Good afternoon, ladies and gentlemen, and welcome to Masimo's Fourth Quarter and Full Year 2010 Earnings Conference Call. The company's press release is available at www.masimo.com. [Operator Instructions] I am pleased to introduce Sheree Aronson, Masimo Vice President of Investor Relations.

Hello, everyone. Joining me today are Chairman and CEO, Joe Kiani; and Executive Vice President of Finance and CFO, Mark de Raad. This call will contain forward-looking statements, which reflect Masimo's best current judgment. However, they are subject to risk and uncertainties that could cause actual results to vary. Risk factors that could cause our actual results to differ materially from our projections and forecast are discussed in detail in our SEC filings. You'll find these in the Investor section of our website. With that I'll pass the call to Joe Kiani.

Thank you, Sheree. Good afternoon, ladies and gentlemen. Thank you for joining us. I am happy to report that Masimo closed out 2010 with another solid quarter driven by strong and increasing demand for our breakthrough Masimo SET and Masimo Rainbow SET technologies. Here are just a few highlights of our fourth quarter. First, we achieved 14% growth in our core SET business and a 44% increase in Rainbow business. Growth was broad-based, with every major geographic region posting double-digit increases. In all, this performance lifted our total product revenue by 17%. And as Mark will explain later, the true growth was even stronger given that deferred revenues that we had in 2009 that we didn't have in 2010. Second, we placed a record number of drivers again this quarter with a shipment of 41,800 units, excluding handheld devices. This trend is particularly important as an indicator of future recurring sensor sales in 2011 and beyond. Moreover, within an installed base that now totals 855,000 drivers, we have increased our global footprint by 18% since year end 2009 further strengthening our reach and competitive position. We believe that these results continue to demonstrate our ability to expand relationships with existing customers while attracting new customers through our breakthrough technologies that improve patient care and lower costs across a range of clinical settings. And speaking of breakthrough technologies, in Q4, we continue to innovate, debuting Halo Index, a dynamic new wellness indicator. Once cleared by the FDA and proven through independent clinical studies, we expect Halo Index it to be an important new tool to inform clinicians of the current patient status and the status of the patient in the future. Halo Index is another example of our commitment to help automate and improve patient care. And finally, given our strong…

Thank you, Joe, and good afternoon, everybody. For the fourth quarter, total product revenue rose 14% to $105.6 million versus $92.6 million in the year ago period. Growth was driven by a 17% rise in product revenue to $93.8 million, partially offset by a 3% decline in royalty revenue to $11.8 million. As Joe indicated, our fourth quarter SET revenue grew 14% to $85.4 million. Note that in the year ago quarter, we included almost $4.3 million in previously deferred SET revenue. So excluding this deferred revenue from the year ago quarter, our fourth quarter 2010 SET revenue actually rose more than 21%. This performance was achieved despite the well documented declines in hospital procedure volumes, the continued existence of third-party reprocessing activity and a still aggressive pricing environment, including the pricing impact of some new large contracts that we closed and installed in the second half of 2010. Nevertheless, sequential and year-over-year trends for our core business are positive and signal continued share gains. Rainbow revenue also showed solid advances in the quarter, up 44% to $8.4 million versus the prior year ago quarter. Importantly, we saw growth in both our Rainbow measurement, software and sensor revenues. Continued increases in our quarterly sensor revenues are indicative, we believe, of the continued expanded use of our various Rainbow measurements, including total hemoglobin. This growth occurred despite our decision in December to voluntary recall the Pronto-7 Rainbow 4D Sensors, which precluded any additional Pronto-7 device or sensor sales starting in mid-December. Encouragingly, since our 8K announcement in which we estimated that we might incur between $500,000 to $700,000 in cost associated with this recall, most of our limited market release customers have indicated a strong preference for retaining their devices while they wait for a replacement sensor. As a result, we…

Thank you, Mark. We entered 2011 with a clear plan for delivering on our financial goals while also advancing our mission to improve patient outcomes and reduce the cost of care by taking noninvasive monitoring to new sites and applications. Although market conditions across healthcare remain challenging, we believe our business model, breakthrough technologies and track record of innovation puts us in an excellent competitive position now and over the long term. For 2011, we are focused on the following key growth objectives: one, leverage our more experienced worldwide global sales force, which now totals more than 200 sales professionals in order to maximize the investment we have made in the last couple of years; two, expand our presence in the growing general ward opportunity by combining our already existing products, including Patient SafetyNet, with Masimo SET pulse oximetry with the newly full-market released Rainbow Acoustic Monitoring; three, increase Rainbow awareness and adoption by planning more outcome studies on noninvasive hemoglobin, pursuing the regulatory clearance necessary to take Pronto and Pronto-7 to the blood donation market and moving Pronto and Pronto-7 to full-market release after we successfully reintroduce the Pronto-7 Rainbow 4D sensor, which we now hope to do by the end of the second quarter this year; fourth, as a follow-up to our October 2010 introduction of Halo Index, continue our track record of introducing a new measurement every 12 to 18 months; and five, explore opportunities for strategic acquisitions that complement our technology platform. All of these areas of focus are closely in line with our growth strategy, beginning with leveraging the sales force. Several years ago, we began a multi-year initiative to aggressively expand the size and reach of our global sales organization. This investment is already bearing fruit as evidenced by Masimo revenue growth that is…

