Good morning, ladies and gentlemen, and welcome to Baxter International's First Quarter 2015 Earnings Conference Call. Your lines will remain in a listen-only mode until the question-and-answer segment of today's call. [Operator Instructions] As a reminder, this call is being recorded by Baxter and is copyrighted material.

It cannot be recorded or rebroadcast without Baxter's permission. If you have any objections, please disconnect at this time. I would now like to turn the call over to Ms. Mary Kay Ladone, Corporate Vice President, Investor Relations at Baxter International. Ms. Ladone, you may begin..

Thank you and good morning, everyone, and welcome to our Q1 2015 earnings conference call. Joining me today are Bob Parkinson, CEO and Chairman of Baxter International; Ludwig Hantson, President, BioScience; and Bob Hombach, Chief Financial Officer.

As previously announced Bob Hombach will be transitioning into his new role as Chief Financial and Operations Officer for Baxalta Incorporated upon completion of the Baxalta spin and Jay Saccaro, who is also with us today will be assuming the role of Chief Financial Officer for Baxter International.

On the call this morning, we'll be discussing Baxter's first quarter financial results and outlook for the second quarter before taking your questions.

I would like to take a moment to highlight that we'll be hosting separate investor conferences in New York City on the afternoon of May 18 for Baxter International and the morning of May 19 for Baxalta Incorporated.

At these conferences we will introduce you to the new Senior Management Teams and provide investors with more information regarding the strategies, growth prospects, capital structure and financial outlook for each company including guidance for the second half of 2015 and longer term projections.

I encourage you to visit the Investor Relations page of the Baxter website to register for the event. In addition, we'll also engage in a comprehensive Investor Relations effort including Investor road shows for both companies with the respective Senior Management teams, several weeks before the spinoff is completed.

So with that, let me start our prepared remarks this morning by reminding you that this presentation, including comments regarding our financial outlook, new product developments and regulatory matters, contain forward-looking statements that involve risks and uncertainties, and of course, our actual results could differ materially from our current expectations.

Please refer to today's press release and our SEC filings for more detail concerning factors that could cause actual results to differ materially. In addition, in today's call, non-GAAP financial measures will be used to help investors understand Baxter's ongoing business performance.

A reconciliation of the non-GAAP financial measures being discussed today to the comparable GAAP financial measures is included in our earnings release issued this morning and available on our website. Now I'd like to turn the call over to Bob Parkinson..

Thanks, Mary Kay. Good morning. Thank you all for calling in. As you saw in the press release that was issued this morning, Baxter reported financial results for the first quarter with adjusted earnings of $1 per diluted share, exceeding guidance of $0.85 to $0.90 per share. Worldwide sales excluding currency increased 4% also exceeding guidance.

We continue to successfully deliver on a wide range of strategic and operational objectives as we're extending our global reach, launching innovative and differentiated products and therapies, advancing our new product pipeline and investing to drive future growth and position the two companies for sustained success.

Our new product pipeline is focused on a number of programs that improve the quality of care and address key high potential areas of unmet medical need. Some recent highlights include CE marking in Europe for HOMECHOICE CLARIA an automated peritoneal dialysis system integrated with the SHARESOURCE web-based connectivity platform.

This system is designed with user friendly features and secure two way connectivity. So healthcare providers can monitor their patient's home PD treatments and adjust prescriptions as necessary. We expect to initiate the commercial launch of the system in select European and Asian countries beginning in the second quarter of this year.

We also received FDA approval and orphan drug designation of PHOXILLUM Renal Replacement Solutions for use in continuous renal replacement therapy, or CRRT, to correct electrolyte and acid-base imbalances and we plan to introduce these solutions in the United States in the coming weeks.

In BioScience we submitted a new drug application to Japan’s Ministry of Health for the approval of BAX 855, our investigational, extended half-life recombinant factor VIII treatment for hemophilia A based on ADVATE.

In addition, we've also completed enrollment in the BAX 855 pediatric study, which will support post-approval label expansion in the U.S. for previously treated pediatric patients and European regulatory submission in 2016. We announced positive results from the Phase III study of BAX 817 for patients with hemophilia A or B who develop inhibitors.

The trial met its endpoint of successful resolution of acute bleeding episodes with an overall success rate of 92%. No patients developed inhibitors or binding antibodies during the study and none discontinued treatment due to adverse events.

We expect to initiate regulatory submissions in the next several years aligned with the prioritization of other pipeline assets and manufacturing expansions currently underway.

Our partner CTI BioPharma announced positive top-line results from PERSIST-1, a randomized, controlled Phase III registration clinical trial examining pacritinib, a next generation oral JAK2/FLT3 inhibitor for the treatment of patients with primary or secondary myelofibrosis.

The trial met its primary endpoint of reduction of spleen volume and the safety profile was consistent with previous studies. Data will be highlighted in a late-breaking oral presentation at the American Society of Clinical Oncology Meeting in Chicago next month.

Under our collaboration with Momenta Pharmaceuticals we initiated a pharmacokinetic trial in Europe for BAX 923 a biosimilar version of HUMIRA. As you know HUMIRA is a therapy for patients with autoimmune and inflammatory diseases.

