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Thoratec Corp. (NASDAQ:THOR)

Q1 2008 Earnings Call

May 1, 2008 4:30 pm ET

Executives

David Smith - EVP and CFO

Gary Burbach - President and CEO

Analysts

Robert Hopkins - Lehman Brothers

Frederick Wise - Bear Stearns

Taylor Harris - JPMorgan

Jason Mills - Canaccord Adams

Mimi Pham - JMP Securities

Jayson Bedford - Raymond James

Keay Nakae - Collins Stewart

Spencer Nam - Summer Street Research Partners

Ashim Anand - Natexis Bleichroeder

Operator

Good day, everyone. Welcome to the Thoratec Corporation Earnings Call. (Operator Instructions).

At this time, I'd like to turn the conference over to David Smith, Executive Vice President and Chief Financial Officer. Please go ahead, sir.

David Smith

Thank you, operator. Good afternoon, everyone, and thank you for joining us today. With me are Gary Burbach, President and Chief Executive Officer; and Larry Cohen, President of our ITC Division. Clearly, the last few weeks have been some of the most important in Thoratec's history, as we received approval for and initiated the commercial launch of our HeartMate II for bridge to transplantation in the United States.

During today's call, we will discuss the drivers behind our solid financial performance in the first quarter, and provide a review of our HeartMate II launch program, as well as some of the important data presentations that have occurred in the past several weeks.

Before we begin, during the course of today's conference call and the question and answer session that follows, we may make projections or other forward-looking statements that are subject to the Safe Harbor provisions of the securities laws regarding future events for the financial performance of the company. We caution you that these statements are only predictions, and that actual results may differ materially. We also alert you to the risks contained in the documents we filed with the Securities and Exchange Commission, such as our annual and quarterly reports on Forms 10-K and 10-Q. We do not undertake any obligations to update or correct any forward-looking statements. Gary?

Gerhard Burbach

Thank you, David. Hello, everyone. As David's opening comments suggested, we've started off 2008 with very strong momentum, including a 12% increase in year-over-year revenues. Cardiovascular division revenues increased 13% versus the first quarter a year ago, while ITC revenues were up 11% over the same period last year. Cardiovascular division revenues were driven by continued strong HeartMate II growth in Europe, solid HeartMate performance in the United States, particularly in our clinical trial, and continued progress with our CentriMag program.

Excluding CentriMag, we sold 453 pumps in the quarter versus 449 pumps a year ago.

With respect to our HeartMate II trial, we ended up enrolling 486 patients in the bridge arm prior to approval. In the Destination Therapy arm, we received a continued access protocol for 60 patients in early April. As of April 25th, enrollment in the Destination Therapy Arm was 532 patients, including 325 patients in the randomized portion of the trial.

By the way, this month will mark the one year anniversary of completing the enrollment of the 200 pivotal trial randomized patients. As we announced on April 21st, we received FDA approval to market our HeartMate II as a bridge to transplantation. This approval, which marks the first FDA approval of a continuous flow device for this indication in the United States, was based on one year of follow-up data from the first 194 patients enrolled in the bridge trial.

As the data indicated, we had strong results across all endpoints, including survival, adverse event rates, functional status, and quality of life. I'd like to acknowledge the clinicians and patients who participated in this landmark trial, and have made this new era of treatment for advanced stage heart failure patients a reality.

We will conduct a post market study that includes a concurrent comparator. The study will follow 169 HeartMate II bridge patients until outcome and gather data regarding survival, adverse events, patient gender and size, and anti-coagulation levels. The result from this post market study will be collected using the well established interagency registry for mechanical assisted circulatory support or INTERMACS. The benefit of this is that patients can be enrolled immediately as INTERMACS is fully implemented and IRB approved at more than 90 US transplant centers. In addition, this is helpful to our customers as they are already accustomed to using this electronic database for inputting data on their commercial VAD patients.

With FDA approval, we have initiated our commercial launch program. Since we covered this in some detail in our last call, I'll just highlight a few key points.

As we have indicated, our goal is to place the HeartMate II in 40 new centers, during the balance of this year, which would put the device in about 80 centers in the US. Our effort includes, a comprehensive clinical support plan to ensure positive outcomes at these new centers, that encompasses training, extensive on-site support, and materials outlining best practices.

