Greetings and welcome to the AxoGen Fourth Quarter 2018 Results Conference Call. At this time, all participants are in a listen-only mode. A brief question-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to you, Kaila Krum.

Thank you. Please begin..

First, Karen will discuss 2018 fourth quarter and full year highlights and review our guidance for fiscal year 2019. She will then turn to our key operational and strategic objective. Next, Pete will provide details on the financial results outlined in today's press release. We will then open the call for your questions.

Today's call is being broadcast live via webcast, which is available on the AxoGen website. Within an hour, following the end of the live call, a replay will be made available on the company's website at www.axogeninc.com under Investors.

Before we get started, I'd like to remind you that during this conference call the company will make projections and forward-looking statements regarding future events.

We encourage you to review the company's past and future filings with SEC, including without limitation, the company's Forms 10-K and 10-Q, which identify the specific factors that may cause actual results or events to differ materially from those described in these forward-looking statements.

These factors may include, without limitation, statements regarding product acquisitions and/or development, produce potential, the regulatory environment, sales and marketing strategies, capital repurchase or operating performance. And with that, I'd like to turn the call over to Karen Zaderej.

Karen?.

Building market awareness, educating surgeons and developing advocates, growing the body of clinical evidence, executing on our sales plans, and introducing new products and expanded applications in nerve repair. I'll now comment on our progress in each of these areas.

First, we continue to build market awareness of AxoGen and our products by engaging with patients and surgeons. Our focus envisions to address the unmet needs of patients with nerve damage let us to launch an update to our corporate brand including a new logo and company tagline.

The new brand represents AxoGen's ongoing commitment to be a driving force in revolutionizing the science of nerve repair. At AxoGen, we envision a world where everyone can kiss, smile, hug, walk, eat, touch, run, and feel, all the things healthy peripheral nerves allow us to do.

This new identity reflects our strong momentum in pipeline and solutions to help surgeons address peripheral nerve damage and provide patients with improved quality of life. We continue to grow clinical awareness of our product and repair algorithm within the surgeon community.

Our platform for nerve repair was well represented at the recent combined 2019 meetings of the American Association for Hand Surgery, American Society for Peripheral Nerve, and the American Society for Reconstructive Microsurgery. AxoGen hosted an educational symposium to explore the rapid evolution of options to treat complex nerve injury.

In addition to our symposium, there were several clinical and scientific presentations throughout the meetings that highlighted AxoGen's full product portfolio including data from the AxoGen's sponsored range of registry. Our second pillar of growth is focused on surgeon education and the development of surgeon advocates.

We conducted six national education events in the fourth quarter and a total of 18 in the full year of 2018. These surgeon-led programs focus on advances and best practices in nerve repair. They allow surgeons to gain additional confidence in nerve repair techniques and they drive adoption and increased utilization of our products.

On average, we see AxoGen product utilization from surgeon attendees more than doubled six months after they attend the program.

In 2019, we plan to conduct a total of 25 national education programs including six fellows programs with a goal to provide advanced nerve repair training to approximately three quarters of all hand and microsurgery fellows. Our third pillar is to grow the body of clinical evidence. Our library of peer-reviewed clinical publications now numbers 77.

In 2018, we saw an increase in investigator-initiated publications including review articles recommending use of our portfolio as well as innovative surgical techniques and applications leveraging our product.

The variety and volume of presentations and publications reinforces both the importance of peripheral nerve repair and the growing body of evidence for AxoGen's nerve repair portfolio. In addition to publications, I'd like to comment on our clinical programs pipeline.

Our RANGER Registry has now enrolled more than 1600 Avance Nerve Graft repairs and continues to provide significant new evidence in the management of nerve injuries. Data from the registry continues to support meaningful recovery in a variety of gap lengths and in sensory and motor functions.

And consistently demonstrate that Avance outcomes exceeds those associated with synthetic conduits and are similar to nerve autograft without the associated donor-site morbidities. Surgeons are using this data to better understand nerve repair outcomes and to expand their treatment algorithms.

Additionally, we continue to enroll patients and build the clinical evidence in the Sensation Neurotization Outcomes for Women or Sensation-NOW clinical registry.

