Natera, Inc. (NTRA) Earnings Call Transcript & Summary

My name is Doug Schenkel. I'm with the tools and diagnostics team here at Cowen. It's my pleasure to welcome Mike Brophy, Natera's Chief Financial Officer to the 41st Annual Cowen and Company Health Care Conference. Mike, thanks for being here.

Yes. Thanks for having me. It's a pleasure to be here.

Yes. Mike, I wanted to kick off by sort of just thinking out loud about 2020 and thinking about kind of what we're building off of as we head into 2021. So for you guys, I mean, I think you generated around 30% revenue growth last year on the whole. And when you kind of look at that level of growth, from the outside, it's not obvious that the tariff is a notable negative COVID-19 headwind, but you go back to kind of late Q1 into Q2 growth, it was still robust, but it moderated to, I think, it was 16% in Q2. So it just speaks to the fact that as you got to the back half of the year, there was quite a recovery. And that, coupled with continued strong execution, really put you in a place where you still grew pretty robustly in 2020. As you think about coming out of '20 and heading into '21, when we think about comps, where were the headwinds most pronounced in 2020? How long did those last? And is there still any pent-up demand that you think could benefit you in 2021? Or is that behind you at this point?

Yes. That's a good question. I mean I think one of the -- I think the biggest issue with the year-on-year comps is that we signed a couple of partnerships in 2019, so we booked some upfront revenue just like license fees from having signed deals with the Beijing Genomics Institute and then more topically the -- with Foundation Medicine. And so the total revenue comps are a little lumpy just because of that. So if you zero in -- so like, for example, for the full year last year, we grew 35% year-on-year total revenue line. But if you zero in on like the product revenues, we actually grew like 43% year-on-year, right? So that to me is, I like that trend a lot. I mean it was like -- in fact, I thought it was a little bit dicey in 2019 when we were showing these revenues and margins, and that can't last because you just can't live on those kind of licensing revenues. So to be able to grow gross margins and grow product revenues and have the comps still look pretty good, even though '19 was maybe a little bit inflated from a revenue perspective, just tells you how strong the underlying business has been the last 12 months or so. So like as far as like what the headwinds were for us as it related to COVID, I mean, it's amazing because I mean I think you and I were chatting, like on March 1 last year, it was like the last public thing that we did together, I'm like joking around about like this is not going to impact us. And you know what, I mean, I think there was a period of time there where there was maybe a couple of weeks, 3 weeks, where people were having a hard time getting their appointment scheduled, but people got back in line and they got their thing scheduled and they got their an NIPT test on. And when you get the NIPT, overwhelmingly, you just go ahead and you get the blood draw for the carrier screening test. So even though standalone carrier screening, I think, could have been massively impacted by something like COVID, because it's most convenient to order that test at the same time you order Panorama, we saw basically no impact to the carrier screening business either. So it's a pretty transient impact, and then as we look back at the year, what we see now is that we are actually winning accounts through the course of the spring and summer. And I think that is just -- a lot of that is kind of just organic execution. And maybe also, we were -- because we focus so much on these customer service tools, we already had a very slick mobile blood draw operation already set up that used to be kind of like a nice to have, like an extra bell and whistle for people. All of a sudden, it became like critically important, at least as it relates to talking to new customers about our capabilities. I think all those things kind of just came together, and we were able to just kind of grind right through.

Yes. I mean it's probably like you would tell your kids, sometimes you create luck, right?

Yes.

So beginning of the year, we talked about you having some assets that you're kind of playing around with or initiatives that you were playing around with that became really important, but you have those in place. You were building them and all of a sudden, they became essential to basically serve existing customers and keep adding customers, right?

Yes, that's right. I mean that's exactly what it was. And we just -- I think the other takeaway, maybe at the end of your question, is kind of like what does that portend for this year? And I think because we had very positive practice bulletin from joint kind of ACOG SMFM practice bulletin, like more clearly placing NIPT front and center as standard of care for pregnant women and we had a great growth year, I think there's a kind of a simple assumption that, hey, like that must have really driven growth for us. And I don't -- it's not -- it's possible. I mean that could be a driver. But as you look back at it, I mean, it really was kind of just winning new accounts and retaining our accounts better than -- even better than we had historically. The mix of high-risk and average-risk NIPT in our business has not massively changed over the course of the year, so cautiously optimistic that, that kind of a driver is still in front of us here.

