Welcome, everyone, to Day 2 of the Stephens Conference. I'm Mason Carrico. I'm the Diagnostics and Medtech Analyst here. Excited to have Castle Biosciences with us here today. We've got Derek Maetzold, CEO. Derek, appreciate you joining us.
Thank you, Mason. It's great to be here. Appreciate the invitation.
Of course. Maybe let's start with the third quarter. Maybe just start us off with a quick recap before we dive into Q&A.
Sure. I think, first of all, it's important to recognize that we may be making forward-looking statements. I encourage everybody to go to our website and read the appropriate disclaimers and caveats there. Third quarter, I think, was another excellent quarter of execution by the team. If we look at sort of what we would call kind of normalized, maybe pro forma revenue, which is really stripping out the SCC test, that came in at 36% growth over last year. That matched our volume growth, actually, which is also 36% overall for our core TissueCypher and Melanoma test volume. That felt very, very good and strong. If we look towards our profitability metrics and use operating cash flow positivity as a surrogate for just EBITDA, that came out just as we were hoping. That feels quite good.
Of course, we ended the quarter with $288 million, $289 million in cash or cash equivalents. A nice strong balance sheet to enable us to run the business for the short and long-term benefit. Finally, we did go ahead and raise our year-end guidance about $16 million between $327 million-$335 million.
Got it. DecisionDx-Melanoma growth reaccelerated 12% in Q3. That's up from low to mid single digits in Q1 and Q2. It seems like it is benefiting from that refocus in the sales team. Could you just give us a bit more insight into how that translated into higher growth in the quarter? Higher utilization among existing docs, new clinicians ordering. Any detail there?
Yeah, it's interesting. We've been out in the marketplace for a number of years, as you know, and we still see a growth in new ordering clinicians yet this many years longer. I think over the course of the quarter, we had 1,816 clinicians ordering DecisionDx-Melanoma tests. That's a good, strong, wide growth for a quarter basis in this disease state. I think certainly the focus shift for our sales force from being roughly 50%/ 50% in terms of commission plans between melanoma and SCC in the first half of this year, and then shifting over to roughly 90% melanoma and 10% SCC beginning third quarter. We saw some of the promotional response that you'd expect to go ahead and see with a market like this. That feels good. We always had thought that we would end up about upper single digits growth the entire year. I think we are right on track for that.
Got it. It seems like market penetration is probably somewhere around 30% at this point. What type of melanomas or what type of patients, I guess, make up the majority of that 70%-ish percent of the market that remains unpenetrated? Is there a material difference versus your current volume mix or what needs to be done to continue driving adoption from here?
That's a good question. The answer is no. If we sort of look at the 2024 SEER database, which is the NIH's Cancer Surveillance Registry Program, and you sort of look at the sort of T stages of patients who are enrolled in that registry program, or you look at the breast cell thickens, et cetera, our volume roughly matches that across the whole spectrum. That's good. I think we are sort of seeing preferential use in one segment and not the other, which one could view as being a poor thing. To me, it ends up being a physicians are looking at our data when they're aware of our tests and then begin to go ahead and use it clinically. They're using it across the entire spectrum of patient care where we add clinical value.
You guys have published a number of studies over the last year or two. I mean, what studies do you think have been the most influential in terms of driving adoption in melanoma?
I think if I go back to 2024 through the first half of 2025, you have a mixture of several studies. A couple, I believe, were on our prospective U.S.-based multicenter study looking at how clinicians use our test to manage sentinel lymph node biopsy decisions. And that cohort has patients who both had sentinel lymph node biopsy procedures removed or not proceeding forward based upon a low-risk result from the Castle test. It also had some patients, because of patient preference or other reasons, they went forward with that procedure, even though our test result would have said you will be at below 5% risk.
