Earnings Call Transcript - STXS Q4 2022

Operator, Operator

Good morning. Thank you for joining us for Stereotaxis Fourth Quarter and Full Year 2022 Earnings Conference Call. Certain statements during the conference call and question-and-answer period to follow may relate to future events, expectations and as such, constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements involve known and unknown risks, uncertainties and other factors, which may cause the actual results, performance or achievements of the company in the future to be materially different from the statements that the company's executives may make today. These risks are described in detail in our public filings with the Securities and Exchange Commission, including our latest periodic report on Form 10-K or 10-Q. We assume no duty to update these statements. At this time, all participants have been placed on a listen-only mode. The floor will be open for questions and comments following the presentation. As a reminder, today's call is being recorded. It is now my pleasure to turn the floor over to your host David Fischel, Chairman and CEO of Stereotaxis.

David Fischel, Chairman and CEO

Thank you, operator, and good morning, everyone. I'm joined today by Kim Peery, our Chief Financial Officer. My prepared remarks today will be a bit longer than normal, as I use the occasion of our annual call to provide broader context on Stereotaxis, our technology, and our path to building a highly impactful company. I will then review our recent results, as well as the key goals and expectations for the coming year. Stereotaxis is the pioneer and leader of robotics for endovascular surgery. We have developed an innovative suite of technologies that address the inherent limitations, risks, and challenges posed by manual handheld catheters. Our mission is to make minimally invasive endovascular surgery more broadly available to improve its safety and outcomes and to modernize it with the benefits of digitization and robotics. Endovascular surgery is a broad and growing field of medicine where small interventional devices are navigated through a patient's vascular system. Endovascular procedures positively impact millions of patients annually with the mechanism of action of manual handheld catheters posing fundamental flaws. During the procedure, therapy takes place at the catheter tip, but a manual catheter is held and manipulated several feet away at the handle. It's like holding a pencil from its eraser. It is not precise, not stable, and there is limited reach. Manual catheters need to be rigid to allow for any control of the tip, increasing the risk of patient injury. Procedures are complex and operator-dependent, and visualization of a catheter exposes patients and physicians to X-ray radiation. Stereotaxis’s robotic technology addresses the inherent limitations, risks, and challenges of traditional endovascular surgery by allowing for direct control of a catheter tip using precise computer-controlled magnetic fields. This allows for unprecedented precision and stability, enabling access to areas previously unreachable and enhances patient and physician safety. Physicians control our robot from a computer cockpit, seated and protected from radiation with full control over the procedure and the ability to focus on the cognitive aspects of their profession. These benefits are not theoretical, as hundreds of physicians at over 100 leading hospitals globally have treated nearly 150,000 patients with our technology, and there are over 400 scientific publications documenting our clinical value. A highly differentiated platform technology that confers meaningful clinical value in a large field of medicine serves as the perfect foundation on which to build a preeminent surgical robotics company. We are best suited and see a clear path towards positively transforming the broad field of endovascular surgery in a fashion similar to how laparoscopic and orthopedic surgeries are being transformed. But while our technology has significant clinical and commercial validation, our ability to grow a flourishing business has been constrained by several structural limitations. We are clear-eyed about these challenges and are well on the way to addressing them. Our product ecosystem has three primary structural limitations. First, our robotic system can only be adopted as part of a construction process. It requires architects and contractors, room modifications, and significant planning. It can obviously be done, but the effort is significant and leads to multiyear sales cycles with substantial attrition in the sales pipeline. Second, our existing procedural focus, cardiac ablation procedures to treat heart arrhythmias, was built with significant dependencies on another company. Stereotaxis’s robotic technology is highly differentiated and sophisticated, confirming significant benefits in the EP field. However, in every procedure, the actual ablation catheter used is owned, manufactured, and sold by another company. Our users were also made largely dependent on that company's diagnostic mapping technology. That dependency creates various challenges for our customers, leads to extended periods of limited innovation, and creates operational, financial, and strategic hurdles for Stereotaxis. Third, and the last structural limitation is that Stereotaxis’s robot has remained a single application technology. Despite the technology having the ability, and even regulatory clearances, to serve as a broader platform for robotic endovascular surgery, the company has not made the interventional tools to turn potential clinical applications like neuro, coronary, and peripheral surgery into a reality. This limited scope reduces our market opportunity and diminishes the attractiveness of our technology to hospital purchasers. A clear-eyed diagnosis allows for strategic focus. With focus, creativity, and effort, we have developed and advanced an elegant strategy that addresses each of these limitations. Simultaneously addressing multiple significant structural limitations involving sophisticated technologies in a