MiMedx Group, Inc. (MDXG) Q2 2015 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the MiMedx Group Q2 earnings call. [Operator Instructions] I would now like to turn the conference over to Mr. Thornton Kuntz, Senior Vice President of Administration. Please go ahead, sir.

Thank you, operator, and good morning, everyone. This presentation contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements are based upon the current beliefs and expectations of our management and are subject to risks and uncertainties. Actual results may differ materially from those set forth in, contemplated by, or underlying the forward-looking statements, based on factors described in this conference call and in our reports filed with the Securities and Exchange Commission, including our Form 10-K for the year ended December 31, 2014, and our most recent 10-Q. We do not undertake to update or revise any forward-looking statements, except as may be required by the company's disclosure obligations in filing it makes with the Securities and Exchange Commission under Federal Securities laws. With that, I will turn the call over to Petit, MiMedx's Chairman and CEO.

Thank you, Thornton. Welcome and thanks for joining us for our second quarter conference call. I have with me today Bill Taylor, our President and Chief Operating Officer; Mike Senken, our Chief Financial Officer; and Thornton Kuntz, our Senior Vice President of Administration. There are also other executives in the room. We concluded another very strong quarter. We would like shareholders to take note of two key developments that should clearly signify that MiMedx will not experience a revenue drop, because of some type of dramatic change in demand for allograft products. First, CMS has issued its proposed payment policy for 2016 for skin substitutes. There are no significant changes in proposed reimbursement. I think there was some considerable misinformation circulating that there would be huge reimbursement reductions by CMS. Frankly, the MiMedx EpiFix allograft should save the Medicare and commercial system significant amounts of costs, and we continue to find ways to provide the most cost-effective solutions for our patients, providers and payers. We do not foresee any significant issues in reimbursement area in the near future. Second, but just as important, it has been reported by SmartTrack, that Medline, a major supplier of healthcare products to the hospital sector has announced it will be withdrawing its amniotic tissue from the market in September. This should be a clear indication that when a large well-established healthcare supply organization cannot develop significant revenues, so that they decide to leave the market, the MiMedx presence should be considered to be the major deterrent. Over the last several years we've established a very strong leadership position in advanced wound care sector of healthcare. This has been accomplished through investments in clinical and scientific studies, other investments in corporate infrastructure and significant investments in a sales force that is very well trained, and a majority of whom have significant experience in advanced wound care. Incidentally, Medline is one of the parties that we have brought suite against for patent infringement, because we believe the amniotic tissue product violates our patent, also of course a supplier of their product which is MTF. Again, I consider these two very a significant advance relative to our future presence and growth in the advanced wound care sector of healthcare. It should clearly indicate that we have achieved the leadership role here in a period of several years, and we will remain the leader. Now, let me reiterate some of our quarterly highlights quickly. The second quarter was our 15 consecutive quarter of meeting or exceeding our revenue guidance. Our second quarter revenues were almost 80% higher than our second quarter a year ago. Our wound care sales grew 85% over second quarter last year. Our surgical, sports medicine/orthopedic revenues increased 114% over second quarter of last year. Our adjusted EBITDA of $10.6 million represented a 265% improvement over the second quarter of 2014. Our net income for the quarter of $5.4 million was 12% of our revenues and should be compared to a loss of almost $400,000 in the second quarter of 2014. Our adjusted EBITDA of $10.6 million was 23% of revenues. In our opinion, these are extraordinarily good results and an indication of our management expertise throughout the corporation. There are very few issues that we do not effectively manage, and with a number of troublesome issues we have dealt with over last two years, I wish to applaud our executives for managing through those matters exceptionally well, while they continue through this very effective financial results. We had another exceptional period of adding commercial health plan coverage. While this quarter was not quite as exceptional as our first quarter, which I reminded everyone at that time, it was unusually good. This quarter was quite robust, with only a small percentage now commercialized for whom we have yet to receive coverage. We added another 12 million-plus covered lives for the second quarter, which brings our total commercial coverage to approximately a 160 million lives. Medicare is about 36 million covered lives. Also, we have 29 states providing Medicaid coverage. All of this has been a result of several years of very hard and diligent work by our management staff. The foundation element happens to be our 20-plus publications, six of which were randomized control trials and seven of which were scientific studies of significance. We will continue to maintain high standards for our publications and continue to educate our sector of healthcare what many pro-medical evidence happens to be. So from revenue standpoint, we had another quarter with significant progress. The strong growth occurred, despite the issues associated with the expiration of pass-through status for EpiFix Medicare reimbursement. I know that it was a concern, it was an issue for which we developed plans over a year ago, what had affected the first quarter and a portion of the second quarter. I believe the actions we took in terms of offering new products that would be at or under the bundle price and products that would help alleviate pricing pressures on larger wounds were effective. Also anytime that billing processes and related considerations change, there is a significant lag in wound care centers and hospitals billing processes getting back on track. This disruption does effect the rate at which our product or any products that these changes are utilized due to the uncertainty for the provider institutions. We understand these complexities and manage them well. I believe we resolved the vast majority of those issues and related questions during the second quarter. It looks as if we have dealt with those markets changes relatively efficiently in the first and second quarter. And we expect that demand for EpiFix in wound care setting will not be significantly affected by these non-clinical issues in the future. Relative to our patent suites, we have made some progress. We have had most positive results from litigation. I believe the competitors, who we think are violating our patents know clear that we will persevere until we bring these matters to a just conclusion. However, I will remind you again, that most product plan protection endeavors occur in the marketplace. While we view our patent portfolio as a strong company asset and we will protect it accordingly, we also work very diligently to be sure that our products have the best clinical and scientific evidence, the best reimbursement coverage, the best contractual coverage with IDNs and GPOs, and the best and most highly trained people representing us to providers. That's where the real battles occur, and finally where the war is won. Our current leadership position should verify how this is going to end. Relative to the OIG subpoena we received last year, we have had some developments in finalizing this process. As we previously discussed with you on March 23, 2015, the government indicated it was declining to intervene at the time in the qui tam action that gave rise to the OIG subpoena. If the relator intended to carry the suit forward, they had a 120 days from that date to serve the complaint on MiMedx. The relator has not done so, and we have no indication they intend to proceed with the case. As has been discussed on previous call, it is extremely unusual for an OIG case of this nature to be included in a matter of months, and I'll emphasize, extremely rare. I believe that it attribute to our corporate integrity and our business practices. Relative to the Food and Drug Administration, we have continued to have discussions and written communications with them during the quarter. As we previously noted, at the end of December, the FDA filed an indication of their desire to change or clarify their interpretation of the regulations related to skin substitutes. They did this by issuing new draft guidance documents. This created a major reaction from industry trade associations, including the American Association of Tissue Banks, AdvaMed and the Alliance for Regenerative Medicine. They all stepped strong comments relating to the lack of a scientific basis for these proposed changes, their interpretations with the FDA current regulations and the FDA's legal right to make these changes without going through the formal process of notice and comment rulemaking. Therefore, for the first time, MiMedx has not been standing alone in terms of the issues associated with an untitled letter. We intend to continue our discussion with the agency relative to issues associated with the untitled letter. However, we're also readily progressing down the IND and BLA pathway. We've begun rolling patients for IND/BLA study for our EpiFix allograft, uses of injectable for plantar fasciitis. We're close to filing our second IND/BLA relative to other uses of the micronized product. We'll keep you informed as this progress unfolds. I'll turn the discussion over to Bill Taylor, our President and Chief Operating Officer. Bill?

