Cutera, Inc., Q1 2009 Earnings Call Transcript

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 |  About: Cutera, Inc. (CUTR)
by: SA Transcripts

Operator

Good afternoon, ladies and gentlemen and welcome to the Cutera Inc., First Quarter 2009 Earnings Conference Call. (Operator Instructions) I would now like to turn the conference over to John Mills with ICR. Please go ahead, sir.

John Mills

By now everyone should have access to the First Quarter 2009 Earnings Release which went out today at approximately 4:00 PM Eastern time. The release is available on the Investor Relations portion of Cutera’s website at www.cutera.com and with its Form 8-K filed today with the SEC and available on its website at www.sec.gov. Before we begin, Cutera would like to remind everyone that these prepared remarks contain forward-looking statements, including statements concerning domestic and international growth opportunities and strategies; future spending, expense management and execution on various aspects of our operations and business; expectations for increasing revenue, generating additional cash, and maintaining profitability; the development and commercialization of existing and planned products; and the ability to settle outstanding litigation.

Also, management may make additional forward-looking statements in response to your questions. Factors that could cause Cutera’s actual results to differ materially from these forward-looking statements include the global economic crisis which may reduce consumer demand for its products; cost potential of customers to delay their purchase decisions, and make it more difficult for some potential customers to obtain credit financing; Cutera’s ability to increase revenue and manage expenses worldwide; the length of the sales cycle; its ability to successfully develop and acquire new products and market them in both its install base and new customers; unforeseen events and circumstances related to its operations; government regulatory actions; and those other factors described in the section entitled Risk Factors in its most recent 10-Q filed today, May 4, 2009, with the SEC.

These forward-looking statements do not guarantee future performance and therefore you should not rely on them in making an investment decision without considering the risk associated with such statements.

Cutera also cautions you to not place undue reliance on forward-looking statements which speak only as of the date they were made. Cutera undertakes no obligation to update publicly any forward-looking statements to reflect new information, events, or circumstances after the date they were made, or to reflect the occurrence of unanticipated events.

With that, I will turn the call over to the Company’s President and Chief Executive Officer Mr. Kevin Connors. Go ahead Kevin.

Kevin Connors

Thank you, John. Good afternoon everyone and thanks for joining us today to discuss Cutera’s results for the first quarter ended March 31, 2009. On today’s call I will provide an overview of results and then Ron Santilli our CFO will provide additional details on our operating and financial results. Finally, I will provide some closing comments and open the call to your questions.

Our revenue for the first quarter 2009 was $14.4 million or 33% lower than the $21.6 million reported in the first quarter of 2008. Historically our first quarter revenue is lower than any other quarter’s revenue during the fiscal year, and the trend was exacerbated by the ongoing global recession. Our industry continues to be negatively impacted by this economic downturn, particularly the United States where we believe customer prospects are deferring their purchasing decisions.

We are continuing to take decisive actions in response to the economic environment with the goal of improving profitability and cash generation. To respond to our lower than expected revenue level we reduced our company wide workforce 12% in April. Our headcount as of the end of April was 191 people, including 34 sales territories in North America.

We expect our second quarter operating expenses to be similar to those in the first quarter of 2009 due to the timing of this reduction and because there are non-recurring charges associated with it.

Starting for the third quarter 2009 a full impact of our cost cutting measures will be realized. I would like to point out that we have not reduced any sales territories since the beginning of the year and have not materially changed R&D expenditures. We will continue to manage our expenses carefully during these uncertain times and make appropriate decisions in an effort to better align our expenses with current revenue levels.

After we experience the full benefit of our cost cutting efforts in the second half of 2009 we believe that our break-even revenue level will be approximately $15 million per quarter.

In the current market environment we believe that the core market of dermatologists, plastic surgeons and other established medical offices provides us the best opportunities in our industry; therefore we are actively focusing our sales, marketing and new product development efforts on this segment of our market.

During the first quarter 2009 almost 50% of our U.S. orders were sourced from these core physicians. In addition, we plan on increasing sales productivity through reference selling by asking existing doctors who have been using our products to provide potential customers with feedback on their experience.

