Stryker Corporation (SYK) Q2 2012 Earnings Report, Transcript and Summary

Before we begin, I would like to remind you that the discussions during this conference call will include forward-looking statements. Factors that could cause the actual results to differ materially are discussed in the company's most recent filings with the SEC. Also, the discussions will include certain non-GAAP financial measures. Reconciliation to the most directly comparable GAAP financial measures can be found in today's press release that is in the exhibit to Stryker's current report on Form 8-K filed today with the SEC. Good day, ladies and gentlemen, and welcome to the Second Quarter 2012 Stryker Company's Earnings Conference Call. My name is Chanel, and I will be your operator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to Mr. Curt Hartman, Interim Chief Executive Officer and Vice President and Chief Financial Officer. Please proceed.

Thank you, Chanel, and good afternoon, everyone, and welcome to Stryker's second quarter 2012 earnings report. Joining me on the call is Katherine Owen, Vice President of Strategy and Investor Relations. In terms of the format for today's call, I will provide opening comments and then turn the call over to Katherine for an update on several key focus items. I will then cover the financials before opening the call up to your questions. Turning to our second quarter results, sales finished at $2.1 billion, up 3% as reported and 5% in constant currency, with the U.S. market increasing 7.7% while the international market was up 3.3%, excluding currency. Acquisitions contributed 2 percentage points to our top line, yielding 3% underlying business growth. Importantly, across all 3 of our key segments, Reconstructive, MedSurg and Neurotech and Spine, there were drivers of the sales gains. Specifically, U.S. Reconstructive delivered underlying growth of 7%, reflecting a 6% and 4% increase in hips and knees, respectively. While Trauma and Extremities advanced by 11%, absent the influence of acquisitions. Within MedSurg, instruments had another strong quarter with global constant currency growth of 11% and U.S. growth of 13%, underscoring the accelerating momentum from our fourth quarter 2011 launch of our System 7 platform. Finally, Stryker Sustainability Solutions posted a third quarter in a row of over 20% growth. Turning to Neurotech and Spine, solid growth across all the Neurotech segments, coupled with the Orthovita acquisition influence in Spine, helped to offset the continued downward pressure in the core Spine segment. Overall, we are pleased with the general performance across the numerous segments. However, as we have previously communicated, we did experience weaker results in certain geographies, particularly Europe, and to a lesser degree, Japan, as well as a decline in our U.S. medical results. With respect to the weakness we saw in Europe, it remains consistent with our expectations that we discussed earlier in the quarter. Looking ahead, we believe the outlook for our European business is aligned with current market realities. All told, collectively, the strength of our broad-based and geographically diverse revenue model was evident as we remain on track to deliver on our full year financial targets. Overall, our top line growth, combined with gross margin expansion and ongoing cost controls, translated into adjusted per share earnings of $0.98, up 9%. Encouragingly, our gross margin reflects a traction we are starting to see from our focus on global quality and operations. Recognizing these efforts are still in the early stages but nonetheless, underscore longer-term potential. And our increased focus on cash generation was also evident with Q2 cash from operations totaling $457 million, a marked improvement over Q1. With respect to the CEO search, the board continues its efforts, which as discussed previously, include reviewing both internal and external candidates. Although not possible to predict the exact timing, the board does anticipate a decision regarding a permanent CEO during 2012. As we look ahead to the second half of 2012, we are positioned to deliver on both our sales and EPS commitments, reflecting the collective benefit of a number of key new products across our various businesses. This, coupled with an ongoing focus on driving operating margin expansion through improved efficiency and cost controls, is expected to result in 10% or better per share earnings gains in 2012. With that, I'll turn the call over to Katherine.

