Covidien Ltd. F2Q08 (Qtr End 03/28/08) Earnings Call Transcript

May. 6.08 | About: Medtronic plc (MDT)

Covidien Ltd. (COV) Q2 2008 Earnings Call May 6, 2008 8:30 AM ET

Executives

Coleman Lannum – VP Investor Relations

Richard Meelia – President & CEO

Charles Dockendorff – Executive VP & CFO

Analysts

Glenn Reicin – Morgan Stanley

Matthew Dodds - Citigroup

Rick Wise – Bear Stearns

Bob Hopkins – Lehman Brothers

Tao Levy – Deutsche Bank

Kristin Stewart – Credit Suisse

Joanne Wuensch – BMO Capital Markets

Taylor Harris – JP Morgan

Operator

Good morning and welcome to the second quarter 2008 Covidien earnings conference call. (Operator Instructions) I would now like to turn the presentation over to our host for today’s call, Mr. Cole Lannum, Vice President of Investor Relations; please proceed.

Coleman Lannum

Good morning everyone. With me today are Richard Meelia, Covidien’s President and Chief Executive Officer and Charles Dockendorff, our Chief Financial Officer.

You should already have received a copy of our press release with details of our second quarter results. If not it is available on our website and on the newswires.

During today's call, we'll make some forward-looking statements and it's possible that actual results could differ from our current expectations. I urge you to please refer to the cautionary statements contained in our SEC filings for a more detailed explanation of the inherent limitations in such forward-looking statements. We'll also discuss some non-GAAP financial measures with respect to our performance. A reconciliation of non-GAAP to GAAP measures can be found in our press release and its related financial tables as well as on our website www.covidien.com.

For the quarter we reported GAAP diluted earnings per share from continuing operations of $0.49. After adjusting for certain one-time items our non-GAAP results came in at $0.66 per share.

Now I’ll turn it over to Richard who will give a brief overview before Charles gets into the numbers.

Richard Meelia

Thank you Cole, overall we had a strong second quarter performance which allowed us to raise guidance for fiscal 2008. Sales growth was somewhat above our earlier expectations aided by favorable currency and strong performance in the devices and imaging segments. Outside the United States sales grew 18% for the second consecutive quarter with double-digit gains across the business.

These results are due in part to the investments we’ve made to expand our sales force in the past couple of years. We significantly improved our gross margin due to favorable product mix, the benefit of exchange rates and cost reduction efforts. We also increased R&D spending and continue to make other growth driving investments. We generated strong cash flow and lowered our net debt by nearly $200 million.

During the quarter we announced the acquisition of Tissue Science Laboratories, a leading supplier of biologic mesh for hernia repair. The transaction should be completed in the next few weeks. After the quarter ended we completed the divestiture of the retail products business. Over time we will use the proceeds from divestitures along with our strong operating flow to fund strategic healthcare growth opportunities including additional acquisitions, licensing agreements for specific growth initiatives.

We will also continue to return cash to our shareholders through payment of our dividend while managing our debt level to maintain a strong balance sheet. We will continue our efforts to optimize a portfolio with the goal of focusing on our strategic franchises and creating value for our shareholders. We were again active on the new product front as we benefit from our increased R&D investments.

In soft tissue repair our AbsorbaTack hernia fixation device launched in January has exceeded our expectations with very positive customer acceptance. In Europe we recently introduced VascuSeal, a vascular sealant which is designed to reduce post-operative bleeding. In the energy business the LigaSure Advance, the next generation multifunctional laparoscopic instrument was introduced at the Sages Conference last month. In endomechanical we expanded our [trocar] offerings and introduced a new five millimeter clip applier. We have a number of innovative new products launching later this year to further propel our growth including a contrast delivery system with RFID technology, two CPAP devices and additions to our hernia mesh lineup.

While increased R&D investment has let to an acceleration of internally developed products we have also successfully used technology acquisitions to increment our new product pipeline. For example, the [Confluent] acquisition provided us with surgical sealant technology which we have employed in several recent offerings including PleuraSeal and VascuSeal with more to come later this year. The [Florian] acquisition brought us technology used in [periateen] pro grip and prolapse mesh, again with new additional products expected in the coming months.

