Welcome, ladies and gentlemen, to the Second Quarter of Fiscal Year 2023 Earnings Conference Call for Tactile Medical. [Operator Instructions] Please note that this conference call is being recorded and will be available on the company's website for replay shortly. Before we begin, I would like to remind everyone that our remarks and responses to your questions today may contain forward-looking statements that are based on the current expectations of management and involve inherent risks and uncertainties which could cause actual results to differ materially from those indicated, including those identified in the Risk Factors section of our annual report on Form 10-K as well as our most recent 10-Q filing to be filed with the Securities and Exchange Commission. Such factors may be updated from time to time in our filings with the SEC which are available on our website. We undertake no obligation to publicly update or revise our forward-looking statements as a result of new information, future events or otherwise. This call will also include references to certain financial measures that are not calculated in accordance with generally accepted accounting principles, or GAAP. We generally refer to these as non-GAAP financial measures. Reconciliations of those non-GAAP financial measures to the most comparable measures calculated and presented in accordance with GAAP are available in the earnings press release on the Investor Relations portion of our website. I would now like to turn the call over to Mr. Dan Reuvers, Tactile Medical's President and Chief Executive Officer. Please go ahead, sir.

Thanks, operator and welcome, everyone, to our second quarter earnings call. I'm joined on today's call by Elaine Birkemeyer, our Chief Financial Officer. Let me provide a quick agenda for the call. I'll start with a high-level overview of our financial results, along with the discussion of the key drivers of our sales performance in the second quarter. Then I'll share the progress we've made in recent months from an operational standpoint with a focus on some of our most notable accomplishments. Elaine will review our second quarter financial results in greater detail as well as our latest 2023 financial guidance which we increased in today's press release. And finally, I'll provide some concluding thoughts on our outlook and key areas of focus for the remainder of the year before we open the call for questions. Now let's begin with a review of our financial performance. I'm really pleased with our team's ability to deliver another quarter of performance that exceeded expectations, including double-digit revenue growth, operating leverage that led to improved profitability, strong cash flow generation and enhancements to our balance sheet. In the second quarter, we achieved total revenue growth of 15% year-over-year to $68.3 million. Our total revenue performance exceeded our expectations driven by stronger-than-anticipated contributions from our lymphedema product. Looking at our performance by product line, Lymphedema revenues increased 16% year-over-year to $60 million, while our Airway Clearance revenues increased 4% year-over-year to $8.3 million. We complemented our sales performance with strong year-over-year improvements in our operating results during the second quarter, including a $6.1 million improvement in our GAAP operating income, year-over-year reductions in our GAAP and non-GAAP net loss of $4.5 million and $4 million, respectively and a $4.4 million improvement in our adjusted EBITDA. This strong financial performance across the board enabled us…

Thanks, Dan. Turning to review our financial results. Unless noted otherwise, all references to second quarter financial results are on a GAAP and year-over-year basis. Total revenue in the second quarter increased $8.7 million or 14.6% to $68.3 million. By product line, sales and rentals of lymphedema products which includes our Flexitouch and Entre systems, increased $8.4 million or 16.2% to $60 million and sales of our airway clearance products which includes our AffloVest system, increased $329,000 or 4.1% to $8.3 million. Continuing down the P&L. Gross margin was 70.7% of revenue compared to 72.5%. Non-GAAP gross margin which excludes noncash intangible amortization in both periods, was 71.1% compared to 73%. GAAP and non-GAAP gross margins in the second quarter of 2023 were impacted by higher labor rates and material costs as well as higher costs related to new product launches and changes in our mix related to strong growth in sales of our Entre Plus system. Second quarter operating expenses decreased $1.1 million or 2.3% to $46.2 million. The decrease in GAAP operating expenses was driven primarily by a $600,000 decrease in sales and marketing expenses and a $500,000 decrease in noncash intangible asset amortization and earnout expense. Operating income was $2.1 million compared to an operating loss of $4.1 million. The $6.1 million improvement in our operating income was driven by a $5.1 million or 12% increase in our gross profit as well as the aforementioned $1.1 million or 2% decrease in our operating expenses. Non-GAAP operating income was $3.6 million compared to an operating loss of $1.8 million. As a reminder, our non-GAAP operating income excludes noncash intangible amortization and earnout expenses as well as certain nonrecurring operating expenses in the prior year period. We've provided a detailed GAAP to non-GAAP reconciliation in our earnings press release.…