Thanks, Curt. There are 2 topics where I will try and provide some details, including hip and knee pricing and elective procedure trends and an update regarding key new product launches. Starting with pricing, please note that the press release includes a breakdown of our sales growth by volume mix and price for our 3 key business segments: Reconstructive, MedSurg and Neurotechnology and Spine. As it relates to our U.S. hip and knee pricing, the overall trend improved again this quarter, with mix largely offsetting some pricing pressure. Although difficult to demystify, we view Reconstructive trends as stable to modestly improving as the market appears to be moving toward more normalized rates that are likely in the low-to-mid single digits. Our assumption for underlying full year global reconstructive growth of not more than 3% we believe remains reasonable, with the U.S. likely to continue to track north of these levels, partly offset by some softness in certain geographies such as Europe. Turning to the new product front, late in Q2, our Endoscopy division launched its latest-generation 1488 High-Definition Camera. The 1488 leverages its premium optics technology to deliver an image that is 52% brighter than the prior generation 1288, with 33% more lines of visible resolution. Combined, these attributes allow for significantly greater picture clarity, which, given the nature of minimally invasive surgery, is a meaningful benefit for surgeons. Beyond the image, the 1488 was designed with cross-specialty standardization, which allows for use in 9 surgical specialties by addressing the specific color and lighting needs of individual surgical procedures. As our sales force expectations surrounding the imminent launch of the 1488 strengthened during the quarter, we experienced a slowing of endoscopy sales, which is a typical pattern when we are very late in the product cycle. Given the considerable advantages and technological enhancements of the new camera, a deferral of purchases in Q2 was not surprising and reinforces our expectations for accelerating second half sales for Endo. Switching to instruments, with over 25% growth in U.S. heavy-duty power tools in Q2, we are clearly building momentum, fueled by the launch of our latest-generation System 7. 2012 represents our 30th year of innovation in power tools, and with 3 decades of experience, the institutional knowledge and expertise is evident in our market-leading product offering that addresses a broad spectrum of surgical needs, including reconstructive hips and knees, Trauma and sports medicine, CMF and Extremities, as well as Spine and Neuro. With a large, dedicated U.S. sales force, we are well positioned to build on the product enhancements offered by System 7. We are highly encouraged by our performance against recent competitive offerings as evidenced by the sequential acceleration in U.S. heavy-duty power sales. And during Q2, we expanded our System 7 offering with the launch of our next-generation, high-speed Precision Oscillating Saw that runs significantly faster than the prior generation while providing both increased cutting speed and accuracy. All told, we are uniquely positioned with the broadest offering of dedicated power tools and accessories in the market. Looking at our Reconstructive franchise, following the launch of ADM and MDM mobile bearing hip systems, during Q2, we rolled out our next-generation Accolade Primary Hip Stem. Building on the success of Accolade, which is our #1 cement-less stem globally, Accolade II offers an alternative stem design targeted at a broader range of anatomies that are increasingly evident as the average age of the implantation has declined. The launch, although in the early stages, is tracking ahead of our expectations and positions our Reconstructive sales force with another new product offering. On the knee side, we are roughly 2 months into the start of our direct-to-consumer advertising campaign, focused on the unique single radius design of our Triathlon Knee. Specifically, the Get Around Knee campaign highlights the fact that we are the only company with a knee system based on a circular point of rotation, which is the construct of a natural knee, and we believe its more natural feel has helped drive the success of Triathlon. We started the campaign in May, and based on the normal time frame from when a patient first presents to actual reconstructive surgery, it's typically about 3 months. As such, we would expect to have a sense of a DTC impact on our knee business and market share starting in Q3. That said, based on some of the metrics we are tracking, including web visits and hits to the Surgeon Locator, the Get Around Knee campaign messaging is clearly resonating and we are encouraged about this activity. At the end of the day, it needs to translate into Knee market share gains and it's too early to make that call. Separately, to be fully transparent, early in Q3, we did voluntarily recall globally our Rejuvenate and ABG II Modular hip stem given the potential for fretting and corrosion at the modular-neck junction, which may lead to adverse local tissue reactions. As of June 2012, the reported rate of ALTR is less than 0.5% of patients with these modular-neck hip stems. And while the rates are low, under our quality system the decision was made to voluntarily recall the product. With 30,000 units implanted globally since launch in 2007, the revenue impact is not material, but we thought it was important to communicate the specifics surrounding the recall. Lastly, on the new product front, building on the success of a delayed 2010 Target Coil launch, our Neurovascular group has launched a new line of its smallest coil to-date, targeted at the hemorrhagic stroke segment. The Target nano Detachable Coil is the industry's first 1-millimeter coil and the only 1-millimeter and 1.5-millimeter complex-shaped coil. The small size, combined with its softness and shapes, allows physicians to treat patients with smaller aneurysms that were previously untreatable with conventional coiling techniques, and to be used in all coiling procedures as a finishing coil. Given that physicians tend to prefer greater coiling density since it allows for greater occlusion of the aneurysm, a small coil is an important competitive offering. With the strength of its broad-based hemorrhagic and ischemic product portfolio, combined with the recent additional product launches such as the Target nano, Neurovascular achieved another quarterly sales record. Finally, we continue to anticipate 510(K) clearance of our next-generation stent retriever for the treatment of ischemic stroke potentially in the second half of 2012. Hopefully, these comments provide a greater perspective on our commitment to delivering continued innovation fueled by our ongoing investments in R&D, as well as highly focused M&A. And while not practical to detail all the products of the various divisions, the collective impact is a major contributing factor behind our ability to deliver on our commitment of 2% to 5% underlying revenue growth in 2012. With that, I'll turn the call back over to Curt.

Thanks, Katherine. As noted, positive growth across our 3 segments underscored by stronger U.S. market performance delivered 2.9% sales growth on a reported basis and 5% constant currency. With respect to earnings, we delivered adjusted diluted net earnings per share of $0.98, representing growth of 8.9% over Q2 of 2011. On a GAAP basis, diluted net earnings per share were $0.85, an increase of 8% versus Q2 of 2011. A reconciliation of non-GAAP to GAAP EPS is provided in the tables accompanying today's press release. In reviewing the quarter, I'll start with a discussion of the components of our revenue growth. In the second quarter, volume and mix contributed 4.4% to our top line growth. Acquisitions added 2.2% and currency decreased top line sales by approximately $41 million and decreased the company's overall reported sales growth by 2%. Company-wide selling prices declined 1.6% on a worldwide basis. Looking at our reporting segments, I will start with Reconstructive products, which represented 44% of our sales in the quarter. Reconstructive products include our Hip, Knee, Trauma and other Reconstructive lines. Our Reconstructive segment increased sales by 1.2% as reported and 3.5% on a constant-currency basis. Domestic sales drove our growth with hips, knees and Trauma and Extremities, all recording solid gains. Acquisitions added 11% to the U.S. Trauma top line. Overall, it's a nice performance for our U.S. Hip, Knee and Trauma and Extremities implant lines. Conversely, our international Reconstructive results were down 3.6% in constant currency, with Europe and Japan experiencing softness that reflects both the macroeconomic environment and the need for us to execute at a higher level. Next, I will turn to the MedSurg product segment, which represented 37% of sales in the quarter. For reporting purposes, MedSurg is comprised of instruments, endoscopy, medical and the sustainability solutions business. In total, MedSurg sales increased 1.7% as reported and 3.3% on a constant-currency basis. Results were led by a strong performance from instruments and another quarter of over 20% growth for our Sustainability Solutions business. However, in the U.S. market, medical was disappointing as predicted and Endoscopy initiated its new camera launch, which as previously mentioned, should set them up for strong second half. Looking at the second half and the full year, with continued momentum for instruments and sustainability solutions and an expected acceleration in Endoscopy, we think we have the parts in place to return to higher growth rates and achieve our full year goal of 5%-plus growth. Our final segment, Neurotech and Spine, which represented 19% of the company's sales, had a very nice quarter. Sales increased 10.1% as reported and 12.4% on a constant-currency basis. Acquisitions added 7.2% to the constant-currency gain, reflecting the performance of the Orthovita and Concentric acquisitions. Our Neuro, Spine, ENT, Interventional Spine and CMF platforms all generated double-digit, constant-currency growth, while Neurovascular recorded better-than-market growth on record-setting coil sales. Finally, core spinal implant sales remain challenge, while we continue to benefit from the Orthovita acquisition. I'll now turn to the income statement, beginning with our gross margin performance. On a reported basis, gross margins finished at 68.1%, while adjusted gross margin finished at 68.2%. This represents a 40-basis-point improvement both on a year-over-year and sequential basis. The improvement reflects the positive influence of continued focus by our GQO organization, changes in sales mix and the weaker euro, partly offset by the previously mentioned price pressure and the impact from higher inventory charges. Individually, none of these items had a positive or negative influence of more than 50 basis points. Research and development finished at 5.5% of sales. Overall, the absolute dollar spend was consistent with anticipated levels as noted on our January call. Selling, general and administrative costs represented 39.1% of sales. Adjusting for restructuring and acquisition-related charges, as well as a $33 million OtisKnee charge, SG&A finished at 37.1% of sales. This represents a decrease of 90 basis points versus prior-year levels. Reported operating income increased 11% over prior year and was 21.1% of sales. Adjusted operating income increased 9%, while the adjusted operating margin improved to 24.1%, representing an increase of 140 basis points versus the prior year and 40 basis points on a sequential basis. Other income and expense reduced pretax income by $10 million in the quarter, in line with the first quarter. Components of this included investment income and interest of $13 million, offset by interest expense of $22 million. The company's effective income tax rate was 25.3% for the first -- for the second quarter of 2012, and this was in line with our expectations. In terms of the balance sheet, we ended the quarter with just under $3.5 billion of cash and marketable securities, which was an increase of approximately $40 million from year-end 2011. As a reminder, we have $1.75 billion of long-term debt on the balance sheet. On the asset management side, account receivable days ended the quarter at 58, which represented a decrease of 1 day compared to prior year. Key activity included the receipt of payment for the majority of pre-2012 Spain public debt. Days in inventory finished the quarter at 174, which was up 5 days sequentially versus the first quarter and 10 days against the prior year. Turning to cash, in the quarter we generated cash flow from operations of $457 million. Overall, it was a nice turnaround from our first quarter performance and we expect to see continued performance throughout the remainder of 2012. Finally, in the second quarter, we repurchased 700,000 shares for a total spend of $39 million. This brings our year-to-date total to 1.7 million shares and a total spend of $89 million. We currently have open authorizations totaling approximately $614 million. Overall, our second quarter has kept us on track with our full year goals and we remain comfortable with our initial sales and earning targets that we provided at the start of the year. Specifically, we anticipate sales growth of 2% to 5% for the full year, excluding the impact from currency and acquisitions, and we'll deliver not less than double-digit adjusted per share earnings growth. To facilitate your modeling, as it currently stands, we view consensus Q3 adjusted per share EPS as slightly aggressive, while Q4 appears somewhat conservative. Currency remains a headwind, and if rates hold near current levels, we would expect third quarter sales to be negatively impacted by approximately 2% to 3% when compared to 2011. Using current rates, the full year currency impact on top line sales would be negative in a range of 1% to 2% when compared to 2011, consistent with our original expectations. In closing, we expect to build on the results in the first half, maximizing the performance of the various acquisitions and continuing to launch new products, resulting from our ongoing investments and internal innovation. With that, we'll now open up the call to your questions.

