Eargo [EAR] Conference call transcript for 2022 q3
2022-11-06 00:20:04
Fiscal: 2022 q3
Operator: Good day, and welcome to the Eargo Third Quarter 2022 Earnings Conference Call. Today's call is being recorded. At this time I would like to turn the conference over to Nick Laudico, Senior Vice President, Corporate Strategy and Investor Relations. Please go ahead sir.
Nick Laudico: Good afternoon, everyone, and welcome to the Eargo third 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 Gormsen, President and Chief Executive Officer; and Adam Laponis, 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 GAAP to non-GAAP reconciliation table on our IR website in the Events and Presentation section. With that said, I will now turn the call over to Christian.
Christian Gormsen: Thank you, Nick, and thank you, everyone, for joining us today. When we spoke to you on our second quarter call we reported on a transitionary quarter. We have recently settled with DOJ investigation, shared our SEC filing delinquency significantly reduced our cash burn and reached a major financing milestone in announcing the strategic commitment of up to $125 million from Patient Square Capital. Turning to the third quarter 2022. I'm pleased to report that we have made initial but meaningful steps in improving our cash paid business performance while making progress on our most important business priorities. As a reminder, those priorities include refining and expanding our physical retail strategy, accessing insurance coverage for Eargo hearing aids including potentially regaining insurance coverage of a Eargo hearing aid devices for government employees under the FEHB program, optimizing our cash paid business and continuing to invest in innovation. I will elaborate on each of these priorities separately. But before I do, let me first comment briefly on our active Right offering of 375 million shares of common stock. This offering through which we intend to raise up to an additional $37.5 million and proceeds before expenses stand to represent a major step forward for the company. During our annual meeting of stockholders on October 12, we received the stockholder approval necessary on all proposals to conduct the Rights offering. We then launched the Rights offering on October 31, and are currently accepting subscriptions from shareholders of record as of October 24. Adam will provide more details on this shortly. But we urge all shareholders interested in participating in the Rights offering to submit the indications properly. If you hold your shares of common stock in street name, through a broker, dealer or other nominee, then your broker dealer or other nominee is a record holder of the shares you own and you should promptly contact them should you wish to participate. The last day for non-U.S. holders to subscribe is November 10 and the last day for U.S. holders to subscribe is November 17. Before you invest, you should read the final prospectus dated October 27, 2022 relating to the offering filed with the Securities and Exchange Commission. Now turning to our operational updates, beginning with our retail strategy. As many of you are aware the final FDA rule establishing a new regulatory category for OTC hearing aids became effective October 17, 2022, allowing certain hearing aids to be sold in person without the supervision, prescription or other order involvement or intervention of a licensed hearing practitioner in preparation for this regulatory change. Eargo conducted pilots to better understand how to build the optimal consumer experience for purchasing a hearing aid in a retail environment. Offering hearing aid through retail outside of typical clinics has never been done before. So this diligence was critical from our perspective. In our view, when shopping for a hearing solution consumers to serve a world class in person experience that includes four core elements; number one, education and proper merchandising; two, self administered hearing screening; three, expert sales compensation; four, outstanding post purchase support. Following the testing and refining of this experience in the pilot bispectrum, one of America's largest wireless retailers, we agreed to expand the partnership, making Eargo available for purchase about approximately 1500 stores nationwide. Let me briefly outline how the consumer and Victra stores meet the four core elements I just mentioned. From an education and merchandising perspective. Soon every Victra store will include an interactive display that generates awareness in a clean and inviting way. The display contains educational content about Eargo devices, and general hearing health that consumers can also request to email to them directly. The interactive display also includes Eargo's self administered hearing screen, and there are demo devices for customers to handle. The can engage with big trust sales consultants to learn more about Eargo, experience Eargo's virtually invisible devices up close and see how easy it is to use a portable charger and mobile app. Victra sales consultants are trained on Eargo features and benefits so they can guide Victra guests through the hearing journey. Consumers can then purchase in store or take a follow up call with an Eargo expert. Following purchase, customers receive the same outstanding post purchase support from our client care team for as long as they own the product. We're thrilled to be able to expand consumer access to Eargo through this partnership with Victra and leader in connecting technology to life in a trustworthy way. While the partnership is in its infancy, and it is too early to comment on expected performance, we believe together we can help more people hear better. We also commend that the FDA for releasing the final OTC rule, which we believe will help improve hearing health for the over 45 million adults in the U.S. with hearing loss. As part of Eargo's commitment to innovation in connection with the OTC ruling we also submitted at 510-K premarket notification, seeking FDA clearance of expanded labeling for Eargo five and six hearing aids as self fitting before the final OTC rule was announced. If cleared, this would allow Eargo to expand the marketing claims of Eargo five and six to include the self fitting designation. Lastly, we're currently in the process of updating our labeling on Eargo devices to meet the new OTC requirements and expect to be able to comply with all applicable OTC regulatory requirements including labeling in advance of the April 14, 2023 deadline for currently marketed devices. Turning to an update on accessing insurance coverage of Eargo hearing aids, including potential insurance coverage of Eargo for government employees under the FEHB program. Since resolving the DOJ investigation last quarter, our focus has been on establishing dialogue with third party payers and individual FEHB carriers with the objective of aligning on and establishing go forward processes and required documentation to support the assumption of insurance coverage for Eargo devices. Internally, our focus has been