FINAL TRANSCRIPT Conference Call Transcript SNN - Smith & Nephew Analyst Meeting - Memphis Event Date/Time: Sep. 15. 2005 / 1:30PM UKT Event Duration: N/A Thomson StreetEvents www.streetevents.com Contact Us 1 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis CORPORATE PARTICIPANTS Gordon Howe Smith & Nephew - VP of Strategy and Business Development, Orthopedics Christopher O Donnell Smith & Nephew - CEO Mike O Connor Smith & Nephew - CFO Dave Illingworth Smith & Nephew - President of Orthopedics Scott Flora Smith & Nephew - SVP and General Manager, Reconstructive Division Mark Augusti Smith & Nephew - SVP and General Manager, Trauma Division Joe Woody Smith & Nephew - VP and General Manager, Clinical Therapies Division CONFERENCE CALL PARTICIPANTS Robert Robertford Citigroup Smith Barney - Analyst Mark Mullikin Piper Jaffray - Analyst Brian Wong First Albany - Analyst Mark Landy Susquehanna Financial Group - Analyst Mike Madsen Wachovia Securities - Analyst Justin Smith JP Morgan - Analyst Yi-Dan Wang Deutsche Bank - Analyst PRESENTATION Operator Good morning, everybody, and I would like to welcome you to Smith & Nephew Investor Day 2005. My name is Gordon Howe, and I am the Vice President of Strategy and Business Development for the Orthopedics Division of Smith & Nephew. And I want to take about a minute to let you know what we have prepared for you today for the Investor Day. We have two groups with us today. This is a webcast event for about the next 90 minutes, and we have somewhere around 50 investor analysts that have joined us here in Memphis who are going to have an extended day that will include several different things. Today's presentations will focus predominately on orthopedics, and you're going to have a chance to be introduced to the senior managers of the Orthopedics Division. This is going to include a presentation from Scott Flora, our Senior Vice President and General Manager of our Reconstructive Division, talk about what we're doing in our hip and knee franchises. Thomson StreetEvents www.streetevents.com Contact Us 2 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis We'll also hear from Mark Augusti, Senior Vice President and General Manager of our Trauma Division to give you a little more in depth view of what is going on in trauma and where we're positioned and how we feel pretty strong about our potential for the future. Joe Woody, our Vice President and General Manager of our Clinical Therapies Division, is going to talk to you quite a bit about our Clinical Therapies business, what the industry is and why we're so excited about the potential, but also to give you a sense for how do we grow at the astounding growth rates we've enjoyed over the last 18 months or so. In addition, Dave Illingworth, the President of Orthopedics, will come and give a presentation and an overview of Orthopedics and our broad strategy, and the key momentum drivers for our future. And Sir Christopher O'Donnell, the Chairman of Smith & Nephew, will give an overview of the Smith & Nephew group and where we are from that perspective. We will have time for question and answer in this session and on the Webcast. The questions, unfortunately, are going to be limited to the investor analysts who have joined us in this room. So, if you do want to prepare questions as you're listening to the presentations, that would be terrific. After we are done, the group here is going to enjoy the opportunity to see a lot of the things that these presenters are going to talk about. This will include a tour through our mobile lab, our mobile, medical education and training facility, which is a one-of-a-kind facility that is launching next week. You will get to have some hands-on opportunities to utilize our achieved casts at the hip and knee systems. You will go into the backdrop of our research facility into our tribology lab and you can learn and talk to people about Oxinium and the Oxinium technology, as well as the - our Legion knee division system, which we'll be launching in the fourth quarter of this year. You will be VIP for a day and enjoy the experience that a surgeon who comes to Memphis to collaborate with us on design work or for our education programs, and go through part of the experiences they enjoy when they come to Smith & Nephew, and why we're so proud of that. You will also get to talk to the people that are responsible for our Birmingham hip, which is a pretty exciting product, and we feel pretty good about the potential for that technology in the future. You will go to our brand new global headquarters for our Trauma and Clinical Therapies business, which is an extension of our strategy of focused trauma and clinical sales marketing product development and a natural progression in our overall strategy for that business. And there you will get to learn more about Peri-Loc, the definitive lock plating system on the market and learn a little bit more about our Exogen and Supartz products as well. So, it is a full day. There is going to be an opportunity, as well, to tour our factories and see the technology at work that is meeting the demands of the high growth that we've enjoyed. So, we do hope it's beneficial. We do have about 60 to 70 minutes of presentation followed by some Q&A. Before we begin, we do have to remind you of our forward-looking statements. This presentation may contain forward-looking statements within the Safe Harbor provisions. These statements are not guarantees of the future and involve risks and uncertainties. To start today's session, I would like to introduce Sir Christopher O'Donnell, the Chief Executive of Smith & Nephew, who will give you an introduction to the Smith & Nephew group. Chris? Christopher O Donnell - Smith & Nephew - CEO Thank you, Gordon, and good morning to everybody and welcome to Memphis to those right with me here and on Webcast. It's lovely weather here in Memphis and we're looking forward to an exciting day touring our orthopedic business for which we're very pleased and proud of its position in the business. And you'll see its position here in the local community in Memphis. Our open message here is that we are a global medical device company developing innovative products that help people regain their lives. And you'll hear this theme echoed as you go through the presentations of the day. Thomson StreetEvents www.streetevents.com Contact Us 3 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis This is the second corporate investor visit to Memphis. The first one was about five years ago. At that time, this building didn't even exist. In fact, we didn't even own this land, or all of it anyway. And this building is now entirely dedicated to leads (ph) because our growth has been so rapid. We've had to take other buildings now in the surrounding area to cope with the growth of this business. At its current growth rate over the period we talked about and the projections forward, it is doubling between every 3 and 4 years. So, exciting developments at trauma headquarters. Well, actually, my first visit there, we moved in over the summer. I'm very excited about our new training concept, global land, which we'll take a look at as part of our tour. It's a new concept for reconstructive orthopedics and a very, very powerful tool for us to take our medical education programs to surgeons around the U.S. I'm excited about our product portfolio that we'll spend time talking about. I just want to do some context work before we start with orthopedics and talk about Smith & Nephew as a whole and orthopedics within it. And clearly, we are a global leader in each of our three business - Wound Management, Endoscopy and Trauma and we're the world's fastest growing reconstructive implant company. (inaudible) 2 billion and our listings in London and New York have now given us a very global portfolio of investors, which is a great development, again, over a five-year period. Our focus is on tissue repair and healing. And that's reflected in the way we organize our business. (inaudible) orthopedics is serving reconstructive of the knee, as well as trauma and clinical therapies. And clinical therapies is a little bit of an unsung hero in our business, and you'll hear more about that today. We're giving it a much higher profile as it continues to grow at almost meteoric rates. The orthopedics headquarters is here in Memphis, Tennessee, and we hope you'll enjoy meeting and sharing views and opinions with the management team here. Endoscopy serves arthroscopy and sports medicine and is developing a digital operating room program to complement that, growing rapidly. And that's based in Andover, Massachusetts. And Wound Management, which provides a large range of treatments for the typical (inaudible) wounds, is headquartered in Hull in the U.K. We do have a focused research effort in our research laboratories in York, which supports a reasonable research complemented by the development teams in each of the business units. We have 120 research scientists in Europe and about 600 development engineers in scientists around the group. Our strategy, I think, is well known to you. It's clear that our aim is to help people regain their lives by repairing and healing the human body. The market dynamics, demographics, consumer awareness are very, very strong. We look to build on our technology leadership to expand our markets. And you'll see today how we are able to drive organic growth by our innovative product pipeline and the way we're developing and segmenting our sales forces to access increasingly specialized customers. We continue to pursue some logistic technology acquisitions and we will spend time today talking about our most recent one, which is the (inaudible) resurfacing product (inaudible) and we look to build in the Smith & Nephew brand. We do look to help people regain their lives and we have here helped, as a company and as individuals, (inaudible) those who had to relocate from New Orleans following Hurricane Katrina. We've received some families who've run out of money and we've received quite a lot of coverage in the community as a result of doing that. It wasn't our aim, but it's part of our mission to help people restore their lives. If you'll look at our three businesses, the common focus on tissue repair is important. Skin tissue, soft tissue, joint and bone are our focuses, but the common focus is the repair pathway that links all these areas and the areas that our scientists and engineers work. This enables us to share the research burden going forward and build up capabilities in a way that we couldn't if we were operating as individual stand-alone companies. I think you are familiar with our first half trading highlights. Sales grew 12% for the group as a whole. Operating margin was 20%. Orthopedics led the sales group with 18% and in the U.S. was up 22%, a truly outstanding and market-leading performance. And our earnings per share growth is up 16%. Earlier this week we did notify the market that, going forward, as a result of Katrina impacting the markets in the southern central U.S., Louisiana and Mississippi, and as a result caused some competitive entries and developments in the knee market, we see growth being marginally slower than in the first half of the full year at 17%. Thomson StreetEvents www.streetevents.com Contact Us 4 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis We also see that the plan distributor restocking program with management in the U.S. has yet to click in. And so, we've targeted now a guideline of 5% sales growth