Welcome to Natera’s 2023 Second Quarter Financial Results Conference Call. At this time all participants are in a listen-only mode. [Operator Instructions] As a reminder, this conference call is being recorded today, August 3, 2023. I would now like to turn the conference call over to Michael Brophy, Chief Financial Officer. Please go ahead.

Thanks, operator. Good afternoon. Thank you for joining our conference call to discuss the results of our second quarter of 2023. On the line, I’m joined by Steve Chapman, our CEO; Solomon Moshkevich, General Manager of Oncology; and Alex Aleshin, Chief Medical Officer. Today’s conference call is being broadcast live via webcast. We will be referring to the slide presentation that has been posted to investor.natera.com. A replay of the call will also be posted to our IR site as soon as it’s available. Starting on Slide 2. During the course of this conference call, we will make forward-looking statements regarding future events and our anticipated future performance, such as our operational and financial outlook and projections. Our assumptions for that outlook, market size, partnerships, clinical studies, opportunities and strategies and expectations for various current and future products, including product capabilities, expected release dates, reimbursement coverage and related effects on our financial and operating results. We caution you that such statements reflect our best judgment based on factors currently known to us and that actual events or results could differ materially. Please refer to the documents we file from time to time with the SEC, including our most recent Form 10-K or 10-Q and the Form 8-K filed with today’s press release. Those documents identify important risks and other factors that may cause our actual results to differ materially from those contained in or suggested by the forward-looking statements. Forward-looking statements made during the call are being made as of today, August 3, 2023. If this call is replayed or reviewed later after today, the information presented during the call may not contain current or accurate information. Natera disclaims any obligation to update or revise any forward-looking statements. We will provide guidance on today’s call, but will not provide any further guidance or updates on our performance during the quarter unless we do so in a public forum. We’ll quote a number of numerical growth changes as we discuss our financial performance. And unless otherwise noted, each such reference represents a year-on-year comparison. And now I’d like to turn the call over to Steve. Steve?

Great. Thanks, Mike. As you can see, we had another very strong quarter. Volumes were up more than 23% versus Q2 of last year, with all products delivering strong growth. Revenues grew even faster, up 32% versus last year and 8% sequentially. We paired that revenue growth with continued COGS improvements to achieve a gross margin just above 45% compared to 39% in Q1. This, combined with stable operating expenses, led us to deliver another significant reduction in our quarterly cash burn. We were pleased to be significantly increasing the revenue guide this quarter to a midpoint of $1.025 billion, and we remain on track for our OpEx and cash burn reduction targets in the guide. We believe we are on track to hit all the financial goals we set for this year and beyond. We also continue to strengthen our leadership in data generation. In June, we attended the American Transplant Congress and unveiled key data from the ProActive trial, showing the value of our Prospera test in kidney transplant rejection. ProActive is proving to be a pivotal trial, and I’ll share some of those findings here shortly. In women’s health, we published the fourth paper from the SMART trial in the Journal Genetics in Medicine. This study was the largest prospective clinical validation of screening for sex chromosomal aneuploidies with NIPT. We were pleased to earn additional peer-reviewed recognition for SMART, further demonstrating the strength of our data and the clinical value of our Panorama test. In oncology, we crossed a key milestone in the quarter with the publication of more than 50 peer-reviewed papers. We also had a substantial presence at ASCO including readouts on key Signatera data in collaboration with some of the most well-respected healthcare institutions in the country. We shared excellent performance in the…

