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Edited Transcript of SSKN earnings conference call or presentation 17-Mar-20 12:30pm GMT

Q4 2019 STRATA Skin Sciences Inc Earnings Call

IRVINGTON Mar 17, 2020 (Thomson StreetEvents) -- Edited Transcript of STRATA Skin Sciences Inc earnings conference call or presentation Tuesday, March 17, 2020 at 12:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Dolev Rafaeli

STRATA Skin Sciences, Inc. - CEO, President & Director

* Matthew C. Hill

STRATA Skin Sciences, Inc. - VP & CFO

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Conference Call Participants

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* Jeffrey Scott Cohen

Ladenburg Thalmann & Co. Inc., Research Division - MD of Equity Research

* Joseph Pantginis

H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research & Senior Healthcare Analyst

* Shawn Boyd

* Suraj Kalia

Oppenheimer & Co. Inc., Research Division - MD & Senior Analyst

* Matthew Picciano

LifeSci Advisors, LLC - Account Manager

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Presentation

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Operator [1]

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Greetings, and welcome to the STRATA Skin Sciences Fourth Quarter and Fiscal Year 2019 Earnings Call. (Operator Instructions) As a reminder, this conference is being recorded. I would now like to turn the call over to your host Matt Picciano with LifeSci Advisors. Thank you. You may begin.

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Matthew Picciano, LifeSci Advisors, LLC - Account Manager [2]

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Thank you, operator, and good morning, everyone. Thank you for participating in STRATA Skin Science financial earnings conference call for the company's fourth quarter and year December 31, 2019. Leading the call today will be Dolev Rafaeli, President and CEO of STRATA Skin. Joining him today will be Matt Hill, Chief Financial Officer, at STRATA. Earlier this morning, STRATA issued a press release announcing its financial results for its fourth quarter and year ended December 31, 2019. A copy of this release can be found on the Investor Relations page of the company's website. Before we begin, I'd like to remind everyone the comments and various remarks about future expectations, plans and prospects constitute forward-looking statements for purposes of the safe harbor provisions under the Private Securities Litigation Reform Act of 1995. These statements include, but are not limited to, our plans, objectives, expectations and intentions and other statements that contain the words such as expects, contemplates, anticipate, plan, intend, believes, assumes, predicts and variations of such words or similar expressions that predict or indicate further events or trends that do not relate to this historic matter. These statements are based on our current beliefs or expectations and inherently subject to significant known and unknown uncertainties and changes in circumstances, many of which are beyond our control. There can be no assurances that our beliefs or expectations will be achieved. Actual results may differ materially from our beliefs or expectations due to financial, economic, business, competitive market, regulatory and other political factors or global pandemic events, such as the current COVID-19 pandemic affecting the medical device industry. Given the uncertainties affecting the companies in the medical device industry, any or all company's forward-looking statements may prove to be incorrect. Therefore, you should not rely on such factors or any forward-looking statements. In addition, more specific risks and uncertainties facing the company are set forth in the company's reports on Form 10-Q and 10-K with the Securities and Exchange Commission. STRATA encourage you to carefully review and consider disclosures in SEC filings, which are available at www.sec.gov and on the company's website. As a reminder, this call is being recorded and will be available for audio rebroadcast on STRATA's website. Furthermore, the content of the conference call contains time-sensitive information that is accurate only as of the date of the live broadcast, March 17, 2020. STRATA undertakes no obligation to revise or update any statements to reflect events or circumstances after the date of this call. With that, I would like to turn the call over to Dolev Rafaeli, President and CEO of STRATA. Dolev?

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [3]

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Thank you, Matt, and good morning, everyone, and welcome to our 2019 fourth quarter and year-end earning call. We're all very happy to be here. Our first earnings update call since November 2018, when we started a lengthy restatement process. Through this process, we have remained focused on the execution of our strategy and are pleased to share with you, today, our very strong 2019 financial and operational results. We have worked very hard on turning around the business and I'm very proud of the entire team and thank them for their hard work. Clearly, the world today looks very different than it did a week ago and while the markets are volatile, to say the least. We have not taken our eyes off the ball in terms of our business. Daily, we are evaluating instructions from local, state and federal government authorities as these affect our operations. All of our back-office operations are already or able to transition to working remotely. Our field, including all of our supporting services, have been impacted at varying levels as social distancing and closures are reflected with our individual partner clinics across the country. We're doing everything we can to continue to operate our business as normal as possible, but recognize that there is some uncertainty and are managing our cash flow and implementing cost containment strategies accordingly.

Let me now take a look at our business and how it grew in 2019. In looking at all of our key metrics, including revenue growth, recurring revenue growth, installed base and margins, we have seen growth across the board. All of this is a direct result of the laser-focused strategy, we put in place in 2018, after the refinancing and change in management. The last 6 quarters have been devoted to executing turnarounds of the company, which included putting the company on a strong financial footing by completing a $17 million financing in 2018. Strengthening our Board and management team and cleaning up our cap table. We also completed a refinancing of our debt with a commercial bank when renewed annually, providing us with a significantly lower cost of capital for the years to come. In 2020 alone, we will save over $700,000 in interest expenses. These steps, which have provided us -- which have provided our record margins, clean cap table and a strong balance sheet, put us in a solid position to weather the current storm and to support our fundamental growth initiatives once our partner clinics get back to business.

