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Derma Sciences, Inc. (NASDAQ:DSCI)

Q4 2013 Earnings Conference Call

March 14, 2014 11:00 ET

Executives

Kim Golodetz - Investor Relations, LHA

Ed Quilty - President, Chairman and Chief Executive Officer

John Yetter - Executive Vice President, Finance and Chief Financial Officer

Barry Wolfenson - Group President, Advanced Wound Care and Pharmaceutical Development

Bob Cole - President, Traditional Wound Care and Corporate Accounts

Analysts

Scott Henry - ROTH Capital

Steve M. Lichtman - Oppenheimer

Debjit Chattopadhyay - Emerging Growth Equities

Traver Davis - Piper Jaffray

Joe Munda - Sidoti and Company

Larry Smith - SmithOnStocks

Operator

Welcome to the Derma Sciences’ Fourth Quarter Financial Results Conference Call. At this time, all participants are in a listen-only mode. Following management’s prepared remarks, we will hold a Q&A session. (Operator Instructions) As a reminder, this conference is being recorded today, March 14, 2014.

I would now like to turn the conference over to Kim Golodetz. Please go ahead, ma’am.

Kim Golodetz - Investor Relations, LHA

Thank you, operator. This is Kim Golodetz with LHA. Thank you all for participating in today’s call.

Joining me from Derma Sciences are Ed Quilty, President, Chairman and Chief Executive Officer and John Yetter, Executive Vice President of Finance and Chief Financial Officer. Barry Wolfenson, the company’s Group President of Advanced Wound Care and Pharmaceutical Development and Bob Cole, President of Traditional Wound Care and Corporate Accounts will join us for the Q&A portion of the call.

Earlier today, Derma Sciences announced financial results for the 2013 fourth quarter and full year. If you have not received this news release or if you would like to be added to the company’s distribution list, please call LHA in New York at 212-838-3777 and speak with Carolyn Curran.

Before we begin, I would like to caution that comments made during this conference call by management will contain forward-looking statements regarding the operations and future results of Derma Sciences. I encourage you to review the company’s filings with the Securities and Exchange Commission, including without limitation, the company’s Forms 10-K and 10-Q, which identify specific factors that may cause actual results or events to differ materially from those described in the forward-looking statements.

Factors that may affect the company’s results include, but are not limited to product demand, market acceptance, impact of competitive products and prices, product development, commercialization or technological difficulties, the success or failure of negotiations and trade legal, social and economic risks. Also, the content of this conference call contains time-sensitive information that is accurate only as of the date of the live call, today, March 14, 2014. The company undertakes no obligation to revise or update any statements to reflect events or circumstances after the date of this conference call.

With that said, I would like to turn the call over to Ed Quilty. Ed?

Ed Quilty - President, Chairman and Chief Executive Officer

Thank you, Kim and many thanks to all of you for joining us this morning. This is our first conference call since we licensed rights to the important placental-derived wound care products that we have branded AMNIOMATRIX and AMNIOEXCEL.

Today, I will spend a fair amount of time updating you on our plans and the progress on those products and how they fit into our advanced wound care portfolio. These skin substitutes have become a $500 million business. And we at Derma are very well-positioned to take our fair share of the market. Our portfolio is now one of the most robust in the industry and positions Derma Sciences to achieve our goal of becoming a leading advanced wound care company in the U.S. with a particular focus on the treatment of chronic wounds in general and diabetic foot ulcers in particular.

Also subsequent to the close of the quarter, we raised $80.7 million net in an offering, where we sold 7.5 million shares at $11.50. The 7.5 million shares include the underwriters’ over-allotment, which was exercised promptly as our offering was oversubscribed.

Before I turn the call over to John Yetter, our CFO to update you on the year end financials, I will just mention that as we indicated in January 2013. As we indicated in January when we did our prerelease of the numbers, 2013 was an outstanding year in many, many ways. Our full year advanced wound care revenue was $33.9 million, which is up 36.6% compared to 2012, while total revenues were $79.7 million, up 9.7% over 2012. The AWC growth is right on target with what we stated to you in 2013. And as you know we have made the commitment again in 2014 to achieve organically between 30% and 40% not including the addition of two new skin substitutes. Also the portion of revenues attributed to advanced wound care products reached 45.6% of net sales for the fourth quarter, up 38.3% of net sales. The sales mix in favor of AWC products contributed to gross margin expansion of three percentage points during the quarter.

With that, I will ask John to review the financial results in more detail and then I will come back to you and discuss our operations, our progress and our next steps. John?

John Yetter - Executive Vice President, Finance and Chief Financial Officer

Thank you, Ed and good morning to our listeners. I want to point out that we filed our 10-K last night and that document contains more details on our quarter and 12 months ended December 31, 2013. Today, I will limit my discussion to key financial highlights and should anyone want to drill down further I will be happy to answer additional questions during the Q&A session. As Ed mentioned, net sales for the fourth quarter of 2013 were $20.7 million, up 3% from $20.1 million in the fourth quarter of 2012. Of this AWC product sales accounted for 45.6%, or $9.4 million. This was up 22.5% over the $7.7 million of net sales in the fourth quarter of last year and compares with 38.3% of total sales last year. So as expected, advantage of advanced wound care product sales continues to grow.

