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

All right. So last run of the day. I'm Doug Schenkel. I lead Wolfe's life science tools and diagnostics effort. It is my pleasure to have Mike Brophy of Natera with us. Mike, thanks for making the trip.

Yes. Thanks for having me here.

We really appreciate it. So Natera is a leading diagnostic company focused on leveraging cell-free DNA technology across prenatal testing. And more in focus these days is the market leader, a pioneer in really advancing the field of minimal residual disease testing or MRD. So again, thanks for being here, Mike.

Yes. No, thanks for having me.

Lots to cover. I know we won't get through all of it. And between the 2 of us, we have a hard time doing that. But I think it's a good problem to have in the case of Natera because there's so many great things going on right now. I thought we would spend a few minutes just doing kind of a state of the company to kick off. Then I do want to spend no surprise, a bit of time talking about where we are in MRD in terms of market penetration, competitive dynamics and some reimbursement developments fairly recently. And then a more recent announcement, really leaning in more on early cancer detection. I think it makes sense to spend a little bit of time there.

Okay.

So state of the company, let's talk about Q3. It feels like it was a while ago, but I think you reported 2 weeks ago. It was another outstanding quarter. You beat revenue expectations by $25 million, excluding true-ups. You increased full year guidance. I think it was by $160 million. You're now tracking to 30% growth on a $1 million -- sorry, multibillion-dollar base. What have been the biggest surprises that have driven upside to targets this year?

Well, I think that the -- look, the -- I guess I'll start with just the ramp of Signatera has been transformational. I think for the space and for patients and for increasingly just the way that cancer patients are cared for the United States, Signatera is becoming much, much more the standard. If you go around to some of these academic conferences, just walking around, I think it's much more sort of the median presumption that cell-free DNA ought to be getting deployed in helping to guide a patient's cancer journey. And that's totally different than it was even 18 months, 2 years ago. So that's a real credit to the team. And I think that's a function of all the data that we've delivered and the receptivity from the oncologists and from the patients because there's a couple of things. I mean, this fits in perfectly into their kind of existing clinical workflows and the clinical utility is just immediately apparent, whether you're trying to figure out -- like there's so many kind of known inefficiencies around the way that people get treated for cancer because we just don't know, for example, would you have a surgery, you have a tumor removed, like, hey, should you go right to chemotherapy or should you watch and wait or should you escalate? Like there's so many of these little micro decisions that oncologists have to make in partnership with their patients all the time to like have this tool that just informs that better, saves the system a ton of waste and it makes for a much better experience and better outcomes for patients. It's just fundamentally because that works so well, we've just seen a massive ramp in the utilization of the product. More generally, I could tell you that same story in women's health and organ health. Just rewinding 10 years ago, I'd be amazed to be telling you now that something like 80% of women get an NIPT in the United States, they ought to, right? It's just so easy to do and it's so much better than what went before it. But it's nonetheless heartening to see that market continue to mature. Organ health is in the middle of this curve where you're seeing this kind of rapid, I think, changeover from a previous like total reliance on pretty invasive biopsies toward -- and we're not there yet. We're sort of in the transition phase toward kind of just having cell-free DNA just be the tool that helps you kind of monitor how a patient is doing post-transplant. And then in chronic kidney disease, there's just -- there's a huge chunk of people who have chronic kidney disease because of a pathogenic variant that they've inherited. And you treat these people differently if you just know that information. So that's like now in the guidelines to be part of the workup. So kind of across the board, it's kind of the same story is, hey, we're solving these important problems for the patients and the physicians. It's fitting -- these products make sense for them to use and so they're just using them. And so that's happening pretty organically. As part of the function of taking costs out of the system, we've had a better and better time of it in terms of just getting paid for tests when they are covered by insurance. And that's been a huge change for us even over the last couple of years. We made a massive investment in our own team, which was a little bit frightening to do because you kind of have to do these things kind of upfront and then hope that it works. And the way that we have historically allocated capital of Natera is that we wait to see what's working and then we feed it capital to kind of keep it going. This was like, hey, you got to like build a pretty good team and then see if they can -- if we can get paid on covered services more frequently, and we certainly have. And so the revenue growth in the women's health business has been outstanding this year. So when you have a large business where we have a very strong position and then the revenues are really ramping just because the fraction of time you're getting paid is increasing, that sets you up to really blow through targets and exceed expectations. And so that's kind of what's happened this year. I think we're really set up to continue to do that in '26.