We believe the data from this registry will demonstrate that the Resensation technique provides meaningful recovery of sensation and quality of life for women who choose autologous reconstruction following a mastectomy. In 2018, we launched our REPOSE clinical study.

REPOSE is a prospective randomized controlled study evaluating the use of AxoGuard Nerve Cap in the management of painful neuroma as compared to a standard neurectomy procedure. REPOSE is a two-phased study consisting of 15 subject pilot and an 86 subject pivotal phase. This study is currently enrolling and includes a one-year follow-up.

Our fourth pillar is sales execution. As I mentioned earlier, we made several changes to enhance our commercialization capabilities and continue to grow our field sales team. We also continue to convert high potential geographies to direct sales representatives, increase our number of active accounts, and expand the treatment algorithms with surgeons.

We ended the year with 17 independent sales agencies. These agencies continue to be important in supporting the execution of our commercial strategy and we expect to add agencies in select geographies.

This strategy will reduce territory size and create efficiencies for our direct sales team allowing them to drive deeper penetration in their current active accounts. Our number of active accounts increased 20% to 712 in the fourth quarter, up from 591 in Q4 of 2017.

AxoGen defined an active account as an account that has typically gone through the committee approval process, has at least one surgeon who was converted a portion of his or her treatment algorithm of peripheral nerve repair to the AxoGen portfolio, and had ordered AxoGen product at least six times in the last 12 months.

The top 10% of our active accounts represented approximately 35% of revenue in the fourth quarter which we believe demonstrates the continued potential for expansion of our revenue base. We believe that most of our active accounts are still at an early stage of penetration and provide additional opportunities for growth.

Our objective is to continue expanding the treatment algorithms to surgeons to include all four of our surgical implants across our full continuum of nerve repair. This is important because accounts ordering three of our four nerve repair products generate more than six times of revenue of an account ordering just one of those products.

Our fifth pillar of growth is the introduction of new products and expanded applications in nerve repair. There are many unmet needs in the surgical repair of peripheral nerves, we're making investments and opportunities to innovate both our current portfolio, as well as introduce new solutions for patients with peripheral nerve damage.

In November, we announced several foundational initiatives planned for 2019 to help support our broader launch into the surgical treatment of pain, an application we believe to add more than $1 billion to our total addressable market.

The company plans to initially focus on patients experiencing pain following traumatic injuries including amputations and orthopedic surgeries. Before I turn the call over to Pete, I want to reiterate that I am proud of the many accomplishments of the AxoGen team in 2018.

We continue to execute against our strategic initiatives to deliver long-term sustainable growth. Now, I'll turn the call over to Pete for a review of the financial highlights.

Pete?.

Thanks Karen. Fourth quarter revenue grew 38% to $23.4 million. Revenue growth was primarily the result of increases in unit volume as well as the net impact of price increases and changes in product mix. As in prior quarters, our revenue growth was driven primarily by increased revenue in active accounts and the addition of new active accounts.

We had a net increase of 33 active accounts in Q4 and now have 712, an increase of 20% over the prior year. We also continue to see growth in our pipeline of new accounts as surgeons become more familiar with our products and begin to incorporate them into their treatment algorithms.

Gross profit for the fourth quarter was $19.8 million, a 38% increase compared to Q4 of 2017. Gross margin was 84.5% for Q4 compared to 84.6% in the prior year's fourth quarter. Total operating expenses in the fourth quarter was $25.6 million, up 59% over the prior year.

The increase included additional investments in our expanding commercial capabilities as well as increased investments in clinical, R&D, and general corporate expenses associated with our growth. Operating expenses include noncash stock compensation expenses of $1.6 million in Q4 of 2018 compared to $1.1 million in the prior year.

Sales and marketing expense in the fourth quarter was $15.5 million, up 53% over the prior year. As a percent of revenue, sales and marketing expense from the quarter was 66% compared to 60% in the prior year. Research and development spending in the fourth quarter was $3.8 million compared to $2 million in the prior year's fourth quarter.

R&D costs include product development, expenditures for our biologics license applications for Avance Nerve Graft support of the RANGER Registry, and other clinical studies, as well as expenses associated with the development of the new AxoGen processing center.

As a percent of revenue, R&D expense for Q4 was 16.2% compared to 11.6% in the prior year. We continue to build out our R&D capabilities and are increasing investments in important clinical study work and product development.

