Earnings Call Transcript - MASI Q1 2020

Operator, Operator

Good afternoon, ladies and gentlemen, and welcome to Masimo First Quarter 2020 Earnings Conference Call. The company's press release is available at www.masimo.com. At this time, all lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. I'm pleased to introduce Eli Kammerman, Masimo's Vice President of Business Development and Investor Relations.

Eli Kammerman, Vice President of Business Development and Investor Relations

Thank you and hello, everyone. Joining me today are Chairman and CEO, Joe Kiani; and Executive Vice President of Finance and Chief Financial Officer, Micah Young. This call will contain forward-looking statements which reflect Masimo's current judgment, including certain of our expectations regarding trends in fiscal 2020 non-GAAP non-operating income. However, they are subject to risks and uncertainties that could cause actual results to differ materially. Risk factors that could cause our actual results to differ materially from our projections and forecasts are discussed in detail in our periodic filings with the SEC. You will find these in the Investor Relations section of our website. Also, this call will include a discussion of certain financial measures that are not calculated in accordance with generally accepted accounting principles, or GAAP. We generally refer to these as non-GAAP financial measures. In addition to GAAP results, these non-GAAP financial measures are intended to provide additional information to enable investors to assess the company's operating results in the same way management assesses such results. Management uses non-GAAP measures to budget, evaluate and measure the company's performance and sees these results as an indicator of the company's ongoing business performance. The company believes that these non-GAAP financial measures increase transparency and better reflect the underlying financial performance of the business. Reconciliations of these measures to the most directly comparable GAAP financial measures are included within the earnings release and supplementary financial information on our website. Investors should consider all of our statements today, together with our reports filed with the SEC, including our most recent Form 10-K and 10-Q, in order to make informed investment decisions. In addition to the earnings release issued today, we have posted a quarterly earnings presentation within the Investor Relations section of our website to supplement the content we will be covering this afternoon. I'll now pass the call to Joe Kiani.

Joe Kiani, CEO

Thank you, Eli. Good afternoon and thank you for joining us for Masimo's first quarter 2020 earnings call. In recent months, we have faced extremely challenging situations for patients and healthcare providers worldwide due to the COVID-19 pandemic. However, we have also seen remarkable leadership, resilience, and courage from many individuals across various sectors, particularly from frontline healthcare providers: our doctors, nurses, respiratory therapists, EMS professionals, and others. They are the true heroes, and on behalf of the entire Masimo team, I want to take a moment to express our gratitude to them. COVID-19 is highly contagious and affects the lungs. The significance of our first invention, SET pulse oximetry, and our ongoing innovation has never been clearer. When we established Masimo 31 years ago, our goal was to solve a significant issue with pulse oximetry, ensuring that it functioned effectively in both good and bad circumstances. I sincerely hope this will be the worst of it we experience in our lifetimes. We delivered, as Masimo SET has been a reliable ally for millions of clinicians and patients, not just today but for many years. Prior to our development of this single extraction technology, false alarm rates for pulse oximetry ranged from 70% to 90% outside operating rooms, and in the case of critically ill patients, pulse oximeters often failed completely. Dr. Swan was the first to characterize conventional pulse oximeters as fair weather friends. In settings where clinicians were not constantly monitoring patients, pulse oximeters became ineffective due to excessive false alarms. This led to clinicians abandoning their use in environments with fewer clinicians than patients. Since the launch of SET pulse oximeters, false alarms occur less than 5% of the time, enabling patient monitoring in lower clinician-to-patient ratio environments such as general wards, and now anywhere a patient may be, including in remote settings like their homes. In postsurgical wards where patients suffered from opioid-induced respiratory depression, those continuously monitored with Masimo SET did not face the same mortality risks because it allows reliable monitoring without excessive false alarms. In fact, a March study from Dartmouth-Hitchcock highlighted that over a 10-year period, no postsurgical patients on opioids monitored with SET pulse oximeters and Patient SafetyNet died from opioid overdose, while some unmonitored patients unfortunately did. Previous studies revealed that the use of SET and Patient SafetyNet led to a $7 million annual cost reduction at Dartmouth, as ICU transfers and rapid response activations dropped by over 50%. Knowing the impact we’ve had at Dartmouth and other hospitals, we aimed to save lives for patients on opioids in their homes when the COVID-19 pandemic occurred. Our 31 years of innovation in SET pulse oximetry and the creation of affordable, easily deployable remote monitoring systems positioned us well for this historic moment, where an illness affecting blood oxygen saturation necessitated accurate and reliable pulse oximeters available in non-traditional settings, such as hotels, gymnasiums, stadiums, and the most comfortable place for patients: their homes. I will provide more updates on our efforts regarding the COVID-19 pandemic later in the call, but for now, let’s proceed to our first quarter results. In the first quarter, our product revenues rose by 17% to $270 million, and we shipped 72,100 technology boards and monitors. We are experiencing increased demand from both direct and OEM customers, which has continued into April. In fact, as of yesterday, our worldwide sales orders, including backlog for the second quarter, have increased by approximately 87% compared to last year, with orders for over 150,000 technology boards and monitors, which is 2.5 times our typical quarterly rate. We are sharing this information as we wanted to update you on our current knowledge since we have opted to withdraw our guidance due to COVID-19 disrupting our normal business patterns, and we are uncertain about the duration and implications of this situation. Most key indicators we monitor are positive, except for certain areas like new contracts for converting hospitals to SET or renewing existing agreements, as well as Hospital Automation agreements and sensors for elective surgeries, which have slowed as hospitals prepare for COVID-19 patients and ensure the safety of their staff. Most of our increased sales orders are stemming from capital purchases. For the first four weeks of the second quarter, our worldwide capital orders, including backlog, have surged by approximately 360% compared to last year. Our global disposable sensor orders, including backlog, rose about 13% year-over-year, with U.S. disposable sensor orders declining by about 12% while orders from outside the U.S. increased by about 95% in April. With this context in mind, I will now ask Micah to provide a detailed overview of our first quarter results and further insights into our decision to stop offering guidance for fiscal year 2020.

