Olivier Bohuon - CEO Julie Brown - CFO Mike Frazzette - Chief Commercial Officer.

Michael Jungling - Morgan Stanley Veronika Dubajova - Goldman Sachs Julien Dormois - Exane Tom Jones - Berenberg Chris Cooper - Jefferies David Adlington - JPMorgan Ines Silva - Bank of America.

Good day, ladies and gentlemen, and welcome to the Smith & Nephew 2016 third quarter trading report conference call. Today's conference is being recorded. Certain statements in this presentation are forward-looking statements.

These statements are based on the management's current expectations and are subject to uncertainty and changes in circumstances. Actual results may differ materially from those included in these statements due to a variety of factors.

More information about these statements is contained in the Company's filings with the Securities and Exchange Commission. At this time, I would like to turn the conference over to Olivier Bohuon. Please go ahead, sir..

Thank you. Hello and welcome to our third quarter trailing update call. I am Olivier Bohuon, CEO, Smith & Nephew; and I'm here in the US with my colleague, Julie Brown, our CFO; and Mike Frazzette, our Chief Commercial Officer. I will start by covering the highlights of the quarter and then hand over to Julie for a brief financial update.

I will conclude with a summary and some thoughts on the year to date. And as usual, we will take questions at the end. Before moving on to discuss the quarter, I want to thank you for all your best wishes during my leave for a long treatment.

After eight months, I returned to business full-time in October, and I am now focusing fully on Smith & Nephew without any distraction. So turning to third quarter, as usual, this slide captures our underlying growth - on the left-hand side, geographically and on the right-hand side, by product franchise.

In the third quarter, we have seen a continuation of many of the trends that we saw in the first half. We delivered 2% underlying revenue growth from the same number of sales days as in Q3 2015. It's a bit below my expectations, and I will comment on that later. The US, our largest market, grew 2%. In the other established markets, sales were flat.

More positively, as expected, our emerging markets returned to positive growth, delivering 6% growth. And within this, China grew at a high single-digit percentage, in line with the pattern Mike outlined to you at our H1 results.

Meanwhile, tender activity in the oil-dependent Gulf States remains very subdued, and we expect this to continue for at least the remainder of the year. Performance across other emerging market countries have remained very strong. Across our newer franchises, our performance in sports medicine joint repair, knees, and ENT were highlights.

And now turning to this in more detail, sports medicine joint repair grew 8%. In particular, our comprehensive shoulder portfolio, including recent product launches, contributed strongly to this good growth. Enabling technologies grew at 2%, and the good demand for our COBLATION technology has continued.

And our new surgical imaging system, LENS, has been very well received. Our trauma and extremities business returned to growth of 1%, whilst the challenges in the Gulf State tenders continue. China improved in line with our expectation. Additionally, we have launched a new campaign for our INTERTAN nail, driven by updated clinical evidence.

To give you an example, in a review of published clinical studies comparing a number of hip fracture treatments, INTERTAN had more than 4 times lower rate of reoperation. In our other surgical businesses, revenue was up 12%.

As you know, we completed the divestment of the GYN in August and have been running a share buyback program to return the proceeds, in line with our capital allocation framework. We had a good quarter in ENT, and robotics is progressing well following the acquisition of Blue Belt at the start of the year.

Globally, our recon implant revenue was up 2%, which, when adjusting for the additional sales days in H1, reflects the continuation of our recent positive trend. Global knee grew at 4% - represents another good quarter, notably, OUS was 6% growth. This was driven by continued strong uptake of JOURNEY II, our kinematic knee. Global hips growth was flat.

We expect new product launches in revision hip, including our 3-D printed acetabular cup to start contributing in a more meaningful way going forward. Geographically, we delivered a strong quarter across the emerging markets.

In the US, similar to some of our competitors, we experienced some market softness in the summer months in both knees and hips and an improvement in September. Pricing was less favorable this quarter, but followed a benign Q2. We see this as the usual quarterly fluctuation.

Our eCAP initiative for joint patient procedures, where we offer a combination of our wound and recon product, has seen strong customer interest and is contributing to increased sales. So moving onto wound, advanced wound care revenues declined 2%.

