Earnings Call Transcript - CDNA Q4 2023

Operator, Operator

Greetings, and welcome to CareDx, Inc. Fourth Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Greg Chodaczek, Managing Director of Investor Relations. Thank you, sir. You may begin.

Gregory Chodaczek, Managing Director of Investor Relations

Good afternoon and thank you for joining us today. Earlier today, CareDx released financial results for the quarter and full-year ended December 31, 2023. The release is currently available on the company's website at www.caredx.com. Joining the call today is Alex Johnson, President of CareDx's Patient and Testing Services; Abhishek Jain, Chief Financial Officer; and Robert Woodward, Chief Scientific Officer. Also joining the call today is Michael Goldberg, Chairman of the Board. 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 facts should be deemed to be forward-looking statements. All forward-looking statements, including, without limitation, are examination of historic 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 description 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, February 28, 2024. CareDx disclaims any intention or obligation, except as 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 also include a discussion of certain financial measures that are not calculated in accordance with generally accepted accounting principles. Reconciliation to the most directly comparable GAAP financial measure may be found in today's earnings release with the SEC. I will now turn the call to Alex.

Alexander Johnson, President of Patient and Testing Services

Thank you, Greg. Good afternoon everyone, and welcome to CareDx's fourth quarter and full-year 2023 Earnings Conference Call. CareDx ended 2023 in a solid growth and market leadership position after a challenging start to the year. Our team spent the last year addressing the complexities associated with the billing article, reconfiguring the company to adjust to the Medicare changes to coverage and fighting to restore patient access to transplant innovation. Before we move into the details of the quarter and the year, let me step back for a moment and offer a bit of perspective. We are still in the early stages of a $6 billion market opportunity for some of the highest need patients in the U.S. healthcare system. Transplant patients in the U.S. are experiencing incrementally improved short-term outcomes but are still far away from having their newly transplanted kidney, heart, or lung last as long as it should. We continue to believe that effective care truly remains dependent on understanding transplant patient management, which requires focus from our entire team working closely with some of the world's best clinicians, researchers, and transplant centers. Our ability to successfully lead and execute in this growing market amidst the complexities associated with the billing article revisions is reflected in our results. Last year, we executed deliberately, quickly, and with high impact as demonstrated by our performance. We reduced our cost structure and stabilized our revenue base. Consistent with our pre-announcement, we reported full-year revenue of $280 million, exceeding the high end of our updated guidance. We have regained our growth footing in our testing services business with patient test volumes up 4% quarter-over-quarter, marking an increase for the second consecutive quarter. We delivered about 40,000 tests in the fourth quarter, and patient testing services volume reached approximately 165,000 patient results for the full year. We continue to make progress in driving our innovations into clinical practice. This year, we witnessed strong support from leading medical societies and patients advocating for access to transplant molecular testing, such as AlloSure and AlloMap, highlighting the pivotal role our innovations play in improving transplant patient care. In 2023, two new Medicare coverage approvals underscored the clinical value and market opportunity of our innovation pipeline. AlloSure Lung became the first donor-derived cell-free DNA approved for coverage by Medicare for lung transplant patients. The approval of heart care in August 2023 confirmed our clinical approach of multimodality testing as recognized by CMS. This approval establishes a reimbursement pathway for our differentiated product portfolio, allowing us to leverage our robust pipeline of innovations to enhance patient outcomes. On the commercial payer side, we saw positive progress. We ended the year with an additional 15 million covered lives and expanded coverage for 31.5 million lives in our cardiothoracic business, primarily by adding coverage in the first six months post-transplant for AlloMap Heart. In our other business segments, we are pleased with the double-digit growth in both our patient and digital solutions and lab products business lines, reflecting year-over-year growth of 29% and 15%, respectively. Before moving on to 2024, I will