Outset Medical, Inc. (NASDAQ:OM) Q1 2024 Earnings Call Transcript May 8, 2024
Outset Medical, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Good day and thank you for standing by. Welcome to the Outset Medical Q1 2024 Earnings Conference Call. At this time, all participants are in a listen-only mode. After speakers’ presentation, there will be a question-and-answer session. [Operator Instructions]. Please be advised that today’s conference is being recorded. And I would like to turn the conference over to your speaker today, Jim Mazzola, Head of Investor Relations. Please go ahead.
Jim Mazzola: Okay. Thank you, and good afternoon, everyone. Welcome to our first quarter 2024 earnings call. Here with me today are Leslie Trigg, Chair and Chief Executive Officer; and Nabeel Ahmed, Chief Financial Officer. We issued a news release after the close of market today, which can be found on the Investor pages of outsetmedical.com. This call is being recorded and will be archived on the Investors section of our website. It is our intent that all forward-looking statements made during today’s call will be protected under the Private Securities Litigation Reform Act of 1995. These statements relate to expectations or predictions of future events are based on our current estimates and various assumptions and involve material risks and uncertainties that could cause actual results or events to materially differ from those anticipated or implied.
Outset assumes no obligation to update these statements. For a list and description of the risks and uncertainties associated with our business, please refer to Risk Factors section of Outset’s public filings with the SEC, including our latest annual and quarterly reports. One quick note before we get started, Nabeel is feeling a bit under the weather today, so I’m going to cover the financial section in our prepared remarks. Nabeel is here with us and will handle Q&A as normal. So with that, let me turn the call over to Leslie.
Leslie Trigg: Thanks, Jim. Good afternoon, everyone, and thank you for joining us. With our most challenging recent headwind now behind us with the FDA clearance of TabloCart, demand for Tablo that has never been higher 12 consecutive quarters of gross margin expansion, a strong recurring revenue model that represents more than 50% of our total revenue, tipping point adoption in the acute, strong home growth with an industry-leading patient retention rate, and significant decisive steps now taken toward reaching cash flow breakeven without needing additional capital Outset’s outlook and conviction and its future has never been stronger. Earlier this week, we announced the receipt of FDA clearance for TabloCart with prefiltration ahead of our guidance for clearance during the second half of the year.
I want to thank the incredible cross-functional team here at Outset that accomplished this milestone. TabloCart provides another unique differentiator to Tablo ecosystem, and we look forward to the impact we expect it will have during the remainder of the year. In terms of quarterly performance, we delivered revenue of $28.2 million in the quarter, which was lighter than we had originally anticipated due primarily to ongoing headwinds from the TabloCart ship hold and some associated orders again being postponed out of the quarter. With the clearance of TabloCart, this factor is now behind us. Additionally, several customers experienced disruption from the change healthcare cyberattack, which slowed reimbursement payments and resulted in several of our customers deferring both treatment and console purchases until their cash flow normalized.
We believe this factor is now behind us as well as evidenced by treatment ordering in April rebounding to expected levels. Taking a step back over the past quarter, we reflected on the complete alignment between our desire and that of shareholders to reach cash flow breakeven more quickly and with the cash already on hand. And as a result, we took action. We understood a meaningful restructuring of the business, which we anticipate will reduce our cash use through 2027 by over $100 million and reduce our 2024 non-GAAP OpEx by roughly $20 million. As a result, we expect to reach our profitability goals sooner than previously projected and without the need to access the capital markets to get there. Importantly, our cost reductions were carefully planned to protect two key goals, one, continuing to meet or exceed the expectations of patients and customers; and two, achieving our long-term revenue and gross margin expansion guidance.
To be very clear, we do not anticipate the restructuring to have an impact on our near-term or long-term ability to grow revenue and expand gross margin. In fact, we believe our ability to exceed our gross margin goals, as we have today will continue to play an important role in our path to profitability. Headcount reductions, CapEx, and associated program spending in R&D comprise the largest portion of the savings. Prior to making this decision, we were investing heavily in hardware and software engineering projects with long development time horizons. Given Tablo’s already deep and wide proprietary technology moat, we are refocusing our dollars and energy on penetrating our $11 billion U.S. market opportunity with the Tablo we enjoy today.
