Endologix's CEO Discusses Q4 2013 Results - Earnings Call Transcript

Feb.27.14 | About: Endologix Inc (ELGX)

Endologix, Inc. (NASDAQ:ELGX)

Q4 2013 Results Earnings Conference Call

February 27, 2014 05:00 PM ET

Executives

Zack Kubow - The Ruth Group

John McDermott - Chief Executive Officer

Shelley Thunen - Chief Financial Officer

Analysts

Rick Wise - Stifel

Brooks West - Piper Jaffray

Joanne Wuensch - BMO Capital Markets

Jeff Chu - Canaccord Genuity

Steve Lichtman - Oppenheimer

Chris Cooley - Stephens, Inc.

Operator

Greetings. And welcome to the Endologix, Inc. Fourth Quarter 2013 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. (Operator Instructions).

I would now like to turn the conference over to your host, Zack Kubow of the Ruth Group. Thank you. You may now begin.

Zack Kubow

Thanks, Operator, and thanks everyone for participating in today’s call. Joining me from the company are John McDermott, Chief Executive Officer; and Shelley Thunen, Chief Financial Officer. This call is also being broadcast live over the Internet at www.endologix.com and the replay of the call will be available on the company’s website for 30 days.

Before we begin, I would like to caution listeners that comments made by management during this conference call will include forward-looking statements within the meaning of Federal Securities laws.

These forward-looking statements involve material risks and uncertainties. For a discussion of risk factors, I encourage you to review the Endologix’s annual report on Form 10-K and subsequent reports as filed with the Securities and Exchange Commission.

Furthermore, the content of this conference call contains time-sensitive information that is accurate only as of the date of the live broadcast, February 27, 2014. Endologix undertakes no obligation to revise or update any statements to reflect events or circumstances after the date of this call.

With that said, I’d like to turn the call over to John.

John McDermott

Thanks Zack. 2013 was another record year for Endologix. Our sales grew by 25% over 2012 and we made substantial progress at our new product pipeline. I’ll begin the call today with a quick overview of the sales results for last year followed by our top-line guidance for 2014 and then an update on our new products and growth initiatives.

Next I’ll turn the call over to our CFO Shelley Thunen, who will provide a more detailed review of our 2013 financial performance and 2014 guidance. After that I’ll come back on to review our key goals for 2014 and then we’ll open it up for questions.

Global revenue for the fourth quarter was $35.2 million up 21% compared to the prior year, sales were up 8% in the U.S. and 69% in our international markets. The U.S. growth was soft compared to historical levels but still above the U.S. market growth rate which we estimate to be in the 4% to 5% range.

Significant growth outside the U.S. was due to the effectiveness of our direct sales and clinical team in Europe and strong orders from our international distributors. Importantly the European launch in Nellix remains on track with our expectations and there continues to be significant interest in this ground breaking new technology.

Although we are pleased with our overall global sales results in the fourth quarter 2013, the slowdown in the U.S. was disappointing and continued through January. We attribute this softness to a pullback from some of the centers that didn’t get selected for the Nellix IDE trial the announced delay in the Ventana program and increased competitive activity.

We have seen improvement in our recent sales trends due to the mid February launch of the VELA Proximal Endograft but January was so soft that we now expect the first quarter of 2014 to be sequentially down from the fourth quarter of 2013. We expect the second quarter of 2014 to be sequentially up over the first quarter but as a result of our sluggish start to this year in the U.S. we are forecasting full year 2014 global sales in the range of $146 million to $152 million or 11% to 15% growth. This represents growth of 6% to 10% in the United States and 26% to 30% in our international markets.

While these growth numbers are less than previously expected they still represent growth considerably above the market and added increase in the overall infrarenal market share, to achieve these forecasted sales we will be focusing on four key initiatives in 2014. First is the launch of VELA, second is the continuation of PVAR physician training programs in U.S., third is the continued rollout of the Nellix outside the United States. And fourth is the continued expansion of our global sales force.

Longer term we plan to resume revenue growth of 20% or better driven by our innovative new product pipeline and geographic expansion. Regarding VELA we announced in the U.S. commercial introduction at the iCON meeting on February 10th. Dr. Julio Rodriguez successfully treated a patient with a ruptured abdominal aortic aneurysm with VELA and also performed the live case demonstration.

The U.S. physician feedback on VELA has been very positive so far and we expect to receive our CE mark and launch in Europe in the third quarter of this year.

