Good evening, ladies and gentlemen, and welcome to Anika Therapeutics Third Quarter 2019 Earnings Conference Call. [Operator Instructions] I will now turn the call over to Sylvia Cheung, Chief Financial Officer. Please proceed.

Thank you, Andrew. Good evening, everyone, and thank you for joining us. With me on the call today is Anika's President and Chief Executive Officer, Joseph Darling. During today's call, Joe and I will review our third quarter 2019 financial results and key business highlights, which were summarized in our earnings release issued today. A copy of the earnings release is available on the Investor Relations section of our website at anikatherapeutics.com. In addition, a slide presentation is posted on our website in the Investor Relations section under the Events & Presentations tab. We invite you to take a moment now to open a file and follow the presentation along with us. Please turn to Slide number 2. Before we begin, please remember that certain statements made during this conference call constitute forward-looking statements as defined in the Securities and Exchange Act of 1934. These statements are based on our current beliefs and expectations and are subject to certain risks and uncertainties. The company's actual results could differ materially from any anticipated future results, performance and achievements. Please also see our SEC filings for more information about factors that could affect our results. Certain financial measures we will discuss on this call are non-GAAP financial measures. We believe that providing these measures helps investors gain a more complete understanding of our results and is consistent with how management views our financial performance. A reconciliation of these non-GAAP financial results to the most comparable GAAP measurement, calculated and presented in accordance with U.S. GAAP, is available in the Investor Relations section of our website. I will now turn the call over to our CEO, Joseph Darling. Joe?

Thank you, Sylvia, and good evening, everyone. Thank you all for joining us our third quarter 2019 earnings call. We are very pleased with the company's performance in the third quarter, which reflects the progress we continue to make in executing our 5-year strategic plan to transform Anika into a global commercial company positioned to deliver innovative products across the continuum of orthopedic and regenerative medicine therapies. As a testament to our team's strong execution in the quarter, we successfully delivered double-digit revenue and earnings growth on the strength of growing global demand, Anika's expanding commercial platform and continued fiscal discipline. For the third quarter, total revenue increased 1%, net income increased 21% and adjusted EBITDA grew 32% year-over-year as we continue to leverage our growing global platform of innovative therapies and strong demand for our products, both in the U.S. and internationally. We successfully completed the internal build out of our U.S. hybrid commercial model and the soft launch of our first product under that model, TACTOSET. Given our strong third quarter performance, we are raising our revenue and earnings guidance for the full year of 2019, which Sylvia will discuss in more detail during her financial update and commentary. Needless to say, execution is a team effort, and I am very proud of the continued focus and collaboration I saw from our talented employees across the growing Anika organization. Please turn to Slide number 3. As we discussed at our Analyst and Investor Day last month, this pivotal time represents the dawn of a new day for Anika. Our vision is to become the global leader in joint preservation and restoration with innovative technologies that exceed our customers' expectations. Through our 5-year strategic plan, we are actively working to expand our portfolio beyond our primary historical focus on…

Thank you, Joe. Please turn to Slide number 11. Total revenue for the third quarter increased 11% year-over-year to $29.7 million compared to $26.8 million for the third quarter of last year. Revenue growth for the quarter was driven primarily by MONOVISC and CINGAL, which delivered worldwide revenue growth of 15% and 35% year-over-year, respectively. Global viscosupplement revenue in the third quarter increased 9% year-over-year. Domestic viscosupplement revenue increased 7% year-over-year for the quarter. On a sequential quarter basis, domestic end user net sales price decreased around the high single digit percent range for ORTHOVISC and increased around the low single digit percent range for MONOVISC. On a year-over-year basis, end user volume for the quarter increased 6% for ORTHOVISC and 26% for MONOVISC. Of note, the end user volume for MONOVISC has grown in a double-digit percentages year-over-year each quarter for 18 consecutive quarters since its launch in the second quarter of 2014. International viscosupplement revenue increased 17% year-over-year for the quarter, driven primarily by CINGAL and ORTHOVISC. As Joe noted, the 40% year-to-date revenue growth of CINGAL demonstrates the continued strong demand for this therapy internationally. Product gross margin increased to 80% for the quarter compared to 69% for the third quarter of 2018. The strong revenue -- sorry, the strong year-over-year increase was primarily due to more favorable changes in product revenue mix, in particular, an increase in U.S. royalty revenue for MONOVISC. As a reminder, 2018 product gross margin was negatively impacted by a voluntary product recall, which was resolved in the fourth quarter of 2018. Total operating expenses in the quarter were $17.6 million compared to $18.2 million in the third quarter of 2018. The year-over-year decrease in total operating expenses was due primarily to lower cost of product revenue, partially offset by higher selling,…

