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Response Genetics, Inc. (NASDAQ:RGDX)

F1Q13 Earnings Call

May 14, 2013 10:00 am ET

Executives

Thomas A. Bologna – Chairman of the Board & Chief Executive Officer

Kevin R. Harris – Interim Chief Financial Officer

Analyst

Kevin DeGeeler – Ladenburg Thalman

Yale Jen – Roth Capital

Welcome to the Response Genetics, Inc. first quarter 2013 financial results conference call. At this time all participants are in a listen-only mode. Later we will conduct a question and answer session and instructions will follow at that time. (Operator Instructions) As a reminder, this conference call is being recorded. I would now like to introduce your host for today’s conference Tom Bologna, Chairman and Chief Executive Officer.

Thomas A. Bologna

Welcome to our first quarter 2013 conference call. Before highlighting our financial and operational results, Kevin Harris our Interim CFO will read our forward-looking statement. I will then review our first quarter 2013 financials, summarize where we are, discuss our plans for 2013, and then open the call to questions for Kevin and I.

Kevin R. Harris

In addition to the historical information, our first quarter 2013 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 cost, profits and plans, and objectives of management.

The use 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 risk and uncertainties that could cause actual results to differ materially from those expected. These forward-looking statements speak only as of the dates 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.

Thomas A. Bologna

Let me start by saying we are quite pleased with our first quarter results which we believe were strong for a number of reasons. First of all, our gross margin came in at nearly 55% versus approximately 54% quarter-over-quarter and 32% for the first quarter of 2012. Our pharma revenue for the quarter was over double that of the first quarter of last year and essentially consistent with the fourth quarter of 2012.

I should also note that our pharma revenue was lower than we expected since we had to push out some work related to a companion diagnostics bridging project that we’re doing for GSK. We expect to realize that revenue later in the year. I will comment more on our pharma business shortly.

Our DX revenue is moving in the right direction especially, when one takes into consideration the challenging reimbursement climate. I am pleased to note that our DX revenue increased by 4% quarter-over-quarter relative to the fourth quarter of last year and by approximately 8% over the first quarter 2012. Had the reimbursement environment not been challenging we believe we would have achieved more growth and we have to keep in mind that today we are in a sales and marketing building mode. In other words are sales and marketing efforts are today a work in process and we fully expect to see productivity gains that are translated into sales growth as the year progresses.

I will talk more about our DX revenue and where we are in building our sales and marketing organization but first let me comment on our bottom line results. We are quite pleased with the bottom line especially when we factor in our increased expenditures related to the planned ramp up of sales and marketing. The key point is this, relative to the first quarter 2012 our first quarter 2013 operating profit loss decreased from over $3.1 million to approximately $784,000 or a nearly four-fold decrease.

Equally, if not more interesting, while we increased our sales and marketing expenses by $210,000 or nearly 60% relative to the fourth quarter of 2012, our loss increased by only approximately $315,000. Had we not invested in sales and marketing one could suggest that our losses would have actually decreased to approximately $263,000 or 44% below that of the fourth quarter of last year. The main point is this, the work we accomplished in 2012 to get our cost in line and emphasize operational efficiencies appears to be producing the results we expected. Another key point I also want to emphasis is that 2013 is the year we expect to grow our top line and as I believe I have said previously we will not hesitate to make the necessary investments in sales and marketing to get the job done.

Let’s now talk about the broad non-financial aspects of our business and then focus on what we are doing and will continue to do to grow the top line of our DX business while also selectively building our pharma segment. First as I noted in the previous quarterly call, we believe we have a solid business model appreciating that it is not an easy one in many respects. I say that because having both a pharma and DX business presents some unique opportunities while also presenting some challenges, but challenges that nevertheless could and I believe are, being managed to enhance shareholder value.

We believe maintaining the right balance between those businesses to maximize shareholder value is a key consideration that we constantly revisit and calibrate for a host of reasons. To the best of our knowledge none of our competitors have such a business model and we believe it is one of the many attributes that sets us apart from other companies serving the oncology market. Second, as I’ve noted on several occasions we placed a great deal of emphasis on not only maintaining but also constantly improving our operational efficiencies in everything that we do. I will not go into specifics but rather let our gross margins and our relatively low below the line expenses speak for themselves.

If I recall, during our last quarterly conference call I suggested that we should expect gross margins in the mid 40% range which is consistent with that of other companies which we are often associated with. With that said, in the first quarter of this year we again realized a gross margin of over 50%. As noted previously our Q1 2013 gross margin was nearly 55% which compares with 2012 fourth quarter gross margin of approximately 54% and a Q1 2012 gross margin of approximately 32%.