And finally, we presented interim data from the Phase I/II study of BAX 335, an investigational factor IX gene therapy treatment for hemophilia B. The trial is assessing the safety of ascending doses of BAX 335 in up to 16 adult patients to determine the optimal single dose.

At the end of 2014, a total of six patients from three dosing cohorts had been treated, with evidence of a dose-related response. In the two highest dose cohorts, Factor IX activity levels in 10% or above were observed in two patients with no bleeding episodes. In addition, no patients developed Factor IX inhibitors.

We expect to disclose additional data at the upcoming ISTH Congress in Toronto in June. In addition to internal innovations, strategic acquisitions and partnerships remain essential for both businesses as we continue to enhance and bolster our portfolio.

During the first quarter, we acquired SuppreMol, a privately held biopharmaceutical company based in Germany developing treatment options for autoimmune and allergic diseases.

The acquisition includes SuppreMol's early stage development portfolio of novel biologic immunoregulatory therapeutics for the treatment of autoimmune diseases and IgE-mediated allergic diseases.

The technology focuses on the modulation of FC receptors signaling pathways and immune target that could have broad applications of diseases like Lupus, a disorder in which the immune system attacks healthy tissue.

And we signed an exclusive global licensing and distribution agreement with Laboratoire Aguettant SAS for trace elements, which are essential micronutrients used in parenteral nutrition therapy.

This collaboration augment Baxter’s leading parenteral nutritional portfolio and the companies will work together to pursue a broad range of regulatory approvals including United States. In summary, our core portfolio remains strong.

We continue to benefit from the focus on life saving therapies and we’re pursuing new avenues to enhance the value of our products for patients in healthcare providers. Innovation is the life blood of Baxter’s success and our increased investment and recent achievements point the way to even greater success in the future.

Before I turn the call over to Bob, I highlight as you know that we’re quickly nearing a transformational milestone in Baxter’s history with the creation of two leading healthcare companies. One focused on developing and marketing innovative biopharmaceuticals and the other on life saving medical products.

This will present a remarkable opportunity for growth and success in two new companies with unique and compelling investment identities prospects and strategies while each continues to extend their legacy of pioneering science and enhancing shareholder value.

Our employees around the world have been fully engaged in separation activity since the announcement last March. And we remain on track toward a mid-2015 completion as a result of their dedication and commitment. And while the separation will occur during a period of transitions our passion for saving and sustaining lives will be enduring.

As always I’ll be happy to take any questions on this or other topics during the Q&A. And with that, let me now turn the call over to Bob Hombach for discussion of our first quarter financial results and outlook.

Bob?.

Thanks Bob, and good morning, everyone. Adjusted earnings in the first quarter of $1 per diluted share exceeded our previously issued guidance range of $0.85 to $0.90 per share. These results included $74 million of unplanned other income or $0.11 per diluted share, primarily associated with the impact of foreign currency and balance sheet positions.

As we mentioned in the press release, GAAP earnings of $0.78 per diluted share included net after tax special items totaling $120 million or $0.22 per diluted share primarily for intangible asset amortization and cost associated with the company’s plan separation and the integration of its Gambro AB acquisition.

These charges were partially offset by a benefit related to the reversal of certain business optimization reserves. Now let me briefly walk you through the P&L by line item before turning to the financial outlook for the second quarter of 2015. Starting with sales. Worldwide sales of approximately $3.8 billion declined 2% on a reported basis.

On a constant currency basis, sales increased 4% which favorably compares to our guidance for the quarter of 2 to 3%. Medical Product sales were in line with our expectations, while strong growth across the BioScience portfolio contributed to the over achievement. Sales in the U.S.

increased 4% and international sales on a constant currency basis increased 5%. Emerging markets continue to be a key growth driver across the Medical Products and BioScience portfolios as evidenced by mid-teens growth in the BRIC markets during the first quarter.

In terms of individual business performance, global BioScience sales totaled approximately 1.4 billion in the quarter and increased 2% on a reported basis. On a constant currency basis, BioScience sales advanced by more than 8% comparable to the full year growth generated last year with continued positive momentum across the portfolio.

Our hematology business which includes hemophilia and inhibitor therapies generated global sales of $807 million, which declined 2% on a reported basis. On a constant currency basis, hematology sales grew 5%.

Within the hematology product categories, hemophilia sales in the first quarter of $641 million declined 5% on a reported basis and on a constant currency basis, global sales increased 2%.

Strong global demand for recombinant therapies including ADVATE and RIXUBIS was offset by the impact related to our reimbursement assistance program which was recently implemented for patients in the U.S. and the timing of tender sales in Eastern Europe. Excluding these impacts, hemophilia sales in the quarter increased 6%.

In the U.S., sales in the hemophilia category were up 5% after adjusting for the impact of new reimbursement program. We continue to be pleased with the overall growth of recombinant factor A therapies despite the competitive environment and modest patient losses.

We continue to estimate our cumulative recombinant factor A share loss at approximately 2%. Sales in the inhibitor category which includes FEIBA and OBIZUR of $166 million advanced 9% on a reported basis. On a constant currency basis, inhibitor sales advanced 18%.