Turning to traditional wound care product sales, we recorded sales of $11.3 million in the quarter which was down 9.3% from $12.4 million last year. TWC results were negatively impacted by lower sales in the U.S. due to timing and the delay in delivery of products to new private label customers until the first quarter of this year and the previously mentioned lost sales in Canada. Total international sales excluding Canada were $1.7 million, up 54% from $1.1 million in the fourth quarter of last year. The majority of this increase was from MEDIHONEY due to normal growth and the timing of Middle East order fulfillment.

Gross profit for the fourth quarter of 2013 was $8 million, up 12% compared to gross profit for the fourth quarter of 2012 of $7.2 million. Our gross quarterly – our quarterly gross profit margin percentage was 38.6% in 2013 compared to the 35.6% in 2012 mentioned by Ed. This increase in gross profit percentage reflects the combined benefit of an increase in higher margin advanced wound care sales coupled with a decrease in lower margin traditional wound care sales in 2013 versus ’12.

Selling, general and administrative expense for the fourth quarter of 2013 was $10.6 million compared with $8.8 million for the fourth quarter of 2012. Approximately $1.1 million of the increase was due to higher expenditures associated with advanced wound care growth initiatives. We have been hiring additional personnel and increased sales and marketing expenses both domestically and internationally. The balance was roughly $700,000 represents higher G&A expense related to higher equity based compensation, legal expenses, professional service and growth related compensation and benefits.

Research and development expense for the fourth quarter of 2013 was $2.4 million compared to $2.6 million in the fourth quarter of 2012. Research and development expenses for both years are associated with conducting the DSC127 Phase 3 program. The decrease in spending represents timing differences attributable to the delay in patient recruitment. In addition, we incurred a small amount of incremental expense associated with preclinical work in the scar reduction program that we recently initiated.

The net loss for the fourth quarter of 2013 was $5.4 million or $0.31 per share over the net loss for the fourth quarter of 2012 of $3.7 million or $0.27 per share. The increase in net loss was principally due to the change in taxes worth approximately $1.1 million coupled with higher growth related to selling, general and administrative expenses, i.e., expenses growing faster than revenues.

Drilling down into the business segments briefly, Advanced Wound Care had a negative contribution of $783,000 which narrowed nicely from the negative contribution of $1.1 million in the fourth quarter of 2012 despite a significant increase in growth related expenses in 2013 over 2012. Traditional Wound Care products contributed $2 million during the fourth quarter of 2013 compared with $2.4 million the same in – over the same period in 2012. Lower sales were principally responsible for the decrease in Traditional Wound Care segment contribution.

For the 12 months ended December 31, 2013, net sales were $79.7 million, up 9.7% over $72.6 million in net sales for the 12 months ended December 31, 2012. Company reported a net loss in 2013 of $24 million or $1.40 per share compared with a net loss for 2012 of $12.1 million or $0.90 per share. As of December 31, 2013, Derma Sciences had cash, cash equivalents and investments of $23 million on hand, excluding the $6.9 million investment in Comvita common stock as of the long-term investment, compared with $45.8 million as of December 31, 2012. Subsequent to the close of the first quarter of 2014 or in 2014, the company raised as Ed mentioned roughly $81 million in net proceeds from an underwritten offering of 7.5 million shares at our common stock.

With that, I will turn the call back over to Ed.

Ed Quilty - President, Chairman and Chief Executive Officer

Thank you, John and thank you for that review. We have a number of compelling growth opportunities both longer term and short-term. I will begin by giving you an update on DSC127, which as you know is our topical drug candidate currently in Phase 3 trials for the treatment of diabetic foot ulcers and represents an enormous opportunity to not only change Derma Sciences, but to change the treatment paradigm for diabetic foot ulcers and other large dermal indications.

We continue to enroll patients and qualify sites in our Phase 3 clinical trials. To complement our work in the United States as we reported to you earlier, we have decided to open sites in South Africa. We held a meeting in February with those clinical investigators, who are participating in the trial. And we now have initiated all sites and patient screening will begin next week. Recall that we have chosen to add South Africa sites owing to both the high rate of diabetes and diabetic foot ulcers there and previous successes that our CRO has had in its network that they have in South Africa as far as conducting clinical trials. So we have every reason to believe that this will go very smoothly.

We also began a direct-to-consumer media campaign to support enrollment here in the United States. We continue to expect trial enrollment will be completed in mid 2015 with top line data readout in the first quarter of 2016. Our current cost estimates for this program up to the point of new drug application or NDA submission are now between $55 million and $60 million. Note that, we have added management resources to oversee the trial and are budgeting for higher patient recruitment cost and cost to maintain enrolled patients as well as hire investigator cost. Today, we have spent $19.3 million on DSC127 Phase 3 program, that’s at the end of December and we continue to intend to provide an update on patient enrollment to you, our investors when we reach the halfway point of the two trials.

We are continuing preclinical work with DSC127 on scar reduction, while BARDA grants continue to fund studies as a treatment for ionizing radiation exposure or dermal burns resulting from exposure to radiation in the event of the nuclear attack. We had a positive meeting with BARDA this past January. And we are hopeful this program could lead to meaningful sales if the product is approved by the FDA. Based on early encouraging data in wounds related to radiation exposure, we are still contemplating initiating a Phase 2 clinical trial program for the treatment of radiation dermatitis. Approximately, 85% of patients treated with radiation therapy will experience a moderate-to-severe skin reaction. In 2004 approximately 1 million people in the United States underwent radiation therapy resulting in a potential pool of 850,000 patients with moderate to severe skin reaction. Thus we think this market could be at least as large as the one for diabetic foot ulcers. There currently is no FDA approved drug indicated for the treatment of radiation dermatitis.

