Exact Sciences - Earnings Call - Q3 2009

Transcript

Operator (participant)

Good day, and Welcome to the Exact Sciences Corporation conference call for the third quarter 2009. This call is being recorded. For opening remarks and introductions, I will now turn the call over to Rod Heiss. Please go ahead, sir.

Rod Heiss (Head of Investor Relations)

Thank you, and thank you everyone for joining us for Exact Sciences third quarter 2009 conference call. On today's call are Kevin Conroy, the company's President and Chief Executive Officer, and Manish Arora, the company's Chief Financial Officer. They will be available to answer questions following their initial comments. Exact Sciences issued a news release earlier this morning detailing our third quarter 2009 financial results. If you haven't seen the release, please go to our website at exactsciences.com or call me at 608-770-7850, and I can provide a copy of it to you. Following the safe harbor statement, Manish will provide a summary of our third quarter financial results. Next, Kevin will provide comments about the company and its priorities for 2009. Immediately following our prepared remarks, we will be happy to answer your questions.

Certain matters contained in this presentation, other than historical information, consist of forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, relating to, among other things, our expectations concerning the timing of potential commercial and clinical milestones, the efficacy of our technology, our commercial and FDA regulatory strategies, our available cash and cash equivalents, and our business and financial outlook. These forward-looking statements are not guarantees of future performance and are subject to a variety of risks and uncertainties that could cause actual results to differ materially from the results contemplated thereby. Any forward-looking statements we make should be considered in light of the risks and uncertainties contained in our filings with the Securities and Exchange Commission, including but not limited to those contained in our most recent Form 10-K and subsequent Form 10-Q.

We incorporate herein the discussion of those factors. You are cautioned not to place undue reliance on these forward-looking statements, which speak only as of today. We undertake no obligation to update or revise the information provided herein, whether as a result of new information, future events, circumstances, or otherwise. Now I'd like to introduce Exact Sciences' Chief Financial Officer, Maneesh Arora. Maneesh?

Maneesh Arora (CFO)

Thank you, Rod, and good morning, everyone. We continue to be pleased with our financial performance as we're utilizing modest amounts of cash from quarter-to-quarter. During the third quarter, the company utilized $850,000 net cash after receiving approximately $700,000 of cash from stock option exercises during the third quarter. We ended the quarter with cash, cash equivalents, and marketable securities of $26.9 million. Third quarter revenue increased due to the quarterly non-cash allocation from the company's first quarter intellectual property transaction. These non-cash allocations will continue for another 17 quarters. On the expense side, during the third quarter, we built an R&D team and began our R&D collaboration with Dr. David Ahlquist and his lab at Mayo Clinic. These activities were the primary drivers of increased operating expenses. We also recorded a year-over-year increase in non-cash stock compensation expense.

We look forward to continuing to make investments in product development while closely managing our cash utilization. It's now my pleasure to introduce Kevin Conroy, Exact's President and CEO, to review the third quarter in more detail. Kevin?

Kevin Conroy (President and CEO)

Thanks, Maneesh. I'd like to begin with a brief overview of Exact Sciences. Exact Sciences is focused on developing a test for the early detection and prevention of colon cancer. I emphasize early detection because through early detection, prevention, and even eradication is possible. There is a significant unmet need for a simple, patient-friendly, non-invasive test that detects both precancers and cancers. We believe the market opportunity here is in excess of $1.2 billion. Exact Sciences is in the enjoyable position of possessing exclusive intellectual property around this market. We have had our test included last year as a standard of care in the American Cancer Society guidelines. It's not an easy test. We have a terrific management team with proven experience in clinical diagnostics and, importantly, oncology programs.

We have a $27 million or $26.9 million in cash reserves, which is significant for us to execute on our plans. Now, about colon cancer. Colon cancer is known as the most preventable yet least prevented cancer. Why is this the case? Colon cancer actually takes 10 to 15 years to develop. Most of that time is spent in the precancer stage. If you can detect precancers before they become cancer, you can have a significant impact on the disease. Colon cancer is the second most deadly cancer in the United States. Last year, 2008, 49,960 people died of colon cancer in this country. Let's compare that to cervical cancer. In the 1940s, over 30,000 women died from cervical cancer every year. The Pap test came along, and over time that number has dropped to less than 4,000.