This was primarily driven by demand and price improvements for FEIBA as we continue to promote a prophylaxis indication and a modest contribution from the recent launch of OBIZUR for patients with acquired hemophilia.

You may recall only 15% to 20% of inhibitor patients globally are treated prophylactically presenting a significant long term growth opportunity for a hematology business.

Turning to the immunology business, which includes immunoglobulin therapies such as HYQVIA and GAMMAGARD LIQUID as well as biotherapeutics, sales totaled $554 million in advanced 10% on a reported basis. On a constant currency basis, immunology sales grew 14% versus the prior year.

Immunoglobulin sales of $420 million increased 6% on a reported basis or 9% on a constant currency basis. This was a result of robust demand particularly in chronic primary immunodeficiency market, strong international growth driven by our improved supply and the contribution of HYQVIA. As you may recall, we launched HYQVIA in the U.S.

during the fourth quarter last year. This is a transformational therapy within attractive value proposition for patients, physicians and payers. We are very pleased with the uptick and continue to experience a favorable reception in the U.S. marketplace based on its differentiation.

Of the 15,000 adult PI subQ patients, we now have approximately 1,500 patients on HYQVIA with majority converting from competitive therapies. Lastly, in the biotherapeutics category which primarily includes albumin and our alpha-1 therapies, we recorded sales of $134 million which increased 29% on a reported basis.

On a constant currency basis, sales increased 36% driven by an easier comparison to last year favorable pricing and increased demand for albumin particularly in China. In Medical Products, global sales were approximately $2.4 billion declined 5% and on a constant currency basis sales increased 2%.

Adjusting both periods for the impact of new generic competition in the U.S. for cyclophosphamide, Medical Product sales rose 4% on a constant currency basis. Within the product categories renal sales totaled $913 million reflecting a decline of 8% on a reported basis. On a constant currency basis sales increased 1%.

PD growth of mid to high single digits which was driven primarily by solid PD patient gains in Asia was offset by the selective loss of certain lower margin HD monitor and dialyzer sale along with our objective of optimizing margins. Within the fluid systems category, sales of $493 million declining 2% and on a constant currency basis sales grew 3%.

Performances driven by favorable pricing and demand for IV therapies and infusion systems in the U.S. Sales in the integrated pharmacy solutions business totaled $564 million and declined 5%.

On a constant currency basis sales increased 1% as strong growth of nutritional therapies and compounding services revenues were offset by lower cyclophosphamide sales in the U.S. Excluding this impact, sales in the category advanced 10%. A new competitor entered the U.S.

market for cyclophosphamide during the fourth quarter last year and we continue to expect additional competitors. As a reference, full year 2014 U.S. cyclophosphamide sales totaled approximately $450 million and sales in the first quarter of 2015 totaled approximately $60 million.

Revenues in surgical care which includes our inhaled anesthetics in BioSurgery products were $322 million in the quarter and comparable to last year. Sales rose 5% on a constant currency basis as double digit growth in anesthesia reflecting increased global penetration with someone offset by lower sales of select BioSurgery products.

Finally, sales in the BioPharma Solutions and other category, which is our former partnering business, totaled $111 million increasing 1% on a reported basis or 6% on a constant currency basis. Performance can be attributive primarily to increased demand from our contract manufacturing partners.

Turning to the rest of P&L, gross margin in the quarter was 49% compared to 50.4% last year. Positive mix, select pricing improvements and foreign currency hedge gains were more than offset by the expected cyclophosphamide and manufacturing impacts. SG&A totaled $887 million and declined 1%. On a constant currency basis, SG&A increased 6%.

This growth reflects bad debt expense driven by adjustments in several emerging markets and BioScience’s investments to support international operations and marketing initiatives related to new product launches.

R&D spending in the quarter of $298 million increased 7% driven primarily by an increasing in BioScience which was offset by foreign currency. In BioScience, we continue to invest in various programs across the disease areas of hematology, immunology and oncology while advancing technology platforms such as gene therapy and biosimilars.

Interest expense was $30 million in the first quarter compared to $43 million last year as we benefitted from recent debt maturities, higher capitalized interest and income generated from the change in the mix of floating versus fixed interest rates.

Other income totaled $74 million and -- including gains related to the impact of foreign currency on balance sheet positions driven by the significant decline in the Euro during the quarter.

The tax rate was 21.8% for the quarter in line with our expectations and as previously mentioned adjusted earnings of $1 per diluted share exceeded our guidance range. Finally, let me conclude my comments this morning by providing an update on our full year sales guidance and outlook for the second quarter.

Beginning with the new Baxter franchises, on a constant currency basis, we continue to expect sales for the full year 2015 to be comparable to 2014, primarily due to the impact of generics cyclophosphamide. Excluding cyclophosphamide in both years, underlying growth would be approximately 3%.

We now expect sales in our renal franchise to grow approximately 3%. This is somewhat lower than our original expectations as we remain committed to servicing our patients while all folks focusing on enhancing profitability. As such, we made proactive decision to forgo lower margin sales opportunities.

