Cytori Therapeutics (CYTX) Q2 2014 Results - Earnings Call Transcript

| About: Cytori Therapeutics (CYTX)

Cytori Therapeutics, Inc. (NASDAQ:CYTX)

Q2 2014 Earnings Conference Call

August 11, 2014, 05:00 PM ET


Marc Hedrick - President and Chief Executive Officer

Mark Saad - Chief Financial Officer

Ken Kleinhenz - Vice President, Global Regulatory Affairs


Joe Pantginis - ROTH Capital Partners

Keay Nakae - Ascendiant Capital

Jason McCarthy - Maxim Group

Yale Jen - Laidlaw & Company

Graham Tanaka - Tanaka Capital

Dan Trang - Stonegate Securities


Good afternoon, ladies and gentlemen. Welcome to Cytori Therapeutics Second Quarter Earnings Results Call. (Operator Instructions)

Before we begin, we want to advise you that over the course of the call and question-and-answer session, forward-looking statements will be made regarding events, trends and business prospects, which may affect Cytori's future operating results and financial position. Some of these risks and uncertainties are described under the Risk Factors section in the Cytori's Securities and Exchange Commission filings, which Cytori advises you to review. Cytori assumes no responsibility to update or revise any forward-looking statements to reflect events, trends or circumstances after the date they are made.

It is now my pleasure to turn the floor over to Dr. Marc Hedrick, Cytori's President and Chief Executive Officer. Sir, you may now begin.

Marc Hedrick

Good afternoon. Thank you, Susan, and welcome to our second quarter 2014 conference call. I'm Marc Hedrick, President and CEO. Joining me is Mark Saad and also Ken Kleinhenz, Our VP of Regulatory and Quality. Our press release was issued today and it's been posted on our website and also a copy of this transcript can be found there as well.

The agenda today on the call is that I will review recent announcements. Mark will then review the financials. And then I'll follow up with a review of our strategy, key programs and update you on our pipeline development activities. I'll then provide an outlook for the remainder of the year. And then we'll have time for Q&A. And I have asked Ken to sit in on the Q&A session and he can discuss any questions regarding the Regenerative Medicine Law in Japan.

So first of all, have some bittersweet news to report that after 10 years, my good friend, Mark Saad, has been offered and accepted a great opportunity in a promotion with the local biotechnology company. As you know, Mark has contributed significantly over the years to the advancement of Cytori and its technology as our CFO. I will greatly miss Mark personally as well as professionally, but we're extremely happy to have identified and brought forth a worthy replacement who we expect to be joining us officially early September as our VP of Finance and our CFO.

By mutual agreement with his current company and the sensitivity related to his departure and in order to give them time to contact their global team over the summer, his appointment will officially be released next week in terms of a press release or 8-K. But I wanted to give our shareholders a heads up today on the call.

What I can tell you is that the individual that we've recruited was my first choice for replacing Mark. And frankly, he is almost an inside candidate, as a few years ago, he was responsible for the Cytori account at KPMG for about six years. After he left KPMG for management roles elsewhere, he's picked up some highly relevant experience, and I'm confident he can hit the ground running on day one. Currently, he is resident of a rapidly $2 billion public med tech company in Southern California as their International Controller and basically he's functioning as their International CFO. And he has a team of 20 people reporting to him around the world.

In his current role, on a day-to-day basis, he manages OUS financing and accounting activities around the world including markets that are very important to us such as Japan, South America, Europe, Australia and so forth. Prior to that role, though, while he was at KPMG and before that at DNY, he worked with numerous US public companies, supporting financial reporting, public offerings and M&A activity.

On a personal note, I know this individual very well and I can tell you that he is very bright, energetic, knows our technology extremely well. He is passionate about it and 100% dedicated to making Cytori successful and creating shareholder value. From my perspective, his top priorities at Cytori will include improving the company's financial operations with a focus on our cash flow, strengthening our balance sheet and improving yield raw practices and efficiency of the global organization. And each of these things are consistent with the priorities I mentioned on the last investor call.

Once again, I'd like to thank Mark and very grateful for his past and ongoing commitments to Cytori and thankful that he has agreed to continue to support the company and the incoming CFO as much as required to make the transition as seamless as possible.

Next, in terms of announcements, I'd like to provide some additional information on our ATHENA I and II safety feasibility trials. As a reminder, these types of trials have the goal of making sure the procedure is safe, look for efficacy signals in terms of the data after it's reported and then over the course of the trials solve any problems prior to pivotal. You want to solve these in pilot base, not in pivotal. As we've said many times on many calls or for many years, patient safety is and remains our number one corporate priority.

Last week, we announcement that ATHENA enrollment would be delayed as we completed safety review based on three cerebrovascular events. They're largely self-limiting in themselves and really they're expected in this population in trials like this. We had not observed these kinds of events in this way in any of our previous trials and studies. So as a sponsor of a trial like this, the patients of this level of acuity, we opposed our own start and stopping rules. At that time, we asked our clinical team insights to hold off enrolling any further patients while we investigated the matter. Although the trial itself remains active and we continue to follow up patients, follow-up remains ongoing, we're just not enrolling any new patients.