Similarly we expect the Scandius and Tissue Science Laboratories acquisitions to expand our product offerings and support surgery and biologic mesh respectively. We will continue to seek out these smaller, technology-based acquisition opportunities to fill portfolio gaps and expand into adjacencies.

I’ll now pass the call over to Charles who will discuss the second quarter results in more detail.

Charles Dockendorff

Thanks Richard, overall we are very pleased with our second quarter results. Sales, gross margin and operating income were all in line with our expectations. The one are that was a bit of a positive surprise was in the income tax rate. As you may recall last quarter we increased the tax rate 100 basis points to the 31% to 33% range. This increase was due to our adoption of FIN 48, coupled with the expiration of the R&D tax credit on December 31, 2007.

As we looked at our results for the first half and our projections for the remainder of the year, we saw that we had an increase in the mix of income coming from jurisdictions with lower tax rates largely due to the weakness in the US dollar. In addition the interest rates that we are paying on our accrued income tax liabilities are lower which have a beneficial impact on our overall tax rate.

As a result we are now expecting the tax rate for fiscal 2008 to be in the 28% to 31% range. We made a year-to-date adjustment in the second quarter which benefited us by about $0.04 a share versus our earlier tax rate guidance. Consistent with our prior communications on tax planning, we expect to implement strategies that will lower our effective tax rate by an additional 200 to 300 basis points below this new guidance range.

Now looking at second quarter sales, net sales grew 10% to $2.4 billion led by medical devices and imaging solution segments, both of which again reported double-digit sales gains. Favorable foreign currency contributed five percentage points to our sales growth range. Sales rose 4% in the United States and a very strong 18% outside the US. Sales in the US were restrained by declines in the pharmaceutical products and medical supply segments which I will discuss shortly.

Looking at segment results, overall it was another strong quarter for medical devices with sales up 12% to $1.7 billion, aided by favorable foreign exchange which contributed six percentage points to the sales advance. Increases were paced by strong double-digit gains in energy, up about 25% for the third consecutive quarter, and endomechanical which climbed 13%. These strong increases were coupled with a good performance for soft tissue repair, up 18% and double-digit gains for vascular, up 12% and for clinical care which rose 11%.

The excellent growth energy resulted from strong increases in vessel sealing and hardware products in the US and Europe. Also contributing was the broader market penetration by Force Triad Generator and the related disposable products we’ve introduced such as [Impact] and Force [trivorous]. In the endomechanical business we registered a good performance for our endo GIA stapling products, the launch of AbsorbaTack and sharply higher sales of laparoscopic instrumentation.

Sales growth in soft tissue was paced by a strong performance for sutures globally, aided by the addition of PolySuture in Latin America and good growth for biosurgery and hernia mesh products. Performance was aided by our hernia growth initiative as well as the addition of specialized soft tissue sales teams in the US and Europe. In our vascular business we delivered double-digit gains for compression and a good increase for dialysis products. The clinical care increase was led by gains from thermometry and [entral feeding] products.

In the respiratory category sales of oximetry and monitoring climbed 9% while airway and ventilation products rose 8% from a year ago. Looking next at imaging solutions sales were up a strong 17% of the quarter to $304 million aided by favorable foreign exchange rates which contributed five percentage points to the increase. Growth was broad-based with double-digit gains for both radiopharmaceuticals up 18% and contrast products up 16%. The radiopharmaceutical increase was due to higher technetium generator sales aided by favorable comparisons due to last year’s recall when we were off the market for most of the month of March.

In contrast products growth was led by international markets with particular strength in Latin America and Asia Pacific which more than offset lower pricing in the US. Turning to the pharmaceutical product segment, sales were even with last year at $239 million. In the dosage category higher sales of branded products were more than offset by lower generic sales. In active pharmaceutical ingredients sales increased primarily due to higher peptide volume. And finally looking at medical supplies, sales of $220 million were slightly below those of a yea ago due to lower OEM sales primarily needles and syringes.

