Invitae's (NVTA) CEO Randy Scott on Q3 2016 Results - Earnings Call Transcript

InVitae Corp (NYSE:NVTA) Q3 2016 Results Earnings Conference Call November 8, 2016 4:45 PM ET

Executives

Katherine Stueland - Head of Commercialization and Investor Relations

Sean George - President, Co-Founder, Chief Operating Officer, Director

Lee Bendekgey - Chief Financial Officer, General Counsel, Secretary

Randy Scott - Chairman of the Board, Chief Executive Officer

Analysts

Doug Schenkel - Cowen and Company

Steve Wheen - JPMorgan

Aurko Joshi - William Blair

Raymond Myers - Benchmark

Operator

Good afternoon. My name is Jody and I will be your conference operator today. At this time, I would like to welcome everyone to the InVitae's third quarter 2016 financial results conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions]. Thank you.

Katherine Stueland, you may begin your conference.

Katherine Stueland

Thanks Jody and good afternoon everyone. Thank you for joining us for our third quarter earnings call. Joining us today is Randy Scott, our Chairman and CEO, Sean George, our President and COO, Lee Bendekgey, our CFO and Dr. Robert Nussbaum, our Chief Medical Officer.

Before we begin, I would like to remind you that various remarks that we make on this call that are not historical, including those about our future financial and operating results, our plans and prospects, the focus of our business strategy, market opportunities, future products, services, our product pipeline and the timing thereof, demand for and reimbursement of our services and our investment in our infrastructure and operations constitute forward-looking statements within the meaning of the Safe Harbor provisions of the Private Securities Litigation Reform Act.

We refer you to our 10-Q for the quarter ended June 30, 2016, in particular to the section titled Risk Factors, for additional information on factors that could cause actual results to differ materially from our current expectations. These forward-looking statements speak only as of the date hereof and we disclaim any obligation to update them.

With that, I will turn the call over to Sean.

Sean George

Thanks Katherine. This quarter marks our eighth consecutive quarter of solid execution against the four metrics we have used to measure progress in bringing genetics into mainstream medical care. We reduced our COGS to $450, substantially below our year-end goal and ahead of schedule. We expanded our content, adding capabilities across all disease areas and building upon our best-in-class oncology STAT panel for surgical cases. We grew volume over 200% versus last year and added three major national payer contracts since our last quarterly call. We are now billing at an annualized run rate approaching $70 million and growing rapidly.

Our 35 sales reps have faced nearly 1,000 competitive reps on a daily basis and yet we have quickly taken market share. We are winning that share with a more efficient commercial strategy, providing a great product at a great price with great service and turnaround time. We have consistently driven our oncology volume at threefold annual growth rate and now we see our new offerings in cardio, neuro and other disease areas growing more than fivefold annually. We have, in a very short period of time, contracted with Medicare, Aetna, Humana, United Healthcare and another major national payer among others, ramping up from approximately five million covered lives earlier this year to more than 160 million, giving us a clear path for predictable revenue growth along with our volume growth over the next year.

This quarter represents a turning point for us as we leverage our infrastructure to continue expanding the market and rapidly take share, increase our revenues and continue to lower cost. Over the next two years, you will see us emerge from the disruptive concept bringing genetics into mainstream medicine into a rapidly growing business generating positive cash flow by the end of 2018. Lee will walk you through our financial results and a new set of business metrics we will be following in greater detail.

Lee Bendekgey

Thanks Sean. Over the past eight quarters, you have heard us talk about our four key metrics COGS, content, volume and reimbursement. Now that we have established payer contracts to provide confidence in our ability to generate positive cash flows from our testing business, we will be focusing increasingly on a new set of metrics, which include revenue and average revenue per test assuming a 90 day payment lag, way volume, average cost per sample, gross margins, non-COGS related operating expenses and change in cash position. We will be using these new metrics moving forward, but in the meantime I will review our performance in the third quarter.

In terms of volume, we accessioned over 15,500 commercial samples and delivered approximately 15,200 billable reports. This represents an annual growth rate of more than 200% and quarter-over-quarter growth rate of approximately 25%. As for revenue, the total billable value of tests delivered in Q3 was $16.6 million. Our revenue in the quarter was approximately $6.3 million, an increase of nearly 190% over the same quarter last year. Our revenue growth this quarter was reduced by the process of bringing our new payer contracts into operation. As we implement new contracts in the quarter, including Aetna and some of the regional blues plans, we held much of our Q3 claims, thereby reducing our cash collections.