Now turning to Nellix. We are very pleased with the limited market introduction outside the U.S. and remain bullish on the commercial prospects for the technology. We continue to believe that a gradual rollout of this new technology is the best approach to provide thorough physician training while we build our clinical support in manufacturing capacity. Our early experience has confirmed our belief that Nellix seals the entire aneurysm sack, provides a very predictable procedure and the ability to treat a wide range of aortic anatomies.

Over the past several months we have been able to further refine case planning, device sizing procedure steps and training requirements. We have also identified a few major device enhancements that will integrate into the product later this year. Our physician partners have been instrumental in providing us with valuable feedback and we are grateful for their continued collaboration in the development and commercialization of this important new technology.

To-date we have completed about 450 commercial Nellix procedures and the physician interest remains very high. In October of last year we initiated the EVAS FORWARD Global Registry. The registry is a prospective study designed to capture real world clinical results with the Nellix device in up to 300 patients in 30 international centers. This study will utilize an independent core lab and include follow-up for five years. As of today, we have enrolled 50 patients from five centers and expect to get the remaining centers up and running over the next few months.

We believe the registry will provide important clinical evidence to support the use of Nellix in a broad range of abdominal aortic anatomies. We’ll provide regular updates on the status of enrolment of the global registry and expect to start having clinical data presented this fall.

For the EVAS FORWARD IDE we received FDA approval to begin the pivotal clinical trial at the end of 2013. The study will be a prospective single arm registry and enrol approximately 180 patients in 30 centers. As of today, we have six patients enrolled from 10 centers and expect to add the remaining centers over the next few months.

Based upon our current assumptions and timelines, we expect to achieve PMA approval in the U.S. by the end of the 2016. Overall we remain very enthusiastic about the long term potential for Nellix to become the market leading device for the treatment of abdominal aortic aneurysms.

Another growth initiative for us in 2014 will be the continuation of our PEVAR physician training course. Last year we trained over 230 physicians in United States and we already have a full training schedule planned for 2014. To provide additional support for this program, we’re pleased to announce the final publication of the PEVAR randomized multi-center clinical study that was just released in the journal of vascular surgery. Highlights of the results included 30 minute faster procedure time, less blood loss fewer complications and a shorter recovery time.

Lastly to continue our physician outreach in clinical support during 2014, we’re planning to add additional sales representatives and clinical specialist. We currently have a total of 85 reps and clinical specials in the U.S. and 25 in Europe with plans to increase to 90 in the United States and 32 in Europe by the end of 2014, an increase of 10% for the year. These growth and clinical initiatives are expected to support our near term performance objectives and position us for longer term market leadership.

Now I’d like to hand the call over to Shelley Thunen for her financial review. Shelley?

Shelley Thunen

Good afternoon and thank you John. Today we are pleased to report our financial results and key metrics for the fourth quarter and full year 2013 as well as our 2014 guidance. Total revenue for the fourth quarter increased by 21% year-over-year to $35.2 million; for the full year 2013, total revenues increased by 25% year-over-year to $132.3 million. Domestic revenue in the fourth quarter increased by 8% year-over-year to $25.4 million; for the full year of 2013, domestic revenue increased by 18% year-over-year to $102.9 million. International revenue increased by 69% year-over-year in the fourth quarter to $9.8 million; for the full year 2013, international revenue increased by 56% year-over-year to $29.3 million.

Sequentially, U.S. revenues of $25.4 million in the fourth quarter of 2013 was down 4% compared to strong third quarter of $26.5 million. As John mentioned, at the end of December, U.S. revenues were impacted by a reduction in procedures from potential Nellix, IDE sites not selected for the trial, Ventana sites impacted by our decision to delay clinical work to 2015 in order to make product enhancements and competitive pressure.

In Europe, revenues increased sequentially from $3.5 million in the third quarter of 2013 to $5.2 million in the fourth quarter of 2013, due to Nellix’s adoption in centers opened earlier in the year. Today we have performed around 450 Nellix commercial procedures up approximately 300 procedures from the just over a 150 procedures at the end of the third quarter of 2013.

In addition, our Latin America and Japanese distributor sales were sequentially higher by 46% reflecting customary and bearing purchasing shipping volumes to our Japanese distributor and preparation by our Latin American distributors due to long custom’s lead times often upto 4 months as Latin America prepares for cases that are expected to be accelerated to prior to the World Cup.

