Baxter International Inc. (BAX) Q1 2011 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen, and welcome to Baxter International's First Quarter Earnings Conference Call. [Operator Instructions] As a reminder, this call is being recorded by Baxter and is copyrighted material. It cannot be recorded or rebroadcast without Baxter's permission, if you have any objections please disconnect at this time. I would now like to turn the call over to Ms. Mary Kay Ladone, Corporate Vice President, Investor Relations of Baxter International. Ms. Ladone, you may begin.

Thanks, John. Good morning, and welcome to our first quarter 2011 earnings conference call. Joining me today are Bob Parkinson, CEO and Chairman of Baxter International; and Bob Hombach, Chief Financial Officer. Before we get started, let me remind you that this presentation, including comments regarding our financial outlook, new product developments and regulatory matters, contain forward-looking statements that involve risks and uncertainties, and of course, our actual results could differ materially from our current expectation. Please refer to today's press release and our SEC filings for more details concerning factors that could cause actual results to differ materially. In addition, in today's call, non-GAAP financial measures will be used to help investors understand Baxter's ongoing business performance. A reconciliation of the non-GAAP financial measures being discussed today to the comparable GAAP financial measures is included in our earnings release issued this morning and available on our website. Now I'd like to turn the call over to Bob Parkinson.

Thanks, Mary Kay. Good morning, and thanks for calling in this morning. We're pleased today to announce our financial results for the first quarter and also to provide you with an update for our full year 2011 outlook. As you saw in our press release, which was issued earlier this morning, EPS of $0.98 per diluted share, exceeded guidance for the quarter and increased 5% versus the prior-year on an adjusted basis. This performance was the result of better-than-expected sales in gross margin, operational leverage and the benefit from our ongoing share repurchase program. First quarter sales growth after adjusting for FX [foreign exchange], was also up 5%, as growth improved on a sequential basis across multiple product categories. And we benefited from the sales of our Generic Drug business, which we had expected to divest in the first quarter, and therefore did not include in our original guidance for the year. We now expect to close this transaction within the next few weeks. While Bob will provide some more details on our first quarter financial performance in just a few minutes, I'm pleased that our -- that given our current outlook, we're in the position to raise our full-year sales and earnings guidance. Our strong financial position continues to provide us the flexibility to invest in and pursue opportunities that expand our diverse product portfolio, with innovative products that save and sustain patient lives and position our company for enhanced growth. Always with an eye toward delivering increased value to our shareholders. Innovation remains our most important strategic imperative and will continue to be the driving force behind our future success. Although R&D [research and development] spending in the quarter was somewhat below the prior year, we do continue to fund all major R&D programs and have made significant progress in advancing our pipeline over the last several years. I'd like to take a moment just to update you on a few key programs and some recent highlights. First, during the quarter, we submitted a Biologics License Application or BLA to the FDA [Food and Drug Administration] for the U.S. approval of TISSEEL Fibrin Sealant as a hemostatic agent in vascular surgery. This is an expansion beyond the current marketed indications and completes the necessary clinical requirements for a broad hemostasis label, which represents a very significant opportunity for our Regenerative Medicine business. Secondly, we announced approval in Europe of PREFLUCEL, a seasonal influenza vaccine utilizing our proprietary Vero cell technology, under the mutual recognition process. The 13 participating European Union countries including Germany, Spain United Kingdom and the Nordic countries, will formally implement the license on a national level, making the vaccine available for the 2011 and 2012 influenza season. And lastly, we continue to be successful in driving differentiation of GAMMAGARD LIQUID, by offering various dosage forms, enhancing delivery options and expanding the number of indications. For example, we recently introduced the first and only 30-gram dose vial for GAMMAGARD LIQUID in the United States. This dosage form is the most frequently prescribed dose for primary immune deficiency patients and enhances user convenience. As you know, we're currently awaiting FDA approval for GAMMAGARD LIQUID subq [subcutaneous], which we submitted to the agency last year. We continue to expect approval in the second quarter of this year, allowing us to launch in the U.S. and participate in this fast growing segment of the market. In addition, late last year, we completed the Phase III clinical trial of HyQ, which allows for enhanced delivery of GAMMAGARD LIQUID subcutaneously, facilitated by recombinant human hyaluronidase. We're currently in the process of preparing our submission for approval in both the U.S. and Europe, and expect to communicate final top line results later this year. As you know, Baxter is also conducting Phase III clinical trials, exploring the use of GAMMAGARD LIQUID as a therapy for two neurological conditions. The first is a trial for the treatment of multifocal motor neuropathy or MMN, a neurological disorder characterized by a progressive limb weakness. We completed enrollment in 2010 and expect to conclude the trial later this year and submit for approval in 2012. And finally, we continue to advance our Phase III trial for Alzheimer's. To date, we've randomized 330 patients and we're on track to complete enrollment by mid-2011. With an 18-month follow-up period, we currently expect to complete trial by the end of 2012. In addition, we plan to initiate a second confirmatory trial before the end of this year. Also, our primary investigator, Dr. Norman Relkin, has now submitted a manuscript regarding the Phase II data for consideration by a leading peer review journal, and it accepted. The manuscript will be published in the coming months. These achievements depict just a handful of the programs in our pipeline that will present great opportunities for Baxter in the years to come. I'm increasingly encouraged by the progress we continue to make, and we look forward to updating you on additional R&D achievements throughout the year. Before turning the call over to Bob, let me briefly comment on the announcement we made earlier this week, regarding the acquisition of Prism Pharmaceuticals, a specialty pharmaceutical company that has developed and received FDA approval for multiple presentations of NEXTERONE, an antiarrhythmic agent, amiodarone IV [intravenous] including the first and only ready-to-use premixed IV formulation. Given that this drug is typically administered to patients and extremely time-sensitive in critical care situations, the benefits of a ready-to-use premixed IV form of NEXTERONE are clinically significant. For this reason, we believe this unique product satisfies unmet clinical need, offers an opportunity to expand the current market and also has potential for application in additional geographies outside the United States. This transaction demonstrates our intent of being more proactive on the business development front. It also exemplifies the types of opportunities that we'll pursue, those to complement our existing portfolio and expand our market-leading position; leverage our global footprint, channel or customer relationships; capitalize on our core scientific or manufacturing capabilities; and provide for low integration risk, which provides a higher confidence in achieving success. As always, I'd be happy to address any questions on these or other topics during the Q&A, but with that, I'd like to now ask Bob to review our first quarter financial results in more detail and also our guidance for the rest of the year. Bob?

