Welcome to the Dexcom second quarter 2014 earnings release and conference call. My name is Bakiba, and I will be your operator for today's call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Please note that this conference is being recorded. I will now turn the call over to Terry Gregg. Terry, you may begin.
Thank you very much, and welcome to Dexcom second quarter 2014 conference call. I will ask Steven Pacelli to read our safe harbor statement.
Thanks, Terry. Some of the statements that we will make in today's call may constitute forward-looking statements. These statements reflect management's expectations about future events, operating plans, and performance and speak only as of the date hereof. These forward-looking statements involve a number of risks and uncertainties. A list of the factors that could cause actual results to be materially different from those expressed or implied by any of these forward-looking statements is detailed under Risk Factors and elsewhere in our annual report on Form 10-K, our quarterly reports on Form 10-Q, and our other reports filed with the SEC. We undertake no obligation to update publicly or revise these forward-looking statements for any reason. Additionally, in today's call, we will discuss certain financial information that has not been prepared in accordance with GAAP with respect to our cash operating performance.
This non-GAAP information is provided to enhance your overall understanding of our current financial performance. The presentation of this additional information should not be considered in isolation or as a substitute for results or superior to results prepared in accordance with GAAP. Terry.
Thanks, Steve. Joining me today are Kevin Sayer, our President and Chief Operating Officer, Jess Roper, our Chief Financial Officer, and you just heard from Steven R. Pacelli, our Executive Vice President of Strategy and Corporate Development. Today's call will be largely a financial update, with Kevin reviewing our second quarter 2014 financial results and providing our traditional business update. I will then follow with some concluding thoughts. Before I turn the call over to Kevin, I'd like to comment briefly on our Q2 performance. Our financial results speak for themselves. During the second quarter, we achieved record sales, record margins, and our best operating results ever with cash-based net income of over $8 million for the quarter. Our pipeline of new patient opportunities remains very robust, and sensor orders are stronger than ever.
The continued commercial success of G4 Platinum reinforces our long-held belief that sensor performance in terms of both accuracy and reliability is paramount. With that, I'll turn the call over to Kevin.
Thank you, Terry. First, I'll provide our financial update. Dexcom generated $58.2 million in product revenue for the second quarter of 2014 compared to $35.5 million for the same quarter in 2013, a $22.7 million or 64% increase. Sequentially, product revenue for Q2 of 2014 increased 25% from the prior quarter. Total revenue for the second quarter of 2014 was $58.8 million compared to $35.8 million during the same quarter in 2013.
Our product gross profit totaled $39.5 million, generating a product gross margin of 68% for the second quarter of 2014 compared to product gross profit of $21.8 million and a product gross margin of 61% for the same quarter in the prior year. Sequentially, product gross margin in Q2 2014 was up four points, due primarily to increased sales volumes and, to a lesser extent, increased average selling prices for our products. Some additional thoughts on our product revenue and gross profits. During Q2 2014, our revenue mix between durable and consumable products was approximately 30% durable and 70% consumable.
ASP for sensors was slightly higher in the second quarter at approximately $72 per sensor, and the ASP of our hardware was also slightly higher at approximately $885 per starter kit. Increases in ASP were due to a favorable payer mix during the quarter, including several new payer and distributor contracts with improved pricing and the impact of moving our business to the pharmacy channel. We will continue to target ASPs in the range of $70 to $75 per sensor at a range of $850 to $900 per starter kit going forward. Finally, our international business continued to exceed our expectations in Q2, with international revenues almost doubling year-over-year. International revenues represented approximately 13% of product revenue during the quarter.
Turning to our expenses, our total operating expenses for the second quarter were $45.7 million compared to total operating expenses of $31.8 million during Q2 2013 and $42.1 million for the preceding quarter. As we discussed during our Q1 earnings call, the major component of this increase relates to non-cash share-based compensation expense. During Q2 2014, our non-cash share-based compensation expense was $13.2 million, up approximately $4.5 million sequentially and $6.8 million over Q2 2013. We expect share-based compensation expense of at least this level through the first quarter of 2015. Share-based compensation is computed based upon the amortization of shares issued under our equity plans. The majority of these shares vest over a three-year period.
The primary reason for the sequential and year-over-year increase in share-based compensation is a significant increase in the Dexcom stock price over the past three years. For example, shares granted in 2011 were granted at prices ranging from $7.78 to $15.75 per share. The majority of the 2011 share grants finished vesting in Q1 2014, and the compensation expense related to these shares has been completely recognized. Share-based compensation expense for the shares granted in late Q1 2014 is computed based upon a share price of $47.42, with these shares vesting through 2017. Obviously our 2011 share grants created a much lower overall share-based compensation expense than our 2014 grants, which will now be recognized through 2017.
Moving on to research and development expense, it totaled $14.8 million for Q2 of 2014 compared to $11.1 million in Q2 of 2013 and $14.5 million in Q1 2014. The year-over-year increase in R&D expense includes an $800,000 increase in non-cash equity related expenses. The remaining increase relates to continued investments in the product pipeline, focusing upon increased accuracy, improved connectivity, patient convenience and lower cost, with our ultimate goal of replacing finger sticks altogether. Sequentially, R&D expense was flat, with a decrease in non-cash expense related to our SweetSpot acquisition, offset by higher incremental non-cash share-based compensation expense.
Selling general administrative expense totaled $30.9 million in Q2 of 2014 compared to $20.7 million in the same quarter of 2013, an increase of $10.2 million. The year-over-year increase in SG&A relates primarily to additional headcount for our commercial infrastructure as we scale the business for continued revenue growth, and also includes a $3.8 million increase in non-cash share-based compensation expense. SG&A expense for the preceding quarter was $27.6 million. The sequential increase of $3.3 million includes $2.4 million in non-cash share-based compensation expense and commercial expenses to support our 25% sequential growth.
Our net loss for the second quarter of 2014 totaled $6.0 million and included $14.2 million in non-cash expenses centered in share-based compensation, depreciation and amortization. Absent these charges, our net income would have been approximately $8.2 million for Q2 2014. Obviously, we are quite pleased with our cash-based operating results as this compares quite favorably to a cash-based net loss for Q2 2013 of $1.1 million, and our cash-based results for Q2 exceed our cash-based net income for the entire year of 2013. Our basic loss per share for the quarter was $0.08.