Turning to Research and Development, we are continuing to develop innovative solutions and expand the clinical understanding in applications of our current products. We believe that strategic ongoing investments in product research and development are critical to our future success. In line with that principle, we are continuing to invest in research and development. We are pleased with the planned commercialization of our adjustable debt selectivity, or ADS technology, that was recently previewed at the American Academy of Dermatology meeting in San Francisco.

This latest innovation is the culmination of five years of clinical research in collaboration for non-evasive body contouring. The key features of this technology are the ability to selectively target and heat fat cells, and to vary treatment depths within that fat. With these combined effects, we expect they will result in non-invasive body contouring for a wide range of patients. Research conducted with in vitro human fat cells at the Cell Culture Facility at the University of California Medical Center in San Francisco measured fat cell survival rates following thermal exposures. In a separate in vivo human study histological samples following treatment showed control cell depth in targeted tissue with full protection of nearby tissue. We are encouraged by the positive results in the clinical data and are looking forward to our planned commercialization of this product.

We believe that our extensive portfolio of existing products and continuing investments in R&D will position us well for strong growth once the market becomes more stable.

Now I would like to turn the call over to Ron to discuss our financials in more detail.

Ronald Santilli

Thanks, Kevin, and thanks to all of you for joining us today on our First Quarter 2009 Conference Call.

First quarter 2009 revenue was $14.4 million, a 33% decrease when compared to the first quarter of 2008.

Net loss for the fourth quarter of 2008 was $1.8 million or $0.14 per diluted share.

The first quarter of 2009 included $850,000.00 for the estimated costs of settling the TCPA or Telephone Consumer Protection Act litigation matter, net of administrative costs and amounts expected to be recovered from our insurance carrier. On an after tax basis this represented $523,000.00 or $0.04 per diluted share.

Product revenue in the first quarter of 2009 decreased 48% when compared to the product revenue in the first quarter of 2008. We believe the global recession continues to affect our industry and customer purchasing decisions, thereby having an adverse effect on sales of new systems.

Upgrade revenue for the first quarter of 2009 decreased 21% when compared to upgrade revenue in the first quarter of 2008. We are continuing to see a lot of interest in our Pearl and Pearl Fractional upgrades. The clinical results of our Pearl Fractional product are exceeding our expectations and we will continue our focus on selling to the core specialties and building relationships with that market segments opinion leaders.

Service revenue for the first quarter 2009 increased by 20% to $3.3 million compared to the first quarter of 2008. Our first quarter 2009 service revenue growth was attributable to increased service contract amortization resulting from an increased install base of customers. Although our service revenue growth varies from quarter-to-quarter, over the long term this revenue category has shown consistent growth.

Titan refill revenue for the first quarter of 2009 increased 2% to $1.4 million compared to the similar revenue in the first quarter of 2008. This growth rate in Titan refills indicates that Titan procedures remain in demand even during these tougher economic conditions.

We are continuing to experience growth in our business from existing customers. During the first quarter of 2009 44% of our revenue was derived from sales of service, upgrades, and Titan refills. We remain committed to strong customer satisfaction and believe we will continue to realize revenue growth from our annuity revenue categories once the economy becomes more stable.

I will now address our operating performance.

Our gross margin in the first quarter of 2009 was 59%. This rate is slightly lower than the 62% rate in the first quarter of 2008 due primarily to our lower revenue volumes. We are continuing to experience pricing compression which was largely offset by reduced expenses resulting from improved product reliability. The improvements in product reliability have positively impacted all of our products and are the result of continuing efforts on quality and customer care.

Sales and Marketing expenses decreased by $3.3 million or 32% in the first quarter of 2009 and were $7 million compared to $10.3 million in the first quarter of 2008. As a percentage of revenue the expenses were at 49% in the first quarter 2009 and 48% in the first quarter 2008. The decrease in expenses in the first quarter of 2009 in absolute dollars was due primarily to our downsized sales and marketing organizations in North America.

Research and Development expenses remained relatively flat at $1.7 million in the first quarter of 2009. This spending level is in line with our continuing commitment to develop and commercialize innovative products and applications.

