Nov 3, 2014
Executives
John Mills - IR, Integrated Corporate Relations, Inc. Kevin Connors - President and CEO Ron Santilli - EVP and CFO
Analysts
Thomas Gunderson - Piper Jaffray Anthony Vendetti - Maxim Group Jack Wallace - Sidoti & Company Daniel Mendoza - Prospect Capital Advisors Zack Ajzenman - Griffin Securities
Operator
Greetings and welcome to the Cutera Incorporated Third Quarter 2014 Earnings Conference Call. At this time, all participants are in a listen-only mode.
A brief question-and-answer session will follow the presentation. (Operator Instructions) As a reminder, this conference is being recorded.
It is now my pleasure to introduce your host, Mr. John Mills of ICR.
Thank you, you may begin.
John Mills
Thanks, operator. Welcome to Cutera's third quarter 2014 earnings conference call.
On the call today are Cutera's President and Chief Executive Officer, Kevin Connors; and Executive Vice President and Chief Financial Officer, Ron Santilli. After management's prepared comments, there will be a question-and-answer session.
The discussion today will include forward-looking statements reflecting management's current forecast or expectations of certain aspects of the Company's future business, including any financial guidance provided for modeling purposes. Forward-looking statements are based on current information that is by its nature dynamic and subject to rapid and even abrupt changes.
All forward-looking statements are subject to risks and uncertainties which may cause actual results to differ materially from those projected or implied in our statements. Such risks and uncertainties are discussed in a summary form in today's press release and a detailed discussion of them can be found under the caption Risk Factors in the Company's filing in the 10-Q filed today with the Securities and Exchange Commission.
Cutera also cautions you to not place undue reliance on forward-looking statements, which speak only as of the date they were made. Cutera undertakes no obligation to update publicly any forward-looking statements to reflect new information, events or circumstances after the date they were made or to reflect the occurrence of unanticipated events.
Future results may differ materially from management's current expectations. And with that, I will turn the call over to Kevin.
Go ahead, Kevin.
Kevin Connors
Thank you, John. Good afternoon, everyone.
And thanks for joining us today to discuss Cutera's results for the third quarter ended September 30, 2014. Our 11% revenue growth this quarter was driven by both our US and international markets which were up 9% and 13% respectively.
We believe this growth is only the beginning of improving results as the investments we've been making in new products. The commercial leadership team and North American sales force expansion are beginning to drive our top line.
The revenue growth in United States was driven primarily by the impact of our recent sales force expansion, launch of Excel HR, a premier hair removal product and Excel V, our gold standard vascular product that continues to gain momentum. Our international growth was derived primarily from or direct operations in Australia, Japan, Canada and our recently expanded European countries.
From a product perspective, the primary reasons for our revenue growth are Excel V and the recently released Excel HR product. We believe these premium products targeted to core physicians will continue to represent an excellent opportunity for us in this market for many years to come.
Additionally, we've recently received FDA clearance for our enLIGHTen product. This important milestone allowed for us to initiate domestic sales activities and although the commercial efforts are at an early stage, we've received strong initial customer interest enabling us to enter the fourth quarter with a backlog for this product.
We expect to commence commercial shipments of enLIGHTen in the fourth quarter of 2014. One year ago we embarked upon a plan to improve our commercial leadership team in the areas of sales and marketing.
[John Petersen] [Ph] joined us as Head of Marketing at the end of 2013, and he has revamped our marketing team and advanced our global marketing efforts. Miguel Pardos joined us in July of this year and has leveraged his 20 years of experience in building and leading international sales and marketing organization in global, medical device companies to lead our international team.
In short order, Miguel has begun to improve our international performance and has started to improve the talent and direction of his team. Finally, at the end of the quarter, we hired Larry Laber to lead our North American sales team.
Larry brings 20 years of sales and sales management experience, majority of which has been within the aesthetic medical device industry. Larry has demonstrated an ability to develop cohesive, high -performance sales organizations and we look forward to work with Larry to improve our performance metrics.
I'm confident that this commercial leadership team, coupled with our expanded portfolio of products is positioned to achieve revenue growth in excess of the market. Turning to research and development.
