Artivion, Inc. (AORT) Q1 2018 Earnings Report, Transcript and Summary

Greetings, and welcome to the CryoLife Corporation First Quarter 2018 Conference Call. At this time, all participants are in listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Pat Mackin, Chairman, President and CEO; and Ashley Lee, CFO for CryoLife. Thank you. You may begin.

Good morning, everyone, and thanks for joining the call. I'm Ashley Lee, the CFO of CryoLife. Before we begin, I would like to make the following statements to comply with the Safe Harbor requirements of the Private Securities Litigation Reform Act of 1995. Comments made on this call that look forward in time, involve risks and uncertainties and are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The forward-looking statements include statements made as to the Company's or management's intentions, hopes, beliefs, expectations or predictions of the future. These forward-looking statements are subject to a number of risks, uncertainties, estimates and assumptions that may cause actual results to differ materially from these forward-looking statements. Additional information concerning certain risks and uncertainties that may impact these forward-looking statements is contained from time-to-time, in the Company's SEC filings and in the press release that was issued last night. Now, I'll turn it over to our CEO, Pat Mackin.

Thanks, Ashley, and good morning, everyone. I'm very pleased to report that we had a strong start to the year with a solid first quarter that generated revenue growth across all four of our major product lines, including 16% growth in On-X, and 20% growth in non-GAAP revenues for JOTEC. In my closing comments, last quarter, I told you CryoLife has never been better positioned, more competitive on a larger addressable market opportunity than it does today. And these are factors that drove our solid first quarter. We have a sharp focus with our strategy, which is to call on cardiac and vascular surgeons, who treat patients with aortic disease. We execute the strategy with our well-trained 125 person direct sales force, selling highly differentiated and competitive products. We worked hard to put this strategy in place and our results demonstrate that this strategy is working. We expect this strategy to drive strong performance in 2018 and beyond. With the success of the On-X acquisition and the JOTEC integration almost complete, we are already starting to capitalize on our increasingly expanded market opportunity and to drive CryoLife's growth and profitability over the next five years. As a result, of the On-X and JOTEC acquisitions, we've increased our addressable market to approximately $2 billion and have the potential to increase it to $3 billion through our own internal R&D efforts, including those we have previously discussed regarding bringing BioGlue to China and PerClot to the U.S. We also remained very excited about the potential of JOTEC's R&D pipeline, and JOTEC's R&D capabilities to bring even more highly differentiated products to market. Moving on to our quarterly review of our 2018 key initiatives. The best way to assess our progress is to examine our accomplishments for each of our five core initiatives. As you'll hear later today, we are on track with each of these initiatives, and we are well on our way towards achieving the goals we set for CryoLife for 2018. Following my comments, Ashley will provide a detailed review of our first quarter financial results. And then, we'll open the call for any questions. The first key initiative we set for 2018 is to achieve our full year 2018 financial guidance. In the first quarter of 2018, we delivered revenues of $61.9 million representing an increase of 30% over the first quarter of 2017. Non-GAAP revenue increases were 9% compared to the first quarter of last year, and 5% on a constant currency basis. Non-GAAP revenue increases are calculated assuming that we owned JOTEC in the first quarter of 2017. Regarding our first quarter 2018 earnings, we delivered non-GAAP EPS of $0.02 per diluted share. Although it is still early, we believe our first quarter results had put us on solid footing to deliver on our full-year financial guidance. Ashley will provide more details in his commentary. Our second key initiative for the year is to complete the integration of JOTEC and deliver double-digit non-GAAP revenue growth in 2018. As I just mentioned, in the first quarter of 2018, we posted non-GAAP revenue growth of 20% in the JOTEC portfolio in the first quarter of 2017 – over the first quarter of 2017. We believe these results demonstrate a significant potential of JOTEC's highly differentiated product portfolio and overall market that is growing only in the low-single digits. We have previously communicated we expect this portfolio to take share with our highly trained direct sales force behind our highly differentiated products. We remain very excited about the prospects for the JOTEC business going forward. Our third key initiative is to continue the momentum of On-X and deliver double-digit revenue growth in 2018. We are off to a great start, as the On-X portfolio grew 16% in the first quarter relative to the first quarter of 2017, including an increase of 23% in our direct North American markets, an increase of 33% in Europe, Middle East and Africa, despite not having the AAP product line available to us in that market. As with JOTEC products, we expect to take market share in mechanical heart valves as our highly trained sales force educates more and more customers and health care professionals that On-X is the only mechanical aortic valve that is FDA approved for an INR between 1.5 and 2.0,. which showed a 65% reduction in bleeding in the PROACT clinical trial. Furthermore, we are excited to announce that our paper regarding the results of the PROACT study, demonstrating superior clinical benefits I just mentioned, has been accepted by a major scientific journal for publication later this year. Meaning that more physicians will learn about the advantages of this product and making us even more optimistic about the prospects for the On-X portfolio. Our fourth key initiative in 2018 is to continue to expand our current total addressable market opportunity. As we previously communicated, we expanded our opportunity from approximately $600 million to approximately $2 billion with the acquisition of JOTEC. We expect to expand into $3 billion with the further investment in our R&D product pipeline, including both the JOTEC product line and our legacy CryoLife product pipeline. In that regard, we continue to make significant progress in our clinical trials for BioGlue in China and PerClot in the U.S. In the BioGlue, China, clinical trial, we now have full site activation at all seven institutions, and have enrolled 82% of the patients needed to complete the trial. We remain on track for the approval of BioGlue in China in the second half of 2019. Since restarting the PerClot study under revised protocol, we now have full site activation at 21 centers, where patients are currently being enrolled in the trial. To date, we've enrolled 54% of the patients needed to complete this trial. In addition, we expect another three sites to be activated in the second quarter of 2018. Our current enrollment rate keeps us on track for an FDA approval between the second half of 2019 and the first of 2020. We are also working to file the IDE for the PROACT 10A trial. We look forward to providing more details on this exciting trial, if and when we receive FDA approval for the IDE. And finally, we remain on track to launch several next-generation JOTEC products in international markets next year. These are the same products that we will be seeking to bring to the U.S. markets, and we expect it to commence those U.S. clinical trials this time next year. Our fifth key initiative for 2018 is to complete the transition to direct sales channels for our legacy CryoLife products in Spain, Italy and Poland. I'm pleased to announce that we've achieved that objectives, and as of April 1, we began servicing customers on a direct basis for CryoLife legacy products in each of those markets. Also, on April 1, we implemented the same IT system across all key European markets to support the back office, customer service, and finance functions for those entities. We want to thank all of our employees that help to accomplish this major undertaking in a relatively short period of time. And with that, I will now turn the call over to Ashley for his financial review.

