LeMaitre Vascular Inc (LMAT) 2022 Q3 法說會逐字稿

Good day, and welcome to the LeMaitre Vascular, Incorporated's Third Quarter 2022 Earnings Conference Call. As a reminder, today's call is being recorded. At this time, I would like to turn the call over to Mr. JJ Pellegrino, Chief Financial Officer of LeMaitre Vascular. Please go ahead, sir.

Good afternoon, and thank you for joining us on our Q3 2022 conference call. With me on today's call is our President, Dave Roberts. George LeMaitre, Chairman and CEO, is unable to be on the call due to the birth of his daughter last week.

Before we begin, I'll read our safe harbor statement. Today, we will make some forward-looking statements within the meaning of the U.S. Private Securities Litigation Reform Act of 1995, the accuracy of which is subject to risks and uncertainties. Wherever possible, we will try to identify those forward-looking statements by using words such as believe, expect, anticipate, pursue, forecast and similar expressions. Our forward-looking statements are based on our estimates and assumptions as of today, October 27, 2022, and should not be relied upon as representing our estimates or views on any subsequent date. Please refer to the cautionary statement regarding forward-looking information and the risk factors in our most recent 10-K and subsequent SEC filings, including disclosure of the factors that could cause results to differ materially from those expressed or implied.

During this call, we will discuss non-GAAP financial measures, which include organic sales growth. A reconciliation of GAAP to non-GAAP measures discussed in this call is contained in the associated press release and is available in the Investor Relations section of our website, www.lemaitre.com.

I'll now turn the call over to Dave Roberts.

Thanks, JJ. On today's call, I'll cover 3 topics. First, Q3 organic sales growth of 7%. Second, our continued focus on biologics. And third, hiring in 2 key areas.

We posted sales of $39 million in Q3, a 7% organic increase. Q3 organic growth was led by APAC up 11%, and EMEA up 8%, while the Americas was up 6%. From a product perspective, carotid shunts up 23%, Artegraft up 12%, allografts up 10% and embolectomy catheters also up 10% drove growth. Shunts benefitted from a competitor exiting Europe due to the more stringent MDR CE requirements, while embolectomy catheters benefitted from a competitor's backorder. These increases were partially offset by valvulotomes, which decreased on a reported basis but were flat organically.

Biologic devices grew 7% organically in the quarter and represent 50% of our sales. We continue to invest in new biologics approvals, and in Q3, we made 2 key regulatory filings. In Germany, we submitted our application for allografts, and in Japan, we submitted the carotid indication for XenoSure. We've also recently begun shipping XenoSure to Korea and expect our first direct-to-hospital sales there in November.

On September 30, we had 558 employees, an increase of 27% year-over-year. We focused our hiring in 2 key areas: sales reps and direct labor. Over the same period, our sales rep headcount increased by 28% to a record 118, while direct labor headcount increased by 54% to a record 213. These initiatives should drive sales and profitability in the quarters ahead. We expect to end the year with 125 sales reps.

With that, I'll turn it over to JJ.

Thanks, Dave. Q3 2022 sales were $39 million, an increase of 2% on a reported basis and 7% organically versus Q3 2021. FX headwinds continued to be substantial, and we lost $1.9 million in sales due to the strengthening dollar in Q3. For the full year 2022, we estimate that we will grow 9% organically versus 2021, and we'll lose $6.4 million in sales due to the strong dollar.

In Q3 2022, we posted a gross margin of 64.2%, a decrease of 60 basis points versus the prior year quarter. The strengthening dollar decreased our gross margin by 170 basis points, while unfavorable sales mix was offset by average sales price increases and manufacturing efficiencies. As Dave mentioned, we've increased the size of our manufacturing team. This should have a positive impact on our gross margin in the first half of 2023. Increased direct labor headcount should also increase output and mitigate any potential MDR transition or supply chain issues.

Q3 2022 operating income was $6.2 million, reflecting an operating margin of 16%. Operating expenses increased 20% in Q3 as we continued to hire and invest in many areas, particularly our sales and regulatory departments. Before year end, we intend to submit MDR CE mark applications for 5 additional products, building on the 7 we submitted in 2021. Our revised guidance reflects these efforts and shows an 18% operating margin in Q4.

The cash on our balance sheet continues to grow. We ended Q3 2022 with $79.7 million, an increase of $4.1 million versus Q2 2022 and $9.8 million since the beginning of the year. The Q3 increase was largely driven by cash from operations of $7.3 million, partially offset by dividends of $2.7 million.

