Inspire Medical Systems, Inc. Q2 FY2022 Earnings Call

Good afternoon. My name is Dylan, and I'll be your conference operator today. At this time, I would like to welcome everyone to the Inspire Medical Systems Second Quarter 2022 Conference Call. I'll now hand the call over to your first speaker, Megan Rowekamp, Director of Financial Reporting at Inspire. You may begin the conference.

Thank you. And thank you all for participating in today's call. Joining me are Tim Herbert, President and Chief Executive Officer; and Rick Buchholz, Chief Financial Officer. Earlier today, we released financial results for the three and six months ended June 30, 2022. A copy of the press release is available on our website. On this call, management will make forward-looking statements within the meaning of the federal securities laws. All forward-looking statements, including, without limitation, those relating to our operations, financial results and financial condition, investments in our business, continued effects of the COVID-19 pandemic, full-year 2022 financial and operational outlook and improvements in market access are based upon our current estimates and various assumptions. These statements involve material risks and uncertainties that could cause actual results or events to materially differ. Accordingly, you should not place undue reliance on these statements. See our filings with the Securities and Exchange Commission, including our quarterly report on Form 10-Q filed with the SEC today, for a description of these risks and uncertainties. Inspire disclaims any intention or obligation, except as required by law, to update or revise any financial projections or forward-looking statements, whether because of new information, future events or otherwise. This conference call contains time-sensitive information and speaks only as of the live broadcast today, August 2, 2022. And with that, it is my pleasure to turn the call over to Tim Herbert. Tim?