for new management for the year. Together with an adverse shift in the dollar against the pound, we now see for the full year, gross margins around 20.5, 20.6% and full year EPS of 12 to 13%. And we put that announcement out earlier this week (inaudible). To round out the group overall, let's talk about the shape of the business, the position of orthopedics within it. Clearly, orthopedics is exactly half the business and wound management and Endoscopy are a quarter each. For the business as a whole, virtually half of it is in the U.S., less than 10% is in the U.K., so we are a truly global entity. And after the U.S. and the U.K., the most important in the market we're investing in and we'll talk a little bit about, is Japan, which is a great opportunity for all our businesses. In fact, as the orthopedic team will share, we just completed the acquisition of leading medical orthopedic distributor in Japan, which brings 35 sales reps to our team and has enabled us to split the business, in Japan, into separate reconstructive and trauma activities. This is very important, given the current market dynamics and our plans to introduce Japanese focus versions of our key and leading products. So, together, our three businesses offer over 1,000 innovative and cost-effective products that meet pressing healthcare needs. We try a lot of value to the customer in each of our product barriers because healthcare systems are stressed by cost, and we need to provide ways of helping the system reduce its cost of incident or procedure. That's been a theme of ours for the last seven to eight years and we're continuing looking for ways to accelerate it - easier after surgery, after recovery, less patient trauma are consistent themes (inaudible). So, together, our group offers a patient, surgeon, hospital and pair system is a powerful combination of choices across the world to help people regain their lives. So, without further adieu, I'm going to turn you over to Dave Illingworth and his team to talk to you about orthopedics. Dave is the President of our Orthopedic business. Joined us just over three years ago to lead our orthopedic business and build our industryleading growth momentum. He brought a new, focused approach to our customers and a driving approach to management to the business. So, we're pleased and proud of our orthopedic business and we look forward to Dave and his colleagues sharing this with you during the course of the morning. Dave? Dave Illingworth - Smith & Nephew - President of Orthopedics Thanks, Chris, and good morning to everyone. For those of you who are coming to Memphis for the second or third time, welcome back. For those of you who are making your first trip, welcome. We really believe we've got a good day set up for you. If you don't leave here excited, then we seriously have not done our job. So, we're looking forward to this morning. My focus is going to be on orthopedics, obviously. Let me tell you a little bit about the Company, how we view the marketplace and a little bit about our momentum. A little bit about the orthopedics business here in Memphis. We have over 70 years of history and we've been here in Memphis as an orthopedic company for that long. We have approaching 3,000 employees worldwide. We have manufacturing sites in multiple locations, the major ones being here in Memphis and in Tutelage (ph) in Germany. So, we truly have a global perspective on our business. What I want to leave you with - I'll just tell you the answer - is, we believe it's a very strong and good industry. We want to share with you our knock-em-dead performance in orthopedics and also we want to let you know and have you leaving here believing that we're not done yet and that we do have a plan. Our space is - I think it's important to give you an idea of how we look at our space. It's roughly $13 billion and grew about 13% last year on a constant currency basis. It would be the more familiar $17 to $18 billion space that a lot of you deal with, if you included spine and soft goods and bracing, etc., but we don't compete in those areas. So, the space that we're talking about is roughly $13 billion. For the first half of 2005, we saw the growth rates to be pretty much the same as '04 with 13%, which tells me that the growth momentum has continued. As the graph indicates, our space, if you will, is about a third hips, a third knee and about 20% trauma. The rest of it is split up with some of the other areas that we're competing in with bone graft materials and bone stimulation, etc. These are smaller spaces, but clearly they're growing at an accelerated rate. So, they're interesting spaces for us to be in. Thomson StreetEvents www.streetevents.com Contact Us 5 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis The drivers for this market really are not a mystery to everyone in this room, but let me just give you a little flavor and spin on how we look at it. The aging population is the single biggest driver in this marketplace, with the number of potential patients over the age of 55 going to double by the year 2020. Active people is the second biggest driver, in our opinion, and perhaps the fastest growing. This area includes a much deeper penetration of people who have been living with symptoms at a younger age, who believe that they can go and get an acceptable outcome from an orthopedic procedure and relieve some of the pain that they've been living with and let them get back to their lives. It's a segment that can really benefit from lesser invasive procedures than the bone stirring procedures, the unicompartmental knee, joint fluid therapy, the Birmingham hip resurfacing system, as we bring it into the United States, etc. Also the fact that the patient has much more access to information and is a more knowledgeable patient. So, they find it critical in the decision-making process for themselves to be highly aware of what their options are in the marketplace. Lastly, we do have price and mix going for us currently. It continues to be strong in 2005 regardless of thrust, regardless of what you've experienced or seen or read from some of the other companies and how they're positioning the marketplace. Clearly, the environment is changing. There is a heightened price sensitivity in the marketplace, in our opinion. So, we are clearly dealing with that. But for us, the price and mix scenario has still been very, very positive for us. Now, one of the things to remember is, we have the advantage of having a price portfolio mix that includes trauma and our clinical therapy business in our broader business, which helps us. Price mix in hips is probably flat right now, with the exception of DHR in Europe and Australia, while trauma is clearly enjoying an uptick in price due to the new DRGs that have come out and the Peri-Loc mix. I do want to make it clear to this group that we do not count on peer price increases in our long-term planning. We've said that over and over again. So, we are sensitive to the fact that, versus price in the marketplace, we need to provide value. We really believe that we need to bring products to the marketplace that have an economic value attached as part of a product. So, we are looking at things that not only provide new technology, but provide value and solutions in the marketplace. What we do believe is the simple fact that demonstrative economic benefits will guide the healthcare decision more and more going forward, and we have to be sensitive to this. You're all going to ask about gain sharing at some point during the day, so we're prepared for that. You're going to ask about GPL action, so we're prepared for that. And all of you have a concern - some of you moderate concern, some of you large concern - about pricing and mix. I can take any of these questions in isolation and talk at length about them, and we did last night in several sessions over our informal get together. But the point is that, over the long term, I think these things are somewhat irrelevant, because what the healthcare systems around the world need are solutions that lower the overall cost of healthcare and have a real economic value proposition associated with them. I think if you ask yourself a couple questions - would the healthcare system pay more for an implant that lasted long enough to eliminate revision procedures? Well, I think the answer is yes. That's how we're approaching our new product introduction. Would the healthcare system pay more for improved accuracy that eliminates second surgeries? I think yes, if we can figure out how to capture it. Would the hospital be interested in technologies that reduce O.R. time or resources? Of course, yes, and on and on and on. And I think if we approach the business like that with our innovation, with our new product development, with our start-up offerings we can continue to be ahead of this wave, which clearly is an issue in the marketplace today. So, what we believe is that we, as a company and as an industry, our driving theme is not just providing products, but providing value. What you should expect from us are more studies like this, which examine the cost effectiveness of bone stimulation and conservative treatment of stable, non-union fractures. This was presented at the International Society for Pharmacoecomonics and Outcomes Research this year. I'm not here to review the economics of the Exogen product, obviously, but rather to point out that clinical studies like this will increasingly focus on healthcare economics that consider the patient, surgeon, hospital, clinic and the payer system. We're moving in this direction and we fully expect the industry to move in this direction, as well. Thomson StreetEvents www.streetevents.com Contact Us 6 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis All right, so just to remind you of our performance thus far in 2005, in the first half, that we've grown our sales force to over 1400 reps, which has been a pretty consistent strategy for us. Our acquisition of Midland Medical Technology has now passed the first year mark, and we could not be more pleased with the performance of that business. And we are very excited about the fact that the expert panel recommended approval to the FDA for sale of this product in the United States, and we're anxiously awaiting the other checkpoints for us to - the other hurdles for us to get over in order to bring that very exciting technology to the U.S. market. In July, Chris mentioned that we completed the acquisition of Leading Medical, which essentially doubled the size of our sales force in Japan. It adds 35 reps for us and is a great step for not only penetrating this market, but allowing us to visualize the business there into both reconstructive and trauma sales channels. In the first half, we reported top-line growth of 18%, 22% in the U.S. We pegged the overall industry growth of 13%, so we're taking share of the market and we really think we'll take share in all segments. And I'm going to let the general managers of the businesses give you a little bit more color on these segments. Like many of you, we track the competitors, obviously, to gauge how we're doing in the industry and how the share movement is shaking out. We love this chart. As this chart indicates, in the first half the industry grew 13%. And I'm pleased that our bar shows that we grew at 18% and are really leading the space and taking share. This is very consistent with our overall strategy in that it's all about share points. It's not just one good quarter for us or one good half. We've been