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Executives

John McDermott – Chairman, President and Chief Executive Officer

Analysts

Sean Lavin – Lazard Capital Markets

Endologix, Inc. (ELGX) Lazard Capital Markets 9th Annual Healthcare Conference Call November 14, 2012 10:30 AM ET

Sean Lavin – Lazard Capital Markets

I think we’re going to go ahead and get started. I’m Sean Lavin, the Medical Technology Analyst here at Lazard Capital Markets. Our next company is Endologix, John McDermott the CEO is going present and then take questions. Thank you.

John McDermott

Okay. Good morning, everyone. So our Safe Harbor statements, so I’ve just got a handful of slides. Sean asked me to keep the prepared part of this presentation very brief, which I’ll do give you a very high level overview of the company and then we’ll just jump right in to questions.

So this is what we do. Endologix is an Irvine-based medical device company. We make technologies to treat aortic aneurysms. And as you can see from this slide, the illustration on the left hand side, there has been a gradual movement over the last several years toward a less invasive approach toward treating these aneurysms. And now for example in the United States about 65% of the diagnosed aneurysms are treated endovascularly and that is what the device that is basically implanted through a catheter and realigns the inside of the aorta keeping the blood flow off of the fragile aortic wall compared to the open surgical repair, which you can see over here on the right hand side.

This is just the company’s sales trajectory that 105 for 2012 that is the midpoint of our recently refined guidance for the full year. So the company has had nice growth trend and many growth prospects moving forward, which I’ll touch on.

This is our product portfolio, consist of three products. The product on the left, which is called AFX that is the current product which drives all of the current revenue. So of the $105ish million that we expect to do this year, that all comes from AFX. That is a device to treat aneurysms below the renal arteries. We have been growing and capturing market share because this system is differentiated from our larger competitors and we’ve continued to enhance the system and add to the sales force to fuel the growth.

The Ventana device, and I’ll go through each of the one of these in a little more detail, was developed to treat more complex aneurysms, those aneurysms that are further up the aorta, represent about 20% of the diagnosed aneurysms. And then the Nellix device is also a newer technology, which I’ll talk about, which is a designed to eliminate some of the current shortcomings of the existing EVAR devices.

One of the other initiatives that we have on-going that dovetails with our current product line, which is AFX, is what we call PEVAR or percutaneous EVAR. And to do these procedures today requires two bilateral groin incisions in the patients to insert these catheters. So the doctor basically cuts down to the femoral arteries, inserts the catheter and the groins and performs the procedure. With our particular device you can actually do this percutaneously or just over a guidewire and make no surgical incisions, but none of the devices are actually indicated for that type of procedure.

We did a clinical trial with Abbott over the last couple of years. We’ve partnered with Abbott because they have the closure devices and we have the EVAR device. Completed the trial to broaden the indication for AFX to be able to do these procedures percutaneously. We have already submitted to the FDA and expect to get an approval around the end of this year to have the broadest label for all EVAR devices as it relates to percutaneous aneurysm treatment.

Ventana, I touched on briefly. Right now, about 20% of the diagnosed aneurysms are not treatable with the current devices because they don’t extend up to and include the renal artery. So as you can see compared to that other illustration this device actually has branches. So it was designed to treat these aneurysms that extend up higher and include or get very close to the renal arteries again its about 20% of the market that is currently not served.

Today, these patients would have to go to open surgical repair and if they are not surgical candidates they would get no treatment at all. So this is an important unserved segment of the market. The only competitive product in this area right now is a company called Cook. They make a device that is custom fit for each patient. And it’s a very time consuming it takes 6 to 8 weeks lead time to get that device made. It’s very expensive and it’s very technically demanding to implant one of these devices where you have to perfectly align the holes for the renal arteries as you can imagine.

The Ventana device is off-the-shelf, so if you get diagnosed with that aneurysm today you can be treated tomorrow. It’s much easier to use and the feedbacks were very good. This device actually just within the last couple of weeks, the Cleveland Clinic every year picks the top 10 medical innovations of the year and Ventana was listed in the top 10 medical innovations by Cleveland Clinic. So that’s an exciting new product for us. This is in currently enrolling patients and U.S. IDE clinical study. I’ll show you the timeline in a minute and we have completed our European clinical trial and have a dossier pending for CE Mark, hopefully by the end of this year.

Nellix, this is a next generation type of an EVAR technology. As you can see it looks very different. This device is designed to completely seal the aneurysm sac. One of the shortcomings with the current device is although we can shunt the blood flow and keep it off of the aneurysm wall, a lot of times you still can get leaks. There are vessels that still supply blood flow to the aneurysm sacs. So even though you’ve implanted a device you can still get what we call an endoleak.

