Operator: Good afternoon, ladies and gentlemen, and welcome to the TELA Bio Second Quarter 2023 Earnings Conference Call. At this time all participants are in a listen-only mode. [Operator Instructions] As a reminder, this conference call is being recorded. And I would now like to turn the conference over to Louisa Smith from the Gilmartin Group.

Louisa Smith: Thank you, Chris, and good afternoon, everyone. Earlier today, TELA Bio released financial results for the second quarter 2023. A copy of the press release is available on the company’s website. Joining me on today’s call are Tony Koblish, President and Chief Executive Officer; and Roberto Cuca, Chief Operating Officer and Chief Financial Officer. Before we begin, I’d like to remind you that during this conference call, the company may make projections and forward-looking statements regarding future events. We encourage you to review the company’s past and future filings with the SEC including, without limitation, the company’s annual report on Form 10-K and quarterly reports on Form 10-Q, which identify the specific factors that may cause actual results or events to differ materially from those described in these forward-looking statements.

These factors may include, without limitation, statements regarding product development and pipeline opportunities. Product potential, the impact of various macroeconomic conditions, including the COVID-19 pandemic, recessionary concerns, banking instability and inflationary pressures the regulatory environment, sales and marketing strategies, capital resources or operating performance. With that, I’ll now turn the call over to Tony.

Tony Koblish: Thank you, Louisa. Good afternoon, everyone, and thanks for joining us today for our second quarter 2023 earnings call. We are pleased to report another quarter of strong financial results and operational execution. As you will hear, we continue to deliver on our financial goals and advance our key initiatives. Total revenue for the second quarter was $14.5 million, representing growth of 39% year-over-year, which significantly outpaced the growth of the markets in which we sell. I am happy to report we are seeing an improving sales environment as procedure volume and elective surgery demand is up. In the second quarter, we saw strong hernia sales, which may reflect the first steps towards addressing the tens of thousands of procedures delayed during the COVID-19 pandemic.

If so, that bodes well for a solid second half of continued high growth. On this afternoon’s call, as always, I’ll provide an update on the progress we are making with the key drivers of revenue and revenue growth that we refer to as the five factors. Then I’ll ask Roberto to provide further color on our financial results before we open the line for your questions. Let me begin with GPO access. TELA now has contracts with three national group purchasing organizations. These agreements streamline the process by which a surgeon can choose to use our OviTex products by providing access right off the supply room shelf rather than the surgeons having to go through an administratively burdens and utilization committee process. We recently entered into a four-year contract extension with HealthTrust which, as you may recall, was our first GPO.

The original term of three years began in 2020, just as COVID-19 pandemic began impacting the healthcare system. Notwithstanding the significant headwinds, we were able to demonstrate the value of our products to the hospitals served by HealthTrust, which led to the extended contract term of this renewal. Our second GPO contract was with Premier, which became effective on October 1, 2022. As the second largest GPO in the country, it granted us access to over 4,400 hospitals. We are pleased with the progress we’ve made ramping up Premier in Q2, and it is already an important contributor to our revenue performance. Our most recently signed third GPO is structured as a dual source contract in the biosynthetic category. This means that we compete with only a single alternative supplier in this system, which is highly compliant with the contractual product offerings.

These three GPO contracts together cover over 6,000 hospitals, providing significant access to our sales representatives. This leads us to two more of our revenue driving factors: sales force size and sales force productivity. GPO contracts give us access to hospitals across the country, but we can only convert this access into sales via representatives who can call on and educate the physicians in those hospitals. In order to capitalize on the figure to hunting license that contracts represent, we’ve been meaningfully expanding the size of our sales force we have in the field targeting those geographies with the greatest GPO opportunity. As of today, we have 75 sales reps on board against the year-end target of 75 reps to 80 reps. We have continued to invest in the training of our sales force through our playbook 90 program so that they are comfortable representing all of our products in our portfolio.

We continue to revise and improve our training system with the result that our most recent cohorts of hires have reached breakeven profitability in six months or less. Another important factor underlying revenues and their growth is our continued development of clinical data. The compelling results of our studies of OviTex have played an important role in our ability to take share from older technologies. Surgeons are impressed with the exceptionally low recurrence rate of 2.6% that OviTex exhibited in our BRAVO study compared to the double-digit figures that competitive products show. We’re continuously growing our data set and initiating studies to support physicians and patients in their consideration of OviTex. We also continue to enroll patients in our BRAVO II study, which captures data on the effectiveness of OviTex when used in robotic procedures.