showing these charts over and over again. I guess when we stop showing these charts, you may want to ask us why. Put a little pressure on ourselves here. But we've been doing this for quite some time. And if you look at our five-year average growth rate, it's five years of outstanding growth against some pretty darn good competition. All of you know the competition, you know who they are, you know how aggressive they are. And we've been doing quite well. And just to remind you, this is on a constant currency basis. It gives you a sense of how strong the industry has been number one, but also of how we've competed against our competitors. Okay. Let me just talk a little bit and set the stage for the other general managers by talking a little bit how I see momentum in orthopedics, because clearly, we've had some outstanding results over the last few years. And the question we always get is, can it and will it continue? I think it can continue and will continue if you have a good plan. Obviously, you need a robust market to be competing in, but we do have a good plan. If I could summarize, I'd say the biggest impact on our business has been the divisionalization of our business and really focusing on the unique needs of the customer groups. We don't bring products to market and throw them into a sales channel. We understand. I think the key to our success is, we understand that it all starts with a call point. It all starts with, who is the customer? Where are you calling on them? And what are their needs? And then we build our businesses around that sales channel, around those call points. It's very, very difficult to take products into a sales channel that aren't natural. It's extremely difficult. It's actually, on the flip side, a heck of a lot easier to do it if you had very specific sales channels going to docks with very specific needs. The individual heads are going to talk about this divisionalization. We are clearly structured for the customer. From a technology standpoint, there is no other orthopedic company on the planet that has our range of bearing surfaces. It's a strategy that we have gone after from day one. We can walk into any account, anywhere in the world and say, you want metal-on-metal? For your specific needs, we have it. You want Oxinium on XLPE? For your specific needs, we have it. You want ceramic-on-ceramic for your needs and for your patient? We have it. You want your standard bearing surfaces because of the needs of your patient population in this situation? We have it. There is no objection to bearing surfaces that we cannot get over the hurdle on. I think it's a huge advantage for us. It gives us great flexibility in not having to go and sell a certain type of technology, but sell the benefits and the merit of each individual technology. It's clear there are trade-offs between these bearing surfaces and you know them. Thomson StreetEvents www.streetevents.com Contact Us 7 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis Also, DHR - it's the global leader in hip resurfacing and really has a lot of runway once we get this approved in the United States. Exogen and Supartz are not only the best technologies out there in bone stimulation and joint fluid therapy, but are the fastest growing by a very wide margin. And now, with CMS expanding the Exogen's use, we are even more excited about the future there. All right. The next 3 speakers are members of my staff and leaders of some very exciting businesses in their own right. Scott Flora is going to introduce our reconstructive division. You'll then hear from Mark Augusti on our Trauma Division and Joe Woody in our Clinical Therapies Division. So, with that, I'd like to introduce Scott Flora. Scott Flora - Smith & Nephew - SVP and General Manager, Reconstructive Division Thank you, Dave. Good morning to everyone. I'd like to welcome those who have come to visit us in Memphis and those who have dialed into the Webcast as well. In my 10 years of orthopedics, this is a truly exciting time for Smith & Nephew in the orthopedic space, especially the reconstructive space. And we have a great day planned for you, and I'm really excited that we're going to share some of the advanced technologies that we have to offer to our customers, as well as some of the educational opportunities that we're providing our customers. And I think it's safe to say, when you leave I think you're going to be truly excited about what we have to offer our customers and compete in this great space. To give you some context around the space the reconstructive division competes in, we define our space as hips, knees, bone cement and shoulders. Inclusive in that is also the technologies and procedures that allow surgeons to put those products in, such as computer-assisted surgery and minimally-invasive surgical techniques for both the hips and the knees. Market drivers in this space, as Dave talked about, are the 2x growth we see by the year 2020 and the 55-year-old population. In the reconstructive segment, that 55-year-old population is a lot different than our parents' generation because that population has been more active. They've had minor injuries to hips and knees coming into the space. And therefore, the active patient driver, diffusion is going to accelerate the pace of procedures that people want and procedures that will help people return to an active lifestyle. That's why we're extremely excited about this active people market segment. Also, within this segment, those patients are much more informed about treatments and opportunities that are there for them. It's not just the patient that seeks out the information. Often it's the caregiver that the younger patient, that's on the Internet, that is finding out what is going on and new techniques and new procedures, that is driving the expansion in this market. As far as price and mix, as Dave talked about, we see a benefit of mix in the reconstructive business from the active patient segment because the majority of those patients will be non-Medicare patients. And as we enter the revision market in knees for the first time this fall, we expect some benefit of mix from that as well. We also have the DRG, was up in 2005. But the biggest - I think the biggest impact will be the fact that there is a DRG increase or a revision surgery, which recognizes the difficulty and the increased cost in doing those procedures. Our first half performance in recon was very robust. The global knee growth was 18%. 21% in the U.S. That continued to pace the industry despite competitors launching new products in the second half of '04 and the first half of '05. We continue to have success being driven from Oxinium and from MIS techniques. And within that global market, we see the new market growing at mid-teens and the hip market growing at high single digits. The broad drivers in the growth and success of Smith & Nephew in the first half continue to be focused around our Oxinium knees and our Oxinium hips combined with our MIS techniques that we've launched into the market. We've also seen favorable results from our BHR acquisition in Australia and Europe and continue to see benefit from the focus of our sales channels around the world as we divisionalize our businesses and have focused sales efforts on our customers. What will sustain our growth as we go forward? Our strategy in recon is innovation to meet patient demand. Our momentum will be driven around the active people segment. As Dave said, active bearings is a key strategy within that. No other company can offer the orthopedic surgeon all four bearing surfaces for their patient. We will be able to do that once we have the approval of the Birmingham hip resurfacing product. Thomson StreetEvents www.streetevents.com Contact Us 8 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis Our second major strategy is built around our geocentric structure. And our geocentric structure allows us to have an increased customer intimacy in the reconstructive business. As we move new innovations into the marketplace, we need a specialized sales force to meet the needs and the acknowledge the demands of our surgeons as we launch MIS techniques, as we launch hip resurfacing techniques, as we service revisions to our customers. We need a specialized hip and knee sales force going forward. And we think, through geocentricity, we can execute that geographically, based upon the needs of the customers around the world. New products continue to be a driver for the reconstructive business. 20 to 25% of our revenue is derived from new products annually, and we continue to focus on that metric as we go forward. What I'd like to do now is talk to you about the expanding product pipeline that we have going forward. Momentum and recon will be driven largely around our product strategy in advanced bearing surfaces. We will offer all four advanced bearing surfaces, which allows the surgeon flexibility to treat the needs of the patients or the flexibility of the desired procedure of the orthopedic surgeon. We are the only company that will be available to do that for the orthopedic surgeon. Our customers prefer Oxinium on a cross-linked polyethylene and that continues to be the driver in our hip portfolio today, due to customer preference. And it's not just because it's a product of Smith & Nephew. Our customers prefer the performance of the Oxinium cross-linked polyethylene combination. Two additional drivers for the reconstructive business will be the Birmingham hip resurfacing product. We're very excited that the advisory panel recommended this for approval. We look forward to the approval and we look forward to the opportunity to educate our customers on the benefit for this product that it offers, which are a low range of motion. It's a highly stable construct for the young patient. Patient demand is a key driver of this product because patients are aware of it and they're aware of the benefit it has in its bone-conserving offering. And it is the number one hip resurfacing product globally, with over 30,000 documented procedures in Europe, Germany and Australia and around the world. You will see today a hip resurfacing lab and we will show you the product and demonstrate the procedure. And the exciting thing about this product for us is, once we gain approval, we'll have the opportunity to take the lead in how the training for this product is done in the U.S. And it's going to open up a number of opportunities for Smith & Nephew to work with customers that we've never worked with before, as well as working with our customer base and responsively growing this product out to the U.S. market. The Accuris unicompartmental system, it's the only unicompartmental system that offers Oxinium as its thermal component. This is a key driver for the active patient and for the longevity of a unicompartmental knee. We put a one-two punch in combining it with our propietary Accuris instrumentation and surgical technique. This has been a key driver and we are going through a re-education process with customers and potential customers as we're putting increased momentum into that product for the second half of the year. An additional momentum for the reconstructive business and how we sustain our growth going forward, we'll continue to be focused on surgical techniques and education. Computer-assisted surgery and MIS, Smith & Nephew has a leadership position in those two surgical techniques. Our minimally-invasive hip and knee systems are well accepted. Our computer-assisted surgical system is around the fourth