Turning to the items below the sales line, for the sixth consecutive quarter we made good year-over-year progress on gross margin. The second quarter increase of 100 basis points to 52.4% came as benefits from favorable product mix, foreign exchange and cost reductions more than countered higher raw material costs and increased freight expense. The improvements in gross profit were more than offset by our planned investments in SG&A and research and development.

We continue to accelerate spending in these two areas to increase long-term revenue growth through sales force expansion, more competitive marketing and greater innovation. Foreign exchange impacts also increased our SG&A costs in the quarter. R&D expense climbed 19% in the quarter to 3.1% of sales and we remain committed to further increases. Consistent with our prior guidance we plan for R&D spending to be in the range of 4% to 5% of sales within a few years.

As you will see in the release we also had a couple of special items that affected our reported results. The first was a $64 million charge for restructuring and asset impairments. Restructuring expense accelerated this quarter largely due to the further consolidation of manufacturing facilities as well as programs to consolidate our European customer service and finance back office functions into a single location. To date we have incurred restructuring program expense of $126 million and we expect to spend about $150 million with the majority of this spending completed by the ending of calendar 2008.

Once completed this program is expected to deliver between $50 million and $75 million in annualized savings. In addition we announced a $31 million expense for our portion of the Tyco International’s $73 million shareholder settlement with the state of New Jersey. As reported operating income was $405 million. Excluding the items just mentioned the restructuring and asset impairment charges and the shareholders’ settlement; operating income would have been $500 million and the operating margin 20.6%.

Looking below operating income net interest expense was on target at $48 million and other income was $3 million primarily representing interest on the tax liability related to the tax sharing agreement. Turning to income taxes the second quarter effective tax rate was 31%. This rate reflected the impact of restructuring, the shareholder settlement and other tax matters. Excluding these items the second quarter tax rate was 27%. As I noted earlier the second quarter rate includes a year-to-date adjustment of about $0.04 as we are lowering our tax rate guidance for the year.

Next let me take you through some cash flow highlights. We again generated strong cash flow on the quarter. On a reported basis however our operating cash flow for the year-to-date was approximately negative $450 million as we reported the outflow of $1.6 billion related to the Tyco shareholder law suit settlement announced last June prior to separation. While the finalization of the settlement resulted in a decrease to the company’s cash flow from continuing operations it did not affect our cash balance as we had previously fully funded our portion of the class action settlement into an escrow account used to settle the liability.

Excluding this item operating cash flow from continuing operations was about $800 million for the year-to-date. Capital spending was about $150 million resulting in adjusted free cash flow of approximately $650 million. For 2008 and beyond, we expect that our business operations will continue to generate strong cash flow. Finally I’d like to update our guidance for fiscal 2008.

This update reflects our first half performance as well as a modification to our expectations for the tax rate. For 2008 we now expect overall company sales to increase 8% to 11% including foreign exchange at current rates. Obviously our reported sales may fluctuate during the year depending on exchange rate fluctuations or operational items. The weakness in the dollar has contributed significantly to these revised expectations. Due to favorable exchange and stronger business performance we are taking the opportunity to again raise guidance for both medical devices and imaging solution segments. In medical devices we now expect sales to be up between 10% and 13% in 2008. We continue to expect that the endomechanical, energy and soft tissue repair business will be the primary drivers of medical device growth this year.

In imaging solutions we now expect sales to be up 11% to 14%. The higher range reflects the positive impact of the strong first half as well as the benefit of a price increase for technetium generators. The range is somewhat below our year-to-date performance reflecting continued pricing pressures in contrast media and the benefit we received in the second quarter from last year’s product recall. In addition the launch of generic [inaudible] in the fourth quarter will lower the sales growth rate but at a higher margin.

In the pharmaceutical product segment we continue to expect sales to grow 3% to 6% for the year. Based on the first half results and delays in product approvals we are expecting to be at the lower end of this range. We expect a strong second half growth required to meet these expectations will be paced by higher sales of both generic and branded products as well as increased peptide sales. As noted last quarter we have several products awaiting FDA approval but we have not included any benefit from them in our guidance.

