Suraj Kalia - Piper Jaffray Charley Jones - Barrington Research Matt Dolan - Roth Capital Partners Larry Haimovitch - HMTC Steve Ogilvie - ThinkEquity

Good day, ladies and gentlemen, and welcome to the Fourth Quarter and Full Year 2007 Earnings Call for AtriCure. My name is Annie, and I'll be your coordinator for today. At this time, all participants are in listen-only mode. We will be facilitating a question-and-answer session towards the end of today's call. (Operator Instructions). As a reminder, this conference is being recorded for replay purposes. And I would now like to turn the call over to Mr. David Drachman, President and Chief Executive Officer of AtriCure. Mr. Drachman, please proceed.

Thank you, Annie. Good morning, and welcome to AtriCure's fourth quarter and full year 2007 earnings conference call. Joining me on the call today is Julie Piton, Vice President of Finance and Administration and Chief Financial Officer. At this time, I would like to turn the call over to Julie for a few introductory comments.

Thank you, Dave. And good morning, everyone. By now you should have received a copy of the earnings press release. If you have not received a copy, please call Sarah Wichman at 513-755-4136 and she will fax or e-mail you a copy. Before we begin, let me remind you that the Company's remarks today may include forward-looking statements. These statements include, but are not limited to those that address activities, events or developments of AtriCure expects, believes or anticipates will or may occur in the future, such as revenue and earning estimates, other predictions of financial performance, launches of new products, and market acceptance of new products. Forward-looking statements are subject to numerous risks and uncertainties, many of which are beyond AtriCure's control, including, but not limited to the rate and degree of market acceptance of AtriCure's products and other risks and uncertainties described from time to time in our SEC filings. AtriCure's results may differ materially from those projected on today's call and AtriCure undertakes no obligation to publicly update any forward-looking statement, whether as a result of new information, future events or otherwise. I would like to remind everyone on the call today that the FDA has not cleared or approved the company's isolator bipolar ablation systems or Pen for the treatment of AF. They have been cleared for the ablation of cardiac tissue. The company and others acting on its behalf may not promote any of its products for the surgical treatment of AF, or train doctors to use the products for the surgical treatment of AF. These restrictions however do not prevent doctors from choosing to use the products for the treatment of AF, or prevent AtriCure from engaging in sales and marketing efforts that focus only on the general attributes of the product for the current cleared uses and not for the treatment of AF. AtriCure educates and trains its doctors in the proper use of its products and related technologies and does not educate or train doctors to use any of its products for the surgical treatment of AF. Additionally, AtriCure's Left Atrial Appendage Clip System is not commercially available and is pending FDA 510(k) clearance in the United States. It is, however, currently being used in clinical evaluations in Europe. AtriCure has provided research grants to institutions for the purposes of conducting certain studies that may be referred to on this call. The primary authors of the papers referred to on this call also may be consultants to AtriCure. With that, I'd like to turn the call back to Dave.

Thank you, Julie, and thank you everyone for joining our fourth quarter and full year 2007 conference call. 2007 was another high performance and momentum building year for AtriCure. During the year, we continued to advance our leadership position and made significant progress on several key fronts. As a result, we believe strongly that no other atrial fibrillation company is better prepared or positioned than AtriCure to deliver results for patients, physicians and shareholders. While 2007 was a high-growth year for AtriCure, we are just beginning to scratch the surface. We believe that AtriCure will become one of the elite, high-growth cardiac companies of our time. In fact, AtriCure was recently ranked 80th in North America in the prestigious Technology Fast 500. The Fast 500 is the five-year ranking of the 500 fastest growing technology, media, telecommunications and life sciences companies sponsored by Deloitte and Touche. Moreover, AtriCure ranked third in the medical equipment space and first in Ohio. The passion of our people has fueled our growth and our significant contributions toward preserving and improving human life. I want to commend our management team and the employees for their high-performance during 2007. The strength of our company is our people and their talent, drive, passion and extraordinary will toward building on our leadership position in the large and growing market opportunity for our cardiac ablation and left atrial appendage products. Since AtriCure was founded in November of 2000, we have spent less than $65 million to achieve a year-end 2007 revenue run rate of approximately $53 million, facilitated by high gross margins of 79%. Behind our strong revenue, and high gross margin performance, AtriCure is a company of highly motivated people that practice disciplined management, particularly as it relates to expense and financial controls. We plan to manage the…