We are also focused on increasing referrals and achieving greater utilization within existing and new HeartMate II centers. As part of this program, we're making incremental investments in our marketing programs and our sales team, including our market development group, which is at the forefront of our referral programs.

Critical to this effort is that now with bridge approval, we can broaden the dissemination of data from the trial and foster awareness of the positive patient experience of that study.

We also talked last time about our expanded PR program targeted to consumers; and since then, we've had a number of articles appear in general circulation and consumer publications, including Forbes, and Men's Health, as well as stories on the ABC Evening News and Good Morning America, highlighting a HeartMate II patient who recovered the use of her natural heart and had the device explanted.

Finally, as we look toward receiving HeartMate II approval for Destination Therapy, we're initiating programs that we believe will lead to broader patient access to Mechanical Circulatory Support Therapy. This includes funding for physician fellowships, CMS Destination Therapy certification programs, and training and education for the clinical community.

In addition, we're developing a best practices guide for centers interested in adding VAD therapy to their heart failure program. While this is a long-term effort, we're hopeful that during the year we can add a handful of centers that are not currently performing VAD implants.

In the past few weeks, we had updated HeartMate II data provided at both, the American College of Cardiology, and the International Society for Heart and Lung transplantation. And I'd like to review several of the major presentations with you. At the ACC, Dr. Joe Rogers, of Duke, presented data on 279 bridge trial patients looking at survival outcomes and secondary outcomes, involving more than 180 years of cumulative support. His findings included, at one year 80% of the patients had undergone transplantation, recovery, or remained on support.

As was true with the six months data included in our PMA filing, adverse event rates, where common definitions were available, indicated reductions in infections, strokes, postoperative bleeding and right heart failure versus the HeartMate I trial.

In addition, HeartMate II patients experienced significant improvements in functional capacity and quality of life. In fact, at six months, 85% of the patients were classified as either NYHA Class-I or II, which represents a major improvement in their class IV functional capacity when they entered the trial.

Dr. Rogers also concluded that the effectiveness of the HeartMate II as a bridge to transplantation has improved during the trial, suggesting refinements in patient selection and management strategies.

The other data from ACC, worth noting, was included in a poster by Dr. Andrew Boyle, from the University of Minnesota, in which he compared improvements in functional capacity in class IV patients on the HeartMate II versus those who underwent Cardiac Resynchronization Therapy or CRT using six-minute walk comparisons. His findings show that at six months, the median improvement in functional capacity from baseline in HeartMate II patients was 4.9 times greater than that achieved by CRT patients in the Companion Trial.

With respect to the ISHLT, there were more than 100 posters or presentations, involving VAD data and a great deal of interest in Mechanical Circulatory Support among attendees. Among the key data presentations, Dr. Les Miller from Washington Hospital Medical Center also presented the new data on the 279 bridge trial patients that I mentioned previously. Additionally, he reported worldwide data on patient durations, including the 110 patients who were supported for more than 1.5 years. 47 patients were supported for more than two years, and three patients exceeded three years of support.

Dr. Ranjit John from the University of Minnesota presented a multi-center analysis that compared the experience of 280 HeartMate XVE large patients versus 133 HeartMate II large patients. He found equivalent or better pump flow, pump flow index and survival outcomes in the HeartMate II patients. He concluded that continuous flow LVAD can provide similar levels of circulatory support in large patients as pulsatile flow LVADs. He also noted the advantages of the HeartMate II, such as small size and superior durability, maybe a benefit to larger patients.

Dr. Jamie Moriguchi, of UCLA, presented data on their experience with the Thoratec PVAD in a BIVAD configuration, with nearly 100 critically ill patients. He found that more than 70% of the patients were successfully bridged or remained on support at one year. And that one year actuarial survival post-transplant following BIVAD support was 88%.

There were also data presented from the Heart Center in Copenhagen, regarding the day-to-day living experience of patients supported by the HeartMate II. They compared 28 HeartMate I patients with 17 HeartMate II patients. Several themes emerged from the HeartMate II patient interviews, including higher satisfaction, with regaining physical ability, as well as a feeling of the mechanics being invisible. The investigators concluded that HeartMate II patients were able to achieve a more normal lifestyle given the performance and size of the pump.

