Outset Medical, Inc. Q2 FY2024 Earnings Call

Ladies and gentlemen, thank you for standing by. Welcome to Outset Medical Second Quarter 2024 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. Please be advised that today's conference is being recorded. I would like now to turn the conference over to Jim Mazzola, Head of Investor Relations. Please go ahead.

Thank you very much. Good afternoon, everyone, and I apologize for starting a few minutes late. Welcome to our second quarter 2024 earnings call. Joining me as always are Leslie Trigg, Chair and Chief Executive Officer, and Nabeel Ahmed, Chief Financial Officer. We released a news announcement after the market closed today, which you can find on the Investor page of outsetmedical.com. This call is being recorded and will be archived in the Investors section of our website. We intend for all forward-looking statements made during today's call to be covered under the Private Securities Litigation Reform Act of 1995. These statements reflect our expectations or predictions about future events based on our current estimates and various assumptions, and they involve significant risks and uncertainties that could lead to actual results or events differing materially from what we anticipate or imply. Outset does not assume any obligation to update these statements. For a list and description of the risks and uncertainties related to our business, please refer to the Risk Factors section of Outset's public filings with the SEC, including our most recent annual and quarterly reports. Leslie?

Thanks, Jim. Good afternoon, everyone, and thank you for joining us. I'll begin with our results in the second quarter, which on the top line, were below our expectations as we work through the re-ramp of TabloCart and saw new evidence of our sales cycle elongating. Areas of strength in the quarter included treatment sales, which grew 25% year-over-year; console ASP, which increased more than 8% year-over-year; the console installed base, which grew 18% year-over-year; and the number of acute facilities using Tablo, which grew 16% year-over-year. Non-GAAP gross margin came in substantially above our expectations at 37.3% for the quarter with product margin coming in at 44.8%. Despite the progress, second quarter revenue of $27.4 million was lighter than expected and driven entirely by console sales below our forecast. While the return of TabloCart was helpful in advancing some of the acute deals in our pipeline, the ship hold masks what we now recognize, which is the need for commercial execution changes to better position ourselves to capitalize on enterprise opportunities that typically come with a longer sales cycle. Before I get to those changes, I think it may be helpful to reflect on the growth we've experienced since our launch in 2019, which was driven by early market adopters. These innovators and visionaries largely in the acute setting where we have scale and now low double-digit market share. We're the first to leave their long-standing outsourced relationships motivated by gaining control over their financial, operational and clinical destiny. The support from early adopters of Tablo and the in-sourcing model has been essential to demonstrating the benefits Tablo provides that will fuel our next stage of growth. This next stage of growth comes as we extend past the early enterprise adopters and use our foothold to expand into the mainstream enterprise adopters. These customers are deliberate, consensus-driven and process-oriented. Purchase decisions are contemplated with enterprise conversion in mind. And accordingly, the sales cycle often takes longer as it requires a larger group of stakeholders buying in. We've learned that success with mainstream enterprise adopters require a change in how we sell, who we sell and the process we use to get there. For example, we've identified the need to sell more broadly within the C-suite and established commitment across a larger base of stakeholders deeper within the system to gain buy-in. We've also recognized that our team needs to demonstrate exceptional consultative and change management skills as they work with large health systems on potential enterprise conversions. As we advance the insourcing movement from the early enterprise adopters into mainstream enterprise adoption, it requires changes in how we go to market, which involves three big shifts in our commercial approach. First, retooling our commercial team by infusing our capital sales team with individuals who have a different profile and skill set and ensuring we have the right talent in each role. Second, introducing a new capital sales process with greater specificity, accountability and discipline. And third, injecting rigorous sales management inspection at every step along the way to improve capital sales forecasting and the timing of close. This work is already underway. For example, we now have in place a sales leadership team with deep capital equipment experience centered around enterprise selling. We have also restructured our sales organization and trained them on our new enterprise sales approach. As we effectuate these changes, the result will be a resized and more nimble sales team and a methodical enterprise sales process commensurate with our expected future growth trajectory. Given the depth and breadth of the sales team and process restructuring, we expect it to take several quarters to fully implement and realize the many benefits that will come from it. As we look ahead to the second half of the year, we now know it will not be possible to execute this transformation given the expected accompanying disruption while simultaneously delivering on the ramp we previously forecasted. As a result, we expect the second half of 2024 will look similar to the first half with expected revenue for the year of approximately $110 million. We will continue to ensure spending is aligned to this new revenue outlook as we drive toward profitability. We expect this restructuring and optimization to deliver additional annualized savings into 2025. While the transition to enterprise sales is challenging for any company, we believe the benefits are substantial in terms of deal size and revenue growth. While this transition is having a near-term negative impact on our business, we have strong conviction that it's the right thing for our business over the long term. What we're observing is not a lack of demand or losing opportunities to a competitor. Tablo remains highly differentiated in delivering the clinical, financial, and operational improvements healthcare providers need in both the acute and home settings. The quality and depth of demand in our pipeline is stronger than we have ever seen to date with a high percentage of large deal sizes over $1 million each. What we're experiencing is a temporary dislocation of converting the pipeline to revenue on our timeline due to the changes in customer profile and process and the improvements needed in our own sales execution. With our installed base now at roughly 5,700 consoles, the number of treatments performed each month on Tablo continues at record levels. Treatment orders remain strong and our recurring revenue business model continues to distinguish itself. During the second quarter, recurring revenue grew 24% from the second quarter of 2023 with gross margin materially expanding as it has each quarter for more than three years. Non-GAAP gross margin in the second quarter reached a record 37.3% with product margin at 44.8% and service and other margin at 19.8%. Before turning the call over to Nabeel, I'd like to add a few highlights from our end market. For example, in the acute and subacute settings, we added nearly 30 new accounts during the quarter and continued strategic insourcing rollout at two of the largest health systems in the country. Data from one of our ICU customers was also published in a medical journal and showed a 40% reduction in mean length of stay, which resulted in savings during the measurement period of more than $1 million. In the home, we continue to see industry-leading retention rates and look forward to publishing more data from our home registry later this year. At the end of the second quarter, our 90-day retention rate remained at 90% versus the 55% average reported with the incumbent home hemodialysis device. And our cumulative rate remains at just approximately 10%. Our home centers continue to grow with multiple mid-sized dialysis organizations and skilled nursing facilities expanding with Tablo. With that, I'll now turn it over to Nabeel.

