Neogenomics Inc (NEO) Q3 2021 Earnings Call Transcript

Good morning, ladies and gentlemen. And welcome to the NeoGenomics Third Quarter 2021 Earnings Call. At this time, all participants have been placed on a listen-only mode and the floor will be open for questions-and-comments after the presentation. It is now my pleasure to turn the floor over to your host, CEO, Mark Mallon. Sir, the floor is yours.

Thank you, and good morning, everyone. I’d like to welcome you to NeoGenomics’ 2021 third quarter conference call. I am very pleased that for the first time we are all doing this call from our new Fort Myers headquarters. Joining me here are George Cardoza, our Chief Operating Officer and President of Lab Operations; Doug Brown, our Chief Strategy and Corporate Development Officer; and Charlie Eidson, our Director of Investor Relations. Joining the call via phone from California is Dr. Gina Wallar, President of our Pharma Services Division and from the U.K., President of Inivata, Dr. Clive Morris. We also have with us Kathyrn McKenzie, our CFO; and Bill Bonello, our President of Informatics. As per our press release this morning, we are excited to announce our new roles at NeoGenomics. Thank you to them for their important contributions in their current roles, and I am pleased to have them continue with their new responsibilities as key members of the NeoGenomics leadership team. Since taking over as CEO of NeoGenomics in April, I have been working closely with our Board on succession planning and optimizing our leadership team and structure. As a part of this process, we have taken important steps to reorganize internally including promoting George to Head of our Lab Operations and Dr. Waller to Head of our Pharma Services. We have been able to attract world-class talent to our leadership team, hiring Halley Gilbert as our Chief Legal Officer and John Mooney as our Chief Technology Officer. We have some additional leadership positions to fill, but I am pleased with the moves we have made and the positive impacts on our business that I believe they will have. Before we begin our prepared remarks, Charlie will read the standard language about forward-looking statements.

This conference call may contain forward-looking statements, which represent our current expectations and beliefs about our operations, performance, financial condition, and growth opportunities. Any statements made on this call that are not statements of historical fact are forward-looking statements. These statements, by their nature, involve substantial risks and uncertainties, some of which are beyond our control. Should one or more of these risks or uncertainties materialize or should the underlying assumptions prove incorrect, actual outcomes and results could differ materially from those indicated in the forward-looking statements. Any forward-looking statement speaks only as of today, and we undertake no obligation to update any such statements to reflect events or circumstances after today. Before turning the call back to Mark, I want to let everyone know that we will be making a copy of our prepared remarks for this morning’s call available on the Investor Relations section of our website shortly after the call is completed. We also want to let everyone know that we are going to limit the number of questions to one per person in order to give more people a chance to ask questions within the one hour that has been allotted for this call.