Long term, we are focused on executing on our 3 pillars of growth, a direct-to-consumer strategy, expanding our installed base and adding strategically through acquisitions. Let me dive a little deeper into each of these areas.

First, to our investment in our direct-to-consumer or DTC advertising program. Many of you may remember our historical success with this strategy, and we are gratified to see success with this approach again. There is a certain leg effect in DTC activities, so we are just now seeing the results of the investments we made late last year. In 2019, we increased our new patient count by 50%, adding 6,000 new patients receiving treatments with our physician partners compared to 4,000 patients in 2018. Overall, in 2019, the number of new patients receiving treatment with our XTRAC system was up 21% to 22,000 patients from 18,000 patients in 2018. This impressive achievement was driven by our internal teams, handling over 250,000 phone calls. Generating approximately 48,000 new patient leads in 2019, a growth of 118% in leads. Recently, KOLs pointed out that immunosuppressive medications for the treatment of psoriasis might pose risk to patients in light of the disease of disease such as COVID-19. Our DTC campaign has evolved in the last few days to point out the safety of narrow band UVB or XTRAC in treating these conditions without imposing systemic risks. Also helping to add to our new patient count was our active pursuant -- pursuit of expanding XTRAC's use beyond just the psoriasis indication. With a total available market of 35 million patients for all XTRAC indications, 8 million of which are psoriasis patients. Our ability to drive patient awareness and interest to facilitate the insurance benefits, creates tremendous value for our physician partners. The work of our dedicated in-house insurance reimbursement team has resulted in approved benefits for 86% of all prospective patients and 96% approved benefits for psoriasis patients. In doing the work, we have expanded the number of non-psoriasis patients receiving treatment by 50% as compared to 2018. We anticipate these trends will continue as we create tangible value for our physician partners. 2019 has proven that focusing on our recurring revenue business, has resulted in a gross margin of over 70% for the year and over 76% in Q4 2019 as compared to 64% and 65% in gross margin in 2017 and 2018, respectively. The unique model, which builds upon hundreds of individual accounts is truly recurring and [lets] the traditional medical device customer concentration risk. We also anticipate these trends to continue.

Turning to our second pillar of growth, expanding our installed base. We also saw improvement here. During 2019, domestically, we placed 140 systems into physician clinics and removed 66 underperforming accounts for a net add of 74 new systems. We ended the year with 820 devices in our domestic installed base. By removing our systems from the underperforming accounts, we were able to increase our quarterly revenue per device or same-store sale to nearly $8,000 in Q4 2019.

We we grew our installed base by turning to 2 immediate sources. The first is converting current owners of excimer laser into recurring revenue partners, which we call comebacks. And the second is increasing market share in large group clinics. For current owners of excimer lasers, there is a pool of 300 to 400 clinics where they have already learned to use the technology, have a patient base, and have a need for our value-add services, which is where we thrive because these are services only STRATA can offer. In 2019, we achieved 19 comebacks as compared to 15 in 2018 and 4 in 2017.

The other much larger source of growth in our installed base is with large group clinics owned by financial sponsors. During 2019, we increased our presence in these clinics and now are in 221 of these clinics, up from 86 a year ago. This growth comes from our success in establishing strategic agreements with the clinic, coupled with the -- with their success in expanding through acquisitions, thereby expanding the number of XTRAC partners. These 2 sources will continue to be the focal point of our clinic expansion strategy through 2020. Internationally, while we kept our dominance in Japan, China and the Middle East with continued capital equipment sales, we announced in July of 2019 that our South Korean market, in which we have been active for over 12 years, we'll start transitioning into a recurring revenue model, similar to the U.S. In the first 6 months of operation, 10 systems have been placed in country. While this transition will reduce our short-term top line capital sales, it will ultimately provide long term, higher revenue and margins. We strongly believe in the long-term growth of all of our markets, but are seeing short-term disruptions in these markets caused by the spread of the virus.

Finally to our third pillar of growth, acquisition strategy. We continue to focus on accretive acquisitions, which will benefit from our platform. STRATA offers unique opportunities to add complementary businesses. We have deep capabilities, including an in-house call center. We have a motivated sales force and an amazing insurance reimbursement support team. All of these together create what we believe to be an attractive opportunity for potential partners. In support of our growth pillars, we continue to invest in DTC advertising, which was $1.9 million in 2019 compared to $1.2 million in 2018. This does not include an additional $800,000 in patient co-pay support compared to $600,000 in 2018.

As we look forward, we anticipate continued -- continuing supporting our growth by increasing the DTC spend when practical and planned on expanding our domestic market sales team at the appropriate time. We're also continuing to improve on our products. This year, we took significant technological steps forward in distancing the XTRAC system and its components from all of our competitors in every market. For example, we recently announced the receipt of the 510(k) clearance for the Momentum platform. This is our third platform 510(k) issued by the FDA for the XTRAC device. By comparison, our only domestic competitor is on the market with a device that received its 510(k) in 2006 and is predicated on the XTRAC AL-7000 platform, which was cleared in 2004. Because of our advanced system, XTRAC is the technology of choice in hundreds of peer-reviewed clinical studies published over the past 20 years. Domestically, there is no clinical study published using any other competing excimer laser for dermatology purposes.