Finally, there were several presentations and a great deal of discussion around predictive models, such as the Seattle Heart Failure Model or SHFM, which is a tool used to predict life expectancy in patients with advanced stage heart failure. Specifically, Dr. S.V. Pamboukian, from the University of Alabama looked at the value of the Seattle Heart Failure Model in determining patient selection. She reviewed the findings of 44 patients and found that one-year survival without a VAD was 41%, as predicted by the Seattle Heart Failure Model versus an observed survival of 72% among VAD patients. She noted that tools, such as the Seattle Heart Failure Model may aid in determining appropriate timing for VAD implantation. The consensus among clinicians is that these types of advances in patient selection should result in both earlier and increased referrals by cardiologists, and could lead to improved patient outcomes.

Before turning to ITC, I'd like to update you on our HeartMate II product development programs. We continue to track well with our program to enhance the HeartMate II platform. As we've discussed in the past, our first offering in this regard will be a next generation peripheral system planned for introduction later this year. It includes longer lasting battery technology, and is lighter, and more portable. This will be followed by a number of other improvements, including a more durable percutaneous lead, next generation controller, sealed grafts, tools to enhance the surgical process, and a fully implantable system.

As I mentioned earlier, ITC had a very good quarter with 11% sales growth year-over-year. Our international business led the way, increasing 32% over the first quarter a year ago. The international growth was driven by strong sales performance of our ProTimes System in Europe, along with market share gains in the HEMOCHRON Hospital Point-of-Care Coagulation and IRMA TRUpoint Blood Gas businesses in Europe and Asia.

In addition, our agreement IDEC Laboratories in the US Veterinary market is starting to gain traction. This program which was announced about a year ago involves the sale of an OEM version of our HEMOCHRON Signature Elite. As we indicated in our last call, the ProTime alternate side-business was impacted by the voluntary recall that we initiated at the end of last year, as we were unable to ship products in sufficient quantities to meet order demand. The facts behind the recall are now behind us, and while there has been some competitive impact as a result of the recall, we remain optimistic about that business going forward.

In the near term, we're starting to see resurgence in order activity from the pharmaceutical clinical trial sector. And additionally, a significant longer term driver for ProTime is the recent coverage decision from CMS that expands reimbursement for home prothrombin time monitoring. Under this new policy, coverage will include patients on Warfarin for chronic atrial fibrillation and DVT. This expands the potentially addressable market for INR self-testing nearly eight fold to more than 4 million patients. As we indicated in our last call, we are into development of a new ProTime platform that we expect to introduce at the end of this year.

In closing, we are both excited and optimistic about the opportunities now in front of us with the bridge approval that further strengthens our leadership position in the Mechanical Circulatory Support sector. We have the manufacturing, sales and marketing programs in place to bring this proven technology to a growing number of patients in need.

We are encouraged by the increasingly favorable clinical data coming out on the HeartMate II and look forward to continued positive patient outcomes as the device experiences broader adoption. We are also encouraged by the positive trend at ITC and future opportunities available to us through ITC's product pipeline.

Thank you again for joining us today. And I'll now turn the call over to David.

David Smith

Thank you, Gary. Before reviewing our results, as a reminder, non-GAAP net income excludes amortization of intangibles, certain litigation expenses, and in-process research and development expenses, as well as share based compensation expenses under FAS 123-R and changes to the make-whole provisions from our convertible notes. Non-GAAP net income also takes into account the tax effects of these adjustments. You can find reconciliation between our GAAP and non-GAAP results at thoratec.com.

Total revenues for the quarter were $64.4 million, a 12% increase over revenues of $57.3 million in the first quarter of last year. Cardiovascular division revenues were $40.2 million, a 13% increase over revenues of $35.5 million in the same period a year ago. Revenues at ITC were at $24.2 million, 11% increase over revenues of $21.8 million a year ago.

Non-GAAP gross margin for the quarter was 56.3% versus 60.2% a year ago. The difference reflects primarily fluctuations in capitalized manufacturing variances, HeartMate pump to non-pump mix, and geographic mix at ITC, offset by favorable foreign exchange rates. Going forward, we expect margins to move to our previously issued guidance range of 59% to 60% with the increase in the HeartMate II ASP, more favorable manufacturing variances, and product mix at ITC, offset primarily by HeartMate pump to non-pump mix and ITC geographic mix.

Non-GAAP operating expenses for the first quarter 2008 were $30.7 million versus $29.7 million a year ago. The year-over-year increase in operating expenses is due primarily to product developments and market development initiatives.