DSC127 represents a platform technology that addresses a potential market of well over $1 billion with the U.S. diabetic foot ulcer market alone exceeding $300 million. Scar reduction represents another important indication. According to the CDC in 2010 there were about 51.4 million in-patient surgical procedures performed in the United States, about 1.5 aesthetic procedures and about 1.2 million reconstructive surgical procedures. The market for an effective scar reduction product could be as high as $4 billion. And we’re encouraged by the preclinical work that we’re doing in this indication.

As I mentioned when we began the call in early January we announced a licensing deal of exclusive rights to two novel human placental-derived tissue products for all dermal indications. These two skin substitute products are readied for commercialization. One is a cryopreserved allograft derived from human placental tissue that is used as a wound covering in the treatment of localized tissue defects which we have branded AMNIOMATRIX.

The other is an amniotic extracellular membrane product that is a sterile, resorbable tissue allograft derived from human amnion that is stable at room temperature and provides a natural scaffold for tissue repair and regeneration. It is used for traumatic injuries, burns, surgical wounds, complex chronic and acute wounds, and other soft-tissue defects. We have branded this product as AMNIOEXCEL. We’ve begun to introduce AMNIOEXCEL to our customers and will launch AMNIOMATRIX in the next quarter.

We recently hired a Director of reimbursement and have begun the process of securing Medicare coverage through the nation’s eight Medicare Administrative Contractors or as they’re referred to MACs. Our products will be covered by Novitas Solutions which is responsible for 11 states and the District of Columbia. Additionally, Palmetto GBA does not have a separate coverage policy for skin substitutes, so we will also introduce the products in the four managed by this contractor.

When we began – introduced this program recall we talked about launching sometime in the latter part of this year as you can see the work that our team has done so far we’re ahead of where we had thought we would be, that’s very good news and our sales force is quite excited about that. Combining these 15 states that I just mentioned plus Washington DC account for 40% of our total TCC business and we would use that as a guide for how much business we might get in those states, we looked at how much TCC is being sold in those states we will be able to sell this product. And this will allow us to participate in this $500 million skin substitute market and be very, very strong in our sales effort right from the start.

The AMNIO products have higher gross margin in fact it is north of 70% and are sold at considerably higher price points than our other AWC products. And because of this we expect a positive return on investment next year on this product. It’s a great addition to our AWC line along with our MEDIHONEY, XTRASORB, BIOGUARD, our TCC and as I mentioned it’s a nice – the higher sale price will allow us to leverage the sales force a lot faster than we have in the past with the lower price products.

We’re very excited about the potential of AMNIO products and I note they will join – as I noted they will join our exceptionally strong product portfolio. TCC-EZ had sales growth of almost 36% in the fourth quarter of 2013 and a 32% organic growth for the year. And with less than 5% of practitioners using total contact casting for diabetic foot ulcers, there is a great opportunity to grow this product. Recall that TCC-EZ has a healing rate of 89% over 12 weeks. We believe that combining TCC-EZ and AMNIOMATRIX could significantly improve the healing of diabetic foot ulcers. And this could support sales of each product significantly.

Let me turn to MEDIHONEY. MEDIHONEY continues to perform exceptionally well with sales growth of more than 29% over the prior year’s fourth quarter and almost 43% for the year. We are continuing to work closely with Comvita to ensure ample supply of Manuka honey. You will recall that we made an investment in Comvita last September in order to better ensure supply and pricing. And these funds have been contributed to Comvita’s longer term program to modernize and upgrade its manufacturing and as well as to vertically integrate their supply chain by acquiring more aviaries, which they are doing and I have been part of that effort as a member of Comvita’s board. So, we are in good shape on honey prices in 2014.

Our initial efforts in the burn market have paid great dividends so far. While our full launch has only just started, we did work with a handful of accounts on pilots, pilot trials late last year. A few of these accounts have become some of our largest MEDIHONEY users due to the terrific results that they saw in these initial studies. I wish I could show you a picture of this one young woman who had MEDIHONEY applied to her face after being severely burned. It is truly an incredible story that you can find by Googling burn, honey in Arizona.

We are going to see by putting this link on the website, seeing how MEDIHONEY helped this beautiful young woman avoid being scarred and disfigured for the rest of her life is inspiring to everybody here at Derma Sciences. I really do recommend that you take a moment to watch this news video of this amazing story. We believe our large patented MEDIHONEY HCS dressings will become widely used in the burn arena and have a novel product under development to further our penetration in this space.

Since its introduction in late 2007, MEDIHONEY has proven in the hands of our clinicians to be a very valuable tool in helping resolve some difficult wounds that would have been catastrophic to patients. So we are really proud of MEDIHONEY and the work that we have done there and we look forward to continuing to build that market. It’s still very early in its lifecycle, but there is a lot of things written out there about MEDIHONEY and its effectiveness. And we will continue to promote it.

Let me turn to our international advanced wound care business. Last spring, we informed you that we have added to our staff by hiring a Vice President of International Sales to manage Asia-Pacific and Latin America markets. Mario Neto has done a great job for us since he has been with us. Add to that, our General Manager, Maeve Kelly in the EMEA based in London who joined us in 2010. So between those two outstanding executives, we feel we have got some great upside international. We also have a direct distribution center in the UK and have added distributors in several countries throughout Europe and the Middle East as well as Asia-Pacific and Latin America. We plan to add at least one additional Derma Sciences employee on the ground in Latin America in 2014 to assist with our distribution network there.