Thanks, Bob, and good morning, everyone. Let me briefly walk you through the P&L by line item for the quarter before turning to our revised financial outlook for 2011. Starting with sales, worldwide sales totaled $3.3 billion in the first quarter and increased 5%. Excluding foreign currency, sales also increased 5%, which compares favorably to the guidance we provide of sales growth in the 2% to 3% range. This is a result of better-than-expected sales in Medical Products, partially due to the benefit of the Generic business that were not planned, as well as strong sales of antibody therapies. In terms of individual business performance, beginning with BioScience, global BioScience sales of $1.4 billion increased 3% in the first quarter. Excluding foreign currency, BioScience sales increased 4%. Within the product categories, recombinant sales of $512 million were flat to the prior year, and excluding foreign currency, sales increased 1%. Excluding the U.K. tender impact of approximately $20 million, total ADVATE sales growth was in-line with overall market growth of 6% to 8% on a global basis. We expect improved growth in the second half of the year for the Recombinant business, as we begin to annualize the impact of the U.K. tender in the third quarter of 2011. Moving on to plasma proteins, sales in the quarter were $308 million and increased 5%. Excluding the impact of foreign currency, sales increased 8%, which was a result of very strong volume particularly in the U.S. and Europe, for FEIBA, ALBUMIN and plasma-derived Factor VIII. In Antibody Therapy, sales of $374 million increased 16%. Excluding foreign currency, sales advanced 18% and continue to reflect the success we've had with our commercial strategies and a benefit related to meeting demand previously served by Octapharma. Volume growth globally of more than 20% was partially offset by the impact of our pricing touchups implemented last year. And a 3-percentage-point impact from the termination of the WinRho distribution agreement in midyear 2010. Sales in Regenerative Medicine, which includes our BioSurgery products totaled $140 million and increased 18% on both the reported basis and after adjusting for foreign currency. These results reflect solid growth, particularly for FLOSEAL, and a benefit of just over $10 million in incremental sales related to the Apatech [ApaTech Inc.] acquisition, which was completed at the end of the first quarter last year. Excluding ApaTech, sales gross for the category was in high single digits. Finally, revenues in the other category, which includes vaccines, totaled $74 million and were down 38%. In the quarter, strong growth of the FSME [FSME-IMMUN] vaccine was more than offset by the difficult comparison related to pandemic revenues, which were approximately $50 million in the first quarter of 2010. As you know, last year, we combined our Medication Delivery and Renal businesses to form a new business: Medical Products. This new organization aligns common areas of capability within Baxter, while creating increased capacity to pursue new growth opportunities. Going forward, we will be reporting the combined business as a new segment. Total global sales in the first quarter for Medical Products were $1.9 billion, reflecting an increase of 6% on a reported basis. After adjusting for foreign currency, sales increased 5%. Turning to the product categories, Renal sales totaled $587 million and increased 1% on a reported basis. Excluding foreign currency, sales declined 1% as strong PD [peritoneal dialysis] growth, particularly due to continued momentum from patient gains in the U.S., Latin America and Asia, was offset by the expected loss of PD patients to another provider and lower HD [hemodialysis] revenues. Sales in the Global Injectables category increased to 15% to $517 million, and excluding foreign currency, sales increased 14%. Contributing to this performance was very strong growth in our Contract Manufacturing and Compounding businesses, as well as strong demand for MINI-BAGs and select premixed drugs. I'd also mention that the Global Injectables category includes the Generic Injectables business, with sales of approximately $40 million in the quarter. As Bob mentioned earlier, we now expect to complete the divestiture of this business to Hikma Pharmaceuticals during the second quarter. IV Therapies sales totaled $428 million and rose 9%. Excluding foreign currency, sales were up 10%. Double-digit growth in the U.S. was a result of share gains associated with the new Novation agreement, improved IV pricing, an increased demand for a variety of nutritional products, including greater customer adoption of CLINIMIX, our proprietary dual chamber parenteral nutrition therapy. Infusion Systems sales totaled $211 million and increase of 1%, and were comparable to the prior year after adjusting for foreign currency. Lower COLLEAGUE [COLLEAGUE Volumetric Infusion] revenues were partially offset by improved sales of access sets and expanded placements of the Spectrum pump [SIGMA Spectrum pump]. Finally, Anesthesia sales declined 7% and totaled $118 million in the quarter. This performance was driven by an expected reduction in inventory levels by a major U.S. wholesaler, as we finalized a fee-for-service agreement and competitive pricing thrust pressures related to generic Sevoflurane. Turning to the rest of the P&L, gross margin for the company was 51% in the first quarter, which exceeded our expectations and reflects a sequential improvement of 100 basis points versus the fourth quarter. Compared to the prior year, gross margin was 90 basis points below last year's gross margin of 51.9%. Favorable mix and margin improvements from across the portfolio and a modest benefit from foreign currency were more than offset by the incremental costs associated with the Castlebar PD solution issue we discussed last quarter and the impact from manufacturing inefficiencies incurred in the Plasma business during 2010. SG&A totaled $716 million in the quarter, and increased 5% versus the prior year period. SG&A as a percent of sales was 21.8%, which is similar to last year. We continue to aggressively manage general, administrative and discretionary spending areas across the company and are beginning to recognize the benefits