PDI Management Discusses Q3 2013 Results - Earnings Call Transcript

Nov.12.13 | About: PDI, Inc. (PDII)

PDI (NASDAQ:PDII)

Q3 2013 Earnings Call

November 12, 2013 5:00 pm ET

Executives

Asher Dewhurst

Nancy S. Lurker - Chief Executive Officer and Director

Jeffrey E. Smith - Chief Financial Officer, Principal Accounting Officer, Executive Vice President of Finance and Treasurer

Analysts

Scott R. Henry - Roth Capital Partners, LLC, Research Division

John Kreger - William Blair & Company L.L.C., Research Division

William John Nasgovitz - Heartland Advisors, Inc.

Operator

Good day, ladies and gentlemen, and welcome to the PDI 2013 Third Quarter Financial Results Conference Call. [Operator Instructions] Please note that today's call is being recorded.

I would now like to turn the call over to Asher Dewhurst from Westwicke Partners.

Asher Dewhurst

Good afternoon, everybody. This is Asher Dewhurst from Westwicke Partners. Thank you for participating in today's call. On the call this afternoon from PDI are Nancy Lurker, Chief Executive Officer; and Jeff Smith, Chief Financial Officer.

Today, after the market closed, PDI released financial and operational results for the third quarter ended September 30, 2013.

If you have not received the news release and would like to be added to the company's distribution list, please call my office at (443) 213-0503.

Before we begin, I would like to caution that comments made during this conference call by management contains forward-looking statements that involve risks and uncertainties regarding the operations and future results of PDI.

I encourage you to review the company's filings with the Securities and Exchange Commission, including, without limitation, the company's 10-K and 10-Q Forms, which identify specific risk factors that can cause actual results or events to materially differ from those described in the forward-looking statements.

In addition, certain non-GAAP financial measures, specifically adjusted EBITDA, which management uses to measure cash flow of the ongoing business, will be referenced on this call.

The content of this conference call contains time-sensitive information that is accurate only as of today's date, November 12, 2013.

The company undertakes no obligation to revise or update any statements to reflect events or circumstances after the date of this conference call.

With that said, I would now like to turn the call over to Nancy Lurker.

Nancy S. Lurker

Thank you, Asher, and welcome to everyone on the call. I'd like to start with a brief review of the financial highlights of the third quarter and then elaborate on our molecular diagnostic strategy that we talked to you about on our call about a month ago.

Revenues of $34 million in the quarter increased 8% or $2.5 million compared to the same period last year. This increase was driven by continued strong Sales Services revenues as a result of contracts signed in the second half of last year and earlier this year, which positively impacted our top line.

Adjusted EBITDA during the third quarter, which was better than anticipated, was a loss of $1.3 million versus $200,000 last year. This quarter's EBITDA benefited from slightly higher-than-anticipated gross margins and continuing our tighter control around operating expenses. It's important to note that these tighter expense controls did not come at the expense of investing in our strategic initiatives.

Adjusted EBITDA year-to-date was $1.8 million as compared to $1.7 million last year. During the third quarter, PDI signed additional new Sales Services contracts valued at approximately $8 million, with an estimated $5 million that will fall into 2013. Over the first 3 quarters of 2013, we have signed $39 million of new contracts with $17 million estimated to be recognized in 2013.

Over the course of the third quarter, we saw 2 significant assignments that we had won, not materialized due to a lack of FDA approval in one instance and a lack of closing on a product acquisition in another instance. As a result, we are now targeting revenue growth of approximately 20% in 2013 compared to 2012. Even so, we still expect full year gross profit dollars to approach last year's amount.

As a result of our ongoing expense control efforts and even with the impact of investment spending that we'd previously disclosed, we now expect total operating expense to only increase around 5% for the full year, lower than previously estimated. As a result, we believe our operating loss will be less than originally expected.

