Andy LaFrence - Vice President, Finance and CFO Gary Maharaj - President and CEO.

Ross Taylor - CL King Beth Lilly - GAMCO Charles Jones - Barrington.

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the SurModics First Quarter 2014 Earnings Conference Call. During today’s presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be opened for questions.

(Operator Instructions) I would now like to turn the conference over to Andy LaFrence, Vice President of Finance and Chief Financial Officer. Please go ahead, sir. Please go ahead, sir. Please go ahead, apologies..

Hello..

Sorry about that. Please go ahead..

Thank you, Danielle. Good afternoon. And welcome to SurModics’ fiscal 2014 first quarter earnings call. Before we begin, I would like to remind you that during the course of this call we will make forward-looking statements.

These forward-looking statements are covered under the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 and include statements regarding SurModics’ future financial and operating results or other statements that are not historical facts.

Please be advised that actual results could differ materially from those stated or implied by our forward-looking statements, resulting from certain risks and uncertainties, including those described in our SEC filings.

SurModics disclaims any duty to update or revise our forward-looking statements as a result of new information, future events, developments or otherwise.

Finally, this conference call is being webcast and is accessible through the Investor Relations section of the SurModics website, where the audio recording of the webcast will also be archived for future reference. A press release disclosing our quarterly results was issued earlier this afternoon and is available on our website at www.surmodics.com.

On today’s call, I will provide an overview of our financial results, highlights for the first quarter and update our outlook for the fiscal year 2014. Gary will then cover our key achievements and discuss our growth drivers and strategies. And finally, we will open the call to take your questions. I’ll start with the financials.

Earnings in the first quarters of fiscal 2014 and 2013 were positively impacted by gains from the Vessix Vascular strategic investment as noted in our press release. On a GAAP basis, our diluted earnings per share decreased 10% to $0.26 per share for the first quarter, compared with $0.29 per share in the year ago period.

It is important to note that our pro forma basis fiscal 2014 diluted earnings per share increased 17% in the current year quarter to $0.21 per share, compared with $0.18 per share in the first quarter of fiscal 2013. We are pleased with this growth and earnings per share.

Revenue for the first quarter totaled $13.9 million, unchanged from the first quarter of last year. I’d like to remind you that this quarter we face a very tough comparison. In the year ago period industry growth was more robust and we posted a 16% GAAP revenue gain, including a $0.6 million one-time hydrophilic royalty catch-up payment.

Adjusting for this payment on pro forma basis revenue increased 5% in the first quarter of 2014. In the 2014 first quarter we delivered operating income of $4.3 million, an 11% decrease from the prior year. Operating margin was 31% compared with 35% in the prior year quarter.

The current year quarter operating margin reflects increase research and development investments to support the drug coated balloon program as we have discussed in recent quarterly calls. Gary will discuss our progress on this initiative in a few moments.

Turning now to our two business units, medical device is a larger business and contributed approximately three quarters of our total revenue. This unit, which includes revenue from both our hydrophilic coatings and device drug delivery coatings posted revenue of $10.5 million, unchanged from a year ago period.

The first quarter of fiscal 2013 included a one-time $0.6 million hydrophilic coating catch-up royalty payment I referred to previously. Excluding this payment, medical device revenue in the first quarter of fiscal 2014 increased 6% from the prior year period.

First quarter hydrophilic coating royalty revenue decreased 3% to $7.1 million, compared with the year ago period. As mentioned in the press release, coronary sector hydrophilic coating royalty revenue increased 3% for the quarter, a nice positive after declines in the third and fourth quarters of fiscal 2013.

First quarter 2014 hydrophilic coating revenue increased 5%, compared with the year ago period when adjusted for the one-time payment in fiscal 2013. Our medical device unit generated $5.3 million of operating income in the first quarter, decreasing 9% from the year ago.

Medical device operating margin was impacted by higher planned drug coated balloon research and development expenditures. For our In Vitro Diagnostics unit, first quarter revenues totaled $3.3 million, a slight increase compared with the prior year quarter.

