Haemonetics - Earnings Call - Q2 2017

Transcript

Speaker 0

Good day, ladies and gentlemen, welcome to the Haemonetics Corporation Second Quarter twenty seventeen Earnings Conference Call. At this time, all participants are in a listen only mode. Later, we will conduct a question and answer session and instructions will follow at that time. As a reminder, this conference is being recorded. I will now turn the call over to your host, Jerry Gould, Vice President, Investor Relations.

Please go ahead.

Speaker 1

Good morning. Thank you, Stephanie, and thank you for joining us for Haemonetics' second quarter 'seventeen conference call and webcast. I'm joined today by Chris Simon, President and CEO Bill Burke, CFO Dan Goldstein, Corporate Controller and Susan Greco, VP Finance. Please note that our remarks today will include forward looking statements. Our actual results may differ materially from anticipated results.

Additional information concerning factors that could cause results to differ materially is available in the Form eight ks we filed today and in our latest 10 ks filing. This morning, we posted our second quarter earnings release to our Investor Relations website. Additionally, we posted comments on second quarter and first half fiscal twenty seventeen results. These comments cover much detail pertinent to understanding performance in the second quarter and first half. We made them available in advance so that we may discuss more strategic topics on this morning's call and to proceed more directly to your questions.

On today's call, Chris and Bill will discuss highlights of our strategy and business performance, important trends in our commercial markets, and key elements of the financial performance of the business. Then we will take your questions. Before I turn the call over to Chris, I would like to mention the treatment in our adjusted results of certain items which by their nature and size affect the comparability of our financial results. Consistent with our past practice, we have excluded certain costs and charges from the adjusted financial results, which we'll talk about today. In the 2017, we excluded certain restructuring and turnaround charges related to cost reduction initiatives we launched earlier in the fiscal year.

The second quarter of fiscal 'sixteen, we similarly excluded restructuring and related charges. Also in the second quarters of both fiscal 'seventeen and 'sixteen, we excluded deal related amortization expense. And finally, we excluded the tax effects of excluded items. In our disclosures, you will note increasing emphasis on GAAP amounts, especially where GAAP and adjusted results differ only materially. Further details of second quarter and first half twenty seventeen excluded amounts, including comparisons with the same periods of fiscal twenty sixteen, are provided in our Form eight ks and have been posted to our Investor Relations website.

Our press release and website also include a complete P and L and balance sheet and a summary statement of cash flows as well as reconciliation of our GAAP and adjusted results. With that, I'll turn the call over to Chris.

Speaker 2

Thank you, Jerry, and good morning to all of you. In August, during the first quarter earnings call, I shared my initial learnings about the company and its markets and how those insights had influenced our strategic plan. After we provide an overview of our second quarter's results, I will update you on how that thinking has evolved and the progress we are making at implementing our strategy. You will note, as Gerry said, there is significant additional financial detail in our earnings release and in the commentary on our website, especially as it pertains to first half results. Our second quarter fiscal twenty seventeen revenue was $220,000,000 flat as reported and up 1% in constant currency.

First half revenue was $430,000,000 which was approximately 50% of the midpoint of our full fiscal year revenue guidance range and in line with our expectations. We had continued strong results in plasma, our core performance driver. Plasma franchise revenue was $104,000,000 up 11% over the prior year second quarter and up 12% in constant currency with virtually all of the growth in disposables. North America and Europe represented nearly 90% of plasma disposables revenue and grew 1417% in constant currency respectively. Plasma disposables revenue grew 52% in constant currency in Japan as plasma apheresis collections increased along with the ongoing market shift to double dose platelet collections.

About half of the North American disposables growth came from the continued benefit of growth in the end market for plasma derived biopharmaceuticals. The remainder came from the continuing ramp of liquid solutions. We have high confidence in the continued growth of the underlying market for our commercial plasma collection business. Immunoglobulin, or IG, represents 50% of all plasma drug consumption and industry sources such as PPTA and our largest customers project high single digit growth rates for IG for the foreseeable future. In our hospital businesses, we experienced rapid growth in hemostasis management, a slowing of the declines in cell processing aside from OrthoPyte, and growth acceleration in BloodTrack and SafeTrace Tx.

