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Response Genetics, Inc (NASDAQ:RGDX)

Q4 2012 Earnings Conference Call

March 21, 2013 10:00 am ET

Executives

Thomas A. Bologna - Chairman and Chief Executive Officer

Kevin R. Harris - Interim Chief Financial Officer

Analysts

Yale Jen - Roth Capital

Raj Maheshwari - Charlestown Capital

Kevin DeGeeter - Ladenburg Thalmann

Operator

Good day, ladies and gentlemen, and welcome to the Response Genetics Fourth Quarter and Full-Year 2012 financial results conference call.. At this time, all lines are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. (Operator Instructions) As a reminder, today's conference call is being recorded.

I would now like to turn the call over to your host, Tom Bologna, Chairman and Chief Executive Officer. Please begin.

Thomas A. Bologna

Thank you. Welcome to our fourth quarter and year-end 2012 conference call. Before going to our financial and operational results, Kevin Harris, our Interim CFO will read our forward-looking statement. I will then highlight our financials, discuss our fourth quarter and full-year 2012 results, summarize where we are, discuss our plans for 2013, and then open the call for questions. Kevin?

Kevin R. Harris

Thanks, Tom. In addition to the historical information, our fourth quarter and year-end 2012 conference call today contains or may contain, among other things, certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements include, but are not limited to, statements concerning our expectations, strategy, future operations, future recruitment, future financial position, future revenues, projected costs, prospects and plans, and objectives of management. When used in this call, the words, expect, anticipate, intend, estimate, plan, may, will, believe, and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words.

Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those expected. These forward-looking statements speak only as of the date hereof. We expressly disclaim any obligation or undertaking to update any forward-looking statements in this conference call to reflect any change with regard thereto or any change in events, conditions, or circumstances on which any such statement is based. Tom?

Thomas A. Bologna

Thanks, Kevin. Let me start off by saying we are very pleased with our fourth quarter results for a number of reasons, not the least of which is, we again delivered on our goal to make each quarter in 2012 better than its preceding quarter. Relative to the third quarter of 2012, our fourth quarter 2012 gross margin increased to 54%, our below the line expenses decreased by over $560,000, and our operating loss decreased almost three-fold to approximately $470,000.

In addition, we ended the year with a strong cash position of approximately $9 million, and that does not include a $1.2 million payment that was expected in 2012 which we received from our largest pharmaceutical customer in early January for work performed in 2012. We believe this is quite a turnaround from just one year ago. To put it into perspective, in the fourth quarter of 2011, the Company experienced a gross margin of 25%, operating or below the line expenses of over $5 million or nearly $1.7 million above that of the fourth quarter of 2012, an operating loss of nearly $4 million, and the Company needed to raise cash in the first quarter of 2012. I believe it's fair to suggest that today, we are a better and much stronger company than we were just one year ago on many fronts, financially and in other ways.

Let me elaborate on that and also talk about our expectations for 2013. Let's start with our financials. As previously noted, our fourth quarter operating loss decreased almost three-fold from the third quarter of 2012, and I might add that our third quarter operating loss decreased nearly two-fold from the second quarter of that year. The bottom line is this. We have consistently decreased our losses quarter-over-quarter from the fourth quarter of 2011 and our operating loss has decreased more than eight-fold from just one year ago. And our gross margin also improved significantly. It has consistently increased each quarter since the fourth quarter of 2011, when it was roughly 25% as previously noted, to a fourth-quarter gross margin of just over 54%. In other words, the gross margin more than doubled in one year.

Our margins increased consistently and our losses decreased steadily for a number of reasons. First, as I mentioned in the previous calls, we scrutinize our costs vigorously. We monitor our legal, consulting and other expenses closely and we are relentless in optimizing productivity. Second, we do not hesitate to install systems that we need to continuously improve our margins. One of our key 2012 goals was to implement the state-of-the-art LIMS, or laboratory information management system, and I'm pleased that the first phase of that system went live last month. We believe that system, along with other measures that we have taken, will allow us to increase capacity with minimal additional cost and also provide the metrics that we need to grow our business.

