Greg Brash - Sidoti & Co. Greg Chodaczek - Boenning & Scattergood

Good day everyone and welcome to the SonoSite Q1 2010 earnings results conference call. As a reminder today’s conference is being recorded. At this time I would like to turn the conference over to Mr. Kevin Goodwin; please go ahead sir.

Thank you operator, and good afternoon to everyone on the call. This is Kevin Goodwin, President and CEO of SonoSite, and along with me today is Mike Schuh, our CFO. This conference call contains certain projections and/or forward-looking statements regarding future events, or the future financial performance of the company. Except for historical information discussed during this call, the statements made today contain forward-looking statements that involve substantial risks and uncertainties. Actual results could differ materially because of factors listed in the management’s discussion and analysis section of the company's 2009 Form 10-K, and in other filings and reports with the SEC. We do not undertake any duty to publicly update any forward-looking statements. Okay, moving onto the call. During the call I will cover revenues, margins, operating expenses and profitability in that order, and then I will touch on two strategic initiatives, and provide for you an update on our outlook for the year. Let me start with revenue. Worldwide Q1 revenue came in at $56 million, up 8% normally versus 2009. The Cardio Dynamics or CDIC revenues were $3.2 million in the quarter, which was down sequentially from Q4 of 2009. The comparables with the prior year are somewhat cloudy due to the fact we have an overlap on accounting period and seasonality. So with that in mind, core revenues of SonoSite were up 2% if you exclude CDIC, and this included a 4% currency gain for the quarter. Now underneath those numbers, these are the following dynamics we think are important. Our US hospital revenues were up 12%, which was better than expected and order booking rates were up by more than twice that rate. Our US enterprise revenues were off 59% as planned, due to the lumpiness of that channels revenue profile. Moving over to international, our international revenues were up 8%. The majority of that was currency gain, but we saw a broadening performance improvement across the international business, with 14 out of 17 regions either equaling or exceeding their forecast. With the above in mind and 40 quarters of historical booking data, we have upgraded our expectations for the year to a target of about 10% to 12% revenue growth. As the year progresses, we expect our US enterprise channel to improve quarterly, and we expect our primary care division, with it’s ICG and ultrasound sales to make steady improvements. There’ll also be a steady flow of new products as always, to help us along on the revenue growth line. Cardio Dynamics revenues were below forecast, but we anticipate stable performance from here. We attribute the below forecast performance to the fact that we’ve been modifying and restructuring the sales channel since the fourth quarter, and that process continues. With that said, we’ve had some good indications early on from our market development in the primary care space for ultrasounds, and we are cautiously optimistic in the mid-term about potential growth in that sector. Now certainly healthcare reform and the new economy, or if you want to call it the new healthcare economy, have been obstacles in this sector. We do see improvement down the road and we are going to keep investing our sales channel there. I am going to move over now to gross margins. Our pricing was actually improved in the quarter and I’ll call it stable overall. Gross margins came in at 70.9%, up 320 basis points versus the prior year. Excluding the impact of currency, gross margins were up 210 basis points. Cardio dynamics added 30 basis points to the gross margin. In the marketplace we continue to maintain a price in premium, based on our five-year warranty and other value added things we do. I’m now going to move over to operating expenses. Our overall OpEx came in at $37 million, up 11%. $4.3 million of this came from Cardio Dynamics acquisition. Excluding the Cardio Dynamics cost, total OpEx was $32.7 million or down 2%. Now inside this $32.7 million we had a $500,000 variance for the quarter, and with this in mind we plan on further scrutinizing our operating costs quarter-by-quarter from here on out, as we intend to bring our OpEx in at 57% to 59% of revenues, given our stated objectives on operating margins. Moving into the profitability; first with Earnings Before Interest and Taxes or EBIT. EBIT was $2.7 million, up 68%. Excluding the Cardio Dynamics impact, EBIT was up 183%; and most importantly, we expect the Cardio Dynamics acquisition to be cash flow positive for the year. Moving down to Earnings Per Share; EPS was $0.08 a share versus $0.05 last year, up 60%. Both quarters had some one-time items in them, both this year and last. Finally EBITDA, we consider this as an increasingly important metric as it is a good cash flow surrogate. EBITDAS for the quarter was $5.4 million, an increase of 4%. The EBITDAS comparisons were negatively affected by changes in stock compensation year-over-year. In Q1 2009 we had stock comp of %2.5 million, versus $1.5 million this year of Q1 2010. I am now going to shift to the balance sheet starting with cash. Cash and investments totaled $178 million. Our convertible debt balance was $115 million giving us a net cash position of $63 million , and this is a decline of $80 million from year-end, as $90 million of our cash was used to repurchase nearly three million shares of our stock during the quarter, while we generated $10 million of cash, net for the quarter. Accounts receivable; year-over-year day sales outstanding were down by eight days and inventory decreased by $1.7 million from year-end. Shifting to markets and competition, nothing new to report here. I’d like to now move over to strategic activities. During the quarter we finalized two strategic agreements; one with Carticept Medical, which is a developer of innovative injection products for musculoskeletal injuries; they are located in Atlanta, Georgia. We also tied up with Physio-Control, the world leader in cardiac monitors and external defibrillation for emergency medical services based out of Redmond, Washington. Both of these moves are part of our long-term growth strategy to expand our footprint into emerging clinical segments like musculoskeletal medicine and advanced life-supporter resuscitation. I am now going to shift over to outlook. So with all this in mind we have upgraded our outlook and are projecting at the exiting currency exchange rates, the following: We expect revenue growth now of between 10% and 12%. We expect stable gross margins of approximately 70%. We want to reaffirm our EBIT or operating margin targets of 11% to 13%. Alongside that, we expect EBIDAS margins of 16% to 18%, and we expect for our full year tax rate to be 30%. Final comments; we are pre-encouraged with our performance in the quarter, especially our US hospital channels revenue performance and order booking rates. We do believe we can improve in three areas; our US enterprise, quarterly performance, primary care performance and overall expense control. With this in mind, our fundamental outlook has improved to a point where we feel comfortable with the upgrade of revenue growth estimates to 10% to 12%, and we also feel comfortable reaffirming our EBIT targets or operating margin targets of 11% to 13%. So with all this in mind, I would like to now open the call up for questions.