Of note, our IVD business has generated 13th consecutive quarters of year-over-year revenue growth. Strength in our slides are component of our molecular diagnostic product line as well as our BioFX branded products were offset by softness in the stabilizer and the antigen lines for the quarter.

We expect improved revenue growth in this business as the fiscal year progress. Product gross margin for IVD was 60% in the first quarter, increasing from 59% in the prior year quarter.

IVD operating income of $0.7 million was down marginally from the first quarter of 2013, reflecting higher operating costs and a slight increase in allocated corporate expense. Our diagnostic operating margin for the quarter was 20%, compared with 23% in the prior year quarter.

We expect our diagnostic operating margin to range from 20% to 29% for the fiscal year. Now, I would like to discuss our first quarter 2014 revenue summary by category.

Royalty and license fees, which are generated primarily from our medical device business unit, were $7.5 million, unchanged from the year ago period as a result of the one-time $0.6 million royalty payment previously discussed.

Excluding this one-time payment, royalty and license fees increased 7% in the first quarter of fiscal 2014 compared to fiscal 2013. We are especially pleased with this growth given current market conditions. First quarter product sales of $5.4 million were unchanged from the year ago period.

The company generated solid growth in Slides, a component of our molecular diagnostic business and BioFX branded products. Lastly, R&D revenue in the first quarter was $1 million, unchanged from the prior year quarter. SG&A expenses in the first quarter of fiscal 2014 were 28% of revenue compared with 26% in the prior quarter.

SG&A expense in the first quarter of 2014 totaled $3.9 million and increased 5% from last year on a dollar basis. The $0.2 million increase reflects higher costs primarily as a result of additional stock-based compensation. As a percentage of total revenue, first quarter R&D expenses were 27% compared with 24% in the year ago period.

R&D expenses of $3.7 million for the quarter increased 10% from last year, resulting from planned investment to support our drug coated balloon development initiatives. Income tax expense was 28.8% of our pre-tax income for the quarter compared with 30.6% in the prior year period.

The decrease in the income tax rate in the current year quarter primarily was a result of planned increased state discrete tax benefits offset by the decrease in Vessix capital gains between the periods, which resulted in no income tax expense as we were able to utilize fully reserved capital loss carry forwards.

For the full year, we continue to anticipate a 31% to 33% tax rate as we said in last quarter's conference call. Looking at our balance sheet, it continues to be strong. Our cash and investments totaled $53.1 million and we had no debt outstanding at December 31, 2013. We continued to generate solid cash flow.

Cash flow from operations was $4.3 million during the first quarter of fiscal 2014. We also received $0.7 million, from our milestone earnout payment related to our strategic investment in Vessix, which was sold in fiscal 2013. We invested $0.1 million in property, plant equipment in the first quarter fiscal 2014.

Reflecting our commitment to enhancing shareholder value under the $20 million repurchase authorization announced in July 2013, we've bought back 380,000 shares of common stock totaling $8.9 million in the first quarter of fiscal 2014.

As of December 31, 2013, we had $2.6 million outstanding under the existing share repurchase authorization for future share repurchases. We completed our share repurchase authorization after quarter end in January 2014. I now want to comment on our expectations for fiscal 2014.

We are reaffirming our estimated revenue for fiscal 2014 to be in the range of $58 million to $62 million reflecting a 3% to 10% year-over-year revenue growth. We're increasing GAAP diluted earnings per share to be in the range of $0.85 to $0.97 per share to include the gain from the Vessix strategic investment.

Cash flow from operating activities is expected to range between $17.6 million and $18.6 million from fiscal 2014. We project capital expenditures for fiscal 2014 to be in the range of $2.2 million and $2.5 million. All in all a solid quarter and a solid start to the fiscal year.

At this point, I would like to turn the call to Gary for his perspective on our operations. Gary..

Thank you Andy. Q1 was shaped by three major influences. First, as Andy noted we are comparing quarterly revenue growth versus a strong Q1 of fiscal 2013, where we experience a 16% year-over-year quarterly revenue gain, including that one time large catch up payment approximately $0.6 million.

