iRhythm Technologies, Inc. (IRTC) Q2 2017 Earnings Report, Transcript and Summary

Good day ladies and gentlemen and welcome to the iRhythm Technologies Inc. Q2 2017 Earnings Conference Call. At this time, all participants are in listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call may be recorded. I would now like to introduce your host for today’s conference Lynn Lewis, Investor Relations. Please go ahead.

Thank you, and thank you all for participating in today’s call. Joining me are Kevin King, President and Chief Executive Officer; and Matthew Garrett, Chief Financial Officer. Earlier today, iRhythm released the financial results for the quarter ended June 30, 2017. A copy of the press release is available on the Company's website. Before we begin, I'd like to remind you that management will make statements during this call that includes forward-looking statements within the meaning of federal securities laws which remain pursuant to the Safe Harbor provisions under Private Securities Litigation Reform Act of 1995. Any statements contained in this call that are not statements of historical fact should be deemed to be forward-looking statements. All forward-looking statements including, without limitation, our examination of operating trends and our future financial expectations, which includes expectations for hiring, growth in our organization and reimbursement, guidance for revenue, gross margins and operating expenses in 2017, are based upon our current estimates and various assumptions. These statements involve material risks and uncertainties that could cause actual results or events 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 description of the risks and uncertainties associated with our business, please refer to the risks factor section of our most recent Annual Report on Form 10-K and subsequent Quarterly Reports on Form 10-Q with the Securities and Exchange Commission. iRhythm 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, August 2, 2017. And with that, I’ll turn the call over to Kevin.