Thanks, Pete. Good morning, everyone. As you've seen our second quarter was yet another excellent quarter and we performed at the high-end of our projections. Our wound care growth was sizeable and we're on path to continue that growth. We continue to expand our sales force, our operational infrastructure and are expanding our product development efforts. Let me start out by talking about sales. Our second quarter illustrated yet another very strong growth in terms of number of patients treated and revenue, particularly with respect to wound care. You will recall that last year when EpiFix had pass-through status, approximately 80% of our commercial wound care business was our smaller grafts, which were 2 x 3 centimeter size or smaller and about 20% were larger sizes. With the expiration of pass-through this year, we purposely added sizes and configurations to help treat larger wounds, but yet still be at or under the bundle. We introduced our mesh product in late first quarter of this year. I know one of the concerns with the expiration of the pass-through was that we would lose all the big wounds, and our revenue would drop substantially. Well, I'm very happy to announce, it was a full quarter of sales of our mesh configuration, which covers wounds up to about 20 square centimeters. We are still at about the 80%, 20% small sizes versus big sizes. So 80% small sizes, 20% big sizes. Our average selling price for the large size is obviously reduced, because of the pass-through and the adjustments in our pricing. But we've retained and grown the overall number of procedures, and thus the number of patients treated. So looking at it another way, the expiration of pass-through status for EpiFix essentially was realigned in the first quarter. And our average graft price per application was adjusted slightly down, but the average has stabilized and our procedure volume is growing very nicely. Also, as Pete mentioned, the proposed CMS physician office and hospital outpatient payment for 2016 have been released and there are no significant changes. This is excellent news and played out as we anticipated with no material price or reimbursement change. The final rule will be released in November, but based on the perspective our proposed payment just published, no significant changes should be expected in November. On a related note, as we Pete mentioned, according to BioMed GPS, there is a lot of information from that on SmartTrack. MiMedx now is the leading advanced wound care company in terms of revenue. Frankly, based on our informatics data, we actually think that we have a bigger lead than what even BioMed GPS discussed. As our field data showed, some of our competitors actually have smaller revenue than what's reported in the SmartTrack numbers. Add that to the fact that our average graft price per application is lower than our closest competitor, we on average take fewer grafts to heal wounds, we are thus by far the leader in terms of patients treated in advanced wound care. So additionally, you'll recall that a number of our competitors have tried to duplicate our success over the past year or two. One of them, as Pete mentioned, was a very large company Medline with a Revitalon product. And again, according to SmartTrack, Medline is dropping the Revitalon product and focusing their attention elsewhere. This is just one example regarding this market, and the fact that it is not easy or simple to enter this market and be successful. We project there will be others that will also exit this market down the road. Advanced wound care may appear to be a market with low barriers to entry. However, I think people are finding that achieving significant market share in this market is not easy, and the barriers are numerous and substantial. It's not difficult to gain a small amount of revenue, but it is very difficult to achieve scale. Now, some people maybe asking after our report about our federal revenue, which year-over-year was up 34% quarter over this quarter last year, but was down from our sequential quarter, first quarter of this year. I'd also like to point out that year-to-date we are up 43% in the first six months of this year compared to the first six months of last year. So we have sizable growth in our federal business. So even though our growth was -- We had a lower quarter in the second quarter than we had in the first quarter, we've had substantial growth. And no, there has not been a large market shift. In fact, as we indicated earlier, our competition is finding that it's getting very difficult to gain traction in these accounts. Overall, the federal business does have some seasonality as well as fluctuations due to some facilities with stocking orders as well as our surgical cases. You may recall that we've got a very good penetration on the wound care side, but we're growing our surgical business in the federal accounts. So that's one of our growth areas in these areas. So many facilities also give purchase orders as the product is used, but others order maybe one or two months of stock at a time. Also, when we sign our BPAs or Blanket Purchasing Agreements, like the one we've discussed last quarter, which was a $6.5 million overall BPA, we can get large stocking orders under those agreements, and increments like $100,000 or $150,000, et cetera. So that can also result in some quarter-to-quarter variation. So just to remind you, our last three quarters had revenue of $10.8 million, $13.8 million, and then this latest quarter at $12.1 million, which is very strong and we expect this to continue strengthening. So if you're annualizing our federal business, I suggest you focus on the yearly trend lines, as it's much more indicative of our strong growth in this market rather than just simply sequential quarter. So turning to our sales force or sales team. You'll recall that, at the time of our last shareholder call, we were about 200 field sales personnel, and today we're approximately 215 people, give or take. We're still on target to be around 240 by the end of the year. And I'd like to also highlight at this time our surgical team, which is doing some great development of the market on the surgical procedure side, and starting to drive some very nice case volume in surgical cases. We found a number of new surgical procedures, where our grafts are now being utilized. I'll wait a few quarters before I go into detail on those for competitive reasons. But I just wanted to give a quick congratulations to our surgical sale team for making that progress. I also want to congratulate our wound care team and that they continue to drive significant incremental procedure volume, which in our view is not only capturing market share from our competitors, but it's also growing the market by enabling patients who in the past did not receive advanced wound care due to price, now they can receive it, based on the cost-effectiveness of our products. Now, turning to intellectual property, I want to expand on what Pete said earlier. As you know, we've filed three patent infringement lawsuits against companies whom we believe are infringing our patents. In two of these cases, as we predicted, these companies had filed for an inter partes review, IPR. This process is relatively new and essentially is designed to challenge specific claims in patents. Each of these IPR cases have at least two patents that are being challenged. Now, in the earlier case, the first major ruling came down and did so in our favor. It was related to our EpiFix patent. And basically the IPR was denied for that patent. This means the appeal board felt there was not sufficient evidence to even allow the review to go forward. So this was a very significant win for MiMedx and we expect more on this front down the road. Now, the second challenged patent in that case relates to our embossment of our grafts, which is a noble way to tell which side of the graft should be placed up. We also received a significant win in this patent. This was allowed to go forward in the IPR process, unlike the other one. But there were five claims that were originally challenged. Our win here is that on the IPR only two of the five challenges were accepted by the Patent and Trials Appeal Board. Only those two claims now will be reviewed. So the bottomline here is that, based on this decision, the worst that could happen is that we will have two claims either revived or eliminated, but overall we'll still have the patent stand. So we feel very good about our position. Also, I just want to remind you that we have a number of new patents pending as well that should further strengthen our patent portfolio. Now, I know since we announced our accelerated efforts on CollaFix, our collagen fiber technology, many of you maybe looking for an update. Other than saying our team is fully engaged and almost completely staffed and progressing forward rapidly, I'm not going to go into much more details until a little bit later this year, again for competitive reasons. So we'll go into that hopefully by the time of our analyst meeting in October. Last, I just want to remind you that we completed our construction and initial move into our additional new building, which is about a half mile away from our headquarters building. And our team did a great job to finish that construction on time and moved our teams into it in early June. That gives us some good room from growth, and I want to congratulate everybody for pulling that off during a very busy quarter, without missing a beat. With that, I'll turn it back over to Pete.

