Boston Scientific Corp (BSX) — Q2 2019 Earnings Call Transcript

Thanks, operator and thanks everyone for participating in today's call. Joining me on the call are Todd Newton, Chief Executive Officer; and Stefanie Cavanaugh, Chief Financial Officer. Before we begin, I would like to caution listeners that comments made by management during this conference call will include forward-looking statements within the meaning of Federal Securities Laws, including Apollo's financial outlook and Apollo's plans and timing for product development and sales. These forward-looking statements involve material risks and uncertainties and Apollo's actual results may differ materially. For a discussion of risk factors, I encourage you to review the company's quarterly report on Form 10-Q for the three-month period ending June 30, 2019, which we expect to file later this week with the Securities and Exchange Commission. The content of this conference call contains time-sensitive information that is accurate only as of the date of the live broadcast July 23, 2019. Except as required by law, Apollo undertakes no obligation to revise or update any statement to reflect events or circumstances after the date of this call. During this call, we will interchangeably use the terms ESS for OverStitch and the terms IGB for Orbera and vice versa. In this call, we will also refer to the term continuing product revenue, which excludes the revenues associated with our Surgical products, which we divested on December 17, 2018. Continuing product revenue will differ from our GAAP revenues, as we will still report historical and transitional Surgical product sales as part of our GAAP revenues. Now, I'd like to turn the call over to Todd.

Thank you, John, and good afternoon, everyone, and thank you for joining today's call to discuss our second quarter 2019 results. This quarter is only our second quarterly report since the sale of our surgical product line in December of last year, which was done to focus the company on the opportunities for our therapeutic endoscopy products, while also monetizing a nonstrategic asset. The second quarter was a great quarter for OverStitch, or ESS, on many levels. OverStitch sales increased in constant currency by 43%. Digestive Disease Week, which is the most significant GI conference of the year, was an incredible event for Apollo, with more than 40% of clinical presentations that described the results for the use of our endo products, including over 30 papers related to procedures that relied on the use of our OverStitch endoscopic suturing system and other presentations providing clinical updates regarding Orbera experiences. Further, DDW represented a significant training event for physicians from various geographies around the world, who have heard about OverStitch and wanted to learn more. DDW itself offered four training events that included endoscopic suturing and, of course, since OverStitch is the only full-thickness endoscopic suturing system available, these sessions featured the OverStitch device. In addition, we had our mobile learning center on site to allow physicians to spend individual lab time to be introduced to our endo products or further develop their experience with our devices. As could be seen at DDW, there is tremendous physician interest to develop and adopt endoluminal approaches to treat a broad range of gastrointestinal disease and defects. Our previous product sales guidance for our endo products for 2019 was to grow around 15%. At this time, we are maintaining this stated guidance. I'll turn the call over to Stefanie now to cover our financial results in greater detail. And then, I'll come back with an operational update afterwards. Stef?