I should also add that in the latter half of 2012, we also turned our attention to strengthening and capitalizing on our Xifin billing system and we plan to implement a business interface system along with the state-of-the-art CRM system in 2013. So what does all this mean? Simply put, we have not and will not hesitate to transform our Company into being the best-in-class, the most cost-effective molecular diagnostics lab in the business, and as we grow, we fully expect to see increasing revenue drop to the bottom line.

We believe this is extremely important because we appreciate that prices in our industry are not getting better in the short-term and we believe, at least for the near and long-term, the true winners will be the most cost-effective, high-quality, differentiated labs. I will comment more on our pricing and our industry and the short and long-term impact on our business later.

However that said, our focus is quite simple. We push through control where we can control and prepare for a changing and dynamic molecular diagnostics market that we believe will get bigger, even if it becomes more challenging in some respects. In other words, we expect to capitalize on what we believe is a growing molecular diagnostics business, and frankly, take advantage of what I will call market bumps in the road, as the market develops and grows.

Let's now talk about the non-financial aspects of our business. First, we have a solid business model. Appreciating that is not an easy one in some respects. I say that because having both a pharma and a DX business presents some unique opportunities while also presenting some challenges. No question 2012 was the year of pharma and we worked hard, and I believe successfully, to meet the needs of our largest pharma client, GSK. We will continue to do our best in providing our pharma clients with the highest and best-in-class service levels.

In 2013, we also plan to begin focusing on adding another key pharma client. Our goal when it comes to our pharma business is quite simple, to have a relatively small, a very focused and solid pharma business whereby we provide best-in-class service levels to select accounts. That said, our emphasis when it comes to building shareholder value and sustainable long-term growth will indeed be on the DX business. More on that later.

2012 was the year of building our management team. I believe we did that quite successfully. We brought on a VP of R&D, VP of Human Resources, and a new Head of Laboratory Operations. We also began to build out our IT department and we began stripping in our finance department. I am pleased to note that in the fourth quarter of 2012, we brought on a new Head of Regulatory and Quality Affairs and also someone to head up marketing to begin to build out of that department.

I should also add that in connection with adding someone to lead marketing, we decided to split marketing and sales for both strategic and tactical reasons. Therefore, we made a change in our commercial leadership and are in the process of searching for someone to lead our U.S. national sales operations. I will comment more on the sales team later.

I'm also pleased to note that last week we added a Vice President of Business Development to help us drive top line growth organically or otherwise. The bottom line is this. Today I believe we have a strong and can-do management team that is getting stronger all the time and one that is well-positioned to take our Company to the next level. Again, I believe this is quite a change from just one year ago.

Let's now talk about our DX business. While 2012 was essentially the year of strengthening our balance sheet, which we did; focusing our efforts on getting our costs in check, which we did; making our relationship with our largest pharma client an overriding area of focus, which I believe we also did; building the management team, which I just highlighted; installing the systems needed to aggressively and properly grow our business, which I believe is well on its way, I believe 2013 is and will be the year of further and selectively building our pharma business and focusing on and building our DX business. Said differently, I believe it is the year of building our top line.

More specifically, let me briefly highlight what we have done since approximately one year ago to prepare for and grow our DX business and what we expect to achieve this year or 2013. First, in 2012, we began implementing our strategy of developing truly patient-centric molecular diagnostics programs. We aim to grow with aggressively implementing new molecular diagnostic test. We implemented the Leave No Stone Unturned program, which I believe I highlighted in previous calls. This is we believe a one-of-a-kind program where we are the only lab that retails all-out FISH negative test, at a minimal cost I might add, with our proprietary RT-PCR test for patients that may be candidates for Pfizer's drug, crizotin, for treating lung cancer. In other words, we walk the walk, so to speak, in being truly patient-centric and going the extra distance in helping lung cancer patients.

