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NxStage Medical, Inc. (NASDAQ:NXTM)

Q4 2013 Earnings Conference Call

February 27, 2014 9:00 AM ET

Executives

Kristen Sheppard – VP, IR

Jeff Burbank – CEO

Matt Towse – CFO

Analysts

Bill Plovanic – Canaccord Genuity

Margaret Kaczor – William Blair

Kevin Ellich – Piper Jaffray

Kim Gailun – JPMorgan

Danielle Antalffy – Leerink Swann

Chris Cooley – Stephens

Raj Denhoy – Jefferies

Gary Lieberman – Wells Fargo

Operator

Good day, ladies and gentlemen, and welcome to the NxStage Medical’s Fourth Quarter Fiscal 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 is being recorded.

I would now turn the call over to your host, Kristen Sheppard with NxStage Medical. Please begin your conference.

Kristen Sheppard

Thank you, and good morning. Welcome to NxStage Medical’s fourth quarter 2013 financial results conference call. With me here today are Jeff Burbank, NxStage’s Chief Executive Officer; and Matt Towse, our Chief Financial Officer.

For your convenience, a replay of this call will be available shortly after its conclusion. In addition, the press release for the fourth quarter and a recording of this call will also be archived on our website under the Investor Relations section.

Before starting, I would like to remind you that statements we may make on this call which are not purely historical regarding the company’s or our intentions, beliefs, expectations and strategies for the future are forward-looking statements for purposes of the Safe Harbor provision under the Private Securities Litigation Reform Act of 1995.

These forward-looking statements may include topics such as the results of our operations, growth of the Home and more frequent hemodialysis market in general, market adoption and demand for our products, both domestically and internationally, our expectations regarding relationships with key customers, continued supplies from key vendors, our plans with respect to regulatory filings, our plans with respect to future developments including NxStage Kidney Care, beliefs as to the expected impact of current economic, reimbursement or regulatory conditions on our business, anticipated improvements in the operating efficiencies, gross margins, and product quality and financial guidance for the future.

Because such statements deal with future events, they are subject to various risks and uncertainties and actual results may differ materially from these forward-looking statements. Important factors that could cause actual results to differ materially from those in the forward-looking statements are discussed in our SEC filings, including our most recent annual and quarterly reports.

In addition any forward-looking statements made on this call represent the company’s views only as of today and should not be relied upon as representing our views as of subsequent dates. Future events and developments may cause these expectations to change, and while we may elect to update forward-looking statements at some point in the future, the company disclaims any obligation to do so, and therefore you should not rely on these forward-looking statements as representing our views on any date subsequent to today.

Now, I’d like to hand the call over to our CEO, Jeff Burbank.

Jeff Burbank

Good morning, and thanks for joining us. I’ll start by briefly reviewing progress of our growth initiatives. Then discuss key drivers for 2014 and beyond. Matt will provide financial results for the fourth quarter and the full year of 2013 as well as our outlook for 2014.

Several years ago, we focused on operating and financial improvements while making disciplined investments in growth. These efforts have generated substantial returns with strong revenue growth, margin expansion and improving operating leverage.

During 2013, these efforts resulted in a 9% annual revenue increase to $263.4 million, with growth in the Home, Critical Care and In-Center markets. Gross margins improved to 39% from 38%. We focused our investments where we’re most confident we can create value.

We’re pleased with the returns including; establishing early momentum with direct to patient marketing, successful execution against our product pipeline, opening our first NxStage Kidney Care Centers and completing the transition to direct operations in the U.K.

We believe this all helps position the company for our growth target of 15% in the Home. Our fourth quarter Home growth rate of 12% was encouraging. Similar to 2013, our focus in 2014 will be on growth and disciplined investments. Direct to patient marketing will continue to be a key priority. And as we’ve discussed in previous calls, getting the home hemodialysis message directly to patients was a big priority in 2013. We believe successes in this led to nice results in our fourth quarter numbers.

Just as one example, we have really refined our execution of local patient events, channeling done in conjunction with the local provider or physician groups. These make it easier for patients to learn about and experience the therapy. There seems to be a great impact. In the markets where we conducted these, there is an average of 25% increase in patient training.

Our patient acquisition cost is approximately $600, which makes our direct to patient marketing very efficient. We’re expanding these efforts from 50 events in 2013 to approximately 150 events throughout 2014. We’re also conducting pilots of additional approaches to patient marketing to build on the success.

Leveraging our new innovations will be a major focus in 2014. Across the past year, we successfully executed against an innovation pipeline that targeted the opportunity to bring new capabilities to the large NxStage System One install base. We’ve done a good job in providing a seamless upgrade path. We believe our new capabilities with deliver improvements for patients, providers and clinicians, and generate solid returns for NxStage. We’re bringing all of these new benefits, while maintaining the skills and confidence our customers have built in our products.

Let me remind you of the innovations that we’ll be promoting in 2014 and beyond.

The System One S. It’s a valuable expansion of our System One performance. This can provide the ability to reduce burden of therapies through higher dialysis flow rates. To facilitate understanding of the impact of these higher flow rates, we launched the online dosing calculator. We found out a great way to engage with doctors to model their most challenging patients and show the full range of System One capability.

Nx2me Connected Health. This software solution in the cloud automates a significant part of the flow sheet administrative paperwork and should help build patient confidence. This tool should also help build the clinical team’s confidence, knowing they have access to important treatment information to be more proactive in their oversight.