Thanks, Pat. I'll now review our results for the first quarter. Total company revenues increased 37% to $61.9 million when compared to the first quarter of the prior year. On a non-GAAP basis, total revenues increased 9%, which included approximately 400 basis points of currency tailwinds. On a geographical basis, first quarter North American revenues were $36 million, an increase of 7% year-over-year. The increase was driven by 23% increase in On-X revenues, a 6% increase in BioGlue revenues, and a 4% increase in tissue processing revenues. Revenues from our Europe, Middle East, and Africa region were $21.6 million an increase of 200% and an increase of 19% on a non-GAAP basis compared to the prior year. Revenues from Asia Pacific and Latin America were $4.3 million for the first quarter, a decrease of 15% compared to the prior year, primarily as a result of distributor ordering patterns. I'd like to spend some time focusing on individual product lines. On-X revenues for the first quarter were $10.3 million, an increase of 16% over the first quarter of 2017. On-X revenues in our North American direct markets were up 23% over the first quarter of 2017, an increased of 33% overall year-over-year for the first quarter in Europe, Middle East and Africa, and 24% for our direct businesses in Europe, Middle East and Africa. On-X revenues decreased 26% in Asia Pacific and Latin America, primarily due to distributor ordering patterns. JOTEC revenues for the first quarter were $14.5 million. Non-GAAP JOTEC revenues increased 20% compared to the first quarter of 2017. For this same period, non-GAAP JOTEC revenues were up 5% on a constant currency basis and up 7% on a constant currency basis, excluding OEM. BioGlue revenues in the first quarter increased 2% year-over-year to $15.9 million. North American BioGlue revenues were $9.4 million in Q1, which was an increase of 6% year-over-year. This was a great result considering some of the competitive activity we've seen over the last couple of years. OUS BioGlue revenues decreased 3% year-over-year to $6.6 million. BioGlue revenues were up 12% in Europe, Middle East and Africa, and decreased 30% in Asia Pacific, resulting from distributor ordering patterns. We remain positive on the prospects of BioGlue based on our ongoing strategy to go direct in selected OUS markets. The cross-selling opportunity with 45 JOTEC's sales reps, who call in vascular surgeons, and the anticipated regulatory approval of BioGlue in China in the second half of 2019. Tissue processing revenues for the first quarter were $18.4 million, an increase of 4% from $17.7 million in the first quarter of 2017. During the first quarter, vascular revenues increased 1% year-over-year, and 4% increase in unit shift. Cardiac tissue processing revenues increased 8% year-over-year on a 17% increase in unit shifts. Our overall gross margin for the first quarter was 63%. Gross margins in the first quarter included a charge of $1.5 million related to a step-up in basis, for acquired JOTEC and other distributor inventory. We expect an additional $1.5 million charge over the balance of the year, of which $1 million is expected in 2Q. Excluding the $1.5 million charge, non-GAAP gross margin for the first quarter was 66%. Tissue processing gross margins were 53% for the quarter and product gross margin was 68%. SG&A expenses during the first quarter were $37.3 million, excluding $3.7 million in business development and integration-related expenses, SG&A expenses were $33.6 million. Our tax rate for the first quarter of 2018 was 44%. The tax rate reflects excess tax benefits related to stock compensation expenses, partially offset by nondeductible transaction costs and executive compensation. Excluding these items, our effective tax rate would have been in the mid-20% range. On the bottom line, we reported GAAP net loss of $3.9 million or $0.11 per fully diluted share in the first quarter of 2018, and non-GAAP net income of $793,000 or $0.02 per share. Please refer to our press release for additional information about our non-GAAP results, including a reconciliation of these results to our GAAP results. As of May 1, 2018, we had approximately $30 million in cash, cash equivalents and restricted securities. We had $224 million outstanding under our term loan B and based on our credit documents, our current gross leverage stood at over four times and our net leverage was just under four times. We are currently evaluating options to manage our floating-rate interest rate exposure, including rate swaps and other instruments. We will keep you posted on our progress. Given that this was our first full quarter following the JOTEC acquisition, and with the integration still underway, we are reiterating our 2018 financial guidance, which is detailed in the press release that we issued last night. And last, we expect revenues for the second quarter of 2018 to be between $63 million and $65 million. That concludes my comments, and now I will turn it back over to Pat.

