AxoGen, Inc. (AXGN) Q4 2012 Earnings Report, Transcript and Summary

Greetings, and welcome to the AxoGen fourth quarter and fiscal year ended 2012 results call. [Operator instructions.] It is now my pleasure to introduce your host, Rich Cockrell, president, Cockrell Group. Thank you, Mr. Cockrell. You may now begin.

Thank you and good morning. Thanks for joining us today for AxoGen’s full year 2012 financial results conference call. On the call with me today are Karen Zaderej, AxoGen’s chief executive officer, and Greg Freitag, chief financial officer. Last night, AxoGen issued a press release announcing calendar year 2012 financial results, within which the company reported 2012 revenues of $7.7 million, which was a 59% increase over the reported 2011 revenues. If you have not received a version of the press release, feel free to contact our offices at 877-889-1972 or email investorrelations@axogeninc.com and we will have one forwarded to you. Today’s call is being made available to a broader audience via the Investor Relations section of the company’s website at www.axogeninc.com. Following remarks by management, we will open the call to your questions. We anticipate the duration of the call to be approximately one hour. During the course of this call, management may make certain forward looking statements regarding future events and the company’s future performance. These forward looking statements reflect AxoGen’s current perspective on existing trends and information which can be identified by such words as expect, plan, will, may, anticipate, believe, should, intend, and other words of similar meaning. Any such forward looking statements are not guarantees of the company’s future performance and involve risks and uncertainties including those noted in our filings with the SEC on forms 10-K, 10-Q, and 8-K. Actual results may differ materially from those projected in these forward looking statements. For the benefit of those of you who may be listening to the replay, this call was held and recorded on March 13 at approximately 10 a.m. Eastern time. Since then, the company may have made additional announcements related to the topics discussed. Please reference the company’s most recent press release and current filings with the SEC. AxoGen declines any attempts or obligations to update these forward looking statements. With that, I would like to turn the call over to Karen.

Thanks, Rich, and good day everybody. I’ll begin by providing highlights on AxoGen’s year, and then Greg will conclude with a more detailed review of our results. I’m very pleased with AxoGen’s performance during 2012. We generated $7.7 million in revenues, which was a 59% increase over 2011, and as compared to 2011, we also delivered significantly higher gross profit margins of 75%. Revenues of $2.04 million in the fourth quarter also reflect our highest recorded quarterly revenues to date, and this was a 50% increase over 2011 fourth quarter results. Our strong sales during 2012 is continuing affirmation of the large market opportunity provided by our unique portfolio of peripheral nerve treatment options, and our increased focus on commercialization efforts and investment in clinical data. Awareness of our products continues to grow, as does acceptance and use. One of the largest drivers of our revenue in 2012 was due to an increase in the number of surgeons and facilities implanting our products. Education and clinical evidence has been a focus for 2012. To ensure academic and clinical research surgeons are aware of our technologies, we actively participate in clinical conferences such as the American Society for Surgery of the Hand, the American Society of Peripheral Nerves, the American Society of Reconstructive Microsurgery, where we see strong interest from surgeons. The RANGER study, which is an ongoing, observational registry study for contemporary nerve repair with the advanced nerve graft, has already generated two publications in prestigious peer-reviewed journals, Microsurgery and the Journal of Hand Surgery, and has also generated eight key podium presentations at the clinical conferences in 2012. In addition, Dr. Ducic of Georgetown has published his new treatment algorithm for nerve repair in the Annals of Plastic Surgery. This, in combination with the previous publication on advanced nerve…

