Artivion Inc (AORT) 2005 Q1 法說會逐字稿

Good morning and welcome to the CryoLife first quarter financial release conference call. At this time, all participants have been placed in a listen only mode and the floor will be opened for your questions following the presentation. It is now my pleasure to turn the floor over to your host, Mr. Steven Anderson -- President and CEO. Sir, you may begin.

Good morning, everyone, this is Steve Anderson -- the CEO of CryoLife -- and I would like to welcome all of you to our first quarter '05 conference call. With me today is Ashley Lee the Company's Executive Vice President, Chief Financial Officer and Chief Operating Officer.

Today we announced the best quarterly performance for the Company since the second quarter of '02. Revenues were up 17% over the same period a year ago. Management's belief that the corporate turnaround that we announced had started in the fourth quarter of '04 appears to be confirmed with the performance the Company has turned in for the first quarter of '05.

Revenues were up over the first quarter of '04 in all reporting areas of the business. Ashley will report on these trends in more detail in a few moments.

The agenda for the call today is as follows. Ashley will report on the financial results for the first quarter of 2005 by productline. He will comment on the status of products liability litigation. He will also comment on the status of the two shareholder lawsuits. He will bring you up-to-date on the successful convertible preferred financing that the Company completed during the first quarter of this year.

I will comment on the status of new product timetables for the spinal disk nucleus replacement and the BioFoam product for sealing endovascular leaks. Also a comment on BioGlue for Durasealing (ph), spreader tips for the BioGlue syringe, the 10 ml BioGlue syringe and the BioLastic adhesion barrier device.

I will also comment on the Cardiac Surgical Fellows training program that is being held here at CryoLife today and tomorrow.

At the end of my comments, we will return to Ashley for some financial guidance and then we will open up the conference call for questions.

At this time Ashley will discuss this morning's press release and our Q1 '05 financial results.

Thanks Steve. To comply with the Safe Harbor requirements of the Private Securities Litigation Reform Act of 1995 I would like to make the following statements. Comments made in this call which look forward in time involve risks and uncertainties and are forward-looking statements within the meanings of the Private Securities Litigation Reform Act of 1995.

The forward-looking statements include statements made as to the Company's or management's intentions, hopes, beliefs, expectations, or predictions of the future. All statements made during this conference call that do not reflect historical results or information should be deemed to be forward-looking statements. It is important to note that the Company's actual results could differ materially from those projected in such forward-looking statements. Additional information concerning risks and uncertainties is contained from time to time in the Company's SEC filings, including the risk factor section of our Form 10-K for the year ended December 31, 2004 and subsequent SEC filings.

This morning, we reported financial results for the three months ended March 31, 2005. We are continuing to see the results of our initiatives during the first quarter as evidenced by the improvement in our revenues and our gross margins.

Total revenues for the quarter ended March 31, 2005 were 17.7 million compared to 15.1 million in the corresponding period in the prior year, representing an increase of 17%. The net loss in the first quarter of 2005 was 1.5 million or $0.06 per basic and diluted common share, compared to a net loss of 7 million or $0.32 for basic and diluted common share in the first quarter of 2004.

BioGlue revenues were 9.9 million for the quarter ended March 31, 2005 compared to 8.6 million in the corresponding period in 2004. BioGlue revenues in the first quarter increased 14% over the first quarter of 2004. Of the 14% increase, 9% was due to unit growth and 5% resulted from price increases.

Tissue processing revenues were 7.5 million in the first quarter of 2005 compared to 6.2 million in the first quarter of 2004. Tissue processing revenues in the first quarter of 2005 were up 21% as compared to the first quarter of 2004. Cardiac revenues were 3.8 million for the first quarter of 2005 compared to 3.4 million in the first quarter of 2004, an increase of 9%. Vascular revenues were 2.7 million for the first quarter of '05 compared to 2.5 million in the first quarter of '04, an increase of 9%. Orthopedic revenues were 1.1 million for the first quarter of 2005, compared to 309,000 in the first quarter of 2004. We are very encouraged by the ongoing recovery in our orthopedic program.

