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

All right. Welcome, everyone. My name is Tejas Savant, and I'm the life science tools and diagnostics analyst here at Morgan Stanley. It's my pleasure to host Natera today. And from the company, we have Steve Chapman, CEO; and Mike Brophy, CFO. For important disclosures, please see the MS research disclosure website at morganstanley.com/researchdisclosures. And if you have any questions, please reach out to your Morgan Stanley sales rep.

So Steve, lots to chat about, but maybe as you look back on the last 12 months, just to set the stage for us, what are the key accomplishments you're most proud of? And what are you most excited about heading into '24?

Yes. So great question. I think we've significantly advanced the ball forward across all 3 of the different areas that we do business. And we've seen significant volume growth. We've published a very large number of peer-reviewed studies. We've had major reimbursement wins and we've also hit all of our internal milestones on COGS, ASP improvement and our research objectives. So things are really tracking right now on all cylinders and we're excited about what's ahead. We're in 3 very large, relatively underpenetrated markets, particularly oncology. We're at the very early stages of penetration at a $20-plus billion market. We've set ourselves up to be in a market leadership position. And we intend on continuing to expand on that as the year goes on as we turn the corner into '24.

Got it. Let's take a closer look at oncology. And starting with the MRD competitive landscape, right? I mean even putting aside the ongoing litigation you guys have, there are many players out there that are beginning to enter the tumor-informed MRD space. They're having sort of improved sensitivity versus Signatera for low shedding tumor types like breast cancer, for example, why wouldn't a more sensitive assay get more traction? And how do you think about sort of Signatera's competitive moat as some of these new players look to enter the market?

Yes. So the first thing I would say is, look, we've been seeing this for 5 years now, where someone comes out with an analytical validation based on maybe contrive mixture samples that were made in the laboratory, they know all the samples are positive, and they run and they sequence as deeply as possible using a workflow that doesn't really make sense to use in a commercial setting. And then they say, wow, look, our limited detection is 5x better than Signatera. But the reality is that's not real world. You have to look in the clinical setting. And so there's many companies out there that are using expanded plex assays where they've run clinical studies and had very, I think, disappointing clinical sensitivities. And I mean, we're not going to kind of go and name names and so forth. But I think the -- what the point is, is that what you can do in an analytical validation study where you know everything is positive, and you can sequence as deeply as possible and you're not worried about false positives, is very different from clinical performance. Now with that said, I think there are some areas where certain things can make a difference. And of course, we're spending a lot on research and development, and we're in tune with what those various things are. As we said before, in our pharma business and in the RUO setting, we've done multiplexing of thousands of different variants at 1 point -- at one time. We've done various different sequencing configurations for the tissue. And so we can do all of these different things. It just really matters what we think we want to commercialize in the end.

Got it. And so turning to tumor-naive approaches. Is this something you would ever consider dabbling in for use cases where tissue isn't available? I know you've had efforts underway. I mean, speaking of what you were doing with your IO partners in terms of a liquid exome backbone as well. Just what are your updated thoughts on that modality?

Yes. I mean, look, I think there's a lot of work that we've done. We have really smart R&D people and they've put a lot of work into various different things. And I think when you look at our working program, we've talked about in early cancer detection or tumor-naive MRD. I think we've made great progress and I think we are seeing some good things there. I don't think tumor naive is going to compete with tumor informed, but I think the -- it's possible that there's a place for that within the bag. And I think as we work on research towards early cancer detection, some of that dovetails into tumor naive, and we'll see where things end up.

Got it. From a physician standpoint, right, I mean there's all this chatter about comparing and contrasting, landmark versus longitudinal sensitivity. And then you also have sort of the need for prospective interventional data. Paint us a picture of what you're seeing among those sort of 30% of U.S. arms who are using Signatera today?