Micah Young, CFO

Thank you Joe, and good afternoon everyone. I hope that you're staying safe and healthy during this challenging time. As a reminder, the financial measures I will be covering today will be primarily on a non-GAAP basis, unless noted otherwise. Our GAAP results and reconciliations to GAAP can be found in today's earnings release as well as the Investor Relations section of our website. For the first quarter, our product revenues were $269.6 million reflecting growth of 16.9% or 17.5% growth on a constant currency basis. During the quarter, we shipped 72,100 noninvasive technology boards and monitors which reflects growth of 13% over the prior year period. Our non-GAAP gross margin for the first quarter increased 360 basis points to 69% compared to 65.4% in the prior year period. The year-over-year improvement was driven by a stronger mix of sensor revenues which have substantially higher margins than our technology boards and monitoring equipment. Also, we continue to see positive results from the cost reduction activities we've implemented to improve margins. Our non-GAAP selling, general and administrative expenses as a percentage of product revenue increased 50 basis points to 32.6% compared to 32.1% in the prior year quarter. The higher SG&A spend was primarily driven by sales force expansion, stock-based compensation expense, charitable contributions, and incremental investment related to the iSirona Connected Care acquisition. Our non-GAAP research and development expenses as a percentage of product revenue increased 80 basis points to reach 10.1% compared to 9.3% in the same quarter last year. The higher R&D spend was primarily due to increased staffing and project-related costs and incremental investment related to the iSirona Connected Care acquisition. As a result, our non-GAAP operating margin increased 230 basis points to reach 26.3% compared to 24% in the prior year period. Moving further down the P&L, our non-GAAP non-operating income, which is primarily comprised of interest income, decreased 18% to $2.8 million for the quarter compared to $3.4 million in the prior year period. The decrease was primarily driven by lower interest yields realized on our invested cash and short-term investments. Our non-GAAP tax expense in the first quarter was $17.8 million, resulting in a non-GAAP effective tax rate of 24.2% compared to a non-GAAP effective tax rate of 23.3% in the prior year period. The higher tax rate was primarily driven by a stronger mix of profits in the U.S. which are subject to a higher overall effective tax rate than our OUS business when combining federal, state and local taxes. Our weighted average shares outstanding for the quarter increased 1.4% to 57.6 million shares compared to 56.8 million in the prior year period. For the first quarter, our non-GAAP net income was $55.9 million or $0.97 per diluted share. In comparison, first quarter 2019 non-GAAP net income was $45 million or $0.79 per diluted share. This reflects non-GAAP EPS growth of 22.8% over the prior year quarter. Turning to our GAAP results, GAAP net income for the first quarter of 2020 was $64.5 million or $1.12 per diluted share. In comparison, first quarter 2019, GAAP net income was $49.3 million or $0.87 per diluted share. Overall, our global organization executed very well during the first quarter as we achieved constant currency product revenue growth of 17.5%, expanded our non-GAAP operating margin by 230 basis points, and delivered non-GAAP EPS growth of 23%. Now I'd like to provide an update on the current trends we are seeing in the business so that you can better understand what ultimately drove our decision to withdraw our full year 2020 financial guidance. Given the uncertainties around the COVID-19 pandemic and its potential impacts on our business, we can no longer provide guidance with a high degree of accuracy and confidence, which is very important to us. The potential positive impacts include increased demand for our products from both direct and OEM customers. The potential negative impacts include potential interruptions in our manufacturing operations and our suppliers' manufacturing operations and potential reductions in future demand, if there has been overbuying of our products due to the pandemic. The uncertainty around the duration, timing and magnitude of these potential impacts make it challenging to forecast the impact of COVID-19 on our financial and operating results. During the first quarter, we saw a stronger-than-usual mix of revenue coming from our adhesive sensors, which resulted in higher-than-expected gross margins. Now we are seeing a much stronger mix of orders for our technology boards and monitoring equipment, which carries substantially lower gross margins than our adhesive sensors. Because of this, we're expecting to see lower gross margins in the second quarter compared to both our first quarter and prior year results. It's also important to note that we are continuing to invest in the business during these uncertain times with a longer-term view that will make us an even stronger organization over the next several years. During the first quarter, we increased our investment in R&D, expanded our sales force and enhanced our Hospital Automation business. For the second quarter, we are planning to invest more into our business to drive increased awareness and adoption of our wireless sensors and remote monitoring technologies. These products are being embraced by hospitals during this global pandemic as they see the value of keeping some patients at home in order to reduce disease transmission risk, manage limited supplies of protective equipment, and keep beds available for the more severe cases of COVID-19. Another important item to note is that the actions taken by the Federal Reserve to provide relief and stability during the pandemic have resulted in cutting interest rates by 1.5 percentage points. Due to the lower interest yields we are earning on our invested cash and short-term investments, we are now expecting to generate approximately $6 million in non-GAAP non-operating income in fiscal year 2020. This represents a 50% reduction from the original guidance of $12 million that we provided back in January. Given the uncertainties around a number of potential cross currents including increased demand from COVID-19 stocking orders and lower hospital admissions, please do not extrapolate our first quarter and April performance into your estimates for the remainder of 2020. While uncertainty remains around the duration and severity of the COVID-19 outbreak, Masimo is uniquely positioned to be a part of the frontline solutions for combating this global pandemic. Our global organization is stronger than ever and we remain steadfast in our commitment to achieving our long-term plan and delivering increased value to all stakeholders. With that, I will turn the call back to Joe.