associated with the actions that we discussed last quarter. However, as expected, these savings are more than offset by select investments and several key promotional activities aimed at demand creation and new product launches, as well as incremental pension expense and the pharmaceutical drug tax. R&D spending of $214 million declined 6% in the quarter, as investments in key R&D programs across the portfolio were offset by lower milestone payments to partners, completed clinical work and a modest impact from foreign currency. The operating margin in the quarter was 22.7%, 30 basis points lower than the prior year. Interest expense was $10 million compared to $19 million last year, the reduction is primarily the result of higher rate debt that matured in the second half of 2010 and higher interest income. The tax rate was 21.1% in the quarter, 210 basis points higher than last year's rate of 19%. This is in line with our expectation and it's a continuing result of a change in earnings mix between higher tax and lower tax jurisdictions. And finally, as previously mentioned, adjusted earnings per share increased 5% to $0.98 per diluted share, which exceeded our guidance of $0.92 to $0.94 per share. Turning to cash flow, cash flow from operations was strong in the quarter and totaled $371 million, compared to $279 million in the first quarter of last year. Growth in cash flow can primarily be attributed to lower U.S. pension contributions this year of $150 million, versus $300 million in the prior year period. In addition, free cash flow of $173 million improved by $124 million versus the first quarter of 2010. Capital expenditures in the quarter were $198 million versus $230 million in the prior year period. DSO ended the quarter at 56 days, which is higher than last year by 3 days. This is largely due to our international country mix as DSO in the U.S. remains at approximately 30 days. Inventory turns of 2.4, improved year-over-year. This is primarily driven by improvement in BioScience, with the reduction in plasma inventories. And lastly, during the first quarter, we repurchased approximately 12 million shares of common stock for $640 million or, on a net basis, 9 million shares for approximately $510 million in line with our objective. Finally, let me conclude my comments this morning by providing our financial outlook for the second quarter and full year 2011. First, for the full year, we now expect earnings per diluted share of $4.20 to $4.28. By line item of the P&L, and starting with sales, we expect full year sales growth excluding foreign currency up 3% to 4%. We currently expect foreign currency to benefit sales growth by approximately 1 point. Therefore, we now expect reported sales growth of approximately 4% to 5%. This outlook includes first quarter sales of approximately $40 million related to the Generic Injectables business, the divestiture which is projected to close in the second quarter. As a reminder, full year sales for this business totaled approximately $200 million in 2010. For the full year, we now expect gross margin in the 51% to 51.5% range, a modest improvement over the gross margin rate in 2010 of 51.1%. We expect both SG&A and R&D to grow in low to mid-single digits for the year. We expect operating margins to improve modestly as savings related to the optimization charge taken in the fourth quarter of 2010 and other mix benefits, more than offset cost inefficiencies in the Plasma business, increased pension expense and the impact of the pharmaceutical drug tax. We now expect interest expense for approximately $75 million and other expense which includes noncontrolling interest to total approximately $40 million. Given our mix of earnings, we expect our tax rate to approximate 21% to 21.5%. And finally, we expect a full-year average share count of approximately 575 million shares, which assumes approximately $1 billion in net share repurchases. From a cash flow perspective, we continue to expect cash flow from operations of approximately $2.8 billion. This includes a 2011 pension contribution of $150 million and an outflow of approximately $300 million related to the execution of the COLLEAGUE consent order. Now to expand on the full-year sales assumptions for each of the businesses. First, on a constant-currency basis, we expect low single-digit sales growth for the Medical Products business. Excluding the impact of Generic Injectables divestiture, sales growth is expected to be mid-single digits. Within the product categories, we expect Anesthesia sales growth in the low to mid-single digits, infusion Systems sales to be flat to down 2%, and IV Therapy sales to grow in mid-single digits. This category also includes parenteral nutrition products which are expected to grow in high single digits. In addition, we expect Global Injectables sales to increase in low single digits. Excluding the generics divestiture, we expect sales in this category to increase 10% to 12%. And for Renal, we expect sales growth in low single digits as lower HD revenues modestly offset low single digit growth in PD. For BioScience, we now expect sales excluding foreign currency to grow in the 4% to 6% range. For the Recombinant business, we continue to expect growth for the full year to be in low to mid-single mid-single digits, which includes the annualized impact of the U.K. tender. Second, we expect Plasma Protein and Antibody Therapy sales to increase in high single digits. I would remind you that our guidance assumes the return of Octapharma in the second half of the year, therefore, Antibody Therapy sales growth will moderate in the back half of 2011. Third, we expect Regenerative Medicine sales to grow in low to mid-teens. And finally, we expect the other category within BioScience to decline approximately 20%, reflecting a difficult comparison in the first quarter from pandemic revenues recorded in 2010. For the second quarter, as we mentioned in our press release, we expect earnings per diluted share of $1.01 to $1.03. And sales growth excluding the impact of foreign currency of 4% to 5%. Based on current foreign exchange rates, we expect reported sales to increase in the 6% to 7% range, reflecting a 2 percentage point benefit from currency. Thanks, and I would like to open the call up for Q&A.

