ZIMMER HOLDINGS, INC. AND SUBSIDIARIES 2003 FORM 10-K The following table presents the components of the year- over-year percentage changes in net sales by product category: Overall, worldwide reconstructive implant sales increased 43 percent to $1,521.0 million. The 43 percent increase was comprised of a 23 percent increase in Zimmer standalone sales and a 20 percent increase due to the Centerpulse acquisition. Knee sales increased 37 percent to $800.5 million, 24 percent due to increased Zimmer standalone sales (increased 20 percent constant currency) and 13 percent due to the Centerpulse acquisition. Knee sales were led by the  NexGen Legacy  Knee Posterior Stabilized product line including the LPS-Flex Knee,  NexGen Trabecular Metal tibial components and the  NexGen  CR Knee with  Prolong  Crosslinked Polyethylene. Hip sales increased 46 percent to $645.6 million, 24 percent due to the Centerpulse acquisition and 22 percent due to increased Zimmer standalone sales (increased 17 percent constant currency). Hip sales were driven by continued conversion to porous stems,  Trabecular Metal  acetabular cups, and increased sales of  Trilogy  Acetabular System cups incorporating  Longevity  Highly Crosslinked Polyethylene Liners. Dental sales were $29.8 million, reflecting solid growth in both standard and tapered Swiss Plus design implants. Trauma sales increased 13 percent to $151.6 million, 10 percent due to increased Zimmer standalone sales (increased 7 percent constant currency) and 3 percent due to the Centerpulse acquisition. Trauma sales were led by sales of the  Zimmer Periarticular Plating System. Spine sales were $33.6 million due to sales from Centerpulse. Orthopaedic surgical product sales increased 10 percent (7 percent constant currency) to $194.8 million, primarily driven by the continued growth of the  OrthoPAT Orthopedic Perioperative Autotransfusion System. Gross profit as a percentage of net sales was 72.8 percent in 2003 compared to 74.9 percent in 2002. Gross profit for 2003 was reduced $42.7 million, or 2.2 percent of net sales, as a result of an inventory step-up charge recognized in connection with the Centerpulse acquisition. Sales and gross profit from Centerpulse also reduced reported gross margins as Centerpulse has a greater percentage of sales based in Europe, where gross margins are historically lower than the U.S. and Japan. Increased Zimmer standalone average selling prices in all geographic segments, the continued conversion from cemented implants to higher margin porous implants and the ongoing efforts to reduce manufacturing costs through automation, in-sourcing and process improvements had positive impacts on gross profit. The Company’s operating plans annually call for reductions in unit manufacturing cost of its products as a direct result of a number of factors, including but not limited to, increased volume, improvements in material technology, replacement of used machinery and equipment with higher speed equipment, changes in the configuration of manufacturing cells designed to increase throughput, labor automation as well as in- sourcing. Focus on inventory cost reduction is a strategic imperative. The Company will continue to direct efforts on driving down costs of products sold, general and administrative expenses and holding costs associated with working capital. Research and development as a percentage of net sales was 5.6 percent in 2003 compared to 5.9 percent in 2002, as research and development expenses increased 31 percent from the prior year compared to a 39 percent increase in sales. Research and development expense increased to $105.8 million from $80.7 million reflecting research and development expenses from Centerpulse and increased spending on active projects focused on areas of strategic significance, including  MIS  Technologies, innovative materials such as  Trabecular Metal  and Highly Crosslinked Polyethylene, lifestyle designs, revision implants and biological solutions. The Company has strategically targeted R&D spending to be at the high end of what management believes to be an average of 4-6 percent for the industry. Maintaining a robust product development pipeline has enabled Zimmer to achieve significant contributions in revenue from new products, which management defines as products introduced within the prior 36 month period. For example, in the fourth quarter, new product revenue, excluding Centerpulse, represented 18.9 percent of sales, at the high end of the Company’s stated quarterly and annual goal of 15-20 percent, in place since 1999. Management expects over the next year or two to continue to invest in R&D at almost 6 percent of sales on a higher revenue base as investments in spine, biologics and new technology increase. Selling, general and administrative expenses (‘‘SG&A’’) as a percentage of net sales were 38.8 percent in 2003 compared to 39.8 percent (39.4 percent assuming the change in accounting principle for instruments is applied retroactively) in 2002. Low cost inflation accompanied with double digit revenue growth has driven the overall expense ratio lower for the year. Detailed planning, monitoring and control over these expenses have also contributed to the improvement. While well managed, the Company has introduced programs and activities in 2003 that involve significant investments, which, in part, are reflected in SG&A. As an example, the Zimmer Institute has seen very active use in 2003. The Zimmer Institute, which is used for surgeon training, product development activities such as prototype evaluations and product and instrument training for independent field sales representatives, provided training for over 500 surgeons, physician assistants and nurses on the  MIS  2 -Incision  Hip Replacement Procedure and the 23 $^{(1)}$Spine is a new product category as a result of the Centerpulse acquisition. Zimmer Standalone Impact of Volume/ Foreign Sub- Centerpulse Net Mix Price Exchange Total Acquisition Change Reconstructive implants 16% 3% 4% 23% 20% 43% Trauma 4 3 3 10 3 13 Spine (1) – – – – N/A N/A Orthopaedic surgical products 5 2 3 10 – 10 Consolidated 13 3 4 20 19 39