We are very pleased with the reception our products are receiving around the world. And I will note that Latin America is a particular focus. Mexico alone has the sixth highest rate of diabetes in the world estimated at one in six people or almost 17% of the population. In the fourth quarter, EMEA sales increased more than 66% over the prior year led by sales of MEDIHONEY and XTRASORB. At our global sales meeting in Miami a few weeks ago, which by far was the largest gathering of Derma Sciences’ sales people in the company’s history, I think there were about 120 people at the meeting or so, we also had distributors from Asia and Latin America and our entire EMEA team, so that they could be trained and go back and launch TCC-EZ in their territories. The products are now as I said being launched and we expect sales to begin slowly this year and we will build on that as we move forward. As it is in the U.S., we believe that these products can be meaningful in many regions due to the relatively low cost and exceedingly high successful clinical outcomes.

Just want to give a little guidance here as it relates to the first quarter. As everybody knows, it hasn’t been the nicest winter in the Northeast, but been about the worst, I remember in the last 25 or 30 years and it’s impacted everybody’s business. And when people can’t get out of their house, they can’t go to the wound clinic, they can’t go to the doctors, and unfortunately, our sales people can’t do good work that they do almost everyday. And as a result, we did see sales that were lighter than what we have planned for in January and February. March seems to be coming together. In addition to that, as you know we are adding a lot of new people to our sales force, so we did divide, re-divide the territories as we started in 2014. So you can expect that the first quarter will be very similar to the fourth quarter and we will build on that throughout 2014. We still expect to hit our goal of the guidance we have given at $92 million. And we are still confident that we will grow the advanced wound care between 30% and 40% and we will achieve our traditional wound care goal of sales of 2% to 4%. So tough start because of the winter, but we will catch up.

With the licensing of our placental-derived wound care products, as I said it is important that we expand our sales force quickly to facilitate this launch. Territories are aligned and reps are trained. As this happens, you do get a temporary impact on momentum, but as I said, we will be over that and on our way and we had a very, very successful global sales meeting and we are all just really excited about the entire sales organization at Derma Sciences. They are just outstanding. Our sales organization now stands at 94 people, which include 84 people covering United States and 10 people covering EMEA, Asia-Pacific and Latin America and Canada. So we are off to a good start and as sales continue to grow, it’s our intent to continue to put more people, where they can give us the best results.

As John mentioned, our TWC segment continues to provide positive cash flow. Sales in the fourth quarter were a bit soft. We did have a stocking sale of private label, retail of MEDIHONEY and XTRASORB to a leading drug chain in the third quarter of 2013. As I have often said, we will support this business for the cash flow it provides us for our other initiatives and we will invest in growth if we judge the returns to be there such as we did with this opportunity with the leading drug chain. We do expect as just mentioned to see TWC sales grow 2% to 5% in 2014. As mentioned earlier, we do expect the first quarter to become comparable to the fourth quarter for the reasons I mentioned. And we do as I said expect to go on and meet what we have committed to you in our guidance. Our sales and our growth will be achieved in 2014.

Before I open the calls, open the questions and calls, I want to remind you that Derma Sciences has never been in better financial shape than it is today. We are stronger in every aspect of our business and we are better positioned to achieve our goals because of that financial strength and also as we have always had the strength of our people with the $86 million that we raised in January.

This is the company that several years ago was struggling, today we are very close to – by the end of 2014 we will be very close to achieving $100 million in revenues and at the moment we have $100 million in cash which we will spend wisely. There is a lot of opportunities for us to build this business. We get talented people throughout the organization not only our sales force but our G&A – our people in finance, our scientists, our regulatory experts and our marketing people. We built just an outstanding marketing organization. Our manufacturing team is as good as they come. I am confident that with the talent that we have we will and we are becoming a leading competitor in wounds healing around the world.

Now, with that I would like to open it up to questions. Thank you.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Scott Henry with ROTH Capital. Please go ahead with your question.

Scott Henry - ROTH Capital

Thank you. Good afternoon and thanks again for coming to our conference guys. Couple of questions, first when we think about 2014 sequentially, we should expect a significant boost in R&D with the trial, the trial for DSC127 picking up. How should we think about that in a quarterly progression, I am wondering is what will be the peak R&D quarter for 2014?

Barry Wolfenson

We would hope that the fourth quarter would be the peak. The third and fourth quarter will probably be a little more in the first and second. As we said we have – we have an R&D budget of like around $28 million for 2014 almost all of that is with the exception of come preclinical work on scar reduction almost all of that is DSC127 clinical trials. And as we talked about earlier we have learned a lot in that trial. We made some very settled changes to protocols. As I mentioned in my comments we have added media firm to help us get more advertising. We are adding these sites. We are finding better ways to work with those sites. So you can expect that as patient enrollment will ramp up in every quarter that the expenses associated with managing those patients will ramp up as well.

Scott Henry – ROTH Capital

Okay. And should we start to notice a significant difference in the first quarter or more in the second quarter?

Barry Wolfenson

More in the second quarter.

Scott Henry – ROTH Capital

Okay, thank you. I appreciate that. As well the traditional wound care business – I just had a couple of small questions. First, the margins appeared to improve in fourth quarter was there some noise that created that and as well 2013 in somewhat mix to your guidance yet you still feel comfortable 2% to 5% in 2014, is this a factor of sales getting pushed into 2014 what I am wondering is why the greater confidence in 2014 and ‘13?

Ed Quilty

So I will let John comment on the margins and then Bob can comment on the sales.