Following implementation of this program, we believe we were the first commercial lab to introduce ROS1 for identifying either more patients that could be candidates for crizotin. I mentioned this only because it's part of our strategy to be among other things a leading molecular diagnostics content company that consistently adds high value molecular diagnostic tests to an already complete menu of such tests and it added to the transformation of our Company to a more strategic marketing and commercially driven enterprise. I believe we always did great science but we have become more commercially driven.

Second, in the latter half of 2012, we began to make many changes in our DX sales organization, and to a large degree, we paid the price in 2012 as we began to address our weaknesses and solidify our strengths. For example, we added and/or changed sales force leadership that we believe was necessary to grow our top line. Namely, we reconfigured and strengthened our field operations rather significantly, and today, we have the U.S. market divided into three regions to provide the leadership and the follow-up that is absolutely necessary to grow our business. I might also add that we also recently added resources in our Los Angeles headquarters to begin developing and working a managed care strategy.

By the end of the second quarter of 2013, we expect to have completed the build-out of a relatively new sales force that will consist of not less than 19 account executives that are in the field selling to oncologists, pathologists, and hospitals. As I believe I noted in previous calls, this is somewhat different than what we have done in the past where our emphasis was essentially focused on oncologists. While this is still a work in process, what I can tell you is this, we have strengthened our sales training and support structure significantly and we believe we are experiencing a new and focused energy level that is truly performance driven. While it's early in the process, I sincerely believe we are at the beginning phase of seeing a more sales-driven operation at all levels of our Company.

Let's now talk about 2013 and what to expect. First of all, we, and the rest of the industry I might add, recently learned about some of the new initial Medicare pricing for molecular tests released by Palermo. We, like I believe everyone else, do not fully understand the pricing for some of these tests. However, what I can tell you is this, we are in direct contact with Palermo on this issue and we are also participating with industry groups to provide Palermo necessary and better information to update their pricing.

Based on our discussions and what we are hearing, we expect that this initial pricing will improve. That said, it will create a headwind for us in the short-term but we are well-prepared with a strong balance sheet and a business model that mitigates and spreads risks. To cut to the chase, even with the initial pressing, which we believe will be corrected, we expect to achieve gross margins in the mid-40% range. It's no accident that the actions which we have taken over the last year to build what we believe is a highly, effective cost structure and a good balance sheet, is what was needed for our Company or for that matter for any business. Quite sincerely, we were preparing for what we believe will be lower prices in 2013.

2013 is the year we are focusing a good deal of our attention on building top line growth and we plan to invest on our marketing and sales organization accordingly. In 2012, we built a balance sheet that would enable us to push for growth and we are going to use it for just that. The reason is simple. We believe molecular diagnostics testing is a growth driven opportunity and we provide high-quality, high value-added, cost-effective molecular diagnostic testing.

Now, before opening the call to questions, let me just make a few concluding comments. First, we have transitioned and taken Response through quite a journey over the last year and we will let our financial results speak for themselves. Second, we believe we have demonstrated our ability to make the hard decisions to strengthen and position our Company for both growth and opportunity. Third, we are pursuing an opportunity which what I would like to call the wind to our back because we sincerely believe personalized medicine is here to stay. While like any business, we expect to face bumps in the road, we believe we have afforded to meet and overcome those bumps, and more importantly, not hesitate to pursue and capitalize on opportunities. And last but certainly not least, I want to thank our customers, investors, employees, and the Board for the support that you have given to the Company over the last year.

And with that, operator, please open the call for questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question comes from Yale Jen with Roth Capital. Please go ahead with your question.

Yale Jen - Roth Capital

Good morning, Tom, and congratulations on the very good result this quarter. Just a quick question on the Medicare and pricing, you had mentioned that the initial one was a little bit challenging and you believe this will be probably sooner or later be corrected, could you elaborate a little bit more that in terms of even there's some price erosion going forward, over in this year or actually next year, why you think that the Company will be able to achieve the margin you anticipate, could you just give a little bit more color on the overall improvements you anticipate to achieve going forward?

