NeuroPace, Inc. (NASDAQ:NPCE) Q1 2023 Earnings Call Transcript May 7, 2023

Operator: Good afternoon, and welcome to NeuroPace’s First Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. We will be facilitating the question-and-answer session towards today end of call. As a reminder, this call is being recorded for replay purposes. I would now like to turn the call over to Trip Taylor from the Gilmartin Group for a few introductory comments.

Trip Taylor: Thank you, operator. Good afternoon and thank you for participating in today’s call. Joining me from NeuroPace are Mike Favet, CEO; and Rebecca Kuhn, CFO. Earlier today, NeuroPace released financial results for the first quarter ended March 31, 2022. A copy of the press release is available on the company’s website. Before we begin, I’d like to remind you that management will make statements during this call that include forward-looking statements within the meaning of Federal Securities Laws, which are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Any statements made during this call that relate to expectations or predictions of future events, results or performance are forward-looking statements.

All forward-looking statements, including those around NeuroPace’s business opportunities, market conditions, clinical trials, and those relating to our operating trends and future financial performance, the impact of COVID-19 on our business and prospects for recovery, expense management, market opportunity, revenue outlook, and commercial expansion are based upon current estimates and various assumptions. These statements involve material risks and uncertainties that could cause actual results or events to materially differ from those implied by these forward-looking statements. Accordingly, you should not place undue reliance on these statements. For more detailed descriptions of the risks and uncertainties associated with our business, please refer to the Risk Factors section of our public filings with the SEC, including our annual report on Form 10-K for the year ended December 31, 2022 filed with the SEC on March 2, 2023 and our quarterly report on Form 10-Q for the quarter ended March 31, 2023 to be filed with the SEC as well as any reports that we may file with the SEC in the future.

This conference call contains time-sensitive information, which we believe is accurate only as of this live broadcast on May 4, 2023. NeuroPace disclaims any intention or obligation, except as required by law, to update or revise any financial projections or forward-looking statements, whether because of new information, future events or otherwise. And with that, I will now turn the call over to Mike.

Michael Favet: Thanks Trip. Good afternoon, everyone and thank you for joining us today. Today, I will highlight our first quarter performance and provide an update on our key business priorities for the year. I will then turn the call over to Rebecca to detail the financial results before we open the call the questions. To begin, our strong commercial and operational execution led to record revenue in the first quarter. Total revenue was $14.5 million, representing growth of 27% compared to the prior year period and 13%, compared to the fourth quarter of 2022. The strong performance was driven by increased utilization of the RNS System within Comprehensive Epilepsy Centers or CECs contributions from our DIXI Medical distribution partnership, which began in the fourth quarter of 2022.

As expected replacement implant revenue continued to decline compared to prior quarters and now represents less than 10% of total revenue. With our continued focus on expense management, we increased revenue in the first quarter without a corresponding increase in expense compared to the fourth quarter of 2022. Based on the strong underlying fundamentals of our business, we now expect full year 2023 total revenue of $52 million to $54 million, up from our original expectation of $50 million to $52 million. Growth in 2023 will continue to be driven primarily by increasing utilization of the RNS System within CECs coupled with our first full year selling DIXI Medical products. Overall, I am pleased with the progress we have made with our strategy and I’m happy to see epileptologist recognizing the differentiated features and benefits of our RNS System.

Our customers reported that Epilepsy Monitoring Unit or EMU patient volumes have remained stable over the last year. While we continue to believe that patient volumes are not all the way back to pre pandemic levels, they continue to show signs of improvement. Now I will discuss our commercial objectives in more detail. To increase utilization of the RNS System and support our initial implant revenue growth in 2023, our strategy concentrates on three objectives; one, expanding patient selection; two, managing the patient pipeline; and, three, driving adoption of the RNS System with new prescribers and additional implanting centers. Our first quarter 2023 results demonstrate that awareness of the clinical benefits of the RNS System is growing, as we continue to develop a strong presence amongst epileptologist and neurosurgeon customers.

