Conformis, Inc.

Good afternoon and welcome to the first quarter 2021 earnings conference call for Performance, Inc. My name is Valerie and I will be your conference operator today. All I have in place on me to prevent background noise. After management's remarks, there will be a question and answer session. Before we begin, I would like to remind you that this call will include forward-looking statements within the meaning of federal security law, which are made pursuant to the safe harbor vision of the Private Security Litigation Reform Act of 1995. Any statements made during the call that are not statements of historical facts should be considered forward-looking statements. These statements involve material risks and uncertainties that could cause actual results or events to materially differ from those anticipated or implied by these forward-looking statements, including those discussed in the risk factors section of conformance public filing with the U.S. Securities and Exchange Commission. You should not place the undue reliance of the forward-looking statements conformance has claimed any obligation except as required by law to update or revise any financial projections or forward-looking statements, whether because of new information, further events, or otherwise. This conference call will include time-sensitive information and is accurate as of the live broadcast today, May 5, 2021. I will now turn the call over to Mark Auguste, President and Chief Executive Officer of Conformance.

Thank you and welcome to our first quarter 2021 earnings conference call. With me on the call today is our CFO, Bob Howe. We appreciate you joining us. In short, the year is off to a good start. Conformance's revenue was right where we expected it to be as we continued to manage through COVID-related headwinds. My thanks to the entire team, which continues to work relentlessly on our growth strategies. The healthcare industry continues to be impacted by COVID, resulting in hospitals operating at or near capacity, and thus impacting inpatient elective procedures. In addition, we believe COVID has affected the demand for knee arthroplasty, but as vaccination rates continue to improve, we believe we will see patients feeling less anxiety and making office visits and undergoing elective procedures. Like others, we believe we should start to realize the transition back to normal demand levels in the second half of 2021. Of course, this assumes that we don't experience anything unforeseen or unexpected. Our current goal is to have fourth quarter product revenue match or exceed the product revenue we realized in the fourth quarter of 2019. It has only been a short time since our fourth quarter call. However, I would like to take a moment to update you on our current growth strategy. Number one, grow our core knee business. Conformis is best known for its knee implants, and this accounts for over 90% of our revenue. Since most of our patients have been dealing with knee pain and discomfort for an extended period of time, their surgeries are most likely treated as elective. This means that our business has been impacted by the abnormally high levels of deferred elective procedures over the past 12 months. As knee replacement patients return, we believe we will see a corresponding improvement in business. More importantly, as we launch our new products and focus on the ASC, we expect to achieve procedure growth. We believe our needs deliver the best outcomes for those patients needing full or partial knee replacements, and we believe our efficient delivery model will increasingly be preferred as the market seeks efficiency savings. Number two, grow our HIP business. During the first quarter, we hit 700,000 revenue, which was 49% growth over the first quarter of 2020. This performance was in line with our pandemic adjusted internal expectations, But we don't like the fact that the pandemic has put us off our original business plan. We're working hard to get back in line with our internal more aggressive expectations to grow our hip franchise. The good news is that with the December 2020 commercial launch of the Kedara Match Hip System, we are driving incremental customer interest, and this should work in our favor, especially as we are able to train surgeons at rates more comparable to the pre-pandemic model. We remain excited about the traction we're getting with our HIP offering and are committed to investing in our product and commercial activities to maintain growth. Number three, continue to drive R&D efforts, launching new and differentiated products. We have several products in the pipeline, including three that we believe will be particularly impactful to our financial performance once they launch. The first is our anticipated new knee system, which we have named Identity Imprint. This system is expected to complement our personalized knee offering extremely well and will help us further penetrate the ASC and outpatient segment for total knee arthroplasty. Our 5K application is with the FDA for review with no significant update to report. While FDA clearance is pending, we are preparing our marketing and sales teams to ensure that we are ready to attract and train surgeons on the use of our new product later this year. The second is our cementless need. As I've outlined before, timing for the cementless product was delayed last summer due to resource constraints. Those constraints are now gone due to recent and expected infusions of capital, and we are working hard to get this product back to its original timeline. For now, we plan on launching this product by Q1 of 2022, which is consistent with the view we shared on our last earnings call. The third is our plan to introduce additional HIP stems that will complement our HIP portfolio in 2022. Having successfully completed the Striker Development Program, we have restructured our development team to add more resources and bring dedicated leisure to our HIP programs. And lastly, number four, continue to monetize our intellectual property. Because we successfully achieved the final milestone under the Stryker Development Agreement, we will receive an $11 million payment from Stryker and can now focus on manufacturing and supplying patient-specific instrumentation to Stryker. We have recently granted a non-exclusive license to a subset of our patents so that Paragon 28 can use our patient-specific instrumentation IP with their off-the-shelf implants in their Apex 3D total ankle replacement system. Conformance will receive $1.5 million from Paragon 28. Protecting our intellectual property is a strategic imperative for us, and we have a strong team of employees to do this. Through mutual agreements and litigation when necessary, Conformance has successfully and strategically licensed its technology to a number of respective companies. These licenses have generated over 50 million to date, and we continue to zealously protect conformance's position as a leader in patient-specific instrumentation and implant technology. In summary, we are pleased with the progress we are making on our growth strategy. Before I turn the call over to Bob, I'd like to touch on our capital infusion of nearly 80 million of net proceeds in mid-February. This cash provides us with the necessary runway to drive our growth strategy and it gives us reasonable cushion as we operate in the face of COVID headwinds. The first area where we have started to significantly invest this cash is our sales and marketing organization. Specifically, we've added a new dedicated sales leader to lead commercial activities targeting the ASC space. In addition, we are adding two to three new marketing resources to support the launch of our new imprint knee system and adding more medical education events to the calendar in order to more aggressively train surgeons. We believe that through these efforts, we will increase the number of surgeons who use conformance hip and knee products. The second area of investment is R&D. Our goals for incremental investment in R&D are as follows. Ensure proper resourcing to meet scheduled timelines, bring forward hip improvements in software and implants, restart our new third-generation partial knee program, and appropriately explore complementary technologies. Let me now turn the call over to Bob for a more detailed financial review. Bob?