[Operator Instructions] Our first question comes from Bill Quirk of Piper Jaffray.

It's actually Dave Clair here for Bill. I guess the first question on this end is on guidance. Just would like a little bit of color on the wide range for Rainbow and what your expectations are at, to guess [ph] (0:47:30), either at the high or low end of that range.

Mark, would you like to take that?

Sure. The range, essentially, I think is primarily created because of the expectation, as we just alluded to in the prepared remarks, about the introduction of the Pronto-7. So that device obviously has some pretty significant implications relative to its uptake in the second half of the year that would dictate either the lower end or the higher end range of those two numbers.

And then in the prepared remarks, you discussed an 11.75% royalty if Covidien introduces total hemoglobin. Is that just on total hemoglobin or would that be on the total Covidien business? And then have we heard something that this is something that they're working on?

Well, let me address that. It would be on the total Covidien pulse oximetry U.S. business, not just the total hemoglobin but all of it, including total hemoglobin. We are not aware of where they are with that development. This was simply an asset that they had that we addressed during our negotiation.

And then any kind of color you can give us on just overall market commentary? I mean, how do the hospital capital equipment budgets appear to be shaking out? And any comments there would be great.

Well, we read, obviously, the same things you read, so I'm not going to repeat those. But in general, we don't expect more headwinds, but at the same time, we also aren't expecting much of a tailwind. I think we expect the business to be pretty normal, maybe similar to 2010, the new normal. And I think, maybe the only other thing that would be good to note at this point is we had an incredible year for new placement of Masimo SET and Masimo Rainbow SET monitors. I think the number was 153,000. We expect 2011 to be similar. So we're not expecting it to slow down, which as you know, the 153,000 was a big increase to what our normal had been the last two, three years.

Our next question comes from Joanne Wuensch of BMO Capital Markets.

The effective tax rate that you're lowering next year, is that sustainable through 2012 and beyond?

We believe so.

Are there any military orders in your financial guidance?

I think the answer is yes to that. While we know the military orders are not something that happens quarterly, we do expect in the same order of revenues if not higher in 2011.

The growth margin guidance, your range was a little bit wider than my memory is of what you've done in the past. I know that you've got a couple of different moving parts, but can you walk us through a little bit more detail what might make it on the bottom versus the top end of that range as we exit the year?

Sure, Joanne. Directionally, I think the lower end of the range that we provided today would contemplate sort of a continued reasonably aggressive pricing environment, but most importantly, factor in some of the elements that I alluded to in our prepared remarks. That is a couple of initiatives that we're commencing this year that may require a little bit of incremental cost this year but are being done so to put us in a position to dramatically improve our margins as we look out between 2012 and 2013 and beyond. So there's a little bit of that additional expense that would trigger the lower end of those margin ranges. On the higher end, of course, given our range of Rainbow revenues, clearly, if we were successful in achieving the upper end of that $40 million to $50 million range, that would be a scenario in which we would expect to see margins climbing to the higher end of the range we provided earlier.

Just to push a little bit, are we talking manufacturing facilities outside the United States? What are we talking about to "dramatically" improve gross margins?

For some good reasons, Joanne, I think it's better we don't get into details of that.

You mentioned that you are looking at a major distributor for Pronto-7. Is that somebody you've already named?

We have had strong interest from the major distributors in the physicians’ office markets. And we've been kind of keeping them interested, because we're very happy to see their interest but at bay until we're ready to go full-market release. So yes, it's been an ongoing dialogue for quite a while, and as soon as the product is ready, we believe that one of those relationships will be also firmed up.

Our next question comes from Pete Vitale of William Blair & Company.

It's Pete in for Brian. I was wondering if you could give us or if you are able to split out or give us an estimate or an idea what the split-out would look like between R&D and SG&A of that incremental Covidien royalty income?

Pete, could you say it again?

Sure. When you were discussing -- explaining about 50% of the incremental Covidien royalty income from the extension, I was wondering if you can give a split-out between what would be R&D and what would be SG&A.