Our overall gross margins on products and human tissue preservation services as a percentage of product and human tissue preservation service revenues was 55% for the first quarter of '05 as compared to 27% for the first quarter of '04. We expect an improvement in gross margins on services and products in the second half of the year, as a result of certain price increases as we continue our process improvement initiatives. Gross margins for tissue processing were 22% for the first quarter of '05, compared to negative 46% in the first quarter of '04. Gross margins increased as a result of certain price increases and increases in tissue yields.

General, administrative, and marketing expenses were 10.1 million for the first quarter of '05 and of '04. General and administrative expenses were favorably affected by a decrease in legal and consulting costs offset by an increase in insurance premiums.

You should refer to our SEC filings for detailed discussions on factors affecting our results of operations.

Now to litigation. We continue to make progress on outstanding litigation. Since our last public report we have resolved two additional product liability lawsuits and received an additional two lawsuits, leaving us with eight product liability cases outstanding. Two of these are covered by insurance which we believe to be sufficient. We have six product liability lawsuits outstanding that are not covered by insurance. We have recorded unfunded balance sheet reserves of $2 million for known product liability lawsuits and claims that remain open, offset by 1.1 million in estimated insurance recoveries. This amount represents our best estimate of the cost to resolve the known product liability litigation and claims. These reserves will be reviewed periodically and may decrease or increase in the future, based on our experience.

Additionally, we have an unfunded reserve of 8.5 million for incurred but not reported product liability losses, offset by $2 million in estimated insurance recoveries. These reserves will be reviewed periodically and may decrease or increase in the future, based on our experience.

We recently participated in settlement discussions with respect to the shareholder derivative lawsuit. Several issues remain open. Any settlement must be set out in definitive form and will require a board and court approval. Based on these discussions, we anticipate that the expenses of the plaintiff's council will be covered by insurance. Therefore we have accrued a total of 3.5 million as a component of accrued expenses and other current liabilities as of March 31, 2005.

Additionally we have recorded $3.5 million in other receivables as of March 31, 2005, representing amounts to be recovered from our insurance carriers.

The class action securities litigation is ongoing. We will report any material developments to you as they occur. Again, you should refer to our SEC filings for detailed discussions of our outstanding litigation.

During the first quarter, our cash balance increased from 9.2 million at December 31, 2004, to 26.1 million at March 31. The quarter end cash balances reflect approximately 18.7 million in net proceeds from our preferred stock offering.

As we have previously announced, we recently closed on a $15 million credit facility with Wells Fargo. As of March 31, all 15 million in borrowing capacity was available to the Company. We believe that the credit facility provides the Company with financial flexibility as we move forward and provides us with sufficient capital to last at least through the end of the year. Please see our SEC filings for a more detailed discussion of the credit facility.

Also during the first quarter, we completed an offering of 400,000 shares of 6% convertible preferred stock at $50 per share -- resulting in net proceeds of approximately $18.7 million. Upon any conversion of the preferred stock, we are obligated to pay the preferred shareholders all unpaid dividends that would have accrued through April 1, 2008. This is referred to as the dividend make-whole payment. The dividend make-whole payment feature is considered to be an embedded derivative and, therefore, we have recorded a current liability on our balance sheet to reflect the fair value of the derivative. We will recognize future fluctuations in the fair value of this derivative as nonoperating income or expense in our statement of operations.

Additionally, upon any future conversions we will have to take a non-cash nonoperating charge for a portion of the dividend make-whole payment that has not previously been accrued. This item will be disclosed to you separately in the future. Now I'll turn it back over to Steve.

We received written confirmation from UK regulatory confident authorities authorizing us to proceed with our initial pilot study implants for our nucleus pulposus replacement. There will be between 7 and 10 implants in the initial pilot study. We are now awaiting the approval of the Ethics Committee at the hospital in Scotland where the first implants will take place.