Second effect on a pro forma basis to remove the effect of this one-time payment, SurModics posted growth in the mid-single digits. This was the high end of revenue growth experience in the specific product categories by our customer base in both medical device and immunoassay factor of IVD business.

More important, it does not represent losing business to competitors nor an inability to capture new business. Instead it reflects, if anything, the large weighting of our current core customers and their intrinsic growth rates.

While we have both the intent and the ability to improve during the year, we will nonetheless continue to face a single-digit growth rate of our customer base. This is embedded in our financial guidance for fiscal 2014. The third effect on the quarter is that we've continued the planned investment in our drug coated balloon program.

This is a significant highlight of the quarter and demonstrates our commitment to this project despite challenging core business market conditions. This core expansion initiative drug coated balloons, represents our future strategic intent to focus on mission critical enabling technology or natural medical devices.

So against this three point backdrop, we believe our performance during the first quarter was solid. Andy did a good job of characterizing our business unit performance, I want to use my time to talk more about drug coated balloon project in which I am directly involved. As a quick reminder, it is why we are pursuing this initiative.

Drug coated balloons may offer better alternatives in current therapies and areas of the vasculature where placing a stent is not ideal. The worldwide market potential for drug coated balloons is now predicted to be over $1.4 billion annually by 2020. Several first generation products are already in the market outside the U.S.

and several products are pursuing regulatory approval in the U.S. currently. I mentioned in the last call that SurModics is “going the extra mile” and actually developing a complete product solution. That is a drug coated balloon device, including the balloon catheter device itself.

This is different from merely developing the quoting technology without an associated device platform. While this is a dramatic new endeavor for Surmodics, requiring substantially more investment. We are confident that this will be an important time and value accelerated for potential strategic partners.

Why? Well, first, less backtracking will be required to validate the technology performance on a new balloon catheter platform. As a result, we believe it enhances the overall value of our offering and more than justifies the incremental investment we will make.

On the other hand, our coating technology still remains supportable to any balloon catheter platform, the peripheral or coronary. During quarter one, we devoted substantial efforts to characterizing and developing and improving the coating process parameters on our own balloon catheter platform.

This involves testing and characterization of multiple balloon catheter sizes, diameters and lengths. It also involves reproducing results at every stage in pre-clinical confirmatory studies, so that the previous characterized coating technology continues to perform as expected.

This will also continue into Q3 and -- Q2 and Q3 when we aim to start a GLP safety study. We may be in a position for the first human usable device by the end of calendar year 2014. These are aggressive but achievable targets and represent an important milestone in a major value creating program when they are achieved.

In parallel, our team has been busy determining our regulatory pathway and clinical trial strategy. We continue to work with well-known and respected clinical and scientific leaders in this particular field to fully let our drug device combination.

So far SurModics has been extremely effective in balancing the efficiency of our investment dollars that is better value for the money spend with effectiveness which is getting results but not starting the project acceleration.

To me it is a remarkable achievement in many respects and attribute to our talented team that we were able to deliver excellent results of greater than 30% operating income in Q1 whilst funding in major potentially value creating initiative. We will continue to optimize this balance as we travel the fiscal 2014.

So let me iterate what I have previously said, 2014 will be both a challenging and exciting year for the company. The challenging as we face continued industry headwinds in our respective core business, yet exciting as we work through both opportunities and the risks to put SurModics back front and center in treating a huge clinical need.

Although drug coated balloons are a difficult and complex technology endeavor, it is one where we believe we can create a differentiated product and technology combination that has a potential to be the market leader with the right strategic mark -- partner and creating then shareholder value.

Operator, this concludes our prepared remarks, we would now like to open the call to questions..

Thank you, sir. (Operator Instructions) And our first question is from Ross Taylor with CL King. Please go ahead..

Hi. I apologize if I missed some of this in your prepared remarks.

But is it fair to assume that your real preference now is to conduct the Phase I clinical trial of the drug coated balloon yourself?.

That’s currently being debated. We certainly are putting ourselves in a position to do that if we chose to. That’s not a decision I would say that’s actually being crystallized yet.

On the other hand, if a strategic partner wants to conduct that trial depends on the balloon platform that they will chose, whether it would be, on the one we have chosen or whether they will wanted on their proprietary balloon platform.