Thank you, Dave. Starting first with 2007 full year financial results, total revenues were $48.3 million, representing a 26.3% increase over 2006. Each business sector set new revenue records. Revenues from domestic open heart products were $27.3 million, representing growth of 18.5% over 2006. Revenues from domestic minimally invasive products were $14.4 million, a 30.6% increase over 2006. International revenues were $6.6 million, a 58.5% increase over 2006, benefiting modestly as a result of the strengthening of the euro to the dollar. As a reminder, revenues from our multifunctional Pen which is utilized in both open and minimally invasive procedure are allocated between open and minimally invasive product revenues based on our best estimate of the Pen’s actual usage. Now turning to gross profit and gross margin, gross profit for 2007 was $38.2 million reflecting a gross margin of 79% as compared with the gross profit and gross margin of $30.6 million and 80.1% respectively for 2006. The decline in gross margin was primarily attributable to an increased mix of international revenues which generally carry lower gross margin as we market and sell to most international markets through distributors. Next, an update on operating expenses and our net loss per share. Operating expenses for 2007 were $50.7 million representing an 11.8% increase over 2006. The year-over-year increase in operating expenses was primarily driven by an increase in selling and marketing expenses attributable mostly to an increase in headcount, an increase in variable selling expenses and increased marketing expenses associated primarily with an increased presence at key industry events. As a reminder, late in the second quarter of 2007 the activities of certain clinical education specialists, which had previously been reported as a component of product development were refocused to professional education and selling activities which are a component of SG&A.…

Thank you, Julie, and at this point in the call, we'd like to open the call up for questions.

(Operator Instructions). And your first question comes from the line of Suraj Kalia with Piper Jaffray. Please proceed.

Good morning, Dave, Julie.

Hi, Suraj.

Congratulations on the quarter.

Thank you, Suraj.

Dave, first and foremost, congratulations on the live case at the Boston AF symposium. It went really well. In terms of the guidance for FY’08, can you shed some more color on what do you all see in the open heart and the minimally invasive segments, vis-à-vis the overall guidance of 58 to 60?

Yes, we are basically calculating guidance on our current visibility. We believe that all three segments, both open and minimally invasive and international will demonstrate strong growth. And the guidance that we are calculating based on our current visibility is in line with historical trends. What is challenging for us to predict, we believe strongly that we are closer to the tipping point in minimally invasive, but when that tipping point will occur, how much momentum it will take to basically reach that tipping point is unclear. So, guidance, once again, is based on our current visibility and based on historical trends in our business over the last several years.

Okay, and pardon the question, Dave. In terms of the Ablate clinical trial, the patients are going to be free from all AF, is that the primary efficacy endpoint?

At six months, the primary efficacy endpoint is that no one patient, well, if the patient has more than five minutes of a single episode on a Holter monitor or in totality, has greater than one hour, there would be a failure. So, to put it the other way, if they have less no episode lasting more than five minutes, and in totality the AF on a 24-hour Holter is no longer than one hour, they would be declared a success.

Okay, and have you all indicated when you will intend to finish enrollment in the trial?

We really haven’t, and part of the reason is this, this is a [bazine] adaptive clinical trial. So, if the results are better, we will need a smaller sample size. If the results aren’t quite as good we may need up to 75 or 80 patients. So, we really haven’t given any color. Plus, and player sites are really up and running, and you have a few months of enrolment history, it is really hard to predict. So, we would rather wait several months and toward the middle of the year give you more guidance on when we would anticipate completing enrollment. The positive news is that the study endpoints we believe are very achievable and the study endpoint is only six months.

Interesting, fair enough guys. Congratulations on the quarter again.

Thank you, Suraj.

Hi, good morning, congratulations guys, great quarter.

Thanks Charley.