These franchises are exciting entrepreneurial ventures at early stages in their life cycles and with distinct potential to contribute to our growth and or profitability. Today the combined hospital business is a relatively small contributor to the total company performance. But with focus and targeted investments, we believe these businesses can make meaningful contributions to our accelerated growth. Our hemostasis management franchise remains on an encouraging growth trajectory. TEG disposables grew 17% in constant currency in the 2017.

Our TEG 5,000 device continued driving growth as we expand the global launch of our TEG 6s device. We expect our TEG family of products TEG 5,000, TEG 6s and TEG Manager to continue to deliver growth with existing and new customers. TEG is the global leader in hemostasis management and we are focusing our efforts on the top 10 markets worldwide. TEG-five thousand is approved for a broad set of indications in all of our markets. The TEG-6s and TEG Manager have the equivalent broad set of indications in Europe, Australia, and Japan.

In The US, the TEG 6s is indicated for cardiovascular surgery, and we are pursuing the broader set of indications beginning with trauma. We now anticipate that our regulatory clearance for the trauma indication will occur in fiscal 'eighteen instead of late in fiscal 'seventeen as was originally planned. Timely regulatory clearance for The U. S. Trauma indication is important to maintain momentum with the TEG 6S launch in our largest market.

But it is important to put this in context. Our preliminary fiscal 'eighteen plans included about $5,000,000 of TEG 6S growth from The U. S. Trauma indication. The mix of equipment and disposable sales between the TEG five thousand and the 6S will be different now, but we expect no net impact on fiscal 'seventeen or 'eighteen financial results.

Our cell processing franchise revenue declined a net $2,000,000 in the second quarter with OrthoPat representing much of that decline. However, there is positive momentum elsewhere in cell processing and with BloodTrack and SafeTrace Tx that I will discuss later. Turning our attention to the Blood Center business. Revenue declined $10,000,000 or 12% in the second quarter and $22,000,000 or 13% in the 2017. Trends we previously identified, the advancement of double dose platelet collections in Japan, pricing and volume declines in double red cell collections, and overall whole blood market declines continued.

Anecdotally, some U. S. Customers have noted lessened rates of decline in the demand for blood products. We do not conduct independent empirical forecasting. However, in dialogue with the leading blood collectors, including at the AABB meeting in October, many expressed the view that the reprieve is likely driven by nonreplicable factors, such as an increase in procedure volume driven by a more active aging population and recent increases in the number of insured patients.

We will continue to monitor this closely, but we expect continued declines in U. S. Transfusion rates and demand for blood products over the long term. Accordingly, our view of the declining nature of the blood center end market is unchanged. We remain committed to stabilizing, separating, and optimizing our blood center business.

And we've made important progress against each of these tasks. We have recovered fully from the leuco reduction filter recall and have returned to full production supply of all affected customers. As a testament of their confidence in the quality and reliability of our product supply, HemeXcel, the organization of five leading U. S. Blood networks and the largest and most effective customer, recently exercised its unilateral right to extend its purchase agreement with us with the same financial terms for two additional years through calendar twenty eighteen.

I'd now like to turn the call over to our CFO, Bill Burke, his comments about results and guidance, after which I will discuss progress towards our strategic goals. Bill?

Speaker 3

Thank you, Chris. Good morning, everyone. We reported second quarter net income of $20,000,000 or $0.38 per share. Our adjusted net income was $24,000,000 or $0.46 per share, up $02 over the second quarter last year. We excluded restructuring and turnaround expenses we incurred as we continued the implementation of our strategic plan.

We also excluded daily amortization consistent with prior periods. On a year to date basis, adjusted earnings per share, which exclude restructuring, turnaround and daily amortization expenses were $0.71 This was in line with our expectations for the first half. We remain on track to realize the $40,000,000 of fiscal twenty seventeen benefits we expected when we announced this restructuring and turnaround program. There are two factors to note in the quarter related to the Leuko reduction recall announced earlier this fiscal year.

Speaker 1

First, the

Speaker 3

filter recall had approximately a $3,000,000 negative impact on second quarter fiscal twenty seventeen revenue. Second, the quarter's earnings were negatively impacted by $1,000,000 or $02 per share due to expenses incurred in connection with the filter recall. We received and are analyzing claims totaling $14,500,000 from customers seeking reimbursement for losses sustained as a result of the recall. We have insurance policies in place which may provide coverage for certain of the potential claims. We will continue to assess the potential for insurance recoveries as we receive more information.