Thanks, Karen. I’d like to remind everyone on the phone to refer to the 2012 earnings press release and form 10-K for the current year 2012 that was issued yesterday. As Karen mentioned, for the fourth quarter 2012 we reported our highest quarterly revenues to date and also increased our yearly revenues from $4.85 million in 2011 to $7.69 million in 2012. These improvements were principally due to a greater number of customers using AxoGen products. Gross profit for the quarter was up 90% to approximately $1.57 million, as compared to approximately $0.83 million for the fourth quarter of 2011. Gross profit for the year increased 136% from $2.42 million in 2011 to $5.73 million in 2012. These increases are primarily attributable to increased revenues in 2012 and reduced process and travel and temporary labor costs in manufacturing. Furthermore, 2011 gross profits were negatively affected by the company incurring an inventory writedown during the third quarter. The gross profit margin for the year improved to 75% from 50% in 2011, and improved to 77% during the fourth quarter from 61% in fourth quarter 2011, which is a reflection of higher sales, a favorable product mix, and manufacturing efficiencies over the past year. Going forward, we continue to anticipate margins to be in the low 70% range. In addition, the higher gross profit margin also reflects the absence of manufacturing costs associated with the resumed production of Avance and the inventory writedown which occurred in 2011. Sales and marketing expenses increased to $6.88 million during the year, as compared to approximately $4.38 million for 2011. This increase was primarily due to the expansion of support of our direct sales force as well as increased marketing activity. Research and development expenses increased to approximately $1.43 million during 2012 as compared to approximately…

Thank you. [Operator instructions.] Our first question is coming from the line of Nathan Cali of Noble Financial. Please proceed with your question.

Just wanted to know if you can give some guidance on the gross margins going forward? Is there any expectation there?

We don’t give guidance as to particulars, although we have said and continue to say in the low 70% range. Previously, we had talked about a number of 73%. We are very happy and kudos to our manufacturing team who have been able to find additional efficiencies on the advanced side of the manufacturing. We hope to be able to continue those efficiencies but for our purposes, and modeling purposes, we still work with that low 70% profit margin.

And then on the direct rep side of things, where did you end the year, and are there any expectations for hiring in 2013?

We ended the year with 17 direct associates in territories. We actually have 18 as of now. We do plan to continue to slowly add additional direct reps. Again, I think it’s important that we really focus our energy on driving the penetration into the territories, but we see the opportunity to continue to expand in some really high potential markets, so as we can add additional people, we will continue to do that.

And then account balance, current accounts. Do you guys provide a number on that?

We have not been providing any details on account balance or any projections.

And then I know Greg, you mentioned that you may consider adding new products to the pipeline. Would those be focused around peripheral nerve? Or regen medicine in general?

Without a doubt, what we are positioning ourselves as, and I think it’s clear from all that we did last year between our thought leaders, our podium presentations, our journal articles, we are becoming the peripheral nerve company. So we are focused on both product line extensions of our current products and what we could also do to bring other products around peripheral nerve for the short and medium term. As far as the longer term pipeline, we also look at ourselves as a regenerative medicine company, and if opportunities present themselves, we would look at other opportunities. However, Karen and I want to make it clear, we are focused on our current products, selling those products into what we look at as our billion dollar plus market and so that can do very well by us, but we are looking more towards the future now of what we can do mid term and longer term. One of the things I was going to say also, and I know that the Wall Street Journal article and the discussions we’ve had with Edward, we’ve been very excited about that. That relates to the market opportunity. One of the interesting areas of that is Edward presents itself that our products and the capability of use there allowed for something that was not done before with an injury like that, so it really shows the market expansion that we are doing by the products that we’re providing out there.

And then finally, any updates on the Phase III BLA study?

Not anything new. We are in the process of working with the sites to get started at some sites, and we’ll let you know when we begin patient enrollment. But it’s proceeding along.

Okay, so patient enrollment should be this year?

Yes, it will be in 2013.

[Operator instructions.] The next question is from the line of Jeffrey Cohen of Ladenburg Thalmann. Please proceed with your question.

Could you talk a little bit about sizings? Are there any new sizes that you plan to launch as far as Avance goes in the next and coming year, 2013?

No, I think we’ve actually got a pretty strong range of sizes now. There’s nothing in the Avance area that I think is a significant unmet need for us. We need to continue to build the clinical data for it, but I think we have the right product offering there.

Greg, could you talk about, you mentioned the Q4 writedown. What was the amount? And could you give us a little color on that?