We expect that investment in these activities along with expenses associated with our new processing facility will maintain 2019 R&D spend as a percentage of revenue at higher than historical levels. General administrative expense in the fourth quarter was $6.4 million, up 57% over the prior year.

The increase includes higher compensation expenses including higher non-cash stock compensation related to supporting our organizational growth. As a percent of revenue, G&A expense in Q4 was 27.2% compared to 24% in the prior year.

Net loss in the fourth quarter was $5.2 million or $0.13 per share compared to $2.5 million or $0.07 per share in the prior year. Excluding the impact of non-cash stock compensation, adjusted net loss and net loss per share in Q4 of 2018 was $3.6 million and $0.09 per share compared to $1.4 million and $0.04 per share in the prior year.

Adjusted EBITDA loss in the quarter, which excludes the impact of stock comp was $4 million, compared to an adjusted EBITDA loss of $531,000 in the prior year's fourth quarter. On our balance sheet, we ended the year with a $122.6 million in cash, cash equivalents and investments, compared to $126.4 million at the end of Q3.

And turning to guidance as Karen discussed earlier, we are updating our outlook and will be providing guidance in the form of a dollar range going forward.

We've been pleased with the performance to date though recognized we are still early in the year and believe it is important to consider a range of productivity scenarios that we are now incorporating in our 2019 guidance. We expect 2019 revenue will be between $109 million and $114 million. We expect gross margins will continue to exceed 80%.

And additionally we expect to have at least 115 direct sales representatives by the end of the year. In addition to the investments in our commercial capability Karen discussed earlier, we are building the facility infrastructure to support our long-term growth.

In early August, we completed the acquisition of a facility in Dayton, Ohio where we will transition our existing processing to support our long-term capacity needs. We expect the building to be complete in 2020 and begin production in 2021, following validation of the facility.

We continue to advance our plans to expand our corporate office footprint. In late 2018, we extended the lease on our current Alachua campus to at least -- or till at least mid-2021 and expanded our R&D lab space. We have also made progress towards opening a second headquarters office in Tampa.

Construction of the new office facility began early this year and we anticipate opening the new office in early 2020. Last week, we opened a temporary office facility in Tampa and we'll use this temporary facility to support our headquarters growth until the permanent office is complete.

2018 was another year of strong growth and we made significant investments building long-term capabilities across our organization. These investments resulted in spending growth that outpaced our revenue growth in 2018.

Although, we expect spending growth will exceed revenue growth in early 2019, we expect this growth to moderate across the year and see a return of leverage in the business model in the second half. And also our annual report on Form 10-K was filed today and is available on the SEC website. And with that, I'd like to hand the call back over to Karen..

Thanks, Pete. We have an exciting vision to revolutionize the science of nerve repair. We remain the leading company, solely dedicated to improving quality of life for patients suffering from peripheral nerve damage.

We believe that we have developed a solid foundation based on science and clinical outcomes that will allow us to address these important unmet clinical challenges.

We are confident that the underlying fundamentals driving our business are strong and we believe that the continued execution of our strategic initiatives will continue to allow AxoGen to deliver long-term sustainable growth.

Before taking questions, I do want to welcome our new investors and thank the AxoGen team for their commitment to our mission and to our values.

And at this point, I'd like to open up the lines for questions, Gloria?.

Thank you. We’ll now be conducting a question-and-answer session. [Operator Instructions] Thank you. Our first question comes from the line of Richard Newitter with Leerink. Please proceed..

Hi, thanks for taking the question. I have one on guidance and then one on your clinical RECON Study. Just on the guidance, can you give us any color on the quarterly pacing. I know you've had some sales leadership changes that happened at the end of the year or-- sorry -- at the very beginning of the year of 2019 in January.

And I'm just wondering, what's baked in as you said from the range of rep productivity outcomes with respect to kind of how that plays out in the first half of the year versus second half of the year? And how should we think of the growth trajectory within that backdrop?.

Well, hey Rich, how are you? I think the way we think about the range for the guidance is you're right, we had nine reps start in Q4 and we think about the key drivers of our revenue in 2019 being driven by that group of 85 that were here with us by the end of 2018.