Thank you, Bill. Hopefully that clarified a number of key issues. And let's go now to Mike Senken.

Thanks, Pete. The company recorded revenues for the second quarter of approximately $45.7 million, an increase of 79% or $20.1 million over prior-year second quarter revenue of $25.6 million. Growth was driven by both wound care and surgical sports medicine and OEM or SSO market. The company added over 400 new customers in the quarter, while also increasing product usage in existing accounts. Wound care revenue was $35.6 million, which represents a 73% increase over prior year. We saw strong unit sales growth, including the recently launched mesh configurations in wound care. SSO revenue was $10.1 million, which represents a 104% increase over prior year. Growth was driven by direct sales and surgical applications as well as distributor sales. On a customer segment basis, commercial revenue was $33.6 million, which represents a 103% increase over prior year, while federal revenue was $12.1 million, which is a 34% increased over prior year. For the six months ended June 30, 2015, reported revenues were $86.4 million, which represents an increase of 92% as compared to prior year. Gross margins for the quarter were 89%, which is equivalent to the second quarter of 2014, bringing total year-to-date gross margins to 88% as compared to 87% in the prior year. Our strong gross margins are driven by wound care sales. R&D expenses for the quarter were approximately $2.1 million or 4% of quarterly revenue as compared to $1.8 million in second quarter of 2014. On a year-to-date basis, R&D spending is up 22% over prior year. The year-over-year increase in R&D spending is driven primarily by increased investments in animal studies and clinical trial. Selling, general and administrative expense was approximately $32.7 million for the quarter or 71% of quarterly revenue as compared to $21.2 million or 83% of quarterly revenue in 2014. The year-over-year increase in SG&A spending was due to the continued build out of our direct sales force in both wound care and surgical markets, additions to the reimbursement team and other support areas as well as increased legal cost, primarily related to our patent lawsuit. We added 20 direct sales reps in the quarter, bringing the total direct sales headcount to 210. On a year-to-date basis, SG&A expense was 72%. The company reported positive adjusted EBITDA margin of 23% or approximately $10.6 million for the quarter ended June 30, 2015, which is a $7.7 million improvement as compared to an adjusted EBITDA of $2.9 million in the second quarter of 2014. It is the 14 consecutive quarter of reporting positive adjusted EBITDA. Included in our press release is a reconciliation of adjusted EBITDA to reported net income. The improvement is driven by increased sales volume and corresponding operating leverage. For the six months ended June 30, 2015, adjusted EBITDA was $19.3 million. Operating income in the second quarter was approximately $5.7 million or 12.4% of quarterly revenue, which represents an improvement of $6 million as compared to an operating loss of $392,000 in the second quarter of 2014. On a year-to-date basis, operating income was $9.9 million or 11% of total revenue as compared to an operating loss of $1.3 million in 2014. The company reported net income for the second quarter of approximately $5.4 million or $0.05 per basic and diluted common share, as compared to a net loss of approximately $390,000 or $0.00 per basic and diluted common share in the second quarter of 2014. Year-to-date net income was $9.5 million or $0.08 per diluted common share as compared to year-to-date net loss of $1.3 million or a $0.01 per share in 2014. Turning down to the balance sheet, the company reported approximately $91.8 million in current assets, including $38.6 million in cash; $7.3 million in short-term investments, which are comprised of fully insured and liquid bank certificates of deposits; $39.5 million in accounts receivable, and $3.9 million in inventory. Days sales outstanding for the quarter were 78 days as compared to 68 days at the end of the prior quarter. Due to the continuing growth in new customers, we have added key staff in the credit and collection function to keep up with the growth. Inventory turns were 5.3 for the quarter as compared to 4.9 at the end of the prior quarter. Current liabilities were $19.5 million as compared to $18.5 million at the end of the prior quarter, with the increase in line with the growth in the business. The company repurchased 459,000 shares in the quarter under the share repurchase program, bringing the cumulative total to approximately 2.8 million shares repurchased under the plan. Turning now to the statement of cash flow. The company reported positive cash flow from operating activities of approximately $2.9 million for the quarter as compared to positive $1.2 million for the second quarter of 2014. Positive cash flow from operating activities for the quarter was driven mainly by an increased in adjusted EBITDA, somewhat offset by increased accounts receivable. As