.

John W. Cummings

The interesting thing is Eric as we saw the softness on the surgery side, there has been none on the mammography side at all. I think it is more investment and I have seen some analysts’ reports where some of you folks have gone out and done independent studies on CapEx purchases. And clearly the message coming back is certainly the MRCT, PetCT has been affected by it. It has been in all of– I think in some of GE’s reports or Philips reports and Cemens but it is not on this side because hospitals are invested today in women’s health facilities. They understand that the women drive the health care decisions. So we are becoming the beneficiary of that and when you look at our growth, quarter over quarter, we are feeling damn good about this Selenia business and the continued opportunity there going forward.

Operator

We will move onto our next question coming from Mr. Bruce Jackson with RBC Capital Market.

Bruce Jackson – RBC Capital Market

Good morning. I was hoping we could find out what percentage of ThinPrep slides were imaged during the quarter?

John W. Cummings

Oh I would say probably 55, 60%.

Bruce Jackson – RBC Capital Market

Okay. And then you talked about international growth for Selenia. Could you talk a little bit about the international growth for the ThinPrep products? What countries are you seeing that growth in and what is driving the growth in those countries?

John W. Cummings

It is really much like what Rob has said it is on a country by country basis. But certainly the UK is a large market. The Australian market is. France and Germany are starting to grow. But it is kind of a market by market at a time. I think, again, I will defer to Pat as he has watched this over the last 10 years roll out.

Patrick Sullivan

Twelve, I think Jack but who is counting. I think when you look at the international opportunity, Jack is right. UK is the principle driver of the European growth and we think we are about 10, a little more than 10% converted. Italy and France as well as Germany are great market opportunities for us and we continue to see growth there. We are still waiting for the French reimbursement that we hope will come sometime soon. Australia is a great opportunity particularly when you look at the imaging device that we have before the government with increased reimbursement. And the China market is actually one that, working with our distributor, we have continued to show growth in that market opportunity as well. So I think there is good opportunities across the world but it is on a market by market basis.

Bruce Jackson – RBC Capital Market

Okay. And then just one more follow up question on NovaSure just to make sure I understand this properly. You said that there were fewer people getting procedures and then were there also fewer placements of consoles.

John W. Cummings

Well, yes. Also let me say it this way. The console placement because as I look back historically at some of the calls that was always talked about. That is not the driving issue. The driving issue is how many procedures per console so we have really changed the focus of– placing consoles means you have got a new doctor or you have put a second one in at a facility. Instead of saying let’s look at the top 30 accounts today that have consoles and let’s drive utilization and we are spending much, much, much more time at existing accounts with consoles to have them do increase procedures. And that is more of peer-to-peer training, education utilization, etc. It is not placing more consoles.

Operator

And we move on to our next question coming from Josh Jennings with Jefferies & Company, Inc.

Josh Jennings – Jefferies & Company, Inc.

Hi good morning. This is John in for Peter Buy [ph 1:24:32]. Just one quick question. It looks like and a short-term question. [Inaudible 1:24:37] third quarter revenue kind of suggest that sequential sales growth in the breast health division will account for most of the 4 million sequential increase in revenues from 2/2. And that the diagnostic and surgical segments will potentially be flat sequentially. Just a two part question. One is this out of conversatism this potential flat growth? And where do you see any potential upside coming from in terms of your guidance for Q3?

Glenn Muir

Hey Josh, it is Glenn. There are a lot of moving parts and we do have a lot of product lines. So all we meant to do was try to summarize the larger product lines that we are seeing changes in and clearly, it really evolves around the breast health group. So I tried to identify within breast health the bigger of the drivers. I think you are correct. ThinPrep and the NovaSure there will be some changes. NovaSure, as Jack indicated, is expected to go down actually in Q3. So I think the ThinPrep we are expecting to go up a little bit but there is a lot of moving parts. I do not think they are very material, those changes. So we just tried to focus on the big pieces.

Josh Jennings – Jefferies & Company, Inc.

Great. And just a quick question on tomo and tomo capable units. Is the plan still to ship [inaudible 1:25:54] ready units after PMA approval?

John W. Cummings

What we will do is for those customers that are interested in having a foundation production or platform that is– that can be tomo upgraded or software upgraded then yes. But that 2D product will set at a premium over the current Selenias so it will become another economic discussion as to whether or not they are willing to pay the premium for the 2D tomo ready product. Or is it a– are they looking for a workhorse product to maintain their imaging work flow and all of those other aspects of running the business of mammography.

Josh Jennings – Jefferies & Company, Inc.

All right. Great. Thanks a lot.

Operator

We will move on to our next caller Amit Hazan again with Oppenheimer.

Amit Hazan – Oppenheimer

Hi. Just a follow up and I am sorry to keep beating this up. But we talked about a few things with regard to NovaSure weakness. You talked about it moving to the office, you have talked about perhaps some economic issues and we know there is some seasonality generally in the March quarter. I am just trying to get you maybe to help us but there is still a lot of confusion out there I feel. In terms of what is really causing this slow down. If it were the movement to the office settings what are the doctors doing? Are they just not doing the procedure because they are waiting to get it done in the office? I would think that there still going to do that in the hospital. So it is really the economic issues are the main ones that are driving that slow down?