Thank you. I would like to spend some time sharing thoughts on our current positioning, the strategic value of NeoGenomics, and how I see us continuing to be a leader in the oncology diagnostics marketplace. But before diving into my thoughts on our exciting future, I would like to make a few comments regarding our third quarter financial results. For the quarter, we continued to demonstrate growth, as company revenue increased 12% year-over-year, excluding discontinued COVID-19 PCR testing revenue from a year ago. We strongly believe the business would have grown faster if not for the impact of the Delta variant on the quarter. The resurgence of COVID-19 has clearly affected our business, perhaps more so than others, given our significant geographic presence in the southeast and south-central parts of the country, where the Delta variant has had the most pronounced impact. We continue to see very positive signs for excellent growth in the future. Our Pharma Services bookings during the quarter grew 41% year-over-year, reaching an all-time high of $49 million, reflecting the strong demand for our services. We exited the quarter with backlog at $261 million in Pharma Services, another record high. With a reduction in COVID cases nationwide, we expect to see higher growth rates in our core Clinical business and in Pharma Services going forward. While quarter three results did not achieve our expectations, we view the current challenges as transient and remain very optimistic regarding our growth prospects for 2022 and beyond. To this end, we recently presented our five-year growth plan to the NeoGenomics Board of Directors, and that plan was received with overwhelming support for the investment necessary for us to strengthen our leadership in oncology diagnostics. We presented a bold plan, which will significantly accelerate the growth of our overall business and critically bolster the launch of RaDaR, our potentially transformative new assay for minimal residual disease and recurrence testing. We believe that successful commercialization of our RaDaR assay will increase our long-term growth rate into the high teens. A key driver of our confidence in RaDaR is its differentiated performance based on analytical validation data demonstrating 95% sensitivity and 100% specificity at circulating tumor DNA concentration levels as low as 0.0011% variant allele frequency or 11 parts per million. To support growth initiatives for our existing business and for RaDaR, over the next six months, we will be doubling the size of our customer-facing sales force by substantially expanding our Precision Medicine Manager and Medical Science Liaison teams. This investment could lead to a doubling of our revenue by 2025, with the potential to exceed $1 billion in annual sales. Indeed, I am very confident in our future. Over the past 10 years, we've established a solid foundation as the leading provider of oncology testing for community hospitals and oncology practices. We focused on this market segment because approximately 85% of oncology testing and treatment occurs in the community setting. Our mission has always been to ensure patients have access to the best and most appropriate care, regardless of whether they are treated in a large academic medical center or a small community hospital. As you may know, we have endeavored to provide the most comprehensive test menu in the industry. Because of the depth and breadth of testing that we provide, we will serve more than 4,000 healthcare providers and 500,000 cancer patients this year. This is a remarkable milestone to achieve. We also established leading testing franchises for highly prevalent cancers such as breast, lung, and various hematologic cancers. Having established this foundation, we are now in a great position to help usher in the next generation of transformative testing technologies and ensure that these tests are available to patients in all types of settings, not just to those treated in select academic facilities. We often hear NeoGenomics referred to as a fast follower. In fact, we have often used that term to describe our strategy for adopting new technologies. We have executed this fast follower strategy because we have the scientific and medical know-how to quickly develop and launch new, often improved lab-developed tests, and because we have a trusted relationship with thousands of physicians who order a significant portion of their cancer testing from us. Combining high-quality assays with best-in-class service has enabled us to consistently grow faster than the overall cancer testing market. While this strategy has served us well in the past, it will not be sufficient to take us where we want to be in the future. We realize we have an opportunity and a responsibility to be the leader in establishing certain new testing technologies, and our RaDaR assay is a prime example in the minimal residual disease and recurrence market. We are investing to be the clear leader in this emerging market estimated to be in excess of $15 billion. When we acquired Inivata earlier this year, we knew that the RaDaR assay was special. I have become even more convinced that this assay and our unique opportunity to deliver for patients and investors is unparalleled. Detecting the recurrence of cancer for a patient has traditionally been accomplished by radiographic imaging. Research conducted on both RaDaR and other liquid biopsy MRD assays demonstrates that these new technologies provide oncologists with timely sensitive information to act much sooner on patients at risk of recurrence. Evidence strongly suggests that our RaDaR assay may be the most sensitive assay for detection of recurrence as measured by analytical sensitivity. Evidence further suggests that RaDaR’s potential sensitivity advantage could translate into the detection of cancer recurrence months ahead of competitor assays. This sensitivity and NeoGenomics' strong Pharma Services capabilities are generating significant interest from BioPharma clients. We now have multiple active BioPharma collaborations for RaDaR, and we are starting to see initial collaborations translate into larger late-stage development program opportunities. We are pleased to share we recently were awarded one such opportunity, with encouraging signs on several others. The strong interest of multinational pharma companies has only increased my confidence in the opportunity we have in front of us. Many of you know my background in the pharmaceutical industry. In my 30 years in the industry, I had the privilege to lead teams responsible for the successful launch of many new pharmaceutical products. Based on this personal experience and what I learned from MRD industry experts about our RaDaR assay, I sense that we at NeoGenomics have a strong hand and an obligation to both patients and our shareholders to move aggressively toward a successful launch for RaDaR. Given this context, as I mentioned earlier, we will be immediately pursuing the doubling of our customer-facing team. We will expand our Precision Medicine team to 50 Precision Medicine Managers and hire 10 Medical Scientific Liaisons to serve medical oncologists focusing on the launch of RaDaR. These will also continue to support the uptake of InvisionFirstLung, our Liquid Biopsy test for lung cancer. These additional hires will complement our industry-leading existing sales force and the sales force at Agendia, which we are partnering with in the breast cancer MRD market as well. Based on the initial MRD market development in colorectal cancer and NeoGenomics' strong franchises in breast cancer and lung cancer testing, we anticipate we can leverage these foundations to be a market leader in MRD testing. The combination of these strengths with our expanded Precision Medicine Manager team will certainly accelerate the market penetration of our RaDaR assay, benefiting thousands of cancer patients sooner. We also expect to be able to accelerate what we believe could become a multi-hundred-million dollar per year revenue opportunity for NeoGenomics. As we pursue these massive opportunities, I want to remind everyone that we remain on our previously stated timeline of attaining MolDx submission for our first indication around the turn of the year, with an anticipated reimbursement approval and initial commercial launch near the middle of 2022. I am excited about the bright future at NeoGenomics. Our base business is diversified and profitable with sustainable growth, and this foundation allows us to make smart and bold investments. In the core business, we will continue process improvements and grow our base business even as we pursue outsized growth opportunities. We anticipate that post-pandemic Clinical volume acceleration will allow our base business to fund our growth initiatives. I firmly believe that these investment decisions will ultimately be significantly beneficial to all of our stakeholders: patients, providers, employees, and shareholders. I will now ask Kathryn to update you on the quarter and then I will provide some closing remarks. We will then have time for Q&A. Kathryn?

