Good afternoon once again. I'm Josh Jennings from the TD Cowen Medical Devices team, and we are moving down the medical devices track. We are thrilled to have executives from the Outset Medical team with us, Leslie Trigg, CEO, and Nabeel Ahmed, CFO. Thanks, Leslie and Nabeel, for coming to Boston, joining us today. Yeah, joining the conference.
Thanks for the invite.
Absolutely. I know there was some top-line data from FLOW that came out today, and I don't know, the devil's always in the details, and we don't have the full details of the data set yet. But any just knee-jerk reactions or anything that your team is thinking about as you looked at that top-line data? Anything to decipher? Is it still TBD for that full data presentation?
Well, it's probably somewhat TBD, but we did have some conversation with our chief medical officer and a couple of our physician advisors this morning. I think the physician community reaction was a little bit surprised that it wasn't higher. And that was kind of point one. Point two, it was pointed out that the 24% reduction was off the composite endpoint, which included MACE and death. So it was unclear, actually, how much benefit it was going to deliver to CKD progression or deferral progression. But I think kind of the third point is, look, it did reiterate MACE reduction, which ultimately is probably the most important factor for our space, is that dialysis patients and CKD patients are going to likely live longer. Cardiovascular death is the number one cause of death amongst people who are already on dialysis and people who have CKD.
So the more we are lowering cardiovascular risk, I think the greater population growth we'll have, both in our base population and new starts into dialysis. The last thing I'll say as a point of historical reference for those of you that may not know, there is the SGLT2 inhibitor class that's been around for about, well, over a decade. That showed like a 30%-40% deferral of CKD, so way more meaningful than 24%. That never has seen more than 8% adoption in the CKD or the dialysis population. The rate of new starts onto dialysis, unfortunately, has kind of continued to climb over the last decade in spite of a very available and accessible drug that seems to have even more efficacy than this one. So overall, I would care this does not meet my top 1,000 concerns for our business or for our TAM.
Appreciate those insights.
Not that I have 1,000 concerns.
Of course. Of course.
I actually have 199.
199.
One shy.
Well, we were hoping to just initially focus on the acute channel and Outset's thrust into acute and subacute hospitals or rehab and settings, and just walk through, get a status check, I guess, of some of the headwinds and tailwinds that the business faced in 2023. And I think some of the headwinds could very well turn into tailwinds as we're entering into 2024. Some of them are minor, but love to just get a status check on the competitor counter-marketing that was impactful in Q3. I think you mentioned on the fourth-quarter call that your sales team was much better equipped to handle some of that counter-marketing. And I guess the thought is that if there was some counter-marketing by competitors, I think we think it's around the CRRT versus some of the treatment types that are on label for Tablo and trying to delineate the differences there.
But maybe that highlight by a competitor and then the education by the Outset team could drive a better understanding of Tablo's versatility and full capabilities. But anyway, status check and whether that headwind could turn into a tailwind in 2024. Is that too aggressive thinking?
No, your three paragraphs of content, the aggressive part. No, I'm kidding. You're challenging my memory. So maybe starting from the top, I think for the acute sector, which for us is acute and also subacute, rehabs and LTACs, we combine that into one total addressable market of about $2.5 billion just in the U.S. I think we're entering 2024. I know we are entering 2024 from a position of strength and also of scale. We're now in over 700 facilities. As a reminder, we didn't launch until 2019. So we've gone from kind of 0 to 700, if you will, in a very short period of time. We have trained over 10,000 nurses, 400 physicians. We educated just last year. We have a very rapidly growing clinical evidence base, which ties into your second question. And I think we've kind of passed the tipping point on awareness.
Most physicians and hospital execs that I just happen to come into contact with, this is anecdotal, they actually know Outset and Tablo, and that was not the case in 2019. There has been a lot of movement, actually, amongst hospital execs. I was talking to a CEO of a hospital just two or three weeks ago about implementing Tablo at his institution. He happened to mention to me in the course of conversation, "Oh, I came from fill in the blank of our other customer." He already was very familiar with Tablo and the cost reduction that had driven there. That's one anecdote.