General and Administrative expenses declined by over $400,000.00 from $2.9 million in the first quarter of 2008 to $2.5 million in the first quarter of 2009. The decrease in expenses was primarily attributable to lower labor and legal expenses.

We have an agreement in principle to a tentative settlement of our Telephone Consumer Protection Act or TCPA Class Action Lawsuit. This Class Action Lawsuit was filed against the Company in January 2008 and alleged that the Company violated the TCPA by sending unsolicited advertisements by facsimile with out the prior express invitation or permission of the recipients. Included in our loss for the first quarter of 2009 was $850,000.00 for the estimated net costs of the tentative global settlement of this litigation. On an after tax basis this represented $523,000.00 of our net loss for the quarter or $0.04 per diluted share.

Interest and Other Income net was $599,000.00 in the first quarter of 2009 compared to $901,000.00 in the first quarter of 2008. The lower income is due primarily to lower interest yield on our cash and marketable investments.

Our effective income tax rate for the first quarter of 2009 was 40%. For modeling purposes, we suggest using an effective income tax rate of approximately 40% for the remainder of the quarters in 2009.

Turning to the balance sheet, our financial position remains strong. As of March 31, 2009 we have $103.4 million in cash, marketable securities, and long-term investments with no debt. This represents approximately $7.80 per outstanding share. Note that our outstanding share count increased by approximately 480,000 shares in the first quarter of 2009 as a result of management exercising options and holding their shares.

Operations consumed $3 million of cash during the first quarter of 2009. I would like to point out that we were near cash neutral in the quarter after adjusting our net loss of $1.8 million for the after tax cost of $523,000.000 for the litigation settlement and in fact the $1 million of non-cash stock based compensation.

In the first quarter we invested approximately $2.7 million in working capital. Of this amount, $1.1 million was due to an increase in our tax receivable balance resulting from our loss; $1.1 resulted from a decrease in our deferred revenue associated with service contracts; and $500,000.00 of other increases in working capital.

Our Auction Rate Security investments held stable during the quarter. We recorded a balance sheet write-down of $164,000.00 due primarily to lower interest yields on the Auction Rate Securities. Our remaining portfolio of Auction Rate Securities is valued at $9.5 million as of March 31, 2009.

Net accounts receivable at the end of the first quarter 2009 were $5.3 million and the DSOs were 33 days. Our DSOs continue to remain strong and we are better than our targeted 35 to 45 days due to a thorough credit approval process and strong collection efforts.

Inventories decreased slightly from the December 31, 2008 balance to $9.8 million as of March 31, 2009. While we are comfortable with the quality of our inventories, we have implemented initiatives to reduce our inventory levels more aggressively and expect it to decrease during the remainder of 2009. This should result in a favorable impact to our cash from operations in the coming quarters.

Now that I have concluded my overview of Cutera’s financial performance, I will turn the call back to Kevin.

Kevin Connors

Thanks, Ron. Our focus during the next few quarters will include one, the continuation of our marketing and clinical work on our Pearl and Pearl Fractional products with a heightened focus on dermatology and plastic surgeon offices.

Two, we are focusing our efforts on a timely and efficient launch of our planned body contouring product.

Three, we also plan on increasing sales productivity through such measures as increased reference selling and targeted marketing initiatives to core physicians and established medical offices.

Four, we will be continuing our efforts throughout 2009 to manage expenses in line with our revenue levels, maintain profitability and improve cash generation.

While the near term prospects for our industry are difficult to predict due to economic uncertainty, we believe our extensive worldwide distribution network, strong balance sheet with over $103 million in cash and investments, no debt, broad portfolio of products, and various research and development projects underway in our continuing long-term growth opportunities for our company.

Now I would like to open the call for your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Dalton Chandler with Needham & Company.

Dalton Chandler – Needham & Company

I would like to start off with a couple of clarifications. I missed part of what you said about the sales territories. Is it still at 35?

Ron Santilli

No it’s at 34 North America.

Dalton Chandler – Needham & Company

Okay thanks and then the $850,000 for litigation; was that a cash expense in the quarter?