complex, highly regulated environment is not done easily or rapidly. For several years now, we've been working energetically to make that strategic transformation of our product ecosystem a reality. This year, 2023, is poised to be an exciting year for us, as we expect multiple technologies that address each of these limitations to achieve major regulatory and commercial milestones. Let me review the cornerstones of that new product ecosystem along with the status and expected progress of each. Stereotaxis’s proprietary robotically-navigated ablation catheter MAGiC is the closest to commercialization. It improves upon the aging catheter technology our current users are limited to and addresses the operational, financial, and strategic challenges posed by our dependency in the EP field. We were pleased last summer to submit MAGiC for European CE Mark in line with the timeline shared on this same call a year ago. In the fourth quarter, we updated you that our submission successfully passed the completeness check of the EU regulator. The next step in the review process involves us receiving questions on the submission in three distinct categories: technical, clinical, and microbiology. We received our technical questions in December and responded to them early this year. We have not yet received any feedback on our response, but view the technical questions as un-concerning. We just received the clinical questions two days ago and are reviewing them and preparing a response. We are eager to receive the microbiology questions, but so far have not received them. The slow pace of the regulatory review process is frustrating as we are eager to launch the technology, but ultimately that timeline is outside of our control. We will do our part to speed this process by responding to questions rapidly and thoughtfully. We will use this time to set the stage for robust commercialization. We expect European CE Mark and launch of MAGiC as most likely to occur later in the second quarter or in the summertime. There is substantial interest from our physician customers to start using MAGiC, and we're excited about the impact of the launch. In the U.S., our IDE submission remains dependent on successfully completing a few preclinical survival studies. We established an official institutional animal care and use program of GLP level quality in November and ran several pilot studies to ensure the new facility and processes worked well. The development of that internal infrastructure and capability was a significant undertaking, but we have done it successfully and will do our first pivotal on-the-record studies this weekend. We expect to complete all the pivotal studies in the second quarter, submit our IDE application to FDA in the third quarter, and initiate the human IDE trial before year-end. We continue to see U.S. FDA approval of the MAGiC catheter approximately two years after CE Mark as a reasonable timeline. Our second major innovation effort is a smaller self-shielding robot that frees us from the extensive architectural planning and construction currently necessary to adopt our technology. It makes our robotic technology more accessible to many physicians and customers that have wanted to adopt or try it but were unable to navigate the logistics and economic hurdles. We are methodically advancing through mechanical, electrical, and software development in line with the previously shared timelines. We expect regulatory clearance in Europe in the third quarter of this year, an initial limited launch of the system concurrent with that regulatory approval, and a broader launch of the new robot in both Europe and the U.S. in 2024. The robot itself is a transformative innovation for Stereotaxis and the accessibility of our technology, and along with this technological innovation, we will also be innovating our site assessment, installation, integration, and sales efforts to take full advantage of what is now possible. Our third significant innovation is a family of interventional guidewires and guide catheters that expand the benefits of our robot into new endovascular indications. We've previously shared five specific clinical indications where navigating tortuous anatomy is challenging, and we believe we can improve patient care. These include neuro interventions, coronary angioplasty, peripheral intervention, tumor embolization, and abdominal aortic aneurysm grafts. The first guidewire in this family is fully designed, and we have been grinding through improving the manufacturing process. We believe we are nearing the end of that effort and that we will be able to begin formal testing within the next few months, allowing for regulatory submissions in the U.S. and Europe before year-end. This is a 510(k) product with a relatively streamlined regulatory review timeline. Behind this first guidewire, we expect a broader family of guide catheters and wires to steadily advance to market. We have shared these devices in our strategy with several prominent physicians in multiple clinical specialties. They are excited by what we are building and view the technology as very practical and capable of addressing serious unmet medical needs. Once we have made a regulatory submission for the first guidewire, we will host an innovation day to allow several of these physicians to share their perspectives and experiences. These three innovations, the MAGiC catheter, the newer mobile robot, and the endovascular devices, are our strategic response to the three structural limitations described earlier. We have line of sight to each of them reaching significant regulatory and commercial milestones this year with growing commercial impact next year. Beyond these big three innovations, we were fortunate to nurture two additional opportunistic growth drivers that are synergistic and additive to our core strategic innovation effort. In China, we entered into a strategic collaboration with MicroPort to establish a China-specific EP product ecosystem, and internally we are developing a digital platform for broad operating room connectivity. MicroPort submitted Genesis for Chinese NMPA