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ZELTIQ Aesthetics, Inc. (NASDAQ:ZLTQ)

Q3 2012 Earnings Call

November 07, 2012, 05:00 pm ET

Executives

Nick Laudico - The Ruth Group, IR

Mark Foley - President, CEO & Interim CFO

Analysts

Anthony Vendetti - Maxim Group

Operator

Good day ladies and gentlemen and welcome to the ZELTIQ Third Quarter 2012 Earnings Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session with instructions following at that time. (Operator Instructions) As a reminder, this conference is being recorded.

Now I’ll turn the conference over to Nick Laudico. Please begin.

Nick Laudico

Thanks operator. Joining us on the call today is Mark Foley, President and Chief Executive Officer.

Our discussion today and Q&A session will include forward-looking statements reflecting management’s current view of certain aspects of the company's future business. Forward-looking statements are denoted by words such as, will, would, believe, should, expect, outlook, estimate, plan, grow, anticipate, project, potential, schedule, forecast and similar expressions that look towards future events or performance.

Forward-looking statements are based on current information that is by its nature dynamic and subject to rapid and even abrupt changes. Forward-looking statements are subject to risks and uncertainties which may cause actual results to differ materially from those projected or implied in our statements. Such risks and uncertainties are discussed in today's press release and under the Caption Item 1A risk factors in Part 1 of our Form 10K filed with the Securities and Exchange Commission on March 15, 2012.

This conference call is the property of ZELTIQ Aesthetics and any recording or rebroadcast of this conference call is expressly prohibited without the written consent of ZELTIQ Aesthetics.

With that I would like to turn the call over to Mark Foley, President and Chief Executive Officer. Mark?

Mark Foley

Thanks Nick and good afternoon to everyone on the call. Since transitioning from interim to permanent CEO in August, my primary focus has shifted from operational efficiency to rebuilding and restructuring the senior management team. Additionally, I have been working closely with the new senior management team with the support of the Board to refine the sales and marketing and organizational strategy necessary to achieve consistent growth while maintaining our leadership position in the non-invasive fat reduction category. I have been pleased with the progress that we have made on these fronts in a relatively short period of time. We now need to translate that progress into consistent financial performance.

In Q3, we continued to experience strong procedure growth while our system sales were lower than expected which I will discuss in more detail later in the call. We are now at the tail-end of a strategic management reorganization and upgrade of our senior management team. Our success in recruiting recognized leaders in the aesthetic field, such as Keith Sullivan as Senior Vice President of Worldwide Sales and Len DeBenedictis as Chief Technology Officer along with Mary Fisher to our Board of Directors reflects the shared confidence in our technology and its future growth potential. We are in the final stages of our management reorganization and I anticipate that we will announce a new CFO and Head of Marketing by year end.

Looking at the third quarter, revenues were $17.9 million compared to $17.7 million in Q3 last year with procedure fees representing 52.5% of revenue as compared to 25.4% in Q3 of last year. Revenues from our North America region were $13.7 million and revenues from our rest of the world region were $4.2 million. Overall, we were pleased with the ongoing procedure growth given the disruptions in the executive and senior sales management positions which we believe impacted sales force focus.

System placements were lower than expected with 106 systems sold in Q3, 2012, compared to 160 in Q2, of 2012, and 183 in Q3, 2011. Seasonality impacted system sales and comparatively was magnified by a strong system performance in Q3 of 2011, where we posted our largest quarterly system performance ever.

CoolSculpting continues to deliver consistent and predictable outcomes along with high patient satisfaction which we believe is helping to drive deeper penetration as demonstrated by multiple system purchases by existing physician partners.

Let me now breakdown our Q3 performance in more detail, provide a little more color on our major initiatives going forward and discuss why we continue to have confidence in our business model, our technology and the growth opportunity ahead.

North America represents approximately 75% of our revenues and we continue to experience solid utilization as the number of procedures almost doubled year-over-year. Our sales lead funnel of potential new accounts continues to be deep and while competition continues to be present in the market, we do not believe it had a meaningful impact on our system placements. As you know, the aesthetics industry usually sees a slowdown in procedures during July and August.

The seasonality is consistent with what we saw in the third quarter of 2011, where cycle shipped were down 8.3% sequentially, compared to the 7.8% sequential decline we saw in the third quarter of this year. One very encouraging trend was the high percentage of system placements at practices that already own a system.

