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spk06: Good afternoon and welcome to the ERGO Tech in Quarter 2022 Earnings Conference Call. All participants will be in a listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To withdraw your question, please press star then two. Please note this event is being recorded. I would now like to turn the conference over to Nick Ledeco, Senior Vice President, Strategy and Investor Relations. Please go ahead.
spk01: Good afternoon, everyone, and welcome to the ERGO Second Quarter 2022 Earnings Conference Call. As a reminder, this call is being broadcast live and a digital replay will be available on our IR website. Joining me on today's call are Christian Gormson, President and Chief Executive Officer, and Adam Oponis, Chief Financial Officer. Before we begin, I'd like to remind you that some of the matters discussed in this conference call will contain forward-looking statements regarding future events as outlined in our press release today. We wish to caution you that such statements are based on management's current expectations and beliefs, are forward-looking in nature, are subject to risks and uncertainties, and actual events or results may differ materially. The factors that could cause actual results or events to differ include but are not limited to factors referenced in our press release today, as well as our filings with the SEC. Before turning the call over to Christian, I want to make note that we have posted a historical gap to non-gap reconciliation table on our IR website in the events and presentation section. With that said, I will turn the call over to Christian.
spk02: Thank you, Nick, and thank you, everyone, for joining us today. The second quarter for ERGO can be characterized as transitionary. Approximately seven months after we learned of the investigation by the DOJ, we reached a civil settlement agreement with the U.S. government to resolve the DOJ investigation with no admission of liability. We have since cured our SEC filing delinquency, retaining the listing of Ergo stock on NASDAQ, and secured capital to fund our activities and pursue our omni-channel growth strategy. We also took several efforts to reduce our cash burn, including significant reduction in monthly media spend and an additional 17% reduction in our workforce following the previous 27% reduction at the end of 2021. Clearly, our second quarter financial results and year-over-year comparisons reflect our decision to stop accepting insurance as a form of direct payment on December 8, 2021, as well as the cash burn reduction initiatives I just mentioned. With volumes sequentially down as expected, we took the time to continue refining the efficiency of our cash pay business, reducing media spend to $4.1 million in the quarter, down $500,000 sequentially, but improving conversion rate to nearly 16%. Since our last call, we have made progress in enhancing our internal compliance and risk management processes, as well as building our infrastructure across revenue lifecycle management and claims processing to support any future reentry into the insurance market. We also continue to improve the customer experience both online and over the phone. From a financing perspective, we achieved a significant milestone in that we secured a strategic commitment of up to $125 million from Patient Square Capital, closing the first-range investment of $100 million in senior secured convertible notes on June 28th. We're now focused on completing a rights offering of 375 million common shares to existing stockholders by November 25th 2022 or within 150 days of the closing of the first launch investment. Adam will discuss a more detailed timeline in a few moments. As part of our financing process and in light of the events of the last 10 months, as well as the macro environment, management and the board took the time to evaluate our short and long-term business strategies. While we made several changes to improve focus and efficiency, we reconfirmed that our omnichannel strategy should continue to be the primary approach to returning Yirgo towards a growth trajectory. The capital from PatientSquare allows us to begin executing on that strategy, and we're excited to enter the second half of the year with a clear focus on our business priorities. Number one, potentially regain insurance coverage of ERGO for government employees under the FEHB program. We need to work with individual FEHB carriers to align on go-forward processes and require documentation to support insurance coverage. Although we are working to establish dialogues with third-party payers, we expect any negotiations with payers to last an extended period of time. and we do not plan to provide an update until, if, and when we have reached an understanding with payers. Number two, refine and expand our physical retail strategy. We continue to conduct retail pilots to better understand the optimal consumer journey in a physical retail environment and interact with our retail partners to refine our strategy for an expanded retail presence. Number three, optimize our cash paid business. Most recently, we improved conversion to nearly 16% in the second quarter on significantly reduced media spend. And number four, continue to invest in innovation to maintain an annual product launch cadence, which has historically driven new consumer demand and increased repeat customer business. Before turning it over to Adam, We also announced today that Peter Bisgard has stepped down from the company's board of directors effective August 3rd, 2022. With an expanding role at Pivotal and Manphone Life Sciences Fund, Peter has decided to dedicate more time to these increasing responsibilities. We're grateful for the insight and expertise Peter has brought to the board over the years and wish him well in his expanded role. Let me now turn it over to Adam for a more detailed summary of the next steps in our financing process and our second quarter financial results.
