Bonnie Anderson - President and Chief Executive Officer Shelly Guyer - Chief Financial Officer Chris Hall - Chief Commercial Officer.

Dan Leonard - Leerink Partners Amanda Murphy - William Blair Bill Quirk - Piper Jaffray Steve Beuchaw - Morgan Stanley Zarak Khurshid - Wedbush Securities.

Good afternoon, ladies and gentlemen, and welcome to Veracyte Third Quarter 2014 Financial Results Conference Call. At this time, all participants are in a listen-only mode. Later, we'll conduct a question-and-session and instructions will be given at that time. [Operator Instructions] As a reminder, today's conference call is being recorded.

I'd now like to turn the conference over to your host, Ms. Shelly Guyer, Chief Financial Officer. Please go ahead..

Good afternoon, everyone, and welcome to our third quarter 2014 financial results conference call. Joining me today are Bonnie Anderson, President and Chief Executive Officer; and Chris Hall, Chief Operating Officer.

Before we begin, I'd like to remind you that various remarks that we make on this call that are not historical, including those about our future financial and operating results; our plans and prospects; the success of our business strategy; attributes, benefits and value of our tests to patients, physicians and payers; growth opportunities and the size of potential markets; future products, product launches and our product pipeline; international expansion; demand for our tests and drivers of demand; payer coverage, contracts and progress in reimbursement and patient access; our ability to collect from payers for tests performed; clinical outcomes and timing of clinical studies; and the impacts of potential FDA regulation constitute forward-looking statements within the meaning of the Safe Harbor Provisions of the Private Securities Litigation Reform Act.

We refer you to our quarterly report on Form 10-Q for the quarter ended September 30, 2014, filed with the SEC, and in particular to the section entitled Risk Factors for additional information on factors that could cause actual results to differ materially from our current expectations.

These forward-looking statements speak only as of the date of this call, and we disclaim any obligation to update these forward-looking statements. Our financial results press release for the third quarter ended September 30, 2014, crossed the wire earlier and is available on the Investor Relations page of our website at www.veracyte.com.

I will now turn the call over to Bonnie..

Thank you, Shelly. Good afternoon, everyone, and welcome to our third quarter 2014 financial and business update as we cross the one-year mark as a public company.

We would like to thank many of you for joining us for our first Investor Day last month where you heard directly from leading physicians the impact that Afirma is having, creating a new standard of care for managing patients with thyroid nodules as well as their enthusiastic anticipation of our planned lung cancer test and our test to help diagnose patients with idiopathic pulmonary fibrosis or IPF.

We believe these pulmonology tests offer significant potential to expand our strategic imperative to improve outcomes for patients and reduce the cost of care. For those of you who missed the event, the webcast can be found in the Investors sector of our website.

Now turning to our third quarter results, in many respects, the third quarter of 2014 was transformative for the company. We continued to execute on growing our Afirma franchise and at the same time achieve strategic and pipeline developments that positioned Veracyte extremely well for both near and long-term sustainable growth.

There're three key areas of focus I want to spend time on today. They are the growth of Afirma, payer progress and advancement of our pulmonology pipeline. Number one, growth of Afirma. Our strong financial results speak to our success in this regard.

We experienced a 76% increase in year-over-year revenue for the third quarter, reporting $9.8 million compared to $5.6 million in the same quarter of 2013.

These solid results were driven by continued robust market adoption of Afirma in both the community-based physician market as well as in institutional accounts where we continue to see accelerated growth.

We received 16,781 thyroid nodule fine needle aspiration biopsies or FNAs during the third quarter, an increase of 35% compared to the same period last year. Over 7% of those FNAs were received from institutions that were unable to send us samples for GEC testing only.

Together with the GEC test reflected from cytopathology, our GEC volume grew 45% compared to the same period last year. We continue to build upon our extensive library of clinical evidence supporting the use of Afirma. Manuscripts have been submitted or accepted for publication for both on medullary thyroid cancer or MTC and our BRAF test.

These Afirma Malignancy Classifiers assist physicians in determining which kind of surgery to perform on patients who are heading to surgery. Additionally, two poster presentations on Afirma were given at the American Thyroid Association's annual meeting a couple of weeks ago.

One of those was the first study to demonstrate the durability, safety and long-term clinical utility of a benign Afirma GEC result for up to three years. The other study showed that thyroid nodules of greater than 3 centimeters in size were identified as benign by the GEC with 100% sensitivity.

This is important given physicians' historical bias of taking patients to surgery when they have nodules of greater than 3-centimeter size.

Both of these studies should give physicians further confidence in moving patients with benign Afirma GEC results from diagnostic surgery to routine monitoring and payers confidence in the durability of the GEC to help patients avoid surgery.

We executed an amended co-promotion agreement with Genzyme Corporation, which reduces the fees we pay for US Afirma revenue from 32% to 15% beginning January 1, 2015, with Veracyte assuming a lead role in sales and marketing.

To prepare for our expanded role and further drive our business, we grew our endocrinology sales and marketing team this quarter achieving 70% of our expanded goal stated in our Q2 call of 10 new hires before end of the year.