mentioned previously, we have added additional resources to the credit and collection area in support of the continued rapid growth in direct customers. Cash used in investing activities in the quarter of $117,000 includes $1.2 million in purchases of equipment, somewhat offset by a reduction investments in certificates of deposits. Fixed asset purchases are related to our outfitting of our new building, our IT infrastructure and production-related activities, including CollaFix. We expect capital expenditure spending in the second half of the year to be at a slightly higher pace than the first half of this year, as we continue to build out our CollaFix production as well as our tissue processing activities. Cash flow from financing activities for the quarter was a negative $2.9 million, including $4.3 million for share repurchases, somewhat offset by the proceeds received from the exercise of stock options. And finally, we added a total of 60 associates in the quarter, bringing our total headcount to 484, which represent a 51% increase as compared to June 30, 2014. In addition to the previously mentioned sales force additions, we have added a number of tissue processors in the quarter in support of increased demand. Turning now to our guidance. The company has reiterated our 2015 guidance of between $180 million and $190 million in revenue. Due to accelerated investments in several growth areas, including CollaFix, we have lowered our operating margin guidance to between 12% and 14% from greater than 15%. Our guidance for the third quarter is $47 million to $50 million in revenue and an operating profit of between 13% and 14%. And finally, management will be participating in the 35th Annual Canaccord Genuity Growth Conference, on August 12, at the Intercontinental Hotel in Boston, Massachusetts. Please check back to the Investor Relations page on our website for further updates. With that, I will turn the call back over to Pete.

Thank you, Mike. We've achieved rapid success in obtaining our leadership role in advance wound care. We will maintain that leadership position. We will continue to grow our market share in wound care. We've probably only penetrated about half of the market at this point in time. Now, watch our progress in the surgical area. We expect to acquire leadership role in certain sectors where our biologics can play a role in the procedure. I'm sure that our progress will also climb, wall of worry, as we have experienced with our climb to our leadership role in wound care, just patiently watch our progress. We want to let you know that we will hold our Annual Analyst Meeting in New York on October 13, certain institutional investors and analysts will be invited to that meeting. It was certainly quite a success last year and we hope to build off that success for this year's meeting. We thank you for joining us today. We appreciate your confidence in MiMedx and our management team. And always, we'll attempt to keep you very informed on our progress. Now, we'll open the call to questions-and-answers.

[Operator Instructions] And our first question comes from the line of William Plovanic of Canaccord Genuity.

So I think the first question I have here is just, you alluded to it several times, I don't know if you will provide granularity on it. But in terms of the wound care, obviously, ASP is coming down just because of the mix on sizing. I'm curious as to what the growth of the units was year-over-year in that wound care business?

Bill, it was substantial, but we don't have it in front of us. And it looks like probably it's just going forward we'll be in that number and we'll try to give you some guidance on that going forward.

I think it's interesting, but what do you think kind of the long-term growth for wound care? How should we think about that business for the next kind of three to five years, once you really penetrate into the commercial piece that you have and you have been able to cannibalize from your competitors?

Well, let me make a comment and then Bill can give maybe some specifics. I think from our standpoint, we still have a lot of market share to garner. We also have a lot of growth to broaden the market. As Bill mentioned earlier, we're going to market, because previously the two market leaders had a $1,600 to $1,800 product and that just wasn't going to be used on smaller wounds. Now, those smaller wounds grow to be larger wounds, using conventional care. So what's happening is physicians are using advanced wound care, namely our small grafts to close wounds earlier, and that reduces the possibility of infections and reduces costs also from that standpoint. So we're going the market, also we're taking market share. And we'll continue to do that. We have the most cost effective product. And even though there is a lot of noise in the market at this stage, a lot of it is just noise and it will dissipate, evidence, Medline. If anybody had feet on the street in terms of, probably over 1,000 sales people, Medline could have gotten the job done. But we've said all we need to say about that. Bill?