Thank you, Megan. And thanks everyone for joining the call today for our second quarter 2022 business update. We are excited to report on a very strong second quarter with 73% revenue growth over the same period last year. Moreover, we overcame several challenges common across the med tech sector, including supply chain issues, staffing shortages, and economic concerns. This really highlights the team's resiliency and commitment to the patient. To this end, we currently have an abundant supply of both finished goods and Work in Process. We do not expect COVID to have a negative impact on our business going forward and regarding staffing challenges, we continue to be able to get cases scheduled in the OR as well as at ambulatory surgical centers. Collectively, our success in managing these factors allows us to focus on executing our growth strategy. With that, let's review our second quarter results. In the second quarter, we generated worldwide revenue of $91.4 million, representing a 73% increase compared to the second quarter of 2021. Looking ahead, we are confident in the outlook of our business for the remainder of 2022. Therefore, we are increasing our full-year 2022 revenue guidance to a range of $354 million to $362 million from our previous guidance of $336 million to $344 million. This guidance represents an increase of 52% to 55% over full-year 2021 revenue of $233 million. As always, I would like to reiterate that our primary focus remains on the patients, to ensure that each and every one has the best possible outcome from Inspire's therapy. Let's get into the details surrounding the second quarter beginning with capacity. During the quarter, we added 52 new U.S. implanting centers ending the period with a total of 785 centers. Now, while 52 new centers is within our guidance range, we experienced a slight delay in opening several additional centers as a result of the price increase implemented during the quarter, which required centers to update approvals from their value analysis committees. And at the end of the second quarter, ASCs made up 23% of all U.S. centers. We will continue to monitor and ensure that the field team is focused on accounts that can provide the greatest benefits to patients moving forward. And for the remainder of the year, we continue to expect to add between 52 and 56 centers per quarter. The utilization at existing centers showed a significant increase and was the leading factor in the growth during the quarter. We will continue our balanced approach of increasing utilization at existing centers, as well as opening new centers to grow capacity and improve patient access to care. Regarding the U.S. sales team, we created 17 new sales territories in the second quarter, bringing our total to 191. While this was ahead of our guidance, we continued to expect to add 11 to 12 new territories per quarter during the remainder of 2022. We also increased the number of field clinical representatives by adding seven, ending the second quarter with 100. During the remainder of the year, we will continue to scale our sales management and training teams to optimize our ongoing expansion and to focus on strong patient outcomes and center productivity. This builds upon the changes that we implemented in the first quarter when we expanded our U.S. sales leadership team which now includes 30 regional managers, an increase of three, as compared to Q1, and eight area Vice Presidents. We expect increased productivity from the team as the year moves on, resulting in additional Inspire procedures while maintaining and improving patient outcomes. Turning to reimbursement. CMS recently announced the proposed 2023 payment rules for physicians as well as for hospitals and ASCs. For physicians, the RVUs proposed for the Inspire procedures have been slightly increased, hospital reimbursement proposed for 2023 remains flat to the current year. The other good news is that the ASC reimbursement is proposed to increase by nearly 4% to $25,744. Our growth continues to focus on utilization improvements at existing sites and setting utilization targets for newly activated centers. Paramount to this is improving our ability to assist interested patients with making a connection with a qualified healthcare provider. Importantly, our outreach programs continue to be very effective in generating interest in Inspire therapy, primarily through the inspiresleep.com website. For the first half of the year, the number of visitors to our website was approximately 7.4 million, an increase of 131% year over year. And from these visits, we had approximately 42,000 physician contacts. Of note, these physician contacts represent the calls and emails to our Advisor Care program or directly to a physician's office and do not include participation in community health talks or referrals directly from a patient’s healthcare provider. The growth in web activity leads patients to connect with our Advisor Care Program or ACP, which now serves approximately 85% of our centers. We intend to continue to expand our ACP throughout 2022, which will include many technology advancements to streamline the process through which patients are able to make an appointment with qualified physicians and ultimately confirm their suitability for receiving Inspire therapy. Moving on, our international business had a strong quarter driven by increased procedure volumes. While units sold outside the U.S. were up 8% year over year, unfavorable exchange rates resulted in a decrease in international revenue of 3% from the second quarter of 2021. We remain very optimistic about our European prospects, particularly in Germany, and expect an increased strength in results throughout the remainder of 2022. In other European countries, we have trained three additional sites in the Netherlands in response to positive reimbursement decisions. In the UK, we have begun to identify and train additional centers after the first implants were completed there in Q1 and follow-on procedures this past quarter. Following the recent receipt of country-wide reimbursement for Inspire therapy in France, we continue to have dialogue with authorities there to determine the proper reimbursement level. In the interim, we continue to plan for the broader launch of Inspire therapy in that country. We also have received positive reimbursement news in Belgium and Austria. In Japan, we remain excited about the opportunity, and along with our partner, Japan Lifeline, have now trained multiple centers, including two which have completed their first procedures and several others who are currently screening patients. The team is also excited about completing our initial procedures at two centers in Singapore during the second quarter, and we have additional procedures scheduled. Furthermore, we continue to work with physicians in Hong Kong on the scheduling of their initial cases. Turning to R&D, we are very optimistic about our new Bluetooth-enabled patient remote that has been approved by the FDA. This next generation Inspire digital platform, branded SleepSync, enables remote therapeutic monitoring through the new patient remote and web-based patient management portal. We formally introduced the SleepSync Digital Health platform at the American Academy of Sleep Medicine Meeting in June, and have a full commercial rollout plan for the second half of this year. We expect the SleepSync Digital Health platform will become an important tool for physicians to monitor patient experiences and outcomes. Later this year, we plan to submit our upgraded physician programmer for FDA review. This new programmer connects with SleepSync and is key to the next step of providing remote patient programming. Last month, we received FDA approval for full body MRI compatibility. This full-body MRI approval expands the Inspire use labeling that previously allowed only head, neck, and extremity MRI scans. Most importantly, this approval is retroactive, applying to all patients with the Inspire IV Neurostimulator device that was introduced in 2018. We know that concern over future access to MRI had been a barrier for some patients considering Inspire therapy. Compatibility with this important diagnostic tool will provide peace of mind for current and future Inspire patients. We also recently received FDA approval for the new silicone-based stimulation and sensing leads, which provide improved manufacturability, easier system implantation, increased long-term performance, and enhanced reliability. We are targeting the U.S. launch of the new leads for later in 2022. Longer term, we continue to work on the design for our 5th generation Inspire Neurostimulator. The Inspire V device will eliminate the pressure sensor and incorporate sensing inside the neural stimulator using an accelerometer to measure respiration. We have strong confidence in the current design and are moving into qualification testing and continue to target FDA approval in late 2023. Finally, we continue to conduct research and clinical trials to increase the number of patients who can benefit from Inspire therapy. As an example, we have been working with the FDA to increase the upper limit of our indication to include patients who have an Apnea-Hypopnea Index or AHI of up to 100 events per hour. The current indication is approved for patients with an AHI of up to 65 events per hour. In addition, our current labeling carries a warning for patients with a Body Mass Index of up to 32. With our current data, we will be submitting a request to the FDA to increase the BMI warning to patients with a BMI of up to 40. Just this week, we learned that the FDA has accepted these indication changes with a breakthrough device designation, thereby reducing expected review time. In summary, we continue to experience significant momentum in all key aspects of our business and our focus on patient outcomes and physician education supports our confidence in the continued growth of Inspire. Our core focus for 2022 remains increasing utilization at our existing centers, which we demonstrated well in the second quarter, as well as increasing capacity by opening and training new centers. The continued expansion of our call center and investment in our DTC campaign support these initiatives. Finally, the many R&D achievements during the second quarter highlight our commitment to improving patient outcomes and enhancing both the patients' and healthcare providers' experience with Inspire therapy. We remain extremely excited about our future prospects and are confident that we have the appropriate strategy in place to drive long-term shareholder value. With that, I'd like to turn the call over to Rick for his review of our financials.