We have CE Mark for nocturnal dialysis and our single-needle technology. We’re also fully enrolled in our U.S. trial and expect that we’ll be able to submit to the FDA in the spring for our nocturnal home indication. We’ve also submitted our U.S. clearance for single-needle. We’ve developed a rigorous and successful approach for launching new products.

Early feedback on customer, patient and clinician engagement is encouraging. With these new enhancements launching in the market, we’re now focused on growing their adoption.

We believe that our move to direct operations in the U.K., the introduction of new product capabilities and continued market development activities can further strengthen international revenues overtime.

We’re forecasting some modest improvement in 2014, but on a quarterly basis, it’s going to be choppy.

Moving forward, we’re committed to investments that help us maintain and build on our significant market lead. We believe that requires both product and service innovations to fully capitalize on the long-term growth opportunities we see.

With respect to products, we’re focused on a robust and innovative portfolio for the mid and long-term, including a peritoneal dialysis system. Looking ahead, this evolution of our portfolio is very exciting with its ability to enhance patient experience. Our PD product looks great and all these programs remain on track.

Together with our partners, we’ve done a good job of establishing and growing the home market. We continue to see opportunities to expand the market by making it easier for providers to offer broader access to our therapy. Our product efforts are critical. Additionally, we believe we’re uniquely positioned to help mature the home hemodialysis provider business model.

As we announced this morning, we’re continuing our market development activities to build more NxStage Kidney Care Centers. We expect a cadence of one to three centers each quarter across this year, bringing our total number of centers to 10 to 15 by the year-end.

We believe additional centers will provide us with the opportunity to validate our home therapy business model against very local business scenarios. We can conduct clinical trials for new products, demonstrate our latest products and train our partners on what’s working best. We already opened the first three centers. It’s early and our experience is limited to a small number of patients. Developing and establishing this innovative model will take time.

We’ll continue to review our progress across the number of areas, including clinical and quality of life results, and the impact on the market. We strongly believe in the strategy that we’re executing, one in which we remain intensely focused on improving the patient experience.

We’re encouraged by the progress we’ve achieved to-date and the growth and profitability opportunities ahead of us. We look forward to keeping you updated as we progress throughout the year. Matt?

Matt Towse

Thank you, Jeff. I’ll now review revenue for the fourth quarter and for the full year 2013, including details of our reportable segments. I’ll discuss the company’s financial performance, and then finish with a discussion regarding our outlook for the fiscal year 2014 and our first quarter.

Overall, I am pleased with the growth and the progress that we’re making in the P&L in our System One and In-Center businesses. We ended the year with a strong Q4, and we’ve set the foundation for a solid year as we grow in our focus areas and invest in key strategic initiatives including NxStage Kidney Care.

We ended the year with a solid fourth quarter and record revenue for total company of $69.5 million, which represents a 7% increase over the fourth quarter of 2012. We also topped our revised annual guidance, posting revenue of $263.4 million for the year, a 9% increase over 2012.

Now let me break it down by each segment. During the fourth quarter of 2013, our System One segment increased 10% over the prior year period with strong performance across both Home and Critical Care. Home ended the year solidly, increasing 12% over the prior year period to $35.1 million.

Full year 2013 revenues for Home increased 8% over 2012, which was at the top end of our latest guidance. We believe that our performance in the fourth quarter shows that our growth activities are beginning to deliver results toward a 15% growth target for 2014.

Critical Care increased to $11.6 million in the fourth quarter of 2013, representing an increase of 3% compared to a very strong fourth quarter of 2012. Full year 2013 revenues for Critical Care increased to 11% over 2012. The fourth quarter was seasonally stronger than we anticipated relative to guidance as demand for our disposables ramp back up after a soft Q3.

For 2014, we are guiding Critical Care to grow between 7% to 9% reflecting some conservatism around quarterly results, particularly given uncertainty around macro trends such as; hospital CapEx spending, admissions and utilization. Nonetheless, we believe we remain well positioned competitively.

In-Center revenue decreased just under 4% to $20.6 million in the fourth quarter of 2013. In total, we had another strong year with annual In-Center revenue increasing 6% over 2012, which as you know, exceeds the market growth in this segment, and we continue to maintain significant share.

After strong growth year this like, it is prudent to be conservative given fluctuations in such things as distributor inventory management. And in addition, we continue to work through supply agreements with some of our customers in the latter half of this year. Given this, we are guiding In-Center revenues to be flat to down in 2014 versus 2013.

And then finally in other revenue, we reported $2 million and $4.8 million for the fourth quarter and full year respectively, primarily reflecting the company’s dialyzer sales to Asahi.

Now turning to gross margins. Fourth quarter gross margin increased to 40%, up roughly 100 basis points from the fourth quarter of 2012, while full year margins increased to 39% compared with 38% in 2012.

By segment, we held System One gross margin flat at 46% for full year of 2013, despite the impact of higher than anticipated startup costs in our new German dialyzer plant. In-Center gross margin increased to 29% for the full year of 2013, compared with 25% in 2012.

NxStage had a net loss of $5.2 million for the fourth quarter of 2013, compared with a net loss of $2.4 million for the fourth quarter of 2012. Our full year 2013 net loss was $18.6 million, compared with a net loss of $15.2 million in 2012. And the annual results include a $5.7 million impact from NxStage Kidney Care.