Joe Kiani, CEO

Thank you, Micah. In partnership with our customers and our greater community, we have focused our entire organization on addressing the COVID-19 pandemic, so that caregivers and patients have access to the best solutions available to improve care and outcomes. Our strength in patient safety technologies, signal processing, blood management technology, sensors, software and hardware development, and high-volume manufacturing are being combined and leveraged with our ability to rapidly develop new solutions for this pandemic. We've been partnering with our customers to assist them in any way we can to relieve the stress on the healthcare system, while enhancing their ability to ensure quality care. We've undertaken many actions recently to help our customers and patients during this pandemic, including creating Masimo SafetyNet, a wearable SET pulse oximetry and respiration rate and effort monitoring and patient care management solution to aid COVID-19 surge response efforts in remote locations such as the home; offering COVID-19 product kits, which include Root, Rad-97, Radius PPG, and Patient SafetyNet enabling our monitors and wireless sensors to better support clinicians in managing the surge of COVID-19 patients in the hospital settings; offering licenses at no additional charge for rainbow non-invasive blood constituent monitoring to help manage hemoglobin given the limited blood supplies during this pandemic. One very helpful use model, given the contagious nature of COVID-19 and insufficient availability of PPE, using our Radius PPG tetherless wireless sensor, many hospitals moved their patient monitoring equipment outside of the patient's room and into the hallway, avoiding the need for caregivers to enter a patient's room to read the values on the monitor. This change reduced clinicians' exposure to infectious patients and reduces risks for healthcare staff, while also extending supplies of protective masks and gowns. Together with the new capital equipment, we have sold during the pandemic we have experienced increased demand for enlarging, existing installations of our Patient SafetyNet system in the post-surgical wards. Using our new Masimo SafetyNet system designed for home and other remote settings, which is different from our Patient SafetyNet designed for hospitals, Masimo is also now providing a new ability for hospitals to monitor patients at home, which allows physicians to direct patients with mild-to-moderate COVID-19 to return home, while still being monitored for SpO2, pulse rate, and respiration rate. The Masimo SafetyNet kit includes two Radius PPG devices, our wearable wireless sensors with a four-day battery life, along with a smartphone app and a data tracking protocol for clinicians to be able to view their patients' vital signs data. Replacement sensors are available for patients who require more than eight days of monitoring. By implementing Masimo SafetyNet, hospitals can save their scarce beds for the more severe cases of COVID, preserving capacity while safely watching over the patients they have sent home or elsewhere. University Hospitals, which was the first to pilot Masimo SafetyNet has had tremendous success, including citing cases where patients' lives were saved due to the technology. Under Dr. Pronovost's leadership, UH has been an excellent partner in helping us bring this product to the masses, including doing a joint webinar to teach clinicians about their experience and how to use Masimo SafetyNet. Since the full market release two weeks ago, 76 hospitals have deployed Masimo SafetyNet and over 650 hospitals are in the pipeline to do so. We've never had a more successful product rollout. Another Masimo technology that's being perceived as valuable during this pandemic is our rainbow SpHb continuous hemoglobin monitoring for surgical patients, who might need intraoperative blood transfusions. Many hospitals are now trying to conserve their blood supply because of a developing blood shortage related to a large decrease in blood