Dave, I was wondering if you could go on a little bit with that, I guess that means that you’re expecting an extremely high success rate, if you are only expecting the maximum of 75 to 80 patients is right? Or would be that what kind of efficacy rates will they need see to approve the device?

Approximately 70%.

Okay.

Now, if you look at the peer review literature the results on the concomitant procedure in the permanent AF population has been better than that and our own Restore SR trial which was very similar to ablate trial but had more challenging inclusion criteria so we convert that trial over to the ablate trial and use that data to acquire a cardiac ablation indication for claim. But if you look at those patients 39 patients were treated and it was basically the same population of patients and the results were approximately 85%. So, we have that plus almost 45,000 patients treated with our open product, and a series of peer review literature in the open heart area that will led us to believe that these endpoints are highly achievable.

All right, thank you. And, I was wondering if you could talk us a little bit about how long it will take the Coolrail to get out of your installed base?

Very good question. Coolrail is the device that we have designed specifically to expand our ablation treatment and really mimic a Maze like procedure. We’re going to release the product based on our best expectations of FDA clearance this month. We’re going to limit the release in the U.S. so that we can go to a few of our key centers and make sure that we get the training methodology down. We want to make sure that the physicians understand how to mobilize key vessels to get to certain structures to perform the ablation or want to make sure that the ablation technology is used properly, and we’ll also want to make sure that we confirm conduction block with each ablation line that we place. So, we’ll use the first 30 to 45 days to complete a pilot where we’ll gather ourselves in terms of creating our methods for training and advancing the products in the market place. But we’re very confident based on the pre-clinical studies that this technology is spot-on in terms of making the connecting lesions that complete the Maze like procedure and will allow us to have more successful outcomes in the persistent and permanent patients.

And I was wondering if you have finalized your design on the second generation clip and whether or not you think that’s going to be necessary?

Well, the first generation clip is the one that we’ve implanted and the one that we based on FDA responses hope to launch in the fourth quarter of this year. We’ve a series actually two next generation designs for clips that were going into pre-clinical studies in the next 30 days which are much more minimally invasive. We view this as becoming the standard clip. It has a lower cost of goods and we’re developing some deployment tools which will allow it to be more easily deployed through minimally invasive procedures but also potentially through subxiphoid procedures. So, we envision this next-generation clip and deployment tool potentially being used in the EP lab to exclude the left atrial appendage.

So, how many patients have been treated with the clip in Europe at this point? Sorry, if I missed that.

14 patients have been treated with the clip in Europe and we've had a series of manuscripts in the preclinical studies, which had demonstrated the safety and efficacy of the clip in terms of its ability to exclude the left atrial appendage over a chronic period of time.

And will you continue to treat, place clips in Europe throughout the year? Or are you kind of done with that now?

No. We want to expand our European participation in clinical trials, in part because right now we're negotiating with the FDA. It's most likely, like we've said in the past, that even though this is a 510(k), the FDA will want human data. Our current assumption is that the FDA will accept international data. So, we're continuing to expand our clinical programs internationally plus, that will stimulate publications and allow us to get through some of the learning curves involved with not just this generation of technology, but make sure that the designs that we develop for the next-generation technologies continue to improve.

Thank you, for the answers. Congratulations. I'll turn it back in queue.

Thanks, Charley.

Your next question comes from the line of Matt Dolan with Roth Capital. Please proceed.

Good morning, Dave and Julie.

Hey, Matt.

Hey, Matt.

With respect to the domestic open business, Dave, can you give us an idea of how much of an impact you thought the reimbursement change in '07 had, either quantitative or anecdotally? And can you expand on your sense of the effect of the new codes for 2008?

Well, we certainly felt pressure from the change to a miscellaneous code in 2007. We know this because we have a reimbursement specialist who is a consultant for the company and answers calls about reimbursement. So, the calls about how to deal with open heart reimbursement were not [exponentially] in the first half of 2007. The new reimbursement code, we’re early in the year but so far our customers are seem to be very pleased with the level of reimbursement. The level of reimbursement ranges from about $550 to $800. If you remember (inaudible) about $800, a valve procedure pays about $2200 and the ablation procedure takes 15 to 20 minutes to perform. So, we did feel some pressure, particularly we think in the western portion of the country in 2007, and we do anticipate some increased momentum from the new code in 2008. But I will tell you that, in the middle of February, it is a little to tell what impact, how much that new code will have.