Thanks Lynn, good afternoon and thank you all for joining us today. Second quarter results once again demonstrated the traction we continue to achieve with Zio our ambulatory cardiac monitoring service. Growth in both existing and new accounts and momentum in our in-network payer contracting resulted in revenues of $23.9 million for the quarter reflecting growth of 52% over the prior year. Gross margin was 72% in Q2 versus 67% a year-ago. Based on the strong first half results and expectations for the reminder of the year, we are raising our 2017 revenue guidance to $94 million to $96 million. Matt will go into more details on our Q2 financials and our guidance for the reminder of the year in his section. At the beginning of the year, we highlighted the importance of two growth initiatives. Expanding our sales channel to meet growing demand for our service, and increasing our in-network health plan contracting. I’d like to take a few minutes to provide an update on notable progress in each of these strategic areas. Starting with our sales force, the consistent growth in demand of our Zio Service has enabled us to confidently pursue a path of sales force and infrastructure expansion throughout 2017. On our last call we noted that our sales expansion efforts in 2017 would be divided into two phases. We previously noted the successful completion of Phase I of our hiring goals to build-out of our sales management and infrastructure about a month earlier than planned. More over I'm pleased that the integration of new hires has been almost seamless with very little disruption to our sales trajectory. With that critical step largely complete, we were able to shift our focus to Phase II, to expansion of our territory managers within our sales force. Our track record of achievements, strong sales leadership and disruptive technology approach to the market has helped us to build a very large pipeline of qualified and experienced candidates to fill the open positions across the country. I'm confident that we’ll meet our goal of ending 2017 with 81 to 86 quota-carrying reps and a total field force of over 100 people including sales management. Turning to our second strategic objective, growth of in network contracts. It's vitally important to us, that the millions of patients who experience cardiac arrhythmia symptoms or suffer from cardiac arrhythmias have cost effective access to our service through their health plan. During the second quarter, we added over 30 coverage policies and in-network contracts and we're on target to achieve our goal of exiting the year with approximately 240 million to 250 million contracted in in-network health plan beneficiaries. Representing a 20% to 25% year-over-year growth. Non-contracted business now represents less than 10% of our total business. Our Zio Service is covered by the vast majority of U.S. health plans, which is important as positive coverage policies of the first step toward obtaining in-network contracting with any health plan. As specific coverage policies for our Zio Service come into effect, we subsequently move it to obtaining in-network or contracted status. The time between coverage policy approval and in-network contracting and our experience is highly variable and remains in the range of six to 24 months depending upon the type of health plan. Our success in expanding reimbursement coverage is in a large part due to the extensive clinical data available in peer reviewed publications, as well as the acknowledgement and support we have from leading health organizations worldwide. To-date we have 18 peer reviewed publications and are proud that our service is the first and only extended continuous monitoring system that is backed by extensive clinical data in peer review publications. Further supporting our position as the market leader for first line detection in management of arrhythmias is the increased recognition from professional organizations. During the recent Heart Rhythm Society’s Annual Scientific Sessions in Chicago an expert consensus statement on Catheter and Surgical Ablation for Atrial Fibrillation was jointly released by 10 professional organizations including HRS, The European Heart Rhythm Society, The European Heart Cardiac Arrhythmias Society, and the Asia Pacific Heart Rhythm Society. The statement acknowledged that extended continuous patch monitors such as Zio are an effective tool for aFib monitoring following a cardiac ablation procedures. The statement further confirmed that extended continuous monitoring helps to accurately access true atrial fibrillation burden leading to a more accurate and actionable evaluation post ablation. This validation combined with our recent statements such as the recent American College of Cardiology, AHA and HRS guideline for the management of syncope and ISHNE and HRS consensus statements on the external ambulatory cardiac monitoring provide growing worldwide support for our Zio Services efficacy and accurately assessing arrhythmia burden as well as its ability to act as a first-line monitor. We are continuing to pursue the expansion of indications in clinical uses. At the recent European Stroke Organisation Conference in Prague data was presented demonstrating that Zio was more efficient for the deduction of arrhythmias than Holter monitors in patients who have recently experienced cryptogenic strokes or transient ischemic attacks, also called TIA’s. This randomized controlled study of 116 subjects was conducted with half wearing a Zio monitor and the other half wearing a Holter monitor. And the statistically significant findings, paroxysmal atrial fibrillation was detected in 16.3% of patients using a Zio monitor compared to only 2.1% of patients using a Holter monitor. Paroxysmal atrial fibrillation is a preventable cause of cryptogenic stroke or TIA. However due to the transient nature of the arrhythmias, a considerable portion of cases are likely to be missed by short-term Holter monitors. On the research and development front, artificial intelligence or machine learning generally refers to complex arrhythmias or complex algorithms that learn patterns and data and subsequently can predict similar patterns in new sets of data. Increasingly we see machine learned products making their way into our everyday lives through applications such as language translation, image recognition and self-driving cars. We are proud to be among the pioneers moving this technology forward into healthcare through our exploration of state-of-the-art machine learning techniques. We’ve previously discussed how our machine learned algorithms are a significant characteristic that sets iRhythm apart from other cardiac monitoring services. Recently our data scientist team collaborated with leading artificial intelligence scientists at Stanford University to use our vast database of curetted, continuous ECG’s to develop an algorithm that could lead to better decisions involving less time and cost. The collaboration leveraged a precisely annotative set of ECG records from our database of more than 200 million plus hours of labeled ECG’s to develop a neural network capability or a neural network comparable to artificial intelligence models used in computer vision and speech recognition applications. The developed algorithm without the aid of human intervention, was shown to outperform individual cardiologist in detecting 12 types of heart arrhythmia as well as normal sinus rhythm and noise. These ongoing research investments support our goal of continuing improvements that enable our operating cost to decrease as volume continues to grow. This work also demonstrates iRhythm’s commitment to staying well ahead of the curve and competition as the leader in arrhythmia detection. We were pleased to receive FDA clearance in June for Zio AT, our next generation offering aimed at increasing our served market with the addition of timely data transmission capabilities to serve patients who have more critical symptoms such as syncope, pre-syncope and ventricular tachycardia. We had extensive clinical involvement in the design and development of this important new offering and importantly based on that feedback we’ve taken the best of our existing Zio XT platform and added differentiated capabilities, which we believe will address some of the shortcomings of competitive products in this space. Early customer feedback has reinforced that it is an advantage to have Zio AT and Zio XT uniquely share a single common platform, including biosensor design, workflow tools and comprehensive final reporting for patients. Since receiving FDA clearance we have initiated early market testing in select locations across the county, additionally we have started the process of establishing in-network contracts with commercial payers for this new service, which is a critical step in our launch process. Over the next several months, we will be focused on the remaining task needed for broader commercial release and we will provide additional details as they unfold. Before I turn the call over to Matt, I’d like to welcome two new Board members. Bruce Bodaken and Ralph Snyderman, who joined our Board in July. Mr. Bodaken served as Chairman and CEO of Blue Shield of California from 2000 to 2012, where he was responsible for strategy and management of California’s third largest insurer. He was previously served as Blue Shield of California’s President and Chief Operating Officer from 1996 to 2000. Mr. Bodaken has served on the Board of Directors of Rite Aid Corporation since May of 2013 and on the Board of Directors of WageWorks since September of 2005. Dr. Snyderman is Chancellor Emeritus, James B. Duke Professor of Medicine, and Director of the Center for Research on Personalized Health Care at Duke University. From 1989 to 2004 he served as Chancellor for health affairs at Duke and was the founding CEO and President of Duke University Health System. With that I'd like to turn it over Matt our CFO for a more detailed review of our financial results and guidance.

