Capstone Holding Corp (CAPS) 2004 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen, and welcome to the OrthoLogic second-quarter 2004 earnings call. At this time all parties have been placed on a listen-only mode, and the floor will open for questions following the presentation. At this time it is my pleasure to turn the floor over to your host, Larry Delaney of The Berlin Group.

Thank you, and good morning. Thanks for joining us to discuss second-quarter and year-to-date 2004 financial and operating results with the management of OrthoLogic. OrthoLogic management will provide an overview of the results, and then we will open up the call to your questions. But first, statements in this conference call or otherwise attributable to OrthoLogic regarding our business that are not historical facts are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from predicted results.

These risks are discussed in our form 10-K for the fiscal year ended December 31, 2003; our form 10-Q for the quarter ended June 30, 2004, and other documents we file with the SEC. With that I will turn the call over to Tom Trotter, President and CEO.

Thank you, Larry, and good morning. Thank you for joining us for our second-quarter 2004 conference call. Joining me on the call this morning are Sherry Sturman, Senior Vice President and Chief Financial Officer and Dr. Jim Ryaby, Senior Vice President and Chief Technology Officer. Following my opening remarks, Sherry will provide additional financial information, and Jim will provide an update on the Chrysalin product platform.

Before addressing the second-quarter results, I will make several comments regarding our recently completed acquisition of Chrysalis BioTechnology, Inc. CBI. The acquisition of CBI represents a major strategic achievement for our Company and a key milestone in a three-year effort to reposition OrthoLogic as a late stage drug development company. Among the many benefits this acquisition brings to our company, the following are the most important. Significant expansion of the potential products and the Chrysalin product platform beyond orthopedics to include wound healing, dental bone restoration and cardiovascular repair. The combined worldwide potential market opportunity for these product candidates beyond orthopedics is in excess of 3 billion annually.

All manufacturing rights, as well as the resulting increase in product margins associated with all potential future Chrysalin products, a new worldwide exclusive license from the University of Texas for all potential Chrysalin applications, elimination of all future milestone payments as well as a reduction in royalty rates, the ability to sublicense, form strategic alliances or partnerships for any Chrysalin product in any geographic region worldwide. Control of all Chrysalin TP508 intellectual property rights for patent filings and other legal purposes, rights to all preclinical and clinical data developed by CBI for all non-orthopedic indications. And finally, the acquisition provides OrthoLogic with an immediate expansion of our technical and scientific expertise, including three additional Ph.D.s and an M.D.

Dr. Darrell Carney, the founder and Chairman of CBI will continue working with us as a special consultant. In addition since we have been closely collaborating with CBI for the last six years beginning with our initial preclinical evaluation of Chrysalin in 1998, we anticipate a very smooth transition for the CBI group into OrthoLogic with no expected disruption to our ongoing development programs.

Over the last few months since the signing of the definitive agreement to acquire CBI, we have begun to evaluate several of the potential Chrysalin product candidates beyond orthopedics. We will be discussing our 2005 development plans for all potential Chrysalin products, both orthopedic and non-orthopedic on our next regularly scheduled conference call following the close of the third quarter. In a moment Dr. Ryaby will be providing additional information regarding our near-term plans for all of the potential Chrysalin product candidates.

Turning to the results for the second quarter of 2004, we are very pleased to report the following progress on major strategic and operational goals for the year. Patient enrollment has been completed for the Chrysalin Phase I/II human clinical trial for spine fusion. We currently project completion of patient enrollment for the Chrysalin Phase III human clinical trial for fracture repair by the end of 2004. We plan to submit an Investigational New Drug application or IND for a Chrysalin cartilage defect repair indication to the FDA by the end of 2004. And finally we expect to complete the integration of the CBI acquisition and it will be completed by the end of 2004.

Moving to a snapshot of the financials, OrthoLogic's net loss for the second quarter of 2004 was 4.2 million or 12 cents per share, which was somewhat lower than we had initially anticipated. In addition, we ended the second quarter with approximately 115 million in cash and cash investments and no long-term debt. I will now turn the call over to Sherry who will provide you with additional financial information.