But for accounting purposes, we recorded a liability of less than $1,000,000 in the 2017, and we do not anticipate a material long term financial effect.

Speaker 2

Second quarter revenue and earnings were in line

Speaker 3

with our expectations and we reaffirmed our full year guidance. Detailed analysis was posted to our Investor Relations website. Our immediate priority is delivering on our fiscal twenty seventeen commitments, including revenue, profitability and cash flows. First half revenue was $430,000,000 which was at 50% of the midpoint of our full year guidance range. Adjusted earnings per share of $0.71 was at 49% of the midpoint of our 1.4 to 1.5 full year guidance.

Doubling first half adjusted EPS and adding back $08 related to the filter recall, which suggests full year EPS near the high end of our guidance range. However, as Chris noted in the earnings release, we are in the early stages of a turnaround with many moving parts. In a turnaround situation such as ours, we continue to address changes in our broader business, including managing complexity in new product introductions and reviewing the performance and financial returns of certain assets with the objective of optimizing ROIC. Although we are optimistic about the longer term potential of the business, a prudent approach to guidance is warranted. We reaffirmed and did not raise our adjusted EPS guidance range for fiscal twenty seventeen.

Beyond fiscal twenty seventeen, we expect strong performance in plasma and hemostasis management to continue, a modest return to revenue and earnings growth in cell processing and the continuation of the conditions that are currently driving declines in blood center. We will also implement additional productivity initiatives. Realizing these positive contributions will require investments. Our focus will be on maximizing long term ROIC as we pursue our strategic vision. As we finalize development of and seek regulatory clearance for the PCS-three 100, there will be significant capital investments as we ramp up production of the new device.

Additionally, we will reassess the appropriateness of current depreciable lives of our existing PCS2 fleet, and we will incur depreciation on placed new devices as we conduct the rollout of the new plasma offering. Finally, as enthusiastic as we are about these growth franchises, we expect increased costs in the form of commercial investments and regulatory clearances. We are managing our asset base to maximize ROIC. One step in that direction was the recent sale of our Ascoli, Italy facility at which we had ceased production. We realized no meaningful gain or loss on the sale.

We are pursuing a second step, the sale of the remaining Asklea Capital equipment, which we expect will also generate no meaningful gain or loss. While relatively small in financial terms, these represent initial steps in a process that we expect will enable us to monetize numerous underperforming assets over the current and subsequent fiscal years. During my first ninety days, I've learned that the growth opportunities in our company are numerous, and we are well positioned in several attractive end markets. There are multiple investment opportunities that, with disciplined execution, will benefit long term ROIC. We are taking immediate action to improve our forecasting accuracy, which will enable better planning of our business objectives and achievement of our stated commitments.

Again, we are in the early stages of a turnaround with many opportunities for improving our growth profile. We're committed to the communication of our longer term strategic plan, complete with more detail around fiscal twenty eighteen. We are aggressively implementing our plan and will know more about fiscal twenty eighteen by year end, and we will provide guidance shortly thereafter. With that, I'll turn the call back over to Chris.

Speaker 2

Thank you, Bill. I've been with Haemonetics nearly six months now, and the question I get asked most is, am I glad I joined the company? The answer is a resounding yes. In fact, I am more optimistic today about the intrinsic value of our business and its long term potential than I was in May. However, I am also more aware of the magnitude of the turnaround required and the need to address our organizational issues.

To realize this long term value creation potential, our strategy remains: first, to compete in winning segments and geographies, those capable of supporting lasting growth in revenue and profitability. Second, to achieve superior short and long term operating performance through greater productivity and return on invested capital. And third, to achieve and maintain the number one or number two competitive position in our markets. To implement this strategy, we have embarked on a multiyear journey to stabilize, transform, and accelerate growth. Phase one is nearly complete, and we have made important strides to stabilize the company and pursue organic growth and sustainable profitability.

We have defined and we are pursuing a set of priorities, each of which is led by a member of my senior leadership team. In Phases two and three, during the second half of fiscal 'seventeen through fiscal 'nineteen and beyond, we will advance these initiatives to accelerate growth with a greater focus on execution, quality, speed and productivity. We aspire to return to growth by investing in product development, scaling our production and launching innovative products in our growth businesses. We continue to work with our plasma customers and regulators to advance meaningful innovation. Our next gen plasma collection software is commercially available in The U.