And I'll just add, again, we're seeing evidence. And I think in our October meeting, Analyst Meeting, we'll get even more detail from our analytics group. But we are clearly seeing an expansion of the marketplace in terms of number of patients treated, and there needs to be, because as of right now, there is roughly 1.2 million people with just a hard-to-heal diabetic foot ulcers and venous leg ulcers, and forget about pressure ulcers and some of the other products, but 1.2 million people with somewhere in the neighborhood of 15% of them getting treatment with advanced wound care. So that leads to huge amount of growth to be had there, when you can get a cost effective product like what EpiFix is. On top of that, we're really starting to expand our efforts internationally. So I think you're going to see for the next three to five years some continued strong growth, definitely double-digits growth for the next several years, when you look at the cost effectiveness as well as the international expansion.

And then my second question and then I'll get back into queue. It's just your account receivable was up pretty significantly on a sequential basis. I think it was up double the revenues. I'd had a bunch of questions on that this morning. Any special terms, stocking, anything in there or maybe you could just or color you could provide us?

One thing, we had a strong, very strong June and when revenues come in late in the quarter, that it shows. Mike?

Yes, I think I have mentioned it on in my prepared remarks. Obviously, you're adding the number of accounts that we're adding. We have a little bit of ketchup to do in terms of just having the resources to keep on top of it. Really other than that, it's just the normal back and forth with our accounts.

And our long-term planning is really right around that mid-70 to 75 timeframe. We've been unusually strong in the last several quarters. So I think long-term that 75 days are probably where we're going to target.

And we've been as high as 88 days, 89 days in the last year or so and down as low as low 60s, but it will fluctuate depending on mix ramp up and customers, et cetera, but we don't have special bunch of special terms.

And our next question comes from Matt Hewitt of Craig-Hallum Capital Group.

I've got actually just a few questions in a couple of different areas. Maybe first with, Mike, could you give us the percentage of revenues that micronized represents today?

It's consistent with last year, Matt.

So roughly around 12% to 14% in that neighborhood?

That's correct.

And then I guess on the micronized topic, you mentioned in the press release, and that its kind of been out for a little bit, but the congressional letter to the FDA regarding their use of untitled letters, could you provide a little bit of background for those that haven't been following that closely, what does that mean? And more importantly how can that help you with your untitled letter for the micronized product?

Well, there is a lot of communications back and forth between various congressional committees and FDA on this subject. There was a letter sent May 6 of last year by four senators, specifically on untitled letters and changes in regulations through guidance documents, so very lengthy detail letter. FDA finally, gave them answer about 60 days ago, the night before they were hoard on hearing on this subject. That's still an ongoing inquiry. There has been a formal of The House Energy and Commerce Sub-Committee on investigations, filed a formal investigation on this subject about 60 days ago, that's in a public record. So there is a lot of issues associated with untitled letters and guidance documents, trying to change the regulations. And from our standpoint, we're kind of poster child for some of that. And of course, there's other companies that have issues and it's just a hot topic at this stage with not only industry, but with Congress. And generally, when something like this becomes as prevalent as it has and with so much activity going on, there are issues. So to me it's just highlights of fact that we are not standing alone any longer. That there is industry trade associations now, as well as a numerous congressional committees focused on this subject, because it is a problem. It's an industry problem. It's a problem for the American populous and healthcare system.

And then shifting gears to international, you've touched on this here briefly. Where do you stand today as far as number of people, maybe in Europe, I think that's the first area you were going to? Do you have any countries where you are already selling product or when should we anticipate that really starting to roll into the mix?

So the challenges with tissue in Europe is little different than devices, and that in devices you can get to see marking in all the European Union countries. Tissue is kind of different than that. You have to go country-by-country, because there is still not a unified regulation that everybody has adopted over there. So it depends on the country. We're actually in, and registered in the U.K, and Italy, not in EU country, but we're in Switzerland, Ireland and a number of countries. Our revenue in those countries is still pretty minor, but we're just really working with some distributors over there to drive those sales. I think in terms of having a meaningful material size of international sales, we're still looking at the back half of 2016 and 2017. Because once you get through the regulatory side, you still have to deal with the reimbursement side, and it can't be different even within the countries as well. So we've got a lot of push on it from both the regulatory side as well as our sales management side. And I think we're going to get some additional wins and additional volume this year. But in terms of large percentage of our revenue, that's going to be back half of next year. But I think we're getting some good momentum.

And then one last one from me. With the Zimmer Biomet acquisition closed now, have you seen, or have you been getting some resumes that you can use those. I would assume strong sales people with good rolodexes to augment your team and your growth as we hit the second half of the year?

Well, probably all I can say relative to the resumes and rolodexes is we have continued to receive unsolicited resumes from a lot of different folks, some in that organization and others. So I think that's going quite well. We've actually relative to the launch, that we've had a number of now training sessions. Since that deal is closed, the Biomet specialist is here now, so that they can include our products in their sales pattern as well. So it's not happened as quickly as we'd like in terms of their uptake, but now that they've closed, we've got the Biomet people trained now, we think its going to start picking up in the back half of the year. So I really don't want to speak specifically to the folks that we've hired, but between these organizations and others there are some good people that are out there and available and we've taken advantage who were appropriate.

And our next question comes from Mike Matson of Needham & Company.

This is actually Brad in for Mike. Just the first one, Pete, I'm just wondering what -- I'm just kind of trying to take your brain what you expect from the guidance update from the FDA for the homologous use.

Brad, state that question again. I didn't quite understand it.

Just wondering what you expect from the guidance update from the FDA and the homologous use?

Well, to be brutally frank, I don't know. The homologous use, what information we have is it probably this fall, late fall, they will come with that decision. And then early next year, the minimal manipulation in homologous use will all kind of come together, and they'll try to figure out how to move forward. They're going to get a lot of pressure from Congress in terms of going through the normal rule making process? And I think because of all the focus on this, from congressional members, committee heads, as well as industry, there is a good case that that might be the way they have to proceed, but we'll see. Meantime, we're running our business and trying to stay informed and help them understand industry position on this matter.