With respect to our balance sheet, we ended the second quarter with $61.3 million in cash and marketable securities, up almost $4 million sequentially, and we remain quite comfortable with our cash position. Finally, consistent with past practices, we'll take the opportunity to update our full year revenue guidance. We now expect product revenue for the full year to fall within the range of $220 million to $235 million. I'll now move to the business update. As many of you know, the annual scientific sessions of the American Diabetes Association was held in San Francisco in June, and the show was nothing short of remarkable for Dexcom. First, on the eve of ADA, we issued a joint press release with Insulet announcing that our upcoming mobile data app platform will integrate data from Insulet's next generation Omnipod handheld.
This will be the first insulin delivery device to be integrated into our Gen 5 mobile platform, which we designed to aggregate glucose and other diabetes-related data from patients' devices and display the integrated data on a smartphone. It also marks the start of our open architecture approach to diabetes-related data, which will include an authorized by Dexcom mark to indicate the compatibility of devices and apps integrating Dexcom CGM data. Next, on Saturday morning, we formally kicked off the ADA with publication of a late-breaking poster entitled "CGM is not the limiting factor in artificial pancreas systems," in which we shared in-clinic data from 51 patients who wore a version of the Gen 4 Platinum with an improved algorithm dubbed G4 AP.
We demonstrated that our next gen CGM accuracy is approaching finger stick accuracy with an overall G4 AP MARD versus YSI at an impressive 9.0%, compared to a finger stick MARD of 5.6% versus YSI. We believe the data represent an important next step on our path to obtaining an insulin dosing claim and the potential for factory calibration. Again, consistent with our ultimate goal of replacing finger sticks altogether. Finally, on Sunday evening, Dr. Steven Russell shared top-line results from the Bionic Pancreas Summer Camp and Beacon Hill studies, which were simultaneously published online in the New England Journal of Medicine. The results were quite impressive, leading Dr. Steven Russell to conclude that as compared with an insulin pump alone, a wearable, automated bi-hormonal bionic pancreas improves mean glycemic levels with less frequent hypoglycemic episodes among both adults and adolescents with type I diabetes.
Turning to our future CGM product offerings, we remain focused on increased connectivity and convenience as a near-term goal, and replacing finger sticks is our primary long-term objective. As we continue to work on both Gen 5 and Gen 6 in an effort to achieve these goals. We are pleased to report that the Food and Drug Administration has formally advised us that our Dexcom Share system is approvable subject to our submission of additional documentation related to our contract manufacturer. We believe we have submitted all information requested by the agency and hope to launch this product prior to the end of the year. We continue to be pleased with the progress of our peds launch, and we're happy to report that between 25% and 30% of our new patient additions in the U.S. during Q2 were pediatric patients.
With respect to our professional CGM, we successfully launched the system within three days following approval, and expect to continue to commercialize this product during the second half of 2014. While we don't expect revenues from the sale of professional CGM to be material, we do believe professional CGM will provide us with a strong platform to build category awareness for future patient growth. Shifting to our integration partnerships. Just yesterday, we announced that we've expanded our development efforts with Insulet and have agreed to work with Insulet to develop a CGM-integrated personal diabetes manager to enable upload and display of our Gen 5 CGM data into the next generation Insulet handheld. We're also pleased to report that Animas has submitted a comprehensive response to the FDA regarding the Animas Vibe, and is in regular dialogue with the agency regarding the submission.
We're gearing up for a commercial launch of Gen 6 in the U.S., which could come before the end of this year. Finally, I'm pleased to report that Tandem has submitted a PMA application to the FDA for the t:slim Gen 4 Insulin Delivery System, which integrates Tandem's t:slim pump with our Gen 4 Platinum. As mentioned during the Tandem earnings call, this submission is just the first step of the regulatory process, and a product approvable is at the discretion of the FDA, which Tandem is estimating will take approximately 12 to 18 months. In connection with the filing, Tandem made a $1 million milestone payment to us in July. On the data management front, I'm pleased to announce that we recently entered into an agreement with Tidepool to allow retrospective data from our G4 Platinum system to be integrated into the Tidepool data aggregation platform.
This integration is consistent with our open architecture approach to diabetes-related data, and will also include an authorized by Dexcom mark. Finally, on the litigation front, we are pleased to report that on July 2nd, 2014, we entered into a settlement and license agreement with Abbott Diabetes Care to settle all pending patent infringement legal proceedings brought by Abbott against us back in 2005. The settlement agreement does not obligate us to pay any royalties or any other form of financial compensation, and provides for a cross-license of certain of our patents and certain Abbott patents. In addition, we have agreed not to sue each other for patent infringement based upon each of our respective continuous monitoring products until March 31st, 2021. I'll now turn the call back over to Terry for some concluding remarks.
Thanks, Kevin. Each year in July, people with diabetes, parents, grandparents, siblings, loved ones, and friends gather in Orlando at Friends for Life, a conference hosted by Children with Diabetes to provide education and support for children with diabetes and their families. We were fortunate enough to sponsor Friends for Life this year, and never in my career at Dexcom was I more proud of our accomplishments as a company. Friends for Life is a chance, sometimes the only one all year, for children with type I diabetes to hang out with children just like themselves, to get to feel normal. I was inspired by the whole experience. Kevin talked about our pediatric growth in Q2. 16% of our U.S. revenues and between 25% and 30% of our new patient additions were pediatric.
We firmly believe this is a large, untapped market opportunity for us, both on the professional and the patient side. As we all know, type I diabetes does not discriminate by age. We know that approximately 500,000 people in the United States over the age of 65 are living with type I diabetes. This is why obtaining Medicare coverage for CGM has become a key initiative for us here at Dexcom. To that end, we are pleased to report that just last week, U.S. Senators Susan Collins and Jeanne Shaheen, co-chairs of the Senate Diabetes Caucus, introduced legislation to ensure that seniors with type I diabetes who are Medicare-eligible have access to continuous glucose monitors.