And we ended the year with a strong balance sheet including $84 million in cash, which was up slightly over our third quarter balance.

Now let me turn to our guidance for 2014. As we enter 2014, we expect to continue to build on earlier momentum with our direct to patient marketing, capitalize on growth opportunities with our new product innovations and build modest improvement in international, toward our target of 15% Home growth in 2014. As you work through your models, please keep in mind that quarterly Home revenues will remain choppy as a result of international equipment sales.

And just to recap our other businesses, we expect annual revenue growth in the range to 7% to 9% for Critical Care. Annual revenues for In-Center to be flat to slightly down versus 2013, and other revenue to be between $5 million to $6 million, reflecting dialyzer sales to Asahi.

And for the full year 2014, we are forecasting revenue to be between $283 million and $288 million, and a net loss in the range of $23 million to $27 million, which includes losses in the range of $15 million related to NxStage Kidney Care.

And for the first quarter of 2014, we expect revenue to be in the range of $69.5 million to $70.5 million, and a net loss in the range of $6.5 million to $7.5 million.

Now given our development plans with Kidney Care that we’ve discussed in the call, I’d like to make some comments on cash utilization. I mentioned a moment ago, we expect P&L impact of roughly $15 million for Kidney Care. And with CapEx for these centers at around $1 million each and with some cash utilization for the rest of the company, we expect to use roughly $30 million to $38 million in cash this year.

And to wrap up, 2014 will be an exciting year for NxStage as we capitalize on the investments we’ve made and expand our product and market development activities. Excluding our investment in Kidney Care, we expect to have positive operating income in 2015. Together with $84 million in cash at year-end and a strong balance sheet, I believe that we are well positioned to fund our strategic initiatives to expand the Home market.

And with that, I’d like to open up the call to questions. Operator, we are ready for the first question.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question comes from Bill Plovanic with Canaccord Genuity. Your line is open.

Bill Plovanic – Canaccord Genuity

Great, thank you. Good morning.

Jeff Burbank

Good morning, Bill.

Bill Plovanic – Canaccord Genuity

So a couple of questions here. Actually you answered a lot of them in your prepared remarks, but in 2014, how much of the revenue if you are willing to split it out, is in Home is associated with the center – the build-out in the centers?

Jeff Burbank

It is insignificant portion. That’s an initiative that’s just getting started. What’s really driving the growth to our 15% target is the direct to patient marketing and the launches of these first rounds in new products. And those are going well. So we feel more confident in getting to our targets than ever have. We set that target out about a year ago, and I think we’ve done the execution required to be able to achieve it.

Bill Plovanic – Canaccord Genuity

Okay. And then just, I’m going to focus keep on topic with the Kidney Centers. Just, as these become productive, what is the annualized revenue stream that you expect from mature Kidney Center, and then how long to maturity?

Jeff Burbank

Sure. Matt will answer to that one.

Matt Towse

To answer kind of backwards. So we said in the past that while we still have some learnings there, we think the ramp is just about 18 months to get its breakeven. We haven’t laid out a revenue number for the centers, but we have talked about what typical patient capacity we think is, and that’s probably around 40 patients. And looking at the center model, we think it can get breakeven and then turn positive EBITDA or positive cash flow after about 18 months.

Bill Plovanic – Canaccord Genuity

40 patients to you is how much per year per center on a revenue standpoint?

Matt Towse

You can go and model it to the industry averages. So that’s usually between $40,000 and $60,000 a patient a year something like that.

Bill Plovanic – Canaccord Genuity

Okay. And lastly if I could, you’ve given the guidance that you expect to be operating profitable in 2015, that’s for the whole business I assume. And does that also assume continued build-out of the Kidney Care program?

Matt Towse

That comment – well, the positive operating income is for the business without the impact of Kidney Care. And we have no assumptions for further build-out beyond 2015, we have the plan.

Jeff Burbank

So if I could put that a little bit in context. Last year, we laid out how we were going to get to 15% sustainable growth rate and we talked in the near-term about maturing our direct to patient marketing. That worked really well for us, and is really driving the growth. It’s the major reason why we hit 12% year-over-year growth in the fourth quarter.

We talked about executing on near-term products like the System One S, the dosing calculator, single-needle, nocturnal and Nx2me Connected Health. We’ve done a great job of that. We talked about mid-term to longer term product development, which is really the peritoneal dialysis, our next generation System One. Those types of things which are all on track and a longer term perspective on the Centers of Excellence, which we really think are going to do a lot for patients.

It’s going to expand the market, create an opportunity for patients to have access to the therapy. Also it gives us an opportunity to execute that product pathway through locations that we can do the clinical trials in and showcase all these new products and train our customer base on how to use them best.

But this is a great investment because it’s an opportunity to do all that which ultimately becomes our funding and a profitable business in and of itself, but it’s just one of the pieces of this entire strategic plan that we’ve build to get us to the 15% and try to sustain it over the longer term.

Bill Plovanic – Canaccord Genuity

I understand that, Jeff. I guess further from an investor standpoint, you are accelerating the number of centers you are building. And I guess what I am trying to figure out is, you’re a device company. Are you now going to become a service provider, or is this just a pilot program, you’re going to build the 10 to 15 centers in the start?

Jeff Burbank

No, this is – 15 centers we’re talking about. That’s not a service provider.

