Scott Youngstrom - Chief Financial Officer and Chief Compliance Officer Dan Gladney - President, Chief Executive Officer and Chairman of the Board Scott Shikora - Consulting Medical Director.

Suraj Kalia - Northland Securities.

Good day, ladies and gentlemen. And welcome to the EnteroMedics Second Quarter 2017 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call may be recorded.

I would now like to introduce your host for today's conference, Scott Youngstrom, Chief Financial Officer. You may begin..

Good morning. And thank you for joining us on today's call. I am joined by Dan Gladney, our President, CEO and Chairman of the Board, who will provide an overview of the company's recent commercialization success and business highlights. I will then review our financial results for the second quarter.

Dan will then provide you with additional business highlights. Following our remarks, we will be available for questions during the Q&A session.

As a reminder, this conference call as well as EnteroMedics SEC filings and website at enteromedics.com, contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Our actual results could differ materially from those discussed due to the known and unknown risks, uncertainties and other factors.

These and additional risks and uncertainties are described the more fully in the company's filings with the Securities Exchange Commission, including those factors identified as Risk Factors of our current report on Form 8-K filed on July 26, 2017. I will now turn the call over to Dan Gladney..

first, we announced the acquisition of BarioSurg and its minimally invasive Gastric Vest System, which supports our long-term goal of serving the obesity continuum of care; second, we initiated our previously announced study with Kaiser using vBloc with type 2 diabetic patients; three, we inked a collaboration deal with Galvani Bioelectronics Limited; and, four, we made good progress on our partnership with the VA; and lastly, we launched our VA Now program, the goal of which is to accelerate our rate of commercial implants and associated clinical data in order to support and expedite private payer reimbursement.

First, in May, we expanded our pipeline by announcing the acquisition of the Gastric Vest System through our purchase of BarioSurg, Inc. The Gastric Vest represents a building block in our strategic goal of filling the gap in the obesity continuum of care.

While our vBloc is effective for healthier patients, who are looking to lose weight and improve comorbidities over time, the Gastric Vest is designed to treat very ill, morbidly obese individuals with a BMI of at least 35, whose excess weight is life threatening, and who therefore need to achieve significant weight loss in a very short period of time.

The Vest is minimally invasive and requires no cutting, no stapling, no removal of anatomy or restriction on patient diet choices.

In a small pilot study done in Mexico on 16 patients over a period of one year, the average weight loss with the Vest was 85% of excess body weight, which is similar, if not better, than a gastric bypass and a gastric sleeve, but without the invasive permanent alterations to the patient's anatomy.

We believe that this minimally invasive product, once approved for sale, will be a very welcomed addition to the surgeon's toolbox of offerings for his patients.

We believe this acquisition brings us a step closer to penetrating the 99% of the obese population in our country, who currently do not seek treatment due to the shortcomings of existing surgical solutions. In July, we kicked off enrollment of our type 2 diabetes trial with Kaiser.

Due to the significant link between obesity and its comorbidities, many of these diseases are being grouped together by the healthcare system.

This fact highlights the relevance and importance of the Kaiser vBloc type 2 diabetes trial, which is our 60-patient trial that was designed to validate vBloc Therapy for the treatment and possible prevention of type 2 diabetes in moderate to morbidly-obese patients.

The study will look at the impact of vBloc on diabetes-related comorbidities associated with obesity. Over the 60 type-2 diabetes patients being studied, 30 will be implanted with vBloc. The remaining 30 patients will not have vBloc, but will receive the current standard of care for the treatment of type 2 diabetes, which is drugs.

Both groups will be monitored over three years, after which time Kaiser will prepare the HbA1c levels of each group to determine if vBloc patients have achieved results low enough to be an effective alternative to costly prescription therapy.

If during the study, we can validate our belief that vBloc is competitive with drugs, and considering the estimated thousands of dollars per year paid by private payers per diabetic patient for medications, our vBloc technology can potentially offer a great cost savings to the system over the lifetime of these patients.

Consistent with our stated priority of vBloc reimbursement, our strategy is then to take this Kaiser-validated data to our payers as undisputable evidence, supporting the need for vBloc coverage as expeditiously as possible. And, we don't have to wait three years; we will capture early patient data and take this to our payers next year.

Now, onto our collaboration with Galvani, as disclosed in an 8-K filed on July 25, we entered into a collaboration agreement with Galvani Bioelectronics Limited.

