Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)

Cynosure, Inc. (NASDAQ:CYNO)

Q2 2008 Earnings Call Transcript

July 29, 2008 9:00 am ET

Executives

Scott Solomon - VP of Sharon Merrill Associates

Mike Davin - President and CEO

Tim Baker - EVP and CFO

Analysts

Eli Kammerman - Cowen

Anthony Vendetti - Maxim Group

Isaac Ro - Leerink Swann

Dalton Chandler - Needham & Company

Andy Schopick - Nutmeg Securities

Josh Shines - Jefferies & Company

Peter Bye - Jefferies & Company

Bill McGullen - Tiatin Capital Management

Hasan Shallon - Maxim Group

Yami Ogencoi - Citigroup

Operator

Good day everyone, and welcome to Cynosure's second quarter 2008 conference call. Today's call is being recorded. There will be an opportunity for questions and comments after the prepared remarks. Today's question-and-answer session will be conducted electronically. (Operator Instructions) At this time, for opening remarks and introductions, I'd like to turn the call over to Mr. Scott Solomon, Vice President of Sharon Merrill Associates. Please go ahead, sir.

Scott Solomon

Good morning, everyone. With me on today's call are Cynosure President and Chief Executive Officer Mike Davin and Executive Vice President and Chief Financial Officer Tim Baker.

We'll begin today's call with Mike providing the highlights of Cynosure's second quarter 2008 results and an overview of the Company's growth strategy. Tim will take you through the financials, after which management will take your questions.

Before we begin, please note that various remarks management makes on this conference call about Cynosure's future expectations, plans, and prospects constitute forward-looking statements for purposes of the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve risks and uncertainties, and actual results may differ materially from those indicated by such forward-looking statements as a result of various important factors, including those discussed in the Company's Annual Report filed with the Securities and Exchange Commission on Form 10-K for the year ended December 31, 2007 and subsequent reports filed with the SEC. These filings can be accessed from the Investor section of Cynosure's website at www.cynosure.com.

In addition, any forward-looking statements represent the Company's views as of today, July 29, 2008. These statements should not be relied upon as representing the Company's views as of any subsequent date. While Cynosure may elect to update forward-looking statements at some point in the future, the Company specifically disclaims any obligation to do so.

With that, I'll turn the call over to Mike Davin. Mike?

Mike Davin

Thank you, Scott. Good morning, everyone, and thank you for joining us for our Q2 conference call. Cynosure reported another strong quarter, posting revenue of $39.2 million and expanding our gross profit margin to 67%, both records for our Company.

Looking at a couple of other financial milestones, we have been a reporting public company for 11 quarters, and Q2 marks our 11th consecutive quarter of revenue growth, our 7th straight quarter of profitability, and our 6th quarter in a row with positive cash flow from operations. Cynosure's success is fueled by an outstanding direct sales force in North America, combined with a broad feature-rich line-up of products that is the most advanced in the aesthetic industry.

Our report suggest that the economic slowdown affected pricing among some companies in the aesthetic industry, average selling prices across our product line remained strong in Q2, helping to drive a 30% increase in the top line and generate a 380-basis-point improvement in gross profit margin.

We continue to see strong growth and significant revenue contribution from our Smartlipo LaserBodySculpting platform, our Elite Hair Removal Workstation, as well as our Affirm Anti-Aging Workstation. The disposable of component of the Affirm and Smartlipo business continues to grow, and we expect this trend to continue in the quarters ahead.

We are also pleased with the performance of the Accolade, our new flagship Q-switched Alexandrite laser for the removal of pigmented lesions, which we launched in the first quarter.

The revenue attributed from Accolade for the first quarter was slightly ahead of expectations, and we are excited about the potential of this platform. As we announced in May, the Accolade received South Korean marketing approval, and we are now pursuing approvals in additional Asian-Pacific markets, including China.

Turning to the bottom line, net income for the second quarter grew by more than 70% to $4.7 million, or $0.36 per diluted share, from $2.7 million, or $0.21 per diluted share, for the same period in 2007.

Cynosure continues to profitably grow its share of the aesthetic laser market by selling differentiated market changing solutions for some of the industry's fastest growing applications.

In the case of Smartlipo, I believe that by being first mover in this space, we are not simply serving the market but rather building the market for laser lipolysis. By continuing to innovate and introduce new technologies since the release of our initial six-watt system in December of 2006 to our current 32-watt multi-wavelength Smartlipo MPX, we are focusing on strengthening our technology lead and widening our broad advantage over the competition.

With each successive upgrade, treatment times are reduced, producing a clear and immediate benefit to both physician and patient. The Smartlipo MPX is a faster and more powerful laser lipolysis platform aimed at plastic surgeons and dermatologists who perform a high volume of liposuction procedures.

By blending the thermal and photomechanical effects of the different wavelengths using our patented multiplex technology, Smartlipo MPX efficiently liquefies fat and tightens skin through collagen remodeling. Combining wavelengths also enhances the efficacy and safety profile of the energy being delivered.

A key differentiating feature of our Smartlipo systems is the availability of SmartSense, Cynosure's proprietary intelligent delivery system. As I mentioned on our first quarter financial results call, SmartSense ensures that the precise level of energy is delivered based on the treatment area and predetermined settings and shuts down within a fraction of a second once the motion of the hand piece stops.

The benefits of this technology are readily apparent to customers. Nearly all of the MPX workstations sold in the second quarter shipped with a SmartSense hand piece, and we understand that customers place a real value on the increased margin of safety they gain with this technology.

Just as the original Smartlipo gave Cynosure a distinct first mover advantage, the Smartlipo MPX platform has propelled us even further ahead of the competition from the standpoint of technology innovation, clinical outcomes, and patient safety.

We are very pleased with the response to our newest Smartlipo system, which we just introduced in May. Sales in the second quarter of Smartlipo MPX Workstations accounted for approximately 44% of our total Smartlipo sales, with the balance of sales coming from the 12 and 18-watt platforms, as well as upgrades.