Now, turning to the all-important topline of our company let’s start with our pharma business. We appreciate that our pharma business could be described as relatively lumpy and our goal is to mitigate that characteristic as much as possible. Right now we have several small customers combined with what I will call our anchor pharma client, mainly GSK. Going forward we will always provide GSK with very special customer service but nonetheless we would like to also provide what we believe is nothing short of special prioritized service levels to another major pharma customer.

With that in mind we are in the process of recruiting an individual to help us secure that business in a focused and delivered manner. Today, that effort is largely under the responsibility of myself and our vice president of R&D. However, I should also not that we are well into the process of recruiting an individual to lead that effort. We are also entering a very exciting phase of our DX business for a number of reasons but most importantly because we are well along to building our sales and marketing partner.

Let me give you a few facts that describe where we were and where we are today. In the first quarter of 2012 we did not have a marketing department and marketing programs essentially were non-existent. In the second half of 2012 we transformed our company from essentially just selling test to one that sells opportunities based on well thought out marketing programs that are consistent with the needs of the marketplace and capitalize on what we believe is central to many of our unique strengths, namely the quality of our science, how we process samples in a special and unique way and our ability to rapidly develop important and needed tests.

Our leave no stone unturned program, which I highlighted on previous quarterly calls, is a good example of what we expect is just the first of many such programs. If you recall, this is our program where we are the only company that retests all [inaudible] negative tests, at a minimal cost I might add, with our proprietary RTPCR test for identified patients that may be candidates for Pfizer’s drug crizotinib for treating lung cancer.

What’s also interesting to note is that our company developed and began offering the [ELK] RTPCR test in 2010 which was even before Pfizer introduced their drug crizotinib and I believe we were also the first commercial lab to introduce ROS1 for identifying even more patients that could be candidates for this drug crizotinib. In other words, we are not just another lab, rather we view ourselves as a molecular diagnostics oncology company with outstanding science and true understanding of the needs of the patients that we serve.

Let me put all of this in perspective by first highlighting where we were just late last year and where we are today regarding our marketing and sales capabilities. In January of this year we brought on someone with a strong background in strategic marketing to build what I would call a can do marketing department and to also provide our sales people with the tools and metrics they need to not only maintain but also grow our business selectively.

We also made a decision to split marketing and sales for both strategic and tactical reasons and I’m happy to not that approximately two weeks ago we brought on a VP of sales reporting to me with a strong background in selling to the pathology market. His prior positions include a vice president of sales at Poplar Healthcare and in the recent past he was a regional vice president at Caris Life Sciences.

In addition, about two weeks ago we brought in a new regional sales director for our western region. That individual was previously a western regional sales manager for Genomic Health. Digging deeper into our sales organization we are also well along in revamping and building our sales force. Let me give you a few facts to put this build out into perspective. By January 1st of this year we made many changes in our sales force and at that time we had nine sales people. Today we have 16 people in the field and by the end of this quarter we expect to have three more.

What is equally important is that today we believe we have both the management structure and a companywide focus for driving top line growth. Combining the new, and I believe, dynamic sales team with a new head of sales and have the beginnings of a marketing department coupled with a company that is transitioning into a commercial driven organization, I believe suggests that we are well on our way in having the infrastructure and assets needed for delivering strong DX sales growth.

Regarding reimbursement, on our last quarterly conference call I noted that we, and the rest of our industry had recently learned about some of the new and additional Medicare pricing for molecular testing released by Continental and we had expected this initial pricing would improve. I am pleased to note that it has indeed improved combined with what I believe is our ever increasing cost structure, I will let our first quarter gross margin which was over 50% speak for itself.

Also, as I said on our last quarterly conference call, 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 and I believe that remains true today. Another key element in driving topline growth is to expand our testing menu and with that in mind we are in the process of not only adding to our R&D department but also focusing their efforts on assay development.

Previously we had been working on studies that would allow us to expand our studies to targeted geographical areas as well as working on our pharma business. We expect to introduce in the third quarter of this year new tests that will not only add to the existing market segments that we serve but also provide the foundation for expanding to new market opportunities. Now, while I’m on the topic of R&D I should also note that as we move forward with the new additions, the response team will also be working on enhancements to our core assays.

