CareDx, Inc (CDNA) Q4 2016 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen. Welcome to the CareDx business update. [Operator Instructions] As a reminder, today's conference call is being recorded. I would now like to introduce your first speaker for today, Caroline Corner. You have the floor.

Thank you for participating in today's call. Joining me from CareDx are Peter Maag, President and Chief Executive Officer; and Charles Constanti, Chief Financial Officer. Earlier today, CareDx released preliminary financial results for the quarter and year ended December 31, 2016. The release is currently available on the company's website, www.caredx.com. Before we begin, I'd like to remind you that management will make statements during this call that include forward-looking statements within the meaning of federal securities laws, which are pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Any statements contained in this call that are not statements of historical facts should be deemed to be forward-looking statements. All forward-looking statements, including, without limitation, our examination of historical operating trends and our future financial expectations are based upon our current estimates and various assumptions. These statements involve material risks and uncertainties that could cause actual results to materially differ from those anticipated or implied by these forward-looking statements. Accordingly, you should not place undue reliance on these statements. For a list and descriptions of the risks and uncertainties associated with our business, please see our filings with the Securities and Exchange Commission. CareDx disclaims any intention or obligation, except as required by law, to update or revise any financial projections or forward-looking statements whether because of new information, future events or otherwise. This conference call contains time-sensitive information and is accurate only as of the live broadcast today, March 15, 2017. I will now turn the call over to Peter.