Bill Plovanic – Canaccord Genuity

And in longer term you don’t have plans to grow that significantly? I mean we should expect that to kind of be the minimum to prove out the rest of your programs that you’ve discussed?

Jeff Burbank

That’s what we think we can achieve our objectives in terms of demonstrating the model so people can adapt it, doing our clinical trials, expanding access in those markets. So it’s a good number to accomplish what we want to go do.

Bill Plovanic – Canaccord Genuity

Perfect. Thank you very much and congratulations on the good quarter.

Jeff Burbank

Thank you.

Matt Towse

Thanks, Bill.

Operator

Our next question comes from Margaret Kaczor with William Blair. Your line is open.

Margaret Kaczor – William Blair

Good morning guys. Couple of quick ones for me. Just to build a little bit on what Bill was saying. Is there actually a scenario where you guys would build out more than 15 centers or just it’s not an option?

Jeff Burbank

It’s so early. The way to do things right is focused on the early one to making it wildly successful. So we’re focused on the 15 right now.

Margaret Kaczor – William Blair

All right. So moving onto the Home business, then the question predictability and maybe Matt knows the answer, and you guys talked about this a little bit. But what is your predictability of the revenues at this point, for both the following quarter and 2014? So you guys obviously have the 15% bogey on that, but what’s the upside and downside scenario, let’s say, international goes really well or it goes not so well, where could that get you?

Jeff Burbank

So let me take the first half of that globally. The programs, we know the results on the direct to patient marketing. So we’re going to expand those from 50 programs in 2013 to 150 in 2014. So we know the math on that. So that’s some predictability. I think the other thing is we have visibility to the quality of the launch of the new products, so that’s helped us a bit, and we know how that can drive both revenue and adoption there.

And then the last is we had a couple of good contracts completed last year that give us visibility and stability across ‘14, with two of our biggest customers. So I think that gives us some level of visibility. And obviously we’re two months into the first quarter, so that gives us a little bit more visibility in the first quarter than we would normally have on a quarter. We’re usually only a month in.

With that, I’ll let Matt talk in a little bit more detail about the international side.

Matt Towse

Yes, so market on the international side. That’s contributing the growth as well probably couple 3% on that front. Those are the business model and it’s a distributed model. It is a bit choppy. So within the quarters, that could play against the number plus or minus. So just kind of keep aware of that as you model through with. The overall target is 15%.

Margaret Kaczor – William Blair

So just to be clear, of the 15% you’ve got 3% growth in there for the international business, right?

Jeff Burbank

The 3% is international. And what we’re trying to really make sure you’re clear about is that you put flat line to 15% for the year which is our target, you’re going to be half wrong and half right, because there is going to be choppiness around international on a quarterly basis.

We can’t call it on a quarterly basis, so be a little cautious about that, and that’s how we range it. So we can call it across the year, that’s why we try to move you all to more annual guidance. So it doesn’t get affected as much by this quarter-to-quarter choppiness that we see in international.

Margaret Kaczor – William Blair

Okay. And so there won’t be a steady improvement as much as it’s pretty consistent throughout the year on the Home growth?

Jeff Burbank

So there is an improvement, but obviously there was an improvement in 2012. So even with the improvement, it gets relatively flat across the year, but you got to handicap that due to the choppiness of international in any given quarter.

Matt Towse

It’d be more of a wave than a slope line.

Jeff Burbank

Yes.

Margaret Kaczor – William Blair

Got it. One last question to make. Can you guys talk about the feedback you’ve had so far from the clinics in terms of that reimbursement – or the improvement in reimbursement for training rates? Has it opened the doors to clinics, is it material enough, kind of talk us through that? Thanks.

Jeff Burbank

I think it’s always good when you can bring attention to home care through a change in policy. As we mentioned in the past, it’s not the solution that we think really drives adoption, so it’s probably neutral to that, but whenever people talk about it, that’s helpful, we’ll drive that. But what’s really driving the growth that we’re seeing is not that, it’s direct to patient marketing programs and the new products. That’s the majority of it.

Margaret Kaczor – William Blair

Thank you.

Operator

Our next question comes from Kevin Ellich with Piper Jaffray. Your line is open.

Kevin Ellich – Piper Jaffray

Good morning. Just a follow-up on some of the center discussion, Jeff. You’ve given a lot of good details. You mentioned the third center has been opened. Where is that located?

Jeff Burbank

So this one is in Jacksonville.

Kevin Ellich – Piper Jaffray

Jacksonville? Okay. And then going back to your direct to patient marketing and the local patient events that you talked about. I guess in those local markets, how is the reception been with the nephrologists community, and can you give us a little bit more details as to these events? How many patients typically show up and what’s the hit rate?

Jeff Burbank

Sure. So normally those are our patient education events that are conducted in collaboration with a physician group or clinic. And so we work with them to bring patients together. And it can be 25 to 50 patients. And we have pretty good conversion rates. So those events or that program will cost us about $3,000, will yield a handful of patients. So it brings it down to cost per patient of acquisition of about $600. And we see as a net result, the training rates going up by 25% or so in those geographies.

So the benefit of that seems to persist beyond just out of that. So there has been a really good rate of return. If you look at them over a longer period of time, that acquisition for patient growth actually drops. So we struggled a little bit about it how to capture that because it’s a persistent improvement in training rates.