Additional, we signed a letter of agreement with Genzyme to negotiate exclusively the co-promotion of Afirma GEC in six initial countries. We've initiated a number of marketing programs to support the sales effort.

Our marketing campaigns now encompass multimedia, including digital, social and print, and we are expanding the use of patient-focused content to drive awareness of and demand for Afirma. As we close out the year, we are reiterating our full year 2014 guidance for the number of FNA samples received to be in the range of 66,000 to 73,000 FNA samples.

Now that we're pretty far into the fourth quarter and have greater visibility, we expect to end 2014 with revenue of approximately $38 million at the low end of the guided range, reflecting approximately 74% growth in year-over-year revenue.

As we continue to secure more payer contracts where we had great success this year, we are confident that our revenue will become more predictable. Number two, payer progress.

Our continued progress with payers is impressive and serves as a foundation for Afirma's success, but also will provide a vector of significant leverage for our commercial efforts in pulmonology.

We are pleased to report that during the third quarter, we established in-network contracts for Afirma with UnitedHealthcare and Cigna, two of the largest commercial health plans in the country with over 27.3 million and 13.7 million covered lives respectively along with Providence Health Plan.

These contracts are all expected to become effective during the fourth quarter of 2014. The total number of covered lives for Afirma is now over 135 million and the total lives under contract will now exceed 100 million. As a reminder, in addition to those plans named above and Medicare, we now have contracts with a number of leading regional plans.

These include SelectHealth, a part of Intermountain Healthcare, Optima Health Plan, Paramount Health Plan, Pacific IPA and Ohio State health plan.

In that work status is important, because it facilitates test adoption, as we believe doctors are more likely to order a test from health plans in that work provider through which the patient bears a lower portion of financial responsibility and over time it will enable a more predictable quarterly revenue.

Number three, advancement of our pulmonology pipeline. We made key advances during the third quarter with our pipeline products in pulmonology. Specifically, we have accelerated our entry into this high-opportunity market with our acquisition of Allegro Diagnostics, which we completed on September 16th.

I will let Shelly fill you in on the financials, but want to take a moment to reiterate the market opportunity this acquisition gives us. With Allegro, we now have a clinically validated lung cancer test based on novel proprietary technology that addresses a significant unmet clinical need and which we plan to launch in the second half of 2015.

Allegro lung cancer test is designed to help physicians determine which patients with lung nodules are at low risk of cancer and can be safely monitored with routine CT scanning instead of undergoing invasive procedures following a non-diagnostic bronchoscopy result.

The number of bronchoscopies performed in the US alone is currently estimated at 250,000 per year.

This number is expected to rise, given that recent medical guidelines now recommend annual CT screening for the more than 8 million Americans at high risk of lung cancer, screening which private payers are now required to cover beginning in January 2015 according to provisions in the Affordable Care Act.

Further, on Monday of this week, the Centers of Medicare & Medicaid Services or CMS proposed that Medicare will now also cover annual CT screening for high-risk patients.

One of the concerns with Medicare coverage of annual CT screening was the potential for a large number of patients with false positive results undergoing unnecessary and costly diagnostic work-up. We believe our lung cancer test will be a valuable complement to this increased screening paradigm.

The integration of Allegro has gone smoothly, with two employees joining our team and with the full breadth of collaborators excited to help transition its product through to commercial availability. All samples, data and company files now reside at Veracyte. We are on track to submit by the end of the year the EGF validation study for publication.

We're also focused on conducting the market development and remaining product development items required to achieve CLIA lab certification and commercialization of our tests in the second half of next year. We believe the commercialization of our lung cancer test will pave the way for our second product targeting pulmonologists our IPF test.

With the news of new drugs approved by the FDA in October, there is a greater urgency in improving the diagnosis of this devastating disease.

We have expanded the number of clinical sites in our prospective clinical trial to 23 in the US and Europe and have made strong progress in translating the test to transbronchial biopsies obtained without the need for surgery. We remain on track to launch our test in 2016.

Also worth noting in the quarter, we added two new issued patents to our portfolio, bringing the total number of issued patents for Afirma to six. Also, as we look into the future, we were sad to announce yesterday the resignation of Sam Colella from our Board of Directors effective November 30, 2014.

On behalf of Veracyte, we'd like to thank Sam for his years of service and contributions as a member of our founding Veracyte Board. His leadership, wisdom and guidance have been invaluable to our company and he will be missed.

At the same time, we are thrilled to welcome diagnostics' industry veteran John Bishop, the Chairman and CEO of Cepheid, a leading global molecular diagnostics company, to our team beginning December 1st.

Since joining Cepheid almost 13 years ago, John has grown sales across multiple product lines from single-digit to almost $0.5 billion translating to a market capitalization for the company of approximately $3.7 billion, all while navigating through a highly regulated environment.

We believe his deep experience and insights will be instrumental as we continue to build our business. Now I will turn the call over to Shelly who will review our financial results for the third quarter..

Thanks, Bonnie. As Bonnie mentioned, we experienced strong growth of our Afirma business during the third quarter of 2014. Revenue for the third quarter ended September 30, 2014, was $9.8 million, an increase of 76% compared to $5.6 million for the third quarter of 2013.

