Cutera, Inc.

Greetings and welcome to the QTERA's fourth quarter 2021 earnings conference call. At this time, all participants are in a listen-only mode. A brief 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. As a reminder, this conference is being recorded. The discussion today includes forward-looking statements. These forward-looking statements reflect management's current forecast or expectation of certain aspects of the company's future business including, but not limited to, any financial guidance provided for modeling purposes. Forward-looking statements are based on current information, that is, by its nature, dynamic, and subject to change. Forward-looking statements include, among others, statements regarding financial guidance, regulatory approvals, productivity improvements, and plans to introduce new products and expand into additional geographies. For those that may identify forward-looking statements, we encourage you to refer to the Safe Harbor Statement in our press release earlier today. All forward-looking statements are subject to risks and uncertainties, including those risk factors described in the section entitled Risk Factors in our Form 10-K. as filed with the Securities and Exchange Commission, and updated in our Form 10Qs, subsequently filed. QTERRA also cautions you not to place undue reliance on four linking statements, which speak only as of the date they are made. QTERRA undertakes no obligation to update publicly any four linking statements to reflect new information, events, or circumstances, or to reflect the occurrence of unanticipated events. Future results may differ materially from management's current expectations. In addition, we will discuss non-GAAP financial measures, including results on an adjusted basis. We believe these financial measures can facilitate a more complete analysis and greater transparency into QTERA's ongoing results of operations, particularly when comparing underlying results from period to period. Please refer to the reconciliation from GAAP to non-GAAP measures in our earnings release. These non-GAAP financial measures should be considered along with, but not as alternatives to, the operating performance measures prescribed by GAAP. With that, I would like to turn the call over to our CEO, Dave Mowry.