[Operator Instructions] And your first question comes from the line of Rich Newitter from Leerink.

I just wanted to maybe start off on the MedSurg division. I appreciate that you -- it sounds like you have a number of growth acceleration drivers into the back half, particularly in instruments and endoscopy. But can you just talk about the expectation that you're going to return to at least 5% growth? Can you talk about what the assumption is there for the Medical division? Is that assuming a status quo or is there improvement embedded there as well?

Yes. Thanks, Rich, and by the way, congratulations. So we'll get you off the call quickly. If you look back to what we talked about in the second quarter, we did see some reprioritization of hospital capital spending and a lot of that was around some of the requirements associated with the Affordable Care Act, and I think we signaled that starting back in the May time frame. That, obviously, doesn't impact all capital purchases equally, if you look at some of the trends that we're seeing certainly in instruments and based on some of the early read for Endoscopy. Our full year assumptions right now do assume we get back to relatively flat, maybe up slightly medical growth on a global basis that would imply that Q2 kind of bottomed. And based on everything we're hearing from our customers, that seems a reasonable assumption. If you combine that with the expected acceleration in Endoscopy in the second half of the year, as well as the continued momentum in instruments and obviously, very strong growth for Stryker Sustainability Solutions, we're comfortable with that 5%-or-greater underlying growth for MedSurg in total.

Okay. And just maybe on your comments around Europe and Japan, I believe that was mostly on the Ortho Recon side, can you just talk about the nonmacro-related issues that you referenced? You said execution may be -- have driven the weakness there. What are you doing internally? What initiatives are in place to improve execution there?

Thanks for being on the call, Rich, and again, congratulations. But relative to Europe, we've had a number of ongoing organizational changes that we are working our way through the right changes and the right structure moves to address where we see the European market moving to. And it's been a bit of a moving target over the last couple of years for us and part of that is external environment focus. But we have to be intellectually honest. Part of that is our failure to execute and we're still a little bit playing catch-up to where the market is going and where we think we need to be. And that was my reference to being better at executing. So we have a number of things that we're looking at relative to distribution channels, relative to the way we're organized, relative to the way we get new products through the regulatory process in a faster fashion. And no single one of those is going to change our outlook, but it's combination of all of those that we have to stay on top of and execute. And I feel that we have the right things in place and we're moving quickly to do that. There's no quick solution here. We've been working on this for far too long, frankly, and we just got to pay more attention to it.

Our next question comes from Mr. Mike Weinstein, JPMorgan. Michael N. Weinstein - JP Morgan Chase & Co, Research Division: Curt, just -- maybe let's just spend 1 minute on OUS Recon because the performance really changed from the first quarter to the second quarter. That's -- that probably, other than the bed business, which you had already highlighted, is what stands out here. So can we spend 1 minute on what you think changed from first quarter to second quarter, where I think first quarter you're up 2.5% and constant currency in this quarter, you were down 3.5%?

Sure. I think pointing to the earlier comments, Southern Europe, specifically, was very, very slow for us in the Reconstructive segment, hips and knees specifically. And I don't think that's unique to us. I think, perhaps, the way we were approaching the market and what we were doing with that organization as we were fairly inward-focused, we probably took our eye off the ball. And I think for us in the quarter, one of the surprises was Japan. We had a very tough year-over-year comparable, but I never want to use that as an excuse. We saw some -- pricing pressure hit in the second quarter in Japan, but we also saw some slowing in that market for us. That was probably the one that we didn't quite have our eye on, was Japan slowing. So Europe, again, it would be more Southern Europe. We saw good performance out of places like the U.K. But Southern Europe, we really had a shortcoming. And it gets back to my commentary about executing a lot better because I think certainly we lost market share in Southern Europe. Michael N. Weinstein - JP Morgan Chase & Co, Research Division: Okay. And if we characterize the tone maybe over the course of the quarter, do you feel like it got worse? Do you have that insight into either Europe or Japan, whether the business was healthy in the first half, weaker in the second half or is that being too granular?

