Thank you for standing by. Welcome to the Pulmonx Third Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker’s presentation, there will be a question-and-answer session. As a reminder, today’s conference is being recorded. I would now like to turn the conference over to your host, Laine Morgan at the Gilmartin Group. Laine, please go ahead.

Thank you, operator. Good afternoon and thank you all for participating in today’s call. Joining me from Pulmonx are Glen French, President and Chief Executive Officer, and John McKune, Interim Chief Financial Officer and Vice President Corporate Controller. Earlier today, Pulmonx issued a press release announcing its financial results for the quarter ended September 30, 2023. A copy of the press release is available on Pulmonx’s website. Before we begin, I’d like to remind you that management will make statements during this call that include forward-looking statements within the meaning of 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 relate to expectations or predictions of future events, results or performance are forward-looking statements. All forward-looking statements, including without limitation those relating to our Chief Financial Officer transition, our operating trends, commercial strategies and future financial performance; the timing and results of clinical trials; expense management, expectations for hiring; growth in our organization; market opportunity; guidance for revenue; gross margin and operating expenses; commercial expansion and product pipeline for development, 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 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 refer to the Risk Factors section of our filings with the Securities and Exchange Commission included in our quarterly report on Form 10-Q filed with the SEC on August 4, 2023. Also during this call, we will discuss certain non-GAAP financial measures. Reconciliations of these non-GAAP financial measures to the most directly comparable GAAP financial measures are provided in the press release, which is posted on our Investor Relations website. These non-GAAP measures are not intended to be a substitute for our GAAP results. This conference call contains time-sensitive information and is accurate only as of the live broadcast today, October 30, 2023. Pulmonx 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. And with that, I’ll turn the call over to Glen.

Thanks, Laine. Good afternoon, and welcome to our third quarter 2023 earnings call. Here with me is John McKune, our recently appointed Interim Chief Financial Officer, who's been a leader on our finance team as VP Corporate Controller since our IPO. We are very pleased with our recent performance, as we achieved another quarter of record revenue. In the third quarter, we delivered $17.7 million in worldwide sales, representing 31% growth over the same period of the prior year and 29% on a constant currency basis. Growth was driven primarily by record U.S. performance as we achieved $11.8 million in sales, representing 41% year-over-year growth. Outperformance in the U.S. was due to continued momentum and traction of our focused commercial strategy and also to slightly less seasonal impact than expected. Meanwhile, seasonal impacts internationally were more consistent with our expectations and historical trends. Given the strength of our business year-to-date, we are updating our full year 2023 revenue guidance to be in the range of $67 million to $68 million, up from our prior guidance of $64 million to $66 million. At the midpoint, this implies anticipated year-over-year growth of over 25%. We attribute our confidence largely to the traction we are seeing with our focused commercial strategy as we had planned this strategy designed to accelerate account productivity across our already meaningful footprint. This has resulted in one more existing treating centers with optimized Zephyr Valve programs; two, new treating centers launching with a greater ability to scale; and three, increased awareness around the benefits of our treatment among COPD physicians and the many patients, who stand to benefit from it. In the third quarter, average U.S. account productivity was approximately 4.7 cases per center despite anticipated summer seasonality. We attribute this largely to improvement in the number of highly experienced and efficient accounts and the cases they performed, offset by continued growth in our base of actively treating centers. As a reminder, we have measured account productivity based on the average number of cases conducted in a given quarter by our active established Zephyr Valve treating hospitals, which are those that have been performing for at least four quarters and placed a revenue-generating order in the current quarter. While seasonal trends will drive some variability in this metric from quarter to quarter, on average, over time, we expect account productivity to continue to move higher into the fourth quarter and beyond. Meanwhile, U.S. account activity in the third quarter of 2023 was 73%, representing 235 centers that placed a revenue-generating order in the third quarter. We continue to expect account activity to remain in the low to mid-70s range as we grow our denominator of treating centers. Lastly, we continue to expand our base of U.S. centers. We added 15 new accounts in the U.S. in the third quarter, bringing the total number of U.S. centers to 323 and we now expect to end the year having opened approximately 55 to 60 new accounts. Collectively, commercial trends year-to-date have demonstrated to us that treating centers, both established and new, are eager to adopt Zephyr Valve treatment and invest in their programs. This comes as patients and referring COPD physicians become increasingly familiar with our technology and its clinical benefits due to our ongoing education and outreach focused on geographies with optimized Zephyr programs. Taken together, we believe that there is still significantly more room to grow within existing centers and we are still early in penetrating broader patient demand. As we look forward into 2024, we will invest in our commercial and educational capabilities to penetrate the market. We will continue to grow our base of highly trained and motivated new centers and strengthen existing centers by helping our champions explain the value of their programs and the value that they bring to the hospital system. We will continue to share best practices on how to build advanced Zephyr Valve programs. In targeted geographies with well-developed programs, we will increase both patient outreach and education of COPD-focused health care providers with proven strategies that we can replicate and scale. Taken together, these strategies will help develop a growing base of highly capable centers with increasing penetration of the substantial opportunity in these geographies. Meanwhile, we will continue to benefit from a growing body of published clinical evidence. Most recently, we were pleased to see the publication of data from a single-center retrospective analysis in Germany that published in the Journal of Respiratory Medicine. Results from the study suggested that patients who received endobronchial valve implantation experienced a reduction in severe COPD exacerbations in the 12 months following implantation as compared to the 12 months prior to treatment. This is similar to the documented reductions in severe exacerbations delivered by lung volume reduction surgery. Moving now to our international expansion plans. We are excited to have recently been approved for reimbursement for our Zephyr Valve treatment in Japan, which allows pricing that is consistent with our global average. This marks an essential step toward commercialization in Japan, starting next year with a post-market approval study of approximately 140 patients at 10 to 15 sites, which will then be followed by broader commercial expansion. Now, turning to our clinical development pipeline, we remain on track with our AeriSeal program, which we expect will expand the addressable market for our Zephyr Valve solution for severe emphysema patients with collateral ventilation and continue to expect final data of the CONVERT 1 trial to be presented later next year. Meanwhile, we are preparing to launch our CONVERT 2 trial, which will form the basis for our U.S. AeriSeal PMA submission.