S. Market and generating strong customer interest. Our new PCS-three 100 plasma collection device is on track for FDA submission this spring. We believe that the capabilities of our new plasma collection system are superior to anything currently in the market or in the process of coming to market. We are expanding our production capacity and focusing on the many steps of preparation that will proceed the planned commercial introduction of the PCS-three 100 beginning in fiscal 'eighteen.

These steps include product testing, regulatory review, production planning, customer negotiations, contracting and financing. We are developing rollout schedules and training plans to ensure seamless changeover. We expect that our new plasma collection system will bring unparalleled benefits to our customers in the form of higher plasma yield, lower cost per unit collected, and an enhanced donor experience, thus strengthening our leadership position in the industry. We have strengthened our TEG medical and regulatory team, and we are investing in the trials needed to generate medical evidence critical to drive TEG's adoption and market penetration. We are adding commercial and field based clinical resources and making needed investments in capital to scale our production of the new disposable cartridges.

Our TEG 6s launch is gaining momentum in cardiovascular surgery in The US and across a broad set of indications in Europe, Australia, and Japan. We have sold well over 100 TEG 6s devices to customers worldwide and disposable use continues to grow according to plan. Instrumentation Laboratory's recent acquisition of Rotam is a net positive for us and validates the attractiveness of the hemostasis management market and specifically VHA testing. We believe our technology has a meaningful leadership position that we intend to build upon. We are well positioned to at least double the revenue from our hemostasis management franchise over the next five years.

In second quarter, we rolled out the CellSaver Elite software version seven point zero to 75% of our priority one hospital accounts in The US, Europe, Australia, and Japan. The upgrade offers a new FDA cleared fat reduction protocol, improved blood processing performance, and ease of use features, including immediate touch screen response and simplified messaging. Customer response has been very positive. Version 7.1 of the software and our CellSaver Elite Plus device will follow, enabling wireless connectivity. We expect to file for five ten clearance in the third quarter of fiscal 'seventeen and begin testing in the fourth quarter.

In transfusion management, we are experiencing encouraging growth of 15% in blood track and Hemovanc in the first half of fiscal 'seventeen. Our blood center team is moving forward with stabilization, separation, and optimization of the franchise. In the first half of fiscal 'seventeen, we reduced the number of SKUs by more than twothree from nearly 1,000 to under 300. We are reducing the number of countries in which we do business over 50% and focusing our direct selling efforts on our 10 largest markets. In parallel, we are leaning out our manufacturing operations and looking to divest underperforming assets like Ascalie.

More broadly, we are moving forward with restructuring our operating model and streamlining our organization to free up resources to invest in profitable growth. We are strengthening our team with executive hires such as Bill Burke, new CFO, and other top leaders in medical, regulatory, and program management. We recently added Kathy Burzik to our Board of Directors. She is a respected and accomplished senior executive in the health care industry with extensive operating experience and an impressive record of value creation. Emphasizing the potential I cited last quarter, successful execution of our long term strategy will result in a fundamental rebalancing of our portfolio and the resulting revenue, operating income and cash flow.

As I noted, I see that shift driving a twofold increase in our adjusted operating income from its fiscal 'sixteen level of 120,000,000 and up to a fourfold increase in adjusted free cash flow from the fiscal 'sixteen level of $58,000,000 with a corresponding benefit to our ROIC over the next five years. One last thought on ROIC. The other question I frequently get asked is what do you know today that you did not know or appreciate before joining the company? The candid answer is lots of things, but the one that stands out is the capital intensity of this business. Haemonetics has over 60,000 pieces of equipment deployed in the field, fully half of which are placed rather than sold, meaning they reside on our balance sheet.

We generate 85% of our revenues from disposables. This is a classic razor and razor blade type of business. As Bill highlighted, this presents certain financial challenges, such as accounting for the accelerated depreciation associated with new product introductions. However, it also presents tremendous opportunity for organic growth and ROIC. We are changing our mindsets and our behaviors to better leverage our installed base of equipment to drive meaningful improvements in throughputs.