In summary, we are grateful to see our strategy coming to fruition. While we know the world is uncertain at the moment, we know our strategy can improve revenue and recurring revenue growth and improve margins. We will look for every opportunity to launch a new -- launch new technology and expand our markets. We're fortunate to have a solid balance sheet to carry us through this time. When we have analyzed our domestic regions recurring revenue performance at the end of February 2020, we have seen year-over-year growth on year-to-date sales trending at double-digit growth. The changes through March and the time it will take regions to recover will be difficult to predict. We see our first quarter recurring revenue growth with final revenue ranging from $5.7 million to $5.9 million and overall sales in the range of $6.4 million to $7.1 million, including several non-U. S. orders that might be delayed into the second quarter.

I would like now to turn the call over to Matt Hill for a review of our fourth quarter and 2019 financial results. Matt?

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Matthew C. Hill, STRATA Skin Sciences, Inc. - VP & CFO [4]

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Thank you, Dolev. First, I would like to say we hope everyone is staying safe and healthy.

And now looking at the numbers. While 2019 presented its challenges, those challenges did not impact the focus of the operations and salespeople executing the business plan and strategy, which is reflected in our 2019 numbers. With respect to the fourth quarter of 2019, revenues for the fourth quarter of 2019 were $8.9 million, up 11.2% as compared to revenues of $8 million for the fourth quarter of 2018. Recurring revenues for the fourth quarter of 2019 were $6.6 million, up 12% as compared to $5.9 million for the fourth quarter of 2018. Equipment revenues for the fourth quarter of 2019 were $2.3 million, up 9% as compared to $2.1 million for the fourth quarter of 2018. The increase in recurring revenue was the direct result of an increase in direct-to-consumer advertising spend, providing increased patient flow to our partner clinics and an increase in the worldwide installed base of 84 placements in 2019. Gross profit for the fourth quarter of 2019 was $6.1 million or 68.8% of revenues as compared to $5.3 million or 65.7% of revenues for the fourth quarter of 2018. Gross profit for recurring revenues for the fourth quarter of 2019 was $5 million or 76.5% of revenues as compared to $4.2 million or 71.4% of revenues. This increase in the gross profit is a result of lower depreciation on placements and increases in utilization, which drives incremental margins on the largely fixed cost of the installed base.

Selling and marketing costs for the fourth quarter of 2019 were $3.1 million, an increase of $0.2 million as compared to $2.9 million for the fourth quarter of 2018 as a result of higher headcount and direct-to-consumer advertising. General and administrative costs for the fourth quarter of 2019 were $2.9 million, an increase of $0.7 million as compared to $2.2 million for the fourth quarter of 2018 as a higher result -- as a result of higher legal and accounting costs, which were the final costs associated with our previously disclosed delinquent filings and stock compensation expense.

Research and development costs for the fourth quarter 2019 and 2018 were $0.2 million in each period. Other expense for the fourth quarter of 2019 was $0.5 million as compared to the other income of $0.1 million for the fourth quarter of 2018, primarily as a result of the loss in the extinguishment of debt in the fourth quarter of 2019 and licensing income in the fourth quarter of 2018. Net loss for the fourth quarter of 2019 was $0.5 million or $0.02 per basic and diluted common share as compared to net income for the fourth quarter 2018 of $0.3 million or $0.01 per diluted and common share.

I will also briefly discuss the full year 2019. Revenues for 2019 were $31.6 million, up 11% as compared to revenues of $29.9 million for 2018. Recurring revenues for 2019 were $23.7 million, up 12.6% as compared to $21.1 million for 2018. Equipment revenues for 2019 were $7.9 million as compared to $8.8 million for 2018. Gross profit for 2019 was $20.3 million or 64.2% of revenues as compared to $17.1 million or 57.3% of revenues in 2018. Gross profit for recurring revenues for 2019 was $16.7 million or 70.3% of revenues as compared to $13.7 million or 65% of revenues.

Selling and marketing costs for 2019 were $12 million, an increase of $1.4 million as compared to the $10.6 million for 2018. General administrative costs for 2019 were $10.3 million, an increase of $1.5 million as compared to $8.8 million for 2018. Research and development costs for 2019 were $1 million, a decrease of $0.1 million as compared to $1.1 million for 2018. Net loss for 2019 was $3.8 million or $0.11 per basic and diluted common share as compared to $4 million or $0.15 per diluted and common share. Cash and cash equivalents and restricted cash was $15.6 million compared to $16.5 million as of December 1, 2018. In 2019, we incurred approximately $2 million related to our previously disclosed delinquent filings and paid out $700,000 in the -- associated with the debt refinancing. Accounts receivable increased to $4.4 million at December 31, 2019, as compared to $3.4 million at the end of 2018. In December 2019, we had $1.1 million more in billings than in 2018 -- in the same month in 2018. And in Q4, we had 45 more placements than in 2018. We provide extended terms to these partner clinics in order to assist them getting their XTRAC business up and running. (inaudible) when adjusting for replacements is similar to 2018. We are pleased at year-end, we were able to refinance our high interest debt with lower interest commercial bank and are evaluating other financial instruments to further enhance our cash position. EBITDA for the year ended December 31, 2018, was $3 million compared to $3.7 million for 2018. 2019 includes previously discussed $2 million for the delinquent filings. At December 31, 2019, we had 32,932,773 shares outstanding and now have 33,714,362 shares outstanding as of today with the final conversion of the Series C preferred stock into common stock. I would like to conclude with saying that we are pleased with the company's performance in 2019. We are setting plans in place to handle the impact of the coronavirus in our facilities in Horsham, PA and Carlsbad, California, as well as for our sales and service team and keeping our employees safe. At this time, we cannot predict the impact we'll have on the business. As a company and a community, we will weather through this. And after that, we look forward to a strong 2020. And now I'd like to turn the call back to Dolev.