The bill is entitled the Medicare CGM Access Act of 2014, and was largely the result of coalition efforts led by JDRF, the Endocrine Society and the American Association of Clinical Endocrinology, with assistance by the American Association of Diabetes Educators, as well as industry representation by Dexcom, Medtronic, and Johnson & Johnson. To date, CMS has indicated it will not issue a positive coverage decision for CGM because CMS believes that our FDA-labeled adjunctive claim indicates that CGM does not constitute a medical necessity. This, in spite of the support for CGM from large randomized clinical trials, leading professional society position statements, and the fact that nearly all U.S. commercial payers cover CGM for type I, and approximately 25% of payers cover for type II insulin-using patients as well.
It is well documented that seniors with insulin-requiring diabetes are more susceptible to hypoglycemia and subsequent emergency services. In fact, recent data shows that 16% of elderly people with type I diabetes experience low blood sugar seizures or loss of consciousness every year, and cost for a hypoglycemia inpatient admission averages over $17,000 per visit. Dexcom has thousands of patients that benefit from CGM use, and we receive hundreds of letters from patients telling us that CGM has transformed their diabetes care and often saved their lives. While the legislative approach may take years, it is the first step to providing CGM to a patient population in much need. Also recently, AACE and the Endocrine Society recommended a code change to the AMA CPT Editorial Panel to increase physician reimbursement for real-time CGM.
This continues to reinforce the importance of real-time CGM for diagnostic use, and with the only real-time professional system on the market, we intend to further expand on this opportunity. As I look at our results for the quarter, our R&D pipeline, and external factors developing around us, I continue to be very impressed by our performance. Product revenue is up 64% year-over-year and 25% sequentially. Gross margins were 68% for the quarter, up four margin points. Absent non-cash charges, our net income would have been $8.2 million. There have been those who question our ability to leverage the commercial side of our business. Well, we increased product revenues year-over-year by $22.7 million, and we added only $6.2 million of cash-based SG&A expense. I'm pretty sure that's leverage.
While many companies are issuing warnings about their second half revenue expectations, we are increasing our guidance to a range of $220 million to $235 million in product revenue. In conclusion, we are very pleased with our second quarter financial performance. Our product revenue growth is unparalleled. Average year-over-year quarterly product revenue growth has been 66% since the launch of the G4. Significant investments in our commercial infrastructure and our product pipeline to position Dexcom for its long-term objectives. We are proving our business model as our cash-based profitability continues to improve. Thank you, and we'll now open it up for questions.
Thank you. We will now begin the question-and-answer session. If you have a question, please press star then one on your touch-tone phone. If you wish to be removed from the queue, please press the pound sign or the hash key. If you are using a speakerphone, you may need to pick up the handset first before pressing the numbers. Once again, if you have a question, please press star then one on your touch-tone phone. Please stand by for our very first question. Our first question is going to come from Ben Andrew from William Blair. Please go ahead.
Hi, good afternoon, guys. Thank you for taking the questions. Can you talk first about the breakdown of the hardware? You said it was about 13% in the quarter, again, consistent with what you've seen. What is your estimate of which part of that is new patients versus kind of replacement hardware for existing patients?
Well, yeah, it's 30% hardware and 70% consumables. You know, consistent with our prior calls, we're not gonna disclose a breakdown between new patient and existing patients. You can't keep growing at 60% without adding a whole lot of new patients. All that, when we consider it, our business is evolving to the point we're not gonna be able to provide that number on a timely basis. Give you a couple examples. As we stated in our remarks, 13% of our revenues are international. We don't know if those are the new or existing patients. Animas buys transmitters for Vibes in Europe, and soon they'll be buying them in the U.S. In Europe, in particular, we don't know if those are new and existing patients either.
Finally, we're moving to a pharmacy distribution model, where a patient will be able to walk into a drugstore and pick up a starter kit. We don't know if that's a new patient or an existing one either. At the end of the day, until we have Gen 5 streaming into the cloud, we won't know if those are new or existing patients. At the end of the day, we're not gonna give a whole lot more than we've given. Our business is moving too fast. By breaking out hardware sales and ASPs, we think we've provided you all enough information to estimate patient numbers given basic utilization and attrition rates.
Okay, great. That's helpful. Thank you. You know, there was a comment at ADA relative to timeline disruption from the new software algorithm with G4. Can you, Terry, comment on the ability to push that algorithm out to existing patients with the current system versus would you wait for G5? You know, talk about what you know when that could happen. I know you've got share coming by year-end, but just update us on the algorithm, please.
Yeah, you know, it's difficult to estimate when or what we're going to do with that because it is a timing issue, and it's in the hands of the Food and Drug Administration. If you look at the iteration of products, as we've indicated, we expect to file Gen 5 before the end of the year, and it becomes a timing issue of what is most appropriate for the patient population and what's most appropriate for Dexcom. Quite frankly, at this point, without greater visibility of when that may get approved, we've refrained from making a decision on which version that we will introduce the new algorithm. When we make that decision, of course, everybody will know of that decision.
Now, from a standpoint of how we will implement it, we do, as you know, we have the ability to upgrade software through the internet. That is one mechanism that is available to us, much like you would upgrade software on a laptop or a PC, in which we issue a code, you put it in, and we have confirmation that you uploaded it correctly. Stay tuned, I mean, that's the best I can give you at this point.
Okay. Last quick question for me. Obviously, the peds is growing very quickly right out of the blocks. Was there any indication of an impact on the adult ads? It doesn't seem like there was, but just wanted to ask. Thank you.
No, Ben, everything is, you know, everything's going according to plan. The patients buying second transmitters, the new patients that we're adding, and sensor reorders, everything is right in line with what we expected.
Okay, thank you. Our next question is gonna come from Mike Weinstein out of J.P. Morgan. Please go ahead.
Thank you. Can you hear me okay?
Yep.
Great, Mike.
Okay. I apologize. I just wanted to follow up on Ben's last question on the pediatric comment that you made on the prepared remarks. Obviously, that's much more rapid than we were expecting in terms of the early response in pediatric. Do you have any read on sustainability? Do you think there was a bolus here that you got this quarter? Or do you have any sense that anything that you saw on the pediatric side this quarter isn't going to continue?