As I mentioned on our last call, when we sign new payer contracts, they can take some time to load our contracted rates into their payment systems. This delay, coupled with the need to implement payer specific coding and other terms into our billing systems, can result in delays of one to two quarters before we begin to see revenues reflecting the new payer relationship. For this reason, we mentioned last quarter that revenue will be somewhat lumpy in the next few quarters, particularly in light of the pace at which we are signing new payer contracts. Of course, this also means that by the middle of next year, we expect the collectibility of our insurance claims, which amount to about 70% of our business, to improve significantly.

Under Generally Accepted Accounting Principles, our revenues are stated largely on a cash basis while our cost of goods sold are reflected on an accrual basis as samples are processed in our lab. This can make it difficult for investors to measure our progress towards our goal of 50% gross margin, since most of our revenue is collected between 60 and 90 days after our invoice date. For this reason, one rough way of measuring our average revenue per test report is to assume 90 days sales outstanding and divide the current quarter's revenue by the past quarters volume of billable tests delivered. This calculation yields an average selling price per test report of around $525 in Q3, which is within the range that we have seen for approximately the last 18 months. As we implement our new payer contracts, we expect to see this number improve significantly over the coming quarters.

As for COGS, in the third quarter our average cost per test report was approximately $450, an improvement of about 10% from the prior quarter. The increase in our collections, coupled with continued reductions in our average cost per test report, enabled us to continue our progress towards our goal of positive gross profits by the end of this year, despite continued growth in volume on a quarter-over-quarter basis. As you can see from this slide, we improved our gross margin per test by about 14% in the third quarter and while we do not expect progress on cash collections or COGS reduction to be linear, the continuation of the trend shown here would allow us to generate gross profits in Q4, a key milestone in our progress toward positive cash flow by the end of 2018.

In the third quarter, we incurred operating expenses, excluding the cost of tests delivered, of $23.9 million of which about 24% were general and administrative expenses, 48% were research and development expenses and 24% were commercial expenses. As was the case last quarter, our non-COGS related operating expenses in Q3 were flat when compared to Q2, despite continued strong growth across all of our key metrics. This continues the trend that we have seen over the last several quarters as you can see from this slide. We believe that our ability to control these expenses tightly while continuing our dramatic growth, illustrates the operating leverage we are beginning to enjoy from our infrastructure investments. As we continue to reduce our average COGS per test and improve payments, this leverage should allow us to drive toward positive cash flow as we scale our business.

As of September 30, 2016, our cash, cash equivalents, restricted cash and marketable securities had a total value of $71.4 million. This represents a reduction of $18.8 million as compared to the end of Q2. Now that we have concluded contracts with a critical mass of third-party payers, we are confident that we can build a genetic testing business that will generate positive cash flows. The issue now before us is whether we drive toward positive cash flow with our current resources or invest in an expanded commercial effort to achieve the larger scale and ultimate returns of the infrastructure we build is capable of delivering. In either case, we plan to continue to focus on limiting growth in operating expenses, driving down our COGS, growing volume and driving revenue. These will be the keys to generate positive gross margins in reaching the inflection point in which the scale of our business enables us to drive toward positive cash flow. We emphasize the goal of achieving positive cash flow because we believe that this accomplishment rather than GAAP profits will enable us to fuel continued growth and investment in our business as we drive to make the use of comprehensive genetic information part of mainstream medical practice for billions of people.

I will now turn it over to Randy to close out our call.

Randy Scott

Thanks Lee. For the last several years, Invitae has been focused on driving down the cost of genetic testing, expanding our content, driving volume and improving reimbursement in that order. With our recently announced progress in contracting with the top payers, covering over 160 million lives, we are now shifting our emphasis to driving revenue and volume as a top priority. In my experience, the pace at which we have converted payers in the last several months is unprecedented and reflects a transition in the industry to a more modern billing and pricing system. We will be working diligently to operationalize these new payer contracts and expect the average payment per test to increase significantly once the contracts are fully operational and collections become routine.