We are not sacrificing projects required for longer-term growth, but rather pacing those programs to more closely match the longer timeline in which we believe they will be important to our product and technology leads. Additionally, we examined ways to reduce management bans and layers where it did not affect the customer experience and revisited plans to expand over time internationally, determining that our focus over the long range plan period should remain in the largest dialysis market in the world, the United States. As a result of our restructuring, we expect to reach cash flow breakeven several quarters ahead of our prior estimate without the need to access the capital market prior to reaching breakeven. At a high level, we continue to see patients and providers benefiting from the differentiated clinical, operational, and financial advantages Tablo can deliver.
Our moat is wide and deep, with proprietary in-sourcing know-how, a differentiated technology platform, actionable data, EMR, interoperability, service excellence and regulatory experience through our successful clearance of nine 510(k)s during the past nine years. As a result, the universe of providers and patients experiencing the advantages Tablo can provide continues to grow. We also generated additional momentum with skilled nursing and subacute providers and grew an already record pipeline of opportunities in the acute care setting. We believe this momentum sets us up well for a strong year and supports the confidence we have in our financial guidance for 2024. On the operational front, our efforts to replace the silicone tubing in Tablo console with PCBA free material is substantially complete.
Looking ahead, we are in the process of completing one additional field action near-term to upgrade TabloCart prefill. We are proud of our collaboration with FDA across the Board and look forward to continuing our partnership with them. As we look at progress in our end markets beginning in the acute care setting, our focus on enterprise, selling, and dialysis in-sourcing has continued to elevate the financial benefits and strategic importance of Tablo to provide our customers. Even with the first quarter being historically lighter for new console placements, we made good progress expanding within health systems we landed in 2023 and continue to build and advance our pipeline of opportunities nationwide. More than 60% of our acute pipeline consists of deals greater than $1 million each, and more than half of our total acute pipeline represents new potential customers.
One of our key new customer wins during the quarter was with a hospital in the Southwest associated with a large health system. Like many other customers, this provider was facing increased costs and inadequate service levels from its outsourced dialysis provider and wanted to take charge of their dialysis program. In partnership with the hospital’s Chief Financial Officer and Chief Nursing Officer, our team was able to demonstrate the compelling financial, clinical, and operational advantages of an in-source program with Tablo, which resulted in an early termination of their contract with the outsource provider. Several of these consoles are equipped with our Tablo PRO+ software for use in the ICU, which continues to have a strong attach rate across consoles shipped in the acute setting and this customer is also taking advantage of our bridge program to assist with their rapid program stand up.
The summary here is we continue to feel very good about the opportunity and our momentum with acute care customers. We forecasted a softer first half of the year as we managed through an elongated sales cycle and worked towards 510(k) clearance of TabloCart with prefiltration and that’s how the quarter played out and with TabloCart now cleared for sale, we continue to anticipate growing into our guidance range as we move through the year. As we have grown and built scale, particularly in the acute setting, our recurring revenue business model continues to distinguish itself, anchor our guidance for the future, and support our drive to profitability. Turning now to the home end market. Our progress in the quarter was highlighted by the multi-year agreement we completed with U.S. Renal Care.
We talked on previous calls about our two tiered home penetration strategy, which entails partnering with progressive mid-size dialysis organizations and working upstream to create greater channel access for patients by expanding the universe of healthcare providers offering home dialysis. U.S. Renal Care is the largest of the progressive MDO and committed to accelerating home dialysis with Tablo. Our initial home programs with U.S. Renal Care have been very successful and our early direct-to-consumer marketing has revealed strong interest in many other areas of the country previously underserved by viable home hemodialysis options. We also see an opportunity to help patients transitioning from peritoneal dialysis. PDE related infections are a major cause of dropout for patients who initially chose home dialysis.
Creating a seamless transition from PDE to HHD enables patients to maintain the control they enjoy at home, where many report a higher quality of life. Advances we are making with home providers are driven by the fundamental differences Tablo can provide for their patients. For example, during the quarter, we continue to see our already strong patient retention rates continue to improve. Patient retention has been the Achilles heel of the incumbent home HemoSystem and the prior attempt to keep patients dialyzing at home. Our most recent data shows that 90%-plus of patients who dialyze at home with Tablo remain on treatment at 90 days. This is a nearly 40% improvement over the 90-day retention rate for the legacy home HemoSystems as cited in the last USRDS report.