Thank you, Tom. Good morning. Before discussing the financial effects of the CBI acquisition, I will first provide a brief overview of OrthoLogic financial results for the second quarter and year-to-date. Due to the prior divestiture in the fourth quarter of 2003, the Company no longer has sales or gross profit from sales to report. The prior year's sales and expenses from the divestiture are consolidated in the discontinued operations line.

The administrative costs for the second quarter of 2004 were 616,000 compared to the 1.3 million attributed to the continuing operation from the second quarter of 2003. In 2003 prior to the divestiture the Company had more administrative overhead that was not directly attributable to the R&D program. This year all administrative functions are focused on our research and clinical programs with more of these costs directly allocated to R&D. Year-to-date administrative expenses total 1.2 million.

In the R&D programs the Company spent 4 million in the second quarter of 2004 compared to 2.2 million in the same period of the prior year. The increase is due to significant expansion of our clinical and preclinical program since the second quarter of 2003. Year-to-date R&D spending totaled 7.4 million compared to 3.6 million in 2003 for the same period. The combined cost of enrolling additional patients in our clinical trial and our R&D expenses have increased as we expand our research and preclinical studies to include other indications.

Our expenses were offset by the collection of 81,000 during the quarter and 192,000 year-to-date for the settlement agreement resulting from the CPM divestiture in 2001. Our cash and investments earned a net 301,000 of interest during the quarter, and 607,000 year-to-date. Our net loss for the quarter is 4.2 million and 7.4 million year-to-date. The net loss per share is 12 cents for the second quarter and 22 cents per share year-to-date.

Turning to the balance sheet, our total cash and investments as of June 30 was 116 million. The decrease of 4 million in our cash and investments this quarter is directly due to operations. Our anticipated cash utilized in operations will be approximately 5.5 million in the third quarter, and 6 million in the fourth quarter. Combined with the 2.5 million in purchase price and the 1 million in acquisition costs for CBI, we should end fiscal year 2004 with approximately 100 million in cash and investments.

Our receivables from the prior divestitures have decreased to a net balance of 86,000. We anticipate completing the collection activity this year. With the exception of the payment for our income taxes in the second quarter our balance sheet is very similar to our fiscal year 2003. The acquisition of CBI on August 5th is not reflected in our second-quarter financial presentation. OrthoLogic’s financial position does not change significantly with the CBI acquisition. The initial investment of 750,000 for Chrysalis will no longer be carried as an investment on the balance sheet. Approximately 26 million of the purchase price will be expensed as in process research and development, with approximately 2 million allocated to patents and licenses from the purchase price.

CBI has operated as a development stage company since its inception. In accordance with FAS 141 and the definition outlined in the AICPA practice aid, since the technology purchased in the CBI acquisition had not yet received FDA approval for any indication, the technology is determined to be incomplete from an accounting standpoint, and therefore the majority of the purchase price will be expensed as IP R&D. In accordance with the definitive agreement we will issue additional shares of OrthoLogic common stock valued at 7 million upon the occurrence of certain trigger events. These include a change in control of OrthoLogic or the acceptance by the FDA of a new drug application for a product based on Chrysalin; if either trigger occurs within five years of August 5, 2004. If the trigger occurs, the additional 7 million will be added to the purchase price and expensed at that time.

Our estimated loss for fiscal year 2004 of 22 to 23 million will be increased by the IP R&D expense of 26 million resulting in a net loss of approximately 48 to 49 million for 2004. The additional 26 million of IP R&D expense will not increase the company's NOL. For the asset sale and liquidation of Chrysalis to qualify as a reorganization, OrthoLogic will assume the tax basis of the Chrysalis assets. At the end of the second quarter we have accumulated approximately 20 million in NOL carry forwards. By year end the anticipated NOL will be approximately 34 million. We issued 3.5 million shares of OrthoLogic common stock valued at 25 million to CBI at the time of closing based on the 10-day average closing price of $7.22, along with a cash payment of 2.5 million. Of the 25 million purchase price paid in OrthoLogic stock, approximately 18 percent valued at 4.5 million will be deposited into an escrow fund for a period of 18 months.