As the use of surgical robotic systems in general surgery continues to grow and with 45% of OviTex hernias implanted robotically in the most recent quarter for which data are available, we expect that results from BRAVO II study will be of great use of physicians and patients in making treatment decisions. In addition to collecting clinical data, we also study consumer behavior and interest in hernia treatment matters. In the study among consumers that we recently conducted, we found that there was significant concern over using permanent synthetic mesh and a strong desire for surgeon expertise in innovative more natural solutions. A highlight of the study showed that 77% of consumers who had a permanent plastic mesh prepare would prefer a more natural repair option for subsequent hernias requiring surgery.

Additionally 95% of all respondents considered important or very important for their doctor or surgeon to be current with top innovations in medical care. The results of this study are indicative of the critical role that patients serve in their healthcare decisions and are at the heart of TELA’s mission to optimize soft tissue restoration and preservation. The impressive set of data we’ve collected supports both patients’ desire for a more natural repair product and encourages surgeon confidence to choose OviTex in future surgeries. The last factor is our product portfolio. We strive to assemble a range of products that leverages our current call points to drive expansion in the soft tissue market. We do this through our internal R&D efforts and through external business development activities.

We’ve already announced several new products in 2023, including two larger configurations of the OviTex LPR product for use on ventral and incisional hernias and minimally invasive surgeries and 510(k) clearance for OviTex long-term resorbable or LTR in plastic and reconstructive surgery. TELA is committed to creating a broad portfolio that delivers next-generation soft tissue preservation and restoration solutions and meets the varying needs of surgeons and patients. We look forward to announcing future portfolio offerings and developments as they become ready for commercialization. Continued execution of these five factors will drive meaningful sales growth and create value for the company and its owners, particularly in an improving procedure environment.

We are highly optimistic about delivering a strong second half given where we are today. With that, I’ll turn the call over to Roberto for more details on our third quarter financial results.

Roberto Cuca: Thanks, Tony. As Tony mentioned earlier, revenue for the second quarter increased 39% year-over-year and 22% sequentially over the first quarter to $14.5 million. During the second quarter, OviTex revenue grew 43% year-over-year and PRS grew 31%. Gross margin was 70% for the second quarter and was driven by the cost of goods of product actually sold within the quarter as well as amounts reserved for expected expiration of inventory purchased within the quarter, whether or not sold within the quarter. This strong showing was driven by slightly lower-than-expected inventory purchases in the second quarter as well as our ongoing inventory management and dynamic inventory redeployment efforts. Sales and marketing expense was $14.6 million in the second quarter of 2023 compared to $11.1 million in the same period in 2022.

The increase was mainly due to higher compensation costs as a result of the expansion of our commercial organization, higher travel and consulting expenses and additional employee-related costs due to increased head count particularly in our customer-facing roles. General and administrative expense was $3.5 million in the second quarter of 2023 compared to $3.6 million in the same period in 2022. R&D expense was $2.5 million in the second quarter of 2023 compared to $2.1 million in the same period last year. Loss from operations was $10.4 million in the second quarter of 2023 compared to $10.2 million in the prior year period. Net loss was $10.8 million in the second quarter of 2023 compared to $12.7 million in the same period in 2022. We ended the second quarter with $65.3 million in cash and cash equivalents after conducting a public offering in mid-April.

Regarding the remainder of 2023, we continue to expect full year revenues to be in the range of $60 million to $65 million, representing growth of 45% to 57% over the full year 2022. I’ll now turn the call back to Tony for closing remarks.

Tony Koblish: Thanks, Roberto. First, I’d like to thank all on the TELA team who helped deliver another excellent quarter. We are thrilled with the strong start to 2023 and believe that our momentum will continue for the remainder of the year. The synergies of all five factors coming together lends itself to some exciting catalysts in the coming periods, and we believe we’re in a position to drive top-line growth, capture competitive market share and expand our portfolio with new soft tissue preservation and restoration technologies. As a result of the offering in April, our balance sheet is well suited to support our dynamic growth and strategic initiatives. I’ll finish by simply saying we are still in the early days of a $1 billion-plus market opportunity but our strategy is working, and we are capitalizing on it. I’ll now ask Chris to open the line for your questions. Chris, go ahead.