Thomas A. Bologna

Sure. I think it's for several reasons. Probably first and foremost is, as we clearly have our cost structure well under control, and I would say it's probably one of the best in the industry. So, even with just a little bit of an increase in sales, we expect a good chunk of that to drop to the bottom line. Secondly, the way we go about doing our testing is such that we are increasingly taking cost out of the way we do our testing. And last, but certainly not least, it all goes back to our business model. Our business model includes a fairly healthy component form of business which is totally unaffected by these changes, and you combine that with our cost structure and the way we're doing things, it pretty much speaks for itself.

Most lab businesses are usually running in the 40% to mid-40% range anyway. Obviously, we've done quite well with the kind of gross margins that we've been able to achieve. But we believe because as a result of some of these, which we believe are short-term impact, we'll still be able to get to work within the industry averages. We probably just won't be able to get way above those industry averages like we have been, but we plan on figuring out a way to get back to that as well.

Yale Jen - Roth Capital

Okay, great. Another quick follow-up on that is that, for this year 2013, I mean our model suggests a major ramp-up in the sales probably starting in the second half of this year, but what do you see, let's say, the second quarter of this year? Do you start to see signs of that or how should we think about the first half of this year?

Thomas A. Bologna

I think it's a little bit early to tell on that, but we feel like we have a good solid base, and one of the other things that we believe could very well happen is, as recently what we heard, is that even if this – as this pricing changes, as we believe it will, they may actually be retroactive to the beginning of this year. So, it's also a little bit difficult to really say. But again, it goes back to my comments, we'll worry about what we can control and we won't worry too much about the other things, but I would hope that we would start to see in the second quarter some growth, but again, the key to all of this is to really get the sales force totally in place, up and running in training, and we're well on our way in doing that.

Yale Jen - Roth Capital

Okay, great, thanks a lot, I'll get back to the queue. Again, congrats on the good quarter.

Operator

Our next question comes from Raj Maheshwari of Charlestown Capital. Please go ahead with your question.

Raj Maheshwari - Charlestown Capital

Good job on the gross margins. Tom, maybe I missed this, did you give guidance for 2013 revenues or not yet?

Thomas A. Bologna

No.

Raj Maheshwari - Charlestown Capital

Okay. The one thing I'm always been puzzled is, how should we look at the receivable balance? For example, from third quarter of 2012 to fourth quarter of 2012, the receivable balance has gone up by like $1 million almost. Is that just the timing difference or is there some really stale receivables in there?

Thomas A. Bologna

No, I mean really what it boils down to is, you probably didn't hear in my comments, but we did a lot of work for GSK and we had a fairly high receivable. So we collected that, it was I believe, correct me if I'm wrong Kevin, $1.2 million in the first quarter of this year. I mean that's all that was. So when we look at our cash balance, we ended the year with a little over $9 million and then quite honestly we expected to receive the $1 million in the fourth quarter of 2012 but actually came in early January I believe, which was the $1.2 million, which was the receivables down by that amount.

Raj Maheshwari - Charlestown Capital

Okay, so sorry. So I guess maybe I should have asked it differently. On the $5.3 million, $1.2 million has been received. So, let's take it down to $4 million and change. How much of it is DX and how much of it is pharma, roughly?

Thomas A. Bologna

Kevin?

Kevin R. Harris

Yes, if we take out the $1.2 million, pharma is roughly $1.5 million of that and the rest is DX.

Raj Maheshwari - Charlestown Capital

So $2.5 million is DX?

Kevin R. Harris

Yes.

Raj Maheshwari - Charlestown Capital

And like it's not like 90 day old and stuff like that, it's actually real AR, correct?

Kevin R. Harris

The majority of it is. There are some balances you know. Ss you are aware that the company is out of network with most of the private payers. So what we do is, there's just a slightly elongated process to go to the back and forth, but it only represents balances that we're actively pursuing. We do apparently rigorous analysis of the AR and write-down or write-off anything that we believe is uncollectible.