to fifth division. The AchieveCAS system that we are launching offers a low-cost, simple-to-use system for the orthopedic surgeon that doesn't add confusion in the operating room and allows the hospital to acquire a computer-assisted system at a lower capital acquisition cost. We also have the availability to put the AchieveCAS system in our - partnered with our Endoscopy company, putting it into our digital O.R. So, for those customers that want to buy digital O.R. and have the AchieveCAS system standardized within that system, we can work that out for them. We have trained over - excuse me, we have placed over 5,600 MIS knee sets since 2003. We've placed 1400 this year as a result of our stepped up training program on MIS procedures for both hip and knee, and we trained 700 surgeons this year and since 2003 we've trained 5200 surgeons on Smith & Nephew MIS techniques. The key to the popularity and success of our program is the fact that we don't force one technique to our customers. We have worked with leading surgeons around the world and come up with a number - with several techniques that are reproducible and offer a quality outcome and a shorter learning curve for the orthopedic surgeon. Thomson StreetEvents www.streetevents.com Contact Us 9 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis We are also focusing on standardizing our instrument sets. We have - our Genesis II knee system offers the ability to do an MIS technique, as well as a regular, standard knee through one set of instrumentation. This makes it a lot easier for our sales force and the O.R. to service a case. And it also is a better utilization of our assets, and we'll be working to do that within our hip systems. The educational aspect of our business is key. We've been a leader in education the last five years. And you will visit the Mobilab, which is a very - we're very excited about that because it's a very flexible way for us to bring new techniques out to the marketplace. Surgeons are busy today. A lot of surgeons don't like to take time to go to courses, especially residents with the new work regulations that have been put in place. This allows us to take the Mobilab, take it to an institution and we can teach surgeons, residents. We can teach allied health personnel. We can also do programs for patients, and we can work with those active patients that are interested in seeing today's state-of-the-art products. The level of differentiation you'll see in the Mobilab is the competitive education trucks that we do have the capability of doing categoric training in the truck and it will be a key differentiator for us in the marketplace. New products are the lifeline of the reconstructive division, as I've said, and we're committed to the 20 to 25% growth number of percent of sales for products. If you look at 2005, we did launch our ceramic-on-ceramic bearing offering, which helped us with the addition of the BHR products. That was the key link in being able to offer all-bearing surfaces to surgeons. And we rounded out our corporate doctoring with kind of the new MIS instrumentation and we did launch our AchieveCAS hip and knee systems this summer. We are very excited, next month, that we'll be launching our Legion Division knee system, which is a very key opportunity for Smith & Nephew. We've never had a complete knee division system before that would offer one Oxinium knee revision system with a high-tech, state-of-the-art instrument set that can be used with both Profix and Genesis II customers. So, we have one knee revision system that our customers can now buy from Smith & Nephew versus using competitive systems. And this will offer our customers a great opportunity because they will be able to further work with us and our sales reps, and it gives us the opportunity to continue to serve their need. It will also allow us the opportunity to go after competitive share because we do have a competitive new revision system now in the market. So, we're very excited about Journey knee. We'll be rolling out surgeon training starting in October - rep training in October, surgeon training in November. Another key product launch for you to here mark will be at the Academy meeting in Chicago. We'll be launching the Journey knee system. On the tour today you'll see a lab on Oxinium and the Journey knee system. I'll just tell you that the line that I'd like you to remember is, the Journey knee is designed by nature, but it's shaped like technology. And the differentiation on Journey is that it is a high-performance knee that will allow us to compete with other high-performance knees in the market with a proprietary locking system. We spent years of research studying the natural kinematics of how patients walk and we feel that this knee provides the patients a more natural kinematic benefit after surgery. So, I'm excited to share that with you later today. And we are in clinicals now on the product and we'll be sharing that - launching that out for our customers at the Academy meeting now in Chicago and next month. Finally, we'll be launching the Emperior Modular Hip system, which will give us an opportunity to compete for additional share with customers that prefer modular hips to primary and revision in the hip space. And last, but not least, the Birmingham hip resurfacing, which you will also see a lab on that today. Once we have FDA approval, when that happens, we will be rolling out a very comprehensive training program for our customers. And again, that will offer us the opportunity to expand the number of customers that we work with in both hips and knees and work toward the importance of offering additional hip products next year, like Emperion and our Anthology (inaudible) that we're rolling out next year as well. In closing, I am very, very excited about this space because we do have strong industry fundamentals and we do have a growth opportunity in the market because of the active people driver in this market. And active people is global phenomena. It's not just a U.S. phenomena. We see it, and that's why the Birmingham hip resurfacing was so attractive to us because of the opportunity globally. We've posted strong growth and we're confident that we have the strategy and the organization in the pipeline to continue that strong growth. I am very excited about the group of engineers and marketing team that I lead, as well as the world-class sales force that we have out in the market that meets the needs of our customers day in and day out. Thomson StreetEvents www.streetevents.com Contact Us 10 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis So, we're very optimistic about keeping our momentum going and we're very excited about this reconstructive space. And if I did miss anything, after last night talking with most of you on - none of you are shy and I'm sure we'll be able to catch up today, and any questions you have I look forward to answering. Now I'm very happy to introduce to you Mark Augusti. Mark is the General Manager and Senior Vice President of our Trauma business. I hired Mark as, like I said, in the Trauma three years ago, and Mark has been an outstanding performer at Smith & Nephew and he's doing a great job in the Trauma business and he'll share with you his plans and comments. Mark? Mark Augusti - Smith & Nephew - SVP and General Manager, Trauma Division Thanks, Scott. Good morning, everybody. Thanks for joining us. I'm sorry I couldn't spend more time with everybody last night. I had the opportunity to be out and see some customers. And I'm pleased to say that it's really great to see that the customers are feeling the stir that I'm going to tell you. I can tell you that, over the two and a half years I've been here, the change that we've made and the effect that we've had in the marketplace is real palpable, and it's just extremely rewarding from a professional standpoint and also a proponent standpoint, as you'll see. This is a great opportunity to provide some context to the trauma industry. It's not quite as glamorous as the recon market space, but we love it. We love our space, and we're passionate about it. It's about $2.5 billion, growing at about 11% constant currency. As you can see, 80% - a little over 80% is internal fixation versus external fixation. **There are a few market drivers, but the really key ones are the demographics, the same demographics that are driving the recon and (inaudible) marketplace. They are certainly also driving our marketplace, especially incidents of osteoporosis. With that growing phenomena, what we're seeing is a lot of wrist fractures and hip fractures. Those are two real big growth areas with the aging population. And then, of course, lifestyle. As we all stay active later on in life and the weekend warrior phenomena, we tend to see a lot of injuries. I'm sure you're seeing it drive sports medicine as well. And then, of course, everybody watching (inaudible) phenomena and that type of thing. So, those are really the two things that are driving this space. Certainly, technology is going to continue to drive it, the new mix shift, which we'll talk about. Pricing, we've touched on it earlier. Trauma, the DRGs are expected to be up a few percentage points in '06, but it's not in our plan from a longrange standpoint to expect to continue that. It's really about driving innovation in this space. We'll talk a little bit about the success in the trauma division. As I said, we're passionate about this space and we're really proud of the results that we've been able to drive for the larger group. The first half market growth is about, a little higher than 11% as we reported in the '04. So, we see really good growth for the first half of '05. We had 4% worldwide growth, and of course we had spectacular growth in the U.S. We'll talk about that strategy, where we continue to focus on reps and products. We see continued success in our key brands, the Trigen IM Nailing system, the Taylor Spatial Frame system, and of course, as you're all aware, we launched the Peri-Loc platform earlier this year, and that's been a phenomenal success for us. Of course, this is the minimally-invasive, fully-contoured and locking system. So, it's pretty much all in one system. When we talk about what's (inaudible), the question is, is this kind of performance going to be sustainable? We absolutely think that it is. There are three real reasons for that. We're just going to continue to drive what our strategy is. And that is, first is, a real focus on customers. As was mentioned earlier, we start at the call point, we start at the customer quantity and we're big in their business (inaudible) from that. And that first phase of contact is the sales force. And I'm pleased to say, not only have we done this sales specialization strategy in the U.S., but we've now carried that over to Europe, as well as Japan. The integration of the Leading Medical acquisition has allowed us to do that, and we're expecting to reap a good performance in those areas. Thomson StreetEvents www.streetevents.com Contact Us 11 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis The other thing, which we'll talk about, we've moved into the new building, which you'll see later. But it's not just the sales force. We've now taken the other functions and the businesses and multiple functions - HR, finance, operations - and we focused on businesses that way. And that's been a real benefit. To talk a little bit about medical education first, the new products, let's talk about the sales force. As we mentioned, we've added 30 