Thank you, Todd, and good afternoon, everyone. ESS sales increased 40% to $7.7 million in the second quarter of 2019, versus $5.5 million in the second quarter of 2018. On a constant currency basis, total ESS sales increased 43%. Sales in the United States increased 42% and outside the U.S. ESS sales increased 38% on an as-reported basis. In constant currency terms, OUS ESS sales increased 44%. ESS growth resulted from expanded procedure use by existing customers and the addition of new users. Sales from OverStitch Sx contributed, but the dual-channel device was the primary contributor to second quarter growth. Intragastric Balloon, or IGB, sales were $4.5 million in the second quarter versus $5.3 million in the second quarter of last year. Sales in OUS markets were roughly two-thirds of our total IGB revenue in the second quarter and declined 15% on an as-reported basis and 12% on a constant currency basis compared to the second quarter of 2018. We continue to see stable sales in OUS markets where Orbera365 is available being offset by lower sales in markets selling our six months balloon and thus we remain active with efforts to gain clearance for Orbera365 in these markets. On a constant currency basis, IGB sales in our direct markets were essentially flat in Q2 compared to the prior year, while distributor sales were down, primarily due to lower orders from our Middle East distributor this quarter, which we believe is a timing effect. In the United States, IGB sales were down approximately $200,000 versus the second quarter of last year due to weakness in the cash pay market for intragastric balloon treatment in the U.S. In total, our second quarter 2019 continuing product revenue defined as our Endo-bariatric product sales following the divestment of our surgical products in the fourth quarter of 2019 increased 13% as reported to $12.2 million or 16% on a constant currency basis compared to the second quarter of 2018. Total GAAP revenues in the second quarter of 2019 were $14.3 million, which included $1.3 million of surgical product sales and $0.6 million of surgical transition charges compared to $15.8 million in the second quarter 2018, which included $4.7 million of surgical product sales for a decrease of 10% or $1.5 million. Gross margins for the second quarter 2019 was 50.3% compared to 58.2% in the prior-year period. The decline in gross margin was due largely to the shift of revenue to ESS sales, which carries a lower margin than our other products, partially offset by the positive impact of the two gross margin improvement projects we completed last fall. Gross margin for our Endo-bariatric products was 50% for the second quarters of both 2019 and 2018. In addition to the impact of increasing mix to greater ESS sales, the reduction in gross margin from the first quarter to the second quarter of 2019 was due to completing the transition of surgical product sales to ReShape in certain OUS markets during the quarter, and a greater proportion of OUS surgical product sales are at a distributor sales price that previously would have been sold at end-user price. Our guidance for 2019 has been that our consolidated gross margin will be in the low to mid-50% range and at this time, we are maintaining this stated guidance. Margin improvement continues to be a focus for us as we have several projects underway. We will continue to update you on our progress. Total operating expenses were $14.4 million for the second quarter 2019 compared to $16.7 million in the second quarter 2018. This decrease was mainly due to lower amortization of intangibles related to the sale of surgical business last December of $1.3 million along with reduced sales and marketing expense of $700,000, primarily due to lower advertising spend related to U.S. IGB sales. Our net loss for the second quarter of 2019 was $8.8 million compared to $9.5 million for the second quarter of 2018 and we ended the second quarter with $23.9 million of cash, restricted cash and cash equivalents. I will now turn it back to Todd.