And the sustained turnaround in the performance in the US, where revenue grew 10%, was again masked by the distorting effect in China and some ongoing weakness in a couple of European countries, which we are addressing.

We continue to invest in clinical evidence around our core technologies, and this was on display with the successful launch of our Closer to Zero campaign at the recent World Union of Wound Healing Societies in September. Advanced wound bioactives declined by 3%, and this is below our expectations.

And as a result, we now expect full-year revenue for this part of the business around the same level as in 2015. The Q3 performance was driven by the ongoing reimbursement headwinds for OASIS and a weak quarter for REGRANEX. Year-to-date volume trend in SANTYL, our largest bioactives product, showed solid growth.

However, in Q3 this trend is largely offset by pricing pressure. We expect to publish more health economic evidence to support further uptake of SANTYL. Advanced wound devices grew 5%, continuing the strong underlying trend of PICO, our disposable negative pressure wound therapy device.

We have sold more than 1 million PICO devices since it was launched, and we continue to believe that PICO will represent an increasing share of negative pressure wound therapy market in the future. As with last quarter, destocking in China partially offset the good trends elsewhere. And I now hand over to Julie..

Thank you, Olivier. Olivier talked to weaker performance in AWB, and that aside, our guidance as a whole for the year remains unchanged. However, I thought it would be helpful to summarize some of the key points we made at half one. On revenue for the remainder of the year, we expect the positive trends in sports medicine and knees to continue.

We expect a better half two to in China, as we outlined in half one. This is somewhat offset by the continuing weaker conditions in the Gulf States and in US AWB. Also on revenue, in Q4 we had 4 fewer sales days than last year. Regarding translational exchange, we expect the full year impact of negative 1% on our revenues in 2016.

On margin, there are three factors to draw your attention. Firstly, there is no change to the adverse impact of transactional exchange and Blue Belt, totaling minus 180 basis points on the full-year margin. The gynecology disposal also impacts by minus 10 basis points, as previously guided.

Secondly, we expect our group optimization programs to deliver annualized benefits of slightly more than $120 million by the end of the year.

And thirdly, the second-half trading margin is expected to exceed that delivered in the first half, as usual, although held back by negative operational leverage resulting from the weaker than anticipated sales growth.

Finally, we have reached an agreement with the IRS on a US tax issue and expect one-off benefits as a result of that this year, reducing our tax rate on trade results by around 200 basis points to around a 24.5% in 2016 tax rate, with no impact in future years.

We have commenced the share buyback following the GYN disposal in August, and we have now completed $160 million of the $300 million total and expect to have substantially completed the buyback by the end of 2016. And with that, I will pass back to Olivier..

Thank you, Julie. As I look at the results of Smith & Nephew this year, I see many good things.

Our sports medicine business growing from strength to strength as we continue to benefit from the acquisition of ArthroCare, the way PICO is transforming the use of the negative pressure and our world-class knee implant portfolio, reinforced by the acquisition of NAVIO, to name a few.

However, I am also somewhat frustrated, as we have not reached some of our financial goals. In my mind, our progress has been held back by three factors; first, the macro situation has not been favorable. Market conditions in China and the Gulf States have together shaved 2 percentage points of growth of the Group so far this year.

And the impact of FX will impact our trading margin for the year by 120 basis points. I am pleased we have got our arms around China and returned the emerging market to growth. The Gulf will remain weak, at least in the near term.

The second reason - as you know, we have undertaken a fundamental restructuring of Smith & Nephew to improve both our efficiency and ability to serve our customers in the market. This has included changing the management structure in teams in every market to bring them under a single managing director, a process we completed in early 2016.

It has not been easy, and in some markets - particularly some markets where we have also moved the locations; there has been some noticeable disruption. The changes are complete, and the new teams are largely in place embedding into their new role.

Sometimes you have to take small steps backward to move forward at greater pace, and I see this as an important stage in our journey to transform the Company. Finally, there have been a few areas of commercial inconsistency across the year. Advanced wound biologics is an example in the quarter just gone.

And I am focused on these and will be changing our teams to reduce these surprises. I am confident we can improve our execution here and provide some more color in our Q4 results. So in summary, it's very good to be back. And you know me; I thrive on meeting challenges head on, in dealing with the difficult.