Now before Jeff reviews our financials in more detail, I'd like to expand on our molecular diagnostic strategy. Our goal is for Interpace Diagnostics to be a leading commercial molecular diagnostic company. We strongly believe that our existing capabilities and infrastructure can be leveraged to help bring new molecular diagnostic tests to market in an innovative way. We believe this strategy will deliver more predictable, higher-growth and higher-margin revenue as we have discussed on previous conference calls. There are several factors why this is a very dynamic opportunity for our Interpace Diagnostic subsidiary. First, the molecular diagnostic industry is a highly fragmented market, with scores of strong science-based companies that have developed clinically important tests, which are ready or near ready for market. A majority of these companies has very limited experience bringing a product to market. And moreover, many of them do not have the capital to build an infrastructure to effectively commercialize their test. Second, molecular diagnostic tests are very different from traditional diagnostic tests. Due to their complexity, molecular diagnostic tests, in most cases, require a specialized go-to-market strategy, which includes messaging to physicians and potentially patients, similar to launching of a new drug in the pharmaceutical market. Developing and delivering these kinds of messages fully leveraging PDI's extensive commercial infrastructure in an impactful, innovative and ROI-centric manner, is one of the strengths of PDI.

While traditional diagnostic tests are aimed at measuring chemicals or enzymes like cholesterol or glucose levels using straightforward, known chemical analysis, molecular diagnostics are complex, highly innovative tests that use DNA, RNA and other proteins to test for a specific states of health or disease. These tests are on the forefront of personalized medicine and are used to diagnose disease, assess an individual's propensity for disease or suggest the best treatment once the disease is diagnosed or determine the effectiveness of drugs. Many of these tests individually have the potential to either significantly improve patient care and outcomes and/or significantly improve overall health care costs.

We see PDI well positioned to be the commercial arm of these types of companies through our Interpace Diagnostics subsidiary. We have tremendous experience in messaging communications with physicians, and we have a proven track record of commercializing products. We are well situated to leverage our experience in delivering complicated, sophisticated messaging to health care providers that will benefit an inefficient diagnostic space, which struggles to effectively communicate its complex technology.

Since our second quarter call in early August, we've announced 2 opportunities to commercialize innovative molecular diagnostic tests, and we are assessing more similar opportunities. These 2 opportunities have characteristics, which align particularly well with our core strength and our strategic goals of leveraging our broad-base of commercialization capabilities to add more predictable, higher-growth, higher-margin revenues to PDI. We believe that these tests have significant potential due to the following factors: strong clinical value at patients, large market opportunity, favorable reimbursement anticipated from CNS and private payers, a well-defined patient population and a clearly identified and relatively limited physician base treating these patients, which should allow for a very efficient and creative use of PDI's broad-based commercialization capabilities.

In evaluating future opportunities, we expect to focus on tests that generally have these same characteristics. The opportunities inherent in the Molecular Diagnostics business are also appealing to us because generally, they will require relatively modest investments that are significantly lower when compared to pharmaceutical products.

While each opportunity will be different, we are pursuing opportunities that we believe can yield margins substantially higher than we are currently recording on the CSO side of our business.

In summary, pursuing a path as a strong commercialization partner for companies in the molecular diagnostic market is a natural and logical way to leverage our core capabilities. Additionally, we are entering a rapidly growing market, and doing so in a relatively low risk way. We believe the execution of this strategy can add significantly to revenue, margins, operating income and shareholder value. To further strengthen our molecular diagnostic strategy, we added John Climaco to our Board of Directors. John has had an extensive career as a CEO in the molecular diagnostic field, and we look forward to his active contribution and pertinent perspective.

I'll now turn the call over to Jeff for a more detailed review of the financials and then I'll provide an update on our strategic initiative before opening the call up to questions. Jeff?

Jeffrey E. Smith

Thank you, Nancy. As Nancy summarized for this year's third quarter, revenue of just over $34 million was about $2.5 million higher than last year. Overall, the strong year-over-year increase in Sales Services were somewhat offset by decreases in both Marketing Services and Product Commercialization. Sales Services revenue for the quarter of approximately $31 million was $5.7 million or 23% higher than last year, as revenue from new contract wins more than offset the anticipated expiration of certain other contracts.