approval late last year and has been working on some additional documentation and testing to supplement that submission. In parallel, they have completed the software efforts to integrate their mapping system with our robots and are preparing MAGiC and an additional ablation catheter for near-term regulatory submissions. Given the extended review timelines we have seen at China's NMPA, they now expect this whole product ecosystem to be available on the market in approximately a year from now in the first half of 2024. They are investing in a capital sales team, training, and commercial infrastructure in anticipation of that launch, and we already see a pipeline of engaged future customers. We are impressed with these preparatory commercial efforts and anticipate translating them into a very robust launch soon after that ecosystem gains Chinese regulatory clearance. Our connectivity platform involves both a cloud-based connectivity app called Sync and a next-generation version of a large integrated display called Synchrony. Sync has been released internally for initial testing by our team to simulate an external release. We expect to continue to refine the app in the coming weeks such that it is ready for an external release to select physicians in the summer. The large screen display is on track for regulatory submission in the fourth quarter and full launch early next year. The combination of Synchrony and Sync should be an attractive solution enabling streamlined workflow, connectivity, and collaboration broadly in any operating environment. The Synchrony hardware will provide us an incremental upfront capital sales opportunity, while Sync will be available with a premium SaaS business model with premium subscriptions for hospitals, medical device sales forces, and physician users. Each of these innovations individually serves as substantial growth drivers that dwarf our existing business, they provide value being advanced independently but are also synergistic and complement each other. Collectively, they serve as our core product ecosystem as we look to transform endovascular surgery with robotics. We are confident these technologies serve as the foundation for a preeminent high growth, high value medical robotics company. While driving this multiyear strategic transformation, we've attempted to navigate the transitory years with three primary goals: show that we can restart revenue growth, put in place the infrastructure that will be needed to grow an order of magnitude larger, and become financially self-sufficient. Overall, we have made significant progress here, although our results last year demonstrate the challenges we face in navigating that path. From an infrastructure perspective, the highlight of the last year was moving into a new custom-built headquarters and manufacturing facility. It was a significant effort and expense but will serve us well for many years. It enhances our operations, is financially prudent, and facilitates the robust growth we anticipate. We've continued to refine and improve other aspects of our infrastructure across the company, including IT systems, quality processes, and commercial capabilities. Revenue in 2022 was more challenged. On the heels of 2021, when we were able to demonstrate significant revenue growth and restart in meaningful capital sales, we were disappointed by the reported revenue in 2022. Recurring revenue remained relatively stable and attractive, with a slight decline attributed predominantly to reduced procedures in China during COVID lockdown and lower service revenue as various hospitals approached or underwent replacement cycles. System revenue, however, was down in 2022 compared to 2021. In some ways, the reported system revenue is not reflective of the actual progress we have been making in capital sales, nor the context for our efforts. In 2021, Stereotaxis demonstrated that it can meaningfully restart capital store sales after many years of minimal activity. We recognized revenue of $11 million on seven systems sold that year. In 2022, we received purchase orders for eight robotic systems, a slight increase over the previous year. Three of those orders were for greenfield systems and five orders came from the United States. We only recognized revenue, however, on four systems as hospital construction delays have pushed out timelines for when we can ship and install systems. That has driven our backlog entering this year of $14.8 million in capital orders that have not been recognized as revenue. As we look at 2023, this backlog supports an expectation of double digit overall revenue growth. We expect to continue to grow orders for new robots above the eight system high watermark from last year and expect to recognize revenue in a portion of those orders, as well as a substantial majority of our backlog. Financially, 2022 was a departure from several years of maintaining a very low near breakeven financial posture. From 2019 through 2021, we were able to maintain free cash flow utilization of just about $1 million per quarter, despite substantial investments in R&D. In 2022, our cash utilization was approximately double that, with cash use of approximately $10 million for the year. About half of the cash utilization was spending on the new headquarters, as well as increased spending on robot inventory beyond the cash inflows that would correspond with that inventory. We start 2023 with approximately $30 million of cash and no debt. That is a strong and comforting balance sheet given our history of financial prudence. We expect a lower burn rate in 2023 compared to 2022, with overall revenue growth, a lack of spending on the new facility, and tapering inventory purchasing counteracting increased R&D spending and a lack of royalty income. We are comfortable with our balance sheet, allowing us to bring our transformative product ecosystem to market and to fund commercialization of that ecosystem and to carry Stereotaxis to profitability. Kim will now provide some commentary on our financial results, and then I will make a few financial comments as well before opening the call to Q&A.