Most of the women who die of cervical cancer are women that are not effectively and regularly screened. That is an example of a near-cancer eradication story that we believe can be replicated. Colon cancer arises from polyps. Precancerous polyps. Our test will detect these polyps. Of course, not all polyps are precancerous. Actually, only about 2% of them are. With an effective sDNA test, you are able to detect those precancers before they develop into cancer. Our test also detects cancer. It detects these cancers, we believe, in excess of 85% of the time that they're present. With an effective screening program, you're able to detect both precancers and cancer. Today's screening, is it effective? That's an important question. The truth is that 75% of patients fail to follow current screening guidelines. Why is this the case?

The current main screening method is colonoscopy. In order for colonoscopy to be effective, patients must spend the evening prior purging the colon with a gallon of liquid. That is one eight-ounce glass every 5 to 10 minutes for over two hours. The next day, the patient following sedation is faced with a six-foot colonoscope. This is not the most desirable broad screening tool. The result of this poor compliance rate is that 63% of cancers are detected in the late stage. We know what happens when you detect cancer at stage three or four. At stage three, colon cancer patients survive five years only 54% of the time. Stage four patients only have an 8% five-year survival rate. These odds are dismal, and it does not have to be the case.

With sDNA use as the frontline screen followed by colonoscopy and removal, this leads to cancer prevention. Now let's talk about the market opportunity for this test. It's actually quite massive. With a 30% adoption, that is 30% of patients over the age of 50, if they utilize this test, the market size is $1.2 billion. There are a lot of people over the age of 50 in this country. Just in this country, there are 90 million. Half of them have never been screened with colonoscopy. We feel that our 30% adoption assumption is quite reasonable. When you take a look at the prospective cost savings, you're seeing in excess of $10 billion, maybe up to $15 billion annually in treatment costs for colon cancer in this country. 75% of that is borne by Medicare. These costs could be avoided with comprehensive screening.

Now let's take a look at the competitive landscape here. You have colonoscopy, virtual colonoscopy, and FOBT, which together are the three main forms of screening. Colonoscopy, which we talked about here, the statistics show that only 30% of people over the age of 50 have had a colonoscopy in the last 10 years. It has obvious limitations, including cost, time off from work, and patient dislike. One recent study found that 55% of patients felt that colonoscopy was either very unacceptable or unacceptable. This is in comparison to 13% general objections to colon cancer screening. Virtual colonoscopy is not covered by Medicare, so that's a major impediment, and it has many of the same limitations as colonoscopy. FOBT suffers from very poor sensitivity. For people with cancer, this test is only 40-50% sensitive on a good day and only 12% sensitive for precancer.

Now let's take a look at a new test, a blood-based sDNA test, and compare that, or a blood-based DNA test, and compare that with an sDNA test. This comparison shows that sensitivity of a blood-based test is limited, quite limited, for early detection and not nearly as robust as sDNA-based screening in the later stages, with sensitivity for advanced adenomas or precancers at 18%. This blood test will fail to reliably detect precancers and cancers, what the Cancer Society believes should be the primary goal of screening. Even at later stages, the sensitivity is suboptimal. Although at Exact we continue to evaluate the possibility of offering a blood DNA test, we believe this test will face serious hurdles in market adoption. First, it has inferior clinical results. Second, it has a high programmatic false positivity rate. Third, we believe that it will face insurance coverage challenges.

However, we continue to evaluate this test. We just believe that there will be significant challenges in market adoption. Now let's talk a little bit about the American Cancer Society's view of the world. The ACS, in its recent update regarding colon cancer prevention and early detection, specifically calls out colon cancer prevention as the primary goal for screening. New methods for colon cancer screening may be developed, but unless they satisfy the Cancer Society's goal of prevention through early detection of both precancerous polyps and cancer, their utility and, we believe, their ability to obtain insurance coverage will be limited. Now let's talk briefly about or summarize the sDNA benefits. First of all, this test is non-invasive. There's no bowel prep required, no diet or medication restrictions. There's unlimited access. This can be patient-collected and mailed. It's affordable, and it also detects precancers and cancers.