John Yetter

Okay. Thank you, Ed. In terms of margins, the reason why it’s up has improved Scott is the mix of sales. As we mentioned we had that initiative with the leading drug store chain selling retail MEDIHONEY and XTRASORB that was the contributing factor. Also within the mix of business there is some of our private label business that is call it lower margins and that business has sales have been lower. And we have had growth in other facets of the traditional would care. On top of that in Canada cotton prices for the last several years have been a contributing factor. In 2014 cotton prices normalized and it didn’t go up, like they have in previous years. So our Canadian business and the flow through of traditional would care gauze products even into the U.S. to a lesser extent. Those costs have normalize and come down just a little bit. So that’s the reason for the improvement in the margins.

Bob Cole

Okay. Yes, Scott, this is Bob Cole. In addition we will see a dramatic improvement in Canada this year. Obviously we have that inventory adjustment that occurred in the second quarter of last year and that has stabilized nicely. And we are seeing very consistent flow through right now as far as the inventory goes. So that is behind us and that will support our efforts – the numbers for 2014. In addition, we had about $300,000 of private label sales that could have gone out in the fourth quarter but they were delayed for a number of reasons, packaging etcetera, etcetera. Actually we are still waiting for two of them to go out this quarter and that should again support our selling efforts to get to that 2% to 5% for 2014.

John Yetter

And this is John again. That business Bob is referring to is new business. He has done a nice job. Everyone has done a nice job of taking a look at opportunities within TWC.

Scott Henry - ROTH Capital

Okay, thank you. And Ed, in the beginning of the call you mentioned the number of capital you have invested in DSC127 as of December, I didn’t get that number, do you mind repeating it?

Ed Quilty

Right around $20 million, $19.3 million.

Scott Henry - ROTH Capital

Okay, thank you. Just, the final question, just an accounting question, with the acquisition of the BioD products, I am wondering is there going to be any accounting noise in 2014 from that or would this be – the cost be amortized out?

Ed Quilty

There should be a lot of noise. We haven’t finalized that yet Scott, but our plan is to capitalize our licensing fees if you will and amortize them over the perceived life of these products. Again, that’s not finalized, but in any event given going in a different direction and we are presently talking our auditors the magnitude of the money short-term is not significant in that regard.

Scott Henry - ROTH Capital

Okay, great. Thank you for taking the question.

Operator

Our next question comes from the line of Steve M. Lichtman with Oppenheimer. Please go ahead with your question.

Steve M. Lichtman - Oppenheimer

Thank you. Hi guys. I am just wondering now couple of months following the BioD deal, could you give us a little more color on what you are seeing in the field relative to Dermagraft and Apligraf following the introduction of new reimbursement environment, so how that plays into the sort of low hanging fruit that you guys see as an opportunity here in the coming quarters?

Ed Quilty

Well, I’ll let Barry jump in here too, the Shire’s exit from the business. It’s basically given that business to Organogenesis for future considerations. It put a lot of sales people on the street and some of those sales people that were pretty good, we hired some of them. I know some of our competitors hired bigger groups of them. Certainly it’s a good position for us to be in as Barry will comment we would get several different sizes of dressings and we can price them at the appropriate price points that will allow us to sell them in an environment where people can under the new reimbursement of $1,371 for wounds that are 100 centimeter square and smaller. They can choose the proper dressing and do it – and still do it economically, good for themselves.

So we’re pretty excited about it. We think we entered the market at the right time. We believe that our strength is the work that we have done over the years in the wound centers. Our reps are well versed and have to help physicians choose the proper treatment path for people with chronic non-healing wounds. And our relationships with wound clinics will serve us well as we are cleared – as we get clearance from a reimbursement standpoint in different areas around the country. Sales force is well trained. We have spent a lot of time with Tim Brahm from BioD who is the inventor and the owner of BioD at our National Global Sales Meeting. They had some great training session. So we are very well positioned. We think it’s going to be a very, very exciting space for us. Barry, you want to add something to that?

Barry Wolfenson

I would echo Ed’s comments and only add in the sense that we believe that the – due to the reimbursement pressures that the price obviously will be compressed. So the overall revenue size on a constant volume basis will shrink. And then the volumes will be redistributed away in our belief from our products such as Dermagraft and Apligraf and more towards what we believe that the major benefactor will be the amniotic tissue products. There is a couple of companies that have been in the market now for a couple of years. We believe when the dust clears sort of projecting out two, three years that amniotic tissue products will be the leaders in the category of skin substitutes and that we will have earned our fair share of the market.

Steve M. Lichtman - Oppenheimer

Great, thanks guys. And then in terms of the eight MACs, what is the work that’s needed relative to coverage there and what kind of milestones should we be looking for in the coming period on that front?

Barry Wolfenson

Well, as we anticipated with the change in reimbursement back in November where CMS basically said regardless of the brand and regardless of the size of dressing, you are going to be all reimbursed at the same level. We anticipated that some of these MACs would take a more agnostic and open view and that if the FDA gave a product a Q-code that it should be the facility’s responsibility to evaluate these products and decide which they want use and the payment through the MACs is going to be same regardless. And indeed that’s exactly what happened as I had mentioned with Novitas which covers 11 states in Washington D.C., Palmetto has completely agnostic standpoint that they have no local coverage determination policy on skin substitutes. So that opens up about 40% of what we believe the market to be. So for the next 60% it’s going to be a lot of blocking and tackling we believe that there could be some that further that take a more agnostic view.