Actually it goes back to 2011, and in 2011 we had an inventory writedown of about $890,000. It related to some old product and quite frankly some inventory cleanup we did. If you were to remove that from the gross margin in 2011, your gross margins were in the low 60%, so even without that, our margin from 2011 to 2012 and fourth quarter to fourth quarter was a substantial improvement in the margin. Those, at that time, 2011, and with regard to that timing, was coming off of the merger, and so we did a lot in order to look into all aspects of the company, including inventory, and that’s why we took the writeoff at that time, to right everything.

Could you elaborate going forward, on the income statement? So we should expect to see about $1.2 million on a quarterly basis for interest expense? Is that how we should see it, with the accrual of the $20.8 PDL loan over 16 quarters?

Yes. What I’m doing is I’m struggling because I can’t give you complete guidance on that, but if what you are doing is looking at that number for fourth quarter and as the financials provide working off an effective rate of interest is how GAAP is accounting for that, the quarter to quarter in that range is one that will help in your modeling. You also, what you will see going forward, and as we pointed out, the accrual portion as compared to the cash portion of $780,000, the accrual, the noncash accrual will be less. The cash component of that will start to grow, but that’s all good news, because it reflects the revenue increases that we expect over that time.

Could you talk a little bit about the product mix, or any trends that you’ve seen in the past quarter as far as percentage of either units or ASPs and pricing, and trends as far as any bundling or purchasing habits that you’re seeing out there?

Great question. One of the things that we have a lot of focus on is moving surgeons from their treatment algorithm, everything from the hand up through brachial plexus. So we have surgeons who use in all of those areas, and that’s important to us to see applicability there. And so we’re continuing to drive that mix. I can’t give you any forward thoughts on exactly what that mix will be, but we do want to make sure that surgeons are using the full range of products and getting the full benefit of those in all of their treatment algorithms. We also did take a price increase as of March 1, so there is an increase on our list price. That will cascade through some of the contracts that we have, but we do expect to see some uptick in average selling price, just as a result of the price increase.

What percent was that? And was that on all the products?

We took a price increase on all of the products, but it varied by code, so there’s not one price increase.

And you have not been deemed to be a payer of the 2.3% device tax?

No. You have to divide up the product line. The Avance is not, because of its designation.

It’s not a medical device, yeah.

And with regards to the AxoGuard product, that is, because of our exclusive relationship with Cook, Cook is subject to that tax and subject to that tax on the transfer price to us. So there is a small piece of that, but it is not material to us.

And sorry to revert back, so on the increase in ASPs, can you give us a ballpark indication of what that could have been on a percentage basis?

It’s really split. What we can tell you is that it’s a minimum of a 5% increase across the product line. However, in our Avance longer grafts and larger diameter size, we have come to see what a premium product that is in the marketplace, and as a result of that, our increase in those particular ones were higher than that 5% level.

Okay, so mid to high single digits?

Yep.

And I guess as long as we’re talking about guidance, you’re not going to provide any guidance for 2013.

Correct.

[Operator instructions.] Our next question is from the line of Tao Levy with Wedbush. Please proceed with your question.

A couple of quick questions here. Can you comment maybe a little bit, and I know you may have said it in the prepared remarks, but the mix of use around Avance and AxoGuard that you kind of saw in the quarter, and has anything changed there versus what you’d seen previously? Are you seeing, for example, more surgeons using both products at the same time? Or just any color on how that progressed Q4 versus Q3 would be helpful?

We don’t give specific guidance on the breakdown by product, but just from a general standpoint, we see that there are opportunities to use multiple types of products in many types of repairs. We do see a lot of surgeons looking to do both an Avance graft and an AxoGuard protector, or multiples of those, in their cases where they’re concerned about soft tissue attachment and of course bridging the gap. So there’s different needs and the products provide solutions for those different needs. I don’t see a shift in the overall mix of the products. I think our message has been the same, and I see surgeons adopting and using those products as they start to convert their treatment algorithm. I think an underutilized product in our portfolio is the AxoGuard connector, as an opportunity to improve what is today a direct repair. We’ve not focused as much educational work in that area, and I think that’s an opportunity for us in the future, again to continue to look at replacing sutures with a connector.