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [5]

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Thank you, Matt. Operator, let's open the call for Q&A.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Jeffrey Cohen with Ladenburg Thalmann.

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Jeffrey Scott Cohen, Ladenburg Thalmann & Co. Inc., Research Division - MD of Equity Research [2]

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Dolev and Matt, can you hear me okay?

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [3]

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Yes, Jeff.

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Jeffrey Scott Cohen, Ladenburg Thalmann & Co. Inc., Research Division - MD of Equity Research [4]

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So I've got 4 or 5, just real brief, I want to roll in through. So margins for the quarter were very strong for Q4. How should we think about going forward? I think we were previously thinking down toward the 62% and change range for 2020, and it looks like Q4 was close to 69%. So do you expect some pull-through on those margins or pull-through from the 64.2% average in 2019 into this year?

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [5]

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Jeff, great question. And I will start by saying our answers are going to be cautious because of where we are with the COVID-19 situation. Margins are strong because recurring revenue went up. As recurring revenue goes up, margins would go up. As I said in my prepared remarks, we see Q1 trending up in recurring revenue, on track to be on the range of double-digit growth. The numbers are based on where we stood a couple of days ago, when we prepared these remarks that is the end of February and half of March. As we know, things are happening across the country and clinics are shutting down. Now the impact of that, once we're beyond that, would mean that clinics would get back online, and their decision to get back online is going to be guided by governments, not by us. But once they're back online, their patients are already beyond reestablishing their benefits. So we're beyond Q1, and we hope that this would, as traditionally is in Q2, mean a balance in revenue as compared to Q1. And because of our larger installed base and the DTC feed-through, a bounce compared to Q2 of 2019. Having said this, we don't know when this is going to happen. We don't know if it's going to take a week or 3 months. And at that point in time, we'll be better equipped to talk about margins. The margins that we see in Q4 are an indication of the revenue per device. And the number of devices out there as compared to the overall expenses in the company. The expenses -- the breakeven expense for the devices did not change. It actually is trending down. So you might assume your assumptions in regards to the gross margin, but we do see the trend of gross margin strengthening across -- as we look forward, as something that is built into our models.

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Jeffrey Scott Cohen, Ladenburg Thalmann & Co. Inc., Research Division - MD of Equity Research [6]

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Okay, I got it. Can you talk about -- you spoke about, a little bit, some percentages as far as outside of your core segment for psoriasis, your non-psoriasis patients and the percentage outside of that business. Is that all for vitiligo? Or are there some other indications that you've heard physicians are using the laser for?

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [7]

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Yes, just one minute, we'll pull the numbers out. But the specific distribution of patients outside of psoriasis are given in our investor deck, and I'm pulling the deck right now. But our numbers on -- while our numbers on -- the overall percentage of psoriasis patients went slightly down because we increased other indications. The overall split now is about 60-40. We are about -- 60% of the patients are psoriasis, 40% are non-psoriasis. And that is reflected in our deck. I'll pull up the numbers. Why don't you ask the next question, and we'll pull the specific numbers.

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Jeffrey Scott Cohen, Ladenburg Thalmann & Co. Inc., Research Division - MD of Equity Research [8]

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Okay. And Matt, when will we see the K? And could you also talk a little bit about the -- give us the domestic number and the international number as far as Q4 goes, I think we're estimating around 85% and 15%. Can you hone in on that for us?

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Matthew C. Hill, STRATA Skin Sciences, Inc. - VP & CFO [9]

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Sure. So it is our intention on filing the 10-K today. And with respect to -- so what changes you're going to see in the international numbers in Q4 will be the fact that our -- the agreement we've signed with Korea is now -- well, you're going to start seeing the growth of -- start seeing the growth of our recurring revenue coming out of international now. So we've got -- and then in the K, you also see our projected amount of revenue that we're going to be seeing from out of that country as well, and that's going to grow over time as we make more placements into Korea. So yes, we're looking at about that 85-15. But as we expand in Korea, depending on how this COVID-19 works in Korea, as things start to level off, we're hopeful that we'll see -- we're going to see growth in that recurring revenue, high-margin area.

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [10]

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Jeff, going back to your previous question, on Page 10 of the investor presentation, we have the new patient acquisition by indication. And in 2019, we've added 21,989 new patients of which 61% is psoriasis, 28% is vitiligo and 11% is other and other includes mostly atopic dermatitis and some other minor things.

