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Edited Transcript of APEN.OQ earnings conference call or presentation 30-Oct-19 8:30pm GMT

Q3 2019 Apollo Endosurgery Inc Earnings Call

AUSTIN Nov 15, 2019 (Thomson StreetEvents) -- Edited Transcript of Apollo Endosurgery Inc earnings conference call or presentation Wednesday, October 30, 2019 at 8:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Stefanie L. Cavanaugh

Apollo Endosurgery, Inc. - CFO, Treasurer & Secretary

* Todd Newton

Apollo Endosurgery, Inc. - CEO & Director

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Conference Call Participants

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* Jonathan Preston McKim

Piper Jaffray Companies, Research Division - VP & Senior Research Analyst

* Matthew Gregory Hewitt

Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst

* Matthew Kreps

Darrow Associates Inc. - MD of IR

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by, and welcome to the Apollo Endosurgery Third Quarter 2019 Earnings Conference Call. (Operator Instructions) I would now like to hand the conference over to your speaker today, Matt Kreps, Investor Relations, Darrow Associates. Thank you. Please go ahead, sir.

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Matthew Kreps, Darrow Associates Inc. - MD of IR [2]

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Thanks, operator, and thanks, everyone, for participating in today's call to discuss Apollo's third quarter financial and operating results. Joining me on the call are Todd Newton, Chief Executive Officer; and Stefanie Cavanaugh, Chief Financial Officer.

Before we begin, I would like to caution listeners that comments made by management during this conference call will include forward-looking statements within the meaning of federal securities laws, including Apollo's financial outlook and Apollo's plans and timing for product development and sales. These forward-looking statements involve material risks and uncertainties, and Apollo's actual results may differ materially. For a discussion of risk factors, I encourage you to review the company's quarterly report on Form 10-Q for the 3-month period ending September 30, 2019, filed today with the Securities and Exchange Commission.

Content of this conference call contains time-sensitive information and is accurate only as of the date of the live broadcast, October 30, 2019. Except as required by law, Apollo undertakes no obligation to revise or update any statement to reflect events or circumstances after the date of this call.

During this call, we will interchangeably use the term ESS for OverStitch and the term IGB for Orbera and vice versa. In this call, we'll also refer to the term continuing product revenue, which excludes the revenues associated with our surgical products, which we divested on December 17, 2018. Continuing product revenue will differ from our GAAP revenue as we still report historical and traditional surgical product sales as a part of our GAAP revenues. A reconciliation of this and any other adjustments to the company's GAAP operating results can be found in our Form 10-Q filed today.

Now I'd like to turn the call over to Todd.

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Todd Newton, Apollo Endosurgery, Inc. - CEO & Director [3]

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Thank you, Matt, and good afternoon, everyone, and thank you for joining today's call to discuss our third quarter 2019 results. The third quarter continued our trend of year-over-year sales growth in our continuing endoscopy product lines that are focused on the high-growth opportunities represented by the expanding field of therapeutic endoscopy. We also made progress on our programs to improve our gross -- our future gross margins and strengthen our balance sheet with the support of investors who share our belief that endoluminal surgery represents a promising and expanding new med-tech market. The third quarter was another great quarter for OverStitch, our Endoscopic Suturing System or ESS. Total sales for this product line increased in constant currency terms by 30%. U.S. sales increased at an accelerated rate of 48%. In medical education, which has been core to our OverStitch commercial success, we were very busy this quarter. We supported major physician society requests in connection with the World IFSO Congress held in Madrid and the ASGE's STAR certification program. And through these third-party sponsored events and our own activities, we supported introductory or advanced OverStitch training to approximately 300 physicians in the third quarter. Solid progress also continued to be made on the various clinical studies we are supporting, such as the MERIT trial, our various suture registry programs and other investigator-led research. These and other activities continued to document the tremendous physician interest to develop and adopt endoluminal approaches to treat a broad range of gastrointestinal disease and defects, including, of course, obesity.

I'll turn the call over to Stefanie now to cover our financial results in greater detail and then come back with an operational update. Stef?

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Stefanie L. Cavanaugh, Apollo Endosurgery, Inc. - CFO, Treasurer & Secretary [4]

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Thank you, Todd, and good afternoon, everyone. As Todd mentioned, our business is now focused on therapeutic endoscopy, where we have 2 key product lines, ESS and IGB. Beginning with ESS, our sales increased 28% on a consolidated basis to $6.7 million in the third quarter of 2019 versus $5.2 million in the third quarter of 2018. On a constant currency basis, total ESS sales increased 30%. Sales in the United States increased 48%, and outside the U.S., ESS sales increased 9% on an as-reported basis and 12% on a constant currency basis. ESS growth continues to be driven by expanded procedure use by existing customers and the addition of new users. Sales from OverStitch Sx contributed to the quarter, but our dual-channel device remained the primary contributor to ESS sales in the quarter.