And so as that group that we hired earlier in the year comes up to speed here at the end of the fourth quarter and the first quarter and then that group in Q4 comes up to speed through the middle of the year, I think that does lead us towards thinking about that productivity increasing across the year and certainly more so in the back half of the year..

So, I guess Pete just -- is it fair to assume maybe something below the average growth rate implied at the midpoint of the guide in the first half of the year particularly in the first quarter, and then maybe something in the second half maybe a little higher? Is that a fair way to think about it? Again I'm just trying to calibrate just given the kind of….

Yeah. No, I get it. I think that's probably a fair assumption or a fair way of looking at it. I think it just depends on how people build their models and how you think about the impact of those Q4 of 2018 new hires impacting the overall average from the start of the year versus what it looks like in the back half of the year.

So taking the approach as you just suggested might be a good way of looking at it..

Okay, great. Thanks. And I wanted to just ask on the RECON Study. What exactly is the new update here? Because I know you provided an update that you completed enrollment of the 170 patients with your press release preannouncement in January and that interim statistical look for the deviations was anticipated at that point of time.

And now I think you're saying as expected you're starting to go through that interim look.

Is that kind of the new information we learned today? And I guess I'm ultimately just -- what are we supposed to make of this with respect to the study? Is this going to require greater than 170 patients required to be enrolled in the study? When is the FDA potentially going to make this determination? Was this agreed upon in the original protocol? It would be helpful I think to get some color on that..

Sure. So the only update on progress is the last time we tried to assist the government with shutdown. And there was no progress with the FDA. The FDA is back at work again. And they've been going through their list of things that they had to do. And they have reached us and we're starting a conversation now to talk about this interim look.

In terms of the impact, so first yeah this was the planned analysis when we first designed the study and worked with the FDA.

Just recognizing that in 2011 when we're drafting this protocol the data on particularly standard deviation was pretty limited both for Avance because we didn't have as much clinical data, but also because conduits our 510(k) devices we -- there's not data repository that you would have where there is more robust clinical studies.

And so we had to estimate the standard deviation of conduits on the basis of literature. And so recognizing at that time that that process has error in it and this pooled standard deviation is one of the key values used and kept for a given power and calculating what your sample size of the study is.

So at that time we created a table that's in this statistical analysis plan that says when we have this first 80 subjects or the first 80 enrolled subjects when we have the pooled standard deviation, it will allow us if there is shift from the original assumptions to expand the enrollment to maintain the power.

So this is again part of the original protocol. There is a set structure into what we would change given a change in the pooled standard deviation. And then just I'll add what this is and it is not, it is only a look at the pooled standard deviation, no outcomes. We don't see them and neither did the blinded statisticians.

So again the only thing they get to see is the standard deviation or l guess the standard -- oh, my God that's not true, is it? The statisticians sees it, we don't see any other outcomes. We only see the standard deviation and neither the statistician or AxoGen sees anything about the individual groups.

So we don't have any insight into conduit outcomes or insight into what the advanced outcomes are, just what this pooled standard deviation is..

Okay.

But if the FDA comes back and determines that you need to expand the number of patients on this study, is there anything to read into that or is that just truly a statistical phenomenon and then it -- you really can't read positive or negative one way or the other from that?.

Yes. You can't read anything positive or negative out of the outcome of the study. The only thing that you can see is FDA's commitment to maintain the power over the study..

Okay. Thanks. And if I can actually just squeeze one more in. The timing of some of the management changes in early January, can you just describe a little bit about kind of what went behind the decision making there? How long was it in the works? And, again, the rationale? Thank you..

Well, I look at the talent that we've brought in with Chris and Eric and just recognize that I think we've brought in a couple of very strong executives who have experience in scaling, growing and growth organizations. And leading a commercial team that is used to doing this sort of market development and change management that AxoGen is all about.

And so, really excited to have these two folks joining us on the team. In terms of the timing, honestly, we were looking getting through 2018 and transitioning into 2019. So it's not a coincidence.

The timing was January, it was just trying to handle it so that we could complete out a good sales year with our sales team and launch into a new sales year, with a strong initiation of the year and our sales meeting with our new sales leadership..

Thank you. Our next question comes from the line of Raj Denhoy with Jefferies. Please proceed..