Turning to guidance. We expect Q4 2022 sales of $39.8 million to $42.2 million, which represents a reported increase of 4% at the midpoint and 9% organically. We also expect operating income of $6.6 million to $8.2 million, which represents a decrease of 11% at the midpoint. Our Q4 2022 EPS guidance of $0.24 to $0.29 per share implies a midpoint of $0.26 per share and represents a decrease of 5%.

Before opening it up to Q&A, I'd like to welcome our newest board member, Martha Shadan, who joined us in September. Martha has over 20 years of life sciences experience, most recently as President and CEO of Miach Orthopaedics, and prior to that, Rotation Medical. She currently serves on the boards of CVRx and AdvaMed.

With that, I'll turn it back over to the operator for questions.

(Operator Instructions) Your first question comes from the line of Michael Sarcone from Jefferies.

Congrats to George on the new addition to the family. But just had a question on 3Q. I think guidance was for 10% organic growth, and you came in at around 7%. Do you think you can just talk about what drove the shortfall versus expectations, and maybe comment on how activity trended throughout the quarter?

Sure. Thanks for the question, Mike. And one big part of the story, obviously, going through everything is FX these days. And so versus when we guided, FX hurt us on the top line by more than $100,000. Maybe $125,000 or $150,000 or so. So that's a piece of the story. And valvulotomes had a light quarter as well. Sort of maybe $500,000 or $600,000 less than we were thinking when we gave guidance. And I would say that they just sort of hit an air pocket, and that happens sometimes. And so it was a light quarter there. And we also had a little bit of a backorder issue with one of our product lines in Europe, and that hurt us a little bit as well. And I think those were sort of the topics in and around why we missed. The cadence through the quarter was sort of low -- July low single digits, and then August sort of low double digits and then sort of high single digits in September, something like that in terms of growth rates. So there wasn't really necessarily a clear pattern of increasing or descending that you could sort of glean from that. So I would say overall, yes, it was a little lighter than we thought, but still up 7% organically, which is pretty much in line with sort of where we've been historically in that 7% or 8% growth rate.

Sure. That's really helpful. I guess just as a follow-up, can you talk about, I guess, how activity has trended through October and around the backorder issue in Europe? I guess I'm getting to how do you -- can you talk about your confidence in accelerating from 7% organic to 9% in the fourth quarter?

Yes, Mike, it's Dave. Thanks for the question. Yes. As JJ said, there wasn't really much of a pattern that we could glean from the months in Q3. And for that reason, we're a little bit reluctant to talk about procedures and all that. But suffice it to say that obviously the organic growth rate that we're guiding for is up to 9%. So we're feeling good with that figure. And of course, one of the topics is that we've grown our sales force fairly quickly. As we talked about in the prepared remarks, we're up to 118 sales reps. That's up 28% year-over-year. And so we're hopeful that as these few months continue to pass, these reps will be able to gain more traction. And they -- and that's part of what's giving us the confidence to increase the organic growth rate in Q4.

And Mike, I can give you a little more sort of sequential flux. Might help you sort of fill in some of the story here. Q3 is typically a little bit lighter than Q4. And so as you're going from Q3 to Q4 -- and I know you asked about year-over-year growth rates, but maybe just a little color on how you get from one to the next. You can expect a nice uptick from seasonality. The days -- we actually have fewer days in Q4 than Q3, so that might hurt us a little bit. And FX is going to hurt us a little bit as usual also. But we talked about that valvulotome piece earlier in Q3, and I'm going to guess we'll have a nice rebound in valvulotomes from Q3 to Q4 that will help us pick up a little volume there as well.

(Operator Instructions) Your next question is from the line of Matt Mishan from KeyBanc.

This is Brett Fishbin on today for Matt. Just wanted to follow up on guidance. I think you just touched on revenue. Makes sense around FX and some of the issues around valvulotome. Just looking at margin, though. It seems like it was definitely a step down and looks like a local trough for you guys. Just wondering outside of FX, which you quantified, what some of the bigger moving pieces we should be thinking about impacting that sequential decline. And then maybe specifically giving us a sense around how some of the broader macro headwinds around inflation and supply chain that may be impacting the near-term trends.

