Eargo, Inc. (NASDAQ:EAR) Q4 2022 Earnings Call Transcript

Eargo, Inc. (NASDAQ:EAR) Q4 2022 Earnings Call Transcript March 23, 2023

Operator: Ladies and gentlemen, thank you for standing by, and welcome to the Eargo, Inc. Fourth Quarter 2022 Earnings Conference Call. I would now like to turn the call over to Nick Laudico, Chief Retail Officer. Please go ahead.

Nick Laudico: Good afternoon, everyone, and welcome to the Eargo fourth quarter 2022 earnings conference call. As a reminder, this call is being broadcast live. And the digital replay will be available on our IR website. Joining me on today’s call are Christian Gormsen, President and Chief Executive Officer; and Adam Laponis, Chief Financial Officer. Before we begin, I’d like to remind you that some of the matters discussed in the conference call will contain forward-looking statements regarding future events as outlined in our press release today. We wish to caution you that such statements are based on management’s current expectations and beliefs, are forward-looking in nature, are subject to risks and uncertainties, and actual events or results may differ materially.

The factors that could cause actual results or events to differ include, but are not limited to, factors referenced in our press release today as well as our filings with the SEC. Before turning the call over to Christian, I want to make note that we have posted a historical GAAP to non-GAAP reconciliation table on our IR website in the Events and Presentations section. With that said, I will now turn the call over to Christian.

Christian Gormsen: Thank you, Nick, and thank you, everyone, for joining us today. The fourth quarter marked the culmination of a pivotal year for Eargo. In 2022, we settled our DOJ investigation and cleared our SEC filing delinquency, recapitalized the business through a major financing, added Patient Square Capital as our major shareholder and made meaningful progress against our most important business priorities. Perhaps most impactful to the future of Eargo was the progress we made on our strategic evolution into a true omnichannel business. While we continue to see stable trends in sales to direct-to-consumer cash paid customers, retail has begun to diversify our gross shipments and leverage our existing media spend. And while still early stage, insurance remains a future opportunity.

Lastly, we have retained top talent across the organization despite the challenges our organization is facing. Given the circumstances, we think it’s fair to say that Eargo has made incredible progress in 2022, and we’re excited about the continued evolution of our business in 2023. Turning to operational results. The business momentum we reported in the third quarter carried into the fourth quarter. We established a nationwide physical retail presence through our partnership with Victra in connection with the OTC final rule being published in October, announced a strategic partnership with NationsBenefits benefits; and in early 2023, commercially launched Eargo 7, our most innovative product yet. Fourth quarter 2022 net revenue was $12.9 million, up approximately 28% year-over-year and over 63% sequentially.

I’ll now provide a brief update on our strategic initiatives and the path ahead through 2023, beginning with an update on our retail strategy, which is the top organizational priority in 2023. In order to provide some context, let me first briefly recap our three primary objectives in launching this retail channel. First, leverage existing retail foot traffic and sales presence at a national sale to drive awareness and education of Eargo; second, better target and qualify consumers through in-person conversation and availability of an in-store hearing streamer; and third, accelerate revenue growth while better defining our path to profitability. Moving to our partnership with Victra, one of America’s largest wireless retailers. Early in the fourth quarter, we announced our expanded partnership, placing Eargo inventory in approximately 1,500 stores nationwide.

As a reminder, this partnership enabled us to lead the four core elements of a world-class experience that we believe consumers desire when shopping in-person for hearing aids: one, education and proper merchandising; two, self-administered hearing screening; three, expert sales consultation; and four, outstanding post-purchase support. The partnership remains in the early stages of scaling up, and we’re not prepared to make comments on expected performance. However, we have been encouraged by what we have seen in the five months that Eargo has been available for purchase in Victra retail locations. We continue to support our partner by training and educating their sales force on how to talk to consumers about hearing and, most importantly, the differentiators of Eargo.

This process will continue in the first half of 2023 as we listen to customers, refine our approach and improve the customer experience. While our partnership remains at the very early stages, we believe premium partnership opportunities like this one are important to the scalability of Eargo’s business and now have to both accelerated revenues and clear line of sight to profitability. We thank our partners at Victra and look forward to providing you with further performance updates over time. Turning now to insurance and benefits access. In mid-December, we announced a strategic partnership with NationsBenefits. Nations is a leading provider of supplemental benefits, flex cards and member engagement solutions for health plans. And this opportunity will allow health plan members served by Nations to use their planned benefits towards purchasing Eargo OTC hearing aids.

By doing so, we believe this will create a pathway for individuals of hearing loss, lower barriers to care and offer oversight to ensure people have access to the right products for their individual needs, ultimately allowing more people to hear better. While the original timing of the Nations launch was expected to be January 2023, Nations has delayed launch of its OTC hearing aid offering generally, and we do not know when ultimately Nations will launch its offering. Nevertheless, we are excited to partner with an organization that shares our values on customer satisfaction and using technology to enhance the customer experience. In terms of broader insurance access, we’re currently accepting both FEHB and non-FEHB insurance as a method of direct payment in certain limited circumstances.

