Conformis, Inc.
Q2 2020 Earnings Call Transcript

Published: 6 Aug 2020

[Operator:]

Good afternoon, my name is Chris, and I’ll be your conference operator today. At this time, I’d like to welcome everyone to the Conformis, Inc. Second Quarter 2020 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. Before we begin, I would like to remind you that Conformis’ management will make statements during this call that include forward-looking statements within the meaning of federal securities laws, which are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Any statements contained in this call that are not statements of historical fact should be considered to be forward-looking statements. All forward-looking statements, including without limitation statements about Conformis’ strategy, future expectations, plans and prospects, future operations, future financial position and results, gross margin, product margin, operating trends, financial guidance, market growth, total revenue and revenue mix by product and geography, the anticipated time of product launches, including the new knee replacement offering targeted at hospital outpatient and ambulatory surgery centers, expectations about the impact of the novel coronavirus pandemic, when restrictions on elective surgeries will be relaxed and demand for procedures will increase the potential impact and advantages of using customized implants, businesses, initiatives, and transitions in our commercial operations are based upon current estimates and various assumptions. These statements involve material risks and uncertainties that could cause actual results or events to materially differ from those anticipated or implied by those forward-looking statements, including those discussed in the Risk Factors section of Conformis’ public filings with the U.S. Securities and Exchange Commission. Accordingly, you should not place undue reliance on these forward-looking statements. While Conformis may elect to update these forward-looking statements at some point in the future, Conformis disclaims any obligation, except as required by law, to update or revise any financial projections and forward-looking statements, whether because of new information, future events or otherwise. This conference call contains time-sensitive information and is accurate only as of the live broadcast today, August 5, 2020. I’d now like to turn the call over to Mark Augusti, Conformis’ President and Chief Executive Officer. Mark?

[Mark Augusti:]

Thank you, Chris, and welcome everyone to Conformis’ second quarter 2020 earnings conference call. With me on the call today is our CFO, Bob Howe. During the call, we will share prepared remarks on a variety of topics, including our second quarter financial and operating performance as well as comments related to the COVID-19 pandemic’s impact on our operations. Following our prepared remarks, we look forward to answering your questions. On March 23, 2020, we withdrew our full year growth targets and noted that it was due to the pandemic and its impact on orthopedic scheduled surgeries. On July 6, 2020, we pre-released our second quarter revenue and those numbers are consistent with what we are reporting today. As expected, the second quarter was impacted by the pandemic, but we were pleased to see a fairly quick resumption of scheduled orthopedic procedures in the quarter, going from the low in April when we were down 94% to being down 39% in May, and then down 9% in June. Please recall that Conformis does not have any revision, oncology or trauma orthopedic products that are considered essential surgery. Therefore, we are heavily weighted towards pure primary elective total joint replacement. Though we expect Q3 and Q4 product revenue results to improve relative to Q2 results, we anticipate volumes to remain under pressure for the remainder of the year. While the resumption of scheduled surgeries has continued in many parts of the country, we will not be providing any new guidance for 2020 due to ongoing uncertainty as a result of deferring state, county and city policies, and of course, concerned about a possible resurgence of COVID-19 infections that could lead to renewed surgical interruptions. Despite challenging just related to the pandemic, Conformis’ team of professionals has adapted and worked hard to keep employees safe and production on track. For this reason, we feel well prepared to respond to increased orders if the number of elective surgeries continues to improve and normalize. Moving on I would like to point out some other notable items from the past quarter. We were pleased to reach a settlement with Zimmer Biomet regarding our Patient Specific Instrumentation, otherwise known as PSI. Wright Medical, MicroPort, Smith & Nephew, Zimmer Biomet and Stryker are all now licensees of our technology. We think this and the strategic development and manufacturing agreement we reached with Stryker validate the expertise and clinical performance of our PSI products and services. I’m also pleased to report the successful amendment of our credit facility with Novartis. In recognition of the economic impact of COVID-19 on Conformis’ business, the company has successfully amended the quarterly financial covenants contained in the loan and security agreement dated June 25, 2019. The impact of COVID-19 on business operations has undoubtedly made it difficult for many companies to satisfy some or all of their financial covenants. The fact that we’re able to come to agreement that better reflects current economic realities is an indication of the good and cooperative partnership we have today with Novartis. Finally, we believe and think as most industry participants would acknowledge that new product introductions are critical to growth in the medical device industry. Just look at our hip growth this past quarter, and arguably, the worst quarter ever for medical device procedures, demand for our hip growth clocked in at 12%. This is why we have strived to maintain our new product programs throughout the pandemic, despite obvious financial challenges. That is why we are pleased to announce our future product expansion targeted for knee replacements at hospital outpatient and ambulatory surgery centers. Our new knee replacement system was standardized polyethylene inserts, which will allow for increased inter-operative flexibility, something surgeons have consistently requested from Conformis. Importantly, surgeons using this new knee replacement will have the benefit of our highly accurate iView preplanning system and our PSI instrumentation. Unlike our existing system, the new knee replacement system will be efficient, eliminating the need for massive capital builds of instruments that’s typically required with competitors’ standard systems. Our new knee offering will allow us to deliver a complete and efficient knee replacement package profitably at a lower selling price than our fully personalized knee system. We will also expect to be able to provide this product in three weeks versus the five to six weeks it currently takes for personalizing. Before I provide further comment on our plan, future product expansions, let me now turn the call over to Bob for more detailed financial review. Bob?

