iRhythm Holdings, Inc. (IRTC) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by, and welcome to the iRhythm Technologies Business Update Call. [Operator Instructions] Please be advised that today's call is being recorded. [Operator Instructions] I would now like to hand the call over to Leigh Salvo. Please go ahead.

Thank you. Good afternoon, and thank you for all for participating in today's call. Joining me are Kevin King, CEO; Doug Devine, CFO; and Dan Wilson, EVP, Strategy and Corporate Development and Investor Relations. Before we begin, I'd like to remind you that management will make statements during this call that include forward-looking statements within the meaning of federal securities laws, which are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Any statements contained in this call that are not statements of historical fact should be deemed to be forward-looking statements. All forward-looking statements, including, without limitation, those statements related to CPT coding decisions, our expectations regarding government and third-party payer adoption of CPT coding decisions and the timing thereof and other statements relating to reimbursement coverage, these statements involve material risks and uncertainties that could cause actual results or events to materially differ from those anticipated or implied by these forward-looking statements. Accordingly, you should not place undue reliance on these statements. For a list and description of the risks and uncertainties associated with our business, please refer to the Risk Factors section of our most recent annual and quarterly reports on Form 10-K and Form 10-Q, respectively, filed with the SEC. This conference call contains time-sensitive information and is accurate only as of the live broadcast today, August 4, 2020. iRhythm disclaims any intention or obligation, except as required by law, to update or revise any financial projections or forward-looking statements whether because of new information, future events or otherwise. And with that, I'll turn the call over to Kevin.

