Alphatec Holdings, Inc. (NASDAQ:ATEC) Q4 2022 Earnings Call Transcript

Alphatec Holdings, Inc. (NASDAQ:ATEC) Q4 2022 Earnings Call Transcript February 28, 2023

Operator: Good afternoon, everyone. And welcome to the webcast of ATEC’s Fourth Quarter Financial Results. We would like to remind everyone that participants on the call will make forward-looking statements. These statements are based on current expectations and are subject to uncertainties that could cause actual results to differ materially. These uncertainties are detailed in documents filed regularly with the SEC. During this call, you may hear the company refer to non-GAAP or pro forma measures. Reconciliations of non-GAAP measures to US GAAP can be found in the supplemental financial tables included in the press release, which identify and quantify all excluded items and provide management’s view of why this information is useful to investors. Leading today’s call will be ATEC’s Chairman and CEO, Pat Miles; and CFO, Todd Koning. Now, I will turn the call over to Pat Miles.

Pat Miles: Thank you, Angela. And welcome everybody to the Q4 2022 ATEC conference call. We will be providing some forward-looking statements, so please review that at your leisure. So our momentum by revolutionizing the approach to spine surgery continues. Our finish for 2022 was $351 million. We grew 44%. Over four years, we’ve grown at least 25% each year and had a 40% four year CAGR. And that comes via a year where we launched 10 new products, including our first expandable implant. We expanded lateral procedural sophistication with PTP and LTP, which includes a Midline ALIF. We drove $40 million in EOS revenue, trained greater than 500 surgeons, achieved greater than 20% growth in surgeon users and increased our access to cash and liquidity to approximately $275 million.

I believe much of our value creation is unlocked by our culture. So it is worthwhile describing who we are and who we’re not. And I will say who we are is a winning culture focused solely on spine surgery, committed to moving the field of spine forward through informatic and procedural innovation. So who are we not? I would say we’re not a division of a division. We are not a conglomerate tour, acquiring growth and disinterested in furthering technology or an implant only transaction uncommitted to the full clinical experience. Our commitments haven’t changed. We focus exclusively on spine, fulfilling unmet clinical needs through integrating technology to create predictability, that we call creating clinical distinction. And so when we create clinical distinction, we believe that we compel surgeon adoption.

When we compel surgeon adoption, we believe we have access to a more effective sales force and an expanding sales force. So our clinical distinction view is different. Our 100% spine focus allows us to invest in procedural technology that furthers the predictability of spine surgery. Around here, we have the propensity to make up words like procedure realization. At the heart of our procedure realization is lateral. We like to say, more distinctions you draw to a subject you’re more sophisticated. Lateral is a place of great sophistication at ATEC. Why would it not be, the gang who pioneered it is here. What makes a procedure predictable is removing variables, that requires designing from the ground up and applying technology where it is most required.

To be successful in lateral surgery, you must not only have automated EMGs but also automated SSEPs. It only makes sense when you start to think about lateral spine surgery would exist between the skin and the spine from lateral is soft tissue. A key part of that soft tissue is a lumbar plexus. The number one complication potential in lateral surgery is injury to the lumbar plexus. So it’s a requirement to have automated EMGs to know where the nerve is and automated SSEPS. We are the only company with those two technologies combined in a workflow that makes the information actionable. So we believe that actual information drives improved clinical decision making. Our view additionally is that experience should not stop with lateral. It is really the reason behind the informatic ecosystem that we’re building.

In that system is a standard no other company has a front, front to back standard from which to build, our opportunity to affect the operative experience through information starts with EOS. Bring that information from pre-op to plan into the operating room is really key. Judging the plan in real time in the operating room against the same image post op is the foundation for predictive analytics. The work has begun on the vision to inform better spine surgery. The opportunity for EOS is far beyond capital sales. We literally covet the information that comes out of the system. We have already spent significant time on the building of the cloud, the surgeon patient portal is in process, the automated alignment report. So when you take an image, the ability to automate the measures at the same time in real time with the image will be apparent.

Our automating the surgical planning would be based upon the — having the alignment reports immediately and then patient specific rod bending will also be availed. Our ability to reconcile that from an interoperative perspective is technology that we are in — that we’re working on today. There will also be a rep portal and that won’t slow our efforts with regard to continuing to refine our neurophysiology platform. So having an automated alignment report based upon the — based against the preoperative plan and understanding the intraoperative reconciliation is really the foundation for how the analytics will begin. So our analytics will only be patient related, but they’ll also be operational related. And so we feel like that and looking forward, the opportunity to provide these analytics is really in its inception.