You know what? I'll take it and then let Terry add some other comments. Based on what we've seen at the various meetings we've attended and our visits in the field with endocrinologists, if anything, we think the pediatric market is grossly under-penetrated. This is not just a bolus, it's just a start of something that can be fabulous. Terry, if you've got anything you can add.
Yeah. No, I would echo Kevin's comments. You know, we see the sustainability of this type of ramp. Obviously, clearly a lot of unmet needs, and parents in particular driving the adoption for their children. They will, of course, do anything possible to keep their children safe, and this is an extremely accurate, reliable tool. It's a very well-educated population in terms of the parents as well, and they communicate. We've seen just this increase. If it's any indication, again, mentioning Children with Diabetes and Friends for Life meeting, I mean, we were quite pleased that we saw a lot of kids walking around with Dexcom CGM and coming up and thanking us as teenagers or younger, and certainly their parents thanking us. We think there's still a lot of upside opportunity here.
You know, Mike, I have one other thing. When we add connectivity to this mix for parents in pediatrics, then the show really starts.
Yeah. Understood. Let me just make sure I'm clear on the timing, latest timing thoughts. On G5 submission, do the partnerships and the timing of those impact at all your assumed submission? Are you still assuming that filing is maybe late this year, but more likely early part of 2015?
Yeah. It'd be late this year, early next year. We separate the Gen 5 filing from all the partnership activities. That is our development effort. The partners will file their systems. Tandem and Animas have filed with Gen 4. We will continue to support those companies in all their efforts with Gen 4 hardware. We will file and move on to Gen 5 for ourselves when it gets approved, and then we'll go back and figure out how to integrate our technological upgrades with the pump partners as time goes on.
Okay. As we think about the goal of finger stick replacement, is the thought process based on the data you've got from what we saw at ADA? Is the thought that still waits until we get to G6, and you eliminate some of the noise factors with acetaminophen and some other medicines? Or is there any possibility you can get that with G5?
You know, Mike, it's a good question. We've discussed this with the agency. With the 9% MARD, our accuracy is there, and the consistency of the performance of Gen 4 is there with this new algorithm. We're gonna start putting together information and risk mitigation factors and all the things that the FDA would want to see this, and we'll see what we can learn and do with the Gen 4 system and then apply to Gen 5 because it theoretically would be the same algorithm, the same sensor. We're gonna proceed with that with our current system and label it accordingly with respect to acetaminophen. If the agency comes back and says something different, that's fine, but we're gonna figure out this path now. We're not gonna wait.
Okay. I'll let somebody else jump in. Great quarter, guys.
Thanks.
Thanks.
Thank you. Our next question will come from William Plovanic out of Canaccord Genuity. Please go ahead.
Great. Thanks. Good evening. Can you hear me okay?
Yep.
Yep.
Perfect. A couple of questions. First of all, what exactly are the features and benefits you plan on having included in G5? 'Cause it's pretty fluid, I'm just curious where do we stand now?
Specifically, Gen 5 from a sensor perspective will be a G4 Platinum sensor, built on the same manufacturing line with the same membranes. We won't change the core manufacturing processes. With respect to the user interface, that will be a mobile app, launched initially on an iPhone platform, and it will be a different interface than what we have today. We've done a lot of human factors work and patient work to make sure that is a good interface, and we'll go through and add benefit to our patients. With respect to the algorithm, you know, that's gonna depend, as Terry talked about, uncertainty due to the timing of the G4AP algorithm. Do we include that in Gen 5? Do we do it earlier? Do we wait and do it after?
We're kinda working through some of those issues now, and we haven't made a decision. The key factor on Gen 5 is the transmitter has a Bluetooth chip in it. It will talk directly to a cell phone and another device. You can have two devices that receive a signal from that transmitter, and we will offer the patients a receiver that receives a Bluetooth signal as well, so they have a backup in case their phone battery goes dead. That's how we're positioning the basic feature set of Gen 5, and then we'll go from there.
Okay. The factory calibration, or the replacement claim, or insulin dosing claim, you don't know if that'll be part of it or not yet?
We don't know. Bill, those things are independent from each other. We're gonna pursue the dosing claim based on the accuracy of the sensor, actually, as it sits in the current Gen 4 platform. Then in fact, if we can get that claim, we would apply it to the Gen 5 system 'cause, again, it's the same sensor and the same algorithm that we're using now. We're kinda looking at that as an independent feature, and we'll move it into the product feature set as quickly as we can. We're not gonna hold up Gen 5 waiting for that. We'd love to include it if we could, and we're actively engaged, as I said earlier, in dialogue with the agency on how to get there.
Factory calibration?
That won't happen with Gen 4. That'll be a Gen 5. We'll start reducing calibrations with Gen 6.
Okay. Perfect. That's. This is pretty fluid on the generation, you know, what the features and benefits. That's helpful. Then to switch over to the peds, the insurance coverage today, if you think of the, you know, the policies that are out there, what does insurance coverage look like for peds? 'Cause I remember initially it was 25 and older, you know, in terms of the payers. How does it look today?
Well, we've never, even though the, as you mentioned, the coverage decision was 25 and older, but we never had any pushback from the payers regarding the pediatric. Even though their policy said X, in reality, they were reimbursing for it. It's been no big change from the standpoint of the reimbursement landscape for once we got the pediatric indication.
It's all pre-approvals, right? You have to go through a pre-approval process, and they end up approving.
I mean, it's a mix of prior authorization in some cases, or just on recommendation, depending upon the policy, recommendation by the physician that patient is failing to achieve adequate glycemic control as measured by the physician's position, not necessarily by some numeric number.
Okay, great. Last question I have is, that's a very impressive gross margin number. I think you're already addressing the levels you expected to hit and kinda max out at. You know, what do you project that gross margins can go to off the current sensor now?
You know, the biggest factor here is volumes, Bill. We know that we can apply more overhead, the more sensors we manufacture. We can gain some efficiencies. We've always said, you know, 70% to 80% maximum with the current sensor, probably a target more like 75% on the Gen 4 sensor would be where we would fall out, assuming pricing remains consistent in that $70 to $75 range. We're gonna have to have some advances with respect to new manufacturing techniques and some of the hardware elements of the sensor, particularly the applicator, before we can drive them down even further. We're pretty close now. We can get more efficient with respect to returns and with respect to the electronics manufacturing. We have cost improvement initiatives on all these things that are ongoing currently.