We continue to expect the medical supplies business to be about flat for the full year. Consistent with prior guidance our operating income margin excluding any in-process R&D, restructuring or shareholder settlement charges is expected to be in the 20% to 21% range. The operating margin range reflects further progress in gross margin improvement offset by increases in R&D and SG&A expense as we continue to make incremental investments in selling and marketing. I’ve already mentioned that the effective tax rate should be in the 28% to 31% range excluding the impact of any legacy liabilities from Tyco or one-time tax items.

Over the next several years we expect to implement tax planning strategies to reduce our effective tax rate by at least 200 to 300 basis points below current guidance. Looking at shares outstanding we are still expecting about a 1% increase during the year and for capital spending we continue to expect it to be in the range of $350 million to $400 million.

Now we would be happy to take any questions you might have.

Question-and-Answer Session

Operator

(Operator Instructions)

Your first question comes from the line of Glenn Reicin – Morgan Stanley

Glenn Reicin – Morgan Stanley

Two areas regarding the P&L so I think this is for Charles, you’ve previously stated that you wanted to leverage your SG&A going forward, I’m wondering if that’s really a reality given where FX and given the hires you’ve made and TSL, so maybe talk about SG&A for the back half of the year and what maybe ’08 would look like in terms of absolute growth off of that. And then on the tax rate I heard you say there’s still another 200 to 300 basis points, you’ve never given any timelines to that improvement and I’m wondering if you can bless any sort of number for next year if I throw out a 27% number, I want to just know if you cringe at that tax rate for ‘09.

Charles Dockendorff

First of all talking about the leverage of SG&A, a couple of points about that. We have talked about that not so much in 2008 but more in 2009 and really that’s how we will achieve our goal of achieving double-digit and income growth on a consistent basis. We are in the process of still hiring a lot of people in selling and marketing and we have pretty much fully hired on the administrative side. There are still a few people we’re bringing in in different areas but for the most part we’re complete on that end. But in the SG&A as we add these people this year, that impact will be felt next year but we will begin to leverage it in 2009 and it won’t be where it will grow with inflation but it will be at a position that will be less than sales growth that we have in the business.

As far as the back half of this year, we still have increases coming in SG&A that’s going to be reflected as part of the FX change. You know this FX around the world, those expenses in the other outside the US will come in at a higher rate and we expect that to hit and we still have planned increases in hiring for selling and marketing for the balance of the year. So I would expect SG&A to increase over the back half of the year from where it is in the first half.

Glenn Reicin – Morgan Stanley

And are you talking about a rate that exceeds a $740 million a quarter?

Charles Dockendorff

I really don’t want to get into a specific number but I think it will be higher than what you’ve seen in the first half of the year. And it will continue to grow in that rate. On the tax rate, we have been out here with the 200 to 300 reduction in tax rate for awhile and we’re very comfortable about achieving that number. We have the vision into how to do that and we can see that we can execute upon them. These are somewhat complicated transactions but ones that we think we can get done through the end of this year. So again it’s over two to three years but I would tell you we’re very comfortable with the tax rate. Next year will be lower than what we have this year.

Glenn Reicin – Morgan Stanley

Do you cringe at 27%?

Charles Dockendorff

No, we really don’t want to give guidance to next year.

Operator

Your next question comes from the line of Matthew Dodds – Citigroup

Matthew Dodds – Citigroup

Charles on the energy bases business can you just give some rough breakout of how much of the growth came from the LigaSure and what I’m wondering specifically is, is that growth coming still from the core market of what I would call general surgery? Are you starting to see some usage outside of general surgery or other areas?

Richard Meelia

The vessel sealing business is still growing very strongly; double-digits. Has been for a couple of years as with this year and we’ll likely see similar kinds of growth next year. Majority I would say is still in general surgery but we’re beginning to start to see more conversion especially as we introduce more of these force triad instruments such as [Impact] advance that enable the surgeons to move into other parts of the body where energy can help with the surgical procedure. So mostly general but it’s a growth initiative for sure to move into these other surgical procedures.