Kevin Ellich – Piper Jaffray

That’s helpful. And just thinking about the 15% Home growth that you guys are targeting this year, Matt. I was just wondering – we understand there is going to be choppiness, especially with international, but I guess could you help us a little bit on the cadence or trajectory for how we should think about that growth?

Matt Towse

Well Kevin, I guess as we said, it’s not going to be sequential quarter-over-quarter percentages we’re going to be posting, because the international on top of that growth creates that choppiness. So, and I think as Jeff said earlier, if you’d outline 15% across the year, you’re going to be wrong half the times because some quarters are going to be higher, some quarters are going to be lower, but it’s not going to be in a trend.

Kevin Ellich – Piper Jaffray

I got that. I was just kind of thinking about how you guys trended throughout 2013 on a quarter...

Jeff Burbank

Yes, so there is really two contributions to that. In 2013, it did pick up as you can kind of see from the numbers throughout the year, and that was result of the direct to patient marketing. U.S. for us is much more predictable. It’s been strong. For the year ‘13, we slightly exceeded our plan in the U.S.

So things went well for us there. That’s what gives us some of the confidence that I think you hear in our voices around the 15% number. International, it’s a little more predictable with us being direct in the U.K. and I think we can execute a little better as a result of that, but there is still other markets, where we’re through distributors and we’re going to see choppiness in equipment sales there. So that’s the challenge in talking to you guys.

We remain steadfast on our target of 15%. But if you model 15% across the year, you’re going to be wrong half the time because of this choppiness. So if we want to kind of be in calibration, it’s going to be 12%, 13%-ish would be a good way to model on the next quarter basis.

Kevin Ellich – Piper Jaffray

Okay, that’s helpful. And then last question. Gross margins, nice improvement this quarter. I think Matthew you said, System One was flat at 46% for the year. I guess what’s your outlook for gross margins, both for System One and In-Center for 2014?

Jeff Burbank

I’ll pass the question.

Matt Towse

Yes, so I think as you look at your models in looking at next year and then after, we’re still looking at System One margins. We’re targeting north of 50% on that over period of time. So I think we’ll see some modest improvement in gross margins next year. I think the focus that I’ve got is total operating margins, and looking at net operating income, again excluding Kidney Care as I said in the comments in our press release, we’re marching on that path to get to positive operating income for total company in Kidney Care in 2015.

So it’s a bit of margin improvement, and it’s also bit of OpEx leverage as we go some quarters.

Jeff Burbank

I just got point out the little bit additional to that. Look at System One gross margins for Q4, 47% new high watermark for us. And In-Center, we made great progress throughout the year. We’re in the lows 20s, we exited around 30%. So we’ve done a great job. The team has done a great job of executing on that side of the business.

Kevin Ellich – Piper Jaffray

Great. Okay, thanks guys.

Operator

Our next question comes from Kim Gailun with JPMorgan. Your line is open.

Kim Gailun – JPMorgan

Good morning everybody. Thanks for taking the questions.

Jeff Burbank

Hi Kim.

Kim Gailun – JPMorgan

So I guess first question just following up on the home hemo growth for ‘14. What are you guys expecting in, let’s say, U.S. portion of the business growth?

Jeff Burbank

We don’t break those out any more. What we did say is international makes up 2% to 3% of that 15% growth rate.

Kim Gailun – JPMorgan

Okay. You did give that, all right, thanks. And then just a follow-up on the gross margin discussion. How should we think about the longer term gross margin targets for the company, just in terms of I think you guys previously have been shooting towards that 50% range. Is that still the right way to think about it?

Matt Towse

Well, you can’t. And again I think in that 50% you’re excluding Asahi, and a lot of that obviously is depending on how the mix shifts between System One and In-Center as we move forward. It’s just that we exited Q4 at 47% in System One. I think the real focus here is the focus on the System One product and given those margins towards 50%. So we’ll continue to move in that direction.

Kim Gailun – JPMorgan

Okay. And then last question just on the investments that you’re making in the Kidney Care Centers. Exiting, you talked about burn of about $30 million to $38 million in cash. And so I guess exiting ‘14 you’d be kind of in the $15 million-ish range. What are your thoughts on the need to raise additional cash as you kind of look at this Kidney Care thing being successful for the company and potentially something that you might want to grow?

Matt Towse

We build our plans obviously looking at cash and our liquidity positions. In the plans we have in place and the progress we’re making, we feel very comfortable with the cash position and liquidity position we have to bond and resource with the plan.

Jeff Burbank

Kim, I’ll just add to that. When we sat down and build our plans on how we were going to try to achieve the 15% achievable growth rate or target growth rate, we incorporated all of our resources including what we could spend in R&D on products, what would we can spend in marketing to mature the direct to patient markets and what we could spend in this category until comfortable about our ability to execute all those with the available resources.

Kim Gailun – JPMorgan

Okay, great. Thanks guys. I appreciate it.

Operator

Our next question comes from Danielle Antalffy with Leerink. Your line is open.

Danielle Antalffy – Leerink Swann

Thanks so much. Good morning everyone. I just had a question on some of the growth drivers that you guys laid out. So one of the – I attended the ADC meeting, and one of the things that was talked about significantly was reducing burden of therapy to the patient, specifically lowering the drop-out rate. So I was wondering if you could give a little bit color on a few things. Number one, where we are with the drop-out rate today? And number two, how do you think the initiatives that you guys have in place. So the System One S, the Nx2me Connected Health platform, how they could potentially lower the drop-out rates and sort of where do you see the drop-out rates going over the next 12 months? How meaningful is that to that 15% growth number that you’re targeting?