Additionally, we continue to see controllable attrition of patients on Tablo remaining in the low-single-digits, which we believe to be well below historical data. For home dialysis to work patients, caregivers, providers, and payers all need a technology that is easier to set up to maintain and to treat on. And this is exactly what Tablo delivers. In terms of our efforts to increase channel access and expand the provider universe, we added a new provider of size in the Midwest, a strategic regional MDO in the Northwest, and several new home-only providers. Our top of the funnel progress in Q1 also included ongoing expansion within one of the largest and fastest growing subacute providers serving more than 60 facilities in the U.S. This provider partners with skilled nursing facilities to offer on-site dialysis treatment to residents, which delivers substantial benefits to the SNF operator by reducing the risk and expense associated with transportation to an outsourced dialysis clinic.
More importantly, this approach can provide a life changing benefit to residents, who often spend 8 to 10 hours a day being transported to a clinic, waiting to dialyze, treating and then finally returning home, often missing meals, medications, other therapies and adequate rest as a consequence. After our initial rollout with this provider early last year, the program has grown significantly and now includes more than 200 Tablo consoles with the potential to continue to grow substantially during the next several years. Importantly, this new model for dialysis reflects a broader trend of providers seeking to enhance patient care by offering in-house and home dialysis services. Our results across home, acute, and subacute continue to highlight the strength of our recurring revenue, which increased 24% over the first quarter of 2023, driven by consumable sales to a larger and growing fleet of Tablo consoles and a very high renewal rate for Tablo service contracts.
This recurring revenue stream continues to provide us with visibility into a large portion of our 2024 and longer-term financial guidance. As a reminder, Tablo’s in the home generate roughly $15,000 per year through their useful life. Tablo’s in the acute setting generate roughly $20,000 per year as there are more treatments performed on each device in the hospital than with a single patient at home. Before I turn the call over to Jim, I’d like to reiterate a few key points about the quarter. First, we understand the importance of execution this year and remain confident in our plan. The foundation is in place to grow through the year with the return of TabloCart, the continued expansion we see in our pipeline, the success we’ve had with new home providers, and the strong adoption of Tablo within our large base of acute care customers.
Second, our entire team is focused on the drive to profitability. We demonstrated that commitment through 12 quarters of consecutive gross margin expansion to the 31.1% non-GAAP gross margin we reported today. In addition to the operating leverage we are demonstrating and the actions we took this quarter that we believe will lead us to reach cash flow breakeven, several quarters ahead of schedule, and without the need for additional capital. And finally, the business model remains strong and our value proposition compelling. We’ve made the investments in hardware, software, analytics, manufacturing and a nationwide service infrastructure that all scale well as we grow this business. With recurring revenue now consistently exceeding 50% of total revenue and gross margin continuing to expand, I am more confident than ever of the value we can deliver to providers, patients, and shareholders well into the future.
With that, I’ll turn it over to Jim.
Jim Mazzola: Thanks, Leslie. Hello everyone. Revenue for the first quarter was $28.2 million, while below our expectations; revenue was aligned with the quarterly build for 2024 that we guided to during the third and fourth quarter 2023 calls. The decrease was driven by a decline in product revenue, which was $20.4 million in the first quarter, a $2.5 million decrease from the fourth quarter. Service and other revenue increased $7.7 million, up slightly from the $7.6 million we recorded in the fourth quarter. Console revenue was $9.2 million and consumable revenue was $11.2 million. As Leslie has already discussed, we believe the drivers of this shortfall relative to our expectations, the impact of the TabloCart regulatory hold and the change healthcare cyberattack are now behind us.
We were encouraged to see our console ASP remain strong across all care settings as a result of our disciplined pricing and strong uptake of Tablo PRO+ offering with the two customers. Following the end of the quarter, we saw a strong April month for treatment sales and cartridge utilization over time continues to perform in line with our expectations. Before moving to gross margin and operating expenses, I want to highlight the initiative we undertook during the quarter to restructure our 2024 and longer-term spending budgets with the goal of reaching cash flow breakeven without the need for additional capital. Included in our GAAP results is a net charge of $2.5 million that we took in the first quarter associated with the restructuring. This charge is comprised of severance and related benefits offset by the reversal of bonus accruals related to impacted individuals.