In particular, when this customer has undergone additional testing by an independent licensed health care provider to establish medical necessity with supporting clinical documentation, for example, when customers receive an in-person hearing evaluations. It remains early in this new process, and we do not expect to see any significant volume for insurance orders in 2023. Additionally, we have generally focused on enhancing our compliance and risk management operations, including to support insurance claims processing, and we intend to continue to do so. Turning now to Eargo 7. We were thrilled to announce the launch of Eargo 7, our seventh generation device, at CES in early January. With commercial launch in mid-February, Eargo 7 is now available for purchase online as well as in Victra locations across the country.

Eargo 7 is the most revolutionary device we have developed to date, uniquely designed to offer an even better experience, hearing speech in noisy environments, widely perceived to be the most challenging situation for people with hearing loss. This is achieved through Sound Adjust+ with Clarity Mode. This feature provides more sophisticated sound processing in loud environments by analyzing the sound scape as it changes and then automatically choosing lever to emphasize speech or reduce noise. No need to open the app or manually adjust anything. We’re incredibly proud of this feature and believe it will have particular appeal in the new OTC landscape, offering advanced technology and high-touch post-purchase support at an affordable price without ever compromising quality or user experience.

Importantly, following we received a 510(k) clearance on the FDA, Eargo 5, 6 and 7 can each be marketed as self-fitting hearing aids with the use of Sound Match via our mobile app, and each will be marketed OTC pursuant to the FDA’s new OTC regulatory requirements. Meaningful innovation is a priority at Eargo, and this latest generation device reaffirms this commitment with new features that continue to put the customer at the heart of the hearing experience. Let me now turn it over to Adam for a more detailed summary of our fourth quarter financial results.

Adam Laponis: Thanks, Christian. I will provide financial comparisons for the fourth quarter of 2022 sequentially versus the third quarter of 2022 given the difficult full fiscal year-over-year comparison as a result of the impacts of the DOJ investigation had on our 2021 financial results. As Christian mentioned, we began reaccepting insurance as a method of direct payment in a limited capacity, but we do not expect a significant volume of insurance orders at this time. We are also seeking clarity on a planned requirement post the OTC rule. Fourth quarter 2022 net revenue was $12.9 million, up approximately 63.3% sequentially. The increase was primarily driven by an increase in gross systems shipped. Fourth quarter 2022 gross systems shipped were 8,863, up 71.9% sequentially.

The increase was driven by a wholesale inventory purchase by Victra to have Eargos available for purchase in their approximately 1,500 locations nationwide and sequential growth in systems shipped to our traditional cash pay direct-to-consumer customers. The fourth quarter 2022 return accrual rate was 34.9%, up 2.6 percentage points sequentially. Moving to non-GAAP gross margin and non-GAAP operating expenses. Our discussion of financial metrics in the gross margin line and below will be on a non-GAAP basis, which excludes stock-based compensation expenses. Please refer to our GAAP to non-GAAP reconciliation included in today’s earnings release and the historical GAAP to non-GAAP reconciliation table on our IR website in the Events and Presentations section.

Fourth quarter non-GAAP gross margin was 47.9% compared to 24.5% in the third quarter of 2022. The sequential gross margin increase was primarily due to higher gross shipment volume on a similar fixed cost base. Fourth quarter non-GAAP sales and marketing expenses were $14.9 million or 115.3% of net revenues compared to $10.6 million or 134.5% of net revenues in the third quarter of 2022. The decrease in sales and marketing as a percentage of net revenues was due to the higher net revenues. Non-GAAP research and development expenses were $4.2 million or 32.7% of net revenues compared to $4.3 million or 53.8% of net revenues in the third quarter of 2022. Non-GAAP general and administrative expenses were $8.6 million or 66.4% of net revenues compared to $10.0 million or 126.8% of net revenues in the third quarter of 2022.

The decrease was primarily due to a net reduction in professional fees. Non-GAAP net operating loss for the fourth quarter of 2022 was $21.5 million compared to non-GAAP net operating loss of $23.0 million for the third quarter of 2022 and compared to $33.3 million in the fourth quarter of 2021. Moving to the balance sheet. In late November, we closed our previously announced rights offering of up to 18.75 million shares of common stock to existing stockholders, representing a major step forward for the company. Through the offering, we have raised gross proceeds from subscriptions of approximately $29.3 million. In addition to these gross proceeds from subscriptions, we also received an additional investment of approximately $5.5 million from Patient Square.