Thank you, Mark. Revenue excluding COVID-19 PCR testing grew 12% year-over-year to $121 million in quarter three. Clinical revenues of $102 million represented 11% year-over-year growth excluding COVID-19 PCR testing. This 11% year-over-year increase was comprised of a 7% increase in Clinical volume and a 4% year-over-year increase in revenue per test. Incoming volume company-wide was impacted during the quarter by the Delta variant incidence surge. Similar to the dynamics experienced during prior pandemic waves, higher COVID-19 incidence led to reduced patient visits to oncologists, canceled screening appointments, and reduced sales team access. We were particularly hard-hit by the Delta variant given our substantial presence in both Florida and Texas, which together represent more than 20% of our total revenue. In Florida specifically, we saw some of the most stringent COVID-related restrictions put in place that we have seen during the entire pandemic. These factors culminated in a Q3 Florida daily volume trend across the state that was roughly 5% below our previous 2021 lows that were experienced in January and February. This compares to daily volume trends of up 9% when comparing the same periods across all other sales regions nationwide. Pharma Services revenue grew 14% year-over-year to $19 million. We did experience COVID-related delays and planned clinical trial work as patient enrollment timelines were pushed out by our customers. We would emphasize that the vast majority of projects in the quarter were delayed rather than canceled, and we would expect to perform this work in coming quarters. Despite lower Q3 growth, our Pharma Services year-to-date growth rate through nine months remains healthy at 36% year-over-year. What’s very exciting to us is that demand trends continue to be strong in our Pharma Services business. We added a record $49 million in signed contracts and exited the quarter with a record $261 million in backlog, which represents year-over-year backlog growth of 41%. We believe we are well-positioned to meet or exceed our long-term target of 25% plus revenue growth for this business in coming years. Our total GAAP gross margins decreased to 38.9%, reflecting the first full quarter of Inivata-related non-cash amortization. Total adjusted gross margin, which excludes non-cash amortization, was down slightly year-over-year to 42.9%. Lower than anticipated Clinical volumes and Pharma Services revenue led to lower efficiencies on our largely fixed-cost COGS infrastructure. The labor market for skilled lab technologists remains competitive, particularly in Southern California, and we are hiring aggressively to expand our testing capacity nationwide. Capitalizing on our fully integrated clinical LIMS network, we are in the process of bringing up or expanding dry lab analysis pods in multiple cities across the country. We’ve identified Phoenix and Atlanta as cities with pockets of strong talent. Operating expenses increased $38 million year-over-year to $87 million, primarily driven by expense contributions from the recent acquisitions of Inivata Limited and Trapelo Health, and additional investments to support growth. The increase also includes a loss contingency accrual of $10.5 million related to a regulatory matter we will discuss in a moment. Adjusted EBITDA was a loss of $3 million in Q3 and reflects a flow-through of lower than anticipated revenues, as well as the first full quarter of expenses from Inivata, which closed in June. Turning to the balance sheet, we exited quarter three with $543 million in cash and marketable securities, which excludes an additional $3 million in restricted cash designated to finalize construction of our new state-of-the-art laboratory and global headquarters here in Fort Myers, Florida. We are happy to share that we have moved administrative functions into the building, and we will be migrating laboratory operations into the new facility in stages over the next few months. The building triples our lab footprint in Fort Myers, providing much-needed capacity for expected growth in the years ahead. Our balance sheet also includes an accrual for a compliance item that will be disclosed in the 10-Q that we expect to be filed later today. We are voluntarily conducting an internal investigation, with the assistance of outside counsel, that focuses on the compliance of certain consulting and service agreements with federal healthcare laws and regulations. Based on preliminary findings of this internal investigation, we voluntarily notified the Office of Inspector General of the U.S. Department of Health and Human Services of our investigation in November of 2021. Though our review of this matter is ongoing, we have accrued a reserve of $10.5 million for potential damages and liabilities associated with the federal healthcare program revenue received spanning multiple years in connection with the agreements at issue that were identified during the course of this internal investigation. Turning to guidance, we are lowering our previously provided annual revenue and adjusted EBITDA guidance. We now expect consolidated revenue to be in the range of $482.5 million to $487.5 million, and full-year 2021 adjusted EBITDA to be in the range of a loss of $2.5 million to positive $2.5 million. The impact of the Delta variant on our business in Q3 was much larger and prolonged than we anticipated, affecting our Q3 results in our Clinical Services and Pharma Services divisions. We expect the Q3 reduction in sales team access in the clinical market and delays in clinical trial work with Pharma Services to have a flow-through impact on Q4. These factors caused us to reduce the level of sequential improvement we anticipate for the quarter. I will now turn the call back over to Mark Mallon.