address our recent patent litigation news. Following a jury verdict in late January, CareDx was assessed damages of approximately $96 million. We intend to seek judicial review of the jury decision and monetary damages, expecting active briefing on this matter to continue at least through Q3 2024 in the District Court, with the possibility of an appeal to the Federal Circuit. The timing for resolution of the patent litigation process will be speculative, but we anticipate it to be a multi-year, multi-step endeavor. Looking forward to 2024, in our testing services business, we will focus on strategic profitable growth, increasing patient testing volumes and market penetration for AlloMap and AlloSure while expanding reimbursement and coverage. There is significant opportunity to gain coverage for non-reimbursed tests, and this year, we will continue to invest in multicenter, purpose-driven studies to secure additional reimbursement coverage. As mentioned last quarter, KAOR, our Kidney Allograft Outcomes Registry, completed the last patient clinical visits, and we are now finalizing our data collection and monitoring. KAOR was designed to demonstrate the clinical utility of AlloSure across various outcomes, and we anticipate a publication this year. We have other unique opportunities to publish evidence that can influence payer coverage policies by collaborating with leading researchers experienced with AlloSure Kidney. In heart care, we expect an interim readout for our ongoing Surveillance HeartCare Outcomes Registry, or SHORE. We have collected and monitored data from patient encounters in the early years of SHORE and are working towards publication of an interim readout, which aims to support the utility of multimodality testing and heart care coverage beyond year one. We expect publication in 2024. These studies are expected to generate evidence that, coupled with the enhancement of our revenue cycle management infrastructure, will support an improved rate of reimbursement. In our Patient and Digital Solutions business, we aim to further increase adoption of our offerings in 2024. Over 70% of transplant centers in the U.S. use one or more of our digital solutions. As shared last month, we have begun rolling out a new platform to enhance the uptake of CareDx services. The CareDx Pro platform integrates into a transplant center’s electronic medical record workflow, allowing clinicians and administrators a single interface to access our digital health and SaaS solutions, as well as seamlessly order and view test results for AlloSure, AlloMap, and HeartCare. Our growing lab products business operates globally, and we will continue expanding to new transplant laboratories worldwide with our top-tier kitted products using NGS and QPCR technologies. Our market leadership in NGS HLA typing through our AlloSeq Tx line, combined with our broad geographical reach, enables us to benefit from scale as our products business grows. Operationally, we will maintain our focus on carefully managing our cost structure and investments. This commitment reflects our leadership team's dedication to driving growth and value for investors. We have enacted multiple cost reduction measures, including recent actions in Q4 to streamline operations further. We will continue to manage our near-term costs and cost of goods sold as we work towards profitability. CareDx is taking a disciplined approach to investments that support our clinicians, patients, and employees while delivering shareholder value. Finally, I would like to address our advocacy efforts on behalf of transplant patients. We continue to engage with HHS and CMS while supporting patient advocacy efforts to restore full access for Medicare beneficiaries. The transplant community has made significant progress, highlighted by the honor of the gift efforts in Washington, D.C. in early December, where hundreds of transplant patients, physicians, and advocates gathered on Capitol Hill to advocate against the recent rollback in Medicare coverage. Notable speakers at the press conference included key figures, showcasing the bipartisan nature of these concerns. We, along with the broader transplant community, will continue to advocate for access to transplant innovation in 2024 and beyond. Recently, the Wall Street Journal published another powerful editorial highlighting the patient access issue for transplant tests and the coverage disparities faced by Medicare patients. We are encouraged by the momentum as we enter 2024. Our team is focused on executing our plan, building on the revenue baseline established in the latter half of 2023, expanding patient access to our innovative portfolio across all three business segments, and speeding up our path to profitability. I will now ask Abhishek to share more details on our results for 2023 and our outlook for 2024. Following that, we will hear from Michael Goldberg, our Board Chair, for an update on our CEO search before we move into the Q&A.