I do want to talk about some of the other products, but Signatera specifically. You did outline a long-term framework for Signatera to grow to $5 billion in annual sales, gross margins approaching 70% with healthy EBIT margins. How would you describe line of sight to that as we sit here today versus 6 months ago?

Yes. And I'm not trying to spin you guys on a particular number for Signatera revenues. I mean I think that the investment community has very good visibility and people can -- are welcome to disagree. I'm just saying, look, like how big is the addressable market.

Somewhere between 15% to 30%.

No, I mean it's something like -- I mean, I've seen thoughtful estimates in that range. And then what share should we have of that over time at maturity? Like I just don't think it's -- I don't think it's unreasonable to think that the Signatera revenues ought to be something in that zone, $5 million, $8 million, is it more? The point is that when we're making decisions right now about what to build and what to do, that's a big target, and we ought to be doing those things to build. And so I think that's important context for investors. Just -- the main thing I want to do when I come to conferences like this or we talk on the earnings call, I just want you guys to just sit next to Steve and me as we're kind of allocating capital inside the business, like what are we seeing? Like what kind of -- what's the decision-making framework? And the decision-making framework for Signatera is, hey, we're going to do something like a little less than $1 billion in revenue in oncology this year, and this ought to be 5x, 8x, 10x that. So there ought to be a huge number of just -- we ought to be hair on fire with obvious things to do and we are in that zone, and that's very much our mindset right now.

You've talked about OpEx growing slower than revenue while still investing in MRD studies and now moving a bit more aggressively, investing in early cancer detection. There's more commercial expansion to be done. How should we think about how you're balancing the opportunity versus OpEx?

Well, look, I think like the philosophy is very similar to the philosophy that we've had here, which is that we would like to just do the right things in terms of make the investment to do top-notch R&D, top-notch clinical trials, have an excellent user experience and then have that be so successful that we grow into that infrastructure. So we've done that multiple times over the life cycle of this company over the last 10 years. One recent case study is, I think, like middle of 2022, we had a quarter where we burned about $100 million in cash in the quarter. And that was not a good time in the market to be burning so much cash. And so there were some very polite but persistent enquiries like, hey, guys, what exactly is the plan? And we said, look, like we're going to grow into this. We'll get to cash flow breakeven by middle of '24, and then we expect to be kind of sustainably generating cash flow thereafter. If you look at the level, just absolute dollars of R&D and OpEx that we had in the middle of '22 and compared it to the last quarter, much, much bigger now. I mean we've massively expanded the R&D effort, massively expanded the commercial operation, the user experience operation since then, and yet we now sustainably generate cash. So I think it's really the same story as you kind of progress toward EBIT and then EPS is that there are kind of natural sort of limits to what one needs to do in terms of having a commercial operation, in terms of having a user experience operation. R&D, I think, is a little different. I mean I think there are kind of -- the amazing thing about Signatera is -- I mean this is like the thing people -- I've said this before, but it's a little bit like Star Trek. I mean there's always another planet, like there's always another important clinical trial that you could be doing. And we're going to do them. But I think that when you think about an OpEx base that's kind of approaching $2 billion and we say, hey, it's going to grow 10%. There's some industrial logic around like 10% on that's an incremental $200 million. one can get a lot done with those dollars. And the way that, that works for us in terms of an overall P&L is the math we've already gone through. I mean the revenues can grow much more quickly than that.

Q3 was another record quarter for Signatera clinical volume. As we sit here today, like would you be willing to at least kind of ballpark where you are in terms of penetration in your largest tumor types?