Thank you, Kathryn. Regarding the compliance matter, we continue to take all reasonable steps to ensure that we have identified and are addressing all issues underlying our self-disclosure. NeoGenomics has always strived to maintain a culture of compliance and has a strong track record of operating ethically. Moving forward, further solidifying our compliance culture is a key priority for me and the leadership team. I am pleased that Kathryn will be stepping into the newly created role of Chief Sustainability & Risk Officer to help our team stay focused on mitigating evolving risks in this fast-changing business while also leading our ESG efforts. Shifting the discussion back to our business outlook, I am incredibly excited about the opportunity in front of us at NeoGenomics. Strategically, we remain well-positioned as a leader in oncology diagnostics, and we see significant opportunity for growth in the years ahead across all of our businesses. It’s clear that RaDaR is a special asset. We are committed to making the investments necessary to realize its sizable Clinical and Pharma market opportunities for minimal residual disease and recurrence testing. We intend to take a leadership role in forming this market, which we believe will fundamentally improve the cancer treatment paradigm for patients everywhere. Now I’m going to turn the call back over to Charlie for Q&A.

At this point, we would like to open the call for questions. If you are listening to this conference call via webcast only and would like to submit a question, please feel free to email us during the Q&A session and we will address your questions at the end if the subject matter hasn’t already been addressed by our call-in listeners. As mentioned at the beginning of this call, we would like to ask each person to limit their questions to one so that we may hear from everyone and still keep within the hour allotted for this call. Operator, you may now open up the call for questions.