Galvani is a joint venture between GSK, GlaxoSmithKline, and Verily Life Sciences that was established in 2016 to enable the research, development and commercialization of bio-electronic therapies.

As outlined in the collaboration agreement, EnteroMedics will modify its vBloc System for use in preclinical research and will receive payments from Galvani on products and engineering services. The market opportunities for bioelectronics for both obesity and non-obesity related indications are significant.

And this relationship with Galvani provides EnteroMedics with a feasible means to tap into these additional markets beyond obesity.

The time and resources required of our team for this development, which will be compensated by Galvani, will give us the opportunity to monetize the untapped potential of both our intellectual property and intellectual capital, thus adding a source of funds to support our core obesity business.

We believe that this strategic collaboration is only one example of opportunities that may exist to leverage our company's intellectual property portfolio and technology platform through third-party sales and licensing. We are very excited about this relationship and the opportunity for our company.

We are also pushing ahead nicely with our veterans program. Through our previously announced partnership with the Academy Medical, eligible veterans can receive vBloc Therapy at little or no cost. This means over 1 million veterans battling obesity now have access to vBloc.

What we have learned in the first few months of the program is that working a new product into the VA's large hospital system is difficult, and much different than a commercial hospital organization.

As you recall, I previously mentioned that getting vBloc in the VA computer systems took longer than expected, not coming online until well into the first quarter of this year. However, even at this early stage we already have five of these hospitals offering vBloc. They are trained and looking for patients.

Out of the 168 VA facilities in the United States, only 20 hospitals are currently performing bariatric surgery, and at - and this is where we're focusing our initial selling efforts. We also recently announced our first vBloc implant through the Veterans Choice Program.

The Veterans Choice Program is of considerable importance in regards to vBloc accessibility, as it is designed to allow veterans to have the vBloc procedure at a facility in their local community, instead of at a VA Hospital.

We currently have nine institutions participating in the Choice Program, and we've had two veterans receive vBloc implants as a result. It was recently published by the VA that in the first quarter of 2017, a more than 30% increase in authorizations through the Veterans Choice Program was observed as compared to the same period in 2016.

While slow to get off the ground, we are still making significant progress with veterans. And as time goes on, I'm confident you'll see progress here. Now let me talk about our new vBloc Now program, focused on driving unit implant versus revenue from cash pay programs.

With the main goal of expediting reimbursement of vBloc through increased implants and the resulting real-world patient outcomes data, in June, we shifted our dollars and focused from a cash pay revenue environment which was giving us a limited number of implants at a high cost per lead, and we launched the vBloc Now.

This program has unlocked a high demand for our product by providing qualified patients access to vBloc Therapy at a reduced cost to the patient by way of background. In 2016, it was difficult for us to have successful meetings with payers. This year with many meetings under our belt, the feedback has been clear, show us real world patient data.

The payers did provide us with specific feedback. The payers are looking for 125 to 150 patients implanted in a commercial setting with six months follow-up data on both weight loss and comorbidity improvements to compare well with the results from our previous ReCharge PMA study. So on direct response to these requirements, we launched the vBloc Now.

The impact of vBloc Now programs has been immediate. Last year, we implanted only 63 patients in a cash pay program. And in only one month since launch of the vBloc Now, we've already implanted 34 patients.

Patients in the program are responsible only for their co-pay and are given the choice by their physician between gastric bypass, gastric sleeve or vBloc. If vBloc is chosen and the patient is willing to agree with our data sharing requirements, we cover the remaining cost of the procedure, including the facility fee.

In one account, approximately 50% of the patients chose vBloc over gastric bypass or gastric sleeve. In another account, approximately 30% chose vBloc. This confirms to us that patients want vBloc over other actions.

Patients are, in fact, willing to have surgery, but they don't want anatomy changing, diet restriction, high complication solutions that impede their life. The program has been a great success so far, accelerating demand for vBloc across the board, and we are pleased with the results we are seeing.

We are confident that we can get to our target of 125 to 150 patients complete with associated comorbidity data the payers are looking for. We expect these results from our vBloc Now commercial patients that there'll be at least as good as results in our heavily controlled FDA study environment.

With this definitive data, we can then give insurance companies in the first half of the year of 2018 the data they are looking for in order to accelerate coverage decisions. Once insured, we believe that market demand for vBloc will be unleashed.