In those studies, what we saw, which was confirming earlier data, was that in the patients who ignored our test results, I would say, went forward and had that procedure, we continue to have a very, very low rate of actual positivity, way below 5%. Our test works. On the other element, for the patients who avoided sentinel cell biopsy procedures based upon a low-risk Castle Biosciences Melanoma test result, the question is we do not know if we missed any. The question is, how does that patient do one or two or three years out? Are they actually at a higher rate of recurrence that we would be concerned we are doing the wrong thing? Those patients did extremely well. I want to say the data cut from January of 2025 indicated that we had zero recurrences in those patients, zero metastatic events.
You can safely avoid that procedure, and patients do well afterwards. Those are great endpoints. We also had in mid-2024 the publication of our SEER data showing that for patients who receive our test results as part of their clinical care compared to propensity match patients who do not receive our test result as part of care, but they have matched features in terms of all the melanoma characteristics, age of the patient, socioeconomic background, zip codes they live in, we find that the patients who receive our test get their care presumably adjusted as we see clinically. They live longer. Those are two good things from a year ago. I think, interestingly enough, we have individuals who say, you know, I'd like to see more granularity on some of your data. One of the areas of that is what we would call histological subtyping.
In melanoma, a pathologist can say, this is a nodular melanoma. This is a melanoma which has superficial spreading histology characteristics, lentigo maligna, et cetera. In the literature, one can see that patients with nodular melanoma, for example, have a background higher rate of metastasis than those with, let's say, lentigo maligna. We've had some physicians say, I wonder if I really don't need to use it over here because maybe I just use it in these patients at higher risk to pull out the ones who are low risk. We said, that's interesting. We need to get some large data sets. In our ongoing collaboration with SEER, we presented data, I believe it was in late October of this year, so just last month, at the Fall Clinical Dermatology meeting in Las Vegas.
What we were able to show with the SEER data again, because it is a large data set, was that if you take nodular as sort of the most concerning histological pattern, if you had a low-risk class 1A test result from the Castle test, you had a 98.5% chance of being alive at five years. That is excellent. If you had a high risk, it was 82% chance of being alive with no intervention. Those are clearly different patients. If you looked across the rest of the subtypes, they essentially matched or looked very, very similar to that stratification risk. You could say, maybe overall, these patients with lentigo maligna have a lower chance of metastasizing. If you use our test, you find those people at higher risk in similar kinds of risk thresholds.
That kind of data, I think, continues to go ahead and drive home and saying, how can you as a clinician not want to have the molecular information to make a better decision on patient care?
Yeah, yeah. DecisionDx-Melanoma received FDA breakthrough designation earlier this year. Before we get into, I guess, the potential benefits of that in pursuing regulatory approval, could you just walk us through the pathway from here and show the timeline?
Sure. We are preparing an FDA submission as we speak. We hope to have that submitted early next year. I do not know that process will be quick or smooth with the government shutdown being done now. We will have to see if there is a backup somewhere in there. We will go and update the public as we kind of progress through that process there.
Okay. You mentioned that you think FDA authorization could potentially help unlock reimbursement under some of the state biomarker laws. I guess, could you give us some detail on how that improves coverage eligibility under those state mandates, if that's the right way to think about it, or how quickly post-approval we could start to see the benefit?
Yeah. I think one, as a reminder, roughly half of our patients are Medicare age. So they're either on Medicare or Medicare Advantage plans. Typically, those patients would be covered by the existing LCD. We could assume 195% coverage. I would see no material change there. On the other half of our business, which is below 65 years of age, and obviously commercial payers, largely speaking, very, very limited Medicaid exposure in terms of melanoma. Over half the states right now, and more coming, have these biomarker laws. One of the elements there about which biomarker tests should be covered, one of the, not selection boxes, but one of the potentials says you have no reason not to would be FDA clearance or authorization or approval, depending on what your application looks like.
Our hope would be that as we see sort of more states moving forward with appropriate care saying, hey, why are we selectively not letting people below 65 years of age receive advanced testing processes when people who are Medicare age receive them? That's not good health. We expect to see that going forward. Now, I think in terms of kind of a near-term impact on ASP, I don't think we would probably begin accruing revenue until we have a track record. It probably does not affect ASP growth in 2026 or early 2027. I think as we see trends out there, we can certainly indicate that late 2027, 2029, one could begin to potentially see our company, others moving towards accruing revenue based upon an FDA-cleared IVD in certain state markets.
