iRhythm Technologies, Inc. Common Stock (IRTC) Q3 2019 Earnings Call Transcript

iRhythm Technologies, Inc. Common Stock (IRTC -3.80%)
Q3 2019 Earnings Call
Nov 05, 2019, 4:30 p.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Lynn Lewis

This is Lynn Lewis from the Gilmartin Group. Thank you all for participating in today's call to iRhythm's Q3 2019 conference call. Joining me are Kevin King, CEO; Matthew Garrett, CFO; and Dan Wilson, EVP strategy corporate development and investor relations. Earlier today, iRhythm released financial results for the third quarter ended September 30, 2019.

A copy of the press release is available on the company's website. Before we begin, I'd like to remind you that management will make statements during this call that include forward-looking statements within the meaning of Federal Securities Laws, which are made pursuant to the safe harbor provisions for the Private Securities Litigation Reform Act of 1995. Any statements contained in this call that are not statements of historical facts should be deemed to be forward-looking statements. All forward-looking statements, including without limitation, our examination of operating trends and our future financial expectations, which includes expectations for hiring, growth in our organization and reimbursement, and guidance for revenue, gross margins, and operating expenses in 2019 are based upon our current estimates and various assumptions.

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. Accordingly, you should not place undue reliance on these statements. For a list and description of the risks and uncertainties associated with our business, please refer to the Risk Factors section of our most recent quarterly report on Form 10-K with the Securities and Exchange Commission. This conference call contains time-sensitive information and is accurate only as of the live broadcast today, November 5, 2019.

iRhythm disclaims any intention or obligation, except as required by law, to update or revise any financial. [Technical difficulty] whether because of new information, future events or otherwise. And with that, I'll turn the call over to Kevin.

Kevin King -- Chief Executive Officer

Thank you, Lynn. Good afternoon, and thanks for joining us. Third-quarter results continue to demonstrate strong execution and increased market penetration. We achieved third-quarter year-over-year revenue growth of 47%, reaching $56 million, with third-quarter gross margins increasing by 1.5 points to 75.4%.

Our initial guidance range of 37% to 40% growth has been increased throughout the year, driven by the increased confidence in our business outlook. Going into the last quarter of the year, we are raising our revenue guidance again. Now -- we now expect full-year revenues to be in the range of $215 million to $217 million, up from $212 million to $216 million, which corresponds to a 46% to 47% year-over-year growth. Our business continues to strengthen on many fronts driven by the proven superiority and completeness of our ZIO platform.

Comparative customer data confirms that adoption of our highly differentiated ZIO platform enables customers to measurably diagnose more patients in less time with fewer unnecessary repeat tests and at lower costs. The ZIO platform also requires significantly reduced resources compared to other approaches. Our proven and complete platform consists of a technology stack with four layers that work seamlessly with one another to create a source of competitive differentiation. So four technologies layers include: a proprietary ZIO data repository layer that contains more than 600 million hours of annotated ECG-based heart rate, heart rhythm, and patient-level information; a data curation layer that deploys proprietary artificial intelligence algorithms to reliably, reproducibly, and accurately curate massive amounts of collected heart rate, heart rhythm, and activity information into actionable reports for medical management by prescribing physicians; an information system layer that streamlines workflow processes by order entry, results reporting, capture of relevant patient demographics, and health plan information, physician notes, and other medical record information, and finally, our patented single-use patient-worn biosensors ZIO XT and ZIO AT that enable continuous uninterrupted long-term cardiac monitoring.

Our clinical and R&D investments continue to build upon this innovation stack, and we remain focused on enhancing this integration platform. Before we review the key components of our growth strategy, I wanted to provide a status update on the CPT code renewal process. At the end of September, the AMA hosted its CPT editorial panel meeting where the long-term continuous ambulatory monitoring CPT code change application was reviewed. The ACC and HRS submission proposed replacing the existing temporary codes with permanent codes, with confirmation of approval made by the AMA on October, 25th.

