Earnings Call Transcript - AXGN Q4 2021

Operator, Operator

Greetings. Welcome to the AxoGen, Incorporated Fourth Quarter 2021 Conference Call. At this time, all participants are in listen-only mode. A brief question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Ed Joyce, AxoGen's Director of Investor Relations. Please begin, Mr. Joyce.

Ed Joyce, Director of Investor Relations

Thank you, Hillary, and good afternoon, everyone. Joining me on today's call is Karen Zaderej, AxoGen's Chairman, Chief Executive Officer and President; and Peter Mariani, Executive Vice President and Chief Financial Officer. Karen will begin today's call with an overview of our fourth quarter and an update on our operational highlights and our guidance for the year. Pete will then provide an analysis of our financial performance, followed by closing remarks from Karen and a question-and-answer session. Today's call is being broadcast live via webcast, which is available on the Investors section of the AxoGen website. Within an hour of the end of this call, a replay will be available on the Investors section of the company's website. Before we get started, I'd like to remind you that during this conference call, the company will be making projections and forward-looking statements regarding future events. We encourage you to review the company's past and future filings with the SEC, including, without limitation, the company's Forms 10-K and 10-Q, which identify the specific factors that may cause actual results or events to differ materially from those described in the forward-looking statements. These factors may include, without limitation, statements related to the expected impact of COVID-19 and hospital staffing on our business, statements regarding our growth, our financial guidance, product development, product potential, expected clinical enrollment timing and outcomes regulatory process and approvals, APC renovation timing and expense, financial performance, sales growth, product adoption, market awareness, and our products, data validation, our assessment of our internal controls over financial reporting, our visibility and sponsorship of conferences and educational events and other matters not within our control. And with that, I'd like to turn the call over to Karen. Karen?

