Bruce Voss - IR, LHA Mark Sieczkarek - President and CEO Tom Paulson - CFO

Ed Woo - Ascendiant Capital

Welcome to the NovaBay Pharmaceuticals 2017 First Quarter Financial Results Conference Call. [Operator Instructions]. As a reminder, this conference is being recorded today May 11, 2017. I would now like to turn the conference over to Mr. Bruce Voss Cain. Please go ahead, sir.

This is Bruce Voss with LHA, thank you all for participating in today's call. Joining me from NovaBay Pharmaceuticals are Mark Sieczkarek, President & CEO and Tom Paulson the Company's Chief Financial Officer. I would like to remind listeners that comments made during this call by management will include forward looking statements within the meaning of federal securities laws. These forward looking statements involve risks and uncertainties that could cause actual results to be materially different from any anticipated results. For a list and description of those risks and uncertainties, please review NovaBay Pharmaceuticals filings with the Securities and Exchange Commission. Furthermore, the content of this conference call contains information that is accurate only as of the date of the live broadcast May 11, 2017. NovaBay undertakes no obligation to revise or update any statements to reflect events or circumstances after the date of this conference call, except as required by law. And now I'd like to turn the call over to Mark Sieczkarek. Mark?

Thank you Bruce and good afternoon to everyone and thanks for joining the call. I'm pleased to report on our strong quarter one financial and operating performance with Avenova sales up 165% over the prior year. Now we have recorded momentum in key growth metrics with substantial increases in the number of prescribing physicians and the average number of prescriptions per prescriber. We continue to execute on a sales and marketing strategy as focused on the prescription ophthalmology channel. We had good success as 77% of all Avenova sales came from this channel which is a significant increase from last year when only 41% came from this channel. Now importantly we increased prescription ophthalmology unit volume significantly over the prior year with the shift in channel mix positively impacting revenue per unit and leading to record gross margin on Avenova sales. Now as we expected and guided and it's consistent with our peers in the pharmaceutical industry sales on a sequential basis declined slightly due to consumers facing the need to satisfy health insurance deductibles and changes to co-pays as we enter the new insurance year. As an example our rebates in the first quarter increased by 40% over the fourth quarter having a net effect of reducing our sales by over $700,000. Now from a balance sheet perspective we ended the quarter with $7.4 million in cash and equivalents which is stated in our guidance combined with the sales growth we expect is sufficient to fund operations and invest in our growth initiatives throughout 2017. So now I'd like to turn the call over to Tom Paulson to review our financial results. Tom?

Thank you, Mark. Good afternoon everyone and thank you for joining us today. Total net sales for the first quarter of 2017 increased 115% over the first quarter of 2016 to $3.7 million. As Mark stated Avenova sales were up 165% over the prior year to $3.6 million with increases in unit volume through our higher margin ophthalmology channel driving revenue growth. Prescription sales into the ophthalmology channel increased to $2.8 million which is up more than 400% from the prior year, its importantly during the first quarter we added more than 1000 new Avenova prescribers, this brings the total number of physicians who have prescribed Avenova to more than 9700 which is up 33% over year over year and up 12% from the fourth quarter of '16. Gross profit margin as a percent of total sales for the first quarter of this year improved to 84% from 64% a year ago due to higher sales of Avenova. As Mark mentioned gross profit margins on Avenova sales for the quarter reached a new record high of 88% which is in line with our financial guidance for the year and this is despite the previously noted higher rebates due to resetting of deductibles and co-pays. The operating loss for the first quarter of 2017 of $3.8 million was an improvement of 19% from the prior year and with a cash burn of $2 million. In reviewing expenses by line item R&D expenses were $62,000 for the first quarter of 2017 down from almost a $1 million for the prior year. The decrease reflects our focus on Avenova commercialization and lower spending on clinical trials which are now pursuing on a limited and targeted basis only. Sales and marketing expense for the first quarter of 2017 were $3.7 million this is up from $3.1 million for the prior year due mainly to our transition to and in how sales team and a higher number of sales representative versus a year ago. G&A expenses were $3.1 million for the first quarter of 2017 up from 1.7 million for the prior year primarily due to higher non-cash stock based compensation. This was largely due to a one-time non-cash expenses related to performance based stock option vesting. The net loss for the first quarter of 2017 was $4 million or $0.26 per share, this is 21% improvement from the net loss of the first quarter of $5.1 million or a $1.24 per share. Reviewing our balance sheet as of March 31, 2017 we had cash and equivalence of $7.4 million. We anticipated this in our guidance and remain confident that our cash position combined with continued sales growth will be sufficient to fund our operations and growth incentives throughout 2017. Turning to cash flow we used $2 million in cash to fund operations in the first quarter which is a 59% reduction from the nearly $5 million used in the first quarter of 2016. The improvement resulted primarily of course from higher Avenova sales. And lastly we are affirming our 2017 financial guidance as follows. We expect total sales for 2017 to reach $19 million which is 60% increase over 2016 with growth being driven by higher Avenova sales. We expect gross profit margins on Avenova sales to be in the high 80% range as in the first quarter. We expect a net loss for the year to equal $6.2 million, now this excludes the effect of noncash gain or loss on the change in fair market value of more liability. And we expect cash burn net of $3 million. As we did throughout 2016 we'll continue to invest in initiatives to drive revenue growth while appropriately managing our expenses and balance sheet. With that I will turn the call back over to Mark.