Thank you, Leigh. Good afternoon, and thanks for joining us. I hope you're remaining safe and well relative to the effects of COVID-19. After much anticipation following their normal process, yesterday evening and this morning, the Centers for Medicare and Medicaid Services, or CMS, published the proposed Medicare Physician Fee Schedule Proposed rule for 2021. The proposed rule updates the payment policies, payment rates and other provisions for services furnished under their Medicare Physician Fee Schedule, which goes into effect on or after January 1, 2021. The issuance of the proposed rule is followed by a public comment period that closes on October 5, 2020, and will culminate in CMS' final rule expected on or after December 1 for implementation on January 1, 2021. Therefore, the proposed rule is subject to change. On the call today, I want to provide some background as well as additional detail around the proposed rule and what it means for iRhythm should the proposed rule remain unchanged. We will not be speaking to our financial results nor providing guidance, and we ask that you limit your questions to reimbursement matters. As issued last night and this morning, the proposed rule includes payment rates for 2 new Category I Current Procedural Terminology, or CPT, code sets related to long-term continuous ECG monitoring and recording. These new code sets are in addition to the existing Category I CPT codes for monitoring less than 48 hours and will replace the current Category III temporary codes as the primary codes that iRhythm uses to seek reimbursement for its ZIO XT service. The 8 new Category I CPT codes were split between 2 sets of 4 with rates tied to wear time of greater than 48 hours and up to 7 days and from greater than 7 days up to 15 days. From a coding perspective, we expect that the new CPT codes will be adopted for reporting purposes by all U.S. payers beginning January 1, 2021, when the new codes become effective. That said, as I mentioned earlier, we are now entering a comment period that closes on October 5, and the final rule will be released in early December. Before we discuss the estimated impact of the new codes, it's important to note that the adoption of the new code sets, there was clear recognition of significant value that long-term continuous monitoring brings to cardiac disease patients. These additional codes were established to define the associated time and work to monitor, detect and identify cardiac disease over longer periods of time, which have shown to lead to higher detection rates. iRhythm is a pioneer in this field and has been developing the clinical data for long-term continuous ECG monitoring for nearly a decade. Our clinical data has shown that not only does long-term continuous monitoring lead to higher detection rates, it often leads to changes in care management. Said another way, the data that is captured over 14 days is of critical importance when determining care management for a patient. The transition of a Category I code set is a significant milestone for the company and further enables our ability to change the standard of care in cardiac monitoring. I would also like to recognize those groups who were involved in this process: the staff at CMS, the American Medical Association, the Heart Rhythm Society and American College of Cardiology. All spent tremendous time and energy through the process to educate themselves on not only the clinical utility of long-term continuous monitoring but the complexity of our business model as well. The experience we had through the process gives us great confidence that unique business models like ours that are fully integrated data businesses utilizing artificial intelligence will be valued appropriately. Now turning to what the new codes mean from a financial perspective. In order to better understand the impact and provide full transparency, we, along with our reimbursement consultants, have analyzed the new codes and how they would have impacted our business in 2019 as currently proposed. If we were to apply the new codes and proposed rates, our 2019 revenues would increase slightly based on the full year 2019 ZIO XT volume and wear time mix. This estimate is based on our 2019 volume and revenue mix of ZIO XT prescriptions and wear times, site of service and our revenue mix across CMS, direct bill contracted, noncontracted third-party payers and client bill. For our Medicare fee-for-service revenue, the new proposed rates are an increase over our existing rate with Novitas. It is important to note that the 2021 conversion factor in the proposed rule is proposed to decrease nearly 11% compared to the current 2020 conversion factor. The conversion factor is applied uniformly across the entire fee schedule and is not unique to specific CPT codes. Despite the decrease in the proposed conversion factor, the proposed RVUs, when applied to the proposed conversion factor, results in a relative increase in our Novitas rates, which as we interpret is a recognition of the increased clinical value of ZIO over the last several years. For our direct bill contracted revenue, which represents contracts with third-party payers with a range of negotiated rates, the majority of our revenue in this category are contracts with negotiated rates that are not indexed to CMS rates or contracts that have already been negotiated. For the remaining portion of our direct bill contracted revenue, the contracts contain what is called default language, which determines the payment rate in the case of a code change. Within these subgroup of payers, in some cases, the new rate will be above existing rates, and in some cases, the new rate will be below existing rates. The net impact of these contracts, along with the change in CMS revenue, are included in the estimated revenue impact provided earlier. Looking ahead, we believe that the new national CMS pricing, there are a number of additional tailwinds and opportunities for iRhythm that may lead to higher volumes and higher revenue over time. Category I CPT codes are associated with clinical validation of a new technology, which may improve patient access and physician willingness to adopt the technology. In addition, with national pricing, we have the added flexibility and benefit of utilizing all of our 3 IDTFs, allowing us to scale our clinical operations in certain geographies. And finally, there are other entirely new sources of potential revenue that we can now pursue, including contracting from Medicaid and potentially billing for our home enrollment service. In closing, we're pleased that the proposed rates reflect the significant clinical value of long-term continuous cardiac monitoring. We expect the rates to become final in December and go into effect next January. We will be sharing updates between now and January, if any, as appropriate. And most importantly, we're excited about the transition to a permanent code and the increased access this will bring patients. We're looking forward to continuing the work of delivering our ZIO service to the millions of patients who benefit from it. With that, we'll now turn the call open to questions. Operator?

[Operator Instructions] Our first question comes from David Lewis of Morgan Stanley.

Can you hear me okay?

Hi, David. Yes, we can.

Good. That's good to know. So Kevin, just a few questions for me this morning. Just to overly simplify a lot of very confusing information this morning. Would it be a decent assumption to basically assume that around 80% of your business is at least up around low to mid-single digits based on the reimbursement outlook you walked through on this call?

Is 80% of our business up low single digits based upon this? Well, I think if we bring -- I think the answer is yes. It's kind of an odd way to cut the data. But certainly, CMS is up proportionately. Our client bill business is not affected. That's in the low single digits. And the remainder of our contracted business, as I described, is a blend of completed, to be completed. Some will go up and some will go down. So I'd say, yes, directionally, it's about right.