On a non-GAAP basis the company's effective tax rate in the quarter was 34% versus 31% a year ago. The increase in the tax rate was primarily attributable to R&D tax credits, which will be recognized in the future period if approved by Congress, along with foreign tax true ups.

Non-GAAP earnings per share were $0.08, consistent with a year ago. Our weighted average shares outstanding at the end of the quarter were 62.2 million reflecting the dilution associated with our convertible debt.

Turning to the balance sheet, we ended the quarter with $221 million in cash and investments versus $218 million at the end of 2007. This includes net auction rate securities of $32 million after a $5 million temporary impairment. We have classified all auction rate securities that have not been called as long-term assets this quarter, due to the lack of activity in the market. We have not taken a charge on the income statement, as we consider these investments to be temporarily impaired.

As I just mentioned, we have taken a $5 million temporary impairment through other comprehensive income on the balance sheet. These securities are student loan based that are either government backed or insured. All of the securities are investment grade at this time. We will continue to monitor the situation closely.

We are maintaining our guidance for 2008. And as we've discussed, we continue to be excited about the future prospects of the company.

Thank you for joining us today. And we will now open up the call to your questions. Again, we ask that you limit yourselves to one question and a follow-up so we can address as many questions as possible. Operator?

Question-and-Answer Session

Operator

(Operator Instructions). We'll go to Robert Hopkins with Lehman Brothers.

Robert Hopkins - Lehman Brothers

Thank you. Good afternoon. Two questions; first, could you talk about how long it's going to take for you to be fully rolled out in all 80 centers in the US with really an unlimited, unrestrained supply?

Gerhard Burbach

Do you have a second question, Bob?

Robert Hopkins - Lehman Brothers

No. I'll wait till after.

Gerhard Burbach

The 80 centers are really planned for the year. So, by the end of the year, we expect to have the 80 centers online, with probably a relatively balanced flow of centers starting up each quarter here, for this quarter and the next too. And we really expect to have an unconstrained flow of product, as we speak, and through the balance of the year.

Robert Hopkins - Lehman Brothers

Okay. So, really no limitations to supply for the year?

Gerhard Burbach

Correct.

Robert Hopkins - Lehman Brothers

Okay. And then the second question for David, I wanted to talk a little bit about margins. Could you walk us through in a little bit more detail exactly what went on with gross margins this quarter and also SG&A expense is less than we were looking for, especially sort of gearing up for the launch. Is that just delayed until Q2 because of the timing of the approval or so again, if you could just walk through gross margin in a little bit more detail and talk a little about SG&A as well, it would be appreciated?

David Smith

Sure. If you recall last year, at this time, we had a pretty significant quarter from a gross margin perspective. And we talked about the fact that we had some capitalized variances that were very favorable to us that had occurred in the latter part of 2006 that came through the margin line in Q1 of 2007. So, we had let's call it, less of a favorable manufacturing variances in this quarter as compared to a year ago quarter. The other thing that we talked a bit about was the pump to non-pump mix, and we talked a bit about this on the last quarter. If you'll recall our margins for Q4 were pretty consistent on a consolidated basis with our margins this quarter. They were just off about a tenth I think.

So what we're seeing is a non-pump to non-pump mix, as we see one; more patients getting discharged with the HeartMate II. We're seeing that you have more of this non-pump revenue. And the non-pump revenue, as we have described has a lower gross margin than the pumps and the HeartMate line non-pump margins are lower in margin than the Thoratec line, in terms of the non-pump mix. So if I have completely confused you, come back and ask it again.

And the other piece is geographic mix, as we mentioned. Very strong quarter at ITC internationally, and that business is distributor based, so we have lower margins there. So those are really the factors that impacted the margins in this particular quarter.

And I'll just hit SG&A really quickly. We are hitting some of the marks that we wanted to hit during this particular quarter. And if you recall, the growth actually on a year-over-year basis is a little bit higher than what the actual growth shows, because we had about $900,000 of stock option review expense in Q1 of last year. So we're up a little bit more than that on a year-over-year basis in terms of SG&A. And we had some of the expenses that do slide into Q2 and are pushed out as we market our programs now.

Robert Hopkins - Lehman Brothers

So, just on this pump to non-pump, could you just explain why that changes going forward throughout the rest of the year?