If these initial implants are successful, then it is our intention to move into an expanded clinical trial at a number of centers of excellence throughout Europe. Because of these regulatory delays we now expect the first nucleus pulposus implant to be around the end of the second quarter.

Endologix continues to move forward with the development of BioFoam for sealing leaks associated with endovascular grafts. A series of animal trials were conducted yesterday by Endologix to it evaluate the surgical implant technique. All of the animals are doing well this morning. We have submitted our recommendation to the Department of Defense for an animal trial for the use of BioFoam and trauma situations. The DOD response is expected toward the end of May.

The spreader tip for the BioGlue syringe that should enable surgeons to seal anastomoses (ph) more easily than with the standard applicator has been submitted to FDA via a real-time review and we expect this accessory to be approved for the United States market within the next two months. The spreader tip was recently approved by Canadian regulatory authorities and we were notified yesterday that we should receive written confirmation of its approval in Europe within the next 10 days or so.

Within the next 90 days we will be filing an FDA PMA supplement for the 10 ml syringe that will eventually replace the cartridge and gun system that we introduced two to three years ago. We're also preparing and will submit to the FDA an IDE for the use of BioGlue in the sealing of tears or holes in duramatter (ph), the tough fibrous tissue that covers the brain and spinal cord. This IDE is scheduled to be submitted to the FDA sometime before the end of this year.

The Company attended the following medical trade shows during the first quarter and was well-received. The Society for Thoracic Surgery, the American Association of Operating Room Nurses, the American Academy of Orthopedic Surgeons and the American Association of Thoracic Surgeons. The primary product that was featured in our trade show booths at all of these meetings was BioGlue.

We also introduced the first cryopreserved osteoarticular or OA graft that are used to remodel the end of femurs and hips at the AAOS meeting in February. The fact that this tissue is cryopreserved turns this surgery into planned elective surgery and not urgently scheduled surgery as it has been in the recent past. Management believes that CryoLife is the only tissue processor that knows how to successfully cryopreserve this unique cartilage.

Our biomechanical assessment and essential process validation of the Clearant high dose irradiation treatment of human orthopedic tissues has been completed. We expect that the first human implants of orthopedic tissue treated with the Clearant process will take place later this month. The sterilization validation is scheduled to be completed in early May; and it is our intention to seek a sterile claim for this tissue, processed by this method.

We are currently evaluating a new alternative technology as an adjunct to our disinfection treatment for the processing of all tissues. This new technology should provide additional clearance of bacterial spores, fungi and vegetive bacterial cells. The results from research and development are very promising and we intend to start introducing the process for certain orthopedic tissues later this month.

The Model 100 AV access device that utilizes our proprietary SynerGraft process is continuing to perform well in AV access applications in Europe. About 280 patients have had the Model 100 graft implanted in them. The longest implants are approaching 3.5 years and have a 75% patency rate. The post operative infection rate is very low with these grafts when you compare them to other synthetic grafts.

You'll recollect that the Model 100 is made from a bovine ureter that is treated with the SynerGraft process during the manufacturing process. The SynerGraft process removes cellular debris. The Model 100 is not fixed with any cross-linking agent and does not require any immunosuppressant therapy. Over time this device may be repopulated with the patient's own cells. If you wish to get an idea of the performance of this graph you can access a film on our corporate website that discusses its human clinical performance.

The film features Mr. Chris Darby, the English surgeon who is conducting our clinical trials at Oxford University, and it also includes an interview with the first patient who had the graft implanted about three years ago. This graft is still patent and functional after 3.5 years. CryoLife is sponsoring a seminar on the 3.5 year results of the Model 100 AV access device at the Vascular Access Society meeting in Berlin, Germany on May 26.

