Kinetic Concepts third quarter total revenue increases 5% to $531.4M

Kinetic Concepts, Inc. (NYSE: KCI) today reported third quarter 2011 total revenue of $531.4 million, an increase of 5% from the third quarter of 2010. Total revenue for the first nine months of 2011 was $1.55 billion, which represented a 4% increase from the prior-year period. Foreign currency exchange movements favorably impacted total revenue by 2% for both the third quarter and the first nine months of 2011 compared to the corresponding periods of the prior year.

Net earnings for the third quarter of 2011 were $90.7 million, an increase of 20% compared to $75.8 million for the same period one year ago. Net earnings per diluted share, as reported, were $1.16 for the third quarter, an increase of 9% from the same period one year ago. Fully diluted, weighted average shares outstanding were 78.4 million for the third quarter of 2011 and 74.9 million for the first nine months of 2011, representing increases of 9% and 5%, respectively, from the corresponding periods of the prior year due primarily to the dilutive effect of our convertible notes and related warrants. On a non-GAAP basis, excluding the effects of certain adjustments including acquisition-related expenses related to our 2008 purchase of LifeCell and expenses recorded in the third quarter of 2011 associated with our proposed merger transaction, net earnings per diluted share were $1.35 for the third quarter of 2011 compared to $1.20 from the prior-year period.

"Our third quarter financial performance was very solid, and once again, demonstrates KCI's commitment to fiscal discipline while simultaneously launching new products and enhancing our global footprint," said Catherine Burzik, President and Chief Executive Officer of KCI. "While our capital structure will change as a result of our pending merger transaction, we will continue to invest in innovation and geographic expansion in keeping with our perpetual commitment and promise to improve patient outcomes around the globe."

Revenue Recap - Third Quarter and First Nine Months of 2011

Worldwide revenue from AHS products was $372.1 million for the third quarter of 2011 and $1.07 billion for the first nine months of 2011 compared to $358.4 million and $1.04 billion, respectively, for the corresponding periods of 2010. The growth in third quarter worldwide AHS revenue was attributable primarily to favorable foreign currency movements, higher volumes from new markets, capital sales and recent product introductions, partially offset by lower rental revenue in established markets. Foreign currency exchange movements favorably impacted worldwide AHS revenues in both the third quarter and first nine months of 2011 by 2% compared to the prior-year periods.

AHS revenue from the Americas region of $281.2 million for the third quarter of 2011 was up 2% as compared to the prior-year period and increased 5% from the second quarter of 2011. AHS Americas revenue for the first nine months of 2011 was $805.9 million, a 2% increase from the prior-year period. The increase in AHS Americas revenue during both the third quarter and first nine months of 2011 was attributable to a combination of increased sales volumes of V.A.C.^® Therapy units and increased sales revenue from the adoption of recently-launched, new negative pressure-based therapies in the U.S., partially offset by a decrease in rental volumes and realized pricing on V.A.C. Therapy rental units.

AHS EMEA revenue was $73.9 million and $217.9 million, respectively, for the third quarter and first nine months of 2011 compared to $71.5 million and $219.0 million, respectively, for the corresponding periods of the prior year. Foreign currency exchange rate movements favorably impacted AHS EMEA revenue during the third quarter and first nine months of 2011 by 8% and 7%, respectively, compared to the prior-year periods. On a constant currency basis, AHS EMEA revenue decreased 5% and 7% during the third quarter and the first nine months of 2011, respectively, compared to the prior-year periods due to continued pricing pressures on V.A.C. Therapy rental units and a decline in rental and sales volumes, partially offset by volume growth on sales of V.A.C.Via™, ABThera™ and V.A.C. Therapy units.

AHS APAC revenue was $17.0 million and $46.7 million, respectively, for the third quarter and first nine months of 2011 compared to $11.4 million and $28.0 million, respectively, for the corresponding periods of the prior year. Foreign currency exchange rate movements favorably impacted AHS APAC revenue during both the third quarter and first nine months of 2011 by 17% compared to the prior-year periods. On a constant currency basis, AHS APAC revenue increased 32% and 49%, respectively, during the third quarter and the first nine months of 2011 compared to the prior-year periods due primarily to higher rental and sales volumes in Japan. Total AHS revenue generated in Japan was $7.6 million for the third quarter of 2011, an increase of $4.7 million, or 163% from the third quarter of the prior year. Foreign currency exchange rate movements favorably impacted AHS Japan revenue by 25% during the third quarter of 2011, compared to the corresponding period of 2010.

Worldwide LifeCell revenue was $97.4 million and $286.8 million, respectively, for the third quarter and first nine months of 2011, up 15% and 16%, respectively, from the corresponding prior-year periods. LifeCell EMEA sales totaled $2.9 million and $8.8 million, respectively, for the third quarter and first nine months of 2011, up from $1.7 million and $4.3 million, respectively, during the prior-year periods, with revenue growth reported in all geographic locations where we have launched our LifeCell products. Foreign currency exchange movements did not have a significant impact on worldwide LifeCell revenue as compared to the third quarter and first nine months of the prior year.

Worldwide TSS revenue was $61.8 million for the third quarter and $195.0 million for the first nine months of 2011 compared to $63.4 million and $203.5 million, respectively, for the same periods one year ago. TSS Americas revenue was $37.7 million for the third quarter and $123.2 million for the first nine months of 2011 compared to $41.8 million and $134.8 million, respectively, for the same periods in the prior year. The decrease in TSS Americas revenue was driven by our rental business, which has experienced increased competitive pressure and modest share loss. TSS EMEA revenue was $23.9 million for the third quarter and $70.9 million for the first nine months of 2011 compared to $21.1 million and $67.5 million, respectively, for the same periods in the prior year. On a constant currency basis, TSS EMEA revenue increased 4% during the third quarter of 2011 compared to the prior-year period due primarily to strong capital sales. Foreign currency exchange rate movements favorably impacted Americas and EMEA TSS revenue by 1% and 10%, respectively, in the third quarter of 2011 and 1% and 7%, respectively, in the first nine months of 2011 compared to the prior-year periods.

