Electromed, Inc.

Greetings. Welcome to the ElectroMed Fiscal Second Quarter Earnings Call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. Please note, this conference is being recorded. I will now turn the conference over to your host, Mike Cavanaugh, ICR of Westbrook. You may begin.

Good afternoon and thank you for joining us today. Earlier today, ElectroMed Incorporated released financial results for the quarter-ended December 31, 2021. The release is currently available on the company's website at www.smartbest.com. Kathleen Scarvin, President and Chief Executive Officer, and Mike McCourt, Chief Financial Officer, will host this afternoon's call. As a reminder, some of the about the company's future operating and financial results and plans. Such statements are subject to risks and uncertainties that could cause actual performance or achievements to be materially different from those projected. Any such statements represent management's expectations as of today's date. You should not place undue reliance on these forward-looking statements. And the company does not undertake any obligation to update or revise forward-looking statements, whether as a result of new information, future events, or otherwise. Please refer to the company's SEC filings for further guidance on this matter. I will now turn the call over to Kathleen Scarvin, President and CEO of Electromed.

Thanks, Mike, and thank you to everyone joining the call today. As always, we appreciate your continued support of Electromed. The fiscal second quarter of 2022 was record-breaking for Electromed. We are incredibly proud of what we have achieved to enhance Electromed's position as a leading provider of airway clearance devices. We achieved a record revenue of $10.2 million in the quarter, our second sequential quarter of record revenues. We believe this indicates that our strategic growth initiatives are beginning to yield the high results we anticipated, and this displays our team's strong execution in the face of the continued pandemic and tight supply chain. The fact that we have significantly exceeded pre-pandemic revenues demonstrates the values patients place on our SmartVest airway clearance therapy to help them manage their chronic lung diseases. Our revenue growth in the second quarter of fiscal 2022 was driven by our core home care segment, which grew 5.6% year-over-year to a record $9.4 million. On a year-to-date basis through the first six months of our fiscal year, our home care revenue is up 14.2% compared to the prior year. Our home care revenue growth in fiscal 2022 has been driven by an increase in referrals from the ongoing expansion of our sales footprint and sales rep productivity exceeding our goal. We did experience some turnover, having 39 direct home care sales reps at the end of the current quarter compared with 41 at the end of the prior quarter. As I mentioned in our previous earnings call, our goal is to staff 43 sales territories directly. While we work to hire top talent to fill these positions, we are leveraging our entire team, including support staff, to ensure we are selling in all 43 territories. Since our last call, we have internalized the recruiting function and strengthened our training and onboarding process, which has helped us achieve strong productivity levels. I am also pleased to note that our sales reps continue to impress with Home Care Direct annualized sales productivity of $951,000 per rep, significantly above our targeted range of $800,000 to $900,000. If you recall, we revised productivity targets upward last quarter. As I touched on earlier, this team has done an excellent job selling when their access to doctors has been limited. Looking ahead, we will continue to focus on the four key areas of our strategic growth plan. Continued sales force growth, direct to consumer marketing, infrastructure to support our anticipated sales growth, and clinical studies to further promulgate the body of evidence supporting SmartVest airway clearance and its ability to provide positive outcomes for bronchiectasis patients. As evidenced by our second consecutive quarter of record revenues in a challenging environment, we believe these initiatives are beginning to pay off, and we will continue ahead on this path. Alongside our strategic growth initiatives, we are also looking to break new ground in airway clearance technology with the next generation SmartVest. We will continue to allocate the necessary resources to complete the development and subsequent commercial launch of our next generation SmartVest. The new SmartVest will have multiple value-added innovation and promises to be smaller and lighter weight, less expensive to make. and with the same differentiation as our current SQL model, allowing patients to take deep breaths more easily than the competition during therapy. The new product will deliver all these benefits without sacrificing performance and should prove to be a compelling value proposition for an expanding patient population. Importantly, we remain on track to launch the new SmartVest airway clearance system in the first half of fiscal 2023. Data indicates there are approximately 600,000 people diagnosed with bronchiectasis in the U.S. and could potentially benefit from HFCWO therapy. This is based on recent company research and supported by published studies. More telling, we estimate that only 77,000 of this group are currently being treated with HFCWO therapy. This demonstrates a significant untapped market and we are confident that the new and improved SmartVest will provide a competitive advantage as we seek to penetrate that patient group. We also continue to focus on generating clinical evidence to support the use of SmartVest as a key treatment for bronchiectasis. Evidence to date has shown a clear reduction in both hospital visits and infections. And we see it is our job to ensure that pulmonologists grasp the true value of SmartVest. Before turning the call over to Mike to discuss financial results, I want to update you on our search for a chief commercial officer. As we have shared earlier, the chief commercial officer is a strategic and critical role for Electromed that will further strengthen our marketing and sales strategy execution in support of revenue growth. This key role will provide direct oversight and additional energy to the initiatives that are starting to pay off. We are confident that our new Chief Commercial Officer will help optimize the return on these investments and create value for our shareholders. Currently, we are in the final stages of our selection process and have been extremely pleased with the qualification of the candidates. We look forward to updating you on our progress. With that, I will turn the call over to Mike, our Chief Financial Officer, to discuss our financial results. Mike?