In our experience with the technology over lots of years and now in our fourth of fifth cardiovascular trial, starts and stops of trials of this complexity, sick patients are not unexpected and have occurred several times before in our various trials. Mostly these stops and starts were related to the fact that we were developing a novel treatment strategy and new clinical paths around the cell therapy, not so much really about the cells and the device itself. We can get the cells out of patients. We can process them. But oftentimes, the delivery of those cells back into different kinds of patients at levels of acuity can be a bigger problem.

So as for the clinical issues, just like to give you a little bit of the specifics. The first patient had some post-procedural double-vision that resolved fully in two days. Our second patient had some speech difficulty that also resolved in a couple of days with some lingering fine motor problems in one hand. So what we did is after learning of the second patient, we stopped enrollment after an internal discussion and as per our rules, and we began investigating all the patient records and uncovered a third possible event in a patient with some facial sensory decrease based on a note in the chart, but that also fully resolved after the symptoms were noted.

At that point, through limited unblinding, thus far we've determined that these events affected both placebo and cell-treated patients in a manner consistent with patient allocation in the trial, and there's no evidence thus far to suggest the cells were responsible or the device. Furthermore, based on what we've learned, we are focusing our efforts to study the matter and get back to resuming enrollment on optimizing the medical management of these patients, managing their comorbidities, which are significant in this type of patient population, and streamlining what has become a very long trial procedure day with multiple studies, procedures and so forth. Often it can last up to 12 hours. And that's a lot to put a sick patient through.

Additionally, we continued to examine the information on all the products involved in the trials in a course of the cells, not excluding those. So based on the communication a couple of weeks ago with the FDA and further working evaluation on our part as to what would be required to restart enrollment, we announced that we would need our stated clinical timeline for ATHENA as we believe we would up till that point. And then we began to develop a plan forward. And that basically is to work with the FDA in the trial docs, as we have been over the last few weeks, gather additional data which we think could be done over two to four weeks, identify a cause of these events, if possible, and then make any protocol changes as necessary and recapture to ability to enroll patients in this trial.

It's difficult to give you a timeline right now, but I would say the best reasonable case timeline if there're no further issues or questions is that we can complete this process in two to four weeks, which is only partly under our control. And then over the next two or three months, we could be ready to re-enroll. Perhaps Q1 is the best reasonable best case, could take longer however. We just don't know at this point. And I will keep shareholders abreast of any changes to the trial, update the enrollment plan as soon as possible.

And I will now turn it over to Mark for the financials.

Mark Saad

Thank you, Marc. In the second quarter, we recognized $1.3 million in product and contract revenues compared with $2.3 million in the second quarter of 2013. Product revenues were $0.9 million during the quarter, due in part to our revised and more conservative recognition policy, compared with $1.4 million in Q2 of last year. As we disclosed several times previously, we've implemented a new policy on the revenue side, where revenues are recognized in a given quarter either in the case of existing customers who established good credit with us or new customers where we've delivered product and for which we've received full payment.

At the end of Q2, we have an additional $3.6 million in unrecognized orders from prior quarters consisting of both products that have been shipped and other committed purchase orders which we anticipate recognizing later in the year. The cumulative demand in product orders through June 30 is in line with our expectations at this point of the year.

For 2014, both product and contract revenues are anticipated to be heavily weighted in the second half. Product revenues are driven mostly by research sales, as we've discussed, of solution equipment and have been heavily reliant on the Japan market. And as we discussed, the Japanese government is in the process of finalizing new regulations for the regenerative medicine field that are to go in effect in November. We believe that these regulations will provide clarity to our potential customers and could further facilitate the sales process.

Contract revenues are driven by activities with BARDA where we've received nearly all the $4.7 million under the original proof-of-concept period. As has been previously announced, we completed the proof-of-concept objectives and recently received written notice of BARDA's preliminary intent to extend and expand the funding of the contract. We are working actively with the authority to finalize and execute the contract and begin the sponsored activities that would be expected to increase contract revenues in the second half of 2014 and throughout 2015. For the remainder of 2014, we anticipate modest year-over-year revenue growth, consistent with the focus on bigger ticket research sales.

Regarding operating costs, R&D expenditures were slightly increased to $4.7 million compared with $4.2 million in Q2 of 2013. The increase was primarily driven by cost associated with our development of the next-generation solution system. We continued managing down sales and marketing costs, which were $1.9 million compared to $2.4 million in Q2 2013. This represents a reduction of 20% in Q2 2014 versus the prior period and 17% lower in the first half of 2014 versus the first half of 2013. As stated in the last earnings call, we have reduced our sales and marketing expenses by more than 30% over the last two years.

G&A increased to $4.6 million compared with $4 million in Q2 2013, and this primarily as a result of non-recurring items, including one-time professional services, bad debt reserves related to specific longer-aged accounts and severance associated with the recent reduction in workforce. Excluding such items, G&A was approximately $3.5 million, which is an improvement of 13% compared with the prior period.

