HAEMONETICS CORP - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF

(Edgar Glimpses Via Acquire Media NewsEdge) 18 -------------------------------------------------------------------------------- Table of Contents OPERATIONS This Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") should be read in conjunction with both our interim consolidated financial statements and notes thereto which appear elsewhere in this Quarterly Report on Form 10-Q and our annual consolidated financial statements, notes thereto and the MD&A contained in our fiscal year 2012 Annual Report on Form 10-K filed with the Securities and Exchange Commission (the "SEC") on May 22, 2012. The following discussion may contain forward-looking statements and should be read in conjunction with the "Cautionary Statement Regarding Forward-Looking Information" .

Our Business Haemonetics is a blood management solutions company. Anchored by our medical device systems, we also provide information technology platforms and value added services to provide customers with business solutions which support improved clinical outcomes for patients and efficiency in the blood supply chain. On August 1, 2012 we completed the acquisition of the business assets of the blood collection, filtration and processing product lines of Pall Corporation. At the closing of the transaction, we paid $535.1 million in cash consideration subject to typical post-closing adjustments to reflect certain cost allocations, assets and liabilities. The acquisition was funded utilizing $475 million of loans and the remainder from cash on hand. The blood processing systems and equipment acquired are for use in transfusion medicine and include Pall's manufacturing facilities in Covina, California; Tijuana, Mexico; Ascoli, Italy and a portion of Pall's assets in Fajardo, Puerto Rico. Approximately 1,300 employees transferred to Haemonetics. We anticipate paying an additional $15 million upon the replication and delivery of certain manufacturing assets of Pall's filter media business to Haemonetics by 2016. Until that time, Pall will manufacture and sell filter media to Haemonetics under a supply agreement. We refer to this newly acquired business as the whole blood business.

Our medical device systems provide both automated and manual collection and processing of donated blood, assess likelihood for blood loss, salvage and process blood from surgery patients, and dispense and track blood inventory in the hospital. These systems include devices and single-use, proprietary disposable sets ("disposables") some of which only operate with our specialized devices. Specifically, our plasma and blood center systems allow users to collect and process only the blood component(s) they target - plasma, platelets, or red blood cells - increasing donor and patient safety as well as collection efficiencies. Our blood diagnostics system assesses hemostasis (a patient's clotting ability) to aid clinicians in assessing the cause of bleeding, resulting in overall reductions in blood product usage. Our surgical blood salvage systems allow surgeons to collect the blood lost by a patient in surgery, cleanse the blood, and make it available for transfusion back to the patient. Our blood tracking systems automate the distribution of blood products in the hospital. Our manual blood collection and filtration systems enable the manual collection of all blood components while detecting bacteria thus reducing the risks of infection through transfusion.

When placed devices remain our property, the customer has the right to use it for a period of time as long as the customer meets certain conditions we have established, which, among other things, generally include one or more of the following: • Purchase and consumption of a minimum level of disposables products; • Payment of monthly rental fees; and • An asset utilization performance metric, such as performing a minimum level of procedures per month per device.

Our disposables revenue stream includes the sales of manual collection and filtration systems, device disposables and fees for the use of our equipment, which accounted for approximately 83.9% and 82.4% of our total revenues for the six months ended September 29, 2012 and October 1, 2011, respectively.

In April 2012, we announced the planned acquisition of the business assets of Hemerus Medical, LLC , a Minnesota-based company that develops innovative technologies for the collection of whole blood and processing and storage of blood components. Under the terms of the agreement, we paid $1 million and we will pay up to $26 million contingent on certain regulatory approvals.

Additionally, royalty payments on Hemerus products will apply for the next 10 years or until a maximum cumulative royalty amount of $14 million has been paid.

We currently expect the Hemerus acquisition to close in the first half of fiscal 2014.