Thanks, Elaine. With another quarter of strong financial and operational performance under our belt as well as a recently enhanced balance sheet, we believe we're incrementally better positioned to pursue our growth and value creation objectives going forward. In the second half of this year, we remain committed to delivering further execution with respect to our 4 strategic priorities which as a reminder, are as follows: improving the productivity of our lymphedema field sales team, expanding airway clearance therapy through our DME providers, introducing new products and innovations focused on addressing the lifestyle needs of our patients and improving digital functionality and therapy optimization; and finally, enhancing our operational efficiency to continue to reduce our overall cost to serve while staying focused on patient satisfaction. We're pleased to have been able to impact so many patient lives as we demonstrate improving profitability, strong cash flow generation and an enhanced balance sheet in addition to our return to double-digit top line growth. We look forward to continuing our recent momentum towards achieving our stated longer-term, strategic and financial goals in 2023 in the coming years. I'd like to close by thanking our team members for their impressive contributions to our development and growth as an organization this past quarter, thanks to our customers, suppliers and shareholders as well for their continued support. And with that, operator, we'll now open the line for questions.

[Operator Instructions] And our first question will come from Adam Maeder with Piper Sandler.

This is Simran on for Adam. I want to start off with 1 on the sales force and specifically the transition at the SBP rule. Just any details or color that you can provide on that transition? Is there a change to the company's strategy regarding sales force? And what disruption, if any, could this signal for the sales force looking ahead?

Yes. Good question. First of all, this is not an indicator of any change in strategy. This is just a change in people that are basically running our play. Eric did a nice job for us, of course. But he and I had a good open dialogue about a transition that was in store. And I think that it led to a really good, smooth succession transition. We had luxury because of some good communication to ensure a competitive search and was really, really pleased to be able to land the kind of talent that I think Sherri is going to bring to the company. She's brought VP level experience. She's got more than 2 decades of senior level leadership. And interestingly, she had an associate rep model that looked a fair amount like ours, bringing in young salespeople and focusing on people development. And she was able to demonstrate some of the best retention results at J&J. So I think all of those certainly position her nicely. I think the other one I would just point out is that we are really lucky to have a really strong next-level leadership team. Our 4 area directors on the lymphedema side have all been with us for a number of years and 3 of them of the 4 have been with us for over 8 years each with the company. I think they have 30 years collectively among the 4 of them with us. So I think that if you're a salesperson, you're a regional manager is still the same person, your area director one notch up is still the same person. And our strategy is still the same. So I feel like we're going to be able to step across these rocks quite smoothly.

Okay, perfect. I appreciate it. And just for my follow-up, on AffloVest, I guess, we were pretty surprised to see it was down sequentially as well. Maybe walk us through the impact of the eligibility criteria changing and why it was isolated to only that one DME supplier. And then, I guess, the updated guidance implies a pretty significant deceleration in the second half. So maybe any additional puts and takes for the second half of the year.