Thank you, Stefanie. To start, we're feeling very good about the health and opportunity in front of us for our ESS products. In the second quarter, the majority of our sales growth came from our dual-channel product where we have a solid and experienced user group who have invested in dual-channel scopes and continue to expand their suturing use across a number of critical applications. For the second quarter, 90% of OverStitch handle sales were dual channel and 10% were the Sx. The second quarter was the first full quarter of the Sx introduction and we are taking a deliberate and measured approach in its launch. There are many variables related to Sx including the best way to mount the product on the variety of single-channel scope platforms in the market all of which have something unique about them. There are technique pearls to learn and then share related to use of the device optimally in its various clinical settings which range from esophageal stent fixation to gastroplasty. There are various angles of scope retroflexion to address in various tissue types. And of course we are constantly finding tweaks to technique and product that can further improve the user experience. Because of this variety Sx has additional technical needs compared to the dual-channel OverStitch. And as we have mentioned many times to investors, OverStitch adoption is the result of good medical education execution and repetition to build up a physician's confidence. But once this confidence is built, as our experience with the dual-channel OverStitch shows and as DDW this year shows, it is a sticky product and those users find more and more clinical needs for the device in their practice. So our plan for Sx will continue to be a deliberate and measured rollout, which means moving physicians through our medical education program at the right pace for each individual. Basically this is the same playbook we have used the past for the dual-channel device's introduction and adoption and we expect to see solid growth throughout the balance of 2019 from both the dual and single-channel OverStitch devices. As I mentioned in my opening remarks, DDW, which took place in May, was a very positive meeting. The level of enthusiasm from physicians for the adoption of endoluminal techniques which are enabled by OverStitch to address a wide range of patient needs was evidenced by more than 30 abstracts at DDW related to procedures involving the product. This is an impressive showing for a single company in this type of setting, much less a single product. The uses described include applications in both the upper and lower GI tract, revisions of failing bariatric surgeries, suture-based endoluminal surgical treatment for reflux patients, and papers on the ESG procedure including one that presented one center's five-year patient follow-up data. In summary, it was just a stellar event. As for our press release to investors on June 24th, this quarter the MERIT trial's principal investigators informed us that enrollment in the MERIT trial was completed. As a reminder, this is the first prospective randomized controlled trial involving the ESG procedure. The 80-patient initial treatment arm is to be followed for two years and the 120 patient control group can potentially cross over for ESG treatment after one year. Since that time, the study's principal investigators have informed us of communications from the FDA that the MERIT trial needs some investigational device exemption, or IDE. The co-principal investigators continue to believe an IDE is not necessary, but have decided submitting for an IDE is the quickest path forward. And while it is pending approval MERIT procedures which are mostly crossovers at this point will be delayed. The PIs or principal investigators believe this is an administrative matter and not related to any patient safety issues in the study and do not expect a long delay. In the meantime, patient follow-up is continuing at all sites in accordance with the study's protocol. In other key ESS clinical programs, the AGA registry which is intended to capture data on core GI procedures and bariatric revisions using suturing now have over nine sites contracted and 77 patients enrolled. In Europe, the bariatric registry that began in May of last year to capture data on ESG and bariatric surgery revisions has over 240 patients enrolled. And the European GI registry we announced last September to build awareness in data of core GI users of OverStitch in Europe where core GI experience is lower than it is here in the U.S. now has more than 110 cases recorded. In addition, last quarter, we discussed ongoing ESG reimbursement efforts in important markets outside the United States and we continue to expect news from these prior to year-end. On our Intragastric Balloon activity, Stef discussed sales in the second quarter in her comments and I have a couple of additional comments to add. The way we break down our revenue in periodic reporting, which is by product and by geography, can at times put the wrong emphasis on our results. This quarter this happens to be the case because of the timing of Intragastric Balloon sales to our Middle East distributor. But to be very clear we are very pleased with our distributor market sales performance in the quarter as Endo product sales grew 42% over the prior year. We are delighted to have launched Sx in Hong Kong and to have gained Orbera365 approval in Kuwait. We have built a very strong user base with our OverStitch platform in the Middle East where we have quadrupled our sales over the prior year. But there are challenges in some of these markets from low-cost Intragastric Balloon competitors and in some of these cash pay markets there is physician and patient preference or ESG over a balloon treatment, which can also lower IGB demand. As we get approvals for Orbera365 though, we are confident that it can offer a good value proposition to patients to help them lose and continue to maintain weight loss. Another highlight from our distributor markets this quarter is the start of normal OverStitch distribution in India, a country with a population of roughly 1.3 billion. We already have three centers of excellence in Indore, Mumbai and Hyderabad and many more accounts using our technology in this promising market. So, getting back to our IGB progress this quarter. Strategically, we believe and have stated for some time that we believe there are two markets for ORBERA: first, the aesthetic weight loss market, which is the market we have today, especially here in the United States; and second, a medical market, which is very attractive but needs some market development effort. Sometimes our medical use market development efforts are hard to see, especially from the outside and we often talk about our efforts and objectives, but it is difficult sometimes to see the tangible evidence of progress. During the second quarter, there were some very tangible developments that we wanted to share on this call. In June, we announced a U.S. labeling update on ORBERA that clarifies the contraindication that was previously very loosely referenced as hepatic insufficiency or cirrhosis. The new updated labeling is much more specific and clarifies that the contraindication does not apply to the pre-cirrhotic NASH patient with fibrosis. Still it is important for you to know that ORBERA is not indicated for the treatment of NASH either. However, ORBERA is of course indicated for weight loss and weight loss is identified by the American Association for the Study of Liver Disease or the AASLD in their patient treatment guidelines as one of the most effective treatments to stop and potentially reverse the progression of fatty liver disease. Second, we were notified that an application for a level one CPT code for intragastric balloons was submitted under the joint sponsorship of the American Gastroenterology Association or AGA; American Society for Gastrointestinal Endoscopy or ASGE; American College of Gastroenterology or ACG; the American Society of Metabolic and Bariatric Surgery; and the Society of American Gastrointestinal and Endoscopic Surgeons or SAGES. This joint filing for a level one CPT code reflects a remarkable consensus between the GI and surgeon communities in support of IGB therapy and the strength of our clinical data. It is our hope that the IGB application will be on the agenda for the CPT editorial panel that is scheduled to meet in late September. We understand that the agenda for this meeting should be posted on the American Medical Association's website by the end of this week. Third, CMS or the Centers for Medicare and Medicaid Services has had a national non-coverage decision related to intragastric balloon therapy that dates all the way back to the 1980s and the Garren-Edwards Gastric Bubble which was later pulled from the U.S. market. We recently met with CMS and have mutually agreed on a plan for reevaluating this long-standing national non-coverage decision. Lastly, two separate investigator-initiated studies began enrolling in the second quarter here in the United States for the use of ORBERA for medical purposes. Within Kaiser at the Downey location, a pilot study is underway to compare patients treated with ORBERA to patients in their medically-managed weight loss program. The specific idea being to understand whether ORBERA would be a better pre-op treatment for obese patients who need to lose weight to better prepare them for success from another general surgery that they are in need of. At the VA in San Diego, they were also studying the pre-op impact of ORBERA on patients who are in need of a total knee replacement but have too high of a BMI to otherwise be considered high-success candidates for a knee replacement. Each of these developments are very important building blocks, or examples of our medical market efforts for ORBERA. To recap, it was a very good commercial quarter for endo products and in particular for OverStitch and highly productive for our market development efforts and other activity streams to build out critical clinical data and drive greater market access for our products. And with that, we'll now open the line for questions. Operator, please proceed.