Thanks, Steve. The oncology team had a great quarter with strong growth in test volumes and ASP improvements in our turnaround times, the publication of several new peer-reviewed papers and strong showing at ASCO with over a dozen posters of presentations. We were highly energized by the feedback at ASCO, particularly from clinicians who believe that now is the time to be implementing MRD assessment into routine clinical practice. This was a sentiment we heard a number of times during the conference, and we are seeing it reflected now in the volume growth as well. Let’s take a deeper look now at two key studies from ASCO. The first one I’ll cover is the EMPOWER-Lung 1 trial. This was a Phase 3 registrational trial sponsored by Regeneron, which helped to support FDA approval in 2021 of their immunotherapy agent cemiplimab for first-line treatment of advanced non-small cell lung cancer. Using banked samples from that trial, Natera measured ctDNA at three different time points, pre-treatment, week three of treatment, and week nine of treatment. The analysis validated the predictive nature of ctDNA dynamics in lung cancer patients receiving immunotherapy. Specifically, patients with an early increase in ctDNA had the highest risk of death and patients who achieved ctDNA clearance or a deep production of at least 90% had significantly improved outcomes. This study was well received as it was a focused assessment of IO monitoring, specifically in advanced lung cancer, and one of the largest data sets of its kind with 175 patients. With Medicare coverage already in place for IO monitoring across solid tumors including in lung cancer, we believe this data can help support broader adoption and perhaps broader reimbursement. As a reminder, non-small cell lung cancer is the largest patient population where immunotherapy is currently utilized with we…

Thanks, Solomon. Okay, the next slide is just the standard results slide. These covered the volume and revenue trends and how we're seeing strong momentum in each. Revenues were up significantly with the majority of the outperformance driven by growth in Signatera clinical and also pharma. We also saw women's health revenues come in ahead of expectations, and that benefited in the quarter from a surge in carrier screening volumes we received late in Q1 and resulted out early in Q2, so we had those units in our Q1 test process number, but they were accrued as revenues in cause [ph] when we read the results out to patients results early in Q2, I'd estimate that to be about a $4 million revenue benefit in the quarter. Steve noted the excellent gross margin performance, and while we did have some one-time benefits in the quarter, we also saw substantial organic margin growth driven by COGS improvements, vendor renegotiations, continued Signatera ASP traction that we think can be sustainable and a shift in the Signatera mix to more recurrent monitoring units. It's also worth recalling that we've intentionally penalized gross margins this year to pursue three core volume-based initiatives that Steve described earlier. We've benefited from volume mix shifting back to Panorama in California, but the other initiatives are not fully realized yet, so getting into the mid 40s gross margin at this early stage, I think is a very encouraging sign. Total OpEx was down slightly in the quarter compared to Q1, and the balance sheet remains very strong as we can see on the slide. All those trends contributed to another significant reduction in our quarterly cash burn, as you can see on the next slide. As Steve mentioned, we believe we are on track to reduce our annual…

[Operator Instructions] Your first question comes from Tejas Savant from Morgan Stanley. Please go ahead.

Hey guys, good evening, and thanks for the time here. Steve, I want to start with the, the reproductive health business and gross margins. You talked about, California volume largely having migrated over to Panorama now and also the exit of certain accounts where there wasn't enough margin upside. So, in light of that dynamic, why wouldn't sort of 45% sort of be the floor for gross margins for the rest of the year? And does that sort of number contemplate the impact of bringing in exome sequencing in-house for Signatera as well?

Yes, so I guess first I'll say, we did benefit, from both of those, on a certain basis. But, I think as Mike mentioned in the gross margin, there were some onetime events, that I think accounted for, something like 250 basis points, that I think hit us in Q2, but won't necessarily be there in Q3. So we do expect, margin improvement as the years go on. But I think, Mike, you might be better to kind of get into the details on this. Mike?

Yes, so in addition to the California initiative pages, there was there's two other big initiatives, right? One is, the growth in extended care screening volume that we described in the past couple quarters, and that that's been really, we've had a had a big step up in volumes there and then also the strategy to continue to grow Signatera, and while the gross margin there is currently improving, it's still, still dilutive to the kind of the corporate gross margin. So those two tend to have, what we think is a, as a temporary drag on gross margins. Now, we did some cost cutting beginning of the year to kind of make you net neutral on the EBIT line for that. But those are still kind of temporary drags on gross margin, but both, I think are pretty bullish signs for the future. So that's, one out of three so far and we're making good progress on the other two obviously.

Got it. That's helpful. And a quick follow up on Signatera, I think Steve; you talked about sort over 30% of U.S. oncologists ordering Signatera, now. Can you share what proportion of those accounts are still exclusively using Signatera for MRD and where, physicians are sort of dabbling across other providers as well? I mean is there evidence for sort of that sustainable first mover advantage is essentially sort of staying intact for you particularly, as other sort of competitors make a concerted push and does that some of the litigation that you guys mentioned here potentially delay sort of competitor entry into that market?

