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NeuroMetrix Inc. (NASDAQ:NURO)

Q1 2014 Results Earnings Conference Call

April 24, 2014 8:00 AM ET

Executives

Dr. Shai Gozani - President and CEO

Tom Higgins - Chief Financial Officer

Analysts

Bob Wasserman - Dawson James

Operator

Good morning. And welcome to the NeuroMetrix First Quarter 2014 Conference Call. My name is Darren, and I’ll be your moderator on the call. NeuroMetrix is a healthcare company. It develops wearable medical technology and point-of-care test to help patients and physicians to manage chronic pain, nerve diseases and sleep disorders.

On this call the company may make statements, which are not historical facts and are considered forward-looking within the meaning of the Private Securities Litigation Reform Act of 1995.

Statements that are predictive in nature that depend upon or refer to future events or conditions that includes words such as believe, may, will, estimate, continue, anticipate, intend, expect, plan or other similar expressions are forward-looking statements. Any forward-looking statements reflect current views of NeuroMetrix about future results of operations and other forward-looking information.

You should not rely on forward-looking statements because actual results may differ materially as a result of number of important factors, including those set forth in the earnings release issued earlier today.

Please refer to risks and uncertainties including the factors described under the heading Risk Factors in the company’s 2013 Form 10-K filed with the SEC in February 2014 and available on the company Investor Relations website at http://www.neurometrix.com and on the SEC's website at http://www.sec.gov and any updates contained in a subsequent SEC filings. NeuroMetrix does not intend to and undertakes no duty to update this information disclosed on this conference call. I'd like to advise all parties this conference is being recorded for replay purposes. (Operator Instructions)

I’d now like to introduce the NeuroMetrix's President and CEO, Dr. Shai Gozani.

Shai Gozani

Thank you very much. I’m joined on the call today by Tom Higgins, our Chief Financial Officer. We appreciate this opportunity to review our business highlights for the first quarter of 2014. Following our prepared remarks we will be pleased to take your questions.

The first quarter represented a productive start to 2014. Some of the key highlights include, record SENSUS device shipments, launch of our second-generation SENSUS device, good year-over-year growth in our DPNCheck domestic business and very strong progress towards our DPNCheck launch in Japan.

Now for some more details. SENSUS is our wearable therapeutic device used in the management of chronic pain. It is the only transcutaneous electrical nerve stimulator cleared by the FDA for use during sleep, which is a critical competitive advantage because poor sleep is a major problem for patients with chronic pain. The device is lightweight and can be worn underclothing while active or at night while sleeping.

SENSUS is beneficial in treating various forms of chronic pain, particularly neuropathic pain such as painful diabetic neuropathy, which affects about one quarter of people with diabetes.

In the first quarter of this year we signed a key distribution agreement for SENSUS with DJO Global. DJO is a leader in the pain management rehabilitation in orthopedic device markets. This agreement provided us access to the large U.S. direct sales force, which is now promoting SENSUS to their call points and pain management and podiatry, and also in endocrinology, neurology and primary care.

Early feedback from DJO has been encouraging. Most of the sales representatives are pleased to be carrying the product and are encouraged by interest they are seeing from physicians.

Including DJO and other distributors, we shipped 1,448 SENSUS devices in the first quarter. This was a substantial increase from 358 devices in the fourth quarter of 2013 and 145 devices in the first quarter of 2013, which was a launch quarter for SENSUS.

Our product development team completed work and reached the milestone in the first quarter with the launch of our second-generation SENSUS device. While not substantially different in appearance, the generation 2 device incorporates a number hardware improvement and is thinner than the original. This makes it more convenient to wear underclothing and more comfortable during sleep.

Launch was handled smoothly with distributors who generally hold low inventory levels in any case. We began shipping generation 2 devices in the middle of the quarter and quickly discontinued the generation 1 device.

We are also attracted to the opportunity for a differentiated over-the-counter or OTC wearable therapeutic device to manage chronic pain. This product would be sold without a prescription on a cash basis in retail channels, including chain drugstores and on the internet.