For the second quarter of 2017, unit placements were at a record level with 42 vBloc systems placed, which is a significant 83% increase compared to the 23 units in the second quarter of 2016.

Revenues of $93,000 were at expected levels, particularly given our suspension of advertising and marketing programs for cash pay patients in order to support the vBloc Now program. Unit placements and data gathering are our goals because increased units equate to coverage sooner.

So for the time being, we've moved away from our revenue focus in order to concentrate on what it will take to get reimbursement as soon as possible. I will now turn the call over to Scott to share details on the second quarter results.

Scott?.

Thanks, Dan. As we have stated, our highest priority right now is to gain insurance coverage for our products. We know the demand is there. We just need to help patients access our technology in an affordable way.

The vBloc Now program that Dan spoke about through its EnteroMedics is essentially subsidizing the cost of vBloc surgeries for a limited time in order to collect patient data to support reimbursement represents our direct response to the situation.

We are supporting this program by significantly reducing our advertising and marketing dollars over the last half of this year. This reduction represents approximately $1.9 million. In the vBloc Now program, the patient is responsible for a co-pay amount, and then EnteroMedics pays the facility charge, the surgeon fees and provides the vBloc implant.

We estimate that each patient will cost approximately $11,000. So doing the math, multiplying $11,000 times 125 to 150 patients shows this program will cost us around $1.4 million to $1.6 million, slightly below our advertising costs.

With the vBloc Now program in place, our focus as a company has shifted to units placed and away from top line revenue, which we knew would decrease as a result of the lower ASPs with the vBloc Now program. Ultimately, it is the unit placements and associated commercial experience and data that will be the gateway to our success.

As Dan stated, our team placed 42 units in the second quarter of 2017, representing an increase of 83% compared to 23 units in the second quarter of 2016, bringing our six month total to 50 as compared to 63 for the entire 2016 year. For the three months ended June 30, 2017, we reported sales of $93,000, with gross profit totaling $39,000.

This compares to revenues of $276,000 and gross profit of $121,000 for the three months ended June 30, 2016. Selling, general and administrative expenses for the quarter were $5.6 million, as compared to the same amount $5.6 million for the second quarter of 2016.

Payroll-related expenses, advertising and consulting expenses decreased from 2016, however, these were offset by vBloc Now and acquisition-related professional fees.

Research and development expenses were $1.4 million for the three months ended June 30, 2017, as compared to $1.2 million for the same quarter in 2016 due to a slight increase in professional fees.

As of June 30,2017, the company's cash, cash equivalents and short-term investments totaled $11.2 million and the company does not have any debt on its balance sheet. I'll now turn the call back over to Dan..

Thank you, Scott. We have made solid progress over last several months. The acquisition of the Gastric Vest was a great step for us, as we seek to fill the gaps in the obesity continuum of care. We're pleased to recently have been granted approval to participate in a clinical trial for the Gastric Vest System in Spain.

We expect a full safety and performance CE Mark study for the Gastric Vest to include a total of between 50 and 100 patients at up to four sites within the European Union. This approval by the Ministry of Health, Social Services and Equality in Spain represents a first country approval for the Gastric Vest, CE Mark trial.

We anticipate enrollment in the CE Mark trial to commence in the first quarter of 2018. While our discussions with the FDA regarding the U.S. clinical trial study requirements for Gastric Vest are ongoing, we anticipate that U.S. enrollments will commence in the first half of 2018.

We are expanding our business and growth opportunities through our agreement with Galvani, especially on the heels of the recent acquisition of BarioSurg.

We believe our work with Galvani will also help to advance our underlying proprietary technology platform, while simultaneously allowing us to continue to recognize our valuable IP portfolio, which in turn will ultimately enhance our future innovation capabilities, benefiting patients and our shareholders.

With our estimated well over 1 million obese veterans, we are honored to be able to help veterans live a healthier life with vBloc, either through the vBloc hospitals or through our Choice Program institutions. We are very confident in this program and the success it will bring to all involved.

Our vBloc commercialization strategy is heavily focused on obtaining coverage by insurers. And the vBloc Now program has taken off and should expedite our pathway to reimbursement.

Further validation of the vBloc will come at the ASMBS ObesityWeek Conference through the acceptance of a poster presentation that depicts real-world outcomes of vBloc and vBloc Achieve demonstrating equivalence to our FDA ReCharge trial results.