Gross margin in the fourth quarter of 2013 was 74% compared to 76% in the prior year. The main driver of gross margin relative to the prior year period was the higher mix of international sales which have lower gross margin due to lower average selling prices and Nellix sales which have higher costs than AFX. For the full year 2013 gross margin was 75% compared to gross margin of 76% in 2012.

Operating expenses for the fourth quarter of 2013 were $27.2 million compared to $27.8 million in the same period last year. For the full year 2013, operating expenses were $109.9 million compared to $102.6 million in the prior year. Total operating expenses for the full year 2013 included research and development costs of $1.9 million related to the company’s exclusive license for the Nellix polymer and exclusive technology patent license. Total operating expenses for the full year 2012 included a $5 million charge related to the company’s previously announced settlement agreement with Cook and $1 million for the Nellix license agreement for polymer. The increase in operating expenses during 2013 as compared to 2012 were primarily for research and development, clinical and regulatory expenses for the Ventana clinical trial, Ventana and Nellix clinical follow up and for the continued product improvements to Nellix and to AFX proximal extension, increased sales and marketing cost primarily for variable compensation and travel in the U.S. and increased investments in the European sales team and European infrastructure.

Despite increased investments in Europe sales and marketing for the 2013 year sales and marketing expenses increased 18% on a 25% growth and G&A expenses increased 6% excluding the 2012 Cook settlement cost on 25% growth, demonstrating the leverage in the P&L.

Our GAAP net loss was $3.4 million or $0.05 per share in the fourth quarter of 2013 compared to a net loss $6.5 million or $0.11 per share for the fourth quarter of 2012.

In the current quarter, the Nellix contingent consideration liability increased by $3.3 million or $0.05 a share which was almost entirely related to the increase in Endologix stock price from the previously measurement date at September 30th. As the stock price increases and decreases on a quarterly basis, the Nellix contingent consideration will fluctuate. Therefore, we believe it is important to evaluate operating performance on non-GAAP measurements.

On an adjusted EBITDA basis, the non-GAAP measure of the adjusted net income or loss adding back non-cash charges including the Nellix contingent consideration, stock-based compensation, depreciation, amortization, business development cost, interest expense, tax expense and foreign currency we measure in gains and losses. Our income in the fourth quarter of 2013 was $1.3 million or $0.02 per share income compared to a loss of $2.3 million or $0.04 per share in the fourth quarter of 2012.

For the full year of 2013, adjusted EBITDA was $3.1 million or $0.05 per share income compared to a loss of $6.9 million or $0.11 a share loss in the prior period.

Now turning to the balance sheet, accounts receivable days outstanding was 65 days at the end of the fourth quarter of 2013, compared to 71 days at the close of 2012 and 65 days at December 30th. Our day sales declined for 2013 despite increased international revenues which typically have longer terms and production times due to improved European collections as our operational capabilities have matured over the year. Inventory turnover was 1.7 turns at quarter end compared to 1.7 turns at the end of the third quarter and 1.5 turns at the end of last year, in line with our expectations. We expect inventory turnover will remain in the range of 1.7 turns despite expansions of our product offerings with continued Nellix sales in Europe and introduction of VELA in the first quarter of this year.

We ended the quarter with cash and cash equivalents and investments of a $126.5 million as compared to $49.5 million in cash and cash equivalents at the end of the third quarter. This includes net proceeds of $75.2 million from our December convertible debt offering net of expenses.

Excluding the net convertible debt rate, cash increased $6.2 during 2013, reflecting positive EBITDA and the impact of good balance sheet management, account receivables and inventory.

Now turning to guidance, for the full year 2014, we expect revenue to be in the range of $146 million to $152 million an 11% to 15% increase over 2013. We expect U.S. revenues to increase 6% to 10% and international revenues to increase 26% to 30%. As John mentioned, we expect the first quarter to be down sequentially from the fourth quarter 2013, primarily due to softer U.S. revenues with sequential growth in the second quarter and year-over-year growth as compared to the second quarter of 2013.

We expect gross margins to be in the range of 73% to 75% as compared to the 75% achieved in 2013 as international revenues will grow at a faster rate than U.S. revenues. As mentioned before, gross margins internationally are lower than in U.S. as average selling prices are lower and our use of distributors in certain international markets primarily Japan and Latin America. In addition, the Nellix product is currently more expensive to produce than our AFX product line.

On the bottom line, we project 2014 GAAP loss between $0.31 and $0.44 per share. This net loss takes into account the increased investments in research and development in clinical studies including the Nellix IDE clinical trial in the U.S. and the Nellix EVAS FORWARD registry outside the U.S. as well as continued product enhancements including Nellix product enhancements that John mentioned in his remarks.