Thank you, Tim, and good afternoon, everyone. Total revenue for the second quarter of 2022 was $91.4 million, a 73% increase from the $53 million generated in the second quarter of 2021. On a sequential basis, revenue for Q2 grew 32% compared to $69.4 million in the first quarter of 2022. U.S. revenue in the second quarter was $87.9 million, an increase of 78% from the $49.4 million in the prior year period. The growth in the U.S. reflects several factors, including higher utilization at existing centers, the addition of new implanting centers, expanded direct-to-consumer marketing, and an increased number of territory managers. On a constant currency basis, outside the U.S., revenue grew 7% year over year, while on a reported basis, revenue decreased 3% from the prior year period to $3.5 million due to an 11% reduction in foreign currency exchange rates. The U.S. average selling price in the second quarter was $24,100 compared to $23,900 in the prior year period. The increase reflects our price increase that began in May. We expect U.S. ASPs to steadily climb throughout the remainder of 2022 and into 2023. As the price increase is implemented with our various hospital systems, we expect the U.S. ASP to approach $24,900. The ASP outside the U.S. was $21,000 during the quarter, compared to $23,400 in the second quarter of 2021, which was driven primarily by unfavorable exchange rates and a lower ASP for distributor sales in Asia. Gross margin in the second quarter decreased to 84.5% compared to 85.8% in the prior year period, primarily due to higher costs of certain component parts, which is common across the industry given the current supply chain challenges. As Tim discussed, due to the product transitions and introductions of the new silicone leads and the new Bluetooth-enabled patient remote, a potential inventory obsolescence charge on any remaining stimulation and sensing leads and patient remotes may occur in the second half of 2022. The amount of the charges, if any, will depend on the timing of the introduction of the new leads and remotes, both in the U.S. and outside the U.S., which is uncertain at this time. For this reason, along with the higher cost of certain component parts, we are lowering our full-year 2022 gross margin guidance to between 83% and 85%. Longer term, we expect gross margins to return to the prior guidance levels of about 85%. Total operating expenses for the second quarter were $91.2 million, an increase of 57% as compared to $58 million in the second quarter of 2021. This increase was due to the expansion of our sales organization, increased direct-to-consumer marketing programs, continued product development efforts, and general corporate costs. The increase in operating expenses is reflective of our ongoing plan to drive continued growth and to make investments in key areas of our business. Net loss for the second quarter was $14.5 million compared to $13.1 million in the prior year period. The net loss per share for the second quarter was $0.53 per share compared to the net loss per share of $0.48 in the second quarter of 2021. The weighted average number of shares outstanding for the second quarter was 27.6 million. We anticipate that the weighted average number of shares for the third quarter will be approximately 27.7 million. Moving to the balance sheet as of June 30, our cash and investments totaled $196 million. Our year-to-date cash usage of $28 million includes the previously announced $10 million strategic investment in EnsoData and $3 million in initial debt principal payments. This strong cash position allows us to remain focused on executing our growth strategy of increasing procedure volumes at existing centers and training and opening new implanting centers. In conclusion, our strong performance and recent implant trends provide us with confidence in our outlook for the remainder of the year. With that, our prepared remarks are concluded. Dylan, can you please open up the call for questions?

Our first question comes from Larry Biegelsen from Wells Fargo. Please go ahead.

Congratulations on another strong quarter, Tim and Rick. Rick, I hope you're feeling better. I have two questions, one regarding the filings you announced and another about the guidance. First, can you provide details on the filings for the AHI to 100 and the BMI to 40? It sounds like you have the necessary information. What data have you submitted, and could you put that into context for us? How much does this expand your total addressable market? It seems quite significant. I have one follow-up question.

