Earnings Call Transcript - CDNA Q3 2024

Operator, Operator

Good day, everyone, and welcome to today's CareDx, Inc. Third Quarter 2024 Earnings Conference Call. At this time, all participants are in listen-only mode. Later, you will have the opportunity to ask questions during the question-and-answer session. Please note today's call will be recorded and I will be standing by should you need any assistance. It is now my pleasure to turn the conference over to Greg Chodaczek, Managing Director. Please go ahead, sir.

Greg Chodaczek, Managing Director

Thank you, Chloe, and good afternoon. Thank you for joining us today. Earlier today, CareDx released financial results for the quarter ending September 30, 2024. The release is currently available on the company's website at www.caredx.com. John Hanna, President and Chief Executive Officer; and Abhishek Jain, Chief Financial Officer will host this afternoon's call. Before we get started, I would like to remind everyone that management will be making statements during this call that include forward-looking statements within the meaning of the Federal Securities Laws, which are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Any statements contained in this call that are not statements of historical fact should be deemed to be forward-looking statements. All forward-looking statements, including, without limitation, our examination of historical operating trends, expectations regarding coverage decisions, pricing, and enrollment matters, and our financial expectations and results are based upon current estimates and various assumptions. These statements involve material risks and uncertainties that could cause actual results to differ materially from those anticipated or implied by these forward-looking statements. Accordingly, you should not place undue reliance on these statements. For a list and descriptions of the risks and uncertainties associated with our business, please see our filings with the Securities and Exchange Commission. The information provided in this conference call speaks only to the live broadcast today, November 4, 2024. CareDx disclaims any intention or obligation, except required by law, to update or revise any information, financial projections, or other forward-looking statements, whether because of new information, future events, or otherwise. This call will include a discussion of certain financial measures that are not calculated in accordance with Generally Accepted Accounting Principles. Reconciliation to the most direct comparable GAAP financial measure may be found in today's earnings release filed with the SEC. I will now turn the call over to John.