Thank you, Sylvia. Please turn to Slide number 13. Before I open the call for questions, I'd like to review the 5 key business and financial objectives that we need to achieve through our strategic plan over the next 5 years. As discussed at last month's Analyst Day, we want to: First, accelerate profit and growth and deliver sustainable double-digit revenue growth; second, we want to diversify our revenue stream and enhance our value capture. We're also diversifying through different sales channels and international expansion; third, increase our vitality index to greater than 25% by the end of 5 years. As a reminder, vitality index is defined as the percent of new product revenue compared to total revenue; fourth, pursue strategic M&A focused on tuck-in acquisitions to augment our organic growth; and finally, fifth, continue to maintain a disciplined and balanced approach to capital allocation, focused on the highest return opportunities for our shareholders. We are very committed to sustain our legacy of trust, operational excellence and financial discipline as we execute our growth plan to transform Anika into a global commercial company focused on joint preservation and restoration. And turning to Slide number 14, I'd like to close my comments on the quarter by highlighting what we view as the 4 key elements of our strategic growth plan. First is talent and culture, focused on fostering an innovative environment across our organization. Second is commercial acceleration through our U.S. hybrid commercial model and international expansion, both in market penetration and then expanding into countries where we currently don't have a presence. Third is R&D innovation through investments in R&D to expand and advance our organic pipeline across the joint preservation and restoration continuum of care. Fourth is inorganic growth. This is focused on tuck-in acquisitions that will complement our existing and future product portfolio. All of our strategic initiatives are focused on positioning Anika to achieve a leadership position in joint preservation and restoration and also doubling our total revenue within the next 5 years. I am confident that we can achieve our goal of becoming the leader in joint preservation and restoration and successfully double our total revenue within the next 5 years. This quarter is just the beginning, and we look forward to delivering continued progress, operational and financial performance and value to both patients and shareholders as we execute on these initiatives in the coming quarters. We are now happy to take your questions. Thank you.

[Operator Instructions] Our first question comes from the line of Jim Sidoti with Sidoti & Company. Your lines now.

Afternoon. Can you hear me? Great, great. Sylvia, when you talked about pricing earlier, were you referring to end user pricing or the transfer pricing?

Yes, Jim, I was referring to the end user pricing and end user volume. So the stats that were stated were the end market information, which impacted the royalty revenue.

Okay. And I know you're not going to want to give us 2020 guidance until at least the next quarter. But can you just give us directionally where you think pricing is going over the next 12 months? Do you think that will continue to move up or do you think it will level off from here?

Yes. So I can comment on what we have seen is, in 2019, we certainly have seen stabilization of pricing. And MONOVISC pricing actually increased on a sequential basis for 3 quarters in a row now. If we look back a little bit further, I think the pricing volatility certainly was strong, in particular, for 2018. So this is a topic that we are actively discussing with our commercial partner, J&J, DePuy Synthes Mitek Sports Medicine, and we're closely monitoring the development. I think the year-to-date results are good. Whether or not it's going to sustain? I think we need to keep monitoring the progress going forward.

All right. And then at one point you thought you might receive a $5 million milestone payment and then when the pricing came down that went away. Is there any chance that, that comes back in 2020?

Unfortunately, there isn't. This is a contractual term under the existing MONOVISC agreement that Anika has with Mitek. And that particular term has a time element to it, and we are beyond that window.

Okay. And then last one from me, you said you received about $22 million in employee options. And I was not -- is that spread out over a number of employees or were there any -- was there 1 or 2 employees?