We're very excited about it. As you know, we've had the ADHERE registry ongoing since FDA approval back in 2014, and now we are looking at data of over 3,000 patients and we're continuing to enroll in that. The cap on that ADHERE registry is 5,000 patients at which time we plan to transition over to ADHERE 2.0, which will be part of the SleepSync Digital Healthcare platform. So, very excited with that data. And remember that when we did prior authorizations, we work with physicians for patients who are outside of the indication. We make sure we tell the insurance companies that this patient is outside the AHI upper limit, but we always fought for those patients because what other options do they have? And so we would submit to the insurance companies; we would be able to get approval. And so in the ADHERE registry over the years we have collected a significant amount of data with patients with AHI higher than 65, as well as those with the BMI higher than 32. We have provided all that data to the FDA already, and we are just formalizing the final PMA supplements. That's when the FDA came back and let us know about the positive designation that these applications will carry that really minimizes the review time. The good news is the FDA has already reviewed the data. So very promising. If you look at the STAR data and the enrollment from the STAR Trial, there are several items that offset each other, but in general, we expect that this could be a 20% increase in our overall target market. So we're very encouraged by that. And what's really encouraging is these patients who have been getting therapy off-label can now be included with some of the healthcare policies. So pretty exciting.

Thank you for the comprehensive response, Rick. You've been anticipating this question, but the first half growth over 70% of the guidance at the midpoint implies about 40% in the second half at the midpoint. Is there something in the environment that drives a slowdown or is this just conservatism and how should we think about the cadence in Q3? And thanks for taking the questions.

Yes, we haven't changed our approach to guidance, and we are focused on expanding our commercialization efforts by adding more centers and territory managers. We aim to maintain a ratio of about four to six centers for each territory manager. With a significant increase in utilization from existing centers and the addition of 17 new territory managers, as well as our new dedicated code this year and the two incision approach implemented last year, we feel confident in increasing our guidance for the remainder of the year. Typically, we observe a stronger Q4 compared to Q3.

Rick, do you expect Q3 to be up as we usually see, or do you think it will be more pronounced this year? Thanks for taking the questions.

Yes. I mean, you've seen that phenomenon in how we have a strengthening throughout the year, especially in Q4 before the deductibles reset, and then we have our seasonality in Q1, but yes, same as past years.

Thank you. And I show our next question comes from the line of Robbie Marcus from JP Morgan. Please go ahead.

Maybe to start, once again, you've put up really nice utilization, good news center growth. Any way now that you're a couple of quarters into your national advertising program, it's about a year since the CPAP recall came. Any way to put some metrics around how the national program is impacting numbers? If you have any metrics you could share? And any way to size up the CPAP recall at this point and how much of a tailwind do you think is left there?

Sounds great. Let's discuss the utilization, which was very positive in the second quarter and a key focus for the team. We opened 52 new centers, which aligns with our guidance and is strong, although we've previously been opening centers at a higher rate. One trend driven by COVID was the establishment of new service locations for physicians to conduct procedures during that time. As we move into the second quarter, the trend remains very strong. The price increase has caused a couple of new centers to transition into the third quarter. The national programs continue to enhance awareness. Earlier in the year, we experienced a significant surge in web traffic. Currently, we have a rotational patient outreach program in place, operating one week on and one week off across the entire United States. While we've returned to a steady rate, we still had over 7 million visitors to the website, indicating substantial interest. This has driven our need to further invest in digital tools to connect patients with physicians. The national programs facilitate the opening of new centers, increased utilization, and enhanced capacity. Additionally, SleepSync is expanding capacity for sleep physicians to treat more patients. This comprehensive program will continue to fuel our growth. Regarding the CPAP recall, it remains a significant factor in our operational environment. We are doing everything possible to assist those patients in receiving therapy. While we don't anticipate a resolution in the near future, we are committed to supporting those patients and will strive to help them secure insurance approvals.

Maybe as a follow-up, when we do doc checks, they love the product. There’s still a ton of room to go in terms of utilization at the centers, but many years down the road, one of the things we consistently hear is that there are only so many docs who can do this and they only have so many hours in the day. So, how should we think about Inspire V as increasing the available capacity within the system? How much can that open up with the shorter procedure and anything else you can do to keep capacity not the issue going forward?

Sure. If you look back to when we went from three incisions to two incisions, we're able to take it down from 120 minutes down to 90. Now, when we go to Inspire V, not only are we getting a significant increase in technology and improved sensing with the accelerometer, but we are eliminating the pressure sensing lead altogether. That has a significant, not only reduction in OR time or operating time, but also an improvement in overall system reliability. So if we can get that OR time down to even 60 minutes, that's another very significant reduction, thereby improving capacity and allowing ENT surgeons to be able to schedule additional cases in a single day. We need to continue to improve the surgical techniques, improve the technology, and improve the training. As surgeons become more experienced with the procedure, they themselves get better and more proficient. That reduces time. That being said, we still need surgeons to allocate a greater percentage of their practice to Inspire. With improvements in reimbursement, there's now economic arguments to support that as well as the strong patient outcomes and the strong safety profile of the therapy. So again, combining everything together is what's going to continue to drive improvements in capacity down the road.