As far as picking up 10% more margin points next year, that's probably not happening.
You mentioned the applicator. Is that part of G5 or no?
Not the first pass.
Great. That's all I had. Thank you very much.
Thank you. Our next question is going to come from Thomas Gunderson out of Piper Jaffray. Please go ahead.
Hi. Good afternoon. As you guys said, the numbers speak for themselves, so I'll just go on a couple of the topics that you brought up. One is, CMS Medicare patients, 500,000, they say it's not medically necessary, and everybody else in the world says that this is, whether it's necessary or not, good for the patient and good for costs. I'm curious, and yes, you can go through Congress. We know how effective that's been for others. Is this a person that can be swayed? Is it a committee? Is it a stiff arm that says, "No way," under any circumstances? What do you think it would take to turn CMS around other than a change in the laws?
Well, I think the easiest way to achieve it is to get a claim of non-adjunctive for a therapeutic dosing claim. I think that clears the decks, and that's the quickest way. It is by committee, Tom, it's not by a single individual, strong-arming the system. From that standpoint, you've heard Kevin talk about the emphasis on getting to a claim. We've had these open, active discussions with the agency about how we achieve that. We have to identify risks and mitigation of those risks with Gen 4 for an adjunctive claim. We're well on our way down that pathway. Although I think the legislative effort just bolsters some of the other things that we're doing and increases awareness, I still think that to change the policy decision, we will have to achieve that new claim.
Got it. Thanks. On the New England Journal article and all the buzz that went around, the Russell system. You know, we've maybe gotten too immune to that over the years and hearing the data and seeing things come out. But now you get a major journal, you get a big media attention at ADA. It probably, I'm guessing, correct me if I'm wrong, didn't have an impact on Q2. Do you feel like getting that kind of media attention and people going, "Oh, yeah, there is this CGM that works," gets you some of the uplift that you expect for the rest of the year?
No. I think it's still early in the whole process of artificial pancreas, that certainly we are the choice of the overwhelming majority of artificial pancreas programs around the globe. But I would caution the audience that for the most part, outside of the things that Medtronic Diabetes is doing in AP, the rest of these are all investigator-initiated trials, so they're not really company-sponsored. They're individual companies participating, but coordinated by academic centers. I think there's a lot of work that needs to be done, and if we just look at all the different component parts, they all have to come together.
I think even FDA was at Keystone last month and got up and said, you know, in their view, the artificial pancreas will be a combination of different component parts supplied by different companies coming together to create a unique product. There are challenges, and if we just look at the insulin, I mean, everybody pretty much agrees that the insulin isn't fast enough, it's not predictable enough, then you've got glucagon if you're using a bi-hormonal system. There's never been a stabilized glucagon, so all the work that has to go into that to get a new drug essentially through the FDA. I just think there's a lot of work that needs to be done. So we get the goodwill associated with being the premier product in that space.
When the rubber meets the road, it's the performance of the G4 Platinum and the confidence that patients get out of using it and the trust. That's really what is driving our Q2 numbers and hopefully, you know, for the rest of the year as well.
Got it. Last question, a quick one. You and Kevin have taught us the seasonality between Q4 and Q1 and the things that go into that. It's hard to see seasonality when you grow 64%. It covers a lot. Do you think there's any seasonality, positive or negative, in summertime?
Well, it's, you know, we got July under our belt. I would only say, you know, we've got to get August and September. I think summer ends 21st of September or something like that. I'm not gonna comment on the seasonality of this summer. You know, there's so many things and factors that are going on that it's hard to be predictive. I will predict that seasonality that Q1 is gonna be different than Q4, Q1 2015. Remember that as our installed base grows and the number of sensors, the impact on seasonality is because patients do need sensors in the first quarter, yet lessens as the influence of disposables becomes much more prevalent than our durables. Stay tuned.
Okay. That's it for me.
One other comment, before I go off is pharmacy benefit also has a mitigating factor because it, for those patients that do have pharmacy benefit coverage, first year seasonality is immaterial.
Can you quantify that?
Of course, our international business is completely immune to seasonality.
You quantified international at 13%. Can you quantify pharmacy benefit?
Well, look, it's Kevin. He's a numbers guy.
You know what? We're kinda holding back on that, Tom. We'll probably give an upgrade on that at the first of the year, but we are moving rapidly. There's a good number of patients who are getting processed that way, and contracts are falling into line the way we want them to.
Got it. Thanks, guys.
Our next question is gonna come from Raj Denhoy from Jefferies. Please go ahead.
Hi. Good afternoon. Wonder if I could just ask a little bit about the mobile platform. You know, you've now signed up Insulet to put data on that as well. Maybe you could just describe a little bit about, you know, one, where you are in that. I guess the Share system is supposed to be feeding into that or will soon for the current generation. The Gen 5 will feed into it off the cell phone. Is that the path we should think about that? As you start to add other systems to this as well, is there a revenue component that goes along with this also? Maybe just some broad thoughts would be helpful in how we should frame that.
Yeah, Raj, this is Steve. You've articulated it the right way. Share will be the first entry into the mobile platform, you know, not truly a mobile product in the sense that the Share cradle is plugged into the wall. It's essentially a docking station for the G4 Platinum receiver. We look at Gen 5, although much of the back-end infrastructure for Gen 5 is the same as that we built for Share. Gen 5 is truly the first mobile product where the patient will interact with their CGM data directly on the smartphone. With respect to Insulet, you should assume that the Insulet, the mobile app that we develop with Insulet or on behalf of Insulet, will be an iteration of the base Gen 5 app.
We'll file and release a Gen 5 system, and Insulet will or we will follow with a probably a PMA supplement to our Gen 5 app that will incorporate their insulin onboard data. The deal that was announced, the extension of the deal that was announced yesterday is really, it's again, it's all about flexibility and convenience for the patient. The deal yesterday was really just to extend where Insulet would be incorporating their insulin onboard data and their insulin data into our mobile app. The deal that we announced yesterday is kind of the reverse of that, where they'll be able to develop some software that they'll develop and incorporate into their handheld that'll enable the patient to have CGM access on their PDM.