This is going to be very powerful for us and our customers. I'll close by thanking our employees for their dedications to the needs of our customers and thanking our customers for their continued trust in us. We appreciate you joining today and we'll now proceed with your questions.

Speaker 0

Thank you. Our first question comes from David Lewis with Morgan Stanley. Your line is open.

Speaker 4

Good morning. A few questions. Maybe I'll start with plasma and then move to some financial questions. So Chris, just a couple of questions on plasma. The first is, have your thoughts around pricing as it relates to PCS-three 100 evolved at all?

And as it relates to Liquid Solutions business, what's the long term strategic opportunity here or size of that opportunity? And then I have a couple of quick ones for Bill.

Speaker 2

Okay. David, thank you for the questions. One first point of clarification. I believe I misspoke when I talked about the growth rates. I cited 1417% in constant currency respectively.

It should be 147%, 7% not 17%. So that's just a miss. That is actually what's been posted to the website as well. In terms of pricing on our next generation equipment, we are very confident that this through field testing with customers to date that the combination of our software, our hardware, and our disposables will meaningfully enhance the performance of our customers. And as such the dialogue that we are having with them is how do we best participate in that value creation.

The response has been overwhelmingly positive. I think as we demonstrate real value it gives us the opportunity to price the products going forward more consistent with that value creation and sharing in that in the sense of the partnership that we experience with those customers. So I think we're very optimistic about that and we are open to more creative financial arrangements moving forward therein. In terms of the liquid solution, that was very much a point in time decision. It obviously predates me, but it was decided to support one of our largest customers at a point in time where they were in need, specifically of saline.

We also provide citrate to all of our customers and we would expect we will continue to do that going forward. I would say it's not a strategic priority for us. If there are other sources of opportunity for the customer and for us we'll take advantage of it as it results. Our focus going forward increasingly needs to be hardware, software and disposables.

Speaker 4

Okay. And then Chris just another strategic one and then maybe one for Bill. I guess strategically you're very clear about the plan in the next three years. As I look into fiscal twenty nineteen, I think you identified that as the acceleration year. And I kind of just want to understand how much of that acceleration in 2019 comes from the pipeline contributing in a more material way?

And how much comes from any estimate you're making about the true donor business becoming more stable? That's for you, Chris. And then for Bill, just free cash flow over the next couple of years. Do you see free cash flow as a steady linear progression? Or are going to see sort of next year or twenty nineteen immaterial CapEx outlays to reorganize plants and things of that nature?

And I'll jump back in queue. Thanks so much.

Speaker 2

Yes. Thanks, David. So our growth increasingly going forward will be a combination, first and foremost, of organic growth, looking at what we have in the pipeline and what we are bringing to market and fully realizing a set of assets, some of which are already in the market. And that's disproportionately true in our plasma and our hospital businesses. And I think as we go forward we will selectively augment.

In the near term, as I've talked about before, that would be more small scale tuck in M and A, things that were core to our existing business or immediate adjacencies where we could quickly convince ourselves that we were a natural owner and we would get the natural ownership benefits, the synergies top and bottom line that would come with that. I think over time we would be open to something broader based, but that would certainly be post FY 'nineteen as we currently understand the time schedule. The donor business plays an important role for us overall. It's a profitable business and it's an important source of cash flow, cash flow that we need to fund our growth across all franchises.

Speaker 3

So David, it's Bill. Thanks for your question. So on the free cash flow lumpiness, guess if you want to refer to it that way, as we determine what the plan will be for the ramp up of the new devices, obviously there has to be decisions made on ramping down the existing device. But in the short term, we will definitely be producing more devices than we have historically as we start to swap out the units in the field. So in short, the answer is yes, but we're going to do everything we can to minimize the lumpiness of the cash outlays.

Speaker 4

Okay. Thank you very much.

Speaker 2

You're welcome.

Speaker 0

Our next question comes from Larry Solow with CJS Securities. Your line is open.

Speaker 4

Good morning.

Speaker 1

Hi, Larry.

Speaker 5

Chris, just a couple for you and then maybe a couple more just general. You gave us a lot of optimistic points and reasons for encouragement. Perhaps you've been there six months and about 12 in total if you include the strategic review. What's probably the one thing that is maybe the biggest negative surprise or biggest challenge you see? And perhaps that will lead to even more positive improvement as you turn that piece around too?