Per the previous comment, in June of this year, we implemented a comprehensive cost reduction action, involving headcount, the elimination of certain commercial and research activities and containment of outside professional services. Overall, these reductions should have a favorable impact of more than $4 million on an annual basis. Going forward, the company will continue to seek additional reductions and likely will be in the area of reduction of fixed costs, particularly the physical locations of our headquarters here in the US as well as Japan and Europe, where we're finding lower-cost alternatives. Overall, continuing to implement further operating efficiencies is a top priority for the company for the remainder of the year.

Based on the preliminary notice from BARDA we received in July, we anticipate an increase in R&D expenses in the second half of the year. However, this would be more than offset by the associated increase in contract revenues.

From balance sheet perspective as of June 30, the company had $12.8 million in cash in addition to $2 million in accounts receivable as well as the additional $3.6 million in unrecognized orders for which collections are anticipated. We are in need of initial cash to fund both operations and debt obligations over the next 12 months and to enable to meet the important stated near-term objectives. Management is pursuing both financial and strategic options beyond our ATM facility that we believe have the ability to sustainably fund the company through these objectives and through targeted commercial and operational improvements expected in 2015.

With that, I want to just acknowledge my very difficult decision that after just over 10 years, I am resigning as CFO and offer my deepest gratitude to the company, my colleagues, the Board, partners and shareholders. We have worked hard to enable this game-changing technology to emerge. And while I would not be here in my formal capacity, I will be actively supporting in the transition. As a shareholder, I remain enthusiastic about Cytori's potential. I have great confidence in Marc and the leadership team and I'm excited for the very capable person who I know very well who will be replacing me.

Thank you again very much. Marc?

Marc Hedrick

Thanks, Mark. As I mentioned in the last call, I've been conducting a strategic review of the company's activities as the CEO. And although the analysis is not fully complete, I can share with you my top goals and objectives thus far. And as we've mentioned and maybe you can infer, I've acted on already many of these.

First of all, my number one goal is to strengthen the company's balance sheet through both additional capital, but in as shareholder-friendly manner as possible, and simultaneously lowering our cash burn.

On the capital front, our recent raise last quarter and implementation of the $40 million ATM, we're in part one of that plan. And currently we are working on part two, and Mark discussed that a moment ago.

On the expense and cash management side, we have made substantial reductions in expenses via reducing certain projects outside services, the number of employees and I actually believe there is more we can do on this in the future.

In terms of cash flow management, we are evaluating uses of our working capital and inventories and other areas in which we can improve in this area. And I think we've got some areas for an opportunity for improvement there as well.

Secondly, it initially deals more with the geographic and commercial aspects of the business. We intend to prioritize highly our focus on Japan. There're many reasons in my mind to focus on Japan. We've been there for a decade. Our presence there has made us a clear leader in that market. We have an experienced and talented team that has enabled us to have a significant brand identification there in that market with physicians and potential partners. We hold all the four commercial group of medical license that allows us to operate as a medical company, regulatory approvals that we have maintained over the years. We have a great install base and large group of KOLs. Our sales margins are high.

And looking forward to political environment and which promulgated the new Regenerative Medicine Law could really create some very interesting opportunities for us there. So if we're regulating ultimately as a device in out of cell therapy, as we are everywhere in the world for that matter, as it looks like, we believe that approval and reimbursement can be obtained with single and relatively small trials compared to other places in the world. For example, our urinary incontinence trial is an example of what's possible and others are being evaluated. Outside of Japan, we're going to manage our new sales and existing customers as cost effectively as possible via an increasingly growing network of partners, licensees and distributors.

Third, here in San Diego, our intention is to narrow our focus to three different things. Number one, we intend to develop and execute a clinical development plan and pipeline focused on indications that carry low operational medical risk, lower cost and have shorter path to ultimately showing Phase II clinical data. We're still focused on obtaining ATHENA data following resolution this review of course. But on the lower risk spectrum, for example, we plan a burn related trial funded by BARDA pending the final contracts. I also anticipate at least one further company-sponsored pilot trial in a new therapeutic indication that can generate compelling clinical data in a reasonable period of time. And I intend to announce that before the end of the year. We'll keep you posted throughout as we make these decisions.

Second, we need to finalize the development of our next-generation commercial system, which remain on timeline and on track for Q1 to have a clinical version available. I'll increasingly provide more data over time about this, but thus far, I can say very pleased with the timeline progress, the biological and electromechanical function of the prototypes and the projected cost of goods is within the plan.

Third and finally, I'd like to build upon our ability to successfully work with government agencies around the world to support development and invest in our technology platform. I know everyone knows about the BARDA relationship, but we have support elsewhere as well. Our NIH-funded CELLVAD trial, the Japanese government MHLW urinary incontinence trial are evidence of how we can access governmental resources to help drive our platform and obtain more clinical data.