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Jeffrey Scott Cohen, Ladenburg Thalmann & Co. Inc., Research Division - MD of Equity Research [11]

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Okay, got it. Just a couple more. Could you talk about the Momentum platform and what that entails? Was that a separate -- was that an additional 510(k)? And what's different on that as far as power variability, frequency and changes, as far as the handpiece and/or the device itself, the generator?

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [12]

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Yes, absolutely. Thank you. Great question. The Momentum platform is the third platform clearance that we have. The first one was early in 2004. The second one was in 2011, and that was the velocity platform and which is now most of the systems out there. And the third one is the momentum. A precursor to the momentum was the S3 that we launched a year ago in order to test some of these new technologies. The full platform clearance with the FDA is about 3 pages long of different features. I will focus on a few of them that are relevant for us and why they are important for us. The system allows for higher power and faster treatment than -- as compared to the previous systems, and that is very important for clinics, mostly outside of the U.S., where the throughput or the number of patients being treated a day is very large. Just in comparison, our average clinic in the U.S. treats about 450 procedures a year, where the average clinic in China treats anywhere between 800 for a public hospital patients a month, to 2,000 for a private clinic per month. So we're talking about a factor of 10 or so in the number of patients they are treating. And South Korea lies somewhere in between the U.S. and China. So we need much faster systems. That's one big change. The second big change is the user interface. We started incorporating this into the S3, and we needed to get the FDA clearance on the integration of that user interface, where the user interface allows doctors to maintain patient information on treatment that is zone-based versus dose-based. So traditionally, we were counting how much the patient was treated, but we were not maintaining where the patients were treated. And as we expand the usage and expand the size of the lesions and expand the usage across patients, both domestically and outside of the U.S., we need the ability to maintain that information, and in the future, be able to communicate with EMR systems.

The third large change that is incorporated in that system is what we call a sealed system. We incorporated a new technology that allows us to use much less gas. The gas consumption in the sealed system platform is approximately 80% less than what the old system uses in -- if we look at this through numbers, our domestic gas consumption per year is about $1 million. So if we could change all of the systems overnight and if that didn't cost us anything, we would save $800,000 a year just on gas consumption. We're not planning on doing this. We are changing them as they get refurbished and being shipped out to the market. However, we are and we have been shipping every single unit we ship outside of the U.S. with the sealed system for the last -- since July of 2019, for the last 8 months or 9 months because we are responsible for the gas consumption on these systems as we are in the U.S. and the cost of the gas outside of the U.S. is more than double what it is in the U.S. So as we move along, this is going to save us a lot of money. In addition to that, there's, as I said, about 3 pages of different features that were approved in the system. And as I pointed out in my prepared remarks, we are distancing ourselves from the competition. We have only one competing technology or company in the domestic U.S. market. We have competing companies in other markets. They are all basing and predicating their devices on 2 generations ago. The domestic U.S. market system is predicated and has its clearance in 2006 and is predicated on our 2004, 510(k). So by creating that distance, we -- when we come to our physician partners, we say not only you get all of these support services and we help you get the patients, but you also get the best technological platform out there, and we carry the cost for that. And I think in a time like this when COVID-19 happens, there's going to be more people listening, knowing that the other option is that they pay for this. So I think that answers your question.

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Jeffrey Scott Cohen, Ladenburg Thalmann & Co. Inc., Research Division - MD of Equity Research [13]

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Yes. Okay. And one more for me, if I may. Particularly, you heard a lot of this recently around orthopedics and cardiology. I read a recent one with most recent operating rooms having been rededicated to the management of emergencies, all nonurgent procedures, blah blah blah, are being held off. So probably down 80% plus in those markets. Are you seeing a downshift most recently? Or you seeing kind of a full stop or full deceleration as far as the domestic business? Any commentary there? That does it for me.

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [14]

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It's a great question because I could give you a different answer every day of the last week. As of last Friday, we have seen no deceleration in our markets. And we gave you the numbers as we see them to the end and that is mostly driven by the fact that we deferred out most of the revenue in March. So it's easier for us to give an outlook to what -- how Q1 is going to look like. We do see, in the last 2 days or 3 days over the weekend and Monday and today, we see changes mostly in places where the states are declaring nonessential businesses to be shut down. It started happening in California at the end of last week. As of yesterday, San Francisco is on lockdown. On the other hand, in Southern California, business is still close to usual. It happened in the Northeast on Monday, where the Tri-state declared nonessential business closures. Up until Monday, we had business as usual.

And in some parts of the country, they don't even know COVID-19 exists yet. And that will probably change over the next few days. The offices are communicating both with their patients as well as with us. We get some of that communication. And I think it's an evolving event. These are elective procedures, and people would choose to stay home if they had the choice. On the other hand, and more interestingly and I pointed this out in my comments, we see more and more of the physicians and relevant KOLs pointing out that biologics and systemic drugs, immunosuppressant treatments might or should be considered by the individual patients and the individual doctor as, are these fit now? Or are these fit at all in light of viral diseases that would impact the patient. We can't measure the impact of that right now because we are looking at a downtrend in the clinics. But I believe this is going to have a long-term effect as the market -- and then the approach towards immunosuppressant treatment is going to evolve.