Remember something that Kevin said earlier in the call, that the architecture of Gen 5 is such that it can pair to two devices at the same time. A patient using the Insulet system, once all of these, you know, kind of software developments are completed, a patient would be able to pair with their Insulet handheld and be paired with their smartphone at the same time. I guess, the key distinction would be on our smartphone app, the patient out of the gate will not be able to control insulin delivery from their smartphone, whereas the software being developed by Insulet would be, you know, a fully contained medical device system so that patient would be able to interact with their Omnipod as well as their CGM data in one location.
Okay. That's helpful. This idea of also the cloud-based system where you're gonna be collecting, you know, data that can be used remotely, you know, if somebody wants to monitor a child, for instance. You know, is it contemplated that Insulet or other partners will be adding data to that type of system as well, or is it really just this local arrangement as you've kind of described it?
I'd call that to be determined. I mean, the key factor there is, right, that you need to have network connectivity. I'm not sure. It'd be a good question for you to ask the Insulet folks tomorrow during their call. I'm not sure if their next gen handheld, if they're intending to have cellular connectivity. 'Cause the key to that remote monitoring is being able to have a network-connected device and be able to have, you know, basically real-time data transmitted from the handheld device. You know, certainly, that is a Dexcom goal, and we'll certainly be going down that path with Gen 5. I'm not sure that any of these other partners.
You know, when you talk about cloud-based data sharing or, you know, this open architecture strategy that we've adopted, you need to make sure you're clear between what is real-time data versus what is retrospective data, you know, capable of review and, you know, doing analytics and things by a physician or even by the patient retrospectively. You know, we're not opening up our architecture other than, you know, potentially to a couple of the pump companies at this point to any real-time transmission. The FDA has been pretty clear that if it's real-time data being used or capable of use for therapeutic purposes, they've been very clear with us that that will absolutely be a Class III regulated medical device.
For example, when we mentioned in our prepared remarks, an integration with Tidepool, which is an organization, a non-profit, looking to develop some analytical tools and aggregate data from, you know, a multitude of devices. The data that Tidepool would be updating and integrating into their software platform would not be real-time data. This is gonna be retrospective data that the patient or the clinician would be able to use kinda after the fact to adjust, you know, potentially use to adjust treatment, you know, adjust insulin, adjust diet, exercise, things like that.
It would not be the same as what patients will be using our real-time data app on the phone or, you know, for Insulet, for example, using having access to that CGM data with real-time alerts, et cetera. You gotta, you know, make sure you draw that distinction between the types of data sharing that we're gonna be doing going forward.
No, understood. Just one last question on this topic in terms of, you know, is there a business model around it in the sense that other than obviously driving better adoption and sensor utilization, is there another revenue stream that you contemplate from the data component of this?
Don't know. If I had to guess right now, I would say probably not. You know, it's something that we're certainly still exploring. I don't think, certainly, I don't think doctors are gonna pay for it, and I certainly don't think patients are gonna pay for it. To the extent down the road, we're able to show, you know, financial benefit and improved outcomes, potentially payers might be willing to pay for something like this on a monthly basis or something. I would tell you from our perspective, I don't think we're counting on it. It's certainly, you know, more important to drive utilization than if, you know, particularly in the pediatric market, right? If parents have real-time access, all the time access to their child's data.
I think that's a, you know, pretty powerful tool that will, you know, help ensure, you know, consistent utilization of and drive sensor sales. I don't think we're looking to monetize it at this point, but we'll, you know, explore it as we move down the path.
That's very helpful. Thank you.
Thank you. Our next question is gonna come from Danielle Antalffy from Leerink Partners. Please go ahead.
Thanks so much. Good afternoon, guys. Congrats on a great quarter. I was wondering if you could give a little bit more color on pediatrics, 25% to 35% of new patient adds this quarter. Is that mix sort of the mix we should think about going forward? Do you think it should be higher than that? A follow-up on utilization, sensor utilization amongst peds. Is it dramatically different than with adults?
You know, the launch is so early, I don't have a good indicator for pediatric utilization, and we haven't run those numbers. Gut feel, based on the kids we've seen, I think utilization's very high, as we're around them. With respect to 25% to 30% of our new patients, that's where this quarter came out. We've often said that we'd like to see our total revenue base get up to, you know, to 30% of our revenues derived from the pediatric market, and as Terry said in his remarks, we're up to 16%. This is a good starting point. It's certainly better than we did in Q1, and we'll just keep going from there.
Okay, great. Then as far as number of endocrinologists that you're speaking to, have you started touching on the pediatric-only endocrinologists? I think there's 800 to 1,000 that you've talked about in the past. Where are you in penetrating those physicians? That's it for me. Thanks so much.
We're early in the process, and what we've learned is with some of the physicians, we definitely had a running start, and with some of the others, we've got huge educational efforts. That's why Terry and I both characterize this as a very big opportunity because there's a lot of education we've gotta do. But ultimately, what we end up with is a lot of very happy customers. We're focusing pretty heavily on that. Our team is out in the field, and they're doing a great job.
Great. It sounds like still a lot of runway there. That's great. Thanks so much.
Gotcha.
Thank you. Our next question is going to come from Jan Wald from Benchmark. Please go ahead.
Yes, this is Erica in for Jan. I just have a couple questions since it's been such a thorough Q&A session so far. As far as Medicare, is that something where you'd mostly be looking for a therapeutic indication to drive it, or possibly doing a study to look at the benefits and what cost benefit you'll have from the reduced adverse events or reduced problems with poor insulin control?
Yeah, no, it's clearly a therapeutic benefit that you would no longer have to rely solely on finger sticks in order to adjust your insulin dose. With respect to doing a large-scale clinical trial, I don't think it's necessary at this point. Obviously, it's a patient population that is substantial. A lot of the clinical work that has gone on in the past has been inclusive of age-appropriate patients, but none of them have been standalone enough to generate an independent analysis of that segment. As I think we go along, once we have that adjunctive claim, then the need to do additional clinical work in a specific age population group is not required.