Got it. Does it create any momentum or new engagement opportunities with NCCN?
I think it should, you would think, right? If one of the critiques is that we want to see more data, we aren't quite sure if it's valid, and you walk in with an FDA-cleared or authorized IVD, it's hard to go ahead and say, well, why are the people actually just for living incorrect? Now, what happens in reality, we'll have to wait and see. Certainly, there's been a strong track record that if you go through the route of an FDA approval process as a therapeutic, then you are covered relatively quickly. That same track should hold true for devices, though we don't really example that in the melanoma space right now.
Got it. Did the breakthrough designation have any impact on ordering patterns among docs?
The third quarter growth, I wouldn't put that in the mix. Certainly, we have made clinicians aware as they're interested on that aspect of it. I think existing customers would say, no kidding. We know it's a breakthrough in how we manage patient care. Many of the clinicians, at least on the community-based private practices where these people are diagnosed and managed, I think have little granularity about what that may or may not mean. It hasn't been, I wouldn't view it as a driver of volume. I think it was really the promotional shift with the removal of SCC.
Got it. On the high single-digit volume growth for the test in 2025, as we think about 2026, is that how we should be thinking about growth?
We have not provided guidance for 2026 yet. We do not want to get ahead of that number. I think we had modeled last year that we probably would end up in the high single digits in 2025. That looks like our model is pretty close. I think we are managing our atopic dermatitis launch by keeping that as a 10%er and 90% melanoma. We think there is a denominator around 130,000 patients. As we said earlier, maybe we are running a 30% marker penetration. I think similar mature diagnostic tests that are removing a surgical procedure, for example, there is no reason why we should not be able to get into 60% over time. The question is that in three years or five or ten years, right? Growth is certainly there.
The need is there clinically. We are still seeing clinicians who have never used our test or have low awareness of it. I think there still is a good growth opportunity with new clinicians. Within existing practices, we can take physicians who might have somewhat pigeonholed us for a certain kind of patient and say, why does she benefit, but she does not over here? There is no really clinical science sense for that. As we kind of have those conversations, broaden the educational knowledge, I think we will see both increased penetration in existing clients and also new clients coming on board.
Got it. Then moving to TissueCypher, which has been a great growth driver for you guys, could you kind of run through what is the structure of the Barrett's market that kind of lends itself to the type of adoption that you guys have seen or the adoption curve itself? Obviously, a great test, but just as we think about the total number of patients treating GIs, number of GIs per practice, it seems like we've kind of talked about before, it's a more attractive market, at least in my mind, than melanoma in terms of the structure.
Probably more so size. We like both the dermatology and GI spaces because these are clinicians who are procedure-oriented in their practices. If we go in and we can improve decisions around a procedure, I think we see them tuning up their ears more and more quickly. I think the gastroenterology group, I guess overall, is somewhat similar in size to dermatologists, surgical oncologists in melanoma. That feels good. I think the main difference, of course, is that you have, we think, roughly 415,000 individual patient encounters or diagnoses per year, nearly 4x that of melanoma. It is not surprising we would see higher volume if there is a higher denominator there. In terms of market structure, similar to dermatology, the vast majority of patients who are treated with Barrett's disease are seen by private practice community GIs because that is where patients are referred to.
That's a very similar pathway. Of the market of 415,000 patients, we think probably 90%-95% are what we would call non-dysplastic Barrett's esophagus disease. The remaining 5% or 10%, depending on which studies one looks at, have what we would call either high-grade dysplasia, which is a lot of dysplasia, low-grade dysplasia, which is less than high, or indefinite, meaning they can't quite see if there is dysplasia or not. Of those, in the U.S. today, nearly all patients who have high-grade dysplasia are intervened, either ablation or surgical technique to remove that Barrett's lesion. Many, many low-grade patients are referred to this. What does that mean practically? It means that the patients who aren't ablated or intervened with are the ones who develop esophageal cancer, which is the non-dysplastic group.