With the recent receipt of the European CE Mark for Smartlipo MPX, we'll begin this quarter introducing the workstation into the European Union through our direct subsidiaries in France, Spain, Germany, and the United Kingdom. This rollout will be followed by a targeted launch in selected countries in the Middle East and in the Asia-Pacific region pending additional international regulatory approvals.

According to research firm Medical Insight, the global aesthetic market is forecasted to grow from $8.4 billion in 2007 to more than $15 billion in 2011, driven by applications such as body sculpting and skin tightening.

Medical Insight projects that the device category for just these two applications will more than double from $232 million in 2006 to $565 million in 2011. We believe that Smartlipo MPX puts us in a clearly defined leadership position as global consumer demand for these services continues to grow.

We continue to support our product marketing efforts with a number of scientific presentations, clinical studies, and industry forums. The recent American Society for Laser Medicine and Surgery annual meeting featured a total of six oral presentations and nine posters on Smartlipo, Smartlipo MPX, Cynergy, and Affirm.

Cynosure's technology also was well represented at the American Society for Aesthetic Plastic Surgeries' 2008 Aesthetic Meeting and the 6th World Congress of International Academy of Cosmetic Dermatology.

We expect to maintain an active pipeline of research initiatives in the coming quarters. In terms of clinical development, we have multiple research studies ongoing that we expect to result in publication of several scientific papers in the next 12 months.

We also are excited about the introduction of our recently launched Affirm CO2 Workstation, which marks our entry into ablative therapy. Using a proprietary scanning delivery system, the Affirm CO2 combines a blade of carbon dioxide resurfacing and rejuvenation and a single laser system that targets the epidermal and dermal layer of the skin to treat dyschromia, deep wrinkles, and significant photoaging.

The 30-watt Affirm CO2 laser complements our non-ablative Affirm Workstation, which delivers a treatment designed to produce progressive results in patients with fine to moderate wrinkles and sun-damaged skin with no downtime. The combination of these two systems enables Cynosure to offer customers a suite of products to treat the entire spectrum of aging conditions. Initial shipments of the Affirm CO2 will begin this quarter in North America, with plans for global distribution in 2009.

We've talked frequently about how our commitment to innovation has enabled us to generate the growth we've exhibited over the past several years. It's worth noting that through the first seven months of this year, we have introduced three new flagship products, Smartlipo MPX, Acculade, and Affirm CO2, as well as two new delivery systems, SmartSense and Affirm ER. We continue to introduce new technology that is not cannibalistic to our existing products and is targeted towards new, high-growth clinical applications.

Turning now to our sales and marketing initiatives, in the second quarter of 2008, our worldwide direct distribution accounted for 84% of laser revenue, compared with 81% in the second quarter of 2007. The increase reflects the success of our direct distribution strategy. Our direct North American sales organization totaled 77 employees at the end of Q2, including 22 surgical laser consultants focused exclusively on the Smartlipo products.

Looking at our overseas markets, on our first quarter earnings call, I mentioned that we were not satisfied with our international distribution and marketing and that we were investing aggressively to address those deficiencies.

In terms of specific initiatives, in May, we announced the appointment of Travis Lee to head up the global strategic marketing initiatives for all of our flagship products. Travis brings to us more than 20 years of senior marketing leadership with significant companies in the medical device field, including Smith and Nephew and Boston Scientific.

For the first half of this year, we have also added a number of senior level sales and marketing team members focused on markets including South and Latin America, China, Japan, France, and the United Kingdom.

This spring, we opened our second office in China, a sales and marketing office in Beijing. We feel, we have significant opportunity to grow our international business, and we are building the appropriate infrastructure to drive, as well as support, future growth.

In summary, Cynosure begins the second half of 2008 in great shape. With the launch of the Smartlipo MPX, we continue to dramatically alter the landscape of the liposuction market, and our recent CE Mark designation gives us the opportunity to bring this technology to an international audience.

Innovations such as SmartSense and MultiPlex continue to further differentiate Cynosure's technology among customers and consumers, while new flagship products, such as Accolade and Affirm CO2, open additional market opportunities and provide continued promise for the quarters ahead.

Now, let me turn the call over to Tim for the financial review.

Tim Baker

Thanks Mike and thanks again, everyone for joining us this morning. As Mike highlighted, we delivered another record revenue quarter, posting revenues of $39.2 million and GAAP diluted earnings per share of $0.36.

Laser Systems accounted for approximately 90% of our total revenue in the second quarter of 2008, compared with 88% for the same period in 2007. The increased revenue contribution from Laser Systems mainly reflects our growth in Laser revenue, driven by the contributions of our recently introduced workstations.

Laser revenue increased 32% in the second quarter of 2008 to $35.1 million from $26.6 million in the comparable period in 2007. Laser revenue from North America rose 46%, while international Laser revenue increased 8%.

Looking at our performance by region, North America accounted for 70% of total Laser revenue in the second quarter of 2008, compared with 63% in the same period in 2007, while Laser revenue from international markets was 30% of total laser revenue, compared with 37% in the same period in 2007.

The increased contribution from North America is primarily attributable to the sales of Smartlipo, which through the second quarter, we only distributed in the U.S. and Canada.

Gross profit margin for the second quarter of '08 was 67.1%, compared with 63.3% in the second quarter of 2007. The strength of our gross profit margin was attributable to strong average selling prices across our product line, a favorable product mix, and increased contribution from our direct distribution.

As previously mentioned, we ended the quarter with a 77-person North American direct sales organization, up from 66 at the beginning of the year, which is complemented by direct distribution in our subsidiaries in France, Germany, Spain, United Kingdom, China, and Japan.

Turning to our operating expenses, selling and marketing expenses were $14.1 million, or approximately 36% of revenue. These expenses reflect increased costs for the quarter associated with the launch of our Smartlipo MPX Workstation and our participation in a number of industry conferences and trade shows during the quarter.