Thank you, Glenn, and good afternoon, everyone. Total worldwide revenue for the three months ended September 30, 2023, reached a new quarterly high of $17.7 million, a 31% increase from $13.5 million in the same period of the prior year and 29% on a constant currency basis. U.S. revenue in the third quarter reached a new record of $11.8 million, a 41% increase from $8.4 million during the prior year period. The growth in U.S. sales reflected continued commercial momentum and adoption of our Zephyr Valve therapy as well as less impact from seasonality compared to the prior year period. International revenue in the third quarter of 2023 was $5.8 million, a 14% increase from $5.1 million during the same period last year and a 9% increase on a constant currency basis. The overall increase in international sales was driven by growth of Zephyr Valve procedure volumes. Gross margin for the third quarter of 2023 was 74% compared to 75% in the prior year period, reflecting higher inventory reserves in the quarter. We expect gross margin for the remainder of 2023 to be approximately 74%. Total operating expenses for the third quarter of 2023 were $28.2 million, a 17% increase from $24.1 million in the third quarter of 2022. Non-cash stock-based compensation expense was $6 million in the third quarter of 2023. Excluding stock-based compensation expense, total operating expenses in the third quarter of 2023 increased 12% from the same period of the prior year. Looking ahead, we continue to expect operating expenses for the full year 2023 to fall between $112 million to $114 million, inclusive of approximately $21 million of noncash stock-based compensation expense as we take a disciplined and prudent approach to managing expenses while contributing to invest to drive growth. R&D expenses for the third quarter of 2023 were $4.2 million compared to $4.4 million in the same period of the prior year. The decrease was primarily attributable to lower AeriSeal program costs. Sales, general and administrative expenses for the third quarter of 2023 were $24 million compared to $19.7 million in the third quarter of 2022. The increase was attributable to continued investment in our commercial activities as well as an increase in legal and stock-based compensation expenses. Net loss for the third quarter of 2023 was $14.9 million or a loss of $0.39 per share as compared to a net loss of $14.2 million or a loss of $0.38 per share for the same period of the prior year. An average weighted share count of 38.1 million shares was used to determine loss per share for the third quarter of 2023. Adjusted EBITDA loss for the third quarter of 2023 was $9 million as compared to $9.7 million in the third quarter of 2022. The year-over-year improvement demonstrates our ability to drive operating leverage. We ended September 30, 2023, with $139.8 million in cash, cash equivalents and marketable securities, a decrease of $7.9 million from the June 30, 2023, period. We continue to feel very good about the strength of our balance sheet and our pathway to cash flow breakeven. Finally, turning to our revenue outlook for 2023, given our strong performance in the third quarter, we are updating our full year 2023 revenue guidance to be in the range of $67 million to $68 million, representing approximately 25% to 27% growth over 2022 and up from our prior guidance of $64 million to $66 million.