That'd be a pretty granular comment, but I would go back to our -- some conferences early in the quarter where both Katherine and I talked about seeing a softness in Europe. And I think that initially was driven more from a macro perspective and things we were hearing from people on the ground. And then I think you couple that up with some of our own internal shortcomings, we probably fell a little further than we originally anticipated.

Our next question comes from Mr. Michael Matson, Mizuho Securities U.S.A.

I guess I just had a question about your commentary around pricing in Recon. I just wanted to make sure that I heard you correctly. Did you say that your -- you had mix shifts that fully offset peer pricing declines, is that correct?

Yes. If you go back to the prepared comments, what we've said was as it relates to U.S. Hip and Knee pricing, the overall trend did improve again this quarter, with mix largely offsetting some price pressure. And that was probably a little bit stronger on the Hip side versus knees.

Okay. And then in your European business, for the portion of the slower growth that was driven by macro factors, was that pricing, volume or a combination of both? Or do you have any sense for that?

I would say the macro factors were more volume as it relates to Southern Europe, specifically. The broad European community is certainly a publicly funded health care system, and there's a lot of overall funding pressure, in general, which has the potential to translate into further pricing pressure. But I think as we look at this quarter, it was more volume-driven as some of the Southern European markets really pulled back on procedure volumes, at least to the information that we had in hand.

Our next question comes from the line of Bob Hopkins, Bank of America.

So just back on Europe a little bit as it relates to hips and knees. Obviously, we've seen J&J and BioMed and there wasn't much commentary around significant weakness in Southern Europe. And so is it fair to characterize this shortfall in Europe from your perspective as the large majority of it being share loss by Stryker rather than a market issue given what we've seen from J&J and BioMed?

Not everybody has reported, but at this point in time, I think I'd be hard-pressed to say we didn't lose share.

Okay. And then 2 other quick things. I just wanted to talk a little bit more about the bed business and your confidence in the guidance for the back half of the year. Because the comps don't get a lot easier in the near term and so I'm just wondering at this point, given how much volatility there's been in that business, what specifically gives you that confidence that you'll see the kind of rebound that you're projecting?

Yes. Thanks, Bob, it's Katherine. I think a couple of things. We've obviously gotten a lot closer to our customers and really making sure we're listening to what we're hearing, looking at some of the trends on some of the products and also some of the comments we get back in terms of where they're at in their reprioritization and some of the investments they've had to make. So when you total that all up and we adjust that against our forecasting, that's where we get to a comfort level. You can never take the risk of a capital slowdown off the table, but I think we're much better attuned to staying closer to our customer certainly since '08 and even more so since the first quarter.

And is core Spine still down mid-single digits?

I'm sorry, Bob, is the...

Was the core Spine business, the metal business, is that still down roughly mid-single digits?

Yes, that's a good approximation.

Our next question comes from Ms. Kristen Stewart, Deutsche Bank.

Just kind of on the cash improvements that you had in the quarter, I was just a little surprised that you didn't buy back more stock. Can you just maybe remind us your view on just kind of why you're not repurchasing more shares? And then also, would you be -- I guess, would the board consider also increasing the dividend as well?

So 2 questions there, Kristen. We didn't want to get too far out in front of ourself given our lack of cash generation in the first quarter. And when we budget our uses of cash over the course of the year, we look at our dividend increase, we look at our other allocations that go into our annual plan. We, first and foremost, try to keep those in mind. We look at share repurchase as the combination of events: what is the market opportunity; what do we feel or how do we feel about our current cash generation in future periods; and what other potential applications do we have for cash. So again, in our priority, it's M&A first and then cash and -- repurchases and dividends. We came into the year with a dividend increase of 18%. We tend to look at our dividend on an annual cycle, so I doubt you would see any movement in our dividend rate during the course of the year, that tends to be an annual event. And we still have a very large open authorization on share repurchase, and it's just a matter of balancing all the different things that we're pursuing. The stock was pretty stable in the second quarter and really didn't fit in what I would call the window of what we saw as the right opportunity more than anything.

Okay. And then gross margins, it was the first quarter in a while that we've seen some level of expansion. Can you -- I guess, how sustainable should we look at kind of gross margins from this level or can we expect to see additional improvements? I know currency does tend to impact that line. Maybe just kind of give us a sense on where we should expect margins, gross margins for the rest of the year to trend?

It's a great question and a fair question. I think going back to the beginning of the year, we said gross margins would in the year, finish right around that 68%, a little bit north. And I think we still feel very confident that in spite of some of these different movements -- tried to highlight all of the different things that moved in the quarter and the fact that no single one of them had more than 50 basis points of influence on gross margins. And I do think we get more stability in gross margins with each passing day under the global quality and ops organization as they get their arms further around all of the different pieces and continue to work on a consolidations of vendor management, the cost reduction activities, all of that plays into more stability in our gross margin outlook. And so nice to see the 68.2%. I think as we look to the future periods this year, we should be hovering right around that range and we'll see what other things may come up to move that one way or another, but we certainly have a lot of focus on it right now.

Our next question comes from Mr. Jason Wittes of Caris. Jason Wittes - Caris & Company, Inc., Research Division: I just wanted to ask again about Europe and Japan. Can we assume that -- you talked about execution, you've given us some color. But has there also been some changes in distribution? Have you lost some distributors to competitors, things like that, that occurred during the quarter?

There were no changes in -- no material changes in any distribution path in Europe for Stryker during the quarter. Jason Wittes - Caris & Company, Inc., Research Division: So strictly, execution as you said originally, okay. One last follow-up question. And that is looking at the bed business, looking at your Endo suite business, some of the hospital administrators that I spoke to seemed to be delaying some purchasing and waiting to see what SCOTUS' final opinion was going to be. Now that that's come, do you -- has there been any change in purchasing or is that just something that hasn't really impacted at least your outlook for the year at this point?