Thanks Kevin. We were pleased with our overall financial results for the second quarter of 2017 and remain encouraged by our growth, all while managing and supporting our continuing sales force expansion efforts. Highlights for the second quarter include revenue growth at 52%, gross margin improvement to 72%, more successes on the contracting front for Zio XT and a solid start on contracting for our soon to be launched the Zion AT service offering. A step-up on investment into sales and operations to support our rapid growth and last but not least we achieved our first ever positive cash flow quarter. Now taking a more detailed look at the second quarter results, revenue for the three months ended June 30, 2017 was $23.9 million, an increase of 52% year-over-year. This increase remains volume driven for our Zio service as a result of growth in new and existing accounts and continued success in our in-network contracting efforts. Revenue trends remain very encouraging while same store, new store sales remain very robust as well centered around a 50/50 mix split. Finally, non-contracted revenues continue to shrink as a percentage of our overall business. This improvement benefits our revenue mix and patient volumes because providers become less concerned with complexities of non-contracted reimbursement while raising our unit pricing at the same time. Turning our attention to the rest of the P&L. Gross margin for second quarter 2017 was 72% compared to 67% for the same period in 2016, nearly a five percentage point improvement. Margin expansion continues to be driven by three variables, productivity gains through our machine learned algorithms associated with report generation, the impact from our mix shift to contracted claims and continued reduction of device related manufacturing costs. Our continued improvement in all three of these categories gives us confidence in our ability of ultimately achieving our long-term guidance of 75% to 80% gross margins. Operating expenses for second quarter 2017 were $23 million and an increase of 61% compared to $14.3 million for the same period of the prior year. The increase in operating expenses was primarily driven by two factors. First we have accelerated sales force expansion investments following the completion of our sales management hires and second due in large part to the increase in our stock price since the October IPO, we've had a material increase in stock compensation expense beyond our forecasted estimates and guidance. We remind investors that this is a non-cash expense and will be adjusted for in our guidance moving forward. The net loss for second quarter 2017 was $6.4 million or a loss of $0.24 per share compared to a net loss of $4.4 million or a loss of $3.09 per share for the same period in the prior year. And as mentioned in the highlights we had our first ever cash flow breakeven quarter driven largely by solid cash collection efforts. While we do not anticipate, nor are we guiding to consistent positive cash flow quarters for the business here in the near future this is still an important milestone for our business, signaling our ability to manage growth, investment expenses and our overall balance sheet. Turning our attention for the remainder of 2017 guidance, based on the continued confidence in the adoption trends of our Zio Service, we are raising our expected 2017 revenue guidance to a range of $94 million to $96 million up from $88 million to $92 million provided on our last earnings call. This represents an annual growth of 47% to 50%. We remind investors that our business typically experiences summer seasonality in Q3 due to the inclusion of two major holiday weeks of July 04, and Labor Day and vacation schedules of physicians and patients alike, which impacts sequential growth between Q2 and Q3. Thus our increased annual guidance should be weighted towards Q4 financial performance. Gross margin for 2017, is expected to range from 71.5% to 72.5% up from 69% to 71%. Operating expenses are projected to range from $89 million to $92 million up from $85 million to $88 million in the prior earnings call. $11.5 million to $13.5 million for research and development expenses and $76.5 million to $79.5 million for SG&A expenses. As previously mentioned, a significant portion of these OpEx increases are due to the acceleration of our sales team hiring and non-forecasted stock compensation expenses. In addition to these expenditures, we will also be incurring costs in the second half of the year, associated with auditor attestation of iRhythm internal controls as the Company triggered SOX 404(b) requirements as of June 30, 2017. Our revised revenue outlook reflects our continued success in obtaining coverage and contracting policies and hiring plans for our sales force and sales support infrastructure. We reiterate our goal of exiting the year with 81 to 86 quota-carrying reps and a total sales organization headcount inclusive of sales management and sales operations at just over 100. As we have stated in the past, we believe that it takes approximately three to six months for new sales hires to begin contributing on average and three sales hires to begin contributing on average and three to four years to reach peak productivity. We continue to see improvement in rep productivity levels, which re-attributes to improved contracting, training and the investment the Company has made in sales management and operational investments such as customer service, revenue cycle management, payer relations and general sales support. These investments remove a great deal of day-to-day work for our sales team freeing up time to accelerate awareness of the Zio brand with existing and new customers. As Kevin mentioned in his prepared remarks, we are very pleased with the progress we have made this quarter and look forward to updating you on our progress on future calls. That concludes our prepared remarks for today. Joining me for Q&A is Kevin King President and CEO and Derrick Sung our Executive Vice President of Strategy and Corporate Development. We would now like to open the call up for your questions. Operator?