And then with regarding CollaFix, I know, Bill, you said you didn't really want to talk about it. Just wondering if I can get anymore information on the potential regulatory pathway? I mean any anticipated broad timing sense and just any spending requirements that you could provide?

On our call, you may remember last time when we talked about the first one or two products we anticipate being 510(k), and then there's definitely some that are likely to be PMAs as well. Our current plan is to launch with the 510(k) products first. And the earliest would be probably 15, 16 months from now, at the earliest. So we still are refining those schedules as we're pulling the project back together. And I think come the Analyst Meeting in October, we'll have a little bit better clarity for the first product line there and the timing associated with it. But if you look at that 15 months to 18 months range, that earliest window on the first 510(k) that's probably the best estimate we're going to able to give you right now. Relative to investment, I don't know that we've disclosed that yet, and Mike can talk about it.

I did mentioned in my prepared remarks, we had some expectation or forecasting out in our CapEx for the second half of the year. We're, I guess, in effect building a clean room at our Kennesaw facility in anticipation of getting up and running with production there. So that's included in the forecast. And again, if you look at the first half of the year, we'll be up slightly in the second half of the year in terms of CapEx and CollaFix is part of that.

And then, Mike, inventory turns were up a bit. I mean, inventory kind of dipped down. Just wondering if there's anything to point out?

Well, here again, one of the things that we're dealing with as we're ramping up here and we have different configurations that are part of this. Part of the challenge is forecasting all of that out and having the right mix. And if you wonder, if you understate certain configurations and they're not in stock, it kind of bleeds down the inventory. We would actually expect the turns to actually come down. As we learned more quarter-by-quarter in terms of the mix demand, we'd like them to come down a little bit. We'd like more safety stock and we will fix that as we go along. We'll learn more about the demand for these new configurations.

And then just last quick one from me. Just wondering, I know Medline is dropping out of the market in September, but I mean competition is obviously rising. Just wondering, if you foresee that lead-in into any pressure on pricing?

Well, if anybody could have brought pressure on pricing it was Medline. They walked around in the market with 10% and 20% discounts and more in some cases. Our product is very, very, very well respected, not only clinically, but cost-wise because of the very effective sizes we have, et cetera. And on the commercial side, the pricing is pretty well locked down. We understand what happened with the CMS pricing. So we don't think for another year, until CMS make some moves perhaps on the physician side, and I'm just using that as an example, there's no being a significant pricing changes.

And our next question comes from Bruce Jackson of Lake Street Capital Markets.

Going with the patents right now, is Medline a slow party in the patent litigation?

Yes, they are.

And then in terms of the litigation strategy here, is the idea to get a resolution on these first three cases and then move onto the other companies or might you consider expanding out further?

Well, we haven't filed all the actions that we plan to file. We're just buying our time. We have more patents issuing for each month. And we've got our strategy well-planned.

And then right now, is the litigation expense hitting the SG&A line?

Yes, it is.

Could you give us, I know patent litigation expense can be kind of lumpy sometimes. Is it like a consistent amount per quarter? And do you have a rough idea of -- can you give us a rough idea of how much it is?

This quarter it was little over $1 million.

Did you get any orders from Medtronic or Zimmer?

We did have some Medtronic and Zimmer was close. I'm not sure that we had that shipment yet. I have to go back and double check.

I believe we shipped Medtronic. I don't believe we shipped the Zimmer order in the quarter.

It was close.

Then on last question with the clinical trial that you're running for the micronized product to support your BLA, how is the enrollment proceeding and how many patients do you so far?

The enrollment is proceeding. Nothing ever happens fast enough for Pete Petit, but anyway, the enrollment is proceeding at a normal pace. We're trying to increase that. I'd just simply say, we're under 25 patients probably enrolled.

But as far as we can tell right now, we brought a number of our facilities online. And I think we are still planning on completing the enrollment by the end of this year. We're pretty close to that.

And our next question comes from Mark Landy of Northland Capital Markets.

Mike, I guess a question for you to sparkle us. In terms of the accelerator or the additional growth spending that you incurred this quarter, was that accelerated spending that perhaps would have come out of 2016 or is that new spending that you guys have decided to incur given where the business is?

Well, we're ahead of our plan in terms of adding sales individuals. And we also added a few resources focused on CollaFix that weren't in our original plan or were in our plan later rather than earlier, so its decisions we make. We've always indicated, we're going to give guidance on bottomline, that we always reserved the right to pull in expenses if we see an opportunity. We've done that now for three years, going all the way back to when the sales people became available out of shire, and we'll continue to do that. So there's some of that going on. We can't disclose all of it just for competitive reasons, not to indicate where we maybe moving in some other areas, but its all of those things, Mark.

Mark, when we have an opportunity -- let me add this. When we have an opportunity, and we've said this before, before we were on the calls, when we have an opportunity on this to hire a sales person or persons, we get a tremendous return on investment there, tremendous at this stage of our growth. And so we're selective, but at the same time, some times we just can't pass up opportunities, and so trying to give guidance on our EBITDA or operating earnings if we see opportunities and we move on.

I guess, Pete, that kind of dovetails into my next question, which was what do you think the increase or when do you think we'll see some of the increased sales or growth coming through from the accelerated or the new spending that you've incurred or is that just kind of too tough to patch up right now?

Well, with a smile on my face, substantially quarters.

And then just a last one from me, Pete. I think you probably discuss this maybe more one on one, but with Integra buying TEI and getting into the industry, certainly that's a big positive, big validation for the space that. But how do you guys see it going forward with accelerating penetrations? Certainly, there is a lot of penetration and education to just happen in this market. How does that help you, of course, with having a solid competitor such as Integra in the market?