Sales and marketing will increase in absolute dollars about the same as it did in 2013, reflecting leverage, recognizing the resources we will invest in our personnel and physician training as we roll out Nellix to full commercial launch by the end of the year in Europe and limited launch in other international markets.

It also takes into account, estimated non-cash expenses from stock-based compensation of $8 million to $9 million and $5.7 million or $0.09 a share in convertible debt interest, of which $3.7 million or $0.06 per share is non-cash.

Accounting rules related to the new convertible debt notes require that we record non-cash interest expense over their five year life, which will be excluded from our non-GAAP earnings and EBITDA results.

The non-cash interest expense along with a coupon interest expense and amortization of issuance fees associated with the new notes will be recorded in other income and expense line on the P&L.

On an adjusted EBITDA basis, which excludes the non-cash expenses such as depreciation, amortization, stock-based compensation, interest and tax expense. We expect to have a net loss of $0.04 to $0.17 per share for the year.

Not included in this loss per share guidance however, our potential adverse litigation outcomes, fair value adjustments associated with the Nellix contingent consideration and the effect of possible business development transactions. We expect to end 2014 with approximately $101 million to $106 million in cash, using between $20 million to $25 million in 2014.

2014 cash use includes approximately $12 million in capital expenditures primarily for leasehold improvements and equipment for our new facility in Irvine to support our current and expected revenues and increasing use of working capital, accounts receivable and inventories consistent with our growth and the net loss for the year. With the remaining cash of over a $100 million at year-end, we believe we have sufficient cash resources to continue to fund the business in future years.

I will now turn the call back to John.

John McDermott

Thanks Shelley. We’re pleased with our overall results and remain confident in the long-term potential of our business, following our key goals and priorities for 2014. First is to achieve our financial guidance. While we recognize that some of you will be disappointed with our forecast for this year, we ensure that we endeavor to get back to 20% top-line growth as soon as practical. Second is to drive adoption of our new VELA Proximal Endograft. Third, continue expanding the PEVAR market to our physician training programs. Fourth, continue the gradual commercial roll out of Nellix. And fifth is to complete the enrollment in the EVAS FORWARD IDE and EVAS FORWARD global registry. By achieving these goals we will continue on our path towards becoming a leading innovator in endovascular aortic aneurysm repair.

We look forward to keeping you posted on our progress and are planning to participate in the ROTH and BTIG conferences in March. We look forward to seeing many of you at these conferences.

With that we’ll open it up for questions. Operator?

Question-and-Answer Session

Operator

Thank you. At this time we’ll be conducting a question-and-answer session. (Operator Instructions). Our first question comes from Rick Wise from Stifel.

Rick Wise - Stifel

Hi everybody.

John McDermott

Hi Rick.

Shelley Thunen

Hi Rick.

Rick Wise - Stifel

Can you hear me clear? Good. A couple of things, just I don’t want to get [paddy] about it, but since you were kind enough to comment about January, any sense as to whether February trends were back on plan, John you think any recovery or getting back to normal there yet?

John McDermott

Yes, yes I thought I had made that comment, but…

Rick Wise - Stifel

I missed it, sorry.

John McDermott

Yes. No that’s okay, February much better.

Rick Wise - Stifel

Okay. And a couple of -- I’ll just want a couple of quick questions, the accounts that shifted volume away after the clinical trial issue you highlighted what can you do to turn those around and get those back on track? How quickly can you do that?

John McDermott

Yes. So there is a few things, Rick as I commented on and we’ve broken this down in a good bit of detail, actually down to the procedure in rep level. So if you look at our run rate, we are off about one case per month per rep from where we expect it to be at this time, so 12 cases per territory per year. Based on our analysis and the assumptions at a physician in hospital level, this breaks down to about two cases related to the Nellix clinical trial activity, four cases for Ventana and six cases to competitive activity. Included in the six cases to the competitive activity, we have three open territories which effectively lower the true competitive impact about four cases or one case per quarter per rep.

To your question what do you do to get those back, in the case, the case is related to Ventana we think those will come back overtime as physicians work off their 15 case minimum with Cook. So some physicians who were waiting for Ventana when we announced the postponed they decided they would go ahead and learn the Cook system, to do that Cook requires them to do 15 infrarenal cases, so some of those doctors will be coming off of those infrarenal case requirements here in the near-term.