So, in summary, I am very pleased with the way that we are executing our operational plans and with the resulting record third quarter results. We are confident in our long-term value proposition as we continue to drive increasingly predictable growth. Further, we are advancing key development projects and now entering Japan and in both ways are working to materially expand our already substantial addressable market. Finally, from a financial perspective, our revenue growth, strong balance sheet, and healthy gross margins together provide us a clear path to cash flow breakeven. With that, I'd like to thank you all for your attention, and we will now open the call for questions.

Certainly. And our first question will come from Jason Bednar of Piper Sandler. Your line is open.

Hey. Good afternoon. Can you hear me okay?

Yes.

Great. Thanks. Congrats on the results for the quarter, Glen. I want to revisit the setup as we entered the third quarter based on your comments from three months ago in early August. You mentioned some concerns regarding seasonality in the third quarter, but you clearly exceeded your plan, which is impressive. Could you help us understand how the quarter aligned with your expectations? Did you experience any seasonal impacts on procedure volumes in July and August? Was the positive outcome in the quarter and the increased guidance today simply a reflection of what you observed in September and October? Is that the correct way to view how events unfolded this quarter and led us to where we are now?

Yes. Thanks, Jason. Yes, it was a very interesting quarter, and I remember talking to everybody sort of in early August, and July revealed a great deal of seasonality. And I think we probably signaled that when we were having those conversations. The good news is that August was not nearly as impacted as it was last year in the United States. And I think one of the things that's fundamentally different as it relates to the U.S. situation this year versus last or at least what it appears at this point is that a good bit of that, which didn't happen in the third quarter of last year, rolled into the fourth quarter. So you had these delays, you had people coming back from vacations and in many cases they didn't get those procedures executed until into the fourth quarter. This year, in the third quarter, particularly in the U.S., though we had a delay in procedures in the early part of the quarter, they got completed later in the quarter. So I think that's the dynamic that explains the strength of this period unto itself and also how it contrasts to what we saw last year.

Okay. And maybe if I could just come back then on maybe a real-time comment, I mean, can you talk about maybe the exit rate in September or maybe what we're seeing here in early October and how that is contributing to the implied guidance here for the fourth quarter?

I can provide as much detail as we usually do regarding inter-quarter results. However, could you clarify what you mean by implied guidance?

I guess I'm wondering to what extent the momentum you had coming out of September, how that influenced what you're expecting now for the fourth quarter because this wasn't just a typical beat and flow through the raise to the full year guide, this was a beat and then raise by even more than the beat. So I don't want to speak for the rest of the Street, but I'm guessing that 4Q numbers are going to be moving higher today based on your updated guidance. So I'm trying to get a sense of how strong was that exit rate coming out of September that you were seeing in your business.

Yes. Our increase was larger than our earnings beat for this quarter, but we had some adjustments to make from previous inquiries. Looking ahead, we are optimistic about our performance in the third quarter. However, we are aware that we did not carry over any momentum into the fourth quarter as we did last year. Furthermore, if there is a significant reduction in shipping days in the fourth quarter, that could also affect us. Nevertheless, we are confident about the fourth quarter, which we have consistently identified as a stronger period. The performance in the third quarter is pushing against that expectation and is reflected in our overall guidance and what we anticipate for the fourth quarter.