Two new code sets, with four codes each, are set to replace the temporary codes in January of 2021. Each new code set will cover an extended period of wear time and recognize the increased clinical value that longer-term monitoring provides, as well as, the utilization of resources required to deliver those services. The existing Holter, Event, and MCT monitoring codes remain unchanged. We're very pleased to see the process unfold in a manner consistent with our previously stated expectations, and this, of course, gives us increased confidence as we move into the final stages of the process.

In the next age, we plan to collaborate and provide inputs to the model to be used by ACC, HRS at the AMA RUC meeting scheduled for January 2020. It's expected that minutes from this meeting will be available toward the end of February. The final stages for CMS review, approved or modify the recommendation of AMA RUC with communication in July of next year. As I noted on our last call, the AMA has very strict and appropriate rules that prohibit any lobbying or public statements meant to influence the process.

As such, we are limited in the information we can share with you. We will be as transparent as we can be while honoring the process that the AMA has established, and I look forward to provide updates. Turning to the components of our growth strategy, which include the following three items: sales expansion and continued productivity improvements, increased market penetration with our single ZIO platform, and expanding our addressable market into new indications. For the first item, sales force expansion continues to contribute to our sustained growth rates.

Over the past several years, we have successfully increased the size of our sales channel by 20 to 30 high-quality reps per year while increasing the productivity of our most tenured reps. As previously reported, we completed the majority of our 2019 hiring plan in the first half of the year. In the third quarter, we completed additional new hires and conducted extensive sales training and development. We will provide an update on our 2020 hiring goals on our next earnings call.

As we've always done, we'll structure the commercial team to meet the cost-effective size required to capture the full and untapped market potential for iRhythm. Encouraged by the success with early customer sites in October, we initiated the full commercial launch of ZIO AT. We are seeing increased growth in prescribing volumes and number of accounts. Feedback remains extremely positive with customers noting the accuracy of our analysis, as well as, the consistency and reliability of the platform.

It's important to highlight here that we believe ZIO AT is an exceptional device and service, we remain steadfast in our view, however, that ZIO XT is the most appropriate solution for the vast majority of patients. Faced with patient and information overload in constantly pressed for time, customers place significant value on using a single platform to improve the effectiveness of the monitoring operations, enabled by our highly integrated technology stack that includes identical, verbal form factors, application processes, reporting platforms, and workflow tools, our single platform-based approach to the market is unique. Turning to sales expansion opportunities. The Silent AFib market is a major part of our expansion strategy.

The one-year published mSToPS results, which provides an early look at the health economics, and utilization data gives us increased confidence into what it is that's going to be needed to open up the market. We will continue to explore opportunities with this market with our ZIO XT solution, and we'll complement those efforts by pursuing a more complete solution with even higher yields, which may result in even better economics. Accordingly, in September, we announced that iRhythm and Verily will be working to develop next-generation atrial fibrillation products that combine both companies' technologies to improve the screening, diagnosis, and management of patients with asymptomatic atrial fibrillation. This collaboration brings together our experience in AI-based algorithm diagnosis, Verily's advanced health data analytics technologies to address the millions of patients living with undiagnosed AFib.

Our teams are now working together to combine the strengths of our collective capabilities to develop a complete solution over the next 24 months, and we will provide updates as we move forward on this initiative. As a final update on the quarter, we raised net proceeds of approximately $107 million from a follow-on offering in September. The proceeds of this offering will be used to fund important growth initiatives including additional sales force expansion, the Verily collaboration, and related Silent AF market development efforts and international expansion. We're very pleased that our strengthen balance sheet enables us to pursue these important initiatives, and we look forward to updating you on our progress in the future.

In closing, our strategic approach to driving market penetration and expansion is rooted in our ability to demonstrate clinical superiority with our proven service-based platform. Our confidence remains high with our fundamentals and business outlook as strong as ever. We're combining our expertise in cardiology monitoring, data analytics, and commercial execution to make a tremendous impact in people's lives, and we're deeply committed to this endeavor, and remain steadfast in our efforts. And with that, I'd like to turn it over to Matt Garrett, our CFO, for a review of the third-quarter financial results and guidance for 2019.