And historically, you had comment on your sales force expansion. I think before, my thoughts were that the hiring was going to be a little bit faster than you kind of indicated. Now you’ve kind of slowed things down on that front. Any reasons for that? Just any thoughts on that?

I think as we’ve gone in and really understood some of the territories, we’ve, I think, learned and decided that we need to look a little closer at those territories, and potentially subdivide them more. So we’ve spent some time really studying the territories. For example, the most recent rep that we added, we split L.A. So rather than go into a new territory, we just recognized that that territory has so much potential that we want to make sure we capitalize on that and have reps that are very efficient. We also have brought in, again, Shawn McCarrey to help us in that process, and so frankly, as we’re getting him on board, we want him to have a strong influence in that overall strategy. So for right now, I did slow down a bit, but I’m sure Shawn will help us lay out plans to really drive the adoption and decide what’s the right hiring rate.

And then just last, for Greg, the inventory is starting to creep up a little bit, despite sales being flattish over the last several quarters sequentially. Is there any risk that you might have some stuff that starts to expire?

No. We have a shelf life of three years on Avance. With the previous question of the inventory writeoffs, there was a lag in there from some prior AxoGen manufacturing, which is why we had done that in 2011. At this point, we have done some buildup of inventory. That’s really focused to make sure that one of the worst things that could happen to us would be to be out of a product code, so we’re making sure that we have inventory. We also are expanding the number of hospitals that have consignment inventory and that is always a front runner to the back side of sales. And so if we have a hospital that we’re in, we get a consignment. Obviously we need the inventory to fill that consignment, but there’s always a lag of what the sales do to generate against that. So it is growing a little quicker than what I would anticipate as a ratio going forward, but all of that is planned and we have some normal reserves for inventory. But there’s nothing getting cooked in there that is a gotcha coming.

Just one other thing I’ll add on inventory. One of the areas that we’ve strategically increased inventory is in donor supply. While we have a lot of supply potential, it is a long cycle time, and just anticipating that we want to make sure that we don’t get in a situation of running short, we’ve made a conscious effort to increase that.

The other thing, and just kind of circling back too, it goes a little bit to product mix. It also speaks to inventory. We’re seeing growth across our entire product line. A lot of times we catch ourselves falling into talking about Avance, but in fact 2012 was a good growth year for AxoGuard. That inventory buildup, including the consignment, also includes the AxoGuard products, and so as we look at 2012 and going to 2013, one of the focuses and themes for us is that it is the entire product line focused on peripheral nerve and we’re pushing across that product line and that’s also reflected in the inventory and the consignment count that we get.

And then just lastly, you did touch on sort of big picture for 2013. So the take home message, I guess, would be just keep on focusing on what you’re doing. You’ve got the publications and your sales force. You’re going to continue pushing. You’ve got greater marketing presence, more medical conferences, more exposure to surgeons. Any other sort of data points or events you think could happen in 2013? Any new publications or studies or anything like that that could spark interest from surgeons?

We will continue to have some more publications. It’s always hard to predict when they’re exactly going to come out, because the editorial cycle time is slow. But there’s certainly things in the pipeline that I think will continue to drive interest and keep our products in the forefront of the conversations with surgeons. We also look from a commercialization standpoint and feel that we’re moving from now the early adopters to kind of the mainstream users. And some of those may have some different needs in terms of things like Greg was saying, ease of use and ready availability of inventory. And so some of the things that we’re really doing is just making sure, from a hospital administration system standpoint, that the inventory is there and the surgeons and the hospital staff know certainly where it is, and keep it well stocked. So we’ve had a lot of effort on more of the administrative side of things as well, to make sure that we get well-established in making this mainstream for surgeons and their treatment pathways.

The one thing I’d say is what we’re not, all of that and what we’re doing. We continue to do it. We try to do more of it, but there are not any new hurdles, any gotchas. There is nothing, as we come into this year, that all of a sudden, as we look back on 2012, says, oh my god, we missed that, and we need to figure out how to overcome that. It really is this issue of reaching critical mass with all that we’re doing, and eventually we’ll come out and we’re going to have that footprint.

There are no further questions at this time. I will now turn the floor back to management for closing comments.