And so the opportunity to go ahead and understand what type of release will be required in the spine. I think so often people require or rely upon implants to do the job of alignment, but it would be valuable to ultimately have the understanding as to what needs to be achieved, not only from a surgical perspective but from a building of lordosis perspective. And so not only will we utilize the analytics to drive our engagement in specific alignment, but also the opportunity to continue to build procedural elements beyond the core elements of the procedure. So for instance, we will have corpectomy for both lateral as well as PTP, lateral transpsoas as well as PTP, as well as we will expand the offering in the cervical realm. So we believe that creating distinction compel surgeon adoption.

As you can see, we have increased surgeon adoption by 22% growth over previous year. There is more products per category at 2.3 and we trained more than 500 surgeons. There is clear interest in what we are building here at ATEC. Additionally, the procedural thesis is working. More products per procedure reflects more surgeon buying. You can see we’ve gone from 1.5 in 2018 to 2.2 in 2022. We will be rewarded for our spine only focus. Imagine if you are a surgeon or a salesperson who has committed their entire career to spine, would you not want to deal with a company that has done the same. Our effort with regard to distribution is all focused on expanding the footprint, strategically filling in gaps and compelling new surgeon users. We are a less than 5% shareholder at this point.

Our opportunity is endless. So additionally, one of the things that you want to know is are we growing independent of adding people. And the great reflection here is that in those people who have been with us for a period of time their growth is in the 46% range of year-over-year revenue growth. And so that gives us great confidence in terms of we’re growing in the established territories as well as we are growing with regard to adding individuals. And so our real focus here is increasing the contribution from the existing team and making sure that the clinical aptitude continues to increase in the operating room. So we have a lot of work to do as we’re focused and committed to distinguish ourselves by serving the requirements of spine surgery over the long haul.

So can’t be more excited about where we are right now, but we have a heck of a big future in front of us. And with that, I’ll turn it over to Todd.

Photo by Piron Guillaume on Unsplash

Todd Koning: Thanks Pat, and good afternoon, everybody. We appreciate you joining us on the call today. I’ll begin with revenue. Fourth quarter total revenue was $106 million, reflecting 43% growth over the prior year and an 18% increase compared to the third quarter. $106 million in revenue is comprised of $91 million in surgical revenue and $15 million of EOS revenue, which grew 14% over prior year. Fourth quarter surgical revenue of $91 million increased 49% compared to the prior year. Procedural volume grew 26% in the fourth quarter with an average revenue per case expanding 18% year-over-year as revenue mix continues to shift towards procedures with more products per case and greater complexity. The average revenue per lateral procedure is about 2 times our overall average and lateral related revenue continues to grow meaningfully faster than surgical revenue overall.

And while lateral related revenue contributed the most to growth, revenue related to ALIF and biologics also continued to grow solidly in the quarter. Turning to the full year 2022. Total revenue was $351 million, reflecting 44% growth compared to 2021. That is comprised of $303 million in surgical revenue and $48 million of EOS revenue. Full year surgical revenue grew 43% compared to the prior year, driven by volume growth of 25% and average revenue per case growth of 14%. Hosting over 500 surgeon training events in 2022 field surgeon adoption and drove a 22% year-over-year increase in the number of surgeon users. As newly trained surgeons become increasingly familiar with ATEC clinical distinction and partner with us both for more cases and for more complex cases, utilization is also growing.

Walking through the remainder of the P&L. Fourth quarter non GAAP gross margin was 69%, down 120 basis points compared to the prior year. The pressure was attributable to increased EOS service costs as we continue to address the backlog of service needs created during the pandemic and an increase in our biologics attach rate, which features a meaningfully lower gross margin than our overall business. As we begin to anniversary these impacts in 2023, we expect gross margin to improve in a full year basis. Fourth quarter non-GAAP R&D was $11 million and approximately 10% of sales compared to $8 million and 10% of sales in the prior year. The increase on an absolute dollar basis was driven by continued investments to organically expand our product portfolio and advance the EOS platform.

Non-GAAP SG&A was $74 million and approximately 70% of sales in the fourth quarter compared to $59 million and 79% of sales in the prior year period. We delivered 940 basis points of improvement. Consistent with our long range plan, leverage of our SG&A infrastructure delivered about 70% of that improvement with a reduction in variable selling costs attributable to the balance. Total non-GAAP operating expenses amounted to $85 million and approximately 80% of sales in the fourth quarter compared to $66 million and 90% of sales in the prior year period, demonstrating 970 basis points of operating leverage year-over-year. Adjusted EBITDA was a loss of $2.8 million and approximately 3% of sales in the fourth quarter compared to an $8 million loss and a negative 10% of sales in the prior year.