That's the overview of the business. Now, Manish, if you would please discuss Exact's 2009 priorities and our progress in the third quarter.

Maneesh Arora (CFO)

Thanks, Kevin. We laid out three key priorities for 2009: product development, clinical trial planning, and creating a new culture of performance. Let's discuss our progress during the third quarter. We made significant progress on our priorities this past quarter. We've rebuilt our R&D team, which now stands at eight, and it will continue to expand. Our product development and target assay design were solidified during the quarter. Our target assay has been refined and simplified through the leadership of Graham Lidgard. Our clinical trial planning is underway, and we will provide you with a more specific update on timing in just a moment. We moved into new facilities for the company here in Madison at very competitive rates. Importantly, we licensed the Invader Detection Chemistry, which we will couple with digital PCR to provide what we believe will be the most sensitive and specific colorectal cancer screening test available.

Let's turn now to our product development milestones. We have laid out an ambitious and achievable timeline for the development and commercialization of our sDNA-based test. We expect to see externally generated data in the second half of next year. During the second or third quarter of 2011, we anticipate beginning our clinical trial, and when the trial is complete, we will ready our submission, which we expect to make sometime during 2012. We look forward to providing additional detail and more guidance as we get closer to each of these important events. I'll now turn the call back over to Kevin to wrap up.

Kevin Conroy (President and CEO)

Thanks, Manish. Before we conclude, I'd like to say a word about a decision I'm in the process of making. I'm actively considering a run for governor in Wisconsin and expect to decide soon. Should I run, I will remain CEO until and unless I'm elected. I remain excited about our company and I'm committed to its success. Now let's turn to the four key takeaways about Exact Sciences. First, we are targeting a massive market opportunity. Second, there's a significant—it's a major unmet clinical need. We have an experienced management team with the capability of executing on our plan, and all of the key elements are in place here for success. We are focused on executing on a straightforward plan. Now, if you have any questions, we'd be pleased to answer them.

Operator (participant)

Thank you, sir. To signal for a question on the conference call today, please press the star key followed by the digit one on your telephone keypad. Again, it is star one to signal for questions. Please be sure that your mute function is off to allow your signal to reach our equipment. Once again, it is star one to signal. We'll go to Quinton Yoder with Robert W. Baird.

Quinton Yoder (Analyst)

Hi, good morning.

Kevin Conroy (President and CEO)

Good morning, Quinton.

Quinton Yoder (Analyst)

Congratulations on all the work that you've got going. Now looking kind of at your milestones and timeline, could you talk a little bit about some of the costs that you think that you'll need to incur as you prepare for the clinical trial?

Kevin Conroy (President and CEO)

Sure, Quinton. We expect the clinical trial to cost between $15 million and $20 million, inclusive of the preparation as well as the clinical trial. We expect to begin incurring those expenses, as we said, in Q2, Q3 2011.

Quinton Yoder (Analyst)

Okay. So then, Manish, as you're preparing over the next 2010, should we be looking at kind of a burn rate that you're running at or accelerating as you add more people?

Maneesh Arora (CFO)

I think what we've talked about is we expect approximately $1 million a month, and that will ramp slightly in 2010 as we add people.

Quinton Yoder (Analyst)

Okay. Super. With respect to Invader, I mean, it certainly kind of caught our eye that you grabbed access to Invader. Could you talk a little bit about instrument platform? Is there a potential to leverage a future install base from potentially Hologic come 2012? Or do you think that somewhere down the road that you'll need to also develop your own instrument platform?

Kevin Conroy (President and CEO)

We will develop our own instrument platform that we will benefit from the experiences clearly that we had at Third Wave. The instrument platform that was commonly utilized at Third Wave was a TCAN platform. We expect that a platform, either the TCAN platform or one like it that does automated pipetting, will be a platform that we use in the future. In terms of the specific platform that Hologic is rolling out, obviously, it is a different sample that is collected, and so there are going to be different design configurations. I do not believe that Hologic has specifically laid out what their platform configuration will look like. This is something, Quinton, that we will provide more clarity on as time ensues.