Gerhard Burbach

There continues to be a negative impact in the balance of the year, but the offsets in the balance of the year are primarily the HeartMate II ASP improvement, now that we have commercial launch. And then, David also mentioned these capitalized manufacturing variances, which were not favorable in Q1. We will see improved capitalized manufacturing variances get released into the income statement over the balance of the year. And Bob, just to remind you the way that works, we capitalize them and they get released two quarters later. So, we have visibility obviously for basically the balance of the year to those capitalized manufacturing variances.

Robert Hopkins - Lehman Brothers

Okay. Thanks for a great start to the year.

Gerhard Burbach

Thank you.

Operator

We'll go next to Rick Wise with Bear Stearns. Mr. Wise, your line's open. Please check your mute button.

Frederick Wise - Bear Stearns

Can you hear me now?

Operator

Yes.

Frederick Wise - Bear Stearns

Thank you. Gerhard, I know it's not fair to ask, but maybe could you talk a little bit about initial reaction to the launch? It's been a couple of weeks. Maybe you could just give us some sense of initial reception and reaction to the availability of the product?

Gerhard Burbach

Yes, as you say it's been a week and a half since we got approval last Monday. The sales team has been extremely active and busy. There's a tremendous amount of interest. We have generated a significant number of quotes to interested sites. So I'd say that we feel very encouraged in terms of our plan to add 40 additional sites this year.

Frederick Wise - Bear Stearns

I wanted to have that lead into a discussion about your revenue guidance, and maybe the quarterly flow. I don't know if it is the correct way to think about it, but having strong first quarter revenues in the $65 million range, if I assume that you at least have those revenues in the first three quarters and then maybe step it up a little bit in the fourth quarter, I sort of comfortably get to the $265 million, $270 million kind of range, and I think your guidance is $255 million to $266 million. Is that the right way to think about it or should we see a quarterly step up in each of the next three quarters? Just any perspective you could give us would be a welcome.

Gerhard Burbach

The guidance was $255 million to $265 million. And in terms of the expectations over the balance of the year, as I mentioned, we expect to see a pretty steady flow of new sites, beginning here in the very near future, through the balance of the year. So, we should see some nice incremental revenue, as those sites come on in each of the quarters over the course of the year.

And as you also know the VAD business has been one where you've got a certain amount of lumpiness, especially in the bridge to transplant arena. So, I won't endeavor to kind of provide quarterly specific quarterly breakdowns, but I think that you can look to having this incremental growth driver really in each of the remaining quarters for the year.

Frederick Wise - Bear Stearns

Just to make sure, I understand what you're saying, it's likely that we could see sequential step up in revenues, as we proceed in each quarter of the year?

Gerhard Burbach

I'm not really talking about sequential, I'm really talking about quarter-to-quarter, year-over-year, so Q1 versus Q1, Q2 versus Q2.

Frederick Wise - Bear Stearns

I'm sorry to beat this to death. I apologize in advance, but there's no particular reason to think that ITC, doesn't sound like it's going decelerate, you are going to be expanding the number of centers. I'm not trying to force you into a corner, but there's no particular reason to think that that's not possible anyway?

Gerhard Burbach

That what's not possible?

Frederick Wise - Bear Stearns

That we might not see a steady sequential again, appreciating that it's a tough quarter-to-quarter business to predict.

Gerhard Burbach

I think it's probably too early to speculate on that at this point, Rick, but we certainly feel very positive and optimistic about the launch, the response from the customers. So, we feel Q1 was a very good quarter. And we feel very good about our plans for HeartMate II launch and the expectations around that. So, as you look at the balance of the year, I think, that it provides a very positive outlook generally.

Frederick Wise - Bear Stearns

Thank you so much.

Gerhard Burbach

Thanks, Rick.

Operator

We'll go next to Taylor Harris with JPMorgan.

Taylor Harris - JPMorgan

Thanks a lot. First of all, formal congrats on the HeartMate II approval.

Gerhard Burbach

Thank you.

Taylor Harris - JPMorgan

My question is on the mix that you're seeing right now in the VAD business. Units it sounds like were up very slightly, but you had 13%, 14% increase in VADs overall. So, can you give us some clarification, just on, how big of a role is HeartMate II playing already or are there some other contributors, I don't know, training revenue or CentriMag that really helped drive that overall VAD revenue number?