I think certainly in the short term in the second quarter, it may have had perhaps a little more influence on the medical side. Those are generally, Jason, very large purchases because of the cost point. On the Endoscopy side, I certainly could not tell that by the incoming order trend. Jason Wittes - Caris & Company, Inc., Research Division: Okay. But then just a follow-up, though. So part of the reason you think the bed business should improve would be at least -- at least part of the reason for the slowdown in bed this quarter is at least partially due potentially to SCOTUS, is that a fair characterization?

That's a really granular characterization, so I don't want to put too much weight on that. I think it's a combination of factors. It was partially driven by the implementation of IT systems that they were getting reimbursed for, based on implementation and effectivity. And they had some hard deadlines that I believe hit the first week in July. And those system implementations require the same people that work on big bed installs. So it was a matter of priorities. I think there was potentially some hesitation because of expected reimbursement that hospitals were supposed to get out of the Affordable Care Act, and if that went away, they may have to rethink some of their priorities and limit some of their investments. So it potentially has good news now that we're past that point. But I think we'd rather see that play out in the quarters ahead than make a proclamation that that's going to be what materially happens.

Our next question comes from Mr. Bruce Nudell of Credit Suisse. Matthew Keeler - Crédit Suisse AG, Research Division: This is Matt in for Bruce. First, on -- you said Neurovascular grew ahead of the market in the quarter and I was just curious if that's something you think is sustainable going forward?

We had set out when we announced the transaction that in year 2, we intended to get to market level or above growth rates. We have had a very good new product cycle since day 1, and that was further supplemented in the second quarter with the nano coil that Katherine mentioned, as well as a few other products that are very beneficial to that organization. In addition, we just hit the 18-month mark of the integration, so a lot of the work is getting pretty long in the tube. And so all of those things line up to provide an opportunity for better performance. So as I look at the NV business in the second half of this year, all of that, plus other things that we're focused on potentially the approval of the stent retriever device, things of that nature, give me confidence that we can continue to grow at or above the market here. Matthew Keeler - Crédit Suisse AG, Research Division: Okay. And then I guess just changing course, can you maybe talk a little bit about your emerging markets exposure in Recon and what the opportunities are there to increase your exposure in that business?

I think -- you've got a lot of background noise. I think, in general -- can we ask you to put your phone on mute? So the question was relative to emerging market in Recon, what's our exposure. I think just very high level, if you look at the company, our percentage of revenue that's outside the U.S. is out of line with broader medtech. So number one, it implies that our international opportunity is larger than the majority of medtech, and certainly, as you cascade that through the various key growth drivers in the international markets like India, like China, we have a large opportunity there. We will be deliberate in our movements there. We will ensure that we have the right products and that we have the right structure to advance and get our share of that market. And it certainly is an area of focus for the company. It's -- it is one area of focus. There are many areas of focus. But certainly, emerging markets needs to play a bigger role in this company's future in the years ahead.

Our next question comes from Mr. Matthew Taylor of Barclays.

I just wanted to ask a bigger picture question. Could you give us an update? You talked a little bit in the past about your plans for offsetting device tax next year with the restructuring and still being able to hit those double-digit EPS growth targets. Can you give us kind of an update on that and bigger picture thoughts about what you'll be able to do there to get some leverage to offset that pressure?

Sure. Great question. We're about 80% through the restructuring that we announced in late 2011. And as some of the original plans across our various businesses have been continued to be evaluated given where those businesses are, we're slowing some of those down. And as we look at some of the changes on a macro picture, there are other areas where we're increasing and doing more to reflect the new reality, so to speak. So we're about 80% through the restructurings that we had announced in terms of plans being actionable and moving forward. We certainly have not received the benefit to that extent in the P&L. So I think we're in pretty decent shape relative to the original restructurings we laid out. The other parts of our ability to address the med device tax were continued innovation, the accretion that we expect to receive in most of our deals beginning in year 2 and year 3, and we're now getting to year 2 and year 3 on most of those deals. I think we'll have one deal outstanding after the end of the third quarter, and that would be Concentric, which closed in October of last year. So we'll start to get most of our deals into the year 2, year 3 period, where they add more value to the earnings line. And ongoing focus on internal innovation and internal efficiency through things like the work of a global quality and ops group. We believe all of those still put us in a good position to achieve the goals that we said we were going to achieve in 2013.

Okay. And just a follow-up on Endo, could you give us a sense of size for that -- the launch in terms of your ability to reaccelerate growth there?

When you say the sense of size, what do you mean?

I just -- as the percentage of sales or I guess how much order flow was held back in the quarter in anticipation of the launch?

Sure. I may not get into real specifics here, but if you think about the Stryker Endoscopy business, the 3-Chip Camera is the engine that pulls that train. And it not only has the ability to be sold as standalone camera system, but it's integral to the Endo suite concept, which is the bigger ticket item out of that business. So when that selling organization, that customer base are aware that there's new, substantially improved technology coming, that business slows down dramatically because number one, we don't want to sell our customers yesterday's technology, and we're in this for the long-haul. So we're patient with our customers and we'll wait to get that new technology out. And now that we have that out, and really started that late in the second quarter, we feel very good about how that will help reaccelerate that business, not only in terms of direct selling of the camera, but items that are related to the camera, broader Endo suite sales, light sources, the SDC3I solution for data management, all of those products that go around that should benefit from the introduction of that new camera.

Our next question comes from Ms. Joanne Wuensch, BMO Capital market.

Tax rate for the year, can you give us an idea of how to look at that? It looks like your tax rate was a little bit lower during the second quarter, which may have helped you out by a bit, a $0.01 or $0.02 by our calculation?

I think we said the tax rate for the year, we thought would be 25% with a little bit of downward bias perhaps. You've got to keep in mind a lot of the different things that are not in that tax rate right now like the tax extenders. Every company is dealing with that, so that's an upward bias on the tax rate. And the company continues to execute on projects and programs that should lower the tax rate, so we're trying to neutralize some of those things. But I think we still see our tax rate being in the 25% with a little bit of downward bias.