In Q2 '07, selling and marketing expenses totaled $9.9 million, or 33% of revenue. We continue to expect selling and marketing to be in the range of 33% to 35% for the full year of 2008, which includes estimated stock-based compensation of $3.2 million.

Second quarter research and development expenses were $1.8 million, or approximately 5% of revenue for the quarter, consistent in dollars with the second quarter of 2007 but down in percentage terms versus the same period in '07, where R&D expenses were 6% of revenue. We expect R&D expenses to remain in the range of 4% to 6% in 2008, which includes estimated stock-based compensation of $1.1 million.

General and administrative expenses for the second quarter were $3.6 million, or 9% of revenue, compared with $2.9 million, or 10% of revenue, in Q2 of 2007. For 2008, we continue to model G&A expenses in the range of 9% to 11%, which includes estimated stock-based compensation of $2.7 million.

Operating income was $6.8 million, or approximately 17% of revenue in the second quarter of 2008, an increase of 51% as compared to $4.5 million, or approximately 15% of revenue for Q2 2007. This increase reflects our strong revenues and record gross margin.

Net income for the second quarter of 2008 was $4.7 million, or $0.36 per diluted share, compared with $2.7 million, or $0.21 per diluted share in Q2 of '07.

Results for the second quarter of 2008 include $1.9 million in stock-based compensation, while results for Q2 2007 include approximately $1.5 million in stock-based compensation expense.

On a non-GAAP basis, excluding the effect of stock-based compensation, income from operations increased to approximately $8.7 million, or 22% of revenue, from $6.0 million, or 20% of revenue, for the same period of 2007.

On a non-GAAP basis, excluding stock-based compensation expense of $1.9 million and using an effective tax rate of 36%, net income for the second quarter was $5.9 million, or $0.46 per diluted share. This compares with $4.2 million, or $0.33 per diluted share, in the second quarter of 2007, which excluded approximately $1.5 million stock-based compensation expense and also using an effective tax rate of 36%.

We used approximately 12.8 million and 12.7 million weighted average shares outstanding in computing earnings per diluted share for the second quarters of 2008 and 2007, respectively.

For more information on these non-GAAP financial measures, please see the table for reconciliation of GAAP results to non-GAAP measures included at the end of our earnings release. The table has more details of the GAAP financial measures that are most directly comparable to non-GAAP financial measures and the related reconciliations between these financial measures.

Turning to the balance sheet, our cash position remains strong and provides us with good financial flexibility going forward. As of June 30, 2008, cash, cash equivalents, marketable securities, and long-term investments totaled $91.5 million, an increase of approximately $5.4 million from our year end balance of $86.1 million. We generated $6.9 million in cash flow from operating activities, our sixth consecutive quarter of positive operating cash flow.

DSOs for Q2 were slightly higher this quarter at 78 days, primarily as a result of the timing related to the launch of Smartlipo MPX and an order flow that was weighted toward the second half of the quarter. We continue to have no debt other than capitalized lease obligations.

That concludes our financial review. Mike and I will be happy to take your questions.

Question-and-Answer Session

Operator

Thank you, gentlemen. We will now be conducting a question-answer session. (Operator Instructions) Our first question is coming from the line of Eli Kammerman with Cowen. Please go ahead with your question.

Eli Kammerman - Cowen

Thank you, and good morning.

Mike Davin

Morning, Eli.

Eli Kammerman - Cowen

First question is something simple. Can you give us the traditional geographic growth breakdown for North America, Europe, and Asia-Pacific and Other?

Tim Baker

Yes, Eli, basically it was that North America was up 46%, and our international products outside North America was 8% growth for the quarter. We don't have that detailed breakout at this time.

Eli Kammerman - Cowen

Okay. Next question is, is the Smartlipo MPX going to sell for the same price in Europe as it does in the U.S., or what is the price there?

Mike Davin

I mean factoring in the currency difference, yes. We're planning to sell it, it's being offered at the same list price over there. I believe its 165,000 fully loaded, and that includes the MPX feature, as well as both wavelengths and SmartSense.

Eli Kammerman - Cowen

Okay. And finally, do you expect your sales to be up sequentially in the third quarter from the second quarter?

Tim Baker

Well, I guess, Eli, historically, I mean, clearly, the third quarter is a challenging quarter internationally, but I think if you look historically, we have been able to grow through that through introductions of new products.

Mike Davin

Yes, and we have excellent momentum going into this quarter coming off of the first half of the year. And also, I think it's important to note with the MPX now being available in the international markets, as well as the launch of the Affirm CO2 domestically, those are products we're very excited about as we move into the second half.

Eli Kammerman - Cowen

Fantastic. Thanks very much.

Mike Davin

You're welcome.

Operator

Our next question is coming from the line of Anthony Vendetti with Maxim Group.

Anthony Vendetti - Maxim Group

Thanks. Good morning.

Mike Davin

Good morning, Anthony.

Anthony Vendetti - Maxim Group

In terms of sales, you're up to 77. Where do you expect to exit 2008 at in terms of a sales force?

Mike Davin

That's a good question, Anthony. We are on target based on what we had planned for in terms of in our North American distribution in terms of number of heads. We will review again with the management team this quarter additional additions to the distribution, but right now, we're on track based per the budgeted number of heads for 2008.

Anthony Vendetti - Maxim Group

Okay. And as in terms of Affirm CO2 and MPX in terms of the launch, can you talk about when in the third quarter you expect to launch these two, internationally in Affirm CO2?

Mike Davin

Well, for Affirm CO2, as I mentioned, this will be a North American product only…

Anthony Vendetti - Maxim Group

Right.

Mike Davin

...for the second half of the year, with a launch internationally in probably the first quarter, late first quarter or early second quarter 2009. We have begun the training process with our North American distribution. We have regional breakout meetings this summer. At each one of those meetings, we have a marketing team and a clinical team that is presenting on the Affirm CO2 product, and we expect that we will start seeing revenue from that product in the latter part of this quarter. I think the revenue will be light. We expect that to certainly, significantly pick up in Q4.