We kind of present that fact to our gastroenterology customers and say, by the way, the tools that you use to stop progression to esophageal adenocarcinoma, it's the same Barrett's disease. We just help you find the patients. We really don't want to progress because we're just monitoring them with repeat endoscopies every three to five years. It's a very good, useful tool for the gastroenterologist to say, I know my pathologist said non-dysplastic disease. I know there's bad actors in this group. If you can find those bad actors, I know who to escalate care to and save their lives, hopefully.
The remaining group of that, even though no test is perfect, we will go in there and say, let's go ahead and follow guidelines and bring you back in three years or five years rather than one and a half years like my practice has been doing in the past. We see both changes of good patient care.
What does the typical adoption curve look like at a GI practice? I mean, after the first physician starts to use TissueCypher, how quickly does utilization tend to spread across the rest of the group?
Unfortunately, it's not uniform. What you're alluding to, I think, does happen in practice. Whereas if there's a group of 20 or 24 general gastroenterologists, generally speaking, in that size group, you won't have anybody who will just do upper GI ablations. Usually, that's going to be a large group that get referred out to. They're general gastroenterologists seeing whoever comes to the door next. To us, if we can go ahead and have one or two of those clinicians hear the information, begin to use the test, begin to act on test results, it certainly is easier to say, can we get your peers together and you and talk about why you adopted our test and kind of why they have not yet?
That can usually bring not the whole practice over typically, but you'll just see people coming quicker because I park my car next to yours in the morning, and if you're doing something, I should figure out why I should be doing it. That has a natural peer influence. We are beginning to see occasionally, and I would call it spotty, so it's a good thing to come back in 2026. We are occasionally seeing 24 GIs, to use that example, two or three begin using or seeing results. They're seeing high-risk people. They're escalating care to low-risk patients. They're de-escalating care. Say, is this a test which you put into a formalized protocol pathway in our practice?
Put it into our EMR system so that any Barrett's esophagus disease that fits certain criteria, we want to have a TissueCypher test evaluated almost as a standing order perspective so we can improve uniform patient care. We see that a little bit here. I think we are looking forward to seeing if that can be put into a widespread practice pattern in 2026 and beyond.
Got it. Okay. That's interesting. You expanded the team through 2024 and earlier this year. I guess based on the GI team size today, how much incremental reach does it give you? Or maybe a better way to ask it, how much of the GI market can you reach today with the size of the sales team?
We think that both dermatology and gastroenterology with the number of clinicians, 12,000, 15,000, if you include nurse practitioners, PA extenders in both groups, is probably around 100 people. It should be adequate depending on competitive pressures. We are certainly below that. We have made the earnest decision not to disclose specific Salesforce numbers going forward for competitive purposes, but we are not 100 yet in GI. That is probably where we can get to. I think that is less about going to whiteout areas. It is more about increasing touch points and frequency within existing areas.
Got it. Okay. On the Previse deal, Previse, however, I guess you pronounce it, you've mentioned opportunities both with their methylation platform as well as their sponge-based sampling device. I guess can you just unpack those opportunities a bit? How do you see those expanding the TissueCypher value proposition or your opportunity, I guess, overall in GI?
There are a couple of things to split apart. One of them is actually three things. One of them is the IP in terms of their methylation targets that we think provides us some opportunities not only for maybe enhancing, improving version 2.0 of TissueCypher by making it a multi-omics kind of test. That might include spatial omics with the current nine proteins that we stain. It might include adding in some methylation data sets over there. It might include sequencing. I think TissueCypher is a fantastic test in terms of care it has today, but it's not perfect. I think we can take some of the acquisition of that and try and build a stronger test in the future. The other part of it that we were attracted, we were interested in looking at too was sort of this non-endoscopic self-collection.