Thank you, Kathleen, and good afternoon, everyone. Our net revenue in the second quarter of fiscal 2022 increased 7.9% to 10.2 million from 9.5 million in the second quarter of 2021, driven primarily by higher home care and distributor revenue. Home care revenue increased 5.6% to 9.4 million, primarily due to an increase in referrals and approvals. As Kathleen mentioned earlier, Electromed benefited from an increase in direct sales representative and an increase in overall sales representative productivity compared to the prior year period. Institutional revenue increased 7.8% to $333,000 due to an increase in the volume of devices and garments sold as hospitals returned to more normal purchasing activity compared to the prior year period, which is heavily impacted by COVID-19. Distributor revenue increased 159.7% to $387,000. The growth in our distributor revenue this quarter was driven by increased selling focus from one of our key distributors. International revenue, which is not a key strategic priority for ElectroMed, declined by 8.1% to $124,000 this quarter. Gross profit in the second quarter of fiscal 2022 increased to $7.9 million, or 76.9% of net revenue, and $7.5 million, or 79.2% of net revenue, in the second quarter of fiscal 2021. The increase in gross profit dollars this quarter was primarily due to stronger home care and distributor revenue. The decrease in gross profit percentage this quarter was primarily due to increased raw material costs and increased shipping costs. We had noted rising costs during our last earnings call and expect this trend to continue for the balance of fiscal year 2022. We expect our gross margin percentage to be in the mid 70% range for the remainder of fiscal year 2022, which is on the low end of our historical gross margin percent range. We do expect an increase in gross profit percentage once our next generation device is fully launched in fiscal year 2023 due to a lower product cost structure compared to our current device. Selling, general, and administrative expenses increased to $6.5 million in the second quarter of fiscal 2022 from $5.4 million in the prior year period, reflecting increased investments in both commercial expansion and infrastructure projects to support future growth. As a percentage of net revenue, SG&A expenses were 63.2% of revenue in the second quarter of fiscal 2022 compared to 57.2% in the second quarter of fiscal 2021. We incurred higher SG&A costs compared to the prior year for payroll and compensation, travel, meals, and entertainment, and higher professional fees. Higher payroll and compensation related expenses were primarily due to a higher average number of sales and marketing personnel, increased reimbursement team resources to process higher patient referrals, increased temporary resources to assist with system infrastructure investments, and increased incentive payments on higher home care revenue. Higher travel, meals, and entertainment expenses were primarily due to our sales representatives resuming closer to normal levels of travel compared to the COVID-19-driven travel restrictions in the prior year. Higher professional services fees primarily related to key investments in our systems infrastructure, including implementing a new ERP system, enhancing our customer relationship management system, and further optimization of the revenue cycle management system that was implemented in June 2021. We expect the system infrastructure investments will result in more efficient and scalable operational processes and provide enhanced analytics to drive business performance. Research and development expenses totaled $329,000 in the second quarter of fiscal 2022 or 3.2% of net revenue, compared to $507,000, or 5.3% of net revenue, in the comparable prior year period. As Kathleen mentioned, we continue to invest in our next generation device this quarter and expect to launch the product in the first half of fiscal 2023, following the 510K clearance by the U.S. Food and Drug Administration. Operating income totaled $1.1 million in the second quarter of fiscal 2022, compared to $1.6 million in the second quarter of fiscal 2021, reflecting our increased strategic investments in SG&A, partially offset by stronger revenue performance. Income tax expense totaled $244,000 in the second quarter of fiscal 2022, compared to $389,000 in the second quarter of fiscal 2021. The effective income tax rate this quarter was 22.6%, and we expect our effective tax rate for the full fiscal year to be in line with recent historical tax rates. Net income for the second quarter of fiscal 2022 was $838,000, or 10 cents per diluted share, compared to 1.2 million, or 13 cents per diluted share, in the second quarter of fiscal 2021. Now, moving to the balance sheet and statement of cash flows. Our balance sheet as of December 2021 includes cash of 10.5 million, accounts receivable of 19.1 million, no debt, working capital of 27.8 million, and shareholders' equity of 33.5 million. Net cash provided by operating activities totaled $470,000 in the most recently completed quarter. During the quarter, we also repurchased 55,687 shares at a total cost of $663,000. Finally, key priorities for future allocation of capital include continued reinvestment in our core strategic priorities and our share repurchase plan. We appreciate your continued support of ElectroMed and look forward to delivering on our four strategic pillars in the third and fourth quarters of our fiscal year. We will now open the call for questions.