2014 will mark the first year since the creation of the company where we will introduce two new product platforms in the same year. Excel HR, a premier hair removal product was launched at the end of the second quarter and has exceeded our expectation to date with customer interest in product performance.
We continue to get traction with this product, and now rolling it out to international markets. enLIGHTen has received an FDA 510(k) indication and has already received strong customer interest.
We believe this product's technical specification and expected product performance will enable our customers to treat a wider variety of patients with fewer treatments. As I mentioned earlier, we entered the fourth quarter with backlog of orders for this product and plan to commence shipments into the fourth quarter of 2014.
We believe the market for aesthetic light and energy based system is healthy, and that our broad portfolio of products recently assembled commercial leadership, expanding global sales team and the expected market penetration in our new products strategically positions us to capture larger market share in an expanding market. Now I'll like to turn the call over to Ron to discuss the financials in more detail.
Ronald Santilli
Thanks, Kevin. And thanks to all you for joining us today on our third quarter 2014 conference call.
As Kevin mentioned earlier, we are pleased to have balanced revenue growth in our US and international market. We are also pleased to see gross margins trending upward and we continue to focus on improving product gross margins through increasing average sales prices as well as aggressively implementing cost reductions.
We expect our gross margins to improve further to 60% when quarterly revenue is in the $20 million range. Operating results.
We had a $2.6 million net loss or $0.18 per diluted share. This loss included $1.3 million of non-cash expenses for stock based compensation, depreciation and intangible amortization.
This result reflects ramped up expenses related to our investments in our expanded global commercial operations as well as higher than normal R&D spending associated with planned product shipment of enLIGHTen next quarter. Now, I'd like to address our operating expense performance.
Sales and marketing expenses were 42% of revenue compared to 39% of revenues in the third quarter of 2013. The increase in spending was primarily related to higher personnel costs due in part to the increased direct sales headcount associated with our global sales force expansion.
We plan to continue with investments in our global distribution channel and expect our sales and marketing expense as a percentage of revenues to decline in 2015 as we derive revenue growth and productivity improvement from these investments. Research and development expenses increased to $2.6 million in the third quarter of 2014 due primarily to increased personnel expenses.
Over the past year, our R&D spending has been higher than normal due to project timing matters related to the development of Excel HR and the enLIGHTen product. As such, we expect quarterly spending to decline gradually in the next -- as the new products commercialize and transfer to manufacturing.
In 2015, we expect R&D spending to be in the range of $2.3 million to $2.5 million per quarter. General and administrative expenses increased this quarter by $700,000 due primarily to higher personnel costs including non-cash stock based compensation expenses.
We expect our G&A expense to be in the $2.5 million to $3 million range going forward. Turning to the balance sheet, net accounts receivable at the end of the third quarter of 2014 were $8.7 million and our DSOs were 43 days.
And we expect our DSOs to remain in the 30 to 40 day range going forward. During the quarter, our inventories increased by $1.1 million to $11.1 million.
The increase in inventory was primarily due to the procurement of inventories associated with the ramp up of production for our recently launched Excel HR and planned product shipment of our enLIGHTen product in the fourth quarter. Our financial position remained strong as we hold cash and investments of $80.7 million with no debt.
This represents almost $6 per outstanding share as of September 30, 2014. Stock repurchase, we continue to have an active 10b5-1 program that is opportunistic for purchases of up to an additional $10 million.
However, no stock repurchase was done under this program in the third quarter. In conclusion, historically the fourth quarter is the highest revenue quarter of the year, we expect this year would be no different particularly in light of our new product launches, enLIGHTen backlog, sales force expansion and improved commercial leadership.
We are expecting to be profitable on a GAAP basis and cash accretive in the fourth quarter as well. Our quarterly breakeven point is in the $21 million to $23 million revenue range.
Revenue achieved in excess of this range begins to reflect financial leverage in our business model which is our target as demonstrated by our commercial investments and broad portfolio of products. Looking to 2015, we expect to grow at a rate above the market growth rate as a result of our commercial and product investment.