Thank you, Mark, and good afternoon, everyone. Although Mark has already hit the highlights, I will start with our recent public offering since it was the most significant financial event of the first quarter. As a reminder, the offering was for just under 81 million shares at a price of $1.05 per share and closed on February 17th. The net proceeds were $79.6 million. We believe this capital infusion positions us well to execute on our growth strategy and provides the runway needed to reach cash flow breakeven. On the Stryker development front, we recently announced the achievement of the last remaining milestone, which was contingent on receiving FDA clearance. As a result of meeting this milestone, we now expect an $11 million payment from Stryker, which should be received in the second quarter. As a reminder, To date, we have not yet recognized royalty and licensing revenue in connection with the Stryker agreement. With the successful completion of the third milestone, we will recognize $25 million of royalty and licensing revenue in the second quarter of 2021. This final milestone is a testament to Conformist's significant development expertise, and we are excited about the next phase in our relationship with Stryker, which plays to another area of our expertise. manufacturing high-quality, patient-specific instrumentation. We now look forward to executing on our long-term supply and distribution agreement with Stryker. Lastly, as a reminder, during the quarter, we work with our partner, Innovatis, to amend our term loan agreement on March 1st. As part of that amendment, the revenue covenants will waive for the remainder of 2021 and lowered for 2022. I will now move to the financial highlights that Mark did not cover. We reported first quarter revenue of $13.8 million, representing a decrease of 16% year-over-year on a reported basis and 17% on a constant currency basis. First quarter product revenue was $13.7 million, representing a decrease of 16% year-over-year on a reported basis and 17% on a constant currency basis. Sales of our new products were $13.1 million, representing a decrease of 18% year-over-year on a reported basis and 19% on a constant currency basis. Sales of our conformance HIP system were approximately 700,000, an increase of 49% year-over-year on both a reported and constant currency basis. U.S. product revenue was 11.6 million, representing a decrease of 16% year-over-year. U.S. sales of our knee products were 10.9 million, an 18% decline year-over-year. The rest of world product revenue was $2.1 million, a decrease of 14% year-over-year on a reported basis and 22% on a constant currency basis. Our first quarter gross margin was 45% of revenue compared to 44% of revenue for the same quarter the prior year, an increase of 80 basis points. This was driven primarily by lower canceled case inventory expense, partially offset by manufacturing variances resulting from lower production volumes. Total operating expenses for the first quarter were flat year-over-year, but there were a few variances within the different functions that I'd like to call out. Sales and marketing expenses were down $1.5 million, primarily due to lower marketing event, program, and advertising expenses, as well as lower sales commissions and travel expenses. R&D expenses were up by $600,000, primarily due to increased personnel costs as we continue to invest in our product pipelines. G&A expenses were up by $900,000, driven by higher legal fees related to the protection of our intellectual property. As Mark outlined, we are planning for some incremental investments in our sales, marketing, and R&D organizations to drive our growth strategy. Additionally, we expect an increase over the next three quarters in our litigation-related activity of $3 to $4 million to further protect our intellectual property. As a result of these expected increases, We anticipate sales and marketing expense to be between $26 and $27 million for fiscal year 2021, R&D to be between $16 and $70 million, and G&A to be between $28 and $29 million. Moving to our bottom line performance, net loss was $11.5 million, or $0.09 per share, compared to net loss of $9.4 million, or $0.14 per share, for the same period last year. Net loss in the first quarter included foreign currency exchange loss of $1.8 million compared to foreign currency exchange loss of $0.7 million in the same period last year. We significantly strengthened our balance sheet during the first quarter. We had cash and cash equivalents of $104.6 million as of March 31, 2021, compared to $28.7 million as of December 31, 2020. Lastly, I would like to provide some thoughts on our outlook. Our practice of providing full year guidance remains suspended due to the heightened level of unpredictability and volatility caused by COVID. However, we are giving next quarter guidance and some thoughts on the second half of the year. Based on our performance from April and our forecast for May and June, we expect our total product revenue to be between 14 to 14.5 million, which is a modest sequential improvement from the first quarter. As we exit a Q1 and through the month of April, We have seen sequential improvement in our weekly CT scans, which is encouraging. However, given the lag time between scan date and the actual surgery date, we expect Q2 revenue to continue to be negatively impacted by the overall market decline in elective procedures, as well as the decline in office visits seen in Q4 and Q1. We are cautiously optimistic about the positive trend we've seen in our scans, as well as the progress that has been made in vaccination adoption worldwide. We continue to believe that office visits and elective procedures will continue to improve through Q2 and into the second half of this year, assuming, of course, that there's no unanticipated complications with vaccinations or new COVID variants. With the anticipated improvement in the overall elective procedure market, we do expect to sequentially grow our existing base business in both the third and fourth quarters. In light of where we are today, and as Mark stated earlier, our goal is to have fourth quarter product revenue match or exceed revenue realized in the fourth quarter of 2019. With that, I'll turn the call back over to Mark.