Thank you. And I show our next question comes from the line of Travis Steed from Bank of America. Your line is open.

Thanks for taking the question and congrats on the strong quarter. Don't really finish staffing headwinds in these numbers. So a great quarter, I guess, on Q2, would love to kind of get some color on April, May, June, early July, if you saw anything different month to month? And then on the utilization piece, any way to kind of quantify and think about where you think utilization goes from here?

Absolutely. When we are coming out of Q1, remember during the last earnings call, we talked about the challenges we had in January and the first half of February. Certainly, we have our normal seasonality, but this year it gets compounded with the rebound of COVID again. We spent a lot of the second half of February and most of March working through the cases that were deferred from the beginning of the year, and some of those pushed into April. So April was a really busy month. I don't know if we're going to see the sawtooth effect as you see in sales cycles. It was pretty consistent across the quarter from April, May, and June on how busy it was, only because we had such a built-up amount of patients coming out of Q1. As far as utilization goes, we just saw strong performance in the second quarter. We expect that to just continue, and we're probably just above 1.5, mid 1.55 in utilization, which is significantly up from what was it 1.3 in the second quarter of 2021. So, a dramatic improvement across the board with a significant number of new centers since the second quarter of 2021. We're going to continue to drive utilization. Robbie asked a question about how we can do that with improvements in technique, technology, and reduced OR time. But we also can do that by gaining confidence of the physicians to say this therapy is really helping a lot of people and we need to increase the percent of our practice that we dedicate to Inspire.

No, that's helpful. Thank you. And on the price increase, you mentioned steadily climbing, but it looks like this quarter was up about 5% more than last quarter. And so just want to make sure I understand how the pricing flows through and how the conversations have gone with the physicians and practices as you put that price increase through?

Right, hey, Travis, it's Rick. We did do the price increase in the U.S. on May 1st. But we have formal pricing agreements with all our customers. Eventually all customers will pay that higher price, but the impact will be phased in over several quarters. In the second quarter, when we introduced it, about 1% of our revenue was attributable to the price increase.

Thank you. And I show our next question comes from Rich Newitter from Truist. Please go ahead.

Hi, congrats on the quarter, guys. Really impressive, and thanks for taking the questions. So just a couple from me. Really solid step up in utilization here. I was wondering if you could provide a little color around anything that might be driving that inflection. Like maybe you could talk a little bit about some of your higher volume accounts, your older accounts. Are they continuing to kind of push to still even higher and higher monthly rates of use? Or is this just a faster ramp, the newer onboards that you've had in the last year or so? And then maybe even talk to the ASC utilization relative to the outpatient. Is that finally starting to diverge and is that potentially contributing?

Perfect. I think we're increasing all quartiles. We're increasing the number of new centers. There are a lot of new centers that are still at the very early stages and low utilization, but the upper quartiles continue to grow, and the mid quartiles continue to progress to higher numbers. Remember that the field team works very hard on having productive accounts so they can really go deep and focus on the strong accounts in their territories that are helping out patients. We saw growth across all four quartiles that was very important. We are very encouraged by that, especially when a quarter where we opened a number of centers within our guidance, but not having the really high numbers that we had previously. As far as ASCs, we are seeing consistency there. I think the ASCs were a little busier earlier in the year when they were dealing with a lot of the COVID cases moving away from hospitals, but you can see they're up to 23% of our overall centers, but we're still not quite at 20% of our overall implants. We're still growing there and having a decent focus on that. The really good news is we just got a proposed 4% increase in reimbursement from CMS with the national average Medicare reimbursement exceeding $25,000. That really makes a big impact going forward when that takes effect later in the year.

Just following up on that, the utilization kind of accelerating faster than the utilization, maybe in the outpatient. And I'll just my other question is on MRI. What does that do for you exactly? And how much of a limiting factor was that to a patient potentially choosing Inspire previously? Thanks.