Thank you, Shmuley, and welcome to everyone listening to the call. We're glad that you could dial in for this update. Joining me on today's call is Rohan Seth, our Chief Financial Officer. Over the course of the call, I will be providing an overview of our record fourth quarter performance along with some operational highlights and commercial insights we have gathered over the course of running the business. Rohan will then provide a detailed review of our results and the outlook for our 2022 financial performance. Following that, I will provide some additional comments including a brief update on our efforts to bring to market a very exciting and innovative energy-based solution for acne. We will then open the call to your questions. Now, moving on to the financial update. During the fourth quarter of 2021, our business continued to improve over prior periods, showing strength with record revenue levels in both capital equipment and consumable product categories. These strong results were headlined by an especially robust North American performance, where the improvements we've made to our commercial organization and the progress on implementing our commercial strategy enabled us to leverage the strong underlying market fundamentals that have come from steadily increasing treatment volumes fueled by a resilient patient traffic in core aesthetic practices. In terms of our commercial organization, the growing momentum from our key account manager strategy was evident in our fourth quarter 2021 consumable sales performance. we believe that our key account managers have provided additional momentum to our North American capital sales. As a reminder, our key account managers, or CAMs, are field-based resources who partner with our customers, enabling practices to increase revenues from their Keterra treatments that they offer. In turn, the ensuing greater device utilization increases Keterra's consumable revenues while the support from our key account managers provides a higher level of service to our customers and to their patients. We have already begun hearing from customers that they recognize and value the presence of Kuterra's key account managers and appreciate our alignment to the financial performance of their practice, thereby making the decision easier to adopt other Kuterra energy-based equipment. Overall revenue for the fourth quarter was $65.6 million, a 31% increase compared to prior year, setting a new record revenue level for the company and capping off a year of robust growth across our business. This record revenue performance is attributed not only to ongoing treatment volume trends as compared to prior years, but even more so to the steady execution of our customer-centric sales strategy by our direct sales teams. Capital equipment sales were the most significant driver of revenue growth during the fourth quarter of 2021. In particular, our North American capital sales force delivered a standout performance during the quarter by leveraging our entire portfolio products, highlighting product performance, total cost of ownership, and Keteria's increased post-sales support commitment from our key account manager strategy. I am particularly proud of our North American capital sales team who built momentum over the course of 2021 and delivered Q4 revenues eclipsing pre-COVID levels. Our overall international capital equipment sales provided a nice lift over prior year, led by the performances of our direct sales team in the EU and our international distributor markets. The Japanese and Australia teams began fourth quarter working through hangover impacts from COVID-related challenges in the third quarter, and made progress throughout the quarter, building momentum going into 2022. With regard to recurring revenue, record-level consumer products sales offset slight weakness in our service revenues. This weakness in service was not the result of any fundamental softness in the market, but instead it was driven by a purposeful decision by management. Given our record capital performance layered over a sluggish global supply chain, we made the choice to prioritize the manufacture and placement of new products over replenishing distributor inventory of service parts. While this was not ideal, we believe that we struck an appropriate balance within the quarter between customer demands and distributor needs. Our team is partnering with our key suppliers to provide longer-term visibility into our increasing demand and expect to clear up any pent-up demand for service parts over the next two quarters as we have line of sight into replenishment deliveries. Consumable product revenue experienced robust growth during the quarter, providing an early indication of the success we can anticipate from our key account manager strategy. With the ongoing expansion of our active install base of systems from capital sales, combined with an increased number of key account managers now on board, We anticipate that the trend of consumable revenue growth witnessed in the fourth quarter of 2021 will continue into 2022. While there is a potential for a portion of the fourth quarter consumable volume was tied to purchases by customers ahead of expected robust demand in the new year, we do expect that the underlying treatment volume will remain strong going into 2022, supported by our key account manager activities. Skincare revenue of $10.7 million represents only a slight growth over prior year period, but it was a sequential decrease as compared to third quarter 2021. This was fully anticipated as we had mentioned on the third quarter 2021 earnings call, pre-buying in advance of the announced price increase was significant. We estimate the impact in the period to be approximately $2 million. implying a quarterly run rate for skincare business to be in the range of 12 to 12.5 million per quarter. Skincare ordering patterns will settle back into a normal cadence over the first half of the year, and we can expect to see this product category return to growth at or above market rates. Before I turn the call over to Rohan, I will comment first on our gross margin expansion, which is one of our vital few initiatives. During the fourth quarter of 2021, the team delivered another strong performance by implementing cost savings programs to help offset the inflationary pressures such as increased freight expense, higher component costs, and the required processing and special expediting fees associated with pulling in supply deliveries. While we have done a good job building inventories in front of some of the inflationary headwinds, our team's efforts on cost reductions will become increasingly important over 2022. With regard to operating margin, we will remain committed to running the business effectively and efficiently and will continue to make judicious investment decisions that fuel growth. With that, let me turn the call over to Rohan to provide some additional color on our financial performances as well as share our outlook for full year 2022.