Thank you for taking the questions and for the update. The first one, a very strong quarter for OverStitch, and I'm curious how much of that can you attribute to just the growth that you've been seeing versus how much of that could you attribute to maybe the strong training experience that you had at DDW, or do you see DDW as kind of a springboard for Q3 in the second half of the year?

All right, Matt. Good to talk to you. So I think most of our growth this quarter really relates to people who have been using OverStitch and had been introduced to OverStitch for some time. As I was mentioning in my prepared remarks, we have found and we found this over now several quarters that the medical education execution just requires that we continue to bring users along at their pace. But once they do reach that point where they feel comfortable and confident in the product, they see all the different uses that they have for the product within their practice. So, I do think we would attribute very much of the OverStitch growth here in Q2 to training events at DDW itself. I think we would view this as being a reflection of things that have been working in medical education in particular that we've been executing on now for the last many quarters.

That's great. And then – so the doctors and the physicians that you are training and were training at DDW and since then with the Mobile Learning Center. Maybe walk through what is the process? Do they go back talk to their hospital and the purchasing groups within the hospital need to reach out to you? What is that process? How quickly does that move? And how can that be a driver over the remainder of this year and going forward?

Yeah. So, basically, I would characterize or walk you through it this way. Typically, we would want to see that a physician has had some level of conversation with their hospital prior to the medical education that they receive for OverStitch. DDW is somewhat unique because it's a big GI congress and they're going to have their own programs that will include suturing. So that's a little bit unique in that regard. But in a typical Apollo-sponsored training course, we would, for example, want there to have already been some level of engagement at the hospital level so that we know that particular trainee is a near-term viable user for OverStitch. So that makes DDW a little bit unusual in that regard. And then it's just a matter of taking them through the steps and getting them comfortable with how to attach it to the scope and of course use the device in a variety of different ways.