We also think we will get some renewed interest in pull through at Ventana when we announce our plans for renal clinical trials. For those disappointed customers related to the Nellix IDE, we know they are still very interested in the technology, so we think we will have an opportunity to get them back as we get, at a minimum get closer to the commercial phase of that device.

And for those cases that we think might have been picked up by the competition, we are actively targeting those accounts for VELA and the PVAR training.

Rick Wise - Stifel

Okay. Two other quick ones, on gross margins you were highlighting the gross margin outlook for the year, but you did 74% gross margin in the fourth quarter, I am sorry, 73%, 75% kind of guidance, it sounds like you are making progress actually on the Nellix COGS. Is that fair, it’s like I think it’s less impact on my thought?

Shelley Thunen

We are making progress. As the volume goes up, obviously the cost will go down as well that we are also guiding cognizant effect of the ASPs outside the U.S. are lower than in the U.S. But definitely we are making a little progress in terms of Nellix COGS.

Rick Wise - Stifel

Okay. Last real quick, my rough math is you go down $1 million or $2 million in the first quarter, sequentially up -- and revenues in the second quarter, it sounds like a first half, Shelley up something like 7% or 8% if we go back of the envelop? And then the second half if you could get back to sort of a mid-teens or better kind of year-over-year growth is that the right way to think about it?

Shelley Thunen

Certainly we are impacting the first half much more than we are in the second half. If we look at where we are right now, what we are projecting is the run rate is slower in the U.S. as we work our way back. And so we do believe that the second quarter will be sequentially higher than the first and also higher than the comparable quarter in 2013. But it is true that the growth rate will accelerate in the second half.

Rick Wise - Stifel

Thank you very much.

Operator

Thank you. Our next question comes from Brooks West from Piper Jaffray.

Brooks West - Piper Jaffray

Hi, thanks for taking the question. Can you hear me?

John McDermott

Yes, hi Brooks.

Shelley Thunen

Hi Brooks.

Brooks West - Piper Jaffray

Hi John, Shelley. Shelley I want to go back to your Nellix procedure comment for Q4, what did you say, how many procedures did you do in Q4 or could you give us the Nellix revenue in Q4?

Shelley Thunen

We are giving the revenue number, we've been tracking for all of you our Nellix procedures and it’s -- we kind of talk to-date when we are talking about the number of procedures, so it’s not precisely at the end of the quarter, but on a third quarter call which was a tiny bit into the fourth quarter, we had done about a 150 commercial procedures and that will be in Europe and New Zealand where the product is approved. Right now, but not quite this second end of the fourth quarter and going a little bit into January, we had done about 450, meaning we have done about 300 Nellix cases during that fourth quarter period, comparable period.

While we don’t give revenue, we do kind of guide on the guidance range that in Europe ASPs range from $10,000 to $11,000 per procedure, we’re trying to get a little bit more for Nellix. Still a little early to tell that, but we do think that probably we’ll get some ASP uplift in Nellix and get a little higher pricing in New Zealand which is comparable to the U.S.

Brooks West - Piper Jaffray

And you are still, John you are still progressing to a full launch for Nellix or how do we think about kind of a cadence or the acceleration of that launch?

John McDermott

The honest truth is we can’t make enough and that's probably a good thing because we’re still building our sales team. The demand clearly outstrips our capacity, we knew that, that's not a surprise and we are still making minor iterations to the product and we need our new facility to come online in the second half to really get us and to what I would say completely unconstrained commercial launch. So we're continuing to gradually add centers and be able to really focus on bringing our team and the physicians up to speed. But I wouldn't say we'll be in a completely wide open commercial state until certainly the latter part of this year.

Brooks West - Piper Jaffray

So, is the 300 procedures per quarter given the manufacturing constraint. I mean is that a maximum for the first half of this year? Is that what you think about it?

John McDermott

Maximum, you mean in terms of manufacturing capacity?

Brooks West - Piper Jaffray

Well, I mean if you're manufacturing constrained at this point and you did 300 roughly over the last three months, is that kind of max run rate right now until the new production comes online?

John McDermott

No, we've got more capacity than that. So, we're not fixed at that level, but it's I just wouldn't want it to be characterized that we're in a completely open launch mode we're not. There is a ton of opportunity with Nellix.