And so short answer, Ross is, we want to get the GLP started and we want to be able to freeze and validate our process and product design and put ourselves in a position to perform of first in human if at that point it creates maximum shareholder value..

Okay. And how do you envision your R&D spends ramping up over the course of the fiscal year.

Obviously, I am guessing a little bit, but your R&D spend is a little bit lower than what I would have modeled in the December quarter and just kind of wondered how that might ramp up over the course of the year or maybe just any commentary as to what you think the full year your spend might be?.

We [projecting that balancing] in efficiencies and effectiveness in terms of driving the program and we continue to monitor that very frequently. It depends on the how quickly we get into GLP animal study and whether there is some proprietary work to perform first in human trial.

Our plans are what we projected for our R&D spend we are sticking to that in terms of the total spend that we envisaged..

Ross, good afternoon. We did -- if you recall back in terms of guidance, we have indicated that we may spend up an additional 20% in R&D this year, which is about $3 million.

We still affirm that we may spend up to $3 million in additional R&D this year, some of it just has to do with the timing of the experiments in the pre-clinical work that we are doing..

Right..

Okay.

And my last question, just thinking about your royalty revenue line? Is there anything you have kind of seen in the end markets, I guess, maybe particularly cardiology that sort of changes your expectations or maybe make you a little more optimistic that that market is performing better than you thought say three months ago?.

Well, Ross, its something we clearly look at as we look at a number of different reports in the market trying to feel back and what the growth rate in coronary is and if you think about the brackets that we put the 3% to 10% growth, probably if we have negative growth where we are going to be at the lower end of that bracket….

Negative growth of coronary?.

Coronary, yes. We will have negative -- we will have be at the end -- the bottom of that range is 3% and if we see more robust growth there, that will help move us to the higher end of the other range. So we haven’t provided any specific guidance in the coronary.

What I can repeat to you is that what we are seeing in the marketplace is that it appears to be at least stabilization in the coronary market right now and we hope that continue to show for the next several quarters..

Okay. That’s helpful. That’s all my questions. Thank you..

Thanks, Ross..

(Operator Instructions) And our next question is from Beth Lilly with GAMCO. Please go ahead..

Good afternoon..

Hi Beth..

Hi Beth..

How are you?.

Fine..

Fine, excuse me, I have cold. So could you -- I just want to take a step back. Could you spoke at a high levels in terms of the drug coated opportunity. So walk us through again kind of the decision tree and that timing and then just to tag on to Ross’ question in terms of progressing with Phase I clinical trial.

What will cause you to decide to go ahead with that on your own?.

All right. So some data was shown on our drug delivery at the TCT in October of 2013 and that was a dosing study we had done to select the optimum dose. And we’re certainly excited by that data relative to some of the products going through U.S. regulatory approval currently.

After dosing study, you really then -- if you’re are going to use your own balloon platform, there’s a substantial amount of work that device itself spring which means we have to do all what we call verification validation of the device with this technology.

So currently what we're doing is we want to make sure, we keep that drug signal, that great drug signal of transfer to the tissue at each step of the way while we develop a fully manufacturable and scalable version with this particular device. That’s what we’re doing in Q1 and continue to do in Q2.

The big decision then is when we feel we have enough statistics to freeze both the product design, the coding technology and the process design because thereafter changing any parameters becomes very difficult because you're already started the big spend on GLP animal studies and potentially in the future, first in human implantation.

So you really have to have all your ducks in the row to freeze that and feel very confident of what you have before the bigger spending really scales up. And that's what Q2 and Q3, we intend to get a point where we can freeze that to move on to the next. The largest spending certainly comes with a much larger animal GLP type preclinical study.

And then the decision then is whether to fund first in human study, SurModics is not in the business of funding pivotal trials obviously. But whether or not that will help strategic partner -- partners who we’re talking to or whether they would prefer to take it over from there.

And so, while we're putting ourselves in the position to do that, if we think to create outsize returns for our shareholders, it doesn't necessary mean that we have to do it. And so, we have budgeted our R&D to be in a position to do that, at least stopped that in this fiscal year.