Profit Margins

Gross profit for the third quarter and first nine months of 2011 was $331.7 million and $933.7 million, respectively, representing increases of 15% and 11%, respectively, from the same periods of the prior year. Gross profit margin was 62% and 60%, respectively, for the third quarter and first nine months of 2011, an increase of approximately 530 basis points and 370 basis points, respectively, from the prior-year periods. The gross profit margin increase during the third quarter of 2011 compared to the prior-year period was due primarily to lower royalty expense associated with our previous license agreement with Wake Forest University, higher gross margins associated with our LifeCell business unit, lower rental fleet depreciation and favorable product mix. The year-to-date gross profit margin increase was lower than the current quarter resulting primarily from increased selling expenses related to additional investment in our AHS sales force during the second half of 2010 and first nine months of 2011. During the third quarter of 2010, the Company recorded $23.9 million in royalty expense associated with our previously-existing licensing agreement with Wake Forest.

Selling, general and administrative ("SG&A") expenses for the third quarter and first nine months of 2011 were $155.9 million and $452.4 million, respectively, representing increases of 12% and 7%, respectively, from the same periods of the prior year. SG&A increases during the third quarter of 2011 compared to the prior-year period included the impact of foreign currency movements, transaction-related costs associated with our recently-announced acquisition, higher selling costs associated with our LifeCell division and higher costs associated with geographic expansion. The year-to-date percentage increase in SG&A expenses was lower than the current quarter resulting primarily from reduced litigation costs and prior-year charges associated with our TSS portfolio rationalization and our Global Business Transformation in the second quarter.

Research and development expenses for the third quarter and first nine months of 2011 were $23.5 million and $68.1 million, respectively, representing increases of 13% and 1% from the corresponding periods in the prior year. Research and development expenses were higher during the third quarter of 2011 compared to the prior-year period due to increased headcount following the 2010 formation of our Center for Advanced Research and Technology. During the third quarter of 2011, total research and development expenses represented 4.4% of revenue compared to 4.1% for the same period one year ago.

Operating earnings for the third quarter and first nine months of 2011 were $143.4 million and $386.6 million, respectively, representing increases of 19% and 20%, respectively, from the corresponding periods of the prior year. The increase in operating earnings resulted from a combination of lower royalty expense, favorable foreign currency movements and prior-year charges associated with our TSS portfolio rationalization and Global Business Transformation, partially offset by higher costs associated with our recently-announced acquisition. During the third quarter of 2011, the Company recorded $6.0 million in expenses associated with our recently-announced acquisition.

Other Income/Expense

Third quarter 2011 interest expense decreased to $17.3 million compared to $21.5 million in the same period of the prior year due to debt payments made over the last twelve months, as well as lower interest rates due, in part, to our debt refinancing completed in the first quarter of 2011. Long-term debt outstanding, on a debt-instrument basis, as of September 30, 2011 consisted of a senior secured term loan of $529.4 million due 2016 and $690.0 million of 3.25% senior convertible notes due 2015. Foreign currency transaction losses were $2.1 million in the third quarter of 2011 compared to gains of $2.1 million in the prior-year period due primarily to significant volatility in the foreign currency markets.

Income Tax Rate

The effective income tax rate for the third quarter and first nine months of 2011 was 27.0% and 27.1%, respectively, compared to 25.0% and 28.0%, respectively, during the corresponding periods in 2010. The increase in the effective income tax rate for the third quarter of 2011 as compared to the prior-year period was due primarily to the favorable resolution of certain tax contingencies during 2010.

Financial Position

Total cash at quarter-end was $656.8 million, an increase of $340.2 million from year-end 2010. Operating cash flow less net capital expenditures for the first nine months of 2011 was $327.1 million, an increase of $147.5 million compared to the prior-year period due primarily to higher net earnings and lower cash outlays for royalty payments, inventory purchases, interest and income taxes, partially offset by higher capital expenditures. Total long-term debt outstanding at September 30, 2011 was $1.12 billion on a GAAP-basis and $1.22 billion on an economic, or debt-instrument, basis.

Other Information

On July 12, 2011, KCI entered into a definitive merger agreement under which a consortium of funds advised by Apax Partners ("Apax"), together with controlled affiliates of Canada Pension Plan Investment Board ("CPPIB") and the Public Sector Pension Investment Board ("PSP Investments"), will acquire KCI for $68.50 per share in cash in a transaction currently valued at $6.2 billion, inclusive of KCI's outstanding debt.

The Board of Directors of KCI has unanimously approved the merger agreement and recommended that KCI's shareholders approve the agreement with the consortium. A special meeting of KCI's shareholders will be held on October 28, 2011 to approve the merger agreement.

The transaction is subject to certain closing conditions, including the approval of KCI's shareholders and the satisfaction of other customary closing conditions, but is not subject to any closing condition with regard to the financing of the transaction. The transaction is currently expected to close in November 2011. Given the pending transaction, KCI will not be holding a conference call to discuss third quarter results.

Outlook

In connection with KCI's pending merger with the Apax consortium and related recapitalization, KCI has suspended its 2011 outlook.