We remained focused on highlighting the need to close the treatment gap so that more of their patients can realize the life-changing benefits provided by our product. Specifically, our team continues to educate physician on the benefits of the RNS System, and the importance of providing advanced treatment to their drug resistant epilepsy patients. As we share and discuss the clinical evidence that supports expanding patient selection criteria to the full scope of RNS Systems indication, we are seeing improvements and utilization. We are working to actively manage the patient pipeline within the CECs. We are identifying and educating potential RNS patient at an earlier stage in their treatment journey, which we believe is crucial to increasing RNS System adoption.

Our patient education and marketing programs enable us to convert more patient leads to RNS System implants. Patient leads are being identified through our field team working with the CECs and through direct-to-consumer campaigns. We leverage NeuroPace nurse navigators to guide the patients in our pipeline through the diagnostic process. Additionally, our team along with a network of RNS patient ambassadors provides in-depth patient education on the benefits of our RNS System. We are very pleased with the results of the first two quarters distributing the DIXI Medical stereo EEG products in the United States. This product line is driving additional revenue through our commercial team, and has enabled us to identify and interact with potential RNS candidates earlier in their patient journey.

As a reminder, stereo EEG electrodes are used to determine where epileptic seizures originate. Most RNS patients and most surgical resection and ablation patients in the United States are being localized with stereo EEG prior to therapeutic intervention. Over time, we believe that we can grow the revenue from DIXI Medical products by leveraging our large epilepsy focused commercial team to convert competitive accounts and leverage this product line to accelerate adoption of our RNS System. We are making good progress in our efforts to increase the number of implanting centers and prescribing physicians. With our expanded field team we are calling on additional CECs and increasing the number of prescribing physicians. Improving patient access to care by increasing the number of providers utilizing the RNS System is an important part of our efforts to close the treatment gap.

We are doing this by expanding professional education programs and through the work of our field team. Moving to our clinical trial updates, we continue to make strong progress on our top clinical priority, the expansion into generalized epilepsy. As a reminder, this represents a meaningful market expansion opportunity as approximately 40% of drug resistant epilepsy patients have generalized epilepsy. Diagnosis of these patients is simpler and faster than for focal epilepsy, because it does not require advanced diagnostics and there are few treatment options because resection and ablation are not applicable, and no neuromodulation therapy is approved for this patient group. Enrollment of the approximately 100 patients in the NAUTILUS study is on track to be completed in the first quarter of 2024.

As a reminder, the primary endpoint is evaluating the safety and efficacy of the device at a one year follow up evaluation after implantation. We intend for the results from this study to support a PMA supplement to expand the RNS System indication to include the treatment of primary generalized epilepsy. Additionally, our NIH funded feasibility study for patients with Lennox-Gastaut syndrome, the type of symptomatic generalized epilepsy, continues to progress as planned. We look forward to potentially providing an optimal solution for an unmet need amongst this patient population. To summarize, we are off to a great start for the year executing across the entire business. Increasing utilization of the RNS System, it’s easy to use, drove growth and initial implant revenue and our team is gaining traction with the distribution of the DIXI Medical stereo EEG products.

We are invigorated by the increasing utilization trajectory and remain focused on ensuring patients receive the care that they need. Our NAUTILUS pivotal study for primary generalized epilepsy and the NIH study for Lennox-Gastaut syndrome are progressing as planned. We successfully accomplished all of this while continuing to improve our cash burn trajectory. We believe our recent achievements keep us well positioned for a successful 2023. With that, I will now turn the call over to Rebecca to review our first quarter financial results.

Rebecca Kuhn: Thanks Mike. NeuroPace’s revenue for the first quarter of 2023 was $14.5 million, representing growth of 27% compared to $11.4 million for the first quarter of 2022 and 13% sequentially, compared to $12.8 million in the fourth quarter of 2022. The strong performance was primarily driven by increased utilization of our RNS System and by contributions from our DIXI Medical distribution partnership. We experienced higher replacements than anticipated in the first quarter, but, as expected, replacement implant revenue continued to decline compared to prior quarters, and now represent less than 10% of total revenue. Gross margin for the first quarter of 2023 was 72%, compared to 73% in the first quarter of 2022, and 69% in the fourth quarter of 2022.