(Operator Instructions) Your first question comes from Peter Lawson - Thomas Weisel Partners.

Kevin or Mike maybe, I wonder if you could look through the components that drove that high than expected SG&A, and what gives you the confidence you’re going to hit that off margin target for the year end?

Yes, there were a couple of items in the IT accounting area. One was a cost item that occurred in Q1, that will give us some savings in Q2; and the other one was some costs associated with tax services that were unplanned as we finished the year. Certainly our revenue performance was in a sense a bit better, so it drove some higher variable cost, but the specific variances were to the items I just said, IT and accounting services. We’ve got a good fix on cost, and if we take a conservative estimate of what those costs will be this year, we are looking at $150 million to $151 million of OpEx depending on revenue, and we think we might be able to do that, so that’s pretty much our answer.

And then could you give us an update on the LumenVu product? When the revenue starts materializing and talk through the commercialization and infrastructure?

Sure. Now the LumenVu product is beginning it’s clinical testing in Europe this quarter, so we are still working on that, and we still do not have final FDA approval. So that variable, the FDA approval in particular has slowed down the process. So at this stage I’ll say that we hope, we hope that LumenVu will start to move into the market in the second half depending on clinical results go or clinical testing that we are doing. I’m not talking clinical trials, just patient testing, and then also assuming FDA approval on a reasonable timeframe. At this stage I would not assume if I were you, that there’s going to be any increased cost in the second half associated with LumenVU in the numbers I have given you and we are hoping to enter the market in the second half.

Is that an aggressive timeline with the FDA kind of being increasingly more difficult with pushbacks?

Well, I hope it’s not aggressive. We had anticipated that we would be in the market this quarter with FDA approval, we’re not. So we still have some things to do with the FDA. So I have not given you a quarter. I would hope it would be Q3, but I’m not going to guarantee that just yet. So with that in mind, it’s about all I can say at this moment.

Your next question comes from Abigail Darby – JPMorgan.

This is actually Abigail Darby sitting in for Tycho today. Just wanted to dig a little bit more on your revenue number for the quarter. Is there a way that you could either break out for us the contribution of GE royalty revenues during the quarter, and also anymore color you would give on NanoMaxx? I think last quarter it contributed about 5% of total revenue.

Yes, the GE question, we publicly disclosed that. Well, in terms of the amortization it’s about 800K, and very little in the way of any sort of cash royalty. So the amortization was the only part of revenue we saw in the quarter, and saw 8% revenue for the quarter.