For fluid systems, we continue to expect sales to grow in the 2 to 3% range. We continue to expect sales of our surgical care franchise to grow in the 4 to 5% range. We now expect the integrated pharmacy solutions, sales to decline high single digits. This category includes cyclophosphamide and the impact of generic competition.

For 2015, we estimate U.S. cyclophosphamide sales of approximately $150 million and growth for the category after adjusting for cyclo is expected to be in mid-single digits.

And finally, we expect the other category to decline approximately 15% which will be impacted by major customer electing to self-manufacture products previously manufactured by Baxter. For Baxalta, we now project sales growth on a constant currency basis of approximately 4%.

Our outlook includes growth in the hemophilia franchise of 0% to 2% which will be fueled by new product launches and strong international demand which will be somewhat offset by anticipated high single digit share loss for a recombinant factor A therapies in the U.S. due to competition.

We now expect growth in the inhibitors category to exceed 8% driven by strong performance in the first quarter further penetration in growth of FEIBA for the treatment of inhibitors and the launch of OBIZUR of acquired hemophilia patients.

For immunoglobulin therapies, we continue to expect growth of 6% to 8% driven by strong market demand and contribution from HYQVIA. And finally for BioTherapeutics which includes plasma based therapies like albumin and treatments for alpha-1 deficiencies, we continue to expect growth in the 2% to 4% range.

As we previously highlighted, given the complexities of a mid-year spend, we are not in a position today to provide full year P&L guidance for Baxter and Baxalta. We are however, providing guidance for the second quarter as Baxter will be publishing earnings result for the combined business at the end of July.

As stated in our press release for the combined business, we expect adjusted earnings excluding special items of $0.92 to $0.96 per diluted share. This guidance does not reflect any material incremental standup cost for the separation as expenses will begin to be layered in toward the end of the quarter.

Our outlook by P&L line item, we expect second quarter sales growth excluding the impact of foreign currency to increase approximately 1%. At current foreign exchange rates we expect reported sales to decline 9% to 10%.

By business on a constant currency basis we expect medical product sales to be comparable to last year and BioScience sales to grow approximately 4%. We expect the gross margin for the company to decline by more than 150 basis points versus the second quarter margin last year of 50.3%.

We expect SG&A to decline in high single digits and R&D to decline in mid single digits. On a constant currency basis SG&A growth is expected to be in low single digits and R&D growth is expected to be in mid to high single digits.

And finally for the second quarter, we expect interest expense to total approximately $35 million and other income of approximately $50 million. This does not include any impact of foreign currency on balance sheet positions as our outlook assumes current foreign exchange rates remain constant.

We expect a tax rate of approximately 22% and an average share count of approximately 547 million shares. I would like to conclude my prepared remarks this morning by saying that we recognize investors and analysts need more information to help model both companies separately.

So we look forward to providing you with an overview of the businesses at our upcoming investor conferences on May 18, 2015 and May 19, 2015, in New York. At this point, our estimate of initial incremental stand-up cost to create two independent companies remains approximately 2% of total Baxter sales or slightly more than $300 million.

About half of these costs will be reflected in operating results beginning in the second half of 2015. Going forward both companies will take steps to reduce a meaningful portion of these costs over the next several years post spin.

Finally as we're finalizing the capital allocation strategies of each business, I would emphasize that both businesses will have strong balance sheets, generate significant cash flow and have flexibility to follow a disciplined capital allocation approach, which balances reinvestment in the business with returning value to shareholders.

This concludes my prepared remarks this morning. We look forward to providing more financial information to you in May. Now, let we open up the call for Q&A..

Thank you. We will now begin the question-and-answer session. [Operator Instructions] I'd like to remind participants that this call is being recorded and a digital replay will be available on the Baxter International's website for 30 days at www.baxter.com. Our first question comes from Josh Jennings of Cowen and Company. Your question please..

Hi good morning. Thanks for taking the question. I guess first just on the renal business, I was hoping to get a little bit more color on not only the decrease in projection there for that business, but also just specifically on Gambro the performance in the quarter and the outlook going forward and then update on the cost synergies..

Sure Josh, Bob Parkinson. I may ask Jay Saccaro to add his comments as well.

Relative to the renal performance, clearly the growth in first quarter was -- actually the business was fairly flat as we pointed out in the script, largely due conscious decision to walk away from a couple of tenders that frankly weren’t generating the kind of returns that we expect.

One of the things that we've talked about before and you'll hear more about when we were in New York a few weeks is our increased focus on portfolio and particularly in areas that the returns in certain businesses in certain countries are not generating accept those kind of returns and so that was really what contributed mostly to the softness in the first quarter of the overall renal business.

Going forward we're looking at mid single digit growth for the remainder of the year that’s really led by faster growth in the acute area. But overall, we're projecting about mid single digit growth as I said for the last nine months of the year. So in some ways the first quarter was a bit of an anomaly.

Relative to your question more specifically about Gambro, the decisions we made to walk away from tenders and so were in fact in the chronic space the hemodialysis space that would be associated with the Gambro business.

The PD business continues to -- underlying demand continues to be strong globally, I would say that we continue to work through the integration issues with Gambro as we face that on a global basis.