Yes. I mean that's kind of a perfect setup for my last question. I'm just kind of thinking about '21 -- or '20 to '21, which is ACOG, that's a durable benefit that it kind of ultimately looks like it may have helped you at least superficially in '20. To your point, it's not obvious that it did. I mean it probably didn't hurt, but you're in the very early days of average-risk getting paid for more -- the average-risk NIPT getting paid for more. The growth is just starting to ramp there across the industry. You guys were always strong there, but that's one thing that probably helped you maybe a little bit in '20 that has some legs in '21 and beyond. Beyond that, I would think your response, kind of going back to that creating your own luck-type thing, the initiatives you had early in the year from a mobile phlebotomy standpoint that became critical over the summer. I mean you're happy to have that business, right? I mean that makes it easier to add customer, add volume, and the margins are pretty good on those tests, right?

Yes. Absolutely. Yes. I mean -- so the impact to the ACOG guidelines are kind of -- the practice pool turned kind of twofold. I mean one is, historically, we have taken a lot of zeros in our average-risk business, so that's like 60% of your volume. Historically, we're only getting paid on average-risk NIPT 35% of the time. That's a real drag. I mean folks have covered the story for a while know that there's a lot of kind of embedded margin and earnings kind of operating leverage, if you will, just from that fact. So getting paid on a higher percentage of kind of our existing volume is a potential driver for growth and then probably more importantly is the ability for that -- the NIPTs as a class to more fully penetrate the U.S. population. So there's -- depending on your estimates, there's something like 4 to 5 million eligible pregnancies in the United States every year. It's only about like 1.25 million NIPTs being run, that's, again, kind of a rough estimate, but directionally, I think that's right. And so why -- I mean, why is that? I mean in the -- with that new ACOG SMFM practice bulletin, I don't think it's unreasonable to expect that over time, you could get to something like 2.5 million NIPTs or more being run in the U.S. So you kind of get a double benefit here where existing volume can get paid and you have this ability to really kind of massively penetrate the market. As it relates to '21, though, I mean, neither one of those drivers are, I would say, really fully in the guide just for like more like timing considerations than anything else.

That's super helpful. Yes, that's where I was going to go next. I mean it's -- we've kind of talked about the impact of ACOG guidelines last year and how you're baking them into guidance. I think the answer is not a lot, right?

Yes.

For average-risk, do you think your share position within average-risk was already higher than it was in high-risk?

Yes, it definitely was. So I mean in high-risk, historically, we'd estimated that we had about 1/4 of the high-risk market. And we've -- for average-risk, we thought that we've had 50% to 55% of that market. And so I think a lot of that has to do with the microdeletions offering. That's long been viewed, I think, as the gold standard microdeletions test and happy to have the SMART trial readout and kind of prove that out in a massive 5-year study, that was a huge slip to get done. But for women that are younger -- in their 20s and pregnant, I mean, the incidence of those microdeletions are similar to the incidence of Down's syndrome. And the younger you get, the more likely -- it's actually the reverse, the microdeletions are more likely than Down's syndrome. And so patients -- I mean physicians who were inclined to offer NIPT, I think, to all of their patients, really found that microdeletions offering to be compelling, and that really helped us drive market share there.

I want to talk about the outlook for microdels and the possibility of that getting reimbursed at a higher level.

Yes.

Before we get into that, in average-risk, where you have been one of, if not the dominant players, are you seeing any change in competitive dynamics since the ACOG guidelines evolved into a more favorable spot?

No. I mean I think the -- it's probably because the landscape was like as competitive as it possibly could be before that happened. There's kind of no -- there was not like another level to go to maybe. But seriously, I think that the competitive landscape probably is a little bit more rational than it was 3, 4 years ago. You rewind back to the 2016, 2017 timeline, you had a couple of more like private companies and pure-play NIPT companies that were incredibly focused and had pretty long-tenured sales teams and things like that. There's been some M&A in the space, there's been a lot of rationalization of the sales force and things like that. And so now it's kind of more -- Quest and LabCorp drive a lot of volume these days, for example, so it's a little bit more bigger companies that you're dealing with and I think that makes things a bit more stable, although, obviously, look, it's still very competitive.

So Mike, you talked about ACOG, not -- the impact of ACOG not being weighed heavenly -- heavily, excuse me, in your guidance assumptions. I mean so your growth for NIPT, is it really just a continuation of trend where you're going to hold serve, maybe pick up a little bit of share in high-risk, but also recognize that, that market, at least our assumption is that's getting to be a somewhat fully-penetrated market?

Yes.