I think we are seeing this kind of network effect of enough data around cost reduction that has been highly repeatable over time, such that we're kind of coming into these sales processes with a little bit of a head start and a little bit of a head of steam. I think the headwinds and the challenges of 2023 are temporal. I mean, they're not going to last forever. And I think we're creeping up on overcoming those. One catalyst for 2024, I mean, it's an execution year for sure. We have to make and keep and exceed our commitments, which we intend to do. But beyond that, we do have a couple of clear catalysts. One will be the FDA clearance of the Tablo Cart, getting that accessory kind of back online will be a clear catalyst.
I think, two, we have a new kind of growth segment in the skilled nursing facilities, the part of the subacute market that I think will be potentially a new growth catalyst for us. We have barely scratched the surface there. And then lastly, I think it's probably the repeatability of the results for existing customers, I think, will continue to be a catalyst. The growth that we saw in 2023 was more predominantly from existing customers, which I always have my eye on because people don't buy more of something that's not working well. And so the fact that we're seeing so much growth from our existing customer base rolling through Tablo, one hospital after another, gives me a lot of confidence that we have kind of predictability and visibility into our growth for the next couple of years.
Great. One of the tailwinds in 2022 and 2023 that we were aware of, and I think most investors in the community was aware of, was just the competition on the service side. The Freseniuse s, DaVitas of the world. The hospitals that were outsourcing their inpatient dialysis service line to those companies were getting these mandates or just contract increases. It seemed like DaVita and Fresenius were very vulnerable just in terms of Outset coming in and either displacing them or just displacing themselves. Has their competitive initiatives changed at all, or is that dynamic still in play? And any way to just quantify, I guess, the volume of new accounts that you secured in 2023 and whether that vulnerability in those service companies persists in 2024?
Well, I can make a characterization comment on 2023. I would say the majority of the contracts that we closed in 2023 were with hospitals that were outsourcing and making this change from outsourcing to insourcing so that they could scoop up not only the supplies cost reduction, but also the labor cost reduction. So that was the vast majority of the opportunity for us. And we still have a long way to go. I mean, we're still only 10% penetrated. We closed last year with 4,000 consoles, roughly on a 40,000 console TAM just for the acute. So I think we've done a really nice job, but we still have a lot of growth runway, suffice it to say, left ahead. The dynamics have not changed, actually.
We still are hearing and seeing. I was at another location three weeks ago with a health system executive that told me that he had been served up a very similar mandate proposition that had very significant cost increases with even sort of more restrictive terms. And so in that regard, I would expect that to continue to be a tailwind for us in 2024 as well.
Great. You guys commented on the sales cycle elongation in 2023. Some of that was just the capital purchasing environment, I think, earlier in the year, but that did persist. I think capital purchasing for different types of capital equipment, they vary. But I mean, how should investors think about that sales cycle elongation? I think it went from 9-12 months, the top end of that range. It's not a huge delta, but is that stabilized, or could we see some medical device manufacturers with other capital equipment technologies that they're selling or commenting on an improving capital purchasing environment in the United States? Could that become a tailwind if the sales cycle just contracts a little bit, or is that not something that we should really be thinking about as a positive for 2024?
Well, I think there are a number of catalysts that I would put above that that will have more direct and material impact, again, Tablo Cart, etc. But I do think that the environment is stabilized. I will say that. It has not worsened. Tablo continues to be put kind of at the top of that capital purchasing priority list because most of the time, our payback period is less than a year on the Tablo purchase. And we are saving money for hospitals like the first day they turn it on and start using it. I think that while I would love an early Christmas present in the form of interest rate relief, even if that does not come in 2024, that would not affect the way that we're thinking about the business or our bullishness on the business.
I think this has become a normalized capital equipment or capital spending environment. Any sales rep in any capital equipment company has to fight to make sure that your project is going to get prioritized first. I think we are very advantaged by having such a clear and dramatic cost reduction advantage over others.
Great. I think recently, I can't remember the exact date, but the Chief Commercial Officer departed Outset to take on a CEO role. Just sparked a question about just the commercial organization, the structure, the selling effort. I mean, should we think about everything being consistent, or could a new Chief Commercial Officer come in and change up the commercial strategy?
Are you complimenting me on my wonderful mentorship? Or was that just implied?
It was a double entendre.