Thanks, Caroline. Good afternoon, everyone. With so much news flow on financing in AlloSure, we thought it would be best to update you by pre-announcing our results and providing a business update. Thanks for joining us on short notice. As we do on all of our calls, I would like to first recognize transplant patients. Let me start this call by thanking the approximately 400 kidney transplant patients that provided their consent and blood samples for our landmark cell-free DNA study, DART. Thank you for your selfless contribution to the advancement of transplant science that promises to improve patient management. This cause starts a new era here at CareDx. After becoming a public company following the IPO in 2014, we had an acquisition year in 2016 and we are now turning the page to start the AlloSure launch era. With our preliminary full year 2016 revenue of more than $40 million compared to $28 million in 2015, we executed on our strategy to deliver organic and inorganic growth in the specialty diagnostic therapeutic area. As we report another quarter and look back over 2016, it is gratifying to see how our team has delivered on these growth objectives, while at the same time resolving a number of operational items, including our collections catch-up and activities that are related to the acquisition. We now have a clear path ahead. We feel very well positioned for the launch of our exciting new product, AlloSure. With both pre- and post-transplant products encompassing the continuum of care, we have become a transplant-focused, multiproduct genomic information company. We are following a clear defined strategy by focusing on a specific therapeutic area, transplantation. With a broadening product portfolio, we generate deep insights into a complex disease area that has been, and will continue to be, heavily impacted by the genomic revolution. As transplanted organs continuously interact with a host's immune system, we gather unique dynamic insights into the recipient patient's immune response. The long-term monitoring of transplant patients is essential to ensure and maintain positive outcomes for patients, and it's also economically attractive to us and global health care systems as we put personalized medicines into action. Like on prior calls, I'm going to walk you through our pre-transplant efforts before moving to our post-transplant activities. After that, I'll ask Charles to discuss our preliminary financials. Following the financials, we look forward to your questions. The fourth quarter was strong for the pre-transplant Olerup business line, generating preliminary revenues in the range of $3.4 million to $3.5 million. Our Olerup product line offers best-in-class HLA typing solutions for transplant labs that are matching organs to recipients. You can find Olerup products in more than 50% of HLA labs around the world. Last September, we launched Olerup QTYPE to drive further growth in our pre-transplant business. Olerup QTYPE is a real-time PCR-based HLA testing solution that allows for accurate and rapid turnaround typing. Reception to QTYPE, so far, has been very positive. Since launch, we have held already 23 demos in transplant centers in the U.S. and Europe. We look forward to reporting back to you with a CE Mark process and the validation of additional instruments beyond the Roche LightCycler. As we have previously outlined, Olerup QTYPE addresses a $30 million market opportunity, and we think that a 30% market share for CareDx should be achievable within the 3- to 5-year time frame. Also in pre-transplant in the first quarter of 2017, we acquired SBT Resolver, HLA typing product from Illumina, maintaining and adding a source of inorganic growth. We were already selling this product line into many markets as a distributor of Illumina. But now with the acquisition completed, we have full control of the supply chain and we have a strategic foothold into the sequencing market. With a strong efforts in the pre-transplant business on core and launched products, we expect revenues to grow in the mid-single-digit range. Moving to post-transplant. Our core product, AlloMap, is the high-value diagnostic testing service that helps monitor heart transplant patients for the risk of rejection. Preliminary AlloMap revenues for the full year 2016 were in the range of $29.5 million to $29.7 million, with a volume growth of 8.4% year-over-year. The preliminary Q4 revenue range of $7.2 million to $7.4 million reflects continued AlloMap test volume growth at 5.5%. You may recall in July 2015, we made a strategic decision to bring billing and reimbursement activity in-house and we are proud to be at the end of this transition. We are now close to the percentage of reimbursed AlloMap where we were before the change. Now we have the insights and infrastructure in place to further advance our collection efforts in the future. We provided approximately 3,600 AlloMap patient results in the quarter, in line with our expectations. For the full year 2016, we provided 14,100 AlloMap patient results, an accomplishment that we're proud of. In 2016, our acquisition year, we also successfully defended the rationale and basis for pricing AlloMap to CMS. We have achieved a 1% price increase for AlloMap to a reimbursement rate of $2,840. AlloMap now has a CPT code and has been published in the final Clinical Laboratory Fee Schedule for 2017. We have prepared the pricing of AlloMap for the implementation of the PAMA rule and we'll submit a weighted average median price of $3,240 for AlloMap based on the payments from private payers between January 2016 and June 2016. If approved under the PAMA rule, this price becomes effective in January 2018. With this clarity on AlloMap pricing, we can now focus on what we do best, providing the best possible care for transplant recipients, a very high-need patient population, and partnering with leading global medical institutions to deliver that care. Our team has made great progress on our AlloMap life-cycle management activities. AlloMap Score Variability, a tool that allows clinicians to identify patients at risk of poor long-term outcome, is now available in 59 centers. Following a successful pilot in Tampa and Newark, we're expanding our customer engagement program from 100 to 600 patients. With our white glove approach, CareDx is supporting the establishment and adherence to center-specific protocols. By directly interacting with patients, we support the scheduling for the AlloMap blood draw and ensure that the AlloMap result is available in the hands of the physician in a timely manner. With underlying growth in available heart transplant and traction with our initiatives, we believe that our growth in the mid-single-digit range is well achievable going forward. Now we had good news on Olerup, great news on AlloMap, now we move on to the top priority for the company in 2017, AlloSure. AlloSure is a clinical-grade next generation sequencing testing service to detect transplanted organ injury. You might have seen the landmark publications for AlloSure in the Journal of the American Society of Nephrology and the Journal of Applied Laboratory Medicine, which defined the value proposition of the high-value molecular test. Most kidney transplantations that are healthy and stable have a cell-free DNA from the organ, circulating in the bloodstream at around 0.21%. If the next AlloSure result is elevated beyond 0.35%, this suggests a significant increase and is above typical biological variation in stable patients. Patients who have more than 1% donor-derived cell-free DNA are likely experiencing an active rejection. The AlloSure test detects dynamic changes of the host's immune system attack on the donor organ and, therefore, may be used as surveillance tool, as a tool to complement or replace biopsies as well as potentially a tool to track the success of immunosuppressive therapy. We are at the exciting beginning on -- of how to use this powerful diagnostic tool in the clinic. CareDx's dedication to high levels of evidence and support of clinical outcomes will keep CareDx in the lead in transplant patient care. We believe that AlloSure is a specialty blockbuster diagnostic opportunity with a potential to achieve more than $200 million in revenue. Now how do we get there? Let me highlight 4 points. Transplant centers are a highly concentrated customer group. They are our current customer base and we have established strong relationships. We will market AlloSure to roughly 200 kidney transplant centers in the U.S., starting with centers where CareDx has an established presence through AlloMap and a clinical trial presence through DART. Second, AlloSure reimbursement, single payer with an established relationship. 80% of kidney transplantations are Medicare patients. Medicare through its MolDx program is well advanced in understanding the value proposition of evidence-based molecular diagnostic tests. We have enjoyed support from MolDx in the past through AlloMap, and we believe AlloSure provides similar clinical benefits to physicians and patients. Third, AlloSure repeats testing. Similar to AlloMap, patients on AlloSure will follow a surveillance protocol, providing a recurring revenue opportunity with multiple tests provided. And fourth and last, AlloSure revolutionary technology. Targeted sequencing technology provides for fast turnaround time and competitive cost of testing. The approach of measuring cell-free DNA is already a proven game changer in oncology and prenatal testing. We look forward to update you on our launch strategy in the future. Now we are focused on working with CMS for AlloSure reimbursement. There are 3 important phases of the MolDx program: the technical assessment review, the local coverage decision and reimbursement pricing setting. We are currently in the technical assessment stage. After only 7 days, our dossier was accepted by MolDx on November 7, and we are in an approximately 90-day review period. After the technical review, the local coverage decision process includes an important meeting in June of the relevant MAC administrators. During the coverage, proposals will be considered. Subsequent to a local coverage decision, we will engage in pricing discussions. We have shared with you previously that we continue to leverage our existing resources for product launch and we'll go into full commercial launch mode once we have reimbursement. We anticipate that we will have completed the reimbursement process towards the end of 2017. Good news on Olerup, great news on AlloMap, exciting data on AlloSure. Now on to our financing. We are very pleased that we have a new senior secured convertible note in place with JGB. As we mentioned before, the timing of access to new financing and equity was impacted by the uncertainty about the amount of AlloMap Medicare reimbursement in 2017. With the pricing resolution in November, we initiated financing efforts. We are happy to partner with JGB, which allows us to execute on our growth plan and provides optionality in support of the AlloSure launch. Under our prior East West Bank facility, CareDx was required to make monthly principal payments through the end of the agreement in 2018. With this new agreement, the company will make interest-only payments on the debt through March 2018, thereby, providing liquidity in advance of the AlloSure launch. The new facility was closed and funded today. With the financing in place, we closed the acquisition year and can move into the AlloSure era, which will once again transform CareDx. We are thrilled to build a transplantation-centric organization. While our commercial focus and performance metrics will continue to depend on patient results provided and tests sold, we will build on our vision to build a genomic information company in transplantation. Looking ahead, we have several milestones that we are excited about and you should monitor. AlloSure reimbursement and launch updates, with a focus on ATC in the end of April, up continued growth with the ISHLT Congress coming up next month, and the Olerup QTYPE launch updates at EFI in May and ASHI in September. I will now turn the call over to Charles to discuss our financials.