Matthew Dodds – Citigroup

Are you expecting over time to maybe alter the device to move into other areas like plastic surgery, orthopedics, gynecology, is that an opportunity?

Richard Meelia

We have a very active product development program at [Energyvase], they’re one of our best throughout Covidien and where ever you can possibly improve surgical procedure either in terms of safety or more likely speed, and they’re looking at it. So we don’t want to tip our hat or our hand so to speak as to what direction we’re going with the technology but it’s pretty broadly addressed.

Operator

Your next question comes from the line of Rick Wise – Bear Stearns

Rick Wise – Bear Stearns

Turning to the soft tissue business you commented that soft tissue repair is up significantly, maybe you could give us a little more color on what’s going on. To what degree are these market driven gains, competitive gains, it would seem to me looking at the numbers that you’re gaining share, to what degree are these new products, sales force, help us understand what’s going on and maybe a little perspective on how we think about those trends looking ahead for the rest of the year.

Richard Meelia

The growth clearly is being driven by mesh and it’s a global phenomenon so I think this is another example where the global infrastructure really helps. We have been introducing new meshes since we acquired [Florian]; they really have been a real source of significant technology and improvements within the synthetic mesh. Obviously the growth that we’ve been talking about does not include any biologic mesh which we will hopefully begin capturing with the acquisition of Tissue Science. The other piece that’s a more recent impact is the AbsorbaTack, the fixation device. Since we launched AbsorbaTack our bioabsorbable product in January, and it’s probably going to exceed are pro forma expectations by 25% to 50%.

There’s been really positive reaction from our customers as they like the absorbable capability especially with the fixation strength that we offer with it. So what we’re seeing now is more impact from the AbsorbaTack, the fixation side than we had originally. And going forward we’re still feeling pretty bullish about double-digit sales growth across the entire hernia platform. We feel really good about how we’ve utilized internal and external business development opportunities to, now to offer to our customers pretty much a complete product offering in both synthetic biologic mesh, titanium and absorbable fixation devices and our ability to get to these hernia surgeons around the world is really helping to facilitate this growth.

Rick Wise – Bear Stearns

One of your key competitors also highlighted that they thought that they were seeing a slowdown in procedures in the first quarter but your end of mechanical business is well above a year ago, are you seeing any procedure slowdown?

Richard Meelia

We really haven’t. Our quarter ending March from the procedure standpoint we didn’t see much difference in the quarter ending December. Again we’re talking general surgery. Our competitors are involved in some aspects of surgery where we are not so it could be there were some things affecting competitors that didn’t affect us. But we saw pretty steady procedural activity.

Rick Wise – Bear Stearns

Other income and expense has been modestly positive last three quarters, we’ve been modeling it slightly negative, should we stay on the $3 to $5 million positive side going forward or is that not possible to model?

Charles Dockendorff

I would keep it at that $3 million to $5 million range. That represents right now in this tax sharing agreement as we record interest expense on these tax shared liabilities a piece of that is being reimbursed by the other two entities so we record that in the other income line of about $3 million to $5 million. Now there could be other things that flow through that on a later date that are one-offs but I think it’s fair to put that in on a consistent basis.

Operator

Your next question comes from the line of Bob Hopkins – Lehman Brothers

Bob Hopkins – Lehman Brothers

First of all I was just wondering on currency could you just give us a sense as to how much of the gross margin improvement year-over-year is due to currency.

Charles Dockendorff

We talked in the first quarter it was a little, I think in the first quarter we had an increase of about 110 basis points and at that point currency was a little less than half of that increase and this second quarter we’re right around 100 basis point increase and I would say currency has a little bit more of an impact as its strengthened and it’s a little bit more than half of that incremental increase in the gross margin.

Bob Hopkins – Lehman Brothers

And then the implied EPS guidance range that you provided given the new ranges on tax rate and top line and operating margin suggest using the mid point of that range that where you think earnings will come in for the year is about $0.15 ahead of where current consensus is today. So we are half way through the year now, can you just give us a sense as to versus the original plan that you gave us at the very beginning of the year how much of this improvement is due to core operating improvements versus things like currency and other factors that may not be sustainable. I just wanted to get sort of an overview sense on sort of the state of the union now that we’re half way through the year.