Yes. Yeah. So our Chief Commercial Officer, Steve Williamson, left to be the CEO of Pulmonx, which I actually genuinely was excited about. I think it's our second or third CEO that's graduated from the Outset alumni network. And that's something that we're not only conscious of, but we're very intentional about. I have a saying that I think I close almost every company meeting with kind of better on the way out than on the way in. And there's a lot we do internally to foster that. So I expect to actually have, if we do our job right, many more CEOs coming out of Outset. That would be a great legacy to leave. Getting to the second part of your question, no, we actually don't intend to backfill his role because I think the greatest gift that Steve left us with is this phenomenal A team underneath him.
We have an SVP of sales who came to us from Becton Dickinson, the infusion care part of their business. So she is very good and very astute around recurring revenue streams, which is going to be a big part of our future when we think about EMR interoperability and software features. We've talked about that a lot. Obviously, capital and disposables and a really, really strong existing head of field service engineering who ran field service for Intuitive and a head of marketing from CareFusion as well. So yes, we're proud of Steve, and I thank him for the team that he's left in place. So I think we're in really good shape.
Excellent. Wanted to ask about just the subacute channel. You guys talked more about it in 2023 and had some success. I think ten out of the ten largest LTACs and rehab or subacute providers have adopted Tablo. That seems like a big winning percentage. I mean, is there maybe talk about where you are in the subacute channel, and is there growth to be had in terms of console placements in the subacute channel in 2024 and one of the drivers of that growth? How do you see that opportunity shaping up?
Yeah. So that segment is kind of a three-part segment. You have the rehabs, you have the LTACs, and you have the skilled nursing facilities. The third is the biggest. It's the biggest part. It's the biggest segment of the sector. And again, we haven't even had the bandwidth to turn our attention to that yet. We are doing that now. We really started to turn our attention in Q4, picked up our first few contracts in the skilled nursing facility arena in the fourth quarter. And we'll be looking forward to implementing those programs in the first half of this year. And I think it's just the tip of the spear. So there are thousands. I think there's like 20, roughly 15 or 20 thousand skilled nursing facilities.
So our go-to-market is not to knock on every door, but to do it exactly the way we did it with the LTACs and rehabs, go to the biggest first. So we're going to be starting with kind of those corporate operators of SNFs and striving to generate sales agreements that will start initially with a few facilities where they develop their own playbook, their own operational KPIs, prove out the cost reduction benefits, and then scale and proliferate through their networks. So it'll be very similar in practice to our go-to-market within acute, within the first two subacute sectors. And we will be doing it with the same sales team and the same field service team. So there will be a lot of operating leverage that comes from that. But today, subacute, I mean, it was roughly 30% of our acute revenue in 2023.
We would expect it to be at least that much in 2024. I think we are just kind of getting started there.
Okay. Okay. Tablo Cart, that regulatory filing, you guys have described some of the timeline expectations. And just curious about, I guess, contracts starting from the beginning of the year on. I know there were some contract renegotiations or rewriting that had to be done by some center or some center wanted to wait for Tablo Cart. Is that dynamic still in play in the early days of 2024 as well? And so, I mean, how will that demand be kind of kept intact? I mean, will that pipeline continue to build? And pent-up demand for Tablo Cart will be evident once that approval hits and maybe bolster some stronger console placement numbers in the back half or once that approval is in hand?
Yeah, Josh. So we said, just to remind you, we had customers who were waiting for Tablo purchases until we get Tablo Cart because they want the full installation. They don't want to sort of do two installs at a time or two installs at the end. And so those customers are still very much in our pipeline. They're still very much waiting for cart. What we're really pleased with is that nobody has dropped out. Nobody has said, "Look, I don't want the product anymore." Everybody's still waiting. Now, from a guidance perspective and how we're thinking about the year, so we're expecting cart to be back in revenue in the second half of the year. We expect that sort of once we get that approval, there will be some paperwork process that has to happen. We have to get purchase orders, revise order agreements.
Again, this is sort of in the weeks. This is not a very long process, but it is nonetheless some amount of work. We think the first half of 2024 will look more like the second half of 2023. The second half of 2024, when we get cart back, we'll start to see these orders come back. We'll see a step up in growth in Q3 and then a further step in Q4 because we'll have gone through kind of this paperwork restart exercise and whatnot. We expect to exit this year normally. Second half of 2024 will have more growth relative to the first half.