Again the numbers right now are tracking a little bit behind the model that we pull together when we did the acquisition, but we continue to be very positive about the decision to make the acquisition and the prospects of the business going forward. Jay, you want to talk about maybe the second part of the question, Baxter question..

Yes, I believe the second part was in relation to overall cost synergies and how that's tracking. As we think about that component, we've previously commented $300 million in annual savings achieved by 2017.

As we sit here today we're confident that we're much on track in terms of achieving the milestones necessary to achieve that level of cost savings by 2017..

Josh, one thing I would add coming back to my comments, the specific focus on Gambro, obviously one of the rationales behind the deal was to be able to bring forward a broad based product offering and in addition to the cost synergies that Jay just commented on is the opportunity for commercial synergies that we're all starting to release.

So as we move forward, really the way to value this business or evaluate the business is to look at it in total.

While the chronic business was softer in the first quarter for the reasons that I mentioned, we're seeing synergies already in terms of increased demand in the PD segment as a result of being able to bring a broad product offering to the marketplace, particularly participating in certain tenders and so on where we have as I say a complete product offering.

So I think going forward the way to look at this business is really an aggregate because you're going to see the various components certainly in the chronic space where there is traditional in-center or PD in the home begin to melt together somewhat..

Great, thanks for that and just a quick follow-up. I know you're going to give more details at the Investor Day, but you have called out that the new Baxter is going to hold a 20% stake in Baxalta.

Can you just give us some details around the rationale behind that strategy? Any timelines in terms of the ultimate sale of that stake and deployment of that capital, thanks a lot..

Again we'll be more specific on that in a couple of weeks, but Bob maybe you might just want to make couple of comments about that..

Well certainly, yes.

Josh, I think first and foremost this is a clear indication of confidence in the future prospects of Baxalta and I think it provides a significant amount of flexibility in terms of capital structure really for both businesses as we approach this significant separation and try to set up the two entities for sustainable success going forward.

Again very confident in the ability to generate significant cash for both and want to ensure we position both that in a very competitive environment to be ready and able to continue to pursue their strategies, which include reinvesting in the business and potentially bolt-on acquisitions as well.

And as Bob mentioned, I think we will get into much more detail on that as we get into the Investor Conference in May..

Thank you. David Roman of Goldman Sachs is on the line with a question. Your question please..

Thank you, good morning, everybody. Hey Bob. I wanted just to start with hemophilia. I think in your prepared remarks you referenced 2% cumulative share loss for now three quarters into the Biogen launch.

Are we at a point now where you feel confident in sort of your original substance about the pace of share loss and if that is the case why not a more optimistic outlook than the 0% to 2% guidance that you're providing for the balance of 2015..

All right. I'll turn this to the expert Ludwig..

Well, thanks for the question David. So as you said, we continue to see growth in our recombinant Factor VIII demands in the U.S. In addition to that, as you saw we have very strong FEIBA growth. I can tell you we have a very strong team and ADVATE has a very strong brand equity. And the bar is high and the bar is high on efficacy and tolerability.

So with respect to guidance that we gave you already last year, high single digit market share loss between the launch and the launch of ELOCTATE and the launch of 855. We still stick to that guidance for now. The 2% market share we're doing better as expected. We're going to see what we're going to do in the next couple of quarters.

You should also note that we will get additional competition within the Factor VIII space in U.S. So we will keep you posted on how we're doing and we will adjust our sales guidance accordingly..

And if I could just clarify something just before I go to my second question. You said the high single digit share loss between ELOCTATE and 855, so I think about the total Baxter franchise, ADVATE, plus 855 the share loss will be lower than high single digits..

Well I think the expectation is we would get approval very late in 2015 and then launch 855. So from midyear last year launch of ELOCTATE till that point at the end of this year before we launch 855 that that’s the single digit share loss that we're referring to..

So as we think it's about in 18 months period..

Got it. Okay. And then secondly just on margins, Bob in your comments around renal, you made the point that you did walk away from some lower margin business and I think one of the potential opportunities around the medical products is the relative profitability compared to peers. Can you just may be give some sense on the dissynergies.

How easy is it just to cut out those incremental $300 million, it sounds like you're adding the cost than in terms of pulling it back out. You have commitment to ranch it that down, but how long does something like that take and what are the steps needed to get there..

First of all the entire $300 million is in new BAX that's partly absorbed by Baxalta as well. But nonetheless it’s a meaningful number.

I would say our intent would be to offset the negative impact of dissynergies and stranded costs if you will probably within a two-year timeframe, but frankly that’s just part of a broader initiative to evaluate opportunity to pull out structural cost, which is a significant opportunity going forward.

This is the story that you're going to hear in a few weeks in New York is our belief strongly is that there is an opportunity to meaningfully improve margins over time whether it’s the Gambro synergies that we continue to track well on as Jay commented earlier focus on structural cost improvement in manufacturing efficiencies and costs going forward because we have absorbed some incremental costs.

As you know in our facilities particularly in manufacturing IV solutions and PD solutions as a result of looking for ways to enhance our operational and quality performance in those businesses, the re-launch of CIGMA spectrum portfolio as I talked about in terms of a more proactive management of that and then increased focus on higher margin, higher growth product.