Thank you, Dave. As I review my prepared remarks, I want to note that I will be discussing some non-GAAP results. A complete reconciliation of GAAP to non-GAAP is included in the earnings release. We encourage listeners and readers to review our non-GAAP metrics in conjunction with the GAAP results as contained in our earnings release. Total revenue for the fourth quarter was $65.6 million compared to $49.9 million for the same period in 2020, representing an increase of approximately 31%. For the full year, revenue was $231.3 million compared to $147.7 million in 2020, an increase of 57% from the prior year period. Fourth quarter North American capital equipment revenue was $28.7 million compared to $18.4 million for the same period last year. International capital equipment revenue for the fourth quarter was 14.8 million, a 26% increase compared to the same period last year. For the full year 2021, North American capital equipment revenue was 86.1 million compared to 50.7 million in 2020, representing a growth rate of 70%. Full year international capital equipment was 53.5 million compared to 40 million in 2020, implying a growth rate of 34%. Following the investments made in late 2020 and early 2021, we are exiting 2021 having exceeded the high watermarks established in 2019. Recurring revenue defined to include our consumables, global service, and skincare product lines was $22.1 million in the fourth quarter compared to $19.8 million for the same period last year, representing a 12% growth over the prior year. For the full year, Recurring revenue was 91.6 million compared to 56.9 million in 2020, representing a 61% growth over the prior year. The increase in 2021 was largely driven by the continued strength in our skincare and consumable franchises, which bodes well for our continued growth. I would like to note here that over the course of the past three years, since 2018, our recurring revenues have grown from 19% to 40% of sales. Our long-term target remains to exceed 50% of total revenues, and we are very pleased with the progress we made last year. Non-GAAP gross profit for the fourth quarter of fiscal 2021 was $38.8 million, representing a nearly 250 basis point margin improvement compared to the same period last year. Non-GAAP gross profit for the full year 2021 was $134.2 million, a 72% increase and a more than 500 basis point margin improvement compared to 2020. The story for our margin improvement remained consistent all year, driven by a better sales mix and continued leverage of our fixed cost base while offsetting several supply chain and macroeconomic inflationary pressures. Total non-GAAP operating expenses for the fourth quarter of 2021 were $34.5 million compared to $23.6 million for the same period last year. Over a third of this increase, about $4.2 million, were investments to drive our ACNI initiative. Non-GAAP operating expenses for the full year 2021 were $113.5 million compared to $82.9 million in 2020. Now I will cover the OPEX details on a non-GAAP basis. Sales and marketing expense for the fourth quarter of 2021 was $22.3 million compared to $13.2 million for the same period last year. Sales and marketing expense for the full year 21 was 70.4 million compared to 46 million in 2020. R&D expense for the fourth quarter of 21 was 5.6 million compared to 3.7 million for the same period last year. R&D expense for the full year 2021 was 18.6 million compared to 12.4 million in 2020. Finally, G&A expense for the fourth quarter of 2021 was 6.6 million compared to 6.7 million in the same period last year. G&A expense for the full year 2021 was 24.5 million compared to 24.5 million in 2020. For the fourth quarter of 2021, our non-GAAP operating income, also known as adjusted EBITDA, was 4.3 million compared to 4.7 million in the prior year period, while adjusted EBITDA for the full year 2021 was 20.7 million compared to a loss of 4.8 million in 2020. I'd like to take a moment to provide some additional details on the company's profitability profile. It's worth noting that our EBITDA excluding the investments we made during the year to support the forthcoming commercialization of our Acne product would have been $8.9 million in Q4 and $30.2 million for full year 2021. We are very proud of our improvement in the underlying profitability. and these numbers are a direct result of the focus, collaboration, and discipline of our global QTERRA team. Our Q4 ACNI spend of $4.6 million was fueled by the encouraging market insights and clinical data we have gathered to date, and it's our belief that we will earn a very strong return on these investments on behalf of our shareholders. We're cautiously optimistic with the progress we have made on our ACNI device and will continue to invest judiciously. Finally, There were no material or significant changes to our tax position. Turning now to our balance sheet. We ended the quarter with $164.2 million of cash and cash equivalents compared to $47 million at the same time last year and $162.5 million at the end of the third quarter of 2021. We ended the quarter with $39.5 million of inventory, up $4 million from the third quarter, primarily driven by investments to prepare for the launch of our Acne device. Our balance sheet continues to be the strongest it has ever been in the history of Kutera and positions us very well to capitalize on the meaningful innovations being churned out by the best engineers in the business. Before I turn the call back over to Dave, I would like to provide you with our outlook for the full year of 2022. As we have navigated through the COVID pandemic and continue to deal with the lingering effects of its variants, We are very encouraged by the strong performance of our team, as well as the overall health and demand environment in our end markets. As a result, we are issuing revenue guidance for the full year of 2022 at $255 million to $260 million, implying underlying growth of 10% to 12% on a constant currency basis. This guidance does not include any revenue from ACME. In 2022, other than our investments in ACME, we intend to make additional investments to fuel the growth of our core business and build out our infrastructure. These OPEX investments of 4 to 6 million include initiatives such as ERP and will enable long-term scalability as well as accelerate the growth trajectory of our business. Additionally, we anticipate our gross margin to experience near-term cost pressures in the range of 2 to 3 million for the year, due to the ongoing global supply chain challenges. Regardless of these investments and supply chain challenges, we anticipate adjusted EBITDA to grow slightly ahead of revenues, underscoring the progress we've made against our profitability goals, along with the inherent leverage present in our business. For 2022, excluding investments associated with our ACNI program, our adjusted EBITDA on a constant currency basis would be in the range of 33 to 35 million. We expect our 2022 ACME program investments to be in the range of 15 to 20 million, notwithstanding timing adjustments based on future feedback from the FDA. We intend to manage the cadence and extent of our investments in 2022 to deliver foliar adjusted EBITDA to be at or near 2021 levels. As we scale QTERRA and absorb foundational investments while continuing to deliver on profitability goals, it emphasizes the progress we've made over the last couple years. With that, I will now pass it back to Dave.