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Operator [15]

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Our next question comes from the line of Joe Pantginis with H.C. Wainwright.

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Joseph Pantginis, H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research & Senior Healthcare Analyst [16]

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Real kudos for everything that you've been putting in place that are now seeing real effects in 2019 for the business. Obviously, my first question is still a little bit of a follow-on. And obviously, there are a lot of unknowns. As these cities and areas start to open up again, do you anticipate? Or do you -- are you concerned about any impact about elective type of procedures in seeing a bit of a lag there? And then my more concrete question is, can you provide any more detail with regard to the cost containment strategies that you are looking to implement?

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [17]

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Joe, I'll answer the first part. Matt's going to answer the second point. As these areas will open, we're going to be faced with patients that are frustrated and have their conditions, either existing conditions or relapse or reoccurrence of their conditions and they want treatment. And we would also be faced with physicians that have limited or shut down their clinics for a period of time, and I hope that period of time is going to be short. Then I believe that what's going to happen is that patients -- existing patients and treatment are going to be immediately rescheduled back into treatment and there's going to be a bounce back there. Doctors are going to be backed up with new patients and all the new patients that were scheduled for the time the clinic is closed, would have to be pushed into the future. Then there is a secondary impact there. And because the clinics are equipped with the technology and our staff is in the field, I believe that as soon as we can reopen, we're going to be business as usual and probably faster than business as usual. We just don't know when this is going to happen. There is a big difference between what we do in recurring revenue and what traditional medical device companies and capital equipment do. We don't need to go and hunt for the new acquisition. We need to make sure that when they are there to open their office and they turn on the device, we are there if they need to make sure the device works, and we need to make sure that when they are there to open up their office and they have patients that need to verify benefits, our insurance team is back in the office. And we need to make sure that when patients are calling in, there is somebody answering them on our -- in our call center, and we're taking care of all of these as we transition into the event, and we're making sure that as we transition out of the event, we will be able to turn them back on as soon as they turn back on. I believe that because of the nature of our business domestically, our time to wake up in these regions is going to be much faster than a traditional capital equipment business. However, we are still waiting to see when when governments are going to open up these markets to -- for business. And Matt is going to talk about cost containment and what do we do now in terms of making sure our team stays healthy and safe, and we maintain, as much as we can, the capacity we have to be able to turn this back on as soon as the markets come back.

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Matthew C. Hill, STRATA Skin Sciences, Inc. - VP & CFO [18]

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Thank you, Dolev. So Joe, the way we look at it is we've earned about $900,000 in cash in 2019 that included nearly $2 million in cash paid out for the legal and accounting, associated with our delinquent filings, an additional $700,000 associated with the payoff of the high interest debt. Right now, we are implementing cost containment strategies to manage our cash. We have built up inventory over the last couple of months, so we're protected, and we'll start to reduce inventory spend now that we've got a stock of finished goods. We are reducing our discretionary spend, such as in the areas of advertising and marketing. And then in the individual territories, as Dolev said, as certain areas are not being impacted. And at this point, haven't -- it almost seems like they haven't heard of COVID-19, it will be business as usual for us, and we'll drive that business there, and we'll manage and protect our employees in those areas that have been shut down, but we'll have everybody on the bench ready to go as soon as this passes in those areas. From a perspective of protecting our employees, we are -- the back office and my team has been set up so that they can -- they are either already working at home or we are prepared and tested for them to work at home between phone systems and telecommunications. We are prepared to do that. We're working with Carlsbad as well to our call center people, to do the same thing, and we've tested that and we can get those -- we can take those calls. So we want everybody to be safe. These are unprecedented times. But it's clear that we can -- everyone -- the community and the company will manage through this.

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [19]

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And Joe, just to add-on on this, our average lead time for putting a patient into an appointment, as of last month, was 4 weeks. So by shutting down advertisement spend, what we're doing is we're creating a window in which we're still dealing with the lead database we have, but we're not creating new leads, and we are scheduling them if the offices will take them, and we're rescheduling them if the offices would not take them. As time progresses and we see how long this event is going to be in different markets, we will act accordingly to help them to reschedule and not lose that asset, which is an asset for us, it's an asset -- the patients, which is an asset for us. It's an asset for the partner clinics, and it's an asset for the patients themselves.

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Operator [20]

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Our next question comes from the line of Suraj Kalia with Oppenheimer.

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Suraj Kalia, Oppenheimer & Co. Inc., Research Division - MD & Senior Analyst [21]

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So Dolev, bunch of questions have already been asked and let me see if I can thread the needle on some others. Can you help us reconcile the delta and the 12% increase in recurring revs in Q4 and the 0.7% increase in revs per system. Given the pre-coronavirus timeframe for these numbers, maybe you can just kind of walk us through the puts and takes and help us guide how we should think for the quarters moving ahead?

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [22]

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Yes. The average revenue for device is calculated as the revenue per device -- or sorry, the recurring revenue divided by the number of devices at the end of the quarter. At the end of Q4 2018, we had 746 devices. At the end of Q4 2019, we had 820 devices domestically. We had 10 devices outside of the U.S., that's 830. The recurring revenue, as it is reported in our financials, include the revenue for both the domestic market and the OUS market. The way that the recurring revenue is accounted for is that we take credit for the revenue -- and I'm going to literally speak accounting now, we take credit for the revenue based on leasing accounting, which means that we spread the revenue over the term of the accounting lease as it is defined by the usage agreement between the company and the user.