Jeff Burbank

Yes, there is lot of content. Let me see if I can work through it. First is when you look at drop-out rates, you really have to look at them over a long period of time, because you have variability on a shorter time interval. Over a long period of time, they have continued to slightly drop, which is an encouraging sign. That is one of the areas that we focused on when we were identifying what the product opportunities were.

So you can line up all of these product opportunities and the products we’re launching against that and say, how could that contribute to reducing it.

System One S. Being able to reduce the treatment time can reduce the burden of therapy. It also can reduce the burden of therapy by doing a less frequent meeting. Maybe they do five instead of six or four instead of five treatments a week. All of those are things that we talk to our customers and our patients about, and they said, this would be a way to enhance that.

Nx2me Connected Health. Very focused on burden of therapy, not just at the clinic level but at the patient level. When an alarm comes up, it walks them through how to resolve that alarm. It builds their confidence. It eliminates a lot of the paperwork that patients are having to do right now, and it also builds the confidence that center knows what’s going on. So if the patient is having a problem, they can proactively engage. And we think that will impact the drop-out rate as well.

So very hard to tie the numbers specifically, but when we went out and did our work and said, how do we improve that statistics? These were the results of that. So a lot of the activity we do is focused on that.

You remember early on, you’ve been with us a while, we developed a new training program that had a pretty nice effect on it. So that was one of the things that was driving drop-out rate.

So then you turn to why are we doing the Kidney Care Centers. There is a whole series of things that can be done, and we believe at the service level to impact drop-out, whether it’s the provision of rested care, the ability to have a patient do In-Center self-care through either rest at home [ph] as they are learning. They may not feel like they can achieve the goal of getting home and independent in three weeks of training, they may want more extended period of time.

So we’ve really tried to incorporate a lot of those concepts into our NxStage Kidney Care Centers to try to validate that, hey guys, there are ways to make investments that can reward over longer period of time and lower drop-out. And obviously drop-out is very valuable. It’s much easier to keep a patient on, than it is to get a patient. So that’s a great return on investments in these activities, but that is one of the leading reasons why we’re doing what we’re doing.

Danielle Antalffy – Leerink Swann

Okay, great. That’s helpful. And just following up on the Kidney Care Centers. What’s the reaction that you’re getting? So let’s say Louis doesn’t open now for several months, how are you seeing DaVita and Fresenius react to the center, if at all?

Jeff Burbank

What I can say is we’re pleased with how that market has developed. We’re pleased with our contribution to that market in growing the access and awareness to home hemodialysis. So we’re pleased with the activities. We’ve been very open and transparent about what we’re doing. They’ve all seen what we’re doing there. And they – I think net-net it’s yielded better access for patients in that market, which is great.

Danielle Antalffy – Leerink Swann

Okay. Thanks so much.

Operator

Our next question comes from Chris Cooley with Stephens. Your line is open.

Chris Cooley – Stephens

Thank you. Good morning all. Can you hear me okay?

Jeff Burbank

Yes.

Matt Towse

Good morning, Chris.

Chris Cooley – Stephens

Good morning. I guess just two quick follow-ons here. First, when we think the Kidney Care opportunity, there has been a good discussion about extending the frequency of treatment as well as the duration of dialysis in the clinical community. I realize the market moves very slowly here. But when we think about the 5,760 centers that the USRDS tracks across the U.S., just curious, Jeff, if you think structurally those clinics can do that with the current schedules, at the same time by training In-Center for a home or a PD patient right there alongside their In-Center patients. And I guess where I am going with here is, if you have 15 of these Centers of Excellence across the U.S. at the end of the calendar year to facilitate training and access to therapy, is that really enough? And then I just had a quick follow-on on the pipeline. Thanks.

Jeff Burbank

Yes, so I’d like to take meat of the question because that’s exactly what we think the opportunity to demonstrate the market is that you can try to do home care, and providers have done a Herculean job of offering home care within the constraints of the assets that they have built for the most part. Some have been a little bit more innovative than that.

And it’s really tough to do, as you say, most home training is in a separate part of the clinic. It’s in a room in the back corner. And it’s kind of that, you’re one of those patients. And the rest of the patients sit next to these big machines with all the staff running. It’s a backroom a lot of treatment. Only being convinced that they could never possibly do home care.

So when you walk into the NxStage Kidney Care Center, you first sit down with a full care model, next to NxStage System One. So from day one you’re getting the impression that, hey, I could do this. And as you look around the room, you’re seeing self-care patients and home patients being trained and peritoneal dialysis patients. So you see the whole continuum of care options that you have available and you see patients doing it.

So you can see with your own eyes, hey, this is achievable, I could go there, I can do this. And we think that’s critically important as well as having that structure. So it’s not all enough. You get trained, you go home, you’re on your own. This is a continuum care. If you got an issue with your partner, you come back and then do self-care for a while. We’re here for you. We’re here to make you successful. And with that upfront investment in that patient, we think we can give them a better quality of life, a better clinical outcome with the hopes of really reducing the total cost, but it takes that upfront investment in staffing and then the design of the center to build their confidence, convince them that this is a better way that they can do.