What makes me energized is being able to embrace this issue. In the near term, this is where I will focus to improve consistently in execution. Of course, there is much to be happy about in Q3 of 2016. In the case of ensuring we're firing on all cylinders at once. We have the right strategy, and now we have the right structure.

We have a strong platform to build on, and I'm very confident we are on the right track to achieve our full potential. We'll now take questions. Please, can we ask each person to limit the number of questions to two, including sub-questions and follow-ups, to give as many people as possible the opportunity to participate? Thank you..

[Operator Instructions] And our first question comes from Michael Jungling of Morgan Stanley. Please go ahead..

Thank you very much and good to have you back. So firstly - or two questions - on the European countries which you have flagged as being weak in the quarter, can you highlight which countries they are and what the challenges that you are trying to address? And then secondly, on the full-year EBIT margin, you've got more than nine months behind you.

And I was wondering, Julie, whether you can become a little bit more precise as to what the margin may look like? I suspect you've got a fairly good sense now of what it should be. Thank you..

Thank you, Michael. I will take the first question and leave the second question for Julie. So yes, you're right; and you have understood that many - two countries in Europe have been difficult in the quarter, mainly in wound management, I would say. And those countries are UK and Germany.

Germany, we have, unfortunately during the period, actually, Q2 lost the business unit manager of wound. And I do believe that execution has not been at all where we are expecting the execution to be. In the UK we have had also some difficulties in the wound management, mainly in devices and in wound care.

We know why, and this will be addressed on a short-term basis..

Okay, thanks, Michael. In terms of the margin, as you say, we've have got the third quarter under our belts now; but the fourth quarter is always a sizable margin in terms of content. But I would just like to emphasize the guidance, which hasn't really changed in terms of - the foreign exchange headwinds will be 120 basis points.

Blue Belt does dilute by 60 basis points. And offsetting this, of course, we've got the benefits of Group Optimization, which we have accelerated by more than a year. We are very confident that the second-half margin will be higher than the first half and if you look at the pattern over the last four years, you will have seen this consistently.

Also, to remind you, we have got 4 less sales days in the fourth quarter. However, the foreign exchange headwinds was much harsher on the business in the first half. We had 190 basis points because of the hedging headwind in the first half; and in the second half, that is much less, because we've got 120 basis points for the full year.

So hopefully that summarizes the key margin headlines sufficient to be able to build the model..

Okay.

And Olivier, if I look at your comments about the UK, are you starting to see an impact from that that Convatec PICO copycat device that is impacting your device business - the wound care in the UK?.

Not at all. Really not at all. And I - actually, you know, we have never heard about the product. And I know the drug has been launched, but we have never heard any rep telling us that there was a competitor in the market. So it's really very, very weak..

Okay, thank you..

Our next question comes from Veronika Dubajova of Goldman Sachs. Please go ahead..

Good afternoon. Veronika Dubajova here from Goldman. Thank you for taking my questions. I will limit myself to two as well. One, Olivier, I was curious to hear your comment about pricing in hips and knees. I think Zimmer also saw some sequential worsening in pricing.

Is this anything that you were seeing in the market? Maybe CJR impact or something else that is going on that you think that pricing sequentially worsened in this market? And my second question is kind of a conceptual question on wound.

Ever since you have done the country integration under a single manager, the wound business has really seen a meaningful slowdown. And I wonder to what extent you are reassessing, maybe, the incentives that you have for country management on a subdivisional basis or for the organization as a whole to try to re-accelerate that business? Thank you..

Thank you, Veronika. Two good questions, actually. The first one, the pricing of hips and knees, no, we have not seen any impact on CJR at this stage. I guess that's about the same on our competitors. There is no impact in the US at this stage.

Regarding the pricing, the pricing has been pretty weak in - I mean, the erosion was very weak in Q2 and a bit stronger in Q3. Let me remind you what it was in Q2. It was minus 2% - the price, and Q3, minus 2.6%. And for the Company itself as a whole, we have had 0.8% price erosion in Q2 and 0.8% price erosion in Q3. So we don't see any change.