It was spread out over a number of employees, but I can also tell you that it included a couple of former executives of the company.

Okay. So it was unusually large this quarter, it sounds so.

That is correct.

Thank you.

Thank you. And our next question comes from the line of Joe Munda with First Analysis.

So first off, can you give us what the split -- well, first off, can you give us what CINGAL's revenue contribution was in the quarter?

CINGAL's revenue contribution for the quarter is roughly about 5%, and it's been pretty consistent in terms of percentage of total revenue. It's been pretty consistent on a quarter as well as on an annual basis.

And then the split on ORTHOVISC and MONOVISC?

Domestically or global?

Total? Global?

Global. So international, viscosupplementation is in the high-teen percentage range, and the domestic is roughly around low-70 percentage.

Yes, domestic 70%. Did you get that, Joe?

Yes. I got it. And then, I guess, as we look out to 2020, Joe, you're talking about adding 40 distributors for TACTOSET. I mean, is there a specific bogey that these distributors need to hit? In addition, can you give us some sense of what that's going to look like? Are we talking 10 a quarter or is it going to be scaled evenly throughout the year? Any color there would be great?

Yes, sure. And that's a good question, Joe. The way we look at adding the distributors is first in the high prioritization area. So we've now dealt the priorities across the geographic U.S. So that's number one. Number two is, we certainly want to get to the high volume surgical centers that really start to ramp up TACTOSET on the sales. So we've looked at that as well. So the answer to your question, we would expect this to be a smooth transition, adding the distributors when we find the right ones. So I don't want to limit us to just, say, 10 per quarter from a numbers perspective, let's say, but I want to go after the best, the brightest, the most connected and the ones that have the experience in going after the bone therapy product. So we're going to do this in a very systematic manner that would address the market opportunity. Did I answer your question?

Yes, it does. And then I had just one more. The product gross margin up now nicely 80%. Sylvia, you made some comments about the mix as well as the royalty. Can you give us some sense of how much the royalty -- what percentage of revenue was that royalty component in the quarter?

Yes. So we were definitely pleased with the strong improvement in product gross margins, 11% this quarter versus last year's Q3. They are really 2 key factors, and I'll comment on each of them. On the revenue side, we saw an increase in revenue of $2.9 million year-over-year, and $2 million out of the $2.9 million is related to U.S. MONOVISC royalty, so that is a big driver. And as I mentioned on the earlier part of this earnings call, we saw volume increased about 26%. So both volume and price was a positive trend this quarter versus last year's Q3. So that is a meaningful margin contribution for the quarter contributing to 11% uptick from last year. On the cost side, as you can see, on the P&L, our cost of good decreased by about $2 million year-over-year. And there were 2 drivers there: One is product mix, meaning that we are -- we have a larger portion of our product revenue this Q3 from higher margin products, like MONOVISC, CINGAL and HYALOFAST, comparing to the year before. So positive product mix; and the second factor is related to higher production volume in the current year comparing to previous year. As a reminder, the voluntary recall that took place last year had impacted our product margin throughout 2018. So those are really the key drivers contributing to the 11% increase of product gross margin.

Can you just remind us what -- how much of an impact it was last year on the margin, roughly if you wouldn't, let's say, normalize that?

I would say that it would be around low to mid-single-digit percent, yes, from a margin standpoint, just looking at the production side.

And our next question comes from the line of Brian Gagnon with Gagnon Securities. Your line is now open.

It appears that J&J switched from WAC pricing to ASP pricing on MONOVISC on October 1. What would this mean for pricing on MONOVISC a few quarters out because I know this doesn't change things in the current quarter?

That is true. So you observed in the press -- Brian, this is Joe, by the way. Obviously, they started reporting to CMS. And as you look at pricing in this market, we have limited visibility from an actual true pricing perspective until you get toward the end of quarters. So we see volatility potentially on a quarterly basis that we saw last year. But it's part of the reason why we are moving towards a direct hybrid sales organization so we can have a more predictable business. It ties back to our 5-year strategy, utilizing the hybrid commercial model. But from a perspective of what impact it's going to be? I can tell you that throughout the year it's been pretty consistent. But as you start to now take a different path on a strategic front that they have taken, it's still limited visibility for us unfortunately.