Patients are coming into a gastroenterologist's office. Maybe they aren't great endoscopic surgical candidates. Perhaps it's a comorbidity or they just don't want to go and be sedated and have an upper GI. What do you do with these people who are symptomatic like that, who you know are at risk but are anxious about that procedure? Here we could say, go ahead and swallow a capsule on a string, basically. Wait a couple of minutes for that gelatin to dissolve. The sponge pops out. We pull it up and we say, hey, based upon this self-collection, it doesn't look like you have Barrett's right now. You have symptoms of Barrett's. You don't have Barrett's right now. We can say that and forego. We're not going to let you go in the woods because nothing's perfect again, but there's a low likelihood that the test is wrong.
That helps divert patient care. Now you might say, well, gee, that GI then is now going to do less endoscopies. That sounds okay, except you'll have more patients who would never go through an endoscopy saying, hey, there's a touch of Barrett's. We should get going here. I think that'll be a pipeline test improvement over time. I would think that materially wise, depending on how fast one moves that forward to complete validation and commercial availability, it probably isn't a material impact on our business until 2029 or beyond, maybe 2028, but we have to see how 2026 rolls out.
Got it. Does that potentially expand the market?
Yes. It would be the same disease state enforcement. It's not quite similar to SCC and Melanoma or melanoma and atopic dermatitis, but same customer base, different patient population, not competing, but expanding.
Got it. In 2026, are there any key milestones or, I guess, proof points we should be looking for around the methylation platform or development data or anything like that?
Again, we haven't kind of walked through milestones yet or guidances for next year, but I think as we get towards the end of this year, January, we should be in a position to certainly go ahead and talk publicly about what we expect from this device in the 2026 time period.
Okay. How are conversations with commercial payers going for TissueCypher? What do you think unlocks broader coverage given it does have some guideline support already? Is it maybe a market penetration dynamic or how do you think about that?
I'll leave that with the easiest one, of course. I think in terms of coverage, we're seeing a good payer interaction, slow to cover but good payer interaction, saying, okay, we are approving the use of endoscopic eradication therapy, which may just be ablation therapy or maybe ablation plus surgical intervention. We're doing that based upon a prior auth request coming in that's justifying your test. We say that's right. You're approving intervention based on something you think is experimental still or needs more data, but the gastroenterologist patient undergoing this intervention, it seems to me that there's some logic that's missing over here in your sort of diagnostic review team that the medical group says, actually, we're trying to stop esophageal cancer. I think as we can get in front of more plans and communicate our test results being used to drive intervention.
Oh, and by the way, if you go ahead and audit some of your customers, you'll find out that they are bringing people back less frequently, elongated return times if they're lower by TissueCypher results. I think that'll be, again, an ongoing effort of success, hopefully. I think similar to the biomarker laws, though, from a revenue recognition accrual standpoint, I wouldn't expect to see a big quarterly jump. I think we're going to have to go ahead and get plenty of history to make sure we're making the right call.
Okay. On SCC, volumes have held up to some degree. It is without promotion. What are you seeing, I guess, in order behavior that is keeping volumes relatively resilient there?
I think it's fantastic validation of the value our test provides clinicians and patients. You go ahead and say we pulled roughly all promotion away beginning July 1 of this year, and you had roughly flat volumes like year over year. That could have been volumes go away because actually maybe it's not that valuable clinically, but the fact that it was maintained there is fantastic. We do find, as we saw in the past, that roughly three quarters of the doctors who order our SCC test also order melanoma. Let's say they're thinking about skin cancer, they're thinking about Castle's volume. I think going forward, we're quite happy to have volumes be reduced over time just because of a payment issue with Medicare in the time being.
As we see clarity there, then we can hopefully bring that back to clinicians and say, hey, don't forget about this test going forward.
Right. Both Novitas and Palmetto have accepted your reconsideration request as valid. What new evidence, I guess, did you prioritize in those packages? Can you kind of speak to your confidence around the opportunity of regaining coverage, particularly given Palmetto's comments about promising evidence around ART?