Okay. Maybe a couple of questions about ORBERA and then I'll hop back in the queue. Regarding the 365 approval you mentioned that you do anticipate possibly some more approvals by the end of the year. Are these – maybe if you could describe some of the markets where you see that as a possibility, are those decent-sized markets? And how quickly once you have that 365 approved do you anticipate that product ramping? And then, I guess, the last question on ORBERA, you just provided some details on the Kaiser and VA studies. Maybe a little bit more color as far as number of patients and when we might expect to see some data out of those two studies? Thank you.

Yes. And just on the first one first, Matt. ORBERA365. We don't really have any specific country that we want to talk about so much today. But in general, we have a goal in markets which do not have ORBERA365 but do have Orbera to expand access for the 365 products. So it's just an ongoing goal that we're working on all the time. And each market has a different pace at which those things proceed.

Kaiser and VA and when can I get some report.

I'm not sure I would characterize these as big studies. I think they are more accurately described as pilot studies that both institutions are interested in using to evaluate how Orbera works within their patient population. However, I don't believe they are significant studies. Based on the grant request from the two institutions, there is no indication that they are large studies. I also do not have information regarding their publishing strategy or whether they will use the information solely for internal purposes.

Hi, good afternoon. Congratulations on the strong quarter. I found the growth of OverStitch impressive. I was particularly surprised by the extent of the legacy OverStitch contribution, and how the Sx typically represents around 10% of that growth or business. Can you provide some insights on this? Are the sales representatives still engaging with accounts that have dual-channel scopes? I’d appreciate any details you can share, as it really stood out to me.

Yeah, there's definitely a focus on the Sx from the standpoint of introducing it in new accounts. With that said, we've been now continuing to see really good OverStitch sales results over the course of the last several quarters and this quarter was a continuation of that, which is all about the user continuing to see the product as adding value to their practice and finding more and more applications for its use. And I think that has been what we've always seen with OverStitch. As the doctor gets comfortable with it they run into situations in their clinical practice where suturing makes sense and so we just see that evolve. And that's really also a reflection of what we saw in the abstracts from DDW. There was just a very broad range of procedures that were being addressed in those abstracts and it's just very satisfying for us. Of course, OverStitch is a general use tool and we would like to see it being used generally and that's exactly what we saw this quarter as well. But the emphasis at the sales level is always going to be continue to support old customers but also, of course, try to drive new introduction at those locations where they have not made the investment in the dual-channel endoscope. And of course that's the whole purpose of Sx.

Is it fair to say, I mean the bulk of the growth in OverStitch came from existing customers and to your point they're learning where they can use the suture technology on more and more procedures as they get comfortable with it?

Yeah, I think that's exactly right JP.

Okay. And then just on Sx. It's definitely still from your comment still a measured rollout and you're learning a ton as you do so. When do you feel like you'll have the confidence you need to do a more aggressive broader push on that product, given all the learning that you have thus far and you're getting the training perfected?

Yeah, I think it really is a function of confidence and building confidence and for different people and sometimes this isn't really at all tied to the individual from a skill perspective, just what kind of time that they have to dedicate to learning about new product variants. So we just continue to try to be persistent with our training and persistent with assisting the physician to gain confidence and get comfortable. Sometimes that involves making available for the doctors some kind of proctoring so he can learn from another physician who is actually very experienced with the device and that's a scheduling issue. Sometimes it's something that our sales rep can just bring along themselves. So it just varies case-by-case. And that's why we emphasize that the rollout will continue to be deliberate because that's just our reality. It will be deliberate because of the nature of the physician community that we're targeting.

Got it. Thank you.

Good afternoon, everyone. Can you hear me all right?