All right. Perfect. We have a commercial-related question, and it has two parts. First, regarding the new center additions in the U.S., you've exceeded initial expectations from the beginning of the year, which is great to see. Are you able to handle this increased account activity due to the strong improvements in core productivity we've previously discussed? Secondly, considering the commercial advancements and account activation changes you've made this year, can you provide context on the accounts you've onboarded this year? How do they compare in scaling to those onboarded in 2021 or 2022? Are you seeing more success in scaling these accounts because of the new commercial program?

Yes. The new additions are noteworthy. It's always a positive to introduce these new centers. We're adding about one per territory each year, which results in approximately 55 to 60 new accounts this year. Regarding our metrics, the influx of new accounts, which has exceeded expectations, affects our denominator. As for our capacity to manage this, it's a normal part of our operations, and we're not facing issues in absorbing these accounts. However, as these accounts reach maturity and hit the one-year mark for our calculations, their impact becomes diluted. While an account is significantly stronger after a year compared to just three months, they continue to grow. Each quarter, as more than expected new accounts are added, it dilutes the overall figures. When comparing accounts today to those from two or three years ago, our criteria for onboarding accounts have greatly increased. We've gained valuable insights over the years. The new accounts we bring onboard are much better equipped. For instance, treating physicians now need to identify at least three patients prior to training. They discuss these patients in training, return to treat them, and then undergo a 45-day review with an expert. This indicates that today's trainees have a deeper understanding. However, it's crucial to note that this does not directly lead to quick progress in scaling these accounts. We follow a structured process where individuals advance through defined stages. This process naturally requires time, regardless of the quality of training that incoming doctors receive. I wouldn't expect significant speedups in getting an account operational. Nonetheless, we have plenty of examples of accounts that contribute meaningfully after just three months, while others may take longer to ramp up. There is a range of experiences.

Okay. Appreciate all the color and congrats again on the quarter.

And our next question will be coming from Rick Wise of Stifel. Your line is open, Rick.

Good afternoon, Glenn. I want to clarify a few points if you could elaborate. You mentioned the account productivity and the implementation of best practices. When you started, you talked about having a lot of momentum in accounts, particularly with optimized Zephyr programs. I’m curious, ending last year, there were 278 total active accounts. What percentage of those accounts currently have optimized Zephyr programs? I'm asking this to understand if 25% of those 278 accounts have optimized programs and how much potential there is to increase productivity.

An active account is one that placed an order in the last quarter, and the active rate is around 73% to 74%. In any given quarter, about 73% or 74% of our accounts are ordering. Over a six-month period, this figure rises to approximately 85%. A year ago, we had 278 total accounts, and currently, we are at around 330, though not all of these are active; about 70% to 75% of them are active accounts. Out of around 200 active accounts, I estimate that roughly 25% to 30% are truly optimized. My earlier reference to optimization was specifically about the regions where we plan to make more significant investments in 2024, targeting COPD physicians and patients. Our approach involves preparing the accounts first, followed by the referring physicians, and finally engaging the patients.

I understand it's early, but it's tempting to ask about 2024, especially with the momentum we experienced in the third quarter. Hearing you speak positively about expanding accounts, improving account productivity, and enhancing outreach and education for patients and physicians raises my curiosity. I'm not necessarily looking for specific numerical guidance, but should we expect that, based on everything we've discussed tonight, there's a reasonable chance of maintaining growth in the range of 20% or more?

We are optimistic about our foundation and have several initiatives in place that we are confident about. However, we will provide specific guidance for 2024 in a few months. While a question was raised in a recent public forum regarding our outlook for next year, we believe everyone is in a good position. I want to be clear that I don't want to downplay our outlook, but I also cannot promote it at this time. The fourth quarter will be significant for data collection, and we will take the time needed to clarify our views on 2024 as more information becomes available.