John Hanna, CEO

Thank you, Greg, and thank you to all who are listening to today's call. CareDx had another strong quarter with year-over-year growth across our business. We reported revenue of $82.9 million, representing 23% year-over-year growth. We expanded our gross margins and managed our expenses well, leading to positive adjusted EBITDA of $6.9 million, above our guide of being EBITDA neutral. We generated $12.5 million in cash from operations and ended the quarter with a strong balance sheet of $241 million in cash and cash equivalents and no debt. We believe CareDx has turned the corner toward long-term profitable growth. In my prepared remarks, I will provide commentary on Q3, insight into Q4, and our revised guidance. In Testing Services, we delivered approximately 44,600 tests, up 16% from the prior year. This represents the fifth consecutive quarter of sequential growth in Testing Services volumes. Testing Services revenue was $60.8 million, up 27% year-over-year, including $1.2 million in revenue from tests performed in prior periods. We have begun to execute the strategy we laid out at our 2024 Investor Day that will unlock profitable growth at CareDx by engaging transplant centers with solutions that include a synergistic portfolio of testing, digital, and lab products and are seeing early successes with this strategy. The first step was to reorganize our go-to-market team into a structure that places our customers at the center of everything we do. We have already added 15 of a planned 30 sales and marketing team members to promote and sell our leading transplant solutions, along with adding 20 team members to our billing organization, of which we have hired approximately 10 to date to drive greater collections and expand our ASP. In mid-August, the Centers for Medicare and Medicaid Services reaffirmed their commitment to covering testing for solid organ transplant monitoring, including for surveillance. I anticipate it will take two to three quarters for kidney transplant centers across the country to readopt surveillance testing protocols. Since the beginning of September, 10 transplant centers that we work with have established new protocols that include kidney surveillance testing. We began to see a shift in our testing mix toward surveillance in the second half of September that continued through October. CMS signaled in August that a future draft LCD may be introduced that we anticipate may address the rapidly growing literature in this field, including the recent Nature Medicine multicenter study of 2,882 patients demonstrating that surveillance with AlloSure kidney improves detection of all types of rejection. We continue to maintain an open line of communication with the agency regarding advancements in the evidence supporting AlloSure testing. In October, the American Society of Transplant Surgeons issued a statement on the importance of serial testing using donor-derived cell-free DNA in kidney and heart transplant patients. They recommended serial testing in patients with stable renal allograft function as well as in patients with acute allograft dysfunction. They also recommended that clinicians using donor-derived cell-free DNA utilize peripheral blood gene expression profiling as a non-invasive diagnostic tool to rule out acute cellular rejection in stable, low-risk, adult transplant recipients. On the commercial payer side, in Q3, we added four million commercial-covered lives. Last week, Highmark Blue Cross Blue Shield issued a policy providing coverage for AlloSure Kidney and expanded coverage for HeartCare to begin two months post-transplant instead of the previous six months. As of the end of Q3, we have gained approximately 31 million covered lives nationwide across our Testing Services business. We anticipate that this coverage, coupled with the expansion of our revenue cycle management team, will contribute to ASP growth in future quarters. Moving to our Patient and Digital Solutions, we reported revenue of approximately $12 million, representing 20% year-over-year growth. We are migrating customers from on-prem to SaaS products, generating monthly recurring revenue, and improving our pricing. HLA labs that utilize our lab products are increasingly adopting our HLA Lab Information Management software solution. In October, we signed an agreement with the University of California Health System to implement MedActionPlan, our medication adherence software application, which is clinically proven to improve patient medication adherence. Collectively, the University of California Health System is one of the highest-volume transplant health systems in the US. Our commercial efforts are showing that the performance of accounts with three or more CareDx digital solutions has a significantly higher new patient acquisition rate for Testing Services. We are encouraged by this early result from our account and portfolio-based approach aimed at addressing the needs of our center customers and creating long-term customer stickiness. Moving on to Lab Products, we reported revenue of $10.2 million, representing 7% year-over-year growth. The continued global adoption of our industry-leading AlloSeq TX NGS-based HLA typing kits primarily drove this growth. We continue to innovate to offer best-in-class HLA typing products in the market. We expect to make our new Assign software available to HLA Lab customers in December, adding a best-in-class software solution to complement our AlloSeq NGS chemistry. We also announced a partnership with Dovetail Genomics to launch an early access program combining CareDx's AlloSeq Tx with Dovetail Genomics' technology to achieve high-resolution genotyping and haplotyping. Our investment into HLA typing solutions demonstrates our ongoing commitment to delivering the most innovative solutions to support transplantation. Moving on to corporate updates and guidance. In Q3, we made significant corporate progress. I added new senior executives, including a Chief Operating Officer, Chief Commercial Officer, and Chief Data and AI Officer, and reorganized our operating structure for long-term profitable growth. The DOJ closed its investigation into CareDx with no findings of wrongdoing, following the SEC's decision earlier to take no action against CareDx. We believe this underscores that the underlying allegations were meritless. Additionally, a competitor has dropped their pursuit of patent infringement claims against our current AlloSure testing method, and we will continue to defend our novel technology against claims of infringement. Now turning to our guidance. We are raising our revenue guidance for fiscal year 2024 to the range of $327 million to $331 million, from our prior guidance of $320 million to $328 million, a growth rate of approximately 17% year-over-year at the midpoint of our guidance. We anticipate acceleration of growth from low teens in 2025 to high teens in 2027. Excluding $14 million in one-time revenue in 2024, the growth rate for 2025 is anticipated to be in the high teens. In summary, we had a strong quarter across all our solutions, including Testing Services, Digital, and Lab Products. I want to close by congratulating the transplant community for their support of monitoring our assays for solid organ transplant rejection. We continue to advocate for patients to ensure their access to monitoring assays that allow for early intervention of graft rejection and improved outcomes. I will now turn the call over to Abhishek to share more details on our third-quarter financials and guidance.