Actually, we can't just because the numbers are fairly dependent upon certain specific projects. And by answering that question, I think we'd be sharing a little bit more publicly than we want to for competitive reasons.

But I think -- one thing I'd just like to add is that we ended Q4 with about a $200 million expense run rate. And I think the current projections are contemplating maybe about a $210 million expense line. So you can imagine just between raises and some of the ordinary things that go up year-to-year, the numbers we're investing in those things, both for R&D, sales and even manufacturing, are not that great. Just so we really have tried to keep the investments low and kind of go back to the way we used to invest in the future, earn it and then invest it.

But as far as kind of further investments in the sales force, be more on the marketing side than additional heads? Does that sound right?

Yes. We're not expecting a big increase in headcount. We feel that we have a critical mass now. Of course, there'll be replacements. There'll be small additions, but no, there won't be major headcount increases.

And then I was just wondering if you could give us a little bit of an update on how that rollout to some of those major health system wins is going and whether that's actually showing up in revenue yet.

Yes. I think it's going to show up, obviously, in Q1. A little bit of it showed up in Q4. But the rollout is going very well, not just from our perspective but from the feedback we've received from our customers.

Our next question comes from Larry Keusch of Morgan Keegan. Lawrence Keusch - Morgan Keegan & Company, Inc.: Joe or Mark, just philosophically, as we think about this three-year tail that you have on this revenue from the royalty income, how should we think about the investments that you guys want to make in the business as we look at 2012, 2013? Should we sort of thinking that you guys will continue to invest some and let a remainder flow?

That's a good question. I think you should assume that unless there's some specific small thing that we want to do here and there that we weren't projecting before, but now that we have the royalties, we might do it -- except for those very small things, I think we're going to be investing in our growth based on our own plan. We believe this is a business model that should be leveraged for the benefit of the shareholders and the ability to even do more great things. And we really think 2011, '12, '13, these are the years that we're going to be doing that leveraging, and we're going to be putting more money into the bank and into the bottom line. Lawrence Keusch - Morgan Keegan & Company, Inc.: Again, in the prepared comments, you guys mentioned the topic of reprocessing. And I know this isn't new, but I just wanted to take your temperature on sort of how you think that's progressing out there. Is it getting -- is it becoming more of a focus for hospitals, for the same? Any commentary would be helpful.

I think it's become the new thing, but I think customers who have been doing this for a while are recognizing that reprocessing adhesive SpO2 sensors is not really green. It's not really helping reduce the carbon footprint, because there's so much energy that you have to expend in collecting those sensors and cleaning them and reprocessing them and re-sterilizing them and all that stuff that at the end of the day, I'm beginning to see that some of the major forward-thinking customers of ours are seeing that that is not optimal. And perhaps, being green is more about doing smarter designs, the green designs and ideas. For example, the ReSposable Sensor line that we've been working on, that is green at the point of care, it’s reprocessing at the point of care, and it doesn't require collection. It's 100% reprocessing, if you will, and it really does, I think, what people are after. So we're trying our best to expedite the release of those products into full-market release and filling out that product line so that customers can really achieve this green good idea that they're on. Lawrence Keusch - Morgan Keegan & Company, Inc.: The new Pronto-7 sensor that you talked about, presumably that does need to go through a 510 clearance. And also Mark, if you can just give us a sense of in the tax -- or said another way, how much of EPS was driven by the R&D tax credit?

Well, maybe first, I'll take on kind of the Pronto-7 recall issue but then let Mark answer the tax-related and earnings-related issues. As you know, when we did the recall, it was because the product wasn't working as we had intended it to, but not because we weren't sure whether the accuracy was affected or not. And we recalled it, and we suffer for even some of the complaints we've previously done on these products. And one of the good news I'd like to share with you is that the FDA came to Masimo for over a week, the first week of February, and they left. And basically, they told us before they left that the inspection pertaining to our Pronto and Pronto-7 devices and the investigators left our company on February 11 and without any inspectional observations. So we're pretty happy about that, and we're now -- as we've said earlier, while we could have released, potentially, the product, the sensor for Pronto-7 sooner, we thought if we just put our energy into what's coming out just a little bit later, it might be better for our customers and long term. So with that said, maybe Mark, you can address the second part of the question.

Sure. So your question on the R&D tax credit, I presume you're talking primarily about the fourth quarter, where I mentioned earlier the low 23.5% rate that we have. As I alluded to in the comments, there are a number of different items that flowed through this quarter. But clearly, the R&D tax credit and the fact that we are able to recognize that entirely within the fourth quarter was the primary driver behind that. And of that decline, approximately about six percentage points of that decline in the quarter actually resulted from the R&D tax credit. Lawrence Keusch - Morgan Keegan & Company, Inc.: And Joe, just so I can clarify, do you need an FDA clearance for this end of Q2 launch of this new sensor?