Established practices continue to buy second and even third systems as they experienced rapid utilization and can quantify the economic impact CoolSculpting is having on their practices. Since our procedure does not require a physician or assistant to administer the therapy, once our applicator is attached to patient, practices are able to scale their CoolSculpting procedures without increasing their overhead. This is a unique benefit of our technology.

Outside of North America, our rest of world region is experiencing an increase in competition from knockoffs which is creating a more challenging system placement environment and pressuring end customer pricing in some markets.

Also our direct European markets did not ramp up as quickly as we expected. We remain committed to these direct markets, but believe they will take a few quarters to improve their efficiency. To better address the individualized needs to each row of geography, we have realigned the organization so that sales is now centralized under our Senior Vice President of Worldwide Sales and reports directly to the home office in Pleasanton. We will continue to maintain a sales and support office in the UK to assist our direct European organization.

Let me elaborate further on the specific steps we have taken to improve system sales. First, we hired Keith Sullivan as our SVP of Worldwide Sales. We are excited to have Keith on board and feel that he can make a meaningful difference in the way that we execute. Keith is a seasoned sales executive with more than 30 years of experience in the medical and aesthetic industry. The sales team now reports globally up to one individual and we are better aligned and strengthening our sales efforts worldwide. This includes centralized sales training, messaging, reporting and accountability.

In North America, we are prioritizing system sales for our account managers and procedure growth for our Practice Support Specialists or PSS. Due to our focus on utilization and partnering with our practices via co-op advertising and other activities, as our installed base has grown account managers have had less time to devout to new account sales. Through improved training, better defined roles and responsibilities and a compensation plan that is aligned with these objectives, we believe that we can achieve more consistent performance.

The experienced sales people we have put in place over the last few quarters are at the core of our future growth. We are extremely part of the talent was attracted and continue to build this team to better drive growth on a global basis.

In rest of the world, we split out the geographies into three distinct regions, EMEA, LATAM and APAC with each of them reporting directly into our Pleasanton headquarters. We believe this new structure will ensure more consistent branding, a unified sales message and will improve our ability to support the unique needs of each local market.

Also, we continue to actively depend our IP against knockoffs in key markets. Through a combination of legal IP enforcement and consistent branding, combined with improved focused and execution, we believe we can have more success in our international markets and better differentiate ourselves from low cost and unsafe knockoff competitors.

In addition to the improvements in sales force execution and realignments I discussed, there are three main initiatives that we have underway. First, we have increased our focus on R&D; while we believe that we have the preferred technology in the field, we feel that there is an opportunity to increase the number of areas we treat and continue to improve the way we deliver our therapy.

To that end, we recently hired Len DeBenedictis as head of R&D and Chief Technology Officer. Len, has more than 35 years of experience as an inventor, executive and technology pioneer in the medical device and technology industries. His focus will be on continued innovation and new product development.

In conjunction with Len joining the company we realigned our R&D organization and believe that these changes will enhance our ability to accelerate new product innovation and more successfully meet the needs of our customers.

Second, we are focused on increasing the number of treatments per patient through our treat-to-transformation initiative. We now have some accounts that are routinely treating patients with 8 to 12 cycles in an effort to get patients a non-invasive liposuction like results. While we are in the early stages of this initiative, we are very encouraged by the initial interest and results we are seeing.

Lastly we continue to focus on our brand building and customer awareness activities. As stated previously, we pulled back on our larger DTC efforts and refocused efforts at a more local level. We increased our co-op advertising program which allowed us to provide more localized advertising support to a broader base of our physician customers, while partnering with them in the process. We continue to learn from these efforts and are working towards the best practices model. We have been pleased with the success in these efforts and we have heard reports that CoolSculpting has brought significant numbers of new patients into practices.

We continue to be optimistic about the future potential for CoolSculpting, since we believe that we are still in the very early stages of creating this market. And while we are the market leader with over 450 procedures to date, this represents only a small fraction of the market potential. By increasing the number of areas we treat and by growing the average number of cycles that a patient receives through initiatives such as treat-to-transformation, this potential opportunity only grows.

We believe that by consistently delivering successful outcomes non-invasive fat reduction patients are likely to come back to have other areas of their body treated at a later date. To achieve this potential, we need to continue to increase our install base of systems, deliver new products to the market and continue to create product and procedure awareness in partnership with our practices and through our own efforts.

In the meantime, we continue to build economic case studies highlighting the profitability of a busy CoolSculpting system and the benefits of adding incremental systems with sufficient volume. Also we are better able to demonstrate that we are bringing new patients into their office, which have a lifetime value to the practice above and beyond CoolSculpting. We believe these case studies when presented by our sales force will ultimately drive those physicians sitting on the sidelines into the market for CoolSculpting.