Brooks West - Piper Jaffray

Okay. And then let me just ask one more on the U.S. guidance if I could and maybe going back to Q4, 8% growth in the U.S. When did you start communicating with people about the IDE studies? Did they start in Q4, I mean you got the IDE in late January. I'm trying to put my finger on kind of when the downturn happens? And then just a little bit more help kind of thinking about how you get back to be at high teens and this eventual goal of getting back to 20% growth overall?

John McDermott

Yes. So, we started actually Brooks to see some softness in the second half of December. And I thought it was primarily seasonal but then continued through January and as we dug into it more deeply we identified the topics I just covered. As a reminder, we announced at the Veet symposium in November that’s when we, that we had our first investigator meeting. So that was the actual the point in time where the physicians who were wind for spots in the Nellix trial knew who was in and who was not in that was also the point in time where we communicated the postponement of Ventana. So, again we started to see some softness in the second half of December. Specifically what are the growth drivers in the near-term we’re going to be very focused on VELA in the U.S. the feedback has been positive. I highlighted a couple of anecdotes from the iCON meeting but I can tell you that the field is doing extremely well with the product. PEVAR we saw over 30% increase in the accounts that got training with PEVAR last year so that will be an important continued initiative for us and we plant to keep adding although modestly in the U.S. reps and clinicals.

In 2015 in the United States we expect to introduce another version of our AFX device for what we call right now AFX 3 that’s a new bifurcated system. And then by the end of 2016 we hope to introduce Nellix in United States. So that gives you a roadmap to growth in the United States. Outside the U.S. we’ll continue to rollout Nellix. And as I’ve pointed out we probably won’t get into a real open launch phase until near the end of this year as we build our team and our manufacturing capacity plus we’ve got significant growth opportunities in South America and Asia. So we still see a very clear path at 20% I can’t give you a specific timeframe, but we’ll get more transparent about that as we get deeper into the year.

Brooks West - Piper Jaffray

Great. I will let others jump in. Thank you.

Operator

Thank you. Our next question comes from Joanne Wuensch from BMO Capital Markets.

Joanne Wuensch - BMO Capital Markets

Thank you very much for taking the questions. Can you please talk about your salesforce and the stability there? Are you losing any sales reps at this stage?

John McDermott

No Joanne, we haven’t had much turnover as in the past the turnover has been relatively limited, I think for full year 2013 our full year turnover remained at less than 10%. So there is always some level of turn, but I wouldn’t, I don’t think there is any concern relative to that. We have got a good team, they are stable and they see the growth opportunity.

Joanne Wuensch - BMO Capital Markets

And one other things that’s going back and forth amongst all the emails, phone calls in my office has to do with the commentary regarding the competitive landscape. Can you talk a little bit about that and what you are seeing out there? Thank you.

John McDermott

Sure. Well, I think one thing that’s obvious is we’re now on the radar screen we’ve enjoyed the last few years being able to capture market share without anybody really standing in our way and clearly we’ve got the attention now, people see what’s happening and the share we are capturing in Europe with thought leaders. And I think they can translate that to what that could represent for share capture in the United States as well.

So we are on the radar screen, if you look at just the number of reps in the United States between the folks that Lombard are hiring and the folks that TriVascular are hiring, you’ve probably got 70-75 new EVAR reps in the market place that weren’t there a year ago. I wouldn’t say they are doing anything really unique competitively, but they is just more competitive activity, and more people buying for procedures.

That being said we still feel like we have got a very unique product portfolio and certainly the deepest portfolio given the AFX platform together with Nellix, and so we see the growth prospects to be very strong.

Joanne Wuensch - BMO Capital Markets

Thank you.

Operator

Thank you. (Operator Instructions). Our next question comes from Jason Mills from Canaccord Genuity

Jeff Chu - Canaccord Genuity

Hey, guys, this is actually Jeff Chu phoning for Jason. Thanks for taking the questions. I was wondering if you could talk about the operating profile of your business, and you’ve talked a lot about focusing on a top line growth for 2014. But your margins already have come down a bit during the quarter are still quite good, as your gross margin are quite good. Can you maybe talk about how you are thinking about leverage as you try to reaccelerate growth in the top line?

Shelley Thunen

You know, I would like John to talk, because I can too walk back a little bit in terms of kinds of market opportunity that we have with our products and the investments we are making in R&D in clinical which will put our thought process about spending on an operating expense a little bit up that now come back on the line and talk a little bit more about number, so range numbers.