Nellix is designed to simplify the procedure significantly, but also seal any potential leaks. And actually have an angiogram here just to show you what this looks like in VIVA, a case that we just did last week. So we – for those of you who follow the story, we’ve made a decision to reset our timeline from our prior generation device, and make some further enhancements.

We are ahead of schedule with those enhancements, this in fact is a patient that we did just last week. And you can see from the white arrows, this is an example of where you would – you’ve got small branch vessels coming off the aneurysm, those are not treated with any other device in the picture on the right that is post deployment of the Nellix system and those branches have effectively been included. And so this is a very unique system, it is the only device that seals the aneurysm sac, it’s much easier to use and treat a wider range of patients. So there is a lot of excitement about this technology.

Here is the new product pipeline, schedule. So if you go over to the left, we expect really anytime now approval in Japan for our IntuiTrak system, which is a generation that predates AFX, we’re one generation behind in Japan because of the regulatory timelines.

PEVAR, we’ve talked about that that’s the percutaneous indication for EVAR. We expect that also around the end of this year as well as the Ventana CE Mark. Fast forward into 2013 and 2014, we expect to submit the dossier for CE Mark with Nellix in the first quarter and get approval around the second quarter setting us up for a limited market introduction in the second half in Europe. Because of Ventana and Nellix being commercially available this next year, we have elected to build our own direct sales force in Europe. So we have about 80% sales force in the United States. We are finishing this year with about 20 reps in clinicals in Europe and expect to take that over 30 by the end of next year. So we are building our own channel right now in Europe.

AFX2 next year in the U.S. with some enhancements to the current core product line in the U.S. and then you can I won’t take you through every one of these, but we’ve got a very robust pipeline over the next several years. This is the opportunity for the company it’s really a $2 billion market opportunity. Where we compete today with AFX is in just that Turquoise segment of the product, which will be worth about $1.3 billion over the next few years. AFX our percutaneous indication in Nellix will be competing in that segment. The orange piece is what we call juxtacrine are those aneurysms that extend up to and include the renal arteries that product is ideally targeted to that segment which we think will be worse about $300 million out in 2016.

And then Thoracic. Our next product entrance will be to move off the aorta and move into the thoracic aorta. We have designs, we have technology, we have a building channel to same customer that treats these lower abdominal aneurysms that treats the thoracic. So for a company that’s doing roughly $100 million in revenue, we can focus on one blood vessel and stay completely committed to aorta for many years to come.

Here is our balance sheet. Got plenty of cash in good shape. Our expectation next year is to be adjusted EBITDA positive and cash flow positive. So we don’t anticipate a need for any additional financing. And that’s it.

So just to wrap up $2 billion opportunity the company has been growing very rapidly. We expect to continue growing at 20% or better over the next five years, have good gross margins and a balance sheet that’s adequate to support our growth.

With that we can open it to questions.

Question-and-answer Session

Sean Lavin – Lazard Capital Markets

Thank you. I guess I’ll start up with Europe certainly an excitement there and I think people are expecting strong group therapy with the new products. This last quarter you had a very good quarter what kind of drill the strength in Europe and how sustainable is that?

John McDermott

Yeah. So we did have a good quarter in Europe. This is the first real look at our capability in Europe with our new team. So we did a good job, but in fairness I would have to say that the comps from a year prior were little bit easy. A year ago we were just completing a buy out of our prior European distributor and there were some noise in that transition they gave us a relatively soft Q3. So we had a pretty low bar to beat in Q3, and then sequentially we had just completed in Q2 the acquisition of our Italian distributor. So sequentially we were up and year-over-year we were up in part because we had good comps. Having said that we did more cases in Q3 than we had ever done in Europe. So we are starting to see some early traction on the sales team that we are building, so they’ve got some good momentum.

Sean Lavin – Lazard Capital Markets

Then on that sales team, can you talk a little bit about where you’re finding those reps and how are they being trained on Ventana, Nellix are they ready for those launches?

John McDermott

Yeah, we’re getting our reps from some of the competitive companies. Although there are some non-compete restrictions in some markets and with some companies. So we’re getting some people with EVAR experience. Most of our new people will come from other peripheral vascular companies. So we can hire them from Covidien, Bard, Boston Scientific quarters there are several different companies in the peripheral vascular area. They need to know the customer base that we’re calling on. We can’t have them. We have to learn a new therapy and a new customer. So we’ve got a very well developed profile over the last several years. And now the company with the portfolio that we’ve got we are tracking some very good talents. What it takes in terms of training, could take up to about six months. If a guy has no EVAR experience, it takes us about six months to take them to the training program and get them certified and signed off by two independent physicians before they can support a case.

