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The Spectranetics Corporation (NASDAQ:SPNC)

32nd JPMorgan Healthcare Conference Call

January 15, 2014 5:30 PM ET

Executives

Scott Drake – President and Chief Executive Officer

Analysts

Chris T. Pasquale – JPMorgan Securities LLC

Chris T. Pasquale – JPMorgan Securities LLC

Okay, good afternoon everyone. I’m Chris Pasquale from the JPMorgan MedTech team. Coming to the stage now, we have Spectranetics and presenting for them is the company’s President and CEO, Scott Drake. We’ll do Q&A in the Yorkshire Room down the hall. Scott?

Scott Drake

Thank you, Chris. Good afternoon everyone. thanks for your time here today. I was particularly impressed with the last speaker, the fact that he had is full voice; I thought was pretty incredible at this point in the conference, impressive. I’m going to begin today with an overview of the business to provide some context for how we’ll spend the majority of our time and that will be talking about the growth drivers in our business, how we intend to accelerate our growth, expand our margins and all of that leads to meaningful operating leverage in the business over time.

So please note our usual Safe Harbor statement. and just to give you an overview of the company, we are in two very attractive markets; we have two scale businesses in the Vascular Intervention and Lead Management markets. The vast majority of our revenue has dedicated direct sales organizations. We’re in over 40 countries throughout the world and we serve two very attractive markets over – about 90% of our revenue was represented by products that have gross margins – disposable products, gross margins about 80% and you’ll see as we go through here that the capital installations in our business have been at kind of company historic highs now for several quarters. We think it bodes well for future growth and reflects well, the perception that customers have at our technology.

One of our internal monitors is that performance defines our team, very important and we now have eight consecutive quarters, we did not pre-report. this does not include Q4, eight consecutive quarters of double-digit constant currency growth and accelerating growth. and as I said a moment ago, we served two very attractive markets, all two few spaces in MedTech are growing attractively. On the vascular side of our business, that’s about $1.7 billion served market, endovascular procedures are growing about 6% or 7% a year where we’re focused, which is an atherectomy, that market is growing about 10%.

Similarly on the Lead Management side, that overall market is growing above 10% a year. We are taking share in both of those markets very nicely and three things I would point out and we’ll get into more depth. number one, the International business is becoming a more and more interesting part of our story. number two, our new product portfolio is becoming also an increasingly interesting part of who we are to give you just a little bit of context there. The metric that we measure as it relates to our organic portfolio is our vitality index. That’s the percentage of our revenue that’s represented by products that have been launched in the last 36 months.

At the end of 2011, that metric was 4%, today it’s in the mid-20s. It’s a nice progress on that front, similarly very important to us, the clinical pipeline and compendium of data that we are developing; I think you’ll see throughout the presentation here.

So I think historical performance supports the hypothesis of an accelerating growth story. In 2010, you can see that we grew about 3%. we are now solidly in the teens growth category. We also have begun to talk more overtly about the gross margin expansion, opportunity in this business during this period of time, a 230 basis point improvement and our preliminary guidance that we pointed to in October. we’re very comfortable saying 100 basis points of improvement in 2014 alone. And those two things yield the operating leverage opportunity that I mentioned.

So at the conference last year here, for the first time, we unveiled a similar slide to kind of give investors insight into our more aspirational growth goals. Those of you that follow us know that we want to provide guidance that we have a very high degree of confidence that we will achieve. but we think investors deserve insights in terms of aspirationally, what would we like to do.

It was pointed out to us a few times at the conference that we’re a bit ahead of what we said we would do 12 months ago, but it – it feels pretty good to be where we are and in the next three years, through new product development, the ISR in-stent restenosis indication, growing body of clinical work in expanding sales force in the U.S. and global market expansion along with market development work. We think we can go from the low-teens growth where we are today to high-teens in 20s growth and we’ll talk about how we’re going to achieve that here in this timeframe.

So with that monitor of performance defines us, let’s talk about our Lead Management business again, here, our performance has been very steady over a long period of time, our five-year CAGR is a little over 20% in this business and that growth has been characterized by two things. one, I think the team has performed well, but also we’re benefiting from very attractive market trends and we’ll talk about how we believe we can both accelerate growth and treat patients better, the alignment here is perfect in this business.

the market itself is very, very attractive and the business picture is also very attractive. And the trends that I alluded to a second ago are really four-fold. the biggest one and this is relatively misunderstood, the biggest trend in the market that’s driving our growth here is not any problems with leads that have existed, rather younger patients are being implanted with devices and those patients are living a longer life.