Sure. I think the first one, just to point out to the obvious is when you're going through a DME and not your own direct sales force, life gets a little bit lumpier. We did have one large DME that had really adopted the PHE criteria and implemented it more so than the balance of the field. And when I say PHE, just to be clear, public health emergency. So when COVID was established, there were about -- there was about a 3-year period where CMS said that there was -- they were going to relax some of the criteria. And for this specific category, it was affected. And one of the most specific ones is you didn't need a CT scan to submit or get approved for this. It expired in May, early May, after 3 years of being in place. And this DME, I think, had taken advantage of that relaxed criteria a bit more. So they're pivoting back to the original criteria. And I think we expect that we'll probably see a little bit of slowed placements with them as a result. I think the important balance is we have seen growth from all of the top -- other top 10 within our list of DME customers. And I think that it's largely because they've maintained the original criteria all the way through. I didn't necessarily want to retrain their reps or their HCPs. So that's a little bit of background on it. I think we were certainly fortunate, as I said, at the same time to see such strength in our lymphedema business which was more than offsetting and we expect that to continue through the balance of the year as well.

Next question comes from the line of Margaret Kaczor with William Blair.

I wanted to start out with lymphedema, obviously doing quite well, nice meaningful increase in guidance. How much of that is on Entre Plus, I guess? And what is implied of Entre Plus not only this quarter, Q2 but also going forward? The real question, I guess, behind all of this is any details, I guess, over percentage of Flexitouch accounts that tried or purchased Entre Plus and your sense of market share on the back end of that launch and has it increased?

Margaret, it's Elaine. I'll start and I'll ask Dan to fill in here. But -- so for the quarter, we saw growth in both our basic and advanced pumps, the Entre and Flexitouch. We did see faster Entre growth. And again, this -- we really walked into this quarter with the new product with a focus across both products. The basic pump category is an important one for us. Many payers require a basic pump trial first before moving to a more advanced pump if the patient's condition warrants it. So it's an important area for us to be in. So we saw, I think, the reception of our Entre Plus product that was very favorable with our patients and our physicians help drive that strength as well as just kind of that balanced focus across the entire kind of portfolio there. We do expect to see those trends as we move into the back half of the year. And I think that's what having strength in both of those products is what helped led us to taking up our guidance for the lymphedema product in the back half of the year for the full year, too.

Yes. And I would just add too, Margaret, that I think to your question about share, we don't have specifics but I think that given the kind of strength we've seen in our Entre Plus, we certainly would expect that we picked up a bit of share here recently. I think it also positions us well with our patient base. So those that become eligible for Flexitouch, we've established that relationship. We've started to provide the basic therapy available to them. And hopefully, with the continued expansion of Kylee, continue to maintain that relationship with those patients through their journey.

Okay. I appreciate that. And then on the AffloVest side, I'll maybe push a little bit more specifically on that. Seems like second half growth for AffloVest maybe is in the low single digits despite having an easier comp in fourth quarter of '22. So I'm just curious, how do you look at recovery within that business? And as you look at growth drivers, are you just not penetrating a lot of the HME accounts so you could go deeper that way where you're kind of broadening out your breadth? Or do you expect this one DME to come back eventually with good growth?

Yes. I think that we certainly expect, I think, this one to come back. I think that they've sort of reestablished a new baseline. That's the headwind that we'll be overcoming. We have continued to grow, as I said, in all of the others in the top 10 and expect to continue to do that. But there's a little bit of a put and take there. I think to your question about what are we doing to continue to invest in the growth, first of all, the study, I think, is an important one. As I've said many times, I think most of our understanding of the units that have been placed by our DME partners have largely been organic growth that -- with patients that would have otherwise probably not been introduced to a vest but we're eligible. I think the study gives us an opportunity not to be so binary. There's no reason that we can't compete for share at the same time. So that's a new tool that we're equipping these sales reps with as we speak. There's -- it's a big universe as we've talked about also with sales reps across the DME community. It's one of the reasons that we like the channel because the army is so big. But it also, I think, is indicating that we probably could use even more coverage. So we're going to add a few more people. We've got 12 or 13 salespeople. We're going to add a few more to make sure that we're providing the kind of coverage that we think that the market deserves but those are a couple of things that we'll be doing here in the back half.

Next question comes from the line of Suraj Kalia with Oppenheimer.