Charles Dockendorff

I think as you look at the results, and I think if you look at our guidance, we just recently brought sales up by about 200 basis points and we brought the tax rate down by 200 basis points overall in the guidance ranges and clearly the sales, the most recent increase that we had was clearly, a big piece of that was the change in or the FX impact. I think when you looked at our guidance increase for sales in our last quarter some of that was clearly from stronger operations. So we did see stronger base growth coming out of particularly medical devices and imaging solutions. But the most recent increase in guidance was clearly more related to FX.

On the tax rate the decline there, a lot of that is driven by again the FX because more of our income is in lower tax jurisdictions and I think we did have a decrease in the interest rate which should continue as we go forward. The other thing is the FX will also hit us negatively in SG&A in the second half of the year. But I think as you look at that, when you take the change in guidance we have made on sales and the change, the decrease in the tax rate I think the number you had out there of $0.13 to $0.15 is probably not unrealistic for the change in the overall impact of the company. But I think really nice thing as we’ve seen in the company operationally is clearly real strong sales growth on the base operations, operationally without FX. I think the improvement in gross margin specifically around the mixed component of that has been stronger than what we thought. We expect that to continue. So there are some real nice improvements on that end.

Bob Hopkins – Lehman Brothers

I was just wondering if I could get any comments on the dosage business and what gives you the confidence that you’ll get to the bottom end of that 3 to 6 given where you are in the first half?

Richard Meelia

The first thing that we’ve got working for us is the second half comparables will be working in our favor. And we see some pickup in both the API and the dosage business. Again we don’t have any ANDA approvals in that forecast, that would simply be upside should we catch something towards the second half of this year. So the business still feels very confident with this range.

Operator

Your next question comes from the line of Tao Levy – Deutsche Bank

Tao Levy – Deutsche Bank

I was wondering if you could hash out the tax line savings a bit more, specifically where are the manufacturing sites I guess in the favorable tax jurisdictions located. And what products are shipped from those sites?

Charles Dockendorff

Basically its not so much manufacturing, it’s just that the way our internal structure is and I don’t want to go into a lot of detail around our internal structure, but a lot of our profits in low tax jurisdictions are in the euro currency. That’s the way in a lot of our products, its not related to one manufacturing facility its all of our products sold within Europe. And so we’ve been sitting here with a situation where that low tax income which is all euros has grown dramatically as a result of the most increase in the foreign exchange rates this last quarter. So that will fluctuate in the components of that and you’ve got to look at that as the mix of our total income but that could fluctuate the other way if FX rates drop dramatically as well. And when you think about it, most of our manufacturing is actually in the US so a lot of our product is shipped outside into Europe so we get the impact of translation on these low tax jurisdictions but also the cost of products that they’re buying from us in the US is also cheaper as the euro has strengthened and that’s added to that profit as well.

Tao Levy – Deutsche Bank

Just for further clarification so its these products are sold in lower tax jurisdictions, is that it in Europe because from what I understand tax in Europe overall is much higher than in the US?

Charles Dockendorff

Certain parts of it are but where we, again because of our structure and the way we ship it we’re able to actually, a big piece of our income in Europe is at a very low tax jurisdiction. That’s part of the advantage we have in the tax situation.

Tao Levy – Deutsche Bank

From FX does any of FX flow to the bottom line or is that all hedged out?

Charles Dockendorff

Well again we’ve talked about the FX hedges, we do hedge on transactions. These are product shipments we’ve made from the US to various parts of the world, primarily the euro and the yen, and we hedge 100% on the shipments for the next six months and 50% on the remaining six months. So we do hedge our transactions. We don’t hedge the translation or the earnings of these businesses. There are no hedges on that and we do have certainly favorable, there is some favorability to the operating income as a result of those translations from FX.

Operator

Your next question comes from the line of Kristin Stewart – Credit Suisse

Kristin Stewart – Credit Suisse

I was wondering if you can just give us an update on where the specialty chemicals business stands, have you progressed any further there or willing to give any sense of what type of proceeds that might yield?