Thank you, Peter. Closing the convertible debt financing today was an important step in securing financing for the launch of AlloSure. The $27.8 million senior secured convertible note has a 9.5% coupon, can be converted into CareDx common stock at a share price of $4.56, representing 100% premium and has a 36-month term. 1,250,000 warrants with a 5.5-year term exercisable at $5 per share were issued as part of the financing. The warrants become exercisable in 185 days. Beginning in 12 months, the noteholder can put up to $938,000 per month, with puts being in stock or cash, representing amortization of the loan principal. As CareDx chooses to fulfill the puts with common stock instead of cash, the common stock price will be the lower of 12% discounting or $5. Following the $11.2 million East West Bank payoff, CareDx will have cash of approximately $21.6 million, including restricted cash of $9.4 million. Moving to our preliminary results for 2016 and the fourth quarter. Preliminary full year 2016 revenue is in the range of $40.4 million to $40.7 million compared with $28.1 million in 2015. Preliminary fourth quarter 2016 revenue is in the range of $10.6 million to $10.9 million compared with $6.6 million in the fourth quarter of 2015. The year-over-year increase in revenue reflects 3 drivers. First, Olerup contributed revenue in the range of $3.4 million to $3.5 million in Q4 and in the range of $10.6 million to $10.7 million in 2016, following the acquisition of the Olerup business in April 2016. Second, Olerup U.S. test volume grew 8.4% in 2016 and 5.5% in Q4, contributing to an increase in AlloMap revenue. AlloMap revenue is in the range of $7.2 million to $7.4 million in Q4, up from $6.7 million in the prior year. For the full year 2016, AlloMap revenue is in the range of $29.5 million to $29.7 million. This is up from last year's AlloMap revenue of $27.9 million. For the year ended December 31, 2016, our preliminary net result is in a loss range of $41.9 million to $39.3 million compared to a net loss of $13.7 million in 2015. In Q4, our preliminary net result was in a loss range of $17.9 million to $15.3 million compared to a net loss of $4.8 million in the same period of 2015. In Q4, we incurred a preliminary impairment of goodwill recorded in the acquisition of Allenex in the range of $12.8 million to $14.9 million. Our results in Q4 also include $700,000 of other income connected with the settlement of legal matters with Oberland Capital and the NASDAQ Stockholm. Settlement payments for these matters totaled approximately $700,000, which was less the $1.4 million accrued for the Oberland matter in early 2016. Turning to guidance. For 2017, we expect revenue to be in the range of $45 million to $50 million. Our guidance is based on AlloMap and Olerup revenue and excludes any potential revenue from AlloSure. I'll turn the call back to Peter for closing comments.