And our next question will be coming from Larry Biegelsen of Wells Fargo.

This is Charles on for Larry. First, congrats on the nice quarter. I had a couple of questions here. First, just on AeriSeal. It sounds like that's on track here, fully enrolled CONVERT 1, presenting the final data next year. I guess from there, I mean, that didn't convert to in your PMA submission, but how soon after completion, do you think we can expect OUS sales?

So CONVERT 1 is fully enrolled, and we're following up with data that we'll likely present at the European Respiratory Society Meeting. We currently have a CE Mark for AeriSeal and have discussed limited commercialization in CE Mark regulated countries, which we plan to expand over time. CONVERT 2 is essential for making AeriSeal available in the United States. Once we have completed the follow-up, we'll also publish the data and execute a limited launch in various locations. The timing of this launch will depend on enrollment rates in European centers and the progress of CONVERT 2, as we want to avoid interfering with the study's recruitment. I don't have exact details at the moment, but once CONVERT 2 is underway, we will have better clarity on when and how we will commercialize AeriSeal. However, we will begin commercialization in CE Mark countries before AeriSeal is available in the U.S.

Okay. I have a follow-up question. You recently announced that you are looking for a new CFO. Do you have any updates on that search or when you expect to complete it?

You are correct. We are currently working to resolve that issue. We have initiated that process and are determined to find the right person, although I cannot specify when this will be finalized. Derek had two exceptionally capable individuals, and one has stepped into the interim CFO position. John has been with us since the IPO and has previously served as Controller and essentially Chief Accounting Officer for one or two other publicly traded companies. So, we are in a solid position, but we are moving swiftly and will not make any compromises. I am unable to provide an exact timeline at this moment.

Got it. Thank you. And again, congrats on a nice quarter.

Thank you.

Our next question comes from Joanne Wuensch of Citi. Your line is open.

Thank you so much. And let me also say a very nice quarter. I want to talk about Japan and with reimbursement now in place and it's starting to contribute to revenue next year, how should we think about the launch and the expenses that are needed for that launch?

I'm likely going to involve John in part of that response. We have received reimbursement, which is fantastic. We are thrilled about this development as it represents a significant achievement in navigating through the approval and reimbursement process. As we had predicted, we have it by the end of this year. This enables us to begin a post-approval trial. In other countries I've worked in, these trials occur alongside initial commercialization, but in Japan, they take place on the path to commercialization. The first 140 patients treated will be entered into a protocol, generating revenue, although there will be associated expenses. It is encouraging that we anticipate our revenue per patient to align with our global average, which is roughly $10,000. Thus, for 140 patients, we expect around $1.4 million in revenue, providing some cash flow to support commercialization efforts. Regarding our spending in Japan, the team is already established with sales representatives, marketing staff, and a general manager, so I am unsure of the additional costs involved in launching there.

Yes, Glen, you're thinking about that the right way. I'll reiterate that the patients we're treating in Japan are going to be revenue-generating patients and that the team we have there is largely in place. Any expense and any incremental expense will be factored into our 2024 guidance when we share that with you next quarter.

Our next question will be from Jon Young of Canaccord. Your line is open, Jon.

Hi, Glenn and John. Thanks for taking our question. And congrats on the quarter. Maybe to follow up on Joanne's question on Japan. How long do you anticipate it will take in all those for G20 patients in the postapproval study? And do you have to wait for any follow-up in the study before commencing the full commercialization in Japan?

Regarding waiting, my understanding is that as soon as we enroll the 140th patient, we can proceed without delay; we just want to avoid analyzing the data prematurely, but we won't be held back for months before launching more broadly. As you may know, clinical trials often have a slower start, with many patients being recruited in the final stages. The positive aspect for us is that since receiving approval, we have been able to engage all necessary sites, and I believe that most, if not all, treating physicians have completed a training program. We have even sent global thought leaders multiple times to Japan for extensive training. We needed to finalize the protocol before it could be presented to ethics committees, so we are still working through some logistics. However, we are determined to move forward. I estimate that in the best-case scenario, this process could spill over into the second year as well. In the upcoming quarters, we should gain much more clarity about our progress, as these trials generally become clearer towards the end. Eventually, we will reach a point where we will have a precise timeline for closing this out.