Yes, that's a great question. So we've seen continued growth in the number of accounts that are using us and particularly in the accounts that are using Natera in a sort of sustainable way. Our account retention rates have been very high, and I think that has to do with sort of the stickiness of the product. I mean once you do whole exome sequencing and set up a patient for MRD, it's not going to make sense to go back and sort of redo the exome sequencing on that patient and set them up again for MRD testing. So I think we really haven't seen any of the tumor-informed MRD companies out in the marketplace, if they have, it's been on like an extremely limited basis. I think, of course, Guardant and the Reveal products are out there, we see them from time to time. We do know there are some accounts that sort of use both products, but there's always going to be competition. And I think this is a very large market. And we think particularly in this setting, because of the stickiness dynamic that I described and because of the extensive leads that we have in peer-reviewed publications and coverage and just setting up our infrastructure, that the first-mover advantage is going to be incredibly important here. From the IP standpoint, as we've said before, we have a very strong portfolio of intellectual property related to cell-free DNA particularly in the field of oncology. And you're seeing, I think, the first of those wins now with the suit that we described – the win that we described. And I think there's other ongoing suits. If someone's infringing on our IP, we intend to defend ourselves.

Very helpful. Thanks guys. Appreciate the time.

Next question from Catherine Schulte from Baird. Please go ahead.

Hi guys. Thanks for the questions. I guess first, just blended ASP took a pretty big jump up in the quarter, even if I back out the $4 million benefit that Mike called out. I know Steve already talked about Signatera ASPs. But could you just talk to the ASP trends within your women's health business in the quarter?

Yes. First, I'll make a couple of comments, and then maybe, Mike, you can kind of get into the details. And so I think there's opportunities that we've talked about before on improving ASP that come from just sort of turning the crank on some of the billing operations things and improving our processes and protocols. And obviously, we're working on those. In addition, we're also seeing, I think, the kind of first beginnings of some good coverage for expanded carrier screening. I think that's still very early and there's still a lot of opportunity there to improve the ASP, but certainly, there's some upside. Mike, do you want to talk about any of the specifics?

Yes, sure. I mean, I think in addition to the drivers that you mentioned, the Signatera ASPs were up again [indiscernible] up again in the quarter. And we had a modestly stronger kind of pharma contribution this quarter, which if you're kind of measuring this on a total revenue basis. We tend to amplify ASPs. I think in terms of like on a per unit kind of revenue divided by test reported basis, I do feel like the step-ups we've seen here look sustainable to us. These are fairly organic moves other than the one kind of timing benefit we got on carrier screening. We feel really good about kind of the organic drivers for Signatera clinical ASP, for example. So really pleased with the results.

Okay. Great. And then the FDA is expected to put out a proposed rule on LDT regulation this month. Have you guys had any conversation with the FDA around that potential and any other thoughts you have there?

Yes. I mean the way that we've kind of set this up is we've tried to thoroughly validate all of our tests and deliver very high-quality peer-reviewed publications. And in the event that there is some change from a regulatory standpoint, we think we're very well positioned there. We're obviously in touch with various agencies and governing bodies and doing, I think, what we can to try to stay informed on what's happening to make sure that we're prepared. But the key is you have to have very thoroughly validated products an extensive peer-reviewed publications, and we have that. And that puts us in a great position should the guidelines change in anyway.

All right. Great. Thank you.

Next question from Rachel Vatnsdal from JPMorgan. Please go ahead Rachel.

Great. Thank you. So first up on women’s health, you mentioned that ACOG had prenatal meeting scheduled for June and September, I believe expanded carrier screening and microdeletions were on the agenda for that June meeting. So can you tell us if you have any information regarding how that meeting went? And then when – how quickly could we see ACOG endorse 22q, could it come right after the September meeting or just updated time line expectations there?