Intragastric Balloon or IGB sales were $3.7 million in the third quarter versus $4.1 million in the third quarter of last year, a decline of 9%. The U.S. markets remain the source of the majority of our total IGB revenue in the third quarter, and OUS sales declined 9% on an as-reported basis and 7% on a constant currency basis compared to the third quarter of 2018. OUS IGB sales were primarily affected by lower sales in Brazil and Spain, 2 markets that are primarily focused on cash pay aesthetic-focused procedures. In the United States, IGB sales were down less than $100,000 versus the third quarter of last year, reflecting ongoing weakness of the Intragastric Balloon market in the United States.

In total, our third quarter 2019 continuing product revenues increased $1.1 million or 12% as reported and 14% in constant currency compared to the third quarter of 2018. Total GAAP revenues in the third quarter of 2019 were $4 million lower compared to the third quarter of 2018 as a result of divestiture of our surgical product line that occurred in December of last year. This comparability issue will continue to affect our reporting in the fourth quarter. Gross margin for the third quarter 2019 was 48.3% compared to 54.7% in the prior year period. The declining gross margin between years was due largely to the shift in our revenue to ESS sales, which carries a lower margin than our other products partially offset by the positive impact of the 2 gross margin projects we completed last fall.

We are actively working on several gross margin improvement projects that will lower our ESS unit costs. One such project that we recently completed was represented by the 510(k) clearance of our Suture-Anchor Assembly. Todd will cover the estimated impact of that development shortly in more detail.

Total operating expenses were $12.3 million for the third quarter 2019 compared to $15.8 million in the third quarter of 2018. This decrease of $3.6 million was due to 3 primary factors. First, research and development expense was $1.5 million lower as a result of the higher MERIT ESG enrollment in the third quarter of last year. Second, intangible amortization was $1.3 million lower, following the divestiture of our surgical products last December. And third, U.S. sales and marketing costs were lower on lower consumer advertising costs.

Our net loss for the third quarter of 2019 was $8.7 million compared to $9.8 million for the third quarter 2018. Cash at the end of the third quarter was $36 million. And as Todd mentioned in his opening remarks, we issued $20 million of convertible notes to existing investors during the third quarter. As to fourth quarter sales, we expect to achieve continuing product sales growth consistent with our year-to-date performance. And then with respect to consolidated gross margin, we expect our year-to-date 2019 gross margin or full year '19 gross margin to be in the range of 48% to 52%, given the higher mix of OverStitch product sales.

With that, I'll now turn it back to Todd.

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Todd Newton, Apollo Endosurgery, Inc. - CEO & Director [5]

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Thank you, Stefanie. As you know by now, the third quarter was another strong growth period for our OverStitch or ESS products as our U.S. commercial organization delivered an impressive 48% increase year-over-year in U.S. ESS sales in the quarter, which amounts to 37% year to date. Outside the United States, in constant currency, sales of our ESS products were up 12% in the quarter and a solid 23% year to date.

Our success, in my opinion, continues to be our ability to deliver excellent medical education to our user base. Our experience continues to be that once a physician has built his or her initial level of technical proficiency that OverStitch then becomes a very sticky product. And these users then find an ever-growing number of ways to use the OverStitch device in their clinical practice.

As I mentioned last quarter, we continue to work closely with customers to identify and share various tweaks to technique that can further improve the overall user experience.

At the opening of this call, I hit some highlights of this quarter's medical education activity. The American Society for Gastrointestinal Endoscopy's STAR Program is particularly noteworthy and is one of the highest-quality training events we are associated with. The STAR acronym stands for skills, training, assessment and reinforcement, and the ASGE offers 4 such programs of which 1 of the 4 is dedicated to suturing. The curriculum is highly structured, consisting of 3 components that must be completed sequentially. Those being an online course, a live course with hands-on training and a post-course skills assessment and test. And upon successful completion, participants receive a certificate from the ASGE. This is a great program conducted at ASGE's facilities outside of Chicago with ASGE-contracted faculty. This time, the course featured both the single-channel and dual-channel OverStitch device at every station.

On the clinical side, the MERIT trial is the first randomized controlled trial of the ESG procedure, which uses OverStitch. And as most investors know, this trial is the linchpin of our ESG reimbursement strategy.

As previously announced, the principal investigators in the MERIT trial completed patient enrollment in June and submitted an investigational device exemption, or IDE, for the trial, which was approved by the FDA in August. We understand that all of the MERIT patients in the initial treatment arm have now received the procedure, and all study patients are in various stages of their follow-up period. The 80-patient initial treatment arm is to be followed for 2 years, and the 120-patient control group can potentially cross over to -- for ESG treatment after 1 year, and a number of these crossover procedures have already taken place.