Thank you so much, Charles. Great job. Based on our core AlloMap expertise, we have built a multiproduct company with a focus on transplant care. Following the acquisition year and with the financing in place, we can now focus our attention on AlloSure. With the ultimate vision of building CareDx into a genomic information company in transplantation, we will have a series of exciting milestones coming up. We appreciate you joining the call. We are now happy to address any questions.

[Operator Instructions] We'll be taking our first question from the line of Bill Quirk from Piper Jaffray.

This is Alex Nowak on for Bill today. So just on the pre-transplant side, I know you didn't own the business in Q4 2015. But just based on our math, it looks like it declined about around 17% year-over-year in Q4 '16. I was just curious what's going on there?

Thank you so much for the question. What you see in the pre-transplantation business that you have an effect of core products existing going forward and the new launch products coming in. There's also a significant FX effect in the business, given that it is Stockholm-based and most of the revenues are actually ex U.S. So you probably appreciate that -- the U.S. dollar and monitoring that much closer.

Sure. Okay. Yes, that makes sense. And then can you provide some more color on the impairment of goodwill with Allenex?

Yes. I'll turn that over to Charles. But based on our acquisition case centering around the growth of the future business, we had a significant accounting charge. So Charles?

Yes. So I mean, the goodwill impairment test is something that one has to look at annually. It's a -- so it is very much an accounting exercise, but it reflects impacts of our long-term forecasts as well as the impact of the weighted average cost of capital associated with a small-cap company. The weighted average cost of capital for a small-cap company is relatively large. That brings in the dynamic of significant discounting on our future cash flows associated with the business.

Okay. That's helpful. And then if I remember correctly, I believe there was about $5.7 million of deferred consideration due in Q1 of '17. Is that correct? And is that still in the forecast?

That's correct. That would still be on the balance sheet.

Okay. Perfect. And then just last question for me. I was hoping you could clarify the timing on the AlloSure reimbursement. So it sounds like you haven't heard back from CMS on the tech assessment yet, even though we're past the 90-day review period. And then am I correct in saying that the test has been accepted for discussion at the LCD meeting in June?

The -- normally, what happens is the technical review process is concluded prior to scheduling the local coverage decision. So I think you're -- on the last question, we would be waiting and finalizing technical review. You're probably -- as you can imagine, there's a lot of back and forth and -- interaction on -- in the technical review process as we're bringing MolDx up to speed what AlloSure can offer and provide. So there's a lot of going back and forth. But I gave you the timing of this meeting in June as an important meeting, which we focus very heavily on as a company.

Our next question comes from the line of Bill Bonello from Craig-Hallum.