Thank you. [Operator Instructions] Our first question comes from the line of Michael Weinstein from J.P. Morgan Your line is now open.

Hi this is actually Alan on for Mike. Just want to say congratulation on the big quarter. I just want to start of with a quick one. I'm not sure if I missed this but are you hiring new territory managers in this quarter.

Say that once again are we hiring…

Did you hire any territory managers in this quarter in 2Q?

Yeah, we haven't been giving the quarterly numbers here for the breakout. We generally have guided towards the 81 to 86 and did note in the beginning of the year we started with about 66 people.

Okay, and also just in terms of the recent guideline changes that you highlighted on the call, how is that helping you drive like I guess awareness, how is it helping with new accounts coverage and doc conversion or do you think that it will take more time to hit annual from those endorsements.

You know, I would say Alan incrementally it helps a lot. Physicians rely on their respective medical societies whether it's ACC or a HRS or AHA herein in the United States such that they can take those and translate those into provider specific care guidelines. And it's early days for a lot of these but it is beginning to translate and it is certainly building awareness and it is helping in the areas of syncope. We see that in the emergency setting, we see this in post-ablation monitoring and just in general as a replacement for a Holter any that like monitor.

Okay, and then just like a final quick one. I'm not sure if you’re willing to disclose this but you mentioned that with your new Zio AT device you're really going to have the kind of competitive advantages to really address the shortcomings of the current MCT and other devices. I was just wondering if there's any incremental piece you can give one that and just say what kind of competitive edge you think you’d be able bring whether that’s price or an actually like a design improvement.

Yeah, it's more on capability and functionality than it is on price. We really don't compete necessarily on the basis of price. In the prepared remarks, we talk about a single platform that is, was by design and is a major advantage in all aspects that I described with common biosensor, common workflow tools, common reporting capabilities. These are all essential to patient adoption, physician usage, physician office staff usage, that help the adoption of the product. And then of course we think that the marriage of both XT and AT bring unparallel performance that's not been available in the past.

Got it. Thank you.

You bet.

Thank you. Our next question comes from the line of David Lewis from Morgan Stanley Your line is now open.

