Conformis, Inc.
Q3 2021 Earnings Call Transcript

Published: 3 Nov 2021

[Operator:]

Good afternoon. And welcome to the Third Quarter 2021 Earnings Conference Call for Conformis Inc. My name is Phyllis, and I will be your conference operator today. All lines have been placed on mute to prevent background noise. After management’s remarks, there will be a question-and-answer session. Before we begin, I would like to remind you that this call will include forward-looking statements within the meaning of federal securities law, which are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Any statements made during this call that are not statements of historical facts should be considered forward-looking. These statements involve material risks and uncertainties that could cause actual results or events to materially differ from those anticipated or implied by these forward-looking statements, including those discussed in the Risk Factors section of Conformis' public filings with the U.S. Securities and Exchange Commission. You should not place undo reliance on the forward-looking statements. Conformis disclaims any obligation, except as required by law, to update or revise any financial projections or forward-looking statements whether because of new information, further events or otherwise. This conference call will include time-sensitive information and is accurate as of the last broadcast, today, November 3, 2021. I will now turn the call over to Mark Augusti, President and Chief Executive Officer of Conformis.

[Mark Augusti:]

Thank you, Phyllis, and welcome, everyone, to our third quarter earnings call. With me today is our CFO, Bob Howe. We appreciate you joining us for an update on Conformis. We're pleased with the progress we made against our stated growth strategy in the third quarter. We had several wins on important initiatives that I'd like to discuss. Regarding the Identity Imprint knee system, we're off to a nice start with our limited market release. The first procedures were completed by several surgeons and all met our high expectations. Our Imprint knee was designed to integrate the benefits of our personalized knee solution with the convenience and flexibility of an off-the-shelf system. This allows us to deliver knees faster and a lower cost, while maintaining the unique surgery in a box delivery model that surgeons prefer. While we expect our Imprint knee to be used at hospital settings, we believe that the unique value proposition Imprint offers will be particularly attractive to ambulatory surgery centers. Notwithstanding disruptions caused by COVID-19 and the Delta variant, we've been pleased with the ASC interest we have received in our Imprint knee since FDA clearance in May. We are also pleased to complete the first procedures under the limited market release specific to our Stryker partnership. Our patient-specific instrumentation is being used in conjunction with Stryker's popular triathlon knee. For those following us for a while, you know this partnership is a great testament to our extensive know-how, released to patient-specific instrumentation and a capital-light delivery model. We are working with Stryker on a regular basis to plan and execute on the supply levels needed for a full commercial release. With the Imprint Knee and Stryker PSI projects, both in limited market release, our R&D team has turned their focus to delivering the next two critical projects for our company. The first is our cementless knee. Last quarter, we mentioned that we were evaluating the application of cementless technology to our Imprint knee system, given initial feedback from surgeons. Following our evaluation, we decided to apply cementless technology first to our Imprint system and then to our fully personalized solution identity. We currently expect a limited market release for cementless in the fourth quarter of 2022. The second key project is the expansion of our hip portfolio. We plan to offer additional stems to address specific segments of the hip arthroplasty market that are projected to grow at higher rates over the next several years. Our second stem, which we expect to add by mid-2022, will be a shorter style model conducive to the popular direct anterior approach. We have made nice progress on our hip business to date, this quarter, notwithstanding, we have had a nice ramp of growth in hip revenue since we launched hip in the third quarter of 2018, and we expect this to resume in the coming quarters. Our progress on the products and limited market release and R&D projects was particularly pleasing given we are once again faced with COVID-19 headwinds due to the Delta area. As we entered August, we expected to see a modest sequential bump in our third quarter revenue as business continued to recover. This is important since historically, we have seen a seasonal dip in the third quarter. We believed at the time that we had adequately incorporated the impact of the Delta variant would have into our planning. However, in mid-August, we began to see a higher-than-usual drop-off of scheduled cases. That continues for the rest of the quarter as hospitals were once again managing levels of elective procedures. We do have some visibility into the status of cases that did not take place as originally scheduled. The vast majority of those cases have even been rescheduled are in a to-be-determined status, which for us is just a temporary hold without a specific rescheduled surgery date. Typically, cases are rescheduled in 4 to 6 weeks. Recently, that range has been wider as we are seeing up to 20 weeks between the original date and reschedule date. We believe the delays in wider range for rescheduling are related to COVID-19 and staffing shortages in medical facilities. We further believe that schedules for both surgeons and patients normalize, our TBD cases are likely to become scheduled procedures. Our current thinking is that hospitals and ASCs will obtain normalized elective procedure environment both in the US and internationally at some point in 2022. Clearly, this assumes recovery from the Delta variant, but no other significant variants present themselves and that staffing levels at hospitals get back to normal levels. We cannot say exactly when this will happen, which makes planning and forecasting challenging. That said, we kind of plan to provide our preliminary thoughts on 2022 in early January. Let me now turn the call over to Bob for a more detailed financial review of the quarter.