Gerhard Burbach

The biggest drivers, one is, as you were speculating, a transition from Thor pumps to HeartMate pumps, both in Europe, where we've been commercial, and HeartMate II, specifically, as well as in the US. Even though we were in a clinical trial setting in the first quarter, we saw that same kind of a transition occurring. And with the HeartMate II being priced higher than the Thor pumps, you have a net positive uplift, in terms of revenue, with the same pump unit volumes.

The other is related to this conversation that occurred earlier around non-pump revenue. And what we are seeing is a higher percentage of patients being discharged. And we're seeing those patients being supported for greater periods of time. And so, that's requiring a greater level of these non-pump equipment items, batteries, the power-based unit, and the other ancillary equipment, that these patients take home with them when they leave the hospital. And then that has to be replaced over time. And so, we're seeing the volume of patients that are out being supported at home going up quite substantially, as we look at year-over-year basis, and that's driving a fairly substantial increase in that non-pump revenue.

Taylor Harris - JPMorgan

Okay. So, maybe, just a follow-up on that. Can you tell us what the growth rate was in the non-pump revenue? And then also if you've got HeartMate II unit mix this quarter versus last quarter, that would be great?

Gerhard Burbach

The unit mix, Taylor, we had indicated, we're going to provide that on an annual basis. We're not going to try to break that down every quarter. So, there was the mix that we provided in the last call. And things continue to trend towards HeartMate from that mix that we provided previously.

Taylor Harris - JPMorgan

Okay, great. And then let me just ask one more follow-up question to the gross margin discussion. Once you have HeartMate II at full commercial pricing, first of all, full commercial pricing, does that just apply to the pump or also to these non-pump disposables? But after you're there with full commercial pricing, does the gross margin on HeartMate II equal and/or exceed the gross margin on the pumps that you're replacing?

Gerhard Burbach

So, the price increases are really just the pump. So, with the other equipment, you have the same equipment that was used to support the XVE, that's currently being used to support the HeartMate II. I mentioned earlier, the external peripherals program that we expect to launch at the end of this year, that's where we introduce some new external peripheral. That we expect, will give us some pricing opportunity, and an ability to begin to improve the gross margin on those non-pump items. Then what was the rest of the question?

Taylor Harris - JPMorgan

Big picture. Even though we're seeing HeartMate II start to become a bigger part of the mix, gross margins are down. So I'm just wondering, once you get into commercial pricing should we see gross margin uptick given the shift to HeartMate II?

Gerhard Burbach

Yes, so HeartMate II gross margin in the commercial siding is definitely an improvement versus the XVE, which is the primary pump that HeartMate II cannibalizes.

Taylor Harris - JPMorgan

Okay. Thanks a lot.

Gerhard Burbach

Thank you.

Operator

We'll go next to Jason Mills, Canaccord Adams.

Jason Mills - Canaccord Adams

Thanks, Gary, David, congratulations on a good quarter.

Gerhard Burbach

Thank you.

Jason Mills - Canaccord Adams

I wanted to go back, Gary to your comments with respect to your programs to expand access for VAS your broader patient population, specifically some of the initiatives to add, in your words, a handful of centers in 2008 that are not currently doing, I believe you said VAD-Destination Therapy. Would these centers be in addition to or part of your expectation to add 40 HeartMate II centers?

Gerhard Burbach

Yes. That's a separate initiative, and those could enter with HeartMate II, but they could also enter with XVE or the PVAD, IVAD, so there are a variety of different pumps that those programs could decide to bring in to get their program started.

Jason Mills - Canaccord Adams

Okay, that's helpful. So you know where I'm going with this. It's kind of been a thesis for a while that upon approval of HeartMate II, you could see a broader penetration of the patient population then maybe described or characterized by a strict UNOS heart 1A, 1B listed transplant list. So I'm wondering if while certainly marketing it as a Destination Therapy device would be out of bounds, if these centers are looking at or interested in a Destination Therapy program in order to have access, also to HeartMate II, to perhaps select patients that can be listed in the transfer list. But to be honest are never ever going to get a donor heart. What is your feedback from these centers with respect to that specifically?

Gerhard Burbach

I don't think that there's that kind of a sharp line, when you say never ever going to get a heart. I think it's more a mater of more conservative or more aggressive in use of bridge to transplant VADs and who are the patients that you're going to deploy them in or implant them in. And, I think, with HeartMate II, many centers will become more aggressive, because they have a device that has greater durability, easier implantability and better outcome across the really full range of outcomes that's been demonstrated here.