We are preparing to file the application for the BioLastic adhesion barrier device with our European notified body in the fourth quarter of '05 or in the first quarter of '06. A 5 10-K application of the FDA will be submitted a similar timeframe. The initial uses of this product will be in cardiac surgery and it is intended to act as a barrier for adhesions between the heart and chest wall when the heart's pericardial sac has been removed during heart reconstruction.

A frequent complication in redo cardiac surgery are adhesions that have formed between the heart and the chest wall, making the second operation more tedious and problematic.

We have not heard anything from the SEC since December '04 regarding their investigation. We have to assume that that investigation is ongoing.

Today and tomorrow -- May 5 and 6 -- we will be hosting our annual Senior Cardiac Fellows training program here in our Physicians' Training Pavilion. The course is for all senior cardiac fellows throughout the United States and is directed towards lectures and laboratory training, related to adult and pediatric cardiac reconstruction. The course director is Dr. Ronald C. Elkins, Professor Emeritus of Thoracic and Cardiovascular Surgery at the University of Oklahoma.

The keynote speaker of the program is Dr. Denton Cooley, President and Surgeon-in-Chief of the Texas Heart Institute in Houston, Texas. The distinguished faculty includes Dr. Kenton Zare (ph), associate professor of surgery at the Mayo Clinic, Dr. Emile Hacha (ph), who is with the Department of Pediatric Cardiothoracic Surgery at Boston's Children's Hospital and Dr. John Ferrenbachter (ph) the Department of Cardio and Thoracic Surgery at the University of Indiana.

The primary subjects of the meeting center around right and left cardiac reconstruction. The Ross procedure, the Ross 2 procedure, the use of allograft (ph) heart valve and cardiac reconstruction and the use of BioGlue in cardiac reconstruction procedures.

That is the end of my comments and now I'll turn the conference call back over to Ashley for his financial guidance.

Before I give guidance I would like to correct one comment that I made earlier. I indicated -- inadvertently -- that our loss was $1.5 million for the quarter when actually it was $1.4 million for the quarter.

So now on to our guidance. Overall we expect that our business will be somewhat flat in the second quarter as compared to the first quarter. We don't expect our current process improvement initiatives to be implemented until later this quarter and into the third quarter. So, accordingly, we expect a more meaningful increase in revenues and margins in the second half of this year.

For the first quarter, we believe that total topline revenue will be in the range of $16.9 to $18.7 million. For 2005 we expect full year revenues of between $71 million and $78 million.

We expect BioGlue revenues for the second quarter of 2005 to be between 9.7 and 10.5 million. For the full year 2005 we expect BioGlue revenues of between 40 and 42 million. We expect tissue processing revenues for the second quarter of 2005 to be between 6.9 and 7.9 million. For the full year 2005, we expect tissue processing revenues of between 30 and 35 million. The most significant area of growth is expected to be in the orthopedic program where we expect revenues between 6 and 8 million for the full year of 2005.

As we have previously communicated, we expect the gross margins will improve during 2005. We are working on initiatives that are scheduled to be implemented in the second and third quarters of this year. We believe that they will have a positive effect on our current gross margins. We expect the second quarter margins will be approximately the same as the first quarter with an increase in gross margins in the second half of the year.

We expect general and administrative expenses to be between $10.5 and $11.5 million dollars for the second quarter. For the full year of 2005 we expect general and administrative expenses to be between 42 and 45 million. These amounts do not include any favorable or unfavorable adjustments that may be made to address product liability claims or other litigations.

R&D expenses are expected to be approximately $1 million for the second quarter. For the full year of 2005 we expect R&D expenses to be between $4 and $5 million. That concludes my comments and now I'll turn it back over to Steve.

At this time, I will open up the conference call for questions.

(OPERATOR INSTRUCTIONS) Raj Denhoy of Piper Jaffray.

Just a couple of questions on the tissue business. I think we were pretty surprised to see the tissue margins pick up in the quarter to 50% -- I think it was the fifth straight quarter you have seen an improvement there. But it sounds like you're thinking that that might now top out a little bit. You are not looking for much gross margin expansion the second quarter. I guess, historically, that number has been as high as 45, 50% and I'm curious why you think it's going to stop now in a sense or why it would top out at this point?