Karen Zaderej, Chairman and CEO

Thank you, Ed, and good afternoon, everyone. Our total revenue for the fourth quarter was $31.5 million, representing a 3% decline versus the prior year period. Excluding the impact of revenues from Avive Soft Tissue Membrane in both years, revenue for the quarter was approximately flat year-over-year. Although we saw a sequential improvement in revenue in November, the Omicron variant negatively impacted procedure volumes and hospital staffing in December, which negatively impacted our revenues for the quarter. For the year, we achieved revenue of $127.4 million, an increase of 13% over last year. Excluding the impact of Avive, revenue increased 15% year-over-year. I'm proud of the growth we were able to achieve despite the ongoing challenges of COVID and hospital staffing shortages, and we believe more surgeons and accounts recognize the value AxoGen provides. We had an excellent year engaging and educating surgeons using a combination of in-person and virtual programs, and we again met our annual goal of training more than 75% of hand and microsurgery fellows. We are confident that we've built the right organization and a solid foundation of clinical evidence that will allow us to deliver sustainable long-term growth as the impact of COVID wanes and hospital operating environments improve. The Omicron-related challenges we faced late in the fourth quarter continued through the early part of Q1. Like all of you, we're encouraged by reports of declining COVID rates in the recent weeks. However, we believe it will take longer for hospital staffing challenges to improve and for surgical schedules to normalize. As a result, we are measured in our outlook of the pace of procedure volume improvement in the first half of the year compared to 2021 and anticipate a return to more normalized growth rates in the second half. Commercially, we remain focused on driving deeper penetration into customer accounts while also continuing to add new accounts. We've achieved success with this strategy as demonstrated by the growth in our active and core accounts, which helps us frame and monitor our growth. As a reminder, active accounts have ordered at least 6 times in the last 12 months and may still be in the early stages of adoption. Core accounts represent more penetrated accounts, defined as those that have greater than $100,000 in revenue in the trailing 12 months. We ended the year with 951 active accounts, up 6% over the last year and 294 core accounts, up 9% over the last year. Active accounts typically represent about 85% of our total revenue, with the top 10% contributing about 35% of revenue. Our core accounts continue to represent about 60% of our revenue and typically contain at least one surgeon who's adopted the AxoGen nerve repair algorithm for a significant portion of his or her nerve injury patients. Leveraging this surgeon's success with our products, we focus on going deeper with that first surgeon and gaining adoption by additional surgeons. We have significant opportunity for growth within our core accounts by more deeply penetrating the treatment of traumatic injuries and continuing to expand into other nerve repair applications, including breast, OMF, and the surgical treatment of pain. We ended the year with 115 direct sales representatives, an increase of 6% during the quarter and up from 111 a year ago. We believe we have an established and well-trained sales footprint and expect that our growth can be delivered primarily by improving sales rep productivity. At the same time, we will continue to monitor and evaluate our sales territories for capacity and growth opportunities and anticipate increasing our sales team by 5 to 10 sales reps this year. Our direct sales force continues to be supplemented by independent sales agencies that represented approximately 10% of our total revenue in the fourth quarter. We continue to build market awareness through numerous initiatives across our applications. For example, we're employing direct-to-patient educational campaigns to increase awareness of the potential for nerve repair procedures to improve outcomes for patients with breast cancer and those suffering from chronic neuropathic pain. Over the last few years, we've been very successful growing the number of patients visiting our re-sensation website to learn more about the problem of breast numbness post-mastectomy and the potential for nerve repair to restore sensation. In the fourth quarter, we launched an educational animation to help illustrate the problem with post-mastectomy numbness and its impact on quality of life as well as how re-sensation may be a potential solution. Through these awareness efforts, surgeons report that an increasing number of their patients are expressing interest in returning sensation for a more complete breast reconstruction. Leveraging our success with direct-to-patient educational campaigns for re-sensation we're following a similar strategy to increase visitors to our re-think pain website to raise awareness of the surgical treatment of pain as a potential solution for patients suffering from chronic neuropathic pain. In 2021, we initiated a partnership with the US Pain Foundation. Each November, the foundation runs a campaign called November to explore and educate on a unique area of pain management through webinars, social media content, and more. In November of 2021, the foundation focused its campaign to raise awareness of neuropathic pain and its treatment options resulting in a significant community response. Direct-to-patient educational campaigns will continue to be important in our market development efforts for the breast and pain applications. In terms of our progress with our clinical endeavors, we continue to expect top line results of our RECON study in the second quarter. RECON is our Phase III pivotal study supporting our Biologics License Application, or BLA, which will transition our Avance Nerve Graft from a Section 361 tissue product to a Section 351 biological product. We look forward to the readout of our RECON topline results. The study was designed to test for noninferiority of the primary endpoint, static 2-point discrimination as compared to conduit nerve repairs. In addition to the RECON data, our teams are continuing to work on other BLA, CMC, and documentation requirements for our facilities, operations, quality systems, and validation as a part of our preparations for a successful application. We expect to submit our BLA to the FDA in 2023. Our RANGER and MATCH registries continue to enroll. Now with over 2,600 nerve repairs enrolled in RANGER. MATCH is a subset of the RANGER registry, which is the comparative population of conduits and autograft subjects for RANGER. Readouts from this data have demonstrated that advanced nerve graft outcomes were statistically significantly better than conduit and were similar to those for autograft. Data from these two clinical registries continues to play an important role informing surgeons in their clinical decision process. Enrollment in the comparative phase of REPOSE, our study of Axoguard Nerve Cap compared to standard treatment for symptomatic neuroma is ongoing. Surgery delays have led to slower-than-expected enrollment, and we're now anticipating completing enrollment in Q2 of this year, with a topline data readout from the comparative phase in Q3 of 2023. We've always made clinical evidence generation an important priority and believe that our collection of meaningful data publications is the most comprehensive in the area of peripheral nerve repairs. This unparalleled amount of evidence in nerve repair is expected by our surgeons and payers when making clinical care decisions. As of the end of the year, we have 181 peer-reviewed papers, including growing numbers among all of our nerve repair applications, namely trauma, breast, OMF, and the surgical treatment of pain. We remain committed to developing the clinical evidence to demonstrate the safety, performance, and utility of our nerve repair solutions to support the continued adoption of the AxoGen algorithm across our full portfolio of nerve repair products. I'd now like to spend a moment discussing our outlook for this year. We expect that full year revenue in 2022 will be in the range of $135 million to $142 million. This revenue guidance represents about 10% to 15% growth over 2021, excluding the $4.1 million of Avive revenue from last year. Full year gross margin is expected to be above 80%. As I noted earlier, we're being measured in our outlook for procedure volume improvement and revenue growth in the first half of the year compared to 2021, but we anticipate a return to more normalized growth rates in the second half of the year. We're confident that we've built the right organization with a solid foundation of clinical evidence that will allow us to deliver sustainable long-term growth as the impact of the COVID pandemic wanes and hospital operating environments improve. We continue to view AxoGen as a long-term growth company, delivering sustainable annual revenue growth in the high teens to low 20% range. Now I'll turn the call over to Pete for a review of financial highlights.