[Bob Howe:]

Thank you, Mark, and thank you everyone for joining us. We reported second quarter revenue of $19.5 million, representing a decrease of 1% or $0.1 million year-over-year on a reported basis. Excluding the negative impact of changes in foreign currency exchange rates of $17,000, revenue decreased 1% on a constant currency basis. Revenue in the second quarter of 2020 and 2019 includes royalty and licensing revenue of $9.7 million and $0.3 million respectively related to patent license agreements. The second quarter of 2020 royalty and licensing revenue includes the previously disclosed $9.6 million settlement and licensing agreement with Zimmer Biomet. Second quarter product revenue was $9.7 million, representing a decrease of $9.6 million or 50% year-over-year on a reported and constant currency basis. Sales of our knee products decreased $9.7 million to $9.2 million or 51% year-over-year on a reported and constant currency basis. Sales of our Conformis Hip System was $0.6 million, and then an increase of 12% year-over-year on both the reported and constant currency basis. U.S. product revenue decreased $8.9 million to $8.3 million or 52% year-over-year. U.S. sales of our knee products decreased $8.9 million to $7.8 million or 53% year-over-year. Second quarter U.S. product revenue represented 86% of total product revenue compared to 89% for the same quarter last year. Rest of world product revenue was $1.4 million, a decrease of $0.7 million or 34% year-over-year on a reported basis and 33% on a constant currency basis. I’ll now move on to review our results across the rest of the P&L. Second quarter gross margin was 57% of revenue compared to 49% of revenue for the same quarter last year, an increase of 750 basis points. This increase in gross margin was driven by the $9.6 million of royalty and license revenue recognized as a result of the Zimmer Biomet settlement agreement. Our product gross margin, which excludes royalty and licensing revenue, as well as related patent litigation settlement costs, recorded in cost of goods was 30% in the second quarter compared to 48% from the same quarter last year, an 1,800 basis point decline. The decrease in product gross margin was driven primarily by the significantly lower volumes, as well as an increase in inventory reserves for unused product. The increase in reserves factors in the higher than normal delayed surgeries as a result of the COVID-19 pandemic. Total operating expenses decreased $2.2 million to $13.3 million or 14% year-over-year. This decrease in expenses was driven by lower selling expenses, primarily as a result of lower variable costs due to the decrease in revenue. Additional year-over-year operating expense reductions of approximately $750,000 were realized due to lower travel, meeting and other discretionary expenses. Partially, offsetting these declines in overall operating expenses, our general administrative expenses increased $1.2 million to $6.5 million or 22% year-over-year. This was primarily due to increase in general legal and litigation expenses, as well as higher personnel, severance and other administrative expense. Net loss was $2.1 million or $0.03 per share compared to net loss of $6.8 million or $0.11 per share for the same period last year. Net loss per share calculations assume weighted average shares outstanding of 68.2 million shares for the second quarter of 2020 compared to 63.3 million shares for the same period last year. Net loss in the second quarter included foreign currency exchange income of $694,000 compared to foreign currency income – exchange income of $398,000 in the same period last year. We had cash and cash equivalents totaling $18.2 million as of June 30, 2020 compared to $21.5 million as of March 31, 2020 and $26.4 million as of December 31, 2019. Lastly, I want to close with a few comments on liquidity and highlight some of the progress we’ve made towards our continuing efforts to finance the company. First, as Mark mentioned, we’re pleased that we’ve amended the quarterly financial revenue covenants contained in the loan and security agreement with Novartis. With this amendment, we were successful in moving the revenue covenants through the remainder of 2020, which provide the company additional time for revenue to normalize as elective procedures recover from the impact of COVID-19. Second, as we discussed during our last earnings call, we were able to secure $4.7 million Paycheck Protection Program loan in the second quarter. These funds allow the company to bring back the majority of employees we had furloughed so that we could continue to produce patient orders, allowing the company to respond quickly as procedure volumes recover. Third, we were able to settle our patent dispute with Zimmer Biomet for $9.6 million during the quarter, which will provide additional non-dilutive financing over the next three quarters. Fourth, we continue to make great progress with respect to our development efforts relating to Stryker. As a reminder, the two remaining – the remaining two milestones, which we expect to complete for mid-2021 will provide an additional $14 million of non-dilutive financing. Lastly, today we disclosed in our 10-Q that we have replaced our existing at-the-market or ATM equity distribution agreement and entered into a new ATM sales agreement with Cowen and Company. This new agreement allows the company to sell shares of its common stock up to an aggregate value of 25 million. This represents a 25 million reduction in aggregate value from our previous ATM agreement and reflects our belief that our long-range plan in combination with other available sources of financing supports this new lower ATM value. With that let me turn the call back over to Mark to add additional color.