We don't expect that it's going to. The top out is temporary, Raj. We implemented some price increases at the beginning of the year. What we think -- and so without any traditional price increases or any significant process improvement initiatives ongoing right now, we expect the margins to move sideways a little bit in the second quarter. What we expect to drive the margins in the third and fourth quarters as Steve and I both indicated -- we are working on some process improvement initiatives that we think are definitely going to have a positive effect on our tissue yields going forward. In addition to that, for the first time in a while, our margins are at a point where we can be very comfortable about being proactive and going out and trying to increase procurement. We have already started along that process and we are starting to see some positive trends develop there. So with these new initiatives that are going to positively affect the tissue yields, along with an expected increase in procurement, we fully expect to see a resumption and improvement in our margins starting in the third quarter and going forward from there.

I know you won't make any comments as to how quickly you could get back there, but you think -- resuming back to where you were historically is feasible?

It's too early to tell at this point, Raj. Obviously that is our objective -- to get margins back to where they were but I think it's a little too early to tell. I think once we make it a little bit further along these improvement initiatives we are going have a better idea. So again, hopefully, second quarter call, third quarter call we will be able to give you more color there.

But we certainly do expect an improvement in the second half of the year.

Maybe you could just comment on the news out of the FDA about an ongoing tissue recall. I guess it's been about a year-old that got some wider play in the last couple of weeks. Maybe you could just give us your take on that?

Yes, I'll be happy to respond to that. The look back that we did refers to tissues that were processed between '93 and '01 and when we adopted new donor eligibility requirements in late '02 we felt it was the right and prudent thing to do -- to go back and review our records for those years. We informed both the FDA and the AATV that what we were doing and got their buy in and conducted the look back. We filed our formal report with the FDA on September 3, '04, and we responded to some questions they sent us on Dec. 13, '04. We have heard nothing further.

The FDA classified us as a Class 2 recall which applies when the probability of serious health consequences is remote. As you know or probably know a Class 2 recall requires the notification of consignees but does not involve a general public notification. We had about nine tissues that were sent back to us by consignees. We initiated this action voluntarily to ensure the quality and safety of our tissues.

I guess the worry -- is there a potential liability exposure here at all? I guess I'm just thinking out loud but in a sense there was 195 grafts I think covered in this.

I think it was 165.

In that range and you have gotten only around 10 of them back so a number of them were put in or they are sitting in a hospital someplace. And I noticed there wasn't actually anything that was specifically wrong with these tissues just a change in process. But is there a potential exposure? Is that maybe one of the drivers behind the reserve for unknown product cases?

That is not one of the drivers for behind the unknown liabilities. Quite frankly, a lot of these tissues -- of the 165 -- in all likelihood were implanted long ago and although (technical difficulty) not going to be any risks associated with this but we don't perceive right now that there's any risks or liability associated with these. Although there could be but we are comfortable with what we've done in the recall and, at this point, don't expect any significant liability if any to come from this.

Maybe one other on tissue and I will get back in line. Is there any update on the talks with the FDA on SynerGraft here in the States?

We've had continuing talks with them about SynerGraft. Both in face-to-face -- meaning in person -- and at their headquarters in Washington and on conference calls. The issues with SynerGraft concern both CDRH and CEBR (ph) because as you will recollect at the moment (indiscernible) graft heart valves are regulated as Class 2 medical devices and the conduits and vascular grafts processed by the SynerGraft process are regulated as banked human tissue. So that's why there are two separate groups; and we are in contact with them on a pretty routine basis, and continuing our discussions, and working through the issues with them.

I think that's about all I can say at the moment but we are encouraged with their response to our meetings.

Raymond Myers of Emerging Growth Equities.