The way it looks right now, it may be really in this calendar year, we may have to do that. So you have to think of whether budget crosses in terms of fiscal versus calendar year. So this is only the detail work..

Yeah. So is it fair to say that at the same time that you’re going through this process in terms of gathering the data.

And you also potentially talking about with partners about them doing the clinical, the phase I of the clinicals?.

Yeah, I mean, we have and I can’t be too specific but we have multiple interested parties that we’re talking to, each with slightly different, what their desires would be. And the really big anchors here or the direction indicated here is that speed together U.S. ID, those are going to be strategic viewpoints.

Speed to get an ID approval very quickly or the desire to use their current peripheral balloon platform and sort of reduce some of the work we’ve done on the new balloon platform. And I can comment which direction that would go but that would be very critical thing depending on the strategic point of view.

So, nonetheless, we are continuing to stay close of (inaudible) strategies that they close to where we are at on this program. So there aren’t any surprises along the way..

If I could just ask one other question. So let’s suppose that they decide not to use your balloon but they use your coding on that balloon.

Would they have to go back through clinical trials, I mean, because it’s deferral?.

Yeah, so the GLP animal study for the U.S. regulatory approval. And certainly if any human trial is done in the different balloon platform, there will be some degree of backtracking to demonstrate the safety and efficacy because that's why we call a drug device combination.

So change in device, you certainly have to relook at what needs to be demonstrated from the safety profile of that point. So the short answer is yes..

Okay..

But we would be making a decision to go forward without having believed that whether that's a right move for SurModics, its shareholders and the strategy?.

Yeah, okay, and then just I wanted to be perfectly clear.

So at the end of your calendar 2014, there is the potential to be some of your first human implementation?.

Yeah, I was considering when I should, and that’s an aggressive target, but our team feels that that is doable. It’s pretty aggressive but it's doable and so I wouldn’t say I didn’t think it was in the realm of probability..

Okay. Terrific, very helpful. Thank you very much..

And our next question is from Charles Jones with Barrington. Please go ahead..

Good afternoon. Really thanks for taking my question, Gary and Andy. That was kind of going at some of the same directions, the questions that I had but I’m going to ask maybe variation of couple of others.

I guess that orient me, would you say you’re kind of status quo with where you were a couple months ago when we talked or have you kind of accelerated some of your plans is what I can’t understand that base?.

Its under drug coated balloon..

Yeah..

I think we have much more clarity of what needs to be done. The issue is once you put the device into the mix. The amount of the work to be done become substantially more because than were acting as a device company. So yes, but the clarity is much improved..

So, I guess, one thing I’m confused about is a little bit and I think its your commentary around your testing the balloon itself because I guess, I thought, this was a workhorse balloon which to me man its already used. It’s kind of a more of a commodity product or somebody is out there.

They get an extra balloon for somebody else and they'll have enough something like that and this is sort to be approved.

And then -- so I want to understand that because I have the same question really as Beth, I'm wondering, okay, if you go through this GLP study and then somebody else wants to put on their balloon platform, do you go back or they go back and do the GLP or is that covered? I understand phase I, you are going to have to go back but GLP has had a start over as well?.

First of all, this claim it has a data act as deregulatory and I explained on the call..

Sure, sure. .

Typically, you will have to do some form of backtracking. You would be there and I hope to demonstrate to the agency whether or not, what you have is the equivalent to the changes you've made. And so it depends on the type of changes. If it's a wholesale new device, the chances are you may have to do a lot of backtracking. .

Right.

So even though a device out there has been used for years in peripheral, if you were to put a coating on that kind of start at square one on GLP regardless of prior approvals?.

Exactly, because the intention of this device is not a primary dilation balloon, it’s in fact, to deliver our drug..

And I'm curious, when you talked to partners out there, are they thinking that hey, I can just stick this coating on my old balloons, it’s a great balloon track look et cetera.

Or do you know something and they understand that that shape of the balloon kind of impacts how the drugs stays on or whatever and so there would need to be variations to prior balloons?.