Speaker 2

Yes, Larry, I appreciate the question. I don't think there's been significant negative surprises. I do, as I said earlier, more optimistic about the intrinsic value, more cognizant of the challenges associated with acting on that opportunity and realizing it, some of which are organizational in nature. And I think none of what we have laid out is Herculean task. But in total there are many things that have to happen simultaneously.

And having a fit for purpose organization capable of executing against that is a top priority for us and an important part of this next phase of the turnaround.

Speaker 5

Okay. In terms of just the full year outlook, clearly, guys I know you don't guide quarterly, it sounds like things are within the range of your expectations in the first half. As we look at it, it looks like cost cutting to me seems like it's either come faster or it's perhaps a little bit greater than you thought even the opportunity in 2017. As you look back on the first half of the year, would you say that perhaps the revenue decline in Blood Bank is helping more? Or is it cost cuts a little bit faster than you expected?

Or is it just a combination of two? Or anything more color now would be great.

Speaker 3

Yes. So this is Bill. In terms of the cost on the productivity initiatives, we're actually on track to deliver our $40,000,000 There was obviously timing built into the forecast and the guidance, and we're achieving that. Overall, in the mix of the business, I mean, we're still within our 140,000,000 to $150,000,000 We don't guide quarterly, obviously, so I don't want to talk about individual quarters and what our expectations are. But overall, the cost savings and productivity initiatives that were announced related to the restructuring program that were announced early in the year, We're spot on those and we're feeling pretty good about where we are right now.

Speaker 5

Okay, great. Thanks.

Speaker 0

Our next question comes from Brian Weinstein with William Blair. Your line is open.

Speaker 6

Hey, guys. Thanks for taking the question.

Speaker 3

Hi Brian.

Speaker 6

So question on TEG, you guys had talked about kind of longer term 20% growth. We're trending a little bit below that now in the mid teens and I think you talked about doubling over the next five years which suggests kind of a mid teens type of a growth rate as well. Can you just help us bridge is there any kind of change in the way that you're thinking about the long term opportunity? Or is it just going to take longer to maybe to see some of the benefit from the success? Just help us bridge kind of the 20% versus the mid teens that we're seeing.

Thanks.

Speaker 2

Yes. I think we feel good about our performance year to date and where we will likely finish this year as well with regards to what's been what we guided to and where we are with TEG. It's obviously an exciting product. We have good growth aspirations. The five year doubling is something that was put out back in the Investor Day and we stand behind that.

Obviously, subsequent indications and really driving the uptake both through producing a body of clinical evidence that we can take into the market and communicate and really driving change in treatment protocols. If I might, I get asked the question, how do we think about a competitor's acquisition and additional reinforcement there? As I tried to say in the statement, we encourage that. That's actually a positive. It validates what we are trying to do in the market, Often having a second competitor helps raise the tide.

And our expectation is that that will be the case here. But we intend to build and create further momentum with regards to our leadership position in hemostasis.

Speaker 6

Okay. Then, second one for me. You talked about strength in plasma in Japan and cited increased plasma collections, as you shift towards double dose platelets. Can you just help me understand the correlation between the two of those and just sort of how the end market for Japanese plasma should be how we should be thinking about that going forward? Thanks.

Speaker 2

It is two sides of the same coin. As the Japanese market continues as predicted to move to multi dose collection, double and in some cases triple, it basically frees up donors for plasma collection. So as they're able to get the red cell count that they were looking for from a smaller donor base, those other donors are tracking towards plasma, which is a growth opportunity and a gap. So we are benefiting on the one side from what we lose on the other because we don't participate in the multi dose collection.

Speaker 6

Got it. Great. Thank you.

Speaker 0

Our next question comes from Anthony Petrone with Jefferies. Your line is open.

Speaker 7

Thanks and good morning. I'll begin with plasma and then jump over to blood bank disposables. Maybe just an update on where the installed base of, you know, the PCS2 installed base is at this point in time. And it sounds like you're actively starting the process of transitioning to the next generation system. I'm just wondering how that plays with the existing contracting cycle in plasma.

I was under the impression that there was a handful of contracts in the twenty eighteen-twenty nineteen timeframe. It sounds like there's an upgrade cycle going on now. So as we look out in our model, should we assume that there's this upgrade cycle is sort of pushing out the contract expiration dates that were previously issued?