Recent independent survey that we commissioned indicated that an OTC offering could significantly expand the overall market for our wearable pain therapy technology. Assuming that we decide to proceed in the near future, we estimate that we could complete the development process and navigate regulatory hurdles leading to an OTC product launches in the second half of 2015. Our goal is to reach decision on this launch in the third quarter of this year.

We also had a good first quarter for DPNCheck testing and revenue in the U.S. market. DPNCheck is our point-of-care test for screening, diagnosing and monitoring peripheral neuropathy such as diabetic peripheral neuropathy. Our U.S. business is focused on Medicare Advantage where the test plays an important clinical role in patient assessment and important financial role and risk adjustments.

In the recent past, the Medicare -- our Medicare Advantage business was highly seasonal. During the first quarter the seasonality was less pronounced with product orders running at a steady rate that was somewhat lowered in the fourth quarter of 2013, but much better than the first quarter of -- was better than the fourth quarter of 2013 but much better than a first quarter of 2013.

We believe the decrease in seasonality is due to emerging overall stability in the Medicare Advantage program and a degree of testing maturity at several of our larger accounts where DPNCheck testing has been built into their screen protocols.

Outside the U.S. our most attractive DPNCheck opportunities is Japan where launch is fast approaching. We’re working closely with Omron Healthcare on multi-fronts, most importantly a key regulatory filing was made in the first quarter. Although the commercialization timeline is contingent on regulatory approval, we believe that a second quarter launch is feasible.

Japan is attracted to us for several reasons. The population is general affluent in aging and healthcare as a priority. Physicians are reasonably compensated for nerve conduction studies such as those performed using DPNCheck and there is an approved pharmacological agent for treating diabetic peripheral neuropathy in the Japan market.

We of course have a strong partner in Omron and this is a base market and they are highly invested in successful launch. They also are products complementary to DPNCheck that are being sold through the direct sales force and third-party distributors. We believe that DPNCheck is one of Omron Healthcare’s priority products for 2014.

I will now turn it to Tom for discussion of revenue and overall financial results.

Tom Higgins

Thank you, Shai. This was a good quarter for us and a good start to the year. We reported a strong top line and bottom line, spending remained under control and our cash position was in line with plan.

Here are the highlights. We reported revenue of $1.3 million for the first quarter. This was only slightly below $1.4 million in the first quarter of last year and $1.4 million in the preceding fourth quarter of last year.

Strength of Q1 revenue is more apparent in the product details. Our combined new products, SENSUS and DPNCheck produced revenue of $473,000 versus $349,000 in the year earlier period representing a year-on-year growth rate of about 36%. SENSUS revenue was $195,000 in Q1 compared with $34,000 in the launch quarter that was the first quarter of last year and $67,000 in the fourth quarter.

Shai just reviewed these SENSUS device shipments which are equally compelling and which mirror the revenue numbers. The detailed distribution agreement and productivity of the detailed salesforce drove the device placements on the SENSUS revenue growth.

DPNCheck revenue was $278,000 in Q1. This compares with $315,000 in the first quarter of last year which had included a large sale through a Korean distributor. Within the U.S. market, DPNCheck revenue of $245,000 was up nearly 4x $63,000 revenue, we recorded in the first quarter of last year.

Strength here was Medicare advantage where as previously cited, we saw study testing through the first quarter, albeit at a lower rate than Q4. So seasonality is still present but has had a lesser effect this year. Omron Japan is in the stages of preparing for the launch and had only a minor effect on Q1 revenue.

Strong results from these new products came close to offsetting the predictable decline in our legacy ADVANCE business. ADVANCE revenue was $858,000 in Q1 mostly from electrode sales. And this constituted about 65% of our overall revenue.

Our gross profit in the quarter was $716,000 and that represented a margin rate of just under 54%. In Q1 of last year, the gross margin rate was about 59% or higher by about 5 percentage points. Margin contraction reflected a mix shift to more heavily weighted low-margin SENSUS devices where our pricing strategy is focused on building the install base.