Whereas on the average-risk side, that's where the growth is. And I think you'd be assuming you're going to get paid a little bit more consistently on those. But it sounds like you're not assuming that volumes are going to inflect in average risk nor are you assuming you're going to get paid on a material amount more on those tests. Is that right?

Yes. Well, it's a good -- I'm glad that you broke those 2 assumptions up because they're both individually very impactful to the guidance. So on the volume side, we -- as we just talked through the volumes a little bit, the trends. I mean the trends this past year were extremely good, and the way that we forecast the business here is it's not -- we're not looking at a market model and then like saying, okay, well, we're -- we think we're at x percent penetration, we think we can bump it up. It's more -- we just build bottoms-up at the sales rep level and we look at individual kind of territory performance, and then we make the assessment on a territory by territory level of what can be done in the next year based on the idiosyncrasies of that territory, and then the sum of that is kind of your forecast. So I think what that implies is continued strong progress from the reps, no kind of drop off from what was a very strong year. But what it does not assume is that this math I was just talking about where it goes from like 1.25 million NIPTs and it goes to 3 million NIPTs, and that's happening on June 17, and so it should impact -- like I feel like that type of stuff is just too hard to get the timing exactly right. And so we just err on the side of caution as it relates to that like big market inflection, so that's on the volumes. On the pricing, we basically presumed pretty stable ASPs across the entire business this year, which, at least for us, it feels like a more aggressive assumption than what we've had in the past. I think it's generally prudent for diagnostics companies are going to guide to presume some level of erosion in their pricing just because it's a tough business, and as I said on the call, I mean, the factors that can go against you here are sometimes are out of your control as it relates to pricing to interacting with payers. But we said we're going to be stable here, and I think that if the very recent trends on like the fraction of time we get paid in February and then even in January, as those trends really hold up and they improve, then the guide will -- on that particular assumption, the guide will prove to be a bit conservative because we're not assuming some big uptick there, which could happen, that could be part of it.

I mean we're modeling, and yet you and I, actually, we tried to connect, but we didn't connect after we updated our model. I mean -- but we have almost 30% revenue growth for Panorama in 2021. Over time, we have that moderating into the low double-digits. Based on what we just talked through, is a high 20s growth rate for Panorama in 2021 consistent with something that you've embedded in your model?

Yes. I mean, look, the guide for the overall business is like circa 30% year-on-year revenue growth, total revenues. And the new businesses are awesome. But like just as a practical matter, there's no way for Horizon carrier screening growth rates to be materially different than the overall company growth rate for '21, you know what I mean? So if we're guiding 30% for the year, it's fair to assume that, that has got to mean the NIPT is growing in the high 20s at least.

Okay. And then on the SMART study, let me take a shot in just describing that, and of course, just clean up anything I mess up.

Yes.

But earlier in February, at The Society for Maternal-Fetal Medicine Annual Pregnancy Meeting, data was presented from the SMART study, which demonstrated microdeletions are more common than previously believed. So that's important for the category, and it speaks to the importance of doing this testing. And then the data demonstrated that you guys have the highest available sensitivity amongst the commercial tests that are out there. And this has been a category where I think there's been a little bit of debate about whether these tests have utility, but that's been compounded by the fact that a lot of the other tests out there just aren't that great. You kind of addressed both of those things with this study. So how important do you think these are in terms of driving volume and picking up share? Let's start there before we get into reimbursement for Natera.

