Earnings Call Transcript - ELMD Q3 2021

Operator, Operator

Greetings. And welcome to the Electromed, Inc. Third Quarter Fiscal 2021 Financial Results Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. Please note, this conference is being recorded. I will now turn the conference over to our host, Kalle Ahl of The Equity Group. Thank you. You may begin.

Kalle Ahl, Host

Thank you, Diego, and good afternoon, everyone. Electromed’s third quarter fiscal 2021 financial results were released today after the market closed. A copy of the earnings release can be found in the Investor Relations section of the company’s website. The company has asked me to remind you that some of the statements that management will make on this call are considered forward-looking statements, including statements about the company’s future operating and financial results and plans. Such statements are subject to risks and uncertainties that could cause actual performance or achievements to be materially different from those projected. Any such statements represent management’s expectations as of today’s date. You should not place undue reliance on these forward-looking statements, and the company does not undertake any obligation to update any forward-looking statement for any reason, even if new information becomes available or other events occur in the future. Please refer to the company’s SEC filings for further guidance on this matter. Joining us from Electromed this afternoon are Kathleen Skarvan, President and Chief Executive Officer; and Mike MacCourt, Chief Financial Officer. Kathleen will begin with some opening remarks, after which Mike will present a summary of the company’s third quarter fiscal 2021 financial results and then we will open the call for questions. Now it’s my pleasure to turn the call over to Kathleen.

Kathleen Skarvan, CEO

Thank you, Kalle. Good afternoon, everyone, and thank you for joining us to discuss Electromed’s third quarter fiscal 2021 financial results. This quarter our net revenue totaled $8.8 million, compared to $8.7 million in the prior year period, reflecting a 4.2% year-over-year increase in home care revenue, partially offset by a year-over-year decrease in institutional home care distributor and international revenue. Although, this winter’s resurgence of new COVID-19 cases and hospitalizations dampened our home care revenue in January and February, we were pleased to finish the quarter with record monthly home care revenue and record referrals in March. Exiting the quarter, we benefited from increased patient visits to clinics and greater access for our sales representatives as vaccines started to become more widely administered throughout the country. During the pandemic, we’ve continued to benefit from our hybrid virtual and face-to-face selling approach and from the provisional CMS waiver that temporarily relaxes certain rules for the prescribing devices like ours to the non-commercial Medicare population. With the CMS waiver we have experienced an increase in approvals for previously non-covered diagnoses and faster approval times for covered diagnoses. Non-commercial Medicare historically represents approximately 50% of our total payer mix for home care revenue. We were pleased that CMS recently extended this waiver until July of 2021. Moving to the institutional side of our business, revenue remains challenged due to reduced hospital purchases in light of COVID-19 and precautions related to aerosol spread. That said, we are very encouraged by this quarter’s 43.4% sequential revenue growth in our institutional segment and noted stronger coding activity that has continued into the fourth quarter. Our institutional strategy remains unchanged. We are focused on fortifying the hospital call point and strengthening our partnerships with integrated delivery networks. As a reminder, growth in our institutional business should augment our home care revenues, as the high frequency chest wall oscillation or HFCWO brand used in the hospital is often the default prescribed when discharging a patient. Shifting to the bottom line, during the quarter we generated positive net income of approximately $224,000 or $0.03 per diluted share, despite managing through ongoing COVID-19 headwinds in the early part of the quarter, while continuing to make strategic growth-oriented investments in R&D and SG&A. Reflecting our optimism about the long-term market opportunity for SmartVest, this quarter we continued to make significant strategic investments in sales, marketing, infrastructure, market research, and product development to augment future revenue growth. We are in the process of recruiting and hiring four additional direct sales employees and a regional sales manager, all who should be fully trained and onboarded in July, and we do anticipate continuing our sales force expansion throughout fiscal 2022. Our planned sales team expansion will incorporate metrics to measure and manage new sales reps to maximize our return on investment. Over the past two years, we have benefited from our focus on sales rep productivity, fine-tuning our recruiting profile, and revising our onboarding and training that has improved our time to productivity and return on investment, as demonstrated by strong annualized home care revenue per direct sales representative. At the end of our third quarter, we had 48 total field sales employees, of which 39 were direct sales. This compares to 44 total field sales employees, of which 37 were direct sales at the end of the prior year period. We have also added key employees in our marketing and engineering teams to strengthen our capability in clinical and market research and product development, while continuing to invest heavily in direct-to-consumer marketing campaigns to increase awareness of bronchiectasis and SmartVest as an effective treatment. Additionally, we invested in a new revenue cycle management platform, which we deployed this quarter and believe that it will increase overall productivity from our reimbursement team and provide additional analytics to help drive revenue. Furthermore, we have invested in comprehensive market research, working with leading healthcare industry consultants to gain insights that will help us make key business decisions, such as expanding adoption to physicians not currently prescribing HFCWO, growing market share by targeting HFCWO prescribers not currently prescribing SmartVest, and expanding our sales force in the highest potential geographies. Finally, we continue to invest in R&D at an elevated level to develop our next-generation device for HFCWO. We are optimistic that the strategic investments we are making in SG&A and R&D today will augment our future revenue growth and position us for increased market share. In closing this quarter, we once again successfully navigated challenges related to the pandemic and could not be more proud of our amazing dedication to our employees, whose health, safety, and well-being remain our top priority. We generated two consecutive quarters of home care revenue growth versus prior year periods, and generated positive net income and strong operating cash flow, all while continuing to make increased growth-oriented investments in SG&A and R&D. We know that SmartVest is associated with a lower risk of respiratory infections, which can be serious or life-threatening and can result in costly hospital admissions, reducing comprehensive cost of care. We have published multiple outcome studies demonstrating that bronchiectasis exacerbation rates drop significantly when using our devices. We also know that non-cystic fibrosis bronchiectasis represents a significant and growing market opportunity estimated at more than 4 million individuals in the United States. For those of you who know our story, we believe that approximately 630,000 people with a bronchiectasis diagnosis could benefit from HFCWO therapy. Yet only an estimated 77,000 patients in the Medicare population are currently being treated with a device like SmartVest. The growing body of clinical evidence combined with the powerful patient testimonials that we routinely hear support the use of our SmartVest system as a standard-of-care for individuals with bronchiectasis. In this context, we remain committed to delivering long-term profitable growth while maintaining the highest standards of integrity, respect, and privacy. With that, I’m going to turn it over to Mike for a more detailed discussion of our financial results.