We're going to find out. We know patients that just know they need to have an MRI in their future. They consistently have them. They are a little bit worrisome about having a procedure that will prevent that diagnostic, but we do think it's certainly going to be a positive and certainly ease of mind or comfort for those patients to be able to move forward. We'll report back on that as we implement this now, as patients and physicians really become aware of that and are more comfortable moving forward. ASC utilization will continue to grow, especially with increased reimbursement. It's pretty consistent. We increased the number of centers up to 23% in the quarter. I think the utilization is maybe a little bit flat from the first quarter, but I think that has a lot to do with the COVID impact. Because of COVID cases getting moved to the ASC, it's going to continue to be a positive push, and we expect that will continue to grow.

Thank you. And I show our next question comes from the line of Jonathan Block from Stifel. Please go ahead.

Taking a look at the 10-Q, the ad expense was 18 million, I believe in the second quarter. I think it was 15 million in the first quarter. Just how do we think about that ramping for the balance of the year? And maybe more importantly, ultimately, where do you see that going? Is this a hundred million plus DTC type of business when we look out 12 to 24 months? And then I got a follow-up along a similar talk track.

Yes, you're right, John. In all of '21, our DTC spend advertising was about 48 million. That was an increase of about 80%. We're still making investments just because we're low in the penetration of centers as well as physicians, and the awareness is growing, and we're seeing a good return on investment with our high margin product. We're going to continue to make those investments; will the increase be 80% in 2022? No, they'll probably be closer to 60% to 70%, but that number will continue to grow because, again, we're in 785 centers. Our next goal is to be in 1,600 and then ultimately in roughly 2,400 centers. We're going to continue to make those investments because despite the fact that we're growing our sales organization and have made numerous investments in a lot of different R&D development projects, and increased our DTC, we have shown leverage in our business model.

Okay. Helpful stats. And then maybe Tim, for you, I think I got some of these numbers right? You threw out roughly 42,000 physician contacts. When I walk it back to the model, 6,500 give or take, or so U.S. implants in the first half of the year, so of course there's going to be a good amount of leakage. But maybe just talk to us about dialing that up or increasingly conversion ever so slightly from the physician context down to the implants would have a tremendous impact on the P&L clearly? So what can you guys do? What's in your control to go ahead and increase that conversion? Or maybe said differently, where does some of the bottlenecks still exist in your opinion? Thanks, guys.

Yes, very good question. A couple key bottlenecks that we have when we deal with staffing challenges, our staffing challenges are centers and ENT offices. They just don't have somebody sitting there waiting to take our phone call. We need to work with technology to find better ways to get patients their approval or getting patients their initial appointment with physicians. Number two, we need to get those appointments within a reasonable period of time. Ideally within 30 days, a lot of our physicians are very busy, and they're scheduling a longer period of time, which is a frustration for patients, but we need to continue to grow the number of physicians offering the therapy. The same goes for scheduling the surgical cases. The most notable is many of the patients, almost half of the contacts are patients who have not had a sleep study within the last two years. That's a specific requirement for Medicare, as well as a lot of the commercial payers. We need to work with those patients to find tools to be able to get those sleep studies conducted. Two examples, our investment in Ognomy, which we are currently running pilot programs in three states right now to test that out to show improvements in getting patients their sleep studies in a very timely manner. Number two is using EnsoData, which is a tool for sleep labs to improve their capacity with using auto scoring of sleep studies. We need to keep improving our technology. We have a lot of other tools coming in as far as texting and ongoing communication with patients to make sure they're aware of their appointment. We get them to their appointment. We have a whole team that focuses on that exact pipeline of how to improve that conversion step by step.

Thank you. And I show our next question comes from the line of Amit Hazan from Goldman Sachs. Please go ahead.

Just a couple to clarify points that have already been touched on previously. The first one I know when we talked about it previously that there was some comment that there were patients on the sidelines for that MRI compatible that were waiting to be done. I'm wondering if the pop in utilization, the very strong utilization this quarter, had anything to do with some patients that had been on the sideline on the MRI side, if it's something you can quantify or call out?

I think that's something that I feel like we can talk about next quarter because we just got the MRI approval. The time it takes for patients to work through the cycle probably is running longer than the previous four months we talked about. I think that with the number of patients we have in the process and our need to increase capacity, it's probably running more like five months. Those patients will not have come through the process yet, but that would be seen as a potential boost in the second half of the year.

Then we don't have to belabor the second one, but it just a little bit more color on what happened with the centers that weren't able to open due to the price situation. It sounds like it was just a couple of centers, and it's already resolved in 3Q for the centers that were an issue.