The 750 basis point improvement as a percent of sales was driven by operating expense leverage, which is partially offset by gross margin. Sequentially adjusted EBITDA improved $3 million on a revenue step up of $16 million, resulting in 420 basis points of improvement sequentially and an indication of the leverage we can deliver as our business scales. Turning to full year 2022 results. Non-GAAP gross margin was 70%, down 250 basis points compared to the prior year. Non-GAAP R&D for the full year was $39 million and approximately 11% of sales compared to $28 million, an improvement of 40 basis points compared to prior year. 2022 non-GAAP SG&A was $267 million and approximately 76% of sales compared to $198 million, an improvement of 510 basis points compared to prior year.

Non-GAAP operating expense for the full year amounted to $306 million and approximately 87% of sales compared to $226 million, an improvement of 550 basis points compared to the prior year period. 2022 adjusted EBITDA was a loss of $28 million and approximately 8% — a negative 8% of sales, an improvement of 360 basis points compared to full year 2021. We ended the fourth quarter with $85 million in cash. Year-end debt and carrying value was $364 million, which included $316 million of the convertible debt and a drawdown of $35 million from the revolving credit facility. With the improvement in adjusted EBITDA, operating cash used improved relative to last quarter and totaled $22 million. We expect full year 2023 cash use to meaningfully improve relative to 2022 as adjusted EBITDA improves consistent with our long term plan.

In January, we entered into an agreement with Braidwell securing a non-dilutive debt facility. With the new debt facility in the revolver, we now have cash and access to capital of up to $275 million. This provides us flexibility to invest further in instrument sets and working capital to support top line growth above our long range plan and permits us to maintain a higher minimum cash balance. Now turning to our outlook for the full year 2023. In line with our January pre-release of fourth quarter and full year financial results, we continue to expect full year 2023 total revenue to grow 25% and approximate $438 million. That includes 2023 surgical revenue growth of approximately 26% and $383 million and EOS revenue of approximately $55 million.

As sales growth drives leverage across our business, we continue to expect to achieve adjusted EBITDA breakeven for the full year 2023 by delivering 800 basis points of expansion. Now keep in mind that Q1 revenue is typically seasonally lower than Q4. And even with the 800 basis points of margin expansion, adjusted EBITDA would also be lower than Q4 sequentially. We anticipate delivering positive adjusted EBITDA beginning in the third quarter of 2023, which positions us well to achieve the profitability and free cash flow goals in our long range plan. Now the next few sides provide additional context for our 2023 guidance. I’ll start by sharing how our expectations for procedural volume growth and the expansion of our average revenue per surgery shaped surgical revenue guidance.

We will continue to train surgeons at a robust rate, which drives both surgeon adoption and utilization. Training surgeons builds loyalty and enables surgeons to work up the procedural complexity curve, both of which increase utilization. The middle chart is a testament to the consistent ramp in utilization that our surgeon cohorts have demonstrated each year. We expect these dynamics to fuel mid-teens percent procedure volume growth for the full year 2023. Average revenue per surgery growth is our mix shift towards procedures that require more products per surgery like PTP and LTP and towards surgeries with greater complexity, all of which feature higher revenue per procedure than our overall average. The gradual addition of expandable implants to our portfolio and increasing biologics attach rate are also enabling us to capture more of each procedural revenue opportunity.

We expect these dynamics to drive growth and average revenue per surgery at a high single digit percent rate for the full year 2023. Turning to EOS. We anticipate approximately $55 million in EOS revenue for the full year 2023, an expectation supported by the existing pipeline that we expect to be delivered and installed this year. In addition, just over one third of EOS revenue is driven by a predictable recurring maintenance revenue stream that will contribute incrementally. And as EOS deliveries increasingly shift toward domestic market overtime, we will also see a gradual benefit to ASP. Now with respect to the rest of the P&L. We began to demonstrate the operating leverage that sales growth can drive in the second half of 2022 and we expect that dynamic to continue in 2023.

Our guidance for breakeven adjusted EBITDA this year implies 800 basis points of improvement relative to the negative 8% margin reported for the full year 2022. And the 810 basis points of adjusted EBITDA leverage delivered in the second half of 2022 gives us confidence in the continued progress that guidance implies for 2023. And the margin expansion we saw in the second half of 2022 was driven by SG&A infrastructure leverage as investments we made began to scale. And that dynamic will continue to play out in coming years coupled with the benefits of an improving variable expense profile. Like we saw in the second half of 2022, 60% to 70% of operating expense leverage will come from SG&A infrastructure with a balance from variable selling expense.