reps. We've got approximately 160 total now. We will continue to add people in the U.S. As I mentioned, we're planning to do that. We already started that in Europe. We'll see those benefits later on. And it's happened in Japan. Part of this focus has really given us really dedicated customer service to the traumatologists, to the level 1 and level 2 centers. And the big thing about these reps is, we're doing a very integrated training program with them. So, when they get out there, we get them up on their feet faster and they're actually able to be a very valuable consultant to the surgeon. And that's a big thing in trauma because it's a very tough area when you cover the range of fractures that occur and the range of fixation options that exist. Let's talk about physician education. That's another key strategy for ourselves. We trained over 2,000 surgeons. Fully more than 500 people have been trained on the Peri-Loc system -- surgeons trained on that system. Continue to invest in resident education and partnering with teaching institutions, where obviously, our recon brothers in the Mobilab system. As a matter of fact, the Mobilab is going to the Legion Medical Center here in Memphis and we'll be doing some external fixation on that immediately. So, we're going to get a lot of turnover use out of that asset. We launched a real unique partnership with OREF, the Academy, which is the (inaudible) online. We have a five-year, exclusive partnership to sponsor their Web-based teaching platform for physicians and residents. And we continue to maintain all of our strong, professional relationships and support that, and also fellowships in the areas of circular fixation and trauma, in general. And of course, the lifeblood of what we're doing and where we will let the industry drive (inaudible). And the thing we like to talk about in trauma is making sure we have a full bag. We want to make sure that whatever the trauma surgeon chooses to do for a particular case, we're able to provide that option for him. And that's real important because there are many schools of thought, many different philosophies. There's not just one way to fix a fracture. And you have to be able to talk about the pros and cons of the different methods of treatment and be able to provide the different options that exist there. So, the full bag is very important for us. It's building up our platforms in Jet-X, Trigen and Taylor Spatial Frames. In '05 we launched the Peri-Loc system, as I mentioned previously. We also updated the IMHS system, which is for proximal femur fractures and hip fractures. That spaced off a very successful IMHS product. And then of course, the first product that's been focused to a specific market is the Asian IMHS, and that, of course, will be going into Japan. And it's great now that we have the dedicated sales force. We're able to much more quickly drive market adoption, get up to speed on that product and focus on it in the Japanese market. In '06, we'll be continuing Trigen extension with the Intertan product. We'll be launching the upper extremity systems, Peri-Loc plating, system Peri-Loc, and we'll continue to invest in the Peri-Loc platform beyond. So, in summary, as I said before, we love our space. We're passionate about it. What we're basically doing is fixing broken people, and that's very rewarding, from both a professional and personal standpoint. The industry has got strong fundamentals. As we said, we see kind of low teens growth continuing forward. We're continuing to execute on the sales force strategy, which has been very effective for us, and we'll continue to launch unique, innovative, and frankly, extremely clinicallyrelevant products to this marketplace. So, we appreciate the opportunity to talk to you about that. As I said, it's been about two and half years since I joined the Smith & Nephew team, and I can tell you, the team that we've built in Trauma is just really dedicated, extremely passionate and frankly, having a lot of fun. And as you'll see later, they all love the new offices, so it's great. Thomson StreetEvents www.streetevents.com Contact Us 12 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis With that, I'd like to introduce Joe Woody, who is the VP and General Manager of our Clinical Therapies Division. He's going to touch on that and some of the great things that are going on over there. Thanks. Joe Woody - Smith & Nephew - VP and General Manager, Clinical Therapies Division Thank you, Mark. Well, we're almost home on the presentations and into the questions. But I would like to welcome those of you on the Webcast, as well as those of you that I met last night and all of you that are here in the audience. This is exciting for me because my team has really accomplished some great things over the past two years, and I'm really proud to share with you what we've done and what we're doing. So, when I thought about this presentation, I thought about this. I only started with the Company two years ago. When I met them at the first Clinical Therapies sales meeting (inaudible) in a room about this size, there was about 50 sales people. Now when we have a Clinical Therapies sales meeting, in less than two years, we have grown to 182 people in that same room. To me, that speaks volumes about the growth of this business. So, let's talk about the business. First, I think it's appropriate to kind of frame what the Clinical Therapies Division is because it's new to everyone. We're a two-product division. We're a specialized sales channel and a specialized reimbursement channel, that serves well over 180 in the U.S. today. The sales channel is primarily direct. Supartz is a localized pain management treatment for osteoarthritis of the knee. It's a joint fluid therapy. And Exogen is an ultrasound device, which accelerates the healing of fresh fractures and treats post-operative nonunion fractures. When I think about products, I think about, what are the unique attributes of the products? I think about what differentiates us in the marketplace. If you think about that with Supartz, the fact that it has a very strong safety record and the fact that it's the most prescribed joint fluid therapy worldwide. If you think about Exogen, you think about it being the only known healing device to prove for fresh fracture and nonunion, and the fact that it only requires the patient to use the device 20 minutes a day, making it the smallest amount of treatment time of all known healing devices. So, those are the products, but who does Clinical Therapies compete against? We compete against both pharmaceutical companies and orthopedic companies that were unique and that were in the orthopedic office with the orthopedist all day. The pharmaceutical companies that we compete against primarily in the joint fluid therapy space are different in that they carry multiple products and they call on a series of physicians, or physicians outside of orthopedics. The medical device companies that we compete against spend a predominate amount of their time in the O.R. What's different about our strategy is that our sales representatives do not have to divide their time between the O.R. and the office. They're in the office 100% of the time. So, the next question you might ask about this is, does this approach work? And I think it's a definitive yes. We estimate that we took over four points of market share from the likes of Gemzyme and EBS Biomed in 2004 with global sales growth of 44%. In the U.S., amazingly, we produced 50% growth during that same period and the momentum continues for the first half of 2005 with 46% global growth. This means three things to me. We're clearly taking share again. We're going at four times the market rate and we're doing this in an environment where a lot of our major competitors are growing with single digits or, in fact, negative growth. But our market is different, so let's talk about the market for a minute, because we actually, uniquely, participate within a segment in those two markets. And here's what I mean by that. In joint fluid therapy, we're very focused on orthopedic surgeons, where a lot of our competitors are focused outside of that space with different positions. In terms of the bone joint device, Exogen, we're not in the spy market. So, our market, and particularly joint fluid therapy, is a little bit more difficult to gauge than, say, knees, trauma and hips, in that we compete not only against joint fluid therapy companies, but against prescription systemic drugs, anti-inflammatories and other procedures. You could say about joint fluid therapy that it is driven by the same demographics that drives the recon business that Scott Flora has. Thomson StreetEvents www.streetevents.com Contact Us 13 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis But here is something, in particular, I think you should note. Today, only about 8% of all eligible patients receive LA (ph) treatment. That's because cocktail inhibitors and other treatments were more widely accepted over time as they were introduced. But today, with the issues around cocktail inhibitors, a lot of patients are seeking alternative therapy, and joint fluid therapy is benefiting from that. In terms of Exogen, we believe there's a lot of growth, still, in the fresh fracture market, as well as the nonunion market, but specifically, we believe there's a tremendous opportunity for Exogen in the high-risk, fresh fracture area of diabetic patients, obese patients and smokers. As Dave pointed out in his presentation in the health economic model for Exogen, our intent is to work on health economic models to demonstrate the benefits to Exogen payers. So, two things drive momentum in Clinical Therapies. Clearly, it's the channel, and I want to spend a little bit of time talking about the channel. Our formula for success is similar to that of Mark Augusti's team in Trauma, in that it revolves around a very focused approach to meeting customer needs. There's no question that we've invested in the sales channel because it works. Again, now totaling 182 sales representatives, having added 55 this year. The sales reps that we hire have varied backgrounds, medical device and pharmaceuticals. But we've been uniquely successful in that they've been able to grow market share very quickly and drive revenue very quickly. That's a compliment to our sales management team, and I think it's also a compliment to the focus and training that they receive. When a salesperson is hired, they're trained to manage the office call for the position in their staff, which is a very unique environment. A big part of that is educating the staff on reimbursement and insurance coverage needs. But in a sense, kind of what we've done is we've created a hybrid sales force, one that's able to sell the technology and the science of our products, manage the reimbursement, but also create what I feel is a very unique relationship with the orthopedic surgeon. We all know that's very important in the orthopedic space, and I think that's a cornerstone to our success. So our growth has been exceptional because of the channels, but I think our growth has also been exceptional, excuse me, because of the investments we've made in the products. Some of the outcomes of that are programs like the Orthopedic Research Society paper at this most recent academy - there were 19 papers on exigent ultrasound therapy represented on the mechanism of action. To promote the further understanding of the science of how our signal works and how it accelerates healing. This not only