Peter Mariani, CFO

Thank you, Karen. Fourth-quarter revenue was $31.5 million, a 3% decrease compared to Q4 of 2021. Fourth-quarter revenue was negatively impacted by COVID and related hospital staffing challenges, particularly in the final weeks of the quarter. Fourth-quarter revenue includes $500,000 from the reversal of a sales return reserve recorded in the second quarter of 2021 for Avive soft tissue membrane for which we voluntarily suspended market availability on June 1, 2021. Avive revenue in the fourth quarter of 2020 was $1.6 million. Gross profit for the fourth quarter was $26.1 million compared to $27 million in Q4 of 2020. Gross margin was 82.8% for Q4 compared to 83.2% in the prior year fourth quarter. Total operating expense in the fourth quarter decreased 3% to $31.5 million compared to $32.4 million in the prior year. The decrease is primarily due to a reduction in employee compensation where decreases in incentive and stock compensation, bonus, and commissions were partially offset by increases in salaries. The net decrease in operating expense was partially offset by increases in professional and consulting fees, marketing programs, and travel, and research and development projects. Sales and marketing expense in the fourth quarter decreased 11% to $17.7 million compared to $19.8 million in the prior year. The decrease is primarily related to lower employee compensation, partially offset by an increase in marketing programs and travel. As a percent of total revenue, sales and marketing expenses decreased to 56% for the three months ended December 31 compared to 61% in the prior year. Research and development expenses increased 28% to $6.3 million compared to $4.9 million in the prior year. Product development expenses represented approximately 73% of total research and development expenses for the current quarter as compared to 55% in the prior year. The increase in product development expense reflects increased spending on specific programs, including our efforts related to the BLA for Avance nerve graft and a next-generation Avance product. Clinical trial expenses represented approximately 27% of research and development expenses in the fourth quarter compared to 45% in the prior year. As a percentage of total revenue, Research and development expenses were 20% in Q4 compared to 15% in the prior year. General and administrative expense in the fourth quarter decreased 3% to $7.4 million compared to $7.7 million in the prior year. G&A as a percent of revenue was 24% in both periods. The net decrease is due primarily to decreases in employee compensation, partially offset by increased professional and consulting fees. Adjusted net loss and net loss per share was 3.3 and $0.08 per share in both fourth quarters of 2021 and 2020. Adjusted net loss in the quarter was $1.7 million compared to an adjusted EBITDA loss of $1.3 million in the prior year. The company has updated its definition of EBITDA and adjusted EBITDA to now include amortization of the right-of-use assets, debt discount, and deferred financing fees. The reconciliation of these non-GAAP financial measures to GAAP can be found in today's earnings release and on our website. The balance of all cash, cash equivalents, and investments on December 31, 2021, was $90.3 million compared to a balance of $98.1 million on September 30, 2021. The net change includes capital expenditures of $5.8 million related to the construction of our new processing facility in Dayton, Ohio and $1.9 million of operating cash burn in the quarter. We typically see elevated operating cash burn in the first half of the year, and we expect this to be the case again in 2022. We expect this to improve in the second half of the year. Additionally, we anticipate capital expense to be up to $14 million over the course of the year for the physical completion, equipment, and validation of the Dayton facility, along with up to $6 million in capitalized interest through the end of the year, and we expect to convert production to the new facility in early 2023. With $90 million in cash, our balance sheet is strong, and we expect to end the year well-positioned to continue funding our growth while maintaining an appropriate level of cash. As Karen mentioned, our guidance for full-year 2022 will be in the range of $135 million to $142 million, and this represents about 10% growth year-over-year, excluding the impact of $4.1 million of Avive revenue from 2021. We're being measured in our outlook for procedure volume improvement and revenue growth in the first half of the year compared to 2021, but we anticipate a return to more normalized growth rates in the second half of the year. And as a matter of corporate housekeeping, we will be providing an update to our expiring shelf registration along with the filing of our 10-K in the coming days. And with that, I'd like to hand the call back over to Karen.

Karen Zaderej, Chairman and CEO

Thank you, Pete. I'm proud of our achievements this year and of the entire AxoGen team in the face of pandemic headwinds. We remain committed to delivering our innovative nerve repair solutions to patients, surgeons, and hospitals, and I believe we're well positioned for long-term success. At this point, I'd like to open up the line for questions. Hillary?

Operator, Operator

Our first question is from Dave Turkaly of JMP Securities. Please go ahead with your question.