After deducting related costs and expenses, we are pleased to have raised total net proceeds of approximately $32.9 million between the two transactions, which we plan to use to further fund our omnichannel growth strategy. We thank Patient Square for their support and commitment to our long-term success and look forward to their continued partnership. Following the rights offering and to end the year, we had cash and cash equivalents of $101.2 million as of December 31, 2022, with no debt on the balance sheet. This compares to $110.5 million of cash and cash equivalents and $15.3 million of term debt as of December 31, 2021. Our previous guidance for the fourth quarter of 2022 was a quarterly cash burn of approximately $20 million to $25 million.

Our operating cash burn was $20.4 million in the fourth quarter of 2022. And our overall cash balance increased by $13.2 million in the fourth quarter of 2022, primarily driven by the rights offering and Patient Square investment. I will now turn it back to Christian for closing commentary.

Christian Gormsen: Thanks, Adam. We’re pleased to conclude 2022 and are proud of what the organization has achieved during a challenging year. We now look forward to 2023 and the opportunity to transform our business through executing our omnichannel strategy. We believe our progress in 2022 puts us at a sound operational platform for this execution. We continue to focus on our four most important business priorities this year: one, refining and expanding our retail strategy; two, accessing insurance coverage for Eargo hearing aids, including continuing dialogue with individual FEHB payers and other third-party payers regarding insurance coverage of Eargo hearing aids; three, optimizing our cash pay business; and four, continuing to invest in innovation.

Of course, all of this is supported by our culture of compliance and accountability as we continue to refine our program and maintain the utmost compliance across the business. Before closing, I would like to thank our team at Eargo for their unwavering dedication to improving hearing health. This organization remains motivated, incentivized and energized to achieve our objectives. And without them, none of this progress would be possible. We have a lot of work ahead of us, but this market remains large and underpenetrated. And we believe our recent business progress and product innovation puts Eargo in a position to capitalize on this opportunity. I will now turn the call over to the operator for Q&A.

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Q&A Session

Operator: We do have a question from the line of Margaret Kaczor from William Blair.

Margaret Kaczor : I wanted to start, I guess, with follow up on the Victra sales. Obviously, it’s great to see their commitment to try to take this as a wholesale purchase. But can you give us a sense, I guess, around repeat purchases by Victra either in Q4 and Q1, either units or percentages, just to get a sense of sell-in versus sell-through?

Christian Gormsen : Hey, Margaret. Again, good to hear and thanks for the feedback. We’re off to what we believe early days in terms of retail and getting the commitment on their end to be present in all 1,500 locations has been significant. We’re not giving specific guidance. Adam, I don’t know if we can provide more nuance here, specifically to how we’re looking at it. But overall, we’re pretty excited about this partnership and the collaboration that we’re seeing from Victra.

Adam Laponis : Margaret, this is Adam. Thank you for the question. We aren’t giving specific guidance or breakdown of the elements of the — Victra. But as Christian mentioned, we did provide initial stocking order that covered unit needs to the 1,500 locations. And we did start to see sell-through in Q4, but it was very early days in that partnership as it was only started during mid-quarter.

Margaret Kaczor : Okay. That’s helpful. And I have one follow-up. So I’m going to stick a few follow-ups in one. But how are you guys thinking about this partnership maybe extending into other partnerships? Second sub-bullet, how — as you think about this wholesale sale, were you able to recognize cash from it? And then the real kind of follow-up, I guess, would be as we think about the core DTC underlying franchise, how is demand there, especially with Eargo 7 and then kind of maybe offset, if it is at all, by recent inflation growth?

Christian Gormsen : Yes. No, thank you. That was an elegant way of asking one question, Margaret. No surprise. Let me cover the first part and then hand off to Adam when it comes to the cash. But how we’re thinking and I think how we’ve described the Victra partnership is OTC is very new for the whole industry. And it’s like how much support, what kind of experience are you building. Our view on the Victra partnership and the reason why we emphasized it so much in this call is we believe that this is creating the close to optimal user experience. So we’re very thrilled with the level of commitment we’re seeing and also the level of experience that we can build in store in terms of actually actively talking about hearing loss and supporting prospective customers and experience like either hearing screening, simulation, having that kind of experience which to our understanding is not what you see in a lot of other over-the-counter experiences.

So what we are clearly focused on here is continue to work with Victra to build out this as a case of how over-the-counter can be done. We are in discussions with other retailers because, clearly, this is something that is getting a lot of interest. But ideally, we’re at the point where we can use Victra as a case example of how to really bring customers into the category in a way where we’re meeting the customer where they already are, which is the whole point. So I guess your assumption is pretty correct on that one. Adam, did you want to comment on the cash and company cash?

Adam Laponis : Yes. And it’s a standard distribution agreement, Margaret, with standard terms against it. We did collect cash in Q4 from the initial shipment, but we are in an ongoing partnership with Victra, and we’ll continue to provide updates as things progress here in Q1 and beyond.