We are looking forward to demonstrating meaningful P&L progress for the full year 2023, which will position us well to meet our adjusted EBITDA and free cash flow commitments that we outlined in our Investor Day last May. Now in closing, 2022 marked a pivotal year. The first series of the ATEC growth story were about demonstrating sustainable demand for the clinic instinct procedural solutions our team was developing. And that question has been answered as we have delivered a 40% compounded annual growth rate over the past four years. Now we have entered the next phase of our company’s growth where we are beginning to deliver a return on the investments we have made. As a result of this operating, we expect to achieve adjusted EBITDA breakeven in 2023, which will improve our cash use as we walk towards cash flow breakeven in 2025.

Clearly, the wheels of the growth story are in motion and the momentum behind what we are doing is strong. Now it is up to our team to continue to seize the opportunities in front of us and execute. It’s my hope that our financial performance thus far has earned your confidence. This is a team that is serious about delivering on our commitments. And with that, I’ll turn the call back over to Pat.

Pat Miles: Thanks much, Todd. I think what you will find is our share earnings strategy will not change. We will continue to garner value out of the investments that we made in procedures like PTP and LTP. What you will see is an expanding complexity of the type of pathologies that we will address through these different procedures. The investments have been made and now the opportunity to exploit those investments is before us. That effort will allow us the confidence that we have created in a way that will enable a halo effect that will increase other product adoption, so an expanding portfolio adoption. That confidence and that expansion will ultimately compel sales people to come our way. Those sales people telling our way will avail more opportunity.

We are continuing our early experience in the international marketplace. As we stated, we will be direct and narrow in those spaces. As it relates to EOS, we have only just begun. So we’re literally laying the foundation for an opportunity that will avail itself in ’24, ’25, ’26. We believe that the translation of an EOS information is before us and that will be the real value creation, where we love to sell iOS units, it is an investment that will pay off in the future that will ultimately avail the translation of the very information that comes from those systems. So our enthusiasm is exceedingly high. Our opportunity to apply our nimble focus to improve spine care is massive. Our best days are yet ahead. With that, we will take questions.

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Q&A Session

Operator: The first question comes from Matthew O’Brien with Piper Sandler.

Unidentified Analyst: This is Phil on Matt. Just a multi-parter here on guidance more. So what are your puts and take with the industry as we move into 2023, what really gets you to the top end of the range and likewise the bottom? And what are you seeing from the LTP standpoint there? I mean, we’re really excited by it, but what do you see in there?

Pat Miles: So as always, I will let Todd quantifying and I’ll qualify. And it’s just best. I guess the second one first. We’re hugely bullish on LTP. And do not go overly deep into each of the different reasons why, just because I think I may lose the interest of the audience. The ability to ultimately change the position to get access to 51 is game changing. And so in inflations that we have historically been, they’ve tried to tape a patient to a bed and do a lateral ALIF at 51, and it becomes very hard. And I think that surgeons agree that the best position to do an ALIF is supine. And so if you can get media wise access between the bifurcation at 51, it’s a game changer. And so to be able to go four to one from an LTP perspective and have the patient controlled orthogonally with a patient positioner and protecting the neural elements with things like safe ups, it is a very valuable tool.

And so when we start to think through the elements that ultimately avail the top end of our guidance, what we do is we say, what are we confident in. And as the guys who pioneered lateral from the inception, our confidence is in our ability to compel the interest. And I think you see signs of that through all of the surgeons who have come through the building. And so I would say that our confidence is in the volume of people we’re compelling to come through the building, and then the clinical aspects of the lateral technique that ultimately will expand the halo effect across the portfolio. And so PTP is still in its early infancy of a big run. We’d love to get LTP out there in a much more wide way. You start to see the expandables come in and it speaks to a company that’s just enjoying the early part of this momentum.

Todd Koning: And so I think as you kind of think about the $438 million guide, growing 25%. You think about the surgical revenue component of that, and I laid that out in terms of procedural volume and procedural ASP. And our procedural ASP assumption being in the high single digits, and that’s actually higher than what our long range plan assumption was. And then if you look at our volume component, really being in the mid teens growth over 2022 and that’s really very much in line with our long range planning. And I think you see our guidance philosophy coming through here being putting out numbers that we believe that we can achieve and have a reasonable opportunity to exceed. And so I think so much of your question I think was really about industry factors.

And I have to tell you when we’re guiding to 25%, I think our upside is really more about our ability to continue to compel surgeon adoption through I think all the things that Pat just laid out. And I think that will ultimately come through stronger volume relative to our guidance. So that’s kind of how I think about the range and where things can defer. It’s probably mostly on the volume component. It’s really dependent on our ability to continue to compel surgeon adoption through clinical distinction.

Operator: The next question comes from the line of Josh Jennings with Cowen.