Mike MacCourt, CFO

Thank you, Kathleen, and good afternoon, everyone. Our net revenue in the third quarter of fiscal 2021 increased 0.5% to $8.8 million from $8.7 million in the third quarter of fiscal 2020, driven by growth in home care revenue. Home care revenue increased 4.2% to $8.2 million, primarily due to higher referrals and approvals compared to the prior year period. Institutional revenue decreased 27.3% to $443,000 from $609,000 in the prior year period, primarily due to a decrease in the volume of devices and disposables sold due to ongoing impacts from COVID-19 on hospital purchasing activity. Home care distributor revenue decreased 36% to $105,000 from $165,000 in the prior year period. International revenue, which is not a strategic growth area for Electromed, decreased 44.5% to $76,000 compared to $137,000 in the prior year period. Gross profit in the third quarter of fiscal 2021 increased 1.6% to $6.7 million or 76.3% of net revenue from $6.6 million or 75.4% of net revenue in the prior year period. The increase in gross profit percentage was primarily due to a higher mix of home care revenue and a favorable mix of Medicare within home care. Operating expenses, which include SG&A, as well as R&D expenses, totaled $6.5 million or 73.5% of revenue in the third quarter of fiscal 2021, compared with $5.7 million or 65% of revenue in the same period of the prior year. SG&A expenses increased 14.4% to $6.1 million in the third quarter of fiscal 2021 from $5.3 million in the same period of the prior year, primarily due to increased payroll and compensation-related expenses associated with a higher average number of sales and marketing personnel, greater temporary resources to assist with systems infrastructure investments, and increased incentive payments on higher home care revenue. We also incurred higher discretionary marketing expenses related to a direct-to-consumer marketing campaign and a comprehensive market research project, as well as higher professional fees. These increased expenses were partially offset by lower travel, meals, and entertainment expenses. R&D expenses increased to $407,000 or 4.6% of net revenue in the third quarter of fiscal 2021 from $392,000 or 4.5% of net revenue in the prior year comparable period, primarily due to investments in our next-generation product development. We estimate that R&D expenses will continue to be in the 4% to 6% of net revenue range through the remainder of calendar year 2021. Operating income totaled $243,000 in the third quarter of 2021, compared to $913,000 in the prior year period. Net income before income tax expense totaled $253,000 in the third quarter of fiscal 2021, compared to $947,000 in the third quarter of fiscal 2020. In the quarter, income tax expense totaled $29,000, compared to $294,000 in the same period of the prior year. Our effective tax rate in the third quarter of fiscal 2021 was 11.5%, compared to 31% in the prior year period. The third quarter of fiscal 2021 included a $37,000 discrete tax benefit as a result of lower state and federal taxes than what was originally estimated in the company’s 2020 fiscal tax provision. Our net income totaled $224,000 or $0.03 per diluted share in the third quarter of fiscal 2021, compared to $653,000 or $0.07 per diluted share in the prior year period. Now moving on to the balance sheet and operating cash flow. Our balance sheet on March 31, 2021, included cash and cash equivalents of $12.5 million, no long-term debt, working capital of $28.1 million, and shareholders’ equity of $32.9 million. Cash flow from operations in the third quarter of fiscal 2021 totaled $834,000, compared to $889,000 in the comparable prior year period. We are pleased to be debt-free and have a strong balance sheet to support our long-term growth strategies. We are currently evaluating options regarding the optimal use of our cash to maximize shareholder value. We are still on track to complete our long-range planning and review of capital allocation by the end of our fiscal year and plan to communicate our strategy during our Q4 earnings call. This concludes our prepared remarks. Operator, please start the Q&A portion of the call.