We have outlined the impact of this charge across our P&L in the tables that accompany our earnings release. I encourage you to review the reconciliation of GAAP to non-GAAP measures, which can be found in today’s earnings release. Now, moving to our first quarter gross margin and operating expenses, which as a reminder reflect our non-GAAP results. Our first quarter gross margin outperformed our expectations at 31.1%, a more than 4 percentage point sequential improvement from the fourth quarter and a more than 10 percentage point increase from the first quarter of 2023. Gross margin expanded for the 12th consecutive quarter, driven by a nearly 350 basis point sequential quarter expansion in product gross margin to 39.8% that was partially offset by service and other gross margin of 8%.
As expected, service and other gross margin expanded in the first quarter due to investments that we made in the fourth quarter and have previously described. Operating expenses of $35 million declined 4% as compared to the fourth quarter and 16% from the prior year period, driven by the expense reductions we undertook in the fourth quarter. Non-GAAP net loss in the first quarter was $29.3 million or $0.57 per share, slightly lower than last quarter, and $6.1 million, or $0.15 per share less than the first quarter of 2023. We ended the quarter with approximately $230 million in cash, cash equivalents, short-term investments and restricted cash, which we expect to fund operations to cash flow breakeven. Turning now to our outlook for the full year 2024 we are reaffirming our revenue and gross margin guidance today.
Starting with revenue, we continue to expect a range of $145 million to $153 million. As TabloCart comes back online, we do anticipate some ramp time to reengage on customer opportunities, revise contracts and schedule installations. As a result, we anticipate Q2 revenue to be in the low-$30 million range with the full benefit of TabloCart’s return and the lapping of the elongated sales cycle coming in the third and fourth quarters. Our strong and growing recurring revenue stream provides us a lot of confidence to achieving this second half ramp. With roughly 50% of second half revenue expected to come from recurring revenue, the remainder of second half revenue would require console sales to be roughly in line with quarterly console revenue just prior to the TabloCart ship hold, which we believe is achievable, particularly given the substantial growth in our acute and subacute pipeline during Q1.
Turning to gross margin, with our continued gross margin outperformance, we have increased conviction in our guidance for 2024 non-GAAP gross margin. For the full year, we expect gross margin to be in the low-30% range exiting the year in the mid-30% range for the fourth quarter of 2024. Again, gross margin expansion is driven by console cost down programs, recurring revenue from a larger installed base and service leverage. Turning to OpEx for 2024, as a result of the actions we have announced today, we now anticipate that OpEx for 2024 will be $125 million to $130 million. And finally, our long-term guidance, with our strong value proposition across two large end markets, our wide competitive moat, and our broad integrated offering of products and service, we expect annual revenue in the high-teens between 2025 and 2027.
We continue to expect that our ability to expand gross margin on an annual basis will be linear from our 2024 exit goal of mid-30% to our 2027 exit goal of 50%. We plan to invest in our cost down programs for both console and cartridge, and we continue to see recurring revenue growth and service leverage. We also expect that the spending cuts we’re making in 2024 will add roughly another $10 million in savings in 2025 across COGS, OpEx and CapEx. As a reminder, our business does not require large amounts of CapEx, which we expect to be in the low-single-digit million dollar range annually through 2027. We have further opportunities for even greater savings if gross margin continues to perform better than expected. As a result of our work to realign our spending and with our anticipated levels of revenue growth and gross margin expansion, we anticipate reaching cash flow breakeven several quarters earlier than previously expected without the need to raise additional capital.
The steps we’ve taken to further adjust our spending are logical and well prioritized, allowing us to continue to deliver an unmatched customer experience as we accelerate our drive to profitability. We remain bullish on the tailwinds in the business and the wide and deep moat we have established with Tablo, all of which gives us confidence in our outlook for 2024 and the longer-term. With that, I think we’re ready for Q&A. Operator, please open the lines.
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