[Bob Howe:]

Thank you, Mark. And good afternoon, everyone. We had a fairly straightforward quarter from a financial perspective. So I'll jump straight to revenue. We reported total revenue of $14.3 million in the third quarter, which was down 12%. Product revenue was $14.1 million for the third quarter, which was down 12% year-over-year on both a reported and constant currency basis. As Mark mentioned earlier, our product revenue was significantly impacted by Delta variant headwinds in the second half of the quarter. Sales of our new products were $13.4 million, representing a decrease of 11% versus 2020 on a reported basis. Sales of our Conformis Hip System were approximately $700,000, a decrease of 16% versus the third quarter of 2020. Our Hip business still has a small base of surgeons. And during the third quarter, several of our largest surgeons were notably impacted by the surge in the COVID-19 delta variant. US product revenue was $12.4 million, representing a decrease of 12% from the third quarter of 2020. Rest of world product revenue was $1.7 million, a decrease of 6% on a reported basis and down 10% on a constant currency basis. Our royalty revenue for the third quarter was $123,000. As a quick reminder, we had a number of onetime items in the second quarter, which resulted in an all-time quarterly high for royalty revenue of $41 million. This included the final milestone for the development of patient-specific instrumentation for Stryker, revenue related to the protection of our IP and a small new licensing deal. Our product gross margin was 42% of revenue in the third quarter, which was flat from the second quarter and down 540 basis points from the third quarter of 2020. This was driven primarily by lower volume, increased material, labor and other manufacturing costs, higher canceled case inventor expense and a reduction in selling price. Like many other manufacturers, we are experiencing a challenging labor market. This has resulted in higher than normal employee turnover, increased labor costs and temporary manufacturing inefficiencies and as we recruit and train new employees. In the near term, we expect our gross margin rates to be in the low 40s, but growing over time to anticipated higher overall production volumes and increased revenue contribution from our higher margin products. Total operating expenses for the third quarter were $17.4 million, which reflects the modest investments we are making in sales and marketing and R&D. It also reflects planned higher G&A related to the investment in professional fees we are making to protect our IP. We have been extremely successful in winning or settling these cases as evidenced by the over $51 million we have generated in royalty and license revenue over the past 2 years. We expect operating expenses for 2021 to end the year relatively consistent to our previous assumptions communicated last quarter. We anticipate sales and marketing expenses to be between $25 million and $26 million for fiscal year 2021. R&D to be between $14.5 million and $15.5 million and G&A to be between $28.5 million and $29.5 million. Both sales and marketing and R&D are modestly lower than the projections provided last quarter. Moving to our bottom line performance. We generated a net loss of $13.0 million in the quarter or $0.07 per share. This included foreign currency exchange loss of $1.0 million compared to foreign currency exchange income of $1.5 million in the same period last year. Our balance sheet remains strong as we had cash and cash equivalents of $97.1 million at the end of the third quarter. In October, we received $15.5 million related to the license settlement agreements we resolved and recorded revenue for during the second quarter. These payments further strengthen our balance sheet and provide the capital needed to execute our growth strategy. Lastly, I would like to provide some thoughts on our outlook. Based on our performance through October and our forecast for November and December, we expect our total product revenue to be between $15 million to $17 million. This wider than usual range is due to the unpredictable recovery from the Delta variant, negative impacts from staffing shortages in medical facilities and the uncertainty of rescheduling cases over the coming months. To the extent we see a more normal conversion rate of our existing Q4 scheduled surgeries into revenue, and we experienced a typical seasonal bump we see as patients book procedures before the end of the insurance plan year, we expect to be closer to the high end of the range. If we do not see any meaningful improvement in elective procedures, we experienced a higher postponement rate of existing scheduled surgeries and staffing shortages continue or get worse, we expect to be closer to the low end of our revenue range. Either way, we expect to grow sequentially from the third quarter. I will point announce that this outlook does not reflect any potential impact due to manufacturing inefficiencies and which may become associated with the difficult labor market and the shipping disruptions that many companies have experienced over recent months. The good news is that the feedback we are hearing from our surgeons on resuming procedure levels in earnest is trending positive. So we are optimistic that we are on a path to return to growth as the environment normalizes. With that, I'll turn the call back over to Mark.