Although these shares will be held in escrow, they will be included in OrthoLogic's total shares outstanding. As reflected in our 10-Q filing, OrthoLogic had 34.6 million shares of common stock outstanding at the end of July. The additional 3.5 million shares issued for the CBI acquisition results in total shares outstanding of 38 million at the time of closing. The fact that we owned approximately 6.7 percent of Chrysalis prior to the acquisition will allow 200,000 shares to be distributed back to OrthoLogic, which we will retire as treasury stock.

Prior to the acquisition, OrthoLogic was utilizing much of CBI's capacity and support for ongoing Chrysalin and orthopedic indications. The costs related to the ongoing CBI development programs and administration are not expected to significantly impact our expenditures or burn rate for the rest of the year. That concludes my summary. Back to you, Tom.

Thank you, Sherry. Dr. Ryaby will now provide an update on the development of the Chrysalin platform.

Thank you, Tom. Good morning. We've made significant progress on our Chrysalin product platform this past quarter. As you heard from Tom, we are excited to announce the completion of the CBI acquisition and look forward to integrating the excellent team in Galveston into our overall development program for the Chrysalin product platform.

We've been working closely with the scientific and technical team at CBI since 1998, and we are very impressed with their capability and expertise. This integration will bring to OrthoLogic added expertise in critical areas such as analytical chemistry, biomaterials, drug manufacturing and pharmacokinetics, in addition to the knowledge base that they have in cardiovascular and dermal research. This integration will significantly complement and enhance the capability of our Tempe-based, basic research, preclinical development and clinical teams. We believe that this acquisition will allow us to optimize the potential commercialization of the Chrysalin product platform.

First, I would like to provide an overview of our program focused on orthopedic indications. We envision 5 orthopedic indications in the product pipeline for Chrysalin. These are fracture repair, spine fusion, cartilage defect repair, ligament repair and tendon repair. Our most advanced clinical program is for the fracture repair indication with a Phase III clinical trial well under way. We expect to enroll approximately 500 patients in this trial, approximately two-thirds of the patients have been enrolled in the study and our expectation is to complete enrollment by the end of this year. To date no adverse events related to Chrysalin have been reported in the study, and patient compliance with follow-up requirements has been excellent.

In addition, we expect to file an IND amendment for an additional randomized multicenter clinical trial on fracture repair in the next several months and plan to begin enrollment in this study in the Fall of this year. Regarding the spine fusion indication, patient enrollment has been completed in the Phase I/II human clinical trial for spine fusion. Data from this initial trial is expected to be available by the end of the second quarter of 2005 after the twelve-month follow-up is completed.

Our preclinical research on spine fusion is also progressing well. Preclinical studies of Chrysalin on spine fusion will be presented at the upcoming North American Spine Society meeting this October to be held in Chicago. This work was conducted with collaborators at Hospital for Special Surgery in New York. We are now proceeding with plans for additional preclinical studies to support a new human clinical trial evaluating Chrysalin for an interbody fusion indication. We plan to begin this trial before the end of 2005.

The third potential indication in the Chrysalin product platform is the use of Chrysalin for cartilage defect repair. We made two presentations recently at the International Cartilage Repair Society meeting in Ghent, Belgium in May, and we received positive feedback from many attending the conference. The preclinical presentation focused on advanced formulation studies that we performed with our longtime collaborator Dr. Daniel Grande of North Shore LIJ Research Institute on Long Island. Our second presentation described quantification of cartilage defect volume using MRI imaging. This work done in support of clinical protocol development was conducted with Imaging Therapeutics of San Mateo, California. Our goal remains to submit an Investigational New Drug, IND application for a cartilage defect repair indication before the end of this year and to begin a human clinical trial in 2005.

The fourth and fifth indications for ligament and tendon repair present major opportunities for OrthoLogic and the orthopedic soft tissue repair arena. We have initiated our first preclinical study of Chrysalin in tendon repair with another research team from Hospital for Special Surgery in New York and results from this study should be available by the end of this year.