The decline in gross margin relative to the prior year period was primarily due to a change in product mix with the inclusion of DIXI Medical products, which have a lower gross margin than our core RNS products. During the first quarter of 2023, we also had higher than anticipated sales attributed to DIXI Medical. Over time, we expect gross margins will generally increase as volumes increase, and fixed overhead is allocated over more units. Total operating expenses in the first quarter of 2023 were $18.7 million, compared with $18 million in the same period of the prior year. In the first quarter of 2023, operating expenses as a percentage of revenue were lower for both R&D and SG&A. We plan to continue to focus on initiatives to optimize operating expenses through 2023.

R&D expense in the first quarter of 2023 was $5.3 million, compared with $5.6 million in the same period of 2022. The decrease in R&D expense was primarily driven by a decrease in personnel related expenses, and clinical study expenses. SG&A expense in the first quarter of 2023 was $13.4 million, compared with $12.4 million in the prior year period. The increase in SG&A was primarily driven by personnel related expenses, and expenses associated with distributing DIXI Medical products, partially offset by reduced expenses for general and administrative outside services. Loss from operations was $8.3 million in the first quarter of 2023, compared with $9.8 million in the prior year period. We recorded $2 million in interest expense in the first quarter, compared to $1.8 million in the prior year period.

Net loss was $10.4 million for the first quarter of 2023, compared with $11.5 million in the first quarter of 2022. Our cash and short-term investments balance as of March 31, 2023 was $67.6 million. Our long-term borrowings totaled $53.9 million as of March 31, 2023, with the full principal due on September 30, 2025. Now turning to our outlook for the remainder of 2023. We are increasing our revenue guidance and now expect total revenue for 2023 to range between $52 million and $54 million, up from $50 million to $52 million. We expect that revenue growth will be supported mainly by increases in initial implants and revenue from the sale of DIXI Medical products. We continue to expect that we will complete the replacement of substantially all of the prior generation RNS devices by the end of 2023.

With more replacement implants than anticipated in the first quarter, replacement revenue is expected to sequentially decline at a rate slightly faster than we anticipated earlier in the year. Replacement implant revenue will become a growth driver when the newer longer lasting devices introduced in 2018 begin to reach the end of their battery life. We continue to expect our gross margin for 2023 will be between 69% and 71%. Our quarterly gross margins may experience small variability due to fluctuations in the proportion of DIXI Medical revenue to overall revenue and other factors. We continue to expect operating expenses for 2023 to range between $75 million and $77 million, including $11 million to $12 million in non-cash expenses. Our cash burn in the first quarter of 2023 was $9.8 million, a substantial reduction from our cash burn of $12.4 million in the first quarter of 2022.

Our cash burn is typically highest in the first quarter of the year, primarily due to the timing of compensation-related expenses. First quarter spending included approximately $3 million of expenses, primarily compensation related that are unique to the first quarter. This concludes our prepared remarks. I would now like to turn the call over to the operator who will open the call for questions.

Q&A Session

Operator: Our first question comes from Robbie Marcus from JP Morgan.

Rohan: Hi, this is Rohan on for Robbie. How’s it going? Thanks for taking the question. I guess I had a couple. The first one is focused on guidance. So guidance coming up by about 2 million, which is essentially the beat in the quarter, so this implies a step down in revenues for the balance of the year. Would you be able to comment on just how you’re thinking about quarterly revenue contribution moving forward and the cadence, especially just given the commentary around the patient funnel kind of stabilizing and I’m assuming getting better as the year progresses?

Michael Favet: Great. Thanks. Thanks, Rohan. Appreciate the question. A couple of comments first about the quarter and then getting into your question about guidance. So we’re really happy with the performance overall strength across all parts of the business. For the forecast as we go forward, we continue to expect that revenue from initial implants will continue to grow through the course of the year. We’ve been able to make great progress here in the first quarter continuing Austin’s success that we were able to build off of in the second half of 2022, so that general trend of increasing initial implant revenue as we move through the year. For DIXI Medical, we had a really strong quarter in Q1. It’s still a relatively new business for us and we’re still projecting, as we go forward, that we’ll be building off of the base that we talked about in Q4 — the revenue from Q4 with marginal increases in — incremental increases off of that base.