David Turkaly, Analyst

Pete, I wanted to follow up on your comments about the expected spending in 2022. If your adjusted EBITDA loss is around $7 million this year, it seems you still have some initiatives that you're planning to invest in. Essentially, you are nearly at breakeven and have sufficient cash. Can you clarify if the EBITDA loss is increasing slightly this year and whether you anticipate reaching breakeven when the new facility opens in 2023?

Peter Mariani, CFO

We are moving in a positive direction. Your observation is accurate. As we launch the building and continue our efforts to drive revenue growth, we are certainly moving towards breakeven overall, but I won't project that for 2022. We won’t provide that kind of forecast. However, we are in a favorable position regarding our spending. We have ongoing initiatives that we are investing in, particularly around BLA product development and other areas. We believe we can effectively manage our expenses throughout next year and into 2023.

David Turkaly, Analyst

Yes. I don't think anyone would be surprised by the cautious sales outlook, as many companies are projecting this for at least the first half of the year. Could you remind us about the RECON readout? What are we expecting there? I know you mentioned the second quarter, but will it be just a press release, or are there plans for a call as well?

Peter Mariani, CFO

Yes, we will issue a press release and schedule a call. As soon as we have the information available, we'll be excited to discuss it.

Operator, Operator

Our next question is from Danielle Antalffy of SVB Leerink. Please proceed with your question.

Erin Broderick, Analyst

This is Erin on for Danielle. I was just hoping you guys could talk about some of the trends that you saw in the fourth quarter related to Omicron and hospital staffing shortages and maybe how that's trended starting heading into the first quarter?

Karen Zaderej, Chairman and CEO

I believe we were experiencing a positive trend in daily sales during November, but we started to notice a significant decline in December, particularly towards the end of the month. As Omicron cases increased, hospitals faced challenges with capacity due to patients testing positive for COVID-19, even when asymptomatic, which prevented them from undergoing procedures. Additionally, staffing shortages added to the difficulties, and this situation persisted into January. However, now that the incidence rate of COVID has decreased and hospital capacity has improved, we are beginning to see a loosening of these constraints and hope that this upward trend will continue.

Erin Broderick, Analyst

Could you walk us through the assumptions included in the 2022 guidance related to COVID and hospital staffing shortages, and what we might anticipate at both the upper and lower ends of the range?

Peter Mariani, CFO

Yes. Our observation is that while COVID cases are decreasing, hospitals are still managing a significant number of COVID patients, and we anticipate that situation will improve. However, we also recognize that hospitals continue to face staffing challenges, which will require additional time to resolve. We consider hospitals to be very resilient and confident that they will find solutions. Over time, we expect circumstances to return to what we hope will be a more normal state, where surgical schedules align with the current pace. In our outlook, we want to be cautious about predicting when that normalization will occur and refrain from making premature assumptions. We will monitor developments throughout the remainder of this quarter and believe that in the latter half of the year, growth rates will return to more normalized levels for us.

Operator, Operator

Our next question is from Frank Pennal of Jefferies. Please proceed with your question.

Unidentified Analyst, Analyst

Hope everyone is doing well. A bit of a follow-up to the last question. I was hoping you can maybe provide some color on rep access sort of exiting last year and so far, what you're seeing this year? And I have a follow-up to that.

Karen Zaderej, Chairman and CEO

Throughout the year, we've observed an improvement in representative access. Initially, when everything was completely shut down, access was nonexistent. However, as hospitals have become more accustomed to operating in a COVID environment, they have started to permit representative access again. This access fluctuates based on the hospital's current COVID policies; during moments of crisis management when capacity is limited, they tend to restrict access. Additionally, they face limitations on the number of procedures they can perform. Despite these challenges, some of the tools we developed for remote case coverage during the pandemic will remain valuable, as they enhance our productivity in handling unscheduled cases. Many hospitals have adopted restrictions that are likely to continue even after the pandemic, preferring to invite representatives for specific cases rather than allowing them to routinely visit the operating room. We believe these changes will have lasting impacts. Overall, we have effectively provided resources to surgeons to ensure necessary access in most cases, and where on-site access is not feasible, we can rely on remote case coverage.

Unidentified Analyst, Analyst

Great. Following up on a previous question about RECON, what do you see as the significance of a positive top line readout? I assume you're anticipating that at this point, but I'm curious about your thoughts on growth penetration. Also, will the BLA approval in 2023 enable you to charge a premium for Avance? This is in addition to what appears to be favorable CMS reimbursement trends based on the JPM presentation.