Good afternoon. Kevin just a few questions. I want to come back to the real time launch here, which recently began. If we think about, two things I’d like to get a better sense of one from a contracting perspective, how long should we think about the process by which is go to take you back to you're existing contracts and get the approval for real time, sort of number one. Is that a two-quarter process, is that a six to eight quarter process. And then from pricing perspective, our senses for a lot of reasons you want to price this product at a premium. Can you give us a sense of what that premium could be, we’ve sort of assumed two to 2.5 times the core pricing. I’ll add a couple of follow-ups.

Sure David thanks for the questions. On the pricing side, I think the best proxy is to look at the delta between Medicare for XT and Medicare for the MCT code and it is about two to three X. That's a good estimate for you to be thinking about in a good proxy going forward. Related to the contracting rates I think it's closer to the four to six quarters than it is to the two months or two quarters that you were describing. These payers as we've noted in the past can have a long tail and here we don't necessarily need the policies, we need to get the contracts and those can be an arduous task for us or they have been routinely. So I probably narrow more towards the four to six quarters.

Okay and Kevin… sorry.

It's early days, so we'll give updates as we go forward, but that's our current thinking.

Okay, and just did two more quick one for me. The first is just, is there any specific plan to capitalize a in order of the NICE guidelines ex-U.S or EPAX [ph] that came out sort of the next few months. Is there other specific action plans to capitalize on some of that expansion geographic or obviously in the case of expansion in the case of EPAX.

Well the initiative that we have in the United Kingdom, we don't talk a whole lot about it it's not material to where we are. But that is growing and expanding and in many ways it's growing and expanding and payer related acceptance through both private payers and through the national health system, and it is expanding through physician adoption and site adoption. Hopefully by the time we get to providing 2018, guidance will give at least a sneak peek of where we are on that and then that market is a toehold into the rest of the European, EMEA Region, right Europe, Middle East, Africa and so forth. And there's a prioritization plan that we've not disclosed yet but a sequence of countries that we're planning to go after. And we do have initiatives underway, they're not commercial there rather pay related and health policy related within these countries. If those become successful as we hope they will, then we would deploy a sales force. In and as we've said before most of that, most countries in this region are single payer, so you either get paid or you don't. And if we do then we're able to deploy a sales force.

Okay, and just Kevin I know it's still early to talk about 2018, if it think about NICE plus EPAX plus a potential for mSToPS, next year the real time product, is the way to think about next year, is it crazy to believe that with better payer coverage and all those incremental guidelines we should be thinking about rep additions in 2018 that should be at or in excess, once you're going to add in 2017.

Yeah most definitely David, we've previously described let's sort of break this apart, right. So there's the current town that we serve in the U.S. and that's the roughly 4.5 million to 4.6 million tests per year. The new Zio AT platform addresses about 10% of that market that was unaddressable before. Maybe 450,000 to 500,000 right. It's all the market has grown for us, from that standpoint. And we've described a sales force buildout to somewhere between 125 to 150. And you ought to be thinking that we're going to be trying to move along a linear path from where we are to that and if things change would give you an update, but that's really what we're looking for. I don't know if we'll get to that total number next year but you should plan that we’ll be adding more feet on the street throughout 2018 as well to go after the market opportunity. And once that's published and the market gets larger and we get payer adoption then it could be a completely different game that's a much larger TAM of about another three million patients that may require more than what I've described here.

Okay, thanks so much. I'll jump back in queue.

Yeah.

Thank you. [Operator Instructions] Our next question comes from the line of Jason Mills from Canaccord Genuity. Your line is now open.

Hi Kevin, Matt and Derrick thanks for taking the question, I’d like to start by following upon one of David's questions with respect to the TAMs. Kevin you were going over the total addressable markets what you have today and what AT brings to you additionally. And perhaps with respect to the latter, target addressable market addressed by AT could you talk about the adoption curve potential, or expectations within that target addressable market relative to sort of the trend lines you've achieved thus far within the current TAM. And maybe what, any additional gating factors that you'll have over and above the contracting process, which you’ve talked about to address the TAM for AT.

Let me let me try to play that back so. How much does the addition of AT help both our TAM and our trajectory as our business, is that kind of a summary Jason?