[Mark Augusti:]

Thank you, Bob. I'd just like to make a couple of closing comments. First, we've been saying all year that 2021 is a transitional and recovery year and that 2022 is where our growth strategy will really begin to see traction. I still see that as the case. Our company has worked extremely hard to get all the pieces in place to win in 2022. How fast the full recovery will take is still a question, but we believe that our preparations to succeed are well on track. It is an exciting time for Conformis and we're all aligned behind our new strategy. In the meantime, like our customers and patients, we are looking forward to a normalized operating environment. To this end, and on behalf of our entire company, we want to acknowledge the efforts and sacrifices of every health care professional who is helping us navigate through the continued effects of COVID-19. Their work is inspiring. With that, Bob and I are happy to take your questions. Thank you.

[Operator:]

Thank you. Our first question comes from Josh Jennings with Cowen. Your line is now open.

[Unidentified Analyst:]

Hi. This is Eric on for Josh. Thanks for taking the question. I'd like to focus just on your guidance for 4Q and what you're baking in, in terms of COVID disruption. It looks like we may be finally return to normal as vaccination rates continue to improve. Just thinking about the $15 million to $17 million range. Does the top end of this range still suggest some level of COVID disruption; or if we were at that $17 million figure, is that virtually no cool impact later this year? Any detail there would be helpful? Thank you.

[Mark Augusti:]

Eric, this is Mark. Thank you. I'll comment and then Bob can provide his color. I think, obviously, the top end of the range would be, say, more muted impact and really a manageable sort of situation with staffing shortages from our customers as well as the assumption of our customers being able to reschedule some of the deferred cases at a higher rate end of the year. So that's what would get us to that higher end of the range. Am I missing anything else, Bob?

[Bob Howe:]

No, I think that's accurate. A combination of procedures. And as you know, we have visibility to schedule cases. So it's really converting those that are more normal rate would get us closer to the top end of the range.

[Unidentified Analyst:]

That's helpful. Thank you. And then international expansion remains an untapped opportunity for you guys here. You're making some great progress with China, I think possibly seeing the first Conformis procedures later this year. Are there any other markets that you would highlight that we could see Conformis possibly entering probably not later this year, but maybe in 2022? And then maybe just if we could get an update on the progress in China, that would be great as well. Thanks for the questions.

[Mark Augusti:]

We don't have a specific update on China, Eric. We're really trying to keep expectations somewhat muted because it's early, and we're firing that out. And frankly, a lot of this is made difficult - more difficult by the pandemic and different requirements in each market. But I can tell you, Australia is a target for us. We just received some approvals around our new variation -- or cruciate retaining our CRM variation was going to help with reimbursement. So we would expect to see some better performance out of there. It remains a challenge for us internationally because of the reimbursement headwinds that we've suffered all along in Germany and frankly, the medical necessity approval hoops that they required us to go through. I'll tell you the 1 area that I think we're seeing some slight improvements. It's not a new market, but I'll comment on it, and I hope it doesn't again, have more pandemic challenges, but we're starting to slowly see some improvements in the U.K. They have an incredible, incredible back order on their list, as you know. And our model is helpful for that we've seen some stability in those customers as those medical facilities have been able to try to ramp up to demand. So - going forward, I'm a little more bullish on those markets, U.K. and Australia, and I'll just leave it at that. But you're right, we need to do better there. It's been really challenging.

[Unidentified Analyst:]

Great. Thanks.

[Operator:]

Thank you. Our next question comes from the line of Stephen Litman with Oppenheimer & Co. Please you may begin.

[Unidentified Analyst:]

Hi, guys. This is Amir in for Steve. My first question was, can you guys talk about any initial feedback you've gotten from the limited launch of Identity Imprint? And I guess, in particular, how it fits in the ACS setting?