Our growth continued to be driven by increased adoption of our Afirma solution and by our success in establishing payer coverage for the Afirma GEC. Revenue for the nine months ended September 30, 2014, was $26 million compared to $15 million for the same period in 2013, an increase of 73%.

We received 16,781 FNA samples in the third quarter compared to 12,430 FNA samples during the same period in 2013, an increase of 35%. Combined with the first two quarters, we have received 47,612 FNA samples year-to-date, a 34% increase. Our GEC rate continued to be within the 20% to 22% range of total FNAs received.

In terms of reimbursement, when we look at blended GEC rate, the average reimbursement per GEC has increase slightly to about $2,100. That includes everything from contracted payers with known amount to those that are paying zero for the test and after a lag of several quarters, which it takes for us to collect.

As Bonnie indicated, we are reiterating the guidance we provided during our second quarter call for full year 2014 FNA samples received to be in the range 66,000 to 73,000. And we expect to end the year with revenue of approximately $38 million, at the low end of our guided range, reflecting a year-over-year growth rate of approximately 74%.

With the new payers' contracts scheduled to go into effect during the fourth quarter, we estimate that approximately 50% of our revenue will be under contract. Cost of revenue for the quarter ended September 30, 2014, was $4.2 million compared to $3.1 million in the same period of 2013.

This increase was primarily due to increases in variable costs consistent with the increase in the number of FNAs received, offset in part by continuing refinements in our testing process and economies of scale related to the increase in FNAs processed.

Research and development expense for the quarter ended September 30, 2014, was $2.2 million compared to $2 million in the same period of 2013.

This increase was primarily due to direct R&D expenses due to the timing of genome sequencing and other laboratory expenses and increases in personnel and stock-based compensation expense due to increases in headcount.

We expect that in the next 12 months, the increase in research and development expenses will be for the continued development for Afirma and other new products and programs under development, including our lung cancer and IPF programs.

Specifically, with respect to our lung cancer program, the costly clinical validation testing was completed prior to the acquisition, and we are now conducting the analytical verification studies and preparing a test for commercialization in our CLIA lab prior to launch.

Selling and marketing expense for the third quarter 2014 was $5.4 million compared to $3.3 million in the same period of 2013.

This increase was primarily due to increases in fees associated with the Genzyme co-promotion agreement, consistent with increases in cash-related revenue, higher personnel and stock-based compensation expense related to greater headcount as we expanded our sales force, increases in marketing supplies and promotional spending and an increase in allocated cost.

I would note that our selling and marketing expenses for thyroid will continue to ramp through the end of the year as we prepare for the newly amended Genzyme agreement to kick in.

In terms of our lung cancer test, we have begun to spend small amounts and expect that these amounts to be modest through the next 12 months as we prepare for launch of this test. General and administrative expense for the quarter ended September 30, 2014, was $5.7 million compared to $3.2 million in the same period of 2013.

This increase was primarily due to higher costs associated with operating as a public company, personnel professional fees and insurance expenses and other merger acquisition costs, and increases in headcount and in stock-based compensation expense due to additional option grants to new and existing employees.

I'll note that about $1.8 million flowed through our P&L this quarter related to the acquisition of Allegro Diagnostics, including one-time charges of over $1.2 million related to transaction bonuses and severance payments and over $500,000 in acquisition-related costs, primarily legal, accounting and valuation related expenses.

We do not expect a material increase in G&A going forward as a result of the Allegro transaction. Net loss for the quarter ended September 30, 2014, was $7.9 million or $0.37 per common share compared with the net loss of $6.3 million or $6.59 per common share for the same period in 2013.

I would note again that there were one-time charges of approximately $1.8 million from the acquisition that flowed through to our net loss. A further explanation of the acquisition is wanted. We closed the acquisition on September 15th for $17.1 million, comprised of $10.1 million in Veracyte stock of 964,377 shares and $7 million in cash.

Of this cash amount, $2.7 million in cash was paid to the Allegro shareholders and $4.3 million of Allegro's outstanding indebtedness was settled in cash by the company. The total transaction consideration of $17.1 million appears on our balance sheet as $16 million of in-process research and development and $1.1 million of goodwill.

The IP R&D is now accounted for as an indefinite-lived intangible asset. But once development is complete and the product is launched, amortization of the acquired IP R&D asset into earnings will commence.

We now estimate that the acquired IP R&D asset will have a useful life of less than 20 years, but we'll determine the exact period at the time the development is completed. Cash and cash equivalents as of September 30, 2014, totaled $44 million compared to $58 million at June 30th.

The decrease in cash was due to funds being used for operations, cash permitted for the Allegro acquisition and related acquisition expenses. Our total net burn absent the Allegro one-time charges and cash outflows was approximately $5.3 million. I will now turn the call back over to Bonnie for closing remarks..

Thank you, Shelly. In closing, I thought it would be helpful to preview some of the trends we're anticipating going into 2015. We would expect continued pricing pressure on cytopathology consistent with commodity testing trends.

Our Afirma GEC reimbursement rates are expected to be relatively consistent with current rates, given that 50% of our testing will be under contract, with the other 50% comprised of a large number of non-covering payers.