John McDermott

Yes, so Jeff as we talked about at the investor meeting in November, we have as a strategy adopted a two platform approach to the market place, with both EVAR and the EVAS solutions. And so we’re resourcing that accordingly. And as we have talked about, we’ve got the IVE clinical trial running with Nellix as well as the 300 patient global registry. We probably won’t start additional Nellix studies by the end of this year, but we certainly will next year as it relates to broadening indication.

So we've got an active level of investments on the Nellix side, plus not only is there the generation of Nellix today, we’re already actively working on the Nellix generation for tomorrow plus we just launched VELA and are busy working on a new version of what we call AFX 3. So that combined with additions to the salesforces and opportunities to expand geographically, we remain confident in the growth profile and so are investing accordingly and that's what you see in the OpEx.

Shelley Thunen

And then coming back just a little bit more guidance as we talked about it, in terms of our bottom line. In terms of sales and marketing, what I do say is that we had about an 18% increase in 2013 on a 25% increase in revenue and that our 2014 sales and marketing expenses would increase about at the same absolute value as they did between 2012 and 2013, which means as a percent of the total bill, it will go down a bit. But we’re still very cognizant of the affect Nellix is having in Europe, the demand. And so we are continuing to invest in our European infrastructure both for training for own personnel, adding clinical and sales reps and training physicians and that would be a big initiatives in 2012 that we will need to do in order to get to full commercial launch towards the end of the year.

In terms of R&D and clinical, I think John talked about the initiatives in there, definitely spending will be up in R&D and clinical with two, with the U.S. IDE trial, a registry 300 patients outside the U.S., continued developments in our product lines Nellix and AFX, we remain very committed to the continuous improvements that we have demonstrated the AFX product line.

And then as we think about sales and marketing, it was virtually flat in 2012 to 2013. So, we'll resume some of our infrastructure commitments in 2014 in order to leverage our growth both in Europe as well as in the U.S. So those are kind of the three big factors driving OpEx and the investments that we have decided to make in 2014.

Jeff Chu - Canaccord Genuity

Great, thanks for taking the question. I'll get back in queue.

Shelley Thunen

Thank you.

Operator

Thank you. Our next question comes from Steve Lichtman from Oppenheimer.

Steve Lichtman - Oppenheimer

Thanks. Hi, guys. John just a little bit more color on what you're referring to in terms of improvement in February, you laid out a several different factors that impacted you in December and January, you said some of the things will alleviate during the year. But you also talked about February being much better. So what is different about February than January in your view?

John McDermott

Yes, one of the things that we didn't spend a lot of time talking about here, but is worth mentioned is we were queued up in a very early part of the year to launch VELA. And in fact we had started to preview VELA at the Veet meeting and trained our team very early in January for the launch of VELA. And unfortunately ended up with the delay from the agency and didn’t get approval till mid February. So, we found ourselves in a little bit of an air pocket. Everybody was excited about VELA wanting to do VELA procedures, sales force trained on VELA, docs wanting to do it and we didn’t have it.

When we go back and dissect the impact on that Steve, that’s about a 100 case impact. So that was a major contributor to the January phenomenon. And that’s why when we talk about a higher level of confidence into February that certainly contributes to that.

Steve Lichtman - Oppenheimer

So, when you look at first quarter overall, you’re talking about it being down from fourth. Can you give us some sort of sense of magnitude, I mean are you anticipating growth year-over-year in the first quarter or is that going to be relatively flat in the first quarter?

Shelley Thunen

So, this is Shelley. Without getting too specific, it will be down from the fourth quarter of 2013 but we expect it to be slightly up from Q1 of 2013.

Steve Lichtman - Oppenheimer

Okay. And then internationally in the fourth quarter, how much was distributor based that I guess anyway is lumpy and maybe not -- we should not be building in as a trend into the first quarter?

Shelley Thunen

Yes. What we saw in 2012 is it typically is a little higher in the fourth quarter overall and obviously we break those numbers out. But Japan tends to be a little higher in the fourth quarter. And so what you see is rest of world which is primarily Latin America and Japan, and that was as a percent of the total in the fourth quarter, about 13%. That’s a little higher than it was in the previous quarters because both Latin America as well as Japan turned out to be higher. That’s a little unusual to see both of them go up in a quarter.

Steve Lichtman - Oppenheimer

Okay. And then lastly Shelly just to make sure our apples to apples on the guidance on the bottom line, when you guys talk about the GAAP loss of negative 31 to 44, is that sort of apples to apples with the zero from this quarter, in other words backing out the contingent for Nellix, is that apples to apples…

Shelley Thunen

Yes that always kind of is confusing. If you look at kind of the numbers and you think about this, in the fourth quarter we had about zero in the GAAP, because you have to take out the contingent liability. We don’t put contingent liability in our guidance at all, we assume the stock price remains…

Steve Lichtman - Oppenheimer

So those are equivalent.