[Operator Instructions] I would like to remind participants that this call is being recorded and a digital replay will be available on the Baxter International website for 30 days at www.baxter.com. Our first question comes from Mike Weinstein of JPMorgan.

Thank you. [Technical Difficulty] Thanks, appreciate it. Just a couple of clarification questions first, maybe -- the $40 million in Generic Injectables sales that you reported this quarter, do you think that the Street had backed out that, that full business at this point? I mean, I think we had this, wasn't sure whether you thought consensus had already taken that business out of the market?

I'd let Mary Kay answer that one.

Yes. I think for the most part, given that our guidance excluded it, we have exactly to close it in the first quarter that most of the models had taken out the Generic Injectable business.

Okay. And then one other, you're raising your earnings guidance for the year, but you're not raising the cash flow guidance, can you just comment on that?

Yes. I mean, that's something we continue to take a look at. And given that COLLEAGUE, as we indicated, is a pretty big driver as we execute on the consent order, depending on how that plays out. We could see some upside to that approximately $2.8 billion guidance that we've given today.

Okay. And then I'll go ahead and now say, the question you're going to get probably 3 or 4x, which is: Bob, do you just comment on how you think the Octa-Gamma-term [Octapharma-GAMMAGARD] whenever that does occur in Europe and the U.S., how do you think that will influence the market? Not necessarily just the back half of this year, but as we go out 12 months?

I think it's probably difficult to speculate, Mike. I think their share globally was what, Mary Kay, roughly 11%, is that about right?

Right, low double digits.

Right.

Low double digits as you know. So it's meaningful, but in the context of the global market, Mike, it's not that significant. I do think that any time there's a quality related issue, I think it's realistic to assume that customers are going to be somewhat more thoughtful about how they jump in and so on. So we'll see how it all plays out. As Bob described in his comments, we're assuming midyear relaunch. What the scale of capabilities are going to be at their end, I think is also speculative at this stage. But I do think customers are going to be thoughtful before they just jump back in the boat. So we'll see.

Okay. I'll let some others jump in. Thanks for taking my questions.

Okay, Mike. Thanks.

Our next question comes from David Lewis of Morgan Stanley. [Operator Instructions]

Hey, this is actually James, in for David. First question is on how growth trends should be developing through the year. Clearly, there are a couple of different growth and margin headwinds in 2011. But as you walk through last quarter, it seems like most of this fall more on the first half than in the second. If I look at guidance though, it looks like EPS growth is actually expected to be declining a little bit in the second half versus the first half? I mean, maybe some of this is related to the return of the competitor to the market in the second half, but is there anything that I'm missing here? And how much do you think, this reflects conservatism about the back half of the year versus just very strong results in the first quarter?

Well, let me start by maybe all three of us can think about this, because I think there's a lot of moving parts. Obviously, as we move out of the second quarter, given our assumption on Octapharma relaunch, and then as we move into the fourth quarter, where we had volume from Octapharma last year, that, that makes the year-to-year comps more challenging in that regard. So that's one item. Bob, Mary Kay, what are some of the other pieces?