We believe what we have is very portable given the unique way we prepare the balloons. So as I said, we've done -- we actually have done quite a few different types of balloon in this statistic that is project, as I said some coronary sizes, peripheral sizes. And so we are confident that it is portable.

The question for anyone trying to get to a competitive market in the next couple of years is, what is the value of time versus getting to the SFE? Do you need -- the balloon we've chosen is not -- I will call it a commodity. So we'll cost excellent balloon. It does not have clearance in the United States.

So some of the data we have to show is also making sure that the range of balloon sizes that they intended to use in the diameters, we have to check all of those boxes. And so it's a fairly large metrics on just the balloon itself. But on the question of portability, our technology is completely portable.

It’s -- whether the time to do that, become the best interest of the strategic. If they intent on using their balloon versus anchor on getting an idea approval in the U.S. quickly, that's a decision they will have to make and either way, we believe we can get it done. .

You may not want to comment on this. But I guess to me all this kind of signals that you're lead interested party does not have their own balloon. Your second or third interesting party may have a balloon.

And you can get more value out of somebody that doesn't have a balloon, but you can’t get the deal done as quickly as somebody already has a balloon and maybe take around? So to me that seems how it’s setting up and we kind of know, have an idea with who you want to work with, if you can get your balloons to work and you'll get more value for that? I mean, it's pretty logical but can you just say if that is reasonable?.

So my logic would be, I can't comment too deeply. But my logic would be, for us the incremental investment in a device platform versus the coating technology. And taking it a bit further, that it might just have taken things in the past, it has an outsized return for our shareholder..

Right..

We actually like, if potential strategists either don’t have or not have, but I think we are being -- I won't characterize it as bow headed because we think it's in the best interest of our shareholders to say, let's put it on a device and then we actually have an opportunity to generate if we choose some human data.

And the returns after GLP or after clarity in a regulatory possibly or even as much as first in human, a quite outsized for the investments that we are putting into it. Even recognizing, we're taking that investment in the difficult market condition here. We still think that’s the right thing to do. .

Yeah. And I would add to that, Gary. That if you think about using our combo platform that we have, it’s going to cut off maybe six plus months in terms of getting to market. So the company could have their own platform that they want to use. They can maybe use -- since our technology is portable on the second generation.

So this is all about giving more shots on goal, exceed the market. .

Right. So it's very helpful, Andy. And I guess so just a few more here. I guess, I'm wondering if there is something that you guys have learned about paclitaxel versus a Limus drug.

That makes paclitaxel more attractive on a balloon than by Limus drugs have been to my opinion found more attractive on a drug alluding stem, probably because it helps induced under realization oppose to staff proliferation.

But I'm curious if you -- if there is any sort of connection there, why you go with paclitaxel, and then curious just to know, this is an opportunity and whether or not you can make a crystalline structure of it?.

Yeah. Our first entry was paclitaxel, and again we don't necessarily believe as a classy effect of paclitaxel. We’ve aimed to be proven in clinicals, but we believe that there will be better and not as good. And we intend to be on the better side in terms of differentiated paclitaxel product.

We also have through almost program -- because I think I've said in the past, our drug delivery of this particular program is really a platform for us. And so paclitaxel is the first drug that we are using. And in fact, the most difficult application of our platform is [hostile] blood flow in a vessel, which is a drug coated balloon.

But this platform allows us to get recipient mediate to drug delivery into -- we believe a host of tissues and it has the ability to play well with our drug such as Limus version. And SurModics certainly has a quite a lot of history with the knowledge and experience with Limus.

And so our Limus program while not as far advanced as the paclitaxel, so we got to get one done for it. It’s certainly part of our current R&D investment and we feel good about that..

And then just one more on the….

Hopefully, a strategical has to choose..

That’s right. I guess, just a real quick on TCV. If you have any comments, Andy, about anything related to the lawsuit you created, I’m guessing, you don’t. But I'm wondering I know, you can’t tell us how many programs you have around the U.S. that makes it too obvious.

I know you can't say, how may programs you have commercial, but I’m wonder Symantec can help here and you can tell us, how many companies you’re working with on a TCV program that are in clinicals around the world?.