There are a couple of different phenomena going on there that we didn't touch on. During Q4 and Q1, when COVID was rampant, we were opening up second sites of service either community hospitals or ASCs to provide avenues for physicians to continue to do procedures. The second, we discussed during the quarter when we did a May 1 price increase and centers who had already been through their value analysis committee or have been at corporate level needed to go back and do another review. A lot of those will get resolved relatively quickly, and we'll get those centers operational here in the third quarter.

So not something you expect to be persistent. It’s just going back through value analysis. Can you quantify how many centers that might have represented?

I don't think it's that significant of a number. We opened up 52, but it's probably still in the high single digits.

Thank you. And I show our next question comes from the line of Chris Pasquale with Nephron Research. Please go ahead.

Tim raising the AHI and the BMI ceilings and label sounds like a great step in terms of expanding access. One hoop that patients still have to jump through is the DISE procedure. I would think when you get up to a BMI of 40 there's, often at least some lateral wall involvement. So how are you thinking about the importance of that step? And do you see a pathway to eliminating it at some point?

Yes. First off with the AHI, that's not a concern. We don't think that being able to be screened through DISE is going to be a problem for those patients with the high AHI. It's just a benefit for those patients because they just don't have any other therapeutic options. We know that as you increase the BMI that increases the probability of a larger neck circumference. As we talked about previously, neck circumference is indicative of complete concentric collapse. The fat pads are on the side of the neck, so when you lay down, you get the lateral wall collapse. That's going to be a greater challenge for those patients, but while it's a higher probability, when you get to the upper BMIs we did have sufficient data to show the FDA that it's certainly worth changing the warning level to help those patients out and not just blanket lock them up because they have a higher BMI. Want to make a note on this: this is only a warning. This is not part of our formal indication. A patient with a higher BMI is not prevented from having therapy. They are just informed that for patients above 32, we don't have a lot of data on the success of the therapy. Now, we've been able to give the data to the FDA that says that 32 needs to be increased up to 40 because we can show with sleep endoscopy, and we can show with proper screening that we can treat those patients and they can have strong outcomes just like patients with any BMI.

Thanks. That's helpful. And then just one on the reimbursement front. The proposed hospital outpatient and ASC rules included a request for comment about creating a level 6 APC code. Hypoglossal nerve stimulation was one of the procedures that was included in this hypothetical new category. It looks like you did a 10% bump if that goes through. Is that something your team is focused on responding to here during the common period? And if so, are you thinking about the potential for success there?

We'll see what the potential is. It's a pretty good application organizationally to pull that together. We will provide comments right now where our price point is with the price increase. We're very comfortable with level five APC that we're currently in today. Obviously getting a 10% increase really has a positive impact at hospitals, but really more importantly on ASC. So we'd certainly love to see that come through. We're not counting on it, and we're not basing our business on the fact that we need a level six. We have our business set up to be successful with level five, but to your point, we're going to certainly track it closely.

Thank you. And I show our last question comes from the line of Adam Maeder from Piper Sandler. Mr. Maeder, your line is open.

Two questions for me. Maybe just to start, first one in gross margin. Rick, was hoping you could flesh out some of the puts and takes for the new gross margin outlook and the implied second-half step down in a little more detail. I heard you reference obsolescence charges with some of the product transitions and the higher input costs with supply chain, but wanted to see if you could go a little bit deeper there and then just talk about how quickly you think you can get back to that 85% or so gross margin target. And then at a follow up. Thanks.

Sure. There are two parts to that, Adam. First, for the second quarter, our gross margins were 84.5%, 130 basis points lower from a year ago. That was really primarily due to higher costs on certain components of our system, specifically around the remote, the existing remote. In addition to paying higher prices for some components, some of our vendors require higher purchase commitments. Our inventory balances have been growing. The supply chain challenges are not uncommon for other companies similar to us, but our team continues to monitor it closely, and we're managing that on a daily basis. That's really the impact from Q2. As for guidance, that's the second part of your question. That's really specifically around the approval and targeted launch dates of the new silicone leads as well as the new Bluetooth remote. As we transition these products sometime in the second half of 2022, we will plan to write off these existing inventory quantities of the older versions. That's why we're just focused on 2022 with our gross margin guidance. We're lowering that specifically around that to 83% to 85%. Longer-term, after we introduce those products, we expect that we'll return back to our previous guidance level of 85% gross margin.

And then, Tim, wanted to kind of piggyback off Chris' question. I noticed there's a study on clinical trials.gov called the predictor study. I was hoping you could talk a little bit about the objective of that trial. Is it to potentially remove the DISE procedure from the treatment funnel? Just any more color you can share on that study would be helpful? And thanks again, guys, for taking the questions. Congrats so much on the awesome quarter.