Kimberly Peery, CFO

Thank you, David, and good morning, everyone. Revenue for the fourth quarter of 2022 totaled $7.3 million compared to $8.2 million in the prior year fourth quarter. System revenue was $2.2 million and recurring revenue was $5.1 million compared to $2.3 million and $5.7 million in the prior year fourth quarter. Revenue for the full year 2022 totaled $28.1 million compared to $35 million in 2021. Full year system revenue was $6.8 million, compared to $11.2 million in the prior year as hospital construction delays impacted the timing of order conversion. We started 2023 with system backlog of $14.8 million. Full year recurring revenue was $21.3 million compared to $22.9 million, reflecting continued procedure volatility and the timing of service renewal. Gross margin for the fourth quarter and full year 2022 were approximately 59% and 66% of revenue. For the full year 2022, we reported gross margins of 82% on recurring revenue and 15% for system revenue. System gross margins reflect significant allocations of fixed overhead expenses. Operating expenses in the fourth quarter were $8.8 million, excluding $2.6 million in non-cash stock compensation expense, adjusted operating expenses in the current quarter were $6.2 million, down from the prior year adjusted operating expenses of $6.7 million. Adjusted operating expenses for the full year 2022 were $26.8 million, consistent with $26.9 million in the prior year. Operating loss and net loss for the fourth quarter of 2022 were $4.5 million and $4.2 million respectively, compared to approximately $3.4 million for both from the previous year. Adjusted operating loss and adjusted net loss for the quarter, excluding non-cash stock compensation expense, were $1.9 million and $1.6 million compared to $0.8 million for both in the previous year. For the full year 2022, adjusted operating loss was $8.3 million and adjusted net loss was $7.8 million compared to an adjusted operating loss of $3.6 million and an adjusted net loss of $1.4 million in the prior year. Net loss from the prior year included a favorable $2.2 million adjustment for the forgiveness of the Paycheck Protection Loan. Negative free cash flow for the full year 2022 was $10.8 million compared to $4.3 million for the full year 2021 and reflects the $2.4 million one-time facility investment and approximately $3 million increase in inventory. At December 31, we had cash and investments of $29.7 million and no debt. I will now hand the call back to David.