Abhishek Jain, CFO

Thank you, John. In my remarks today, I will discuss our third-quarter results before turning to revised 2024 guidance. Unless otherwise noted, my remarks will focus on non-GAAP results. For further information, please refer to GAAP to non-GAAP reconciliations in our press release, earnings presentation, and recent SEC filings. Let me start with the key financial highlights. We reported total revenue of $82.9 million for the third quarter, up 23% year-over-year. We delivered approximately 44,600 test results, up 16% year-over-year, and 2% compared to the last quarter, representing the fifth consecutive quarter of sequential Testing Services volume growth. Testing Services revenue was $60.8 million, up 27% year-over-year, including $1.2 million associated with tests performed in prior periods. Patient and Digital Solutions revenue was $11.9 million, up 20% year-over-year, and Products revenue was $10.2 million, up 7% year-over-year. We reported an adjusted EBITDA gain of $6.9 million, compared to a $10.9 million loss in the same quarter last year. Finally, we generated cash of $12.5 million from operations and ended the quarter with $241 million in cash, cash equivalents, and marketable securities. Moving to the details, starting with gross margin. Our non-GAAP gross margin for Q3 was 69%, up 240 basis points compared to the non-GAAP gross margin of 66.6% in the same quarter last year. Our non-GAAP Testing Services gross margin was 79% in Q3 compared to 74% in the third quarter of 2023. The improvement in Testing Services gross margin was driven by volume growth, ASP expansion, and efficiencies in managing our Lab Operations. The $1.2 million in revenue associated with tests performed in the prior period added about 40 basis points to the non-GAAP gross margin. Our Patient and Digital Solutions non-GAAP gross margin for Q3 was 37% compared to 39% in the third quarter of 2023. Excluding our transplant pharmacy, our Patient and Digital Solutions non-GAAP gross margin for Q3 was approximately 60%. Our product's non-GAAP gross margin was 46% in Q3, down from 58% in the third quarter of 2023 and in line with non-GAAP gross margin of 47% last quarter. Non-GAAP operating expenses for Q3 were $52.2 million, down approximately $5.5 million from Q3 of 2023, and down $3 million from the previous quarter. The quarter-over-quarter decrease in operating expenses was mainly due to lower conference costs, deferred expenses related to clinical trials, and reduced legal spend. Our adjusted EBITDA gain of $6.9 million in Q3 compared to adjusted EBITDA loss of $10.9 million in Q3 of 2023 marked an improvement of $18 million driven by strong revenue growth, improved gross margins, and lower operating expenses. Excluding the $1.2 million in revenue associated with tests performed in the prior period, our adjusted EBITDA gain would have been $5.7 million in Q3. We ended the quarter with a strong position with cash, cash equivalents, and marketable securities of $241 million and no debt. Regarding guidance, we are raising our full-year revenue guidance to $327 million to $331 million from $320 million to $328 million. The midpoint of our 2024 guidance assumes Testing Services volume growth in the mid-teens, with implied revenue growth of 30% year-over-year for Q4 of 2024. We experienced around a 1% impact in testing volumes due to Hurricane Milton in October, which is reflected in our revised guidance. We anticipate blended ASP of approximately $1,335 per test for Q4, with no changes to our Medicare coverage. Our Patient and Digital Solutions revenue is expected to grow in the mid-teens year-over-year. In Q3, we recognized $1 million in one-time initial set of fees for completing HLA Lab Management Software implementation, which we do not anticipate recurring in Q4. We expect our Lab Products to grow in the high teens year-over-year. Our gross margin is estimated to be approximately 69% for the full year 2024, driven by improved Testing Services gross margin. We expect a slight increase in operating expenses in Q4 due to scaling our commercial and billing operations to align with our growth strategy. Based on improved revenue expectations and gross margin, we expect our adjusted EBITDA gain for the full year '24 to be between $18 million and $22 million, compared to a previously guided gain of $9 million to $15 million. With that, I will now turn the call back to John to deliver closing remarks.

John Hanna, CEO

Thank you, Abhishek. I want to reiterate how excited I am about CareDx's future and the journey ahead. We have the right team in place, addressing the right market with the right products to deliver profitable growth. I want to thank the entire global CareDx team for their strong execution in the third quarter. And with that, I'd like to ask the operator to open the line for questions. Chloe, are you there?

Operator, Operator

Yes, I did announce Bill Bonello with Craig-Hallum. Your line is open.

Bill Bonello, Analyst

Thank you for the information. I have a couple of questions about the Q4 guidance. I had anticipated that Q4 would potentially be a stronger quarter than Q3. I understand there was some prior-period revenue this quarter, but even if we exclude that, it looks like you're expecting revenue to be fairly flat sequentially. Have you noticed any trends in October that would make you more cautious than usual? How should we approach this situation?