We expect the number of FNAs received will continue to grow at roughly the same pace we experienced in 2014, with GEC test volume continuing at strong trajectory of over 50% year-over-year growth. And finally, I'd like to highlight the key near-term catalysts that we believe will drive our business in 2015.

These include additional coverage decisions, specifically with more health plans and the issuance of final ATA guidelines, both driving continued Afirma growth.

In pulmonology, we expect publication of clinical validation data for our EGF studies, the commercial launch of our lung cancer test and the unveiling of data demonstrating the performance of our IPF classifier on clinical transbronchial biopsies, a key milestone on the path to commercialization for our IPF test.

In short, we are very excited about the phenomenal upside we have ahead of us. I'd like to now ask the operator to open up the call for questions..

[Operator Instructions] The first question comes from Dan Leonard from Leerink Partners..

This is Kevin Chen filling in for Dan. My first question is doing the math, it seems like you have a big increase in FNA in the 4Q. And I know there is a bit of impact in the network contracts. So I was wondering if there're any other dynamics in play here..

I think that when we look Q4 and full year and what we're expecting on FNA volumes, reiterating guidance on the FNA numbers, we're looking at the continued growth of the equivalent FNAs that come in the door, both continuing FNAs received for both side on GEC. And a continued strong percent of those GECs are coming in for the GEC-only.

And our estimation by the end of this year is that we'll capture roughly 18% of the 525,000 FNAs performed..

I know some of the uptick will be from the network contracts. Just wondering if there're any other new dynamics in play that we haven't accounted for..

Something that's important to keep in mind with the contracts that we've entered with United and Cigna, those will become effective in Q4, but both of those payers have been fairly strong payers up to this point as well, because you might remember, the big gain in payments that we get are more when we transition them into coverage decisions from being non-covered payers.

So we've had both United and Cigna now under our coverage decisions for about a year and have been very effective at getting those claims paid at a pretty nice rate of payment.

So in shifting those two payers over to contracts, we actually don't expect to see a big uptick in payments from those payers, because we've already transitioned through that big uptick moving from no coverage to coverage a year ago..

Given your experience with thyroid platform, what are your plans to drive adoption for lung products for the second half of next year?.

There will be a little bit of a different dynamic, especially on the reimbursement side, as we bring that product to market.

You may recall that when we launched the Afirma product back in 2011, we had the opportunity to build stat codes, which were basically a way of using existing CPT billing processes and capture the value that we sell Afirma was valued at through those stat codes.

We had to shift away from that process in the first quarter of 2013 with the new legislation around payment. So we will take the approach of launching the test off a very strong validation data, which will be submitted for publication, we expect, by the end of this year.

And we'll be strategic at beginning to commercialize the test, under which we will begin the development in collection of ongoing clinical utility data, which is part of the package of evidence that we expect to be required to get our early coverage and decisions made.

Right now, we are predicting based on when we plan to introduce the test that coverage would likely come in 2016. And that's why we have in the past said that meaningful revenue from the lung cancer test is likely to happen more in 2017.

I'd reiterate the market opportunity, because as I said in the script, there've been some dynamics that have really unfolded very recently that make us quite excited about the opportunity, and that has to do with these decisions to cover the uptick in screening of high-risk patients.

In the past, we have mentioned that we estimate about 250,000 bronchoscopies done annually in the US on patients that have these suspicious nodules for cancer. With the influx of these patients that are high-risk that will enter screening programs, this rate could actually more than double.

With 40% of those estimated to be non-diagnostic today, it gives us a very substantial test population from which we will test these patients to help them avoid the next step of invasive procedures. So we are very excited. It's a very substantial rick market opportunity for us.

We have a great set of 29 investigators that have been involved in the studies that will be attractive sites to begin the commercialization. And we think that once we get the early studies started next year for utility that we should be in great shape to get coverage for these tests to augment those otherwise cost of unnecessary invasive procedures..

The next question comes from Amanda Murphy from William Blair..

I just had a question on Genzyme.

Can you give us some context maybe around what percentage of your volume today or this quarter was generated by Genzyme and then maybe just some high-level commentary around how that's trended? I know the new contract isn't sort of formal yet, but just wondering how that dynamic has shifted, if at all, just given the new terms of the US-based payments..

Amanda, the way we've always gone about doing the commercialization with Genzyme was that we did it together, and the Genzyme reps worked on converting clients in conjunction with our reps.

And because of that collaborative approach and that collaborative spirit, we engaged and we never broke out the revenue that was generated from Genzyme with the revenue that was generated from Veracyte. And we always collaborated and we split the revenue consistent with the revenue share.

As we move towards this new arrangement where we took on the sales process, Genzyme focused on identifying leads through their activities with their core compound, understanding the market well and talking about the products, they would also do maintenance on the back-end.

We started that process of transitioning this summer after we had the discussion after we renegotiated the high-level agreement done. We started that transition and largely have completed that already now.

So we've been operating in a way where the Genzyme reps have been identifying leads and providing those leads to the Veracyte reps, and the Veracyte reps have been focused on bringing them through the sales process and then on the back-end in ongoing relationships that we have with clients. Genzyme has been including those in their call cycle.