There are already amniotic tissue products that are covered by these MACs and so a pathway has been placed in front of us. The amount of clinical evidence that had been in the past required in order to gain coverage is a very low hurdle. So for example a 25 patient randomized controlled study we have hired and added to our group that supports our R&D for DSC127 a clinical project manager dedicated solely to these amnio products. And we are underway selecting sites and developing at least that study. Actually there is several others that are in halfway that will be running concurrently. And as I had mentioned we hired and I think it’s in our release that we hired a Director of Healthcare Economics and Reimbursement as well to help us. So I would say that by the end of the year we will have more MACs lined up, but we have 100% coverage I doubt it. But we will have more than 40% and quarter to quarter to quarter we will certainly let you know how we are progressing.

Steve M. Lichtman - Oppenheimer

Great, thanks Barry. And then just lastly you mentioned in the beginning and you made nice progress obviously on AMNIOMATRIX and AMNIOEXCEL I believe you indicated before in your ‘14 guidance including about $2 million or so for those products, given the progress anything that this could be somewhat biased on that $2 million or is that you would think a good number for us to be thinking about at this point?

Ed Quilty

I think we can give you an update on that at the end of the next quarter. We just – we are as I mentioned in our comments we are excited that it’s going faster than we expected. We are going to launch those products now in the next couple of weeks. We have already taken some orders. There is a possibility that we can do better than that $2 million that we looked at. And we will plan on giving you an update on that as we see how the sales rollout.

Steve M. Lichtman - Oppenheimer

Got it. Thanks Ed.

Operator

Our next question comes from the line of Debjit Chattopadhyay with Emerging Growth Equities. Please go ahead with your question.

Debjit Chattopadhyay - Emerging Growth Equities

Hey, good morning gentlemen and thank you for taking my questions. Just to start a bit on the TCC-EZ product, you said about 5% of the market currently or some of the practitioners currently used is use any kind of casting, now is that a limitation because of the type of ulcers I mean ischemic versus non-ischemic and what is the role of infections play in terms of the choice of casting products?

Ed Quilty

I am going to let – Debjit, how are you doing? I am doing let Barry take one. But I think the point we are trying to make is total contact casting is the gold standard for off loading diabetic foot ulcers, it used a very small percent of the time and there is a lot of upside potential as we prove this model out in the marketplace. Barry you want to take the rest of this question?

Barry Wolfenson

Sure. There are factors that would preclude the patient having a total contact cast sort of the clinical like and infection there could be foot deformities to the psychological in the sense that some patients simply they feel claustrophobic when they have a (indiscernible). But generally in the literature the metric is around 75% of diabetic potentially could be qualified as patients for total contact casting. So the 5% number is not limited by infection and these other things it’s the vast majority of the limitation around total contact casting is more historical in nature and that traditional total contact cast are difficult and cumbersome to put on, they take a very, very long time. There is not given the amount of effort that in takes to put them on the reimbursement is not really – it does really make the centers hold. And frankly, it’s difficult of enough of a procedure to do that if you do it wrong, you can cause more harm than create a good healing environment.

Our TCC-EZ does away with virtually all of that. I mean it reduces the amount of time significantly which sort of reverses the economics of the situation, the reimbursement is still the same, but it just take less time to do each one. And so it makes more sense for the facilities to do it. Also it’s difficult to put it on in correctly such that you would cause more harm than create a good healing environment. And so for our reps what they have been doing last year and the year before is simply and the years that we distributed this product before owned it is simply going out to clinicians who are all well familiar with idea of total contact casting. And having them understand that this is not a similar to the traditional method and that the issues or concerns that they have had in the past with those. Our traditional methods really do go away with the new as with any early adopters and then you take the success of the early adopters and you roll that into the market and you try to get some other clinicians to see what their sort of thought leaders are doing. And then they begin to adopt the product as well and that’s sort of the part of the life cycle that we are in right now.

In fact, I know Ed had mentioned in the previous phone call that we brought together some key opinion leaders last year and one of the outcomes to discuss casting and proper off loading methodology. The outcomes of that is a consensus document that will open that will be published this year in a main wound journal and that will be incredibly helpful to sort of take the movement of total contact casting from just 5% key opinion leaders to the rest of the market.

Debjit Chattopadhyay - Emerging Growth Equities

Thank you. That’s very helpful. Moving on to the DSC127 given – could you kind of elaborate on what the expectations are in terms of patient enrollment in the U.S. versus rest of the world. And as you move into areas like South Africa, how do you ensure protocol adherence and then patient follow-up and (indiscernible) just to have a solid trial done?

Ed Quilty

As you know, the total number of patients in the two pivotal trials are 1,055 and that’s one of each of the arms, five arms and two trials history arms and one in two on the other study are 211 patients. We expect in North America obviously the majority of patients that will come from North America being the United States and Canada. South Africa between 100 and 200 patients would be what we would be looking for. So that would leave still 900 or 1000 in the United States and North America.

Debjit Chattopadhyay - Emerging Growth Equities

So you don’t really have any European sites, it’s primarily I mean North America and South Africa at this point?

Ed Quilty

That’s correct.

Debjit Chattopadhyay - Emerging Growth Equities

Okay. And one last follow-up question. The first quarter I mean you mentioned we expect roughly flat quarter, does the ratio of advanced wound care to traditional wound care stay the same at about 45% or as Bob was mentioning you might have slightly higher growth in the traditional wound care business in the first quarter?