So in aggregate, this provides a very exciting opportunity to meaningfully increase margins over time, but you're right. Back to your question David, as you benchmark versus peers and so on, as you'll see we're at the lower end. Now part of that frankly to some degree is the nature of the businesses that we're in.

Not only IV solutions, but PD solutions, we incur significant distribution cost as associated would be in those businesses that typically are unique to those kinds of businesses compared to other companies you might want to benchmark again.

So in some ways the real litmus test here is in those businesses are we generating returns that are sufficiently in excess of our cost of capital. In many ways this gets back to the whole notion of focusing on portfolio. So again I'll stop there. Jay I could talk a lot of this, but you'll hear more on this in few weeks David..

Thank you. David Lewis of Morgan Stanley is on the line with a question. Please take you question..

Good morning. Just a couple of quick ones here. Just into the second quarter Bob, the earnings was a little lower than you were expecting, but some of the factors you discussed weren’t materially different than we were expecting.

So does that simple reflect conservatism or simply incremental cycle of pressure with a little bit of currency? So what is specifically driving some of the pressure sequentially?.

Well yes first and foremost, I would say the second quarter very much aligns with our outlook of the full year. So there is a calendarization impact at work here as well just in terms of timing of tenders and so on.

But clearly the cycle impact will accelerate in the second quarter relative to the first quarter fairly meaningfully as that first competitor is much more entrenched in the marketplace.

And FX will continue to be a headwind as we've talked about the rate at which we've been able to hedge key currencies like the Euro or much in the first half of the year than they are in the back half of the year. So that's certainly a contributor to the near term.

But again I would emphasize this is all very much in line with our expectations as we look at 2015 initially..

Very, very clear. And then Ludwig just with the commentary I guess that Bob had made, but on inhibitors the volume growth is actually very impressive. The other comment that was interesting though, I think there was a comment about stronger pricing in the inhibitor segment.

I am trying to figure out where exactly that stronger pricing is coming from? Is this simply mix or are you, just given the strength of the portfolio using this as an opportunity to take up price in either these or obviously this new or FEIBA..

Well FEIBA is the number one driver within that segment. So we're just launching OBIZUR and the patient response is very positive on OBIZUR. So we're still building that business. On FEIBA we see different dimensions here.

The first one continued growth -- demand growth because of very strong rollout of the [profile] [ph] indication and in addition to that, we've been able to take a little bit of price on FEIBA..

Okay. And then just one quick one and I'll jump back in queue. For Bob Parkinson, Bob you talked about renal cost cutting and then sort of renal growth being a little slower. In terms of capacity that was a big driver of the Gambro transaction.

Are we going to ramp capacity at certain plants? Is there any concern that if growth is slower on renal, that's going to put some pressure on some of the gross margin objectives or are you still comfortable with those gross margin objectives or simply feel that there are more SG&A cost opportunities at Gambro that make you very confident that you still get to those cost targets even with a little lower growth rate.

Thank you..

Yes, well the synergies that Jay commented on earlier largely associated with structural cost and global manufacturing footprint and things of that nature -- very operational in nature. In terms of our gross margins, we're confident that we're on track with what we model in that regard. I think clearly the -- and we modeled this in.

I think the traditional in center hemo market will always be very, very price competitive and so I think we've been very realistic in how we forecasted pricing and margins going forward and that business I think the acute segment and frankly the PD segment in certain markets around the world can be more blank in terms of pricing and selling.

But net, net for the broad renal business including the Gambro component, I think our outlook in terms of pricing, market dynamics and how that manifests itself in gross margins is pretty realistic..

Yeah and maybe just adding one comment back to the second quarter and our outlook, I would also emphasize, we had given a somewhat wider range for two reasons.

One is the volatility in FX, but the second one is during the course of the second quarter, likely we will execute our financing to establish the capital structure for Baxalta and have to adjust the existing debt portfolio potentially for Baxter. And as a result, there is some uncertainly around both timing and impact on interest expense.

So we've built some conservatism into the outlook to account for that eventuality..

Thank you. Our next question comes from Kristen Stewart of Deutsche Bank. Your question please..

Question and guess this will be our last call together as old Baxter, so I had a couple of questions just throw them out there. On the -- on the I guess the recombinant hemophilia side, you had mentioned new patient reimbursement programs. I was wondering if you could just comment on that.

Is that part of a strategy to kind of keep people locked in with ADVATE? Just wanted to get an update on the Georgia plant and how things are going? Whether or not that is tracking on schedule from a completion perspective and Sanquin and then lastly just gross margins. You had guided to being down 250 to 300 basis points.

Came in a little bit better than that. Just curious on what drove the favorability, thanks..

Yes, this is Ludwig. Kristen, thanks for your question. With respect to hemophilia, these new patient reimbursement programs, we do this for access reasons. Want to make sure that people have access to all products. With respect to the Georgia plant, it is on schedule.

As for supplies concerns, we will grow faster than the market including the Sanquin opportunity. You mentioned Sanquin is still on track to have the first product by the end of this year and we will be focused on European product..