Yes, that’s a good question. I mean, look, we really don’t get any information with respect to kind of what happens in these various meetings or even details, all the topics and things. So, I think, we just kind of take a step back and look at kind of the trends that are happening from a bigger picture. What are the topics that ACOG might be interested in? And I think, certainly 22q given the SMART study and expanded carrier screening given that significant portion of the community is now doing expanded carrier screening or topics that I think would be of interest. What we focus on is publishing data like we did in the SMART study, largest prospective trial that’s ever been done in NIPT, excellent performance specs for 22q, both on disease incidence, sensitivity, specificity, positive predictive value. And we think it meets all of the criteria that one would need to issue coverage. But again, we don’t really know exactly what’s happening. We just see that the meetings are occurring and hoping that they’re discussing. If they do put out a guideline, I would imagine that we would find out more information kind of late fall on the status and what the funnel timing is going to be.

Great. And then a follow-up here, just shifting over to oncology. Can you give us an update on your latest conversations with private payers? I understand you have Blue Cross Blue Shield of California on that pan-cancer assay, which is a positive. But how are those conversations evolving, especially ahead of some potential updates from the NCCN guidelines? And then also, I know that American Cancer Society is still trying to push in a lot that commercial payers should offer the same Medicare testing. So can you just walk us through your latest expectations there? Really, what could that mean for the Signatera business? Thank you.

Yes. So American cancer study has really been leading the charge in a very bipartisan way on their biomarker bill. And from what we understand, it’s going well. I think they now have 10-plus states that have adopted it into law. I think from our side, it’s still early. Once the bill goes into place, then you have to see if they’re going to pay and kind of what the hoops are that you have to jump over. But it’s certainly creating discussions with payers, and I wouldn’t be surprised to see some additional commercial coverage come in from other regional plans, maybe national plans in the near future.

Next question comes from Puneet Souda from Leerink Partners. Puneet, please go ahead.

Hey guys, thanks for taking the questions. This one is more broadly for oncology. I mean you had CRC first and then the adjuvant settings and then you had IO indication also now you have breast. Maybe can you talk about the sort of the trajectory for indications? And when do you think we can get a pan-cancer indication here? As you know, that happened in CGP as well. It took some time. You obviously have been leading this market for some time. And so I just want to get a sense of when do you think you can – we can reach that? And if there are Solomon and Alex on the line, would love their thoughts, too.

Yes. Solomon, why don’t you take that one?

Happy to. Hey, Puneet. So yes, we’ve – obviously, we’ve enjoyed some good success with Medicare thus far. And we have multiple additional submissions that are planned for this year, one under review right now. I think you can look at the data that we’ve generated and see where the validity is shaping up to support coverage decisions. We’ve discussed before. We think we have strong data in gastro and esophageal cancers in melanoma and looking forward to generating and publishing that data in pancreatic and lung and recently a paper in Merkel cell carcinoma. So I think there’s a very nice pipeline shaping up. Keep in mind that I think that’s – each one of those is going to add a smaller and smaller percentage of the patient population that we test as well. So the coverages we’ve gotten thus far have been super important, especially with breast cancer coming in uniquely across all subtypes. To your question about pan-cancer coverage, at this point, we are really planning for generating the relevant data indication by indication. And if we see an opportunity to make that inflection we’re definitely going to do that. But we know how the NCCN guidelines committees operate as well. They’re also structured and organized by indication. And so we think the smart thing to do is just continue generating great evidence.

Got it. That’s super. And then maybe for Mike, or Steve, as you look at the carrier testing business, obviously, you had one of the competitors that exited and you have benefited from the volume. I just wanted to get a sense of sort of majority of the volume migrated at this point? Or do you expect to continue to see benefit there in the rest half of the year? Thanks.

Yes, I think – sorry, Mike, go ahead. Yes, I was just going to tell on the volume standpoint, I think that the volume kind of shifted over in sort of late Q4 and Q1. But go ahead, Mike, if you want to comment further.

Yes. No, that’s exactly what I was going to say. I think you had kind of a bolus kind of shift over Q4, Q1. I think you do have some – you got some seasonality here in Q2. And I expect to see some – just continued growth in that business in Q3 and beyond, particularly in Q4 as per our normal pattern.

Great. And then do you expect any ASP improvements there too on ECS side?

Mike, do you want to take that?