Marketing Services revenue for the quarter of $800,000 was about $1.4 million lower than last year. This decrease was primarily a result of fewer contract signings in Group DCA. The lower signings are in large part due to a contraction in amounts being spent by pharma, but we do expect to see a turnaround in this segment once our new product suite is launched early next year. Nancy will provide more color on this later in the call.

Product Commercialization revenue for the third quarter was $2.7 million, about $1.8 million lower than last year, due to the internalization of selected commercialization activities by a customer. We previously disclosed that the success of Interpace BioPharma's full commercialization program enabled our customer to accelerate its stated long-term plan of building a U.S. presence. We allowed them to internalize certain commercialization activities effective October 2012. And in exchange, they extended other services through June 2014.

For the third quarter of 2013, gross profit was $4.7 million, a decrease of $1.2 million compared to last year. At the same time, gross profit percentage for the quarter decreased to 14% from 19% in 2012. Both the $4.7 million and 14% were better than previously estimated. We still expect gross profit percentages to decline for the full year of 2013 and gross profit dollars to approach 2012 levels, as last year's contract wins become a larger percentage of our revenue.

Sales Services gross profit for the third quarter of $4 million was essentially flat compared to a year ago. The gross profit percentage, however, decreased to 13% from 17% last year, due to the competitive market factors we've previously discussed.

Marketing Services gross profit for the quarter was approximately breakeven, compared to a profit of $400,000 last year, due to lower revenue. And Product Commercialization gross profit for the quarter of $700,000 was about $700,000 lower than last year, due to the internalization of commercialization activities previously disclosed.

For the third quarter of 2013, operating expenses of $6.7 million remained flat compared to the third quarter of 2012. During the quarter, we were able to hold operating expenses flat, despite an increase in revenue. Furthermore, as Nancy pointed out earlier, we continued to exercise tight controls of our ongoing expenses, while fully investing in our strategic initiatives.

The net impact of changes in revenue, gross profit and operating expenses is a net operating loss for the third quarter of $2.1 million, compared to $800,000 last year. For the full year of 2013, as a result of the combination of improvements in gross profit and tighter operating expense controls, we now believe our operating loss will be lower than originally estimated.

In terms of liquidity and cash flow, adjusted EBITDA, which you know is our non-GAAP measure of cash flow from ongoing operations, was a loss of $1.3 million for the quarter and a positive $1.8 million for the first 9 months of 2013. We now expect adjusted EBITDA to be positive for the full year of 2013.

Cash and cash equivalents at the end of the third quarter totaled nearly $50 million, down $3.2 million from year end. The decrease in cash from year end is primarily due to increases in working capital and capital expenditures. And as of September 30, the company's cash equivalents were predominantly invested in U.S. Treasury money market funds, and the company continues to have no commercial debt.

I'll now turn the call back over to Nancy.

Nancy S. Lurker

Okay, thank you, Jeff. I want to update you on our 3 strategic initiatives we've undertaken this year, which are enhancing systems in our core CSO business, investing in innovative technology in our Group DCA segment and launching our molecular diagnostic strategy. These 3 programs are aimed at strengthening and further differentiating our core strategic businesses and adding more predictable higher-growth, higher-margin revenues that can buffer the natural volatility of our current core CSO business.

First, in terms of upgrading our systems in the core CSO business, we are at the tail end of this investing period. Once completed, these new systems will allow PDI to be more competitive in the market and operationally, more efficient.

Second, I'm pleased to announce that our new Group DCA suite of products is on track and currently in beta test. These products will connect health care providers, sales reps and other promotional channels in a new and unique way. We are aiming for a broader rollout in the first quarter of 2014, at which time, we'll be in a better position to provide more detail on this new growth initiative.

While we recognize that this was a soft quarter for the Group DCA team and revenues have been weak, we believe that this suite of products will be additive to 2014.