Okay. That sounds fantastic and definitely should help you keep your costs down, which leads into the second question. We were going to ask about when we could look for you to really start driving this through, but this quarter showed that you're showing some great leverage. Is that something that we can start holding you accountable for?
You know, that's a good question. I'll answer that. Certainly we strive to achieve leverage here, there's no question. We also take opportunities to spend on a discretionary basis as we see growth coming. We have a study that we're starting later this year that will have several hundred patients, whereby we're gonna really evaluate the efficacy of CGM with respect to lowering A1Cs, with respect to healthcare costs. It's gonna be a several-million-dollar effort for us, something we would have never considered a couple years ago. We also take opportunities, and we've taken those opportunities in R&D and in our clinical trial group over the first six months as we've seen growth to spend a little more money to do some things.
We've accelerated our spending on the Gen 6 sensor a bit because our results in our early feasibility studies have been so promising. We've accelerated some spending on miniaturizing electronics as well because the more we travel, the more we hear, "Make this thing simple and easy for us to use," and small is a big piece of that equation. Yes, we're trying to obtain leverage, but no, we don't go to bed worrying about that as much as we go to bed about winning the race of getting the best technology to market as fast as we can. That's how we balance it.
Okay. Thank you very much. That's it from us.
Thank you. Our next question will come from Mimi Tam from ABR Health Company. Please go ahead.
Hi, good afternoon. For the Vibe, I know J&J is controlling that launch schedule and strategy, but can you comment on if there are any constraints on your end from J&J launching, you know, post-approval within days, weeks?
You know, I can't, Mimi, comment specifically, but what I can tell you is I've been very impressed with their efforts, you know, in the pre-commercialization stage, which is what I describe as right now. I think if they get a timely approval, and I don't wanna quantify what's timely, you know, within the next month or two probably, I think they will make a concerted effort to try to launch the product this year. You know, there are no constraints on our end. We're ready to go.
Okay, great. In terms of the international strength, was that from more favorable international coverage in any region? Or is that just due to stronger uptake of the Vibe or J&J, you know, you know, increasing their marketing efforts internationally with the Vibe?
Well, J&J has done very well with Vibe, but it's not just Vibe. We are growing in several of our countries. We have some core countries, Germany, the Netherlands. We've done very well in Canada with our launch this year. We do very well in Italy. Sweden is a huge market for us, and the physicians there in Sweden have figured out some ways to get some very good reimbursement. Those countries are all growing rapidly, Vibe's included in that mix, but our distributors are doing very well by us also. It's both.
Okay. Last question. In terms of the initial interest in the G4 PLATINUM Professional version, is it coming mainly from your existing customers, or is this attracting for, you know, any new endos to CGM?
Yeah, well, it's both. Obviously, the goal here is to replace the Dexcom Seven Plus with the G4. I think additionally, since it is real time, there is a common theme amongst endocrinologists that even on a diagnostic tool, having the patient be able to visualize the information is important as part of the whole training process. Whether or not the patient ultimately migrates to their own personal use, which is one of the draws of having this. Also the lessons that they can learn just in the week that they're on it versus a blinded unit, I think is driving many of the physicians to replace their former system that was a blinded system with one that is unblinded.
Okay. Got it. Thank you so much.
Thank you. Our next question will come from Jayson Bedford from Raymond James. Please go ahead.
Hi, guys. This is Mike Wetzel calling in for Jason. Can you hear me okay?
Yep. Yep.
All right, good. Great. Thanks for taking the questions. Just circling back to the pharmacy benefit strategy, what accelerates that conversion? Is there anything specific that you need to provide some of the large PBMs before them coming on board, or is it just timing? Just as a follow-up to that, you mentioned ASPs were modestly up this quarter. Longer term, as you shift to the pharmacy channel, does that pressure ASPs, or can you withstand that?
Well, you know, as we said earlier, our target ASPs on sensors are $70 to $75 per sensor. As we model these out for the various payers and the PBMs of the wholesalers, this entire distribution channel, that's where we're focusing to realize our net ASP, at least within that range. We're assuming pricing can remain the same. With respect to driving that, it's a function of a number of things. Getting PBM signed up. We'd already announced our Express Scripts arrangement. Our Caremark arrangement is known as well. On top of that, we look at individual payers who can then flip the switch and go over to the benefit administered by those groups.
There's also several other payers who administer their own mail order pharmacies who we've been in negotiations with, and combine that with even the pharmacies, the retail channel in general. What this represents for us is a sales and distribution opportunity that's not at all like what we've ever done before. There's a learning curve here for us, and we're learning as we go. We've had some pretty good success. Like we said last call, I'll iterate again. Any patient that comes in here, we ping, we call it ping. We ping their pharmacy benefit first. If we can get them product through the pharmacy at a lower copay, we run with it. We've had some pretty good success with that program.
Yeah, I would only say on the pricing. What we really look at is the reduction in transactional costs. On both sides of the equation, the pharmacy side, they're doing less paperwork, and as a result of that, they have less embedded costs. Well, the same is true for us. If we can run it through a pharmacy, we don't have all the paperwork accumulation and submission and the costs associated with that. Every time we touch a piece of paper, it costs something as part of that. This is a streamlined system. From a COGS standpoint and our operating margin on it, we can be a bit lenient in this in terms of negotiation because volume here will more than offset any price concessions that we might have to make in the end.
Yeah.
Got it. That's helpful. The expanded agreement with Insulet was a pleasant surprise, especially considering the size of their pediatric user base. Do you have an idea what percent of your user base is currently using the Omnipod?
We have an idea, but we're not gonna disclose it.
Okay. Okay. Fair enough. Lastly, Terry, you mentioned in your prepared remarks that sensor utilization has been stronger than ever. Did you see any changes in the quarter as it relates to utilization relative to, let's say, the last 12 months? You know, did you see it? You know, generally, we're looking at, we estimate 10-day wear on average. Did that trend up, down, or was it just more patients ordering sensors?
Just more patients ordering sensors. We have not really seen a particular change in the days of utilization, as you said, in the last 12 months, per se. I do think that as you add more patients, maybe some of them, initially at least, will use the product according to labeled indication, and then as they get smarter, or more experienced, they may try to push it to the days use that you've indicated.
Obviously, we never recommend that, so we really don't monitor that other than what people say on the blogs.