Richard Meelia

We’re in the midst of the process. It’s our policy just to kind of keep that in the bag until we know more definitively what the timetable or the conclusion to the timetable might be but the process is active and it’s too early to start talking about proceeds.

Kristin Stewart – Credit Suisse

I think last time you had said you were pretty far along, is that still the case?

Richard Meelia

I’d just say we’re in the midst of the process. Again just as we did with retail, until we had a pretty good idea as to where this conclusion was we just didn’t want to create false expectations with investors.

Kristin Stewart – Credit Suisse

And you talked about with the pharmaceutical guidance that it doesn’t include any of the ANDA approvals, is there a way that you can maybe help us get a little bit better sense as to what your plans are there? Any way to tell us a little bit more detail what they are specifically or what may change in the forecast if they do come to fruition?

Richard Meelia

I don’t think you’d see any material change in ’08 at this point we’re into May already so we’re down to five months and so I think we’d be looking more to ’09 and beyond and we’re obviously not talking about that at this point.

Operator

Your next question comes from the line of Joanne Wuensch – BMO Capital Markets

Joanne Wuensch – BMO Capital Markets

Did you, like several of the other competitors have an Easter affect in the quarter and then with your new sleep apnea product, could you give us a little bit more detail on what it may look like and will we be seeing it at Medtrade this week?

Charles Dockendorff

We did not really see any significant affect relative to the Easter holiday. Again when we forecast we attempt as best we can to consider those kinds of events in our seasonalization of our forecast so nothing, nobody mentioned the Easter affect until people external to Covidien started talking about it. In terms of CPAP we will be introducing, introduce I believe one and we’ve got a couple more CPAP devices. They’re all designed for affordability, compactness, humidification, I believe they will be presented but I can’t say with 100% certainty but I believe they will be presented and again we’re in the sleep business. We’re among others who are in a three/four kind of position relative to the two big market share players. We are trying to do our best to be competitive and to grow with that market. While sleep is a good business for us, it is not one of the driving businesses for Covidien.

Operator

Your next question comes from the line of Taylor Harris – JP Morgan

Taylor Harris – JP Morgan

Richard, just wanted to ask you about the endomechanical business, so you did 5% constant currency growth this quarter, about 6% for the year so far? Is that in your mind above market, I think you’ve made some comments that you think it may be and if so, help us understand, are there particular product categories or geographies where you think you’re taking share? You mentioned in your remarks about a sharp increase in laparoscopic instruments, so was there something that bear’s further explanation there?

Richard Meelia

A sharp increase where we’re seeing high single-digit increases, but we have for a couple of quarters of now. The growth in endomechanical is stronger outside the US. It has been now for, this is probably third consecutive year. We are seeing really strong growth; Asia Pacific, eastern central Europe, Latin America but also Europe as well. The good news is we are, while maybe several quarters back you would have seen low single-digit growth in the US, now we’re getting up to more that 4%, 5%, 6% and that’s why we believe that I don’t think we’re taking significant share inside the US, but I think we’re now growing at or slightly above the market and its being driven a lot of it, [theriatric] surgery and new products that have been introduced by the surgical device folks, specifically aimed at the endomechanical business. Again these aren’t necessarily major breakthrough but its just a continued improvement of the endomechanical offering that enables us to bring value to surgeons as well as you’re seeing the benefit of additional sales people both generalists and specialists in ’04, ’05, ’06 almost all the sales heads were outside the US, in ’07 ’08 we’ll probably add 800 to 1,000 more of those, that two-year period, in more than half our in US. So you’re starting to see the affect of them as well.

Taylor Harris – JP Morgan

Charles you talked about FX impact on gross margin, how much did it increase SG&A costs in the quarter and then I guess you’re still not assuming the R&D tax credit in your tax rate guidance? What would that impact be?

Charles Dockendorff

The FX impact on SG&A, it did increase I think it was roughly somewhere around, less than half of the increase; somewhere in there. We don’t have the specific number; we’ll have to get back to you on that. As far as the tax rate guidance we did take the R&D credit out and as you all know we are spending some increased money on research and development which we should get a benefit of that. I don’t think it’s significant though to the overall rate. It would help us and provide a slight decline to the existing rate as we go forward.