Furthermore, we are seeing increasing evidence that payers are proactively pushing competitors to either match our prices or move out of network, effectively leveling the playing field. Many payers have been quite vocal in their expectations for us to convert volume for more expensive competitors. As we execute on these contracts, we expect significantly higher payment rates across all disease areas.

It's been a year of amazing growth. Our cancer volume has roughly tripled in the last year and our non-cancer volume has grown by roughly fivefold in the first full year since we launched our expanded content. This non-cancer growth rate is very similar to what we saw in our cancer volume in 2014 and is now on track to follow in the footsteps of the cancer business with rapid growth for many years to come. It is particularly encouraging that the payment rates we are seeing in our non-cancer business are currently higher than our cancer business because of the high rate of institutional orders, especially from children's hospitals for pediatrics and neurology.

In the short-term, we expect to more than double volume in 2017, led again by our cancer program and then double volume again in 2018 as the new product areas expand. Within five years, we believe that each of these new business areas, cardiology, neurology, pediatrics and proactive health will be equal or greater in size to the current cancer genetics market and that the entire genetic testing market will grow to between five to 10 million individuals per year, with Invitae leading the way in content, price and market share. In 2016, we also began to generate revenue from our genome network activities with our first pharma collaborations which we expect to grow steadily in the future as we greatly expand the number of patients and physicians in our network.

We are rapidly building the reputation for being one of the leading providers of low cost genetic testing for rare diseases, which is key to identifying patients for new targeted therapies. Our early work with MyoKardia, Parion and a handful of others has given us optimism that we will be able to leverage our testing investment into a viable genome network business. While this is a small part of our story today, we see it as a valuable service for our clients that will in turn contribute to our testing business allowing us to drive growth, attract more partners and further drive down costs in the process.

Within two to three years, we also expect the proactive health market in which we provide medically relevant genetic information to help the individuals and their physicians to be a substantial growth opportunity. In addition to our own efforts in proactive health, we recently announced that Invitae will collaborate with Helix to offer some of the first health apps for the Helix marketplace. The Invitae apps will be designed to provide healthy individuals with a proactive genetic health scan focused on risk factors for common diseases for which there are preventive measures available. Historically, genetic testing has only been available for high risk or symptomatic patients. Yet we know that many individuals caring pathogenic variants do not have adequate family history to qualify for testing, but are still at risk for disease. We also expect that the Helix marketplace will increase awareness and help us to identify individuals who thought they were low risk, but are actually high risk for whom an Invitae diagnostic test would be appropriate, enhancing our core genetic testing business as well. With our growing sales and marketing expertise in the medical community and Helix's consumer marketing platform, we will be able to expand our brand across the genetics marketplace, always with a physician involved.

Invitae is no longer a concept story, but a company with what we believe is the fastest growing market share in the genetic testing industry and a clear path to becoming cash flow positive by 2018. If we execute on our plans for 2017, we expect that our core cancer genetics franchise should be cash flow positive within the next 12 to 18 months and the entire business, including our more recent investments in cardiovascular disease, neurology, pediatric genetics and proactive health should be cash flow positive by the end of 2018. It's been a long hard road to reach where we are today. It's taken more investment and required more complex problem-solving to deliver what we believe to be the highest quality genetic testing for the market across multiple disease areas and over 1,000 genes than we would have imagined five years ago. Nonetheless, our goal of aggregating the world's genetic tests into a single low cost platform has captivated our customers and payers alike and we believe our future is the brightest it's ever been. With a strong reimbursement base now in place, we are ready to shift into a new era of revenue growth and push forward in our drive to bring genetic information to over a billion people in modern healthcare systems.

With that, I will now turn the call over to the operator for Q&A.

Question-and-Answer Session

Operator

[Operator Instructions]. Your first question comes from the line of Doug Schenkel of Cowen and Company. Your in line is open.

Doug Schenkel

Okay. Thank you for taking the questions and good afternoon. Maybe to start with a on COGS. In the quarters you reached your target of getting under $500 per report. That was the goal for fiscal 2016. This is a pretty meaningful improvement quarter-to-quarter. It does seem like you are a little bit ahead of plan there. With that in mind, could you just comment on how much further you think you can go from here, either over the next few quarters or maybe between now and the end of fiscal 2017?