Yes, sure. So yes, the gross margin came in weaker than we thought, and you can see that. A piece of that is clearly FX, and we talked about that. I'm going to say 0.2% or 0.3% of the 2.5% delta there is probably FX since when we gave guidance last time. So not a small part of the answer. Mix was a larger part of the answer, though, because valvulotomes come in with a really nice gross margin. And so when you have a weaker valvulotome quarter, you do feel that in the gross margin. And so mix in total, maybe was 0.8% or 1/3-ish of that delta that we're talking about, and valvulotomes were a big piece of that. And then on the manufacturing side, we probably had a little bit more inventory write-offs or yield topics or scrap topics in terms of inventory than we've had typically, and so that was a piece of the story.

And then the high-level piece is what Dave talked about a little bit I think earlier, which is the direct labor piece is an important part of our story going forward on the gross margin line. And they probably -- I probably thought they were going to get a little more efficient a little more quickly. We've done a lot of hiring. And you got to hire them, you got to get them in the door, and then you got to get them trained. And so given the number of folks that we've gotten in the door, I think it's taken a little bit longer to get them trained and efficient than I had thought. And so I think that's dragged down on our gross margin answer in Q3 versus guidance.

All right. That's really helpful. And it sounds like some of those moving pieces are -- could be more short term in nature. And then just like thinking about some of the longer-term initiatives that you guys have in place, it kind of feels like you may be accelerating some of the investments just given like your rep count already hit the levels you were talking about for exiting the year. You're talking about like increasing the number of MDR submissions as well as the international product approvals. Why is now the right time to be making those investments? And was this planned, or does it feel like you might be pushing forward a little bit faster?

Brett, it's a good question. Obviously with MDR, there's a timetable on that. The last day we can ship MDD products to Europe is in May 2024. The last day we can sell them in Europe is May 2025. So we're -- the good news on MDR is we're right on glide slope. We're feeling good about -- we've obviously submitted 7 MDR applications at the end of last year, and this year, within the next couple of months, we'll submit 5 more. I think that will just leave 1 or 2 in 2023. So we're feeling really good about that. I think that explains the timing of the regulatory spend, which is always planned.

In terms of the sales force expansion, I would say for years and years, this has been a really solid investment for LeMaitre investing. I think it's maybe the principal asset of the company. And so as I mentioned, we do expect to get to 125 by the end of the year. At the moment, when we get to 125, a typical LeMaitre -- an average LeMaitre territory in terms of sales will be about $1.25 million. And of course, often in med tech we hear sort of the $1 million territory. So we feel like there are a lot of geographies, a lot of territories where we could still expand. We do hear many instances where reps aren't able to get to cases, for example allograft, because it's too far away in their territory. So shrinking territory size will help address that. And frankly, I think it will also be a positive for our sales reps. The more reps we have, the smaller the territories become, the more interesting I think the job is, the more appealing. And that should be good in terms of hiring and retaining sales reps.

And I'll add 2 other concepts about why now. One is, as we went through COVID, we cut back pretty sharply on headcount in all areas, probably too sharply. And so that -- and that rebound in hiring took a little time to get going. And I think we decided that this year, really the organization really needed to fill in in a lot of areas. Not just reps and DLs, but in other areas as well, in quality and regulatory and admin. And so I think it was a welcome answer from an operational standpoint generally, which is it was the right thing to do for the organization. And then for the sales reps, I would say we haven't done an acquisition in a couple of years. Dave keeps us pretty well stocked up every year with a deal. And we kind of got lucky in this sense operationally that we haven't had one for a year or 2. So maybe it's a good time that the reps don't have to focus on a new device necessarily, and we can sort of focus on building that rep team. And so maybe that was a good time as well.

Your next question comes from the line of Brooks O'Neil from Lake Street Capital Markets.

Obviously, the cash buildup is notable, and JJ just mentioned the acquisition. So just curious how you guys are thinking about capital allocation. Now investing heavily in the business, maybe it is a good time to be out there. And what's the acquisition environment looking like to you, David, now?

Yes. Thanks, Brooks. Good to hear your, voice. So obviously, our focus is to generate cash, return to operating leverage. And as we do generate cash, probably from my perspective, allocating cash to acquisitions has been a successful strategy for LeMaitre for a long time. I would say after that, of course, is our dividend. We're in this dividend achievers index, and we're very proud of that, and it signals our commitment to ongoing profitability. And then there are other cash needs, smaller like CapEx and maybe acquiring distributors and whatnot.