Speaker 2

No, Anthony. I don't think that's a fair interpretation. So if we created that perception, let me walk that back. So we are developing with customers to advance both the software and the hardware. We're on track for our submissions in the spring as planned.

And with good luck and good fortune, we will be launching the PCS-three 100, the hardware, in fiscal 'eighteen, right, likely in the second part of the year. So we'll work our way through that. For now, what we are doing is focusing very carefully on that installed base of PCS-2s and helping our customers optimize their performance within the existing installed base. That's in our customers' best interest, obviously, but it's also in our best interest if we can avoid placing more PCS2s in this interim period. It obviously will help us with our overall return on invested capital and avoidance of any accelerated depreciation against equipment that we've put into the market in this interim period before we make the change to the 300

Speaker 7

Got it. Got it. And maybe Chris and or Bill, just you gave an update here on blood bank disposables, the blood bank division, just in terms of where you are in restructuring that operating segment. And you did give that in terms of SKUs, countries and customers. It sounds like the progress is a little bit ahead of sort of expectations as they were issued at Analyst Day.

When do you expect that entire program to be complete? And once we get there, what does the margin profile of that business look like? Yes.

Speaker 2

So I'll talk about the process, and I'll let Bill comment on the financials. With regards to the process, I think we are on track. It's complicated. And as you can imagine, this is a very different operating model than what existed prior to my arrival. So by creating more of a business unit orientation where we break out the different component parts of the company, we are going through what is first an accounting exercise, what belongs where, and then increasingly now a physical separation so that we can have line of sight and manage each of the businesses consistent with their potential.

So it's an ongoing process. It's very much something that we're now facing into with the second phase. When we talk about transforming the company, I think this is where it will become very real. And we feel like we're on track to begin that process now, but it will continue in particular, it will continue over the next six quarters.

Speaker 3

So and then in terms of the financials, So we're working through our five year strategic plan. But generally, the philosophy when we're dealing with the blood center business is that we want to maintain our operating margin percentage or improve it. We would love to keep operating income flat from the business through that five year period. But we're definitely going to be projecting continued revenue declines in that business. So it's going to be up to us to offset that revenue decline and the associated margin with productivity savings in the business.

And Chris did hit on some of the things that are definitely going to help us out, but it's going to be just an ongoing initiative on that business. Thank you.

Speaker 0

Our next question comes from Jim Sidoti with Sidoti and Company. Your line is open.

Speaker 8

Good morning. Can you hear me?

Speaker 1

Yes, Jim. We hear you. So

Speaker 8

first question on the R and D spend, it was down quite a bit from the first quarter. Is that related to the timing of projects? Or is this a level we should consider to be kind of more normalized going forward?

Speaker 2

Yeah, Jim, it's very much a function of timing, and some of which we will see in the second half of this year. It didn't happen in the first half of this year. What we are doing and what was communicated dating back to May is very much focusing and prioritizing those projects that will advance our growth businesses. So we're looking very carefully at the return on investment in those projects. But what you're experiencing in the first half is literally just a timing issue for when we need to advance individual efforts.

Speaker 8

Okay. And the second question for Bill. Your predecessors have used forward contracts to help manage the effects of currency and give you better predictability in the near term. Do you think you'll continue that practice? And if so, when do you think you'll start to see some currency which has been a headwind

When do you expect that to turn around?

Speaker 3

So we our intent is to continue to use the forward contracts. We're not going to change the methodologies that we have in place now. I know going into fiscal twenty seventeen, there was anticipated headwinds versus the prior year, and those still exist, although at a slightly lower rate than what was anticipated. As far as predicting what's going to happen with the currencies, I really don't know. But we will see a benefit if the rates stay where they are right now.

We have a benefit in FY 2018 versus FY 2017.

Speaker 8

Okay. Thank you.

Speaker 4

You're welcome.

Speaker 0

Our next question comes from Larry Keusch with Raymond James. Your line is open.

Speaker 9

Thanks, good morning everyone. Hi Larry. Hi. So I just wanted to circle back to TEG success in the trauma indication in The U. S.

And just understand what happened with the slippage in the FDA timing. And I guess as part of that, it was my impression that that was actually quite an important clearance for the fiscal year 2017. So how are you offsetting that impact there?