Therefore the physician is being confronted more and more times in that patient’s life with the decision of what do I do with the hardware that’s left inside. And we know in data points, very clearly to the fact that if we exclusively cap leads, we are creating a trained rep for that patient. so that is number one, the most profound driver of this business.

Secondarily and right on the heels of that are infection rates. as these patients live longer, they have more comorbidities, and infection rates over the last decade have increased by 320% contrast that implement – implant rates of between 30% and 40% and you can see that infections are really driving the growth of this business. they are Class I indications and all relevant societies agree that full system extraction should be the result for that patient when an infection incurs.

Other trends in this business, key opinion leaders in data are driving smart Lead Management to be essential issue in the CRM space. and finally, fellows are trying to differentiate themselves by being extractors. these trends have legs for as far as the eye can see.

We intend to unlock this very attractive market. today, it’s about a $90 million served market, about a $700 million market opportunity by focusing on four things in the near-term. Number one is an infection campaign that I will talk about in just a moment, very important work only a third of infected leads, I removed in a 100% or something very close should be.

Number two, we’ll be launching two sets of mechanical tools in 2014. A little bit of an announcement here, both sets of those tools have been submitted for their 5-K, 10-Ks. So we are pointing toward mid-2014 launch of both of those sets of tools.

Number three, we are going to continue to educate and train clinicians beyond what anybody else is doing around the world and the value of our simulation training is being proven in a controlled trial that we should hear more about at HRS. and finally, we are increasing the size. it is the right time for us to pretty significantly increase the size of our U.S. sales organization. Again, I’ll talk about that in just a moment.

Very compelling data here, I mentioned only about a third of infected leads are extracted that leads two-thirds of the patients out there being untreated or under-treated and we’ve got to improve that situation in the marketplace. The data is profound for example, seven – the 30-day mortality is seven times greater with patients that are treated with antibiotic therapy alone versus system extraction, thought leaders are emphatic that infected leads are indeed a lethal condition for patients and we are doing the work to unlock this market opportunity and the alignment of our business growth in better patient care unequivocally has lined as it relates to this opportunity. In this work, we just kicked off our last quarter.

As I mentioned, we are expanding the footprint of our U.S. sales team in a pretty significant way. we will go from covering about 40% of implanted patients and implantors to about 80% of the market that we will cover with the sales force ads on the Lead Management side. So again, a full portfolio view to unlocking a very attractive market opportunity and the alignment of better patient care and our growth is perfect.

Let’s take a look for a moment at our Vascular Intervention business. again, performance defines us nine quarters of double-digit growth, an accelerating growth in our U.S. peripheral atherectomy business that is over half of our revenue in the VI space, a very attractive market growing very nicely and very obvious things that we’re doing to unlock that growth.

But first, let’s – let’s capture the big picture here. Peripheral artery disease is a global pandemic period, hard to stop, contrasted to HIV/AIDS. over the last decade, HIV/AIDS population has shrunk by about 6% and there’s roughly 30 million people afflicted with the disease. contrasted to PAD, over 200 million people suffer from peripheral artery disease and that patient population has increased 25% in that same period of time, roughly one in 10 of us will be afflicted at age 70 and one in six of us at age 80.

Non-communicable diseases, chronic diseases are driving mortality and morbidity around the world, PAD is a very high nail on that board. Let’s horn in on the market that we are targeting. of those 200 million people that I mentioned, about 25 million of them live in the U.S. or Europe. of that 25 million, 10 million are symptomatic. but only 1.5 million procedures are done on an annual basis. and of the 1.5 million procedures, 500,000 of them are amputation and bypass procedures, which very frequently is tragic for patients clinically and also for healthcare systems economically, proven algorithms of treatment are exactly what are required and that is the work that we are in the midst of.

We are focused on treating the sickest and trickiest patients that are out there. we have a highly differentiated position in a differentiated market and that position will improve with new products clinical data that we’re working very hard on and the ISR indication.

Let’s talk about in-stent restenosis here. the ISR market is about 2 to 3x larger than the total atherectomy market worldwide, and it is a patient population that badly needs a better care. The EXCITE study is a landmark controlled randomized trial that we are in the midst of as we speak and the goals are two-fold: number one to achieve the indication, recognizing that the primary competitors in the space are contraindicated and number two, have compelling clinical data that will change clinical practice. The punch line here is that we will be able to market on label sometime in mid-2014.