Thanks, Tom. As you can see we're highly optimistic about our company's prospects and opportunities to enhance shareholder value ultimately. We are definitely on a clear path for high margin growth with Avenova as we focus our sales activities towards the more profitable ophthalmology channel and benefit from favourable reimbursed pricing. Now our sales and marketing programs have proven successful in increasing sales and we are driving improvements in key metrics such as the universe of prescribing physicians, the number of prescriptions written by each physician and individual sales rep metrics. Now we're seeing the positive impact the market growth due to heavy consumer advertising and promotion being conducted in this category by two major companies whose dry eye products are complimentary to the use of Avenova. Importantly the U.S. market remains largely untapped with an estimated 30 million Americans who suffer from blepharitis and dry eye. Now again these are chronic conditions that many physicians have found they are best managed by regular twice daily use of Avenova. The market for Avenova created by our physicians usage also includes another 11 million Americans who each year undergo ophthalmic procedures such as LASIK or cataract surgeries as well as for contact lens wearers with tolerance issues. So we plan on capitalizing on this opportunity by investing as I said many times in our sales force. We increased our field sales force from 45 at the beginning of the year in the first quarter to currently 50 representatives and the reps are basically located in major markets across the U.S. but our current organization only addresses about 1/3rd of the market opportunity. As we move through the year we plan to look to invest in our sales staff while keeping a close eye on expenses and available cash and return on that investment. We are seeing a significant positive impact on products adoption from our recruitment of thought leaders and ophthalmology and optometry to serve as scientific advisors. We're certainly excited that some of the practitioners are taking the lead in learning others in the eye care community through public service announcements and advisory citing results from their studies and first hand success in treating their patients with Avenova. Giving you an example one of our scientific advisors Dr. Richard Lindstrom and his colleague Dr. Ahmed Fahmy recently issued a public service announcement in the Minneapolis St Paul area about the effectiveness of Avenova in managing ocular rosacea which affects about 6% of all Americans. They noted a pivotal study showing parasites that are called demodex mites that infest the skin around the eyes and eye lids and carry bacteria that can stimulate an immune response leaning to inflammatory reactions. They found that Avenova killed bacteria, neutralized the toxins produced by the bacteria making it a key component in a comprehensive treatment for demodex blepharitis. I'd like to point out that Dr. Lindstrom personally suffers from blepharitis and uses Avenova daily to manage his symptoms. He's also featured in some of our advertising. As another example public health advisory issued by the cataract in a Refraction Center of Ohio and the Eye Center of Columbus warned of the growing incidence of often serious eye conditions especially among aging baby boomers. Dr. Alice Epitropoulos, Co-founder of the Eye Center of Columbus noted that 10s of millions of Americans suffer from common eye conditions like dry eye disease and blepharitis and up to 30% of Americans over the age of 50 can no longer wear contact lenses because of the inflammation discomfort. Dr. Epitropoulos explained that Avenova could provide a simple and effective way to manage these conditions. What makes Avenova product a choice for these ophthalmologist is that it is the only eye hygiene products contains pure hypochlorous acid. This is a natural substance made by our body's own immune system as the first defense against invaders. Now lab testing shows that hypochlorous acid kills bacteria and also blocks inflammatory agents released by the bacteria and the body and breaks up bacterial enzyme that attacks the crucial tear protection oil. A recent peer reviewed published clinical study shows that when pure hypochlorous acid is applied to eyelids it rapidly reduces the bacteria that’s associated with dry eye blepharitis and other conditions. As Avenova again is made with pure hypochlorous acid it is actually soothing to the eye. Now we're grateful for these practitioners for issuing public service announcements and advisories and we understand the importance of clinical validation and increasing the market for Avenova. To this end a major priority for NovaBay this year is conducting further clinical studies that provide clinical support for prescribing Avenova for a wide array of uses. In closing, we're off to a strong start in 2017 we're executing well on our thoughtful improvement strategy to drive high margin growth. We intend to invest prudently in sales force expansion and clinical studies to support continued growth and we are well on our way to achieving our financial objectives for 2017 with first quarter revenues exceeding our full year guidance for growth in Avenova gross margin at 88%. We have a superior product in Avenova based on its formulation with the 100% pure hypochlorous acid and no bleach impurities and we continue to see evidence that customer, consumer satisfaction in patient and physician testimonials. We are confident that our financial resources are sufficient to support our operating activities and our growth strategy in this large market. We also continue to pursue opportunities to monetize our non-core assets to bring in additional capital while we focus on our core Avenova franchise and enhancing value for our shareholders. So with that overview of the business and our plans we're ready to take your questions. Operator? While we're waiting for the first question I would also like to mention that we will be participating in the LD Micro Invitational Conference in Los Angeles on June 6 and our presentation is scheduled for 2 P.M. A webcast of that presentation also will be available on our company website at NovaBay.com. Okay operator we're ready now for the first question.