Operator: Thank you. [Operator Instructions] And our first question will come from Michael Sarcone of Jefferies. Your line is open.

Michael Sarcone: Good afternoon and thanks for taking the question. Just to start, you talked about strong hernia sales, and you mentioned that this could be the first step in addressing the backlog of procedures – so I guess, can you just give us an update on where that backlog stands, maybe how you size it and the potential for that conversion to drive growth? And maybe also comment on what kind of visibility you have there?

Roberto Cuca: Sure, Michael. This is Roberto. So the way we have calculated or estimated the backlog is, we have used market data on the total number of hernia procedures per period, so by quarter or month pre-COVID-19, we mapped out the expected trajectory given that this is a population-based procedure. So there really shouldn’t be much growth beyond the growth of population and then we looked at the actual reported procedures post the beginning of COVID-19 and essentially calculated the area between those two curves to estimate the backlog. We then checked our thinking and approach with a couple of hospital industry executives that we know and consult with on occasion, who said that they estimated things the same way, roughly 100,000 procedures.

And as we’ve said in the past, you don’t dig into or cut down that backlog unless you’re doing procedures at a rate higher than the pre-COVID-19 procedure rate. So we don’t think we’re there yet, but we think that the procedure rate has gone up over more recent periods. It’s sort of the most recent couple of quarters, and that we’re beginning to at least slow down the rate of accretion into that backlog.

Tony Koblish: Yes, Michael, our penetration is so low that there’s plenty of market for us to grow into, which we’ve demonstrated our ability to do so over the last couple of years in the COVID period. So increasing procedure volume will do nothing but help us, and it’s actually a benefit if this backlog unwinds over a long period of time. It allows us to harvest that for the next couple of years, which is advantageous for us.

Michael Sarcone: And I guess just a quick follow-up on that one. Where do procedures stand today versus pre-COVID levels?

Roberto Cuca: So we estimated that about a year ago, procedures were around 85% to pre-COVID. We’re guessing they’re somewhere between 90% and 95% of pre-COVID levels now.

Michael Sarcone: Okay. Thanks and just one more for me, and I’ll hop back in the queue. One of your competitors is working through some disruption. Can you talk about your ability to capitalize on this? And are you seeing more competitive account wins or more conversion given the disruption?

Tony Koblish: Sure. Yes, I’ll take that one, Michael. So the product in question – he’s been around for a long time. It’s what I would consider an old-school first-generation biologic material. And I think most of the user base tends to skew a bit older, that’s not to say it’s 100%, but a bit older. And in terms of hernia procedures, the product is pretty much niche in the most complicated ab wall reconstruction. And then it’s certainly used in plastic and reconstructive procedures as well. So the accounts we have found are spread across the U.S. and are quite patchy. So although the revenue volume is estimated to be about $40 million between those two procedures, it is patchy and infrequent, right, when those procedures come in.

So we benefited a little bit, I think, from the situation, but not all that much. On the hernia side, I think our product has the reputation of being a universal hernia product, right? It’s reinforced with a little bit of polymer suture, whether permanent or resorbable for reinforcement. 46% of our procedures are being done robotically right now. And 60% of our procedures are being done both robotically and laparoscopically. So we’re being used across inguinals, hiatals, simple ventrals and complex ab wall. And I think these older generation surgeons that are more tied to first-generation biologics, probably will reach for another pure biologic product that’s older, before they reach for our product given that our product is being known as a more broadly used technology.

So yes, we are picking up some here and there, but it’s not going to be a big conversion. I think we are actually marketing and functioning in a much wider piece of the market. I think that’s where we want to be. And the trade-off of directing our reps to chase these other procedures versus sticking to our knitting and sticking to our plan is the trade-off that we evaluate in every territory as the situation comes up. Most of the time, our preference is to grow our business for the long haul, for durability. And then keep in mind as well, that when we get a situation where the product that’s recalled is need a replacement, there has to be a match up that we have a contract, we have access and we have a rep there. And that just doesn’t happen all the time given the size of our footprint right now.