Quinton Yoder (Analyst)

My final question, and I can always jump back into the queue. I appreciate the extra color that you've gone through with the slide deck about your opinion on blood-based detection. Have you gotten any feedback from some of your industry contacts about what they feel about blood-based detection? In terms of you said you think that the payers may not look favorably on that, just to try to get a little flavor of why you think stool-based, just a little more color on why you think stool-based is the way to go.

Kevin Conroy (President and CEO)

Yeah. So we have had, there are people with very strong views in the industry. If you take a look at the sensitivity for precancer of a blood-based test, it's 18%. With a false positive rate of 10%, that 18%, 10 of those 18 percentage points are just false positives. It has an extremely low—first of all, let me take a step back. We would love to see a blood test and be part of a blood test. We've looked at that very closely since day one. If you can't detect precancers, and if you only detect stage one cancers 36% of the time, we don't understand how the American Cancer Society would ever get behind this test. If the American Cancer Society doesn't get behind this test, we don't see how we could get CMS to get behind this test.

Without CMS getting behind this test, we do not understand how you can have a market. We really struggle. The other thing to look at, and I mentioned this briefly, is programmatic specificity or programmatic false positive rates. If somebody gets a blood test every year and they have a 10% chance of having a false positive and a much lower chance of having actually a true positive, what you end up seeing is a massive over-referral to colonoscopy. That is another challenge that we see. This is not a criticism of those companies who are putting in R&D efforts into developing a test. We applaud those efforts. We just do not understand how a test with such low precancer detection rates and stage one detection rates can be commercially viable in the long term. You have to remember, that test is not an inexpensive test.

Today, that test looks like a $300+ test. And we know the costs associated with those tests are pretty significant. We do not see how that test could ever be a $25-$50 test. Hopefully that answers your question, but I am sure we will talk about this more in the future.

Quinton Yoder (Analyst)

Thank you. Thank you very much.

Operator (participant)

We'll go next to Ram Selvaraju with H.C. Wainwright & Co.

Ram Selvaraju (Analyst)

Hi. Thanks very much for taking my questions. Can you hear me?

Rod Heiss (Head of Investor Relations)

Yes. Hi, Ram.

Ram Selvaraju (Analyst)

Could you provide some more clarity on two things? The first is how the regulatory interactions are likely to be conducted as you move the test into formal clinical development and what the specific sort of gating items might be on the regulatory front. Secondly, what the pathway would be for formal regulatory submission of the test once clinical development is concluded. Lastly, if you could just comment on if you, Kevin, decided to take up a position as governor of Wisconsin, with what sort of timing could we expect a transition in management and how that might be affected?

Kevin Conroy (President and CEO)

Sure. Okay. Let's take the regulatory question first. It's a pretty straightforward path. We have said publicly that the FDA believes that this is a de novo 510(k). We are planning as if it will be a PMA, even though we don't think it will end up as one. We have had numerous meetings with the FDA, and those meetings will continue. We are really focused right now on putting together our clinical trial plans. Obviously, the more planning you do, the more successful you'll be once you actually start the clinical trial. To kind of recap that, robust discussions with the FDA, bringing in the best external minds available to help look at our clinical trial plan and really kick the tires of the plan. We believe the more input you have upfront, the more likelihood you'll have of being successful in the future.

If you look at our experience with the HPV test, Roche and Gen-Probe were ahead of us in announcing their HPV programs. We got through that clinical trial well in advance of either of those companies. We did it by focusing on what the FDA really expected, listening to the FDA, and then designing a clinical trial with those thoughts in mind. That is the regulatory piece. In terms of leadership, this company has built a great team over the last six months. This team is exceptionally capable with Manish and with Graham and with Barry. I feel very comfortable, and the board feels very comfortable that I will be able to remain CEO while we execute on our product development and clinical trial plans. In terms of succession planning, I think it is a little premature to talk about that.

Should I decide to run, it won't be premature, and the board will clearly be focused on that, and we will articulate that succession planning more clearly. The leadership team here is a strong one, and I feel very comfortable. Frankly, I wouldn't make this decision if I didn't feel comfortable in their ability to execute on our plan.