Matthew Garrett -- Chief Financial Officer

Thanks, Kevin. Despite the challenges in our business that come in summer, the company continues to perform well as we head into the fall. Highlights for the third-quarter 2019 were: revenue growth of $56 million or growth of 47% year over year and 5% sequentially. Gross margin of 75.4%, an increase of 1.5% year over year, continued success moving away from non-contracted claims and improved claim dijudication efforts, further reducing reserve requirements while improving overall ASPs.

And finally, a number of onboarding ZIO AT account successes, which in turn, accelerates adoption of ZIO AT in those accounts where we've launched AT, demonstrating our capability of being the full-service solution offering. Taking a more detailed look at the third-quarter results. Revenue for the three months ended September 30th, 2019 was $56 million, an increase of 47% year over year and 5%, sequentially. We were pleased with this outcome, given the headwinds associated with summer seasonality trends and lumpiness of launching large integrated systems during this period.

We continue to view the pipeline is very robust, which is now enhanced with a full launch of our AT service offering here in October. Some of the trends we continue to monitor and communicate to investors include same-store, new-store revenue growth, as expected, rose during the quarter to just under 70% to 30%, given the challenges of launching new accounts during the summer months. We do anticipate the return to the more recent trend of 60% to 40% split, as we move into Q4 and on into 2020. As a related item and a sign of continued strength and existing accounts, our top 25 and top 100 accounts grew in excess of 40% year over year.

A new trend we're communicating this quarter relates to our success with EHR implementations. In 2019, accounts that have implemented our service increased XT volume by nearly 20% over the preceding six months run-rate, and EHR accounts in total now contribute to nearly 10% of all registrations. And finally, we've added a new -- a number of AT accounts during the summer in preparation for the full launch here in October. As we've seen in our piloted accounts, we witnessed considerable XT pull-through in both new and existing accounts.

Since AT usage is so highly concentrated in large systems, we believe this plays extremely well with our large integrated system strategy moving forward. Turning our attention to the rest of the P&L. Gross margins for the third-quarter 2019 were 75.4%, compared to 73.9%, a 1.5 percentage point improvement over the same period in 2018. Sequential gross margin dipped slightly due to the combination of one-time write-offs for our obsolete inventory, the continued impact of the commercial launch of AT, and finally, short-term impact of tech productivity levels given summer seasonality and vacation schedules.

Operating expenses for the third-quarter 2019 were $60.7 million inclusive of the development costs associated with Verily, compared $37.9 million, an increase of $22.8 million year over year. Net of nonrecurring Verily cost expenses were $55.3 million or growth of 46% over the same period in the prior year. For the quarter, the year-over-year spending increases continue to be driven by the full run rate impact of first-half investment in sales force expansion, organizational support for our network sales strategy, expansion of R&D activities, the move to our new corporate offices here in San Francisco, and the impact of increasing stock compensation expense. We also experienced an increase in bad debt expenses arising from environmental factors, specifically rising deductibles and increases to patient co-pays.

Net loss for the third-quarter 2019 including Verily development costs were $18.6 million or a loss of $0.74 per share, compared with a net loss of $10.2 million or a loss of $0.43 per share for the same period of the prior year. Turning to our guidance for the remainder of 2019. We are raising guidance for the full-year 2019 to $215 million to $217 million from $212 million to $216 million. This represents annual growth of 46% to 47%, demonstrating our continued confidence in our ability to scale the organization as we continue to produce benchmark top-line growth.

We anticipate gross margins will reverse Q3 trends, and maintain our previous range guidance of 75.5% to 76.5%. We continue to anticipate some AT drag for the foreseeable future as we operationalize our work streams, and more broadly launch this service over the next few quarters. And finally, we are raising operational expense guidance slightly, reflecting the increases in bad debt expense, incremental commission, bonus accruals and noncash stock expense. The new range of $202 million to $206 million is up from $198 million to $204 million, including $29 million to $31 million for research and development and $173 million to $175 million for SG&A.