Thanks, Leslie. Hello, everyone. Revenue for the second quarter was $27.4 million, a 3% decline from the first quarter, and driven solely by softness in console revenue for the reasons Leslie described. Product revenue of $19.2 million included console revenue of $7.2 million, which declined 22% from the first quarter. The other component of product revenue is consumable sales, which performed very well as utilization continued to be strong. Consumable revenue rose nearly 8% sequentially and more than 25% from the second quarter of last year to nearly $12.1 million. Service and other revenue also performed well, increasing to $8.2 million, up 5% sequentially and 22% year-over-year. We were encouraged to see that console ASP remained strong across all end markets as a result of our disciplined pricing and strong uptake of our Tablo PRO+ offering with acute customers. Now moving to our second quarter gross margin and operating expenses, which as a reminder, reflects our non-GAAP results. Please refer to the reconciliation of GAAP to non-GAAP measures found in today's earnings release. Gross margin of 37.3% increased more than six percentage points from the first quarter and more than 14 percentage points from the second quarter of last year. As Leslie mentioned, we saw strong underlying dynamics within both product gross margin, which was a record 44.8% and service and other gross margin at 19.8%. Expanding gross margin remains a hallmark of our story and continues to be driven by our product mix, console cost-down programs, strong utilization and service renewals. BK's gross margin is sensitive to mix, it may fluctuate a bit on a quarter-to-quarter basis, but we remain confident in our ability to reach our next milestone at 50%. Operating expenses of $31.2 million declined 11% as compared to the first quarter and 25% from the prior year period, driven by our ongoing focus on expense management and the restructuring actions we've taken since the fourth quarter of 2023. Non-GAAP net loss was $24.7 million or $0.47 per share, materially lower on a sequential and year-over-year basis. Net loss for the second quarter was 16% lower than the first quarter and 27% lower than the second quarter of 2023, reflecting the positive results of our drive to profitability. These results also reflect our ongoing focus on gross margin expansion, which we've achieved consistently for three years now and on our commitment to aligning OpEx with our level of revenue growth. I want to step back for a moment here and focus on our ongoing commitment towards reaching profitability. We have, in previous quarters, underscored our alignment with shareholders on this goal, and I wanted to update you on our related actions. First, from a revenue perspective, our business is structurally designed for both revenue growth over the long term and for gross margin expansion. Every console we sell today is expected to generate between $15,000 to $20,000 of annual recurring revenues. These revenues have historically proven to be very predictable and come at high gross margins with high marginal operating leverage. Indeed, our recurring revenues grew by 24% in Q2 2024 compared to Q2 of 2023 and by 27% if you compare the first half of 2024 to the first half of 2023. Once we get our console placement engine ramps, we should expect that these recurring revenues will continue their contribution to growth and gross margin expansion. We believe that recurring revenues on an annual basis should continue to be over half of our total revenues as we move forward. Second, we continue to deliver on our gross margin expansion initiatives and have improved gross margin by more than 70 percentage points since Q3 of 2020, our first publicly reported quarter. In addition to the gross margin expansion that is structurally driven by our business, we expect to continue our work to improve gross margin over time as we continue our cost-reduction initiatives across product and service. Third, we are focused on ensuring that our OpEx scales at a rate that is aligned with our expected rate of revenue growth and with an eye to its profitability. Since the fourth quarter of 2023 and inclusive of the actions we discussed today, we have reduced our annualized spending by roughly $17 million, putting our run rate non-GAAP operating expenses at just over $100 million. Our non-GAAP operating loss for the second quarter was $21 million, the lowest quarterly level its been at since we achieved commercial scale in 2021, reflecting the work we've done around driving recurring revenue growth, expanding gross margin and managing OpEx. And finally, moving to our balance sheet. We are focused on additional opportunities to reduce the working capital impacts on cash through supply chain and manufacturing strategies to optimize inventory levels. We expect that inventory will step up over the second half of this year before burning down beyond that period. We remain well financed, ending the second quarter with $198.2 million in cash, cash equivalents, short-term investments and restricted cash. Turning to our outlook for full year 2024. We now expect revenue of approximately $110 million. Our base assumption is that console revenue in the second half is similar to what we reported for the first half. With strong utilization, we would expect recurring revenue to continue to perform well as it has consistently done. Turning to gross margin. With our continued outperformance, we have increased conviction in our guidance for 2024 non-GAAP gross margin. For the full year, we are updating this guidance to now be in the low to mid-30% range. Again, gross margin expansion is driven by recurring revenues from a larger installed base, service leverage and console cost-down programs. Turning now to OpEx for 2024. We expect to realize additional benefit from the work we have done. We now anticipate that OpEx for 2024 will be roughly $120 million, down from our prior guidance of $125 million to $130 million. As I said earlier, since the fourth quarter of 2023, we have reduced our annualized spending by roughly $70 million, putting our run rate non-GAAP operating expenses at just over $100 million. And finally, with our strong value proposition across two large end markets, wide competitive moat and broad integrated offering of products and service, we remain bullish on the long-term revenue growth profile. We will revisit our long-term outlook once the enterprise sales transition is complete and believe that following this transition, we will return to a strong, consistent top line growth.