Yes, and just to build on the Octapharma thing for a moment, given the long weak cycles in this business, we are going to be thoughtful about how we manage throughput in anticipation of them coming back into market. We've seen very strong demand for our products in the first quarter. We're going to continue to support that demand, but again be thoughtful. So we're tempering our growth and thoughts in the back half of the year related to IVIG [intravenous immunoglobulin], related to the Octa situation. And I think at this stage of the game in any year, as Bob mentioned, there's always puts and takes, and so we did see some slight benefit in the quarter from retaining the Generics business that we expect to close at divestiture here very, very shortly. So in terms of run rate, we have to make a slight adjustment for that, and I think a little bit of conservatism as well, given that we just got one quarter under our belt here for 2011.

The other thing I would say, James, is that -- clearly we're expecting our R&D to ramp up in the second half of the year. The fact that first quarter R&D spending was below last year, in some ways, it was as much of a kind of a timing artifact as anything. As I mentioned in my comments, obviously, all of our important programs continue to be funded. And our strategic attempt is to continue to grow R&D, so that, too. So again, a number of moving parts from the R&D ramp up to the Octapharma and so on. And as Bob said, first quarter of the year started off well, we're pleased but we still got long ways to go in an environment which continues to be turbulent and so on. So I think those are all factors that we dial into our thinking.

Okay, that's very helpful. Secondly, just on HyQ, obviously, we're getting a little bit closer to the launch there, I was wondering if you can tell us in terms of how you're thinking about speed of launch after approval? How that might go in terms of share ramp and any attempt at extra infrastructure required there?

No, we're still ways from launch, as you know, as I mentioned, we continue to expect to file for approval in the third quarter in both the U.S. and the EU. And again, I don't want to speculate on what the turnaround time would be on approval. But clearly, it's some time in 2012 and more likely in the latter half of 2012, all things considered. So we're still a little bit away from the launch. I think, given the sales force expansion that we put in predominantly in the U.S. last year, focused on GAMMAGARD promotion, targeted at under diagnosis of primary immune deficiency and so on. We have them in our base, really SG&A resources and commercial resources and so on. I think that we can adequately promote HyQ later on next year when hopefully we get approval.

And I would just add, operationally, recognize that HyQ is going to be essentially our 10% GAMMAGARD LIQUID product kitted with hyaluronidase from Halozyme. So switching over from regular to HyQ is going to be very straightforward from us, from a production and logistics standpoint.

Okay. And then one -- just last one on Castlebar. Maybe I missed this earlier, but you broke out the impact financially last quarter. And it seems like they're still having an impact on margins. Could you just give us a sense of just how material that was this quarter? How that should progress through the year?

Go ahead.

Yes, it was a fairly significant impact in the quarter, about $25 million in margin. And we continue to service those customers in Europe from production facilities around the world, and incurred some pretty significant freight. We've been able to somewhat normalize our inventory levels, and while we do expect to incur some additional costs here in the second quarter as we look to try to resolve that issue, it won't be quite at the same rate of negative impact that we saw in the first quarter. But $25 million in the first quarter is what we absorbed.

Good. Thanks, I'll go back in queue.

Thanks, James.

Larry Keusch of Morgan Keegan is online with a question.

Just a very quick housekeeping -- on the U.S. Injectables Business, you obviously mentioned the $40 million in revenues, did that have any contribution to earnings?

Not much.

Very low. I guess, this is a very low margin business for us. Very low.

Yes, great, that's what I thought. Okay, just two questions for you guys. First off is, as we think about the future and how you guys think about the fractionation capacity for IVIG, it is my understanding that you guys haven't shut down the Glendale facility as you move production into LA. frac [Los Angeles fractionation], I just wanted to get some sense of kind of how you're thinking about that older facility, what the plans are there?

Okay. Yes, several aspects that -- obviously, our long-term outlook for the growth of the plasma protein business continues to be very positive. And then that's further augmented by the new product introductions, including HyQ, and new indications and then of course the bigger issue of Alzheimer's. So this question that you asked, Larry, of capacity, clearly has been front and center for us for a while. We have flexibility within our global manufacturing footprint today, between Vienna and Rieti, our two European locations. And then in LA, we've kept old LA frac, if you want to use that term, in operation somewhat longer perhaps than we had earlier anticipated. But I will tell you one of the things we're evaluating now, given our projections of longer-term demand and to put ourselves in a position where we can be flexible for additional demand for new products, such as HyQ and Alzheimer's and so on. We're evaluating the merits of making investment to keep at least some of old LA frac in operation for an extended period of time. Okay? The other thing I would say is that we also have and continue to evaluate the merits of a new Greenfield site at some point, which candidly we think is inevitable. In the coming years, we spent a lot of time thinking about how we could do that on a modular basis. But I think that both of those variables are things that we are now contemplating in this equation of long-term capacity.