As far as the MPX, we began the training of the technology with our direct distribution, meaning Spain, Germany, France, with the U.K., as well as we are starting to educated over in the Far East the Japan offices. Once again, in China, we won't have a regulatory approval until next year, so we're not really educating that distribution network yet on the technology. We do expect to see revenue in Q3 from the MPX unit internationally, with that to pick up in Q4.

Anthony Vendetti - Maxim Group

Okay. So, end of Q3 internationally MPX?

Mike Davin

Yes.

Anthony Vendetti - Maxim Group

End of Q3 domestically for Affirm CO2?

Mike Davin

Correct.

Anthony Vendetti - Maxim Group

Okay. In terms of -- Tim, in terms of gross margin, although you've expected it to pretty much stabilize in the 66% range and this quarter came in over 67, and you mentioned due to favorable product mix, strong ASPs, is this something that you think is more of an anomaly, or do you think you can keep it now up at this level based on what you did this quarter?

Mike Davin

Yes, there were some things this quarter that were clearly one-time events. Clearly, we had a number of MPX upgrades in the quarter, which had some favorable gross margin variants for us. And as we've mentioned in the past, as we move our products internationally and also through our third party distribution, that will have a negative impact on margin but obviously a positive impact on our operating income. So, I wouldn't expect this continue to move forward or higher as we move more and more of our products internationally. So, again, we really expect now to see more of an impact on the operating margin line than the gross margin line.

Anthony Vendetti - Maxim Group

Okay. And Mike, can you just comment a little bit on the competitive landscape for laser lipolysis? There have been some new entrants. What are you seeing in terms of the competition?

Mike Davin

We're aware of other companies entering into the market, the laser lipolysis market. I will tell you, Anthony, that we feel with the introduction of MPX it's a significant leap in technology, even for us, in terms of the multi-wavelength system, 32 watts of power versus our straight -- single-wavelength system, which was as high as 18. Adding the 1320 wavelength has significant advantages, as well, and then MultiPlex, which is proprietary to Cynosure, and then, of course, the SmartSense delivery system. And we're not stopping there. So, I think with the introduction of the MPX platform, I think we've pulled way ahead of any of the technology that's been recently introduced to the market from our competitors.

Anthony Vendetti - Maxim Group

Okay. And then, just last question on the legal front there. Any update on the CoolTouch litigation, how much was spent this quarter, and where that's at?

Tim Baker

Yes. We are obviously continuing to move forward in that case. As we mentioned on our last call, we're still in the early stages and continue to be in the early stages of discovery. We do not have a significant amount of funds directly spent on that in this quarter and therefore, we haven't broken it out. So, it's still early in the process. We are still moving forward, but at this point, it's not been a material impact to the P&L.

Anthony Vendetti - Maxim Group

Okay, great. Thanks.

Mike Davin

Anthony, also, just on the competitive question, I think you're aware that we've also notified two other competitors that we believe infringe our IP, and there are two other competitors that have recently introduced technology to the market.

Anthony Vendetti - Maxim Group

Did you want to disclose those?

Mike Davin

No, that's not necessary.

Anthony Vendetti - Maxim Group

Okay.

Mike Davin

Thanks.

Anthony Vendetti - Maxim Group

All right, thanks.

Operator

Our next question is coming from Isaac Ro with Leerink Swann. Please go ahead with your question.

Isaac Ro - Leerink Swann

Hi guys. Thanks for taking the question.

Mike Davin

You're welcome, Isaac.

Isaac Ro - Leerink Swann

So just on laser lipo, that market, broadly speaking, how do you guys think of your market share today given your success with new introductions and the arrival of new competitors? And how do you think of that share evolving over the next 12 months?

Mike Davin

Well, as we've mentioned in past calls, Isaac, we believe, you know, we are the first mover into a new market in terms of light-based technology addressing this indication. We project somewhere around 10,000 physicians as being the addressable market, and we identify addressable market by physicians that are currently doing traditional liposuction today -- I'm sorry, that's in North America. That does not include the [OUS] markets, which is significantly larger than 10,000. We're projecting less than double-digit penetration based on where we know the installed base is today.

Other companies have recently introduced technology to the market in the last really 90 days, so I don't think that they have any significant penetration. So, we're very excited about the prospects of this business opportunity. Also, with the introduction now of the MPX, as well as still having a strong demand for our initial platform, the 12 and 18-watt system, both of which are available at SmartSense, we're very excited about the market opportunity going forward, and as I mentioned, we think it's lightly penetrated at this point in time.

Isaac Ro - Leerink Swann

Okay. And then, in our survey last quarter, we saw a slight increase in discounting among your competitors. Are you seeing any pressure on pricing at the lower end of your Smartlipo range or in other product areas?

Mike Davin

Yes, we really, as I mentioned earlier, we're still continuing to see strong ASPs across all the product lines, not just in the Smartlipo product line, and that's again one of the drivers that has continued to improve our gross margin. So, we're still able to sell the technology and not have to sell on price.

Isaac Ro - Leerink Swann

Okay. And then I think in the past, you've talked about how you're split between core and non-core docs in the quarter. How was it?

Tim Baker

The most recent quarter is 60/40 in terms of core/non-core, 60% being the non-core. So, that's been an increase for us, and clearly, as we move into the plastic surgery market and the dermatology market more with the lipo, we're seeing a shift, a little more of a shift back to the traditional market. So, it was 60/40 this quarter.

Mike Davin

We're also seeing strong interest in our Affirm platform from the core market, as well, and we expect that to continue now with the introduction of the Affirm CO2.

Isaac Ro - Leerink Swann

Okay. And then just broadly speaking, I know it's a tough thing to sort of ballpark, but you're obviously growing at a significant premium to the overall marketplace. What do you think the overall market for laser-based equipment is doing right now for a growth rate in, let's say, 2008?

Mike Davin

I don't think we're going to touch that one. We touched it once before, and that didn't work out so well, so I think we'll leave that in the trusty hands of the analysts.

Isaac Ro - Leerink Swann

Fair enough.