Yes. I mean -- so this was a study that we launched in response to the feedback that we received from folks close to the [indiscernible] Society guideline committee. When we went to them in 2014 and 2015, and we wanted to get microdeletions enshrined in the guidelines, the feedback we got was, well, no one has actually prospectively characterized the incidence of microdeletions in the wild, so it's hard for us to know how to recommend this. Why was that? It was because the phenotypes for these folks that suffer from like 22q, for example, the phenotypes are extremely disparate. So you have some kids have Down's syndrome like cognitive deficits, some folks have organ abnormalities, early onset schizophrenia. There's just a wide range of potential phenotypes. And so until you ran the human genome project and you do -- you could identify the underlying genomic issue, you have no idea that they, obviously, were still suffering from the same disease. So that made it incumbent upon us, we thought to run the study. So that was why it was a 5-year 20,000 prospective clinical trial. And the other diseases that are ubiquitously screened forward and reimbursed include things like cystic fibrosis, which is like one incidence. It's like 1 in 2,000. Spinomuscular atrophy, which is 1 in circa 10,000 in that range. If -- we thought going into the study and kind of throughout the course of the trial that if we -- if the incidence was something like 1 in 2,000 or 1 in 4,000, then that would be right in the range of these other diseases that ACOG recommends that they'll be screening for. And where we wound up was, in our study, the incidence rate was like 1 in 15, 25 across all women. So it was actually a big surprise, both to us and to the key opinion leaders in the space who kind of thought -- even the more aggressive ones thought it'd be 1 in 2,000, so that's a very important outcome. As important, of course, was our performance, excellent sensitivity, specificity, positive predictive value, all the things that you would have expected to see from us from the study, you got. So now what's next? So the data was presented at the SMFM Conference in January. It now needs to go and get published in a journal, preferably a high-impact journal which we're working on. And we'd love to see that publication Q3 time frame, maybe this summer, maybe slightly later. Once that paper is published, then you can start in earnest with the conversation on, hey, does this deserve, this paper, this new information there at some change to the guidelines? And we'll see how that goes. I mean there's a reason why microdeletions reimbursement is not in the guide. It's not that we're pessimistic about it, it's just that, that piece of it is really beyond our control. On the positive side, I think several folks that are close to the process who are very much involved in leading the study, and so they've had intimate experience with the quality of the study and the data itself. So we're pretty optimistic about that. It's a huge opportunity if we get it. I mean the demand is already there. We run more than 400,000 of these tests a year. The ASP is very low, it's close to 0. So if we can get an improvement in the guidelines, not something that's like makes it mandatory, but an improvement in the guidelines, that can very quickly make a huge impact to our P&L.

So near term, the science is something that you can arm your commercial team with to further drive demand in average-risk and differentiate an average-risk with microdels. Longer term, as we look ahead to '22, there's the possibility of actually getting these into guidelines and getting differential reimbursement there?

Yes. I should have mentioned it. I mean so the -- like 2 major papers are going to come out of the study. One is specifically on this microdeletion issue, so the incidence rate and the performance. And then separately, the SMART study just represents -- there will be a separate paper just as a validation study for NIPT across all women. So this is just right out of the box is far and away the most comprehensive, largest prospective validation study ever to be run, probably ever will be run for NIPT. And just by dent of the numbers, most of these women happen to be average-risk NIPT. So we have our own technology that's solely separate from everyone else. Everyone else runs the shotgun sequencing approach, we run a SNP-based approach. And we have this most validated test as evidenced by the trial, so I think that's very timely as the market can penetrate to have that as a talking point.

All right. Super helpful. Let's pivot to talk a little bit about Signatera, your BESPOKE assay for MRD and recurrence monitoring.

Yes.

How -- maybe just to set the stage for everybody, how big is the market opportunity? The initial indication is in colorectal cancer. So how big an opportunity is that? And then as you're moving into other indications, how much bigger can it get?

Yes. It can get a lot bigger. I mean so we're at, just for colorectal cancer stage 2 and 3, and this is just amazing, this is just 1 niche within oncology, we think there's something like 1 million tests available a year. Compare that to the numbers we were just talking about in NIPT, it's almost the same size market. This is just 1 sliver within oncology, and what we have is clearly a pan-cancer assay. And we've validated the Signatera across lung, colon, bladder cancer. We've got breast cancer. We've got -- it's being studied in 15 additional cancers now. For all of those cancers, it's the same exact assay. The lab gets the -- runs the exact same process. So the market here is really quite large. And I think in the relative near term, I think you can already see what the answer is going to be, is that it's going to be a pan-cancer recurrence monitoring application that you can use for any cancer type. So it's hard to even put a bow around that. I mean we've estimated that market at something like $15 billion as a TAM. I think it can be bigger than that, certainly, big enough for us to just run at these -- even these first handful of indications where we're either have reimbursement or insight for a CMS reimbursement can run significant ways in terms of driving our P&L.

It's a 4-time-a-year test for the first 2 years and then twice a year for the next three. I mean that's why the numbers get big, right?

Yes. I think that's roughly right. I mean it will vary by indication, but you should think about it as kind of similar frequency is what you would use for a CT scan, it has very similar use case.

You have a bit of a first-mover advantage here, but there are others that are coming. Invitae has aspirations here. Guardant launched their product recently. How are you thinking about the competitive outlook here, I guess, in general? And then, I guess, more specifically, how you think about the positioning of BESPOKE versus non-BESPOKE competitors?