And that's gone really well. It's been really helped by the fact that we finally have a team that's built out, that's really started to hit its stride this second half of the year and been able to talk about the product, et cetera.

So I feel like we've really worked through that transition as the year has gone, as that second half of this year has gone on..

We entered the year with eight territories both our management and at the field level and now stand at 23-person sales team, 19 of those in the field. By the end of the year, we're projecting that we will have 16 territory sales reps.

They will be complemented by six institutional channel managers to help us continue to accelerate in that part of the market, three regional managers and a VP, and they will be complemented with the full Genzyme team, as Chris described, on the front-end and back-end of the process.

And with that shift in our investment, just to reiterate, the overall fees then are expected to drop to 15% of revenue in total from what has been 32%..

So it sounds like given you've managed the transition in advance that we shouldn't think about a meaningful change. Obviously, the Veracyte reps are ramping.

But just overall, we shouldn't see a meaningful change in per rep productivity, if you will?.

Yeah, I think that's correct..

Yeah, we've already gone through that transition. It was a relatively seamless transition to go through quite frankly, and we worked so well together from the beginning that it was really just the next stage of the relationship and just kind of flowed through very well..

And then just wondering if you could talk a little bit about the community sort of academic center dynamics. It sounds like that was pretty stable relative to last quarter. But just curious what you're seeing there. Obviously you had a little bit of a shift in terms of where the volume was coming from.

Any thoughts there and then thinking about going forward obviously how that might trend..

Absolutely. Historically due to vacations and such, Q3 is usually typically fairly flat quarter in terms of volume, but we did see a greater than 7%, actually of the GECs come in from institutions only, and the number of those samples continued to drop.

Because it is a percent of a large number of samples coming in the door, we don't expect anything jumps in that any time soon.

And to reiterate, the 20% to 22% rate of GEC test volume that we have talked about in the past, given that the indeterminate rate can still fluctuate plus or minus 1% here and there, so net-net, that's still a good range to think about. And we've been obviously on the upper end of that.

In terms of growth, GEC-only samples coming in the door were 73% over prior year.

So as we continue to penetrate that market where today we have a fairly small market share compared to our share in the community-based practices, we think we're very set going into the last quarter this year and into next year to see continued acceleration in both of those markets. But we think that the shifting has settled out..

I don't think I heard it, but the accrual revenue in the quarter?.

The accrual revenue in the quarter was just about 25% and you remember that last year it was about 30%. And that was in large part due to larger payments from the unaccrued payers. And so we do have lumpy revenues on a cash basis. So to the extent that a lot of that comes in on a cash basis that we'll work those numbers a little bit.

And we did mention that UnitedHealthcare and Cigna came in under contracts, but it will take probably several quarters for us to get the historical payment patterns to be able to move to accruals. So those are not obviously accrued at this point..

The next question comes from Bill Quirk from Piper Jaffray..

First question for me, I guess, Bonnie, is on the topic around the lab space here for a while. But in terms of [indiscernible] currently, it certainly sounds like the FDA is [technical difficulty] in terms of pushing forward with that. And I guess I'd love to hear your updated perspective on how Veracyte is thinking about that..

I think that FDA has made it very clear that they do want to push forward with some level of regulation. And I think that attending some of their more recent meetings and interacting with them a bit, I don't think any surprises yet. They are intent on seeing right now the best risk dates approach to try to move forward with.

And I think they've also committed to the laboratory industry that they will in fact try to resolve some of the more challenging disconnects between regulating and IVD manufacturer and a laboratory service provider to follow its direction before issuing final guidance.

And so we and others alike continue to be involved in the conversation and continue to try to use case studies to flush out how these could be applied, but not impact the level of innovation and the level of testing that's being offered to patients that otherwise would not be able to happen. They issued the draft guidance October 1.

We are expecting a minimum of 90 to 120 days for comment period. We expect many of the stakeholders across the industry will submit comments and try to refine and improve on the details or the specifics of what we'll be regulated to.

But I think we are part of that process and believe that the work that we do and the studies that we've done will withstand the regulations once they get established..

I was hoping you could touch a little bit, particularly considering obviously the timing associated with the Genzyme change here and obviously recognizing that you're building out your own team to supplement that, but nevertheless can you help us a little bit about pulmonary in any way, how we should be thinking about cash burn for next year?.

If you look at our cash burn for this last quarter, it's a little bit obscured because of the Allegro transaction. So if you strip out the amounts that we paid in cash to Allegro, the burn was about $5.3 million. And in the last quarter for comparison's sake, it was about $6.2 million, in the first quarter about $7 million.

So you see that singling down. We would expect that given our continued investment in sales and marketing, our own feet on the street, et cetera, from our perspective, we'll be adding a small amount of sales and marketing for lung, very small amount next year. I think in aggregate, the dollars go up absolutely.

But as a percentage of the revenue, it will go down over time. From an R&D perspective, I think you should realize that the clinical validation studies for lung cancer have been done, and therefore the clinical utility, analytical verification that will take place in the lung cancer product for next year will be fairly low relatively.