Dan, can you hear me all right?

Hear you fine, Suraj.

Guys, my apologies for the background noise. So Dan, may I quickly ask my two questions. So Dan, obviously, you talked about the number of reps, looking to add a few. Maybe I could just -- if I could ask for a baseline in terms of how should we think about utilization metrics per site, accounts per rep, revenues per rep, how should be going on? And also specifically, Dan, have there been any changes in sales rep commission structures, just to incentivize one way or the other. I'll hop here and pardon the background noise again.

Sure. Thanks for the question, Suraj. Short answer on the commissions is no. I think that we've got the right incentives in place with the goal of making sure that we want to continue to expand the awareness within our communities and continue to help more patients. But from a productivity metric standpoint, I think that we'll continue to evaluate what are the right tools as we get a new leader in place that she's going to want to see. But overall, I think the best metric to use is if you look at roughly what our head count is, it's been flat and we've been delivering double-digit growth for the last couple of quarters. So that's probably the best reflection, I think, of expanding productivity. We've continued to liberate our salespeople from some of the in-home demos. We've got some of our patient trainers that are well equipped to be able to educate and introduce the devices to patients and as we can more resourcefully deploy them where it makes sense. It gives the sales rep more time to do their market development and education of the HCP community. And I think that we're seeing some reflections of progress there for sure. But with sales expense down year-over-year, head count relatively flat and lymphedema sales up 16%, those are, I think, probably the best macro metrics at a more granular basis. Certainly, our field sales managers pay attention to target accounts and new accounts and referrals per site but there's probably more detail than we get into on a call like this.

Next question comes from the line of Ryan Zimmerman with BTIG.

This is actually Izzy [ph] on for Ryan. So first off, I was just wondering if you could provide any updates on your ongoing head and neck trial. When could we expect to see some top line data from the trial? And roughly how large of an opportunity does this represent?

Sure. Thanks for the question, Izzi. So the head and neck RCT is advancing. This is the one, for those that are less familiar, where we're committed to tracking probably 200-plus patients against the standard of care. We expect to have somewhere north of 180 patients we will have enrolled by the end of this year. We hope to have the enrollment completed by the first part of 2024. And the follow-up is a handful of months. So probably at 2025 to get to the point where we have the expected results published and the kind of impact that we hope that it will have on payers. This will be, by far, the largest RCT done, we believe, in the space and certainly, by any measures in this head and neck community of cancer survivors. We've said that it's about 10% of cancer survivors would be head and neck. So kind of frames a little bit there. And we certainly think that it can be a meaningful contributor to us probably as we get later into 2025. One of the considerations that we made and we kind of thought about what our 2025 revenue targets were going to be when we had those established back last fall.

Great. And just one follow-up. So I heard your comments on the engagement of the Kylee app and it sounds really encouraging. But what is the tangible benefit that you guys are seeing in sales given the engagement level?

Well, I think that it's still emerging. One of the things that we do believe is that continuing to be able to communicate with these patients, we'll be able to identify how well they're doing and if and when they're going to need to graduate to another device. So their ability to record their sessions, their measurements, even capture photos, we think, is going to make it much more compelling, if and when they would be eligible for an advanced pump. I think the other piece that we still expect we're going to be able to benefit from and this one is coming, is some of the order management process is also one of the areas that we want to expand our Kylee application. Our ability to engage with patients more so the way that we would with your favorite airline app where you can place your order, you can change your order, you can check your status. And I think that those can help reduce cost to serve, while at the same time, allowing us to actually improve the engagement that we have with patients in whatever time line and format that they prefer. So there's a component of operational exchange that is still ahead. But in the meantime, we think that the ability to continue to educate patients is a good way to continue to expand the universe of patients that can get a diagnosis and then ultimately, treatment.

We are currently seeing no remaining questions at this time. That does conclude our conference for today. Thank you for your participation.

Thank you, everyone.