Jason Mills - Canaccord Adams

Right.

Gerhard Burbach

So I think their interest, and expense of patients will expand. But I wouldn't characterize that as Destination Therapy versus bridge to transplant.

Jason Mills - Canaccord Adams

Fair enough. And just last question then I will get back in queue. Remind me the makeup of your guidance? If I recall from your last quarter call, your guidance really contemplates, I think you said stocking of units of HeartMate II into new centers, some growth out of the existing 40 centers, growth on a year-over-year basis, but does not contemplate reorder activity at the new centers you may add in second, third, and fourth quarter. If that's correct, could you just confirm that? And then maybe speak to whether or not that's realistic. Kind of to Rick's point, it seems that if given the pent up demand that seemed to be evident at ISHLT, you may in fact for at least the centers that are trained during the second and early third quarters have an opportunity to actually treat patients and therefore replenish that inventory.

Gerhard Burbach

So just to be clear, the three primary drivers in the US are expected to be the stocking activities as you described, the increase in ASP for HeartMate II, and then expanded usage of our VAD by the centers that have been in the trial, given their extensive experience with the device, and in likelihood that many of them will be interested in expanding the population of patients that they're addressing.

With the newer centers, our expectation is that their initial usage will be focused more on implanting a patient with a HeartMate II versus an XVE, as an example, so I wouldn't say that they're not going to reorder HeartMate II. I expect that many, hopefully almost all of them, will reorder. But the expectation is that that usage is really focused more on using it in a patient that they would have used one of our other devices in as they gain experience, gain confidence, and also begin to expand to a broader population of patients.

Jason Mills - Canaccord Adams

Okay, great. Thanks, guys.

Gerhard Burbach

Thank you.

Operator

We'll go next to Mimi Pham with JMP Securities.

Mimi Pham - JMP Securities

Hi. Good afternoon. Can you break out what percent of your cardiology sales were from grafts and from CentriMag?

Gerhard Burbach

We haven't broken those out, Mimi as specific numbers, but they're relatively smaller numbers and the graft side of the business has been a flat to slightly declining part of the business here for the last couple of years. And with the CentriMag program, we've seen some nice success with that program. I think it's a great entry vehicle. To the questions that Jason had around adding these additional centers; we have seen some growth there. But it's not something that really significantly impacts our results.

Mimi Pham - JMP Securities

Is it still something around less than 5% of your cardiovascular sales? I think you threw out that number a while back.

Gerhard Burbach

Yes, I don't have that specific number. And, as I mentioned, we're not breaking the numbers out on a quarterly basis.

Mimi Pham - JMP Securities

Okay. And then by year end, could we potentially see two year follow up data from your 100 or so patients that were enrolled in your DT trial at the end of third quarter of '06?

Gerhard Burbach

Well, we just saw a 12-month follow-up on the 279 patients. So, I expect the next follow-up period would likely be 18 months. On a similar population of patients. So, I think, that would be the next set of data that I would expect to see.

Mimi Pham - JMP Securities

And then last, do you have a sense of whether your current 40 HeartMate II clinical centers are building out their VAD support teams, and can handle potential increase in patients from HeartMate II being available?

Gerhard Burbach

I think they're generally interested in building their programs. I think with the increases in reimbursement that we've seen over the last couple of years from CMS and the other insurers that have made it economically a much more viable practice for the hospitals. And so, as they scale, generally, we're seeing willingness from hospitals to make those incremental investments.

Mimi Pham - JMP Securities

Okay. Thank you very much.

Gerhard Burbach

Thank you.

Operator

We'll go next to Jayson Bedford with Raymond James.

Jayson Bedford - Raymond James

Hi, good afternoon. Just a couple of questions for you. First on R&D, a little over 19% of revenue, it was a little higher than I thought. Were there one-time type costs related to maybe the bridge filing that may not recur going forward?

Gerhard Burbach

No. I think you have clinical trial expenses that are in there. And the clinical trial has been extremely active. We've enrolled a lot of patients. And so, there are pretty significant expenses associated with that, in addition to what you'd more typically think of, in terms, of product development activities that fall into that line item.

Jayson Bedford - Raymond James

Okay. So, is this the level that we should look at going forward?

Gerhard Burbach

Well, the bridge trial is obviously not going forward, so we won't have the same kind of expense, in terms, of the bridge trial, but we're expecting to continue to invest, and probably, increase our investment, in terms of some of the product development activities. So I'd expect to continue to see pretty significant investment in R&D.