But on the acquisitions front, yes, it's been 2, 2.5 years since we've done an acquisition. And we're definitely out there looking at targets. We have taken a run at 1 or 2 in the last many months. Don't have anything to report at the moment. But the pipeline looks good. Of course, the criteria is generally the same, which was looking for products with minimally $5 million or $10 million of revenues in open vascular surgery. Although we do look a little bit at endovascular and cardiac surgery, we derive about 10% or 12% of our sales in cardiac. Now and another really important piece of it is the niche low rivalry aspect where we like to be #1 or #2 in our space. So I would say we're on the hunt and we've got -- I've got a really solid team who I work with on it. And as the cash balance builds, of course, it gives us greater optionality to do larger deals. So we're out there hunting. Valuations are down, of course, a little bit with IHI down 26% year-to-date, et cetera. And maybe deal flows slowed a little bit in general in terms of what the banks are reporting. But yes, we're out there hunting. And just like when real estate valuations are down, that might be a good time to buy a house, maybe it's a good time to acquire a company at some point.

Absolutely. I assume the shutdown of the plant in France went about as you guys expected?

Yes. I think it has. It's a whole dance and a whole process over there. And there's all sorts of legal formalities that you got to make sure you work your way through over in France. But yes, the building is shut and actually sold. We recently sold that building. So we are done manufacturing over in Southern France. We're still negotiating with a few, let's call it a handful of folks on severance. But we feel like that $3.1 million number we gave you last quarter is kind of going to be about the right answer.

And just to add on, we were -- because the closure happened so close to the end of the quarter last quarter, we were unable to have that $3.1 million deducted for tax reasons in Q2, but we were able to get that in Q3. So that's why you see an abnormally low 11% effective tax rate in Q3.

Cool. And JJ mentioned the valvulotome weakness. You guys just think that's kind of ongoing ebbs and flows of the business? There's nothing you'd point to that would suggest any change in the underlying market for those.

Yes, I don't see anything really in valvulotomes in particular that would lead you to say there's some systemic topic there. That just felt like an air pocket to me in the quarter, and they happen every once in a while, and then it rebounds. It's a franchise that has been around obviously with this company since the very beginning of time. It remains an important part of our portfolio. And it's performed well over the sweep of time and more recently as well. So there may be broader topics in different geographies in terms of case procedures, staffing at hospitals, maybe some COVID topics in different geographies. And remember, 40%-plus of our sales are not in the U.S., so those can sort of swing around and get you from time to time. But by and large, the sort of mutual fund approach of products has served us well. In this case, valvulotomes did take a little dip, but I think that's not a topic necessarily going forward.

Your next question comes from the line of Rick Wise from Stifel.

This is Purnima Malik on the call for Rick Wise. I know that you mentioned in the quarter that you've acquired 118 reps, and you're planning to increase to 125 sales reps this year. It sounds like this year in general, you were focused on a lot of hiring. I was wondering whether any of the macro pressures have affected your decision in hiring, at least the rate of which you're hiring, and how this might proceed going into 2023. And then additionally, I was wondering whether you could elaborate on where you might be like underrepresented in sales force geographically. And then ballparking, do you have an idea about where you might want to be in 2023 as far as your sales force headcount?

Yes. Purnima, it's Dave. Great questions. In terms of the macro, of course we've all been reading in the headlines for months and months and months how difficult it is to hire and how a lot of people are switching jobs. I'd say LeMaitre has not been immune to that. We've done a lot of hiring. However, we've had high turnover in the sales force I'd say a little bit, and in our DL, even though from a company-wide standpoint, our voluntary turnover here in Burlington is 5% or 6% below the benchmark. But sales rep turnover has been something we've lived with for a long time. So I think part of our coping response is to hire more reps, expecting that there will be a certain amount of turnover. So the turnover does affect our -- the number of reps we hire and the cadence.

And another piece of the macro that affects our reps and, frankly, their ability to gain traction is with and since COVID, our reps have had less access either to the operating room or to the physicians. Of course, it's gotten better, and COVID itself of course has gotten a lot better. There's still isolated countries like Japan or maybe cities in China. But by and large, the hospitals and ORs are open, but the rep access is limited. So with our reps who do a fair amount of on-the-job training, I think that that rep access limitation has maybe slowed their training a little bit.