David Fischel, Chairman and CEO

Thank you, Kim. I discussed our outlook for 2023 earlier in the prepared remarks. As mentioned there, we have confidence in double digit revenue growth for the year, driven by revenue recognition of our backlog and new system orders. We also expect more system orders in 2023 compared to 2022, which will support continued growth expectations. These revenue expectations do not incorporate any material contributions from a bolus of innovations that are nearing the market, but we expect these to play a decisive role in driving significant acceleration in both system and recurring revenue adoption for many years to come. Stereotaxis may not be a young company, but in many ways we are just approaching the real start of our journey. I view Stereotaxis as a de-risked startup that stands upon the shoulders of the significant developments accomplished previously but is rebuilding itself onto a new technological and strategic foundation. That new foundation is more structurally sound, operationally, financially, and strategically designed to enable mass adoption. We are fortunate to have a strong balance sheet to execute this transformation successfully without the need for external funding. Multiple green shoots of that strategy are starting to emerge, and we anticipate and are excited about the multiple regulatory and commercial milestones we expect this year. I have no doubt that the broad field of endovascular intervention, encompassing many millions of annual procedures and tens of billions in medical device sales, will be transformed by robotics, just as laparoscopic and orthopedic surgery have been. Stereotaxis is the pioneer and leader best suited to make that transformational reality. We have a clear strategy in place and look forward to the impact we will have improving medicine and building a preeminent company. We'll now take your questions. Operator, can you please open the line.

Operator, Operator

Your first question today comes from Alex Nowak from Craig Hallum. Your line is open.

Chase Knickerbocker, Analyst

Good morning, everyone. This is Chase on for Alex. Thanks for all that color there David. Maybe digging in a little bit on the guidance. No contribution from new innovations. How should we be thinking about MAGiC in Europe? How do you think existing customers will adopt? I guess, what are you hearing there? Do you expect pretty widespread adoption upon launch? Something that customers have been waiting for and then replacing some older technology there, maybe a couple of switching costs in their mind. Just kind of talk about what kind of penetration you have among existing customers in the first 12 months of launch?

David Fischel, Chairman and CEO

Sure. So I think, overall, thanks for the question and good morning, first of all. And obviously, the MAGiC launch is the upcoming launch that we are most focused on and excited about. So there's definitely been a lot of attention given to that internally and a lot of work already being done in anticipation of the CE Mark. When I think about the launch, I'd say that you're correct that all of the physicians in Europe that use our technology are aware that MAGiC is coming. They're aware of how we've improved robotic navigation with the catheter and why it's clinically relevant and an improvement over the nearly now 20-year-old technology that they're currently using. Overall, I would say that the excitement is very strong for that catheter coming to market. With that said, I would expect generally a relatively rapid switchover of a substantial portion of the volume or the majority of that volume over to MAGiC within a relatively tight timeline. What I'd say are kind of the two factors that we should keep in mind as generally just making things somewhat more gradual is first, when you launch any complex technology, you don't want to go out to all of the hospitals at once. We have about 35 hospitals in Europe that use our robot. You don't want to go to all 35 of them very quickly. You want to do a limited market release to a few of the leading sites and ensure that there is still an aspect of art and workflow to every catheter when it comes to the power settings, and how long you stay at any individual part of the tissue before moving on. While we have all sorts of data from the preclinical testing to guide that type of decision-making, there is a 'field' that emerges among the physician community with use, and there will be differences in workflow and best practices for how you navigate a catheter. So, there is value to a limited market release initially for probably a couple of months or so, as you get initial exposure across a range of arrhythmias by some of the leading sites in Europe, and they can really get their experience out there and become reference sites for the rest of the users. That's one thing that we will be doing to ensure that the launch goes smoothly, and the experience is fantastic for every user. The second thing to keep in mind is that, in some countries in Europe, there are tender processes. In certain countries, like the U.S., where, as soon as you get regulatory approval, you can kind of negotiate a price with the hospital, within a week it can be on the shelf and be used. In other countries, you have to go through local or regional tender processes. You can usually get some usage through kind of that carve out clauses, but those are relatively limited to get actual consistent usage beyond a handful or a dozen catheters. You need to go through these tender processes, and those can take anywhere between six months to a year, depending on the country. There is an aspect of that, predominantly in Scandinavian countries and countries like France, where there is some limitation on how much adoption you can do as you're going through that process.

Chase Knickerbocker, Analyst

That all makes sense. Yes. No, that's pretty thorough. Thanks. And then moving to kind of systems revenue. I just want to check my assumptions based on all that commentary. It sounds like systems revenue should grow nicely over 2021 and 2023, given that you expect more shipments year-over-year into 2023 from 2022 and to realize revenue on the majority there. Also realize most of that backlog you're entering the year with. And then just checking that assumption. And just qualitatively, are you seeing some of these construction delays at new customers maybe just enter the pipeline starting to ease? Or is it mainly a function of the backlog of those orders being in their firm-up time while you work through the delays?