Shelley Thunen

Yes, they are equivalent.

Steve Lichtman - Oppenheimer

And what do you anticipate in terms of R&D? I mean we are very specific on SG&A for this year but what about R&D increase?

Shelley Thunen

That will definitely increase, both R&D and clinical definitely increase from ‘13 to ’14. And that’s where a good piece of the increased investments will be between the two years.

Steve Lichtman - Oppenheimer

Okay alright. Thanks guys.

Operator

Thank you. Our next question comes from (inaudible) from Stephens, Inc.

Chris Cooley - Stephens, Inc.

Hey good afternoon, John and Shelley; it’s actually Chris. Can you hear me okay?

John McDermott

Yes, hi Chris.

Chris Cooley - Stephens, Inc.

Hey, thanks. I apologize I have been doing a couple of calls through this evening. I just want to see if you could maybe give us a little bit of more clarity. I think you mentioned a number of these centers that you saw volume decline here quarter to date that didn’t get picked, obviously would be it trial side. Could you maybe characterize how you are seeing that mix a little bit better now? I mean are these centers have gone to zero, are these facilities that are now lower volume than they were, I am just trying to get a better understand to kind of that dynamic and then I just have one follow up. Thank you.

John McDermott

Yes. Chris, there is a little bit of everything but there are certainly several accounts that we’re working hard to earn a spot that have just stopped using, at least temporarily. We have every intension to getting them back, they are now -- they got some familiarity with the system. So, we think we can earn that business back. But I would say there are situations where physicians were using us and are not entirely and the mix of others who are just down, and everything in between, there is just one variety of that impact.

The good news again as I pointed out is in both of those cases, the Nellix -- we know those guys are still very interest in Nellix, and people certainly want to be physicians with Endologix to be in the queue when that device becomes available commercially. So though they might be little upset right now, we think will -- they will join the family again.

For those Ventana accounts, the message is consistent from all those accounts, we’d rather use Ventana and we can’t wait for it to come back. In the meantime we are going to use Cook but as soon as we can get aligned back with the company on Ventana, we are anxious to pick that volume up, but they had to do 15 infrarenal cases just to get into the training program. So, I see that more as a transitional issue than a long term account loss.

Chris Cooley - Stephens, Inc.

Understood. I appreciate the color. And then just from a competitive dynamic, I know you have made comment here about competitive rep hiring to the process. Just little bit curious what type -- what you are seeing in the end markets as one of those competitors has been available here in the U.S. for a while now under an [HDE] and then the other obviously a little bit newer but for most specific indication, has that competitive dynamic heightened you would say quarter-to-date or do you think it’s just a function now of better coverage by the competition. Just trying to get understanding of there is a physician sentiment shift here or if it’s sales activity?

John McDermott

Maybe a little bit of both, Chris, hard to be really precise with the response. They have more people now so there is just in terms of feed on the street; I’m talking about TriVascular and Lombard. From what we see -- first of all we don’t still, we don’t see a lot of cases being done by Lombard at this point in time and it seems that their sales team is still more in a bit of training phase. TriVascular is much more in a commercial phase.

For the most part the feedback we’re getting in those accounts where we have had physicians trialling the device, we’re not getting a lot of feedback that we've lost accounts. There are a handful of accounts that we share now because they are using some of our doctors to do some training.

So that has an impact, but again on a macro level those impacts have been relatively modest so far, I would say most of the impact is still what I would characterize is trialling at least for us. And that's why we remain again bullish there with our prospects with VELA.

Chris Cooley - Stephens, Inc.

Understood. Thank you so much.

Operator

Thank you. At this time we have no further questions. I would like to turn the call back over to Mr. McDermott for closing comments.

John McDermott

Okay. Well, thank you. I’d like to just thank everyone for joining the call this afternoon and for your interest in Endologix. We look forward to seeing you at the upcoming conferences and providing you with further updates. Have a good evening.

Operator

Thank you. This does conclude today’s teleconference. You may disconnect your lines at this time. Thank you for your participation.

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Endologix Inc (ELGX): Q4 EPS of $0.00 beats by $0.05. Revenue of $35.2M (+20.8% Y/Y) misses by $0.6M.