Sean Lavin – Lazard Capital Markets

I don’t know if you will answer this, but as you think about the launches of Nellix and Ventana, there is very wide estimates on what if a share might look like. We should be thinking $5 million, so we are thinking $50 million and what will be the reasonable companies with well type goals?

John McDermott

Well, 50 is probably a little ambitious, so we can start there. We haven’t given our guidance yet for next year. So I’m not going to give you an absolute number for those products. Clearly, Nellix competes as I showed you for an over billion dollar segment of the market. So in a macro-level that’s got a bigger overall opportunity. The unique think about Ventana is although it’s a smaller market segment the competitive intensity is much lower and we think we’ve got a superior product. So it’s reasonable to expect that we would garner a good share position there. Both of them, we expected to contribute next year but they will both be done in a very controlled limited market introduction. So in the first year, we will be involved in every single case. We will approve every CT before we do a case. Our guys will take the product in and we’ll go slow and steady. Our view is our aspirations are to be market leader over time. We’ll take it slow and we’ll get good clinical results and we’ll build it over time. And we can do it, we can hold back and manage these launches very carefully and still achieve our growth objectives as well as our need to be cash flow positive next year.

Sean Lavin – Lazard Capital Markets

Next question.

Unidentified Analyst

(Inaudible)

John McDermott

Yeah, so we have identified eight regional training centers, and are in the process of finalizing the content for the training programs for physicians to participate. The training will consist of, the docs will come in the evening before, will have a training session with some hands-on, as well as a presentation from the hosting physician. They will learn about sizing, they will learn about technique, there is a dry model that they can put their hands on the devices. The next morning they’ll actually see a couple of cases.

So that and these courses will consist of four to six physicians. They are smaller by design, so that they can have a very rich training experience. And once we get up and running, we’d like to be doing as training as many as 20 doctors a month. There is the possibility, we can do a little bit more than that, but with these smaller training courses that’s still a meaningful exercise. We have not communicated an incremental number that we associate with the PEVAR indication, it will be baked into our guidance for next year and we believe it provides us with a good growth opportunity and good continued growth prospects in the U.S., but we haven't put a specific number on what that means in terms of incremental cases over our base run rate.

Sean Lavin – Lazard Capital Markets

Sure.

Unidentified Analyst

(Inaudible)

John McDermott

Yes, good question. So and the prices vary by market. So I think in of the slides and I won’t try to go back here, but to give you a benchmark market, an average selling price for an EVAR device right now in Europe is about $9,500 compared to a U.S. average selling price for an EVAR device is about $13,000. So you’ve got a meaningful delta right there. Within these markets ASPs, we tend to fall at the higher end of the range. We have a very unique product there isn’t anything like it, we tend to get a slight premium to market relative to the competition.

For the new products, we would expect to more of the same. Having said that we know that the markets are getting more and more price sensitive, we’re not going to price these devices at a point where it limits their adoption, but we are. We do think it’s important to have some pricing discipline early, because there are some real value with these new technologies they’re going to treat more patients, they’re going to do it faster and more effectively. So we will try to garner a premium price with the new devices. I can’t tell you exactly what that percentage is going to be. I can, we have ideas about where we’re going to start, but I can’t tell you where we’ll settle into after we get six months into it, we’ll have a better handle on that.

Sean Lavin – Lazard Capital Markets

(Inaudible)

Unidentified Analyst

(Inaudible)

John McDermott

Yes, the overall acute cost is the same. So the device cost is significantly higher. So as I said in the U.S. an average selling price of $13,000 compares to about $500 for a surgical implanted graph. The big difference is with an EVAR procedure, the patient goes home the next day, versus with an open repair they go home three or four days later. So there is a much longer length of stay, which consumes and offsets that device cost. The other acute benefit to the patient is there is a three times higher mortality for open repair than there is to endovascular repair.

So those are the cost differences and why you’ve seen good growth with endovascular solution. Obviously patients go home the next day. They can return to their normal activities almost immediately, certainly within a week whereas you if you know anybody that’s ever had open repair of an abdominal aneurysm, it takes weeks and sometimes months for them to return to their normal activities.

Sean Lavin – Lazard Capital Markets

I want to ask a little bit about the third quarter U.S. [result]. I think it was maybe a little wider than investors were hoping for. You talked a little bit about seasonality. Can you give any other reasons why the growth rate slowed a bit? Have you seen anything bounce back in terms of procedures or seasonality in the fall, and if this rate doesn’t pick up, will you consider hiring more sales to do faster?

John McDermott

Yeah. So the biggest culprit to our year-over-year slowdown in U.S. sales growth was just we had a huge comp. Q3 of last year we launched AFX and that was in fact the month of August last year, was the biggest month in the company’s history. So to kind of put it in perspective, we knew we had a very large comparison year-over-year. That on top of what we saw this year was a little bit more of an impact on seasonality.