And then maybe just go back to some of the other questions on the optimized account base. Do you see certain types of centers, maybe like a strong academic center or certain geographies that are embracing the technology more and establishing those patient pathways? And I know you talked about clinical coordinators. Is it just a function of time? Or is it getting the interventional pulmonologist or COPD physicians to really champion there?

Yes, we feel very positive about the process we have in place for guiding people through it. As mentioned previously, these sensors account for 8% to 10% of the centers in the United States, which means they are inherently focused on lung care. It’s not difficult to find individuals who want to adopt best practices, provided they are interested. The success of this largely depends on people and processes, so it's essential that we invest in the right personnel at the right centers that are committed to what we consider best practices. However, there isn't a specific university hospital located in a city with over three million patients. We do have highly effective centers that can be categorized into different groups, including some that are the primary option within a three to four-hour drive in certain parts of the Southeast, serving a substantial number of patients who are in need of this care. There are also university hospitals in major cities that function as tertiary care referral centers, staffed by globally recognized treatment specialists. Additionally, some of the more effective centers are located outside of major urban areas, where patients prefer not to travel into intimidating big cities. Often, there are centers 30 to 40 miles outside of a major city where patients choose to have their procedures done instead of venturing further into the city.

Our next question will come from Alex Nowak of Craig-Hallum. Your line is open.

Hey, good afternoon, everyone. Maybe expand on the sales dynamic in Europe, just what is needed to really unlock more of the potential in the region? Because you already have a pretty good data over there. Is it reimbursement? Is it just more studies? Or is it really just an allocation of sales resources?

The primary reason for the difference in performance between international sales and those in the U.S. during the third quarter is mainly due to seasonal factors. A significant portion of our international sales, over 80%, comes from Europe, where the third quarter was typical. I anticipate a stronger fourth quarter. This outcome was somewhat expected. We direct 97% of our global revenue, and we have substantial resources for both sales and regional marketing, which positions us well. Regarding data, we have four published randomized controlled trials and are included in global guidelines. However, communicating our message in Europe and other countries is more challenging than in the U.S., due to varying customs, laws, and economic incentives for treating physicians. Currently, we are adopting successful strategies from the U.S. to implement internationally, particularly in the U.K., which serves as a strong example that has influenced our U.S. strategies. We are aligning our efforts in larger countries to follow similar approaches where permissible.

Okay. That is helpful. And then clarification on the CONVERGE studies. Aside from the geographies and the size, are there any major differences in the protocols between the two studies? Or can you really compare CONVERT 1 to get a proxy for what CONVERT 2 should look like?

In response to your question about whether the outcomes from CONVERT 1 will significantly reduce risks related to variability in CONVERT 2, we believe that the patients treated in CONVERT 2 will likely behave similarly to those in CONVERT 1. We previously presented data at last year's European Respiratory Society meeting showing that we successfully transitioned a CV positive patient to CV negative nearly 80% of the time. We anticipate that the results from CONVERT 1 will remain consistent within that range, and we expect CONVERT 2 outcomes to align similarly. Experts indicated that success rates needed to be above 30% to 50%, so achieving around 75% to 80% is quite promising. Additionally, there was discussion last year about whether patients receiving valves would perform in a manner consistent with those in our four randomized controlled trials, and we believe the answer is yes. Therefore, we expect the data from CONVERT 1 to provide us with strong confidence regarding the expected outcomes in CONVERT 2. Although the studies are not identical, the results should address your question effectively.

And I'm showing no further questions. I would now like to turn the conference back to Glen for closing remarks.

Thank you all very much for your time. We are very pleased with how the quarter went and how our plan seems to resonate, not only with us but also with our customers. I appreciate your attention and wish you a good evening.

Ladies and gentlemen, this concludes today's conference. Thank you for participating. You may now disconnect.