Some of these agreements have a 30 day out and some of these agreements have 60 days out, so some of them are spread over 30 days, which means that we count the first and second months of the quarter and then we spread the last month of the quarter over 30 days, and some of them are -- we count the first month in the quarter, and then we spread the second and third months into the future.

You will be able to see that through the growth in deferred revenue as we restated our accounting of 2017 and 2018.

Having said that, when you add -- when you have a large increase in installed base and an increase of

-- on an apple-to-apple comparison, Q4 to Q4, an increase of 74 over 746, which is 10%, then just in order to be at the same revenue -- so if I wanted to be at the same revenue per device as in 2018, I had to add 74x the same revenue of 2018 on a recurring base. If all of that revenue happened -- if all of these installations happened at the beginning of the year, then mathematically, it's going to look one way. If all of these new placements happen at the end of the year, it's going to look in a different way. Specifically for Q4, we started Q4 with 36 devices less domestically and 5...

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Matthew C. Hill, STRATA Skin Sciences, Inc. - VP & CFO [23]

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8.

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [24]

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Sorry, 8 devices less internationally. So we started Q4 with 44 devices less. So by -- if you take the revenue from these 44 devices and separate it out, you will see that the -- everything else went up faster just in order to catch up with adding these devices. Simply said, if we counted the revenue in the beginning -- if we used -- systematically, if we use the installed base at the beginning of the quarter, you will see a much faster growth in revenue per device. If we count at the end of the quarter and the time that we grow the installed base, you will see a slower growth. We are consistent in the way we count. So we count it at the end of the quarter every time. The 820 at the end of Q4 is the net number of devices at the end of the quarter, and that includes a large number of devices that were installed in Q4. We announced this in a preannouncement back in January, where there were 50 units installed in Q4 domestically and 14 removals. Most of these 50 units as in everything in the quarter happened towards the end of the quarter, and their revenue counts flows into -- or some of it flows into Q1. I hope that gives you an answer. That's the mathematics. It's -- as we grow the installed base, the challenge of catching up and then increasing is going to be bigger.

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Suraj Kalia, Oppenheimer & Co. Inc., Research Division - MD & Senior Analyst [25]

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Dolev, I know you all have given the $5.7 million to $5.9 million as the recurring revs for Q1, $6.4 million to $7.1 million as totaled. So we have some idea about Q1. I guess -- and I know you haven't given guidance per se for Q2. Let me ask it -- come at it from a different angle. For the geographies that you all have said, currently, at least domestically, don't seem to be behaving the same way as others on COVID-19, what percent of your business do they represent?

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [26]

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Suraj, it's a great question, but it's a question that is -- as I -- when I answered Jeff before, is a question that is changing daily. And we cannot -- we're not going to give out guidance today that's going to change tomorrow. The numbers that we saw at the end of February was that most of our territories at the end of February, grew by double-digit growth, some did not. That was not an effect of COVID-19 because there was no COVID-19 in the country at that time. But we were very confident at the end of February to say a double-digit growth for the quarter. The range of $5.7 million to $5.9 million reflects where we stand as of the beginning of -- as of the end of last week, based on the revenue we already have in the way it's being deferred out to Q2, and the range between $5.7 million and $5.9 million reflects what we believe is still going to come in between now and the end of the quarter, and the portions of that are going to be deferred out based on the split of accounts that are 30 days and the split of accounts that are 60 days. We will not be able to provide more detailed guidance for Q2 without knowing what regions are going to be affected and for how long. And -- so we know from a revenue perspective, we know what the deferral is flowing into Q2, but we don't know when Q2 will start producing revenue domestically as recurring revenue, and we don't know -- in the non-U. S. markets, when the concerns they have about their markets and each market is different, would be alleviated and they might move forward. We see China waking up and showing needs for things as of yesterday, and we hope that this is a good sign for the future. And we still see concerns in South Korea, and we see concerns in Japan.

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Operator [27]

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(Operator Instructions) Our next question comes from the line of Shawn Boyd with Next Mark Capital.

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Shawn Boyd, [28]

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Congratulations on the fourth quarter numbers, gentlemen.

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [29]

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Thank you, Shawn.

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Matthew C. Hill, STRATA Skin Sciences, Inc. - VP & CFO [30]

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Thank you.

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Shawn Boyd, [31]

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We've hit a bunch of things. So I'm really going to just touch on a couple. The growth in placements that you had in the back half of last year, you placed 66 systems on a net basis, if I'm looking at this properly over the 2 quarters there and that's versus single digits per quarter previously. It's great to see that acceleration. Is there any kind of an outlier event that we should be thinking about that drove part of that? Or are we now at kind of a new level of growth? And I realize the situation we're all talking about and dealing with right, front and center. But assuming we get through COVID-19 and we just -- we all start to come back to work and recover, help us on how we should think about your placements in 2020 on both domestic and international.