And again, chasing versus executing is the way we think about it, Michael.

Michael Sarcone: Got it. That’s really helpful. Thank you.

Operator: Our next question will come from Frank Takkinen of Lake Street Capital Markets. Your line is open.

Frank Takkinen: Great. Thanks for taking the questions. Was hoping to start with one on GPOs. I think in previous calls, you’ve talked about HealthTrust specific composition of revenue. I’m understanding it’s going to be a little bit more challenging, but was hoping you could talk about what kind of growth was driven from the three GPOs in aggregate versus growth outside of GPOs?

Tony Koblish: Yes. So I think from a percent of revenue perspective, we went from mid- to high 30% of revenue at HealthTrust to approaching 60% of our revenue is now from these GPOs. So the growth is stronger within the GPO footprint, also approaching about 60%, I would say. But the real story is that we are executing across the entire universe, right? So – our first priority is implementation into the new GPOs. And really, they’re all three new at this point, given the HealthTrust renewal. But we also have a really strong system and process for getting into non-GPO IDNs and systems. So we are active and doing very well in both sectors. I think we’re going to see a pickup within this GPO organization since we’re really early days in all three.

And I think these implementations are going to take us through the rest of this year and maybe through the rest of next year and beyond, these are big systems. They’re bureaucratic and the opportunity is quite large. So there’s a lot for us to harvest here for the long haul as one of our five factors. But we’ve grown significantly from the one GPO just as measured from about a year ago to now.

Frank Takkinen: Got it. That’s helpful. And then maybe in the back half of the year, growth expectations in the hernia versus PRS. I know that PRS had been outpacing hernia for a little bit, but it sounds like hernia has been a little bit stronger as of recently. So just trying to understand how you guys are thinking about growth from hernia versus PRS as you close out the year?

Roberto Cuca: Sure. So OviTex grew 43% year-over-year. PRS grew 31% year-over-year. A lot of that, though, that lower growth number from PRS had to do with last year’s second quarter. So second quarter revenues for PRS last year were $3.4 million, which was the highest PRS quarter of the year just for ins and outs reasons. So it was a tough comp on the growth perspective. So we do expect that notwithstanding that, that it’s likely that PRS will return to being a larger grower certainly for the year overall and likely for the second half.

Frank Takkinen: Well, okay. And then last one Sorry, go ahead, Tony.

Tony Koblish: Said both are going to be strong, just to put a point on it.

Frank Takkinen: Perfect. And then last one for me. On the gross margin, good to see that hit 70%. How should we be thinking about gross margin profile for the back half of the year?

Roberto Cuca: So as we pointed out, gross margin will bump around depending on how we order. So when we build inventory, when we buy any inventory, actually, we take a charge or reserve for that purchased inventory in the quarter in which we buy it for all potential exploration or destruction of the product subsequent to that quarter. So the two quarters of this year have been a little bit smoother as far as the amount of inventory that we ordered as between them, but we do expect some bumping up and down. So it’s going to be somewhere between the 66% that we saw in the first quarter and the 70% that we achieved in the second quarter.

Frank Takkinen: Okay. Sounds good. Thanks for taking the questions and congrats on all the progress.

Operator: Thank you. One moment for our next question. Our next question will come from the line of Matt O’Brien of Piper Sandler. Your line is open.

Unidentified Analyst: Hey, this is Phil on for Matt. Congrats on the great quarter. And thanks for taking our questions. For starters, I guess as it relates to guidance, can you help us understand the decision to keep the range this wide? I think it implies growth of 47% to about 70% in the back half. So just help us understand what gets you to the top and bottom of that range?

Roberto Cuca: Sure. So it is a wider range for half the year, but there is still some uncertainty around the COVID-19 and its impact on the quarters. And frankly, the steps up that we’ll be taking in the third and fourth quarter is to achieve that 60% to 65% range reasonably large, and you could see some lagging over from the third to the fourth quarter or some acceleration for the fourth to the third. So to give ourselves room, we’ve just kept it at the same range.