Additionally, we expect to be profitable and cash flow positive in 2015. Now, I'd like to open up the call to your questions.
Operator?
Operator
(Operator Instructions) Our first question is from Thomas Gunderson from Piper Jaffray.
Thomas Gunderson - Piper Jaffray
Hi, good afternoon, everybody. So, Ron, maybe just a clarification on the last statement there when you said profitable in 2015.
I want to make sure I understand that. Profitable GAAP, profits each quarter by the end of the year, for the whole year, how should we categorize that?
Ron Santilli
Hi, Tom. Yes, the comment was targeted for the full year 2015, that we would be profitable.
I am sure there are some quarters where we see fluctuations and seasonality, it might not be profitable on a GAAP basis on a quarterly basis but for the entire year we expect to be so, and to generate cash.
Thomas Gunderson - Piper Jaffray
Got it, thanks. And then, Kevin, speaking of seasonality, that's one of the -- Q3 is one of the strongest product revenue and upgrade revenues that you had in Q3 of late in a while.
And I am just wondering if you could tie that end to two things which you said in a prepared remarks. One is that HR surpassed your expectations.
I am wondering what in particular the market is appreciating about the HR device? And the second is, maybe just an update on the sales force expansion?
Is it settled in? Are the territories calm now and ready to go out there and sell the products?
Thanks.
Kevin Connors
Thanks. Yes, we were pleased with the year-over-year comparisons with revenue in Q3.
And in the prepared remarks we also commented that initial customer interest in the enLIGHTen product which got an FDA clearance mid quarter, and this is with virtually no sales and marketing focus, we are pleased to see the demand for that, that we couldn't ship in the quarter. So have we been in position to ship that product it would have been even stronger performance relative to last year.
HR is a premium product and we've elected to develop portfolio products that we sell for a premium in the market place, and some of the high end to derms and plastics, hair removal is not a new application in our space. However, it continues to be one of the largest aesthetic light based markets that we address and having a new story with product that can do things at performance almost that we think are quite exciting as this is a great development for us.
In terms of the sales force, and we've talked about in the first half that we are making major investments in our North American expansion which was largely wrapped up at the end of Q2 -- very end of Q1 beginning of Q2, and that typically takes six months to see the benefits of that. So we saw some of that in the quarter.
And obviously we are really pleased that we've been able to broaden our bench with the announcement of Miguel that we made in July and then in the release we talked about Larry joining us for North America at the very end of Q3. So we are pleased with what we are seeing but there are still lots of work in front of us.
And we are pleased to have these two lead the charge globally.
Operator
Our next question is from Anthony Vendetti from Maxim Group.
Anthony Vendetti - Maxim Group
Thanks, guys. Hey, guys, how are you?
Just in terms of enLIGHTen and the rollout, I know this quarter in terms of the shipments, can you talk a little bit about if you've already started this shipment because we obviously are a little more than a month into the fourth quarter. And if not when do you expect to start their shipments and then just any update on the FDA approval process for tattoos, the clearance there.
Kevin Connors
Sure. Yes, we indicated that we expect commercial shipments to commence in the active quarter.
And we are sticking with that. I don't want to get into high level granularity of how many systems are expected to ship or anything like that but we are pleased that in the third quarter we were able to get that FDA indication for our first submission treatment of the benign pigmented lesions and we've been working closely with the agency on the second submission for tattoos.
And the discussions have been constructive. From our perspective there are no more active items that we are addressing.
So we don't anticipate any surprises but we'll certainly share the news once we have it.
Anthony Vendetti - Maxim Group
Okay. And you said in terms of revenue growth, this quarter once again driven by primarily by Excel V.
You also mentioned Excel HR, your new hair removal product. Any granularity there in terms of -- just in terms of percent of revenues, is that driving - those two products driving over half of your revenues?
Kevin Connors
Yes. We talked about the contributions of Excel V in the past.
And it's still relatively early days with Excel HR for us. So we anticipate that ramp in demand to continue with that product.