Yes, we can hear you just fine, Suraj.

Great. So Todd, a bunch of questions. Maybe you can help clarify this. If today, obviously OverStitch growth looked very good in the quarter. If I were to draw a pie chart today for OverStitch, what would the usage look like in terms of different categories? And primarily, I'm talking about the U.S.

If in the U.S., I think what you would see is you'd see primarily a 50-50 to 60-40 usage split between core GI use, which would be the larger proportion and bariatric use. The bariatric use would be both for gastroplasty or ESG and it would be for bariatric revisions and endoscopic bariatric revisions. And so within that bariatric category, it would be mostly split 50-50. So hopefully that's instructive. Somewhere between 50% to 60% what we call core GI uses and somewhere between 40% and 50% which would be the broad category of bariatric use.

Got it. Was price a factor in growth? I assume it is a small part. How does OverStitch perform in terms of pricing? Also, Todd, can you provide some information on account utilization metrics in the U.S.? How should we view it? The last I remember, we had around 300 accounts in our models, but that number feels outdated now. Any insights to help us better understand OverStitch, especially in the U.S., would be greatly appreciated.

Yes. Just taking your first question on pricing, Suraj. This year, we did not have a price increase per se for OverStitch. We are rolling out the Sx at a price premium compared to the dual-channel version. But I think our economic rationale for doing that is that new accounts who want to adopt OverStitch are not required with Sx to purchase the piece of capital equipment i.e. the dual-channel scope, and therefore there's a justification for a slight pricing premium on Sx. But this year was not a price increase year across the board from our stated pricing tables. And as it relates to utilization metrics, we're about the same as where we have been in terms of those metrics. We have roughly 300 accounts that we would consider to be our most active accounts. They are probably growing in two ways both in terms of their utilization but also in terms of their user base, because if we take a given hospital or we take a given clinic, it's typically not just a single physician within that clinic that is in the clinical practice. And what our experience has been is that even though OverStitch may come into a clinic or come into a hospital because of a particular physician's interests, it soon begins to become a part of the practice more generally and there's more users within that hospital setting that begin to be OverStitch users. So, the account metric is probably roughly about the same, a little bit maybe different from when we last talked about it, but let's say roughly these 300 accounts. But definitely we think that within those accounts, we're seeing more physicians and of course more utilization.

Two quick questions Todd, then I'll jump back in queue. First, I'd love to get your high-level thoughts on the IGB space, and especially one of your competitors going down a brick-and-mortar route. I'd love to get that. Also, if there was any pull-through from the ReShape client base. And more specifically on OverStitch, I know Stefanie mentioned about some internal programs for improving manufacturing efficiencies. The math seems to suggest OverStitch gross margins are give or take 45%, 46%. Where can that eventually land up? Just kind of walk us through in how we can get some OpEx leverage in the model. Thank you for taking my questions.

Yeah, you bet. So I'm going to let Stef here in a second address the gross margin and OpEx question. But as it relates to competitors, I'll just be very quick and just say, I appreciate the invite to speak about competitor strategies, but I'm going to elect not to do so today. So with that, I'm going to transfer to you Stef.

Okay. So for OverStitch gross margin, we completed a couple of projects in late 2018 that are helping improve our margin for both the balloon and OverStitch, with one project dedicated to each. We have several projects currently in various stages of completion that we expect to finish over the next few quarters, focusing primarily on OverStitch. These projects are aimed at enhancing the margin for that specific product. Once completed, we anticipate that these projects will yield an annual benefit of $3.5 million based on 2018 sales volume. Additionally, we believe we are well-positioned concerning the size of our operations and operating expenses to support our growth in the foreseeable future.

Thank you.

Well, thank you, operator. And in closing, we just want to thank you for your interest in Apollo Endosurgery today. Should you have any questions or need for a follow-up, please contact John Gillings, our Investor Relations Manager who is listed on our press release today. Thank you again.