And in terms of -- I might be missing a question, but you were asking where are we well represented and underrepresented. We've been doing a lot of hiring in the U.S., and frankly, in part due to Artegraft, which has just been a very solid acquisition, and we keep hiring sales reps to promote that product. I would say if you look around the world regionally, of course China is the second largest medical device market in the world. We only have 2 or 3 sales reps there, but we have a limited number of approvals there. Korea, we just went direct there earlier this year, and we have 1 sales rep on the ground. We haven't sold a product yet in Korea, but we expect to hear in the next month or 2, and then we should be able to add reps there. So I'd say at a high level, maybe APAC is a little bit underrepresented for us, and then we want to expand in the U.S. -- continue expanding in the U.S. as well.

Great. That makes sense. And then I have one more question. Virtually every company that we've heard from so far has discussed how macro pressures affected their business performance. Where do you see the macro pressure stabilizing or even improving?

That's an interesting one. I think again for us, you got to look by geography. And so in the U.S., it feels like maybe it could improve a little bit. In the U.K., we heard the stories about there being blood shortages. And so maybe there's a little bit of outsized improvement there potentially. I think -- was it Japan that had a COVID lockdown topic fairly recently? And so there's been pressure there, even though our XenoSure product line's doing very well. In Japan, maybe from a macro perspective, there's room to breathe a little bit more in Japan as they get out of lockdowns. So it's really almost country by country to answer that, but maybe those are some of the highlights.

Great. Okay. And then one last one for me. So I know that interest rates are obviously increasing. How do you see this affecting like your business decisions and decisions of potential M&A candidates going forward? And just to tie it into I think something that you said last quarter, you're evaluation sensitive when it comes to M&A. So are you seeing that those evaluations are finally coming down? Are they coming towards your sweet spot? And then when do you think that might be the case?

Yes. It's sort of hard to predict that really reliably and thread the needle. Obviously with interest rates rising, we're happy we have no debt and almost $80 million of cash. It means that we're actually generating interest income for our shareholders, which is sort of a silver lining to having all that cash. But in terms of interest rates rising, I would say obviously that's depressed valuations, as we've mentioned already. It's really hard to predict how much further down valuations go and what that trajectory looks like. But in terms of leverage, to the extent that we use debt to fund acquisitions, our order of operations is use cash on hand first. And we probably have $50 million to $60 million of cash on hand that we could use. We want to leave a certain amount of working capital. But then secondly, using debt. Well, the debt market is not what it used to be. And so we're probably a little bit more cautious about how much leverage we would use in an acquisition, and then the cost of that debt would be higher. So we have to factor that in as well.

But in the meantime, I don't say we necessarily try to time the market in terms of that med tech valuation's going up or down. But clearly they're heading down. And I would say as a rule, public company owners of potential carveout targets are probably -- they're getting the e-mail sooner than private company owners who may be reluctant to admit their business is worth less because they can't look at the stock price every day. But we're very conscious of it.

And for us, I think the more important factor is long-term strategic fit. And yes, we always want to -- we're always valuation sensitive, but more importantly, we want to find the right target strategically. And when we do that in the long term, we win and our shareholders win. So that's really what we're focused on.

I don't know if you said this, Dave. If you did, I apologize for repeating. But the bright side of increased interest rates is our interest income on our excess cash. And so we're sort of at a $1.2 million run rate right now per year for interest income, which is a nice improvement over where we've been historically. So there is a silver lining there.

Your next question comes from the line of Michael Petusky from Barrington Research.

JJ, could you give me -- if you've already given it and I missed it, the stock comp, CapEx and cash flow from ops? Do you have it?

Yes, I can prepare these for you faithfully every quarter, Mike. Depreciation and amortization, $2.33 million. Stock comp 1.19. Do you want another one that I didn't pay fully prepared? Was there a third?

CapEx and cash flow from ops.

CapEx. Yes. $460,000.

And what were the cash flow from ops, if you have it?

Cash flow -- you're saying free cash flow? What do you want?

No. Cash flow from operations before CapEx.

7.3. 7.35.

Awesome. I didn't catch Xeno -- have you guys disclosed anything on XenoSure performance during the quarter?

It grew 15% organically, 8% reported.

And what was the actual reported decline in valvulotomes, like down 5% or something like that?

Yes, valvulotomes were flat organically. Reported down 6%.

Down 6%. Okay. And just to confirm, I think you guys had maybe given it some thought, but we're leaning against raising price before your typical sort of first of the year. Did you guys hold to that, or did you guys make some price adjustments since the last conference?