Okay. And then are there any new products that we should be looking at in Trauma and Extremities? The Memometal, forgive me if I mispronounced that, transaction closed last July. Memory is that you had some products in there that were coming on schedule this year.

Yes, it's the Memometal or MMI transaction that closed, and that's really focused on the extremities markets, specifically the podiatry market. They had a very nice product offering to add to acquisition and they had a host of other items in the pipeline. I would tell you that business is still relatively small and is probably not going to move the needle overall on Stryker, but it's certainly a key strategy of building our extremities markets. And we like the traction we have with that and how it's introduced to a new customer. They have been introducing some new products this year and we'll continue to put emphasis on innovation there because we think there's a lot we can do with the technology and in the hands of a much larger selling organization at Stryker. No specific product line introduction that I would point you to, but more of a Stryker focus on the extremities market.

Our next question comes from Mr. David Roman, Goldman Sachs.

Curt, I was hoping you could maybe help us out as we think about the P&L. When I -- when we sort of take a look at operating leverage, this quarter, you generated 5% constant-currency growth and 9% earning -- adjusted earnings growth. Is that sort of the right type of earnings leverage to top line growth we should think about? Or is it really to think about the 2-ish percent organic growth leveraging to 9% earnings? How do you think about the differences in there, kind of ability to generate earnings leverage?

I would definitely be looking at the 5% to 9%, and I would tell you that historically speaking, over time, the higher we can drive that 5%, the more leverage and space that we can get. We have a pretty good track record of doing that. And from an opportunity within the company and all the global quality and ops opportunity and even some of the back-office harmonization the company is trying to work its way through, that should increase our capabilities there, at least keep them sustained and allow us to make other investment decisions in other emerging areas. So I view this quarter as the 5% and 9%. And benefiting from some of the work that we've been focused on now for several quarters.

Okay. And then I was just hoping you could clarify one thing on gross margins. I think in your prepared remarks, you said you gave 4 factors that influenced gross margins: 2 positive, a weaker euro and sales mix; 2 negative, higher inventory and pricing pressure, none of which had more than a 50-basis-point impact on the GM [ph] line. Of those 4, which of those are sort of this quarter phenomena and which of those do you kind of view as kind of part of the business on an ongoing basis? And then how would that influence the long-term gross margin trajectory?

Well, certainly, you could argue that the sales price issue has been an ongoing issue now for many quarters, so you could call that kind of part of the norm, kind of the underlying. I would say in the quarter, the inventory charge was probably a little bit out of sorts given the recall information that Katherine talked about. Because when you pull products from the market, you're taking an inventory charge associated with that. So that one was probably not in the original plan but we were able to deal with that. So those are the type of things that are -- it'd be improper to call it a one-timer, but it's just the reality of running the business. And you have to be able to adjust and absorb those type of things. The GQO benefits, we expect to see those continue to materialize, but again, a lot of the GQO work is predicated on the right quality systems steps and those generally take investments before the benefit materializes. So they're not necessarily quite as smooth quarter-over-quarter-over-quarter. We'll tend to get some good news, make some more investments based on that good news, little bit period drags on, get some more good news. And that's the offense we're trying to run there.

Our next question comes from Mr. David Lewis, Morgan Stanley.

Curt, just kind of a more macro wrap-up question here. If you think about this quarter and so far this year, you've got gross margins now trending in the right direction, maintaining guidance kind of top and bottom. Historically, you've been willing to provide sort of the Stryker outlook for the future, which I think was your comfort with double-digit growth heading into next year, even with the tax. I mean, if you think about kind of where you stand 6 months into the year, is that still an outlook that you're comfortable with?

Yes, we're absolutely comfortable with the outlook that calls for not less than double-digit earnings growth, both this year and into next year and until we state otherwise, probably future periods. The macroenvironment certainly continues to be very dynamic. I think everybody if we look back over various scripts from not only Stryker but other companies, we would have assumed that 2009, 2010, how much worse can Europe get, and here we are in 2012 and it continues to get worse. There hasn't been a headline -- or there's been more headlines in the last month about slowing GDP in places like China, where 2 years ago nobody thought China could slow down. So I think it's a very dynamic global market. And as long as we feel like we have the opportunity to continue to maneuver and deliver on that double-digit earnings, we're going to continue to make that claim. If that changes, you will hear it first from us because we want to be as in front of these things as we possibly can.

Very good, it's very clear. And then, Katherine, just a very quick one. If you think about pricing, we've heard most of the Recon players talk about a slightly improving pricing environment so far this year, or at least first quarter to second. Do you think the pricing that you saw slightly improve, do you think that's coming from more price stabilization or just your improving cadence and mix?

Well, the pure price we talked about seeing modestly improving or continued improvement in that trend, so that's pure price, although just -- I would keep in mind, we're not talking hundreds of basis points here. The mix contribution has gotten more significant, and I would point to, particularly in our Hip side, some of the new products that we've talked about like ADM, MDM, and more recently, Accolade II.

[Operator Instructions] Our next question comes from Mr. Matt Miksic of Piper Jaffray.

So just to follow up on this -- the question that we've gotten so far on price, you entered this year, I guess, with more concerns, at least in the investor community, around pricing trends in ortho and it now sounds like, for whatever reason, that is not quite as bad as most people feared and maybe in some cases getting just a touch better. I'd love to understand what you think is happening, just sort of facilitate that and then I have one follow-up.

Matt, I think there are a couple of things. I would not want to send the message to anybody that there's not price pressure in ortho, because there is. I think one of the differences now versus, say, 2008, 2009 is companies have a much different innovation pipeline because, recall, we had a big issue across the industry with the DOJ investigations. Stryker, specifically, had a big issue from an R&D standpoint related to our quality remediation period. And I think our ability to get back on offense with innovation has helped drive price or at least to offset some of the bigger headwinds of price. So I think that's a change for us. I can't comment on our competitors and what they're doing. I just think our position might be slightly improving, though it's still a negative price environment because of some of the innovation and other solutions that we are offering as a company today versus 24, 36 months ago.

That's helpful. And then you talked a fair amount, I appreciate the color on what has been happening in Europe and in certain geographies. But in Southern Europe, for example, where you think that you have lost some share, can you give us a sense of how long it takes -- we should think about that, taking you to get back on track there? Is this just a couple of quarters, is this 3 or 4 quarters? Is this a quarter? Any kind of color as to what you think we can expect would be helpful.