John W. Cummings

Well I think it is the softness in the market. Clearly a contributing is if we are not calling the hospitals as aggressively as before and detailing them, you are going to sell less. But I do not want to kind of put it off to that. We clearly saw a slowdown in procedures in the hospitals whether this is a buy product of the economy or not. I do not know. We know it is not loss market share. Do we believe it is saturation? We do not believe it is that. But certainly it had a major impact on the, on Q2 as far as we are concerned and in Q3. We do know that when the doctor goes, does a procedure in the hospital they get like $300. When they go to their office they get a $1,000. Now would some delay. The answer is yes they would delay but they are not going to do it at the expense of a patient. So I would say we chalk it up to softness first based on fewer procedures being done and secondly because we have clearly made this transition to and our reimbursing and [inaudible 1:28:41] are sales to sell in the office space which has certainly taken their focus off the hospital market. We think it is clearly the long-term strategy. We are not seeing our products replaced by competitors but it is a softness that we are monitoring carefully. But we are also picking up backlog and as I said, at the end of this quarter we could have a considerable amount of backlog. We did a fair amount in the first, in the past quarter and we are tracking similar number if not more– actually more in this coming quarter.

Amit Hazan – Oppenheimer

Just to follow up with one question on that and if you can paint a picture for us in terms how many physicians are now, roughly speaking, performing NovaSure in the office? And generally how many physicians out there performing NovaSure whether it is in the office or in the hospitals just so we can kind of–

John W. Cummings

I am going to go back to Pat on that. He is certainly more knowledgeable of the number that are trained versus the number that are doing that.

Patrick Sullivan

All right. I think as we have seen over time that once the doctors get trained in and are comfortable using in the hospital setting; it is easier for them to migrate into the office space setting. I do not think the number of physicians is the rate limiting factor here. I think, as Jack has mentioned, it is fundamental. We have to drive patient demand and the conversion from what is the doctor’s normal course today which is to provide hormone therapy. We have to change that treatment pathway. And that has been a long established medical treatment pathway that physicians have used. And I think the challenge that we are seeing is fundamentally that– that we have to work with the doctors in their offices and with their office staff to get more patients to consider NovaSure first as opposed to one or two unsuccessful treatments of hormone therapy.

Operator

We will take our next question coming from Valerie Brown with Alliance Bernstein.

Valerie Brown – Alliance Bernstein

Hi thank you for taking my question. I just wanted to go back a bit to the digital mammo market and I understand that ICAD [ph 1:30:50] finally got approval for its CAD system to be used with this Fuji CR. I know it has only happened a month ago but I wanted to better understand what you are seeing in terms, perhaps, some more of your price sensitive customers and their response to having the CAD available to work with Fuji.

John W. Cummings

We have not seen a meaningful change in terms of the competitive dynamics as a result of Fuji now having approved ICAD. I think that some customers have been waiting, some customers have found, in the past, that they were really using a work around with an analog CAD substitute. So I am not certain this will have a significant change within the competitive dynamics but nonetheless, at least as of today we are certainly not seeing that as a compelling difference.

Operator

We will move on now to our next caller Matthew Scalo with Canaccord Adams.

Matthew Scalo – Canaccord Adams

Hey guys. I just wanted to ask a couple of quick questions. As you move to this kind of this annuity model for NovaSure have you seen kind of a higher than normal turnover in that surgical rep sales force?

John W. Cummings

No. Keep in mind that this has just been implemented.

John W. Cummings

No we have not.

Matthew Scalo – Canaccord Adams

Okay. And then as far as timeline–

John W. Cummings

And the reason is is because any kind of rep saying how is it going to affect me financially it is not going to affect them financially. And we are going to build in incentives, quite frankly, so that they can benefit from it.

Matthew Scalo – Canaccord Adams

Right that was the question.

John W. Cummings

Obviously.

Matthew Scalo – Canaccord Adams

Okay. And then as far as on Selenia the time from purchase order to shipment has that shrunk dramatically? Meaning for backlog by year end should we see it flattish, gross year over year by, say 10 to 15%? How should we look at backlog?

John W. Cummings

Yes. I think that where we stand today is we are trying to manage a [inaudible 1:32:52] day lead time. We want to get that down to probably a 60-day lead time. There is a lot more pressure on the parts of customers today that if they have made a decision to convert they want those quickly. Now the only exception to that are those customers that are ordering multiple systems. They will sole string over a series of weeks or months. But for the most part there is a compression in lead times that is really by customer demand and as we have said we have always to tried to meet deliveries to whatever our customers’ expectations are.

Matthew Scalo – Canaccord Adams

As far as OUS and Selenia should we expect that to be over 400 units by fiscal year ’08?

John W. Cummings

Yes, I am not certain that we are prepared to speak to that. I think the trend is positive and we will certainly keep you guys tuned in but at this point, we are probably not prepared to commit to that number.

Operator

We will go on to our next question coming from Tycho Peterson with J.P. Morgan.