donations as people remain at home. Every outcome study to date has shown that SpHb reduces unnecessary blood transfusions. During the time of this pandemic, Masimo is providing software licenses for SpHb monitoring at no additional charge to our customers, who have rainbow-ready monitors while also providing them with SpHb sensors at a discounted price to ease the strain on hospital budgets during this disruptive period. In April, we further extended our reach into care for respiratory patients through the acquisition of TNI Medical, a company in Germany producing high flow nasal cannula oxygen therapy. High flow therapy may help COVID-19 patients avoid the need for full-blown mechanical ventilator therapy, which carries significantly higher risks than high flow therapy. TNI's high flow product is cleared for both hospitals and home use. We acquired TNI earlier than we had expected to help them increase their production capacity. We expect to soon have increased our production by an order of magnitude. Despite the unexpected demands, we have been able to keep up and fulfill our customers' needs. When we saw factories in China shut down due to coronavirus, we began to prepare for worst-case scenarios and among other initiatives expanded our manufacturing facilities in both numbers and capacity. We've undertaken concrete measures to reduce the risk of possible interruption in the production of critical products. We also invested over $10 million to expand our production capacity to build new distribution centers in Mexico and Amsterdam, providing us with redundancy to support our Irvine facility. We've also taken measures to reduce the health risk from COVID-19 for our workforce around the world. In closing, an acute need for reliable and innovative patient monitors has made our technologies more relevant than ever. Masimo has been able to respond to the call for help from our customers and their patients. We believe the work we are doing now will springboard us into a brighter future beyond COVID-19 which will come after availability of vaccines to the whole population or testing and quarantining systematically. We again wish to thank the frontline healthcare workers we serve and I want to thank my team for their relentless pursuit of helping clinicians improve patient outcomes. With that, we'll open the call to questions.

Operator, Operator

Thank you. Your first question comes from Larry Keusch from Raymond James. Your line is open.

Larry Keusch, Analyst

Hi, good afternoon everyone. The first question I have is whether you've managed to assess the potential impact of order activity related to stocking in either the first or second quarter.

Joe Kiani, CEO

Well, unfortunately not, and that's why it's hard for us to give you projections on the future. As I mentioned, to-date, we have about 220,000 technology boards and monitors either already shipped or sold to be shipped. And we think for the year the number that we have so far that is basically a demand forecast, mainly by our OEMs, we're not even putting our own expected sales of our monitors but the numbers could hit over 550,000 for the year. The only thing we know of those numbers with some certainty is that 100,000 of them are for ventilators with our technology in them for monitoring and those have been ordered by the military. Those are most likely going to be used for the surge and then stored. So, the 550,000 let's say for the year, we know 100,000 is unlikely to be used continuously in the future. The other 450,000, assuming it materializes too, we don't know. We don't know if they're going to be used. In less clinical settings as you know a small fraction of the postsurgical wards have monitors on them right now for continuous monitoring. So, what may occur is some of this excess monitors they're buying might end up leading to finally closing the gap for continuous monitoring in the wards or they may get put into storage. We don't know. And that's why it's so hard for us, Larry, to give you a forecast because we don't know.