Thanks, Nabeel. We are clearly dissatisfied with our performance and we are making significant and difficult changes in our people, our processes and our commercial approach as a result. While it has caused disruption and it will continue to disrupt our near-term comp growth trajectory, we are firmly convinced that these are the right steps to return the company to meaningful, sustainable top line growth. Further, the fundamentals of this market, the business model and our products remain firmly intact. We are penetrating one of the largest healthcare markets in the world with over 85 million dialysis treatments performed each year in the United States alone. We have a proven business model. During just the past three years, we have increased recurring revenue from about 30% to well above 50% of total revenue. When Tablo consoles are sold and installed their use. And we have executed very well to expand gross margin consistently since our IPO, again, demonstrating the strength of this business model over time. We remain as committed as ever to reaching profitability. This is a business that can be profitable and we believe will be profitable due to a proven foundation of predictable recurring revenue, our gross margin profile and inherent operating leverage. What we do well goes far beyond the technology. Our product is not just a device that change management and customer success expertise that is proprietary and very hard to replicate. We now have data from hundreds of customers that support the business case and the value proposition of in-sourcing with Tablo. We help save healthcare providers money, simplify their operations and improve the quality of living for their patients. These fundamental benefits are more important than ever, and Tablo brings a highly differentiated, difficult-to-copy product market fit to them. With that, I think we are ready for Q&A. Operator, please open the lines.