Abhishek Jain, CFO

Thank you, Alex. In my remarks today, I will focus on our fourth quarter and full-year '23 results before turning to '24 guidance. Unless otherwise noted, my remarks will focus on non-GAAP results. Please refer to GAAP to non-GAAP reconciliations in our press release today for further information. I'll start with the financial highlights. Number one, reported full-year '23 revenue of $280.3 million, exceeding the high end of our updated guidance. Number two, delivered over 165,000 patient test results in '23. Patient test volumes grew 4% in the fourth quarter to approximately 39,900 tests as compared to the third quarter, a second consecutive quarter of sequential growth. Number three, reported full-year '23 testing services revenue of $209.7 million. Fourth quarter testing services revenue of $46.7 million came in better than expected, primarily driven by volume growth. Number four, reported patient and digital solutions revenue of $37.1 million in '23, up 29% year-over-year and product revenue of $33.5 million, up 15% year-over-year. Number five, maintained a strong cash position of $235.4 million at the end of December and no debt. And we bought 2.9 million shares for approximately $27.5 million in cash in '23. Moving to the details, starting with Testing Services. Testing Services revenue for the fourth quarter was $46.7 million, down 2% as compared to the third quarter of '23. As discussed in our Q3 earnings call, fourth quarter revenue was expected to be lower due to the fourth quarter impact of heart care tests that were outside of the new coverage criteria from MolDX, as well as the exclusion of onetime settlement to the large Medicare Advantage payer. As mentioned earlier, testing services volume increased by 4% sequentially, and we are pleased to see both kidney and heart franchises grow for the second consecutive quarter. As Alex alluded earlier, we stay focused on executing our testing services strategy to increase market penetration and drive volume growth. Our non-GAAP testing services gross margin was 72% in the fourth quarter as compared to 74% a quarter ago. We are pleased with the efforts of our lab operations team in keeping the gross margin above 70% despite a significant top line impact from billing article revisions. Our operations team continues to execute on reducing shipping and specimen processing costs, improvements in inventory management and scrap reduction and optimization of collection kits usage. Moving to our Digital and Patient Solutions and Lab Products businesses. Our Patient and Digital Solutions business recorded revenue of $9.6 million in the fourth quarter, up 14% year-over-year, and $37.1 million for the full-year '23, up 29% as compared to '22. Strong top-line results were driven by both organic growth and our acquisitions of HLA Data Systems and MediGO. Our Patient and Digital Solutions business, non-GAAP gross margin for the fourth quarter was 42% as compared to 34% a year before. For the full-year '23, non-GAAP gross margin improved by 600 basis points to 37% as compared to 31% in '22. The gross margin expansion was driven by top-line growth, cost-saving initiatives, our transition to a recurring SaaS-based model, and the higher gross margin profile for our newer acquisitions. Our products business recorded revenue of $9.2 million in the fourth quarter, up 8% year-over-year and $33.5 million for the full-year '23, up a solid 15% year-over-year. Growth in the products business was driven by our higher-margin NGS offering. Products business non-GAAP gross margin for the fourth quarter was 46% as compared to 54% a year ago, primarily due to a one-time inventory charge associated with end-of-life for one of our products in this business. Products business non-GAAP gross margin for the full-year '23 grew an impressive 500 basis points to 54% as compared to 49% in '22, and it was driven by organic growth, cost efficiencies from supply chain optimization with ongoing manufacturing site consolidation and a continued shift to NGS offerings in our revenue mix. Our team with focus on improving gross margins further as they drive for efficiencies and complete the planned site consolidation in 2024. Moving down the P&L. Non-GAAP operating expenses for the fourth quarter were $54.2 million, down approximately $3.5 million sequentially from Q3. So the sales and marketing spend increased $1.6 million, primarily related to our targeted policy efforts to restore Medicare coverage, while G&A expenses came down $4.4 million as a result of our focus on reducing legal expenses. Our adjusted EBITDA losses in Q4 were $10.3 million as compared to $10.9 million in Q3. We have also accrued $96.3 million for damages awarded by a jury in the IP litigation case in the fourth quarter of '23. As Alex mentioned earlier, we intend to seek judicial review of the verdict and believe that we have good and substantial defenses against the claims in the suit, and we will vigorously defend ourselves. For further disclosures on this matter, please refer to our recently filed 10-K. Turning to cash. We continue to maintain a strong balance sheet with $235 million in cash, cash equivalents, and marketable securities with no debt. Cash used in operations for the full-year '23 was $18.4 million, down 27% as compared to $25.2 million in '22. Despite the operational and financial challenges introduced by the billing article revisions, the improvement in cash used in operations in '23 is a testament to the outstanding efforts of the entire CareDx team. The cash used in operations was positively impacted by our RCM initiatives that delivered a fifth consecutive quarter of collections over testing services revenue and added $17 million to cash in '23. Finally, I would also like to note that we earned $3.2 million in interest income in the fourth quarter and $11.9 million in 2023. Based on our current cash position and anticipated cash usage in operations, we continue to believe that we do not need to raise cash in the foreseeable future. Finally, turning to guidance. We expect full-year '24 revenue to be in the range of $260 million to $274 million. The midpoint of our '24 guidance assumes, number one, low to mid-single-digit testing services revenue growth based on annualized actual testing services revenue for the fourth quarter of '23. Number two, Medicare reimbursement remains as currently implemented. No incremental revenue assumed from new coverage decisions from either Medicare or large commercial payers. Number three, mid-single-digit growth for both products and Patient and Digital Solutions businesses year-over-year. We're expecting our gross margin to be approximately 63% to 65%, with testing services gross margin slightly above 70%, products business gross margin in the mid-50s, and Digital and Patient Solutions gross margin in the high 30s. We expect our non-GAAP operating expenses to be between $207 million to $215 million, down from an annualized fourth quarter run rate basis, while absorbing for merit increases, benefits reset, and inflation. We expect adjusted EBITDA losses to be between $20 million to $30 million in '24, with quarterly improvements in adjusted EBITDA losses throughout the year. Before we open the line for questions, I would like to turn the call over to Michael to discuss the ongoing CEO search.