Okay, and Bob, just on that one and then I got another quick one. But it sounds like on LA frac, at least old LA frac, I should say, it sounds like you haven't really committed any meaningful CapEx at this point, although perhaps like there is some....

No, we haven't. But we just -- we likely will because if that is an older facility and if we're going to keep in production for the foreseeable future we're going to need to make some investments there but obviously, there will be a nice return on those investments given the underlying demand and what we're trying to support here.

Okay, great. And then the last question, again, sort of more strategic is you guys continue to do a great job with your cash generation, obviously. The free cash flow was up meaningful year-over-year. Your debt-to-total cap is in that low double-digit range kind of 12-ish percent. And you've been -- you've been sort of talking about business development and share repurchase for a while. You're obviously doing some of the share repurchase, but again, just given the leverage ratios of the company and the free cash flow generation, what's impeding you from doing more?

In terms of more -- ?

Either more BD or greater share repurchase. Yes.

Well again, Bob, can comment on this. I mean, you're very familiar with our capital allocation framework. That remains unchanged. Frankly, we would like to direct more dollars to business development opportunities. We're pleased that we were able to close the Prism deal recently. This is going to be a nice opportunity for us. NEXTERONE could be, I would say, globally somewhere in the range of $150 million, $200 million product at high margins. And we need -- that's why I commented in my prepared comments today, Larry, on this. I think this is the kind of deal that we did want to do more of. Like the ApaTech deal we did last year. I'd like to do a handful of these kinds of deals every year. And I'd like to deploy more of our cash toward those kinds of things that can accelerate our growth forward. And I think our OBD [ph] momentum actually is accelerating. We got a number of deals in the hopper that we're evaluating. But just a quick answer to your question as to what's constraining us is probably our discipline not to do bad deals. And make sure we are very discerning in the kind of things that we pursue. But I believe that those opportunities do exist. I believe going forward, we will do more of them and it will be again within framework that we've discussed with you many times.

Right. And I do recognize that, obviously, a huge chunk of your cash is sitting overseas, so I get that as well.

Yes.

Okay. Thanks very much.

Thanks, Larry.

Kristen Stewart of Deutsche Bank's on the line with a question.

It's actually Catherine for Kristen. I just have a couple of quick questions. On the slight increase in gross margins and the guidance, can you just break down the different components, how much of that is FX versus the others?

Bob, why don't you handle that, there's a lot of...

Sure. As we mentioned, we did absorb within margin a pretty big hit related to the Castlebar issue. The pension issue, which we talked about last quarter, does affect both margin and SG&A. So year-over-year, that's a drag on margin. We did see positive mix benefits and some of our higher margin product lines grew faster in the quarter, including nutrition products, we mentioned BioSurgery. IVIG has slightly higher than average corporate margins, so we did see some mix benefits that offset that. The FX benefit I mentioned is a modest benefit as we talked about in the past. We have a fair amount of natural hedge, given our manufacturing footprint around the world and our -- beyond the ground, nature of many of our operations and countries around the world. So we have a fair amount of local expense we incurred and offset some of that. We do some hedging at a corporate level for the major currencies. And so any impact on FX tends to be fairly muted. As emerging market currencies have appreciated, though pretty significantly here over the last several months, particularly Latin America, some Eastern European and emerging Asia countries, we do get a slight benefit from that because we do not hedge, we do have local expenses but we tend not to hedge in those locations because it's difficult to make it cost effective. But again, it's a modest impact, not significant.

Okay, thanks. And then on upcoming tenders in Europe for Recombinant, can we see another shift like we did last year?

No. At this point there are no significant upcoming tenders in Europe on a magnitude of the U.K. tender certainly. A smaller tender later this year in Ireland, is really the only one ...

[indiscernible] I think early, but I think early 2013.

Yes, and as we said in the past, the vast, vast majority of our global IV franchise is not subject to tenders.

Okay. And then the last one, in Anesthesia the unexpected reduction in inventory. How should we look at the impact for the rest of the year?

Well, to say, I mean, we're working to finalize the fee-for-service agreement with the distributor that we mentioned. And certainly, to the extent we're successful in doing that, which we expect we will be, and we should see a normalization in volume as we move throughout 2011.

Okay. Thank you.

Mid-single digit to Anesthesia growth, I think, for the rest of the year.

Okay, great. Thanks.

Thanks, Catherine.

David Roman of Goldman Sachs is on the line with a question.

Wanted to just come back to your comments on IVIG, I think you've said that volume was up 20% against reported constant currency growth of 18%, I'm assuming that, that volume's for Baxter as a corporation, can you maybe, sort of articulate what you see is going on in the end-user market on a global basis, maybe locate U.S. and international? Are you seeing similar trends in the overall markets that you are in your business and your business is being amplified by benefits from Octapharma? Or is it better from Octapharma contributing the bulk of the improvement in your business?