The clinical data that I’ve referred to now a couple of times, let me broaden the lens and share with you what we have been in the midst of and I’ll walk through this and we can go into more depth as you wish in the Q&A section. But chronologically speaking, the PATENT study was the study that gave us the confidence to do EXCITE, very compelling outcomes with this study at six-month 82% freedom from TLR.

earlier in 2013 in April, Dr. Jos Van Den Berg published his first work, proving the necessity to lase with our atherectomy products prior to deploying a drug-coated balloon to achieve both an excellent and durable outcome for ISR patients. He did that work totally separate from the company. Similarly Dr. Gandini just published his work in December, just a month ago in the Journal of Endovascular Therapy. Dr. Gandini just like Dr. Van Den Berg proved that first lasing and debulking with our atherectomy products was essential to achieve both the great and durable solution, and because of the work that they did and they signaled that it is sending and key opinion leaders that have been using drug-coated balloons now for six years in Europe. We expanded the PHOTOPAC study about three-fold, because our goal is to change clinical practice with this clinical work and EXCITE, I touched on, we believe will be on label again, in mid-2014.

The big picture is this. The ISR market is 250,000 procedures per year, about $750 million market opportunity for us. We believe we’ll be the only company to achieve the indication. the primary competitors are contraindicated. We’ll add to that indication, all of this clinical data that I have talked about. we will further expand our sales force, so we can really capitalize on this opportunity and there has been very good work done, proving the necessity of debulking with laser, first to get the benefit of a drug-coated balloon. So we will be drafting on the wheel of four large companies that are spending hundreds of millions of dollars developing the drug-coated balloon market, a very differentiated position and a very attractive position to be in.

Similar to the Lead Management side of the business, we’re pretty significantly expanding our sales organization in the U.S. by about 40%. And this work on both sides of the business has been percolating now for over a year; we’ve been working on it. We wanted to have number one, the right market development effort; number two, the right leadership team and also the right region management team. So we would spend your money very wisely and get a nice return and with the indication upon us, now is the right time to do this, so again, total solution approach to unlocking a very attractive opportunity for us.

Just couple words on our International business and those of you that follow us know that the performance has been very, very steady and accelerating internationally. To put it into some context, 10 years ago, our International business was about 9% of our revenue. today, it’s 18% and the performance here has been very nice through the first three quarters of the year, 26% constant currency growth.

Few things I would point out to continue and accelerate that performance, just as we did in 2008 in the U.S. market where we separated our Vascular Intervention business and our Lead Management business at the sales rep level. we’re doing likewise in Germany. We have a very effective, very seasoned team there. in the hypothesis obviously, with that closer focus, we’ll be able to grow faster. Given success there, you can anticipate that we’ll do this in other parts of Europe. We’re excited about this effort.

Japan has been a very bright spot for us. our Japanese business more than doubled in 2013, in fact, it grew 118%. we’re very pleased with that. we can expect that we’ll continue to have very positive results in Japan as we go forward. We were also very recently received regulatory approval to do a very small peripheral study to get our peripheral products approved and up and going in Japan. we’re the first and only company that has succeeded theirs, others have tried and failed, bodes well for future growth in the market.

And finally, we’ve been doing the heavy lifting now over the past two, three years from a regulatory perspective to get our products approved in the BRIC countries. we will be entering India and China for the first time in 2014. I do not expect that to be a major driver for us near-term, but these are very large markets and a very attractive opportunity for us over time.

In kind of wrapping up here, we are asked frequently, what does this business model look like over some period of time, and we see a doubling in our revenue in the not-too-too-distant future. we think there’s about 300 plus basis points of gross margin improvement and we call it a first stop. we think at that kind of revenue, we can comfortably achieve 15% operating leverage, if not more than that. And the final thing I’ll leave you with is how we do, what we do, we say the same thing in every room whether it’s a group of investors, a group of customers or a town hall with our teammates.

Four things that we do to drive our success. Number one and the most important thing that we do is, attract, retain and develop the top talent on the market. If we do that well, we will win; if we don’t, it gets way harder. With the right team, we have to have wicked strategic clarity. I’m a Boston guy, so I can say wicked go Pats. Wicked strategic clarity about what we do and equally clear about what we’re not going to do with the right team and the right strategy. we have to execute as if lives depend on it, because in our case, indeed they do. And number four, if we want to be great at number one, we have to be very thoughtful and purposeful about our culture.

So thank you all very much for your time.

Question-and-Answer Session

[No Q&A session for this event]

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