Yes. I mean the reality is that the investors talk a lot about other technologies, tumor-informed technologies and tumor-naive technologies, but the doctors don't. We very, very rarely see any competitors in the field today. And I think in the vast majority of cases, if we do see a competitor, it's garden in the tumor-naive MRD testing. And so I think the groups that are entering this space, they've got a very long way to go to sort of get to a point where it's really a part of the discussion from a physician standpoint. I think for us, we're focused not on talking about like what competitors are doing and what we're doing, but on expanding the market because we have 90-plus percent market share at this point. And we have 50 peer-reviewed publications. We have over 100 clinical studies that are underway that are going to be reading out. And we have Medicare coverage across a broad swath of indications and we've got a pipeline of commercial coverage that we think is coming down the pike. So we're focusing on unlocking the next leg of growth in the MRD setting and really tapping into that $20 billion market opportunity and that includes publishing the 24-month follow-up on the CIRCULATE study that includes the first multisite prospective randomized study looking at treatment on MRD and escalation for MRD positive patients, the ALTAIR study, which is going to read out at some point in the first half of 2024. We originally thought it would be kind of mid '24, but actually now it looks like it's progressing potentially ahead of schedule. No guarantees there. We have to kind of wait and see how many events we get, but that is going to be the definitive study that really opens the market up and separates us completely from everyone else. So to have a randomized interventional study versus an analytical validation is a huge difference. So I think we're in a good spot and we're focusing on growing the market. And as competitors come in, I think we'll deal with them. But so far, there's been very limited competition.

Got it. Do you sense physicians are reluctant to try out other MRD offerings once they have a cohort of patients in Signatera and how sustainable is this dynamic as MRD goes mainstream.

Yes. So I do think that there's a big moat that we've built. And you can look at that in a couple of different ways. I think the first thing is, if your office is using Signatera and say, happier patients already have their tumor exome sequence with Signatera and you're doing monitoring, you really want to bring in another company and do tumor sequencing with another company for a portion of your patients, probably not -- or do you want to resequence the patient's exome when you've already done sequencing and we already have a test set up with them for Signatera. So I think there's some definite stickiness there. And I think that, that's going to serve as an advantage to us long term. I think the other thing that doctors are seeing now is, well, you really need to wait to see the data come out. You need to wait to see the definitive data because I think sometimes what is presented in marketing materials doesn't turn out to actually pan out when the test is being used in practice or when the definitive studies are being read out and trials get canceled and so forth. And I think doctors really want to see the definitive data reading out, and that's where we're in a good leadership position, and that's probably the biggest moat, by far, is having the strong multi-site peer review data that looks at outcomes, not just analytical performance.

Got it. You sort of alluded to this before in terms of a larger panel for Signatera and also liquid exome, et cetera. But what other dimensions are you hoping to see improvement in specs over time? And can you just give us a flavor for what subsequent versions of Signatera might look like?

Yes. So obviously, we have a pretty large R&D budget, and I think we're tuned into all the different opportunities there are to make performance improvements. And for this, I'll just say, look, when we launched Panorama in 2013, that was the first NIPT that we put out on the market. We're now on our 7th or 8th version of Panorama and that includes not just improving the workflow, but that includes more peer review data. That means expanded content. That means some novel insights that nobody else can provide. And so this is what we do. We launched tests -- we make significant improvements to those tests and we innovate over time and we never stop. And we're going to do the same thing in Signatera. So anybody who is gunning for the Signatera 16, looking at, well, they're going to outperform us. Well, we're not stopping with this test. We're going to keep doing everything we have to do to help patients and we're going to keep innovating and keep evolving.

Got it. In terms of the reimbursed volume, right, you've talked about, I think, 80% of Signatera volume coming from reimbursement indications earlier this year with expanded coverage of -- in the breast indication, what does that sort of number look like? And -- or is it sort of offset by the fact that you're also looking to push into newer cancers?

Yes. Yes. So I think that kind of 75% range of cancers being under the bucket of tumor types that are sort of covered by Medicare is about right. There's still a long tail of things like we've mentioned, where anywhere where we've published data, you can assume that we've submitted basically gastrosophageal, et cetera. I think there's good opportunities coming to with like pancreatic where we have readout coming that we've already shared the data at previous conferences, but still waiting to be published. So any of these things where data gets published, we're going to be able to submit to Medicare. I think the exciting opportunity is going to be commercial coverage as well. And we think that we are seeing the impact of -- in some of these biomarker states, I think we hope to be able to announce some additional coverages in the near future.

Got it. That's actually interesting and that dovetails to my next question. I mean, following that Blue Shield decision in California. I mean, how have those conversations gone with the private payers? And in terms of that, the biomarker bill that you just mentioned, I think it's up to 11 states, Texas is next. How does that sort of impact Signatera?