[Mark Augusti:]

Thanks Bob. While the effects of the pandemic continue to be challenging as mentioned in prior releases and commentary, Conformis has endeavored to maintain its development activities. As a result, we’ve continued to progress our new product development programs. This includes activities related to our Stryker partnership as Bob just mentioned, as well as work on the planned new knee offering that we are announcing today. There’s significant shifts in the total knee arthroplasty market to lower-cost site-of-care facilities, such as hospital outpatient centers and ambulatory care centers. And both of these projects are aimed to provide best-in-class solutions in response to the strength. Of the 800,000 or so primary knees performed annually in the United States, some reports indicate that more than 40% might be performed on an outpatient basis in the next three to five years. We continue to believe the COVID-19 pandemic will only serve to accelerate the shift to ASC. In order to capitalize on this trend, Conformis is developing a new knee system that will be based on the experience and data we’ve collected as a result of designing more than a 100,000 personalized knee replacements. From this and conjunction with researchers and utilizing advanced software techniques we are developing a set of standard knees that we believe will provide better coverage and perform better than any existing standard knee on the market today. Importantly, because the system will have a defined number of standard sizes, we’ll be able to manufacture this knee system more quickly and efficiently than a fully personalized knee. And we will be able to provide a full range of polyethylene inserts which will give surgeons more interruptive flexibility to handle soft tissue balancing as typically needed when implementing a standard size knee. The range of sizes of inserts we expect to provide will be comparable to existing systems and what is deemed customary and medically necessary in the industry. We expect this new knee system will be available in the second half of 2021. While this is an aggressive launch timeline, we believe it is achievable because as we noted before this system is based off of and within our current range of approval for our personalized iTotal knee system. As previously reported Stryker and Conformis have entered into a strategic collaboration, whereby Conformis is designing and supplying PSI guides for Stryker’s market leading Triathlon Total Knee System. We’re making good progress in our development program and expect to achieve each of the milestones on time. In addition to developing a PSI system for Stryker, we will also be supplying the PSI system sets to the Stryker. The actual commercial availability of the combine offering of Stryker’s Triathlon knee and Conformis’ manufactured PSI will be up to Stryker. However, given the expected increase in ASC knee replacement surgery, we think that within three years revenue from this supply agreement could represent 10% to 20% of our overall corporate sales. Clearly this is exciting and valuable opportunity for the company and its shareholders. Along with today’s announcement, we have released a new investor presentation that explains our overall thinking. In this presentation, we laid-out our anticipated new product launch cadence and updated 2024 financial targets for the company. This presentation can be found on the Investor Relations page of Conformis’ website. Once again, I would like to acknowledge and thank all the Conformis employees, consultants and advisors and customers that continue to soldier on with us through this challenging time. All of your efforts and goodwill are greatly appreciated. Thank you very much. With that I’ll turn the call back over to the operator and we’ll take any questions.

[Operator:]

Thank you. [Operator Instructions] Our first question comes from the line of Josh Jennings with Cowen. Your line is now open.

[Josh Jennings:]

Hi, good afternoon. Thanks Mark and Bob for taking the questions. I wanted to start off on the ASC offering that you’re announcing here today. And just so, I’m clear this is going to be a standard knee and non-accustomed knee, is that from a high-level, just want to make sure I’m understanding that so patients will not need to get imaged with a CT scan and it’s going to be more just differential sizes to optimize the particular implant for the patient.

[Mark Augusti:]

Yes, Josh, great question. Appreciate it. Yes. It will be a standard knee, in the sense there’ll be standard sizes. But to answer your question about the CT scan or the image, we’ll still need to get imaged because what we’re going to do and where we think there’s value is, we’re going to be able to size and do the surgical plan, and do PSI instrumentation off of that to put in the standard knee. And so you’ll still have that knee replacement in a kit – in one kit. So it will still be our efficient model. We won’t have to put out a bunch of instruments sets. We won’t to have to be putting out a bunch of inventory with each case because we’ll have the preplanning capability of the CT scan to actually determine the sizing and the surgical technique. We think that’s a big deal of the offering.