Randy Scott

Yes. We don't plan to give specific guidance right now. We will be looking at that next year. But I think you will see and I will let Sean take it here in a second, but we are pretty excited about where COGS is going in the future. We do not feel like we are reaching the bottom of COGS. In fact, we think we have significant lowering of COGS yet to come.

But Sean, you want to talk about some of the things that your organization is doing to drive that?

Sean George

Right. So look, I mean as we have in the past, we will continue working on the sample preparation. We have got some improvements coming on the line that should increase our relative throughput, reducing the absolute sequencing cost. And of course, continued investment in the medical interpretation infrastructure. We continue to be bullish on our ability to lower COGS. I think we have got some more to go this year. And as Randy mentioned, we will line up 2017 as we get closer to that with some rough expectations there. But we see plenty of room to go and we continue to invest in doing so.

Randy Scott

We do still have a fair amount of fixed costs as well that just volume alone will continue to help drive COGS lower. So needless to say, we are pretty excited about the future there.

Doug Schenkel

Okay. Great. And then on volumes, I am just wondering if we should expect any transitory impact on volumes, given you have brought so many payers in network concurrently over the last few months? Sometimes when that happens, there are some volumes that don't get done because they fall outside reimbursement guidelines. I ask this in part one, because you have added a lot of payers recently which has been great, but also because I may have missed in your prepared remarks whether or not you reiterated your guidance for 50,000 to 70,000 tests for the year?

Randy Scott

Yes. So we are not changing guidance at all. It's the same that it's always been. I will say that we have been growing so rapidly over the last year or so that we aren't seeing any effects, partly because the overall growth in our business right now in a payer specific manner, we certainly do see a little bit of that on the revenue side. As you get into contract with payer, there is a slowdown as we hold billings to get all of the details of the contract work through both the payer system and our system. So we don't really expect to see much impact on volume there, but you will see some lumpiness in revenue because of that.

Doug Schenkel

Okay. And last one for me. Lee, you rattled through a lot of the new metrics which we should use to assess your progress moving forward. What I might have missed in there was whether or not our revenue was one of them? Given the progress made on volumes and now the progress you are making on payers, which has been pretty significant over the last few months, should we be expecting more specific revenue guidance in the quarters ahead?

Lee Bendekgey

So Doug, I will try to rattle a little less quickly in the future. Revenue was definitely a metric, both in the aggregate as well as we are trying to get people using a kind of an assumed 90 day lag, a feel for how we are doing on a per test basis. So there are definitely revenue metrics. In terms of revenue guidance, that's something we are thinking of, but we will be thinking about for next year and early next year. Probably on our year-end call, we will give 2017 guidance and at that point we will fill you in on where we think we land on how much forward-looking granularity we expect to give on guidance.

Doug Schenkel

Okay. That's great. Thanks for taking all the questions.

Randy Scott

Sure.

Operator

Your next question comes from the line of Tycho Peterson with JPMorgan. Your line is open.

Steve Wheen

Hi guys. This is Steve Wheen, on for Tycho. Thanks for taking my questions. First and I apologize if I missed this, but would you be able to give us some sense of what percentage your current test volume is in oncology? How fast that segment grew in the quarter? And can you talk about what type of an initial reception you have seen for your new STAT panel?

Randy Scott

Sure. So in general, 75% to 80% of our business is in oncology. We have seen the non-oncology growing significantly over the course of the last year, as we call on more and more accounts in that space. So we are really excited about the future there.

Lee, do you want to?

Lee Bendekgey

Yes. Just to give you a little bit more granularity on last quarter, about 12,000 of the tests reports delivered were oncology and about 3,200 were outside of oncology.

Steve Wheen

Got it. And then on the new Helix collaboration, is there any color you can give on how the absolute price relative to your current test price is? What the revenue sharing will look like with Helix? Is it correct to assume that collaboration of revenue from it will be accretive to gross margins?

Randy Scott

Yes. So as always, we will target pricing and we haven't formalized pricing other than identifying that we would expect the pricing to be in the $200 and below range for the Helix platform apps where we would be providing the medical interpretation off of the sequence that's run at Helix. So we look at that as an opportunity for a profitable business to the broad consumer markets. We will require a physician to finalize the order for each patient, but we are really excited about the opportunity that it brings us to expand our brand into the broader marketplace.