Jayson Bedford - Raymond James

Okay. And then just lastly on the revenue side, you've had two solid quarters in the VAD business, and it seems to coincide with the pretty sharp increase in reimbursement. I'm just wondering if that's had any effect on the way hospitals look at the procedure at all?

Gerhard Burbach

Yes, an interesting question. We've observed that as well. And I won't say it's a primary factor, but I think it's reasonable to believe that it is a secondary factor, where there's not maybe as much downward pressure from administrators as they see a program that's on better economic footing.

Jayson Bedford - Raymond James

Okay, fair enough. Thank you.

Gerhard Burbach

Thank you.

Operator

We'll go next to Keay Nakae with Collins Stewart.

Keay Nakae - Collins Stewart

All of my questions have been asked, thank you.

Gerhard Burbach

Okay.

Operator

Thank you. We'll go next to Spencer Nam, Summer Street Research.

Spencer Nam - Summer Street Research Partners

Thanks for taking my questions. Just a couple of questions here. First question is, let me go back to guidance question again, since you guys posted revenue in Q1 that's about $5 million above the street. And you are maintaining your annual guidance of $255 million to $265 million. So one natural question is, why not raise the number by $5 million, since if you perform as you would expect in second half, based on your guidance from February, you could make that case. And so, is this current guidance or the maintaining guidance conservative or are you expecting some weakness in the second half due to three-week delay in the HeartMate approval.

Gerhard Burbach

Yes. It was certainly a very solid Q1. We're not expecting weakness in the second half. I don't think the three-week delay, relative to the kind of end of Q1 timeline, is really material. And we only received approval and launched here just over a week ago. So, we're just at the beginning of that program. So, we feel the appropriate approach here is to maintain guidance that we feel very comfortable with.

Spencer Nam - Summer Street Research Partners

Great, I appreciate that clarification. The second question I have is, the comment you made about the supply issue, you indicated in the previous comment that you were very comfortable with your inventory to meet the demand. Does that mean that you're comfortable with respect to the guidance that you've given or are you comfortable that you can handle just about any level of demand?

Gerhard Burbach

Both.

Spencer Nam - Summer Street Research Partners

Got it. Thank you.

Gerhard Burbach

Thank you.

Operator

We'll go next to Ashim Anand with Natexis Bleichroeder.

Ashim Anand - Natexis Bleichroeder

Thanks for taking my call. Two questions. One is if you can comment on the costs that you perceive, associated with post marketing studies that you will be conducting for HeartMate II, if they are in line or they are more than what you have anticipated? And second, in terms of ITC, you said you're working on a new platform for ProTime, so, if you can tell us a little bit about it? And also, since ProTime actually can penetrate the home market, what are you doing for the adoptions there?

Gerhard Burbach

In terms of ProTime, we expect it to be a very interesting, competitive offering, in terms, of the full range of dimensions to physicians that are utilizing these devices in patients, who care about, in terms, of accuracy and precision, size of the device, user friendliness, et cetera. So, we think, it's going to be a significant step forward from our current platform, and really make it extremely competitive with the other two offerings that are in that marketplace.

In terms of the post market study, that's generally in line with our plan. There are 169 patients that are a part of that study. And so, actually back to that previous question about R&D, that is an expense that we'll have here in the quarters going forward.

Ashim Anand - Natexis Bleichroeder

Anything specific you would do for ProTime, in terms, of home market like smaller size and all that that is what is the goal?

Gerhard Burbach

The platform that's coming out here at the end of the year is a platform that's targeted to be addressable to both the physician office, as well as the patient self-testing market. And then we expect to follow that up with another device based off of that same platform, which will be lower cost. And have some changes that will make it targeted very specifically to the patient self-tester market.

Ashim Anand - Natexis Bleichroeder

Thank you.

Gerhard Burbach

Thank you.

Operator

This will conclude our question and answer session. I'd like to turn the conference back over to Management for any additional or closing comments.

Gerhard Burbach

Okay. Thank you very much. We don't have any additional or closing comments, other than to say, thank you for joining this afternoon. We appreciate your questions and look forward to updating you in the future.

Operator

This does conclude today's conference. Thank you for your participation. You may now disconnect.

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Source: Thoratec Corp. Q1 2008 Earnings Call Transcript
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