We did better than that in the first quarter. We’re not including any guidance on changes to that. So as we get more time working with the DIXI Medical product, we’ll have better confidence around that. The guidance that we’re that we’re providing is really based on where we started with our business in the first quarter of last year. And then specifically about replacement implant revenue, we had a strong quarter in the first quarter with more implants than we had anticipated, more replacement implants than we had anticipated. We generated about $1.2 million of revenue in the first quarter from replacement implants. That is from earlier device more replacements in the year than what we had thought when we started off and the result of that is while the total number of replacement devices and the implant revenue that we expect to generate from that for the year will be the same as before, because there’s a higher proportion of that in the first quarter, that’ll result in less revenue in the second through the fourth quarters, because of the total volume of those older devices that are still needing to be replaced.

So, overall against strength across all aspects of the business continuing to expect growth and initial implant revenue, as we move through the quarter, and then not banking into our guidance, any changes in the general trajectory of the DIXI Medical product, while that came in higher than we expected in the first quarter really happy with that, but we’re not baking that into the guidance that we’re providing.

Rohan: Got it. Thank you. That’s really helpful. The other question I had was just around the generalized epilepsy indication. It seems like you’re making really good progress towards NAUTILUS. And I guess it would just be helpful if you can remind us what the market opportunity is here down the line and when we can potentially see kind of a contribution pending approval?

Michael Favet: Yeah, thank you for that question as well. I’m really, really encouraged by one the start that we’ve had to the model of study getting that study up and running, and the importance I believe that’s going to have for our business over time. As a reminder, generalized epilepsy represents about 40% of the patients that have drug resistant epilepsy. So it’s a very large market opportunity. And compared to focal epilepsy, there are even fewer treatment options for these patients that have generalized epilepsy. Resective procedures and ablative procedures, which are the most commonly done interventions for focal epilepsy are not applicable for generalized epilepsy and there are currently no neuromodulation therapies that are indicated for generalized epilepsy.

So very much undertreated patient populations, the reason we were able to get the breakthrough device designation from the FDA for this group. Additionally, the diagnostic process to identify patients that have generalized epilepsy is easier and faster than for focal epilepsy. So, large patient population and very much an unmet need with a lack of treatment options for these DRE patients and an opportunity to get more patients treated more quickly with a simpler diagnostic, simpler and faster diagnostic process. In terms of timing, we had announced last quarter that we expect to have enrollment completed in that trial in the first quarter of next year and that continues to be the expectation. We had announced a couple months ago that we had all of the sites, the 25 sites on board and starting to enroll patients and there’s a tremendous amount of enthusiasm from the investigator group.

And so we’re off to a good start, continuing to believe that we’re tracking well to have that completion. As a reminder, the study itself has a one-year follow up for the primary endpoint after implantation of the device and so building off of that first quarter of 2024 completion of enrollment, the follow up period and then a PMA supplement on the other side of that. So you can kind of figure out the timeline associated with it. They continue to be tracking well to that timeline.

Rohan: Great, thank you so much.

Operator: Thank you. Our next question comes from Frank Takkinen from Lake Street Capital Markets.

Frank Takkinen: Hey, thanks for taking the questions and congrats on all the progress in the quarter. I wanted to dive a little deeper into the per center trends. Could you maybe take us into what really drove the growth in the quarter? And I’m kind of thinking of two levers. Was it new centers coming on board and starting to treat patients or was it as existing centers starting to treat more patients and improving their utilization rate?

Michael Favet: Thanks, Frank. The growth we saw in the first quarter was primarily driven from utilization, more patients being treated within the Comprehensive Epilepsy Centers than they treated in 2022, primarily coming from that. We did get off to a faster start in the year with more centers and prescribers, so that was a contribution as well. So there was contributions from both utilization increase and center increase, but as we expected, the bulk of that coming from increased utilization.

Frank Takkinen: Very good. Good color. Thanks. And then on DIXI, I know one of the primary attractions to the distribution agreement was getting color into the patient funnel, and I think you referenced it at a high level in the prepared remarks, but could you maybe talk to how that is playing out versus your expectations and how your sales force is maybe leveraging some of that information to convert patients to RNS versus competitive technologies.