Michael Goldberg, Chairman of the Board

Thank you, Abhishek. We would like to briefly touch on the CEO search, which is well underway. The Board is leading an exhaustive search process aided by the search firm of Russell Reynolds. As communicated previously, we remain on track to announce a new CEO within the originally projected six to nine month time frame from the initiation of the search in November. The office of the CEO comprising of Alex, Abhishek, and myself continues to successfully drive the business forward. For over two decades, CareDx has been dedicated to improving transplant patient outcomes and extending long-term allograft survival. And we look forward to a strong 2024. With that, I'll hand it over to the moderator to open the line for questions.

Operator, Operator

Thank you. We will now be conducting a question-and-answer session. Our first question comes from Andrew Cooper with Raymond James. Please proceed with your questions.

Andrew Cooper, Analyst

Hi everybody. Thanks for the questions. Maybe just to start super high level. Obviously, a lot of noise, a lot that's happened through the course of 2023. It feels like this 4Q result really kind of getting back to stability and the base to grow from. But did anything stand out when you think about sort of ordering patterns, the cohort of patients that you're seeing those orders for or anything like that, I guess, across both kidney and heart in the fourth quarter? Just any surprises, any changes? Any commentary there on sort of what you're really seeing in the end market would be great.

Alexander Johnson, President of Patient and Testing Services

Thank you for those kind remarks. I believe we are returning to stability and growth, and we are eager to continue serving more patients. Q4 provides an excellent foundation for our growth, following the progress we made in Q3. I'll invite Abhishek to share additional insights, but the key takeaway is that we feel very optimistic about the consistent trends we have observed in patient mix moving forward.

Abhishek Jain, CFO

Thank you, Alex. I think you have covered it pretty well that we are very happy to see the second consecutive quarter of our testing services volume growth, and that gives us a lot more confidence as how the business is progressing as well as the growth is coming from both of our heart and the kidney franchises. So that gives us all the more comfort that we are basically kind of growing in the areas where we need to. The good news is that we are seeing the market growth in the heart side, the franchise volume growth to be in the double digits last year. So definitely a lot more promise there as we enter into 2024.