David Fischel, Chairman and CEO

I think your summary of our prepared remarks is accurate. We expect that a majority of our backlog will contribute to revenue recognition this year, although not all of it. Some orders are also anticipated to generate revenue within this year. The construction timelines, particularly at hospital accounts, remain highly variable and unpredictable. We are in the process of completing the installation of one system for which revenue was recognized last year upon shipment, and we finished that installation this week. We plan to start another installation next week, and there are several projects underway in the first half of this year. However, some hospitals are continuously postponing their installations, which affects our expected orders and their timelines. We are still waiting for those orders to be received due to the delays in construction schedules. Overall, the situation remains volatile, and I don’t perceive any significant changes in the macroeconomic environment.

Chase Knickerbocker, Analyst

Got it. Help us with the launch of the mobile robot. By the end of the year, you had said a limited market launch? Is that a couple of units to a couple of customers? And then 2024 is the right way to think about it as that will be pretty normal availability from the standpoint of you can supply demand as it comes in pretty normally as you do now with Genesis?

David Fischel, Chairman and CEO

That's generally a reasonable way to think about it. We want to get some actual experience in the real world with the robot out there. You also want to use that period to refine your manufacturing capabilities, supply chain, and make sure that it's working well in the real world before you launch it in a more aggressive fashion.

Frank Takkinen, Analyst

Hey, thanks for taking the questions. I wanted to start with the MAGiC catheter as well. Can you remind us just what portion of your approximate 10,000 annual procedures are within CE Mark qualified regions? And then two, how do you think about commercial investments on the heels of that clearance?

David Fischel, Chairman and CEO

Hi, Frank. Good morning. Sure. So, about 40% or so of our procedure volume comes from Europe. That's the one that we have laser-focused on as we get the CE Mark to ensure the launch goes well. There are some other Asian regions, for example, in China. Actually, the submission of the MAGiC catheter to NMPA is predicated on getting the CE Mark, as once you get the CE Mark, you have a much easier path to go through NMPA. There are also some other regions that make up, let's say, roughly 15% or so that will be impacted, and their regulatory paths will be streamlined once you have the CE Mark. But the core market, the European market, which is dependent on the CE Mark, is about 40% of the procedure volume.

Frank Takkinen, Analyst

Okay. And then the second part of that, the commercial investment expectations on the heels of the launch?

David Fischel, Chairman and CEO

We previously announced that Frank joined as the leader of our commercial organization in Europe. He has been effectively organizing the team, enabling us to better strategize on growth, development, and hiring. We are currently looking to fill a few open positions in preparation for our upcoming launch. One of the challenges we face in competing with larger companies is their ability to assign one clinical sales representative per hospital account, which works well for them at a higher procedure price. However, it's less practical for us at our lower price point. As we achieve adoption in hospitals, we plan to leverage the additional revenue and profit from the MAGiC catheter to support representatives more focused on specific accounts. Our restructured organization facilitates this model more naturally.

Adam Maeder, Analyst

Hi, David. Hi, Kim. Thank you for taking the questions and good morning. I wanted to start with the 2023 outlook and just maybe try and piece it all together. I hope you could just flush out in a little bit more detail what you mean by double-digit revenue growth or give us some tighter guideposts there. Walk us through system and disposable expectations just more broadly. I guess one way that I'm potentially thinking about it is, if you're recognizing the majority of the system backlog, you have some incremental contribution from new system orders, and you assume relatively stable procedure volumes, you might shake out in that $35 million to $40 million range without even really any contribution from new products. So is that a reasonable way to think about things? Maybe just talk about kind of some key puts and takes? Thanks.