Turning to utilization, we were very encouraged with the trends in the quarter. Our efforts over the last couple of quarters to drive more focus on utilization continued to bear fruit, despite the Q3 seasonality. Cycle shipped were up 74% year-over-year reflecting the impact of a more tailored and targeted local marketing approach. We continue to partner with established CoolSculpting compliant practices at the local level to deploy our advertising assets in a way that generates the best ROI via customized coop advertising programs. This utilization trend was particularly strong in North America where the volume of cycles has grown 1.4 times faster than the installed base over the past 12 months.

Some of this success is due to the continued insights we gained from our DTC test markets. Another quarter of quantifying what works has allowed us to further shape the campaign at the local level rolling out additional tools into the already established coop advertising program. This strategy has worked well as it continues to drive very strong utilization of controlled spending levels.

In North America, initiatives such as the coop advertising and our Crystal Reward Program are starting to have the beneficial impact on consumer demand even in the slower months. Our Crystal Rewards Program to which I just referred was introduced in August and is a multi tiered rewards program based on the CoolCard purchases. Programs such as these help us to establish stronger partnerships with our customers which benefits both practice and ZELTIQ.

Since announcing the Crystal Rewards Program, we have been pleased with the increased activity we believe the program has generated. With the realignment of our sales and marketing team, we're now in a better position to ensure consistency in our sales efforts in messaging on a global basis.

Also in the quarter we launched our CoolCurve+ applicator, which is our first new product introduction in two years. This applicator allows practices to treat patients with tighter curvatures and as demonstrated the ability to get better tissue capture. We plan to introduce at least one additional new applicator in the first half of 2013.

Our gross profit margin in the quarter was 66.8% compared to 58.9% in the year ago quarter and relatively flat with Q2. The year-over-year improvement reflects the shift in revenue towards consumables and our continued focus on cost reduction efforts. Operating expenses in Q3 were 17.1 million, up from 13.2 million in the prior year quarter, down significantly from the 23.2 million in the second quarter of this year.

We're pleased with our ability to drive continued strong utilization results at a reduced sequential spend level, lowering our overall cost to generate incremental consumable revenues through supporting key local market and dedicated CoolSculpting physicians. Debt reduction in partially due to holding back on some of our marketing spends, where we get the team and strategy fully in place.

Going in to 2013, we’ll have a better sense of how and where we want to allocate our full marketing budget, and we will invest in additional spending is necessary. Our net loss in the third quarter was 5.2 million, compared to 2.0 million in the prior year quarter. On a sequential basis, we narrowed the loss from 8.1 million in the second quarter, despite the lower revenues which reflects cost reduction efforts and reduced more practical marketing spend.

Net loss attributable to common stockholders for the third quarter of 2012 was $0.15 per share compared to $3.17 per share in the third quarter of 2011 and $0.24 per share in the second quarter of 2012. Weighted average diluted shares outstanding for the third quarter of 2012, third quarter of 2011 and second quarter of 2012 were 35.1 million, 1.4 million and 34.3 million respectively. As of September 30, 2012, we had 66.9 million in cash, cash equivalents and investments compared to 70.9 million at June 30, 2012 and 75.3 million as of March 31, 2012.

Rather than review the financial statement by line item, I hope I have given you some good color on the drivers behind our performance and the plan we have in place to drive higher sales growth. We continue to believe that CoolSculpting is and will continue to be a treatment of choice for non-evasive fat reduction. We are pleased with the progress we have made in strengthening our organization within the short time frame and look forward to delivering improved results in the future.

As you all are aware we have not reestablished guidance for 2012, due to the amount of management change and number of recent hires my focus is to get them up to speed in Q4 so that we can give 2013 guidance in conjunction with our year-end financial results.

With that I would like to turn it over for questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) First question is from Ben Andrew from William Blair. Your line is open.

Unidentified Analyst

Actually (inaudible) for Ben today. And thanks for taking my question. I guess, I will jump right into it. You guys had your sales and marketing spend your SG&A and then R&D were down sequentially, was there already vacancy expectation versus just tightening about or is there anything really that we should be reading into the connectivity between the sales and marketing spend and revenue growth going forward?