Financial Summary 19-------------------------------------------------------------------------------- Table of Contents Three Months Ended Six Months Ended (in thousands, except per share September 29, October 1, % Increase/ September 29, October 1, % Increase/ data) 2012 2011 (Decrease) 2012 2011 (Decrease) Net revenues $ 218,178 $ 179,445 21.6 % $ 394,653 $ 350,014 12.8 % Gross profit $ 101,762 $ 89,949 13.1 % $ 191,875 $ 178,698 7.4 % % of net revenues 46.6 % 50.1 % 48.6 % 51.1 % Operating expenses $ 91,861 $ 71,383 28.7 % $ 168,894 $ 136,223 24.0 % Operating income $ 9,901 $ 18,566 (46.7 )% $ 22,981 $ 42,475 (45.9 )% % of net revenues 4.5 % 10.3 % 5.8 % 12.1 % Other income (expense), net $ (1,311 ) $ 445 (394.6 )% $ (975 ) $ 230 (523.9 )% Income before taxes $ 8,590 $ 19,011 (54.8 )% $ 22,006 $ 42,705 (48.5 )% Provision for income tax $ 2,043 $ 5,131 (60.2 )% $ 5,671 $ 11,877 (52.3 )% % of pre-tax income 23.8 % 27.0 % 25.8 % 27.8 % Net income $ 6,547 $ 13,880 (52.8 )% $ 16,335 $ 30,828 (47.0 )% % of net revenues 3.0 % 7.7 % 4.1 % 8.8 % Earnings per share-diluted $ 0.25 $ 0.54 (53.7 )% $ 0.63 $ 1.18 (46.6 )% Net revenues increased 21.6% and 12.8% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effects of foreign exchange, net revenues increased 22.5% and 12.7% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. This increase includes $28.6 million of sales from the recently acquired whole blood business. The remaining increase is from strong revenue growth from our plasma, surgical and diagnostics businesses. Fiscal 2012 revenue benefited from purchases by the Japan Red Cross ("JRC") in March 2012 to avoid future supply disruptions in anticipation of an internal business system conversion, negatively impacting the three months ended June 30, 2012.

Operating income decreased 46.7% and 45.9% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effects of foreign exchange, operating income decreased 81.4% and 69.1% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012 as increased gross profits due to revenue from the acquisition of the whole blood business and other revenue growth was more than offset by higher costs of goods sold due to an $8.3 million step up in the value of acquired inventory and higher operating expenses including significant acquisition and integration costs totaling $11.5 million and $17.4 million for the three and six months ended September 29, 2012, respectively.

Net income decreased 52.8% and 47.0% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effects of foreign exchange, net income decreased 88.6% and 70.9% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. The decrease in net income was attributable to the decline in operating income described above.

20-------------------------------------------------------------------------------- Table of Contents 21-------------------------------------------------------------------------------- Table of Contents RESULTS OF OPERATIONS Net Revenues by Geography Three Months Ended Six Months Ended September 29, October 1, % Increase/ September 29, October 1, % Increase/ (in thousands) 2012 2011 (Decrease) 2012 2011 (Decrease) United States $ 113,015 $ 86,339 30.9 % $ 200,922 $ 172,734 16.3 % International 105,163 93,106 12.9 % 193,731 177,280 9.3 % Net revenues $ 218,178 $ 179,445 21.6 % $ 394,653 $ 350,014 12.8 % International Operations and the Impact of Foreign Exchange Our principal operations are in the U.S., Europe, Japan and other parts of Asia.

Our products are marketed in more than 80 countries around the world through a combination of our direct sales force and independent distributors and agents.

Our revenues generated outside the U.S. approximated 49% and 51% of total net revenues for the six months ended September 29, 2012 and October 1, 2011, respectively. International sales are generally conducted in local currencies, primarily the Japanese Yen and the Euro. Our results of operations are impacted by changes in the value of the Yen and the Euro relative to the U.S. Dollar.

Please see section entitled "Foreign Exchange" in this discussion for a more complete explanation of how foreign currency affects our business and our strategy for managing this exposure.

Net Revenues by Product Type Three Months Ended Six Months Ended September 29, October 1, % Increase/ September 29, October 1, % Increase/ (in thousands) 2012 2011 (Decrease) 2012 2011 (Decrease) Disposables $ 185,799 $ 147,408 26.0 % $ 331,287 $ 288,456 14.8 % Software solutions 18,043 17,199 4.9 % 35,347 35,359 - % Equipment & other 14,336 14,838 (3.4 )% 28,019 26,199 6.9 % Net revenues $ 218,178 $ 179,445 21.6 % $ 394,653 $ 350,014 12.8 % Disposable Revenues by Product Type Three Months Ended Six Months Ended September 29, October 1, % Increase/ September 29, October 1, % Increase/ (in thousands) 2012 2011 (Decrease) 2012 2011 (Decrease) Plasma disposables $ 68,677 $ 64,408 6.6 % $ 132,555 $ 127,168 4.2 % Blood center disposables Platelet 43,198 42,195 2.4 % 80,440 79,504 1.2 % Red cell 11,918 11,645 2.3 % 23,986 23,514 2.0 % Whole blood 28,620 - 28,620 - $ 83,736 $ 53,840 55.5 % $ 133,046 $ 103,018 29.1 % Hospital disposables Surgical 18,804 16,206 16.0 % 37,064 31,948 16.0 % OrthoPAT 7,645 7,295 4.8 % 15,186 15,049 0.9 % Diagnostics 6,937 5,659 22.6 % 13,436 11,273 19.2 % $ 33,386 $ 29,160 14.5 % $ 65,686 $ 58,270 12.7 % Total disposables revenue $ 185,799 $ 147,408 26.0 % $ 331,287 $ 288,456 14.8 % DisposablesDisposables revenue increased 26.0% and 14.8% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effect of foreign exchange, disposables revenue increased 27.1% and 14.7% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012, 22-------------------------------------------------------------------------------- Table of Contents driven primarily by $28.6 million of sales from the whole blood business and growth in our plasma, surgical and diagnostics businesses as discussed below.