Larry Keusch, Analyst

Okay, I totally understand. That information is really helpful. I believe you mentioned that in the second quarter to date, U.S. sensor sales are down about 12% while outside the U.S. they are up about 95%. First, can you confirm if those figures are correct? Secondly, how should we understand the dynamics between the U.S. and international markets?

Joe Kiani, CEO

Those numbers are accurate. What’s happening is that elective surgeries have largely been put on hold worldwide, leading to a decrease in natural sensor volume observed in the U.S., where there has been a predominant preference for single-patient use sensors to reduce the risk of infections. The growth outside the U.S. is mainly because, outside of the neonatal ICU, most of the world utilizes reusable sensors. However, COVID-19 has prompted many hospitals to switch to disposable sensors. It remains uncertain whether they will continue to use disposables after the pandemic is over, but currently, there has been a significant shift to single-patient use sensors outside the U.S.

Larry Keusch, Analyst

Okay, perfect. And then last one for me. Just again on the program to help hospitals with managing their blood inventories for transfusion and the ability to utilize SpHb. Maybe just remind us again how many of the installed base is enabled or I should say ready for rainbow usage? How much is actually being used currently? And are there any observations albeit I recognize the timeline is short in terms of interest from customers in getting going on SpHb? I know that you had a really strong fourth quarter contracting period, so just curious how that's all playing out? Thank you.

Joe Kiani, CEO

The majority of our products are ready for rainbow. We have been shipping rainbow-ready products since 2006, and except for some customers who need very low power and a small size, most have transitioned to using rainbow. Regarding our efforts to enhance rainbow sensor volume and revenue, some of the hospital contracts from the end of last year could not be implemented because of the lockdowns. The positive side is that facilities already using rainbow-ready equipment have quickly adopted it, leading to a 12% increase in our rainbow sensor volume, and we continue to see a rise in that adoption rate.

Larry Keusch, Analyst

Okay. Very good. Thank you very much. Appreciate it.

Joe Kiani, CEO

Thank you.

Operator, Operator

Your next question comes from the line of Rick Wise from Stifel. Your line is open.

Rick Wise, Analyst

Good afternoon, Joe. Hi everybody.

Joe Kiani, CEO

Hi.

Micah Young, CFO

Hi, Rick.

Rick Wise, Analyst

Joe, to start off with your comments on Masimo SafetyNet, your wearable device, it's clear that this story has rapidly evolved from a technology standpoint. You are emphasizing the number of hospitals that have signed up compared to those in the process of deploying. Can you help us understand in more detail how you see this evolving from here? Additionally, how should we assess the incremental revenue opportunity and the potential 12-month run rate from the acceleration of SafetyNet? It seems like there is a significant incremental benefit that is arriving sooner and more widely for the advantage of hospitals and patients as well.

Joe Kiani, CEO

Well Rick, if we could have it our way, we wouldn't have this pandemic, no matter how it's positively impacted our trajectory. Overall, it’s a net big negative. However, this pandemic really changed the definition of telehealth from a cardiac-based or diabetes-based thinking to a respiratory-based thinking. And our customers tell us there's nobody out there that has what we have. We're the only product they can trust. We're the only real product everything else is waferware. And that is reflective of how fast people are taking up this technology and frankly how fast we were able to get even the FDA to allow us to begin marketing it. We were sitting in a staff meeting where we started thinking, you know what, this product we made for opioid safety could really help with the surge. Let's contact the FDA and see if they have appetite to work with us to release it before we get the clearance for opioid SafetyNet. And within two hours from the time, our team contacted the FDA, even though the person actually was out on vacation from what I understand, he responded. And literally a week after that, also with the help from Dr. Peter Pronovost, the FDA decided to allow us to market it. And we at that time began the pilot at UH and St. Luke's and I'd just say the rest is history. But what's going to come after COVID-19 is hopefully opioid safety. That was the intention of the product. We see a continued demand for monitoring the lung regardless of COVID-19. So, obviously we're going to go and pursue that. But I think the biggest opportunity still remains the safety of people taking opioids at home, and we're still working with the FDA to clear it for that indication. But what's been incredibly useful while we've been helping people, they've been helping us because they have helped us now under the supervision of nurses and doctors wring out all the wrinkles of this technology or later when people are just using it on their own without someone 24/7 monitoring them.