Yes. So look, I think exactly how this pans out remains to be seen, but we are seeing in some of the states that have passed the biomarker bill that the commercial plans are planning to cover Signatera. And I think we have to see those actually go into policy. But in the discussions we've had, they've said, yes, we're going to cover. So I think stay tuned on that. We'll see how that pans out over the course of the year and into next year, but it could be a positive. The real question there is, well, why is coverage important? Well, it enables access. But for us, it also improves the average selling price. And so in addition to expanding coverage, there's also a lot of things that we're doing to improve the overall margin for the business and to improve the overall average selling price. And some of that just comes down to blocking and tackling in the billing operations and that's an area where we've been investing. In fact, actually, this year, we hired 60 new people in the billing operations group, and we found opportunities. We developed a new project that we called $100 million profit improvement project. And that's where when you look across the business and you say, what is the amount of additional reimbursement you could get by execution. We think it's potentially in this range of $100 million, and we're pushing for that. We've been working on that for 9 months now. We haven't incorporated really any of this into our guidance. And I think there's opportunities now we're starting to see the first modules get launched where we're automating certain things. We're just doing better at certain things, and we're seeing some good signs there. So that's exciting, too, in addition to just getting additional coverage that we can actually control our own destiny in some of these areas.

Got it. And on that point, I mean, where is turnaround time now? And where do you think it needs to go and how low can it go, say, 12 months out?

Yes. So I think one of the reasons why you haven't seen an influx in groups coming into the tumor informed space is because the operations are challenging, and they take a long time to stand up and to do it right. And I think we've been in a position where we've been able to scale and grow the business as we're working through the operations. And I think -- now we're at a point where things are really working smoothly. And we've made the investments over the last 4 years to put ourselves in a position to be able to run 250,000, 300,000 patients a year plus growing so forth. And so turnaround time is actually generally very quick. I think around 3 weeks or so to get that first test back somewhere in that range at 3%, 3.5%, maybe 4% to get that first test back and then that includes sequencing the exome, drawing the blood, running the plasma samples, setting up the personalized test and then ongoing tests can be 5 to 7 days. So very quick. Now there's a lot of focus on, well, can you get the result back in time for that individual -- that initial adjuvant decision? And generally adjuvant treatment is being given somewhere in that 8-week range. And so we definitely are getting the results back in time for a patient that sends their tissue at the time of surgical resection. We can have the entire thing set up before they even do the blood draw at day 30. Somebody sends their tissue at the time they're doing a biopsy, which is even a month or so before they do the surgical resection. We can have the test set up actually before they even have the tumor removed. So anybody that wants to have the results back at day 36 or 37 comparative with when a tumor naive test can get the result back. They can have the same thing with Natera.

Got it. NCCN guidelines. Any feedback following the meeting in late August and what Signatera sort of discussed? I mean, is there sort of more data that they're looking for? And what do you expect to have in place by the time the committee meets next year?

Yes. So the good news is that the CIRCULATE GALAXY study was published ahead of the meeting. And so I think for the first time, we now have an opportunity where that data set can be included in the guideline review. And so we hope to be included as a footnote for prognostic factors in colorectal cancer. And I think it's possible and that's what we're shooting for. And then in the future to be further integrated into the guideline grid. And that's kind of the standard progression that you see. So a footnote would be a huge win. This would open up a lot of opportunities for us. And backstopping this, the good news is we've been working on these randomized studies for a long time. And when the NCCN came out and they said, well, we want to see randomized studies, we sort of said, okay, great, because we've got it. We started it 5 years ago. The ALtAIR study that I referenced earlier and the VEGA study that we talked about before, these are randomized, controlled studies looking at MRD guided decision-making in colorectal cancer, the ALTAIR study is done enrolling. We're just waiting for patients to recur. And the data is going to be read out in the first half of next year. So this -- the thing that the NCCN committee said that they needed -- they wanted to see in order to get into the -- like the grid, which is the most -- we would assume into the grid, the most significant section of the guidelines. That is these randomized studies. And we're not starting for scratch, they're pretty much done. And I think -- so from that standpoint, we're in a good position. The other thing that I think is also exciting is this question of, well, if you do surveillance or recurrence monitoring and the patient turns positive, well, what do you do, right? And there's a lot of data now coming out in colorectal cancer and then soon in breast cancer. So in colorectal, the INTERCEPT study, which Natera performed the testing, but it was led by MD Anderson showed that there was a huge clinical value in doing routine surveillance. So they had thousands of patients -- or thousands of blood draws from over 1,000 patients where they had done routine surveillance and they showed that when a patient was positive, they were actually able to take action on that patient immediately in the vast majority of cases and do something either roll them in a treatment on molecular recurrence clinical trial, either go do much deeper imaging, PET scans so forth that they would have done previously. So we are seeing these cohorts come out showing the utility. And then in breast cancer, treatment on molecular recurrence is another potential paradigm-shifting opportunity, and that's an area where we're pretty far ahead. We announced 2 Phase II clinical trials, probably 4 years ago now that we're looking at treatment on molecular recurrence. And I think it's possible some of that starts to get read out at the San Antonio Breast Conference coming up. We've really set ourselves up in a leadership position in breast cancer with neoadjuvant breast, having big data sets with the I-SPY consortium and then having very strong MRD and recurrence monitoring data coming out. And so we had a slide in our last earnings deck on everything that we're doing in breast. And we think we're the leader in that space right now based on the data that we've put out and the performance that we're seeing.