Lee Bendekgey

And just to add, although we don't really have a good feel for what volumes will be next year, we would expect it to generate positive gross margins from the get-go.

Steve Wheen

Got it. And then finally, just final pricing on 81432. Obviously, it seemed like a positive outcome for you guys. Randy, can you give us your updated thoughts on how the [indiscernible] if final and now that the pricing is final, do you anticipate seeing that's being a little more aggressive than looking to move labs that are currently build under the more expensive legacy codes over to this new code? Thanks.

Randy Scott

Yes. So first of all, we are very pleased to see the $925 pricing from CMS. That was right in line with what we had recommended to CMS and what we think the fair market price is now. I will comment, I can't speak specifically to CMS or the experiences all though the various different labs, but we certainly are noticing a strong trend within all of our payers towards now observing the prices and the marketplace are coming down and the push to move other higher-priced companies down into the price range that we are helping to set. So we absolutely expect that price pressure to continue as the market normalize around the new pricing structure.

Steve Wheen

Got it. That's all it for me. Thanks guys.

Operator

Your next question comes from the line of Amanda Murphy, William Blair. Your line is open.

Aurko Joshi

Hi. This is Aurko, in for Amanda. You had mentioned earlier in the call that you had over 1,000 competitive field reps that your sales reps were going up against. I was wondering if you could add more color to that as to what is being said about your products in the marketplace? And as you are thinking share, do you think this is sustainable share gain that you expect to maintain in the next coming quarters as well?

Sean George

Well, sure. I will take that. And again, the 1,000 we are talking about it, we are talking not just one company, but across the companies selling all of disease areas that we are currently and beginning to enter into. And as both Lee and Randy have pointed out, we expect to be doubling volume here for a couple of years coming now. So we do expect to continue to take this kind of share. We think our view of the market is that each one of the disease areas is a very large market and all of them are growing rapidly and given our value proposition we do not expect to be slowing down for the foreseeable future. So we expect to continue to keep going.

Randy Scott

Yes. And I will just add that we really feel like exorbitant prices have really restricted the use of genetic testing over the years and so we lead with one the highest quality products on the market, but at much lower prices. And we think that's having a significant impact. And even though our sales force is small, it's been growing. So we have added a number of reps this year. The markets are expanding, for example, broadening into prostate cancer. And significantly our move now is in in-network provider payers, we think will have a significant long-term positive impact on volume growth. And the non-cancer market is really starting to heat up and take off as well. So all those factors, I think, we feel confident that the sales growth is going to continue for some time.

Aurko Joshi

Thanks for the color. I just wanted to jump over to the specifications for the cardio, neuro, pediatric and proactive health test volume that you alluded to for two to three years. I was wondering what the cadence of that is expected to look like in terms of volume coming online with non-cancer contributions?

Randy Scott

Yes. We think that a possible way to look at it and it's hard when you are growing this fast, but if you look at the volumes that we are seeing today, it fairly mimics what we saw in 2014, in the first year after we launched our cancer test volume. We are seeing very, very similar growth rates in the non-cancer survey areas. And so as we look at those marketplaces, we see enormous opportunity in pediatric genetics, in neurology, in cardiovascular, you can think of cancer and cardiovascular disease is the two largest killers in the U.S. and very few people know anything about their inherited risk for those diseases. And of course you have millions of individuals who are interested in being more proactive about their healthcare. They historically didn't have access to genetic information because it was extremely expensive and only available in rare cases of symptomatic disease or extreme cases of family history.

So I think all of those combined to make the opportunity for the non-cancer markets quite substantial. And this is probably an area where we are much more aggressive and I think feel much more strongly about this than some of the analysts and competitors out there in the marketplace. But we see enormous opportunity for low prices to open up new markets where I think other people characterize markets based on $3,000, $5,000, $10,000, $20,000 prices. It's been quite crazy in terms of what we hear from payers of what's been charged in some of these fields. And when you can provide a really high quality test that's less than $1,000, I think it changes the mindset there.

Aurko Joshi

Well, thank you.