Okay, great. Thank you.
Thank you. Our next question is gonna come from Greg Kudacek out of Sterne, Agee & Leach . Please go ahead.
Yes. Most of my question's been asked and answered. Just one quick one for you, Kevin. You said non-cash stock-based comp was $13.2 for Q2. You said it's gonna be at least that per quarter for the next three quarters. Is that what you were saying?
Through the end of Q1 of 2015, that's correct.
Okay. What percentage of users are type II? Do you look at those?
No. I mean, we really don't have a good number to give you there.
Certainly less than 5%.
Yeah.
All right.
That's probably the easiest way to say it.
I'll try this one. What percentage of hardware was transmitters?
Nice try.
Okay. Thanks, guys.
Thank you. Our next question will come from Tao Levy from Wedbush Securities. Please go ahead.
Great. Thanks. Just actually just following up on that last one. You know, last quarter, you had you talked about the transmitters and kind of seeing a bump up in that hardware. Was there anything special about that piece of business this quarter?
It remains very strong.
Gotcha. Okay. Sales force adds, any changes there in the quarter? Are you still around 90?
We're still at the same place. With respect to sales force adds, our typical process as we get to the end of the third quarter and early in the fourth quarter is we budget for next year. We start looking at doing the adds in Q4, and that would be our plan again this year that we'll remain stable through this quarter. We're seeing our people really get up to speed now that we've added, you know, late last year, and now they're firing on all cylinders, the new ones. We'll wait till the end of Q3, and if we are looking at a sales expansion next year, we'll start the ball rolling in Q4 and have them all up to speed, and hired by early Q1 of 2015.
Okay, great. Just lastly, on the Gen 5 and it being sort of designed for the mobile sort of environment, the regulatory process for the devices where you know where a patient will be able to get the transmission, so you know the smartwatch or. Will that be regulated as a PMA-type product, or is it just or not, I guess?
Yeah. I mean, what the FDA has said to us is that if, again, it's back to that real-time information versus retrospective information. To the extent that information is real-time coming from the transmitter, then it will absolutely be subject to our Class III PMA regulation. What that means is our expectation, for example, for the Gen 5 system is that the PMA system that the FDA will evaluate would be a receiver, a dedicated receiver, a transmitter, and the disposable sensors. This time it would also include a software application that would be included as part of the PMA.
To the extent we could load a PMA-approved software application on a phone or that same or similar PMA-approved software application on a Pebble watch, for example, we don't believe that the Pebble watch, just like the smartphone, would become part of the system, the regulated system. It's just the software application sitting as on that device that would be part of the PMA. Does that make sense?
Yeah. The goal would be, you know, in that smartwatch to be able to get the real-time data.
Certainly, again, back to our objective, which is maximum flexibility for the patient. We'd love to be able to put that application on a multitude of devices to let the patient choose where they want to see their CGM readings.
Okay, perfect. Great. Thanks.
Thank you. Once again, ladies and gentlemen, if you have a question, please press star then one on your touch-tone phone. If you're using a speakerphone, you may need to pick up the handset first before pressing the numbers. Once again, if you do have a question, please press star then one on your touch-tone phone. Our next question is gonna come from Ben Andrew from William Blair. Please go ahead.
Okay. Thanks, guys. Looking over the model, the guidance of $220 million to $235 million, to get to the low end, you'd have to do about $114 million of revenue in the back half. You did $106 million. Our model, just kinda cursory adjustments here, we've got you growing, you know, at relatively modest rates sequentially, like 1% for the third quarter and then a more typical growth in the fourth. Why would, you know, how conservative is that $220 million to $235 million range relative to some of the trends we've seen?
Well, you know, we've been waiting for this question all afternoon. I do have to tell you that, Ben Andrew, so thank you. As we put the guidance together, you know, we typically do annual guidance, and we'd committed to 40% growth for the entire year, and $220 million represents a 40% growth number. $235 million is upwards closer to 50%. We have typically experienced a very slow sequential growth from Q2 to Q3. Last year, that was a bigger growth number. We're not, you know, as we put this guidance together, we didn't anticipate the big change like we did last year. The other thing to look at is, you know, there's this law of growing on a bigger base. Typically, our first half and second half split had been 45% first half, 55% second half.
Last year it was 40/60, so the second half was much, much bigger. As we looked at the numbers and looked at what we're doing, we moved our range up to there on just some broad brush assumptions. We did not go back into every single kit we're gonna sell, new patients, upgrades or all the other stuff. We looked at big picture numbers and felt, as a low end, the 40% growth we'd committed to at the beginning of the year was a good low end, and we took it up to $235 at the high end, and that's how we got there.
Okay.
We will, similar to what we did last year, we're gonna follow the same pattern we did last year. At the end of the third quarter, if we see something different, we'll give you an update on guidance and what we think we're gonna do by the end of the year at the end of the next quarter.
Sure. Kevin, just to push you a little bit, I mean, we're just rolling this through. We end up at the high end of the range, and we were before, but that suggests hardware revenue of about $67 million. We've got about $30 million of replacement hardware baked in. We don't even need to increase that, but probably could. Which it does imply even still a relatively modest utilization rate, compared to what you could see as PEDS ramp as a percent and patients are a little bit more compliant with label. I appreciate the conservatism certainly in terms of setting expectations.
In terms of kinda what is, you know, maybe more likely than not coming through, it seems like even the $235 is probably more like a middle of a range in terms of what's realistic for the year in our view.
Okay. I mean, we'll. That's good.
Thank you. We have no further questions at this time. I would now like to turn the call back over to you, Terry.
Thank you. There continues to be a growing adoption of CGM as a key tool to better manage a patient's diabetes, and Dexcom enjoys the status of the most accurate and durable CGM ever commercially introduced. It is a testament to our technical staff of what they have accomplished and the fact that Dexcom continues to raise the bar. As an example, just last week, Becton Dickinson announced it was shutting down its CGM program due to technical issues when moving into human feasibility testing. We have long stated that developing an accurate and reliable CGM is extremely challenging and very expensive. This is further proof of how difficult our work truly ist and clearly supports our unique position in the diabetes industry. Thank you very much.
Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.