Hi. Good afternoon. Wondering if I could just start off with the guidance as well. I guess the new range this year, I know you want to give us numbers or numerical numbers and not percent ranges, but it does imply 30% to 35%, which is a bit lower from what you offered, I think, it was November of last year at your Analyst Meeting.

And so, I guess, I'm curious about that additional sort of 5% cut in the guidance and the way that that's just conservatism on your part or whether it's perhaps a lingering effect of what you described on the fourth quarter softness with the sales team maybe not being as productive once they caught wind of the sales change.

Really, just trying to get what's behind that that conservatism analysis in those numbers?.

Well, I think, Raj, as we said I think as we dig into our own numbers a little better and look at what these productivity ranges could look like for the folks who have came in, in 2018. And what it means to drive growth across 2019, I think, being on the low end of productivity range at this point.

Given where we're at this point in the quarter, honestly, we actually feel like we're off to a pretty good start here in the first quarter. But we have a lot of growth ahead of us. And I just think it's appropriate for us to stay in this range for now, let's deliver the first quarter, the second quarter and see where we are.

But that being said, the group has done I think a really solid job of implementing the changes that we put in place last year. And, I think, we're rolling into this year in a good place for the commercial team. We want to give our new sales leaders a chance to get fully settled and enrolling in. Like we said in the release, they're doing really well.

We're excited about the -- just the mood and the tone of the organization right now. We're excited about the opportunities to continue to drive growth in the year. But as we start at this point in the year, we think this is an appropriate range for us to be in..

And maybe just to put a finer point on that, so the dynamic you described in the fourth quarter where, again, there was a little bit of lower productivity as the sales team maybe anticipated some change.

Have we now moved beyond that? Can you unequivocally say that the -- that there's no impact at this point from the sales change -- sales leadership change?.

Yes, I think, we can. I mean, I think, we could say that the growth that we saw -- we saw nice growth in our direct force -- sales force through Q3. We actually saw it continuing in October and November.

The issue that we talked about before really have to do uniquely with the leveling off or the slowing of the growth in December versus what we would have liked to have seen. And we've transitioned well into January and into the first quarter. So I think the team has done really well, as we get started here in the year. Do you have -- yes, okay..

No, I think, that's perfect. I think anytime you change sales leadership, it's a change. And so, sales teams always respond favorably to change. I think we are progressing well on our plan. I wouldn't want to say its zero impact. I think there's always some impact when you change sales leadership.

But I think Chris and Eric have both done a marvelous job of diving in and being accepted by the team and really stepping up into what is a very fast-paced changing organization. So I think we're off to a great start..

Okay, that's fair. Maybe just one last one. Just on the chronic neuropathic pain opportunity.

I think you said, we shouldn't expect too much contribution this year, but any updates on timing on when we might get more detail on the programs there when you might have -- where it might become more real for you?.

I think it's going to take us a few quarters to get some more information to understand a little more on the clinical side, but more importantly thinking about patient referral and awareness and how you can identify the right patients for this and get them referred to the right surgeon. And that's something that we've got some work to do on.

So I think it's going to take us a few quarters to get confidence in that..

Great. Thank you..

Thank you. Our next question comes from the line of Brian Weinstein with William Blair. Please proceed..

Hey, guys. Thanks for taking the question. Just to kind of drive a little bit more on the last route of questions there.

Can you talk just about specific steps that have been taken by the commercial and sales leadership team since stepping in? And kind of what is the difference in strategy that you think that they're going to employ with the sales force versus kind of what we saw before? Can -- are there any concrete things that you can kind of point to there?.

Well, I don't think -- first of all, I think, it is continuing and enhancing some of the things that we've put in place already so -- and continuing to enhance our development programs for -- and coaching programs for sales team.

So that we can continue to look at productivity and see if we can improve that productivity from where we are today, both in established reps and in new reps. I think that's a key focus area for both Eric and Chris.

So that's certainly, I think, something that we'll spend time on other -- and that you'll see some of it in the script that we had when we talked about thinking about territory alignment and the role of independent agencies.

One of the things that we're I think doing a very good job of, is really looking at rep productivity and how much time is spent as windshield time versus selling time.

And can we improve productivity by just carving off some of these longer distance more isolated cities that may be better served by an independent agency, rather than have a sales associate drive five hours to go and visit the surgeons there.