Unidentified Analyst: That’s helpful. And I guess a multi-partner here on GPO. As I think about HealthTrust and how COVID impacted your ability to penetrate into that account during that first contract with them versus where you currently are with that account now, where do you think penetration currently stands? And where do you think it can get to? Is that going to be a meaningful tailwind still just on that first GPO? And then any color on the third GPO, which I believe started April 1.

Tony Koblish: Phil, I would say we’re very early days in terms of penetration, even with HealthTrust, right? So during the COVID period, we probably only had, I don’t know, 16, 18 months of implementation time, given the ups and downs with the pandemic. And we still got to about 30% and 35%, 36% of revenue coming out of HealthTrust. HealthTrust is made up of a whole bunch of systems known as shareholders. We have really only implemented partially into the HCA component of HealthTrust. There are many other shareholders and systems under HealthTrust that we haven’t really touched yet. So I think with a four year run there’s a heck of a lot of ceiling for us to work with there, not just in HCA component of HealthTrust but in all the others as well, whether it’s tenant, stewards, all the rest of the bigs, that are a part of HealthTrust.

So I feel like that’s going to be a great source of growth for us. The third GPO has essentially gone from nothing to triple roughly in terms of raw dollars, and we really didn’t start implementing there until April or so, which was by their instruction and design. So there’s a heck of a lot of room for us to grow in the third GPO as well. We are just starting out there. And then on the Premier side, that’s already become our second largest source of revenue. And that’s coming along very nicely. And we’re in the very early stages. We are very underpenetrated in Premier, but that’s grown very, very well since the end of last year. So I think we’re very early days on all fronts, and you’re going to see the GPO contribution in raw dollars shoot up.

It may shoot up a little slower than the growth rate perhaps given the fact that we’re really good at executing at IDNs and systems that aren’t part of GPOs. But it’s a lot for us to work with, and we’re very bullish and optimistic that that’s a strong piece of what we’re going to do here, and we’re putting reps in the right places to take advantage as well.

Unidentified Analyst: Very helpful. Thanks so much.

Tony Koblish: Thanks, Phil.

Operator: Thank you. One moment please for our next question. Our next question will come from David Turkaly of JMP Securities. Your line is open.

David Turkaly: Hi good evening. Tony, I just wonder if you might make a comment on trends you’ve seen in the pricing, ASPs on either side of the business and/or mix from either larger sheets or anything like that, that might have contributed to the hernia side being as strong as it was.

Tony Koblish: Yes. Hernia side was volume. We have not taken a price increase since we’ve rolled these products out. Our strategy is to offer a tremendous value proposition with superb clinical data and performance for patients and a good value for systems. We believe this is the right pathway until we have a very complete array of GPOs. There’s some more that we want to engage with and win contracts. So we’re going to keep our pricing pretty much where it is and then the discounting that we’re showing at the GPOs isn’t crippling either. We’ve priced the product very fair from a list price level and cost savings that are doable by the GPO do not require huge discounting and everyone is happy. So we’re going to stick with that for now.

I think for us, it’s top line growth. It’s getting access, it’s validating our technology, and it’s lot – and it’s driving the clinical data into situations where people are anxious to listen to us. We think that’s the best approach for now. It doesn’t mean we might not take some price increase in the future. But for now, our ASPs have been pretty steady. And we’re still hovering around $3,000, plus or minus a little bit on hernia and about $5,000, plus or minus a little bit on PRS. So nothing really has changed from an ASP perspective, which implies just raw growth across the spectrum. It’s not just big pieces or it’s not just a thing here or there that’s making this go. It’s consistency, which is good for the long haul.

David Turkaly: Great. Thanks for that. I know you’re aware that there’s a competitor out there that’s looking for PMA labeling for specifically on breast. So I’m just curious what are your thoughts on PRS in that landscape? Do you think if that occurs, how do you view that if that is coming in the next couple of years?

Tony Koblish: We have our own program going, right? So we’re in the process of completing some large animal models that are designed to get us into the IDE game. We are collecting a solid, good size amount of retrospective clinical data, which will allow us to retrofit or cure fit into whatever the situation that emerges with an FDA decision one way or the other. And we have a wide array of programs after that include anything from continued retrospective collection of data, surgeon-engaged studies and IDE studies. So we’re in the game, Dave, and we intend to be part of that dialogue over time. Right now, we feel like it makes sense given the chaotic nature of this to figure out exactly what the best pathway is based on how it breaks with an FDA decision. And what we’ve chosen to do is have all those activities moving forward, so that we can pick and choose from our menu whatever best fits what happens with the decision. Dave?