At this time, we will be conducting a question and answer session. If you'd like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment, please, while we poll for questions. Our first question is from Kyle Bowser with Colliers. Please proceed with your question.

Hi, good afternoon. Thanks for all the updates here. So it sounds like margins will be pressured to some extent for a couple quarters given the higher raw material and shipping costs. And since reimbursement is, of course, fixed, presumably it is needed to increase price. But it sounds like the next-gen system is cheaper to make, given its smaller form factor. Did I understand that correctly? Could that kind of offset some of the higher costs? Any sort of thoughts here would be great. Thank you.

Hi Kyle, it's Kathleen here. Good to hear from you. Thanks for the question. And yes, we mentioned that last quarter that the supply chain constraints are providing higher cost components and there's expediting fees occasionally and also shipping costs. So we will expect those margins to be in those mid 70s as we go forward. Your other question was about the lower cost structure on the bill of materials for our next generation. Absolutely. We are still anticipating that that will be a lower bill of materials than our current SQL SmartVest. And so that's where we would expect to regain some margins as we introduce that in the first half of fiscal 2023.

Gotcha. I mean, any sort of ballpark range of how much cheaper it will be to make the next-gen version?

Well, I think initially it's going to offset those component costs that we're dealing with because of the supply chain situation. And then we expect that it might improve beyond that as we gain more traction with a substantial amount of that being our volume that we'd be shipping.

Gotcha. Appreciate that. And then any thoughts on, I mean, there's certainly a massive opportunity ahead of you for bronchiectasis, a big prevalence pool, and you've got a best-in-class device that you can take share with. And so maybe that will keep you plenty busy. I'm just kind of curious, any thoughts on layering in additional products that you can utilize at the same call point through pulmonologists. I'm just kind of curious if that would make sense to be able to have multiple products in the bag and maybe more specifically in any way to monetize SmartVest through those new remote therapeutic monitoring reimbursement codes that came out. Just kind of curious on that too.