Inclusive of Verily development costs, we project annual opex in the range of $210 million to $214 million, including $36 million to $38 million for research and development, and $174 million to $176 million for SG&A. These figures assume one additional milestone payment of $1 million and some amount of developmental costs in the fourth quarter related to the Verily collaboration. With that, Kevin, Dan and I would love to open the call up for questions. Turning back over to the operator.

Questions & Answers:

Operator

[Operator instructions] Your first question is from Robbie Marcus from J.P. Morgan. Your line is now open.

Allen Gong -- J.P. Morgan -- Analyst

Hey, guys. This is actually Allen on for Robbie. Congratulations on the good quarter. I just had one question on the RUC process, and then, a follow-up.

I guess my first one is, we know that you are moving from four, I believe, to eight codes, but this is I think the first time that you really highlighted that two different code sets. So, I guess, could you clarify like what the difference is between these two code sets, and under which circumstance, you would use one or the other?

Kevin King -- Chief Executive Officer

Hey, Allen, it's Kevin. The only thing that's been published 9right now is that the separation of the code sets is along the lines of duration of where we've not been allowed to talk about the amount of wear times. Compared to what we have today, a single code spans three days to 21 days. And within that code set, there are four codes, a global code, a patient hook-up code, a technical component, and a physician interpretation.

Those same four code sets will be replicated twice in the new code set arrangement.

Allen Gong -- J.P. Morgan -- Analyst

Got it. And then kind of like, I guess, a broader question. Hopefully, you can talk around it a bit. But regardless of what the decision is in terms of like the value of these codes.

Can you walk us through kind of the rollout once we do hit January 2021, like how much time will it take for whatever price change is implemented to kind of really start impacting the business? And what does that rollout look like along kind of the different mix of consumers that you have? Thank you.

Kevin King -- Chief Executive Officer

Sure. So, this code set change affects our payment with CMS, which is about 26% or 27% of --

Matthew Garrett -- Chief Financial Officer

27%.

Kevin King -- Chief Executive Officer

27% of our revenue. That code change would go into effect in January of 2021, unless it were delayed for some reason, or if it were appealed. Our expectation is that it would go into effect at that time frame. And so, whatever the decision is in the July time frame to either accept or modify or to change the relative values that are being assigned here in the February timeframe, that will go into effect at that period of time.

Operator

Your next question is from David Lewis. Your line is now open.

Jay Chadha -- Analyst

Good afternoon. This is Jay Chadha on for David. Kevin, I had two quick questions, and then, a follow-up. I was wondering if you could talk about the underlying momentum in the business.

If you look at guidance into the fourth quarter, it maybe implies a little bit weaker quarter-over-quarter growth into the fourth? And in light of the full AT launch, I was wondering if you could talk about how we should think about the incremental pull-through of either AT or XT, now the device is fully under way? And then, I had a quick follow-up for Matt.

Kevin King -- Chief Executive Officer

Sure. OK. I would start off by saying, from a momentum standpoint, I don't think we could be in a better-off position right now. We have a large number of positive growth drivers.

I think everyone understands and accepts that we're really well-positioned competitively and got a very, very long runway ahead of us here. And growing sales force, competitive differentiation, abundance of clinical evidence. And that's allowed us to raise our estimates throughout the year. I think relative to the fourth quarter here, and looking forward, it's important to note that changes in growth rates don't imply less opportunity or imply a weaker execution.

It really implies the segment that we're targeting is different now than the segment that we targeted in the past. And I'd like to think about it from a standpoint of when we study our opportunity funnel, we now are characterizing ourselves as having transitioned from, let's call it, early adopters where those early adopters were, in order to change their status quo, were largely looking for a demonstrated clinical benefit. And we did that really well, and we continue to do that well in terms of an unsurpassed assurance of accuracy-proven ability to change medical management, and the 30-plus peer-review publications that we have that show that we're superior. Today, I think we're more in the middle market, the middle majority of the market.