And our first question will come from Marie Thibault with BTIG. Your line is open.

Hi, good evening. Thanks for taking the question. I want to start here with just trying to understand a little bit more of the challenges you're facing. I hate to be dense here, but enterprise sales, on the little juggernaut to me, I want to understand who the enterprise customers are, how different that is from the MDOs that you had been targeting. And then are there structural challenges to the market? Is it competition? What else is making it hard for Tablo to compete for console sales here?

Yes. Thanks, Marie, for the questions. Yes, a couple of things. So first of all, maybe I'll work backwards here. Short answer, no. No structural changes or challenges that we're facing here. In a good way, in a bad way, we own this. The changes we need to make are entirely in our control and require shifts and adjustments in our sales team, in our sales processes, in our pipeline management and our deal control. We do know how to do this. We have successfully closed large enterprise-level deals before. We now need to do so more consistently across the country. So that's maybe point one. In terms of the first part of your question, what are the real differences between the customer segment? I think what we've recognized in hindsight is that the first phase of our growth was fueled by early adopters. And those decision-making processes are different. Early adopters tend to move more quickly, tend to move with less consensus, fewer steps in the process and are really willing to kind of move quickly and sometimes without all the evidence in hand. We have moved through that segment. We're now in the low double-digit market penetration zone, which kind of aligns actually to that plastic adoption curve and the early adopters, the visionaries and innovators that tend to go first within it. Now we have earned the right to penetrate into mainstream enterprise adopters and their decision-making processes are different. It is more consensus-driven. There are more stakeholders both vertically up and down within these health systems and across from finance to operations to clinical influencers, and we need to do a better job of building that support top to bottom left to right. So those are some of the differences in the types of deals and the stage that we're seeing shifting from, again, early adopters of in smaller deals to now a pipeline that has evolved as we see it, to a larger percentage of significant deals. These are deals that are 50-plus consoles, 100-plus consoles. These are customers that are considering enterprise-wide conversions and while that's actually good news in the sense that the commitment levels and the interest levels are higher and much cheaper. The flip side of that is that it does involve a longer sales cycle, and we need to make the adjustments in our team and our processes to better prosecute that.

Understood. That's very helpful, Leslie. I guess my follow-up here would have to do with the workforce changes you've been making. On the last call, you discussed reductions in headcount and a commitment to not impact commercial efforts. Now there's a discussion of finding the right people for the seat and sort of resizing the team. Is it a smaller sales force that you're looking at? It does sound like a very different type of person that you're targeting. Is that targeting done? Is the hiring done and are the right people in place and now we're selling? Or is there still more evolution to come on the workforce? Thanks for taking the question.

Yes, I understand. I will address the latter part of your question first. We have individuals at the leadership level with a distinct profile and a proven track record of successfully managing multimillion-dollar deals. They are already part of our organization, not just in leadership roles but also within our capital sales team, where they have already shown success. Our goal now is to see this success extend more broadly and consistently across the organization. Regarding the size of the sales force, I envision it as more about spans and layers, which will bring us closer to the customer. Generally, the size of the team focused on capital sales remains the same, but we have a different talent profile and skill set. Another important aspect of our commercial team that is often overlooked is our field service and support team. Their size and composition are not changing, and they play a crucial role in shaping the user experience. They are essential to the ongoing growth of our recurring revenue base, and that part of our organization will remain stable.

Good afternoon, Leslie. I want to ensure that I fully grasp the situation regarding larger contracts and orders, and how enterprise-wide selling and execution may require some evolution. I have a two-part question related to this. Reflecting on your remarks from last quarter, it seemed like orders with Tableau were ready to be sold after delays, and that a cyber attack had disrupted operations, but we expected to see an acceleration in sales. Can you help clarify your thoughts from early to mid-May and where we stand now? What did not materialize that you anticipated would? Were you relying on several large orders that ultimately did not come through? I’m trying to understand how we reached this point. I hear your points about the direction the organization needs to take moving forward.