Operator

Your next question comes from the line of Raymond Myers, Benchmark. Your line is open.

Raymond Myers

Thank you for taking the questions. Let me ask about your comments about the payers being vocal in converting from higher-priced competitors to Invitae. What tools or leverage can you pull to make that happen?

Randy Scott

Sure. So one is in the payer communications. Obviously, they are encouraging us to market in-network. In some cases, payers will provide what's described in the industry as leakage reports of the physicians who are using out-of-network providers because they would prefer that their in-network providers actually market to those people and make sure they are aware that there is risks of not getting paid out-of-network or high patient co-pays. And so we are actually quite pleased because we knew that we are being brought in-network because of the quality of our tests and the price structure. But we never quite knew if we would start to see payers actually moving other higher cost providers out-of-network and encouraging us to be able to go after that marketplace. And we are certainly seeing and you are seeing that reflected in newsletters at some of the state use plans and others. So I think this represents an exciting opportunity for us and really begins to help level the playing field.

Raymond Myers

Yes. That it does. Clarify for me whether the recent managed-care contracting wins would be considered exclusive in-network? Or are you being added in-network side-by-side with your competition?

Randy Scott

Yes. Always non-exclusive. In effect, we really actively encourage payers not to go exclusive because I think it's just not healthy for the overall economy. All we ask is to be able to compete in marketplace with a great quality product with the great price and fast turnaround times and we are confident that our messaging can win over market share. So in every case we are going in non-exclusively and I think it makes sense for payers to have multiple providers. What doesn't make sense is for payers to have some providers paying three times more per test that's now clearly a generic and expanding multiple laboratories.

Raymond Myers

Yes. It makes sense. Let me ask next about the 75% to 80% of your business, you said, was oncology and then that's split out to 12,000 reports of oncology and 3,200 reports for outside oncology. Does the revenue, the recognized revenue contribution from those two sides of the business, are they relatively proportional? Or do you collect more cash on the business outside of oncology, because that might be faster collection?

Sean George

The differences are not enormous. In fact we are getting slightly better payments on the non-oncology test because of a higher portion of them are billed directly to the ordering institution, hospital lab and such. And so actually, on average, the non-oncology is getting paid slightly better. But it's not that much different.

Raymond Myers

Okay. Good. That's kind of what I thought. Did you say what billed charges were in the third quarter? I couldn't find it in the 10-Q?

Lee Bendekgey

Yes. It was $16.6 million for Q3 was the billable value of tests delivered.

Raymond Myers

Great. And then last question, see if you can help me to do this, but can you help us understand what proportion of billed charges go to an in-network status in each of the last three quarters? Meaning in Q2, what proportion of your bill charges was gone to in-network status? How many more in Q3? And how many more do you expect in Q4 based on contracts which you have already signed?

Lee Bendekgey

Yes. So I think what the way you should think about it is that before Q3, essentially very close to zero was in-network. Starting towards the end of Q2 and into Q3, we began getting paid regularly by Medicare, though that was at the $622 rate and it's really not until Q4 that you will see the earliest of our national payers, probably starting with Aetna, begin to come online. And you can map percentages. I think the percentage of the total covered lives that each of them have under in their policyholder base are publicly available and you can assume that as a percentage of our volume, their covered lives represent a proportionate percent. So you can probably model it that way.

Raymond Myers

Great. And then since the contracts you have signed so far, which is most of the biggest now in the country as of December, would we expect that your revenue collections will be on a normalized basis by Q2 2017? Or would we have to wait for Q3 17?

Lee Bendekgey

I think you will see steady progress. We hope you will see steady progress in Q4, Q1, Q2. It may take until Q3. We are working really hard on operationalizing these contracts, but in some ways, we are victims of our own good fortune. We have signed so many up, that we are racing hard to get them all operationalized.

Raymond Myers

Yes. Good. Congratulations on that and thank you.

Lee Bendekgey

Thank you.

Operator

There are no further questions at this time. I will turn the call back over to Katherine Stueland for closing remarks.

Katherine Stueland

Great. Thank you everyone for joining us. We look forward to catching up with you over the next few weeks in our upcoming conferences. Have a great rest of your day. Bye, bye.

Operator

This concludes today's conference call. You may now disconnect.