But we are pleased also with Excel V as we believe it is earned a reputation for being the new gold standard in vascular light treatments. And then of course, Anthony, that's just the product side.
On the distribution side, we are pleased to see year-over-year international performance increased by 13%. And again from a foreign exchange perspective we are still headwinds that we quarterly happy to see what Miguel is doing early on with us.
And in the US, 9% growth and again that's not reflecting any of the performances that we are seeing with the enLIGHTen product for the new FDA clearance.
Ron Santilli
So, Anthony, some additional color on that is Excel HR and V are in terms of dollars are justifying the growth. But Xeo is still a big product contributor to our line.
So that's not gone out of the portfolio by any chance.
Anthony Vendetti - Maxim Group
Okay. I know I figure that's still your flagship product.
And any color on truSculpt. I know I saw Titan refills were up this quarter.
Any color on those products?
Kevin Connors
There is nothing materialistic change in that business. We still think that's a great category.
And we think there are opportunities for us to align our strategies around to capture a larger part of that market.
Anthony Vendetti - Maxim Group
Okay. Then lastly, Ron, you said a goal of 30 to 40 days as DSOs, traditionally you guys have been one of the leaders in having low DSOs, this quarter was just slightly above that 43.
Any explanation there?
Ron Santilli
This is - Q3 is seasonally a quarter where it’s even more back ended than most quarters with the summer months a little bit quiet in July and August and September is big. But this quarter was even bigger than big.
And as a result when everything is -- when a lot is back ended it just shows a bigger DSO than maybe what it really is because the DSOs is a snapshot of time. But so we feel really good about our 30 to 40 days but for the particular quarter I think we are more like 43 days something like that.
Operator
(Operator Instructions) Our next question is Jack Wallace from Sidoti & Company.
Jack Wallace - Sidoti & Company
Thanks for taking my questions, guys. Just with the domestic sales team, plus we got a new of that division there, and whether any sales hire underneath Larry in the near quarter?
Kevin Connors
Again we wanted point out that he came with the very end here so didn't have whole lot to do with our North American performance during the quarter, but really delighted to have him on board, so nothing to talk about terms of his impact.
Jack Wallace - Sidoti & Company
Right. And how about underneath I mean I believe it was 46 reps across -- are you normally spend many territories -- were there any more additions in the quarter or is it been pretty flat since one of the tail end first or second quarter.
Kevin Connors
We haven't initiated an additional expansion. We are constantly evaluating that.
But we also recognize that going from 25 territories to 40 in the first half is something, we are still very close to. So we think that so long as the market continues to expand at that expansion is going to be part of our plan for the future.
And we are really happy to have Larry be part of the story.
Jack Wallace - Sidoti & Company
And how about there being the specialty sales group like there is for the Excel V. I believe there is the start up one for the truSculpt, any I guess traction there with that group, and any thoughts on specialty group for any other product?
Kevin Connors
Sure. While as we continue to expand our portfolio, managing focused within the sales organization is one of the key things that we are talking about.
And whether that in the form of sales specialist or some other form, it is an active discussion and clearly with the new leadership team in North America, that's something for Larry to weigh in on and take the appropriate steps.
Jack Wallace - Sidoti & Company
Okay, great. And then lastly, is there a timeline or maybe additional steps that need to be taken again additional approval from the Asian market for the enLIGHTen product?
Kevin Connors
Yes, absolutely. And over the years the issue of global regulatory clearance has become more and more burdensome.
But we are actively working in South Korea; we had a packing order of countries that including Canada and we are pleased to have the CE Mark and now with their first FDA indication and second hopefully coming anytime soon.
Jack Wallace - Sidoti & Company
Okay, great. So I guess potential for sales into the Asian markets to be sometime in the second half of last year being conservative?
Kevin Connors
I think --we've gotten quarters from outside the US already. So we plan to meet those when we can and support them at the level that we think our customers expect from us, but I think we will start to see some shipments outside the United States in the second half -- first half of 2015.
Operator
Our last question comes from Daniel Mendoza from Prospect Capital Advisors.
Daniel Mendoza - Prospect Capital Advisors
I've got few. Can you Ron, can you provide the international growth in the constant currency basis?
