Earnings Call Transcript - VCEL Q3 2022

Operator, Operator

Ladies and gentlemen, thank you for standing by. Welcome to Vericel's Third Quarter 2022 Conference Call. At this time, all participants are in listen-only mode. I would also like to remind you that this call is being recorded for replay. I will now turn the conference call over to Eric Burns, Vericel's Head of Financial Planning and Analysis and Investor Relations.

Eric Burns, Head of Financial Planning and Analysis and Investor Relations

Thank you, operator, and good morning, everyone. Welcome to Vericel's third quarter 2022 conference call to discuss our financial results and business highlights. Before we begin, let me remind you on today's call, we will be making forward-looking statements covered under the Private Securities Litigation Reform Act of 1995. These statements may involve risks and uncertainties that could cause actual results to differ materially from expectations and are described more fully in our filings with the SEC. In addition, all forward-looking statements represent our views only as of today and should not be relied upon as representing our views as of any subsequent date. Please note that a copy of our financial results press release and a short presentation with highlights on today's call are available on the Investor Relations section of our website. I am joined on this call by Vericel's President and Chief Executive Officer, Nick Colangelo, and our Chief Financial Officer, Joe Mara. I'll now turn the call over to Nick.

Nick Colangelo, President and Chief Executive Officer

Thank you, Eric, and good morning, everyone. I'll begin today's call with a discussion of our third quarter financial and business highlights and our expectations for the remainder of the year. I'll then turn the call over to Joe for a more detailed review of our financial performance and fourth quarter financial guidance before opening the call to Q&A. The company delivered another solid quarter from a financial and operational perspective as we generated strong MACI revenue growth, record third quarter total revenue, continued profitability and operating cash flow, and made meaningful regulatory progress with respect to NexoBrid and our MACI lifecycle initiatives, which we believe will position the company for further growth in the years ahead. Third quarter total revenue was $38.6 million with product revenue growth of 14% compared to the third quarter of 2021. The company generated more than $3 million of adjusted EBITDA and $4.1 million of operating cash flow, which was our ninth consecutive quarter of positive adjusted earnings and operating cash flow. MACI had another strong quarter with revenue of $31 million as we generated the highest quarterly revenue outside of the seasonally high fourth quarter since the launch of MACI. MACI revenue grew 30% compared to the third quarter of 2021 and sequential revenue growth was 8% over the second quarter, which is noteworthy given that third quarter revenue typically is flat to down compared to the second quarter due to summer seasonality. MACI's 30% growth was also the highest year-over-year quarterly growth since 2019, excluding the comparison to the second quarter of 2020, which was impacted by the widespread shutdowns due to COVID-19. Importantly, we continue to see significant growth in surgeon adoption and remain on track to generate double-digit growth in surgeons taking MACI biopsies this year. The majority of surgeons taking biopsies for the first time in 2022 were engaged through our digital and in-person marketing and training initiatives prior to taking their first biopsy as we continue to focus on high-value commercial investments to expand the MACI customer base. Overall, the MACI sales and marketing team executed extremely well in the third quarter. The underlying MACI business fundamentals remained strong and we expect that consistent surgeon growth will continue to drive further clinical utilization of MACI. Finally, as we mentioned on previous calls, the biopsy conversion rate for MACI has been impacted by the disruption to patient flow dynamics and ongoing healthcare system challenges as a result of the COVID-19 pandemic. Those market dynamics are also reflected in a decline in the overall cartilage repair procedure market, which is stabilized but remains down more than 10% compared to last year. While MACI continues to significantly outperform the overall market and the biopsy conversion rate is stabilized, we've not seen a sustained improvement towards pre-COVID levels so far this year, which will impact full year revenue for MACI, as Joe will cover in our guidance update. Despite these market dynamics, MACI remains on track for a strong finish to the year as it resumes its high growth profile and we expect MACI growth in the mid-20% range for the second half of the year compared to 2021. Moving forward, we believe that continued execution by our MACI sales team and the gradual improvement of the overall cartilage repair market and MACI conversion rate will support further growth and expanded utilization of MACI in the quarters and years ahead. With respect to MACI Lifecycle Management, our plans for the MACI arthroscopic delivery and MACI ankle development programs remain on track. We're scheduled to have a Type C meeting with the FDA in December to discuss the MACI arthroscopic delivery development plan, which we believe represents a meaningful clinical enhancement for patients and physicians. In addition, based on initial interactions with the FDA, we expect to have a pre-IND meeting with the agency in the first quarter of next year regarding the MACI Ankle Development program. We believe that these programs position the company for significant additional growth opportunities for MACI in the years ahead. Turning to our Burn Care franchise, we reported Epicel revenue of $7.3 million for the third quarter, which was below our recent quarterly run rate in 2021 levels. As discussed on our last call, external market data shows that the incidence of large burns greater than 30% of the total body service area has declined this year compared to 2021 in which there was a significant increase in the incidence of larger burns. These lower patient volumes this year have had a significant impact on results at our highest volume centers and have impacted the growth drivers for Epicel of continuing to expand the number of burn centers using Epicel and driving greater patient volumes at those centers. Based on these dynamics and Epicel revenue performance year to date, we're revising our Epicel revenue guidance for the year as Joe will describe in more detail. It's worth noting, however, that while the incidence of larger burns and patient volumes are more in line with pre-2021 levels, year-to-date revenue for Epicel in all of the underlying business fundamentals, including burn centers taking biopsies and treating patients, as well as overall biopsies and graft volumes are significantly higher than the same year-to-date periods prior to 2021. Turning to NexoBrid, as we announced on our last call, the NexoBrid BLA resubmission was accepted for review by the FDA with a PDUFA date of January 1, 2023. The FDA's review of the BLA is progressing, manufacturing facility inspections in Taiwan and Israel are underway, and we continue to actively plan for a potential NexoBrid launch in the first half of 2023. I'll now turn the call over to Joe to provide additional details regarding our third-quarter results and financial guidance.