Okay, very helpful. And then could we -- just you talked about some strategic direction initiatives. I'm just sort of curious, Kevin, you gave a sense of time line on when Medicaid initiatives, home enrollment initiatives could begin to be accretive to the P&L. And the other question is, Kevin, some of this revenue, whatever the revenue accretion is, low to mid-single digits next year, that's going to obviously contribute a rather high-margin rate. What is your sort of philosophical view in '21 as it relates to spending that money or letting it drop through for shareholders?

Well, I think relative to increased margins, this has been part of our plan for quite a while to get to the upper 70s. We've been at -- I think Q1-ish was around 75%, and we've had a long-term goal of being between 75% and 80%. This is certainly going to help us there. Our drive towards cash flow breakeven and the messages that we've been giving investors throughout last year and early this year remains. So I don't see us necessarily picking up spending relative to this specific activity. I said, of course, if we had strategic initiatives that could pay dividends back to the company in terms of market share growth, shareholder return, we would do it. But I don't think that there's a direct correlation. David, could you repeat the first part of the question again? That was kind of a long question for me to process at the same time.

Sorry. I think you got it. I was just trying to get a sense of whether the incremental revenue contribution next year will fall down at a higher rate. So are you committed to dropping through that incremental revenue dollar or spending it away, reinvesting it, effectively?

I think from where we stand right now, it would drop through. I think that's a way to think of those.

Okay. And then Kevin, I think you were pretty clear on this call, but I just want to kind of reiterate for clarity perspective. In terms of the third-party payer relationships in your direct bill business, generally speaking in these permanent coding situations, they -- that goes into effect rather immediately. But just confirming that in 2021, you do think third-party commercial payers as of Jan 1 will honor the CMS expanded rates?

Yes. Maybe I could just unpack that a little bit. So contracted -- commercial plans, whether they're contracted or not, are typically not indexed to CMS rates in our view. I would say that, over the past year, we've been working with many of our contracted payers, and some of them have agreed to move to the new code set for billing purposes, keeping our payment structure the same given that they're not indexed. But the 0297T family of codes goes away and a new code set comes in, so they have to update their billing system. In the case where they aren't indexed, we feel that we're in a stronger position relative to these plans because there's a higher RVU that puts us in a stronger negotiating position relative to those contract plans. In some cases, commercial contract plans have predetermined indices relative to CMS pricing or RVUs. In some cases, it's below. In some cases, it's above. And it's sort of a starting point for negotiation, if you will. And when we net all of those factors out, we think, in total, our business will be up slightly overall.

Okay. Just last question for me, Kevin, very clear. Just the second part of my other question was just the strategic initiatives you referred to as it relates to home enrollment and Medicaid. Could you just give us some time line in terms of the roll-in when some of those initiatives could impact the P&L? Congratulations.

Yes. Thank you, David. Yes, look, I think these are potentially longer-term benefits for the company. Up until now, we've had essentially zero remuneration for Medicaid. Medicaid has run at a state level and generally don't honor CPT III codes, and this is something that we'll be able to kick in to gear. That said, it will take time for us to negotiate those types of payment rates. So it's certainly not immediate. I'd probably call it in the 2-year time frame, probably is a safe bet. On the home enrollment side, this is a component that we have to explore here. We believe the code language will allow us to bill in, in some cases but perhaps not all, for the hookup of our service. Today, in the case of home enrollment, we're not billing for that at all. We don't believe that we're capable of billing for it, broadly. But this is something that we think we'll be able to get, and that's something that we'll pursue early next year when the code set is finalized.

Our next question comes from the line of Joanne Wuensch from Citibank.

Congratulations. Two quick questions. Was there anything that surprised you when you saw these final codes? I know the process has been long. You've been close to it and very straightforward regarding it, so I'm curious about that. And then is there anything in the codes that makes you change your business model?