Well, I think, good professional, well, run corporate entities entering into the market are good for the market. They had credibility, et cetera. What's troublesome is, is smaller entities who are not as professional and do things that create credibility issues. So Integra is, as I've said to our group here, Integra to us is a first real competitive entity that's a large entity that's well-run and well-organized. They're going to focus primarily in the surgical area in lower extremity. That's an area that where we have some focus. If they try to attack wound care directly, they're going to have the same I think disappointing point results that Medline did, although again, they'll have a better trained sales organization. So we respect that and conducting ourselves accordingly.

And our next question comes from Jason Wittes of Brean Capital.

One or two, it sounds like the Medtronic, Zimmer contribution was limited at this quarter at best. I think you're not sure, if one of them shipped. Should we be anticipating much for the rest of the year from those two parties, or realize that's something and someone out of your control, but I'll be curious, if you had any visibility?

Well, let me say something, then Bill can comment. Again, we have been so busy with other opportunities that we really haven't had a lot of time to stress with their upper management and little management for some of the opportunities. We've had some training sessions, but we haven't had that kind of conversations that we probably should attempt to have. But again, we'd only have certain controller over that, and they've been in case of Zimmer very busy with other things, Bill.

Yes, we've actually been working and reaching out to see what we can do to help them drive additional business. And I think we're going to continue that over this last half of the year. But in terms of what impact to our revenue, we still expect it to be very, very minor and non-material.

And I wanted to ask about surgical, sports medicine. It's obviously becoming a major focus for you, guys. My understanding is that you started dedicating sales people sort of at the beginning this year. So does that translate into, I imagine you've doubled your revenues there already this quarter. But I imagine, with the gestation period, et cetera, with the sale force, is that something that should see even more significant growth in the second half or how we should we'd be thinking about sort of the progression for surgical, sports medicine?

We do expect that to continue to grow in the second half just from, we've told some people in the past too, in that particular area we do expect it's going to take a little longer for our folks to get up to our target revenue than it does in wound care, at least our historical wound care. Historically, we've estimated around six month to get up to there, roughly 1 million dollar annual run rate, we expect in the surgical area. It's going to generally take longer, probably more like eight, nine months on average to get to those kind of run rates. We still don't have enough experience there yet to validate that assumption. Although, I think we're on track from what we're seeing so far with that, but we don't have enough experience to fully validate it. So it takes a little bit longer, but we do expect to get there. So the expectation in the back half of the year, we'll see some additional, very solid growth there. And we'll keep adding to that team as well and gain some momentum not only through the penetration of our existing people, but with the new folks that we bring on board.

Did you disclose what the breakout was between sports and wound care with your direct sales force?

On the direct side, we did not break it out that way, because everything includes our sales agents, distributors and direct on the surgical, sports medicine side.

From the total prospective what is the rough percent breakdown?

If you're just going back to, call it, our SSO revenue for the quarter, as a percentage of total, the wound care is 78% and the SSO is 22%.

One last question. You mentioned that you're sort of back to an 80-20 mix in wound care on small versus large grafts. It sounds like you think that's kind of like the normalized number to think about that's not going to move much. That fits in with the way things work, with pre-reimbursement changes. And it sounds like you feel that sort of the way the market will remain or is that something that's also likely to change?

No, that's our feeling as we were back to where we were basically last year and the year before in terms of the mix. Obviously, first quarter was a little bit up, because we didn't have our mesh fully up to speed on at that time. But if you look at the statistics, there was an article probably two years ago or so out of Healogics that indicated that if you look at the size of the wound, particularly diabetic foot ulcers and venous leg ulcers, roughly 75% to 80%, just off the top of my head are 5 square centimeters or less. So we're right in line with the published data on wound side, is an area that we're in, give or take a couple of percent. So we feel that this is likely to be a long-term mix for us from large sizes, the small sizes based on that data.

And our next question comes from Joe Munda of First Analysis.

First off, last quarter you guys talked a little bit more in depth about EPIBURN. I didn't see a mention of it in the release or in the prepared remarks. Any clarity there as far as EPIBURN and a percentage of surgical sports revenues and just the underlying growth that you're seeing in that segment would be great?

On EPIBURN, as you know, last quarter we talked about the launch of that. We're still early in the development of that market. So we expect that's going to be a little bit lumpy in the developmental market going forward. So we did not have a large growth in that in the second quarter. But we do expect the back half of the year we'll start growing nicely in that area. But again, we're early on, we're not really in all the -- we're just in a smaller number of the burn centers across the country. We have a lot of room for growth there.

As far as revenues were concerned, any shot at giving us what the percentage was of the total of the segment?

We haven't disclosed that yet. I expect that down the road if that grows and becomes a more meaningful part of our business, we'll get into that.

And then some of the key points here. You guys talked about, obviously about international sales expansion and I appreciate the color of the markets that you're registered in. Can you give us some sense of the size of the European market as well as the plans to attack that market? I mean, is it going to continue to be a distribution model or is it going to replicate what you've done here in the U.S. as far as putting feet on the street.

Well, in term of the sales force side, and I think we're initially are looking at distribution partners, but the way we're setting things up is to make sure that we are in control of the registration. That way, if at some point in time we either need to change partners or if we want to go direct in those markets, we can. I think at the movement, it's very similar to what we did early on here as we went through distributors and sales agents early on and then converted to a direct sales force when we got the right momentum. I expect that would be similar internationally. So we're setting ourselves up, so we can make similar translation to the right points in time. Now, in terms of the market size, I don't have that information in front of me. I would say, generally speaking, the ASP in those international countries are less than the U.S. Certainly, there is still a huge amount of chronic wounds in those countries. Some of the countries use types of advanced wound care, but the use of, what we call in the U.S., advanced wound care products is not as prevalent in some of those countries. So there is going to be a little bit of a shift in the way that they treat them. A lot of the countries use autograft, so they take a piece of skin from a different area of the body and utilize it. But again, I think we're going to have a very good shot with our cost of goods and our cost to closure being able to really penetrate those markets over the coming years, because we've got a solution that's so cost effective compared to what there used to, and can limit and reduce the amount of amputations and other complications. So in terms of market size, I think you're just going to have to look at Europe as probably from a dollar prospective, smaller than the United States from a dollar prospective. But from a unit prospective, it's probably more or so I would expect, just based on the population.