Thanks, Ashley. So in summary, we are right, where we had hope to be with the On-X and JOTEC acquisitions and we are extremely pleased with how the overall business is performing. Our business strategy is straightforward, but not easily replicated. We aim to sell highly differentiated products focus on aortic repair, supported by a well-trained high-quality sales force that calls on cardiac and vascular surgeons. We are now direct in more markets than ever before. We are highly encouraged by the momentum our sales team is generating. Our R&D and new product pipeline are robust, and should provide us with a steady stream of competitive product for years to come. In short, we have a lot to be excited about these days at CryoLife. The On-X and JOTEC's transaction offer a significant potential, and they are still very much in the early days of their combined potential. Tissue and BioGlue remains solid, and we expect the trend to continue. The quarter was strong. Our strategy is working. And for those reasons, we expect 2018 to be another successful year for CryoLife. I'm proud of what we've been able to accomplish in a relatively short period of time. I want to extend my sincere thank you to all of our employees toward a hand in delivering such a great start of the year. With that, we will open the lines for questions. Operator, will you please open the lines.

Thank you. We will now be conduction a question-and-answer session. [Operator Instructions] The first question is from Mr. Jason Mills, Canaccord Genuity. Please go ahead, sir.

Thanks. Hey, Pat and Ashley, can you hear me okay.

Yes, good morning

Hey, Jason.

Good morning. Pat, great start to the year. Congratulations. Several questions here. I want to start just internationally, specifically in the Asia Pacific market. You obviously had shown a nice beat to your expectations in this quarter. It looks like it could have been even better, and you now only had a couple of distributor order patterns go against you in Asia Pacific. So spending a minute on the Asia Pacific region, the opportunities there. What you might be able to do over time, obviously, with BioGlue China coming in, that's going to be important for that region, late next year. But would you might be able to do over the time to smooth out those results and perhaps augment them over time?

Yes. Obviously, you look at – we're down 15% in Asia Pacific. And as you just said, I mean imagine if that was even flat, what the numbers would have look like. I mean, it was really two things. One, we mentioned this on the call last quarter. We got an extra order, and again, somebody's distributor ordering patterns can be lumpy. But we received an extra order at the end of the last year that frankly, we didn't even need given our growth rate time from Japan. And so that, that order happened in this quarter last year. So it's kind of – there was a missing order of $700,000 to $800,000. So that was one of the pieces. The other piece is we had a really big order in Q1 of last year for On-X in Japan, and they are different distributors. So it wasn't related. But I think again, trying to smooth out some of these bigger lumpier markets that have small chunks of revenue, but they are big relative to those geographies. I think the other thing is, we see significant opportunity in China. And I've mentioned that before on previous calls. And given the BioGlue China coming late next year, the JOTEC portfolio, we now have and many of their new products in registration, as well as the On-X platform in the lower INR opportunity. That makes our pretty nice portfolio for a kind of a upgrade in the distribution side of things. So I think, China is an opportunity. It's probably more later 2019, as BioGlue comes online. And we will be managing towards that in the future.