spk04: Thanks, Christian. Let me start with an update on the timing of the rights offering. One of our major company initiatives for the second half of 2022. In the second quarter, we achieved a significant milestone in that we secured a strategic commitment of up to $125 million dollars from patient square capital. This significant capital raise will enable us to pursue our omnichannel growth strategy. On June 28th, we closed the first tranche investment of $100 million in senior secured convertible notes, a short-term debt as a bridge to such time as we can issue equity to shareholders in our rights offering. Pursuant to the terms of the transaction agreement, we are focused on completing a rights offering of 375 million common shares to existing stockholders. which we intend to complete by November 25th, 2022, or within 150 days of the closing of the first tranche investment. And in any event, by December 24th, 2022. Prior to commencing the rights offering, we intend to seek stockholder approval to increase the number of authorized shares and issue the full potential amount of conversion shares at our annual meeting of stockholders to be held on October 12th, 2022. We do not intend for the record date for the rights offering to precede the date of the annual meeting. Now, moving to the summary of second quarter 2022 financial results. Our second quarter results and year-over-year comparisons reflect our decision to stop accepting insurance as a form of direct payment on December 8th, 2021, as well as the company's efforts to reduce cash burn. Second quarter 2022 net revenue is $7.2 million, down 68% year-over-year. The decrease was driven by a decrease in gross system shift as the company no longer accepted insurance as a method of direct payment as of December 8, 2021. Decreased average selling price and an increase in sales return rates as the company operated on a cash pay basis only during the three months ended June 30, 2022. Second quarter 2022 growth system shift were 4,455, down 65% year-over-year. The year-over-year change was driven by the company's decision to no longer accept insurance as a method of direct payment as of December 8, 2021. Second quarter 2022 return accrual rate was 33.3%, up 9.2 percentage points year-over-year, driven by primarily the shift to cash-pay-only business in the second quarter. Our cash pay business has traditionally carried a higher return rate than our insurance business. Moving on to non-GAAP gross margin and non-GAAP operating expenses. Our discussion of financial metrics of the gross margin line and below will be on a non-GAAP basis, which excludes stock-based compensation expenses. Please refer to our GAAP to non-GAAP reconciliation included in today's earnings release. Second quarter non-GAAP gross margin was 35.2%. compared to 72.3% in the second quarter of 2021. The year-over-year gross margin decline is primarily due to an increase in sales return rates, lower shipment volume causing fixed costs to be spread over a smaller number of units, an increase in cost of goods for products sold due to a change in product mix, and an increase in amortization of capitalized software costs related to the commercial launch of Yerba 5 and Yerba 6. Second quarter non-GAAP sales and marketing expenses were $12 million, or 166% of net revenues, compared to $20 million, or 87.4% of net revenues, in the second quarter of 2021. The decrease in expense was driven by decreases in direct marketing, advertising, and promotional expenses, following our decision to stop accepting insurance benefits as a method of direct payment on December 8, 2021, and decreases in personnel and personnel-related costs. The increase in sales and marketing as a percentage of revenues was due to a reduction in revenue. Non-GAAP research and development expenses were $4.5 million, or 61.6% of net revenues, compared to $4.0 million, or 17.7% of net revenues in the second quarter of 2021. Non-GAAP general and administrative expenses were $16.0 million, or 220.5% of net revenues, compared to $6.3 million, or 27.5% of net revenues in the second quarter of 2021. The increase was primarily due to $5.7 million in transactional costs related to the note purchase agreement and a net increase in general corporate costs of $3.8 million, primarily related to legal and other professional fees driven by activities related to the DOJ investigation. Non-GAAP net operating losses for the second quarter of 2022 was negative $29.9 million compared to a non-GAAP net loss of negative $13.8 million in the second quarter of 2021. Moving to the balance sheet, we had cash and cash equivalents of $106.6 million on June 30, 2022, which includes proceeds from the first tranche closing of the Senior Convertible Nets transaction on June 28, and using approximately $16.2 million to pay off our previous SDB debt obligation as well as closing costs. This compares to $110.5 million as of December 31, 2021. Moving to cash burn guidance. We continue to expect a quarterly cash burn between $20 million and $25 million in the near term, with slight variability from quarter to quarter. I will now turn it back to Christian for closing commentary.
spk02: Thanks, Adam. We're glad to have the second quarter behind us and to have begun executing on the initiatives that we believe have the potential to return Eargo to a growth mode. Despite what we've been through, the organization is motivated, incentivized, and energized to achieve our objective. If there's one characteristic of the people at Eargo, it is that we don't give up. Clearly, a lot of hard work is ahead of us, but there remains a very large, underpenetrated market opportunity we believe we're well positioned to capitalize on. With our innovative product, established remote support structure, pending changes to the commercial regulations, and the recent capital raise, we feel good about the future of Yirga. I will now turn the call over to the operator for Q&A. Thank you.
spk06: We will now begin the question and answer session. To ask a question, you may press star then one on your telephone keypad. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two. The first question comes from Robbie Marcus of J.P. Morgan. Please go ahead.