[Operator Instructions]. Your first question comes from the line of Ed Woo of Ascendiant Capital.

I had a question about gross margins, it looks like you guys are reaching close to high 80s that you guys have guided for the full year. Do you think that’s a peak level or you think it can go even higher as you guys get even more sales?

Well I think Ed, I think it's a great question you know we said we'd be in the high 80 category. Yes I think we will continue to grow that as we're moving forward here. Obviously a lot depends on reimbursement and also the rebates and I think I was really gratified in that high gross profit as I mentioned in my comments because the rebate in the first quarter was really high and again that points back to the co-pays and the deductibles resetting and despite that high rebate number we still were able to throw off a nice gross profit margin. So I think that sets us up well for the remainder of the year.

Great. And then I know earlier this year you brought your sales force in-house. Have you seen significant increases in sales efficiencies since you've done that?

Yes we have. We track a lot of metrics and I kind of made general point of that going forward and you know I think each of our reps we had given a 100 top targets to and many of those new targets picked up and wrote scripts for the first time. As I mentioned I think in the opening comments again we added a number of new physicians to those prescribing Avenova. So I think with those efficiencies as I said I think three months ago you know the fact that we have a year's worth of data now behind us we can really help make our reps more efficient and again we're already seeing that in terms of the calls per day they're making as well as just seeing them individually pick up new scripts from these targets.

Importantly we're seeing the key metric that Mark mentioned before is the breakeven, time to breakeven for each rep We're certainly seeing improvement there as you would expect reps coming in-house, learning from more experienced reps and our ability to select reps when we do add them is more fine-tuned to pick the right people for each territory. So all that's coming together and improve our work even rates [ph].

And then if I could just ask one last more question you know what do you think is going to be really the big drop, sales growth near term? Is it going to be increasing the reach of the number of doctors prescribe or getting doctors that you have the 9000 to prescribe more?

Well that's a good question I think it's going to be a combination of both, the way we have this mapped out I already mentioned that we've given the top 100 targets to our people. We expect a certain call rate on those 100 targets, that being said you know obviously we have a lot of doctors already prescribing and each and every call that the rep is asking basically for more scripts to be written and the simple question is you know doctor if you're writing three scripts a week and you're seeing 50 people you know with these conditions why aren't you writing more. And you know it becomes that getting used to you know the change if you will in the practice and by us constantly calling on these 100 targets not only on the doctor but their staff as well we're seeing a bigger and bigger pick up in some cases, it's just a matter of you know either dropping off some samples or asking for the business. So to your point I think we're seeing both penetration and utilization going up as we sit here today.