Mark Foley

I mean, again as I mentioned early I think really more that disruption in the channel with all of the change that drove it. Again we were pleased with our performance in terms of the numbers of procedures that we performed. It was really more initiative around system placements, and again we believe that with the sales force getting fully engaged and up to speed and realigning sort of their focused that we can deliver on it. The pullback on some of the spend was really to make sure that we got a good handle on the ROI, and we’ve fairly been pretty successful on deploying call DTC assets with the local level to our coop advertising, so there is nothing else to read into that.

Unidentified Analyst

I guess on coop usage how many of those customers were part of the program and have you done anything to really send more that usage going forward?

Mark Foley

We just rolled that up this quarter, so its really early right now. About half of our customers qualified for the program the way that it stands today. I would imagine that this will be a program that we continue to tweak and optimize, as we have learned how to best deploy it. But there is some significant incentives in there for our customers. It can impact sort of where they get listed on the practice locator, it can lead to sort of discounts on cards. So there are meaningful incentives in there for them to partner in this program.

Unidentified Analyst

Okay, and then also I guess one of your competitors entered the international market as well and you guys mentioned it seems to knockoff, what has done to your ASP and what do you think that will do going forward and as well on the legal fees as you guys try to tax some of these knockoffs?

Mark Foley

So first in terms of on the ASP we haven't seen much of a change in ASP. The knockoff certainly creates the market confusion but if you look at where most of those products are being sold, they are going into a very different channel, the beauty spas and things like that. I do think for the customers that we are calling on it causes them maybe to be a little bit more cautious but I think they all realized too that patients that they are seeing in their practices tends to want to be treated by a core physician and so we haven't seen much of a change on the pricing side of that.

But its something that we do have to deal with and the way that we are going to deal with that is ongoing branding and highlighting the differences since a lot of the knockoff competitors don't have things such as freeze detect which means that patients getting treated by knockoffs are at risk for skin burns that can be pretty significant and we are aware that that's definitely happening out in the marketplace. And so as we look to go forward on the legal side of it, we will be selective, we will continue to battle and spend dollars in those markets that we think are going to bear the greatest return for us and we talked last quarter about the action that we have going on in Spain and so we are fighting that battle and we will continue to selectively invest in those things that make sense.

Unidentified Analyst

But it’s nothing material in terms of the cost on the litigation side?

Mark Foley

Correct.

Unidentified Analyst

And then one last one for me and I'll let someone else jump in, have you guys ever broken out how much revenue has come from the northeast and the impact of Sandy on the business? Thanks.

Mark Foley

We have not broken out by geography within the US. We would expect that there will be some impact but we are not breaking that out.

Operator

Our next question is from Bill Plovanic of Canaccord Genuity. Your line is open.

Unidentified Analyst

Great thanks; this is actually Kyle in for Bill. Just a couple of questions here, so first of all, I think the previous question kind of got into some of the competition, I wanted to see if you, your competitor recently launched in the market you know utilizing more RF type technology, I wanted to see one, have you seen any impact from that and two, do you expect to see any impact as we moving forward into the full launch?

Mark Foley

I think anytime probably the competitor comes into the market there's going to be some PR activity or awareness that can sort of increase consumer interest around that particular technology. But we find that that sort of settles out over a quarter or two. As we stated, we don't believe that competitive activity had a meaningful impact on system placements. We believe that this market is still very big if we look at our lead funnel, we have a lot of accounts that we believe are potential candidates for our technology and so I'm sure the technology you are talking about here with CoolSculp I'm sure they are doing a good job of leveraging their relationships and looking to place systems into those accounts but we are not seeing that meaningfully impact sort of what we need to do to be successful in terms of placing systems and driving utilization.

Unidentified Analyst

And then just the disruption as far as sales force focus in the quarter for management turnover, is that something you expect to just be just localized to Q3 or is that something we can expect to be, you know leak over into the fourth quarter and 2013?

Mark Foley

Yeah, I mean, I like to say when into Q4 but you know, if you look at Keith, he joined in early October and we're in the final stages of bringing on a new marketing head and they’re going to need to get up to speed and fully engaged and while I think we’ve put the right things in place to be successful going forward, I think it be unreasonable not to expect that there is still going to be a little bit more adjustment in Q4 with Keith coming on board and with new marketing leadership coming on board.

Unidentified Analyst

And can you remind us of which territories you are directing internationally and then also if you can, can you break out the [box] placements to US versus ROW ever?

Mark Foley

Sure. We're direct in UK, France, Germany and Spain and our box placements are roughly 60% US, 40% ROW.