Yes, we do, because it's just not just the fix of the old. It's going to be a family of sensors, kind of small to large, and there's some nice unique features of it that we think is going to require 510(k) clearance now. We're still assessing that, but I would assume, for your sake, to please assume that.

[Operator Instructions] Our next question comes from John Putnam of Capstone Investments.

My question was really about the Pronto-7 sensor. Joe, what I hear you saying is it's just not a replacement. It's going to be an improvement of some sort.

Yes. We've been working on an improvement to that sensor pretty much from the day we launched the first version. And when we realized the improvement is only one quarter away from, I guess, the new version, I guess I should say -- just one quarter away from improving the thermistor issue with our current sensor, we decided to hold off on it.

So will it be more sensitive or faster? Or what kind of improvement are you really trying to work on?

Well, first half all, right now, we have one sensor that fits all. And we know some of the problems we have that if the sensor isn't positioned properly, it can give erroneous readings. So by having different sizes of sensors, it's going to help get the right sensor for the right size of the finger to minimize that. Secondly, we're putting an additional LED into the product to enhance, hopefully, the hemoglobin and the SpO2 measurement of the product and just some new enhanced algorithms that will be embedded into the sensor that will be delivered to the product. So yes, while I don't have the clinical study results to give you a specific number, we're hoping for better distribution of the accuracy around kind of a zero number. Did I answer your question?

Yes, very well.

Our next question comes from Gregory Hertz of Citi.

I'm just calling in for Matt, who is unavailable to be on the call. He's out of the country. Just a quick question, one on revenues and the other on margins. Obviously, it was a strong driver shipment quarter in Q4. I'm just wondering the pace -- you talked about 2011 being able to kind of match the full year. I'm just wondering, should we expect that to be more front-end loaded as a result of the recently launched large contracts?

No, I don't think it's going to be front loaded. I think it's going to be even.

And just also, can we just touch upon the outlook on the annualized revenue per driver and kind of how that ends your views on the revenue outlook? I mean, obviously, the SET revenue per driver is flat to slightly down, at least as we calculated it and flat overall with the benefit of Rainbow. Can you talk about what your outlook is? Is it included in a kind of a flattish -- or is it somewhere thereabouts?

In general, Matt, I'd say the answer is yes. We don't necessarily build our revenue model based upon, as you know, the dollar-per-driver calculation, which has a lot of anomalies built within it. But the ultimate outcome, as you point to, alludes to a relatively flat number year-over-year. Now clearly, as I've mentioned before, I mean if we're successful in getting towards the higher end of some of the ranges that we provided today then I think the computation there would suggest a increased dollar per driver, at least over what we saw in 2010. So a lot of it depends upon where we fall out within the range of the revenue guidance that we provided. But in general, I think the conclusion that we're expecting to be fairly consistent within the dollar-per-driver calculation is fair.

And then just a couple of other questions on the gross margin side. Could you mention again -- maybe I tuned out for a second. But the gross margin range, can you repeat that?

Yes. We said it was 65.5% to 67.5%.

And being on the low end of the range, you said in particular, maybe from a seasonal standpoint, 1Q might be in the lower end. Does that have to do with anything with the deferred COGS as you kind of run that through as it relates to some of the large hospital contracts? If you could just kind of help point out what might be weighing on that seasonally.

No. The reason for the potentially slightly lower Q1 margins relate primarily to some manufacturing absorption issues that we had towards the end of last quarter that essentially built into our overall cost of inventory at the end of the year. So those will be rolling out in the first quarter, and that's why we chose to mention that. Directionally, as I said, throughout the rest of the year, we actually expect to see some nice sequential increases in the overall margin. Next year, there is no doubt though that the point you bring up is the impact of box, what we referred to as the amortization cost of that deferred cost, they're going to be higher in 2011 than they were obviously in 2010, because we placed such a tremendous amount of product into the field, again, consistent with the 153,000 drivers that Joe alluded to. So year-over-year, there will certainly be a much higher impact on our cost to sales related to the amortization cost of those deferred cost to sales numbers, but those have been included in the range of margin guidance that we provided today.

And would you happen to have the deferred COGS balance for the end of the year off hand?

Let me see if it's -- we are looking at, on a net basis, $47 million.

So up sequentially from $35 million.

Yes, really strong fourth quarter.

I'd like to, at this point, just thank you all for joining us. I know we've gone over an hour, and I feel bad, because Mark and I kind of got long winded today. There was a lot to say, I think. So we hope to see you all and look forward to our next call. Thank you so much for joining us.

Thank you. This concludes today's conference call. You may now disconnect.