So with all that, it is a different model, that’s why we want to invest in it and take our risk. But ultimately, this is an investment that can fund itself. We think they’ll mature to a point where it will be self-funding, and it will be a way for us to capitalize the market and drive market adoption, not just through us, since our 15 centers aren’t going to drive that. They will in those markets, but that’s going to be only 15 markets. So we’re counting on the success of this to change some behavior overtime.

Chris Cooley – Stephens

Understood. Great response. I appreciate all the additional color there. And then just on the pipeline. Would you mind just reminding us a little bit here how Asahi is progressing in Japan, and if there are any changes in reimbursement that we should be aware of or potential changes in reimbursement that we should be aware of when we look at the European theater? Thanks so much.

Jeff Burbank

I’d say Asahi is doing a very good job of a very challenging opportunity which is to move a new technology through the Japanese regulatory, and then ultimately reimbursement environment. So they’re working hard at it. We’re very collaborative with them on that, but I think most of you know from other experiences, that takes a while. So they are working a way at it. No real new news there, but we appreciate what they’re doing for the team there. The second part was…

Chris Cooley – Stephens

Sorry, second part was Europe. If there was any changes there you’re seeing in the local markets just in terms of uptake?

Jeff Burbank

The big change for us is really being direct in U.K. And made a lot of changes around the organization, the structure in how we’re approaching that across their team. And we’ll see how that works. We’re being a little bit cautious in our expectations for Europe, but feel good about the team, feel good about the activities that we’re seeing. And just we know it’s going to be a little choppy, which is why we’re so cautious in how we’re trying to guide you, but don’t misinterpret, there is going to be choppiness but we’re not moving off of our target here.

Chris Cooley – Stephens

Understood. And we’ll just keep chopping wood then. Thanks so much.

Operator

Our next question comes from Raj Denhoy with Jefferies. Your line is open.

Raj Denhoy – Jefferies

Good morning. I wonder if I could ask a little bit about, I guess you described the major initiatives in terms of driving revenue as driving demand amongst patients, but then also new products that you are launching. And I’m curious in terms of that first part, one of the points of discussion in times past has been how do you capture that demand once it’s been created. And I know your centers are certainly designed to do that, in certain geographies relatively limited. But you are expanding your patient demand efforts more broadly in a lot more geographies. And so I’m curious if you could perhaps describe some of the programs in those other areas that you’re using to capture some of the demand that you’re creating?

Jeff Burbank

Yes, I think that’s where we’ve seen the success come from. It’s certainly not from Centers of Excellence or the NxStage Kidney Care Centers, because they are just so few and small at this point. So it’s really been about our execution on patient marketing initiatives.

To give you an example kind of the first and most successful mature model we have there, they tend to be working in partnership with local physician practices or clinics that want to grow their programs, see value in providing the therapy and are setup to provide the therapy. It’s very important to go into a market with a provider that wants to expand their centers and their programs so that they’re ready to convert interested patients into training patients and add-on hope [ph].

So it’s usually done in collaboration. And then once we find, we start to launch those initiatives, we find other providers interested in participating because they want their share of the patient demand. So it’s evolved to something a little bigger than it used to be. There will be patient education event which will typically include a clinician and likely a patient on the therapy, so that patients can interact with other patients that have gone through what they are thinking about doing. And then it will typically be with patients and their families. So those could be as small as 20 or 30 to as many as 100 people that get together for these events with approximately 20 to 50 patients in that range.

And then from that, pretty immediately three to five to seven patients will go onto training and then that demand seems to persist. So we get an uplift of about 25% training rates in those geographies and that seems to persist at least for a year, and we need more experience to know whether we need to do follow-on activities.

So net-net, it ends up being very cost effective for us, about $600 per trained patient as a result of those [indiscernible].

Raj Denhoy – Jefferies

If I’m not mistaken though I think – yes, I guess but also if I’m not mistaken one of the other initiatives you had talked about is kind of increasing your customer care. It might not be the right way to describe it, but your infrastructure internally, to sort of take that demand once it’s been created – once the patient.

Jeff Burbank

Yes, I’m sorry. We drove around buzz terms and sometimes that’s really not comprehensive in describing how the process works, because this was a very important element of it. Once we have created that demand, we have a whole process of engagement and conversions.

So we used, as a lot of people do now, salesforce.com and we built programs that attract patients and engage. It can be engagement from a number of people. It could be our customer service split. The most impactful engagement is patient to patient. So we have a number of patients that work that pipeline with us to talk to patients and understand what their concerns are and help them achieve their goals.

Raj Denhoy – Jefferies

And are to finding that conversion rate, I’m sure you track it very closely. If that’s been trending up, and is that what you gives you perhaps some confidence that funnel is fuller, more full of the patients, but you’re actually getting more that you’re not converting as well?

Jeff Burbank

Again as you look at over a period of time, it has, yes. The effectivity of that has gone up, which is why we’re so pleased. We’ve started to see some early signs at the end ‘12. We really matured it during ‘13. We really felt the impact in fourth quarter, and built our confidence that in ‘14 as a program that’s really going to contribute a lot of the growth.

Raj Denhoy – Jefferies

Okay. And then just lastly in terms of the product initiatives and you described the System One S. Do you have any sense of how many patients have converted to that, or how much of a driver that has been to patient adoption?