Rick Wise, Analyst

Let me approach this from a different angle. This year has been quite complex, making it challenging to provide guidance. I understand your decision to withdraw it. I would like to discuss a couple of points with you. First, looking at Masimo's historically established revenue growth rate of 8% to 10%, and considering the new opportunities in Hospital Automation and opioid safety, do you view Masimo's long-term growth rate differently due to the current environment and these potential advantages? Or should we now adopt a more optimistic outlook regarding Masimo's future growth because of these new possibilities?

Joe Kiani, CEO

Well, it's interesting you said that, Rick. And I wish I could get into what do you call that place where Catholics go to ask for forgiveness? What do you call that place?

Micah Young, CFO

Confessional? Confessional.

Joe Kiani, CEO

Confessional, yes. I feel I'm in there, but I know we're not speaking just one-on-one and we can't even if we could. But in the middle of trying to deal with COVID-19, we started to quickly realize we got to think about our long-term plans and what do they all mean. And kudos to the team we spent an evening so late hours thinking through that. And without giving you numbers, we came away very optimistic about our future. Taking away any one-time revenues, if we can ever figure out what those are for COVID-19, yes, we see a brighter future than we did before COVID-19. Now that doesn't include what we don't know today. We don't know what will COVID-19 do and how will it end. We're looking at 1918 as our best yardstick. So we're hoping by this time next year it will be over with. I'm hoping 100 years of science and progress, we don't have to follow the same trajectory, but it doesn't seem to be any better yet. So assuming it's no worse than that, yes, I think we're going to come out stronger, with a better future than we had going into it.

Rick Wise, Analyst

Okay. And one last big picture, each of these questions are sort of big picture questions a little bit Joe, I apologize. But I want to make sure I understood. I mean, obviously Masimo is impacted on one side in one aspect by the slowdown in elective procedures. Hospitals across the United States are doing fewer non-COVID non-emergent procedures clearly. Less anesthesia is being administered. Can you quantify, can you help us think through that impact on the business in the first quarter? Or that possible impact that drag that's likely to be in place in April, May, June as we start to think about a potential reversal I suppose at some point as we go the other way with procedures and we recover?

Joe Kiani, CEO

Yes. From what I hear from many of my peers who have products that are more correlated to the number of elective procedures, elective procedures may be down between 50% to 75% right now. And the irony is that because of that, hard-working clinicians that are putting their lives in danger are getting paid less and some are being furloughed, which just drives me insane, because we expect them to run towards the problem and yet we're letting them go when we think we don't need them, which is a different topic. But I got to say those same people are thinking that elective procedures are going to come back in June, July timeframe maybe by 50% to normal capacity and then maybe by August, September 75% to 100%. And if that were to happen then again we'll probably benefit from that, because there's a pent-up demand for elective procedures. What we don't know is whatever hospitals have purchased for inventory in case they needed, given what they saw in shortages from masks and gowns and I guess toilet paper, we don't know if hospitals for a while are going to hold on to that inventory, because they're going to always feel like a bad day might come or if they'll start using up that inventory. But most people when I talk to them, they think that hospitals are going to hold on to their inventory for quite a while, especially because everybody assumes we're going to get a second wave in the fall time. So to answer your question, we expect there will be increased sensor volume demand on us as soon as elective procedures turn back on again.

Rick Wise, Analyst

Got it. Thank you, sir.

Joe Kiani, CEO

Thank you, Rick.

Operator, Operator

Your next question comes from the line of Matt Taylor from UBS. Your line is open.

Matt Taylor, Analyst

Hi. Thank you for taking the question. So, I wanted to ask a couple on just what you're hearing from your customers about their utilization during this time, just to better assess how much of this is kind of here to stay. Are you seeing patterns of monitoring whether it's with the disposable sensors or the remote solutions more broadly across the hospital with COVID patients and without?

Joe Kiani, CEO

Would you please repeat your question? I'm not sure I got it.

Matt Taylor, Analyst

Yes. I'm trying to understand, if you're seeing utilization that you can confirm either through anecdotes or through your data that would help you understand better whether the monitoring patterns post-COVID could actually change and be more broad?