Okay, yes, that's helpful. Yes, it could have been flat. The numbers could have been sort of eye-popping, so I asked the question. So thanks for color. Turning to the domestic market. The 23% On-X growth again, over 20%, it continues to impress in light of the fact that the market, obviously, is not helping you out. You obviously gaining share there. What sort of opportunity do you have to continue that performance. I think it just continues to surprise folks. And maybe it doesn't surprise you, but maybe you can talk about On-X, specifically, domestically. But maybe also talk about we're in the context of the next 3 to 5 years, you mentioned the new study and you are hopeful to get the IDE. I guess, in my mind, there shouldn't be any – I mean, maybe if you could talk about any concerns you have about not getting the IDE, because it seems like you should be able to get that and start that trial, but correct me if I'm wrong on that too.

Yes, so I think the great news about On-X is, there is multiple factors that are working in our favor, and I think many of them are hard to kind of counter from a competitive standpoint. I think first and foremost, because I mentioned in the prepared remarks, we are the only company in the U.S. that has FDA approval for a lower INR and the benefit of that is 65% reduction in bleeding for patients. So for a company to replicate, that's going to take them five or five to seven years. So I think we have a runway of the next five years, really kind of uncontested. That's point one. Point two, we've got a 60-person kind of commercial organization in North America with feet on the street, that it gets stronger every day. Remember, we acquired this company a little over two years ago, and our reps had never sold mechanical valves. And our sales team has gotten extremely strong and very good at selling the message. Third, and I've talked about this previously, we have a very strong effort in direct-to-consumer, direct-to-patient advertising on the web. And we get tons of hits, where patients were looking for better options than getting a tissue valve that breaks down at five to nine years. The fourth point is, I mentioned in the prepared remarks, is the PROACT trial is going to be published in the major journal this summer. That's a big deal because getting that clinical paper out to more and more clinicians and having our sales force taking that paper out will be extremely powerful. I think, the fifth, you mention PROACT 10A. This is just another reinforcement of the differentiation of the On-X valve, we've talked about this previously. I mean we are working with the FDA, and so until I have more definitive kind of feedback from the FDA, it's hard for me to kind of contemplate kind of where that's going to be. But we've been in discussions, we've got a protocol ready to go, and we are just in discussions, and when we have more definitive information back. We will be happy to share it.

Okay. That's helpful color. I guess, just to follow-up on that and just a few more and perhaps, I get back into queue. The U.S. market, in general, obviously augmented by On-X right now and then BioGlue with the competitive issues sort of dragging that down. How do you see the domestic market playing out for you over the next couple of years? Obviously, PerClot will be important maybe in 18 months or so. How do you see the growth profile in the United States? And then I'll just throw one, Ashley, for you. The SG&A was a little bit higher and R&D a little bit lower. SG&A specifically, this quarter is this the level – the $33 million as you normalize it, is that the level we should be thinking about as a baseline for the year? And then, on the gross margin side, where do you see opportunities to expand that product gross margin over the next couple of years.

Yes, let me take the first question. Remind me the...

The U.S. market, generally, Pat...

So on the U.S. market, I mean, again, when I look globally, we've said – in both transactions, we said that we think we will grow On-X double-digit. We will grow JOTEC double-digit globally. So if you kind of zoom into the U.S., we obviously don't have JOTEC, here yet. It's going to take us several years to get those products into the market. But we expect On-X to be the big driver of growth, which you saw this quarter with 23% growth. We also saw a nice rebound in Glue back to kind of mid-single digits, which was nice to see. And then we saw cardiac tissue at 8%, vascular tissue kind of down at 1%. So I think for the U.S., we've also got some new PhotoFix products coming out. But for the U.S., I think we've targeted kind of mid single digit and we are expecting to get our growth in the next few years until the On-X products come more internationally. And that's pretty much with the U.S. The U.S. had a very good quarter, this quarter, and I think that's kind of what we expected to see. And maybe, I'll let Ashley take the other, the SG&A and the gross margin. The one comment on gross margin that I've talked about previously, you've got a couple of kind of underlying tailwinds on gross margin. Number one is the expansion in the – our direct strategy. As we go direct in the country, we mentioned with the CryoLife products, so Italy, Spain, Poland, we kind of eliminate the middleman and get end-user gross margin. So that's one piece. A second piece, as we bring down the road, as we bring the JOTEC products to the U.S., those are very high margin products in the U.S. marketplace. So that's an upflow, but again, that's further away. I think the other big strategic pieces, our head of operations, I brought in from Baxter. He used to run Baxter's entire supply chain. He worked from Medtronic. He's a very strong operational leader. The Austin, the legacy On-X facility, CryoLife and JOTEC, there was really never any cost down on product cost. And I see significant opportunity over the five years to bring our product cost down to help drive margin aside from anything else, we do it with mix, direct and new products. Ashley, maybe you can take the other two.