Yes. I mean I think -- so I think breast cancer and some of the -- basically all the tumor types, we're basically nowhere in terms of -- I mean, we have so much room to run that's not really even worth considering. I think what we should do like colorectal cancer, we should just do that one just to give you an example of kind of the most penetrated one. And again, guys, I'm not trying to get you to agree with me on like a specific market size, like I'm happy to have different ways to cut this. But there's something like 200,000 people every year in the United States get diagnosed with colorectal cancer. Now you've got to make a decision around like, okay, what fraction of those people are relevant for Signatera use let's say, it's 125,000, again, different estimates, your mileage may vary on that. Then you need to say, look, this is a repeat monitoring test. And so what is sort of the annual testing volume as a TAM? I'd like to -- I do times 10. That sort of comports with the idea that people get about 10 of these tests over the course of their cancer journey over 5 years. But also if you think about multiple vintages, multiple class years of patients that are starting with us, that kind of creates this waterfall effect. And once you're kind of in the year 5, like we are now, if the rows are the patients and the columns are the years, you can kind of sum the columns and you kind of get to kind of on average, kind of 10 tests per patient, if you will. And so I kind of do times 10 as an annual -- to get to an annual testing volume TAM and also like I can multiply by 10, and that makes life a little easier for me. So if it's 1.25 million tests as an annual opportunity just in the United States. Colorectal cancer is about half of our volume, okay? So we did about 200,000 clinical units in the quarter, it's 100,000. So we're run rating about 400,000 units. I mean, so that's 400,000 on 1.25 million. And in my experience, just having been exec in the space for a long time, that's -- you might as well have -- you have the infinite headroom at that point. I mean there's just nothing that you'll do that where you're running into the top of the market when you're that underpenetrated. NIPT, as I mentioned, is probably 80% penetrated. And you do see some of that. I mean you do see some of those dynamics where like everyone is getting an NIPT that's going to get one, you feel like sometimes. And then sometimes there's growth opportunities. But colorectal cancer, there's plenty of room to run. To say nothing of the fact that we're going to -- we're hoping to launch in Japan in 2027, which would effectively double the annual volume TAM available to us. So lots of room to run.

Yes. Should we be spending more time on the Japan opportunity? Not -- I mean, I don't mean here, but just as we update our models and think about the long-term.

Maybe. I mean I think that it's one of these things where we've never launched in Japan or we haven't had like a major launch like that in a different country. We're working with the Japanese FDA right now, and that's been a very good collaboration so far. I'd hope to get -- hope that we can get FDA approval from Japan sometime in '26 and then queue up and get the coverage, at least for a preliminary coverage decision into '26 and then a launch in '27. And so it's interesting to see which -- among investors, who has a time horizon that can accommodate that. And I'm kind of have -- I don't -- I passed no judgment on that. I do think it's an interesting opportunity in terms of further fulfilling the mission of the company. I mean the point is if you solve these big important problems, then the reimbursement and the volumes, they tend to take care of themselves if you're solving the super important problem. And this is a very important problem in Japan. Colorectal cancer is a very common disease. The Japanese key opinion leaders and just the health system in Japan has been very on top of it in terms of being forward leaning in terms of running these amazing prospective clinical trials. A lot of our outcomes data is Japanese data because the system in Japan is so well disposed to innovation, okay? So I think it's a very favorable situation for us to help a lot of people. And then when you're doing that, like I said, I mean, the revenues and the volumes ought to flow.

Obviously, and you just put it well, the focus of the company is trying to solve a big problem and lead to better clinical outcomes. As I look at the menu of products you're offering, there's base Signatera. There's whole genome Signatera. There's now Latitude, which is tumor agnostic. From a strategic standpoint, again, you're trying to solve everybody's problems. Is there also from a business standpoint, the idea that you've built this infrastructure, you've built thought leadership, you own this market right now have a solution for everybody at this point and competitively don't leave a lot of room for others to maneuver where you can't go.