Last year we didn’t see the seasonality because we were launching a new product and it was not obvious, because we just sold right over the top of it. But what we have seen and for those you who are following these device stocks pretty carefully, we’ve seen what others have reported is that there has been a gradual shift in physicians going from their private practices to becoming employees of hospitals and healthcare systems. And in that transition when they sell their practice and become employees what we’re finding is they tend to take their vacation. When they are on private practice if they have an opportunity to do procedures, they do procedures and they kind of work like through vacation. When they work for somebody else they take their holiday.

And because we saw a slowdown in July and August and as we pushed into it, we couldn’t really find any competitive losses or anything that was more problematic and we found a lot of our guys were just saying hey, I’m on vacation. I’ll be back in September and they were and so the cases jumped back in September and October. And so I don’t want to blame it on seasonality because we are such a small company that we shouldn’t really be that affected by seasonality. But when you have a $13,000 ASP every case matters and you can miss by $1 million with actually, a fairly a small number of procedures. So we did see an impact.

And the question is if we saw a continued slowdown would we add more reps. I don’t expect to see a continued slowdown. So we will add more people in the U.S. although incrementally, a smaller number than we have in the past and put more resource into Europe now as we’re getting ready to launch Nellix and Ventana that represents a very powerful growth opportunity and we need more feet on the street to really capitalize on that.

Unidentified Analyst

(Inaudible)

John McDermott

Yes, for now that I know well. We had a dispute earlier in the year with Bard, which we resolved. And then in this past quarter, we had an ongoing dispute with Cook which we settled. So there is no pending or threatened IP litigation. This is an active area in medical technology as you know but we work very hard and study the path and landscape very carefully as we enter into all of our new product categories I don’t see anything on the horizon.

Sean Lavin – Lazard Capital Markets

I guess, I’ll ask one on Japan. I know you are expecting and to attract the potentially approved there later this year. How bigger market is that, how important is Japan to you and what is the sales strategy there?

John McDermott

Yeah, it is about $50 million market and it is an attractive market with established reimbursements. We have a good partner there; they have actually been with us since the very beginning. They’ve funded our Japanese clinical trial and got approval for our first generation device. The only limitation we have there is that we are a generation behind. So they're going to be launching IntuiTrak when we are moving on to other generations in other markets. That being said, they’ve already earned a 10% market share position with a very dated product. So you think, we’ll see good growth out of Japan over the next few years and we expect to eventually take Ventana and Nellix there overtime. So I think that’s going to be a good growth market for us.

Unidentified Analyst

Then I guess in terms of future products; in the past you’ve talked a little about Thoracic it’s certainly not your focus is that something that will come back into focus. Or can you give us an update on where you are there?

John McDermott

Yeah, we have a lot of great ideas and actually some early designs for Thoracic we have just been candidly too busy to get short we been so focused on getting Ventana and Nellix to the market given the significant opportunity and impact that they can have on the business here in the near-term that we have – we haven't got as busy on Thoracic as we had hope to by now. But we have an active program, we have the team identified, we’ve got designs on the doc so 2013 will be a year where we jumpstart after our thoracic initiative this time of next year I should be able to give you an update with something more tangible, as we’ve launched our plans to enter that segment.

It is a great market, its adjacent, as I mentioned earlier, same customer, we can leverage same technologies, it is good leverage for the company, it represents incremental growth without a lot of incremental cost. So it is a good business strategy and it also fits our one blood vessel business strategy to just stay focused on the aorta. So a lot of unmet clinical needs in the aorta. Yes?

Unidentified Analyst

(Inaudible)

John McDermott

Yes, it’s different. So even though the technologies are different, you have different issues as you get closer to the heart. So you do have the arch, so you need certain types of technology as it relates to flexibility and deployments capabilities for the arch. So you can use a lot of the same materials, but there are new ones that are meaningful clinically.

In addition to thoracic aneurysms, though an area of great interest to us is thoracic dissections. And actually there are more thoracic dissections diagnosed every year than there are abdominal aneurysms. So it a potentially very large unserved market. Today what they do with people with dissections is they just try to bring down their blood pressure, so the dissection doesn’t propagate, and lead to a problem. But there is a high percentage of patients that ultimately progress to have aneurysms.

So if we can create technology to treat these dissections earlier, we can save a lot of lives and prevent a lot of people from getting late aneurysms and late ruptures. And so we think that the dissection market is actually a little more interesting to us as an entry point for thoracic. The thoracic aneurysm market is relatively well served and there is a good devices and I think we can still compete and win there, but I think there is a – there maybe a couple of better places for us to enter the thoracic aorta market.

Sean Lavin – Lazard Capital Markets

We are unfortunately out of time. But thank you very much.

John McDermott

You’re welcome. Thank you.

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