Speaker 2

Larry, it's Chris. Thanks for the question. So in terms of where we are with it, we are looking at everything we're doing including that submission. We didn't feel that it was at a proper state of development to get the approval. And it's a complicated submission because it's not one submission.

It's literally several submissions, all of which are underway. So we've taken a hard look at it. We don't feel it's ready to go at this juncture. We still remain very confident in our ability to secure clearance for trauma. We have that indication subsequently in all the other major markets of the world for the success.

And we're confident we'll get it in The U. S. But the timeline is likely to be delayed from where we had originally hoped for. And that's what was communicated this morning. In terms of the actual contribution to performance there was little to no financial impact associated with the trauma indication for 6S in FY17.

As I tried to state on the call there is a benefit in FY18 to the tune of approximately $5,000,000 which represents a combination of hardware and the actual cartridge disposables themselves. And we will cover that by driving harder on the TEG-five thousand where we do have the broad set of indications and by putting more of the focus in The U. S. On the cardiovascular surgery indication, which has received rapid uptake and a lot of enthusiastic support. So where we can, we will drive both of those.

And then obviously TEG is a global product, a global brand, and we will pursue it aggressively across the broader set of indications, including trauma outside The U. S.

Speaker 9

Okay, that's helpful. And then, just two other questions here. Again, I guess for Chris, you know, as you think about the PCS-three 100 rolling out, and let's just assume at this point that the model is consistent with where we are today in terms of your place instruments in exchange for disposable streams and there may be some variations of that I understand. But how long do you think it will take once you gain that FDA clearance to, you know, kind of, if you will, swap out the older 200 for the 300? Is that a two year cycle, three year cycle?

And I guess embedded in that question is, is there incremental CapEx spending associated with that as you roll those instruments out? And then the second question is, I'm just trying to understand and I'm not sure if I have my math correct here, but is there a difference in, selling days, in this 2Q versus last year's 2Q? Thanks very much.

Speaker 1

I think on the last one, Larry, mean, we're on a fiscal, it should be the same in both years if you're referring to the extra week that's in the fourth quarter. If it's something other than that,

Speaker 2

I guess shoot us

Speaker 1

an email and we'll look into it.

Speaker 9

Yeah, I'm talking about the 2Q specifically.

Speaker 2

There should be no change. In terms of the PCS-three 100 approval and rollout, Bill commented on this earlier. I think our customers would like us to wave a magic wand and have them all in their hands tomorrow. And I'm sure our shareholders would like that as well. We want to be very clear though, operationally this is no small feat.

And the one thing we won't do is we won't go prematurely and we won't make this be anything other than seamless in terms of the cut over. So we're working our way through it. We're not prepared to talk about the specifics of the timeline. It's one of the things that we'll absolutely factor into our three and five year guidance when we're prepared to talk about that late this year.

Speaker 9

Okay. Very good. Thank you.

Speaker 0

Our next question comes from Anthony Petrone with Jefferies. Your line is open.

Speaker 7

Just a follow-up as we look at the models into the second half in terms of I guess gross margin benefit versus incremental spend. I mean as you look at it through the first half you're tracking a little bit ahead of actually the guidance range. So I'm just wondering where we should be baking in some cost acceleration either at the gross margin line or operationally? Thanks.

Speaker 3

On gross margin line, I think I would anticipate gross margins not changing materially first half or second half. And on SG and A, there'll be some benefit for some of the full impact in the first half with the cost savings programs that were initiated as part of the restructuring. But generally, it's going to be very similar.

Speaker 7

Great. And then R and D should this quarter should be kind of a run rate? Should I we

Speaker 3

would expect higher spending in the second half for reasons that Chris mentioned earlier with the reallocation of resources to projects that drive benefits to ROIC. And it just takes a little while to do that reallocation, actually ramp the spending up on a project basis.

Speaker 7

Great. Thank you.

Speaker 0

And I'm showing no further questions. I will now turn the call back over to Chris Simon for closing remarks.

Speaker 2

Well, again, I just want to thank you for the time this morning and for the questions. Good dialogue as always. We appreciate your continued support of the company. Have a good day.

Speaker 0

Thank you, ladies and gentlemen. That does conclude today's conference. You may all disconnect. Everyone have a great day.