Sure, okay. That helps. And in terms of, MIS and I don’t know if I missed this, but did you provide the number of treating centers during the quarter? And going forward are you sticking with your strategy of going deep into accounts in the US or should we expect that to expand in ’08?

We did, we mentioned 83 centers performing MIS procedures in the fourth quarter of 2007. But what is impressive about that is if you look at the 2006, sort of year-end number of centers and our strategy again has been to fragment the number of centers for several reasons. One is, we want to basically make sure that we train centers appropriately and limit the complications in the early stages of the rollout of a new treatment paradigm. Secondly, is that we want to focus centers on publishing papers. So, we want our volumes of procedures to be focused on a small number of centers. And third, we create efficiencies by focusing. And fourth, we create centers of excellence and one of the signs of the clipping points is that on the centers that are regional centers around your centers of excellence begin to open programs to stay competitive that’s a sign of the tipping point. And so, there are several good reasons why we want to stay focused, but what’s a very impressive from our perspective is that we ended the year the fourth quarter 2006 versus the fourth quarter of 2007 weren’t very different in terms of numbers of centers yet, year-over-year our minimally invasive business grew by 31%.

Okay, great. And then, at Boston A-Fib there is a fair amount of discussion regarding MIS moving to a totally thorascopic approach. Can you give us an idea of your expectations, when this could be a reality for the procedure, and thinking about your commentary on the variables that will drive MIS, What is that specifically mean for your ability to penetrate the sole therapy market?

There are two major MIS initiatives, one is to expand the ablation treatment and two is to go totally thorascopic. Now, we’re currently doing totally thorascopic procedures. We’ve at least 10 accounts that perform routine totally thorascopic procedures. The issue for us still in terms of focusing our procedure development activities is to focus them on the expansion of the ablation treatment first, and totally thorascopic second. And the reason is that our minimally invasive thesis is largely based on market segmentation. We believe that it's more important to stay within certain boundaries of minimally invasive but to actually be able to treat the patient with more ablation and be able to delineate catheter ablation more from surgical ablation. So, if catheter ablation is pulmonary vein isolation and minimally invasive ablation is pulmonary vein isolation a connecting legion across the roof aligned to the mitrovalue annulus innovation of the left atrium and left atrial appendage exclusion that procedure is different, more different and will allow us to segment the market particularly in the high profile centers where we’ve the key opinion leaders that perform catheter ablation. And that market segmentation in those major centers we believe will lead to exceptional growth and contagious adoption in the mainstream.

Okay, very good. I’ll let somebody else jump on. Congratulations on the progress.

Thank you, Matt.

Thanks.

And your next question comes from the line Larry Haimovitch with HMTC. Please proceed, sir.

Good Morning. Nice year, nice quarter, Dave.

Hey Larry.

I wanted to just check on a couple of things. The international business was very strong during the year, wanted to get a little more color on that, which countries, what things you're doing over there? And also the fact that the fourth quarter was much stronger than the rest of the year. Well, how much of that was currency based versed just intrinsic growth?

Well, I'll answer the first one and let Julie talk more about the foreign exchange rates. But in terms of international business, I think it's important to look back and say that AtriCure was a privately held company, a venture-backed company until August of 2005. And we had a very clear strategy to deploy resources in the U.S. to create value for the company. After the IPO, using the net proceeds, we opened up a European BV and developed a European presence. We also got more aggressive along the Pacific Rim. So, we're really just beginning to scratch the surface of the international markets. If you look at our markets here in the U.S, I think most people would concede that we have in the range of a 50% share in the U.S. Our international markets are much less penetrated. So, over the past several years, we've been bolstering up our distribution channels in Europe and along the Pacific Rim. Specifically, we've had a significant focus on Germany, a lot because Germany obviously has 85 million people. They now have good reimbursement for ablation, so we can be very efficient in Germany. We have some direct people in Germany. And we've also been very successful in the northern part of Europe as well and are becoming more successful in the south. Japan has been a strong market for us. China is becoming a stronger market for us, and we believe that we have lots of opportunity all along the Pacific Rim. But that's basically been more or less our strategy is to bolster our distribution channels a lot in Europe through the European BV, develop a European presence and also to be more calculated about distribution channels along the Pacific Rim.