Tycho Peterson – J.P. Morgan

Thanks for taking the follow up. Jack you mentioned that you have a Selenia down at ACOG. Can you just talk a little bit about how you are viewing that opportunity and then just in general about to the extent to which you are decupling the camera for the image processing?

John W. Cummings

That is fine. I think, Tycho, that I and I will see you there obviously. I think I will let Rob answer that because he is a better decupler than I am.

Robert Cascella

As far as the ACOG presence, Tycho, that is really a follow onto the discussions that we have had in the past relative to our distributed mammography, tele mammography strategy. And that is to place gantred [ph 1:34:31] meaning the imaging device that acquires the mammogram at remote site irrespective of where they are; gynecologist office, a low volume mammography center that does not have reading radiologists or otherwise and having those images then transmitted to a central reading facility that is their radiology or imaging center partner.

This is a further step in that direction of a distributed mammography model with the intent to bring what is world class technology to a remote area that would not normally have a high volume reading radiologist. And having that patient provided with the comfort of knowing that there is a reading center, a high volume center with very experienced mammographers and breast imagers.

So the decupling aspect is simply putting a gantry, no workstation at a remote facility. And as I said it is irrespective of whether that is a gynecologist or not and the work station technology that we talked about earlier being in the central reading facility.

Operator

And we will take our final question coming from Eric Lo from Merrill Lynch.

Eric Lo – Merrill Lynch

Thanks for taking the follow up here. I just want to better understand the NovaSure guidance for next year. You are talking about high single digit growth and numbers are pretty soft for fiscal year ’08. So when are we going to see a recovery in the NovaSure sales of next year?

John W. Cummings

Well you are going to see recovery in Q4 but Eric, I think that to promise the double digit at this point– I think would be premature. We are being as honest as we can in assessing this situation today. I mean clearly what is driving the stock today is has the market reached its zenith and we do not believe it has. We believe it needs to be repositioned. We think there is still a– when you look at the 1.4 million and the reason I keep coming back to it is the market dynamics have not changed as far as the number of women out there that are being treated for menorrhagia. And 2.5 million are being treated but 1.4 just on hormonal therapies. So the market is still there. There is nothing change [inaudible 1:36:58].

What has changed is we hit a wall where the number of procedures went down, it has affected us today. The stock is obviously down because of that because you are all saying is it going to drop further. We have said yes. We expect it is going to drop in the current quarter that we are in and then it is going to pick up again because as this backlog continues to build we– our goal is to certainly have at a 50 plus million a quarter running rate, 30% of it coming out of Adiana existing backlog with an AUP that will improve. If I said today which would be nice to hear we are going to get 20% next year, we are going to get 30%. I cannot tell you that. We do not know that.

And it would be optimistic thinking and would be leading you guys the wrong way. I look at it more of; here you have a quarter we are up about 23% after adjusted, we are up 30% in breast health, 12% in diagnostics, 10% in skeletal health and GYN surgical was flat. Overall, GYN surgical brought us down but we had, as a company, hitting almost 25% is not bad. We still expect because as Selenia is continuing to grow, as diagnostics is growing internationally, as surgical is going to grow internationally because there was just reimbursement in France that was just announced last week. As skeletal health has kind of stabilized we still expect very good growth from this company and we are not going to live or die by what happens on the GYN surgical but we are putting a lot of resources against it.

We have thought this out. And we know we have got the right approach. It is going to take time to get there and I am not going to tell the street that we really are unsure of at this point. At the end of this quarter, we are going to be in a much better position to look at Q4 and next year and at the end of Q4 we are going to do it again. But we will be as transparent as we can in telling what is going on with the market, how it is impacting us and where we expect it to go from here. Wherever that is.

Eric Lo – Merrill Lynch

Have you guys additional [inaudible 1:39:17] outside the US to drive NovaSure sales and ThinPrep sales?

John W. Cummings

Yes, the answer is yes we have. We are adding sales people. That is correct.

Eric Lo – Merrill Lynch

How many have you added and how long will that continue for?

John W. Cummings

We will be adding– we will continue over the course of the next 12 months and the number of hands, I do not know. Rob is at a– counting Australia–

Robert Cascella

I am on Jack. Right now we have added roughly 12 people. We will continue to do that over the course of the next year. So there is a heightened emphasis on securing the growth in international as was just suggested.

Eric Lo – Merrill Lynch

That is it for me. Thank you.

John W. Cummings

All right Eric. I will see you at the show.

Operator

And there are no further questions.

John W. Cummings

Well, I would like to thank everybody. We took an extended period of time but obviously there were a lot of questions today and I am sure that you will have plenty of opportunity to talk to Glenn. I would get in the queue calling into his office. I will be at ACOG. I am happy to meet with anybody and everybody to discuss where we are. We think that the story is still a very rich story. A story of growth and we are going– we have addressed the issues that are before us and they are going to be met with the same focus, the same determination, the same intensity that we have always faced everything else. We have 17 quarters in a row of consecutive growth. We are looking for 18. With that I wish everybody a very safe and happy couple of months. And we will talk at the end of our next fiscal quarter. Thank you again.

Operator

That does conclude this program. We appreciate your participation. Have a wonderful day.

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