Mike Davin

But we do believe we're an outlier, and we're going to continue to strive to be that, on the upside.

Isaac Ro - Leerink Swann

Okay. And then, last question would be on Accolade. I think when you launched the product, you talked about getting $10 million or targeting $10 million in revenues from that product over the first 12 months. Are you still comfortable with that sort of a number, or do you think there could be some upside based on the initial demand that you're seeing?

Mike Davin

Well, as I mentioned at the beginning of the call, where we're very pleased with the first full quarter of Accolade being on the market, receiving the Korean approval was instrumental for us to grow that business, and so we're excited about getting that a little ahead of schedule. And as we mentioned, we're ahead of schedule with the first quarter number against budget, and the momentum looks good going into further quarters.

Isaac Ro - Leerink Swann

Great. Thanks a bunch.

Mike Davin

You're welcome.

Operator

Our next question is coming from the line of Dalton Chandler of Needham & Company. Please go ahead with your question.

Dalton Chandler - Needham & Company

Hi, good morning. First, I just want sure, I had a few numbers correct here because we're going through a lot of them pretty quickly. You said that 90% of the total revenue was laser systems, and within that number, 70% was North America, 30% was outside North America? Did I get that right?

Tim Baker

That's correct.

Dalton Chandler - Needham & Company

Okay. And then you said 44% of Smartlipo sales were the MPX. Was that in terms of units or in terms of dollars?

Mike Davin

Dollars for the quarter.

Dalton Chandler - Needham & Company

Okay. And 77 total employees in the U.S. marketing, sales and marketing, how many of those are quota-carrying versus management?

Mike Davin

Of the 77 North America, there are six in management plus a Vice President, so seven, I guess, in total.

Dalton Chandler - Needham & Company

Seven in management.

Mike Davin

Yes.

Dalton Chandler - Needham & Company

Okay.

Mike Davin

Remember now, that does include obviously Canada. We do have direct presence in Canada, as well.

Dalton Chandler - Needham & Company

Okay. And then, the 22 surgical sales force, are those all quota reps, or is there some management there, too?

Mike Davin

Yes. No, those were all quota reps.

Dalton Chandler - Needham & Company

Okay. And I think you had said in the past, and some others, as well, that there are roughly 9,000 physicians in the U.S. who are certified to do liposuction. Was wondering with all the, I guess this is probably one of the hottest procedures in aesthetics right now, are you seeing any movement for additional surgeons to get training in this area?

Mike Davin

Absolutely. When we say the addressable market, Dalton, is around 10,000 physicians in North America, those are physicians that we've identified that are currently doing traditional liposuction.

There is a significant interest, and we believe there will be a demand and a secondary addressable market, I don't like use for secondary because I think it could be significant looking forward, and those are physicians that are interested in bringing this application into their practice to address the removal of unwanted fat and have no experience with traditional liposuction.

So, one of the areas, we're very focused on with our clinical education department is being able to set up third-party training sites for these physicians to go and get traditional liposuction training, including the understanding of how to administer tumescent anesthesia, which is a significant component of the overall procedure. And once they've received certification for the traditional removal of unwanted fat using liposuction, traditional liposuction, then they can become candidates to acquire the technology.

Once again, that's a Cynosure mandate. I'm not sure how other companies will handle that, but we believe it's essential for the physician to understand traditional liposuction and tumescent anesthesia in order to administer this procedure to the patient safely and efficaciously.

Dalton Chandler - Needham & Company

Okay, and for those physicians who are interested in that, what sort of commitment in terms of time and dollars is required to get that certification?

Mike Davin

In terms of dollars, it's not that expensive. There is a commitment in time, and when I say that, probably we're looking to do is to direct them towards, like a one-week training program where they will physically go spend time on didactics, hands on, and actually see live surgery as it pertains to traditional liposuction and then get them certified. I mean they receive a certificate of certification that they've attended, as well as passed, the appropriate tests, et cetera, to be able to administer traditional liposuction in their practice. And once we get validation of that, then we believe they are candidates to acquire the technology.

Dalton Chandler - Needham & Company

Okay. And then just to come back to the legal issue for a minute, you said you've notified a couple of other competitors. Can you talk about what you're really looking for here? Do you want royalties from competitors? Do you want competitors to stop selling? Or how are you approaching that?

Mike Davin

You know, I don't believe we would discuss our strategy on this call, but the main thing is that we have significant IP that we are going to vigorously defend, as we've stated in the past. If there are individual companies that are introducing technology into the market that infringe upon our IP based on opinion from our counsel, then we will pursue legal action.

Dalton Chandler - Needham & Company

Okay. And I'm sorry, I have just one other question. I wanted to come back to the additional physician training. Where are you seeing the interest coming from in terms of other physician specialties?

Mike Davin

We're definitely seeing it in the OB/GYN discipline. Certainly, there are a number of dermatologists that aren't doing liposuction that are very interested in now bringing that into their practice, as you pointed out. I can't really speak to family practice or internal medicine at this time. I don't believe we're seeing an interest level there, but in terms of gynecology, whether I believe there are 35,000 of them in the United States, we're definitely seeing an interest level bringing this into their practice.

Dalton Chandler - Needham & Company

Okay. All right. Thanks a lot, guys.

Mike Davin

You're welcome, Dalton.

Operator

Our next question is coming from the line of Andy Schopick with Nutmeg Securities.

Andy Schopick - Nutmeg Securities

Thank you. Good morning.

Mike Davin

Good morning, Andy.

Andy Schopick - Nutmeg Securities

Continued strong performance of this company certainly is testament to your execution and strategy you've been pursuing. A few financial questions for Tim first, just clarification. On the cash flow, Tim, the $6.8 million, is that for the six months or for the second quarter?

Tim Baker

That's for the second quarter; $6.9 million for the second quarter.

Andy Schopick - Nutmeg Securities

$6.9 million, okay. Thank you. So that was up meaningfully from the $2.8 million or so in the first quarter?

Tim Baker

Yes.