So now shifting gears a touch, regarding our cardiovascular program, which now has two components, the ATHENA trials and CELLVAD, the NHLBI NIH-funded trial, I previously discussed ATHENA in detail. And I have nothing new to say about that. But as for the recently announced CELLVAD trial, it's a 34-patient Phase I safety and feasibility trial geared to evaluate the use of ADRCs in patients with heart failure who have LVADs or left ventricular assist devices in place. The hope is that the addition of the cells from our system could help bringing these patients off these devices.

Scientifically, the study will provide some outstanding information about the cells and mechanism of action in human subjects. Currently the protocol is being worked out amongst the parties involved. And once we have the timeline for this, I will of course update you.

Now regarding our thermal and radiation injury program and our partnership with the US government, we recently announced that we had our scheduled meeting with a multi-disciplinary panel within the government of subject experts. Subsequent to that, BARDA gave us a notice that they intend to proceed to fund option one of our contract.

Our current plan is to announce the path forward when contracts are signed, anticipated to be before the end of the month, and we are preparing to start work immediately thereafter. Specifics of the contract like the work rate down structure, the general timeline, the option value will be discussed as well. And we believe too that there are other opportunities to provide value to BARDA in the near term under our current contract structure and we're exploring those within as well.

So now to our pipeline in our plan forward in this area, I've talked about this to some degree already. And as I mentioned on the last call, we need to expand our pipeline and leverage the platform more fully than we have been over the last few years. And we need to do that in a way that's meaningful to the company. It should be clear to everyone that the risk inherent in many trials, but in particular those on very sick patients with heart failure, but obviously the rewards of a trial like that if successful are significant.

My goal is to build a broader clinical pipeline over time of indications that are cost effective, risk balanced and have sufficient IRR within the overarching goal of getting the Phase II data in the US as soon as possible. That'll drive value. As we near completion of the new solution system, we can now reasonably plan to conduct those studies with that new system and leverage its performance benefits.

For the record, a BARDA-related burn trial under option one is an example of how we might broaden the pipeline without fully funding that trial. Other opportunities I will announce, as we have been, and in particular we want to have regulatory approval defined, a clinical operations plan and sufficient capital to fund them before we discuss them publicly. Regarding data from the investigator-initiated trials and I mentioned these on the last call, we'll continue to update those that are going on around the world. I'd like to point out some progress in three in particular.

Dr. Ramon Cugat, a well known orthopedic surgeon in Europe, is studying the use of Cytori cell therapy for anterior cruciate ligament repair in Barcelona, Spain. He studied 20 patients, completed enrollment. Patient follow-up has been conducted intermittently out to 12 months. And he will be presenting those first results in November at the European Asian Workshop on Ligament and Tendon in soccer players. And we'll let you know when that data is available by virtue of a release.

Dr. Guy Magalon study is another use of Cytori cell therapy in patients with the hand manifestations and the disability that comes from having systemic or localized scleroderma. That study is complete. The 12-month data has been reviewed and a six-month data has been accepted for publication and just today is available online in the Annals of Rheumatic Disease. Further expansion of both of these clinical development programs are currently under review.

Third, in Japan, Nagoya University is driving with us and with MHLW a look at Cytori cell therapy and stressed urinary incontinence. We have published the results from 11 male patients in the International Journal of Urology from the initial feasibility study related to this indication. And as I mentioned previously, MHLW has agreed to fund the pivotal trial in Japan. And pursuant to that, we've had a number of positive meetings with PMDA in Japan regarding the trial. Currently the trial is planned to be a multi-central pivotal trial led by Nagoya using Cytori cell therapy for the treatment of urinary incontinence. The trial itself is based on published data that I mentioned before, demonstrating improvements in leakage, urethral closure and patient quality of life. It's a very common problem, as many of you know.

The next step in finalizing the protocol through pre-negotiation activities with PMDA and end submission is ultimately the protocol for approval and then beginning the trial, and we'll provide you an update later in the year as we work towards developing a clinical path and timeline.

And now on to sales. As I mentioned on the last call, our commercial team is small, focused on supplying the demand of product from providers, institutions who desire to have ADRCs and cell therapy, some in trials, some in smaller studies and some in routine clinical therapy. As Mark mentioned, we made some substantial reductions in SG&A, while striving for modest year-over-year growth in terms of product sales and then getting to positive contribution. As I mentioned above, we're going to focus increasingly on our direct operation in Japan on the heels of the new Regenerative Medicine Law that we still anticipate to be announced fully and finally in November and then elsewhere targeting a growing number of channel partners, both distributors, specialty partners and larger distributors.

So if you look at sales over the last part of 2014 and into 2015, the impact from those sales will be driven by a few key things that I can mention. One will be the new Okyanos Heart Institute. It's a customer that's built the top notch team and facility in a well regulated market nearby to the US. That's slated to come online this fall. Hopefully you're aware of our partnership with Lorem Vascular. And as we recently mentioned, they've opened new offices and hired country managers in Malaysia and Singapore in addition to the home office in Australia. The goal for them is to build a network of regenerative medicine centers throughout Asia using our products and we see evidence of demand in those markets already. As for China, which is one of their license markets, we're on track to submit for Chinese FDA submission later in the year.