I want to talk about the Clearant-Processed tissue. I think there's a lot of opportunity in the redevelopment of your orthopedics market. I'm interested in learning, what were some of the circumstances surrounding the delay of the launch of the Clearant-Processed tissue to -- I presume now some time in May -- and is that time to coincide with the May 25 implementation of the good tissue practices?

No, it's not timed to comply with the good tissue practices because it relates only to the orthopedic tissues; and they have always been banked human tissues. From our point of view, it wasn't a big delay. It's just a matter of completing validations and working through the completion of all the validations, and having the tissue to do that, and making sure that the I's are dotted and T's are crossed.

This new sterilization process that you'll be adding in conjunction with the current process, is that meant to replace the Clearant-Processed or is it (MULTIPLE SPEAKERS) what it is?

It's an adjunct. And I don't know whether I would classified as a sterilization process. I think I would prefer to classify it as another decontamination process.

That's helpful; thank you. Maybe just to get on some more financial nitpicky things. What is the basic and diluted share count today?

Let's see. I think this is correct, Ray -- those are actually included on our press release but the basic share count is 23,000,440 and the diluted share count is 23,000,908.

I think on the press release that was the numbers from the end of the first quarter. I mean -- .

You mean as of today?

Yes.

I don't have that as of today.

Okay but these numbers are reflective of the shares that were sold through the quarter -- fully reflective?

You mean of the preferred shares?

Yes.

No, they're not.

Okay, that is what I am trying to get to. Do I just add the 400,000 preferred shares?

No. The 400,000 preferred shares and, again, I don't have all the specifics of that transaction in front of me right now but those preferred shares are convertible into common shares at a certain ratio. I refer you back to the S3 to get the exact ratio there. So if you consume, I mean if you assume conversion, at some point in the future you would take -- those details would give you an idea of how many shares there would be after conversion of those 400,000 shares.

Thank you. Are we seeing any competition effecting BioGlue sales in -- particularly in Europe -- or is it still too early for that?

I think things are going well with BioGlue. It's the strongest glue on the market and it has its very specific uses and preferences by the doctors. It isn't getting any competition from fibron adhesives because fibron adhesives aren't nearly as strong. A fibron adhesive glue is not going to be able to glue together an aorta, for instance. So, I think from my perspective, the surgical adhesives that are available for doctors have tended to segment themselves in the market not unlike you fine automobiles or trucks segmenting themselves for many different uses. I think that's being borne out by the way the different products are being used.

That makes sense. Thank you. If I could ask another one?

Sure.

Orthopedic revenue declined very slightly, sequentially. Obviously year on year was very strong. Was that just a blip related to the delayed launch of the CryoLife preserve tissues? Was there something else to that? And then, what should we expect in the orthopedic line item throughout the rest of this year?

I don't think that we've given specific guidance as to orthopedics by quarter. We have said 6 to 8 million for the full year. But in the first quarter of this year, the reason that we were down sequentially from the fourth quarter of last year is that we processed a lot of tissue under the -- utilizing the Clearant technology and until we recently completed those validations and so forth we were not allowed to distribute that tissue.

So, consequently, by processing and utilizing the parent technology, it was not processed with our legacy technology to standard cryopreservation and, therefore, the actual number of tissues available to ship was actually down slightly in the first quarter as compared to the fourth quarter of last year. So -- to answer your question we think it's a blip and we expect those revenues to continue to grow in the future.

Then related to the marketing expense -- sales and marketing was down in the quarter. Would I also assume that's a related blip to the launch now happening hopefully in the second quarter?

General and administrative expenses were relatively flat year-to-year and maybe down slightly. It could have a little bit to do with the delayed launch. Some of it was probably due to the timing of when we attend conventions and things of that nature. So there's a lot of factors going to that including the delayed launch Clearant.

That is all the time we have for today. I would like to turn the floor back over to management for closing comments.

Thank you for joining us and we look forward to talking to you in a couple of months.

Thank you. This does conclude today's teleconference. Please disconnect your lines at this time and have a wonderful day.