CareDx, Inc. ($CDNA)

All right. Good afternoon, everyone. I'm Evie Koslosky, Head of the Life Science Tools and Diagnostics team here at Goldman Sachs. I'm joined here today with CareDx. So thank you. Thank you for coming.

Thanks so much for having us, Evie. We really appreciate it. I'm John Hanna. I'm the CEO here of CareDx, and I'm joined by Keith Kennedy, our COO and CFO.

Great. So I guess just to kind of kick things off, your strategy since joining the company as CEO, John has been to transform CareDx into a precision oncology leader. I guess, can you talk through the strategy and what this means at a high level and key initiatives that you have in place to kind of achieve this precision medicine goal?

Yes. Thanks so much. We really view CareDx as a precision diagnostic leader. And so when I got to the company, we did the typical thing as a management team to take a review of the entire business and understand like what are our strengths and weaknesses, and where do we really want to play, and where can we win as an organization. And in that strategic review, we identified that really the core competencies of the company are around building belief in molecular testing as the standard of care with health care providers, pulling through repeat testing in indications where patients are having tests ordered by a provider, over a set schedule and we have a team that interacts directly with the patients to schedule those blood draws and pull through the testing. And then lastly, it's around evidence generation, which again gets back to that concept of building belief, but also driving reimbursement for these tests. And so we looked at our full portfolio and all the businesses we were in and decided that our testing services, our patient and digital solutions, which includes our software products and our pharmacy, which are all geared toward health care providers that are ordering our testing. We're very synergistic with one another. But our IVD business, our lab products business did not fit into that category. And thus, we pursued a strategy to divest the lab products business, accelerate our pipeline, and in particular, our AlloHeme asset, which is our lead pipeline asset, in AML and MDS for relapse detection and then do inorganic growth in the form of the acquisition of Naveris, which is a fantastic business, focused on viral-mediated cancers. And so we have really transformed the portfolio of the company to being one that is truly a leader in precision medicine diagnostics.

Great. And I did want to touch on the Naveris acquisition. Really, this allowed you to expand your reach within the MRD market. Just help us understand how this fits into your broader portfolio and why CareDx is the right owner for this asset?

Yes. We think about our strategy as wanting to be #1 in the markets that we are in, which I think is really important because inevitably, as the leader in the market, you're going to end up spending less in sales and marketing to acquire another sample than you would be if you were #3 or 4 in that indication. Second, we want to be in indications where there's a high cost and burden of disease and where the patients are managed by a subspecialty group of concentrated group of providers, and where there is repeat testing where we can use our core competencies to pull through that repeat testing. And lastly, markets that we can service, what I would describe as the CareDx way with our solution selling strategy, including software and pharmacy. And the Naveris product set, NAV Dx fit that that profile in that it is the market leader in head and neck cancer MRD. This is a relatively concentrated group of providers, in particular, the ENT surgeons that initially diagnose and treat those patients, and it is a repeat testing in a high cost and burden. So we felt like as a company, we have core competencies that we could lend to that business to really drive and accelerate its growth and it fits very well with our other solutions. I'll also add, the other thing about Naveris that made it very attractive to us, especially as an initial acquisition was that it was a relatively derisked asset, right? The product has already gone through development, validation studies. There's about 56 publications out there in the peer-reviewed literature on the product, and it's already obtained Medicare coverage. So we thought this really hit our sweet spot around driving clinical belief and awareness, generating evidence and pulling through the testing that our core competencies could really be lend to this product set.

Okay. Great. And I guess from a strategic perspective, MRD is a very competitive industry, but Naveris has maybe a more specific niche within the viral-mediated cancer. I guess how does this like more niche application give you a competitive advantage in the market?