In other words, what was the FX advent?
Ron Santilli
You mean using like a Japanese Yen or Euro or something –
Daniel Mendoza - Prospect Capital Advisors
Yes, just if FX -- if foreign exchange rate have stayed the same, how much faster would international have grown?
Ron Santilli
Yes. With the dollar, did revalue during the quarter.
So I haven't per se looked at that but clearly it would have been additional growth associated to that, that we have not factor back because we use the Japanese Yen-- Japanese sales and of course EURO covers much of Europe. So I could draw the number but I rather go back and look.
Daniel Mendoza - Prospect Capital Advisors
That's fine. We will get offline.
Kevin Connors
It is a good question because I think it is probably material impact on apples-to-apples comparison versus a year ago.
Daniel Mendoza - Prospect Capital Advisors
Right, agreed. And then just a question in terms of manufacturing capacity and ramp for both HR and enLIGHTen.
Are you in a position now where you are able to meet the existing demand for the hair removal product and this causes sort of the first part of question? And second part is, how long will it take to kind of ramp up manufacturing so that you are able to meet demand for enLIGHTen?
Kevin Connors
Well in terms of Excel HR, we are pleased with what our operations group has been able to demonstrate. They are just been very close to launching their product and I think we are pretty much up to speed now that we can satisfy demand we have for Excel HR.
We've talked about in previous call there is usually a ramp up during the first quarter or so for any new product launch and Excel HR is no exception to that. And in terms of enLIGHTen, that's the same trend.
We have our manufacturing team working very closely with the development group here and we stayed very close to make sure that we are doing that in most efficient way. Dan, you have been to our facility, we got a plenty of room to expand our manufacturing resources if need be but right now we are operating with the single ship.
So there is a lot of flexibility that we have in order to meet whatever demand that could be through product, just these two products but all over the portfolio.
Daniel Mendoza - Prospect Capital Advisors
Right. I guess I am just trying to get a sense whether you are at a point where you think the backlog will come down in the fourth quarter with the first full quarter of shipments or whether there is a kind of more than one quarter curve for wrapping up manufacturing.
Kevin Connors
Certainly we think that high demand will be a nice problem for us to figure out from manufacturing perspective. And we are certainly keeping our options open in terms of having flexibility with the operations team to address that.
But for us to essentially -- we are not going to divulge the exact amount of backlog that we have that product but I think we are pleased that we have a lot of people that believe that we are coming up with a really interesting technology in what we do. Put orders in before really having an active demo program with our sales team.
So we are encouraged.
Daniel Mendoza - Prospect Capital Advisors
Okay. And maybe along that note, can you help us understand how the product is differentiated from both I guess the incumbent product in the market and I guess one of your other competitor is recently had an FDA approval as well?
Kevin Connors
Right, right. So there is one company that is active in this market, they have been out there for a quite some time, probably year and half or so.
And they are saying positive things about how they see the market and that's been responsible for lot of the growth we are seeing in their business. And so we are happy to be in the market that seems to have some nice dynamics and we are addressing some significant unmet needs in North America.
It is largely a tattoo removal opportunity. But as we look at our business in Asia, a pigmented lesions and things of that nature are more interest.
So we are addressing several different markets in several different geographies. And the approach that we've taken is to offer multiple wavelength, multiple colors of light to be able to give our customers more flexibility, such a thing they can come with up optimal treatment for given patient.
Whether be a tattoo removal patient or pigmented lesion. And then just the overall execution of our technology we think is something we are very proud of, but again we are pleased to be in market where our competitor is already doing a nice job.
And there is a third company that just got an FDA clearance announced recently. But we are not aware of shipping product at this point.
Daniel Mendoza - Prospect Capital Advisors
Okay. And I guess lastly some more of comment than a question but I really want to encourage you publicly to add some new blood to the Board and kind of freshen up the Board.
I think I am probably not alone in my view that maybe the current Board has been -- well, I guess it just gotten really frustrating with the sort of long standing refusal to buyback any meaningful amount of stock. And probably not alone in a view that the current Board has been sub optimal in terms of helping you guys in the management team with strategic guidance.