Yeah. The packages that we submitted to both contractors were roughly the same because their open comment period was roughly the same date of close. The publication is coming out demonstrating that in propensity-matched studies, our test was the only factor to be able to predict which patients would respond to adjuvant radiation therapy, which patients did not. That's the best evidence in cutaneous squamous cell carcinoma about full radiation therapy. Everything else is small case controlled studies, even not even a control arm. To have us be able to publish that data and say, hey, everybody who is in our cohort, these two cohort studies were eligible for being considered for adjuvant radiation therapy.
I don't got it, but if you perform an appropriate propensity match analysis and by matching every factor we could see, we found that the majority of people received no benefit from adjuvant radiation therapy, which is not unexpected, but the problem is you can't see who those people are. We can have a great opportunity to reduce side effects and cost to the Medicare system if they employ it that way. On the other hand, there are an important handful of patients who get a fantastic response to radiation therapy based upon the markers in our test. Those should be encouraged to go forward and push through that radiation therapy because of the clinical benefit going forward. Neither one of those studies was able to be reviewed, I guess is the right word to say, by Novitas or MolDX because of the data publication.
That was certainly an important element there. There was also other data that was published subsequent to that that was not included, such as, again, showing how strongly differentiated we are and independent from all other clinical pathologic factors, staging systems, etc. One might say, well, I can get close to using no test, but you can't replace our test by using staging over here or this clinical factor over here. That state is very encouraging. They don't have to go ahead and accept a reconsideration request as valid. It's only if there's clinical data which warrants a re-review of the LCD. That feels quite positive from that standpoint. I think in terms of timing of any decision going forward, there's no prescriptive timeline, so we'll have to wait and see. We are, of course, in routine contact with them anyway as we go forward.
Got it. Maybe I'll stop here just to see if there are any questions. Anyone? No? All right. You recently launched your atopic dermatitis test. I guess to start, could you just walk us through the clinical use case there, the unmet need that it was developed to address?
Sure. We think there's roughly 24 million patients overall in the U.S. who have a diagnosis of atopic dermatitis this year, last year. Of that, some of them are below 12 years of age, and some of them have what would be called mild atopic dermatitis. It's not a unique CPT code, but mild symptoms. The rest, about 13 million patients, have either ages 12 and above, which is important in the second here, and they have moderate to severe disease. Pretty good body surface area of atopic dermatitis. Itching is a significant clinical concern, poor sleep disturbance.
Other factors, which in those cases, those are patients who you'd say, you know, we can keep trying topicals, or is this the time to really say, if we're going to get this moderate to severe disease under control, it's time to switch to systemic therapies or rather add on systemic therapies and say switch. That's who we target. We think that's roughly 13 million patients in the U.S., 12 years in age and above, who either are on systemic therapies, actively seeking systemic therapies, or in that mild to moderate switchover. What's our need? Today, there are good therapies. Some are biologics, which target what's called a Th2 pathway, which is an immune pathway that's got multiple pathways, but it's really the Th2-driven symptomatology. Then you have this group of therapies called JAK inhibitors. JAK inhibitors target all Th2, but other pathways as well.
You could call that a broad therapy, which is not targeted versus a Th2-targeted therapy. It turns out that if you put patients on Th2 therapies, Dupixent being the most, I think, well-known from Regeneron-Sanofi, that was a revolutionary drug in atopic dermatitis when it was launched last decade. Clearly was. Benefits many patients, but we also find that around 30%-40%, depending on when you look at longitudinal patient prescription data, discontinue because of lack of efficacy, have to add on more therapies because of lack of efficacy. So 60% may be well served, but 30%-40% could use something else. We believed that we could probably uncover that sort of less than better response by looking at the biology of the actual atopic dermatitis lesion.
What our test does is it says, hey, if you go ahead and give us a non-invasive scraping of your atopic dermatitis, the most severe lesion, we'll go ahead and analyze 487 genes from that scraping, from that tissue collection. We will organize those in the 12 pathways that we believe are important for either inflammatory skin reactions, immune skin reactions, or generalized skin issues or pathways that we know could have some relationship there. These 487 genes go to 12 pathways. What comes out of this neural network algorithm is to say, this is a patient whose biology appears to respond better to JAK inhibitors. We would call that a JAK responder profile. What our data show that we released with earnings was a view of a JAK inhibitor responder profile, and you just take one of the endpoints, which I'll call EASI-90.