Joe Kiani, CEO

I see. Yes. From what I'm seeing, I think it will be more broad. I believe there was a trend already for hospitals to become critical care beds only. And I think COVID-19, if anything has made that more concrete, more short-term. So yes, I think there will be a bigger remote broad monitoring outside the hospitals and hospitals will more focus on the patients who need critical care type of care.

Matt Taylor, Analyst

Okay. Okay. And then, I guess you mentioned that there's this 100,000 boards ordered by the government. When you look at the other boards that you mentioned, I think you said 550,000 which is your current forecast for the year and you had 150,000 in the current backlog. So can you talk a little about what you're assuming to get from orders you have to date to the 550,000?

Joe Kiani, CEO

Sure. First of all, we shipped 72,000 boards in Q1. And by this call, we had 151,000 boards I believe that were ordered that are not cancelable that we will be shipping and some have already shipped. So that's 220,000 roughly of the 550,000. The other 230,000 are demand forecasts that we have received from our OEMs, which they have the right today to cancel them 90 days before shipments, so some of that delta is more than 90 days out, so they could cancel them. But I also mentioned, I have not included in that 550,000 any of our direct shipments of Roots, Rad-97s, Radical-7s and so forth. So I'm only giving you what is currently we have demand forecasts.

Matt Taylor, Analyst

I see. Okay. All right. That's really helpful. And then, well in terms of understanding whether things are being overordered, have you seen any cancellations to date?

Joe Kiani, CEO

No. None. If any, very minor stuff. Not anything major that I know of.

Matt Taylor, Analyst

Okay, cool. Thanks for the feedback. I'll stop there.

Joe Kiani, CEO

Thank you.

Operator, Operator

Your next question comes from the line of Mike Matson from Needham & Company. Your line is open.

Mike Matson, Analyst

Hi. Thanks for taking my questions. I guess I just wanted to ask about the rainbow discount that you're offering. So can you maybe comment on how that's being received? And how many incremental cases of adoption you've seen as a result of that?

Joe Kiani, CEO

Yes. We're offering the rainbow software license, which could be upwards of about $8000 of value during COVID-19 without charge. And we're selling the sensors at a discounted price to our lowest prices we've sold. And I'm sorry, I don't have the numbers in front of me otherwise I'd give it to you, but it's significantly less than most hospitals are paying for rainbow today. Now after the COVID-19 is over, we intend to take away the licenses unless the customers want to pay for them and keep them.

Mike Matson, Analyst

And can you quantify at all the number of hospitals or customers you've seen opt to turn those on given the discount?

Joe Kiani, CEO

Well I mentioned earlier our sensor volume is up 12%, but our revenue has been up 16%. And I think from a number of hospitals, I believe about 15 hospitals have already taken advantage of this offer.

Mike Matson, Analyst

Thank you. Your free cash flow seems a bit lower compared to last year, and your capital expenditures were quite high at $37 million. Is this related to the Connected Care acquisition or something?

Micah Young, CFO

No, it's related to some of the expansions we've made into our facilities. During the quarter, as Joe mentioned, we've been making some investments. We're expanding facilities in Mexico, as well as our presence in Switzerland and Irvine. As the business grows, there are opportunities for us to expand our footprint there.

Mike Matson, Analyst

Okay. Make sense. Thank you.

Micah Young, CFO

Thank you.

Operator, Operator

Your next question comes from the line of Ravi Misra from Berenberg Capital Markets. Your line is open.

Iris Long, Analyst

Hi, this is Iris on for Ravi. Thanks for taking my question. So we have a few questions on the Patient SafetyNet. So in terms of the reimbursement environment for COVID-19 use, should we expect those would be cash paid? Or are those under reimbursement for now? Have you had any discussion with the FDA on perhaps whether you'll be getting a breakthrough technology status that would give you faster reimbursement? Just any color on that would be helpful. Thank you.

Joe Kiani, CEO

Okay. Well, currently hospitals buy those from us. As far as what they're doing for reimbursement, we've heard various things. Some are seeking it. Some are just mixing it with their DRGs. So we don't have a concrete answer for you on reimbursement yet.

Iris Long, Analyst

Okay. When considering the launch, do you intend to start with your existing customers and then expand to others? What is your plan in that regard? Can you share what kind of demand you are observing in the U.S. compared to other regions? Additionally, you mentioned that there are over 600 hospitals in the pipeline. Could you explain what that means in terms of the enrollment process for these hospitals? How long does that process usually take?