on enhancing our compliance and risk management processes and building out our infrastructure across revenue lifecycle management and claims processing to support reentry into the insurance market. Beginning in September, we resumed accepting both FEHB and non-FEHB insurance as a method of direct payment in certain limited circumstances specifically in situations when the customer has undergone additional testing by an independent licensed health care provider with supporting documentation. As part of this updated process all customers seeking to use insurance as a payment method are required to receive in person hearing evaluations before we can accept an order or submit an insurance claim for reimbursement. We also began submitting claims on these insurance orders for reimbursement during the quarter. The volume of the submissions is currently small, and we are very early in our process. And majority of the claims we have submitted since instituting this process are still pending responses from the payers and a portion of the claims we have submitted for reimbursement have been denied and are currently in the appeals process. In addition, it is important to note that the new regulatory category of OTC hearing aids is not covered under certain insurance plans as currently written. These carriers would need to update their coverage policies to reflect the newly established OTC categories before we could access insurance coverage for OTC hearing aids and it is our understanding that the third party FEHB carrier that administers approximately two thirds of all FEHB benefits nationwide currently does not intend to cover OTC devices following the recent OTC Final Rule. I want to emphasize that it is early in the process, in this process, and we do not expect to see any significant volume for insurance orders until we have better clarity on individual insurance plan requirements for coverage and reimbursement post OTC final rule. We also continued focusing on optimizing our cash paid business in the third quarter. We're pleased with our sequential net revenue growth of approximately 9.1% and the stability of our cash paid business as further evidence by approximately 16.2% sequential growth in gross cash paid shipments shipped. Most recently, we improve conversion to over 23.0% in the third quarter of over three percentage points sequentially, reflecting a more efficient media spend. Overall, our progress into third quarter reflects our commitment to our strategic initiatives. We are pleased with our incremental traction against these objectives, and look forward to providing a further update on our next call. Let me now turn it over to Adam for a more detailed summary of the next steps in our financing process, and our third quarter financial results.
Adam Laponis: Thanks, Christian. I'll start first with an update on the status and timing of the Rights offering one of our major company initiatives for the remainder of 2022. Following are significant milestones securing a commitment of up to $125 million from patients were capital in the second quarter. We entered Q3 with a focus on obtaining stockholder approval to conduct the Rights offering $375 million shares of common stock to existing stockholders pursuant to the terms of the transaction agreement with Patient Square. At our annual meeting of stockholders held on October 12, 2022 we received the required stockholder approval to enable the Rights offering and we intend to complete the offering by November 25, 2022 or within 150 days of closing the first tranche investment in any event by December 24, 2022. We recently announced the record date the Rights offering as October 24, 2022. Before you invest, you should read the final prospectus relating to the offering filed with the Securities and Exchange Commission on October 28, 2022. Now moving to a summary of third quarter 2022 financial results. I'll provide all financial comparisons on a sequential basis given a difficult year-over-year comp as a result of the impacts the DOJ investigation had in the third quarter 2021 financial results. As Christen mentioned, we began re-accepting insurance as a method of direct payment in a limited capacity, but do not expect a significant volume of insurance orders at this time. We also seeking clarity and plan requirements post OTC rule. Third quarter 2022 net revenue was 7.9 million up approximately 9.1% sequentially. The increase was primarily driven by an increase in growth systems shift . There their quarter 2022 growth system shift were 5156 up 15.7% sequentially. The increases were driven by an increased conversion rate, and more targeted media spent. Third quarter 2022 return accrual rate was 32.3% down one percentage point sequentially. Moving to non-GAAP gross margin and non-GAAP operating expenses. Our discussion of financial metrics in the gross margin lining 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 and the historical GAAP to gaps non-GAAP reconciliation table on our IR website in the events and presentation section. Third quarter non-GAAP gross margin was 24.5% compared to 35.2% in the second quarter of 2022. Sequential gross margin decline was primarily due to an increase in cost of goods sold per product due to a change in product mix and an increase in inventory reserves related to certain slow moving inventory items. Third quarter non-GAAP sales and marketing expenses were $10.6 million or 134.5% of net revenues compared to $12.0 million or 166.2% of net revenues in the second quarter of 2022. The decrease in sales and marketing as a percentage of net revenues was due to a continued reduction advertising marketing spend, as well as a higher lead conversion rate. Non-GAAP research and development expenses were $4.3 million, 53.8% of net revenues, compared to $4.5 million, or 61.6%. net revenues in the second quarter of 2022. Non-GAAP, general and administrative expenses were 10.0 million, or 126.8% of net revenues compared to $16.0 million or 220.5% of net revenues in the second quarter of 2022. The decrease was primarily due to financing costs incurred in the second quarter of 2022 related to the convertible debt transaction of Patient Square Capital, and a net decrease in accrued professional fees. Non-GAAP net operating loss for the third quarter of 2022 is $23 million, compared to non-GAAP net loss of 29.9 million to the second quarter of 2022. Moving to the balance sheet. We had cash and cash equivalents of $88.1 million at September 30, 2022. This compares to $110.5 million as of December 31, 2021. Our cash burn in the third quarter approximately $90 million was better than a previously disclosed quarterly cash for an expectation as reduced third party payments were partially offset by payments associated with the Patient Square Capital transaction of approximately $4 million. Moving to cash burn guidance. We continue to expect fourth quarter cash burn to be between $20 million and $25 million with the potential to achieve cash burn in the lower half of that range. I'll now turn it back to Christian for closing commentary.