Your first question today is coming from Andrew Cooper. Please state your affiliation and then ask your question.

Hi, everybody. Thanks for the question. Maybe just first is to dive into the guide on EBITDA and sort of what the trajectory on profit may look like as you think about doubling the sales force. Can you give some framing for how much is tied to lower flow-through in Pharma and Clinical versus the labor components that you mentioned?

Kathryn, do you want to take that?

Yeah. Andrew, thanks for the question. In Q4, there’s a couple of dynamics at play. One is what we mentioned on the top line, as far as the limited access or less access for our sales team in Q3 will have some impact on the top line in Q4. But really, as we’re looking to Q4, there is a big investment that we are looking to make to accelerate Inivata and bringing on the sales team. So that announcement that we had this morning about doubling our sales team is not really reflected in Q3 but will be as we start onboarding in Q4.

Okay. And maybe just a quick follow-up. Can you give a sense for where you sit on November 4th relative to earlier in the third quarter when obviously things were much worse?

We are clearly seeing improvement in access and an increase in patients returning to oncology offices. I wouldn’t say we’re back to normal pre-pandemic levels, but we expect that the improvement will continue. I think the positive for us is that, as incidents of COVID drop, we will see access go up, patients come back, and our business follows ahead. While we don’t expect a switch, we are confident that this will continue to improve, and we look forward to a strong 2022.

Appreciate it. I will stop there and jump back in the queue to let others have a chance. Thanks.

Thanks, Andrew.

Your next question is coming from David Westenberg. Please announce your affiliation.

Thank you. Apologies, I did want to ask a little more of a long-term question. Can you help us conceptualize the slow start to clinical trial kind of delays and, similar to Andrew’s question, in terms of where we stand today? Could we see makeup demand from Delta delays in October and maybe there’s some upside to that guidance? Seems tough to conceptualize Q4.

I will start and then maybe Gina can explain a little more on the Pharma side. We really look at it as a two-pronged impact on the top line. There was the impact in Q3 from access and patient visits that impacted our volume in Q3. Access will impact Q4 as well, since a portion of our business is growth and bringing new clients and revenue streams. While we may see a bigger bounce back post-initial COVID impacts in 2020, our impact of COVID in 2021 from the Delta variant wasn’t as low and so I don’t see the rebounding as V-shaped. But, Mark, would you like to fill?

No. I think that captures it.

Thank you.

Thank you, David.

Your next question is coming from Puneet Souda. Please announce your affiliation and pose your question.

Hi, Puneet Souda, SVB Leerink. Thanks for taking my question, Mark. First of all, just in terms of overall on the NGS side and the liquid biopsy side. How do you view the overall competitive landscape? I want to get a sense from you of your overall philosophy in M&A.

So, in terms of NGS liquid biopsy and the competitive environment, there has been significant investment. We are committed to taking the necessary steps to win and lead in the MRD asset market with our RaDaR and also to be a leader in NGS and liquid biopsy. I want to emphasize that we have something that other competitors don’t have, which is this channel we’ve built up over the last decade to community hospitals and oncologists and the million-plus tests we do every year. That foundation allows us to help shift the practice of medicine as we bring in our new NGS asset.

Hi, Puneet. In the past, we said we feel like we would have the scale on the Clinical side and we would like more scale on the Pharma side. There are tools out there that could be interesting for us.

Got it. And just last clarification, can you pursue an ADLT with the RaDaR assay?

Yeah. Certainly. We’re on track for our initial reimbursement submission for RaDaR around the turn of the year. We are planning for multi-tumor or pan-cancer use for RaDaR. You can expect to see incremental data across tumor types and further reimbursement paths. We are pursuing a parallel FDA path and ADLT is something we will consider as part of that.

Thank you!

Your next question is coming from Mark Massaro. Please announce your affiliation then pose your question.

Hey, guys. Thanks. Have you seen any incremental pickup within InvisionFirstLung? Can you just talk about any change in strategy or replacements on the Board?