In Japan, the newly amended Regenerative Medicine Law that's currently been announced at the beginning of the month in draft form and is currently in a 30-day public comment period for the remainder of August, I could tell you what we've learned thus far. But again, this is not final and subject to further amendment and it is public. The new law appears to add additional regulation only to iPS cells and the cultured cell therapies. It appears that point-of-care cells currently in our plan to be regulated through the new law and therefore we believe will be regulated as it is now and it is around the world through the device itself and the laws related to the device.

If this becomes the final law, this count represent a very positive development for Cytori and its market. And that's why I've asked Ken to join us today to see if there're any further questions, as he has become a real expert in this area and has been working behind the scenes to help ensure this law is well thought through. Our key component then to generate value downstream in terms of sales and product revenue is having robust point-of-care ADRC processing platform that provides good economics, favorable features and benefits and scalability. And that system is underdeveloped and on timeline currently, as I mentioned before.

So now looking forward, what to expect over the remainder of the year? Shortly, we hope to announce the next phase of our BARDA contract and what that will mean to Cytori. We're working through the process to be able to get ATHENA ready to re-enroll. We will announce a new US clinical indication to broaden our pipeline. We look forward to report on the final Japan Regenerative Medicine Law and discuss its implications for the company once it's finalized. We today announced data online for our scleroderma investigator-initiated study from Europe and the ACL repair study will be available in November.

We'll report to you as able on the proposed new clinical development plan for urinary incontinence in Japan. We intend to file forward on track for Chinese FDA approval related to the Loren Vascular relationship. We are close to obtaining full certification of our global manufacturing facility that just opened in Wales that's strategic regarding our relationship with opening up China and other markets that recognize the CE mark and the manufacturing goods in those markets.

And then finally, we're working hard to complete the core R&D related development activity for our next-generation solution system. And we'll update you more as that moves along. Furthermore and as I mentioned as our top goal is to continue to prove the efficiency of operations and the financial strength of the company.

At this point, I'm finished with my formal remarks, and I'd like to turn the call back over to the operator to moderate the Q&A part of the call.

Question-and-Answer Session


(Operator Instructions) Our first question comes from the line of Joe Pantginis from ROTH Capital Partners.

Joe Pantginis - ROTH Capital Partners

Maybe three or so related questions around the ATHENA studies, it certainly is interesting to know that these patients were both on the controlled arm as well. So with that said, I want to do a little historical background first. Out of four or five prior studies that you've done so far, what would you say is the total number of patients that have received therapy in cardiovascular?

Marc Hedrick

We've enrolled approximately 90 patients in those trials. And I think on average, I would say about two-thirds of those have received cells and a third of those have received placebo.

Joe Pantginis - ROTH Capital Partners

When you said since there're a at least one patient one the controlled arm and you said the evidence right now is not pointing to the cells or the device as part of the cause, I would ask the question in two parts. Can you speculate some potential causes for these events that have been seen? What would represent evidence that either the cells or the device were responsible?

Marc Hedrick

I believe that this is likely what we've seen in other trials that we've done that the issue is multi-factoral. So you got sick patients that are at risk or show somehow atrial fibrillation. Most if not all of them are on a variety of anticoagulants, platelet blockers and Coumadin and so forth. And then we're bringing them in the hospital and they have a very long procedure day. They have small liposuction. They have a cardiovascular mapping and cell delivery. And the ability of physicians to do this depends on their amount of expertise and so forth. So patients are sitting around the hospital. They can get dehydrated. They miss their medications and they miss their anticoagulation medication that particularly could be a bad thing in the context of what we're discussing. And then depending on the degree of the length of the heart mapping and so forth, that could be part of it and the liposuction.

So I think it's a combination of all of those. I can't rule out that it's not the cells. But I think the fact that there is a mix of placebo and cells are suggestive that that's not the primary cause. It could play a role, but it doesn't seem to be the case. It hasn't come out in any of our other cardiovascular or other studies. We put a reagent in the cells right before they're injected, specifically geared to ensure that there's no aggregation. And that's something we worked out many years ago. It's been a lot of time in trouble, making sure the cells go into single cell suspension and so this is not an issue.

We ultimately can't prove a negative. But I think if we can look at all the data, figure out where are the areas that we can focus on in terms of protocol, strengthening, then I think we have a good chance of getting the study back up and running in not too distant future.

Joe Pantginis - ROTH Capital Partners

Well, I guess it was part of a lot of background issues there. But I guess what evidence would point to, and again strictly speculation, that it was the cells or the device related, like is there something in particular that would point to those?