Got it. let's set up women's health before we turn to the numbers. The California prenatal screening program. Where are you today in terms of converting those accounts? Is that sort of largely done now from Vasistera to Panorama? And second, to what degree have LabCorp and Myriad being able to win back some of those accounts from you now that they're back on the market.

Yes. I would say for us, we kind of -- there was a period of time where everybody shifted over to the California program. And then there's a period of time where a lot of people are sort of shifting back and kind of ordering direct. And I think that's kind of settled down now. So we think that, that -- like that's kind of baked at this point largely is the people that want to stay in the program or stay in the program, the people that want to stay direct are staying direct. And that was our hypothesis all along was that we could enter the program. And if there was an opportunity to stay out of it as well, we can have kind of the best of both worlds. And so I think we executed pretty well there. I think it's pretty rare that I've heard about accounts being lost. I'm sure there are some where maybe they were a long-time LabCorp user and then they couldn't use LabCorp. Now they want to shift back to something like that. But it's pretty rare that we've heard about those circumstances. I think largely, our business has done very well.

Got it. And sort of same sort of question, broadly, where are you in terms of exiting low-margin accounts, you won as a result of some competitor exits. What is your sort of account margin threshold? And how do you go about discerning is there room for near-term margin improvement? Or it's better that you exit?

Yes. I mean it's -- it is one of those things where you have to look at the scenario and say, okay, is this payer mix an opportunity that's going to improve over time, right, as a result of more coverage coming in or is there really no opportunity here. And I think we've tried to look individually and make a determination. And I think in some cases, it just doesn't make sense for us to service the account. And I think largely, that transition has sort of taken place. But of course, it's something that we always look at and we always monitor and I think as accounts don't make sense, I think we'll be in a position to, in some cases, not work with them if it doesn't make sense.

Got it. Same sort of question is NCCN on ACOG and the Prenatal Committee Working Group. They met in June, another meeting is expected in September. I don't know if it's already happened. But have you heard about whether 22Q guideline inclusion was discussed? And how should we think about time lines for potential upside if the guidelines were to turn favorable, how long would payers take to come on board?

Yes. So I think the -- we think that the data that's been generated on 22Q is really, really strong. And we think that it has an opportunity by increasing access to help more patients. The disease is very common, 1 in 1,500 pregnancies. The sensitivity of the test is very high. The positive predicted value is 50% roughly, which is strong in the prenatal setting comparatively speaking. And there's interventions you can take, for example, treating the babies with hypocalcemia birth to prevent seizures. So we think it sets up nicely for a test that should receive guideline inclusion. We don't really have a lot of insights into exactly what happens at the committee meetings, but I would hope the data would speak for itself. And this would be something where patients that need access to this really important testing could get access. So we'll just have to see what happens. When you look at the incidents compared to other things that are recommended, it's similar. So 22Q is more common than cystic fibrosis and SMA combined. And the fact that it's common and all the other things that I've mentioned previously, I think, bode well for potential coverage. So stay tuned, and we'll see.

Got it. Carrier screening, what is your exposure to expanded carrier screening within that sort of horizon bucket today? And given that we've seen supportive guidelines for ECS. What do you think needs to happen for peers to be sort of -- to come aboard. I mean there were some bad actors in the market. Do you think it's ACOGs that finally needs to come through there, and that's going to be the push for the payers to start covering ECS more broadly?