We will spend on the amounts for the IPF studies and those are the higher cost for the R&D side. And G&A we would expect to grow somewhat, but remember there is $1.8 million in there from this quarter that we will not experience in the future. That was because of the Allegro transaction. And then again, the Genzyme fees are going down from 32% to 15%.

And so that helps us from a burn perspective. So I think those are the critical facts. One other small piece is that the Genzyme, you may recall in the past, we had deferred some of our payments to Genzyme.

So counteracting some of those reductions over time in our burn as we have more topline flowing to the bottom, we will have to have a few of those make-up payments. So hope that gives you enough to sort of estimate future burn..

The next question comes from Doug Schenkel from Cowen and Company..

This is actually Chris on for Dough today. Maybe to start, I think while both FNA volume and revenue grew on a sequential basis this quarter, I think GEC volume may have actually declined slightly Q-over-Q. Is this right? And if so, can you talk about the drivers of the Q-over-Q decline? I know there is some seasonality.

But given the higher revenues, FNA volume and success that institutional accounts, I'm just trying to reconcile the decline..

We haven't given out specific details of rates of test volume. But actually, our GEC test volume grew about 4% quarter-over-quarter, and as I said, 45% over prior year. The GEC-only samples coming in the door being over 7% of FNAs received actually grew 10% over prior quarter. So we are still seeing very strong GEC growth..

I think earlier this year, you accelerated the pace of hires for your sales force and you're certainly making strong progress with the 10 incremental hires since you announced the updated Genzyme agreement. It takes a few quarters for the sales reps to become productive, but I think you're in the point for the earlier hires.

Keeping in mind that you had several [indiscernible] earlier this year and you're making good progress of contracted lives, is this a reasonable assumption to expect 2015 revenue growth understanding you are providing guidance this time to accelerate relative to 2014 revenue growth rate?.

So we won't be giving revenue guidance until our Q4 call. But in terms of pace of hiring, yes, in fact a little bit ahead. We thought at the end of Q2 that we would be adding 10 sales and marketing heads by the end of the year, and we actually already have seven of those on board and trained.

The reps that we hired at the beginning of the year where we have the large scale of hiring definitely have hit their stride and are adding FNA conversions consistent with what our more seasoned reps have added.

So we're expecting to come into the year with a very full well trained and full coverage team across both the community and the institutional account. And again by having that layered with the entire Genzyme team continuing to play the front-end and back-end of the maintenance role, we feel like we'll be coming into 2015 with a very strong position..

Maybe just lastly, you noted some modest increases in sales and marketing expense over the next 12 months for the lung cancer test.

Can you just provide additional commentary on what is being done there?.

So there are some market development work that always has to begin in advance of sales and marketing and branding as an example. We have to design the collection kits and do some work on that front.

The planning for the sales training, the types of sales, how we will position the product, the process of selling into, in this case, more institutional accounts, which will give us a little bit of leverage on the institutional work that we have strengthened on the [indiscernible] side, but it will in be a new channel that we will be building.

And that's all happened concurrently with the work that had to be wrapped up on the analytical verification studies and the work to get our CLIA laboratories certified and able to commercialize the test. So it will remain at a fairly low level, as Shelley said, for the course of that work.

And given that we will not have immediate reimbursement or coverage for the test, we will begin the process, we believe, similarly to the way we launched Afirma, where we will seed the market in very specific territories and specific accounts upfront and build a slow ramp to the broad access, very similar to what we did in thyroid which we thought worked very, very well..

The next question comes from Steve Beuchaw from Morgan Stanley..

Bonnie, I wonder first of all if you could help us think about path forward in terms of the continued accumulation of covered lives. You mentioned again that the Blues are an important target.

Do they come along in chunks or is it a few million here and there? Can you help us think about how that progresses?.

We've made, as you know, great progress in getting the covered lives. But the big hole in our success are two major Blues players that jumped out because they covered such a substantial number of covered lives and that would be WellPoint and HCSC. We don't expect those necessarily to move in a group.

We have a lot of activity and effort underway to bring the latest data and continue to work those systems. We were successfully getting 10 million lives under coverage actually in Q2, which was a big step into the Blues.

But because those Blues plans cover about 30% of our patient load, that's why as we think about GEC reimbursement substantially increasing in any way going into next year, we were cautioned, because the majority of our contracted rates will come from payers that have paid very well, because they have been under coverage for a year and we've done a very good job of getting those paid at high rates under appeal.

So won't see a big pickup from those. And since a large number of Blues are still uncovered, they tend to be obviously our weaker payers and it takes us a lot longer to collect the cash from them.

So net-net, when you balance those two out, we just want to help you think through how that will look as we can think about a per GEC reimbursement going into '15. Now when we are successful at getting the Blues under coverage, that then could be a catalyst for change and ultimately there's more contracts that we can get.

But as we move people from coverage to contracts, we wouldn't expect a big uptick, because we typically would have a payer at the higher rate of payment after coverage before we enter into those discussions on contracting anyway.

The benefit to contracting is more being an in-network provider, which will open up more sites, more physicians comfortably using the test and ultimately, as Shelly said, once we get predictability of payment, it will help us [technical difficulty] of our cash-based revenue today..