EASI is the eczema score that's used by the FDA for approval of drugs, by the way. And the drugs for FDA clearance need EASI-75, 75% improvement in your baseline symptoms. We thought, well, if we pick EASI-75, I'm not sure if I have a test I'd want to use. I'm just telling you what's in the label that doesn't add any value. Today, what clinicians are doing is I want to find people who are going to get almost complete clearance. And that really is 90% clearance or EASI-90. Just take that endpoint and say, this is a stretch endpoint. You could call these people super respond if you wanted to. And we would say, if you run our test, roughly a third of the patients have a JAK responder profile phenotypically based upon these 487 genes.
If you give those patients a JAK inhibitor, and I think looking at the EASI-90 scale, I want to say about 45%-46% of them will achieve EASI-90 within the first three months on the starting dose, not the higher dose, the starting dose. In contrast, you take those same patients and put them on a Th2 therapy, low single digits will achieve EASI-90. They are non-responders, but you will find far fewer super responders. When we share that data with our dermatological customers, which although there are some skin cancer-focused physicians, most medical dermatologists see medical dermatology, which includes atopic dermatitis. Obviously, 130,000 a year versus 13 million a year, that's a far different ratio.
They tell us based upon just single encounters during market research and even during some of the advisory boards this fall that we go through a pattern, Derek, with these people with atopic dermatitis, and we call it biological cycling. They do not like the word trial and error because that sounds very negative. Biological cycling, where I have a patient come in here, I am going to try them on my first drug, we are going to give them a sample, bring them back in a couple of months, hope they are a super responder. If not, then we will go to the next drug, we will come back, we will have the next drug come back. I can use your test now, and no test is perfect. I mean, we are not saying 100% achieve EASI-90, but we are saying 45% versus single digits achieve EASI-90.
This is a group of people who appear to be great responders because their disease state probably is driven not only by Th2, but other pathways that Th2 therapies do not cover very well. That market research response and customer feedback so far has been fantastic from my perspective. We will roll it out on a very carefully managed basis here, limited launch basis for the next couple of quarters to make sure we understand what we do not know in this marketplace so we do not disrupt our melanoma growth. We can understand what our reimbursement pathway looks like and what our ASP is going to look like.
Got it. I do not want to get ahead of ourselves here, but are there any additional therapy classes or signatures that you could address here over time?
We do not have data today in the current trial. There are a couple of other classes of drugs that are coming up in phase II, phase III. We will have to see if those make it. I think our hope is that we selected these 12 pathways, I guess you would call it, and it is broad enough where we would hope that we would be able to kind of roll in newer therapies as they are approved and be able to help clinicians make a better choice too. That will, of course, take from approval to getting experience in a study to say, can we get there or not? I would hope that our 12 pathways, 487 drugs are broad enough to be able to say the math will be different, but it is hard to believe that you do not have that covered somewhere there. You have to get the work done from a study standpoint.
Got it. Maybe just moving towards wrapping up here. You got into low 70% gross margin exiting 2025 as SCC reimbursement rolls off. Maybe it's closer to mid-70s on an adjusted basis. As we kind of think about 2026, and I realize you have not guided there, maybe broad strokes, how we should be thinking about gross margin going forward.
I think a range in that area is good to think about. I would assume that SCC volume will be normally retracting a bit without promotion. Atopic dermatitis launch, depending on volume, might put some pressure on that, but I think in the 70s, mid-70s plus or minus a few points does not seem unreasonable from an adjusted perspective.
Last quarter, if we strip out prior periods and SCC's revenue contribution, it looks like the pro forma business was free cash flow and adjusted EBITDA positive in the quarter. How should we think about the operating leverage opportunity of the pro forma business going forward?