Okay..

And Kristen as it relates to gross margin yes, the gross margin did come in from a percentage base is a bit better than we expected in the quarter. That certainly is driven by mix. You saw BioScience grew very strongly.

Some modest price contribution as well as a bit than we expected, but also on a reported basis, we did have hedge gains as I mentioned and so those hedge gains while they do impact the gross margin, they’re simply offsetting the underlying weakness in the currency that’s driving down the natural sales and gross margins that would otherwise be reported by the business.

So the mechanics here with the lower reported sales, but the gross profit dollars being preserved by the hedges, result in a higher reported gross margin and that contributed somewhere between 60 and 70 basis points to the reported gross margin percentage benefit in the quarter.

Just maybe a moment more on those hedges, again I would emphasize that these hedge preserve value, they do not in and of themselves create incremental value. They are there to hedge underlying exposures.

By definition if the currencies are weak and those underlying exposures are worsening and the hedges again preserve value back to our original expectation.

But as it relates to year-over-year comparisons as we think to the back half of 2015 and then into 2016, the hedge rates we have in place in the first half of 2015 are very attractive particularly for the Euro, north of $1.30, $1.30 per euro which clearly we put in a place a long time ago.

But the hedge rates we have in place for the back half of ’15 are less than that and certainly for 2016 are nowhere near that.

So while they do not create incremental value necessarily in 2015 for Baxter, in 2016 if rates stay where they're at, sales will continue to be depressed but our hedge rate will imply a gross margin percentage and value that will be less than what we're seeing now.

We estimate at current rate that, that would be $70 million to $80 million of incremental headwind if you will in 2016 for the combined company, which equates to about $0.10 to $0.12.

So at current rates we would see that in 2016, but again I just want to emphasize the hedge gains improve reported gross margin percentage but in and of themselves are not necessarily added to the bottom line because they’re there to hedge underlying exposure..

And can you update just for 2015, where we stand now with the total Baxter impacts from a foreign exchange perspective?.

Yeah, it’s still very much where we expected, excluding this anomaly in other income here in the quarter operationally in margins and of margin it's still very much where we had previously projected with again most of the negative impact, somewhere in the order of two-thirds of the negative impact of the approximately $0.40 that we projected for the year we're going to experience in the back half of ‘15?.

So $0.40 in the back half of ’15 in total?.

$0.40 is our full year expectation, so excluding the anomaly of the other income in Q1 we're very much in that range still for 2015, but about two-thirds of that will impact us in the back half of the year for the reasons I mentioned the hedge rates are at less attractive levels for us and frankly the Euro has deteriorated from when initially gave guidance as well..

Got it, okay. Thank you very much guys..

Thank you, Kristen..

Bruce Nudell of Credit Suisse is online with the question. Please state your question..

Thanks for taking my question. I have a couple for Ludwig.

Ludwig most of these net expense worked pretty well and the stock appears to have been handcuffed prior to the spend largely due to kind of perceived essential for us hemophilia specifically Factor VIII and FEIBA, there SubQ approaches that are out there in the development stage that are potentially once a month they work in the presence of inhibitors potentially Baxter 826 may be better than once per week dosing, but it’s not humans yet.

Just schematically what’s the company’s view broadly speaking as to whether or not we should view Factor VIII and FEIBA as a kind of midterm grower or a decliner and if it’s a decliner are there enough offsets of it really should matter for the new Baxalta..

This is a great question and you're going to feel the details on May 19. So I hope you'll be able to join us. But overall we believe that this business will continued to be a growth driver for us in all the different segments inhibitors as well as hemophilia. What we're doing is we're building both breadth and depth in our portfolio.

The depth as you mentioned with 855 hopefully launched by the end of this year, 826 and then moving to gene therapy. Everything is related to factor replacement, which is an advantage because the clinical, the regulatory piece, the manufacturing piece is very well understood. So that’s the path that we’re on.

The breadth is that we’re going outside of hemophilia and you know that we have different opportunities in development. So overall this will continue to be a growth driver for us, but we’re going to give you much more details on May 19..

Thanks so much for that and just your commentary on HYQVIA is very interesting. I think you said 1500 of the 15,000 patient equivalents in USPID are sub-QPID are now captured.

So like what’s the sealing for that and what are the plans for extending that to non-PID applications?.

Well we’re very pleased and we’re pleased in the first place, because the feedback from the patient is very strong. But it also gives value to the payer as well. Overall, we believe let’s say a decrease in total cost of therapy even though we were able to take a price premium, because of the equivalents of the bioavailability of HYQVIA.

So I believe it’s a winner. We’re in a position over the long-term to make this a leading product within PI. The opportunities that we have on the development side is to go outside of PI, that PI is about 20% to 25% of the total business. So we’re starting Phase III program in CIBP as well as we continue to look at extending the label with NPI.

At this moment we’ll restrict it to adults. So we’re very, very pleased with the uptake six months in and we have 1500 patients out of 15,000..

Thanks so much..

Hey Stephanie, we have time for two more questions..

Thank you. Mike Weinstein of JPMorgan is on the line with the questions. Please state your questions..