You have some volatility quarter after quarter, but globally we do not believe that the price erosion will change in the future. Regarding the wound, that's a very interesting question. We have through - decided to put the organization under a single managing director.

And that has started, actually, after all the - it was a complex thing to do - in January, actually, for the first time all the MDs were all together, with each of them running one country. We also have to, obviously, hire or name or promote business managers and directors very focused on the wound management. The incentive system has been changed.

So everywhere we have a new system, which - and I said that, I think, last year that I want to change the system, which works well, actually, focusing on the main product, i.e., PICO and ALLEVYN LIFE or ALLEVYN. In the US, there's also the single MD, but we cannot sell the US when it's not working well.

Advanced wound care in the US - the growth of advanced wound care in the US in the quarter has been 10%. So it works pretty well, and I can give you many examples of countries in Europe with extremely good results in wound care. Again, the global wound care dynamic is what it is because mainly of China and, as I said, Germany and the UK.

The rest is doing well. And I'm extremely confident that with the new organization, the new incentive scheme, the new people we have on board, wound care globally - once China will be back on track, which is soon, will be excellent..

Our next question comes from Julien Dormois of Exane. Please go ahead..

Hi. Good morning and good to have you back Olivier. Two questions, also, from my side. So the first one would relate to the bioactives, and then the slowdown we had in Q3 and the regional guidance for the full-year.

What should we expect going forward for this division? It's been presented when you bought HealthPoint it was presented as a high-growth area. Now we have seen the growth slowing down very consistently for the past few years.

Should we see that returning to the kind of same growth that you have across the Group? Or could it really become a high-growth area? And the second question relates to the margin in wound care. Because bioactives had been driven, I guess, also by a nice price increase, and now you are facing price pressure.

Should we fear that this could become a structural issue and put pressure on the margin in the wound care business?.

Thank you, Julien. Well, Mike is going to answer the question on the bioactive in Q3, and then Julie will address the margin one..

OASIS, which is our skin substitute product - we have reimbursement headwinds, and we have talked about this now for several quarters, where we are reimbursed at a disadvantage to our competitors. So we don't see that recovering. REGRANEX, which we see relatively good growth in the quarter.

We had some destocking, so there's some slight choppiness to it. But overall the underlying growth - the market growth rate, we are satisfied with. And SANTYL, which occupies about 80% of our sales in bioactives, which was also down in the quarter.

What we are seeing there is we're seeing healthy volumes, actually; continued volume growth in SANTYL, but the mix of our customers in the US is changing towards more retail customers, less institutional customers. And so we are seeing this price impact by increased rebates, increased co-pay in SANTYL to maintain our high volume.

So again, it's - the volumes on the SANTYL business are still healthy. They are growing. They are right where we want them to be. But we do have some price pressure as a result of the mix shift to more retail customers..

I would like to add something, Julien, on this one. So Mike has commented the growth and the issues of prices. And I think that most of the issues that we face are linked to a lack of enough health economic evidence to support further uptake of SANTYL. So what have we done? We have done a number of clinicals.

We have actually three clinicals underway - one comparing SANTYL with the medicinal honey in pressure ulcer; the one also comparing SANTYL to silver dressing; and SANTYL clinical and economic outcome and accountable care organizations. We have three studies ongoing.

They will be published soon, and I hope these will give us also some nice tools to support the price of SANTYL..

Okay. Just coming to the margin point, Julien, so in terms of bioactives, clearly we have - were expecting mid-single-digit growth, and we have now said flat for the year. So there is an impact on the margin overall in the fourth quarter, we expect, for the second half.

Going forward, though, as Olivier mentioned, we have confidence in the prospects of SANTYL with the economic health, economic evidence that we are building. And because bioactive tends to be around 7% of our sales overall, we wouldn't expect this to have a structural impact on the Group's margin, because you always have a mix effect taking place.

So no long-term impact from this..

Okay, thank you..

We will now take our next question from Tom Jones of Berenberg. Please go ahead..