Certainly, those are very fair questions. In hindsight, I realize that Tableau Cart hid some additional factors that were elongating our sales cycle. We were slow to recognize this as we concentrated on getting Tableau Card back on track and on the market. The first thing we overlooked, which is now clear, is the change in the composition of our pipeline and customer base, moving away from early adopters to a significant number of enterprise-level deals with mainstream adopters. This transition requires a different sales process and team than we have used before. The process with these customers is now more consensus-driven, involving more stakeholders and careful deliberation, which makes sense given their level of commitment and the additional steps involved. The good news is that this shift indicates strong demand and high commitment levels. However, we need to adjust our commercial approach to fully leverage this. Reflecting on the second quarter, while Tableau Cart did lengthen some larger deals, it didn't cause all of them to elongate. We expected more of the deals that had been delayed by Tableau Cart to progress and close in the second quarter, and when that didn’t happen, it became clear that there was something more at play that we needed to look into more deeply. This led us to the understanding that we've moved past the early adopters. Our results, footprint, and experience have positioned us to pursue larger enterprise deals with mainstream customers and enterprise-wide conversions, but we need to adapt to fully benefit from this opportunity. I hope this provides clarity.

Yes. Thank you. And a couple of other questions about as we go through this transition, as you go through this transition, I guess, there's so many questions here. How does the lower-than-anticipated revenue impact cash flow breakeven, timing, the 50% gross margins? I mean, you reiterated all these things basically. But does the timing change? And well, I'll stop there. Go ahead. Thank you.

Hey Rick, it's Nabeel. So with respect to cash flow breakeven timing, our run rate OpEx for 2025 and after the actions we've taken is now about $100 million. And so that means that at a 50% gross margin, which we continue to have conviction in getting to, we can now get there at a revenue run rate of $200 million, which is actually lower than our previous guidance when it came to breaking even. And then, Rick, as we move a little bit above 50% gross margin, that revenue run rate is below $200 million. Now talking about the gross margin for a minute here, our growth is really underpinned by the recurring revenues that Leslie and I talked about. And these recurring revenues, particularly consumables, come with higher gross margins than consoles. That's been the case and will continue to be the case. And so the mix shift associated with more recurring revenues actually conceivably accelerates our path to 50%, all else being equal. And so hopefully, that gives you a sense of how we actually break even at a lower run rate and continue to have conviction in that 50% gross margin milestone. Let me pause to see if I answered your question.

Sure, I have to comment on that, and Nabeel can jump in at any time. To put it simply, in the very short term, we are focused on executing this transformation, which I expect will take several quarters to fully implement. It's already underway and taking root, but it won't happen overnight. Along the way, we will gain better visibility about the timing, effects, and results, which will allow us to provide guidance for 2025 as we approach the end of the year. Looking at the longer term, 2025 and beyond, I see this in a couple of ways. First, nothing about the fundamentals or the structure of this opportunity has changed. We own this, and we have shown our ability to close large enterprise deals in the past. We just need to do this more consistently across the country in a standardized way. All the necessary steps to reach that goal are in progress. The strength of our recurring revenue foundation is a strong growth engine, and we have seen this time and again. Interestingly, our cohort analysis shows that console utilization in the acute and subacute space actually improves over time as new accounts mature. This is very encouraging. Additionally, the growth in our pipeline indicates strong forward demand. Our overall pipeline has never been larger, and the number of deals involving 50 consoles, 100 consoles, and several hundred consoles is at an all-time high. This is not a demand problem; where we need to improve is in converting the pipeline. The changes needed to achieve this relate to sales execution, which is within our control, and we know how to do this. We just need to do it consistently. Finally, regarding long-term growth, there's a bit of a double-edged sword: as the deals in our pipeline grow larger, it doesn't take many of these to close in order to drive growth. However, in the near term, we have seen the opposite effect. When several deals involving 50 or more consoles do not close as expected, it significantly impacts revenue, as we saw in the first and second quarters, and this influenced our guidance for the latter half of the year. Moving forward, though, we can get back to growth with better, more predictable execution on a relatively small number of larger deals.

Rick, if I may, I'd just love to help provide sort of how we think about our model. We're not providing any guidance for any period beyond 2024 right now, but hopefully, this will give you kind of the color as you think about your models. So, first of all, we always start with the recurring revenues. Implied in our guidance is that recurring revenues will be roughly $80 million or a little bit more for 2024. That's going to grow in 2025 as the installed base grows and matures as it sort of always has done. Now, as we previously shared, this recurring revenue growth means that we can grow total revenue even if console placements or console revenues remained flat. And then, Rick, any console growth year-on-year easily gets you into the low double-digit growth range for total revenue or beyond. So, again, we're not giving guidance, but hopefully, that helps you sort of with how we think about the model.