Well, I'll address that. Our view is that the market in the U.S. continues to be in the mid-single digits from an ongoing growth perspective, and then markets outside the U.S. growing higher single digits. And as we look at the quarter and adjust for Octapharma and this WinRho effect that we talked about, we're still looking at 9% growth for the IVIG franchise with the impact of some price from the touchup strategy we implemented in the back half of 2010. So given that we're clearly growing faster than the market, even adjusting for Octa, we do feel like we've made good progress there.

Okay. And then, maybe a follow-up on the gross margin. Clearly, I think, better than what most people were looking for this quarter, 51%. And then you're sort of guiding to a slight improvement as we head to through the course of the year. What are sort of the puts and takes on the gross margin line? Obviously, currency has got, the dollar has weakened over the course of the first quarter and actually throughout the year. An underlying basis with the improvement in gross margin should the back half of the year be greater than what you're going to report because of currency?

As I've mentioned, the impact of currency is fairly modest. But given where we're at today, given the strength of many currencies versus the U.S. dollar, it would be a slight benefit going forward. Yes, we factored some of that into our guidance certainly, but it's not going to be a material impact to us.

Okay. And then lastly, when you just revised the puts and takes this quarter on the Recombinant trend to tender with the inclusion of the Generic Injectables business, it looks like the -- you're still sort of running the 4% to 5% organic growth rate, which is certainly higher than what you've put up the past several quarters. But I think, a year ago, on the same conference call, you'd talked about revisiting sort of the long-range plans, is there any update on when we might, sort of hear more about your revised sort of long-term targets?

Yes. This is Bob Parkinson, we're evaluating that. We may do something before the end of the year. Not as formal as perhaps we've done in the past, maybe a conference call or something like that. We're still not going to -- while we realize there's a desire to get some line of sight in terms of our longer-term outlook, we clearly have recently, as we do every year, a very detailed long-range financial plan. As I think I've commented previously though, I think given some of the dynamics in the external environment, the one thing I'm sensitive to is, I don't want to get ahead of ourselves. So I just wanted to continue to monitor the external environment, both the economic environment as it relates to underlying demand for our products and certainly, healthcare reform initiatives that are not, as you know, unique to the U.S. And manifest themselves in a lot of ways in countries around the world. So we are sensitive to a desire though for you all to get more visibility. And like I say, we may do something later in the year. If we do, it will be maybe an in-depth conference call or something like that, so -- but we haven't made a final decision on that, but we are sensitive to doing that before too long.

Okay, that's great. Thank you very much.

Matt Miksic of Piper Jaffray is on the line with a question.

Hi. Thanks, for -- thanks for taking all of our questions this morning. Just a follow-up on the Octa question, and when they're coming back. I wanted to just clarify, first, your guidance assumptions in the back half. Has it been your assumption that they come back with the full supplies sort of bringing 11% shares' worth of product back to the market? Or is this something that you've expected that will go into your guidance as more of a slow build over Q3 and Q4?

Well, of course, we don't really have a true line of sight into that. I think given the nature of production, of plasma proteins, augmented by the fact that, I think you know, that some of the plasma suppliers to Octapharma have redirected their plasma and sold that to other fractionators, including ourselves by the way. I don't think it's practical matter. There's a scenario it looks like turning on a light switch, okay? But on the other hand, we don't have any insight in terms of what they've been manufacturing over the last number of months in anticipation of kind of breaking the regulatory logjam, for a lack of a better way to describe it. So we've assumed retention of a little bit of that business in the second half, but on a volume basis. Matt, that's probably the best I can do. I mean, at this stage, I'm kind of speculating.

Okay, and that's helpful. And then the -- from the market, on that same topic, in the wake of the Octa being withdrawn from the market in Europe and U.S., have you gotten the sense that hospitals, tenders, any of those things that's started being looked at or considered in a different way, given the risk of having another supplier, having a similar issue of customers looking at suppliers differently in the back of that event?

Well, this is a business that's going back many years. As encountered on behalf of a number of the participants, regulatory issues, okay? It's part of the nature of the business when you're dealing with human proteins. And every time there's an event like this, I do think that customers evaluate and really assess the value of a high quality, sustainable supplier. And dial that into their thinking, in terms of do they tender, do they contract. If they contract, what's the terms of the contract and so on. And I do think that the recent event with Octapharma, not unique to the U.S., I think around the world, clearly has stimulated thinking about, "Gee, is there a way to contract with manufacturers in a way that we're not subject to the kind of volatility and risk in terms of supply?" That's just natural. But I think at this stage most of that is kind of anecdotal, we'll see how it plays out.

And one last follow-up on recombinant and the U.K. tender there, we've been sort of working through that, analyzing that tender impact last year. On the back of that -- first, if you could remind us when we come out from underneath that comp? And then also, on the back of that, is that a market that's in sort of the mid-single digits currently? Is it in the low single to mid- to upper, when you start again performing at what's more like a market growth rate? That will be helpful.

Sort of like globalling, Matt?

Yes.

Yes. Well, yes, I mean the U.K. tender is the first part of your question and the time is fundamentally we come out of it in the third quarter, I don't know exactly when, on the comps...