Unidentified Analyst

And one more long-term may be strategy focus. Now, as you look at the portfolio, are you more interested in building out a full portfolio with multiple different product lines or going deeper and leveraging the existing technology into new applications even outside of body contour and body sculpting? And that’s it for me, thank you.

Mark Foley

Yeah, I don't know that we sort of fully baked or thinking on that. I think what we do believe is right now I think that there is a lot more opportunity to go deeper with what we have. It's certainly possible that we will look to add to that with other either inorganic or organic efforts but, right now we do believe that there is an ability to continue to take our core technology and treat more areas on the body and find better ways to treat what we are doing today. But, we will continue to find [tune] that as we go forward.

Operator

Thank you. Our next question is from (inaudible) of Goldman Sachs. Your line is open.

Unidentified Analyst

Just sort of from a modeling perspective, I was wondering if you could talk a little bit more about the R&D line, it looks like it dropped pretty significantly and I know you have some new products coming up, so I was wondering if you could give us little bit more color how to model that going forward?

Mark Foley

Yeah, unfortunately Cameron I don’t know that we are in a position to give a lot more clarity on it right now. I think that’s going to be more of a 2013 other than to say that we are going to continue to invest and that we do believe that we have some opportunities to expand our product offering.

Unidentified Analyst

Okay. And then just along those lines with that product offering I was wondering if you talk about when sort of the timeline would be for these like treat to transform and things like that to make a significant impact on average cycles?

Mark Foley

We are already seeing some drift up in our average cycles per patient and again this is more anecdotal, we haven’t been sort of a full analysis in the field organization and frankly we don’t have it down to that level of detail. But anecdotally our practices are telling us that they are starting to treat more cycles or get patients more cycles to get a more significant result. So this whole treatment to transformation was just starting to pilot it right now with a couple of practices to get feedback and I would imagine that will be something that we will allow to our field organization in a more formal way in the first half of 2013.

Unidentified Analyst

Okay. And then I guess just one last one, going back sort of your rest of the world, can you talk a little more about your marketing strategy rest of the world sort of where you are focusing your efforts is it sort of local like you are doing in the like the US more or is it more of a overall marketing campaign? Thanks.

Mark Foley

Sure, so part of the reason we went direct in Europe is we do believe that to control the branding and to partner with practices that it was going to be necessary for us to go direct to have the kind of impact that we wanted. As we mentioned that the direct markets in Europe would take them longer to come up to speed. And so we are continuing to look at what we are doing well in the US in terms of the practice partnership and co-op and we are looking to roll that out into these direct markets in Europe and we think that will have also similar positive effect and so we are working our way through that.

In terms of the other geographies everything else outside of those direct markets is supported by distributors. And so what we are doing with our distributors is working with them and showing them what’s working for us and I would expect that we will do a combination of some co-op advertising, some overall direct advertising in on our side of it and then we will rollout program as like treat to transformation and maybe even something along that rewards program that we have in the US to create more of a partnership with the practices there.

Operator

Thank you. (Operator Instructions) Next question is from Anthony Vendetti of Maxim Group. Your line is open.

Anthony Vendetti - Maxim Group

Thank you. I was wondering if you can talk a little bit about the R&D program that Len is on board, is it changing at all or are you looking to develop new applicators or new products and if you could talk about the timeline for releasing any new applicators or new products in 2013?

Mark Foley

Sure, yeah, so I think that, we’ve talked previously about some bigger broader initiatives such as (inaudible) where that would be sort of our next indication or new area for us to go. And so we will continue to do some pilot work in that area. So I would say subtle shift has been rather than just put out one or two new applicators and then move on to some larger potential opportunity that's not as well defined. We believe that there is again opportunities to treat broader areas on the body and so part of what Len has focused on is how do we take this core technology and more broadly treat fat on the body. And so its subtle but important difference I think.

In terms of new applicators again we will bring out another new applicator in the first half of 2013. Again this is on the heels of the CoolCurve Plus and as we get into 2013 and as we get guidance we will talk a little bit more about some of these other initiatives that we have going, but you know Len’s got a lot of experience in the aesthetics space and has a really good appreciation for how tissue reacts to different energy modalities and we believe he can really help drive sort of our new product and hopefully leadership position in that going forward.

Operator

Thank you. This ends the Q&A portion of today's conference. I would like to turn the call over to management for any closing remarks.

Mark Foley

Good. Thank you everyone for your time this afternoon and feel free to reach out to us directly if you have any follow-up questions.

Operator

Ladies and gentlemen thank you for your participation in today's conference. This concludes the program. You may now disconnect and have a wonderful day.

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