Your next question comes from [indiscernible] of Laidlaw.

Can you talk more about your efforts in growing Avenova's awareness through post marketing trials?

Yes. We talked about it a little bit, it's a second piece of our investment going forward. I think on the last call it indicated that we currently have six studies that are in place and the issue for us is just when we're going to be able to complete those studies and then ultimately get them published. Again our first paper was just published weeks ago and that was based on a presentation last year at [indiscernible] and it's actually you know part of our package insert as well. So I think that will be an important piece especially Frank as we talked about these other uses that doctors have found for Avenova that make up about $11 million potential patients. Again we want to build an armamentarium of clinical studies to back up that usage and to your point that's really, really important as we get into more and more pragmatists docs who are looking for clinical evidence of the effectiveness in those categories.

And then couple more questions here if I can. I think you mentioned the percent of sales that are coming from prescriptions now is it 77% and if so is that should that rate keep going up and how fast would you expect it to go?

Yes well I think it will continue to go up, again we don't call on the optometry channel at this point. We do service them with in-house group and despite that we've seen some continued growth in that channel but the real bread and butter for us is certainly in the ophthalmologists. So I would see that category growing towards into the 80s and towards 90% towards the end of the year.

And then in terms of non-core assets, are you guys getting any interest in terms of potentially partnering that to get a little cash in or?

Yes, we have. I think there's a number of requests if you will on the table. They seem to be picking up it and maybe it's not a coincidence as we're getting more [indiscernible] out in the field with Avenova and I think people are coming to understanding how hypochlorous acid works generally speaking so those assets are starting to really attract some interest.

And one last one here, obviously the dry field -- the market is actually getting bigger than people even thought because of those two plays you kind of mentioned and -- but I was just wondering are you guys still focused on blepharitis? Are you trying to -- obviously it's more of a complementary play on the dry eye and not competitive play but is blepharitis the main target for you guys right now?

Yes, that's a great question. In blepharitis at the end of the day it is 24% or 24 million of the 41 that really falls in that target audience and remember I said 11 million was created by doctors other uses. So every so often you know we have to get the message out that our main focus is on blepharitis because as you know the products that are currently out there really treat the symptom of blepharitis which ultimately turns into dry eye but they don’t really get at the cause and obviously with us getting at the cause and effect relative to the bacteria that grows in the meibomian glands that's where we see the real market to be and again I think when you look at dry eye in particular there are many more potential causes to dry eye. Again I believe in most of those cases we get at the causal effect of it but I think again being focused in blepharitis where the current regimen of treatment is you know baby shampoo, hot compresses and ultimately getting to antibiotics and steroids and again that whole antibiotic resistance issue because again blepharitis is a chronic disease. I think we can speak well to the impact that we're having there and really there really is I would say any competition in that specific area so that's where our core is going to remain on that bigger market of blepharitis.

Your next question comes from Yi Chen from Rodman.

This is [indiscernible] on behalf of Yi. Thanks for taking my question. Do you plan to continue to increase sales and marketing expenses in order to further grow your customer base in the subsequent quarters?

Yes well that is as I laid it out there for people I said we're going to continue to do that when we see that we can get the appropriate ROI. So that continues to be based on the payback that we see on our reps that are currently in the field and again we just want to make sure that the resources that we have we conserve wisely in the more specifically our cash resource. And you know as we see that pay back increasing now give us the ability to add more people and I'd like to be on the next call and tell you that that we have but once again we want to make sure the financial parameters that we laid out for you guys are met and that the ROI is consistent with those financial parameters before we make those investments.

[Operator Instructions]. And we currently have no questions in queue at this time.

Okay. Well thanks again for joining us today and for your interest in NovaBay. We're certainly excited about our progress and the opportunity that we have here with Avenova and we look forward to updating you during the next quarterly call to discuss our second quarter financial results. So each and every one of you have a good day and a great week. Thank you very much.

Thank you.

Ladies and gentlemen this does conclude today's conference call. You may now disconnect.