David Turkaly: Great. Thank you.

Operator: Thank you. One moment please for our next question. Our next question will come from the line of Kyle Rose of Canaccord Genuity. Your line is open.

Unidentified Analyst: Hey this is George on for Kyle. I have a couple of questions. So the first one concerning reps. So you noted that you have about 75 reps currently. What – how should we think about cadence in terms of rep adds towards the back half of 2023. And then maybe a little bit on like what territories you’re looking to expand into?

Roberto Cuca: Sure. Thanks, George. This is Roberto here. So we – as we said at the beginning of the year, our goal is to get to 70 – 75 to 80 reps by the end of the year, obviously, being at 75 reps today, it should not be that difficult for us to get to 80 although I will point out that as we bring in new reps, some of them will exit. So it’s not just five that we may be needing to recruit to get to that 80. We’ve also talked about the fact that if we identify more than 80 reps that we feel like would be good fits here; we would be willing to go beyond the 80. So we’ll continue hiring at the same rate that we have so far and could get beyond that 80 before the end of the year, but we feel pretty confident about getting to pretty close to 80 if not a bit over.

Tony Koblish: Yes. What I’ll add to that too, George, is that of the $75 million that we have now, I think approximately seven or so have just been hired in the last week or so. So we were in the high 60s really for the bulk of the quarter. And I think that speaks very strongly to the productivity that’s capable here. And we very much look forward to having the 75 reps be more impactful in the second half of the year. And as Roberto said, maybe even beyond, we’re not going to really lay out where we’re hiring the reps for competitive reasons. But it’s generally where the three GPOs have strong footprint. It’s almost all over the country at this point. So we’re very optimistic that of the five factors both rep productivity and the headcount are heading in the right direction for the second half and beyond.

Unidentified Analyst: Great. Awesome. And then just my other question would be on the long-term resorbable product. Just kind of where are you at in terms of the rollout of that product? And then because of the OviTex based product, is that included in the current GPO distribution strategy? Or is that something that will have to be negotiated later.

Tony Koblish: We’ve done a nice job of updating the contracts after we got the 510(k) clearance. We are in the process of rolling out the product to about 50 early users. We’re about two weeks into that process. And we really like what we’re seeing so far. I think it’s going to be a great contributor in the second half and beyond. And we should be in a position from an inventory perspective and an experience perspective to turn this wide open at some point in the third quarter. So we look forward to strong contribution from PRS LTR almost immediately, I would say.

Operator: Thank you. One moment please for our next question. And we have a follow-up from Michael Sarcone of Jefferies. Your line is open.

Michael Sarcone: Hey, thanks for taking the follow up. Just one, last one for me. Really a question about 2024. So you mentioned it’s still very early days on all fronts in the GPO contract, plus you’re rolling out new products through 2023, plus you’re building out your rep base through 2023. So when I look to 2024, you’ll have the benefit of a full year of all three GPOs and the full year of that larger rep base and then a full year of new products. So for 2023, your guided comply is $20 million to $25 million of absolute dollar increase versus the prior year. Is there any reason why 2024 should it be higher than that on an absolute dollar increase basis higher than that $20 million to $25 million you’re expecting in 2023?

Roberto Cuca: So we haven’t provided guidance on 2024 yet. But – what I would add to what you described for the effect of 2024 is that we may continue to hire reps in 2024 as well. So we’ll continue to feel the growth from those reps that annualize in 2024, but also potential additional growth from new reps in 2024. So we think there’s a lot of opportunity. We talk about us being in the low single digits as far as unit share for these markets. So there’s a lot of possibility for us.

Michael Sarcone: Okay. Thank you.

Tony Koblish: Michael, thank you.

Operator: Thank you. And this will end the Q&A session for today’s call. I would now like to turn the conference back to Tony Koblish for closing remarks. Mr. Kolish?

Tony Koblish: Hi, we’ll see you next time.

Operator: This concludes today’s conference call. Thank you all for participating. You may now disconnect, and have a pleasant day.

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TELA BIO INC

Q2 2023

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