Marc Hedrick

Well, I think number one is if the issue was related to only patients that received cells, that would point in that direction, although it's a relatively small number of patients treated in this trial. And we have several other trials, where this has not been an issue. We've gone back and looked at our in-house testing. We've looked at all the various products involved and we can't see any evidence that it's related to the product, the cells, the agents that are used with the cells, one of which is particularly geared towards this issue. Those all seem to be working well. We even at the last step put a filter in into the injection of 70 microns, very small, just so we can make sure that anything going on in can point to what it can find. So while we can't prove it, we don't see any evidence of it. I think it's going to be hard to prove a negative. So we're going to focus on some things that we can change and I mentioned those before.

Joe Pantginis - ROTH Capital Partners

If I can just switch to the new Japanese law, obviously as you mentioned, this is a work in progress and I'm glad you have Ken there too. I guess would ask as you are awaiting to see whether you're going to be viewed as a device or not and you gave some reasons as to why, I guess I would ask what level of direct discussions have you had, say, with the Japanese government or consultants that might give you comfort to point in that direction?

Ken Kleinhenz

We have put together initial public comments that were submitted to the MHLW regarding the return of this in law. And we specifically asked them to clarify that autologous same surgical procedures were not part of the regulatory scheme for the new Regenerative Medicine Law. So the MHLW has published all five of the comments and all five of their responses to these comments. And their response to the Cytori autologous same surgical procedure comment was essentially, yeah, we recognize that there is no safety issues. We've soft formal guidance on that and we're relatively comfortable with it. So that's kind of direct relationship in speaking with the MHLW. But the information is available on their website, specifically to the Cytori comments.


Your next question comes from the line of Keay Nakae with Ascendiant Capital.

Keay Nakae - Ascendiant Capital

Just wondering if you can go over some of the assumptions for operating expense again in the back half of the year both for R&D and sales and marketing more specifically.

Mark Saad

R&D can really vary a lot based on the final number determination that comes from the BARDA award. We believe based on the preliminary notification and the dialog that we've had that the prospect is for there to be a significant increase in contract revenue associated with that arrangement. It's not final until it's final of course. So when you think about the first half of the year, about $9 million of R&D expense. In fact, that number can go up in the second half assuming the BARDA award comes in as contemplated. If not, we'd expect that number to come down somewhat. So that's the R&D side.

Obviously we're not enrolling on ATHENA, then any ATHENA enrollment cost, which is the most significant part of that program, would be deferred. So I think in general, the ATHENA related costs would come down. There may be an alternative indication that could emerge if it's a cost effective determination to do that. And then you have the BARDA determination, which will have the most significant effect. One of the cost we've had this year that we likely would not have a lot in the second half of next year. Of course, last year was the advancement of the next-generation solution system, which is a smaller, faster product that we believe is optimally geared for both the market as well as importantly what we're doing with BARDA. To the extent that we're successful with BARDA in the development and they want to procure, they would rather purchase smaller to achieve faster devices, which coincidentally is of course what we'd like to bring to the marketplace.

There's been a significant amount of development cost associated with advancement of that. And that's been incurred in the first six months of this year. We're going to see that continue this year. But as that gets fully development, that number will tail off as well.

On the SG&A side, it came down from $2.4 million to $1.9 million, as we talked about, down from $4.7 million down to $3.8 million. We continue to see sales and marketing continuing to get compressed, given the realities of where we're selling, what we're selling and just prototyping that team in Tulsa, it's time that the time access that we're looking for in terms of indications, reimbursement or such that it can really get to something more scalable. But there's good revenue to get on the equipment side, particularly on the research sales, particularly in Japan, provided that Regenerative Medicine Law comes through as contemplated, which appear to be looking promising for November timeframe. So I think that's where really the majority of the gain from which you're going to get sales and marketing expenses. The benefit from that is we're trying to channel our efforts and our costs through that as well.

And then G&A, like I talked about, if you strip out the non-cash or non-repeating items, that number really comes down from $4.6 million in the quarter to $3.5 million. I think that's more indicative of what you'll see going forward on that one with continued downward compression and future opportunity, some leases that we can get out of to some lower-cost facilities. In the next wave, I think you've got some more savings next year.


Your next question comes from the line of Jason Kolbert with Maxim Group.

Jason McCarthy - Maxim Group

Jason McCarthy for Jason Kolbert, and I have a couple of questions. And the first thing I wanted to talk about was the scleroderma study. And was interested if you can walk us through what the size of the market is and the primary endpoint and maybe where you see that program going?

Marc Hedrick

The data that came up today represents roughly a small number of patients, but as you will find when you review the data, the data is quite strong in an uncontrolled single arm study. The number of patients that have scleroderma in the US that have hand-related condition is on the order of about 70,000 patients. If you distill that down to those that have hyperdisease that can likely be treated, it's likely the majority of that group of patients. So when we're talking about different sizes of markets, it's not one of your biggest size of markets. However, the treatments for the (technical difficulty) train running downhill under steam of autoimmune disease that creates incapacitation of the digits and near complete loss of hand function. And it really is an unmet medical need. There're not good treatments for it. And there're even some autoimmune therapies that run up over $100,000 for extreme cases.