I know it's a bit early and that you are probably not going to be able to help us, but any indication of where, with FX rates currently sitting, that the marginal - or the impact on margins is likely to be with your current hedges from FX on 2017?.

we're going to have in January a new head of pricing, very strong. I do believe this will help a lot to define the price corridors, to improve the prices wherever we can, and to minimize the impact of price cuts wherever we can, also, because we have also a new department of health outcome, which will help us to give that tools to the pricing head.

And then we have also the sales force effectiveness. And you remember that years ago I was completely crazy about sales force effectiveness, saying that it was important. Yes, it is very important. Did we do a good job sales force effectiveness? No. No.

And why? Because until we have one single organization with one single MD, it was almost impossible to impose in the countries, in the businesses, the rules of sales force effectiveness - even the most simple one. So now Mike has in his hands the organization, the business organization; and he has the tools to make it better.

So this will be a focus for the next three years. M&A remains high in the priority also, and we are looking for good opportunities, either bolt-on, as usual; but also bigger opportunities, if they make sense for us and for the business, and if it makes sense strategically and financially, as usual.

And to finish - we could discuss that for four hours - I think that it is important also to realize that this Company is, I think, on the right track. I am back. I was very sorry not to be here this year enough, and I feel guilty about this. And sometimes I just wonder, you know, when I look at the results, that it could've been better.

It could have been better. That's true. They are not bad, and I do believe that I will focus my attention, my energy, my enthusiasm on developing this Company in the years to come.

So, Julie, do you want to take the -?.

Yes, I will. Thanks. Thanks, Tom. So obviously our group profitability is impacted by exchange movement on economic sales and costs that the Group incurs.

And as you know, we manufacture some of our products in the United States but sell them in other markets, and this has resulted in the headwind we've had this year as the dollar strengthened, because obviously it reduced dollar revenue, but there was no change to the dollar cost base in terms of cost of goods.

So going forward, the impact of transactional exchange from 2017 - probably the most significant movement in exchange rates relating to this is the recent weakness of the pound following Brexit. And overall, the Group does have higher costs than sales in sterling.

And this is obviously driven by the location of our Hull manufacturing facilities and also some Group head office functions. Now, the impact overall is reduced somewhat, because in Hull we also purchased some of the raw materials in foreign currencies. And we import products into the UK to sell it on.

And therefore, based on the recent weaker sterling exchange rate, we would expect this to be a modest benefit, as the cost base is lower in dollar terms. However, it's important to say that this will primarily be a half-two 2017 benefit, as many of our transactions are hedged already at pre-Brexit rate.

So what we'll do is we will update you further on this at the year-end, when we can look at the final exchange rate position and, obviously, where the hedges are..

Perfect. That was all very clear. Thanks for your comprehensive answer, Olivier. I'll get back into queue..

[Operator Instructions] Our next question comes from Chris Cooper of Jefferies. Please go ahead..

can I just ask how the growth in advanced wound care looks if we back out the effects of both China and the US during the third quarter?.

Thank you, Chris. On the recon - the Zimmer Biomet issue, we have heard that on Monday. So it's incredible, but so far, there was no noise on the market. Our reps have not said anything special. Mike, if you want to comment on this? But I believe this is definitely an opportunity for us going further.

So Mike, you want to add something?.

No, I would agree. We have heard for certain on Monday, but there's been some anecdotal noise in the marketplace..

Yes..

On the growth, Julie, do you want to -?.

Yes, on the growth in advanced - as it relates to advanced wound care, we don't separate that in the results individually, but advanced wound care overall in the US was a 10% growth rate. Other established markets, I think, grew 3%. And clearly the emerging markets was a significant drag on the advanced wound care result, only due to China.

So this is a significant impact on the overall minus 2% result in advanced wound care. But OUS was positive at the 3% level..

And 10% in the US..

And 10% in the US..

so is it fair to assume the regional exposure of advanced wound care is broadly in line with the Group average? Or is it more concentrated in a particular region?.

No, no - it's more concentrated in China, actually. The issue we have faced - and that's why the growth is not where it should have been, is because China has been a big issue for us in wound management - wound care..

Okay. And just going back to the first question, can I just ask, given the phasing of performance during the quarter in recon - I mean, it sounded like July and August were a bit softer, and things got a lot better in September.

Can I ask if that sequential improvement was more price or volume driven?.