Michael Favet: Two quarter now into the distribution agreement, I’m really pleased with how that product fits into what we’re selling within our team. We’ve been able to have good success using the team that we’ve got established large epilepsy focused field team calling on these Epilepsy Centers and we’ve had some success with account conversions to be able to grow that business. But as you mentioned, one of the key strategic drivers for us in doing this was to have better visibility earlier to patients working through the diagnostic process that lead to an RNS implant. And while it’s still early, a couple quarters in, the strategy and the basic rationale behind the deal is really coming together nicely. We are getting accounts that are using the DIXI product, we have good examples of the visibility that that provides, understanding what those centers are doing and the diagnostic process and being able to have that be helpful, not just in generating revenue for DIXI, but also pulling that through into performance for RNS and an increased adoption of the RNS System.

So no numbers specifically that go along with that, but feel very good about the two pillars of that deal, more competitive conversions, the ability to drive more revenue through our field team, and the visibility and pull through that we think that that will provide for the RNS business as well.

Frank Takkinen: Perfect. I’ll stop there. Congrats on all the progress. Thanks.

Operator: Thank you. Our next question comes from Michael Polark from Wolfe Research. Michael, please go ahead.

Michael Polark: Hey, good afternoon. Thank you. If you said it, I missed it. I want to be precise on the revenue for the three lines, I heard 1.2 million of replacement. I heard DIXI over-performed but I didn’t hear a number. And so I don’t know precisely what new patient revenue was. Can I get the DIXI number or just kind of can we go through the three lines individually? I didn’t see them in the press release.

Michael Favet: The revenue for the quarter overall had meaningful growth from Q4 of last year for both the RNS initial implants and for DIXI Medical. Both of those pieces grew significantly from Q4 of 2022 into Q1 of 2023. We haven’t broken out specifically the amount of growth for DIXI and the amount of growth for the RNS implants, primarily for competitive reasons is we’re just being very conscious of what that means within the space. But as you’re putting together your models, primarily, the increase was coming from initial implant revenue but we’re very close with that growth from the DIXI Medical product. And then the revenue from replacement implants coming in at 1.2 million, which was a decrease from Q4 of last year, as expected, by more revenue in the first quarter than what we had anticipated based on the timing of when in the year those replacements were happening.

Michael Polark: There are enough — our problems for spreadsheet got a little harder, but enough to work with. Thank you. Follow up question is, early days on DIXI, sounds like so far, so good on a number of levels. I’m not asking for specifics but are there other things like this that you could do and drop in the bag to leverage your commercial platform? Again, is there potentially a pipeline that you think about and consider or was this a one-off opportunity and behind it, unlikely anything else?

Michael Favet: Thanks for that question, Mike, I’m not going to give a specific answer to that other than to say, we’re always looking for where there are good fit, strategic fits for the business. That made a lot of sense for us for many reasons that we’ve talked about for the DIXI product and when we saw that we went after that aggressively to be able to get that into our product mix. We continue to monitor that if there’s another opportunity that’s like that. We would be very opportunistic around that but there’s nothing that I can talk about of specifics that are active or things that we’re pursuing there.

Michael Polark: Understood. Thank you.

Operator: I would now like to turn it back to NeuroPace for closing remarks.

Michael Favet: Yeah, thanks for the comments. Really happy to report the results from the first quarter, lots of strength for us across the business with all aspects of our revenue coming in very strong for the quarter and what that means for us continue to see differentiation from our approach with responsive neuromodulation versus on the other approaches that are available to these patients, so trying to close that treatment gap and get more of these patients being treated. We continue to be reminded of the benefit of responsive neurostimulation with the approach that we’re taking there being a differentiated outcome versus the other approaches. There’s new data that continue to come out on a regular basis. There’s a study in neurology that was published recently that really highlights the challenges associated with side effect profiles and efficacy with other duty cycle kinds of approaches and really the benefits of responsive neuromodulation within this space.

And so looking forward to getting more of the patients with drug resistant epilepsy and focal epilepsy treated the work that we’re doing to expand into generalized epilepsy and the progress there. Really appreciate everybody’s time today and hope you all have a great evening.

Operator: Thank you for your participation today’s conference. This does conclude the program. You may now disconnect