Joe Mara, Chief Financial Officer

Thanks, Nick, and good morning, everyone. Starting with our Q3 results. Total net revenue for the quarter was $38.6 million and was comprised of $31 million of MACI revenue, $7.3 million of Epicel revenue and $0.2 million of revenue related to the procurement of NexoBrid by BARDA for emergency response preparedness. MACI had another strong quarter with 30% revenue growth versus the prior year and also increased sequentially with 8% growth versus the second quarter after strong quarterly sequential growth in the second quarter as well. Gross profit for the quarter was $25.2 million or 65% of net revenue, an increase compared to a gross margin of 64% in Q3 last year. Total operating expenses for the quarter were $32 million compared to $27.1 million for the same period in 2021. The increase in operating expenses was driven by an increase in employee expenses, continued investment in commercialization initiatives, and additional stock-based compensation expense. Net loss for the quarter was $6.6 million or $0.14 per share compared to a net loss of $4.9 million or $0.11 per share for the third quarter of 2021. Non-GAAP adjusted EBITDA for the quarter was $3.3 million and we generated $4.1 million of operating cash flow, representing our ninth consecutive quarter with positive adjusted EBITDA and operating cash flow. We ended Q3 with approximately $133 million in cash and investments and no debt. Turning to our financial guidance. For Epicel, our guidance had assumed that growth would be driven by adding new burn centers and driving additional biopsies within existing centers. Although these key metrics remain above pre-2021 levels, the lower incidence of burns this year has made it more difficult to drive growth over 2021, which has impacted our results. Based on this market dynamic and Epicel revenue performance over the past two quarters, we now expect Epicel revenue in the $8 million range for the fourth quarter, and total burn care revenue, including NexoBrid for the full year of approximately $34 million. For MACI, as we discussed on prior earnings calls, our initial full-year guidance assumes that patient flow and conversion rates would begin to normalize in the back half of the year. Although we have seen stabilization in the overall market and in our conversion rate, we have not yet seen sustained improvement in those metrics, which will impact our overall revenue for the year. We still anticipate strong MACI's second half growth in the mid-20% range versus the second half of 2021, with full-year revenue from MACI of approximately $130 million to $132 million. In total, we expect revenue of approximately $164 million to $166 million for the full year. Based on this change to revenue expectations, we now expect gross margin to be in the mid-60% range and adjusted EBITDA margin to be in the mid-teens percentage range for the full year with another year of significant positive adjusted EBITDA contribution and operating cash flow. This now concludes our prepared remarks, we will open the call to your questions.

Operator, Operator

Our first question comes from Ryan Zimmerman of BTIG.