Ronald Santilli

It was not. It would be a cash expense in Q2, and an accrual in Q1.

Dalton Chandler – Needham & Company

Okay great, thanks. Then more broadly, some of your competitors have made sort of mixed commentary on the overall market. Some have said it hasn’t really changed much, others have said they have recently seen some things pick up and they have become somewhat more optimistic. Could you talk about what you’re seeing?

Kevin Connors

The most recent snapshot we have is the first quarter and I think throughout the industry the order trend tends to be back end loaded, so it’s too early for us to speculate on the tea leaves at this point.

Dalton Chandler – Needham & Company

Okay and you mentioned you are pleased with the Pearl Fractional upgrade levels. If I look at your product upgrade number overall it was down a little bit sequentially; it was down a little bit year-over-year, so are people not buying other upgrades or what is the underlying driver of that number?

Kevin Connors

Just for clarification, Dalton, we were referring to the clinical efficacy side, none on the upgrades. As you probably have seen in the revenue break out our upgrade business does move around quite a bit, so it wasn’t a strong quarter for us, but in fact that can change from quarter to quarter.

Dalton Chandler – Needham & Company

Okay and my final question is on the launch of the new ADS product. You do already have, it sounds like, a fair amount of clinical data and it is pretty positive, so what else are you working on that you need to see before you are ready to actually launch?

Kevin Connors

Well this particular application is one where it takes quite a bit of time to monitor whether there has been a change or not, so the time constants associated with this clinical research and development is on the longer side. What we are dealing with, with Titan actually, it took quite some time for us to follow patients and measure the difference, so it is just the nature of the beast. It is just going to take us a long time to get the kinds of long-term follow up that we’re looking for in the clinical research.

Dalton Chandler – Needham & Company

But you are still on track for a launch in the second half of the year?

Kevin Connors

That is our plan.

Dalton Chandler – Needham & Company

Okay, all right thanks a lot guys.

Operator

Your next question comes from Tom Gunderson with Piper Jaffray.

Amy – Piper Jaffray

It is actually Amy in for Tom. You mentioned revenues this quarter coming roughly half from the core markets. Ron, do you have handy the mix between the general practitioners and the OB GYN etc…?

Ron Santilli

Yes, approximately 14% came from the general practitioner, then about 33% from other MDs, so it is not helping you a lot, but just a lot all of the other MDs and 5% from non-MDs.

Amy - Piper Jaffray

Okay and nothing has changed as far as your relationships on the general side, is that correct?

Kevin Connors

Can you be more specific with that Amy?

Amy - Piper Jaffray

Just as far as your marketing efforts, your partnership there.

Kevin Connors

You are referring to PSS?

Amy - Piper Jaffray

Yes.

Kevin Connors

Then nothing has changed with that, no.

Amy - Piper Jaffray

Okay and then you also mentioned just as far as pricing pressures. Can you give us any more color there, maybe relative change from sequentially?

Ron Santilli

You know it is not significant, but we are continuing to see every deal is more competitive and price becomes one of the points, but I wouldn’t say it has been of significant change from the last few quarters.

Kevin Connors

The other thing to consider is that we are at record levels in terms of our international component, so our distributor business goes at transfer pricing, so that will have a negative impact on average selling prices as well.

Amy - Piper Jaffray

Okay and then lastly just as far as a broader perspective. We’re seeing some improvement from consumer sentiment and what not. I am just curious what your thoughts are? I mean is it patients volume, patient traffic that are making the doctors hesitate or what is it that’s going to get the laser market growing again, to get it to turn?

Kevin Connors

Well we think that the consumer interest is still strong. There are surveys that the plastic surgeons have done where they are reporting pretty bullish forecasts for laser and light based procedures in the plastic surgeons office. I think we have seen some changes in the overall market. Some of the med spas from years ago that were doing very well are experiencing a more difficult environment. It is our belief that existing physician offices where they are currently doing aesthetic procedures, that continues to be a very attractive market and that is why we mentioned on the call that we are spending a lot more time focused on that healthier segment market. But, in a general sense any time there is an existing practice if they are able to layer the aesthetic procedures on top of their existing patient base it is an attractive opportunity.