We plan to leverage the advantages of the next gen sequencing both for the purposes of accepting small [inaudible] that are becoming the standard sample type in advanced lung cancer as well as for being able to report newly identified mutations in [inaudible] genes.

Now, before I go into the call for questions, let me make a few concluding comments. First and foremost, from our perspective, 2013 is the year of growing the top line of our DX business and we believe we are well on our way of putting what is needed in place to make that happen including, but not limited to, building a dynamic sales force, providing the necessary leadership to direct that effort, building a best in class marketing organization, and installing the necessary associate assets to strengthen, support, and leverage our sales people.

Secondly, our goal is to build a very special and differentiated company that capitalizes on the strength of our science, the strengthen of our reputation and our patient centric focus. We view ourselves as a molecular diagnostics oncology company and not just another lab. Quite sincerely, we believe the world does not need another lab and we have no desire to be one. We want to capitalize on our knowledge and unique capabilities and apply it in a patient centric focus by helping oncologists and pathologists provide the right therapy for each of their patients.

With that, operator please open the call for questions.

Question-And-Answer Session

Operator

(Operator Instructions) Your first question comes from Kevin DeGeeler – Ladenburg Thalman.

Kevin DeGeeler – Ladenburg Thalman

I want to actually parse through the Medicare Response DX revenue a little bit more. Specifically, if you could link that back to the accounts receivable which actually looked pretty good in the quarter overall and maybe could you break out sort of the Response DX portion of the receivable versus the pharma receivable and help us appreciate the general direction the Response DX receivable is moving in the quarter?

Thomas A. Bologna

Sure, I’ll have Kevin comment on that.

Kevin R. Harris

Looking at our receivables on the balance sheet, our receivables are relatively flat compared to the end of the year. The mix is slightly different as you’d expect. The pharma portion is a little less than $2 million and the DX portion is up slightly from the end of the year. That’s as anticipated. As many of us have read and as we have experienced, Medicare slowed down on some of their payments at the beginning of the year as they kind of worked through the changes in the coding and the pricing as well as some confusion with some of the third-party payers.

So, we’ve seen slightly increase in our DSO although we continue to have communications and correspondence with all of the payers, Medicare included, and see that the payments are starting to pick up and we certainly expect to get that catch up in Q2. So in a normalized basis I would have actually expected the receivables to be a little bit lower but due to the pricing it kind of slowed things down.

Kevin DeGeeler – Ladenburg Thalman

Maybe kind of taking a finer look at that, can you help us appreciate just from a revenue recognition standpoint did you recognize revenue at the initially disclosed [Palmetto] reimbursement rate or was all revenue recognized according to accrual at the adjusted [Palmetto] rate for some of the molecular tests?

Kevin R. Harris

It was a combination. Obviously, for the Medicare pricing we utilized the [Palmetto] pricing that was introduced in the end of January. They introduced increased pricing in April which had some impact but will have some retro impact in Q2 since that was introduced afterwards and we’re all of a belief that that’s going to be retro back to January 1st so we should see a little pick up from that. For the private payers it was really just from analyzing what limited collection exposure we had in Q1 along with our historical experience to kind of analyze at a granular level payer-by-payer what the appropriate amount of revenue was to recognize. It was a very granular kind of analysis and you’ll see in the Q that comes out. It will have a more detailed discussion on that in the Q.

Kevin DeGeeler – Ladenburg Thalman

Maybe two quick questions on the pharma side, one of them a housekeeping item, recognizing the pharma revenues will be lumpy, should we think of the first quarter experience as being a reasonable kind of annualized run rate on the pharma side in the absence of any new large partners or were there specific items either upside or downside that you think are notable in the quarter?

Thomas A. Bologna

I think what will happen is it is a bit lumpy but it seems like the last several quarters we’ve been able to hold it pretty nicely. I’m not too terribly worried about it because for example, as I said, in the first quarter we expected to do a little bit more work and that had to be stretched out a little bit into the latter half of the year which is fine. In fact, it actually worked to our advantage in this particular case.

Kevin DeGeeler – Ladenburg Thalman

How should we think about the next steps and a potential timeline to signing up another large focus pharmaceutical partnership? How long from whenever someone new is recruited and brought on to head that effort do you think is a reasonable timeline to begin to bear some fruit?