And Dave, do you have plans to increase the direct effort overseas, as time goes on?

We do have an outstanding Vice President of European Sales. We have two direct people in Germany; we are going to go two additional people in Germany. We like the German market, we think with 85 million people and the size of Montana it is a very efficient market. It has good reimbursement and they tend to adopt new technology. So, we like the German market. But we are having lots of success in UK; we are certainly having success in the Netherlands and some smaller countries. Overall, we think that Europe is a very hot market for us. And we also have a very strong effort, again along the Pacific Rim, we think it is a, a very much an under-penetrated opportunity for the company. In terms of foreign exchange, Julie?

Yes, Larry, I would just indicate that, I mean, the majority of our international revenues are still denominated in US dollars. So, certainly as the dollar weakened, the balance obviously would be in the euro and as the dollar weakened in the latter half of the year we did get a modest increase but virtually all of the revenue growth is for all the reasons Dave just articulated.

And there is no stocking order really because the fourth quarter was especially strong

No, it was strong, but if you compare to the third quarter, it was up roughly 9% or 10%, so wasn’t dramatic growth…

Yes.

Quarter-over-quarter. I think it’s really the, the impact of the business taking off.

On the minimally invasive side you did very, very well this year as we thought you would and hoped you would, but I think the fourth quarter was not as strong as the rest of year. Is there anything, should we read into that Dave, or is it just, probably relatively small numbers still and not that many cases?

Yeah, I think in the earlier stage business, more subject to variability. I also think that the piece of the market development process that’s important to think about. And again, in 2006 we really started with an endoscopic product that, our first generation endoscopic product with a soft tissue indication and one peer review publication from Randy Wolf with 23 patients followed only through three months. So, we go out to the market we open up accounts and you see some product being placed on the shelf. What’s encouraging to us is that the minimally invasive business grew 31% year-over-year in basically the same accounts, which tell us that we getting check traction and that we are changing referral patterns and now we are experiencing real adoption. Additionally, if you just look at the growth trends, what’s interesting is if you move away from year-over-year the third quarter of 2007 was a very strong quarter for us despite seasonality, in fact it is only $300,000 offer all-time high and minimally invasive actually grew 10% sequentially, international grew 10% sequentially, our open business grew 8.4% sequentially, on a consolidated basis the business grew 9% sequentially. So, we think that currently all segments of our business are demonstrating strong performance.

And the average revenue per minimally invasive case for the year was approximately what?

There really hasn’t been any changes of any significance, some mild oscillations Larry, but no real changes in ASPs per procedure.

Is it approximately $8,000 and above?

Yeah, its $8,000 to $9,000 range depending on what series of product they use.

And then one more question for Julie and I will jump back in queue. The loss for the quarter was the smallest you had; I would have assumed that as you continue to build volume going into ’08 that the loss diminished even more. Can you explain why the loss is not going to be that much smaller and more importantly, what you look for in terms of a breakeven quarter either from a P&L standpoint Julie or a cash flow standpoint. When could you be cash flow neutral?

Yes, we look a cash flow neutral very more in terms of a kind of annual revenue run rates. So, I think the past we felt comfortable between a $65 million to $80 million range and that’s still the range we’re comfortable in, in terms of cash flow and probably profitability neutral also. And I definitely think that’s where we’re still marching towards.

Great, thanks very much.

Thank you, Larry.

And as a reminder (Operator Instructions). And your next question comes from the line Steve Ogilvie with ThinkEquity. Please proceed.

Hey guys.

Hi Steve.

You prepare your bonuses at year end and should that be in the fourth quarter still?

I am sorry, but say it again, Steve. Was it with for the sales reps or?

Yes for annual sales bonuses. Are those paid in 4Q?

No, actually our sales reps paid on a monthly basis, and then they have modest quarterly objectives.