As far as the surgical side of the business, I know, Pete, you're very bullish on what lies ahead for the company. I mean, can you give us some clarity, do you think it's going to be volume growth, do you think it's going to be the fact that you're building out a dedicated sales force and you're touching more accounts or is there a possible reimbursement down the line that you think could actually help accelerate adoption of the product?

Well, in the surgical area it's a little bit different market and different approach in a number of ways. We've got some innovative technology that positions, see some real advantages too, and bring in faster closure to surgical procedure less complications, less pain, et cetera, et cetera. So it's going to be used and works it's way through, generally speaking, the DRG process. So we have to keep our products price, so that they can affectively be used and priced into procedure. So it's a different market than advanced wound care. We have to select our niches carefully. We've got a publication already in the urology area. So it will be a niche-by-niche approach with higher-end of people who have experience in those particular areas. So we're going to be picking up accounts, because we hire the right people, and that's where the growth will come from initially. And then, as we get wider usage and more publications out, then the physicians will broaden the usage of the products.

Just two more here. Mike, your comments on hiring additional head people to in the credit collection area. Taking into account the sales guidance on the topline, are we expecting that we're at the peak of DSOs here and we're going to see them come down in the back half to a more normalized level going forward?

Yes, Joe, that's certainly our plan. As Bill mentioned, and I don't like to bring this out, in case any customer is listening, we target around 75 days. We were doing better than that. And it's not that we offer extended terms, we don't. And we haven't changed our terms, whether that be distributor or otherwise. Part of what happens, as you're growing and you're adding, let's say, new commercial accounts and new reimbursements, typically there is a slower process upfront in terms of getting the claims paid to the hospital or the clinic or the doctor's office. And then overtime, it becomes more normalized and even though our terms say, we don't care, if you don't get reimbursed, you still owe it to us, practically speaking, the payments are a reflection of how quickly they get reimbursed. And that's a big part of what's happening.

And then my final question, I mean as far as the guidance itself is concerned on the op margin side, I know you guys sited investments and accelerated growth now. But I mean how much of that revision can be related to, let's say, you have R&D, the hiring that you're doing on SG&A side and the litigation. I mean any clarity there as far as what's driving that op guidance down -- I'm sorry, the operating margin guidance down, would be really appreciated?

Well, generally in the past, we've given the following comment. We pay a lot of respect to EBITDA and operating margin. That's just embedded in our culture. But when we have opportunities particularly with very talented and experienced sales people, and we find niches where we're going to make a commitment and make it quickly, we're going to take those, because the return on investment is huge. We're not talking about percentage, we're talking about Xs. So we'll make those commitments. We budget here very, very precisely and we know what our business is doing. But we make these commitments and have opportunities that flash in front of us, we will take them. So that's what you see in here. And of course, the legal expenses related to patents and other things, right now they're higher, they should be coming down, but those are just part of the flow that we generally have knowledge of. It's these opportunities that flash in front of us, and we'll take advantages of them, because of the huge ROI.

And our next question comes from William Plovanic of Canaccord Genuity.

Just on that operating margin question. Pete, is there any reason to think that, as we look at 2016 and 2017 for that kind of longer-term guidance that you had provided that there would be any change to that in getting to that 25% operating margin guidance in a couple of years?

Bill, we don't see any major deterrents to that. Again, these are a little quarter-to-quarter perturbations that you see are going to be driven by these specific opportunities. But long-term, a company with the kind of operating leverage we have, I said it many times, should be producing those kind of operating profits and these large EBITDA.

Bill, maybe I can add to that as well. You consider the somewhat dramatic change that occurred with the expiration of pass-through and trying to kind of forecast out what the impact was going to be in terms of the different configurations. As we learn more, we'll adjust our spending in certain areas to get to where we think the investors want us to be.

Well, the investors want you to be, what you guide to. So just making sure there is no changer there. And then just on kind of a nuance, I know Mike that you had shifted some revenue out of wound and into SSO. I think that was the burn and that started in Q1 and kind of flows into Q2. I don't know if there are any other products that were with that. But I was just wondering, what was the magnitude to that in the year-ago quarter? Because I think what's happening also we might be underreporting the wound care and over-reporting the SSO line. And I'm just trying to kind of understand what the real comp is?

There's some impacts year-over-year, but honestly it's not material, where burn was reported last year. Again, burn became more of a focus for us, I think late third quarter more into the fourth quarter, so comparing year-over-year to date would not be material.

And then my last nuance question is just on taxes. You have been profitable for a while typically when we get to this situation and you print money for four quarters and then a full year, you're going to move at least on the P&L to a fully tax reporting company. I think I have 40% of my model as I look at '16 and '17. But what do you think that you'll be reporting on a GAAP P&L basis, as we look at '16 and '17? Understanding you're going to have tax loss carry forwards in your cash, it will be much different?

I'd say 35% to 40%. What you have in your model is I think fine, Bill.

Thank you. And I'm showing no further questions at this time. I'd like to turn the conference back over to Mr. Pete for closing remarks. End of Q&A

Well, thank you. Well, I think we've had a very informative call and a lot of really excellent questions. We will keep you intermittently informed. As we have always said, if we have good news, it's going to come, and if we have bad news, we'll get it out to you ahead of time. Thanks so much. Look forward to keeping you well-informed and giving you good results, and doing what we tell you we're going to do. Thanks.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program. And you may all disconnect. Have a great day everyone.