As we push forward on our march towards coverage for vBloc, we continue to see strong demand for vBloc Therapy, thanks to its unique properties as a novel, safe and not anatomy-altering and lifelong treatment for obesity and related comorbidities.

Obesity is a disease nearing epidemic proportions with an estimated global economic impact of over $2 trillion, and has become intertwined with many comorbidities such as diabetes and heart disease.

The healthcare system needs solutions that can address all of these costly diseases, simultaneously reducing the cost burden to our system and helping people live healthier lives.

We are confident that our innovative products offer the opportunity to transform the patient and physician experience, providing obesity solutions that are both anatomy-friendly and offer healthcare system cost savings, yielding better outcomes for everyone.

We also look forward to opportunities to continue expanding our pipeline, addressing these patients across the continuum of care and we believe that EnteroMedics will be a premier provider of solutions for the global obesity epidemic. With that, we are now open for questions.

Operator?.

Thank you. [Operator Instructions] Our first question comes from the line of Suraj Kalia from Northland Securities. Your line is now open..

Good morning, gentlemen. Thank you for taking my questions. So, Dan, specifically on this vBloc Now you provided a number of stats and additional information in terms of how this program would work.

Even if I use a round number of 150 patients, could you all give us an idea when these would be finished, when you all would finish enrolling them? I thought I heard you say, comorbidity data for vBloc Now would be sometime in first half 2018.

And I guess, the second part to my question is, once you finish enrollment what is the follow-up needed? And would this follow-up be sufficient to notice whatever delta you all have hypothesized in your study?.

Yes, first of all the enrollment isn't going to be - isn't going to take us long at all. I mean, as we comment, we test marketed the program in just two hospitals of our 12 vBloc institutes out there. And in those 12 hospitals, we got 34 implants in the first month we tried it. So this isn't going to be any kind of a time lag at all in enrollment.

Now, with these patients, they're not even viewed - it's not being viewed by the patient or the doctor that this is a study. I mean, they're offering the vBloc Now as a way to get their patients implanted at a cost to the patient that is the same that they would have I think by paying their co-pay, right, for a gastric bypass or gastric sleeve.

So it's very much kind of a commercial program. So we don't see that as being a lag at all. As far as the insurance coverage, the insurance companies are looking for data, thoroughly one month, three months, six months, nine months and twelve months, okay.

So we think we can get the 125 to 150 patients implanted, if not by the end of the year, very, very early next year, I mean, by January/February. So we would hope to have them implanted by pretty much the end of the year.

So that at some point in the first-half we'll be at a level of being able to walk into insurance providers and talk about this - the requirements - the results. And we would expect to see coverage. Our goal is to get coverage for at least one of these payers in the first half of 2018..

So, Dan, forgive me for belaboring this point. Specifically for these, let's say, 150 patients, I presume these are all comers and there aren't any rigorous inclusion criteria, specifically related to A1C or baseline systolic, diastolic.

I guess, where I'm headed is, let's say, hypothetically December 31, you'll finish enrollment, let's say, it's a six month follow-up. And baseline A1C was, I don't know, pick a number, 8.5% or systolic, diastolic or something.

The question is in six months post this, are you going to get the delta needed to essentially convince a private payer, that yes we need to start having favorable policies. That's what I was getting at..

Yeah, the private payers have made it very clear to us that they want to see how this works in the real world with commercial patients. And as you know, as long as those commercial patients fall within our BMI limit of 35 to 45, that doctor can choose to take that patient.

There are no requirements to say that this commercial data has to be X amount of HbA1c patients, type 2 diabetic patients or pre-diabetic patients or anything like that. This is what the insurance providers are asking for. They want solid, just real life commercial data.

And we know that that commercial data is going to - there will be type 2 diabetic patients or pre-diabetic patients, because obesity is one of the leading causes of that disease. So we recognize we're going to have some of those patients. But there aren't any requirements in this grouping of patients that we're looking for.

We're asking the doctors to give us real world data. And that's exactly what the payers have been asking for. What we've been told by the payers is that 125 to 150 will give us enough; that will give us what we need to get coverage.

At least that's what we're hearing from, I would state, from the first - what I would call, the three payers that we are working with right now that we're much farther along with..

Fair enough. Dan, there are number of endeavors you all are undertaking, right? One is the different trials, the Kaiser T2 trial, there is the Spanish trial, U.S. ID, there's the Galani relationship, and obviously, getting commercial adoption of vBloc Now.