That's the sort of, I think, experienced approach that the sales leadership is bringing in and it's been very well received by the sales team..

Okay. Great. And then, as a follow-up.

Have you guys looked at or considered any other market resizing resources, which may be broader in scope than what you've used in the past to get even more comfortable to validate, again, that this is $1.9 billion market on the trauma side, which you guys have been very clear about kind of where you've come up with those numbers.

But is there any other validation work that you guys have done, or are considering doing just to validate that?.

Yes. We've actually done a number of projects to look at primary market research with surgeons. It's very hard to quantify this area of -- in particular, the traumatic injury to peripheral nerve.

Those who aren't as familiar with the issue is that, this is -- nerves are really a step of a procedure rather than most of the time, a procedure in and of themselves. And so, you can't go to procedure codes. We had started originally thinking CPT codes, which is something that measures the surgeons work.

But in surgeons work there many payers limit the number of codes that they will pay in a given procedure, that's typically going to be less than five or five or less. And so often in a trauma, there's a lot of things that are going on in a trauma. And nerve may or may not be represented on the list, but they end up reporting.

They do the work but it's just not coded because they don't get paid for that additional work or they don't get recorded for that additional work. And so we've used more empirical methods. We've supplemented that with direct research with surgeons. We will continue to do that.

I'm not sure -- I think for us it's a picture that we try and triangulate that says here's multiple ways that we've looked at it and we come up with pretty much the same number each time that we do it. And we've given you one of the ways that we've looked at it but, yes, we continue to think about other ways to evaluate that.

And so far when we've done that we've been confident we're still in the right size..

Okay, thank you, guys..

Thank you. Our next question comes from the line of Ryan Zimmerman with BTIG. Please proceed..

This is Sam on for Ryan.

Can you guys hear me?.

Yes..

Yes, Sam.

How are you?.

Great. So just a few logistical questions to start.

So on the RECON Study and sorry if I missed this, but do you have an estimated time frame of when you may hear back from the FDA about whether they want to see a larger cohort to measure that standard deviation? And then for the rep count of that 115 number, is that including the OMF and breast specialists in there?.

So on the first one, no, I don't have a time line. It's always hard to schedule the FDA but I don't think it will be long. It's just -- they're actively discussing it now. And I don't want to put a deadline on that. On the rep count, yes, the 115 number is all quota-carrying reps which includes our specialists..

Okay, great.

And then just thinking about productivity into 2019, are you envisioning more growth from that existing 85 rep number from a increasing procedure volume or that increase in procedure value from -- the use of increased products and procedure? And then as a side question on the specialty products in OMF and breast, can you give any more clarity into how much of the guided growth you think will be coming from those segments? Thanks..

So our biggest driver of growth is the number of procedures that's the primary driver. We do look to make sure that we're maximizing maybe rightsizing will be a better way to, rightsizing what the revenue per procedure is.

There are actually places that we work with the sales teams to see if we can help choose a smaller size or a more economical product for a particular type of surgical repair. But we also want to make sure that the patient is getting the best quality of care. And we believe for example a Connector Assisted Repair does add value for the patient.

And so we would look to have Connector Assisted Repair continue to increase in some of those procedures. In terms of the breakout, we don't actually break out each of the areas or segments. Trauma is by far our biggest segment, but we don't break them out beyond that.

From a growth standpoint, while the others are coming off of a much smaller base as a percentage they are growing faster than trauma but not -- but the majority of the dollar growth is still coming from trauma..

Great. And then one quick follow-up.

Do you have any frame about what percentage of your current Avance procedures are also including the connectors?.

No. We've not put a guidance out there. It is increasing. But it is not at this point the majority of the procedures. I can put that comfortably there. We see actually greater adoption in breast reconstruction and in the OMF segment of Connected Assisted Repair and see it expanding in trauma..

Great. Thank you..

Thank you. We've reached the end of our Q&A portion. Allow me to hand the floor back over for closing remarks..

Thank you, Gloria. Well, I'm going to thank everyone for joining us on today's call and we look forward to talking with many of you at the Leerink and BTIG conferences later this week. Thank you..

Thank you. This concludes today's teleconference. You may disconnect your lines at this time and thank you for your participation..