So they were reporting -- they weren't reporting ASP at all. So pricing went up quite a bit and then with the switch, you are looking at this and not necessarily sure what the volatility of pricing is going to look like going forward?

We have limited visibility to it. So we have to triangulate all the data that we get. I think the good news is, now that we have feet on the street and direct line of sight to customers, although the different call points, we're hoping that we'll pick up on some competitive intelligence and feed it back into us. But really from a pricing perspective, pricing questions are really supposed to be directed towards J&J, Mitek due to our contract and the nondisclosures that we have. So I really can't comment on it much further than that, Brian. That's the best I can tell you at this point.

[Operator Instructions] Our next question comes from the line of Mike [ph] with Barrington Research. Your lines now open.

Good evening. So Sylvia, on the R&D, I assume, R&D ramp associated with the CINGAL pilot, when should that -- the first 3 quarters of R&D expense have been pretty consistent for 142. I mean, when should that sort of take that step up more towards, I don't know, maybe 5.5 to 6.5 or maybe 7 a quarter. When does that start to ramp? I mean is there something in advance, so sort of mid-year 2020, can you just speak to that?

Yes. So the pilot study we had showed that the timing of commencing that study would be in the first half of 2020. But from an expense standpoint, we actually have preparatory startup activities that is actually happening right now in the fourth quarter of this year. So we do expect R&D expense to pick up in the fourth quarter from Q3 and the first half of this year due to the starting activities related to the CINGAL pilot study as well as a couple of smaller scale European post-market studies, one for MONOVISC and one for our tennis elbow product. So these activities are incremental to earlier year R&D expenses. And on top of that, obviously we're rapidly advancing with the rotator cuff repair program, which Joe commented about. So these are the key drivers for the increase in R&D expense as we head into Q4 of 2019.

Any sort of -- I mean, it's -- is it going to essentially the R&D line, is that going to sort of go to sort of what will be kind of a consistent R&D spend roughly going forward in Q4? Or is it kind of the first step and then it will ramp further as we get closer to the trial starting?

Yes, it will scale up next year as we start to enroll. So as you know, once patient enrollment stipulates, the incremental costs will be picked up. And further along, once the Phase III study starts up, that trial's cost from a dollar standpoint would be more expensive as we previously talked about. So for us, it is difficult to pick a baseline number. A lot of the R&D expenses, as you know, scale with the timing of clinical studies as well as dependent upon the size of the clinical studies that we take on.

All right. Sylvia, did you have CapEx handy for the quarter, I didn't hear it if you mentioned it?

I think it's between $400,000 to $500,000 year-to-date, it's roughly $2.3 million, if I remember it correctly. Hold on one second.

$400,000 to $500,000 until the third quarter. $2.3 million for the third...

Yes. $2.3 million, $2.5 million, yes.

Okay, all right. So you expect that to ramp quite a bit in fourth quarter, obviously, with the guidance?

Yes. We have some planned facility improvement as well as equipments purchases toward the end of the year.

Okay. And just last one for Joe, if one were to attend that Las Vegas conference, what -- I mean, is it white papers or are there actually demonstrations? What would a person see?

Well, it's a good question, Mike. You'll see a couple of things. You'll see podium presentations. I believe, we have 2 physicians presenting based on their experiences with TACTOSET. You'd also see in booth demonstrations of the product. And we will also have physicians in the booth as well to answer any technical -- surgical questions on technique who were -- having their presence in the booth is always a strong point for communicating a message. You'll see flyers...

And these are doctors...

Pardon me?

I'm sorry. These are docs that have actually already done surgical procedures, correct?

Correct, yes. Doctors that have used TACTOSET.

Yes, yes. Perfect. Alright. Thanks, guys.

Thank you. And I am showing no further questions. So with that, I'll turn the call back over to CEO, Joseph Darling, for closing remarks.

Well, first of all, thank you all for your time today. We look forward to continuing to update you as we execute on our growth strategy. So I wanted to thank all of you, and have a great evening.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating, and you may now disconnect.