Well, we certainly don't. I mean, I wouldn't characterize us as owning any market. I mean this is a huge, huge problem that a lot of companies are going to be -- a lot of smart companies are going to be deploying a lot of effort to help solve. And that's a good thing. I mean that's kind of how things are supposed to work, and we kind of welcome that. We welcome the pressure of having to be as good as some of these other really sharp groups. And so there's a lot of room to run there. In terms of the different kind of the portfolio, I think that for the vast majority of physicians, I mean, they're kind of ordering Signatera and they're very focused on like what is the clinical trial data for Signatera. I think investors are -- tend to be more focused on like the components of like is it a genome backbone or is it an exome backbone? And that's because there's publicly traded companies that contribute to those things. Like there's not really like a bunch of different companies to invest in for PCR primer manufacturing. And so I get fewer questions about like what upgrades are you doing -- are you making to the PCR primer design. But those things matter for performance as much or more than like exome or genome backbone. And so the pricing is the exact same. It's -- people are ordering Signatera. So I think there's like kind of -- it's much more of a blend from the perspective of the patient and the physician than it is for the investors, and that's fine. But I think that's worth you knowing because that has implications for how these things grow. I think Latitude is a little different just because I think there has been kind of now kind of a fairly broad understanding that if you can do it, you'd rather have a tumor-informed assay. I mean there's just such an advantage. Yes. I mean that's such an advantage to know that information, like shouldn't we leverage that information to deliver a better product? We should. So historically, the question was, well, can we do it? Like how often can we do it? And the answer is we can almost always do it. Like we can almost -- yes, it's a huge chasm to cross to kind of build the infrastructure to make that a reliable service, but we've done that now. It's very painful to do, but we've crossed it. So now people can just have a tumor-informed assay. But not every time, and it becomes an important problem if you will get an FFPE block in for a patient and then we get the block and there's no tissue in that block. Well, that's a hard problem for us to solve. Like I can't like -- but it's still disappointing to report back to the patient and the doctor, hey, like there was no tissue in this block, like we can't build you a test. So to have Latitude there as a reflex, you say like, look, like if we don't -- if we -- for whatever reason, if we can't get access to tissue on the time line that you need it, we'll just reflex to Latitude. But our promise you is that we're going to keep trying. And like for the second one, we'll try again. Hopefully, we can get you on to the tumor-informed platform. So I think Latitude is a different conversation and that it kind of does solve this incremental problem, and that's useful to the patients and the physicians.

Using that framework, any guess as to how much Latitude could account for as a percentage of volume long-term?

Well, you see like in the Q3 results, it is tiny, right? I mean it's a few hundred units on like 200,000 total, which wasn't surprising to me. It's hard to know exactly like what the uptake would be if there are certain use cases where it's particularly relevant. I'd be reluctant to hazard a guess other than to say like -- I mean, I think one thing that we've learned is I do think the vast majority of patients over time will get a tumor-informed assay just because it just makes sense and it is achievable. So we'll do it.

I think Signatera genome reimbursement is a little more straightforward Latitude, what comes next there?

Yes, we'll just -- we'll get the coverage. There's already a player that has tumor-naive coverage, and we'll just -- the same pathway, I would anticipate sort of the same pricing, that type of thing.

A few loose ends. MolDx, I think you've talked about, is it 7 MolDx submissions by year-end. Is that right?

Well, we've got them queued up and we're -- I don't know if like they all get in by the end of December or what have you. So we're -- but there's a lot -- the point is that we have data and we've got kind of submissions in flight ready to either in flight already submitted or submitting, we're in that process.

What percentage of current CMS volume will those cover?

Well, something like very roughly something like 30% or so of our volume that comes in from Medicare patients come to us from -- like they have a cancer type that we haven't yet been able to go to MolDX with and actually get coverage for. And so that's disappointing for us. I mean, we've done a lot of work, and we've got the data in order to merit generating the volumes, and we just haven't been able to complete that step with MolDX. So that ends up being -- that's an opportunity for us, right? I mean, because I think we've shown you that we know how to engage with the Medicare program. We can show high-quality results. The results we've shown in the clinical trials across tumor types has been remarkably uniform. I mean it's very similar types of performance almost regardless of the cancer type. And so we're just going to work with them and get those submitted. Bad news is that they haven't already been submitted. Good news is that, that represents kind of an incremental upside opportunity for us in terms of ASPs.

So more coverage across the Medicare population. I guess, sort of related, sort of overlapping, but not completely biomarker bills. I think we're up to somewhere between 20 to 25 states right now that have biomarkers bills in place. Are you starting to see any increase in coverage as a result of biomarker bills?

Yes. And these things work kind of in conjunction with one another, right? So like the more Medicare reimbursement you have, the more volumes are relevant for biomarker reimbursement because the biomarker.

You cleaned up for me there.