So a few questions. Just first of all, you had a couple of different publications recently and I think in terms of demonstrating the clinical value of the test, they probably got to different endpoints in terms of what they were trying to demonstrate. And I'm just wondering if you could elaborate a little bit on each of those studies? What they were trying to demonstrate? And the difference between the 2?

Yes. Absolutely happy to, Bill. JASN is really the landmark publication for the product. JASN is the mainstay journal for nephrology. Very, very high penetration around nephrologists in the country or actually worldwide. What we're demonstrating in that publication through our DART study is that AlloSure can differentiate patient populations with active rejections from those patients that have no active rejection. And keep in mind that this is done against the biopsy standard, which by definition is a very, very poor standard, given all the limitations that biopsies have. And you're probably familiar with the limitations of biopsies because of the sample error and all the other issues that are there. So AlloSure in JASN demonstrate that you -- we can detect rejection. Even more important, I think, for the product into commercial validity is the JALM presentation -- publication, where we demonstrate what are the cell-free DNA levels on a healthy stable population. And there, you see AlloSure measuring 0.21% as the median score, which is very exciting low because -- but the second point to that is the biovariability that you see, as if this increases to 0.35%, there's actually something going on in the patient, which allows us to then monitor these patients on a closely basis to say, what happens actually if the AlloSure is increasing. So JASN is all about what does rejection look like and JALM is all about how does it looks like in a healthy stable patient population.

Okay. That's very helpful. And the concept of the latter would be that, presumably, you'd be able to use that for surveillance purposes and make it -- trying to sort of get the greatest degree of efficiency in terms of immunosuppressants, et cetera?

You hit it on the head. JASN is about replacing biopsies. JALM is about surveillance of patients.

Okay. That's really helpful. And just following up on one of the previous questions, I guess there was -- seemed to be some implication in the question that maybe you had passed some kind of critical time line in terms of when you would have expected to hear a response from this technical group. I don't think you were saying that, but can you just elaborate on that? Is there any concern with the dialogue that's been going on with CMS at this point?

No. To the opposite. I would say that we -- getting to know is always easier than having a clear guess. We are in the 90-day review period. We started in the beginning of November. We are towards the end of this 90-day review period and we feel good about where we are. This is a process, which we're undergoing and I think as previously said, I think June is a very important month for AlloSure and CareDx.

Okay. And maybe just for those of us who are less familiar with this, maybe what confused people was you call it a 90-day review period. You say we're in it, but it started in November, and I think that maybe is creating some confusion because it would seem like we've gone past 90 days. But maybe just explain that.

And Bill, I thank you for pointing that out. But it is the world of molecular diagnostics reimbursement, different than to the FDA world, right, where there are time clocks. This seemed to be a little bit more fluid in terms of the timing. But we feel good on where we are on the product now.

Right. So just to be clear, there's no hard and fast 90-day review time period?

Well, this 90-day review period, I think you'll find on the website of MolDx. I think somebody referred to them as indicative in length.

Right. Okay, perfect. That's very helpful. And do you have, in terms of being positioned to be part of the LCD meeting that's coming up this summer, what degree -- I know you won't get scheduled on that until you finish with the review process, but what degree of confidence do you have that you can make it onto that agenda? And if you don't, sort of, what's the next time line then?

I think the agenda is set a few weeks prior to the meeting. So there is still ample time since it is in June in order to get on the agenda of this meeting. I feel good on where we stand on the product. The interactions have been very constructive and positive. So I feel good where this is. As with any technical review, there is always questions and things going back and forth. I feel good on where we stand.

Okay. That's very helpful. And then just in terms of -- with the financing and the cash that's on the books now, what are your thoughts on cash burn over the course of the next year and particularly the next couple of quarters as you continue down this reimbursement and launch phase?

As I mentioned, we are very happy with working with JGB. I mean, this facility allows us to run really hard and far with the AlloSure launch. So I'll let Charles talk about the financing need. But given our current cash position, I think we have increased tremendously our optionality here.