And there, those customers are asking us not only for the clinical benefit, but they're asking for productivity gains. Gains that help them to be world-class in terms of delivering clinical, operational, and financial value. And I said in our prepared remarks that we've got comparative customer data that confirms that we measure and diagnose patients in fewer -- in less time with fewer unnecessary repeat test with fewer resources, and lower cost. That's what people want.

And that takes a lot of energy for us to work with these large accounts in order to get them over the hurdle to change their status quo. They're overworked. They're pressed for time. And in order for them to adopt, they have to have not only the proven clinical superiority but the completeness of the platform.

And so, I like in our trajectory that we're on right now, more related to the segment of the market that we're addressing. It certainly is large and growing, but it's a little bit harder than tap because of the requirements that those customers have for us. I wouldn't read into it. I wouldn't read anything into it other than that.

As far as XT and AT pull-through. Maybe Matt can address that. We continue to see very strong XT pull-through and in AT accounts. Matt, I think you said a few things on your prepared remarks there, maybe you want to go into that?

Matthew Garrett -- Chief Financial Officer

Yeah. Well, I think that that's right, Kevin. Before we dive into that, everyone has to understand that the AT product is a completely different workflow and workstream. Our excitement of launching that product and the feedback we've gotten from the field has been outstanding, and we've provided updates for, I guess, three quarters now on pull-through that we see in those pilot accounts.

But again, those pilot accounts are extremely limited, and we're just now starting to launch it. So, I think there's going to be some learning curve here as we move into November, December, as it relates to providing change of our guidance around AT. So, I think that what I would strongly suggest is that we will continue to provide feedback, as we move to this broader commercial opportunity around the XT pull-through, particularly, as it relates to new accounts or greenfield accounts because I think that's going to have some interesting outcomes for us. I'll just leave it at that for now.

Kevin King -- Chief Executive Officer

I think he had another question.

Matthew Garrett -- Chief Financial Officer

Yeah, you wanted to follow-up with me on another question?

Jay Chadha -- Analyst

Yeah. Either for Matt or Kevin. As you think about the recent capital raise, how should we think about incremental investment in the commercial infrastructure, any potential adds into the fourth quarter or earlier in 2020 next year?

Matthew Garrett -- Chief Financial Officer

No, I don't think so. I think everything is -- with maybe one small caveat. I think everything is exactly the same. As we've talked about on the raise, we've -- as we just highlighted, we've already spent about $5.5 million on Verily development.

Obviously, a significant portion of that was the initial milestone payment, and that's certainly going to be a good portion of it. The other two areas that we talked about are consistent with where I think our thinking is now as we move into kind of the budget and planning season, and that is the sales force expansion, as well as, some dollars related to international expansion. I think those are absolutely still front and center in our minds. I did mention that although it's not going to be material moving forward, the amount required for bad debt expense is probably going to go up slightly.

I think we've guided in the past at 4%, that is probably leaning more toward 5%, maybe 5.5%, as we're just seeing a significant increase in deductibles and incremental amounts owed by the patient that's coming with environmental territory that we're presiding. And so, other than that small adjustment, I think everything else is exactly as we laid it out with the follow on.

Jay Chadha -- Analyst

Thank you.

Operator

Your next question is from Jason Mills from Canaccord Genuity. Your line is now open.

Jason Mills -- Canaccord Genuity -- Analyst

Hi, Kevin, Matt and Dan. Thanks for taking my question. I wanted to follow-up on few metrics that seem to be important to model. So, you talked a lot about, Kevin, on this call, the larger health networks, IDNs.

In the past, you've been underpenetrated, and then, relative to the amount of the market that they preside over. Could you talk about sequentially your success as penetrating that particular account base, and how AT may help you in fourth quarter in 2020, not only vis-a-vis in the sale of AT but the XT pull-through? I think you alluded to it to some extent. But is that -- well, I guess, a follow-up to that question is, is that one potential area that could drive upside to your revised guidance? Is that an area that perhaps is underappreciated in terms of the growth potential near-term.