And I just think it's time for change and time for some new face or two. And would hope to see if there is sense of urgency around that as I think it's a pretty important juncture for the company.
You've got new products, new sales leadership and bigger sales force. And want to see you guys get some help in terms of executing and hopefully generating much better financial performance in coming quarters.
And at the end of the day, I hope you are successful with that. If you are you should be buying as much stock as you can in front of it.
And if things don't go well, you should also be buying as much stock as in front of it because the stocks are too cheap here and if it comes to pass that you need to look at alternative having six bucks a share of cash in your balance sheet, you are not going to get multiple on your cash.
Kevin Connors
Right. Well, Dan, we had that discussion for quite some time.
And I think I relay opinion and comments, observations that holders have about the company, the Board and so I think that -- you know that I understand the importance of having a strong Board, having different perspectives of how we look at opportunities and so it is an act of discussion, Dan.
Daniel Mendoza - Prospect Capital Advisors
Great. I appreciate that.
And you have been transparent and you've always said you relay the comment. And I guess I am just making them publicly now because while you are relaying my comments and others comments that I think have a similar view that the Board doesn't seemed to be acting upon them.
So hopefully if the message doesn't get through we can -- there are some other people will be voicing a similar opinion and we will see some changes.
Kevin Connors
Sure. Well, again --
Daniel Mendoza - Prospect Capital Advisors
I am not asking you to indict your Board on the call though. No need to.
Kevin Connors
All right. I know Dan.
But listen, hope to see you down here at care in the coming weeks as we usually have opportunity to getting the things in high level of details but that the comments are appreciated.
Daniel Mendoza - Prospect Capital Advisors
Very good. Thanks and congrats on some signs of vast success and in particularly in the international front.
Operator
We do have one final question from Zack Ajzenman from Griffin Securities.
Zack Ajzenman - Griffin Securities
Thanks, good afternoon. Not that orders are on in enLIGHTen, can you remind us some -- the pricing details around the product?
Are they ST's?
Ron Santilli
The end user list price is 249 that are what we are charging for that.
Zack Ajzenman - Griffin Securities
Okay, great. And on HR, any particular pockets of strength regionally within the US, this past quarter?
Kevin Connors
It moves around from quarter-to-quarter. I don't think there is anything that's noteworthy in terms of trends of that product.
As we alluded to on the call, certain sales reps that tend to really get behind certain products are really comes downs to the rep more than the geography -- product mix.
Zack Ajzenman - Griffin Securities
Okay and also on HR, I may have missed this early in the call, now rolling out to European countries, so does that imply they were in this third quarter, no revenues from HR European sales?
Kevin Connors
Yes. As we've indicated our commercial shipments plan has been the fourth quarter.
So we have not shipped anything anywhere.
Zack Ajzenman - Griffin Securities
And lastly there was APAC distributor last quarter that you guys disclosed, was down almost a $1 million year-over-year, what was the performance for that particular distributor this quarter?
Ron Santilli
That was down a $1 million, I am sorry.
Kevin Connors
In the second quarter call I think he is referring to -- we will have to get back to you on that, but overall we are pleased with our business in Asia. We had a strong come back in Japan, and to Dan Mendoza's comments, the Yen is continue to be challenging for us but it might be our distributor in South Korea that you are referring to.
But I am not quite clear.
Ron Santilli
I think you might have been -- it was Japan, our direct area was down. That might be you are referring to because we didn't have a distributor that was down that much.
But we can go back and talk offline more detail, Zack. We get it right.
Operator
There are no further questions at this time. I'd like to turn back to Kevin Connors for closing comments.
Kevin Connors
Thank you for participating on our call today. We will be attending the Canaccord and Piper Investor Conferences and other marketing events in the fourth quarter.
We plan to update you on our business product on a fourth quarter 2014 conference call in February. Good afternoon and thanks for your continued interest in Cutera.
Operator
Thank you. This concludes today's teleconference.
You may disconnect your line at this time. And thank your for participation.