Yeah. If you look at top line first, I think if you I would call that pro forma too, by the way. Others do not like that. We are aligned here. I think we go and strip out SCC and say there is some lumpiness here that you should say that is just what it is. That 36% year-over-year growth for the quarter in revenue is a very, very good precursor to the future for Castle, I think. You add into that atopic dermatitis launch as a super large category. Even as we moderate that from a women access standpoint, we will be able to see next year going forward. I think we will see probably some lumpiness going forward as we would expect different studies, different investments to pan out.
Overall, I think we are exiting 2025 probably on a pro forma basis of 27%-30% revenue, which gets us to our target guidance, I think. And we're growing into the profitable business that we thought we would get to at this stage.
Where do you guys stand on capacity?
Good. I would say we run our tests out of both our Pittsburgh facility in Pennsylvania and in Phoenix, Arizona, and we've got adequate space plans, adequate space, adequate instrumentation. We've got to hire the people at the right time, but I don't think we have any capacity concerns over time because the plans are in place to meet the expected upside.
Got it. And then you ended Q3 with $290 million-ish in cash on the balance sheet. I guess how do you kind of rank order capital allocation from here, reinvestment in the core portfolio, new test development, M&A? How do you think about it all?
Those are probably the three words I would have used there. I think we have an opportunity to continue to invest commercially, which I would bucket as being both looking at our on-the-ground personnel, digital activities to kind of promote our products and educate the marketplace, coupled with clinical studies that will improve and increase our data set and our penetration within customers as they hear about our tests and also hopefully with payers as well. The second bucket I would think, which is more robust now than it was several years ago, is pipeline opportunities there. We have certainly the sort of expanded TissueCypher from a multi-omic standpoint. We have this cell collection device for screening purposes, perhaps various esophagus disease in the house already. We entered into a collaboration with a company called SciBase out of Sweden back in the summertime.
They have a technology, which is a handheld pen, I guess you would call that, or device, handheld device, which has a tip on it. That tip measures electrical impedance spectroscopy. You put it on your skin and wavelengths are shot through to go ahead and see what it's seeing. It turns out that there is a large level of science called barrier science, skin barrier, barrier to skin. Different conditions, in our case, such as atopic dermatitis, happen to have different electrical impedance signals through that. The first project that we're going to do with SciBase is to look at in patients with atopic dermatitis that are experiencing flares. Flares would be lesion expansion. Can we predict a day or two or three or four days in advance of that next flare-up occurring?
These are people who go from mild symptoms to moderate to severe just overnight, right? We believe that there is some data that's public out there already, which would say, one, certainly measuring using this technology of impedance spectroscopy testing with an algorithm on top, one can differentiate atopic dermatitis from normal patients, atopic lesions from normal skin atopic patients. The technology would appear to be there technically. Our hope with that initial protocol would be to say, hey, can we use this technology in patients on a regular at-home basis? Maybe it ends up being once every three days, once every four days. Maybe it has to be once a day, once a day. We don't quite know yet.
We can predict on a Thursday that you're going to have a significant medical flare on a Sunday based upon your past history of flares. That's an indication where you should pull out your sort of rescue medication now, start using it where your flares usually occur, and with the hope that you'll either ameliorate that entire flare-up or at least you'll take what could be a very significant, severe, I guess, flare outbreak of symptoms and make it a more mild one that's manageable. That's our hope is what we'll be able to demonstrate. If we are successful there, the question becomes, there are so many other skin diseases, allergic conditions that are being driven by similar kinds of pathways where impedance technology can see things in advance of it being seen symptomatically.
This opens up a whole opportunity of additional pipeline tests that could be a 20, 30, 35 opportunity for us as a company.
Got it. A bit of a generic question here, but just to wrap up, what do you view as the most misunderstood element of the Castle story?
I think until we discussed our third quarter earnings and the release of the atopic dermatitis tests, I think there were a couple of years of people believing the only thing that counts on Castle stock is whether or not squamous cell carcinoma Medicare coverage is maintained or not. That is important. What was missed is that the business grew so healthily. The acquisition and the execution of the TissueCypher business was so strong, which by the way is, I do not think any different than what that did in dermatology. It just happened to be an external product that we buy.