Abhishek Jain, CFO

So Bill, in the Q4 guidance, you're right that the revenue for Q4 is more or less in line with Q3. It's primarily driven by a couple of factors. One, the prior-period items that I called out, the $1.2 million in the Testing Services business and about $1 million in our Patient and Digital Solutions business. So if you exclude these two items, then the Q4 revenue actually grows compared to Q3. We anticipate volume growth in the Testing Services business in line with how we have seen the volume growth in the last year. So there is volume growth in Testing Services as well as revenue growth.

Bill Bonello, Analyst

Okay. That's helpful. I wasn't thinking about the million on the patient because I think if you back out the $1.2 million, you're still pretty flat. But maybe with the $1 million, you get a little bit of growth. And then I guess I'm trying to wrap my head around the comment on the ramping of the growth and maybe being at low-teens of revenue growth for next year. I absolutely understand about the pacing of surveillance testing coming back and how that will take time. But I mean, you just reported a quarter with 23.5% growth, and even if you take out the unusual items, I think it's 20% plus growth, and you had that kind of growth, if not better last quarter as well. The implication for next quarter is sort of you have 25%-ish year-over-year growth. So what happens that we just fall off all the way down to low-teens from sort of low '20s to mid '20s?

Abhishek Jain, CFO

At the midpoint of our guide, year-over-year growth is about 17% that we have called out, Bill. If you take those one-timers out, which is about $14 million, then you're back to about 12% to 13% growth, which is in line with the pacing of revenue growth in 2025. As we start to invest in the commercial and billing operations, we will scale the growth at a higher number in the outer years of our 2027 plan.

John Hanna, CEO

Yes. I think that's right.

Bill Bonello, Analyst

I mean, Q1 was a bad quarter. So how do we think about that?

Abhishek Jain, CFO

I thought that in Q1, Bill, we grew like 6% on our Testing Services volume growth. So I thought that the Q1 growth was pretty decent. Maybe you might be thinking from Q4 to Q1, and that could be more seasonal because of our products business.

Bill Bonello, Analyst

Okay. Well, I can follow up more offline, but it doesn't make a lot of sense to me. But thanks.

Operator, Operator

We'll move next to Tycho Peterson with Jefferies. Your line is open.

Unidentified Analyst, Analyst

Good evening. This is Jack filling in for Tycho. I have a question about the testing mix. It seems that the surveillance mix saw a notable increase from September to October. Could you clarify the extent of this increase and discuss how it compares to the upper limit of the surveillance mix versus new transplants?

John Hanna, CEO

Thanks, Jack. We haven't provided any detail on the proportional mix rate. Directionally though, we have seen a modest shift in that mix and we anticipate two to three quarters for that to return.

Unidentified Analyst, Analyst

Okay, that's fair. And then quickly on capital allocation. How are you thinking about capital allocation if deals aren't on the table? Should we assume any for buybacks in the near future? Thanks.

John Hanna, CEO

Thanks, Jack. We're primarily focused on growth and long-term profitable growth. From there, we'll look at ways to invest in the core business to grow more rapidly before considering share buybacks. That's our prioritization.

Operator, Operator

We'll take our next question from Mark Massaro with BTIG. Your line is open.

Mark Massaro, Analyst

Hey, guys. Thank you for taking the questions. Congrats on the solid beat and raise. It's good to see the feedback about the surveillance picking back up in the second half of September and continuing through October. You talked about how it may take two to three quarters for transplant centers to establish surveillance protocols. I just want to ensure that doesn't preclude some degree of recovery heading into 2025 even before these protocols are established.

Abhishek Jain, CFO

Thanks, Mark, appreciate your question. No, we think this is additive on top of what we saw as we grew through the first half of 2024. A lot of the growth we've seen in the five quarters since the change in coverage has been focused on the growth in our heart care product.

Mark Massaro, Analyst

Okay. I also wanted to ask if you have any indication of when Palmetto GBA will finalize the LCD for transplant testing. Do you think the LCD might be restored to its original state?

John Hanna, CEO

Thanks for the question, Mark. We don't have a specific timeline from Palmetto about when a new draft LCD would be released. The current active LCD is the 2021 version that broadly covers this indication. We anticipate that any future LCD would include updates based on the significant literature published since then.

Mark Massaro, Analyst

Okay. I have one final two-parter. Should we expect recovery in Q4 from Hurricane Milton? And how are you thinking about the potential expansion of commercial payer lives in 2025?