Ram Selvaraju (Analyst)

Do you have any color at this point as to when you would make a decision and when we would have some more clarity on that?

Kevin Conroy (President and CEO)

It will be in the very near future.

Ram Selvaraju (Analyst)

Thank you.

Operator (participant)

We'll go next to Michael Mouskoff with MRM Capital.

Michael Mouskoff (Analyst)

Questions answered.

Operator (participant)

Again, as a—

Kevin Conroy (President and CEO)

Thank you, sir.

Operator (participant)

Sorry, sir. Again, as a reminder, it is star one to signal. Again, it is star one. We'll go next to Phil Kubikowski with PCS Financial.

Phil Kubikowski (Analyst)

Good morning, gentlemen, and congratulations on the progress you have made so far. One, just a quick follow-up on the last question I was asked as far as a decision on whether or not you're going to run for governor. Is that going to be announced in an 8K?

Kevin Conroy (President and CEO)

I'm sure that we will do that, yes.

Phil Kubikowski (Analyst)

Okay. Some of my previous questions are already answered, but one I can think of. In the past, the accuracy of the tests Exact has been developing seemed to have often had its accuracy validated by the use of colonoscopy to determine if the person of a particular stool sample actually had cancer. Considering the fact that colonoscopy is not necessarily a perfect measuring stick, as I understand, especially in regards to precancers and early stage and flat lesions, what type of testing is done to validate the accuracy of the test?

Kevin Conroy (President and CEO)

Yeah. That's a great question. The way to look at this is that there is no perfect gold standard. Colonoscopy has a published roughly 90% sensitivity. Colonoscopy misses some precancers. It probably doesn't miss a lot of cancers. If colonoscopy misses and an sDNA test is positive, it would be included as a false positive. We think that that may increase a false positive rate by, we'll call it, 2 or 3%. That's directionally, you will see sensitivity and specificity numbers that are awfully accurate by comparing to colonoscopy.

Phil Kubikowski (Analyst)

Okay. Another question. I think a while ago, you were kicking around a number of $150 as a potential test price. Helping us with our models, how would we calculate what kind of net earnings that comes back to Exact as far as what of that test price would come back reimbursed to you? What kind of royalties you'd have to pay out of the technology that you're utilizing?

Kevin Conroy (President and CEO)

Actually, we think that this test will garner reimbursement of $300. Our assumptions, which I think are very conservative, is that we would see $150 of that. The truth is, I think that there would be an opportunity to see more of that. We have also articulated that our gross margins would be in excess of 65%. That is the rough way we think to look at that. Does that answer your question?

Phil Kubikowski (Analyst)

Yes, sure does.

Kevin Conroy (President and CEO)

Good.

Phil Kubikowski (Analyst)

All right. Thank you very much.

Kevin Conroy (President and CEO)

Thank you.

Rod Heiss (Head of Investor Relations)

Again, star one for questions. We'll go to Jim Kennedy with Marathon Capital Management.

Jim Kennedy (Analyst)

Hi, Kevin. Hi, Manish.

Kevin Conroy (President and CEO)

Hi, Jim.

Jim Kennedy (Analyst)

Two things I just wanted to clarify, Kevin. Number one, again, the trial timing, you're anticipating starting approximately when?

Kevin Conroy (President and CEO)

Q2, Q3, 2011.

Jim Kennedy (Analyst)

Okay. Q3, 2011. And you feel like in 2012, we'll have whatever results we need to at least attempt to go to market at that point?

Kevin Conroy (President and CEO)

Yes. One important thing to drive home is that by, call it the third quarter of next year, you will see, and we will see, externally validated results of our tests. We will know heading into this clinical trial what the sensitivity and specificity parameters will be before we start the clinical trial. That is a very important milestone that is not very far away.

Jim Kennedy (Analyst)

Okay. Yeah. What I wanted to—to the extent you can share it, what I wanted to know is from now, I mean, we're looking at approximately two years until the point at which you begin a trial. Can you sort of, for us layman out here, walk us through the key efforts or milestones you feel that you have to tackle between now and then? That seems like a lot of time. What are the major steps you feel you have to tackle or get over that are going to take 18 to 24 months?