We began to see an uptick in performance with InvisionFirstLung as we redoubled our focus on it in August. This has led to a turnaround time of five days. With Doug VanOort stepping down as Executive Chairman and moving towards retirement, in terms of strategy, we’re continuing to double down and accelerate the implementation of our strategy. In terms of Board changes, we are continuously assessing what we need for the company to strengthen it, and looking for ways to keep it strong.

Your next question is coming from Brian Weinstein. Please announce your affiliation then pose your question.

This is Griffin Soriano for Brian. I just have a question on Pharma Services and the backlog. Can you give us a sense of the leakage you would expect and the timeframe it takes to work through? Also what initial indication for RaDaR have you announced?

Gina, would you like to take that?

Our backlog generally converts over the course of the projects, which average around three years over time, and about 60% to 80% of contracts on average come through.

Clive, why don’t you take that?

No, we haven’t announced any details yet regarding the timing of indications, but the first one will be around the turn of the year, with others expected over the course of next year and onwards.

Your next question is coming from Alex Nowak. Please announce your affiliation then pose your question.

Good morning, everyone. Can you expand on the assumptions around the RaDaR market launch and your confidence in reimbursement?

Clive, can you explain the confidence level and our approach through reimbursement?

We’ve had dialogue with MolDx around the route through to reimbursement, so we have a clear view of what we need to deliver to get through for approval. We’re confident in our plan and we’re executing against it.

The reason we’re moving forward aggressively with the sales force is due to the substantial groundwork required for the commercial launch of a major new brand. You need to build relationships and connections with oncologists. A successful launch hinges on educating physicians to develop trust as we introduce a new assay.

Thanks for the clarification.

Your next question is coming from Derik De Bruin. Please announce your affiliation.

Hi, it’s Derik De Bruin from Bank of America. I want to follow up on the physician education process. With many competitors and information available, can you differentiate between different assays? What will you do to educate physicians in this environment?

Yes, there is a lot of education, and this education occurs in small interactions. A good thing about having multiple players is they build market awareness. We believe that our key message of sensitivity will resonate.

Thanks.

Your next question is coming from Matt Sykes. Please announce your affiliation.

Hey, everybody. Given the growth and backlog and what you’re seeing in Pharma Services, how do you think about internal capital allocation? Is there a lower or higher level of spend needed to support growth?

We’ve already increased investment in Pharma Services. We’ve added sites internationally, and while COVID-19 has hampered access, our teams have kept the momentum going. We feel good about that investment to accelerate growth further.

Your next question is coming from Tejas Savant. Please announce your affiliation.

Good morning. I have a question on guidance and the ongoing investigation. How are you thinking about the quarter-over-quarter increase for each segment?

In Q4, we’re seeing some improvement, but still not back to pre-delta volumes. There will be some improvement in Clinical volumes, and Pharma will generally have a quarter-over-quarter increase. But it relies on continuing access and the ability to bring those through.

Got it. That’s helpful. Can you comment on how the investigation could impact business operations in the longer term?

There will not be a meaningful impact to revenue on a go-forward basis. We’ve worked closely with our external counsel to evaluate any impact. There is no need to restate financials. The revenue historically is not impacted.

Regarding our business model, we have huge confidence in it, maintaining transparency, and working with our resources to continue driving growth.

Hello, this is Joseph from Needham. On the five-year growth plan, can you provide rough percentages of testing capacity you're at now, and any areas where Neo has been lagging?

We are working from our new laboratory in Fort Myers to increase capacity. This new building triples our lab footprint and allows us to respond to the demand we are expecting.

The uptick in R&D is from the investments we’re making in Inivata and the products we’re working on.

I want to thank all of our NeoGenomics team members for their dedication and passion towards making a difference for cancer patients. We appreciate the opportunity to speak today and look forward to keeping you updated on exciting things ahead for NeoGenomics.

Thank you, ladies and gentlemen. This does conclude today’s conference call. You may disconnect your phone lines at this time and have a wonderful day. Thank you for your participation.