No. I think the full impact of the U.K. tender in terms of patient loss, really was the fourth quarter, so really through the rest of this year we'll be working through that. And really it won't be till 2012.

There are ratchets here, there's ratchet down in the second half of the year on the comps.

Yes.

On the year-to-year comps, which again -- and then on the global growth question, again, our current view is U.S. market is the recombinant factory market is still growing in the mid-single digits and at a somewhat higher rate outside the U.S.

Great, thanks.

Rick Weiss with Leerink Swann is on the line with a question.

This is Danielle, in for Rick. Just a follow-up on David's question on the gross margin. Thinking longer term, how quickly can you guys get back to sort of the 2009 52% plus level? And then following up on that, what are the puts and takes that can get you there faster versus slower?

I think, as we've talked about in the past, we continue to see opportunities to expand both gross and operating margins going forward. The company generated significant improvement in both those metrics from 2004 to 2009. The pace of which we're not going to able to match that as we go forward from this point, but we do see opportunities to continue to improve that. So without putting a timeline on it, it is something that even in the midst of what you see as a difficult quarter related to the Castlebar issue, we absorbed the pension expense increase and so on, we still see the opportunity through growing our higher margin businesses faster to continue to drive some positive mix benefit there. So going forward, we will improve gross margins, I do believe, but I don't want to put a time frame on how fast getting back to 2009 levels. The world was very different in 2009. That's pre-U.S. Healthcare Reform, pre-austerity measures in Europe, and so on. So that's something we will continue to work through here and as Bob mentioned, we'll think about providing some longer-term view on that, perhaps later this year.

Okay, great. That's helpful. And just a quick follow-up on the Medical Products division, can you talk about where you are with integrating Med Delivery with Renal? And sort of, when we can expect to see a real impact to both the top and bottom line, how quickly, what level of impact? And then one quick Renal follow-up after that.

Okay. Well, on the Medical Products divs, Danielle. It is our belief that there will be -- there's not going to be a big ta-da moment there, in terms of impact. This is continuous improvement and getting back to the primary motivation of integrating those two businesses and combining them had more to with enhancing product development timelines and improving effectiveness in a number of areas. It was not certainly exclusively, and in fact not even primarily a cost reduction effort, okay? In terms of structural cost and so on. Now having said that, there is meaningful opportunity there. It's something that will impact us and rollout over time, but I would not expect to see some big announcement there about a big chunk of structural cost that we're taking out and some kind of organizational announcement and so on. It's going to be of an evolutionary nature, not a dramatic nature like that. But I will tell you, over the next five years, in a lot of different ways, we believe the combination of those businesses, and back to your earlier question about margin improvement, will be helpful to bolster gross margin growth.

Okay, great. That's helpful. And then on Renal, can you give us any update -- I might have missed this earlier if you already gave it, but on the Home Hemo [Home Hemodialysis] program? And then secondly, PD, what are you seeing as far as uptake in the U.S., post the bundle? And any impact from -- we're hearing that maybe Frosenia [ph] has just brought their products in-house, any impact there? Thank you so much, guys.

Okay. In the first finding, we're going into the clinic with Home Hemo in midyear. So I mean, within a matter of months. And then the second part of the question, it was what? Why don't you guys take care of that.

Yes. So you mentioned that the PD drivers in the U.S. So absent the Frosenia [ph] issue, I think we have previously mentioned that they have been a customer of ours in the U.S. for PD and have taken the decision to transfer their patients on to their own therapy. We've largely absorbed that issue here maybe a bit more in the second quarter, absent that though, we are seeing strong U.S. PD patient growth as a result of the change in reimbursement here in 2011. And are very pleased with that, but we will have at least one more quarter of issue there as the last few patients are transferred over.

Okay. Thanks, guys.

Our final question is from Rajeev Jashnani with UBS.

Thanks. I have a question on the recombinant Factor VIII market in the U.S. And just looking at PPTA data over the past 6, 12 months on a rolling basis, it looks like it's in sort of the low-single-digit range. And I was just wondering if you could provide some updated thoughts on the state of that market? And whether you might anticipate some acceleration, and perhaps touch on the macroeconomic activity in that market?

Yes. That PPTA data is pretty much in line with what we just commented about in terms of mid-single-digit market expansion. Mary Kay, why don't you expand on that.

Right. Yes. Yes, Rajeev, I think to get the 12-month rolling average in PPTA, I believe is at around 4%, which is in line with what we call mid-single-digit range, 4% to 5%. And remember, too, we did do the destocking in the back half of the year, so PPTA growth would be impacted by that as well. So the market net of our destocking is probably going up a little bit faster.

Okay. And then, is that about the rate you would expect to see going forward? Or is there at least...

Yes. Yes. No, as Bob commented, we believe that the global market is growing in the 6% to 8% range, with the U.S. growing at a slower rate, more like 4% to 5% and international markets growing at a faster rate.

Thanks.

Ladies and gentlemen, this concludes today's conference call with Baxter International. Thank you for participating.