Joe Kiani, CEO

Well, on the interest when we held our webinar, we had over 2,000 clinicians join us for the webinar for Masimo SafetyNet with University Hospitals' clinical team, representing 70 countries roughly and over 1,200 institutions. As for the earlier question of is it only being offered to our existing customers? No, we're offering it to anyone who can use it. Some of our competitors' customers have already begun using it. Some of them unfortunately are under restricted contracts, which may prohibit them. But we are trying to offer to anyone who can use it.

Iris Long, Analyst

Okay. And how long is the process for you to onboard these hospitals?

Joe Kiani, CEO

It is fairly quick. It's really easy to implement with less literally less than one hour. We can load the software for them for the central monitoring dashboard, wherever they want, whether they want it in a hospital or in a remote setting. And we can set them up with a customized window for their patients to them, give their patients the app and the kits to go home with.

Iris Long, Analyst

That's helpful. Can you provide more details about the pricing and revenue model? How should we think about the pricing? Are you offering any discounts? Any additional information would be appreciated.

Joe Kiani, CEO

Sure. The kit I mentioned on the phone, which had two sensors in it that would last eight days with a reusable part that we hope gets returned, because that part can be used for a long time, but even with that in there and the app and everything, it's $150 per kit and we're not discounting it. That's the price. And so far over 10,000 kits have been purchased.

Iris Long, Analyst

Okay. That's helpful. Thank you.

Joe Kiani, CEO

You're welcome.

Operator, Operator

Your last question comes from the line of Marie Thibault from BTIG. Your line is open.

Marie Thibault, Analyst

Hi, Masimo team thanks for taking the question, and thanks for the good work you're doing in this crisis.

Joe Kiani, CEO

Thank you.

Marie Thibault, Analyst

A quick one on some of the shipments. You have 72,000 in this quarter and over 150,000 already in demand right now. Do you have any feeling on the number of shipments you can do per quarter in terms of capacity? And would you remind us historically what the breakdown is usually between your direct and OEM business when it comes to board shipments?

Joe Kiani, CEO

Sure, sure. First of all, our overall quarterly shipments are about 60,000 boards and monitors a year. And that's typically 80% are OEM and 20% are direct. As you can see in April already, not the full quarter we're over 150,000 boards and monitors. And I believe right now though that is skewed heavily towards OEMs. The 150,000 number is probably more like 90/10. I can get you maybe before the end of the call more precise data if we have it, but that's my understanding. As far as what we forecast, we can't. That's why I gave you the numbers that's in the demand forecast from our OEMs right now minus even our own normal monitor shipments quarterly.

Marie Thibault, Analyst

Absolutely. Understood. And no capacity in terms of how much you could ship the quarter at this point?

Joe Kiani, CEO

Not wanting to tempt fate, I can say that we've successfully met the demand. We implemented some very creative strategies, and more importantly, the team executed them flawlessly. So far, everything is going well.

Marie Thibault, Analyst

Okay. Great. Last question for you is about the TNI Medical acquisition. You mentioned it's approved for both home and hospital use. I'm interested to know if you plan to roll it out for home use during this pandemic, or if it’s too soon to manage that logistically?

Joe Kiani, CEO

Yes, we are planning to deploy it in homes during this worldwide pandemic. I want to emphasize that we have limited knowledge in this area. This is a new experience for us. Unlike other topics we've discussed where I can draw on 30 years of experience, I don't have much information on this one. What we do know is that this product appears to be beneficial for patients and causes less damage to the lungs. Avoiding a fully invasive mechanical ventilator is a significant advantage. However, there are concerns about potential aerosol leakage with a noninvasive ventilator, which may increase risks for healthcare providers interacting with patients. For this reason, although we have received reassurances from various sources, we want to proceed cautiously. We're not aggressively promoting this product and are simply taking orders as they come until we have scientific evidence to guide us regarding its impact on clinicians and patients.

Marie Thibault, Analyst

Perfect. Thank you.

Joe Kiani, CEO

Welcome. Thank you. Well thank you so much all for joining. As Micah said, we hope you're all well. We hope you stay well. And we look forward to a time where we can predict the future a little bit better. Thank you. Have a wonderful, wonderful summer.

Operator, Operator

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