On other key ESS clinical programs, the AGA registry, which is intended to capture core GI uses and bariatric revisions using suturing here in the United States now has over 9 sites contracted and more than 125 patient cases recorded. In Europe, the bariatric registry that began in May of last year to capture data on ESG and bariatric surgery revisions has over 340 patient cases reported.

Additionally, the European GI registry to build data and awareness of core GI uses of OverStitch in Europe, where core GI experience is lower than it is here in the United States but still represents a great area for upside in our view, now has more than 140 cases recorded. This quarter, there continued to be a steady flow of new papers published in various peer-reviewed literature by clinicians about OverStitch results. 12 new papers were published describing the use of endoscopic suturing for a variety of gastrointestinal conditions other than primary obesity. And then in addition, there were another 13 new papers published this quarter to further describe clinical results from the ESG procedure, including 2 meta-analysis and the first published results of the ESG procedure by clinicians in India.

Finally, we have discussed for many quarters, our ongoing gross margin improvement initiative. This overall effort involves multiple projects over multiple quarters. The latest project culminated with the receipt in September of FDA's clearance for our polypropylene Suture-Anchor Assembly. This assembly is the implant component of the OverStitch system. It passes an Anchor-Suture within the gastrointestinal tract. Obtaining 510(k) clearance for our own proprietary Suture-Anchor is expected to reduce our product cost by approximately $1 million annually once fully implemented, which we expect to occur in 2020. This approval also facilitates our access to new global markets. We expect solid growth throughout the remainder of 2019 from both the dual and single-channel OverStitch devices, giving us good momentum going into 2020.

With respect to our IGB products, strategically, we are pursuing development of the medical market, where we think there is a strong value proposition. Our medical market development efforts are concentrated on selected conditions where short-term weight loss can provide meaningful benefit to the treatment of comorbidities associated with obesity and where we believe reimbursement efforts have potential for success. We've discussed these in the past, and they include NASH or fatty liver disease, weight loss in advance of a solid organ transplant, and weight loss prior to either a joint replacement or general surgery. In the future, we should be able to provide more details of these activities as they progress.

Last quarter, we disclosed an application for a level 1 CPT code for intragastric balloons was submitted under the sponsorship of 5 medical societies. We've since learned consideration of this application has been postponed.

Lastly, in Brazil, in July, the National Health Agency issued its 2020 private health plan reimbursement guidelines, which will require private health insurance in Brazil to include intragastric balloon treatment as part of their bariatric coverage next year. We are still assessing this policy decision but think it is directionally a very encouraging development for this market. Private health plans cover approximately 45 million people in Brazil. Currently, the intragastric balloon business in Brazil is a cash pay, cosmetically focused marketplace.

To recap, it was a very good sales quarter for OverStitch and a highly productive quarter for our market and clinical development efforts. Additionally, we further solidified our balance sheet with new capital from a set of loyal and supportive investors.

And with that, we'll now open the lines for questions. Operator, if you will?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from the line of Matt Hewitt with Craig-Hallum Capital.

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Matthew Gregory Hewitt, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [2]

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First off, it's a very strong quarter for OverStitch. And I'm just wondering, if you could provide maybe a little bit of color as to where you're seeing the growth? Or is it pretty evenly spread out? Meaning, is it ESG? Or are you seeing it in some of these other opportunities like GERD and colorectal? Just any color along those lines.

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Todd Newton, Apollo Endosurgery, Inc. - CEO & Director [3]

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Yes, Matt. The growth appears to us to be coming from all uses of OverStitch. The core GI area is really going well. We continue to see great growth in just core GI applications, whether it's upper GI or lower GI. Most of that will be upper GI. The treatment of obesity continues to be also area of big interest for OverStitch from the standpoint of new users, but also, we're seeing that those who are offering the ESG procedure continue to do very well with it. They have good patient experiences. And of course, good patient experience begets new patient experience. So it's coming from all over the board, and we're very, very happy about that. We really feel like the promise of OverStitch is that it drives more endoluminal surgeries as broadly as you'd like to define it. And that was always the intent with OverStitch, and it's satisfying to see that, that is the case in the market today.

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Matthew Gregory Hewitt, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [4]

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That's great. And then, I guess, recently, the American Academy of Pediatrics came out with a paper, encouraging more the option of bariatric and metabolic surgeries for adolescents and kids. How does that kind of factor into the opportunity for you? I would think it's more geared towards OverStitch, but possibly Orbera. But how are you -- and I realize this is recent, but how are you -- what are your thoughts on that?