So furthermore, there is the opportunity to extrapolate the data to a broader group of patients that have something called Raynaud's phenomena where the hands change color largely related to cold and they have disability of pain related to that. So just to sum it all up, the core disease is not big. The ability to penetrate that not so big market though is good, because it's an unmet medical need. And then there're opportunities to expand beyond that specific indication.

Jason McCarthy - Maxim Group

And just turning back to Japan really quick, assuming you do get approved as a medical device, are there any thoughts about moving into the BPH market, as it is relatively large in Japan?

Marc Hedrick

It is complicated and you got all these different regulatory approvals all around the world and there is a lot of flux. But currently in Japan, we are approved. We have a Class 1 approval. The challenge has been that there's been something called the stem cell guidelines that's been superimposed over the market, which is now gone, but it really clouded our ability to sell into that market despite our approval, because we had to do six to nine months of paperwork and get different approvals in the Japanese government, so like a Meg IRB to be able to treat even one patient. And that's really over the last years diminished our ability to sell.

That's now gone. The new Regenerative Medicine Law is meant to substitute it for that. But we do have an approval as a device. And our goal ideally is that after the Regenerative Medicine Law, we are still regulated as a device, but we've lost that overhang of the stem cell guideline where we had to do this lengthy process to treat even one patient.


Your next question comes from the line of Yale Jen with Laidlaw & Company.

Yale Jen - Laidlaw & Company

The first one is up for the ATHENA study. As you mentioned that the procedure seems to take a longer time and that could be one of the reasons there. So would that be the possibility that going forward, you might shorten the procedure and maybe that's one possible options to mitigate that potential problem?

Marc Hedrick

Yes, it is. I can't say time is not necessarily proportional to problems, but what happens during that time is. And so even though the bad harvest may be very brief, you could have a very long procedure in terms of heart mapping in NOGA and then delivery. Patients can get dehydrated. Their fluid management is tough on these patients anyway. Plus they're in a lot of mediations. They can miss a dose. Puts stress on a patient, changes their catacolone level and so forth. And so the aggregate of all that stuff that goes on during that day can just create stress for the patient and predispose them to different complications.

So are there ways that we can lower the time, improve the medical management, tighten the protocol up in terms of their anticoagulation medications? We do have a pretty tight protocol there, but we can't control specifically doctors and what they do or don't do. They can sometimes not follow the protocol. So there're things we can do to tighten that up. And then can we provide opportunities within the protocol to ensure that the patients are fully hydrated, that they're getting their medications? And more of this can (inaudible) often time you take for granted a trial like this. We are not. We're going to focus on those kinds of things. And I think that will help strengthen the trial and make the procedure safer overall.

Yale Jen - Laidlaw & Company

So potentially modifying the procedure or the process a little bit to some extent, would that affect for example the data to be read going forward with the patient that the patients already complete a study with different protocol changes? Would that have an impact on the data per se? And also, given you partially unblended the data, would that impact the statistical powering?

Marc Hedrick

In this case, it was a limited unblind. And we know very little about the patients rather than the things I mentioned to you. So that won't affect the powering of the study in the alpha. So regarding the ability of the data once it's unblinded or if we were to make changes in the protocol, should it make any different whatsoever? Patients are going to get the same therapy, same randomization. They're going to get the same studies pre-op and post-op and it shouldn't affect the ability whatsoever.

Yale Jen - Laidlaw & Company

The $3.6 million recognized revenue, would that potentially booked in the third quarter or could be spread in the two quarters for the remainder of the year?

Marc Hedrick

I would look at that more spread out over the year. I think there's pressure on some of these companies or on interested customers to wait for the Regenerative Medicine Law. So some of these can wait till the end of the year. And I think some of these could go ahead and be in the third quarter rev rec customers.

Yale Jen - Laidlaw & Company

It looks like that this quarter, the margin was a little bit steep compared to prior quarters. Would that be more like a one-time near-term event or that's something that could have a little bit longer term impact in terms of margin?

Mark Saad

The gross margin does vary based on product mix and it's only where we sell through the (inaudible). However there is a critical mass factor. And just by adding the manufacturing infrastructure with the labor, a bit of a hurdle. Any facility we have with people that are experts in making this technology, you can't bring them in, they're there, they're fixed. And you really do need to have a certain amount of manufacturing to get the natural efficiency and the scale that you could normally seek to have.

So at the levels that we're at, we're not benefiting from any of that scale. You're really just covering the base cost of the fixed overhead. Now as mentioned, we're looking to reduce the future overhead hurdle rate. And I think some facility opportunities will be in play over the next year. But as of now and consistent with the past, we really need to see the revenues get to $1 million, $1.5 million and $1.75 million to really see more of the traditional margin. And then when we have headquarters where we've had more, you see the gross margin go up quite a bit and we've 70% gross margin quarters when we do get a bit of a taste of that figure number.