Well, it's both - price has been, as you know, what we have said in recon, which was 2.6. And volume was pretty good, actually..

Volume..

Yes, yes. I think most companies have reported that July and August were softer just generally in the market in the US, and September was stronger. And I think that's happened across the board. We see that as a market issue..

Got it. Thanks..

Our next question comes from David Adlington of JPMorgan. Please go ahead..

Most of my questions have been asked, but maybe just if you give us a - maybe some further color in terms of bioactives. Clearly that - your guidance returns a - implies a return to growth, I think, in the fourth quarter.

I suppose what gives you confidence on being able to turn around a situation that quickly? What are the actual issues you are facing there in the end markets? And then secondly, just wondered if you had any updates on the CFO process? Thanks..

Okay, well, let me start by the - the CFO. So I think we are making very good progress with the recruitment. The search is going well. We are interviewing candidates. There's been many interviews since I came back. And we now have the short list, and things are pretty on track with our expectations.

So we have good candidates, and - so now where there's just a few more interviews to make, and then we will decide..

Shall I take the bioactives point?.

Oh, sure..

Yes, yes. So David, the reason we are confident about bioactives returning to growth is we do see in this business it behaves like a pharma business, and therefore we do see volatility in distributor stocking patterns. And we saw there is an impact here both on SANTYL and on REGRANEX, which we fully expect to resolve in the fourth quarter.

And the fourth quarter is usually a very strong quarter for the bioactives generally. It's the way the market works. So we are on course to return to growth in the fourth quarter, no doubt..

Okay, thanks. And Julie, maybe you just sort of give us a bit further color in terms of what changed so quickly to move that business into negative territory? You have got effectively a monopoly position there. Like you say, it's a pharmaceutical. Just wanted to have the pricing action. You mentioned some mix earlier on in the call.

Just some further color would be useful. Thanks..

Yes. In terms of - the headwind was serious, clearly from OASIS. So that's had a big impact on the overall bioactive performance, taking it negative, because the decline in the OASIS business has been quite serious this year, largely due to the reimbursement headwinds. REGRANEX And SANTYL were impacted by stocking patterns.

And in the case of SANTYL, as Mike mentioned, it's a very fast-growing channel. Although we take price increases, as most pharma companies do in this area, the rebating level was higher. And that impacted the overall value delivery from this franchise. So net-net, we had a poor result in the third quarter.

But we are confident of delivering a flat performance, taking everything into consideration for the full year..

And back to growth next year..

Back to growth, yes..

Great, thank you..

Our final question comes from Ines Silva of Bank of America. Please go ahead..

I was just - I just have one question.

I was wondering if you could help us understand a little bit what have been your actions in the Gulf States from the last nine months since you started seeing some weakness - and also if anything has changed for better or worse in that region since you first pointed out the headwind?.

Two things first. The Gulf States are not working. Business is good in retail in the Gulf States. The issue we face is tender business. You have GCC tender, and we won in December last year the GCC tender, which is big tender mixing a lot of products, particularly trauma and extremities is also a number of our products. And it was a big amount of money.

And actually, we won it, but they have not ordered anything in 2016. So this is our situation. So now, are they going to order one day? I don't know. Will they order in Q4 a part of it? I don't know. So we are really in a - I would say blind situation for this. For the rest, we work well in the hospital.

We have our private business going okay in many countries, UAE included. The tender is covering many countries in the Gulf. Actually, this covers Kuwait, Bahrain, the UAE, Oman, and Saudi Arabia, which is the biggest market in the region. So that's where we are.

You know as I know the economic situation of the oil countries and gas countries in the region is not really nice. And we do not expect things to change. However, again, it is just a tender..

Thank you very much..

Thank you, Ines. Okay, well, thank you very much for your questions today. Firstly, I would like to say that we will be organizing a CEO Roundtable later this year. So we hope to see many of you face-to-face there. And finally, this is Julie's final quarter results presentation at Smith & Nephew as CFO.

And I would again like to thank her for her contribution and wish her well in her new function. And as previously communicated, Julie continues in her role until January. Thank you all, and have a good day or good evening wherever you are, and see you soon. Bye-bye..