Okay, and then maybe you can help me understand because last year in the fourth quarter there was a big uptick in SG&A I thought I remembered that some of that was bonus related but it was sequentially down this year?

Right. So, there was a change to the plan between 2006 and 2007. You’re exactly right. So, in 2006 there was a sort of an annual component to the boat to the commission plan for the sales force and that plan was changed during 2007.

Okay. Could you speak to whether or not they are hitting the objectives that would trigger bonuses? I guess I am curious about this at the start of the you’ve studied sequential declines in SG&A, is that related to sales not hitting the targets they’d hoped to hit?

Actually no. I think the sales quotas and certainly our guidance are fairly well correlated. There's not a significant difference between the two. It's not uncommon for you to have somewhat of a 20/80 percent role in your sales organization. We have some of that in our sales organization. We have 20% or 30% of the sales people contributed more than the other 70% or 80% of the sales people. But, in general, we think that a high percentage of our people did make quota in that range that we're talking about and that the quotas are consistent with the numbers that we project for the Street.

Okay. And then just lastly again on the guidance on the bottom line, just it seems like the 55 to 70 range allows a lot of spending. Is that, are you thinking that the ABLATE trial is going to be expensive? Or is it new headcount hires? It just seems like this last quarter was pretty efficient in terms of spending, but the projection for '08 doesn't mimic that.

Well, here's one of the issues to consider, Steve, is that if you remember last year we had a $0.35 loss in the first quarter. First quarter can be heavy because we have FTS. We have Boston A-Fib. We have a national sales meeting. We have to pay for ATS and pay some of the fees for HRS, so the first quarter of the year can be fairly heavy in terms of expense. That's one thing. The second thing is that we're into some other areas that have potentially very high opportunity for the company such as this subxiphoid research project that we talked about that deals with potentially using clips from a subxiphoid position in the EP lab, potentially doing an endo-epi-ablation. So, imagine an electrophysiologist goes into to do a catheter ablation and then comes in from the subxiphoid position and mops up some of that ablation with a Coolrails technology from an epicardial perspective. So, one of the things that we did over the past 12 months that's worked very well for the company, and one of the reasons why you see so many new platform technologies in the company is we separated product development and research and development. As a young company those two functions we coupled. We have one of the most talented experienced people running product development, and we have one of our most talented and experienced people running the research and development. And that has worked out very well. And so, we have designs for products that are well out into 2009 and 2010. And how much we invest in those products, it is not crystal clear yet depending upon the progress and some of the feasibility phases of the development stage.

And I’d add to that Steve, we talk a lot about being relatively comfortable with the number of domestic sales rep we have in the field. But as Dave mentioned, we will be investing some additional reps in the international markets, so that is also something to think about as you think about ’08.

Okay, that is very helpful. Thank you. And then last question on the appendage clip. Could you maybe characterize your conversations with the FDA in terms of, they have given you an indication they may want to see human data. Do you have any idea how much does that have to be domestic? It seems like there could be a huge swing factor in terms of quarters delay or earlier on the launch depending on what they say?

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Is there any precedence in terms of follow-up on one of the predicate devices and what FDA likes to see?

The interesting issue is the FDA for these devices that had LAA claims like statements system didn’t do any human data. So, there is two systems or three systems out there, for our example one of the company is actually submitted they had general indications on their product and submitted for a specific LAA claim and show that they are equal to the predicate devices which were the US Surgical and Ethicon stapling system and showed no human data. The FDA here has been again leading us to believe that we will, but they will want to see some small sample of human data, and we’ve been talking to them about the lease burdensome way for us to do that is to use our international studies. So, I don’t want to characterize the sample size and the follow-up window yet, but based on our current conversations we are optimistic that the sample size will be small follow-up will be consistent with our preclinical studies, it was 90 days and we’ll just have to wait and see come the March and April time when we get our formal responses back from the agency but that’s been the totality of our conversations.

Okay, great. Thanks guys.

Thanks.

At this time there are no further questions. I would like to turn the call back over to Mr. David Drachman for closing remarks.

Thank you everyone for joining us today. We look forward to revisiting with you in the very near future. Thank you.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect and have a great day.