Andy Schopick - Nutmeg Securities

Okay. The other income expense, in the second quarter, you have a negative $120,000 of expense on that other income expense line versus the 553,000 positive in the first quarter. Could you just briefly comment on what's giving rise to those numbers?

Tim Baker

Yes, that actually relates specifically to unrealized gain or losses based on foreign currency with our international subs.

Andy Schopick - Nutmeg Securities

Okay. So, it's pretty much all that tax related?

Tim Baker

Correct.

Andy Schopick - Nutmeg Securities

And lastly, the long-term investments, the ARS securities, looks like it's down from about $24 million, at March, $21 million. Do you want to give us a quick update on what's happening with those auction-rate securities, what the current unrealized loss might be?

Tim Baker

Sure. We most recently had two securities called -- be called, and the difference in that balance sheet, if you look at first quarter or second quarter, we had about $2.9 million, which we re-classed back up to current marketable securities in this quarter as it was -- we had a call on July 1, 100% par, and was paid. We were notified of that call in the second quarter by the end of June, so we re-classed that to current. We've since had a second security be called and paid full 100% in par as of July 9. So, we have had two calls since the quarter and paid 100% half par. So that number continues to come down.

Andy Schopick - Nutmeg Securities

How is this market looking? Is it starting to stabilize for auction-rate securities? Are you expecting continued recoveries/reclassifications in the second half of the year?

Tim Baker

Well, I mean you know as well as we do, there's a lot going on in that market, and there are a lot of different securities in that market. I mean we're very pleased. Obviously, we've had two called and paid at 100% par. I mean we're more pleased that we're in an operating cash position, where we're generating cash and we don't need this cash necessarily today…

Andy Schopick - Nutmeg Securities

Sure.

Tim Baker

…to drive the business. So, we're still fairly optimistic.

Andy Schopick - Nutmeg Securities

Okay. Mike, I'd like to come back to you. You may or may not be aware of this. Syneron has made a press or issued a press release this morning regarding a new marketing initiative, which they call the LipoLite Energy Access Program. It's a subscription, annual subscription, fee-based program being made available to physicians in North America that will really kind of allow them not to -- well, it'll give them the option to buy the equipment but not commit them to buying equipment. Wonder if you're aware of this. Do you have any comment on this as a potential marketing initiative that you might want to consider for yourselves?

Mike Davin

Andy, first of all, it's really not new news. When Syneron came to the market, we had heard about this model right from the get-go, so it's not -- and it may be new news in terms of a press release…

Andy Schopick - Nutmeg Securities

Yes.

Mike Davin

But it's not new news to our distribution network out in the market. We don't believe it's a model in which the physicians today that are performing this procedure, traditional or traditional liposuction will embrace. As we've mentioned, this is a very lucrative procedure in terms of the return on investment model. It's more explosive than any other model we've seen in this industry.

Now, these physicians are not customary to renting or wanting to pay as you go. It's never been a model that's been successful, especially with the plastic surgeons and the dermatologists. They would much rather buy the piece of equipment, control their own destiny going forward from the financial aspect of it, and move on. So, no, we do not anticipate introducing a model like this, nor do we believe it's a favorable model for the addressable market today.

Andy Schopick - Nutmeg Securities

All right. Thank you. Also, the planned rollout in the European Union countries for the MPX, I believe there are about 27 countries in that European Union. Are you going to be rolling out the MPX throughout all of the European Union countries?

Mike Davin

Well, as we mentioned, and once again, having a very significant kind of discipline to how we roll this technology out, just as we did in the United States, understanding the sensitivity of the technology and how important training is, we will first launch this to our direct wholly owned subsidiaries, where we have control and we can truly implement the technology in the way we feel is appropriate to the markets, and that will be the U.K., Spain, Germany, and France in Europe.

We also have the selected two, actually three now -- high-volume distributors that would be in Turkey, the Middle East, as well as in Greece that will have the rights to distribute the technology. Then, we will see now that rolls out and make sure that we're able to control the launch. And if we feel as though we are able to do that effectively, we'll look at some of the smaller-tiered distributors.

Andy Schopick - Nutmeg Securities

Okay. So, it will be a selective phased-in…

Mike Davin

Yes.

Andy Schopick - Nutmeg Securities

Launch time?

Mike Davin

Yes, absolutely, absolutely.

Andy Schopick - Nutmeg Securities

Okay. The last thing I just want to ask you to comment on is clearly you've signaled what you anticipate your OpEx expenses to look like within a range of revenue, and I don't see any indication of any kind of concern or adjustment to the OpEx spending plans.

In the event that the economy should continue to weaken worldwide and that your sales might slow down more significantly than expected, I think there's universal concern about that out there. So, do you have the ability to -- or any kind of plans in place to adjust this spending model should there be a more marked deterioration in the market?

Tim Baker

Yes, Andy, I think, clearly, we feel that we are well positioned for continued growth. I mean we have new product introductions. We have international penetration and opportunity in front of us. But clearly, if you look at our OpEx, 36% of it is sales and marketing, which is probably the most variable of our expenses. So, clearly, if we were to see things ahead of us that were not what we're seeing today, we would react to that accordingly. So, I think your answer is we are flexible, and there's a big piece of our expenses that are variable.

Andy Schopick - Nutmeg Securities

Thank you. I'll pass it along.

Mike Davin

Thank you, Andy.

Operator

Our next question is coming from Peter Bye of Jefferies & Company. Please go ahead with your question.

Josh Shines - Jefferies & Company

Hi. Good morning. This is actually [Josh Shines] in for Peter.

Mike Davin

Hi, Josh.

Josh Shines - Jefferies & Company

Thanks for taking the question. I guess my first one is international growth is obviously one of your bigger growth opportunities. You guys are at 8% growth this quarter, 5% year-over-year growth last quarter, so moving directionally forward. With the launch of Accolade, launch of Smartlipo MPX in European markets, where do you guys see that growth getting to by the end of '08 and into '09?