Plasma Plasma disposables revenue increased 6.6% and 4.2% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effect of foreign exchange, plasma revenue increased 6.8% and 4.3% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012, primarily due to higher revenue from commercial fractionation customers in North America, where increased collections more than offset price reductions included in contract renewals completed in fiscal 2012.

Blood Center Blood center consists of disposables used to collect blood components platelets and red cells and now whole blood. Platelet disposables revenue increased 2.4% and 1.2% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effect of foreign exchange, platelet disposable revenue increased 1.3% and decreased 0.5% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. We experienced strong growth in emerging markets offset by declines in mature markets. Revenue in Japan was lower for the three months ended September 29, 2012 due to benefits from quality issues experienced with a competitor's device in the prior year, and for the six months ended September 29, 2012 due to the negative impact of the JRC ordering pattern described in the Financial Summary above.

Red cell disposables revenue increased 2.3% and 2.0% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effect of foreign exchange, red cell disposables revenue increased 3.0% and 2.3% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012, due to increased account penetration at existing customers for red cells products in North America.

Whole blood disposables revenue was $28.6 million for the three and six months ended September 29, 2012, representing seven weeks of sales of products from the Pall acquisition of August 1, 2012. Revenue from the whole blood business for fiscal 2013 is expected to be $135-to-$145 million.

Hospital Hospital consists of Surgical, OrthoPAT, and Diagnostics products. Surgical disposables revenue consists principally of the Cell Saver and CardioPAT products. Revenues from our surgical disposables increased 16.0% for both the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effect of foreign exchange, surgical disposables revenue increased 13.5% and 13.2% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012, due to higher sales in North America, Europe and Japan associated with the positive impact of the Cell Saver Elite product launch, our next generation surgical device released during fiscal 2012. Surgical revenue also benefited from limited product availability from our primary competitor for the six months ended September 29, 2012 due to supply chain disruption associated with a natural disaster in Europe. Although product availability was recently restored for the competitive product, we expect surgical disposable revenue to continue to grow over the balance of fiscal 2013 based on the level of account penetration with Cell Saver Elite across the markets we serve.

Revenues from our OrthoPAT disposables increased 4.8% and 0.9% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effect of foreign exchange, OrthoPAT disposables revenue increased by 3.9% and decreased 0.6% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Sales volumes have started to grow following declines in fiscal 2012 associated with the voluntary recall of our OrthoPAT devices initiated during the three months ended July 2, 2011 Diagnostics product revenue consists principally of the consumable reagents used with the TEG analyzer. Revenues from our diagnostics products increased 22.6% and 19.2% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effect of foreign exchange, diagnostics product revenues increased 18.1% and 14.3% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. The revenue increase is due to continued adoption of our TEG analyzer globally, principally in North America and China.

23-------------------------------------------------------------------------------- Table of Contents Software Solutions Our software solutions revenues include sales of our information technology software platforms and consulting services. Software revenues increased 4.9% and remained flat at 0.0% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effect of foreign exchange, software revenues increased 7.3% and 1.7% for the three and six months ended September 29, 2012, respectively, as compared to the same period of fiscal 2012. The increases were primarily due to hospital software sales and installed base growth in North America.

Equipment & Other Our equipment and other revenues include revenue from equipment sales, repairs performed under preventive maintenance contracts or emergency service visits, spare part sales, and various service and training programs. These revenues are primarily composed of equipment sales, which tend to vary from period-to-period more than our disposable business due to the timing of order patterns, particularly in our distribution markets. Equipment and other revenues decreased (3.4)% and increased 6.9% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effect of foreign exchange, equipment and other revenues decreased 3.4% and increased 7.2% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Year to date growth is primarily due to higher surgical and TEG equipment sales, particularly in emerging markets. The decline in revenue for the three months ended September 29, 2012 is due primarily to the timing of key awards in our distribution markets.

Gross Profit Three Months Ended Six Months Ended September 29, October 1, % Increase/ September 29, October 1, % Increase/ (in thousands) 2012 2011 (Decrease) 2012 2011 (Decrease) Gross profit $ 101,762 $ 89,949 13.1 % $ 191,875 $ 178,698 7.4 % % of net revenues 46.6 % 50.1 % 48.6 % 51.1 % Gross profit amounts increased 13.1% and 7.4% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Without the effect of foreign exchange, gross profit increased 10.5% and 4.5% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. Our gross profit margin decreased by (350) basis points and (250) basis points for the three and six month periods ending September 29, 2012, respectively, as compared to the same periods of fiscal 2012.