Regarding the non-orthopedic indications for Chrysalin there are three major areas of focus where the peptide has shown promising results. These are dermal wound repair, cardiovascular and dental. The most advanced area is the application of Chrysalin in wound healing. Chrysalin has been studied both preclinically and clinically in wound healing. Preclinical studies have been published showing that Chrysalin can accelerate the rate of wound healing. And CBI has completed a Phase I/II human clinical trial evaluating the use of Chrysalin on diabetic ulcers and promising results were observed with Chrysalin treatment. In addition, no drug-related adverse events were reported in this study. Current efforts in this area are focused on optimizing the formulation for a potential commercial product.

In the cardiovascular area preclinical studies have been conducted evaluating the effect of Chrysalin on myocardial revascularization. The results from two different preclinical models show promising results with Chrysalin treatment increasing the vascularization in ischemic cardiac tissue and restoring cardiac function. This work was conducted by CBI scientists in collaboration with the research team from the Debakey Institute at Texas A&M. Additional preclinical studies are being planned as well as evaluation of potential delivery and formulation approaches in support of an initial human clinical trial.

In the dental area an initial preclinical study has been completed by researchers at Louisiana State University school of dentistry evaluating the use of Chrysalin for dental bone formation. These results showed that Chrysalin stimulates a significant increase in the rate of bone formation. This result is also supported by many of our orthopedic preclinical studies. We plan to move forward with additional preclinical work and data permitting plan to submit an IND for a human clinical trial for this indication before the end of 2005.

In conclusion we continue to make excellent progress in our preclinical and clinical studies of Chrysalin and are very excited about the significant potential of the Chrysalin product pipeline. Our research in clinical work to date indicates that Chrysalin has a novel and compelling mechanism of action, is effective in multiple relevant preclinical models, has an excellent safety profile to date and has demonstrated preliminary efficacy and initial human clinical trials for acceleration of fracture repair and healing of diabetic ulcers. Tom, back to you.

Thank you, Jim. Before moving on to your questions, I will now provide you with financial guidance for the balance of 2004. With the completion of the CBI acquisition, we are now projecting a loss of approximately 48, 49 million for this year or approximately $1.30 per share. This includes the costs related to the acquisition of CBI. We now project that our net cash burn rate for the full year of 2004 will be approximately 20 to 21 million, resulting in a 2004 year end balance of cash and equivalents of approximately 100 million.

At this time, operator, we will now open the call up for questions.

(OPERATOR INSTRUCTIONS) Justin Cable of B. Riley & Co.

Just a few quick questions for me. Two questions, actually. Maybe just kind of rehighlight the timeframe on where you would expect to see commercialization for the various applications on Chrysalin is my first question. And second question is I guess talk about again the market potential for the orthopedic indication.

Well, I think we can talk a little bit about that, Justin. Some of the products are still in very early preclinical work or in initial clinical trial, so it is a little difficult to project but we can certainly talk about fracture repair. In the case of acceleration of fracture repair, we have an ongoing Phase III clinical trial. That trial as Jim indicated, is expected to conclude enrollment by the end of this year. That trial has a six-month follow-up period attached to it and allowing for taking a look at the data we’ll probably have some results from that in the Fall of next year. That program is on track.

Two, data permitting allow us to file an NDA for our first Chrysalin indication for the end of 2006. So that is the most advanced program toward commercialization. If we move beyond that, we have two products now, one in orthopedics and one in dermal wound healing, which have completed the Phase I/Phase II trial -- one in spine fusion which concluded earlier this Spring and one in diabetic ulcer which concluded a little more than a year ago. Those products would be considered probably the most advanced candidates beyond fracture repair.

Now in terms of potential commercialization for those, they would have to be sometime probably beyond the 2010 timeframe. However, if the NDA is successful, for the fracture repair product, potential commercialization could be in the 2007, 2008 timeframe. Beyond that the other products in cartilage and the other indications Jim mentioned are in preclinical work, and it is certainly premature to talk about commercialization of those. So near-term the fracture acceleration repair the most advanced.

In terms of the market potential for the various products, if we talk about fracture repair, which is the one we are the most excited about, the reason is the recent work from Frost and Sullivan that we had conducted taking a look at the worldwide fracture market indicates more than 100 million fractures worldwide as of today. And that number continues to expand with the demographics and the aging of the population. If we look at just the markets where you could have ready access in Europe, Japan, Middle East, United States probably at least 30 million potential fractures could be candidates for our fracture product.