Okay great, and then just kind of obviously the 12% revenue growth in the US hospital channel, a nice strong turn around from last year. Can you comment what percent that is driven by same new product or demand for Nanomaxx versus demand for your M-Turbo and S-Series product lines?

Well, I think the Nanomaxx clearly went up in the mix by virtue of numbers just given from 5% to 8% of revenues. However, the M-Turbo and the S are still the flagship revenue drivers, and so we’ll see how much of the business is taken up by the Nano as we go on, that’s about all we know. Now having said that, what we are seeing is the snap back in an opening of the capital spend that was of course frozen last year, and we see again encouraging signs of that thawing this time with some tangible evidence. The order rates different from the revenue rates, obviously are coming in at of a much higher rate so far, than what we showed in terms of quarterly revenue. Those are the things we know and those are encouraging.

And I would just add that the M-Turbo and S revenue was about 70%, both for Q1 last year and this year, so it’s stable.

Okay great, and then on the guidance update from -- I think you were around 10% of the total revenue for the year previously to 10% to 12%. Can you kind of comment on the dynamic there? Is there any particular geographies or product lines that are bringing you incrementally more confident in that growth member or?

Well, at the core of our improving outlook is the US hospital improvement, in both the revenue rates for the quarter and also order booking rates. We are seeing good progress otherwise around the world. We had basically 14 out of 17 revenue regions, discreet geographic revenue regions either equal or exceed their forecast for the quarter, that meant we had three that did not. So with that in mind and the deep dive that we did alongside that we are feeling as though we are going to get better moment down the road this year as these things even out quarter-by-quarter, and that’s really how we connect the dots.

(Operator Instructions) Your next question comes from Greg Brash - Sidoti & Company.

On the Cardio Dynamic side you mentioned coming a little below your expectations. Are you still confident that this part of your business can breakeven in the second half of the year and I think initially you were looking for $20 million to $25 million from Cardio Dynamics this year, is that still a reasonable expectation or should we be looking for something more in that $15 million to $20 million range?

Well, we fell pretty good about what’s happening in that sector. We have self-induced pain here, where is that we are remodeling the channel with new and better people and some territory reconfigurations. We are doing those things that once complete are going to put us in a position to really we think drive a successful strategy. Remember now we’ve got two products; the ICG product from Cardio Dynamics, and then the SonoSite product line of hand-carried ultrasound. We are pretty confident that we are going to generate positive cash flow and breakeven at our business and do what we needed to do. We have engaged in ongoing evaluation of cost, and that continues. So we are going to get there on that business. As for the revenue outlook, its hard to say what we are going to do for the year, but if you look at the run rates that we are at right now, it probably makes sense to think we’re at about $15 million to $20 million for that business. With that said, the ultrasound side of it looks encouraging and we are coming into -- we got to get a better economy as times go on, and that should be a little bit helpful.

Can you just touch on the US office channel? Just curious -- running through my numbers it looks like that may have been down in the quarter. Looking first, I see maybe those reps set to help that growth.

CDIC is Primarily Care Only, so you have to understand that. That’s a new business for us, and again we are restructuring the channel. The private office business for the company was about level for the quarter. With that said, we see very good trends in our second vertical which is the musculoskeletal medicine vertical. If you had looked at our public information and our strategy, we have four verticals: the acute care hospital vertical; we have a vertical around MSK, which is musculoskeletal medicine; third one is Primary Care. The MSK sector looks very promising, showing strong growth, great fundamentals and long term potential. That was an encouraging part of the quarter.

Okay, one more and I’ll hop back in. Just the tax rate, you’ve seemed to have had a benefit in the quarter. I was curious what that was all about, and looking for 30% through the year, so should I be modeling what’s 36%, 37% tax rate for the remaining quarters, and is that something that I should be thinking about…

I’ll let Mike handle that, go ahead Mike.

Yes, the benefit in the first quarter was one of the reversal reserves that we had on our books, that we realized once we sort of got through past audit. So as we go forward, yes we would just keep a sort of consistent tax rate somewhere around 35 to 36 for the next few quarts, and that should be a necessity.

Similar in 2011. I think you were originally guiding us to around 39%, 40%. Is there a chance it goes up next year?

Yes, it’s starting to come down. Now that we are getting a little bit more scale on sort of the earnings side, so that the discreet items that had sort of a larger impact on our rate is having lesser of an impact. Operator (Operator Instructions) Your next question comes from Greg Brash - Sidoti & Co.