Yes, so on the SG&A question, Jason, if you go back and look at the company historically, the first quarter has been our heaviest spent for SG&A for a variety of different reasons, including we have our national sales meeting, and it's got actually a lot bigger this year, now that we have a 125 people around the globe. So that and some conventions that we go to, it typically has been our heaviest spent quarter. So I think, $33 million is the ceiling that you should see every quarter for SG&A over the balance of this year, and it's likely to be a little bit less than that. Yes, and then as far as gross margin, I think Pat summarize that pretty well. We have a lot of opportunity for cost down initiatives, the continued distributor to direct strategically around the world. And then, maybe a little bit longer term as you look at bringing the JOTEC product line into the U.S., we think that, that obviously is a little longer term, but certainly, a nice margin expansion opportunity for the company.

Next question is from Brooks O'Neil, Lake Street Capital Markets. Please go ahead sir.

Good morning. Congratulations on a terrific start to the year. I was just hoping to check-in on, I think you mentioned in the release 5% sort of non-GAAP constant currency growth. And I was wondering, if that is the number or about the number you expect going forward until we could see augmentation from JOTEC coming to the U.S. or some other things? Just talk about that a little bit, if you would?

Yes, so I guess, a couple of things, when we talked about, again, maybe it was in Q2, we had talked about the first quarter still had a lot of noise in it. We just acquired the company on December 1. It was really our first full quarter together. And we had, obviously, a lot of things, a lot of moving parts on integration. So we expected the first quarter to be lighter and we've even comment on that in our transcript last quarter. We actually saw a good performance and we went direct in all the markets we mentioned earlier on April 1, so at the start of the second quarter. So we would always don't expect it to kind of start out slower in Q1 for those reasons, and then kind of build throughout the year. Maybe, Ashley, you can comment on it.

Yes. So I think our guidance coming out for the full-year Brooks, we were guiding somewhere between 6% and 8%, maybe 6% to the high 8% range on a GAAP basis. And the implied constant currency growth for the year was around 5% on the low-end, and 7% on the high-end. So, obviously, our goal is to do better than what we've stated, and if we're successful in doing that, then we could be at seven plus on constant currency basis. Brooks O’Neil: That's good. So I will just ask you one or two more. I'm curious, obviously, you have the challenge of balancing sort of short-term growth with a significant long-term opportunities. Do you see that as a difficult balancing act? Or do you think you have the tools in place to pull that up?

Yes, so I think, the commercial organizations are well-established now. I mean, obviously, we just went direct in Spain, Italy, and Poland, on April 1, so that's still pretty fresh. It's a month old. But, as I comment a couple of times in the prepared remarks, we've got 125 direct reps in North America and Europe. And those channels are pretty well-established. So I think just those channels hitting their stride are going to drive the growth with the product portfolio that we have. I think the nice thing we see in the pipeline, is about this time next year, we've got three major new products we are going to be launching in international markets out of the JOTEC portfolio. We've got a next-generation Frozen Elephant Trunk, a next-generation thoracis stent graft and a next-generation thoracoabdominal device. So, those will be the same three products that we use in the U.S. clinical trials. But, just the channels, the JOTEC products are coming followed by Glue in late 2019, and PerClot in late 2019, early 2020. I think we've got a nice kind of near-term execution of the channels and the current products with new stuff coming out of the R&D pipeline, as we set ourselves up for the really big opportunities in the U.S. market with the JOTEC products, which are further out. Brooks O’Neil: Perfect. That’s great. I’m excited. Thank you very much.

Thanks.

We have a question from Jeffrey Cohen, Ladenburg Thalmann. Please go ahead sir.

Hello, guys. I guess two issues. I wanted to hear a little bit more about on the heels of the thoracic meeting. Can you kind of give us your take and what you're feeling of your recent discussions as far as mechanical valves versus the whole TAVR discussion? And how that may play out both domestically and internationally? And also was a new size underway as far as an approval?

Which size are you referring to?

The new mechanical size, was it 17?