David Fischel, Chairman and CEO

Hey, Adam, good morning. Your back of the envelope math and the way you just described it sounds very reasonable. It's a very reasonable way to think about it. We are somewhat burned by the experience of trying to give precise guidance last year, and obviously, that didn't play out particularly well. So we feel confident in the guidance that we provided, but did not provide much more specific guidance because it is challenging to know. At this stage still, when we're talking about single-digit overall numbers of systems, the movement of one system in or out of this year makes a fairly big difference. Each system is nearly $2 million of recognized revenue. So, that makes it difficult to have huge confidence in a tight band. With high confidence in the guidance we provided and the way you described it, generally from the system perspective sounds right. The systems will be the main driver of overall revenue, and kind of in that, let's say, $35 million to $40 million range feels very reasonable. From the recurring revenue side, we expect procedures to increase this year versus last year, predominantly as China bounces back from the COVID closures of last year. That's been our general expectation. On the service side, the headwinds we have been facing for a few years as hospitals approach or undergo replacement cycles and do up services because of that. It's starting to become more balanced as we start to get some of the first installs annualizing past their warranty periods. I think that probably as we get later into the year, you're going to start to actually see that flip, where we start to see modest growth in the service line. So that's going through its process. There is a delayed action there, but obviously, as we start to get more and more of these installs annualizing after one-year warranty, we begin to get the benefits of service contracts returning. That expected growth in procedure and service will be counteracted by the loss of royalties we have been receiving from J&J, which we don't expect to receive during the tail years of their supply agreement. That's kind of how I think about recurring revenue overall.

Kimberly Peery, CFO

Yes, that works. Regarding gross margins, we anticipate that the performance seen in Q3 and Q4 will remain consistent this year. While we expect some overall improvement in system gross margins, we still operate as a relatively small manufacturer with a significant fixed overhead. Therefore, next year is unlikely to bring exceptional system margins, though we do expect some progress.

David Fischel, Chairman and CEO

On the orders coming this year, when I look at our order book, I'd say that we have approximately, last year we talked about how we implemented a new kind of infrastructure and process that allows us to better track the capital pipeline. That has been very helpful, allowing us to be a little bit smarter, and it makes it less likely that deals fall through the cracks and opens our eyes to earlier opportunities and risks. Overall, that has been kind of nice. When I look at kind of overall that deal book for potential deals, there are about two dozen in the U.S., one dozen in Europe, and then a handful in China. Some of those will slip, some we will lose, but it's a relatively healthy pipeline. About in the U.S. and Europe, it's relatively similar, or about over 50%, maybe even near 70% are replacement cycle orders across the two geographies. In China, everything is greenfield. That's how I kind of outline our pipeline right now.

Joshua Jennings, Analyst

Good morning. Thank you for the questions. I wanted to follow up on your earlier comments about the pipeline. Can you provide a qualitative assessment of how the sales funnel currently stands compared to the start of 2022? I'm assuming there has been significant growth in pipeline opportunities as a result of the improvements made in the sales organization. I'd like an update on this as we continue to move beyond the challenges posed by the pandemic.

David Fischel, Chairman and CEO

Sure. Hi, Josh. Good morning. I look forward to seeing you on Monday. I see that we have much more transparency and clarity on how the pipeline actually looks now versus a year ago because a year ago we were still working off anecdotal top-sheet lists of top 12 potential accounts in each region, rather than a formal pipeline process. That change to this new infrastructure doesn't make it easy to judge in an apples-to-apples way with how the pipeline looks like a year ago. Anecdotally, I feel better about our pipeline this year than I do a year ago. I'd say that the primary challenge is still the ability to create customer urgency and actually drive timelines. We are still very much dependent on the customer's timeline and haven't quite found the magic bullet for how to influence that timeline significantly. That's a challenge in front of us, and something we as an organization have to become better at. Obviously, that's something that is impacted by our innovations as we structurally improve the product ecosystem, but that’s how I think about it.

Joshua Jennings, Analyst

That's helpful. Thank you. Just wanted to ask about the replacement penetration. Our math suggests that the replacement opportunity with Genesis is only maybe sub-10% penetrated. Just wanted to clarify that and also ask about any strategies regarding that 70:30 replacement versus greenfield ratio in the pipeline and any strategies to attack new customers in the greenfield channel.