We have not. We have not made price adjustments. I think we're sticking to that sort of beginning of the year annual event. And we didn't -- I don't know. I felt like we didn't want to overreact to maybe transitory topics and then sort of look -- we wanted to look at the businesses at a higher level over a longer sweep of time and figure out what makes sense from that perspective. We're pretty aggressive from a price hike standpoint already, and you see that in our corporate presentation, getting sort of 3%, 4%, 5%, 6% a year blended worldwide. So I feel like we're -- that process -- the cadence of that process has and will remain the same for this year.

Is it fair to say with inflation and how that's sort of hitting everybody that maybe you guys are a little bit more aggressive in terms of pricing at the first of the year, or no?

TBD. But we buy -- we try and buy a lot of nice data to guide us on this topic, either it be competitors' pricing and market share changes, and do that by fairly specific geographies. And we really rely on that. It's more of a market will bear topic and a sort of what makes sense topic in terms of pricing strategy as opposed to a cost-based topic. The cost pieces obviously come into play, but I would say maybe they're consideration #2, and the first piece is what I mentioned, sort of what's going on in the market.

In terms of -- it was great color on the sales rep number and the direct labor number. You said that the rep number could move up another 6 or 7 by year-end. The direct labor, I mean, is 213, is that about right, or do you need to do any more material hiring there?

I would say that -- Mike, it's Dave. I would say 213 is a good level. Maybe we could do a little bit more, but frankly, I think we're sort of nearing a near-term plateau on that. Our focus now more frankly than bringing a lot more direct labor employees is on getting the ones we have trained up and getting them productive. And so yes, we -- our rate of direct labor hiring has been pretty dramatic. We're up 54% versus a year ago, and year-to-date, we're up 50%. So obviously, we're not expecting anything like that. But could it go up a little bit? There are still reasons to hire more reps as we need to build inventory to prepare -- to have plenty of stock on hand for MDD transitions. And to the extent that supply chain is still difficult, it's important to be able to have stock available for that. But I would say we've done most of the hiring at this point.

Just sort of the last area that I just want to ask about. It feels like, if I'm sort of listening to the comments both on the direct labor and sort of maybe some of the newer hires not being as productive and then not coming through in gross margin improvement. And on the sales side, you sort of alluded to maybe high turnover. And sort of also sort of talked about, well, maybe they have a little less access and that's causing them to be slower coming up. What it feels like, and sort of the numbers sort of suggest, especially when you compare to last year, all this hiring hasn't really driven a number. I understand it's a 90-day snapshot against a 90-day snapshot, and things may improve meaningfully going forward. But I mean, it's fair to say you haven't gotten the bang for the buck to this point in really either sort of hiring initiative, either on the sales rep side or the direct.

Yes. Mike, I think that's right. I think that's generally directionally right. And I think we're trying to say that a little bit in our prepared remarks, which is we know this is the right strategy on both counts, and it's sort of the right answer that we're getting to, but it's taking a little bit longer to get -- for that to translate into results. And so you're always trying to say, well, rep count is up this percent, and so organic growth should then increase this percent, and that correlation is not always as direct as you want it. But we know over the sweep of time, and in the medium term and certainly long term, it is, and it's the right answer. And so yes, we got to wait a little bit longer. That training for sales reps has been hampered, we think, by access to hospitals for COVID reasons and also maybe for staffing reasons and hospitals, and maybe some other reasons as well. And so -- and also when you hire quickly, maybe you make some mistakes along the way. And so some of that has probably gone on as well. And maybe there are similar themes in the direct labor piece. But we've done both of these strategies before, and we know they've worked well. So we feel confident that this is the right direction.

Okay. Just real quick on the sales reps. Have you guys lost any like super productive key reps over the past 3 to 6 months that just have been difficult to replace or replace effectively?

Mike, I of course -- we always -- we never like to lose a rep. I mean if a rep isn't performing, usually they're on a plan. And so the reps that we do lose, we never like to lose them. But this has just been -- rep turnover is something we've lived with ever since we had sales reps. And so have we lost some good ones? Yes, probably. But it's a bell curve, and we've lost some good ones, and we've lost some non-good ones. And it's probably no different than rep turnover in the past, except the numbers are bigger because we have more reps. I don't think we sit here and gnash our teeth about, oh gosh, that one rep left. We're really, really upset about that. I mean, we diversify. We're very diversified with 118 sales reps. So we're firing on 118 pistons. And so if one of them decides to leave, well, that's their prerogative, and we'll replace that person.