Ed Quilty

We expect that, that will be pretty close by the end of the year, should be about – should be about – almost 50:50. And then over time from our – you can see from our marketing strategy, our sales strategy we expect the advanced wound care to grow beyond traditional wound care and that’s…

Debjit Chattopadhyay - Emerging Growth Equities

My question was really the first quarter not…

Ed Quilty

These are higher margin products. And over time if you look at what we did in 2013 and calculate between 30% and 40% growth and what we did in the traditional wound care which I used about $45 million and you look at 3% to 4% growth there. Advanced wound care starts to be the bigger part of our overall sales in the not too distant future.

Debjit Chattopadhyay - Emerging Growth Equities

Thank you so much.

Barry Wolfenson

From a modeling perspective in the first quarter I think you could keep the relative percentage of advanced wound care the same as it was in Q4 of last year.

Debjit Chattopadhyay - Emerging Growth Equities

Thanks guys.

Operator

Our next question comes from the line of David Amsellem with Piper Jaffray. Please go ahead with your question.

Traver Davis - Piper Jaffray

Hi guys this is Traver Davis on for David. Thanks for taking the question. There is still a couple. So what is your latest thinking on business development and what are the kinds of assets interest you at this point? And then just a second quick switching gears, so I know it’s early but any color on how you see OTC MEDIHONEY opportunity playing out and potentially how big could this be? Thanks.

Ed Quilty

So on the first one we’re constantly looking for things to complement our advanced wound care strategy similar to what we just did with the relationship with BioD and entering the AMNIO allograft – amniotic allograft market. Right now our sales force is pretty busy. We’ve got introducing a new product like this, requires a lot of training, requires a lot of time. So we will be very thoughtful and careful about making future acquisitions or adding future technologies through our product line. But we’re looking at it and it will happen over time.

And for the first time we’re financially in good position to do that. We have assets. We have the ability to go out and do that. We set ourselves up for that. The OTC market is interesting. We have that one relationship with and MEDIHONEY was one of the leading drug chains so we’re looking at some other things. I don’t ever – it’s my opinion that, that’s never going to be a $100 million part of our business but it’s interesting. And the one customer we do have in the first part of this year has started to place some new orders. So and Bob and his group are working on some other opportunities. So it could become a bigger part of our overall sales than it is today.

Traver Davis - Piper Jaffray

Great. Thanks guys.

Operator

Our next question comes from the line of Joe Munda with Sidoti and Company. Please go ahead with your question.

Joe Munda - Sidoti and Company

Good morning guys. Thanks for taking the questions. Do you hear me okay?

Ed Quilty

Yep.

Joe Munda - Sidoti and Company

Ed you spoke about increasing marketing spend for direct-to-consumer campaign in the U.S. on DSC127. I’m just wondering are you experiencing any issues as far as patient enrollment and is that why the need to increase marketing or consumer spend – or consumer marketing spend?

Ed Quilty

Yes Barry I’ll let you handle that one.

Barry Wolfenson

Yes. I mean as we’ve discussed over the course of really the last year enrollment in the program generally was slower than we had anticipated. And so we do believe that adding this component to the mix should help some throughput to the sites and result in improved enrollment rate.

Joe Munda - Sidoti and Company

Is that…

Ed Quilty

I was in San Francisco the day before yesterday listening some of our clinical sites with Dr. (indiscernible) who was the inventor of the product and is the company’s Medical Director. And I can tell you that we’re gaining momentum, a lot of good momentum and people are getting more excited about this program and the things that we put into it. Sometimes these are not – these are difficult trials to enroll. You go to anybody, anybody who is in this business, anybody who in wound care and you ask them about enrolling the size of the trial that we have, they will tell you it’s difficult. Our team is making progress and we expect to hit our enrollment goals. And I like the things I thought and we will do more of that. Guys like myself and Barry and other executives need to get out and the people like to see the sponsors, so it’s a good use of our time and I like where I saw people are very committed.

Joe Munda - Sidoti and Company

Okay. And Ed, also in your prepared remarks, the radiation dermatitis initiative, can you give us some sense of a timeline there and what you hope to achieve in 2014 as that progresses?

Ed Quilty

Well, we are working with one initiative with BARDA and Dr. diZerega with his company U.S. Biotest has set a grant with BARDA for several years to look at the potential of DSC127 to be used in a catastrophic situation in case of a dirty bomb or sensor a nuclear attack, where people within that area could be potentially very seriously burned. That data is very interesting. We need future studies. It’s time for Derma Sciences to get involved in that and that was because we do own the indications and that’s why we were there. We would like – you really can’t just go out and burn people to testing, so radiation dermatitis would be a very, very important way you could help millions of people when it will be a very important way to test this area little more in a clinical sense. So we will be working with BARDA to see if they – the work that we have done so far and would they participate in helping us run those trials and that remains to be seen. We are working on it. I think we will probably I don’t know that we will begin studies this year, but we will certainly be able to give you more indication on where that’s going as the quarters go by. We will keep updating you on it. But the information we gave you today is the information we have right now. There is potential there.

Joe Munda - Sidoti and Company

So, Ed, and I will leave that with this one question, so is it I guess there is a Fukushima type of situation to occur where you can get clinical data in trials going, is that what needs to occur or?

Ed Quilty

I don’t think so. I think what we have proposed to have a solution to help a million, this could be a million patients that have moderate skin reactions from radiation that – from radiation therapy, that would be a helpful way to test out this product.