helped us to drive our sales efforts this year, but also helped us to expand our reimbursement coverage as evidenced in the recent CMS decision to expand Medicare coverage for exigent. This decision reversed a surgical caveat that required a prior surgery for use of a device. I think this is particularly important for two reasons that Dave pointed out. One, it leveled the playing field for us to attract new customers that we weren't able to capture prior to this turnover, and two, private payers look to CMS to make their decisions on guidelines as they go forward. But we also said on launching our new products in 2006. The EXOGEN 4000plus. What you will see is pending approval, obviously, from the FDA, and this device provides a more patient-friendly module that should drive more patient compliance, which is already among the highest in the industry. In terms of SUPARTZ, we introduced the low-lock syringe and single-syringe packaging, because we listened to what our customers wanted. And what this does is it allows physicians to inject more easily and manage their inventory more readily. So we'll also invest in additional clinical studies for SUPARTZ and move joint fluid therapy utilization to other joints. We'll invest in nextgeneration products and we'll invest in our label. So, the question is, what's next for clinical therapies and how do we maintain our success? As we move forward into the end of the year of 2006, I think we'll want to continue to do what we've been doing and add more fluid treatment. I'll be spending a lot of time with Gordon Howe and his group in looking for new products that fit our strategy and provide value to the orthopedic business plan. In fact, you can expect to see as many as 300 clinical therapies sales reps in the next several years. But we're also going to take what we learned this year in terms of our scientific and reimbursement expertise and expand that to Europe and very select markets. We think now we have the scientific evidence and the clinical story to present in Europe. Thomson StreetEvents www.streetevents.com Contact Us 14 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis We talk a lot about expanding the sales channel, but for a moment I want to talk about expanding the reimbursement channel. Well, reimbursement means a lot of things to a lot of people, but here's what I mean when I talk about expanding the reimbursement channel. We'll invest in government affairs. We'll invest in internal pay relations, we'll invest in external pay relations, and that will allow us to manage the entire process from CMS to private payers to specialty pharmacies and pharmacy benefit managers. This will give us a proactive approach that just does two things. It allows the office to measure reimbursement more easily and make it easy for payers to contract with us. There's no question that the clinical therapies division is kind of a unique channel that sits within Smith & Nephew, and it provides an opportunity for us to attract new customers into the Smith & Nephew umbrella. And, recently, our recon, trauma and clinical therapies sales representatives have been sharing accounts and contacts and relationships in a non-threatening, non-territorial way. We've also been doing that across GBUs. We have programs with the Smith & Nephew Endoscopy group, as well as the Smith & Nephew wound group. The kind of success that comes from those programs is evidenced in the success that we met in 2004. We actually opened up 5,000 new accounts. That's contacts with surgeons where the following company, did little or no business. So, clearly, we're going to continue along that vein. In closing, I'd like to say that the future is very bright for clinical therapies. I think we aren't finished yet with the success, and I often think, at times, with my management team, as we measure our success, and we just sit and we reflect on just how much fun we're having growing this business with the same speed and execution required of a startup business, but doing that within the solid foundation of a company like Smith & Nephew. So I'm definitely excited, if you can't tell, about where we're going. I'm definitely excited about what we've done. I look forward to a lot more detailed discussion about our business during the tours, but right now I'd like to bring Gordon Howe back up to close the presentation session. Gordon Howe - Smith & Nephew - VP of Strategy and Business Development, Orthopedics Thank you, Joe, and thank you to all the presenters. This will close the formal presentations, but before we end, I do just want to remind you that I think the message that we're trying to convey today. You continuously heard from everybody about our belief that this is a strong industry, and it's not just people getting older, creating opportunity to replace older and diseased bones, but it's also expanding the space through the use of technology, bringing in a younger patient who currently has no access to solutions - has no solution, rather, to the pain or debilitating state that their joints may be in. In addition, we have alternative therapies, which Joe just shared with you, which is also expanding by giving other alternatives for patients to deal with their osteoarthritis pain. So this is a good industry and we feel very, very strong about its potential over the long term, the next 10, 20 years. Our performance you've seen and we believe very strongly we'll continue to perform well and continue to lead the industry. We have momentum. We talked about the fact that we acquired a distributor in Japan to further penetrate that market, where we're really not a big player at this point in time. We're launching a new hip and a new knee relieving system, an entirely new total knee system in 2006. We have a new mobile training facility to reach out to more surgeons and OR staffs with our education programs. We have a new global headquarters to represent our trauma and clinical therapies business. So we really feel pretty strongly about where we are. I think a lot of what you've seen today highlights how we're preparing to uniquely take advantage of these opportunities in the future. So this closes the formal presentations, and what I'd like to do is open it up to questions and answers to the investors and analysts that have joined us here in Memphis. I want to remind you, this is a Webcast event, so I'm going to ask is that you raise your hand if you have a question. We do have microphones around the room. And if you could state your name and who you're with, you can address your questions to anyone in particular on a panel, or to the panel in general. So we'll begin ... QUESTION AND ANSWER Robert Robertford - Citigroup Smith Barney - Analyst Thomson StreetEvents www.streetevents.com Contact Us 15 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis Hi, it's Robert Robertford (ph) at Citigroup Smith Barney. Two questions, if I may. First of all, could you give us an update on macrotexture knee, specifically how we determine scientifically what the cause for those failures was or why that didn't work? Just more of the forwardlooking things so we can be sure that kind of problem will not recur perhaps on future product launches. The second question would be, we've heard a lot today about how strong you're growing, and the growth is great, I think the industry is great. You guys are obviously very good within that. But a question to Chris, perhaps, and that is that, as the Chief Executive, as you look over your business, is there any part of the business where you think growth is maybe not quite what it could have been, or which one that you'd like to see a bit stronger growth. If you could give us an update on maybe one or two parts where you would prefer to see a bit higher growth. Thank you. Unidentified Company Representative I'll take the first part of it. As much as everyone in this room, including us, would like to have an absolute clear indication of what the source of the issue was on macrotexture, it's actually multifactorial in our belief. We've had really the - an all-star team of people on a global scale looking at this, and literally all over the world. Some of the best people are the Josh Jacobs, et cetera, et cetera, that have looked at this and done studies and tried to understand what the source of the problem was on the surface. And the fact of the matter is, we think it's a little bit from multiple factors. And what we've determined is that in the future - I think the second part of your question is the better part of the question now, because really the macrotexture surface is behind us. The better part of the question is how do we make sure that this doesn't happen in the future, because clearly we don't want it to happen in the future. Our doctors, our surgeons, don't want it to happen, and our patients don't want it to happen. We have actually taken some pretty bold moves. Number one is, we are looking at scientifically trying to design a model, a predictive model, in the future, for new surfaces. So we have a few people working on that. Secondly is we've been very proactive. As of about a month ago, we hired a Medical Director for the company. It's the first time that we've had an in-house Medical Director. This gentleman, his name is Peter Heeckt. He was the Medical Director for Fresenius, had responsibility for over 65 hospitals around the globe with Fresenius. He is a trained and board-certified surgeon. He has experience in orthopedics, obviously, with not only that but his grandfather was a fairly famous surgeon in Germany that developed quite a few innovative products, and his responsibility is going to be for patient advocacy, patient safety. That's it. He's going to work with us a little bit in areas of innovation, because he has a very rich scientific background, and he's a good thinker. But his responsibility is patient safety and patient advocacy. So we feel very good about the steps that we're taking. We don't want to go through this again. We caught it fairly quickly. It doesn't seem like it with the number of revisions that we've done, but that's where we are right now. I wish I could give you something definitive, but we've sort of closed the book and moved on and believe that it is many factors, actually, that caused it. Chris, do you want to take it? Christopher O Donnell - Smith & Nephew - CEO I'm just reading forth what Dave said. The issue of course is sorting out the interface (inaudible) into the future and I'm really pleased with the program the guys have in place between orthopedics here and our research group, who's done this very, very intensively. Growth in the business, we're pleased and thrilled by our orthopedic growth. It is market leading. We are backed by one percentage point, but we're still pleased and thrilled by that. Our endoscopy business is ticking upwards in growth, and we will - optimistically, we'll get that business into a sustained double-digit growth business from the next year onward. Thomson StreetEvents www.streetevents.com Contact Us 16 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis Clearly, we are disappointed with the drop in wound, but baby boomers have yet to hit that area, and we need to take some steps to get that also up into double digits, and luckily we've got the actions in hand to do so. And that will give the group as a whole a positive uptick, as orthopedics continues to go strongly. Unidentified Audience Member (inaudible - microphone unavailable). All right, within orthopedics, there's nothing that you're not quite