Mike Davin

End of '08, Josh, I don't see it being all that different from that 70/30 split. Maybe we'll see -- you know, we're hopeful that we'll see a little more traction, especially now with MPX being available in the international markets, but as I mentioned, it won't be available in all of the markets, either due to regulatory or due to selected distribution.

In '09, clearly, we want to see -- I don't want to say significant, but we want to see a change. I would like to see more towards a 65/35 split. And as I mentioned in the script, we are starting to hire high-level distribution and marketing management to help drive that goal, and certainly, we just opened the office in Beijing, and we just brought on Travis, so I believe we're starting to align the infrastructure to allow us to grow the international business, and of course, we'll have other market approvals in '09 that we don't have today, which will also assist us in that effort.

Josh Shines - Jefferies & Company

Okay. And just a quick question on just recurring revenue disposables. How much of that contributed to the GM expansion of the 67.1%, and are you guys satisfied with the level of disposable use utilization across the board?

Tim Baker

It's obviously continuing to add. I mean, as we mentioned, though, our laser revenue grew 32% for the quarter, so that's obviously a very positive thing. But in terms of the disposable stream becoming a more significant piece of the revenue pie, it's still fairly small. It's again 90% of our revenue is coming from the sales of new equipment. So, we are pleased. We are sending, continuing to see a cumulative improvement every quarter. But obviously, the upside is that our laser revenue is continuing to grow very rapidly, so it's still a small piece of our revenue.

Josh Shines - Jefferies & Company

Great. Just to get a little bit more granularity on the stability of the ASPs, can you give us an idea in terms of year-over-year just average ASP for your boxes across the board? Was there any difference?

Tim Baker

No, I think as we mentioned, we're still seeing good strong average selling prices across our whole product line and not seeing really any kind of decreases.

Peter Bye - Jefferies & Company

Tim, this is Peter. We're just trying to get maybe a little bit of sense on product mix shift, and I know you don't give a lot of granularity there, but you're just going to take your north -- average North American ASP in Q2, vis-a-vis Q1 and/or Q2 '07. Was it up, down, or flat?

Tim Baker

Its average across all products?

Peter Bye - Jefferies & Company

Yes.

Tim Baker

It would be up because of the product mix shift. If you look at it within the product streams, it would be flat or up.

Peter Bye - Jefferies & Company

Okay. And then is that flat or up sequentially, as well as year-over-year?

Tim Baker

Yes.

Peter Bye - Jefferies & Company

And can you quantify how much?

Tim Baker

No, no, not at this point. But again, we mentioned on our first quarter call, and it's still the same story now, is that we're seeing good growth and good ASPs across our main flagship products, and we talked about our Elite hair removal product, our Affirm Anti-Aging Workstation, as well as obviously Smartlipo and the laser body sculpting. So, we are seeing good strong ASPs across all our flagship products.

Peter Bye - Jefferies & Company

All right, thanks. And may be just last. And without another product introduction, how much room there do you think you have left over the next year?

Tim Baker

In terms of product ASPs increasing?

Peter Bye - Jefferies & Company

Yes, due to mixed shift.

Tim Baker

Due to mixed shift, there's still, I mean clearly, the thing with ASPs we've got to be careful of is as we move internationally into third-party distribution in there, it obviously affects ASPs.

Peter Bye - Jefferies & Company

Right. So, I mean just apples-to-apples, North America, and how much room was left -- internationally how much room left, if you were going to separate those two?

Tim Baker

Well, we still feel there's room in both markets.

Peter Bye - Jefferies & Company

All right, great. Thanks a lot, guys.

Tim Baker

You're welcome, Peter.

Operator

Our next question is coming from the line of [Bill McGullen] with [Teton Capital]. Please go ahead with your question.

Bill McGullen - Tiatin Capital Management

Thank you. That's [Tiatin] Capital Management, and we had a couple of questions. First of all, relative to the momentum that you referenced going into the third quarter, you also had said earlier in the call that your orders were weighted to the second half of the quarter. Is that really due to an acceleration of business, or was that a function of customers waiting for some reason to buy in the second half?

Tim Baker

No, Bill. What we were referring to was actually revenue and timing of shipments, and really, that related directly to the MPX, which we launched in the marketplace in the beginning of May and began shipping units commercially in June just based on product supply. So, it was more of a timing shift in revenue, not in order placements.

Bill McGullen - Tiatin Capital Management

Thank you. And then, there was a question earlier relative to competing laser lipolysis products, but would you please characterize the market's interest in some of these competing products out there?

Mike Davin

Bill, this is Michael. We're not hearing, at least from our direct distribution of our 22 Smartlipo reps or our management team, that they're seeing a demand or that competitive threats are more significant, at least in the last quarter. We do expect as these companies gain some traction that we will see that.

What I can tell you, when we've run up against some of these other competitors, because of their lack of features or innovation in their technology, the doctors were willing to move towards our system because of the premium features it offers, especially the MPX system, in terms of power, multi-wavelength, the intelligent delivery system in SmartSense and MPX. We have physicians willing to pay twice the price of the competitors' box because they realize the value added of our technology, and that's always been the case across all of our technology.

Bill McGullen - Tiatin Capital Management

Congratulations. And then, relative to Affirm, would you please breakout or give some perspective, if you would, please, on the Affirm CO2 market size and relative to the Affirm market size?

Mike Davin

Yes. We believe the Affirm CO2 market size is not as large as the non-ablative skin rejuvenation market, for a number of reasons. The provider of the ablative approach is more than likely going to be the core market physicians, meaning the dermatologists and plastic surgeons. In the United States, there are about 20,000 of them. If we look at the non-ablative platform, our Affirm Anti-Aging platform, the disciplines range from family practice to internal medicine to nurse practitioners to OB/GYN derms and plastics. So, the addressable market is much larger.

Also, when you look at patient downtime, the Affirm non-ablative system, there's minimal to no downtime. When you look at the ablative technology, there is downtime to the patient, anywhere from three to five days downtime. Even though the clinical endpoint is better and more significant, there's a percentage of the population that's just not going to want to put up with the downtime.