Yeah. I mean – I have a bad habit of asking very long questions that get convoluted, it’s just to curse sorry. So I guess in a more simplistic view it's, if we look at the adoption curve of XT thus far and we can kind of get a sense for the share within that, 4.6 million tests per year, if we sort of carve out and look at that 500,000 tests that could be best addressed with the next generation product, should we thinking about and going back a couple of years and looking at the XT curves should we be thinking about AT following a similar curve, within that 0.5 million patients or could it be accelerated or will it take longer based on any additional gating factors that might exist.

I think it's probably a two part way to think about it Jason, one is the trajectory, shorter could be about the same on the good side. But the one word of caution is the indications of use for AT or for mobile telemetry indications are largely second line testing or much narrower than they are for XT and that that could tap it down. And that's partly why 90% of the market is XT and 10% of the market is MCT right on that total percentage. Far more patients addressable by the XT product than AT, I will say that some of the early learnings that are coming out of our market development, or market testing are that the XT volume will probably rise as AT gets adopted. More of this single platform capability more, broader portfolio of offering if you will covering from low to high gives us higher expected volume on the XT side. So it could be that there is a bigger benefit to XT than there is to AT.

And I would just add in both existing and potentially new accounts for the XT. And again really early days for us but that's directionally it's probably the way that I would best describe it.

Okay, that's helpful and then sticking with the concept of target addressable market, the third future market, which encompasses several but additional expanded indications down the line that’s quite large three million patients you referenced. Could you talk about the clinical work, effort and development internally that gets you to a point where you'll be able to start talking about that TAM and when that might be.

Yeah, yeah most definitely. So these are, I’ll go back to what I said to David. Right today we feel that we've got a large addressable market and a small but growing share rapidly growing share. So, the TAM is important a little bit in the longer run. That said this doubling of the total addressable market, is clearly within our sights. And I would say to me Jason most of this adoption is related to our ability to successfully challenge the status quo. And what I mean by that is the Holter monitor has been the technology of comparison for these markets that we describe, whether they are post-ablation monitoring, whether they are cryptogenic strokes and TIAs, whether they are AF burden and not so much on the high risk asymptomatic arrhythmias but the others certainly the Holter monitor has been the gold standard there. And our ability to really open that up, and use Zio is predicated on these head-to-head studies that we've shown and these guideline committees are now starting to recognize it. That's why you're seeing these post-ablation guidelines coming out, that's why you're seeing AF burden and becoming recognized by these societies as well. I think those are the primary drivers for opening that up and mSToPS is going to require that study to be read out. And we can report that we have enrolled our last patient in that trial, that was about a 6,600 patient trial, those patients have all been enrolled, and so the analysis and read out portion of that is to follow. And I think in the past Derrick was thinking that that was somewhere towards first half of 2018. So if the mSToPS resolves bear resemblance to what we did in the pilot phase where we're seeing 5% atrial fibrillation in this population versus 1% and in equal amount of atrial tachycardia in those patients we’ll be well on our way to driving this into the market in the not too distant future.

Okay, that's super helpful. Really appreciate it. Last question for me maybe. Matt for you on your side. At this point in time now your run rating just under $100 million obviously a huge TAM in-front of you, but should we be thinking about seasonality at this point in your business? Again I apologize, if I missed that in your prepared remarks.

Yeah, I did cover that Jason in the prepared remarks and the answer is yes. We do see seasonality. We see it for a number of reasons. There is two major holidays during the third quarter and quite frankly physicians and patients alike take vacations. So we do see some of that. So the guidance that we provided in terms of our overall raise our recommendation is for those investors who are modeling that we wait that performance or that increase to the Q4 timeframe.

Thank you for taking my questions.

Welcome.

Thank you for calling.

Thank you and at this time I'm not showing any further questions on the phone lines and would like to turn the call back over to Kevin King for any closing remarks.

Okay operator, thank you. Thank you everyone for joining our second quarter earnings call. We're very appreciative of your time and interest in following our Company and look forward to updating you at our next earnings call. Thanks very much.

Ladies and gentlemen thank you for participating in today's conference, this does conclude the program and you may all disconnect. Everyone have a great day.