there? Christopher O Donnell - Smith & Nephew - CEO I don't think you need a poster on that, you know. Good one! Within orthopedics, we've got really excellent growth. It's individual markets, and they fluctuate from time to time, but the growth is very strong across the business. And there's really great rivalry between our two businesses to see who can really generate the biggest growth numbers, too, which is also exciting. So thanks very much. Mark Mullikin - Piper Jaffray - Analyst Hi, Mark Mullikin, Piper Jaffray. A couple of questions, first for Scott on the reconstructive business, and then one for Mark on trauma. First, just to scope out the Birmingham hip opportunity in the U.S. a little more, can you give us some color on the customer base for that product? Is it incremental to your existing customer base? Is it a younger patient base, or do you expect some of it to be patients who may have received a total hip replacement previously? And what's the pricing, I guess, relative to, for example, an OXINIUM total hip on the Birmingham? Secondly, what percent of your reconstructive business is for vision, and then I have one question for Mark after that. Unidentified Company Representative On the HR, it would not be for a patient that had a previous total hip replacement. So it's going to be for a younger patient, and there is a specific set of indications. It will also open up - we will open up new customers, and then there will be some of our existing customers, of course, that will come over and want to use it. But it cannibalizes a small percentage of where it delays a hip procedure for a younger patient. And then that orthopedic surgeon will decide what's best for him, the hip resurfacing, or to put a large metal or OXINIUM head on a patient with a standard synergy stem, and that will all be based upon what the orthopedic surgeon rules is best for the patient, based upon the quality of bone. Our percentage of business on revisions, knee revisions, is very small, minimum. I can get you the exact percentage later, but it's ... Mark Mullikin - Piper Jaffray - Analyst What about on the hip side? Unidentified Company Representative On the hip side, 5% on hips, and it's an area we'll be focusing on more. Mark Mullikin - Piper Jaffray - Analyst Okay, and can you comment on the pricing of the HR relative to a total hip? Unidentified Company Representative Actually, I think we've pretty much made the decision that it's too early to talk about pricing, because we don't have an agreement amongst ourselves yet. So I think the next time we get together we can talk a little bit more about that. Thomson StreetEvents www.streetevents.com Contact Us 17 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis Mark Mullikin - Piper Jaffray - Analyst Okay, fair enough. And then for Mark, the plans to pair off going into 2006, how many surgeons do you expect to train? How much revenue, sort of roughly, are you targeting for that product into '06? Mark Augusti - Smith & Nephew - SVP and General Manager, Trauma Division Well, we don't break out revenue separately. Regarding surgeon trainings, we did - we did 500 during the initial launch. We expect to do more than that, actually, for '06, because people want to look at the product a number of times. There is continuing training of new residents that are coming through. Plus, with the new extensions, like the upper training system, we're going to have to train on that as well. Our commitment to training is going to be as much or greater next year. Brian Wong - First Albany - Analyst Brian Wong, First Albany. I was wondering if you could comment on your ceramic on ceramic launch, how that's going and what percentage of your hits do you see becoming ceramic on ceramic. And then secondly, you mentioned on your call earlier that you were seeing that Biomet and Johnson & Johnson were giving you competitive pressure. If you could maybe give a little more color on that, what makes you say that Biomet and Johnson & Johnson? Christopher O Donnell - Smith & Nephew - CEO Do you want to take that? Mark Augusti - Smith & Nephew - SVP and General Manager, Trauma Division Sure. On the ceramic hip launch has gone out slower than anticipated because of this - the popularity of the OXINIUM thermal heads with crosslinked polyethylene. So it isn't often that our sales force can come in and they can say, we have the ceramic on ceramic too, but we generally lead with the OXINIUM and we've been very happy with that launch into the market and have been able to compete effectively that way. Why we pay Biomet and why we pay Johnson & Johnson, Biomet has launched a new system into the market and they're giving evaluations. They have brought new products in. We've been taking market share for the last 10 quarters, and DePuy, with their stepped-up marketing of their mobile platform, as well as (inaudible) launch of the new knee system, there's opportunities for customers to try new systems and those competitive efforts have - some of our surgeons have tried those products. And then as we launch our new portfolio, we're anticipating the same kind of effect on the marketplace. Brian Wong - First Albany - Analyst And what percentage did you think ceramic on ceramic can reach for your hips? Mark Augusti - Smith & Nephew - SVP and General Manager, Trauma Division The percentage ceramic on ceramic can reach? That's up to our customers. Our customers are voting strongly right now that OXINIUM is the clear winner for them, and I would say low. Mark Landy - Susquehanna Financial Group - Analyst Mark Landy, Susquehanna Financial Group. Chris, I've also gotten the question in the past regarding the FDA process of resurfacing, and you've been very political in trying to comment there. Maybe now that you've gone through the process, can you share with us some of the main issues that the FDA has with the trial design and Thomson StreetEvents www.streetevents.com Contact Us 18 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis requirements from a failure (ph) perspective, so that we can maybe better understand the lease that you have in this area with your competitors, given that you have competitors (inaudible) at the FDA? Then, kind of following on, the FDA was fairly critical in some respects of the trial design. Can you maybe just walk us through what you learned from that and how things will change going forward? And then, lastly, probably more broadly, the FDA seems now open to European data. How do you think this will change the dynamic for orthopedic clinical trials going forward with respect to yourself and the industry as a whole. Christopher O Donnell - Smith & Nephew - CEO Well, I think I'll probably turn this over to Scott. But I think as sort of a general policy, while we are - while we have submissions of any kind in with the FDA, we really just don't comment. Why? Because it drives the FDA crazy if they hear from companies saying, we're going to run this panel, we're going to run that panel, we think that. The reviewers hate it too. So there's a lot of policy. We just say, look, this is our overall expectation. We don't shift from it. To the tone of your question, what would make the panel vote against the DHR instead of for it? And we are very, very pleased with the outcome. I think my comment - I'll ask David and Scott to add anything they want to, is in giving the data to the panel, the FDA top-sized the data. We didn't provide the panel with all the data. So that's one of the reasons why there was some methodological criticisms by panel members. But then if you read the whole of the data, that actually provided I think a very, very strong basis. I think we were clear that the FDA has two duties, consumer protection and safety and bringing new technology to the market on a timely basis for the benefit of the U.S. population. And there hasn't been for some time any preclusion on applications that do not have U.S. data, provided the material is high quality and it broadly represents the U.S. healthcare system and population. And the panel said that, yes, it did. They sort of re-asked the question. So are there implications for other companies going forward? We don't really know. The FDA doesn't really share their views on the other trials with us. We are very pleased to have overtaken Wright and we'll have to see what happens to them. We don't know if there's any knowledge that we can really share with you. Either Dave or Scott, do you want to add anything to that? Unidentified Company Representative No, I think just the fact that for us to try to assume what this may mean in the future for the FDA, you're asking the wrong people. You need to ask the FDA. We're pleased. We're very, very pleased. It's going on as planned and pretty much on schedule. When we did the due diligence in looking at this company, we were very careful in looking at the data ourselves and having experts look at the data. We had some very high-quality academic surgeons look at this data, and they felt the data was good. So we've moved forward, we're on track, and it's crazy to start commenting on it now, because we're not there yet. We do know some facts. The FDA has scheduled an audit of the clinical data for October the 12th, which is great, and we fully expect them to also audit our manufacturing facilities, and I'm not sure if that's been - it hasn't been scheduled yet. It hasn't been scheduled, but we're expecting it at any time. Mark Landy - Susquehanna Financial Group - Analyst Sorry. Maybe you took my question a little out of context. It was not the fact that you actually got the approval of the issues that the FDA had with your data. It was just that now that you've gone through the process, could you share with us the headline questions that the FDA has with respect to the procedure and how it could impact other people wanting to design trials within this area, seeing that you've gone through the process. And then with respect to the opening up of European data, there obviously is a cost differential between actually collating and collecting data and doing the procedures outside of the United States. So it does get all of some people's focus on maybe wanting to shift a lot of the clinical trial Thomson StreetEvents www.streetevents.com Contact Us 19 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis activities, specifically on orthopedics, where you have very long-term data from those procedures in Europe, and then trying to use that as you go into the U.S. to speed up the process, just basically the new product. I think that was the gist of the question. Unidentified Company Representative Well, I think on the first question it was a public forum. There's transcripts of everything that was said, including the questions that were asked, not only in public but also written down ahead of time. We published those. So there's - it's a pretty open environment, and I know that many of you have had a field day dissecting those transcripts and trying to derive some deeper meaning to it. So I think really there's nothing more to be said than the transcripts are there. On the second piece, I think my answer still stands, and that is it's hard for us to predict how the FDA may view different companies' actions. We're going to try to provide the FDA with the best data we can possibly give them, and we'll make decisions going forward as to where that data is collected based upon what's the best way to get approval for our products. We did not do this because of costs or the costs associated with collecting the