Kevin King -- Chief Executive Officer

Hi, Jason, it's Kevin. So maybe, just to make sure that I got all those. So first, one was relative to same-store, new-store, did -- how did new-store do in the quarter? Matt can cover that. AT upside, I think, the answer is, yes, XT upside as well.

I mean, the AT number is a small number from starting. But nonetheless, I think the pull-through is probably more significant than the actual AT volume. And then, the other one was --

Matthew Garrett -- Chief Financial Officer

I think -- yes, Jason, I think what you're going for is from our strategy of these large systems, what does that sizing, compared to the overall market. And I -- we've not done a deep dive into that number since last quarter. But based upon guidance in new-store, same-store sales, the answer is exactly the same, and that is the overall opportunity in those accounts as it relates to our market penetration is almost on par with the broader market. So, if we're -- however you guys are defining the market, whether it's $1.75 billion or $2 billion with some of these add-on indications, we're, whatever, 10% or 15% penetrated in the broader market.

We're also still 10% or 15% penetrated in these large integrated systems. So again, we think that bodes extremely well for us moving forward. Does that help?

Jason Mills -- Canaccord Genuity -- Analyst

Yeah, it does. That's exactly where I was going with that, Matt. Thank you. And then just a few other metrics.

In the past, you've talked about not yet seeing the peak level of your productivity level. You've added more reps this year than you originally thought, perhaps, that so some of the productivity gains. I'm just curious if you, at this point, have been able to identify a peak productivity level per your increasing sales force.

Matthew Garrett -- Chief Financial Officer

Yeah, Jason, I mean, good question. We weren't trying to hide that. Obviously, with a quarter that didn't -- doesn't see as much growth because of the summer, right? There was not a huge change to those numbers, and thus, we weren't calling out a higher productivity level at this time. I think the last one we've called out is about $2.5 million, although, we have talked about the ability to pull that in.

I think the genesis of the question and the genesis of the answer is that I don't believe any of us in the room feels that we've reached peak productivity. And I think with the onboarding of these large integrated systems and the potential volume that comes with them, clearly, would indicate that we haven't reached peak productivity. I just don't think that we're ready to call out anything higher right now, given all of the -- given what Kevin just talked about, in terms of the strategy, given the AT launch, and given that we're a quarter away from guidance on 2020. So, long story short, we're still guiding to $2.5 million, but I don't think any of us feel that we've achieved the top of that threshold yet.

Jason Mills -- Canaccord Genuity -- Analyst

Thank you.

Kevin King -- Chief Executive Officer

Jason, I might add to that and just say that if we've added 40 people a year for the last two years, that would imply that roughly 60% of our sales force is with us less than two full years, this year and last year. And Matt's peak productivity number is when people are with us three to four years.

Matthew Garrett -- Chief Financial Officer

Three to four, correct.

Kevin King -- Chief Executive Officer

So we're -- we feel like we've got opportunity to grow there, but that peak productivity number -- but the peak of the peak productivity number is still rather elusive for us to define.

Jason Mills -- Canaccord Genuity -- Analyst

Understood. Thank you.

Kevin King -- Chief Executive Officer

You bet.

Operator

I am showing no further questions at this time. I would like -- I would now like to turn the conference back to Kevin King, CEO for some closing remarks.

Kevin King -- Chief Executive Officer

Great. Thanks, everyone. Thank you for joining our third-quarter earnings call. We look forward to updating you on our year-end results, and outlook for next year on our fourth-quarter earnings call early next year.

Thanks very much.

Operator

[Operator sign-off]

Duration: 42 minutes

Call participants:

Lynn Lewis

Kevin King -- Chief Executive Officer

Matthew Garrett -- Chief Financial Officer

Allen Gong -- J.P. Morgan -- Analyst

Jay Chadha -- Analyst

Jason Mills -- Canaccord Genuity -- Analyst

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