Sure. Joanne, this is Kevin. Taking the first question last. No, there's nothing about the code language that is surprising. As we described on previous calls, we worked hand-in-hand with the various governing bodies, AMA, ACC, HRS, in drafting and constructing that code language. So we were well aware and well informed, and we think this best represents the interest of patients, providers, service providers like ourselves in the industry. Anything surprising here, look, I think at the highest level, the movement to a Category I is validating and great news for the company. It's a positive in all directions. It's positive for customers, it's positive for patients, and it's positive for the company. The initial ruling is highly favorable in that our relative value unit is increased compared to where it was as a calculated value. The conversion factor going down is not so much a surprise, although it's enumerated as a percentage now. But we did know that the physician payment for evaluation and management was likely to go up in the coming year. And the way CMS operates in a balanced budget, other things would have to change. So this is related to all CPT codes will be reduced by some percentage. And the fact that we're coming out of this net positive despite a nearly 11% of decline in the conversion factor, I think, is really validating from the standpoint of the uniqueness and value of our service. So it's probably more validation but not a surprise.

And the second part of my question, does this change the way that you think about the business in any way?

Well, I think to the comments I was just making today that I think we think about the total available market as potentially being larger now given that patient access and physician prescribing patterns may increase as a result of having a permanent code versus a temporary code. From an operating perspective, day-to-day operating perspective, no, it doesn't change anything about our business. We're as confident and as aggressive in pursuing leadership in the marketplaces we've had with them then. I can say that after having discussed this topic for about 4 years, I'm relieved that it's behind us or it's resolved or completed. But I wouldn't say there's any major operational change.

I'm sure we'll find something new to bother you about.

That wasn't directed at you. That was -- but thank you. Appreciate it.

Our next question comes from the line of Margaret Kaczor from William Blair.

I wanted to follow up a little bit on some of the comments you made to David. I think CMS was maybe 28% of sales in 2019. So as you guys guide to slightly up, is that both for commercial changes broadly, not just those indexed to CMS and the CMS changes or not? And can you give us a sense of how much of commercial's indexed to CMS?

So the broad answer is it's for the total business is what we were saying if we recast 2019 revenue, assuming these new rates and assuming changes to commercial carriers that might be indexed to it, the net-net is that the business will be up slightly. The percentage of our business that is not indexed is a majority. So that's more a minority that is either not indexed or has not already been previously negotiated.

Okay, that's helpful. And then as we think about those others that are not indexed in this scenario, over what time frame do you think you'll get a sense of that -- those changes? And do you think they can go up from there or hard to know?

Well, we're up against a deadline here, right? Because the existing codes will expire on December 31, so we have to complete all of these contracts before the end of the year. We're well underway with it. And the articulation of these RVUs is going to be kind of a catalyst or propellent that will allow us to complete those conversations. What percent -- yes. Sorry. No, go ahead.

No, it just sounds like we'll get that answer by the end of the year and maybe incrementally over the next few calls, which will be good. And then in terms of the gross margin, so maybe we don't know the exact COGS per unit that you have, but let's say it's around 100. If we assume a 5% increase in blended ASP that gets us to maybe 100 or 130 basis points in gross margin benefits, is that something that's in the ballpark, give or take, if you recast 2019?

Recast 2019, say that once again, Margaret.

So if you recast it on a gross margin basis, 2019, based on the new rates, is it roughly 100, low 100 basis points in gross margin improvement? Is it just...

Yes. I'd have to turn to Doug for a kind of thought on that. Doug?

Yes. So I mean -- so obviously, there's not going to be any change in cost with this change in ASP. So I mean -- what I'm saying is you can do the math on that. I mean, we'd say a little -- I mean 5% would be a little bit on the high side.

Our next question comes from the line of Kaila Krum from Truist Securities.

So I mean, is there any reason why the proposed rates would significantly change in either direction from here? And I guess I'm mostly curious about that conversion factor, which is a lot lower than we expected. So is that something you still think is kind of up for debate from here? I just would love to get your thoughts on that.