Okay, 17. Okay, yes. So I will take the first one. I don't know if you had a chance to go to the session on, I believe it was on Sunday afternoon. There were three presentations, and this is at the Americas Association of Thoracic Surgeons in San Diego this week. And there were three presentations. The first presentation was an interventional cardiologist, who was saying that you should use TAVR in younger patients. The second presentation was a heart surgeon who's based from the UK, saying you should use tissue valves in young patients. And then, the last presentation was actually John Puskas, who is the PI of the PROACT trial, who basically said you should be using not only mechanical, but an On-X valve in the younger patient. And I thought their presentations – I thought John Puskas did a fantastic job, and I think the feedback we got from the surgeons that came by and talk to us afterwards was that, it was a very compelling presentation to put an On-X valve in a patient over a tissue valve and a TAVR valve. I thought it was really interesting in the interventional cardiologist presentation. He shows a registry of patients for the so-called valve and valve. And what that showed is when you put a tissue valve in first with the hopes of putting TAVR valve in that later. The tissue valves in the registry were actually starting to fail at five years, and half of them, it failed at nine years. And so it was interesting. The very thing he was arguing, his data showed that these valves breakdown earlier in younger patients. And in fact, the tissue in the TAVR valves is exactly the same as the tissue in the bioprosthetic surgical valves. So again, I think that there is, we had a number of surgeons that came by the booth and said, I really got to rethink what I'm doing here. And with this kind of younger group of patients based on what Dr. Puskas said about the On-X valve and the lower INR, because the big argument from the heart surgeon from the U.K. was, this increase risk of bleeding with a mechanical valve is kind of the Achilles' heel. But as I have mentioned before, with the 65% reduction in bleeding, you almost take that off the table. So I think there is – and you've seen in our numbers, we continue to take share and the growth is there. So we think we've got nice opportunity going forward. And as far as this – go ahead…

No, no, go ahead.

And as far as the 17 mm, I mean it's obviously one of – we're talking about a very – really small size and each geography has certain numbers of patients you need in the clinical trial with a certain amount of follow-up, and we're in the process of going through that now. It just takes time to get the valves enrolled. So we are working on it, but it takes a long time to get it done.

Okay, got it. And then secondly, could you talk a little bit about the JOTEC integration current size of sales force, both domestically as well as European and international in size, in Spain, Italy and Poland? And how's that going? How is it working, product-specific, some of the products that have emanated out and into the U.S. over the past quarter-or-so?

Yes, so on the JOTEC integration, I mean I'd say it's got extremely well. One of the things that was a real advantage and benefit was – we signed the definitive agreement in early October of 2017. And we started integrating almost immediately, which you sometimes can always do, but we were lucky we were able to do that. So we've been integrating for months now. And so I said the integration has gone extremely well. One of the big milestones, as I mentioned previously, was that setting up the back office in Europe, the finance, IT backbone, customer service distribution, all that work is pretty much – it's completed. We started on April 1, going direct in Italy, Spain, and Poland, which is a big operation to get that all done. We still have the typical kinks of a new software system, but we're working through those. It's not impeding any of our revenue. Your second question was about the channel sizes. We've got 75 direct reps in Europe, and we've got 54 direct sales reps in North America, not including management. So – and that gets you kind of to your 125 direct reps in North America and Europe. As far as the products – I mean we haven't brought any JOTEC products to the U.S. just because it takes time from a regulatory standpoint. The big opportunity on the JOTEC products in the U.S. are the stent grafts, I mentioned previously. So we're looking at a clinical trial to start this time next year for three different indications: one product for Frozen Elephant Trunk in the arch, the thoracic stent graft for type B dissections, and then thoracoabdominal device for thoracoabdominal aneurysms. So those trials will be starting about this time next year. And other than that, we are going to be driving their portfolio internationally.

Okay, got it. One more, Ashley, can you just provide a little bit more color on how you see margins playing out on the product line for the balance of the year? I know they were a little bit on the heavier side of $14,200 for the quarter?

You're talking about gross margins, Jeff?

Yes.

Yes. So, we came in at a little over 63% for the quarter, which was pretty much in line with where we wanted to be. The full year guidance, which we reiterated is between 65.5% and 66.5% for the full-year. So that kind of implies gross margins for the remainder of the year in the 67% to 68% range.

Okay. Perfect. Thanks for the questions guys.

We have a question from Mr. Suraj Kalia, Northland Securities. Please go ahead, sir.

Good morning, Pat. Good morning, Ashley. Can you hear me all right?

Yes, good morning.

Good morning, Suraj.

So gentlemen, first congratulations on the quarter, Pat, bunch of questions and let me see if I can get through these quickly. Can you give us some color on the cross-selling, if any between JOTEC and organic CryoLife in Europe? Is it too early to start nosing into that just yet?

No, I actually think it's not too early. But I mean, the biggest opportunity for us in – kind of in the near-term cross-selling is really BioGlue. We've got 45 new JOTEC reps calling on vascular surgeons and the idea was to, basically have them pick up BioGlue and start selling that to customers. Now again, we just started that initiative, we trained the reps, in late January in our sales meeting. So I mean, it's still – you probably got a month and half, by the time they got their samples and all that kind of stuff. So, I think that's pretty new, but we saw a really nice growth in BioGlue in the first quarter in Europe. So I think that's a proxy for you on the cross-selling. I think that's the biggest opportunity. That's the JOTEC team selling the CryoLife product, BioGlue. Going the other way, we also have an opportunity for the CryoLife team that's calling on heart surgeons to sell the JOTEC Frozen Elephant Trunk, and we've already started to see that happen, and that's a little bit of a kind of a higher learning curve. It's a new procedure. It's more technical. It takes more time on the training. So I think, we will start to see that play out as we go through the year. And particularly, when we launch our new product this time next year, I think we will see significant upside on that cross-selling.