Raj Maheshwari - Charlestown Capital

Okay, and one last quick question while I'm at it. Cash burn for 2013, or maybe not, I don't even know if there is, but I'm asking?

Thomas A. Bologna

Good question. I mean where we are with that will obviously largely be dependent on our top line growth, but let me say, on a rough month, maybe $0.5 million.

Raj Maheshwari - Charlestown Capital

So should I just multiply $0.5 million by 12?

Thomas A. Bologna

I think that would be a conservative way of doing it, yes.

Raj Maheshwari - Charlestown Capital

Okay, great, alright. Thanks Tom.

Operator

Our next question comes from Kevin DeGeeter with Ladenburg. Please go ahead with your question.

Kevin DeGeeter - Ladenburg Thalmann

Great quarter, really, really pretty astounding turnaround over the last 12 months. Couple of things there. Can you talk to us about kind of where you are at the moment on sales force headcount and in terms of the sales forces in place, are those folks fully engaged with the new strategy of calling oncologists, pathologists, kind of a broader sell, or is that still to be rolled out perhaps once you have a new Head of Sales in place?

Thomas A. Bologna

Yes, I mean right now I believe of the 19 that we plan on having placed by the end of the second quarter, we're up to about 15, I believe the number is approximately 15. The sales team has been totally revamped. In fact, we had two pretty intense sales training courses, the last one was about two weeks ago, and we're in the process now of also having some regional training sessions as well, and now that we have someone onboard as well with the Head of the Marketing, as I said in my comments, very much both strategic and tactical marketing, I believe we are really well on our way. We also have someone in-house now that's working on the managed care account, so we could start working on getting into network on some of these things. We expect it to all fall in place within the second half of this year.

Kevin DeGeeter - Ladenburg Thalmann

Okay, great. I guess as a related question to that, do you expect to have a shift being in network with any of the larger private payer here in 2013 or is that a more longer-term transaction?

Thomas A. Bologna

We believe we can. In fact, we are actually making progress with one of the blues here in California.

Kevin DeGeeter - Ladenburg Thalmann

Okay, great. And just lastly and I'll get back in the queue, can you just please provide a little bit more context for the mandate for the new executive you've brought in, is that really focused towards the DX side of the business or more towards the pharma or split closer to 50-50 in terms of client relationships and mandate?

Thomas A. Bologna

Good question. He has a very, very strong background, Ph.D, strong finance background, and a real focus, his name is Eric, Eric Chang, his real focus will be on working with me on several deals and different things that I'm pursuing and how to grow the business both organically and otherwise. Initially what he'll be working on are some of the key business models that I've been thinking about quite aggressively because of where this whole market is changing, which I think frankly is going to play right to our advantage, and I'm also looking at some different kinds of things we want to do, because it's clear, we really would like to grow this business both organically and in other ways.

Kevin DeGeeter - Ladenburg Thalmann

Terrific. Once again, congrats on the progress.

Operator

(Operator Instructions) Our next question comes from Yale Jen with Roth Capital. Please go ahead with your question.

Yale Jen - Roth Capital

Thanks for taking the follow-on question. Just another housekeeping thing. In terms of the revenue split between new Medicare and private payer for the quarter, would you be able to provide some numbers? It might be in the K but I have not yet checked that, so is any out there?

Thomas A. Bologna

Yes, I believe we'll have the K out early next week.

Kevin R. Harris

Early next week, and all that detail will be in there, yes.

Operator

I'm not showing any other questions in the queue at this time.

Thomas A. Bologna

Let me conclude by saying, I really and sincerely appreciate everyone's support and that we are obviously going down an existing journey and a very exciting opportunity here, and again, thanks for your support and I look forward to updating you again rather shortly because the first quarter will be over before we know it. Thanks again.

Operator

Thank you, ladies and gentlemen. Thanks for your participation in today's conference. This does conclude the conference. You may now disconnect. Good day.

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