Ryan Zimmerman, Analyst

Nick and Joe, I guess to start on guidance, I want to talk about first MACI and then Epicel. We've seen back in the second quarter, I think you guys were up maybe double-digits on, I think, both biopsies and new surgeons. And correct me if I'm wrong on that. But the implied growth was in the mid- to high 30s in the fourth quarter coming into the third quarter. So help me understand kind of what dynamics are specifically impacting conversion rates because it would seem that the conversion rate for the biopsy to procedure period is elongating relative to what we've seen historically?

Joe Mara, Chief Financial Officer

Thanks, Ryan. I'll begin with MACI. We had a very strong Q3, as we mentioned earlier. We believe that growth for the second half will remain in the mid-20% range, even with the ongoing double-digit decline in the ankle repair market compared to last year. Notably, we experienced a 30% increase for the quarter after previously being in the high single-digit growth range for the last several quarters. MACI has performed well in Q3. Regarding your question about Q4 and the full year, we currently expect revenue to be between $130 million and $132 million, which is slightly below our initial estimate of $132 million to $141 million. This initial range anticipated improvements in market conditions and patient flow, which have not materialized, along with an expected increase in conversion rates that have stabilized but not improved. If you consider our position now, we are approaching our initial guidance despite these market challenges. Our other metrics, like new surgeon additions, remain in the double-digit range, and biopsies have continued. However, the conversion rate, especially in Q4, which is our largest quarter, will affect our results for the second half of the year.

Ryan Zimmerman, Analyst

Just to push back, Joe, just to be clear, with the new docs up, are you seeing lower conversions with these newer docs? Or is that specifically lower patient volumes in the door? I'm just trying to understand because it seems like somewhat of a change from maybe historical precedent.

Nick Colangelo, President and Chief Executive Officer

Yes, Ryan, this is Nick. I don't think we've observed any change in the uptake among biopsying surgeons. As we've mentioned, we are on track for double-digit growth this year. To clarify, we did not state that biopsies increased by double digits; we indicated that they are tracking in line with implant volume. The key factor really is patient flow. When we provide market data, it essentially reflects patient flow. As Joe noted, the lower end of our guidance for the year anticipated some improvement over 2021, while the higher end predicted a more gradual normalization. So far, we have not witnessed either scenario. The market is down double digits compared to last year, which aligns with what you’re hearing regarding procedures and physician or specialty visits. Despite the challenges related to patient flow, we are still focusing on the lower end of the guidance, which assumes some improvement, reflecting strong execution by our team. MACI continues to demonstrate strong product attributes, and as Joe mentioned, there is considerable momentum in the second half of the year, especially looking ahead to 2023 and beyond as patient flow and the market are expected to normalize.

Ryan Zimmerman, Analyst

Okay. Turning to Epicel for a moment. You provided guidance for Epicel similar to the second quarter and midway through the third quarter. At what point did you notice a shift in burn that led to significant changes in your expectations for Epicel in the third quarter and in the future?

Nick Colangelo, President and Chief Executive Officer

Yes. So Ryan, as we mentioned on our last call, we've recently and right ahead of our last call have been able to access some similar market data, which showed a relatively strong first quarter. We started to see a decline in the second quarter in terms of these large 30%-plus total body surface area burns. And obviously, in July on our earnings call, or early August, you're one month into the third quarter. And this data lags, so you don't really kind of get it until a quarter ends. So as we had always talked about, we never call a trend on Epicel on an upside. And because the burns were down for one quarter, and we weren't where we expected to be in the second quarter, it's a little early to say this is what we're going to see going forward. So clearly, we saw a continued decline in these larger burns in Q3, and that sort of lines up with the anecdotal feedback. We're getting consistently across the sales force that the burn center admissions for these larger burns are just down. And so that's kind of why we sort of maintained the similar to Q2 level expectations in Q3 until we kind of saw how it played out a little. So that obviously played out in the third quarter. I would say, as we mentioned on the call that despite these lower patient volumes, which are sort of more in line with the lower pre-2021 levels, we did see a big increase in 2021 once we're able to get the data overall in these larger burns. We continue to have a much broader presence in terms of the burn centers and all the metrics are up versus pre-2021 levels. And even in the third quarter, we did have, despite these challenges, essentially the same number of biopsies as we did even in 2021. The issue is once you have that, and that reflects the fact that we have a broader customer base as the sales force continues to expand Epicel for the centers using Epicel. Once that happens, though, then you're kind of subject to the variability of episodes. So you can have the same biopsies in the quarter like we did, but depending on the timing, depending on when the patients are stabilized and ready for treatment, you just can't really call exactly when those treatments are going to occur, and that had an impact in the third quarter for us.