spk07: Hi, this is actually Lillian for Robbie. Thanks so much for taking the question. First, just to start out, how have your conversations with the OPM regarding reentering the insurance market been progressing? And is there any sort of timeframe we should be keeping in mind for some sort of decision here?
spk02: Thank you for the question. As we spoke about in our prior update, we have had, you know, good discussions with OPM. The clear next step is the discussions that are ongoing with FEHB carriers. And as we also stated in the script and the announcement, we will update when we have any, you know, material updates to that.
spk05: Got it. Okay.
spk07: And then maybe just to follow up, can you dig a little bit deeper into how you've been able to drive increased conversion rates and higher approaching marketing and advertising differently? And how do you see yourself being able to support this higher level of conversion and drive growth on lower media spend? Thanks so much.
spk02: No, this has been in the middle of everything that the company has been through. We've kept the sales and marketing team very focused on how do we take this time and really make sure that we're well set up for the future and driving up conversion rate was the number one metric that we achieved all that we were aiming for you know we did this while at the same time reducing media spend and actually also making reductions on the people side so so not an easy task but i think it has really been Based on what we've learned over the years of selling direct to consumers within the hearing health category, how do we apply that in a focused way? And a lot of compliments to both our marketing and our sales team for really working on driving up that level of efficiency. And to your question, I think we believe that as we can open additional channels, and also start expanding our media presence again, we believe that we can do this in a more efficient manner than what we've done historically on a channel level.
spk05: Great. Thanks so much.
spk06: The next question comes from Margaret Caxor of William Blair. Please go ahead.
spk08: Hey, guys. This is Maggie for Margaret today. Thanks for taking the questions. I first wanted to ask, during the second quarter, just the split of your business between your cash pay and your repeat customers and how you see that trend going forward the year based on the marketing initiatives you're putting in place. Thanks so much.
spk04: Hi, Maggie. It's Adam. I can take that one. In both Q1 and Q2, the mix of repeat business was about 20% total volume. And from an absolute numbers perspective, I would expect the number to be relatively stable in the back half.
spk08: Great. Thank you. The next question I wanted to ask, how are close rates? So just trying to understand if you're within that $20 to $25 million cash burn guidance you provided, how much of that is in BTC and how much of that can be converted into cash?
spk02: Sorry, my line was a little tough. Okay, we had the same issue.
spk04: Can you repeat the question?
spk08: Yeah, sure. So close rates are the leads that you are generating. So just trying to understand, you're burning the $25 per quarter. How much of that's spent within D2C, and then how much of that can be converted into sales?
spk05: Adam, are you following the direct question?
spk04: I apologize. I'll repeat back what I heard. It was a question of the $20 to $25 million in Azure. How much of this is about to see and just about retail or into the insurance side of things? And I think what we've said is we don't have any updates. in terms of when we'll be returning on or scaling either retail or insurance, and that the quarterly cash burn that we're forecasting doesn't account for any positive movement that either one of those two could create on the business. I'm not sure if I answered your question. I did catch every other word, but please let me know if that covered it.
spk05: That's great. Thank you.
spk06: As a reminder, if you have a question, please press star one. The next question comes from Larry from Wells Fargo. Please go ahead.
spk03: Hi, this is Charles on for Larry. I wanted to dig a bit more into the cash pay business. I mean, could you say like was Q2 at a point where you say you feel like you optimized that and just got the spend at kind of a stable rate if you're maybe hoping for like a stable cash burn there? And what I'm trying to get there is, I mean, it seems like obviously the year-over-year decline, losing the insurance business, but it seems like cash pay still declined as well. So I might be chalking that up to just a reduced spend, even though it's a bit more efficient. But, I mean, I'm trying to get at, like, once you hit a stable baseline in that spend, you find where you need to maintain that investment, is that – I mean, are you able to hit a baseline in that cash pay or eventually return that to growth? I know you didn't give guidance, but just trying to get a sense on if you think that business is near a low point or when it might start to travel.
spk04: I think given the distractions of management and all the activity that was going on outside of the commercial side of the business with settling with the DOJ as well as fundraising and those associate activities, I think we have found a stability point in the cash pay business from which we can kind of hit the reset. I think Q2 was a transitional period now. With the new funding as well as the progression of conversations on some of the omni-channel strategies, we can focus back on the business. Although we aren't providing guidance, I think it's fair to say that we feel that we have found a steady state in the cash pay business.
spk02: I think that's well said, Adam. You answered that exactly where the priorities lay for the operating team. It's like how do we sort of establish at what, you know, where do we find the right balance of efficiency versus spend and, you know, positioning us to really move forward. And I think we clearly learned a lot through Q2.
spk05: Perfect. Good to hear. Thanks, guys. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.
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