Great. Can you just talk about, I guess, the demand for Tablo Cart and that extra layer of filtration? It's how we think about it, which is just a layperson outside of dialysis world. But I mean, is that demand increased, or are there another specific cities and states and geographies in the United States where it's required in order to be able to well, I guess not required, but it's dirtier water from a high level, dirtier water supply that needs better filtration. But I guess why Tablo Cart seems to be some more integral to the order growth than we had thought prior to the warning letter and the removal of Tablo Cart. But should we be thinking about Tablo Cart as kind of a central piece for most geographies in the United States now, or is it still select?
I would call it what it maybe started as one thing and morphed into another. We started the development of Tablo Cart because of some areas of the country that did really have kind of subpar—not to scare anybody, but Boston is one of them—that had subpar water. And then it morphed into another thing, which I would say was actually an accessory for convenience. It really became a convenience preference simply because Tablo works great on its own. If you have water quality that is way, way better spec, the site with the biomeds there will just be changing the filters more frequently. That's what I mean by convenience. And so it started to gain traction because it offered another convenience benefit operationally because it just extended the life of the filters inside Tablo.
So I think when it's back and we have the benefit of offering it to customers, yeah, we expect it to be nicely adopted. We didn't have it for very long. It was just a year. And so I think we're still learning exactly what the "consumer" behavior will be about it. But it's offered a nice convenience benefit that I think people will resume taking advantage of.
Understood. Thinking about the 2024 revenue guidance and just kind of flatish console placements in 2024, clearly, the Tablo Cart approval timeline dynamic is well understood. But what other headwinds should investors think about on 2024 in that console placement guidance?
Yeah. As we think about our 2024 guidance, so first of all, what we did say is at the midpoint of our guidance, we assume the same, roughly 1,400 consoles that we've placed last year or in 2023, in 2024, and that are recurring revenues on a larger install base drive that mid-teens growth rate. Now, Josh, as we move up in the guidance range, that could be from more consoles that we place either in home or acute end markets, both of which are large end markets where we're at the early innings of penetration. We've also in the past sort of seen benefit from ASP, both through our Tablo Pro+ software offering, as well as potential cart sales in the second half once cart comes back.
And then we've also seen overperformance from consumable sales just as we sort of grow the install base and treatments do well for us. So again, midpoint of guidance does assume the same level of console placements. But again, given where we are in these end markets, we certainly could go above to the top end of our guidance range.
Excellent. Wanted to shift over to the home channel and talk about that opportunity. You've talked about these innovative alternative dialysis providers and midsize dialysis organizations that are the two kind of channels that Outset is viewed as a low-hanging fruit or just the big opportunities. Just on the innovative alternative dialysis provider channel, can you just help us understand how big could that be and what percentage of the home business is that customer base?
Yep. Well, so when we originally thought about the TAM, we sized it at almost $9 billion. And that assumed just 30% of the total market because we were thinking just about the midsize dialysis organizations, those operators that were already running dialysis clinics, the mid-tier, i.e., sitting right below DaVita and Fresenius, they manage about 30% of the patients. That's already, by the way, 180,000 people that could be home. And so that's a sizable market. But by accessing and focusing our efforts on the top of the funnel, remember, most patients kind of crash into dialysis. They don't just instantly enter into a dialysis clinic more often than not. They're entering through the hospital system. And so we do have an opportunity to expand the channels of access, expand the provider universe at the top of the funnel.
Those categories are hospitals and health systems opening up their own home programs, which is happening. Those are subacute providers, some of the likes we've already talked about, opening up home programs as an extension of the SNF or an extension of the rehab. Those patients might be in rehab and LTACs for 30 days. Typically, we train patients we don't train, but the provider trains patients. The meantime is 10 days. So that's an interesting channel. There are other types of healthcare providers that are already offering services in the home of a different nature who are starting to get into the home dialysis business. And so the way I see it is that gives us access we haven't formalized it in our TAM, but that does give us access to all 600,000 patients already on dialysis and all of the 135,000 people who start dialysis every year.