Yes. Yes. So it's a thing. I mean that's why getting the submissions to Medicare are important because they do have this kind of amplifying effect with our biomarker bill effort. I think I said on the Q3 call, I think on the $1,200 ASP stack, I mean, probably $25 of that, one could attribute to the biomarker states. So there's some judgment in there. I mean it's not -- I mean, I'm kind of -- I'm making an estimate there, but I think $25 is probably fair. That's about where I hope to be. I mean if you can go back and look -- listen like Q3 call like last year, I mean, I think I said $25 or so. That's kind of where we've landed so far. That will be sort of a thing that we grind on with payers. We have a good history over time as a very high-volume lab now of being -- having kind of a collaborative ongoing relationship with a huge swath of the big payers in the United States. And we got to go to them, and we've just got to point out to them that, hey, this is a patient that's in a state with a biomarker law. They have a cancer type that's covered by Medicare. We have duly provided the service that's valuable to them and to you. We think that you've incurred an obligation to cover this patient. And then that's a dialogue with the payer oftentimes, it's around logistics, it's around like, hey, like the payer doesn't necessarily have the systems to be able to proactively kind of understand which patient should be covered and which should not and what can we do to make that easy on them. And that's the thing that will take 6 months of a dialogue. And then once you get it fixed, then you tend to get coverage from that payer.

So positives, more MolDx submissions, broader reimbursement within Medicare or that population, triggers more biomarker bill activity, which gets you reimbursed more broadly. The thing with biomarker bills, though, is they don't typically -- they mean coverage, they don't tell you a rate. So the reason I bring this up is, do we need to be conscious of the fact that like while there are some positives, at some point, there may be adjustments to the ADLT rate.

Well, look, so there's -- there's a -- this is how -- this is kind of the rubber meets the road on this dynamic. So a lot of Medicare patients receive their Medicare benefit from a commercial payer. Like if you're over 65, you can choose to have just your Medicare benefit administered by the federal government. So you have like Medicare fee-for-service in the parlance. Or maybe you get your Medicare benefit from UnitedHealthcare. And for a lot of payers, that's a very important part of their business is they're just -- they're a service provider on behalf of Medicare and they deliver the health care benefit for these Medicare recipients, okay? That means that when I get Medicare coverage, it's incumbent upon me to not just contract with Medicare fee-for-service as a program, I got to go around to all these commercial payers, and I got to get a contracted rate for Signatera. That's largely done. I mean most of the big volume payers, I already have -- I mean, I've been in network with all of them for a decade because we've been a big lab forever. So we just call up the relevant people at a big payer and we negotiate a rate for Signatera. If you look at my in-network contract for Cigna, Aetna United and any of these big payers, like Page 4 of that contract is like a list of all of my products, NIPT, carrier screening, Signatera is on there. And then there's a negotiated rate, okay? And so when the coverage changes, like when their coverage expands, we've already done the logistics with the business team with these payers to have a contracted rate. So like if you're some Blues plan in a biomarker state, you're already -- like we already have a contracted rate with you for Signatera and you're already paying me on the Medicare Advantage patients that you see that you cover. But now I'm just coming to you with another patient that ought to be treated just like the MA patients are treated. So there's not this need to go back and like redo rates or things that redo contracts. I mean the contracts are kind of already locked in there.

And bigger 011 showed that Signatera guided use of adjuvant [ atezolizumab ] can drive a very meaningful improvement in disease-free survival in overall survival. Should we think this could be a trigger to NCCN guidelines inclusion?

Yes, we'll have to see. I mean I think that the -- so I think the study -- the broad consensus is that the study was very successful. The study was powered for disease-free survival, and we were able to generate an overall survival signal really early on. So that's just -- that's a smashing success. That's why the study is actually published in the New England Journal. This is really -- this is kind of groundbreaking data. So it's very likely that Roche and Genentech will be able to use this data to support an FDA approval, okay? So what typically happens when you have a new drug approval is that the relevant guideline committee for that cancer type will convene and they'll just update the guideline to just incorporate, hey, there's a new on-label drug in this indication, and this is how it can be incorporated into the standard of care. I would presume that given that Signatera will be in the label for atezo in this use case, that there'll be some reference to that this has to be cell-free DNA enabled in order to order this on label for bladder cancer. And then -- so I think that process is sometime over the next year, I would expect those things to happen. I would just -- bladder cancer is overwhelmingly the bladder -- muscle invasive bladder cancer patients are Medicare patients. So it's very important to us to have this data. I think that it confers kind of a halo effect across the entire franchise. I think it does is a very strong argument to be using Signatera in the management of your bladder cancer patients, particularly your muscle invasive bladder cancer patients. And then, yes, I think the guidelines are another one of many kind of steps that we've had here to further validate the effort.