On the enterprise side, obviously you had a tough comp in the quarter. Is there anything happening specifically that’s going to help and improve sequentially? Is it just that it is lumpy or is it getting NanoMaxx into that channel, and maybe the deals you have with Physio?

No it’s strictly lumpy. This happens to us every year. Its either really good news or really bad news. It’s just the lumpy part of our business. So what’s going to happen is, every quarter it passes it should get better, and the comps were harder. This quarter and next quarter they get a little easier around the bend. We got a pretty good outlook for enterprise. It’s driven by our US military business, by other business that we are in such as veterinary, and it’s pretty stable actually, but it’s just the lumpy [flub].

Okay, just as far as the guidance in taking it up and you’ve reduced some of your expectations for CDIC. Has the US hospital channel improved that much that’s giving you that extra confidence when you are looking for growth now in US hospitals for the year?

Well, there is the data that we have right now which is strong, okay, and that is a revenue growth rate of 12%, order bookings rates more that doubled that rate, and then there is 40 quarters of data though many different business cycles and revenue cycles over 10 years. Looking at quarterly comparisons for the full year and looking at our sales pipeline and putting those dotes together, it puts us in a position where we are comfortable with the guidance that we have give you, and certainly we don’t feel being it excessive or aggressive in that guidance.

A bunch of other device companies have spoken to some deteriorating budgets in Europe. It seems like you have either met or exceeded and I guess you said 14 out of 7 regions. Are you not seeing that or are you are seeing it, but you are just able to manage through?

Well, we were able to manage though fairly well in the quarter. United Kingdom is one market that seems to be having its troubles with governmental holdbacks on spending. So there is one example where I would agree with what you just said, and that was an area where we didn’t have as good a quarter as we would like, but we have 17 discreet revenue regions in the international business, and we had enough other strong performance that we are able to move around that. Then in the first quarter you saw currency lift for the international business. As we go forward it won’t be currency, it will be real performance and we feel pretty good about it.

Your next question comes from Greg Chodaczek - Boenning & Scattergood.

Just a couple of quickies; if you’d say the 12% revenue growth, we get about $254 in revenues for 2010. Other than $254 what percent of that is currency?

This year Mike, I think it’s going to be zero, isn’t it?

Yes, I think we’re going to be relatively neutral. We had a gain in the first quarter. We’ll be fairly neutral in two and three, and then we’ll probably have a detriment of the current rate in Q4.

Okay, so out of that 10% to 12% revenue increase growth, its cost and currency basically?

That’s correct, yes. As we are estimating using today’s rates.

Okay, fantastic. Also Cardio Dynamics for the rest of the year. I know you are talking about some restructuring. You see that increasing, getting to a level that it was in the last quarter, last quarter of 2009?

We will get there, not in Q2, but we think we’ll get there. You have to understand, there is two components. There is the evolving revenue trend of the ICG product line that was down, and then there is the ultrasound market entrance, which is all new revenue, and that of course was up in the quarter; and we are anticipating that 12 months out, we are anticipating about a 50-50 split between ICG and revenue and ultrasound. The ultrasound is pure growth, and then ICG, we’re simply managing the cycle as best we can, and looking to optimize on that and make sure the business generates cash.

Okay, and in the US hospitals the bookings going out, double to 12% at least, is that the same breakdown as what your product sales were this year or for this past quarter?

Yes, you mean product mix of which, products you mean?

Yes, the bookings, the product mix that’s similar to what’s going on now?

Yes, that’s correct. So remember, again I said, the revenue growth rate was 12%, the rate at which we upped orders was higher. You should assume the mix on both numbers is about the same.

Right, okay, and domestic and international revenues for this quarter?

Mike. We should have know that.

Domestic is 44%.

And obviously 56% on the side.

Looking out for the rest of the year, you’re looking at strong booking coming from the US hospitals. US hospitals are kind of driving this growth here.

Yes we see a recovery, and the recovery is reflected in our outlook, that’s correct. I don’t know if I would characterize it as strong in the sense of buoyant, but we are in a new healthcare economy and strong comparable to last year.

I show no further questions at this time. Mr. Goodwin I’ll turn the conference back over to you for any additional or closing comments.

Well, okay. That’s all we have. Thank you for taking your time on the call and we look forward to the next one and hopefully some very good results. Good Day.

Once again, that does conclude today’s conference. We thank you all for joining us.