Christian Gormsen: Thanks Adam. The third quarter was pivotal in continuing to lay the groundwork for future Eargo success, including the stability of our cash paid business and developing an early reentry point in the insurance market. In addition, over the last few weeks, we have established a significant physical retail presence through our partnership with Victra with our innovative products, recent business progress and our recent capital race, we believe we have the potential to return Eargo to growth mode and continue to feel positive about the future of Eargo. I will now turn the call over to the operator for Q&A. Thank you.
Operator: Thank you. And we'll take our question from Margaret Kaczor with William Blair.
Unidentified Analyst: Hi guys, this is actually Mike for Margaret today. Thanks for taking the questions. Can you guys just talk about the dynamics of repeat customers in the quarter and what percent of gross shipments do they make? And then maybe what is your outlook for this channel, particularly given the potential increase in competition with the recent OTC act?
Adam Laponis: It's Adam. Thanks for the question and happy to talk about it. We continue to see repeat being a strong performance in Q3. And that actually was part of the ASP headwinds that we saw because of that, but it was just above 25%, between 25% and 30%, I believe it was at 27% - 28%, in the quarter up from the previous quarter by a couple of points. But we don't expect the OTC to have any negative impact on that this time. And we haven't seen that in our performance since .
Unidentified Analyst: Yes. Thank you. And then maybe just one, I can appreciate it difficult to provide guidance. But given the noise in the macro environment, can you talk about expectations for the business in 2023 maybe just qualitatively and what would make you comfortable in providing guidance in the future? Thanks.
Christian Gormsen: No, no, I think I'll start this off, right. Our focus has been bringing stability to Eargo and making sure that we position the company for where we see future growth levers while maintaining the cascade business. I think we have, as we talked about, done really well on that. We are ready to start working on more of the retail side with the picture partnership. It's too early, given where we are right now on that front. And I think we will learn a lot over the following quarters to see how that whole business model actually behaves and at what point we can actually provide a reliable guidance to the street on the impact on our business. So again, early on that one. I think the other piece, is, as I also mentioned, on the insurance side and we have a strong belief that both insurance and retail are long term growth drivers of the industry. And we're seeing nothing in the current market that points to anything else. And our focus is more on getting in and building that. But given the new regulations, I think, especially on the insurance side, it will take longer to figure out how exactly insurance is going to be working in the new structure of the market. Hence why we're not providing guidance. In the macro environment before I'll hand it over to Adam. For more specific comments into macro environment we have not seen any meaningful slowdown. We're continuing to monitor the same kind of traffic, interest and behaviors. So we're definitely optimistic about the future growth potential of the industry. And we believe that Eargo is well-positioned to address this sort of omni channel strategy that we have laid out. And Adam, I don't know if there's any further guidance to when we can do guidance. I think it's just premature at this point.
Adam Laponis: I think , clearly, there's the desire to get back into a more normal course of business upon which we could guide. So the two areas that I'm looking for, is building out that track record of understanding what comes out of the insurance, as well as what comes out the retail partnerships. So if we learn more about those two areas, that will be the trigger for me to be able to reissue guidance.
Unidentified Analyst: Thanks, guys.
Christian Gormsen: Thank you.
Operator: Thank you. And that will conclude today's question and answer session. And we'll also conclude today's teleconference. We do appreciate your participation as everyone may now disconnect.