If we assume an average selling price as we have discussed in the past of 300 to $500, you are talking about a very significant market opportunity, many billions of dollars. So we're very excited about it. We think it’s potential first to market status. We believe we have the most advanced product toward approval in the world for what is yet an unmet need in the orthopedic arena.

If we take a look at the spine fusion product, that also has a large market opportunity. I think people are aware of INFUSE from Medtronics; it is bone morphogenic protein, I believe the last numbers I've seen it is currently annualizing at more than 300 million a year in sales. And our spine fusion product could potentially be a low-cost alternative to bone morphogenic protein. So a large and growing market there, as well.

The diabetic wound healing product, which has completed a Phase I/Phase II also has a large market opportunity, generally estimated at about 2 billion a year. So without going into the other products which are in preclinical trials, I think if we look at the total market opportunity for the Chrysalin product platform it is in the 15 to 18 billion a year potential worldwide.

Jim, did you have anything you wanted to add on the trust? Okay, that help you, Justin?

Yes, that is a good overview. Last question I have and I will turn it over, as far as your strategic partners go I guess again remind us -- I believe the strategy is for each application you can pursue a different strategic partner. What kind of timeframe should we expect to see the first strategic partner and which applications would you be targeting?

Obviously that is a multifaceted question, but I would tell you that I would reiterate at the start our overall approach here is to take this as a point in time decision. As of today we have made no decision to partner with anyone for any Chrysalin indication anywhere in the world. However, now that we have acquired CBI and we've seen a significant expansion in the Chrysalin product platform beyond orthopedics to potentially as many as eight different potential Chrysalin products, we are clearly going to need to make some decisions relative to which of those we believe we should be developing internally and which of those may lend themselves to a collaborative effort with outside parties. As I indicated earlier in my comments, we are still in the evaluation stage of that with our Board of Directors and senior management people. And we hope that perhaps by our next conference call we will be able to give certainly more clarity on what our development plans are for all of the potential products for 2005.

Now in terms of which products might be the best candidates, they are all very good candidates. There is significant interest both in orthopedics and outside orthopedics for partnership potential opportunities, and that is something that we are going to be taking a look at. I can't give you a timeframe to tell you that is a near-term or a long-term decision. It is going to be a point in time as our Board of Directors evaluates the opportunities and those companies which may present themselves as potential viable folks to work with.

Okay. Thanks.

(OPERATOR INSTRUCTIONS) Bill Plovanic of First Albany Capital.

Just a question in regards to the timeline for fresh fracture repair. It looks like it has been extended to year end maybe out a couple of months. Is there any difficulty in enrolling for that study or any reason that it is now year end versus the fall previously?

Well, I think when we gave our latest update on timeline for that which was also in our annual report in the spring time, we set a goal for completing enrollment in that trial this year in 2004. Obviously enrollment rates vary depending upon the season, and the speed at which you can put people into the trials, but we believe it is within the window of what we've been talking about. We may have been more hopeful earlier that the trial would be concluded this fall rather than a little later on this year. On the other hand, the day of the follow-up period is very short for this trial compared to other clinical trials. And we don't see a significant change in when we believe the data would be available.

Okay, and then secondly, I guess you had said that you expect to file your NDA in fresh fracture before the end of '06.

That is the current timeline, data permitting. We are starting a second fracture trial to provide additional information for the NDA filing, but we expect to have that completed in time to support an NDA filing in 2006.

Okay, and then if you could give us just an idea of presentations that you have; you give us a little look with NAS later this year. Any other conferences that you will – we’ll see some clinical papers presented at?

The presentation at NAS in fact will be a preclinical spine fusion presentation, so that is not -- remember the current spine fusion clinical trial we expect to have data from that really in summer time of next year. So certainly this NAS presentation is a preclinical study. We have -- we are giving preclinical research presentations pretty much every other month at major international or national research meetings. So certainly the International Society of Fracture Repair meeting, which is held every two years, we actually have I think 5 presentations being given at that meeting in November. And we have several presentations at the Orthopedic Research Society as well which will be in February 2005, as well as the combined Orthopedic Research Society's meeting in October of this year. So if you are interested in these, we can certainly highlight these for you or send you copies of these abstracts.