Yes. And I think the key here is we've selectively decided to enter the MRD market, both in AML and in viral-mediated cancers, where we have a technological competitive advantage. In AML and hemo-oncology, our asset there is really focused on patients who have undergone a hemopoietic stem cell transplant, and we're monitoring for relapse in that indication. And that's an assay and a technology that's proprietary to CareDx that has a great validation study around it. Similarly, here in viral-mediated cancers, the technology to detect tumor tissue, viral modified tumor tissue is proprietary to Naveris and has a patent portfolio protecting it. And so we think we have the right to win in those markets and have a strong technological differentiation of our products.

Great. I think you mentioned the acquired [Audio gap] how should we think about the longer-term margin goals if you're able to drive scale?

Yes. They generated 65% margins in the first quarter this year. We're doing the high 70s on our testing service business, and I expect that business to do in the mid-70s long term. We probably have a nice lift, not as much uplift as we have in our CLIA testing on the solid organ side, but we do have a side there. And we think operationally, there are some things we can do at scale at a smaller subscale business can do in terms of the operating margins. And then on the OpEx side of the house, we think clinical trials and evidence generation will be a key item. Sales and marketing would be a key item, but on the G&A side, we think we can put a lot of those services on our platform.

Great. I mean you mentioned that the clinical data. Is there anything like any key catalysts that I guess we should keep in mind within the MRD market, new indications you would look to expand into? And then, I guess, any other growth drivers that we should think about within this asset?

Yes. So the company has already obtained coverage for head and neck and anal cancer MRD. I think the next significant catalyst would include first coverage in the gynecological indication for MRD. And there was some development work to be done on the assay there and then ultimately, validation and submission for coverage, which has not happened yet. And then second, an area that is really unique to Naveris is the indication for aid to diagnosis. And this is the indication where you're using the assay to help diagnose HPV-positive cancer. And that is differentiated because other assays are not used in that regard. So today, you have standard HPV testing, which just tells you, does the patient have or not have the HPV virus. The Naveris test is specific for viral-mediated malignancy. And so in a setting of let's take head and neck cancer, for example, where the patient shows up with either persistence or throat or difficulty swallowing and they attempt to biopsy a lesion in the throat, which can be difficult to access an ENT surgeon, the test can supplement that diagnostic process and lead to a more accurate diagnosis or yield more malignancy diagnoses where tissue may be unattainable or non-diagnostic. And so the company has already gone through the process of requesting coverage in that indication. That's a net new indication, which will require new coverage policy. So it will take time, but I view that as being the other really significant catalysts from an evidence perspective, or coverage perspective that will drive revenue growth for the company. We really like this aid to diagnosis indication because it allows you to capture the patient at the time of diagnosis. So you could imagine a head and neck surgeon, utilizing the diagnostic test diagnosing the patient and getting a baseline value of the NavDx test, which is both qualitative and quantitative in its results. And then after definitive treatment with surgery, radiation, chemotherapy, continuing to monitor the patient quarterly with the testing for recurrence. And so we think that's a great model to pull through the testing, and we're really excited about the opportunity there.

Awesome, awesome. Very exciting. The other recent portfolio change was divesting the lab products business, which you mentioned in April. I guess how are you thinking about strategically reinvesting the proceeds from this and/or your management focus back into your core competencies?

Yes. So we announced that we're reinvesting that in Naveris. So we sold the lab products business for over 3x revenue, and we generated $170 million in proceeds. We'll probably net $160 million after expenses, and that's the price we paid for Naveris. So we feel like it's almost a 1:1 exchange here for a smaller TAM, smaller growth rate, international high regulatory business into CLIA, our business is really CLIA generated in the U.S., so it puts us more management focus and on the CLIA side of the business, higher margin, higher growth rate.

Yes, and I'll just add there. We have an exceptional team that manages that lab products business, and I've really appreciated all the work that, that team has done over the years to create where really is the market leader in HLA typing globally, both PCR kits for disease donor typing and NGS kits for recipient typing. And we believe that this divestiture puts that business in the hands of a company, Eurobio that we have had a long-standing partnership with, and we think has the scale and core competencies to execute on that business really with a focus that we didn't have, right? So we're going to turn our focus back to the testing services. And then, of course, on the acquisition side, the team at Naveris has done an excellent job building that business to where it is today, operating at a cash flow breakeven. It did roughly 70-ish percent revenue growth year-over-year last year. we guided in the call, 30% to 40% growth over the next 3 years. And we are very excited to have that team join CareDx when the deal closes because there's a tremendous amount of talent there and people that are really, really dedicated to serving patients that have head and neck and other viral-mediated cancers.