Thank you, Rohan. As we've discussed throughout the call, we are very pleased with our Q4 performance, particularly with the strong commercial execution that allowed us to achieve these record results. The revenue performance from our capital equipment platforms, including TrueSculpt, Secret, and the Accel family of products, as well as our skincare and consumable product categories, position us to enter 2022 with strong momentum. Additionally, as many of you know, we have been working diligently over the past several quarters to bring to market a novel laser-based solution for the treatment of acne. Now I'd like to spend a minute or two updating you on some of the progress that we have made on this front. As we have spent several years working on this program to fine tune the product and design and develop a procedure to deliver safe and comfortable as well as effective solutions to acne patients without any of the corresponding side effects or risks of the current treatment modalities. Additionally, we believe that this procedure will provide our physician customers with the ability to convert patient spending on pharmacological and topical acne products into daily practice revenues. Recently, data from our internal safety study has been previewed at dermatology conferences. We are encouraged by the quality and the durability of our outcomes from this study with patients now followed out through 24 months post-treatment. The feedback from several physician reviewers has been quite positive, and we anticipate presenting more of these data at upcoming AAD and ASLMS conferences in March and April, respectively. Meanwhile, we wish to emphasize that we are not making any comments on the potential timing of either approval or launch of our acne solution. As Rohan had mentioned, our full-year 2022 guidance does not include revenue from acne. but we'll continue to provide updates on the progress as appropriate. With that, I'd like to turn the call over to the operator to open the call to your questions. Shmali?

Thank you. And at this time, we'll be conducting a question and answer session. If you would 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 two if you would 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 comes from the line of John Black with Stifel. Please proceed with your question.

Thanks, guys. Good afternoon. Maybe, Rohan, the first one for you, just the components or any color you're willing to give in the components of the 2022 guidance. I think everyone views it as very solid on the top line, the 255 to 260, but you've had a lot of moving parts between capital and consumables. So is there any color you want to provide on sort of the breakdown between capitals and consumables as we think about 2022? And then also anything to think about seasonality as we enter the first quarter of the year? And then I'll just ask my follow-up separately.

Thanks, John. This is Dave. Let me kind of lead this off, and then I'll turn it back to Ron. In regards to the mix, I think our mix continues to shift favorably towards recurring revenues, specifically growth in the consumable product lines as we continue to roll out and expand our key account manager strategies. So we would anticipate getting some benefit from those products, albeit somewhat limited based upon the core business. I think in terms of seasonality, I would expect we continue as we move through COVID and back to normalcy that the seasonality of the business will get back and continue to follow previous trends where you see some dip in the first and third quarters and then strength in the second and fourth quarters. So, you know, I think obviously it's in advance of summer treatments and then it's in advance of New Year's and holidays. That being said, I think that's kind of the baseline and what has factored into our bottoms-up forecast.

The thing I'd add to that is we've entered the year with very strong momentum in some extremely key markets, especially North America, and I think that bodes very well for 2022 as it unfolds. Additionally, I'd say we expect to continue to see strength in the recurring revenue segments. And I would expect those to continue to outpace our capital sales and make forward progress on our recurring revenue as a percentage of total sales. Got it.

Got it. That's perfect. That's really helpful. And then, you know, you guys threw out a lot of numbers, so my apologies in advance if I messed any of these up. But, you know, I think you talked about $4.6 million in spend in ACNI. I believe that was just in the quarter and maybe $15 million plus in spend in 2022. So, you know, Dave, do I have those numbers right, number one? But more importantly, maybe just help us with, you know, where's that spend going? Is it on education? Is it on sales reps? Just, you know, it seems like a lot of dollars going out the door and clearly an opportunity you're very excited about. But where are you spending ahead to sort of, you know, cultivate the market in advance?