Yes. I mean I think -- so we're doing everything we can to take advantage of the fact that we've been out first, and we've got -- it's been fun because as you know, Doug, I mean, 3 years ago, 4 years ago, I would stop investors and make them listen to my 22nd commercial on Signatera before we got on to more important things and before there was complaint about the R&D spend and things like that. And now, pharma -- at that time, pharma was skeptical about the idea and stuff. And now every company in -- that has aspirations in cancer has to have some kind of answer about what they're doing in MRD. So I think that's just a case study in how the conventional wisdom is evolving here. I think that's incredibly constructive for the market itself. And the competitors can help us move the conventional wisdom, so I think multiple companies out there banging the drum, hopefully, generating data, really can only help us just given the size of the market. And we're driving as hard as we can here in the immediate term. As far as like the specific competitors, it's really hard to see handicap for you like what's going to happen and who's going to be a player in which cancer type until we see some data. I mean no one else has any peer-reviewed literature in these settings. And so it's just -- we have to see those publications come across before we can really see what we're dealing with.

From a commercial reach perspective, where are you? I mean the new thing about Signatera is it leverages the chemistry that you developed in reproductive and in transplant, but we didn't historically think of Natera as a cancer-focused company. Is that an area where you feel like you're playing catch up in terms of commercial reach?

So I think that commercial reach was something that we looked at, beginning of last year when we said, okay, let's hire 25 reps, let's like, see how they do, and the plan would be to quickly get to a sales team that's of the same size as your Foundation field force or your Guardant field force or whoever, just we did not want to take a back seat in terms of quality or size of the commercial effort in calling on the community oncologists. COVID hit. We said, okay, let's see how these reps can do in a pandemic environment and they [ were fantastic ]. And so we're looking at their returns in July, and we said, okay, let's pull the trigger, let's get a really strong commercial field force in place. I thought that would take us about a year to get that team fully hired. I mean that's kind of typically what you would see for -- to hire up that kind of team. We got that done by December. So we were completely hired up by December. It's just a testament -- a little bit of the buzz that we have going that we were able to just get some very high-quality reps in the door, and now we're off and running. So going forward here, we really -- our goal is to not take a backseat to anyone in terms of commercial reach or quality of the commercial offering of a customer service.

You and your peers are all pretty well-capitalized and investing in growth, whether it's R&D and/or commercial reach. I mean I think you guys closed out the year with over $700 million in cash and equivalents on the balance sheet.

Yes.

I mean this is an area where the spend is going right now in terms of just aggressively making sure the commercial infrastructure is where it needs today?

Yes, absolutely. I mean it's both R&D and commercial with an emphasis the D side of R&D, just running more clinical trials, doing more things to add on to relatively low-technical risk, but require good people to add on to the product. And then yes, so on the SG&A line, 1000%, it's building out these commercial channels, which we think is well worth it. One proof point there is that we had long talked about how do we get the cash flow breakeven in the reproductive health business and can you ever get there. We're actually going to get there this year. So we've had a fairly consistent level of spend on the commercial line, which is in a pretty big sales team, I mean, 100-person plus sales team in women's health, we've been able to pretty much hold that line stable and yet grow volumes really rapidly over the last few years, and that's how you kind of get that -- get the cash flow breakeven and you get that scale. So we know how to do that, and we feel like it's even more straightforward in these businesses where the unit economics are so compelling and the markets are so big.

Yes, one thing I haven't directly touched on is the importance of Signatera for biopharma. And presumably, that's an area where you want to invest in commercial infrastructure, and some of that's the lab, not just selling into biopharma, but making sure you have the capabilities in place because you don't want to mess anything up, but if you're successful with those partners, you kind of have them -- they -- you can start stacking programs with them, right? So presumably, embedded in your debt investment assumptions this year is a focus on making sure everything within biopharma is super airtight so that once you get these customers on board, you're in a position to stack them. Is that right?

Yes, absolutely. And that was actually a big focus of 2020 is to kind of get through that -- get through waves of audits with all these big pharma customers. And what we found is that once you've gone through the audit process with a big pharma player, then there are all kinds of pockets of people that run programs within the pharma company that then like they're free to come and contract with you because you passed a certain level of audit. And then look, man, that just required basically a parallel team and a lot of a lot of blocking and tackling, so we're very happy to get that done. We feel like we're completely open for business on the pharma side, absolutely able to serve these very large clinical trials that people want to run. Absolutely ready to take on Phase III trials, and those are the kinds of orders we've been getting.

Okay. All right. That's fantastic. Mike, unfortunately, we're out of time, but we covered a lot. I know we can keep going, but we'll leave it for another day. But one way or the other, thank you, again. Good to see you. Appreciate the time.

Yes. Thank you for the time, Doug. Good to see you.