Ryan Zimmerman, Analyst

And is the fourth quarter Epicel guidance at a level that sufficiently accounts for the variability at this point, in your view?

Nick Colangelo, President and Chief Executive Officer

Yes.

Operator, Operator

Our next question comes from Sam Brodovsky of Truist Securities.

Samuel Brodovsky, Analyst

Just thinking about MACI for next year, can you share what gives you confidence that the product can reaccelerate to 20% growth? Additionally, how should we consider the mix of drivers like surgeons, biopsies, and conversion rates in terms of driving growth next year, particularly with the market expansion efforts related to ankle treatments and ankle arthroscopic delivery?

Nick Colangelo, President and Chief Executive Officer

Yes, I'll start with that, Sam. So I'd say in terms of reaccelerating to 20% plus growth, obviously, we just posted a 30% growth quarter in mid-20% for the second half of the year. And I think if you kind of do the math, it will be sort of in the high teens for this year overall. In light of a declining market, right? So I'd say as we think about next year and beyond for the reasons I mentioned earlier, we certainly expect patient flow to normalize, continued surge in growth, and so on. And that's what would be the driver for next year. So continued surgeon growth primarily. And if the market doesn't change, we'd certainly expect to be able to grow in the same range. But as things strengthen and normalize, we'd expect growth to reaccelerate.

Samuel Brodovsky, Analyst

And that, when you say, are you referring to the second half of '22?

Nick Colangelo, President and Chief Executive Officer

No, just for the year, I mean, just for the year, right? If the market doesn't change, we'd expect we'd be able to sort of grow at a similar rate to this year. But that market improvement that we expect in the coming quarters and years will be more of a tailwind for 2023 and beyond.

Samuel Brodovsky, Analyst

Got it. That's helpful. And then on NexoBrid, any items there that would lead you to believe there may be any delays towards the PDUFA date and how should we be thinking about the timing of a full launch into the market next year?

Nick Colangelo, President and Chief Executive Officer

Yes. We can't comment on the interactions, but we are less than 60 days away from the PDUFA date. The manufacturing inspections are ongoing, which is positive, and we are actively planning for a launch in the first half of 2023, aiming for the January 1 PDUFA date. As previously discussed, we need to go through the P&T committee approval process for the burn centers. Therefore, we anticipate more of a set launch in Q2 when the product will become available and progress through that process. We might see some revenue in Q2, but we expect significant growth in the second half of the year. That said, we do not control FDA decisions, but we remain on track at this point.

Samuel Brodovsky, Analyst

Got it. Just one back on MACI if I can sneak one more in. When you think about the potential for market improvement, do you think you see that as early as the first half of '23? Or is that likely more going to be in the second half weighted?

Nick Colangelo, President and Chief Executive Officer

Well, I can't really opine on that, right? I mean, I think it's hard to call exactly when patient flow will start approaching pre-COVID levels like we saw, for instance, in the second quarter of 2021, certainly feels like we're set up for that, but it's a little hard to say what the exact timing is.

Operator, Operator

Our next question comes from Jeffrey Cohen of Ladenburg Thalmann.

Jeffrey Cohen, Analyst

Nick and Joe, how are you?

Nick Colangelo, President and Chief Executive Officer

Good, Jeff. Thanks.

Jeffrey Cohen, Analyst

I guess, firstly, I wanted to circle on with one of Ryan's questions and talk a little bit about biopsies and implementations on the MACI side. Does it seem like there's a more pronounced drop-off period after a certain amount of months or quarters after a biopsy? Or perhaps could some of that be correlated to the general economy?

Nick Colangelo, President and Chief Executive Officer

No, I don’t think there’s been a significant delay. I believe it’s more about being patient. We rely on market data as a way to gauge patient visits to the office, whether that’s for initial consultations or follow-ups after a biopsy. As of now, we haven’t heard any concerning economic factors related to MACI. Employment remains strong, and insurance coverage for employees looks stable. So, this hasn’t posed any issues for us at this time.

Jeffrey Cohen, Analyst

Okay. And could you give us any color on historic Q4 biopsy levels? What have you found in the past few years? And what would you anticipate on the MACI side for the fourth quarter? It's not something you necessarily want to break out or discuss.