Yes, sure. So just on the carrier ASPs, I mean, the guide actually implies kind of a modest erosion and the carrier screening ASP is consistent with what we talked about on the prior people in the Q4 and the Q1 call, and that’s really just out of kind of conservatism from our perspective and just, I think, a prudent way for us to plan the business. I think what we’re looking for there to get sustainably higher ASPs than the care screening business is to get that guideline that Steve was referencing earlier, until then, we’re kind of in a holding matter and hoping to see that improve over the next few quarters.

Got it. All right. Thanks guys.

Next, Matthew Sykes from Goldman Sachs. Please go ahead.

Hey guys, this is Prashant [ph] on for Matt. Congrats on the quarter and thanks for the question. Given the Dobbs versus Jackson Supreme Court ruling enacted in Mississippi in June of last year, how do you see that impacting your women’s health segment test volumes, if at all?

Yes. I mean there’s been various Supreme Court rulings that have come out. And I think we haven’t seen any impacts in the areas where those have come out. I appreciate the question.

Okay. Got it. Thanks. And then what is the current mix shift of private practices and hospital systems using NIPT versus maternal serum screening? And how do you see this evolving over the next six months to 12 months?

Yes. We think NIPT is around 50% penetrated now overall. So obviously, there’s still a lot of room for growth there. There’s a certain portion of patients that never get screening. And so they’re not going to be eligible. So you’re never going to get to 100% penetration. But we’ve said over the next two years to three years that this can get up to kind of 80%, 85% penetration, something in that range. And we do think there’s continued shift away from maternal serum screening toward NIPT.

Got it. Thanks a lot.

Next question is from Dan Brennan from TD Cowen. Please go ahead Dan.

Great. Thank you. Maybe just one on the guidance. I think on gross margin, Steve, I think you mentioned kind of middle of the range is kind of fair for the second half. So should that be the base case in terms of gross margins and maybe if you can walk through the puts and takes around that? And then just on revenues, really strong quarter, and it looks like you raised the midpoint by about $20 million, just – which is about the level of the beat versus consensus. So is that kind of conservatism? And maybe how should we think about Signatera and women’s health kind of in the back half of the year?

Yes. Mike, why don’t you talk a little about the margin consensus and sort of revenue guide. And then I’ll make a couple of comments on just COGS and ASP overall that I think can help improve the margin, but go ahead.

Yes, I mean, I think, our approach to guidance remains the same as it’s been the last eight years, which is we try and both guide and forecast the business with what we hope becomes a measure of conservatism. So I think what there’s certainly upside to the guide that we put out here, and we’ve talked about some of the potential drivers of the upside on the call, and Steve can list a few more when he gives some details. But that’s kind of standard playbook for us on the revenue guide. I think this year that also really applies to the gross margin guide. Gross margins of this business as you guys know, those of you who have followed those story for a long time know that gross margins can bounce around paramount quarter-to-quarter. And you’re certainly seeing that here in the first half. But I do feel like the range we’ve given now is a safe range for us to get through when measured on a full year. I’d expect that to be kind of as you exit this year and going into next, I feel like several of these drivers are going to continue to push that gross margin up. So I’ll pause there. Steve, did you want to add some more color or detail?

Yes, I just wanted to kind of jump off on some of the longer-term opportunities as well. I mean, look, we said 45% gross margin this quarter with a couple of those percentage points from one-time events. So kind of net at around 43% sustainable. Now, there’s a lot of opportunities to increase that as we go forward. I mean, there’s significant COGS reduction projects that we’re working on right now. So moving to higher throughput sequencing instruments, we’re at the tail end of finishing some of those projects. We’ve identified three – potentially four logistics based COGS improvement projects that we can, we think we can save $10 million plus maybe $20 million on the COGS line as we move to implement those. And then there’s still room to run to bring additional tissue sequencing in-house and negotiate certain aspects of the business with suppliers at a deeper level. And then lastly on Signatera, as more and more and more volume moves to the recurrence monitoring setting, which is the shift that we see occurring as the business gets bigger, of course, more people are staying on the test and they’re moving, shifting to gross margin, the COGS go down, so that improves the gross margin. And then on the other side of things, you’ve got ASP improvement opportunities. And so we have just turning the crank on billing operations and just getting better. And I think that is going to help in the future, and we haven’t really seen the impact to that yet. But there’s been a lot of work that’s done there. And then we have getting paid for a higher percentage of the tests that we perform, of course, in Signatera every time we get one of these commercial policies, every time we get a new Medicare policy that helps with expanded carrier screening as payers come on and start paying or as guidelines come out that helps. There’s things like 22q if that does come into guidelines that could make a significant impact. So the range that we’re in right now while we’re seeing improvements and we – it’s sustainable, we’ll see continued improvements. There’s a lot that we can do that we are doing over time that are going to put us in really very strong position in the future.