Andrew Cooper, Analyst

Okay. Helpful. And then, maybe just sticking to testing services, the gross margin side of things, like I said, obviously, some lumpiness through the course of '23, but I think you said low 70s or slightly above 70 for the year. Just any puts and takes there. And then as it pertains to the ongoing sort of legal dispute, maybe talk about your ability to, if you had to digest some form of royalty, how you would think about that in terms of 70-plus percent margins with frankly, not a very large proportion of your test actually being paid for it all in the first place?

Abhishek Jain, CFO

Yes. So I think on the testing services gross margin having like above 70% that in itself is like very, very healthy. We usually have been in the low 70s, mid-70s kind of the gross margin range, and with the billing article revisions, if I were to take the noise out, we basically kind of dropped to mid-60s, high 60s, kind of gross margin range. And that's the reason I was happy to see that we came in slightly above 70% because I remember calling out the Testing Services gross margin without that noise is close to 68% to 70% in our previous calls. So from that standpoint, we started to definitely see the improvement there. And we're continuing to work through as to how do we drop most of our revenue incrementals to the gross margin because we are not going to be increasing our spend other than the variable cost that we need to spend on the test that we need to run. So that's the first part. And the second piece, I think to your question, that a lot of our tests are not being paid, you're absolutely right. And I did kind of articulate that, that's a significant opportunity that we have in front of ourselves. I took the example of Q4, 40,000 tests. Maybe you should be booking $100 million revenue, but we booked $47 million. So there is a large opportunity, and that's the piece that we continue to work on through spending a lot of time and effort in generating the data that we need to and then going after the coverage. And finally, through our RCM initiative getting that whole coverage we have gained coming through the collections to our revenue in the P&L. So it's the overall process. So I still feel that continue to do that test and having that ability to gain that the opportunity that basically is the right thing to do as compared to worrying too much about the tests that are not paid today because we will get there.

Andrew Cooper, Analyst

Okay. Helpful. And then maybe just one last one if I can sneak it in. Just you've pulled a lot of cost out of the system. It's been impressive from that perspective. As we think about the commentary on not needing to access markets, not needing a cash raise, how do you think about the path to breakeven as you sit today? Is there more costs you can pull out? Is it more a function of, hey, we've got to get the top line higher than where we are today? Just how do we think about that trajectory to get to EBITDA and cash flow breakeven longer term?

Abhishek Jain, CFO

No, that's a great question, Andrew. And the way I kind of see about the adjusted EBITDA losses. If you look at the guide, we are guiding about $20 million to $30 million of adjusted EBITDA losses for the next year. Now in my mind, we will have basically the first half to be more front-loaded with our losses, and you can kind of model it based on a low double-digit adjusted EBITDA losses as we begin the 2024 and hopefully get to a low single-digit kind of adjusted EBITDA losses by the time we get to the end of 2024. That will basically set us up pretty solid to get back to adjusted EBITDA profitability and generating cash flow from operations in 2025. I'm not guiding for the 2025, but that's at least my thinking is that we are looking for improving adjusted EBITDA losses throughout the year.

Andrew Cooper, Analyst

Great. Yes, go ahead.

Abhishek Jain, CFO

I can quickly take the second part of your question on the cash flow, and that basically is also the reason that we have $235 million in cash. I can draw a quick parallel to our cash usage in operations in '23, which I called out at about $18 million. So looking at the adjusted EBITDA losses in '24, my sense is that the cash usage in operations would be very similar to those adjusted EBITDA losses without thinking about any over-collections or the improvement through the RCM initiative. So from that standpoint, if you're talking about a $25 million at the midpoint, cash usage with $235 million in cash and basically having a foundation by the end of '24 to get back to an adjusted EBITDA profitability in the next year, then you probably don't need to raise cash. So that's how we are thinking from the management standpoint.

Operator, Operator

Our next question comes from Matt Sykes with Goldman Sachs. Please proceed with your question.