Finally and possibly most importantly, as we just discussed, we launched our molecular diagnostic commercialization strategy with the signing of the 2 recently announced deals. Our first molecular diagnostic test, CardioPredict, has been launched on a small pilot basis, in advance of a broader national rollout. CardioPredict is a broad-based genetic assay, which identifies a patient's specific genes that influence the effectiveness and safety of any commonly used cardiovascular drugs. We are excited about our partnership with Transgenomic on CardioPredict and the significant opportunity ahead of us for the test and look forward to providing you updates on this new chapter of the PDI story. That concludes our formal comments on results.

And with that, we'll now turn the call over to your questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] And our first question comes from the line of Scott Henry with Roth Capital.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Just a few questions. I guess, for starters, obviously, a couple of wildcards hit you on the Sales Services; those things are going to happen. But how do you think about that business? Do you expect it to grow off the current number and sequentially in Q4? And how should we think about 2014 versus 2013? Because we had what looked like a strong rebound going, but it kind of took some of the wind out of the sales. How should we think about it?

Jeffrey E. Smith

Yes, Scott, I think -- again, if you take our full year guidance now, we're saying revenue of approximately 20% higher than last year. So you can do the math on that. But that would give you a number of revenue higher in the fourth quarter than the third quarter. So that's an easy one, that's simple math that you can do. And we're not yet in a position of talking about 2014. We'll do that as we announce full year earnings.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Okay. And then, I guess, maybe the bigger picture question on the CSO business. How do you envision the pricing environment? Is it -- I have to assume it's not getting any worse, but do you think it's getting better?

Nancy S. Lurker

Scott, let me say this: on a broad base, we continue to believe that the CSO business is an important -- very important part of PDI. As we've stated, we invested a fair amount in 2013 into upgrading the systems around the CSO infrastructure. And we're actually very pleased with the results of that. So we continue to invest in the business and believe that it's going to remain an important part of the company going forward. The pricing environment seems to have stabled. It has stabilized. And if anything it's -- as we said, it's slightly better than what we were projecting it could be and I see it going forward probably staying in the same range that it's at now.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Okay. And at the current pricing environment range, can it be a profitable business? Either for you or your competitors, can you make money in the current pricing environment?

Jeffrey E. Smith

Yes, Scott, I think when you sift through all of the numbers that are flying around here, what you're going to find is at the current levels, we've got a marginally profitable business with a marginally positive cash flow. And that's the base business that we're going to be going forward with. And as the industry grows, assuming it cooperates, it can be more profitable. But again, that ties really back to the strategy of going after molecular diagnostics. We've got a spectacular infrastructure with lots of capabilities. We can't predict or control what happens with contracts. And the best example is had we landed -- had the 2 that we landed just gone forward, we'd be talking about a vast improvement of things this year. But that's the nature of the business, and that's why we're diversifying into molecular diagnostics.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Fair enough. And I always ask you if you could -- your risk-adjusted pipeline and your success rate, I'm not really sure how predictive these numbers are of anything, but happy if you could give those to me again.

Nancy S. Lurker

Yes, right now, we're looking at right around $200 million to $250 million for the pipeline.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Okay. And how would you assign your RFP success rate?

Nancy S. Lurker

We continue to do well on the RFP success rate. And as we've said, right now, we continue to still do above the industry norm, more than our fair share of 25%. So we are holding our own very, very well in the RFP game. As I said before, we have long-standing clients. We get very positive marks. So in terms of executing and delivering, our clients remain very pleased and they're happy to act as references when we go forward in other RFPs.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Okay. And then the final question, you've got the 2 molecular diagnostic products. Any data points between now and the end of the year to focus on with those products?

Nancy S. Lurker

No. The only -- it's just too early. It's just too early. So we'll start sharing those once we get in the first quarter.

Scott R. Henry - Roth Capital Partners, LLC, Research Division

Okay, yes. I guess then my follow-up to the final question would be, when should we get data points on the progress of those programs and what might those data -- what are we even looking for in terms of data points?

Jeffrey E. Smith

Well, as Nancy said, we should be thinking first quarter and the first big data point will be are we in a position to do a national rollout for the one -- for CardioPredict. So CardioPredict, as Nancy said, we're in a pilot right now. Literally, we launched within the last 2 weeks and it's very exciting what's going on, and we should have lots of information or enough information by the first quarter to say is that something we want to really roll out and take nationally. That would be the first data point, and then we'll share some specific information at that point.