We're about out of time. I have 3, I think, important questions.

Speed round. Let's go. Let's go fast. That's you too. You got to come on. Let's go, let's go fast.

All right. You're making me nervous. So early cancer detection. Is it fair to say, one, you wouldn't move into this if you thought it was going to be a me-too product. And two, you feel like the biggest way you can differentiate is leveraging the samples you have in CRC, which nobody else has access to.

Well, look, I mean, back to the important problems, right? I mean there's 40 million people in the United States that should be getting screened for colorectal cancer that are just not doing anything, okay? I'm 46. I had a colonoscopy this year, probably only because I work in a company where I'm so constantly exposed to people who are of my age to have colorectal cancer. So I wouldn't got it. Otherwise, I mean, I have other things to do, and it was a huge -- it was like a 3-day ordeal. So I'm much more sympathetic to people who are not getting screened than I was when I was like 35. I was like, of course, you should get screened. Well, it's not that easy, right? You got to take 3 days off of work. And that's an amazing luxury that I have. I can just reschedule my Friday calls to Monday. Not everyone can do that. I mean, so it's a very important problem. I think the data that we showed on a preliminary basis was extremely promising. okay? That -- why do we even bother running interim data? A couple of things. I mean we want to understand before we undertake a very -- a big investment in a large FDA-enabling study. We want to know internally, we want to have some good confidence that we have a shot for this thing to work, okay? The data read out beautifully. Does that mean that it's a guarantee that the FDA-enabling study will read out in the same exact way as the interim study? No, it's not a guarantee. I mean that's why one has to run the bigger study, but it's certainly good enough for us to feel very confident in going forward on this and making the right investments to take our shot at solving this problem. There's not going to be that many companies that are in this space, okay? I had previously thought maybe there'd be 6 or 7 of these players. It turns out it's very hard to run that study. It's very hard to run a blood test that actually reliably catches does this job in terms of screening this population without throwing off too many false positive. It's a hard problem. So I think the paucity of companies that can solve the problem and the preliminary performance that we put up, combined with our history of doing a good job in getting these important solutions to patients, I think, sets us up very well to solve this -- helps solve this huge problem. And it won't be just us, but we can be a big part of the solution.

$30 million to $50 million incremental spend, something like that.

It's more than that. I mean it's going to be more than that.

More than that.

Yes. Just the trial itself is going to be more expensive than that. Again, happy to do it because just in terms of just the capital allocation, I mean, hopefully, you guys -- when you heard us kind of step through the results, you can at least -- you don't have to agree with us, but you can at least see what the thinking is as to why that is a useful -- that's the ROICs there out to pencil out. I mean that's worth us taking a shot on.

Last one, not doing justice to your other great businesses in prenatal and organ health. But certainly, from an opportunity and competitive standpoint, it sounds -- competitive dynamic standpoint, it sounds like you feel as good as ever.

Yes. I mean there's -- as always, there's just a flow of great companies that are in there competing and coming up with new ideas, and I love it. I really do. And it makes us -- it forces us to be better all the time.

Like Fetal Focus.

Well, I mean, I think that's one example. I think like there's a lot of innovation going on in organ transplant, for example. I've been very pleased with the -- just the drumbeat of new features and new data sets that we've just continually published in both of these areas. I mean the heart data that we were able to publish in organ transplant, I mean, I think is incredibly important for heart transplant recipients. And that's just -- I don't know how many people in this room are investing in the company because of the heart transplant opportunity. I kind of don't care because like we can do this. This is right on the run for us. And we're really ramping that business extremely quickly because we're solving an important problem. NIPT has been amazing. I mean I have 4 kids, my youngest one is 10. He's the only one that got where we got an NIPT. I mean this is like a new thing. And now like 80% of women get an NIPT is -- we've played a critical role in just changing the way that women are cared for in their pregnancy. And that's been -- I mean that's part of the mission is why Matt started this company is that he had a situation in his family where partner had a child affected by an inherited disorders, is absolutely awful. And now that happens much less frequently because of Matt, because of all the effort over the last like 15 years.

All right. This is fantastic. Thank you as always.

Yes. Thanks, guys.