We're always, of course, open if some opportunity might come up around an additional product, Kyle. But you're absolutely right in mentioning that we do believe that this is an underpenetrated market. We're excited about the market share opportunities that we see in the immediate future. And then, of course, with our next generation product, the additional innovative features that we're going to be providing we think that that's going to be very helpful for us as well to continue penetrating the market and tap into those patients that are still not benefiting from HFCWO therapy. So I think that near term that will continue to be our focus and our opportunity. But again, if an opportunity dropped in our lap, we wouldn't ignore it, of course. As far as the remote monitoring codes, we're still doing some in-depth research on those codes to understand could there be benefit for us as well as for physicians. And for those that might be on the call that aren't aware, there were new remote monitoring codes for physicians and for companies that have remote monitoring on some of their home care devices. And so there could be some opportunity to monetize that or better leverage our SmartVest Connect for the physicians as a value add. So we'll update you as new information comes about for that. At this time, we're still assessing what the opportunity may be.

Gotcha, and I'll appreciate that. And then just lastly, kind of circling back to the opportunity here, I mean, it's a massive untapped opportunity for SmartVest. but presumably there's a lot of patients sitting out there in the prevalence pool that have never been treated with HFCWO and maybe they're harder to acquire, if you will, the cost to acquire those patients is probably much higher than it is to prescribe a smart vest to someone that's entering the market through an initial diagnosis or the incident. I guess I'm just kind of wondering what What's the associated cost with acquiring someone that's been out there for a while in the prevalence pool or maybe asked in a different way? What's kind of your mix of new patient ads for looking at people who are just entering the market for the first time, just starting to have exacerbations versus those that have been dealing with this for a long time?

Thanks for that question, Kyle. There's two ways that I typically will look at that pool of patients. So for us, based on research that we've done, the majority of patients that are prescribed HFCWO have been struggling with repeat exacerbations for a period of time. And that could be two years, it could be five years. But they are often, have experienced those those lower respiratory infections, have had a chronic cough, and they've been visiting their primary care physician or pulmonologist for quite a bit of time. And so that's the opportunity. We believe that that's part of our selling process. The opportunity is to be working with physicians that diagnose bronchiectasis, and talking to them about these patients that have repeat exacerbations and asking, why haven't you prescribed HFCWO when it's been proven to reduce hospitalizations and improve outcomes for these patients? So that's part of our selling process, absolutely. And there's that large pool of bronchiectasis patients that have not been using HFCWO, so that's who we're targeting, and it's the physicians that are seeing those patients. The other opportunity, as I said, is through our direct-to-patient marketing. So as we're out marketing SmartVest to patients who are sick of being sick, and they're out researching on the Internet, as well as their caregivers, why has my mom, my dad, why am I continuing to have these lower respiratory infections? I've been hospitalized two or three times. They keep putting me on antibiotics. What could help me? And that's where SmartVest comes in and pops up when you're searching some of those keywords, takes them to our website. We then, when they sign up, we send them information, and then we follow up with them directly with a phone call or a text and talk to them about their chronic condition. And through that conversation, we can direct them to a SmartVest-friendly physician who understands how to diagnose bronchiectasis and the benefit of HFCWO, or we can help them on how to talk to their physician about their situation and what might be helpful. So I think that your question really is a great question, and that's how we're continuing to help bring new patients to SmartVest.

Excellent. Thank you, Kathleen. Super helpful, and congratulations on record results.

Hey, thank you so much. Great to hear from you.

We have reached the end of the question and answer session, and I will now turn the call over to management for closing remarks.

Thank you all for joining our call this afternoon. Please reach out to our investor relations firm, ICR Westwick, if you are interested in scheduling a follow-up call. We look forward to reporting back to you in May when we will release our third quarter fiscal year 2022 results. In the meantime, thank you for your continued support of Electromed, and have a great evening.

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