Great. And I guess shifting gears to AlloHeme. Earlier this year, you published results from the ACROBAT study. I guess as you work towards launching AlloHeme as part of your transplant plus strategy, how should we be thinking about next steps? And then what needs to be accomplished before the planned launch?

Yes, we're really excited about this indication. AML is an indication that is not really serviced by MRD or relapse detection assays today. Those are predominantly monitored with bone marrow biopsies, which, as you can appreciate, is not done that frequently because of the invasiveness of that procedure and other types of testing that are utilized in this space like short tandem repeat assays are not very sensitive for picking up relapse detection. So we initiated a clinical trial in this space several years ago. It was a 2-year follow-up trial that had a number of sites, I think 11-plus sites involved over 200 patients. And what we found was that the test had a really amazing sensitivity and specificity for detecting relapse and gave the clinicians a lead time of over 30 days of identifying relapse before traditional methods, whether it be STR or bone marrow biopsy or just clinical presentation into the practice of having relapse. And so there's a lot of excitement in the marketplace about this assay and its utilization and the ability to then treat patients presumably before clinical presentation of disease. And thus, we're trying to get to market as quickly as possible. So in February, when we shared the readout of that data on our investor call, what we said was, first and foremost, we need to get the data published because clinicians, especially in oncology, they treat based on publication data. They want to see the performance of the product. So we are working toward getting that submitted likely this quarter and with the hope that it gets in print before the end of the year. The second thing we're doing is completing all the analytical verification work for the assay. So this is the technical work where you look at intra-lot variability of the assay, operator variability, run to run, et cetera, split samples run them 2, 3 times and see do I get the same result. We have a lot of confidence in the robustness of this assay. So that's not a concern, but you do have to do all the work and then submit it to New York State to get approval. Additionally, that analytical verification work is a large part of the evidence packet that gets submitted for coverage. And so our goal internally is to have both the New York State submission and the coverage submission completed before the end of this year. We will launch in Q1 2027 commercially probably around the time of the tandem cell therapy and stem cell transplant conference and then presumably look to get the product covered and reimbursed sometime in 2028.

Okay. Awesome, very exciting. I guess from a commercial perspective, how are you thinking about the care sites for AlloHeme relative to the penetration you currently have in your existing portfolio? And then what are your strategies for clinical education and expanding relationships with those oncologists?

Yes, that's a great question. We have been focused this year on medical education. So our team, our franchise team that is driving AlloHeme forward is predominantly a medical team, MSLs, medical affairs, clinicians that are -- that were running the trial, working closely with the site and now are analyzing the data both for the initial publication and subsequent publications and then using that data to educate clinicians that perhaps were not in the trial didn't enroll and participate. So that we have broad clinician awareness of the product before we even launch commercially. As we said in the investor call, there are about 200 sites across the country that do stem cell transplantation. So these patients have high-risk AML, high risk for recurrence, they get a stem cell transplant, those 200 sites are very much overlap with the 200, 250 sites that do solid organ transplants across the country. So we have coverage in these sites, but not always with the Heme-Onc side of the business. And so we'll be standing up a team to focus on this initially and drive the initial adoption of the product in those sites in a way that is measured, of course, because we don't have coverage yet for the product. So we don't want to go crazy right on tests that are not getting paid for. But I do think market adoption is really important, even ahead of reimbursement, especially when you have a novel assay like this that is really building a new market.

Yes. And as we think about sort of some of those investments, like I guess, how should we think about how large the OpEx spending related to this is ahead of getting coverage. You've already cited the ACROBAT study, but then any additional investments in the commercial team.