Karen Zaderej, Chairman and CEO

Sure. I'll start with the pricing aspect. As a BLA, we don't anticipate adjusting the reimbursement for Avance, so we don't view that as affecting our pricing strategy. We believe we have effectively priced this product to be comparable to autografts, making it an attractive option for hospitals looking to switch from autografting to Avance. Regarding the upcoming data readout, we are quite excited about it. There is an opportunity for us to showcase this information to many surgeons. Our principal investigators are eager to share this data, and we are planning to present it at various conferences. We will provide a brief presentation once we have the data in the second quarter, but we look forward to more comprehensive discussions with surgeons and presentations at scientific conferences later this year, which we believe will generate interest among them regarding changing their treatment approaches. This is especially crucial for middle adopters; our early adopters and innovators were willing to try Avance and assist in building this data. However, middle adopters need this level 1 evidence to feel confident in altering their treatment methods. We think it will help us increase our presence in our core accounts and convert those middle adopters. I do want to clarify something. I believe you mentioned BLA approval in 2023; we actually plan to submit it this year. While we expect an expedited review from the FDA, we should realistically assume that the approval will take a year due to current delays, so we anticipate a 2024 approval.

Operator, Operator

Our next question is from Jubran Amed of Canaccord. Please go ahead with your question.

Unidentified Analyst, Analyst

This is Jubran on for Kyle. I guess one question from us. In terms of backlog, sort of a follow-up from the Omicron dynamics seen at the end of the Q4. Did the backlog grow this quarter? Maybe has there been any sort of shift in terms of how the 2022 guide is assuming working through that backlog? Obviously, less of a factor on the trauma side of the business, but curious if any sort of dynamics have shifted on that front.

Karen Zaderej, Chairman and CEO

Thank you for the question. We believe there are some deferred cases across all our segments. However, in trauma, we no longer have clear visibility on those. This is primarily due to staffing issues. Back in 2020, when hospitals resumed operations, they could handle significant overtime and quickly address the backlog of nerve repair patients, leading to a noticeable spike in their business as they managed to clear deferred patients in about 2 to 4 weeks. Currently, that flexibility is lacking, and they can't clear patients as swiftly. We anticipate that they will start bringing patients back in, and while it’s preferable to conduct nerve repair sooner for optimal outcomes, meaningful recovery can still occur up to a year after an injury. Thus, it doesn’t need to happen immediately; it's better done sooner, but we expect the process to take longer for any deferred cases. In more elective procedures, particularly breast neurotization, there are indeed a significant number of patients whose breast reconstructions have been deferred. These deep flap procedures require considerable resources in the hospital, are lengthy surgical processes, and necessitate inpatient stays. Consequently, they are usually among the first procedures to be postponed during hospital constraints. Currently, surgeons are reporting considerable deferred waiting lists and patients, but there's insufficient operating room time to address them quickly. They indicate that it may take up to a year or more to work through their deferred patients. We have factored this into our guidance, but it’s important to note that the recovery will be gradual rather than a sharp increase.

Unidentified Analyst, Analyst

That's helpful. Appreciate the color there, Karen. And then maybe if I could just squeeze a second one in. The active account, core account numbers have held relatively sort of steady now for a couple of quarters in terms of percentages of revenue. I guess what do you need to see to start maybe getting more pull-through from those active accounts into core accounts? Does that direct-to-patient marketing efforts that you alluded to? Does that help sort of drive that? Or maybe what are some other factors to consider there?

Karen Zaderej, Chairman and CEO

Yes. First of all, we anticipate that the percentage of our revenue will remain roughly the same. While we expect our overall revenue to increase, around 60% of it will still come from our core accounts. This growth will mainly result from deeper engagement within these accounts. We expect this 60% figure to stay consistent as we increase the number of surgeons using our services within these accounts. The key driver here is enhancing the usage of the initial surgeon, who acts as a key advocate in the core account. This surgeon has made significant strides in adoption, but there is still more work needed for full integration. Our goal is to encourage this surgeon to fully embrace our offerings so they can help promote our services to their peers. Moreover, at our largest accounts, we can also expand into the breast business and the surgical treatment of pain, which are largely influenced by patient education. We are increasingly seeing patients who realize the importance of sensation in breast reconstruction asking questions about how they can access this treatment. As awareness grows, more patients are seeking solutions for re-sensation techniques at facilities that offer them.

Operator, Operator

We have reached the end of the question-and-answer session. I will now turn the call back over to Karen Zaderej for closing remarks.

Karen Zaderej, Chairman and CEO

Thank you, Hillary. I just want to thank everyone for joining us on today's call, and we look forward to speaking with you in the near future.

Operator, Operator

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation, and have a great day.