Also we increased production rates for SENSUS and DPNCheck in response to demand. This caused us to incur higher manufacturing costs for new headcount, trading and summing efficiencies in production. Overtime we expect margin improvement from SENSUS due to increase electrode sales and in manufacturing with increased experience.

Our operating expenses totaled $2.5 million in the quarter. This was a reduction of $600,000 from OpEx spending of little over $3 million in the first quarter of last year. Spending reductions were most pronounced in R&D and in sales and marketing where current headcount is in lower levels than a year ago.

We recorded in the income statement a non-cash credit of $500,000. This credit was the effect of mark-to-market valuation of some outstanding common stock warrants which we do at the end of each quarter. The warrant liability in the balance sheet was $1.4 million at the end of March this year.

Our net loss for the quarter was $1.2 million. Excluding the non-cash warranty credit, the adjusted loss for the quarter was $1.7 million, which was a $600,000 improvement from Q1 of a year ago. Looking at that on a per share basis, the Q1 loss was $0.21 per share.

EPS adjusted for the warrant effects would have been $0.29 -- a loss of $0.29 per share versus a loss of $1.06 per share in the first quarter of 2013. This comparison however is significantly affected by outstanding shares in the two periods. In the current quarter, weight average shares outstanding were 5.9 million and in Q1 of 2013, they were 2.1 million.

Our balance sheet remains solids. Receivables and inventory turnover were satisfactory in the quarter. Receivables of $531,000 reflected 31.1 days sales versus 35.3 days sales a year ago, and inventory of $666,000 reflected a turnover rate of 4.1 times per year versus 2.8 times a year ago. The increase in inventory of $100,000 caused the change in turnover rate, which was concentrated in SENSUS and DPNCheck. Our cash resources were $7.6 million at the end of the quarter.

Our net cash usage during the quarter was $1.6 million. In the near term, we expect quarterly cash, cash usage in the range of $1.5 million to $2 million. Given that outlook, our current cash resources provide a cash runway through this year and well into the first half of 2015. Those are the financial and liquidity highlights, so Shai back to you.

Shai Gozani

Thank you, Tom. Well, those are our prepared comment and we would be happy to take any questions at this point.

Question-and-Answer Session

Operator

(Operator Instructions) First question is from the line of Bob Wasserman from Dawson James. Please go ahead.

Bob Wasserman - Dawson James

Hi, Tom. Hi, Shai. Congratulations on a good quarter. Could you perhaps give a little more color on the DJO Global on revenue model? It looks like you shipped a lot of SENSUS devices in the first quarter and I was wondering if the revenues for the first quarter came from device sales, or is there an electrodes packaging there and when do you think this would get out into the field and start generating some recurring revenue?

Shai Gozani

So the -- there were of course electrode orders along with that but the way that most of these units are sold, they are sold with the first month or two, or first month or two where electrodes are provided in the initial shipment with the device. So the electrode sales tend to occur several months after the initial placement of the device with the patients. So we'll start to see more of the electrode sales coming in this quarter and on and on, that's why we are obviously focused on getting devices on patients.

DJO like most of our distributors keep fairly low inventory, so most of the devices that were shipped were pretty quickly put on patients. So we are pretty confident that distributor inventory levels are low and so we are expecting to see increased electrode sales as we go along and we are already seeing evidence of that. So we are encouraged by what we see on that front.

And then, I guess in terms where DJO is, they obviously, they have quite a few reps selling the product. They are still ramping up the only trained or sales force at the end of January. So we are quite encouraged by what we saw in the first quarter and what we’ve seen thus far with the launch through the sales force.

Bob Wasserman - Dawson James

Okay. Great. You also mentioned the second generation SENSUS device, is that mostly going to DJO or are they -- do they really just [match] (ph) around, which one do they get and also maybe comment a little bit about the comparative margins with the second-generation device and also on electrodes versus the device sales?

Tom Higgins

Sure. So the second-generation device is going to all our partners. We made a complete switchover. It is a very similar device. What we really were focused on was making the device thinner because what we found in over the course of the first year was that patients were wearing it extensively, including at night, of course particularly after we started marketing it for sleep when we received FDA clearance for that indication.