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [32]

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So by putting COVID-19 aside, if COVID-19 was not the subject of this discussion, you would have seen 2020 growth in placements that would use 2019 as a baseline and would grow from that. We have -- as you've pointed out, 2018, we had no growth in installed base, and we were replacing nonperforming or underperforming accounts with performing accounts. And in 2019, we started growing the installed base. And at the same time, growing the average utilization per account. And by that, growing the gross margin. We do see this process accelerating, mostly from these 2 sources of comebacks and large clinic groups. The large clinic groups have come around, and we are in discussions with multiple different groups, each one of them, multiple clinics. It's going to be a much easier decision for them now having gone after COVID-19 through a supply shock and a demand shock, where now our proposition of, we take the risk together with you and then we grow together, is going to be easier for them. As you have seen in Q4, out of the 36 net placements that we've placed in -- during Q4, 50 total placements, 14 removals, a very large portion of these came from the large group clinics because they realize that it's in their advantage to work with us. And I believe that this is going to be an even stronger trend into the future because a decision to make a large capital equipment investment and then try to build your own business in comparison to getting the capital equipment and then getting all of the support to help you to build the business is going to be a much easier decision. Our decision to expand on the other hand, is going to be based on our resource availability, how much cash we have. When we deploy a new clinic, there is cash involved in deploying the clinic. There's cash involved in giving them some advertisements. There's cash involved in increasing the sales team, pro rata to their number of clinics, and we will need to make a decision how fast we want to grow. We are comfortable with growing at a gross number of 50 per quarter as we grew in Q4 and a net number of 30, 35 as we grew in Q4. I don't know how fast or how soon we can get back to that growth rate, in light of what we see outside. But I've already put the warning signs in regards to COVID-19. Putting the COVID-19 aside, I believe -- we believe that there is a sufficient market to grow this fast, and there's a patient population to drive to these clinics.

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Shawn Boyd, [33]

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I appreciate that. Just one more for me, and that is on the equipment sales. Surprised to see the upside a little bit in the fourth quarter, great to see. We all care about recurring revenues. If there's more of it, we'll take that, too. The gross margin there was very strong, I'm guessing, just from the upside on the revenues. We're now guiding to a Q1 number, which -- just to be clear, this range includes the potential for pushouts on the equipment side or not? And help me as -- should we go back to thinking about a 40% gross margin or something more like the 45% gross margin that you guys did for the full year, last year?

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [34]

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Matt is going to answer the second half of your question, but the range relates to the difference between what we have in hand in purchase orders and what we have shipped, and I'm referring to the nonrecurring revenue. So I've already explained how we have guided Q1 in relation to the recurring revenue. We know what has happened up until yesterday, and we make an assumption on what will happen between now and the end of March. Most of it is going to be deferred out. So there's a very small range between $5.7 million and

$5.9 million. On the nonrecurring revenue, we know what has happened until yesterday that is we have received the purchase order. We have built the products, and we have shipped them out. What we don't know is what will happen between now and the end of the quarter in relation to other demand we have, purchase orders we have, whether we are able to ship them out. And in some cases, we literally cannot ship because of China. In some cases, we cannot ship because we're being told, don't ship, don't ship, it's crisis time, South Korea and Japan. And whether this is going to change in the next -- 2 weeks until the end of the quarter, and that's the reason for the range. So these numbers are backed by orders that are there that might or might not ship out the range as it's backed by orders that are there that might or might not ship out this quarter, and the demand is there in the market and it might be shifted towards the time that they can take it. I also need to point out to the fact that we're still operational in our 2 facilities, in California and Pennsylvania, as of today, Tuesday at 9:30 a.m. I don't know whether the Governor of Pennsylvania is going to issue a declaration of closure. And we do know, as of last night, that the San Diego County announced recommendation of closure of nonessential businesses, but they're not they're not mandating it yet. So we're still operating in the gray zone where both facilities are open, but I assume, as time moves on, this is going to change.

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Shawn Boyd, [35]

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Got it.

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Matthew C. Hill, STRATA Skin Sciences, Inc. - VP & CFO [36]

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And Shawn, the way we look at our margins in capital, which you know is -- we're more focused on the recurring revenue because of the higher margins. And we really -- we had record margins in that business segment in Q4. So we're very pleased with what we've done in that area. With respect to the capital, domestically, there is -- domestically, internationally -- well, domestically, we focus on 2 areas. One is strategic sales, which are going to be lower margin versus hospital sales, which will be higher. Hospitals don't espouse the recurring revenue model. But it's beneficial for us to have our units in those locations because they're prestigious.

Internationally, our capital margins will be impacted by product mix as well as region mix. So we anticipate, from that perspective, going forward, it's really tough to see with COVID-19 on how regionally it's going to be -- how our margins are going to be impacted, but we should be falling in that 40% to 45% range is the way I see it, depending on the impact of the virus and sales. If we have to shut down the plant, we start producing less. The inventory -- there may be additional costs that flow through in the COGS as part of that.

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Operator [37]

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Thank you. Ladies and gentlemen, at this time, I'll turn the floor back to management for any final comments.

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Dolev Rafaeli, STRATA Skin Sciences, Inc. - CEO, President & Director [38]

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Thank you all for coming to our Q4 2019 and the annual call, and we look forward to seeing you in our next update call. Thank you.

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Operator [39]

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Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.