You've been talking about, I guess, hospitals, even subacute providers developing their own home programs. And just in that last answer, you're referencing it as well. I mean, are there any examples? I mean, our understanding is it's still very, very early. I think we've talked to a couple of hospital executives that have kind of adopted Tablo, and that's in their plans. It's in their game plan, but maybe not tomorrow or in 2024. But any success stories to date that you can cite, or is this all evolving? And this hospital has only been a couple of years since Tablo was introduced into the market. But how should investors think about that channel within home of hospitals, subacute centers, developing their own home programs?
Maybe two points there. Our two fastest-growing home customers were not in the home dialysis business prior. So they're brand new. And I think what I've observed, again, it's just that it is early. But they enter it with a very different mindset because they're unencumbered with the way it's been done. They're unencumbered by fixed overhead. They don't have bricks and mortar, or they don't have any financial conflicts. And so we have seen the new entrants grow much faster than some of the folks that are already in the market and have been in the market for several decades. And yes, on health systems, there are any number of examples of hospitals and health systems that are successfully running home programs, both PD and HHD, around the country.
Let me just talk about where you think penetration is today for home. And is the pace of penetration where you thought it would be pre-pandemic? Pre-pandemic may have caused a little bit of disruption in the cadence of the penetration. But where do you think it can go? I think Fresenius has talked about their goal of 25% home hemodialysis penetration by 2027. Does that seem reasonable for the market assumption, or how are you guys thinking about penetration rates in the out years?
I think it's more than reasonable. Yes. We already have some locations that are already well beyond or closer to probably 35% penetrated with home. And so if it has happened once or twice in nature, it's possible, right? And so we have a number of our own customers that are showing us the way. So I think it's at least 40%. I actually think it's closer to probably 50%+ when you think about PD and HHD together. And those work in a very constructive fashion with one another. And is the pace of growth? Yeah. Now, maybe I was paranoid and pessimistic before the pandemic, but I think I always wanted to grow this in a very deliberate, linear fashion. We are talking about obviously, this is life-sustaining or life-defeating. And it is in the home. And it is a consumer user population.
We had never done it before. So I think we have always had our eye on the ball, no matter how much it might frustrate maybe you or others who want to see the hockey stick. I will take a high retention rate any day of the week. And that's the one metric that we've continued to obsess over from day one. There's the death and transplant rate, which we don't control, which has remained very stable now over some duration of time at around 15%. But what we're laser-focused on is what we call kind of the controllable attrition, patients just opting off, wanting to go back in-center, not wanting to use Tablo anymore. We have only lost fewer than patients on one hand back to a competitive device.
Our patient opt-off rate has remained roughly 10% despite growing the denominator quite substantially in the number of patients. I know if we continue to do this right, again, the growth does compound. The challenge with the incumbent device was a 50%-60% dropout rate at a year. That's hard to grow. But if we can keep our retention rates as high as they are right now, just the compounding factor alone, again, will lead to, I think, a really nice linear trajectory of double-digit growth for many, many, many years.
I think we've talked about this in the past, but it seems like these PD patients that ultimately burn out, there's an opportunity to convert those to home hemo patients. Is that a channel, or are there any efforts that Outset is undertaking to capture those patients or just the industry as a whole to try and convert those into home hemo patients?
I think that's a huge untapped opportunity. Those patients are already in the home, successful in the home, want to stay in the home. And I think some providers and again, this is in its infancy. I think we have a number of customers who are turning their attention to that and creating that better, easier, more seamless pathway. It can be very pretty easily accommodated for a clinic. They know by and large when these PD patients are going to fail. Usually, it's within two years of therapy. And starting that upstream education way before somebody fails out of PD physiologically, I think, is a very meaningful tailwind for us and a feeder into our own pipeline over time.
Great. Maybe we'll just wrap up here with the last question just on the margin trajectory. I mean, I know you've gone over this a number of times in the middle, but just one more reminder of the gross margin expansion opportunity guidance for 2024 and how you see that margin expansion get to that 50% target.
Yeah, Josh. So we just printed 26.7% non-GAAP margins here in Q4. Our guidance for the end of 2024, Q4 2024, is mid-30% zone on our way to 50%. And so we've expanded gross margin through Q4, 11 consecutive quarters. And our march to the 50% is the same things. It's console cost down. So R&D and supply chain projects to reduce the cost of components and our bill of materials. It's more consumable sales as our install base grows. And it's service leverage, some of which is natural just with a growing install base. And some of it is because of the remote diagnostics, remote repair.