Barry Wolfenson

If I could what I would say is from without disclosing too many details, on the ionizing radiation exposure program, there will be human studies that are done that are typical patients receiving radiation and making some connections with that therapy and the potential breakdown of tissue that would occur in an ionizing radiation setting. And that will be part of the ionizing radiation program and what we are looking into is to see if we could use that work to tick off some other boxes that would be – that we would need to check in a Phase 2 program specifically for radiation dermatitis. But no, we would not require some catastrophic event to test it on humans as part of the programs.

Joe Munda - Sidoti and Company

Okay. And then my final question revolves around the advanced wound care, I know the guidance you provided 30% to 40%, pretty robust even year-over-year here. I am just wondering if you can give us a sense of what the environment is as far as physician adoption, better color there as well as you know what you are seeing, are you seeing a trend I guess patient acceptance of the healing benefits of Manuka honey, any color there would be helpful?

Ed Quilty

Barry, you want to take that one?

Barry Wolfenson

I mean, like I had stated earlier with TCC early adopters and then transferring to the broad market to a degree we are still there with MEDIHONEY where there are people that are familiar with the idea of this medical grade honey based product that for one reason not only we haven’t had a rep show up there at their site. Now that we have 50 reps, we have got a better chance to do it. They haven’t tried out the product, but generally speaking once we get MEDIHONEY into the hands of clinicians, they generally have good outcomes. And MEDIHONEY gets into their formularies and protocols of care.

We mentioned earlier I did our efforts in the burn market last year we are really we are more investigational to help us to plan for our launch this year. And a couple of those sites where we did just some initial investigational work have very quickly become our largest MEDIHONEY customers. So I think patients like the idea of something that’s natural given that they have so many pharmaceuticals and other certainly when we talk about MEDIHONEY in an oncologic setting they are being beamed with radiation and given chemotherapy where they are brought as close to death as possible still are keeping the host to life. Putting a natural product on is very, very nice and comforting for them.

Clinicians on the other hand really don’t look at it as a nice natural product. They look at it as a product that works that’s clinically an evidence base. But yes, so patients readily accept the MEDIHONEY and it’s just a matter of getting more clinicians to use it and also with clinicians that are currently using it to just have them to use it for different indications and usages. Frankly, MEDIHONEY is an incredibly versatile product where it not only helps to resolve some chronic wound issue from a healing perspective, it also helps to remove the necrotic tissue that delays wound healing through the autolytic debridement process.

Joe Munda - Sidoti and Company

I guess Barry, one last question on MEDIHONEY, are you seeing patients actually go to the physician and request specifically MEDIHONEY, are you seeing that in any instances?

Barry Wolfenson

Well, it’s fine that you say that because we just literally learned of an instance where that – where I was told of an instance where that happened last week where a patient did drive into a clinic and told that this is the product that I need. We do not have a – not only do we not have a big direct to consumer, we do not have any direct to consumer sorts of efforts around MEDIHONEY. I think that’s just to – I don’t think that the return would be there. It does happen. There are patients that are out there, that do their research on the web and when you Google around on hard to heal wounds soon or later it doesn’t take very long very many hits to get to something that’s going to be discussing MEDIHONEY or Manuka Honey, it’s not an effort that we put forward.

Joe Munda - Sidoti and Company

Okay. Thank you.

Operator

And we have time for one more question. Your next question comes from the line of Larry Smith with SmithOnStocks. Please go ahead with your question.

Larry Smith - SmithOnStocks

Yes, most of my questions have been asked. Could you give us any view or update on the competitive environment for MEDIHONEY is anybody making any in-roads in terms of market share vis-à-vis MEDIHONEY?

Ed Quilty

I think when you – when the wound care community thinks about honey, they think about MEDIHONEY. And we have done a very good job of being the market leader. There certainly are other companies out there that are selling honey in tubes and have had a couple of instances where people have tried to introduce dressings that we believed and entrenched on our intellectual property and we promptly notified them of that. In some cases we had the involvement of couple law suits, which we successfully resolved. So at this point someone would have to – as long as somebody sells something that is not in violation of our patent, they are free to do that. But we think the strength of our brand stands on its own and no question we are the market leader in honey.

Larry Smith - SmithOnStocks

Is it possible to give us what your market share is or would you do that?

Ed Quilty

I am not sure how I would define that. There is – do you mean as it relates to other honey that’s being sold out there or just as it relates to market share of…

Larry Smith - SmithOnStocks

If you could define a category in the honey based products, I don’t know if that’s the correct way of looking at it or not, what percent would MEDIHONEY be of a category?

Ed Quilty

Barry is better marketing guy than I am. You want to take a stab at that, that’s tough one.

Barry Wolfenson

I would say 85%.

Larry Smith - SmithOnStocks

Okay. Okay, great. Thank you.

Ed Quilty

Thanks Larry.

Operator

And that is all the time we have today for questions. Please proceed with your presentation or any closing remarks?

Ed Quilty - President, Chairman and Chief Executive Officer

Okay. So in closing, I would just like to thank everyone for taking time today to participate in our conference call. It is the most exciting time that we have ever had at Derma Sciences. It’s going to be a wonderful year from us. We have a lot of going on, a lot to do and the entire company is working hard to improve return to investors and improve our valuation and we will be meeting our commitments to you. So, we look forward to coming back in May and giving you the results of our first quarter and continue to talk to you throughout the year. So with that, we would say again thank you and goodbye.

Operator

Ladies and gentlemen, that concludes your conference call for today. We thank you for your participation and ask that you please disconnect your lines.

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