But when you're down at this level, you're just basically covering the fixed overhead and you're not seeing the gross margin as you would upon achievement of the revenue that the company is seeking.


Your next question comes from the line of Graham Tanaka with Tanaka Capital.

Graham Tanaka - Tanaka Capital

Just on the ATHENA trials, what amount of time will be needed to rectify or adjust either the protocol or what you'd have to do to make sure you can get re-enrolled properly, how many months are we talking about, cost and what could it be in terms of the changed protocols?

Marc Hedrick

I alluded to a little bit in my comments. And in terms of modeling this out, trying to project that's important. We received some questions back, good points that the FDA made in terms of looking at some of the things we've been talking about today. I think we can get answers back in two to four weeks. And then if we're happy with that information, we can go ahead and submit back to the FDA. They have a 30-day turnaround. And then if they take that, then we can go back to our IRB right way. Some IRBs can be very quick. Some can take a couple of months of six weeks, something like that. So that can give you the timeframe to being back up and running.

The problem with this is you lose momentum when you start and stop a trial like this. But there is no way around it in something like this when you do have to work out additions like these trials come up. You have to do it in the pilot phase. You don't want to do it in pivotal. So you have to fight the bullet on that.

So I would guess kind of a reasonable case scenario that assuming we can get back up and running very quickly, there is a lot of interest in the investigators to get back up and running. It might take about six months then to complete ATHENA I.

Graham Tanaka - Tanaka Capital

And just out of curiously, what in terms of probability in the near similar trials or similar studies with different therapies in this field, what kind of probabilities are there that there would be these adverse events similar to the kinds you saw?

Marc Hedrick

Well, I won't say 100%. But it's very high. And it kind of depends on what's the physiology of these patients and what their comorbidities are and so forth. But it does so happen that in this trial, they're stroke prone, they're sick, they've got a bad heart, they're on multiple medications. And it is expected complication that's in the protocol. It's in the inform consent that these patients can have cerebrovascular issues, worsening of their heart failure and renal failure, whole complement of different things. And these patients die at 20% per year anyway by virtue of just being six cardiovascular patients. It's a little bit higher in some of these patients that have atrial fibrillation that are on Coumadin. And then you have to bridge them from an IV medication to oral and so forth, or oral to IV during the procedure. And so there're subsegments within this that have a higher tendency to have problems like this than other patients. But in the aggregate, it's high and it's expected.

I think the question is when you see them or when you see two and you have a third that's a little suspicious, you're obligated to stop, look and make sure that your therapeutic is not causing the problem.

Graham Tanaka - Tanaka Capital

What was the total number of patients that were tested?

Marc Hedrick

ATHENA I and II in total were 31 patients. And in aggregate, I believe it's about 90 patients with cardiovascular disease that we've treated over the course of several feasibility and Phase II trials.

Graham Tanaka - Tanaka Capital

You're saying it's unblended, so you don't know what pool they're in, these three?

Marc Hedrick

We did a limited unblinding through our VMC and unblended the ones that had this particular adverse event. And it was a mixture of patients that had cells and placebo. So it wasn't one of the other. And if we break down, I'm told it was roughly the same as the patient allocation, two to one. So we do know in a limited way unblinding, but we have an unblended to study generally.

Graham Tanaka - Tanaka Capital

So what is the risk of, based on what you're seeing that this could slow down any other trials or efforts you have in a sense that you may want to have to pause and just put on hold any of the other studies? Or is this totally separated?

Marc Hedrick

I would say it's totally separate from a biologic perspective. This is very unique, the sick population. Some ways, we haven't had any safety related issues other than things are out delivery and integrating the overall procedure and years. And so we've kind of come to take that for granted frankly. Not that we're not always looking at it and it's not first we kind of take it for granted and lo and behold we do have an issue. I think that we just want to make sure that our other studies, other trials, other partners understand that this is very specific to this issue. We don't see any of these issues in other trials or other clinical experience, which is now several thousand patients and we would absolutely know about this if there was a general issue.


Our last question comes from the line of Dan Trang with Stonegate Securities.

Dan Trang - Stonegate Securities

All my questions have been answered. Thank you.

Marc Hedrick

First of all, just thanks to everyone for being on the call, taking time this afternoon and this evening, for thoughtful questions and interest in the company and technology. We really do. Since the last quarter, our focus has narrowed further. Our expenses have been reduced and are being reduced. And we have several important forthcoming milestones ahead of us over the next couple of quarters.

I can tell you that our team, although smaller, is high there and more fully committed to creating a path for shareholder value than they've ever been. And my goal is to continue to work with the team and create that sense that we're not only here to help patients, but we're here to drive shareholder value. We got a lot of work ahead of us, but we're willing to work hard and make that a reality. And I'll do my best to communicate as frequently and as clearly as I'm able along the way.

So once again, thanks for your support and have a good evening.


Thank you. This does conclude today's teleconference. Please disconnect your lines at this time and have a wonderful day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to All other use is prohibited.


If you have any additional questions about our online transcripts, please contact us at: Thank you!