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Todd Newton, Apollo Endosurgery, Inc. - CEO & Director [5]

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Really, at this point, Matt, I would say that we don't have a defined strategy to pursue per se, the pediatric area. Our focus right now when it comes to the weight-loss procedure using OverStitch, ESG is to support its reimbursement among the adult population. That's where the bariatric coverage exists today. And so we're going to remain focused on that opportunity. We do know that there is an addressable market in pediatrics. But that's not a core part of our current strategy at this time.

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Matthew Gregory Hewitt, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [6]

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Okay. Maybe one last one from me and then I'll hop back in the queue. Regarding the -- obviously, it sounds like a very strong quarter of getting new doctors trained and up and running on OverStitch. Is there -- do you have any ability to break down your revenues in the quarter between existing or those doctors and surgeons that had previously been trained versus new for us?

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Todd Newton, Apollo Endosurgery, Inc. - CEO & Director [7]

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Well, thank you, Matt. We, at this point, have not made that disclosure, but we will consider that in future reporting.

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Operator [8]

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Your next question is from the line of JP McKim with Piper Jaffray.

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Jonathan Preston McKim, Piper Jaffray Companies, Research Division - VP & Senior Research Analyst [9]

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I wanted to just ask on OverStitch and ESS and then -- like, internationally, it looks like it was down about $1 million, it's flat in the U.S. But it sounds like you're training a lot of doctors. So I'm just trying to figure out, when a lot of those trainings will contribute to sort of revenue growth going forward? And just maybe could you help me understand what happened internationally on that front?

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Todd Newton, Apollo Endosurgery, Inc. - CEO & Director [10]

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Yes. I think what you -- we've basically been disclosing now in our investor deck and talking about this for quite some time. We have a very robust and healthy mix of procedure use here in the United States, whereas outside the United States, there is far more weight-loss application for OverStitch. And another way to say that is far less core GI use of OverStitch in the markets outside the United States. And as a result, it does make our outside the United States business a little bit more dependent on cash pay dynamics than we have in the U.S. And in the third quarter, we had a couple of the cash pay markets for OverStitch, where the economics just created headwinds for that procedure. That's one of the reasons why we're so focused on the core GI area, especially through programs like our core GI registry in Europe to really start to identify the uses in that marketplace for OverStitch that is not related to weight loss because we think that ultimately builds us a more solid, predictable business like we have established now, it would appear, in the U.S.

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Jonathan Preston McKim, Piper Jaffray Companies, Research Division - VP & Senior Research Analyst [11]

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Okay. And then I didn't -- was there an update to the total endo guidance? I think you guided to 15%. I didn't -- is there an update to that number? And then, I assume that's sort of how we should think about the go-forward business next year. And so I guess do you feel comfortable with the go-forward business growing in the teens here when you look out to 2020?

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Stefanie L. Cavanaugh, Apollo Endosurgery, Inc. - CFO, Treasurer & Secretary [12]

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So we did provide an update. Given that we have 9 months in our year-to-date actuals, we would guide you to expect Q4 results to be similar to the first 9 months of the year. And so that's a little bit less than the 15% growth we have provided in the past. And then we would expect OverStitch to continue to perform at the very high rates that we've been getting and for bariatric to continue the trends that we've had this year as well.

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Jonathan Preston McKim, Piper Jaffray Companies, Research Division - VP & Senior Research Analyst [13]

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Okay. Then I'll just ask, on the 300 physicians, could you maybe -- like are a lot of those getting trained on the FX? Are they getting trained on the dual channel? And then could you maybe give us a base of reference for Q1 and Q2? Like, if you trained 300 in Q3, what was that level of the training like in previous quarters?

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Todd Newton, Apollo Endosurgery, Inc. - CEO & Director [14]

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Yes, thanks, JP. And so for Q3, we had a really busy quarter, as I was mentioning in the prepared remarks. We had a couple of major doctor meetings, where we supported training that they wanted to conduct with both product and also staffing. And so that probably makes Q3 somewhat busier than what we'd done in Q3 in the past. Just it falls under the timing of the calendar for some of these events. And oftentimes, a doctor will come in with a preference for one device versus the other. But we have, since the introduction of Sx, continued to make both products available in -- front and center in our training effort.

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Operator [15]

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And there are no other questions at this time.

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Todd Newton, Apollo Endosurgery, Inc. - CEO & Director [16]

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Well, great. Then with that, operator, thank you. And in closing, we just want to thank you for your interest in Apollo Endosurgery today. And should you have any questions or need for follow-up, please contact Matt Kreps at Darrow Associates, whose contact details are listed in our press release today, and we look forward to opportunities to meet with you at a number of upcoming investor events, including the Craig-Hallum Alpha Select Conference in November and the Piper Jaffray Healthcare and the LD Micro Main Event conferences that occur in December. Thank you again.

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Operator [17]

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