Nick Colangelo, President and Chief Executive Officer

Well, yes, I mean we don't give sort of quarterly biopsies, but I would just say, generally, the fourth quarter is the strongest quarter across medtech and obviously with MACI as well kind of across the board in terms of biopsies, implants, et cetera. So we'd expect a strong biopsy quarter just like every fourth quarter.

Jeffrey Cohen, Analyst

Got it. Is there any update on the facility you mentioned before, regarding the move and addition of manufacturing space?

Nick Colangelo, President and Chief Executive Officer

Well, nothing in particular other than construction is underway. We remain on track for expecting commercial production after we go through the FDA approval of a new facility in early 2026.

Jeffrey Cohen, Analyst

Got it. And then lastly, for just a quick one for Joe as far as modeling purposes. What would you anticipate we should be factoring in for BARDA for Q4 in the first half of '23? Would there be anything that we should be modeling?

Joe Mara, Chief Financial Officer

No. I think at this point, we're kind of through our initial kind of agreements, and we recognized kind of that through the third quarter this year. So at this point, we're not anticipating certainly anymore in Q4. And certainly, at this point, I wouldn't say in 2023, either would be more potential commercial launch on the NexoBrid side.

Jeffrey Cohen, Analyst

Got it. So I expect it to be little for the front half of '23 followed by a commercial launch in the back half?

Joe Mara, Chief Financial Officer

Yes, exactly.

Operator, Operator

Our next question comes from George Sellers of Stephens Inc.

George Sellers, Analyst

Thinking about MACI growth into next year, how should we think about the sort of puts and takes, I guess, with the drivers there? How much of that is due to expectations for greater physician adoption versus your ability to sort of drive higher biopsy conversions?

Nick Colangelo, President and Chief Executive Officer

Yes. We have consistently discussed the three growth drivers. The first is adding biopsy and surgeons, and we are on track for double-digit growth in this area this year. We also anticipate growth in biopsy surgeons for next year, which will be a significant driver. Patient flow affects the number of biopsies per surgeon, so as patient flow increases, we expect that to typically grow in a given year, contributing positively. Additionally, we are always focused on improving the conversion rate, whether through our sales force engaging with surgeons about biopsies and patients or through marketing and medical affairs efforts to address coverage defects more swiftly. We will continue our efforts to enhance the conversion rate, aiming to return to pre-COVID levels over time.

Operator, Operator

Our next question comes from the line of Arthur He of H.C. Wainwright.

Unidentified Analyst, Analyst

Nick and Joe, I had a follow-up on the MACI growth related to patient flow into certain offices. In your opinion, is this more influenced by the capacity of your surgeons or by the patients' willingness to come into the office?

Nick Colangelo, President and Chief Executive Officer

Yes. I don’t believe we’ve had any discussions with our commercial team regarding surgeon capacity. We continue to onboard more surgeons who are very enthusiastic about the product. We have consistently mentioned the differences in patient flow dynamics as they return for surgeries, and this has remained steady over the past couple of years.

Unidentified Analyst, Analyst

My second question is about the lifecycle management for the MACI part. Can you provide more details about the Type C meeting with the FDA regarding the arthroscopic delivery system? What are the next steps, and how soon can we expect these products to reach the market?

Nick Colangelo, President and Chief Executive Officer

The issue will be presenting our proposed development plan to the FDA and obtaining their agreement. This will determine the timing based on whether the FDA mandates clinical development or allows for a human factor study that simply shows surgeons can effectively use the instruments and deliver the product. Once we have that discussion with the FDA, we will gain much clearer insight into the timeline. We have mentioned a mid-decade opportunity for MACI arthroscopic; it could be earlier with a human factor study or later if a clinical safety development program is required. That summarizes our discussion with the FDA.

Operator, Operator

At this time, I'm showing no further questions. I would now like to turn it back to Nick Colangelo, CEO, for closing remarks.

Nick Colangelo, President and Chief Executive Officer

Okay. Well, thanks, everyone, for your questions and your continued interest in the company. Obviously, the Vericel team here is continuing to focus on delivering strong financial and operational results for the final quarter of 2022 and preparing for a potential NexoBrid launch in the first half of 2023, and we look forward to updating you on our progress on the next call. So thanks again, and have a great day.

Operator, Operator

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