Thomas A. Bologna

I would say to get another sizeable account like GSK where we just do a lot of work for them, it’s good to assume that would probably take the better part of a year. But in the meantime, what we have is there is a lot of little business that we’ve been working on and frankly what we have been doing is sort of catch as catch can with myself and Stephanie and we’re actually making some pretty good progress on that even for some of the larger pharmas. I mean, we have a very, very good reputation for what we do. These are the kinds of things that could break quickly or take a little bit longer.

As a rule of thumb we use a projection to be conservative, of about a year, but it wouldn’t surprise me if we were able to get something a little bit sooner. The key is to at least get some small business from some of these big pharmas, they sort of get to know us a little bit and then we build a [inaudible]. Similar to what happened with us to GSK.

Kevin DeGeeler – Ladenburg Thalman

Then just finally, anything we should be looking for this year at ASCO from Response that you want to highlight?

Thomas A. Bologna

Yeah, we were building quite a few poster sessions and what have you because as I say, what really sets us apart from everyone else is the science we do and we’re constantly looking at different papers and things that we’re doing. So, we’re pretty excited about ASCO this year as well.

Operator

Your next question comes from Yale Jen – Roth Capital.

Yale Jen – Roth Capital

Just some follow up on DX. The first one, in terms of the pricing for these adjustments, could you give us some sense where are they right now and could you give some more specific sort of general numbers in there?

Kevin R. Harris

Historically we haven’t provided detailed information for pricing. I would say that based on what we’re seeing we’re happy with where the pricing is. It’s fairly consistent with what we expected. We’re always looking at ways to make sure that we’re billing for all of the work that we do so it’s a constant process of analyzing the billing structure and environment and what’s available through the codes and to make sure that we’re matching that up as efficiently as we can with the processes that we do here at Response. So, there’s always an opportunity to look for ways to improve the pricing, also to improve the number of tests that we get per sample. So, it’s possible in the future that we could give additional information on that but as of right now we don’t quote anything specific as far as dollar amounts.

Thomas A. Bologna

I think what happens with us, again why we’re so unique, is because a good example would be like the way we store the RNA. So obviously, when an ROS1 comes out a lot of our patients or physicians I should say, they very well want their patients that are still living to be retested and we have the sample in house so we can do that pretty quickly and leverage it. That’s where we’re very different than everyone else.

Yale Jen – Roth Capital

Am I getting it correctly that for the second quarter, for next quarter, that we are expecting some catch up revenue from the receivables in the last quarter and so with potential growth there. So the second quarter revenue altogether at this point looks very encouraging? Would that be the right way to think about it??

Kevin R. Harris

There’s going to be a little bit of catch up. The pricing from [Palmetto] did increase. I would say that given the portion that that represents of our overall revenue and then the amount of the increase I wouldn’t say that it’s going to be an overly material amount of catch up but it will be a lot of catch up from a cash collections point of view is what we’re expecting which won’t necessarily correlate to a topline. But you know, from the things that Tom said things are moving in the right direction and we expect to continue to see upward movement with our DX revenues quarter-over-quarter.

Thomas A. Bologna

To add a little bit of color to that, as I said, we had nine people in the field in January, right as of today we have 16 people and we’re going to be adding three more. But at the same time we’ll have quite a few of our people at ASCO so they’ll be out of the field a little bit. But, we’re feeling pretty good about it especially now that we’ve got good sales leadership in place and we’ve got the beginnings of a marketing department. That’s what will all be leveraged pretty nicely but what I can tell you is the entire company is focused on working the topline. I mean, that is really our top priority and there really isn’t like a close second.

Yale Jen – Roth Capital

Based on this, I think one of my assumptions is that going forward with the sales force further enhanced or build up we would anticipate that in the second half of this year the revenue ramp up would be even more visible. Would that be an expectation at this point?

Thomas A. Bologna

Yes, absolutely. That’s exactly what the plan is.

Yale Jen – Roth Capital

Lastly, just a look at housekeeping items, that in terms of the Medicare revenue and the private pay revenue breakdown, can you tell us about that or maybe we can get those from the Q later on?

Kevin R. Harris

We’ll have the Q out shortly so you’ll be able to get all that information out of that.

Operator

At this time I’m not showing any further questions. I’d like to turn the conference back to management for any closing comments.

Thomas A. Bologna

I’d like to thank everyone for all of your continued support, etc., and as you can tell we’re pretty excited about the way things are going with the company and we would expect to have a continuing process that we look forward to sharing with you as we move forward throughout the year. Thanks again.

Operator

Ladies and gentlemen thank you for participating in today’s conference. This does conclude today’s program. You may all disconnect. Everyone have a great day.

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