It's a great question. I wish I could definitively pin it down. I would tell you, we feel good about what the leadership team is doing. The proof will be when we deliver the results. We have taken a pretty harsh view of our expectations here and tried to set the bar really low to make sure we don't provide any negative surprises. And I would hope that by the end of this year, we've found stability and that we have found a way to get back on offense. Could it happen quicker? Absolutely, but I think we need to be conservative here because the reality is there's still a lot of macro issues in Europe that are going to change that environment. And we have to be prepared to address those while setting our business approach to meet that new reality.

Our next question comes from Mr. Derrick Sung, Sanford Bernstein. Derrick Sung - Sanford C. Bernstein & Co., LLC., Research Division: I wanted to turn attention to the -- your U.S. performance in hips and knees for a moment. Both J&J and BioMed had reported their quarters, and I think that their results showed a bit of an acceleration relative to where they were in Q1 and their commentary suggested maybe improving utilization trends. Wanted to get your color, commentary on kind of what you're seeing in utilization? And also, the fact that your sales were sort of stable relative to Q1, might you be losing some share there or what are your thoughts on that?

Yes, a few thoughts. Again, we've all got different year-over-year comps, and so that's going to obviously influence the growth rates. And I would point again to some of the comments we made on the call in terms of the utilization trends, appearing to be stable to modestly improving and moving towards more normalized rates that are likely in the low-to-mid single digits. So we feel pretty comfortable that we're building on the momentum, particularly on hips from a new product standpoint. And then knees, we'll wait and see how much impact the Get Around campaign has, but as we talked about, we're pretty happy with the initial read. Derrick Sung - Sanford C. Bernstein & Co., LLC., Research Division: Okay. And I guess turning to your more CapEx-oriented businesses, obviously, bed's but a little bit of the other MedSurg businesses. I guess thinking forward a little bit forward to 2013 and the 2% sequester cuts that are going to be happening then, has that issue come up as a discussion point with any of your customers? Do you think that, that is going to impact hospital CapEx spending, either pulling forward or affecting CapEx budgets next year?

I wouldn't want to make a political statement, but would certainly hope that folks in Washington, D.C. can find a way to resolve a number of the looming budget issues that are out there. And whether that happens pre- or post-election, we'd like to see some movement there to get a little more predictability and certainty into the market. We've not had a lot of feedback on sequestration and cuts related to investments in health care. In all candor, I think the 2% is somewhat in line with historical cuts, so it's not like it's 2% historically going to 5%, 6%, 8% or 10%. So I don't think we've seen a lot on that side. And then keep in mind, Derrick, a lot of our capital outside of beds is really what I would call essential operating capital. You don't do hip or nee surgery without a power tool. You don't do general surgery without a camera. They're not million-dollar investments. These are 5s and 10s of thousands of dollars, so they're very different category of capital.

Our next question comes from Rajeev Jashnani of UBS.

I wanted to follow up on Derrick's question, and I was just wondering if you could expand on -- I know Stryker, typically when things are good, you'll attribute it to the market and when things are bad, you'll attribute it to share given you don't have full visibility at the time you report. But maybe just a little bit of color on the U.S., whether you think you gained share, update of new products, that would be helpful.

Again, it's a little bit difficult because everybody hasn't reported yet. I think based on where our U.S. numbers are, it's 6 and 4, and then our expectation that the total market's probably growing somewhere in the mid-single digits, we feel pretty comfortable about where we're trending. I would on the Hip side, again, point to ADM and MDM. And the most recent one, Accolade II, with some of the key product highlights that we're seeing there and then really leveraging the unique characteristics of the Triathlon Knee as it relates to the DTC campaign we discussed. So as we've said before, whether you're gaining a market -- or gaining or losing share in Recon, you really need to look at a few quarters of trends to get a full read, and we feel pretty comfortable with where our position is on that.

Okay. And I have one follow-up just on the P&L, specifically on the SG&A. I was just wondering, going forward out to 2013, is negative SG&A something that's reasonable for a company like Stryker? Or given the dynamics of your business, is that not really a thing that you're able to do?

Well, I think certainly companies can do -- you control your discretionary spending, of which the majority of SG&A is discretionary, outside of employee compensation. And even to some extent, that's discretionary to the extent you control your headcount. Our single biggest line in SG&A tends to fall in the selling category, which is a host of things. It's not simply selling compensation. And to the extent that we get more efficient in our organization, we ought to be able to reduce or put controls around our SG&A expansion. But I would also tell you that some of that change in SG&A may go into feeding other categories like more R&D, or selling organization expansion into different markets like Trauma and Extremities or expansions of some of our existing organizations that have new product portfolios. So is it a realistic expectation? I think people can do it if they want to and need to. I think we tend to look at the totality of our P&L and say where do we want to expand and what areas do we need to cut to make that expansion possible?

Our next question comes from Mr. Glenn Novarro, RBC Capital Markets.

I had a question on the modular neck recall. Katherine, you said it was not material. Are you saying this because it's your expectation that surgeons move to your more standard necks and not move away from Stryker to a competitor. So in other words, no loss of business? And then I have a follow-up.

Yes, Glenn, I'm really saying it more from the standpoint if you look at global sales since we launched 5 years ago, it's about 30,000 units. About 20,000 of those are in the U.S. You take that relative to the size of our total Reconstructive business, it's just not financially material, either to the Recon business or certainly to total Stryker. And then yes, we've got some products that we're getting good momentum on like Accolade II. So there's obviously options, not modular, but other options available. So it's really just from the standpoint of how much the overall revenue contribution had been.

And just a follow-up on the modular market. Our due diligence tells us, at least in the U.S., maybe modular necks are 15%, 20% of the market. Can you confirm this? And then I'm wondering, do you think the modular market declines dramatically now, similar to what we saw from metal-on-metal when we had those issues years ago?

Yes, and I think it's fair to point out, particularly from the patient perspective, the issues with the modular recall are really around fretting and corrosion and they're different from the metal-on-metal. So I would hate to put the 2 in the same category. I don't think we can speak to the total revenue because there's other players in this market where we don't have granularity around their numbers. Clearly, for us, it's nowhere near that percent of revenue for our business.