The decrease in gross profit margin for the three and six months ended September 29, 2012 includes approximately $8.3 million of costs of goods sold related to the increase in fair value of whole blood inventory acquired from Pall. These amounts will not have a continuing impact on gross margin following sell through of remaining acquired inventory during the three months ending December 31, 2012. The decrease in gross profit margin also included the mix impact of disposable sales, as whole blood gross margins are lower than average gross margins for our complete product line.

The decline in gross margin was partially offset by reduced equipment depreciation expense as a result of a change in estimated useful lives implemented during the three months ended June 30, 2012. The effect of this change in estimate will reduce fiscal year 2013 depreciation expense by approximately $4.5 million and increase income net of tax by approximately $3.3 million 24-------------------------------------------------------------------------------- Table of Contents Operating Expenses Three Months Ended Six Months Ended September 29, October 1, % Increase/ December 31, October 1, % Increase/ (in thousands) 2012 2011 (Decrease) 2011 2011 (Decrease) Research and development $ 10,827 $ 10,350 4.6 % $ 20,235 $ 18,959 6.7 % % of net revenues 5.0 % 5.8 % 5.1 % 5.4 % Selling, general and administrative $ 81,034 $ 62,613 29.4 % $ 148,659 $ 118,844 25.1 % % of net revenues 37.1 % 34.9 % 37.7 % 34.0 % Contingent consideration $ - $ (1,580 ) 100.0 % $ - $ (1,580 ) (100.0 )% % of net revenues - % (0.9 )% - % (0.5 )% Total operating expenses $ 91,861 $ 71,383 28.7 % $ 168,894 $ 136,223 24.0 % % of net revenues 42.1 % 39.8 % 42.8 % 38.9 % Research and Development Research and development expenses increased 4.6% and 6.7% for the three and six months ended September 29, 2012, respectively, as compared to the same periods of fiscal 2012. These increases were primarily related to the general increase in development programs in support of long-term product plans. Research and development costs will increase in the second half of fiscal 2013 due to additional staff and program spending related to the whole blood acquisition and related product initiatives.

Selling, General and Administrative During the three and six months ended September 29, 2012, selling, general and administrative expenses increased 29.4% and 25.1%, respectively, as compared to the same periods of fiscal 2012. These increases include acquisition and integration related expenses associated with the whole blood acquisition of $11.5 million and $17.4 million for the three and six months ended September 29, 2012, respectively. We also incurred approximately $8.0 million of incremental expenses to operate the whole blood business for two months following the August 1, 2012 acquisition.

Other Expense, Net Other expense, net, increased for the three months and six months ended September 29, 2012 as compared to the same periods of fiscal 2012, primarily due to $1.5 million interest expense from the $475 million term loan.

Income Taxes Three Months Ended Six Months Ended September 29, October 1, % Increase/ September 29, October 1, % Increase/ 2012 2011 (Decrease) 2012 2011 (Decrease) Reported income tax rate 23.8 % 27.0 % (3.2 )% 25.8 % 27.8 % (2.0 )% The Company's reported tax rate was 23.8% and 25.8% for the three and six months ended September 29, 2012, respectively. Our reported tax rate is lower than the federal statutory tax rate in both periods reported primarily due to lower foreign tax rates, including tax benefits associated with our operations in Switzerland as well as research and development credits. The decrease in the effective tax rate for the three and six months ended September 29, 2012 as compared to October 1, 2011 is due to lower statutory tax rates in Puerto Rico arising from the acquisition of the whole blood business in the current quarter and research and development credits.

Liquidity and Capital Resources The following table contains certain key performance indicators we believe depict our liquidity and cash flow position: 25-------------------------------------------------------------------------------- Table of Contents September 29, March 31, (dollars in thousands) 2012 2012 Cash & cash equivalents $ 187,051 $ 228,861 Working capital $ 420,606 $ 396,385 Current ratio 3.7 4.0 Net (debt)/cash position (1) $ (294,600 ) $ 225,090 Days sales outstanding (DSO) 65 66 Disposable finished goods inventory turnover 5.7 5.7 (1) Net (debt)/cash position is the sum of cash and cash equivalents less total debt.

Our primary sources of liquidity are cash and cash equivalents, internally generated cash flow from operations, and option exercises. On August 1, 2012, we entered into a loan agreement for $475 million which was used to finance the acquisition of certain assets of the blood collection, filtration and processing business of Pall Corporation. We believe these sources are sufficient to fund our cash requirements over the next twelve months, which are primarily capital expenditures and share repurchases under programs authorized by the Board of Directors at its discretion and investments including acquisitions.

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