Okay. Thanks, Rick. Next question operator.

Yes. Our next question comes from Shagun Sing with RBC Capital Markets. Your line is open.

Great. Thank you so much. Yes, Leslie, it does seem like there's an execution issue at outside on multiple fronts. And I'm just wondering, you're calling out commercial, but is it commercial? Is it strategy? Is it something broader than that? I'm sure you guys have looked into it in more detail. So, can you share what your findings are? And then I'm just curious, how do you know that this is a sales elongation issue? Because to Rick's question earlier, we were thinking it's a Tableau card issue and it's not being in the market. And perhaps like you can give us some look into the pipeline, where does it stand versus last year? Have you thought of any metrics you're going to share with us going forward that gives us confidence that you have visibility into this? I know there are a lot of questions, but just how can you make us more comfortable with the story that's here going forward? Thank you.

Sure. Yes, I'm happy to address those questions. On the pipeline front, compared to last year, the pipeline in totality is significantly larger across the board. And that's actually across all of our end markets, acute, subacute and home than it was a year ago today, but kind of point one. Another way that we look at our pipeline is by stage, stage of this new sales process that we have introduced and trained everybody too. We have a greater percentage of deals in the late stages of the sales process than we ever have before. So i.e., greater progress through the sales process compared to a year ago this time. And the third thing we look at is deal size. We have a large percentage, approximately 60% a bit above of deals that equate to roughly $1 million or substantially more in deal size sitting in the pipeline. So those are the ways that we look at the pipeline. All of those trend lines are up as you compare them to last year. Regarding your question about, hey, is it execution or is it strategy or other. We feel strongly that it is execution, and I'll tell you the reasons for that. First and foremost, we now have the largest evidence base we've ever had around the financial cost savings that Tablo has driven for customers, the clinical outcomes that it has provided and the operational efficiencies. We have 75 abstracts and 15 papers and innumerable case studies and white papers that all show tangibly the benefits of in-sourcing with Tablo. I have spent a lot of time in the field. I'll add qualitatively and with our sales team really pressing on, hey, is there something that's changed in the value proposition or the implementation. And the answer to that has been resoundingly no. The feedback that we continue to get from current customers and prospective customers is their interest level has never been higher around improving their own margins and producing tangible day 1, $1 expense reduction by in-sourcing with Tablo. So I think our strategy is on point with acute, subacute has been one of the fastest-growing market segments for us for the last year or two here with rehab, LTAC and skilled nursing facilities when we look at our expansion with the number of customers and the number of sites using Tablo in the subacute segment, that also is all up and to the right. We talked about 16% growth year-over-year in facility expansion and an 18% growth year-over-year in the installed base, which are data points that do point to a customer validation in the model and in the technology. We have more demand than I ever could have hope for a couple of years ago. What we now need to do is evolve and transition the way we get after it. I would say that, again, our sales team, our sales processes were really oriented around the first part of the market, which for any medical device company are those early adopters. It's time for us to evolve that so we can reach up to the next shelf and take advantage of the mainstream enterprise adoption that's available to us now.

Okay. I want to make sure we get everyone's question. So we should probably move to the next question, operator.

Yes. Our next question comes from Suraj Kalia with Oppenheimer. Your line is open.

Leslie, can you hear me all right?

Yes.

Perfect. Leslie, I have a multi-part question. I find it challenging to understand the reasons for the shortfall, especially considering the insights from Poland over the last three years and the frequent guidance revisions. I'm trying to grasp whether the issue from Q1 to Q2 is temporary or if it stems from internal forecasting versus execution capabilities. Has there been an increase in price sensitivity following the 8% consolidated price hike? Were there any specific geographic areas experiencing weakness? Lastly, you've mentioned numerous console deals in the pipeline—are these agreements finalized, or do you have a purchase order in hand? I know it's a lot, but I'd appreciate any clarification you can provide to help me make sense of this. Thank you.