Operator

And your next question comes from John Kreger with William Blair.

John Kreger - William Blair & Company L.L.C., Research Division

A couple of follow-up questions on the Sales Services business. Do you think the gross margin in that business has bottomed at this point or might it continue to slip a bit in the coming couple of quarters?

Jeffrey E. Smith

I think we're confident in saying that it's bottomed.

John Kreger - William Blair & Company L.L.C., Research Division

Great. And your remarks from a couple of minutes ago, do you think with some modest growth, can margins go higher or should they just hold stable here in your view?

Jeffrey E. Smith

I think stable to -- if you use modest growth, that would be okay.

John Kreger - William Blair & Company L.L.C., Research Division

Okay. Nancy, do you think the rep count in the market is still declining or has that stabilized a bit?

Nancy S. Lurker

I think, at this point, it's stabilized. Right now, we've seen 2 industry benchmarks of 55,000 and 65,000. And what we're seeing is, as you saw, there was one last big announcement from, I believe, it was from Merck. But we don't see -- there's many other smaller, specialized companies coming to market or new tests that are getting -- excuse me, new products that are getting approved. And so you're getting reps hired based on those. So where we are right now is we're projecting that it's going to stay stable.

John Kreger - William Blair & Company L.L.C., Research Division

Okay. Great. When you think marketing will start to grow?

Nancy S. Lurker

When you say marketing, what do you mean, John?

John Kreger - William Blair & Company L.L.C., Research Division

The Group DCA business.

Nancy S. Lurker

Oh, I'm sorry. Next year.

John Kreger - William Blair & Company L.L.C., Research Division

Got it. And should we view this quarter as a new base or can it snap back to levels that you were getting previously?

Jeffrey E. Smith

I think you should assume that this is also probably the bottom for Group DCA, and it should start growing from here.

John Kreger - William Blair & Company L.L.C., Research Division

Got it. Okay. And then, finally, just to help us maybe better understand how the molecular diagnostics business will flow through your P&L, what is your sales model going to be? Are you going to hire a new dedicated team to sell these to partnerships?

Nancy S. Lurker

Yes.

John Kreger - William Blair & Company L.L.C., Research Division

Okay. Can you give us a sense about how many that will be, assuming the CardioPredict limited launch is successful?

Nancy S. Lurker

So we don't want to get into projections right now, John. But let me say this, we have less than 10 out right now, and what we're projecting is that we will modestly increase that as we begin to see revenues flow through. So what we're not going to do is we are not going to go out and -- for CardioPredict, go out and in first quarter, go hire 100 reps and see what happens. It will be a phased rollout as we begin to see reimbursement and pick up occur in the physician community.

John Kreger - William Blair & Company L.L.C., Research Division

Great. And then lastly, how is that going to flow through your P&L? Will that be on one line or will it flow through the entire P&L?

Jeffrey E. Smith

No, there will be the revenue cost of sales and SG&A. And we can probably explain that more as we go forward. It's not a 1-line -- it's definitely not a 1-line presentation.

Operator

[Operator Instructions] And our next question comes from the line of Bill Nasgovitz with Heartland Funds.

William John Nasgovitz - Heartland Advisors, Inc.

So could you just give us a big, broad overview here in terms of the pharma industry in terms of the potential opportunity? Are there more drugs, generics or traditional, that might be coming to market here in 2014?

Nancy S. Lurker

Yes, that's actually a very good question, Bill. And we are currently finalizing, taking a look right now as part of our planning for 2014, looking at the pipeline flow coming through the FDA. But right now, it looks like it -- and we'll have more data for that on the next call. But right now, it looks like it's a flat to slightly up. The only point I want to make is that generics, there are going -- starting actually on the back half of 2014 and going into 2015, there will be more drugs going generic. We don't project that we will be materially impacted by those because those generic drugs or those upcoming generic expirations are not in our portfolio. However, that does not mean that, that continues to put a constraint in terms of how pharmaceutical companies spend their dollars. So we do expect it will continue to be a tight spending environment.