Yes. I mean the expanded carrier screening is generally relatively low margin. I think we took on some business from some other competitors there that we knew was going to be hurting our march in the short term. And the idea was that we thought we could make a sort of clinical argument to payers into some of these governing bodies that expanded screening makes sense. And so we sort of took that on as a risk. And I think we're going to see if this pans out or not. I think it's a couple of things that I think are looking positive. There have been some payer policy changes over the last 6 months. There's been a guideline from the National Society of Genetic Counselors, which I think is positive. But we've also seen physicians upset about the fact that they don't have access to the testing that they want for their patients. So for example, if you're -- we believe that 95% of reproductive endocrinologists and infertility specialists today in the country are ordering expanded carrier screening, yet ACOG doesn't recommend that necessarily for that cohort, but everybody is doing it. And so when you have a setting where almost all of the physicians are doing it, it really becomes the de facto standard of care. And I think that, that's hard for governing bodies to sort of ignore. Now with that said, we're not reliant on any guideline changes on 22Q or on carrier screening, and we don't control these. And all we can do is generate the data. And the physicians in the governing bodies have to make their own decisions on what they think is appropriate.

Got it. Mike, I'll spare you a question on the conservatism in the back half and guardrails for '24, but I do want to talk about COGS initiatives. And specifically, you've got a bunch of COGS reduction projects underway, but I want to hone in on moving the upfront exome sequencing in-house as well as potentially moving to higher throughput sequencers, the NovaSeq X specifically. Could you elaborate on both of those? And how much of an uplift in gross margins would you expect to see from both of them?

Yes. I mean, we've got a number of COGS reduction projects underway. I mean if you look at our R&D spend, I mean the #1 and 2 areas that are by far the biggest bullet points on the budget are COGS reduction activities and clinical trials. I mean it's like incredibly kind of practical stuff that we're working on in the R&D business there. We've got -- we are underway with a pretty significant transition with our kind of upfront exome for Signatera, running that in-house. I think we're roughly halfway through that transition in terms of our volume mix today. And I expect that it kind of continue basically in a linear way through the rest of this year and early next year, we'll be largely complete with that transition. And you referenced the transition that's going to be moving first to NovaSeq on the 6,000 and then moving that on to the chemistry X next year. So that's a significant cost of goods sold reduction initiative. I mean, just for reference, our blended COGS per unit on Signatera these days is kind of in the mid- to high 500s. And I think exiting '23, I'd like to have that be in kind of the low 500s and then exiting '24 kind of in the mid-400s. So that's kind of -- what's driving that is yes, there's some mix shift happening there that's just kind of linear inorganic. But what the main driver there is this kind of transition of the exome. I'd say we're kind of out of time, so I want to elaborate it in so much detail, but we've got 3 other cost of goods sold reduction initiatives related to workflows and platforms that are going to reduce COGS kind of across the business. And we've done this over time. I mean, so for context, I mean, I've presented at this Morgan Stanley conference that some time in the past where the cost of goods sold for the Panorama test was like $350 per unit and this year, it's at $160, okay? We're going to continue to reduce cost of goods sold per unit in Panorama and really across the product portfolio.

Got it. So one of the benefits of being the last meeting of the day that I can keep going. So I do want to ask one more, and then we'll hop. Just on the follow-on offering, $250 million, following the completion of another follow-on you did in November last year. You were already in a good financial position following that raise. Can you just walk us through the rationale of doing another top up now? What things do you intend to spend on now that were not factored into the prior raise? And does this have sort of any implications for your cash flow sort of breakeven target.

Yes. No, thanks for the question. Yes, no implications for changes in our strategy or our guide or our targets or anything like that. I mean we're continuing on the same path. This is purely kind of an opportunistic, I think, top up is kind of an apt description for the raise, relatively efficient in terms of percent of incremental dilution versus impact to the balance sheet. I think it puts us in a very powerful position to just be opportunistic with all of these different growth drivers we have in front of us over the next kind of 18 months. So Steve alluded to a number of these things where none of these indications where we're up for major guideline inclusions, we want to be in position to grow aggressively on the back of those guideline inclusions should they come. And I think this raise helps us to be in a position to do that.

Got it. Awesome. Thanks so much for the time, guys. Appreciate it.

Thank you.

Thank you.