Yeah. Yeah. I think that's a great question. So, you know, let me add some color first to the Q4 spend, and then I'll try to give you some color around the 2022 guidance. So, you know, in Q4, we spent, I'd say, about 10% on some COGS-related items, cost of sales items, about a third in R&D and clinical investments, and I'd say a little over half on Salesforce and marketing-related spend in preparation for an eventual launch. In 2022, I'd say we'd be spending these monies on preparation for this eventual launch. It'll continue to be in similar categories within R&D, clinical studies, marketing studies, and build out of the Salesforce.

Okay. And, you know, one more quick one, and hopefully I'm not going to, you're not going to throw a flag on me in this last one, but I know I'm going to get this question tomorrow that the 2022 guide, which came in ahead of the street, doesn't reflect any acne. And Dave, just, you know, a very specific question. This doesn't reflect any um, hesitancy on, or anything that's changed on the timeline is just very straightforward that you're providing guidance on currently approved products. Is that a safe assumption? Thanks guys.

That's a very, yeah, I think that's the right way to think about it. You know, we're not discussing the process, the timing of the data, but I think our, our investments in the fourth quarter indicate our increased bullishness on the product. as we've started to see some of that data. So there's no hesitancy from our perspective that we're excited about what we're doing and how we're doing it. It's just a matter of we don't have an approved product that's hard to guide until you can get out into the marketplace and really assess the speed of revenue uptake and ultimately the contributions we can bake into revenues.

Got it. All good. Thanks for your time, guys.

Thank you.

Our next question comes from the line of Chris Cooley with Stevens. Please proceed with your question.

Good afternoon and congratulations on a great finish to the year end. Just two quick ones for me, if I may. When we think about the growth going forward that you just put up in the fourth quarter and kind of how that momentum translates into calendar 22, can you help us parse out just where you're seeing signs of strength or pockets of strength from a channel perspective when we think about the med derm versus the cosmetic derm or a med spa. And similarly, and I apologize if I missed this in your prepared remarks, but I understand management's decision to gate growth on the service side, but did you provide a statistic there or a data point there for us in relation to what that number would have been had you been unconstrained in terms of your abilities to meet both the strong demand on new capital systems, which compared really favorably to your peers in the quarter, and also to support that service component as well. I've got one quick follow-up.

Okay, so let me take those in reverse order, Chris. I would say that we would have seen our service revenues in line with prior quarters is probably the best way to think about that. We didn't see any increase, significantly increased demand and service in the period. You know, that's something for us to think about and work on next year and drive some additional growth in those categories. But I don't think we would have been way out of line there. Got it. So, hopefully that's helpful. And remind me, you're specific of your first part of that question.

Yeah, I was just trying to parse out where you're seeing the most resilience or the greatest level of demand for the new capital, whether that's in the MedDerm channel, you know, cosmetic derm or the MedSpa.

Yeah, are you speaking specifically? This is what I was asking. North America, I'm sorry. Yeah, okay, thank you. Yeah, I think, look, in North America, I think – We've seen a lot of increase in demand on capital as we went through the course of 2021. We saw that for us and our products, I think we typically see higher-end applications. So historically, while we see good operations, strong med spas that have physician ownership and physicians present typically are great customers for us. But I think, historically, if you look broadly at our product, they tend to be more for the professionals. So, you know, we saw good core growth throughout the period across the core for aesthetics, which would be inclusive of derms, plastics that have non-invasive solutions, as well as med spas that are owned by physician and present on site. We did see some, you know, pocket growth around the non-core business. These are typically the result, in our estimation, of an increased reimbursement risk mitigation strategy in light of some of the inflationary pressures that they're facing. I think there are some things that are driving practices outside of the core to look at and evaluate very profitable procedures. I'll point out both the TrueSculpt and the Secret provide a very profitable outcome for those people that have it. We did see some growth in those other categories as well.