Dr. Jordan Miller is a physician down in Phoenix, very accomplished ENT, and he was tracking his patients. He was looking for a technique that he could, in his office setting, in an awake state, be able to diagnose a patient without having them have to have a drug-induced sedated endoscopy or sleep endoscopy either way, what we call a DISE procedure. He developed this technique and then published a paper with about a hundred patients. We became interested now because he, with his technique, became predictive of which patients would respond to therapy, which patients did not have complete concentric collapse based on the dimensions of the airway in an awake state. We worked with Jordan and said now we need to prove it. We're currently activating 10 sites to conduct this study on 300 patients. We already have, I think, four sites opening and rolling patients, a fifth site ready to start. I think we're already close to almost 50 patients enrolled already. It's going to go quickly because it's a normal operation except we do use a calibrate measurement of the dimensions of the airway in an awake state. The intent of this study is to take that data to eliminate the need for sleep endoscopy for patients who have a BMI less than 32. That's significant. One really important step on this: the indication from the FDA does not require a sleep endoscopy to be done. It requires that the patient has the proper anatomy for which Inspire therapy can help them. We, as a company, being responsible, put that requirement of DISE back in to ensure strong patient outcomes. If we're comfortable with the trial coming out, we will be able to make a change there. It's going to be a strong benefit for the patients, and we're going to make really strong progress with that study throughout the second half of the year because it's a relatively easy study to conduct.

Thank you. And I'm showing our last question comes from the line of Michael Polark from Wolfe Research. Please go ahead.

Good evening. Thanks for sneaking me in. Question on raising AHI limit to 200. I'm just curious what you see in the data, Tim, as you move up the spectrum. I presume the safety is no different than what you observe in the STAR trial, as an example, but are there diminishing returns to the benefit as you move up the AHI scale? I'm just framing this differently. Do these patients with north of 65 AHI see less reduction than say the folks south of 65? What is the data that you have suggest so far?

Well, they actually see more. It's just a matter of what mathematical tool you want to use. If you look at the percent reduction, they actually get higher because they're starting with a high baseline. If you look at the absolute reduction in AHI, the absolute number, they actually do better only because they have so much to give back. The challenge gets into, if you start talking about responder rates, such as the share criteria, how you have a 50% reduction in AHI and the resultant AHI has to be below 20, well, that's where it gets tough because you need a patient who has AHI of 80 to get down to less than 20. A 50% reduction is only halfway there; you almost need, well, you need a 75% reduction from 80% to get less than 20%. The response rates are always a little bit challenging, but if you just look at the benefit that those patients have, we also showed from the data that the quality of life is a real dramatic improvement as well. Think about how challenging it is to have an AHI above 65. That's pretty significant. These patients are really going to have a strong benefit, and getting a significant reduction in AHI is really what it's all about. That is good color. I appreciate that. If I may, last one. Germany is a small country with small markets and small numbers. It is the locality where you have competition, small numbers for your competitor there as well. I'm just curious if you have any kind of early assessment of how that country is performing with two choices in the market? Any perspective on share as you both ramp up efforts there and the market accepts hypoglossal nerve stimulation more broadly with permanent reimbursement? Thanks for taking the questions. Thank you very much, Mike. Currently, there is essentially only one option in Germany, which is Inspire. We have more than 25,000 patients, and our presence is firmly established there. The company you mentioned is currently concentrating on clinical studies to collect data to demonstrate their product's safety and effectiveness for patients. It's still early in their journey, and we don't observe a significant presence from them in Germany at this time. Meanwhile, they are working on their own clinical research, and we are ensuring our inclusion in the S3 therapy guidelines in Germany, which are the highest standard and cross-functional. Inspire is recognized in those guidelines. Thank you again, Mike; I appreciate it.

Thank you. This concludes the Q&A session for the conference. I'll now like to turn it back over to Tim Herbert for any closing remarks.

Thank you very much. I know we're coming minutes over, but I want to thank you all for joining the call today. And as always, I am grateful to the growing team of dedicated Inspire employees for their enthusiasm, hard work, and continued motivation to achieve successful and consistent patient outcomes. The Inspire team's commitment to patients remains unmatched and is the most important element to our success. I wish to thank all of our employees as well as the healthcare teams for their continued efforts as we remain focused on further expanding our business in the U.S., Europe, and now in Asia. For all of you on the call, we appreciate your continued interest in and support of Inspire and look forward to providing further updates in the months ahead. Please stay safe and healthy.

This concludes today's conference call.