Great. Thank you for that. I know NCCN is not included in your guidance, obviously, and you’ve talked about being an upside driver, but just kind of remind us in terms of like, timing and when we’d hear on this and kind of how you guys are feeling about it right now? Thank you.

Yes. I’ll make a couple comments and then maybe Solomon. So I think this is really the first year that we have a shot at NCCN guidelines because I think we were very kind of clear leading in last year that, hey, if the Galaxy paper’s not published, it’s not going to be considered. And in fact, it wasn’t considered in the vote. So this is really the first year with Galaxy being published that we have a chance to be considered in the vote. There’s different levels of guideline and kind of what we’ve said is, we think we can be potentially included as a footnote which would be where they list out the major prognostic factors for colorectal cancer. And so I think getting in there as a footnote where Signatera is listed that would be a win. And then, maybe down the road being listed in the official algorithm recommendation table. Now, they’ve also kind of highlighted a couple things where they said, hey, these are areas where we’d like to see the additional data. One was randomized trials, and Solomon just described the ALTAIR study. I mean, it’s incredible that we have completed enrollment on a large scale prospective randomized study looking at extended adjuvant treatment and escalation for MRD positive patients and treatment on molecular recurrence for patients that start off negative and become positive on surveillance. So the fact that the randomized trial is done enrolling is an enormous step forward, and we plan on reading that data out next summer. The other area where they said, they wanted to see data was on the clinical value of surveillance. And the great news is the INTERCEPT study, which we weren’t even involved in, we just ran the testing for MD Anderson showed two very significant paths for clinical utility for patients that are positive with surveillance. So we think both of those are very good signs. And then, it’s also you have to think beyond CRC as well. I think, there’s other products and other indications where we have good data and course we’re kind of looking at opportunities there as well.

Next question comes from David Westenberg from Piper Sandler. Please go ahead, David.

Hi. I got two questions. I’ll just ask them both up front. In terms of your progress in carrier, has it been renegotiation of expanded carrier or has it been a little bit more conversion of carrier to maybe the more basic panel? And then just on my – actually I’ll pause and I’ll ask the second one.

Yes. So I would say, initially what happened when one of our competitors, I think closed up shop we saw big influx of very low margin business coming in. And we kind of swallowed that in Q4 and then in Q1. And what’s happened since then is that we – there’s been a – there’s been some payers that have revised their policies and started paying in addition to I think us improving the sort of operations and appeals with some of the other payers that maybe already had a policy in place or that would consider paying on a case-by-case basis. So we have seen, I think we’re at the very early stages of kind of turning the ship here and obviously getting a new guideline in place from ACOG I think is going to help. The existing policy from ACOG is helpful and that’s why we have seen payers change guidelines. But if something more definitive came out, obviously that would kind of be the tipping point. There are some customers as well where we’ve kind of said, hey, look, certain payers may not cover this test, and then we kind of reeducate them on what might be covered. And in some cases they make a decision that they want to order a smaller panel.

Got it. Very appreciated. One last question here. I didn’t see where you recognize the 19 million legal payment in the quarter. So I was just wondering if is that going to show up when you publish cash flow statement where it shows up? And congrats on a great quarter. Thank you.

Yes, it’s not going to show up yet. It’s not a cash payment. It’s a judgment. And so there’s a few more steps to go there as Steve described. So right now it’s a judgment, but it’s not something that is accrued for in the financial statements.

Ladies and gentlemen, that concludes today’s call. Thank you all for joining and you may now disconnect.