[Mark Augusti:]

Yes, I can. And thanks for that, Amir. And that's certainly 1 of the highlights for us. we're pretty excited about the initial feedback that we've gotten. We're also -- silicon limited release. We're pretty excited about the percentage of new users or new cases, if you will, that we booked in the new users have taken on. So in general, they found a technique so similar to total with the same principles, if you will, of an off-the-shelf especially it relates to positioning of the Tibi and whatnot. They really like the surgery in a box model. And all the things they've always liked about our IDO and our jigs, the jigs as you would expect, are working and are accurate, just like they are in our fully custom model. But probably the biggest thing that is maybe not appreciated our ability to really predict the sizing. I mean the whole secret sauce in here, which will be more about when we go to full market release is how we used our data to design the sizing of the implants, the 3-dimensional design and sizing and then converted that into our size and software, which is all FDA cleared and allows us to really accurately provide the surgeon the exact femoral and tibia component that is best and then the alignment to execute that. And one of the things we're exploring in our early market release was would there be conditions or scenarios where we would leave the surgeon to approve trade-offs, if you will, that they necessarily have to make in the off-the-shelf world because there's different it's just fit more poorly, if you will, or poorly compared to ours. And the point I'm trying to make is that's going exceedingly well, like as we've gone through these first cases, our sizing is really accurate and there's actually very little question about the right femoral and tibia combination with our lineup. And it's early days, but we've planned well over 50 of these in the first 60 days or so, and we're really excited about how the products fitting in how our software is working. So more to come the goal is to get through the end of the year and make sure all signals will go. But right now, we're pretty excited about the early returns.

[Unidentified Analyst:]

That's great. That's great. And just one more follow-up for me. I guess you guys sort of spoke about it in the prepared remarks. But I guess, what are your latest thoughts, I guess, if you could just comment a bit more in terms of the timing for when these previously deferred procedures could be an incremental tailwind for you guys? Any color on that would be great.

[Mark Augusti:]

Well, I think as you see in the prepared remarks, it's 1 of the reasons why our range is a little larger here. It's just really hard, Amir. There's no predictable cadence with COVID and disruption of operations. And I'm not trying to whatever. I don't know what the right word is. I'm just -- again, I'm trying to be as transparent and provide you guys as much color as I can. If I knew, I'd tell you, but the models we had and the amount of typical reschedule a drop-off that occurs normally has got off the window, and a lot of that is due to just the capacity of the medical facilities to staff up and to reschedule and really work through the schedule, and it's really hard. So in the past, I guess everybody can like this in the past. The ability to reschedule was easier. It was just there was more capacity. So the surgeons could do that, but they sort of fill that limited capacity to have, there's uncertainty. And so we're not seeing them get reset scheduled as quicker into the queue. And that's the real challenge for us. So it's really hard for us to predict -- Are some of these cases going to come into Q4? Are they going to end up in Q1 of '22. So as we realize that, we'll provide more color on it, but that's 1 of the reasons why this range is a little a little wider than normal as well as just our concern about staffing impacts in general in Q4. Bob, is there anything else I'm missing there, but I think that's sort of the gist of it, right?

[Bob Howe:]

No. I think you nailed it, Mark. That's a gist the predictability of the traditional model we had in the past has been thrown for a loop with COVID. But as we stand out of this, we should see those start to schedule challenges they've been unpredictable, and they've been taking a lot longer to get them on back on the books because everything has been going on.

[Unidentified Analyst:]

Thank you. Thank you, guys.

[Bob Howe:]

Thank you.

[Operator:]

Thank you. And at this time, I'm showing no further questions in the queue. I'd like to hand the call back over to Mr. Mark Augusti for any closing comments.

[Mark Augusti:]

No. Thank you, operator. I hope you can tell, we are pleased with the progress we're making on our strategy. We really look forward to closing out the year in a good note and heading you to '22 with some tailwind, hopefully, tailwind in the form of normalized, we've stabilized operations on behalf of our customers. But most importantly, with getting into full market release on the critical projects we've launched, we're obviously being really excited about what we've done in a very short amount of time with our imprint product and we really like the value proposition. So we'll be providing more color on that as time moves on. Obviously, please reach out if anyone who has any questions. We thank you for joining us today. And everyone, please have a great evening. Thank you.

[Operator:]

This concludes today's conference call. Thank you for your participation. You may now disconnect. Everyone, have a wonderful day.+