Kevin Conroy (President and CEO)

Yeah. In molecular diagnostics, it's easy to—I shouldn't say easy to design an assay, but it's relatively easy to design an assay. It is quite challenging and time-consuming and resource-consuming to take that assay through the paces to make sure that that assay is robust and reliable and, importantly, complies with the regulations around developing a medical device, all of the quality system regulations, and documenting the product development process. The first step in developing an assay—and we've really gone back to square one to say we're going to develop an assay that is the strongest assay possible at detecting precancers and cancers—the first step is designing and optimizing the target assay.

The second step, after you've gone through the process of optimizing every one of the individual assays that detect different mutations, and there are obviously multiple mutations that you're detecting, and there's also a sample extraction process to develop, you then run that assay against known positive and negative samples, blinded, but known positive and negative samples. You first do that with what's called a training set, and then you secondly do that with a test set. You publish that data. That will occur, we hope, in roughly Q3 of next year and the back half of next year. You then have to run that test through, and in this case, it'll be in excess, we guess, of 50 interfering substances.

Now you need to run this test against all of the known potential substances that could inhibit the test. Finally, you need to fulfill all of the quality system requirements around documentation in order to be prepared to start a clinical trial. There is no doubt that we hope to start a clinical trial even before Q2, Q3. As you know, in product development, things happen, and we want to be prepared for that. We feel very strongly that this is doable in the timeline that we have laid out. The other thing that you do during this process in parallel with product development is plan for the clinical trial. We believe that there will be 20-30 clinical trial sites.

You need to not only design the clinical trial but go out and enroll those sites, hire a CRO, make sure that you are completely prepared to very rapidly enroll up to 10,000 subjects. Hopefully, that provides a little bit more color.

Jim Kennedy (Analyst)

Absolutely. Thank you. Final question. I'm a big believer in whatever you do, do it right. I would guess if you're going to run for governor, that you're going to do it the right way. I'm also guessing that that's probably a full-time effort if you do decide. Do you have any thoughts if you do decide to run, approximately how much of your schedule will be devoted to that run for governor?

Kevin Conroy (President and CEO)

I think that's something that I'd rather discuss if I ultimately make this decision to get in. It is certainly a fair question, and I plan to articulate how much time and effort. I think the most important thing, though, is ensuring that you have a CEO with the requisite experience and leadership skills to get an important product like this to market. I certainly feel that it would be more disruptive to shareholders because, obviously, if I run, there's no guarantee that I would win. If I do this, I don't want to cause disruption about whether or any questions about whether I would come back to the company. That's something that is important, and I want shareholders to be very comfortable with the fact that we can develop a product and take that product through a clinical trial with this leadership team.

Jim Kennedy (Analyst)

Good. Fair answer. Thanks, guys.

Kevin Conroy (President and CEO)

Thanks.

Operator (participant)

Once again, that is star one. If you have a question, we'll go back to Michael Mouskoff with MRM Capital.

Michael Mouskoff (Analyst)

What did you say the gross margin rate would be with the reimbursement, $300 and then $150?

Kevin Conroy (President and CEO)

Our target is in excess of 65%.

Michael Mouskoff (Analyst)

The burn rate you guys had mentioned going into 2010 would be $1 million a month starting in January of 2010, or?

Kevin Conroy (President and CEO)

It'll average that in 2010, and it will ramp slightly during the year.

Michael Mouskoff (Analyst)

Okay. Okay. Great. Thanks, guys.

Operator (participant)

At this time, we have no other questions. I would like to turn the call back to the President and CEO, Kevin Conroy. Please go ahead, sir.

Kevin Conroy (President and CEO)

Thank you for joining the call. We are very pleased with the progress that we've made so far this year. We have really a terrific and enthusiastic team that is deeply involved now in the product development efforts. In the last six months, not only have we built this terrific team, but we've redesigned the target assay. We've entered into a very significant collaboration with the Mayo Clinic. We have planned for, or we're in the process of planning for, an important FDA clinical trial. We have funded the company for success, and we plan to close out 2009 at or ahead of our plan. We really look forward to talking to you in early 2010 about the progress that we made full year 2009. Thanks again for joining, and we look forward to talking to you.