Your next question is from the line of Jim Sidoti from Sidoti & Company.

Jim, can we hear you? Now we can.

Okay. Sorry. The moderator cut out just as she was saying the name. I wasn't sure if it was me or not. But you mentioned a little earlier in the call that there was a backorder in the quarter. Is that issue resolved now, and will that product ship in the December quarter?

It's getting resolved as we speak. And yes, it will be shipping in Q4. It's, you remember, Omniflow, the ovine grafts. They were transferred here to Burlington in terms of their manufacturing. And so the startup of that manufacturing process wasn't -- there's always a learning curve, and it's always a little less efficient than you want it to be. So as we started that up, we created a little bit of a backorder. But yes, we're working our way out of it, Jim.

Okay. And then it sounds like there's a light at the end of the tunnel with regards to the MDR process. Do you think that that spending should come down in 2023? And can you just remind us what you spent for that in 2022?

I'll take the first part of that question. So obviously the MDR spending has ramped over time. It ramped a little bit earlier for us because we had to change notified bodies for our MDD approvals, and so we started to make investments a year or 2 ago on that. But clearly, with filing the 7 MDR applications at the end of 2021, and there's a lot of clinical evaluation report work to develop and dossier development. So it was ramping then. And then this year, again, with another 5 applications going in by the end of the year. I would say if we're not at our plateau, we're near it. And so we hope to start getting approval sometime in the next 12 or 18 months. And once you get the approval, the spend doesn't go away. It declines a lot, but there's an ongoing requirement for clinical data and whatnot. But I would say if we're not at the plateau, we're sort of near it now. And 2023 may be still high, but certainly 2024, we would expect it to start to come down.

So Jim, I'm going to be a little more cynical about it. I'm going to be like, well, remember when we had the CE mark issues and we got through -- we spent a bunch of money and we got through that? And then that was replaced with MDD/MDR. And somebody's going to come up with something new to spend it on. So I'm going to say, yes, the MDR spend will come down, but I don't know what it's going to be replaced with. We'll see. But you asked about numbers. I'll give you the regulatory and clinical spend in the last 3 quarters. $1.7 million, $2.1 million and $2.2 million. And if -- we're not talking about next year yet, so we'll see where all that goes. But you can make assumptions from that about up, down, left, right and what percent, but you can get a handle on that now given what the spend was in those 3 quarters.

All right. And then if we do hit a recession next year, based on past recessions, do you think any of your product lines are vulnerable? Or do you think that most of your procedures are pretty recession resistant?

I feel like this one's a little bit controversial. I'm more on the -- we're largely non-discretionary procedures. If you get a blockage in your leg, you got to get it fixed at some point. It doesn't have to -- your foot's tingling. It doesn't have to be next month or the month after. Maybe 4 or 5 months out. But it's got to get done at some point. And so all roads lead to a procedure at some point, and that typically means you're at the LeMaitre store buying a device to fix that. And so I would say, yes, they're largely nondiscretionary, but they do ebb and flow. And we saw that with COVID, right? We have a weak quarter and there'd be pent-up demand, and then we have a stronger quarter. And so I'm going to say that same sort of dynamic could be at work with other topics as we go forward, economics or otherwise.

Your next question comes from the line of Scott Henry from ROTH Capital.

First, congratulations to George. That's pretty exciting. I just had a couple very brief questions. First, when looking at the gross margins, obviously the strong dollar creates a lot of noise there, and the mix is also a factor. But when we think about that line going forward, if we think at a constant currency basis, should we think about it trending higher? Or should I think about it more of being between 65% and 70% and bouncing around based on mix? Just trying to get an idea how to think about the trend in that line, constant currency.

Yes. You're right. Great question. So I guess the first level set piece of this would be year-over-year FX hurt that gross margin by 1.7%, 1.8%, something like that. So we came in with 64.2%,but really, you can add a couple percent to that to put it apples-to-apples with the prior year. So to the extent that the dollar weakens, you can feel the magnitude of the relief on the gross margin line going forward. But in terms of where that goes otherwise, exclusive of FX going forward, we obviously aren't guiding on that at this point. We're just giving you Q4. But we have told you conceptually that we think that direct labor team, the size of that team increasing is going to help as we move forward. And I think in prior calls, we've talked about some cost saving topics that could be material in and around cost of sales, like shipping of our XenoSure tissue from Australia and sourcing it from Australia versus sourcing it from the U.S., and can we make that switch and have that happen? That would save a substantial amount of money. And there are some other cost saving pieces that are ongoing within cost of sales that could help going forward. So there's a ton of puts and takes in gross margin. You could get into it for hours. But I would say we're frustrated with the level that we're at, and we're going to work hard to improve that going forward, regardless of the FX topic.