So it's not just DJO but all distributors. The margins on the first and second-generation devices are basically the same. We have a program in place to lower costs on the SENSUS device through improvements in our manufacturing processes, assembly processes and then just volume. Volume will drive better margins.

The electrode margins are already pretty strong. They -- depending on the distributor and the circumstances they are in a, they are north of 50% and in some cases 60% range. So those already strong even at current volumes and may get a little bit better.

Bob Wasserman - Dawson James

Okay. Just one more questions. You mentioned that you are ramping up that you ramped up manufacturing in the first quarter. Do you think that there's more growth in DJO for SENSUS, or will that really rely on new just gaining some partners for the OTC model approval?

Shai Gozani

We see growth in SENSUS in that technology base or a technology platform in many different places. So we expect growth through DJO, growth through other distributors and clearly once we’ll -- if we decide to proceed with the OTC product, we see tremendous growth opportunities. So we are really ramping up on all fronts.

Bob Wasserman - Dawson James

Okay. Thanks and congratulations again.

Shai Gozani

Thanks Bob.

Operator

The next question is from the line of [Jennifer Lane from Webstercoat Asset Management] (ph). Please go ahead.

Unidentified Analyst

Hi, good morning. A very nice quarter. Congratulations. Can you talk a bit more -- you mentioned the DPNCheck and Medicare Advantage in the seasonality factor. Can you talk more about the dynamics that affected that this quarter?

Dr. Shai Gozani

Sure. Thank you for the question. The seasonality is largely due to the fact that Medicare Advantage plans have to submit their risk adjustment numbers on an annual basis. So they have a sort of December and the year target. So there is a natural inclination to try to get a lot of testing done before the end of the year. So just given priorities in such, the testing tends to get push towards the latter part of the year and that’s what we saw last year.

That being said, because there seems to be more overall stability in the Medicare Advantage program broadly speaking, the plan seem to have more confidence in what they are seeing and therefore moving the testing up earlier on the year, also expanding the testing. And probably most -- maybe most importantly, they have now one or two years of experience using DPNCheck in their screening programs, so they are just more comfortable with the application of the technology in their screening and risk adjustment models.

Unidentified Analyst

Okay. Thank you. Now I do have another question. Can you talk a bit more about your agreement with Omron in Japan and how that’s progressing DPNCheck? What you might be -- what you might expect?

Dr. Shai Gozani

Yes. So our agreement with Omron covers actually Japan and China there. As we noted in the latter stages of the regulatory process and really moving towards launch in Japan and they are in the earlier stages in the regulatory side in China. These are both exclusive distribution agreements with minimums, no specific numbers, but they have targets for the first three years. And I guess we expect to launch here potentially in the second quarter pending and to the regulatory timelines.

What’s probably, I think, most important from our perspective is the amount of resources and emphasis that they placed on DPNCheck. They have quite a large team focused on the product for the Japan launch. They have engaged their fairly sizable sales force and distribution network, and everybody's geared up for the launch. It’s a very attractive market for us and for Omron, because as we get some of the characteristics I noted in my prepared comments, they have a high rate of diabetes, they have a focus on controlling diabetes.

Physicians, who use DPNCheck, will get reimbursed for the test. And there’s actually -- it’s the only market in the world, where there is an approved drug to treat DPN. So it's really the perfect profile for product like DPNCheck. And so, we have a high degree of optimism about their ability to quickly build up market.

Unidentified Analyst

Okay. Thank you.

Dr. Shai Gozani

Thank you very much.

Operator

We have no further questions at this time. (Operator Instructions) And no more questions come through, so I’d like to turn the call over to Dr. Shai Gozani for closing remarks.

Dr. Shai Gozani

Thank you very much for joining us on this first quarter 2014 conference call. We are encouraged by our progress thus far in the year, and we look forward to keeping you updated as we progress through the balance of the year. Thank you very much.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Have a good day.

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