Sure. Kaila, it's Kevin. So the conversion factor is something that is up for discussion in this comment period, certainly. And it is something that is broadly applied across, and it may change in the final ruling. That said, the CMS is required to have a balanced budget. So if some things have gone up, some things must go down. So something else would have to give somewhere on the same order of magnitude, and EMN -- E&M payments, I think, are a fairly substantial portion of the CMS budget. And that's why the conversion factor has gone down by so much. But it's important to note that this is not specific to iRhythm, right? This is a conversion factor change for all CPT codes in 2021.

Yes, that makes sense. I appreciate those thoughts. And then just on your MCT business with ZIO AT, any implications, I guess, for that business going forward?

No. These codes are all specific to our ZIO XT service and the prescribing of things greater than 3 days up to 15 days with a demarcation at the 7-day point that we described. There's no implication for the CPT codes for ZIO AT.

Okay, okay. And these -- sorry, I think that those codes may have been updated as well. But just specific to this call, the extended wear, it sounds like the focus is just on the extended wear business.

Extended wear, I believe Holter monitoring was reviewed, and Holter monitoring stayed about the same, I think, is what it was. Is that right, Mark? You've been out there. Yes, yes. So Holter monitoring was reviewed in this period as well, but I don't think that would change materially.

Slight increase in the RVUs, but the overall dollar amount is about the same.

Our next question comes from the line of Suraj Kalia from Oppenheimer & Company.

Kevin, can you hear me all right?

Yes, I can.

Perfect. So Kevin, help us understand for November when the final rates come out a read of the current proposal. Specifically, they're talking about a crosswalk comparison with percutaneous neurostimulation leads which, by definition, are more resource-intensive. And they also say that this is not clinically appropriate, but they do not have -- I forget what the words were -- they don't have invoicing for extended patch monitors. When CMS is specifically saying that this is not a clinically appropriate comparator, how confident are you all that this will be maintained in November in the final proposal -- in the final rule and then move on to Jan 1 implementation?

We're very confident in the data that was provided, and we're very confident in the calculation of the RVU. The crosswalk of the supply is a reflection that our business model is not a typical business model in that we are the developer, the manufacturer, the supplier and the provider of the service. So there is no sale of iRhythm to iRhythm. It's just one integrated service. And so we worked hand-in-hand, as referenced in the CMS note, and we provided over 500,000 invoices to CMS for our service across a wide range of contracted arrangements, commercial carriers, noncommercial carriers, patients have paid out of pocket, CMS rates and everything, and those were all used. At the end of the day, they wanted to find something that was equivalent in supply cost, and they chose this factor of this neurology [ chit ] or what was described there. The calculation of a PR -- PE RVU is very complicated, involves over 2 dozen steps to calculating that, and there are numerous adjustments, including reductions of direct and indirect costs and a whole variety of assumptions on who utilizes it by specialty such that there's a net reduction. And I think that calculation was done well, and we'll support it. And I'm confident it's what CMS wanted, and that's where we've got the rates. I'm not concerned about that changing.

Got it. And Kevin, the math that we have done, and maybe you haven't specifically said the rate dollar amount, but maybe you could give us how directionally off we are. The math that we did, if we take the practice expense RVUs for this crosswalk code, it gives us -- the total RVU's in the 10.14 range, and which translates into roughly around $340 for the 8 to 15 days. Am I too far off or are we reasonably close based on you guys' internal analysis?

I think you're very close. I think you're very close.

At this time, I'm showing no further questions. I would like to turn the call back over to Kevin King for closing remarks.

Thank you, operator. Thank you, everyone, for joining the call and hearing about CPT, our communications here today. We wish you well and look forward to talking to you on our earnings call later this week. If there are any questions or comments, we could try to address them at that time. Thanks very much, and goodbye.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.