Yes, I think in terms of cash, usage on -- in normal operations, we still -- no change to our current trajectory, which is that $3 million to $4 million per quarter range as we continue to invest in AlloSure and move into the AlloSure launch phase. In terms of overall kind of financing needs, I think this financing really gives us choices. Our key focus, number one, for ultimate use of cash is the AlloSure and the AlloSure launch. As you know, we have outstanding obligations to the former majority shareholders and we have flexibility as we work this out.

Our next question comes from the line of Carolina Ibanez-Ventoso from Janney Montgomery.

Peter, the year-over-year growth of AlloMap was lower in the second half of 2016 than in the first half. What is the growth rate that you baked in your 2017 guidance for this franchise?

We had a mid-single-digit range in the script and I feel good about that guidance.

Okay. And then as a follow-up question on your JASN publication. Out of the 107 samples studied, 27 came from patients presenting with rejection. Can you comment on any plans on expanding your patient population that the -- the population of patients that present rejection? And you also mentioned that you have been going back and forth with Medicare's tech assessment. And I was wondering if there have been any concerns around the number of patients that presented rejection? If it's a sufficient number, really?

Yes. And thank you very much for the question. DART is really a landmark publication and the JASN is a very strong journal with a very high impact factor. So we see that as a great validation of our approach and our strategy. Now in terms of transplantation, when you look into 400 patients in 14 centers, that's actually a very substantial trial. And if you look into rejections, and the numbers that you're mentioning in the 27, 30 range is actually, for a transplantation trial, pretty strong. These rejecting patients actually did have antibody-mediated rejection and acute cellular rejection, both rejections, which is very strong. And AlloSure demonstrated ability to detect both. So in terms of the validity of the trial, we feel very, very good.

Our next question comes from the line of Bill Bonello from Craig-Hallum.

Peter, you had mentioned -- and I forgot to ask about this. You had mentioned when you're going through sort of the commercialization game plan that the first part would be to focus on the centers where you had overlapped with AlloMap and then the centers that participated in the DART study. Can you just give us a sense, between the 2, either places where you currently have AlloMap overlap or they participated in DART, how many of the 200 kidney centers do you think -- kidney transplant centers -- do you think you already have some relationship with?

Yes. There are about 200 relevant kidney transplant centers. There are about 130 heart transplant centers. There are only 30 centers that do only heart and 100 of the 200 are doing heart and kidney. So there's a huge overlap of these 2. If you would then contrast that with 50 centers in kidney transplantation to 50% of the number of transplants, the target group is really small for us to expand. So great overlap with our AlloMap targets. And if you were to take AlloMap targets plus 50, you are substantially covering the universe of kidney transplant patients -- kidney transplant centers. Huge overlap.

Okay. That's great. And some of those 50 that you're talking about that do the 50% of the transplants, those are overlap centers, I assume? Some of those 50?

Absolutely. So 35 of those are heart transplant centers as well. And I'm giving you rough numbers, but that's the ratios.

Okay. All right. So these are great. This is helpful. These are places you already have established clinical and sort of operational procedural relationships. Presumably, their centers sort of know what's coming down the pike as well, right? I mean, they're waiting to see what happens on reimbursement and whatnot. But it's not like you're starting from ground zero with these centers in terms of communicating the cell-free DNA or kidney transplant concept?

Absolutely. And when you think about the DART trial where we had 14 centers and think of those as the nucleus of the commercialization strategy, we have 14 centers already in the DART trial, which is the bridgehead into the launch. So not surprisingly out of the 50 centers, you will probably find the 14 DART centers being part of the 50. So strong penetration already.

Okay. And then just one other commercialization question that probably leads into the cash burn question as well. Do you go through a phase where you're testing patients, but not getting reimbursed, or do you not really start doing any kind of meaningful testing until you have secured reimbursement?

Being a small company and very focused and continuously driving AlloMap, we continue to focus the commercial operations on the AlloMap growth plan. We will only switch into full commercial launch mode once we have reimbursement. So we have held back our current efforts and focus them continuously on AlloMap. This will then dramatically change once we have reimbursement, of course.

[Operator Instructions] I'm seeing no other questioners in the queue at this time. So I'd like to take the time to thank everyone for their participation in the CareDx business update. This now concludes the program, and you may now disconnect at this time. Everyone, have a great day.