So, we believe it's a very nice market, the ablative market, and we do believe, at least upfront, the providers will be the dermatologists and plastic surgeons. We have an excellent system to address that indication. We also believe it will not be cannibalistic to our Affirm platform for all the different disciplines that are interested in that technology.

Bill McGullen - Tiatin Capital Management

And as time progresses, do you believe that you can reduce the downtime with the CO2, or is that just really counter to the whole concept of ablative?

Mike Davin

Yes, I think its counter, although if you look at first generations of ablative technology, now with the micro technology, micro-ablative technology, we have reduced the downtime compared to first generations of ablative. But in terms of overall, you need some level of ablation in order to get these types of results that the patients are looking for, and that inherently creates downtime.

Bill McGullen - Tiatin Capital Management

Great. Thank you, both.

Mike Davin

You're welcome, Bill.

Tim Baker

Thank you.

Operator

Our next question is coming from the line of [Hasan Shallon] with Maxim Group. Please go ahead with your question.

Hasan Shallon - Maxim Group

Morning, guys.

Mike Davin

Morning.

Hasan Shallon - Maxim Group

I just had a question about the MPX during the quarter. As far as system placements were concerned, would you say that the majority were through upgrades or new system placements?

Tim Baker

New systems.

Hasan Shallon - Maxim Group

New systems, okay. But there were definitely some upgrades during the quarter?

Tim Baker

Yes, and there were also upgrades, and we spoke earlier about upgrades for our 10 to 18-watt platform, too, so we're still selling our 18-watt systems. Very well received in the marketplace. And we still have a number of upgrades where people were still upgrading from the 6 and the 10 up to the 18-watt system.

Hasan Shallon - Maxim Group

I see. So, and correct me if I'm wrong, but I believe that I heard that gross margin was favorably impacted by MPX trade-ins? Is that correct?

Tim Baker

By the upgrades. By the upgrades, yes.

Hasan Shallon - Maxim Group

Okay. So, just as far as the accounting is concerned, I mean with the new system, when you trade in the new system, how is -- I mean do you take the system from the doctors? Do you book that to inventory? I'm just trying to get the accounting.

Tim Baker

No, the upgrades are really we referred to were the upgrades again from the 10 -- the 6 and 10 to the 18s, which are done on the existing system in the field, so there is no product swap. There is no box replacement. It's a field upgrade.

Hasan Shallon - Maxim Group

Okay, and the MPX?

Tim Baker

MPX would be a box swap, but there were not many of those.

Hasan Shallon - Maxim Group

There were not many of those?

Tim Baker

No.

Hasan Shallon - Maxim Group

All right. So, going forward with the MPX program, with the trade-in, is there the possibility of refurbishing the old platform and redistributing it somewhere else?

Tim Baker

There is, yes.

Hasan Shallon - Maxim Group

There is. And do you currently have plans for that?

Tim Baker

Yes, we do. I mean if there is a trade-in situation, we will take back an 18-watt system or a 10-watt system and refurbish it and sell it at the marketplace.

Hasan Shallon - Maxim Group

Perfect. Thanks for taking my question.

Mike Davin

You're welcome.

Operator

Our last question is coming from the line of [Yami Ogencoi] with Citigroup. Please go ahead with your question.

Yami Ogencoi - Citigroup

Hi, guys.

Mike Davin

Hi, Yami.

Tim Baker

Hi, Yami. How are you?

Yami Ogencoi - Citigroup

I'm doing all right. So, I just have a few questions for you. I know that last quarter you mentioned the Elite. I was wondering if you had any comment as to how that performed this quarter.

Mike Davin

Very well. As I mentioned earlier, we saw very strong revenue contribution and growth from our Elite hair removal product, as well as obviously the Affirm and just more lipo. So, we're still from our kind of major three flagship products, which are kind of going into the major cosmetic applications, like hair removal, anti-aging, and laser body sculpting, still contributed to see good growth and good strong average selling prices in those three groups.

Yami Ogencoi - Citigroup

Is it growth in the double-digits like you mentioned last quarter?

Tim Baker

Yes, for the first half of the year, we look at all those products, and those are all double-digit growth.

Yami Ogencoi - Citigroup

Okay. Second question is where are you in terms of the Smartlipo reps? I think you guys mentioned you planned for overall expansion of your sales force in North America, but how much of those are the surgical sales reps?

Mike Davin

As we mentioned, we have 77 employees in our direct distribution, of which Tim mentioned seven, including our VP, are management; 22 are Smartlipo reps. As we mentioned on past calls, Yami, we sit down with management every quarter to review the budgeted number of heads to add to our North American distribution and the different disciplines, whether it be the Smartlipo reps, whether it be management, whether it be our core reps. So right now, we're on track to budget, and we are looking to continue down that path.

Yami Ogencoi - Citigroup

Okay. And last question. Are there any other (inaudible) that we should look for that international expansion besides the MPX and, I guess, the continued performance of Accolade? Is there anything that you guys haven't mentioned or that I could be missing?

Mike Davin

The only thing is we have received some other approvals in markets. We had the Synergy recently approved in China.

Yami Ogencoi - Citigroup

Okay.

Mike Davin

That will open up some opportunities for us. We're adding additional third-party distribution, and as we contract those third-party partners, we will announce those going forward. But we have added a number of new distributors, so we're hopeful they'll start to see traction in the second half of the year, especially the fourth quarter.

Yami Ogencoi - Citigroup

Okay. Thanks, guys.

Mike Davin

Yes.

Operator

At this time, we've reached the end of the Q&A session. I will now turn the conference back over to Mike Davin for any closing or additional remarks.

Mike Davin

Thank you, Operator. Thank you for joining us this morning. We look forward to keeping you updated on our progress. Have a good day.

Operator

And that concludes our conference call. Thank you for joining us today.

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 www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

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

Source: Cynosure, Inc., Q2 2008 Earnings Call Transcript
This Transcript
All Transcripts