Just on malignancy classifiers, I wonder how do you think we might consider the contribution to malignancy classifiers now that we've seen them on the market here, albeit briefly, into next year?.

The malignancy classifiers were predominantly launched to really offer the only full solution for managing every patient that is presenting for work up on a thyroid nodule.

Once we move the benign patients to watchful waiting, then many times the physician wants an additional indication of whether a full or partial thyroidectomy would be most appropriate for the patients going to surgery. So in May, we introduced the malignancy classifiers to aid in that.

We've always totaled the total potential market for that product to be relatively small, probably about 10% of what GEC market is, for example, in the US.

But it has two benefits, one being it does provide greater value, which was built into our price increase of the GEC last January and the overall value that the GEC delivers, and it also answers that additional question, so that instead of thinking about using competitive products to answer questions before going to surgery, we can now offer the full solution.

But we're still working through with these products. The publication strategy, getting validation studies and more of the utility studies published, which we will have to do to ultimately get those under coverage. And we would expect that to take some additional time as that happens since we launched the product.

But those will move as GEC gets on to coverage decisions ultimately and we should be able to get some additional revenue out. But it will take time for that to happen and the additional revenue in context of GEC revenue will be small in comparison..

The next question comes from Paul Knight from Janney Capital Markets..

It's actually [ph] Brian Cape on behalf of Paul. Thanks for the color today. Just have a couple quick follow-ups. One was in regards to the accrual revenues looking on a back-dated basis. I know you had some GEC tests that you're still arguing with for pay coverage just in light of the context of in-coverage network here, the 100 million lives.

Can you give us any color on that backlog and the potential for that to convert over time? Is a sizable, or is it something that you think could be kind of bolus in the first half of next year? Is it going to continue run Q-over-Q as you start to accrue things?.

Think about for the 100 million contracted lives at this point, about 52 million of that is for the Medicare. So that's been consistent and that is accrued at this point, both the GEC as well as the patient portions of those. So that's consistent.

As for the additional lives, which we've just announced, that will take several quarters to be able to have those come into the accrual basis when we have predictability. And I think one was 27 million and one about 13 million. So those are the other few big ones.

There are a few other payers that have smaller regional payers who have contracted, and we continue to evaluate every quarter which of those are predictable and their payment schemes.

In terms of how much of a pickup you would expect in terms of timing and such, once they get into the coverage decisions, we find that they are paying pretty consistently between maybe three and four months as opposed to the more traditional eight or nine months or even longer.

And so if you're getting most of those payments in the quarter, you're not going to see a huge pickup when you split from the cash accounting to the accrual accounting. It will help us, because we'll have better visibility in any one quarter. We won't be waiting until the end of the quarter to see where the cash comes in.

But you should not expect a huge bolus of bringing forward into a particular quarter, because we flip somebody from the cash basis to the accrual basis. I mean, we are down to 25% this quarter, which is lower than the traditional sort of low-30%s that we've had for the last several quarters.

I think over time, you would expect that that would move up into more like the 50%, the 70% range. You're never going to get to 100% accrual, because you just have a lot of small payers who will always be on a cash basis. So I hope that answers most of what you were asking..

Yeah, all the backlog stuff too will be accrued at that point when you guys recognize it as well as going forward?.

If United was being treated under a cash basis and we still have some payments due from them, say, this quarter or next quarter and they haven't paid some of those yet, those would still be under a cash basis, will continue under a cash basis with this new start date of the date at which they begin the contracts, and then we'll have to see how the predictability of the collections goes under that new regime and the new rates.

So you sort of have to forget about the past history. You have to look forward. So we won't go back and accrue anything from historical, et cetera.

We'll actually wait for the several months or quarters to be able to predict that under the new regime they are now paying in fact contracted rate, and we understand how much goes to the patients to pay, et cetera..

And in addition, I think there was some commentary talking about FNA samples on an outward basis growing at a similar rate, maybe a little bit of a decrement year-over-year next year, but the maintenance of the GEC growth rate on a year-over-year basis into 2015. Just trying to get some color around the penetration of the institutional clients.

How long do think that tail lasts, where you can support the GEC-only market at a 50% year-over-year growth rate when you have 525 potential, I think, within that, what is institutional, like 30% to 40%? So just trying to think about that over the long-term, GEC-only kind of test growth rate..

We estimate about 60% to 65% of the market is in the ambulatory sector. That market is where we get the cytopathology typically, but also the GEC comes with that as a reflex. So when we predict that, we believe the GEC volume will exceed 50% year-over-year growth.

That's both the GECs that will come from the cytopathology reflex as well as the GEC direct that comes from the enabled lab which are predominantly institutions. The institutional market makes up about 30% of the overall market, academics and other 10%. So we have done very well at penetrating the ambulatory market.

We would estimate probably low 20% market share in that market this year, where the institutional market share will be more like, say, 10% to 12% when you look at the equivalent FNAs and how they break out across those two.

So the reality is we continue to have a tremendous amount of growth opportunity ahead of us in both segments of those markets, and we believe have positioned ourselves with the new selling team and the new structure with Genzyme to effectively grow in both of those segments at a good pace.