Amy - Piper Jaffray

Okay, thank you.

Operator

Your next question comes from Anthony Vendetti with Maxim Group.

Anthony Vendetti - Maxim Group

The sales of North America International, I don’t know if you broke this out?

Kevin Connors

We did break it out; it is on the release as well.

Anthony Vendetti - Maxim Group

Did you say what the growth was sequentially or year-over-year? I don’t have the old numbers in front of me.

Ron Santilli

I’m sorry; I will just pull it up right now.

Anthony Vendetti - Maxim Group

While you are doing that, Kevin you had mentioned that March is generally better than January or February because it is the end of the month and that is generally the case in every quarter. Some competitors have said that there has not been much change in April, and others have said that April is off to a better start than the start of, let’s say, the first quarter. Have you seen any evidence that maybe April looks a little bit better and gives you a little bit more hope for the second quarter? Or, what is your read right now on what you’ve seen so far since we’re finished with April?

Kevin Connors

I need a better crystal ball, because it is hard for us to glean anything meaningful for the first month of any quarter really. As I mentioned earlier, as you know, the business is back end loaded in terms of the order volume. Often times there is a lot of speculation it is tied to what’s going on in some of the broader markets, but I would rather not comment on that as it relates to the aesthetic space.

Anthony Vendetti - Maxim Group

Sure, sure and in terms of the credit markets, since a lot of these deals are financed, have any of the leasing companies come back into the market that have left the market, or are the terms still rather onerous in terms of being able to get the credit?

Ron Santilli

I would still characterize it as fairly tight out there. I don’t think banks or lending sources are coming into the market very fast. But, obviously the strong customers are still able to get the credit. We are finding a way to get deals done, but it certainly takes a lot longer and more disclosures on their part.

Anthony Vendetti - Maxim Group

Okay and on the product side, you were talking about this new body-contouring product and some positive test results for the destruction of some of the fat cells. Can you talk about the methodology that you’re using? I mean there are a number of companies out there, obviously, yours is one of them, that are looking at different ways, whether it is heat, whether it is cold, specifically what you are seeing that leads you to have the confidence in this product and whether you think that there is an extension possible to the body contouring product as you further develop this technology?

Kevin Connors

As you saw at the Laser and Medicine meeting in DC we had the technology preview there. We went through the specifics of our energy source and why we have developed it to provide adjustable depth capabilities. So, it is a thermal process where we are actually selectively heating fat cells and leaving the dermal tissue unharmed. By thermally denaturing fat cells we are able to demonstrate successful selective targeting of fat cells.

So, I think it is a huge category. Anytime we can avoid breaking the skin and having a therapeutic result like this, I think it represents a very exciting opportunity for our product.

Anthony Vendetti - Maxim Group

Are you continuing to elect to stay away from anything that is invasive, even if it is minimally invasive, and stick to the non-invasive?

Kevin Connors

Well with Pearl and Pearl Fractional, those are two of our most invasive products in our portfolio. With that said, the recovery time is relatively short and complication rates have been very modest for us. We have been showing a willingness to get more invasive relative to the other products that we’ve done prior to that.

Anthony Vendetti - Maxim Group

Okay and the last thing is, Ron, do you have those numbers handy?

Ron Santilli

Yes, so we said our revenue was $14.4 for the quarter compared to Q1 ’08 where it was $21.6 or 33% decline. The U.S. during the same periods declined 49% and international declined 12%.

Anthony Vendetti - Maxim Group

Okay and that is year-over-year?

Ron Santilli

Yes, that is correct.

Anthony Vendetti - Maxim Group

Okay, great, all right. Thank you.

Operator

As there are no further questions, Mr. Connors I will turn the call over to you for closing comments.

Kevin Connors

Thank you for participating on our call today. We look forward to seeing you at various investor events during the quarter, and to updating you on our second quarter conference call in August. Have a good afternoon, and thanks for your continuing interest in Cutera.

Operator

Thank you. Ladies and gentlemen that will conclude today’s teleconference. We do thank you again for your participation. (Operator Instructions) Have a nice day.

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