William John Nasgovitz - Heartland Advisors, Inc.

Okay. Could you talk a little bit about your second strategic objective? Could you just amplify on that a little bit?

Nancy S. Lurker

Are you referring to...

William John Nasgovitz - Heartland Advisors, Inc.

Well, you were talking about 3 of them. The first was your capital investments and tools and so forth.

Jeffrey E. Smith

So the Group DCA activity?

William John Nasgovitz - Heartland Advisors, Inc.

Yes. Yes.

Nancy S. Lurker

Yes, so let me just say this again, we will give more detail on Group DCA in the next call. But right now, we are in beta test with some, as I've mentioned, innovative digital products that we believe will impact our 2014 team revenues for Group DCA in a positive way. We -- I can tell you, we've already sold in 1 piece of business for that product suite and we've got a very nice pipeline building. And there's multiple products associated with it. It's not just 1 product, it's several revenue streams.

William John Nasgovitz - Heartland Advisors, Inc.

Okay. And then assuming this beta test goes well with CardioPredict, and you're thinking of -- you would launch -- we would launch sometime in early 2014 and how big of a market is this and how many players and who are we competing with?

Nancy S. Lurker

Yes, so right now, there are several, what I would call go-to -- several competitors that are in this space. However, none of them have the ABCB1 gene test, which is patent pending. And that is a method of use patent, it is not a gene patent per se. The patent still needs to be awarded, but it is patent pending on that. And Transgenomics is the holder of that patent and they feel confident that, that patent will hold for ABCB1. ABCB1 is one of the major gene variants that test for how you metabolize Clopidogrel, otherwise known as Plavix on the branded basis. And as you probably are aware, that's the second largest drug in the world that is used to treat secondary prevention of MI and stroke after you've had a primary event. So we are commercializing this test to cardiologists. As I mentioned, there are 10 genes and 40 variants associated with CardioPredict. It covers a wide variety of drugs and they said there's probably 2 other competitors that have somewhat similar assays that go to physicians but none of them have the ABCB1 gene which is a -- or the genetic variant, which is a vitally important genetic variant in addition to what's called the CYP2C19 variant that also impacts about 23% of all Plavix users.

William John Nasgovitz - Heartland Advisors, Inc.

So specifically, this will be targeting -- initially, this is a target on Plavix, specifically?

Nancy S. Lurker

No, it's a target on the broad use of cardiovascular drugs, but the unique selling proposition or the main advantage of this test is not only do you test like the other competitors for statin, anti-arrhythmics, beta blockers, some of the anticlotting factors. But in addition, given that Clopidogrel is used ubiquitously among cardiovascular patients, it tests for a very, very important genetic variant that no one else can provide. So if you're going to run a panel, which a lot of cardiologists are seriously doing or thinking about doing, as they see their cardiovascular patients and how they metabolize, commonly used cardiovascular drugs, why not use the panel that also utilizes and has the only important genetic variant for Clopidogrel metabolism?

William John Nasgovitz - Heartland Advisors, Inc.

Okay. And how large could this market be?

Nancy S. Lurker

The market itself is over probably -- if you were to get 100% in the use in the United States, 100% of all patients who are on all these drugs used, you're looking at $1 billion dollar market. We don't project the market's going to grow that big, so we're being modest in our overall protections. But it's a potentially very large market. I will say this, that if you look at personalized medicine and how patients metabolize drugs, whether it's CYP450, Cytochrome 450 metabolic pathway or other metabolic pathways, a vast -- a large number of patients metabolize drugs sub-optimally or over-expressed. And the result is that you could see a day where the vast majority of patients before they ever take a drug get their genetic variance tested so that they are given the right job for the right patient, given your personal genomic structure.

Operator

And at this time, we have no further questions in queue.

Nancy S. Lurker

All right, thank you, everyone, for the call. We look forward to updating you at our fourth quarter earnings call.

Operator

Thank you. This does conclude today's conference call, and you may now disconnect.

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