Can you keep us some color on resource allocation? How many people do you all have? What is the gating factor? How do you pick and choose basically to get the best ROI in all of these endeavors? Are you all adequately staffed right now, I guess, it's where I'm headed?.

Yeah, I believe we got 40 employees. As you know, we have a small direct sales-force. But, first of all, the Kaiser study is that's being managed by Kaiser. We got one individual from here that's working with Kaiser, but that's very much being driven by Kaiser that type 2 diabetic study that they're doing.

And that kicked off here in July, and right now, out they're out there. They've got obviously a huge audience of patients. So they're going after the patients that they think would best fit into that study. As far as the Spanish trial goes, that's really just supplementing what we're doing in setting up the CE trial over in Europe.

So we are going to be hiring an outside source to help us with that trial over in Spain. We're not selling anything right now in Europe, obviously, because with that particular product, because we don't have approval.

So we'll use an outside firm that will help us do that, and that's being managed inside hereby Pete DeLange, who heads up our Clinical Programs Department. So Pete can handle that. As far as Galvani, Galvani at this point is a pure engineering deal. And if you look at our engineering team, we've always been highly rated for our engineering here.

And our engineering team today is working primarily on our second generation vBloc. And the second generation vBloc, the plan is to have, at least, the product itself completed by year-end, and then testing would begin on that in the beginning of the next year. So testing is going to take in the neighborhood of six months to get that done.

So really that's the only thing that we're working on right now. So to be - to work with the existing product we have and load into a kind of the secret sauce, which is Galvani software, so they can take it to animal studies is a very doable project for us.

And the nice thing about that one is that's an immediate revenue driver for us that brings in revenue, which is quite positive. We also think having that relationship in the long run could be extremely beneficial to us, as it gives us an opportunity to find other avenues for revenue and royalty through licensing and royalty agreements.

Lastly, as far as our commercial operation, right now we're focused on just getting veterans kicked off and then we're supporting this vBloc Now program. So the vBloc Now program takes putting our people out in those accounts and being there for surgery and helping their offices on following up with the patients.

So that's where our commercial sales guys or people are working primarily is in the vBloc Now program. And that's what I stated earlier, it's not so much now a revenue play, because we don't get much revenue.

I mean, with the cash pay program, we're talking about patients having to pay on a cash pay program between $20,000 and $25,000, so you're not going to sell a lot of product that way. But we're finding that the vBloc Now program brings a lot more patients in a lot quicker, and that's what we need. We need that to get insurance coverage.

So as I mentioned also on our script, last year, Suraj, we didn't really know precisely what the payers wanted, because half the time they wouldn't meet with us, right. They didn't really know us. But now they do know us, and they're telling us specifically what they're looking for.

And it's just been in the last three months that we've gotten this information from the payers saying, we're looking for 125 to 150 patients. So that's where our commercial people are going to focused..

And final question, Dan, I'll let others jump in the queue. My math indicates that over the past 18 months, roughly, cash burn has been give or take around $30 million. Can you quantify for us how much of this was directly on the DTC campaign? Any color there would be great. Gentlemen, thank you for taking my questions..

Yes, the direct-to-consumer campaign was - I would say, we were about $4 million - $5 million is where - I just looked over at my CFO and he put up his five fingers, so it's $5 million is what we spent on….

It's pretty scientific..

…it's pretty scientific - is what we spent on the direct-to-consumer campaign that's lead us down to now the vBloc Now program. And that was pretty important, because the payers last year that did see us, Suraj, said they wanted to hear a lot more from doctors.

They wanted to hear a lot more from patients, and they wanted commercial wanted commercial data. That was about all we got from them. So it was really last year's effort of the direct-to-patient consumer campaign that drove patients to the insurance companies.

We had over 400 patients that contacted their insurance companies last year that wrote letters, and some of which actually went through the appeals process with the insurance providers, and we had over 30 surgeons that also reached out for their patients, either on conference calls or physically met with the payer or had other types of meetings with the payer.

So it was that, that led into now payers meeting us - with us this year and giving us more specific criteria and what they needed to get insurance. So I think that was much - it was very beneficial to us..

Got it. Thank you..

Thank you..

Thank you. [Operator Instructions] And at this time, I am not showing any further questions on the phone lines..

Okay. Well, thank you, everyone, for joining us today. Have a great day. Thank you very much..

Ladies and gentlemen, thank you for joining us today. Have a great day..