Got it, Pat [dumb] question, remind us of the end point on BioGlue China trial?

Yes, I believe the primary endpoint on that is obliteration of the false lumen in a type A aortic dissection, which is basically the exact same trial that was done 20 years ago in the U.S. to get the PMA. So it's – we really know the answer before we started the trial. Again, it's kind of bizarre that you have to go off and do another big clinical trial in China, when we did the exact same trial for the FDA 20 years ago, and we know the answer. But that's the rules in China now.

Got it, for On-X, Pat, can you help us understand what is the average INR or mean INR being used in the U.S. versus Europe relative to your low INR label? Are we still around the 1.8 – [1.8, 1.9] number that was seen in the trial? Or is that higher than that?

Yes, it's a good question. I – it would be impossible for me to know that answer. I mean I think the best proxy is the trial, because I mean that was a randomized FDA control trial with home monitoring of INR. So you had actually perfect INR information. And that was 1.8 as you pointed out. Patients are managed. The heart surgeon does the valve case, and then the patient gets handed off to the cardiologist who manages the INR. So for us to – I mean you're talking about private health information for a patient, I won't have any visibility or knowledge of what those are. I do know that, just from discussions with the clinicians, that there – I would assume that's running in the same range of the kind of 1.8 range, just from anecdotal physician conversations.

Got it, and finally, Ashley, one question for you, 400 bps positive FX impact, you have $224 million outstanding loan and given that you are looking at rate swaps, 44% of your current reps have FX exposure. How should we think about FX impact moving – admittedly, currencies can move day-to-day, I get that. But how were you all thinking about the impact moving forward this year and next year?

Yes, so Suraj, it's a great question. So from a net cash flow standpoint, especially, out of Europe, because we have much larger business there right now. We have a kind of a natural hedge with all of the operations that we have on the ground. So over the next year or two, we don't expect to have a significant exposure from a net cash flow standpoint coming out of Europe. If you want to talk specifically, about the top line, I think you've seen a lot of company's report in the first quarter and many device companies had a significant tailwind, U.S.-based companies had a significant tailwind from FX on the top line in the first quarter of this year. I think as you know, the dollar versus the euro over the balance of the last three quarters in 2017, started to moderate. So we don't expect to see as big a benefit from FX in the topline. Second quarter again, you probably will see it. The third and fourth quarters, you're going to start to see that impact from FX moderate on the top line. And then in regards to credit and the movement in interest rates over the last four to six months, it's something that we're paying very close attention to. We are currently in active discussions with parties, looking at alternatives to manage that interest rate risk going forward. And we will keep you apprised of our progress and if we decide to do something.

Thank you.

[Operator Instructions] We have a question from Joe Munda, First Analysis. Please go ahead, sir.

Real quick, Ashley, I want to hone in on JOTEC here, the asset growth that you put up in the quarter, just curious, if you could give us some sense of the mix there. How much of that growth or revenue if you will, came from the three differentiated products being the E-vita, E-xtra and the E-tegra versus some of the more traditional commoditized products in that portfolio?

Yes. So, we don't breakdown the individual kind of product mix. So I can tell you that, for example, on the AAA side, which is the kind of a more competitive segment of the market in Europe. The reason we've been able to do so well with our product line; one, it's a good device, but two, we've got a very nice Iliac Branch, E-liac Device, which is a very proprietary system. It does extremely well in the marketplace. And we actually, we saw – just to give you just a relative kind of macro perspective on the JOTEC portfolio. We saw a double-digit growth in every single product line in 2017. So it wasn't like, it was a one product that was a kind of blown it out. We saw a double-digit products in every product line, including their vascular graft product line, which you would say is an old crowded market, yet, we are growing at double digits as well. So I just think that the portfolio is highly differentiated. It's getting us great access, and we are seeing growth across the entire portfolio.

Okay. And back to Suraj's question is that, do you think as the result of the cross-selling opportunities that you are seeing by matching up the JOTEC portfolio would be the core CryoLife portfolio?