Just lastly for me, I'm just curious how you're thinking about this when you provided what, again, I agree with John's point. It's a very solid 22 guide, but there's a lot of activity in the space right now. We have Business is being divested from larger entities. We have others that are trying to make pretty strong pushes into new arenas. Just kind of curious what you're thinking about or what you're assuming from a competitive standpoint when you think about overall market growth and just general stability from a pricing and demand standpoint as we play through 2022. Thank you.

Yeah, I think it's a great question. You know, the overall market growth is high single digits, low double digits, depending upon where you play and how you play. Chris, our view here is that there are some sluggish international markets that we're accounting for early part of the year that will kind of recover and continue to recover over the course of the year. We feel very good about our ability to compete effectively in North America right now, in particular, and we believe that the CAM strategy we've rolled out will lead not only to higher recurring revenue streams from consumables, but also a better application and better uptake of our capital.

Thank you.

And a quick reminder, if anyone has any questions, you may press star 1 on your telephone keypad. Our next question comes from the line of Luis Chen from Canter. Please proceed with your question.

Hi, congratulations on the quarter, and thanks for taking my questions here. So my first question is on gross margin. How should we think about that year over year? Is it going to be up or down? I know you noted the $2 million to $3 million impact. And then secondly, on the OPEX, should we think about it increasing sequentially quarter over quarter, or is it going to be more first half or second half weighted? And the last question here is just on the skincare line. You said that you were looking at it to return to market growth rates in the second half of 2022, if I heard you correctly. And is that market growth rate the same as that high single and low double digit that you just talked about? Thank you.

Okay, so let me see if I can answer all of these in the order in which they were asked. So first question was around gross margin or expectations. I'd say we've had some really remarkable step changes in gross margin in the past year and a half or so, and what you should expect is that those step changes won't happen, at least here in the near term. We expect to see some normal seasonality in addition to some acne-related investments in the first half of the year, which will impact margin and there'll be some near-term pressure in the first couple quarters, after which you just start to see it sequentially increasing, ending up at close to flat for the year based on everything we see and know of right now. I'd end that answer by saying that we remain very committed to our long-term margin goal of 60% plus.

Before you go on, I think, you know, forgive me for kind of calling this out, but we're exceptionally proud of the folks in the supply chain who have done incredible work to offset what other folks are seeing as kind of significant reductions or significant increases in pricing of components. You know, in some cases, you know, other people we've heard of and seen have been almost extorted for price, whereas our guys have done a great job of not only getting alternate suppliers lined up, but even increasing some of our inventory at the previous pricing that we had seen. So I think our guys really have stood up tall to some of these pressures. Unfortunately, they will continue, and we're going to have to continue to deliver additional cost reductions over and above what we had originally planned for them to be focused on.

And so now to answer your question around, I guess, OPEX and profitability. So, you know, as you would have noticed in the press release, Luis, our EBITDA, adjusted EBITDA margin without the ACNI investments would have been in the low teens in 2021, which is Again, a really good turn in the results versus 2020 where we actually lost money for the year. I'd say this overall margin improvement trajectory is going to take a little bit of a pause in 2022, but it's very important to remember that the investments that we're making in ACNI have the potential to really change the scale of operation for QTERA. We fully expect, based on everything that we see, that we'll earn a very attractive return on those investments for our shareholders over the long term, and you should expect us to return to that progression that we saw in margin, but I would say that over the next couple of quarters adjusted EBITDA would be a little bit under pressure. Other question? Louise, can you please remind us the third question around skin care?

Yeah, I just wanted to see if your skin care sales that you said in second half 2022 recover to market rates. Is that market rate the high, single, low, double digits?

Yeah, you're kind of hitting the hammer on the nail there. You know, we see skin care growth in Japan, in that specific market we're in, in that high single-digit, right around double-digit range. We just think it needs to kind of settle out in the first and second quarter, and we'll get back to that growth beyond.

Thank you.

And we have reached the end of the question-and-answer session, and I'll now turn the call back over to CEO Dave Mowry for closing remarks.

Well, as you can tell from our results, we're exceptionally delighted with our performance and very much looking forward to the future, bringing this strong momentum into 2022. So we want to thank you all for listening to the call today and for your questions and look forward to providing you an update sometime in early May.

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