Which program?.

On a transcatheter valve, hydrophilic coating..

Yeah. There are more than one..

More than one?.

Yeah.

We’ve not probably talked about how many companies we’re working right now, but we continue to go back to the same language we’ve used in the past, Charley, that we think on the long-term we’re well positioned in the space in the old structured heart area and beyond that we’ve really haven't commented on any specific projects other than we know that we are on Sapien, the Edwards system..

Charley, I know it seems like a couple of end, but our hands are tied and we can’t answer you right. We have customers but it is more than one..

Maybe, I will just ask one more just on the basic business.

The next couple of quarters, is there anything unusual about patent cliff or anything that we should be thinking of here?.

No..

In cadence to the quarter that we should be knowledgeable, I don’t know if you look to the street..

Serene -- getting Serene across the goal line continues. We didn’t give a much highlight to that. But the majority of our very intense and larger number of feasibilities are using the Serene platform and so as -- I think Andy had said in the past.

The financial impact of those getting across to regulatory and getting into the market is what will affect us in 2015. So as far as our growth strategy of getting Serene adopted, that is going very well. It’s the core market of the current base customers.

I will turn it over to Andy?.

Yeah. As I look in the next couple of quarters, things that kind of stand out -- I mean, we will go back to last year and think about our diagnostics business, Q2 was pretty strong with pretty strong flu season. And flu season based upon the latest data seems to be winning at this point in time.

So, I would not expect that part of our diagnostics business to be a strong, but we do expect antigens and other manufactured products to continue to have some strength.

And the only other thing I can think about in the second quarter, Charley, is that we did have pretax benefit from the research and development activity that Obama had passed in January of ’13. And really that was about $0.02 a share impact on the tax rate for Q2.

Other than that, I don’t see anything in the horizon that we haven’t talked about or haven’t performed now.

On a broader response to that question is that in our 10K, we did comment about the patent cliff that's coming up in 2015 and ’16, both domestically and internationally related to our generation three technology which is about $5.5 million of our 2013 revenue.

We will continue to retain the majority of that revenue as it -- as we have the patents, the relative rates decline to know how rates. But as Gary, mentioned we are working that very hard with the Serene launch to maybe get the impact of that on that change..

Good fraction of those are customers who are adopting Serene over deploying that generation rate?.

So you feel like a decent amount of that $5.5 million might be obsolete by that point or will they still have an older version but they have updated version as well?.

We can’t comment on the fraction but even the fraction that will be going to step down is a fractional maybe going to step down but in the fraction that is on a completely different platform called Serene. Let’s go -- it is some -- and we continue to have that more feasibilities come in of that nature even before 2015.

The issue is they also have to get across -- we are trying to intercept our customers product lifecycle. So when they have the new version of this product that Serene is on that. And so that's really they getting right them..

So I -- I'm a little bit confused sorry I may ask this any way I understanding to get the step down and is less than the majority of the revenue -- more than the majority is gone away because the step down is, I thought it was 50 but its 30 it sounds like. So that’s anything more than half but then you.

In addition to that we’re going to have some customers that you don't have step off because they're on a new program.

So to me that means that you would probably keep close to half of this business in '15?.

Let me respond on financial glacier. On the $5.5 million, we will retain the majority of that channel the majority of that revenue..

Okay..

Without any change or conversion to Serene. We are working to convert those customers to three because it’s better for them..

Okay I'm with you. So it’s an old neural platform hopefully from the old Boston boys..

Right, right. Thank you..

All right. Well, thank you for all the questions. Hopefully no one else. Thank you..

Good to chat..

And there are no questions at this time, please continue with any closing statements..

Let me literate that fiscal 2014 represent some exciting opportunities for SurModics. To continue our profitable growth even during a challenging market and especially while we increased our investment and opportunity for core expansion.

I want to thank everyone again today for participating in this quarter’s conference call and I hope you can join us next Tuesday February 4, for the webcast of our annual shareholder meeting. Thank you everyone..

Ladies and gentlemen that does concludes the SurModics first quarter 2014 earnings conference. Thank you again for your participation. You may now disconnect..