Yes, as John mentioned, I think majority of the spend will be on the commercial and medical affairs side and less on the infrastructure side, the incremental cost for things like Epic, legal, or accounting and things like that, I think, are marginal nominal. I think the financial KPIs around this product will be in line with our testing service KPI, so you'll think of gross margins and EBITDA margins in line with our testing products.

Okay. And then are there any learnings, I guess, from Naver's existing commercial team in coverage pathway that I guess you can actually apply to AlloHeme?

Yes, absolutely. I mean it is an MRD assay, so it will follow the same coverage pathway. And so we've certainly talked with the team there through the integration planning process about their submission. Obviously, we have a very seasoned team at CareDx from a market access perspective. So we understand the coverage processes and really ensure that the design of the ACROBAT trial was adequate to get coverage for that product. So we feel really good about where it is. And again, it doesn't hurt that the data is really strong in the product.

Definitely. You guys have been very busy. You're also working on expanding AlloSure into liver. So I guess there are any targets in terms of timing of data from the MAPLE study or expected launch-related updates that we should look out for?

Yes, we haven't given any time lines on that. We're still collecting follow-up data from that study. But I think there is a huge unmet medical need here in liver. There's no molecular in for monitoring for rejection. We think that this is an indication where the volume of transplantation continues to grow more rapidly than other solid organs and the use of marginal livers is significant in that space. And so we see a lot of perfusion technology there driving the use of more organs in liver transplantation. And when I go out to centers across the country that have abdominal transplant programs, most of them that do kidney also do liver. And oftentimes, when I talk with the surgeons there, the #1 thing they asked me is, when are you going to launch and liver, right? And I tell him what I say here, which is we have a trial, right? We're completing the validation follow-up. We're going to publish that data. And then hopefully, we'll have a robust package that enables us to really define what is the intended use population of that product and how should it be utilized in the market because it's different in every organ, right? So for example, in kidney transplantation, our protocol was 7 tests in the first year and then quarterly thereafter. But in heart and lung, it's 11 tests in the first year, it's monthly. And so the follow-up cadence and management of those patients and the cadence at which they do other serum-based monitoring test varies organ by organ.

Okay. I mean you touched on this a little bit, but I guess, maybe talk through some of the benefits of AlloSure kind of already fitting seamlessly into your existing workflow and relationships. I guess being able to use the infrastructure that you already have in place?

Yes, absolutely. I mean the same for AlloHeme, right, or Naveris, like we feel like we have built infrastructure for workflow optimization inside of specialty clinics. That includes the investment we made in Epic Aura, so that we can provide direct ordering and reporting into the EMR system. Our CareDx Cares team, which is distributed across the country really serves two functions. One is supporting workflow inside of the practice around ordering and reporting. And then the second is around engagement of patients pull-through and schedule those blood draws. And so we're very focused on workflow as a company. And in our last earnings call, I talked about this as our commercial strategy, having really two motions. One is clinical differentiation and the second is workflow optimization. And so everything we do that is field-facing is oriented around those two activities.

Okay. Great. And I guess, turning to your existing portfolio. You have impressive penetration within transplant centers. I guess, how do we think about the opportunities for CareDx to kind of continue growing down volumes even in environments where transplant volume is maybe more muted?