[Josh Jennings:]

Understood. Appreciate that. And just any, any commentary on where that knee could be priced, would it be a premium priced offering, similar to where your iTotal knee sit today? And then also just to piggyback on that any thoughts on just for the industry as procedures move into ambulatory surgical centers, whether you’re expecting, I guess a perennial incremental I should say pricing headwinds just due to the reimbursement delta between outpatient and inpatient procedures?

[Mark Augusti:]

Right. So I don’t think there’s any secret. Everybody knows there’s a different price point both from commercial payers as well as Medicare patients and the codes related to that. And so there’s always been sort of the question for the industry walk-through as the price pressure is there. We’ve actually done a really good job at Conformis with our fully-customized knee and getting priced premium. Challenge is there’s always been what I’ll call the price conscious segment or people that are looking for the ability to have more flexible pricing, in the trend ASC we recognize is only going to exacerbate that to a certain extent. So our ASC offerings will be definitely standard price, the personalized offering will continue to be a premium priced offering. And I think this is going to help us a couple of ways Josh, it’s going to open up a new segment to us, that’s frankly closed off, because we can’t get to that price point as well as it’s going to continue to help us maintain a price premium for those that actually want a fully personalized implant, because we will have more than one knee offering to compete, but there’s sort of a family because again, – what I’ll call the base knee or standard knee will be a subset of our current clearance and it’ll have very similar feel and design, and surgical technique to our standard – to our current custom made. So it’d be easy for surgeons to choose between the two to the extent they want to. So I think this is very, very exciting news for us. Because it lets us get to different price points, it creates inter-operative flexibility for surgeons, which has been something that has always been a headwind for us in surgeon adoption and competitive conversions, as well as it gives us a three week lead time. So we can, – people have said five to six weeks, isn’t bad, but what we really want is three and that’s always been the number, that everybody says is reasonable because you can’t even really consent someone into surgery any quicker than three weeks anyway. So if we can deliver in three weeks, that’s the target we’d be going after. We just could not get there with a fully-customized offering, but we absolutely can be there with a standardized offering and that’s the plan. So we’re very excited about that.

[Josh Jennings:]

That is exciting to make sense. Thanks for all those incremental details. And you mentioned on the Stryker supply, PSI supply agreement, you’ll be supplying knees, you mentioned 10% to 20% of overall corporate sales could come from those instruments that you’ve supplied at Stryker. I mean, just want to back into some math, I mean, you guys have been running at a run rate close to $100 million, so you’re suggesting that you could see $10 million to $20 million in revenue coming from this agreement over time.

[Mark Augusti:]

Absolutely. And frankly, if we don’t achieve that, personally my opinion I’d be disappointed, but absolutely we – I think there’s at least that amount of revenue potential, and that’s a key announcement we wanted to make today, because I don’t think people have really put the math to this and understanding and as I have indicated that, while we don’t control launch schedule we would hope that it will launch sometime in next year, but we feel very good about the progress we’ve made, at the end of the day it’s up to Stryker. And we’ve got – in my opinion, a very good collaboration with them and we’re excited about the revenue potential for Conformis shareholders.

[Josh Jennings:]

Excellent. Last question, just I’m not sure I may have missed it, but any update on just the cementless knee offering and iTotal offering and development efforts there.

[Mark Augusti:]

Right. So the iTotal identity for both CR and PS flavors has launched and we’re continuing to roll out sets, as I’ve mentioned in previous quarters stuff. We are going to have probably a quarter to two quarter delay in cementless as we gear in pivot activities towards the ASC knees, because as you can imagine with the second half launch next year of ASC knee, that’s pretty aggressive. Having said that we actually have progressed the project well, we’ve done work in the lab and on cadavers with our cementless, but we now have to sort of make sure that we’re able to do cementless on both projects. So, we don’t want to have our ASC knee have a situation where it goes for awhile without a cementless offering. So we’ve taken a tough decision to sort of prioritizing ASC over cementless, that really, if you look in our new investor presentation, Josh, that’s really the only significant sort of change beyond the addition of the ASC knee in the launch cadence.

[Josh Jennings:]

Great. Thanks for those details as well. And I’ll step out of the queue and follow-up offline. Thank you.

[Mark Augusti:]

Thank you, Josh.

[Operator:]

Thank you. And this does conclude today’s question-and-answer session. I would now like to turn the call back to Mark for closing remarks.

[Mark Augusti:]

Nope, we’re fine, Operator. Thank you. I appreciate your attendance on the call and we’ll look forward to next quarter. Thank you.

[Operator:]

Thank you, ladies and gentlemen, this concludes today’s conference call. Thank you for participating. You may now disconnect.