Operator

Your next question is a follow-up from the line of Kristen Stewart – Credit Suisse

Kristen Stewart – Credit Suisse

I was wondering if you can just give us an update on the restructuring activities and how is that going, and can you remind us again what the expected savings are and if we can see, if you see any other opportunities down the road to maybe do some more restructuring in any of the other businesses.

Charles Dockendorff

Just going through the restructuring, it was about 15 projects. Some of these are being [inaudible] consolidations. We are also in the process of mentioned in the planned remarks, we’re taking our European operations and consolidating customer service and actually have finance functions into one back office location. So that’s going to generate some significant savings but overall all these programs have been started. They’re underway. Some are complete. It probably represents about five manufacturing facilities that will be closed in the process. We’ve talked about the savings coming from these in the $50 million to $75 million range and some of those savings we’re beginning to realize now going forward.

Looking out as far as further restructuring opportunities, clearly these ones were, we pulled them right off the shelf. We had them available. They had good returns. We constantly see other opportunities too. There could be further back office consolidations, things like that. At this point we’re not thinking of pulling out any particularly restructuring program to do these things but we will implement these things and just include them in our normal expense categories going forward, see that we can afford them.

Kristen Stewart – Credit Suisse

Okay so I guess the mix of the savings it sounds like its kind of spread within cost of goods sold as well as maybe a little bit offsetting some of the increased sales and marketing, is that fair to say?

Charles Dockendorff

It is and I think you’ll see some of those more of the G&A savings come through next year as we begin to try to leverage the SG&A for fiscal year ’09.

Operator

Your final question is a follow-up from the line of Glenn Reicin – Morgan Stanley

Glenn Reicin – Morgan Stanley

On the radiopharmaceutical business you grew that business I think 16% year-to-date, if you’re very successful in the conversion to generic [cardiolite] what does the growth rate decelerate to in the fourth quarter? I understand profits go up; I’m just trying to understand the sense of the deceleration. And then are you deep enough now into TSL that you can give us an idea of what your top line and bottom line expectations are this point?

Charles Dockendorff

In terms of the first question we think that the radiopharmaceutical can sustain a kind of mid to upper single-digit sales growth and obviously we’re looking forward to more profitable growth that’s the whole strategy behind what we’re doing right now with our technetium pricing and the generic [systemivy]. With respect to Tissue Science we’ve never had an opportunity in biologic mesh. I believe that business, that market itself is growing at about 30%. There seems to be more interest in the [inaudible] versus the [allograph] and that’s exactly why we pursued it. So we hope to take advantage of that, the biologic mesh especially the interest in the [ziniograph] with our world wide infrastructure in hernia.

Glenn Reicin – Morgan Stanley

When you said upper single-digits on radiopharma is that the same as saying by the fourth quarter with the conversion that’s the more normalized growth rate?

Charles Dockendorff

We don’t give quarterly guidance but I think we look at that business long-term is kind of a mid upper single-digit sustainable growth.

Glenn Reicin – Morgan Stanley

And TSL do you think you can generate $30 million of sales your first year of ownership?

Charles Dockendorff

I don’t think that’s an unreasonable goal given where they are and given what happened with synthetic mesh but there’s execution to be done to make that happen. But we took the synthetic mesh and significantly improved its annualized sales over I think the $25 million when we acquired them and TSL is somewhere just under $20 million and so our ability to get that up to $30 is not unreasonable.

Operator

With no further questions in queue, I would now like to turn the call back to Mr. Cole Lannum for closing remarks.

Coleman Lannum

Thanks everyone. Starting at noon Eastern Time today a replay of the call will be available. Additionally the replay will be available on our corporate website www.convidien.com a few hours from now. For members of the media who have listened to the call and have additional questions, please contact Eric Kraus, our Head of Corporate Communications and for analysts having more detailed questions involving non-material information, Wade and I'll be available this morning to take your calls. Thanks everyone and have a great day.

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

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

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