Jeff Burbank

At this point, we are in a very disciplined launch. So it’s not fully launched, fully available. We do a stage rollout. That rollout is going quite well. We haven’t had any product issues. And the feedback has been very positive. The performance has been very good. So we’re a little pragmatic about that, because these are high risk technologies that we want to make sure we got right. We thought we did, but we always like to confirm that.

So it’s not a huge contributor to growth in the fourth quarter. It will grow throughout this year and be a bigger and bigger contributor as we go into the second half.

Raj Denhoy – Jefferies

Great. Thank you.

Operator

(Operator Instructions) Our next question comes from Gary Lieberman with Wells Fargo. Your line is open.

Gary Lieberman – Wells Fargo

Good morning. Thanks for taking the question. Couple of questions. Are there any capital costs in addition to the $15 million that you have from opening the Kidney Care Centers?

Matt Towse

Gary, so from a CapEx, no. I mean that’s the direct – well, the $15 million in the press release in our script is expenses. It’s operating expenses and it’s the initial burden for the centers. The CapEx, we have a balance sheet for the business. We model about a $1 million a center. So as we have these centers in my mind, that’s how you can model to million bucks of these.

Gary Lieberman – Wells Fargo

Okay. So if you got the 10 centers, it would $10 million of additional CapEx?

Matt Towse

Right.

Gary Lieberman – Wells Fargo

Okay. And so how much of $15 million would you – how much of that is startup costs and how much of that would be ongoing each year with the each center?

Matt Towse

Well, I mean the way to look at it is – so we have an operating infrastructure OpEx, and that’s in this other – it’s segmented it in other, in sales and marketing in our financials. In Q4, we spend about $1.7 million. So that’s the run rate coming out of last year for the centers initiative. That might grow a little bit over this year as we add more marketing expenses. So that’s part of the $15 million. The rest of it is the centers startup costs for each individual center. And again it’s a $1 million over 12 to 18 months as it goes to breakeven – as each center goes breakeven.

Jeff Burbank

So as to stagger how those are maturing.

Gary Lieberman – Wells Fargo

Okay. I mean obviously there is some ongoing costs that keep going to each center, I guess that’s sort of the number I am trying to get to?

Jeff Burbank

Yes, you start out at the full cost with zero revenue and then as the revenue builds, you start to pay for that overhead at the center level.

Gary Lieberman – Wells Fargo

Okay. I guess if you could talk about what new products are…

Jeff Burbank

Sorry here to interrupt. It’s a classic de novo center business center. So these are de novo centers, capital investment upfront, operating losses until you build up the revenue. So it breakeven and drive to profitability.

Gary Lieberman – Wells Fargo

And so that was the 12 to 18 months number you were giving after 12 weeks [ph]?

Matt Towse

Yes, exactly. So that’s mainly your burn net of the net [ph] revenue. And if our model put in $1 million in capital and a $1 million in operating losses across [indiscernible] net operating percent.

Gary Lieberman – Wells Fargo

Okay. That’s helpful. Which of the new products were most impactful on the growth for the year?

Jeff Burbank

For ‘14?

Gary Lieberman – Wells Fargo

Yes. I guess for ‘13 and I guess as you look forward – as you go forward.

Jeff Burbank

Very, very little contribution. I’d say it’s close to zero as you can be in ‘13. In ‘14, it built throughout the year. And I think we probably put dosing calculator with System One S first, because it’s out the farthest with Nx2me Connected Health, right behind that.

Gary Lieberman – Wells Fargo

Okay. And what do you think the timing is on the PD development?

Jeff Burbank

So we’re still a couple of years – three, four years away from that. That’s really the progress is right on time. When we announced it, I think we said three to five years, so we’re kind of two to four years, in that range now.

Gary Lieberman – Wells Fargo

Yes, got it. And then how fast did international grow by itself this year?

Jeff Burbank

This year meaning ‘13?

Gary Lieberman – Wells Fargo

Yes.

Jeff Burbank

Okay. I guess until after this call, we’re still on ‘13.

Gary Lieberman – Wells Fargo

Sorry.

Jeff Burbank

This is okay. Matt, do you want…

Matt Towse

Well, we haven’t broken out international and home. But as we said in previous calls, the international didn’t get hit the numbers we expected for ‘13. Some of the accounting treatment. And the other part was while we had good patient growth in international, it wasn’t what we expected. So we haven’t broken it out, but it was – it didn’t meet expectations for ‘13. And as we said earlier for ‘14, it’s probably about 2%, 3% of the 15% growth for total home.

Gary Lieberman – Wells Fargo

Okay. Is there any way to think about sort of what the base of the international business is just to get a sense of the size?

Matt Towse

It’s small because we had said we’d break it out at 10% of the revenue, not there yet.

Gary Lieberman – Wells Fargo

Okay. I think that does it for me. Thanks a lot.

Matt Towse

Thank you.

Jeff Burbank

Thanks, Gary.

Operator

I’m finally showing no further questions. At this time, I will turn the call back over to Jeff Burbank for closing comments.

Jeff Burbank

Thank you everybody. I appreciate your attention and we look forward to updating you throughout the year. Have a good couple of months. We’ll talk to you soon. Bye-bye.

Operator

Thank you, ladies and gentlemen. That does conclude today’s conference. You may all disconnect and have a wonderful day.

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