Our next question comes from Mr. Larry Biegelsen, Wells Fargo.

Just let me start with a question on Spine. Your comment earlier, core Spine being mid-single digits. Can you give us a little bit of color on what you're seeing in the Spine market? Has there been any improvement? I think it was a one -- your Neurotech and Spine business is one area where pricing did get worse. Was that primarily Spine? And kind of what are your expectations for your own Spine business? And I just had one quick follow-up after that.

I think in the core Spine market, we continue to struggle and some other large, established players continue to struggle. But clearly, there are some folks in the core Spine market who are growing their business. So it's a combination of a little bit tougher market and we need to do a little better job on the innovation side. I like where our leadership team is taking the business. I'm encouraging them to move quicker and faster, and we need to get back on a growth track with this franchise. And we have a long history of growth here and I think we have the wherewithal to get back on a growth track. Pricing in that segment was principally driven out of the core Spine business. So I think that kind of covers your question there, Larry.

Okay, perfect. And Curt, just quickly on the P&L, do you guys have an active hedging or is it just passive hedging? Just -- could you remind us what you said about kind of the FX impact on earnings?

So we do not have a total P&L hedge program in place. We hedged certain preestablished obligations and we do a net hedging program across the company on a monthly basis.

Our next question comes from Mr. Jeff Johnson, Robert Baird. Jeffrey D. Johnson - Robert W. Baird & Co. Incorporated, Research Division: Curt, wondering if I can go back on your U.S. Hip and Knee business. In one of the questions, you stated maybe that your Hip and Knee business in the U.S. was stable this quarter. It looks to me, if I adjust for the extra selling day from last quarter and that had actually may -- might have picked up 100 or 200 basis points. And I don't want to parse numbers too much, but just on a day selling rate, did you feel like things got better in the second quarter versus the first quarter?

Jeff, we feel good about what's going on in our Hip and Knee business right now, and it's a combination of things that we've talked about. The innovation that the selling organization has in terms of hips, OtisMed on the Knee side, the DTC campaign, the organization is clearly back on offense. We've got a lot of items to talk to our customers about, and that all points in a very favorable direction. Now at the end of the day, the numbers are going to tell the story, and we've made some investments here in DTC. And to Katherine's earlier comments, we'll hope to see that materialize starting in the third quarter. But we're excited about the new product offering on the Hip side with Accolade II. The fact that the dual mobility solutions have now been out for a while, customers are getting comfortable with those. And we like the leadership team and we like what that organization is doing right now and it's great to see. Jeffrey D. Johnson - Robert W. Baird & Co. Incorporated, Research Division: All right, great. And then just a follow-up question on the modular side. And I know it's a small issue for you guys, but do you feel it was a product design-specific issue with your Rejuvenate, maybe DII or -- as we look at things, it really looks like the whole class of dual taper anyway, not necessarily all modular stems, but the dual taper designs may be at risk of those fretting and corrosion issues. I mean any thoughts there?

Yes, Jeff, I don't think it would be appropriate for us to comment on a whole class. All we can speak to is what we've seen. The rates are very low at 0.5%. But as we mentioned, under our quality system, we thought it was reasonable to have a voluntary recall. We're still evaluating what the factors are around the adverse local tissue reaction. It would be premature at this stage to say we've figured out all the variables with any specificity, so we'll continue to work with leaders in the medical community and track it. But I certainly want -- wouldn't want to make a comment anything beyond what we're seeing here at Stryker.

Our next question comes from Mr. Steven Lichtman, Oppenheimer & Co. Steven M. Lichtman - Oppenheimer & Co. Inc., Research Division: Curt and Katherine, on M&A potential, just given your strong balance sheet, I was wondering has enough time passed since the bolus of acquisitions that you guys did over the past 2 years that you feel you can be more aggressive on deals and be able to digest them? Obviously, the right deals have to be there, but is it fair to say maybe you guys cooled off a little bit after a lot of deal flow in '09 through '11?

Yes, I would point to our prior comments. Obviously, BD isn't linear. We commented before that we had a pretty hefty pace and we wanted to make sure we were integrating and executing on those to maximize the returns of those deals. Obviously, though, with our balance sheet and size of our organization, we are able and capable to do additional acquisition. Timing is always difficult to predict, so we remain busy on that front, evaluating and looking at different options. Whether or not that translates into executing on the deal, really isn't possible or, obviously, appropriate to predict right now. Steven M. Lichtman - Oppenheimer & Co. Inc., Research Division: Okay, fair enough. And then just on Accolade II, obviously, you hope to take unit share. But should we be thinking of it, at a minimum, as a potential mix driver, is it priced at a premium and did it have any impact yet in that second quarter?

We did launch it during the second quarter. As we mentioned, we saw more of a mix benefit in our hips business offsetting the pricing pressure, and that would be one -- just one of the components.

Our final question comes from Mr. Bill Plovanic, Canaccord.

So just -- it's just one more question on the Rejuvenate, if I may. If you look at this hip recall, I think 0.5% is 150 out of 30,000. And I guess, so that's a small number, so even if there is something major, it's still a small number. One, have you taken the charges that go along with that for any future liabilities? And two, have the sales force, have they spent the time and kind of gotten all the inventory out of that field or is that something that'll occur in the third quarter? And that's it.

So second question first, I think we feel very good about our execution of the recall, and don't view it at this point as anything that will materially impact our selling organization's efficiency. As it relates to potential future liabilities, we have not booked any reserves for those and it would be inappropriate to do so under the accounting rules until something is presented. And we do appreciate the reference because it is a very conservative position we've taken, but under our quality systems, we view it as the right position to take out of a long-term respect for the market and our position in the market.

And there are no further questions. I'd now like to turn the call back over to management.

Okay. Thank you, Chanel. And in closing, we want to remind everyone of our Analyst Day, which will be held on September 5 and 6 at the Homer Stryker Center in Mahwah, New Jersey. Formal invitations and details are forthcoming. Finally, the conference call for our third quarter 2012 operating results will be held on October 17 of 2012. We thank everybody for your participation tonight, and we look forward to talking to you soon. Thank you.

Ladies and gentlemen, that concludes the presentation. Thank you for your participation. You may now disconnect. Have a great day.