David Fischel, Chairman and CEO

Yes, both very good questions. On the replacement side, yes, correct that since launching Genesis, we have announced about 20 orders to date, of which about 50:50 are greenfield and replacement. It's still a very substantial installed base of Niobe systems out there, over half of which I believe is around eight to ten years old. It's interesting to see how hospitals push out their replacement schedules from saying they are going to do a replacement in a specific timeframe. Twelve years becomes thirteen, thirteen becomes fourteen, they’re still hesitating. We have not been able to influence their timelines significantly. That's how I see the replacement cycle side; it will constitute the majority of our orders and installs this year and possibly next year. The greenfield side is where the real fun comes into play; that constitutes where all the significant opportunity for growth comes from. We've done various things to better engage and create broader awareness of our technology within the market because Stereotaxis is not the same company as it was 15 years ago. We have been conservative in building a robust capital sales team given the lengthy timelines before we see capital sales play out. As these structural innovations roll out, it should make it much more attractive to accelerate the growth of our capital sales team in a much more aggressive way.

Joshua Jennings, Analyst

Thanks for that. Maybe just one last question. You've talked about the demand that's building for the MAGiC catheter. I wanted to understand how you're thinking about that launch on the system side. Do you think that launch could increase system demand among other clinicians who might not like the thermal coal RMT catheter because there has been no innovation for a decade plus? And then simply on the mobile system side, could you just talk about the buzz or the demand that you're hearing from potential customers? Whether that’s limiting orders in 2023 because some centers may be waiting for the mobile system if they’re interested in the greenfield channel or the replacement side?

David Fischel, Chairman and CEO

Yes, sure. On the MAGiC catheter side, definitely that is the case. The two biggest pushbacks we get on the adoption of our robot by new potential customers is first the complexity of getting the system installed and all of that work, and second, the outdated nature of the currently used catheter without choice around that. I think kind of as we transform the EP side of that, there's definitely a good tailwind that should help also on the robotic capital side of it. When capital customers are aware that we have developed the MAGiC catheter, and they see it available in the market, it will enhance their decision-making positively. Regarding the mobile robot in Europe, we’ve still been relatively cautious in who we approach with that and how we communicate it. It’s done on a selective case-by-case basis to make potential early adopters aware of our general innovation pipeline.

Neil Chatterji, Analyst

Hi, David and Kim. Good morning, and thanks for taking the questions. I guess we spent a lot of time already talking about the order funnel. So I was just curious about the capital spending side, what kind of environment you're seeing there in terms of just the general headwinds that you see with staffing shortages? How much is that influencing orders?

David Fischel, Chairman and CEO

Hey, Neil, good morning. Things haven't changed in any meaningful way from the commentary we provided before. Generally, it feels like you are operating in a headwind-style environment. There's definitely no tailwind of hospitals overflowing with profits and looking to buy something fun and exciting. You're operating in a relatively capital-strained environment, where hospitals are still distracted by various operational challenges and macro concerns. However, things are reasonable and logical. It is not a frozen environment. We're generally in a balanced environment that has probably more macro headwinds than tailwinds.

Neil Chatterji, Analyst

Great. Thanks for that update. Maybe just anything new in terms of the development of your health system and IDN strategy and the potential for that to speed up the sales cycle?

David Fischel, Chairman and CEO

Sure. We've talked about it a bit in the past. We have a few large IDNs that currently use our technology and have very good experiences with it, like HCA, Kaiser, Intermountain. Those are natural parties to engage more broadly. I've always considered a model similar to Mako, where they secured a substantial order for systems from corporate level, and that collaboration spreads out. Our IDN is cautious; we cannot execute something like that from the top down to buy systems without knowing where they will go and figuring that out later. Engagement with IDNs sometimes helps move percolating opportunities through the whole system. We announced an order from Overland Park Regional Medical Center in Kansas City, which was the first and second robotic systems being installed at the same hospital. That was the first order and was facilitated through the HCA network. Thank you very much for the thoughtful questions; they are appreciated. We appreciate your continued support. We look forward to working hard on your behalf and speaking again in a couple of months. Thank you.

Operator, Operator

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