And so with that, we're predicting a little bit ahead of this year's growth rate on FNAs that commence on both side of pathology and GEC. So that will continue to grow nicely, but that we'll get a little pickup in the GEC as a result of the accelerated add of the GEC-only from institutions..

I just would add that this was a sector that we had largely ignored. We have only really handled it when people reached out and wanted access to the product.

And as we started to see that tremendous growth in Q1 and Q2, and we talked about that in previous call, and it was starting to become clear that that market was starting to explode, we've gone from having one channel manager focused on that to the end of this year, we'll have six channel managers focusing on that across the country.

So we've staffed that commercial organization to focus on that hospital segment pretty aggressively going forward, because we believe that this is just not an area that we've really focused on or tapped. And so we're really excited about pursuing it aggressively..

The next question comes from Zarak Khurshid from Wedbush Securities..

First on the collection efficiency, building on the last question, how many of the GECs performed in the quarter are actually getting reimbursed in the quarter currently and how has that been trending?.

The way that we model out reimbursement is that on a cash side, so Shelly said, we still accrue predominantly Medicare. And Medicare, as we've said, from a test volume standpoint makes up somewhere between 21%, 22% of the test volume. So that revenue is booked in the quarter that the samples are run, because it's accrued.

The remaining part of the revenue actually has quite a lag, and it's one of the reasons that the business is quite challenging to predict a precise level of accuracy is because the cash comes in at varying levels from various payers and at various points in time.

So as you think about United and Cigna that has now moved under contract, they will probably be paying us under the cash basis even without contract at probably the best rate, but it will still take three, four, six months to collect that cash payment. And the revenue would not be recognized until the cash comes in the door.

And then at the other extreme, we still have, as we said, some of the Blues and other plans that still have not moved to make a coverage decision yet, and those would be our lowest level of payers. And those we would collect a smaller amount, but it also can take a very long time to collect.

As an example, this quarter, we have still been collecting on claims that may have been submitted in the early part of 2013.

So as we model it out, we take the test volume and then have to model and predict the percent that's accrued as easy piece and then for everyone else the percent of that test volume by various payers how much and how long we expect to take it to be collected.

And that's the reason that predicting the cash in the door and the lumpiness of all of that is a bit of a challenge..

One of the numbers that I had in my prepared remarks was that if you combine everything, the blended GEC reimbursed amount with payments from all payers from Medicare, which is known at $3,200, all the way to those who pay nothing and those who pay everything, the blended rate is just above $2,100 at this point. And that is after a lag to collect.

So we sort of look at that number over two or three quarters after the test has been produced. And so that's marched up over time, but that is I think where we feel like there may not be a lot of change over the next year from that rate..

At a high level, where do you think this business is going over time? Do you think it's reasonable to expect 90% of payers to be onboard and paying at a significantly higher level than this $2,100 average level?.

We've always realistically sized the market using what we believe to be ultimately a very fair reimbursement rate of around $3,500. And we definitely believe that the business can get there. The Blues are sort of the big plans right now that hold that back, because they haven't covered yet and they cover a large percent of the patients.

So we'll continue to push that forward. We're very confident that we will get there. In fact, we would hope that next year we will make a lot of progress with the Blues. So we'll continue to dry up the rate. We will continue to focus on getting that under a contracted rate, so that ultimately we can have predictability that allows us to accrue.

That will probably never get, as Shelly said, to even the 80% level. But realistically we could get to 60% to 70% rate of accruing over the next couple of years. And ultimately, I believe we can penetrate 60%, 70% of this sizeable market opportunity..

How many of the total potential US customers have you touched at this stage? Where are the gaps, if any? And what is the push-back from those docs that may still be holding out?.

We have about 60% to 65% of the ambulatory setting. And that group in general is serviced by about 3,500 endocrinologists. The rest of which, which is in the hospital situated is largely serviced by radiology, labs and hospitals. We've barely gone after hospital segment. We just sort of started that process.

Of the 3,500 targeted endocrinologists that we would go after for that 60% to 65%, we have had about 1,200 of those folks that have ordered from us this year so far. So we've got a long way still to go within that group. And we continue to work on them. I think there is always a group of people that lag in these adoptions.

I think the guidelines being published would certainly help as the final guidelines come forward and get published. The other thing that really hold physicians back is that while we've been covered, we haven't been in network.

And there is a lot of barriers in the healthcare system that hold back doctors from ordering tests from out-of-network providers. Insurance companies discourage it. They really push down on physicians that are doing that.

So one of the reasons we're really excited about the revenue assurity that Shelly talked about from going into contracts and ending some of that lumpiness from those payers, it also opens up those networks to physicians that quite frankly are just reluctant to order tests that are out of network.

So we think as we get these contracts locked down, it really opens up segments in the market that have been locked out to us before..

I'm showing no further questions. I would like to hand the call back over to Ms. Bonnie Anderson, President and Chief Executive Officer, for closing remarks..

Just briefly, thank you all for joining us today. We really appreciate your ongoing support of our mission and our business and we look forward to seeing many of you at upcoming meeting. Thank you..

Ladies and gentlemen, that does conclude the conference for today. Again, thank you for your participation. You may all disconnect. Have a good day..