Yes, the secular market has been rather flat the past two years. And we've seen this in the past with transplantation. You tend to have a flat market for a couple of years, and then it will suddenly grow by 10%. And then it will be flat for couple of years, then it'll step up another 10%. And I think some of that is related to just the capacity, right? The surgical suite capacity, the bed capacity in the centers you build up a program to 300-plus transplants and then they got to take a deep breath and say, okay, do we have enough resources to do more than this. And so we're seeing that dynamic play out in the marketplace. But despite that relatively flat year-over-year rate, we're growing at 17% year-over-year in our testing volume. But I really attribute this to selling deeper into existing accounts. And what we've seen over the past 1.5 years or so is a focus on building belief and awareness in molecular testing as the standard of care across heart, kidney and lung transplantation, which has allowed us to outpace the growth of the market substantially. And in particular, in heart, as more data gets published showing that heart care is prognostic, both for graft dysfunction and CV-related mortality. The utilization of the testing is increasing and clinicians are doing fewer biopsies, which is great for patients because getting a cardiac biopsy is not a pleasant experience, and the data shows that it doesn't help detect rejection any better than using molecular testing at all. In kidney, we're seeing growth in the business, both in the return of surveillance adoption across the country, but also in for-cause testing. And in our last call, I said that 50% of our kidney transplant volume is for-cause testing. I mean the patient has some clinical sign or symptom that leads to the test being ordered. And we have been very focused on for-cause indications as a company and helping both elucidate how the test can be used in for-cause settings, but also published data on for-cause use cases for example, the transition from dual therapy of tocilizumab and prednisone to monotherapy [ belatacept, ] which is a standard standard but a broadly utilized practice across kidney transplant centers because [ belatacept has a lower toxicity profile than [ tracolamus. ] And therefore, they believe that the patients survive longer without complications if they can get them onto that monotherapy the lower toxicity comes with less efficacy, though, right? And so you want to monitor those patients closely to ensure that they don't have a rejection event. And so these types of for-cause use cases or what we have focused on in the marketplace. And it's allowing us to grow both the surveillance utilization and the for cause utilization hand-in-hand.

Okay, okay. The other thing I wanted to touch on, we're approaching about a year since the draft LCD from MolDX on transplant testing. I guess what's your latest thinking around timing of when we could get a final decision? And then maybe remind us of the various scenarios that could play out from a financial perspective on the business.

Great. Yes. So we still anticipate that the policy will be finalized in the first half of this year, sometime around the anniversary of the draft date, which was mid-July. Generally, CMS follows their own rules to get these out within a year or they withdraw the draft. We think this one will get finalized. There's been no indication otherwise from the contractor or from the agency. In our public remarks and discussions with investors, we have laid out a scenario that is consistent with the draft itself because that's all we really have to go by. Here's what the draft says, which is that kidney testing would be paid in a bundle of four tests in the first year. And because we believe, over time, patients will get more than four tests in the first year, we assigned a $7.5 million headwind to that in year -- on an annualized basis. And then heart testing, the policy said that it would pay for heart testing in a bundle of 12 in the first year; and then two, in each subsequent year. And today, we do, on average, four tests in year 2 and 3 for heart transplant patients, which would create another $7.5 million headwind. So a total of $15 million on an annualized basis. And we built into our guidance assuming it finalizes midway through the year, $7.5 million as a headwind for the second half of the year of reimbursement. Importantly, as I've been articulating for the past year, this should not impact volume or utilization of the product, right? We focus on promoting the use of the test consistent with the clinical validation study, which is in kidney 744 and in heart 1244. And then number two, supporting the clinicians and ordering the test the way that they feel is appropriate for their patient population. So not every kidney program in the country that does surveillance testing orders 7 tests in the first year. Some of them do 5, some of them do 4, some of them do 6, right? It's up to their schedule on how they manage the follow-up of their patients. And we're not going to change the way that we promote that because it is important, I think, for us to drive total penetration and adoption of the products in the marketplace, and we recognize that Medicare fee-for-service is only a small slice of our overall business, right? So if a private payer is going to pay for kidney testing on a per claim basis, we want to ensure that if the physician wants to order 7, they order all 7 and all 7 will get done.

[Audio gap] to follow suit or you think that they would have their own [Audio gap]

They will continue to make their own coverage decisions. We have not seen any evidence in the marketplace that commercial payers follow these very esoteric Medicare coverage policies with bundled payments. That is not spilled over into the private pay market yet.

Okay. Great. And then you recently you're starting to do these EPIC integrations, I guess, how much of an upside could this speed to your current guidance? And what is the feedback and in the centers are already integrated?