Sure, let me address your questions step by step. You inquired about the potential impact on our guidance for the second half of the year. We considered a few factors in formulating that guidance. First, we anticipate some disruption from the sales force and process restructuring, which was an important part of our considerations. Second, I pointed out that our pipeline has improved by including more substantial enterprise agreements, often involving over 50 consoles. At that scale, only a handful of deals can significantly influence our revenue; for instance, around $40 million corresponds to about a dozen deals. I hope this clarifies your first question. Regarding price sensitivity, we have not seen it as an issue, particularly in acute and subacute settings. The substantial savings that Tablo provides—ranging from 50% to 70% on hospitals' dialysis costs after implementing in-sourcing—demonstrates this. So, price sensitivity has not been a concern. You also asked about the pipeline and whether the deals are already signed. The pipeline consists of future opportunities that are at various stages of our sales process, akin to any capital equipment company. When I discuss the strength, size, and stage of our pipeline, I'm referring to our visibility and opportunities ahead. Finally, regarding forecasting, we see a need to enhance our sales process, methodologies, and teams. We believe this will improve how we forecast, offering us better visibility, control, and predictability moving forward.

Great. Thanks Suraj. Next question operator.

Our next question comes from Kristen Stewart with CL King. Your line is open.

Hi. Thanks for taking my question. I just wanted to focus on the expenses of the company. I think you had mentioned that operating expenses were going to be about $120 million this year. And if I heard you right, you said $100 million for run rate for 2025. What kind of gives you the confidence that you can make these cuts? Where are they coming from and just the confidence that this is going to be more disruptive from a selling organization perspective?

Yes, Kristen. You are correct that we guided approximately $120 million in operating expenses for 2024 and a run rate of around $100 million for 2025. The cuts we are making are in the areas Leslie mentioned. It is important for us to align our operating expense structure with our revenue levels, and we are also committed to staying on the path to profitability.

Great. Thanks, Kristen. Operator, we can move to the next question.

Our next question comes from Stephanie Piazzola with Bank of America Securities. Your line is open.

Hi. Thanks for taking the question. I just wanted to follow up about the guidance for this year, moving over by $40 million and maybe a little bit more about how you thought about this being the new guidance level, you said it would be similar second half to first half. But maybe if you could dive a little bit more into the underlying assumptions here and confidence in this being the right spot, just with some expected disruption from the commercial execution changes. Thank you.

Yes, Stephanie. When we consider guidance for any period, we begin with the recurring revenue base, which consists of consumables and the service and other line in our profit and loss statement. For the first half, this is nearly $40 million, and we anticipate it to grow slightly or at least remain stable in the second half, assuming all else is equal. Therefore, we start the second half with a recurring revenue base of $40 million, leading to an implied total revenue of $55 million for the second half, which results in console revenue being around $50 million. In the first half, console revenue was approximately $60 million. Thus, we expect console placements in the second half to be at a similar level as in the first half of the year. This is our thought process regarding the guidance.

Okay. Thanks, Stephanie. I just want to make sure we get everybody in here. So operator, can we move to the next question please?

Your next question is from Josh Jennings with TD Cowen. Your line is open.

Hi, thanks for taking the question. Can you hear me okay?

Yes.

Okay, great. Sorry for the technical issue. I wanted to just ask about the pipeline. I mean, it sounds like it's flush. Are you seeing some of these pipeline orders, when they don't convert, fall out of the pipeline? Any help thinking through that dynamic? And if not, should we just be thinking about the delays in pipeline conversion being pushed out to 2025? And so, we could see a bolus of system revenues and increase in install base in 2025?

Yeah, I'll take that. Thanks, Josh. Short answer, no, we are not seeing deals fall out of this pipeline. We are seeing deals push out from the quarter in which we expect them to close into another quarter. And so, I think what we want to try to do better at and get stronger on is converting the pipeline to close and revenue on the timeline that we anticipate. So, that's kind of point one. But no, the pipeline has continued to grow. And we have not seen really any movement of these deals falling out of the pipeline really at any point in time. I think, again, we were overly focused in hindsight on TabloCart and late to the party to realize that there was another reason, another factor behind the elongation of this sales cycle and behind why some of these deals were not closing or coming to fruition when we intended them to. And those are exactly the sales execution challenges that we're attacking and expect to make significant progress on here in the next couple of quarters.

I show no further questions in the queue at this time. I would now like to turn the call back to Leslie Trigg for closing remarks.

Great. Thanks to everybody for joining today. I'd like to close by thanking our entire team for the very meaningful difference that they're making every day in the lives of dialysis patients and their families, as well as providers. We look forward to seeing many of you in investor conferences in September, and I hope you have a great evening. Thank you.

This does conclude today's conference call. Thank you for your participation. You may now disconnect.