data, obviously, because the data was being collected when we acquired the company. It was just something that happened. So we have not - we personally have not put any thought into how the model might change. I think it's as simple as that. I think sometimes we get credit for having more time than we have. We're scrambling just to get this thing approved right now. If we can reflect on it later and see how we could do it a little bit better or more efficiently, then we'll probably do that, but right now we're working the 14 hours a day trying to beat Biomet and Zimmer and Stryker and DePuy, and also get this product approved. Christopher O Donnell - Smith & Nephew - CEO I think you can guarantee in terms of this being a protocol that the FDA - if the data is not from the U.S., they will put the question on the agenda. You've got an additional question to answer. You've got to make a risk assessment, does this replicate in the U.S. healthcare situation? And I think we were able to get farther in the round (inaudible) that it was. Okay, I think we should move on. Mike Madsen - Wachovia Securities - Analyst Hi, Mike Madsen (ph) from Wachovia Securities. A question for Joe Woody. The EXOGEN Bone Healing System, one of your competitors has had to write off insurance receivables, because they were a little overaggressive in selling their stimulation systems. What are you guys doing to ensure that that doesn't happen to you? Joe Woody - Smith & Nephew - VP and General Manager, Clinical Therapies Division We run a very strong internal parent relations group. They're in lockstep with our legal counsel, and we've had no issues with that. That's how that works well for us. Mike Madsen - Wachovia Securities - Analyst Do you have an explicit policy in place to ensure that reimbursement is available for specific patients before you place a stimulator with them? Joe Woody - Smith & Nephew - VP and General Manager, Clinical Therapies Division We actually have policies that are aligned with Medicare's guidelines on how to approach the whole process, and as you go through the tours, it's probably a lengthy process to explain kind of in depth why we have to do that. Unidentified Company Representative Thomson StreetEvents www.streetevents.com Contact Us 20 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis Mike, do you have a comment on this at all? Do you have a desire to comment on this? Mike O Connor is our Chief Financial Officer, by the way. Mike O Connor - Smith & Nephew - CFO Yes, good morning. We've not experienced any significant write-offs whatsoever on EXOGEN, but from our fiscal point of view, there is very little risk out there. We have a debtor that's not collectable. As Joe said, we do give the Medicare guidelines for our (inaudible), et cetera. We believe there is very little risk in that business. Justin Smith - JP Morgan - Analyst It's Justin Smith from JP Morgan. Just a more general question on Japan. Just wondered if you can could you share some thoughts on the challenges of that market going forward and I know that's a long way away, but if you can just share with us some of the sort of challenges, the differences to the U.S., that we face in orthopedics to growing that market in the future? Unidentified Company Representative Yes, do you want to? Go ahead. Unidentified Company Representative Sure, the market of course is a little more challenging, but at least from a trauma perspective, we think we have the ability to take share based on our relative market position and the investment we made in the sales force. So I think while the market is not growing as fast as some of the other markets and the world is still a very large market, a profitable market and I think we have an opportunity to grow our relative position pretty effectively. Unidentified Company Representative From a reconstructive perspective, the acquisition of the 34 sales reps, which allowed us to legitimize the business in Japan and almost settle our call coverage has been fundamental in our share gain this year and we see that the strength of that relationship being the increased relationship with top university professors and institutions in Japan, and the knock-on effect of that is going to be a constant flow of new product offerings that are geared towards the Japanese patient and are geared towards the Japanese surgeon. So we're very excited about our growth prospects in Japan right now. Unidentified Company Representative And if I could just sum it up, I think Japan is actually simpler than it seems. We have a driver of our strategy that we call geocentricity that we've alluded to but we haven't really talked a lot about, but in its essence, it is being able to be responsive to the local customers in a local market. As much as we would like to think we can do good things by sitting here in Memphis in this building and building knees and then shipping it over to Japan, we just don't understand the Japanese market. We don't understand the German market, we don't understand the Italian market, we don't understand the UK market. We have to be able to be embedded in those systems, and we have to be intimate with our customers. We have hired a president for Japan, a very talented man. We doubled the size of our sales force and we're looking for opportunities to do more development, because that's what drives the intimacy with the customers. We have Japanese products that we're developing. So, really for us, it's the same model in Japan as it is every the country around the world, and that's why we think it's going to be an impressive lever for us for growth because we think we have a plan to do it in a way that's more than just developing products in Memphis and running them up a flagpole and expecting people to buy them. It just doesn't work that way. So I think that's our overall strategy with Japan, is making sure that we have the basis to compete in those markets, first. Thomson StreetEvents www.streetevents.com Contact Us 21 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis Okay, we're going to have two more questions. Yi-Dan Wang - Deutsche Bank - Analyst This is Yi-Dan Wang from Deutsche Bank. I have a couple of questions for Scott. The first on is can you walk us through the various hurdles we've got to jump through for DHR that you have as you're kind of positioning that? And the second is can you comment on the state of (inaudible) portfolio at the moment and (inaudible). I also have a question for Mark. In Europe the acquisition (inaudible) in the U.S. and your plans for rolling that out in Europe and the rest of the world. Can you comment on your positions in markets outside the U.S. and the lessons that you've learned from the U.S. division (inaudible) that you can benefit from the other rollout. And, finally, a question for Joe. In terms of clinical therapy, the - what if you do extremely well there, so (inaudible) competitors expenses are there and your (inaudible) for those. Unidentified Company Representative On DHR, we don't have approval yet, so I'm not going to get into intimate detail on what the hurdles are. But our one focus is growing this product out responsibly and making sure that the training for our (inaudible) partners is world class. And then on mobile-bearing platform, quite frankly, as of this point, we don't have a mobile-bearing platform in the U.S. We have done extremely well with the OXINIUM brand. We are very excited about launching the Journey brand. We are constantly going through product portfolio planning and looking at what products we think we're going to have to add to the marketplace, and we'll scope that out as we continue to push our innovation strategy going forward. Mark Augusti - Smith & Nephew - SVP and General Manager, Trauma Division Regarding the U.S. learnings in (inaudible) and trauma and taking that approach to the outside of the U.S. market. I think based on (inaudible). I mean, it's all about customer intimacy. There are slight differences. We'll have to offer a recipe for success. If you focus on the customers, some markets, especially near the specialization with the excursion (ph) isn't as pronounced as it was in the U.S. We have to direct that market differently, but when it comes to having the full bags, providing an excellent service in the form of a well-trained and well-clinical manageable (inaudible) and having good products and educational opportunities, we're going to use all of those same levers. Unidentified Company Representative I think it is important to note that we have actually divisionalized our business in Europe over the last couple of months. We have done it through changing the reporting and the management structure and the people we have in place. So we have sort of pushed the button as a go button and we're now focusing on those markets for divisionalization. Unidentified Company Representative As far as clinical therapies, to answer your question, I think we'll have a great opportunity to capitalize on that because it's unique with ultrasound versus a lot of the other stem products that are electronic stems. In terms of SUPARTZ, it's basically communicating the story of the safety and getting the word out that the channel in and of itself, because of the focus and the rapid pace that we're deploying it, will keep us very successful, I believe. Unidentified Audience Member What about the number of competitive actions, have you seen those product areas with (inaudible)? Unidentified Company Representative Thomson StreetEvents www.streetevents.com Contact Us 22 © 2005 Thomson Financial. Republished with permission. No part of this publication may be reproduced or transmitted in any form or by any means without the prior written consent of Thomson Financial. FINAL TRANSCRIPT Sep. 15. 2005 / 1:30PM, SNN - Smith & Nephew Analyst Meeting - Memphis Well, I think you've seen a number of actions. I think you've seen the Genzyme and the Wyeth relationship change. They're actually looking at their sales force and how they look forward. I think the same thing among the (inaudible) help make a difference being that (inaudible). Their sales representatives typically cover or carry multiple products and spend a lot of the time in the OR, and they'll probably examine that and we'll pay attention to that as they do. Unidentified Company Representative Okay, we are a little bit over our planned time, so we're going to stop the questions and answers, and I do apologize to those on the Webcast. For those of you that are here, and you are going to have ample time to ask questions throughout the morning and into the afternoon. I do invite those on the Webcast to join us on October 27th for our quarterly earnings call, and you can certainly hear our performance play out over the quarter and our expectations for the future. So with that we'll conclude the Webcast. DISCLAIMER Thomson Financial reserves the right to make changes to documents, content, or other information on this web site without obligation to notify any person of such changes. In the conference calls upon which Event Transcripts are based, companies may make projections or other forward-looking statements regarding a variety of items. Such forward-looking statements are based upon current expectations and involve risks and uncertainties. Actual results may differ materially from those stated in any forward-looking statement based on a number of important factors and risks, which are more specifically identified in the companies' most recent SEC filings. 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