The feedback has been very good. We're in the early innings of this. We're hoping to lift from about 4 to 6 a quarter in a privileged world, I'd like to have the team up to 8 to 10 a quarter. And our pipeline of in implementations right now is around 16 centers, and we expect that to continue throughout the rest of the year. Generally, people have seen uplift from Epic likes to guide around 10%. Exact in a world had very high because of the channel they went after. I don't think we'll have that high of an output, obviously, but I do feel there will be an uplift. And I've told the Street that we get to 20% implementation. I'll come out and talk about what that looks like. My concern right now is that I talk about this too early and people start projecting this to occur and then we disappoint to buy side.

Fair. So your team has also done a lot of work kind of improving the revenue cycle management. I guess, when should we start to see the benefits of the out-of-period revenue start to stabilize? And then how much work do you think is left to be done on those initiatives?

Yes. We have said publicly, we're targeting internally the team to get to $2,000 per test -- average payment per test, and we are -- in February on the Q4 call, I came out and said that we would average around $1,400 a test, came out in April on the Q1 call and said we ended the year at $1460, and hopefully, as the year progresses, you're going to [Audio gap] protest and migrate into what [Audio gap] quarter, which people look at as the average sales price or ASP.

Okay. And then your long-range plan targets 20% EBITDA margin. I guess beyond the divestiture of the lab products business, what specific operational steps or infrastructure consolidations are required over the next several years to kind of achieve this profitability milestone.

Internally, we're focused on shifting our R&D resources to end to innovation. And as part of that, there's operational aspects of how you go to market, which requires consolidating your lab information systems, you'll see a lot of lab companies. You'll hear Neo talk about their consolidating the lung systems, you'll hear about us talk about it. The reason for that is there's a lot of very bespoke operating platforms and diagnostics, and that is evolving and software is evolving. So we're all going to this sort of technological revolution of building the chassis upon which you can launch a product quicker. And when physicians experience something that causes friction, you want to change that. In order to change that, that involves a lot of software engineering, and we're all designing our systems in order to move quickly, and we're doing the same. So we have an Epic Aura implementation going. We have Epic Enterprise, which were in the second lab company after Exact to do that, and then we're doing a lab consolidation project. And all that is geared towards aligning the operations behind the commercial go-to-market motion.

Okay. And how are you thinking about capital allocation moving forward? I mean you have a new $100 million share repurchase authorization. So I guess, how do you plan to balance this with future M&A or organic investments?

That's a great question. We get this in every investor meeting. So we're trying to be very balanced and disciplined about this approach. We still feel like investing in organic growth, specifically in our CLIA markets. That is the right and most optimal place to generate ROIC for the investors. However, we do feel our stock is very undervalued relative to our own internal intrinsic models that John and I look at. So when we have excess cash, which we are generating at an increasing, rate we have been buying back the stock. So we feel this is an opportunity to reduce our share count, continue to reward employees, but at the same time, reward our investors. That's how we're looking at it.

Great. And then with about a minute left, I mean, what do you feel is the most underappreciated part of the CareDx story? And what are you most excited about, I guess, in the next year?

Yes. I think the most underappreciated part of the story is just the; a, the tremendous impact that these products have on patients in both transplantation, heme and viral-mediated cancers. And given that outsized impact that they have, just the earnings potential of the company. Our tests are utilized on a very high frequency and have strong reimbursement. And we think that creates tremendous earnings power for the company. And that's why we felt really good about the 3-year LRP that we put in place and continue to talk about to investors. What I'm most excited about, of course, is the pipeline, right? A, the integration of Naveris and really taking our core competencies around building belief, pulling through repeat testing and generating evidence and applying them to the Naveris products and to the market; and then two, in AlloHeme, building a new market for relapse monitoring in AML. And these are things that we get super excited about all the time. Sometimes we say we can't believe people pay us to do this because it's so much fun. But I think that what you're going to see here is a really strong growth company through the end of the decade.

Great. It's a great place to end. Thank you so much.

Thank you so much for having us.

Thanks for having us.

Thank you, it's good.