Yes, I think – I don't think we have even seen that, yet, to be honest. So I mean in the short-term in Europe, the biggest opportunity for cross-selling of – the legacy CryoLife cardiac team calling on heart surgeons is to sell the E-vita open, which is the Frozen Elephant Trunk device. As I mentioned in Suraj's question, that's a very technical product, it takes some time to get trained on, to learn, that will take our team some time to get that up under their belt, but the exciting part of that is we are launching the next-generation version of that in about a year, which we think we are going to take significant market share with. So I think we'll see we'll see some nice cross-selling upside, later in this year. But I think we'll see a big contribution kind of following this time next year.

Yes, Pat to that point about the next-gen products that you would be launching, couple of questions. First off, incrementally, as far as R&D costs are concerned. I mean, where are we looking at incremental costs to launch these products. As well as perhaps, can you give us some insight as to what 2.0 version is the benefits for over the 1.0 version, if you will. And how much of a difference there will be based on it on the launch of these new products?

Yes, so we've given guidance. We give guidance at the end of the Q4 call that we did back in early March. We gave R&D guidance...

$23 million to $25 million.

Yes, $23 million to $25 million. So – and I think if you did that kind of an apple-to-apples, I mean our percentage of R&D is pretty consistent with when we were kind of pre-JOTEC. So we've been able to absorb – acquire JOTEC, absorb them into our organization and keep the R&D spending kind of where we were. That's kind of point one. Point two is the next-generation products are, I'm extremely excited about. I mean I was just – I had to spend three days last week at the Charing Cross Meeting in London, which is the big vascular meeting. I had a chance to talk to existing JOTEC customers. I had a chance to talk to future U.S. customers that I know from my previous experience in the space. There is a ton of excitement for our next-generation products. The next-generation Frozen Elephant Trunk, I think it's a new delivery system. It's got a number of new features that our clinicians have been asking for. And I think it will be the best-in-class product with a powerful channel to deliver it. So that's, I think going to be a lot of upside there. Our next-generation thoracic stent graft is, I think it will be as good as anything that's on the market. And the key for that is that it's used both with the Frozen Elephant Trunk, as well as with the thoracoabdominal device. I think the real cutting edge technology that we're going to bringing that no one else has and we have a ton of excitement around is kind of our next-generation thoracoabdominal device. There is a number of unique features. We had a chance to show the technology to potential clinical sites here in the U.S. when I was in London. And I've got the biggest centers that are interested in getting involved in this. That device will take share, and we will grow significantly after that. So again, I think there is just a lot of excitement about it. And it's – all three of those devices are kind of in design freeze, and we're just going through our testing and will be submitting by the end of the year to CE Mark, so we should expect to see those devices in about a year in Europe, and then those will be the same devices we trial in the U.S.

That's helpful. Thank you. Two more here, Ashley, perhaps I missed this. What was total debt at the end of the quarter?

We had $224 million outstanding under our term loan B, and we do have a couple of other smaller loans, as well as the capital lease on our financials. I believe, that the total consolidated is in the low to mid-$30 million range, including those instruments.

Okay. And then – that's helpful. And then my final question. If you guys can remind us – You talked about direct being Italy, Spain and Poland, could you remind us are there more geographies for you guys to go, perhaps roadmap moves to 2019, as far as those are concerned. But are there more geographies that are available to flip from distributor to direct?

There are. And one of the things I have stated kind of early on in my tenure here was that, given the competitive highly differentiated nature of our products with a significant clinical data, that we – I saw from my experience that having a direct sales force in the developed markets, so that's kind of North America, Europe, Australia, Japan, eventually, but again, you have to look at these on a case-by-case basis. So, I think, I have mentioned a number of times that, China we've not been pleased with our distribution situation in China. So that's when were – and I answered that in kind of Jason's question. That's something we are looking at right now, and doing some different things. Not that we're going to go direct in China, but we are going to be doing some different things in China. And we – several markets we're looking at, but nothing in 2018. We are done for 2018, and will be evaluating different opportunities for 2019 and will communicate those as those – as the timings are appropriate.

Okay, thank you. End of Q&A

There are no further questions at this time. I'd like to turn the conference to the floor back over to the management. Please go ahead, sir.

Well, thanks everybody for joining in. We are very pleased with the first quarter. I mean, if you recall, we signed or we close the deal on December 1. And we finished the quarter with only four months under our belt with JOTEC. I think the integration has gone extremely well. They posted great numbers. On-X posted great numbers. We beat the top line and we beat the bottom line. And it was our first quarter, and we had said that, with some of the distributor kind of runoff in Italy, Spain, Poland, that we would see some softness in the first quarter and that would ramp as we kind of move throughout the year. Margins will be improving as Ashley commented as the purchases accounting kind of flows through the P&L. And we are reiterating guidance for the full year that we put out in March. And we've got a great pipeline and look forward to updating you on our progress at the end of the next quarter. So I appreciate you calling in and have a great day.

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.