John Hanna, CEO

On your first question, yes, we have seen a 1% volume impact in Q4 from Hurricane Milton, which is incorporated into our guidance. Regarding payer expansion, we believe 2025 should be a significant year for expanding covered lives, especially in AlloSure Heart and AlloSure Kidney. We're awaiting some significant publications that we believe will drive coverage.

Operator, Operator

We'll move next to Brandon Couillard with Wells Fargo. Your line is open.

Brandon Couillard, Analyst

Hey, thanks. Good afternoon. Could you just talk about the 30 planned new heads in the commercial organization? How much of an increase in terms of percentage is this relative to the prior base? And A.J., is kind of $8 billion to $10 billion the right ballpark for incremental spend from that build-out?

John Hanna, CEO

The commercial heads are allocated between field sales and marketing. We previously cut down staff to control spending. This is a reinvestment in the organization, with about a third in marketing and two-thirds in field sales.

Abhishek Jain, CFO

Your number is in the ballpark, Brandon, roughly $10 million for the hedge we mentioned here.

Brandon Couillard, Analyst

So this basically gets you back to where you were before the CMS changes. Is that the right way to think?

John Hanna, CEO

Yes, that's the way we're thinking about it. We have been incredibly efficient in driving growth. In order to continue to drive that growth and accelerate it over the next several years, we're starting with these 30 heads and we will provide updates if we decide to add more in the future.

Brandon Couillard, Analyst

As far as the low-teens growth you pointed to next year, A.J., is the fourth quarter ASP a good jump-off assumption for next year? And should we expect the second half of next year to be stronger than the first half due to the lag in returning surveillance protocols?

Abhishek Jain, CFO

The ASP of $1,335 will be the point for the 2025 numbers. The low-teens guidance for 2025 will provide more color in our earnings call, but that's where to start thinking about from a modeling standpoint. The second half being stronger typically takes about one to two quarters for our commercial and billing organization to become fully effective.

John Hanna, CEO

Thanks, Brandon.

Yi Chen, Analyst

Thank you for taking my question. Could you comment on the general trend expected for the number of transplant procedures in 2025? What are the factors driving this trend?

John Hanna, CEO

For 2025, we expect mid-single-digit secular growth in the transplant market as the baseline for our plan. We don’t have catalysts that would indicate more transplant procedures. The introduction of new technologies has accelerated growth, particularly in heart and lung transplants.

Yi Chen, Analyst

Is there any reason that we should expect fewer transplant procedures in 2025?

John Hanna, CEO

We don't have any indications for fewer procedures. Recent policy changes in government programs like the IOTA model for kidney transplant, which was delayed, are factors we are monitoring.

Mason Carrico, Analyst

How should we think about the framework for the surveillance opportunity going forward? There are about 25,000 kidney transplants a year, and many patients are living with transplants. Is the near-term opportunity primarily about rolling newly transplanted patients into surveillance after the first year? Will there be outreach for patients who are years out from transplant?

John Hanna, CEO

We're targeting the first year post-transplant for implementing protocols for surveillance testing as that’s where medical necessity is greatest. Centers want to reinitiate surveillance testing on newly transplanted patients, not those further out. There's ongoing interest in for-cause testing in patients beyond a year if it can reduce immunosuppression and improve outcomes. We anticipate demand will grow in the future.

Mason Carrico, Analyst

Got it. I'll keep it there. Thanks.

John Hanna, CEO

Thank you.

Thomas DeBourcy, Analyst

Hi, guys. Can you hear me?

John Hanna, CEO

We can.

Thomas DeBourcy, Analyst

I have a question about the retention of transplant centers. Given the number of centers that account for most of the volume, what has your retention looked like? When implementing new protocols around surveillance, would you expect it to take an average of two to three quarters longer?

John Hanna, CEO

We've seen a high level of retention, as our products are sticky with customers due to the large solution set we offer. There’s a varying degree of readiness to implement protocols. Since September, we've seen 10 centers draft and implement new protocols, as many clinicians recognize the impact of turning off surveillance on patient care.

Operator, Operator

This does conclude the question-and-answer portion of the call. Thank you, ladies and gentlemen, for joining. You may disconnect at this time and have a wonderful evening.