Operator, Operator

Thank you. First question comes from Kyle Bauser with Colliers Securities. Please state your question.

Kyle Bauser, Analyst

Great. Thanks for all the updates today and congrats on the quarter. Maybe I’ll start on the distributor bucket. I know it’s not all that material. But I’m just curious, as you think about adding reps and building out the sales organization, can you talk about how you’re thinking about layering in new reps? Is it by geography? Is it under a new structure? Do you plan on maybe focusing on the western regions where you do have a distributor to increase margins? Just kind of curious how you’re thinking about building out the sales force?

Kathleen Skarvan, CEO

Yeah. Hi, Kyle, and thank you for the question. When we entered into the distributor market, almost two years ago, our intent was to understand if it was an opportunity or sales channel that could help us to increase awareness with physicians regarding bronchiectasis and really increase the sales of SmartVest. I think that it’s still a little bit of a pilot yet or to be determined what the value may be longer term. With the COVID-19 pandemic, it did dampen the ramp that we anticipated with a couple of those distributors. So I think we’ll have more to report on that next quarter on how that’s progressing and what our direction may be. You are right, though, we will be looking at alternatives to determine whether we should stick with some of those distributors in the western region or if it would be more appropriate for us to put direct reps there. So I appreciate the question, and as I said, we’re in the process of evaluating and we will have more to report next quarter.

Kyle Bauser, Analyst

Okay. Got it. Appreciate that. And I think you mentioned in the prepared remarks there were some kind of non-recurring expenses that related to a market research project. Is that related to hiring a consultant and kind of evaluating market strategy for deploying resources and sales organization or is that an internal project? Just kind of curious.

Kathleen Skarvan, CEO

Yeah. Thanks, Kyle, for that question as well. So we actually pulled in some of those expenses. Earlier we were thinking about doing most of that research in quarter four, but decided to pull it in because as we anticipated adding new reps sooner, we determined that that information would be highly valued, as we understand better where to place reps. So this is market research, and yes, we did work with a very reputable market research firm that understands claims data, and they understand how to research and better quantify a market for durable medical equipment or those devices that are placed into the home care market. This information is going to be beneficial since we can trace bronchiectasis claims and also claims for prescriptions for high frequency chest wall oscillation by physician. That’s going to help us understand better where we should position our sales reps from a prescribing standpoint, but also, as a sales leader of mine previously used to say, fish where the fish are. This is really going to benefit us as we’re really focused on market share gain over the next two to three years and certainly beyond. That's where we believe we'll see our growth engine for revenue, and it’s going to be extremely beneficial for us to ensure that we're maximizing our return on investment for those new sales reps.

Kyle Bauser, Analyst

Okay. Got it. And then obviously, a very strong quarter in the home care bucket as it relates to Medicare and it’s nice to see the waiver was extended into July, so the year-over-year growth has been very strong there for the last three quarters. If we think about the commercial home care bucket, it’s kind of hit or miss each quarter. I think it was down a little bit this quarter. Can you just talk about the dynamics between those two buckets in terms of approval rates? Do you think that the Medicare Advantage waiver or the Medicare waiver would kind of streamline things on the private side eventually? But I’m just kind of curious how things are going in both of those buckets. Thank you.

Kathleen Skarvan, CEO

Yeah. There’s a fair amount of complexity related to the dynamics between the traditional Medicare, where the CMS waiver applies, versus the commercial. The commercial would contain commercial Medicare and overall commercial plans. The challenge there is access to clinics is still somewhat limited, particularly in January and February. This makes it more challenging to collect the requisite medical records that may be needed in order to gain an approval for a covered diagnosis. Often, we’re managing that here at corporate, and the reimbursement team is calling the clinic asking for that, but some situations require a rep to go in and talk to the medical assistant, which can trigger the process more effectively. I think that impacted the commercial segment between quarter two and quarter three. As we said, March showed record home care revenue and referrals, and we anticipate that will translate across both commercial and traditional Medicare moving forward.

Kyle Bauser, Analyst

Got it. Okay. Great. Thank you for all the updates and for taking my questions. I’ll jump back in queue here.

Kathleen Skarvan, CEO

Hey. Thanks, Kyle.