I think just to comment on that we have an extensive preclinical program, as you know across all of the indications, not just orthopedic but beyond orthopedics and suffice it to say we've got a lot of presentations that are going to be made on the scientific side supporting the overall view that Chrysalin is a very powerful product across a broad range of wound repair and bone repair indications. But those are preclinical studies. The next clinical paper or results which might be available will depend upon the conclusion of the trial and when that might happen, but certainly not before the fall of next year.

Okay, good. And then talk about just a couple of housekeeping items. You gave us general expenses for the rest of the year. I was wondering do you have an idea of bringing Chrysalis on board? How much the G&A is going to go up and what the quarterly run is there and what the R&D run is with them on board? Do you plan on keeping the Galveston facility open? And then a real esoteric question, but the sublet the space of the -- your discontinued businesses -- dj is integrating Regentek and I think the CPM business, I do not know how well that's doing but I know that you had originally sublet all that space out in Tempe. Have you allotted for that fully if that comes back to you, will that cause you to burn any more cash?

I will make a comment and then we will turn this over to Sherry. I think as we've indicated we don't see any impact on our near-term burn rate between now and the end of the year relative to the CBI acquisition. The majority of the work they were doing was contracted work for us in support of our orthopedic programs. So we don't see any change in that, and I think Sherry gave some detail, good detail on how the expenses play out for the rest of this year. We are still in line with the overall targets we've been giving, and presenting on our guidance on expenses.

Beyond 2004, for 2005 we have not come to a conclusion on that yet. We generally do that here through the fall, and on our next conference call toward the end of October early November we will be providing some guidance for 2005, what we anticipate would the programs we would be supporting and what the P&L would look like and so forth. On CBI in terms of their location and hours, they have a small facility in Galveston, Texas. It is a leased facility basically on a month-to-month basis. We see and have no interim plans here to pull that operation and move it to Tempe. We do not believe there is a need to do that at this time. That could change in the future, but certainly at this time there is no intention to do that.

As far as our facility here in Tempe goes, yes, as you noted dj Orthopedics has decided to integrate their Regentek business into their Vista facility and will be vacating the space they have here in our Tempe building by the end of this year. We have a couple of other tenants who are in our building here in Tempe. Basically one which is TGen, which is the genomics project here in Phoenix, took the space or most of the space that was vacated when ORI moved the CPM business out. So we still have several tenants in the building, and right now the facility is fully occupied at least until the end of this year. Beyond that time we have not made a facilities decision longer-term. We may, in fact, decide to move on to a facility that is more appropriate for our size but probably not (technical difficulty) at the earliest the middle of next year. So that's what I would (technical difficulty). Sherri do you have any specifics you would want to comment on the financial impact for next year relative to facilities?

Well, from a facility standpoint we do, as Tom mentioned, we are looking at what our options are and given where our location is we have several parties that have been interested in the full building. So for right now we are not eliminating that aspect that we could potentially go to something smaller and get out of this lease early. The first part of your question when you were speaking about administrative expenses, the CBI location is very small. As we talked about, our current burn rate on the administrative side was a little below what we had initially budgeted for the year. So I do believe we will be able to roll in CBI and still be able to hit what we had given out initially as our forecast for admin and R&D expenses. And I think, Tom discussed the Galveston side. So was there any part of your question that I missed there?

When is the lease up on the Tempe building?

It's November of 2007, so we currently have right around three years left.

Great. Thank you.

(OPERATOR INSTRUCTIONS) Mr. Trotter, we appear to have no more questions. I would like to turn the floor back over to you for any closing comments.

Thank you, operator. We appreciate all of you joining us on the conference call today. We are very excited about the CBI acquisition, as I stated, looking forward to integrating that and believe we have significantly expanded the product potentials here of the Chrysalin product platform and significantly enhanced shareholder value through this acquisition. With that, we are concluded today. Have a good day. Thank you.

Thank you. This concludes today's teleconference. You may disconnect your lines, and have a great day.