Okay. Great. And then a similar question but in a bigger picture. I mean, it sounds like 2022 is a pretty heavy investment year. You've added a lot of employees. You've added sales reps. But operating margin has kind of declined a little, which also is hurt by currency. The question really is, would we expect to start to see the leverage from this year's investments? Would that be, I guess, more pronounced kind of in first half of 2023, or maybe more of a second half 2023 impact? Just trying to get a sense of when we should expect kind of the payoff from that investment.

Scott, it's Dave. It's a great question. I would say, obviously we're making -- we're doing this hiring of the DLs and the reps and other personnel, frankly, because we think they're all good investments. And have they paid off yet? No, not necessarily. Not as quickly as we would like. Of course, everyone's doing their job, and so we appreciate that. But we feel like it's taking a little bit longer than we would have thought. And so you can see our guidance for Q4. I'm a little bit reluctant to get into the timing of what happens next year. If COVID taught us anything it's that, boy, you make predictions at your own peril. And so I would say maybe we can take a pass on that question. We will be clear I think when we report on Q4. We'll give you the full year guidance for next year, and at that point, you'll have a good sense. But right now, our focus is to work on the productivity of our entire team and position us well as we flip the calendar into 2023.

Next question is from the line of Javier Fonseca from Spartan Capital Securities.

Some congrats to George LeMaitre on the news. And my question is more along the lines of the commercial performance of Artegrafts. And obviously, as was mentioned in the previous earnings call, management's intent to file for the CE mark in 2023, does this remain the same? And also as a quick follow-up. Overall, how does the growth look for Artegraft, given its impressive commercial performance so far?

Yes. So on Artegraft, we do expect to submit the CE mark, the MDR CE application in 2023 at some point. Not exactly sure when. Frankly, it's a biologic product, et cetera, animal origin. So we would expect it to take a year or 2 for it to get approval. So with the success we've had with Artegraft in the U.S., obviously we feel like it's a priority to bring it to Europe, and so we're excited about on that submission. But frankly, in terms of building it in your model, it's a little ways off in terms of revenue.

And Javier, in terms of the success as that moves going forward, there's a topic around units and pricing in Artegraft. And I would say a lot of the nice growth that we've seen has been pricing so far. And we've been working to move the price of the device more in line with its value within its category of devices that it competes in, and we think we've done that. And that put the reps a little bit on the defensive because they're out there busy defending price hikes from these guys at corporate instead of having time to necessarily go out and get new accounts. And I'm going to guess, but I don't know that, that you're going to see that shift a little bit over time. As the pricing increases become less severe, I guess I'll say, and more normalized, the unit growth hopefully should improve more.

Right. And I would just add one other concept to that, which is as we've been expanding our sales channel, and Artegraft is 99% a U.S. product line currently. I think it's maybe approved in New Zealand, but it's a U.S. product line. We've increased the size of our Americas sales force dramatically. And Artegraft I believe is either the #1 or #2 product line they focus on in the bag and has been for some time. So we have a lot of rep focus on that product line, and we continue to be very excited about where it can go. It's historically been focused in the dialysis access space, but our reps are gaining some success expanding that out to peripheral vascular and even trauma. So we continue to be very excited about that product line.

Excellent. That's some great color. And I guess my only other question would be just some additional comments here on the current FX, on the foreign exchange environment. Obviously, it's very difficult to deal with these headwinds the team has predicted. But are there any measures or changes going on that would -- going on to better mitigate this risk going forward of the strengthening dollar?

We've talked about hedging historically and we've looked into it, and we've decided, you know what, we're not here to be hedging against these topics. We're here to sell medical devices and bring great medical devices to patients. And so we've not done that. We do feel like we're sort of 50%, 5-0 percent hedged generally from the top line to the bottom line. So if the top line is impacted by 100, let's say, the bottom line is impacted by 50. And that's kind of a nice place to be. That's part of that international reach that we have, and it's got a nice built-in natural hedge for us. And so we've been content with that historically.

Ladies and gentlemen, that concludes today's conference. I would like to thank you for your participation, and you may now disconnect. Have a great day.