Thanks I just want to clarify as starting point just the FX impact commentary in the second quarter.

So the $0.11 Bob as you called out for this quarter that would be offset in the $0.40 so the actual on a reported basis I guess the FX impact for the year is more like $0.30 this year and then another $0.20 to $0.22 next year is that how we should think about it?.

Yeah, I would definitely separate the anomalous situation that occurred here in Q1 in other income from the operational FX we expect to incur, which again we continue to think is approximately $0.40 and at the op income line. As it relates to 2016, my comments were specifically about the year-over-year potential for headwind related FX gains.

The overall FX picture is clearly going to be defined by how currency rates move between now and in the end of 2015, which they have been fairly volatile. And plus we’ll have different impacts by business as well.

So I don’t want to get too far ahead of myself here as it relates to overall expectations on FX impact in 2016 other than to say we’ve hedged gains here are clearly going to be an issue at the current level of exchange rates and the current level of hedge rates we’ve been able to achieve thus far in 2016 and again I peg that at about $0.10 to $0.12 on a year-over-year basis..

Okay and then just to think about the $0.92 to $0.96 for the second quarter, so if we’re analyzing that, which I realize is a problem doing that but it’s all we've got to do with right now.

The incremental impact from there is the $0.40 of dyssynergies from the split and the net incremental FX impact as well was the whatever remaining erosion there is in cyclophosphamide is that fair?.

Well just to be clear when you say $0.40 of these synergies that’s an annual number..

Right..

That’s not going to incur in the back half of ‘15, but that’s our current estimate of the annual impact. Initial dyssynergies from a run rate perspective I would tell you we’ll get into this more in May, but both businesses are going to begin to do what we can to mitigate some of those dyssynergies even starting in 2016.

So that will be part of what we get into at the Investor Meeting here in a few weeks. But from a run rate perspective in the back half of ’15, the $0.40 roughly well as I said approximately, $300 million or so in overall dyssynergies. So it’s a bit more than $0.40..

Right, okay, just a couple of quick product clarification, you said in the prepared comments Bob considering that 817 that even though everything has gone well there, you said regulatory submissions over the next several year.

So I was hoping you could clarify that because I think we’re assuming that you submit that product later this year and then 855 Ludwig, if you could just comment on the dialogue with the FDA in the confidence and an approval later this year that would be great. That’s all, thanks..

817, recombinant VII, so positive Phase 3 data, we have to power test we have a long list of products within hemophilia. We have to prioritize from a manufacturing perspective, 817 is lower in the ranks and that’s the reason why, we will not be submitting later this year. With respect to 855 the regulatory review is ongoing.

No red flags at this moment and we believe that we still have the chance to get approval before yearend..

And Stephanie our last question?.

Our final question comes from Bob Hopkins of Bank of America. Your question please..

Thanks very much for taking the question. So the first question I have is previously you guys suggested that fully loaded operating margin for Baxter medical products at the time of the spin would be in the low double digit range.

And I was wondering in light of all the comments today about that business, is that still a good number to think about in terms of the operating margin from the start or is that now a little more?.

Yeah, Bob we haven’t been quite that specific. What we simply said, it would be at the very low end of the peers that for a number of reasons and frankly as we work through all of the details here on the separation including things like the pension that we currently have in the U.S.

which generates simply the amount of expense and how that gets a portion between the two companies and so on. Again we lay all this out at the Investor Meeting, but I just want to clarify, we haven’t specified a start point if you will from an operating income margin perspective..

Well then maybe another way to asking the question is in terms of what’s happened at the business since the last call on Q4, you’ve talked a lot about currency, I think we’ve got that straight, there has been cost like they're the same.

Renal sounds a little worse, is there any other major moving parts you want to comment on here like is pension different than it was at the beginning of the year in terms of some of the big buckets we should be thinking about that might have changed again since the last conference call..

Yeah, the only thing I would say about pension is due to the fact that we are going to be have to split the pension, that triggers a gap requirement for a re-measurement.

This is the process that normally happens at the end of the year where you rebase, where you discount rate is, your asset return assumption etcetera, your mortality table the whole mind yards. So there is a possibility that pension expense could be different.

I think directionally interest rates are slightly lower now than they were at the end of the year. So there may be some impact. I don’t think it's going to be super material. Other than that and the factors that you've mentioned, I don’t think there is anything else in the business we’ve talked about that has changed..

And then lastly really quickly, are you guys going to address dividend policy at the upcoming meetings. Obviously there is given the decline in earnings there has been a lot of discussion about the dividend.

Is that something you would lay out in detail at this meeting and just wondering how confident you are that you can maintain the total payout relative to what you’re currently paying?.

Yes, as we said all along we're going to lay out the full financial outlook.

The sales, the operating margins, the cash flow generation capabilities of two businesses as well as capital structure in terms of bed allocation and capital allocation policies including dividend policy, that will all be part of our discussions with investors on the 18 and 19 of May in New York..

Great, thank you..

Thanks Bob..

Thank you ladies and gentlemen. That does conclude today’s Q&A session and today’s conference call of Baxter International. Thank you for participating. You may all disconnect and everyone have a great day..