Mark Sieczkarek - President, Chief Executive Officer Jack McGovern - Chief Financial Officer Jody Cain - IR, LHA

Frank Brisbois - Laidlaw James Tannahill - H.C. Wainwright David Solomon - Roth Capital

Welcome to the NovaBay Q3 2017 Conference Call. At this time all participants are in a listen-only mode. Following management's prepared remark we'll hold a Q&A session. [Operator Instructions]. As a reminder, this call is being recorded today November 14, 2017. I would now like to turn the conference over to Ms Jody Cain. Ma’am, please go ahead.

This is Jody Cain with LHA. Thank you all for participating in today's call. Joining me from NovaBay Pharmaceuticals are Mark Sieczkarek, President & CEO and Jack McGovern, the Company's CFO. I’d 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 time sensitive information that is only accurate as of the date of the live broadcast November 14, 2017. NovaBay Pharmaceutical undertakes no obligation to revise or update any statements to reflect events or circumstances, except as required by law. Now I'd like to turn the call over to Mark Sieczkarek. Mark.

Thank you Jody and good afternoon to everyone and thanks for joining us. To began, I’m very pleased to announce that we entered into an agreement for a $10.3 million financing with new investors on terms that were favorable to the market for NovaBay. Now these investors are focused on the long term potential of Avenova and NovaBay and this financing positions us for continued growth in market share gains. Importantly as well, when this financing is completed we will meet all exchange guidelines. Now we are pleased to be reporting another quarter of double digit prescription sales growth both quarter-to-quarter and year-over-year as we continue to execute on our strategy to grow Avenova sales to the retail pharmacy channel. Sales from this channel increased 67% over prior year and represented more than 90% of total Avenova sales. Now this is up from 68% of total Avenova sales a year ago. Gross margin on Avenova sales for the third quarter reached a new record of 92%, which is above our 2017 guidance range. In reviewing our Avenova retail pharmacy sales in Q3, as anticipated we benefited from a higher net price per unit versus the first half of the year. You may recall that we experienced a drag earlier this year from higher deductable HSA plans and co-pays that drove higher rebates. As the year progressed, more deductibles were satisfied. Although our total unit sales through the retail pharmacy channel for this quarter reached a new record high, this positive impact was diminished somewhat by the loss of business in the direct prescriber channel and seasonality during the summer months and some startup IT issues with our specialty pharmacy group MedVantx. Now I’m going to talk more about our commercial activities with Avenova in a moment, but first I’d like to turn the call over to Jack McGovern to review the quarterly results. Jack.

Thank you, Mark. Good afternoon everyone. I’d like to begin my comments with our third quarter results. Total net sales for the third quarter of 2017 were $4.1 million, a 19% increase over the third quarter of 2016. Avenova sales were up 25% year-over-year to $3.9 million on record unit volume through our higher margin retail pharmacy channel. As Mark has mentioned, Avenova sales in the retail pharmacy channel have increased 67% over the prior year to $3.5 million and comprised 90% of total Avenova sales. As stated on past calls, our focus has been on sales to the retail pharmacy channel rather than through our legacy direct prescriber channel. Sales from this legacy channel for the third quarter 2017 declined 63% from the prior year period. During the 2017 third quarter we added more than more 730 new Avenova prescribers. This brings the total number of eye care specialist who have prescribed Avenova to more than a 11,300, which is up 47% year-over-year and up over 7% from the second quarter of 2017. Gross profit margin on total sales was 87% for the quarter versus 84% for the prior year period. Gross profit margins on Avenova sales for the quarter reached a record 92%, up from 88% in the prior year period. The operating loss for the third quarter of 2017 was $2.2 million, up slightly over the $2.1 million for the third quarter 2016. In reviewing expenses by line item, sales and marketing expenses for the third quarter of 2017 were $3.3 million, up from $2.7 million for the prior period, due mainly to increases in the number of sales reps, sampling and marketing programs. G&A expense for the third quarters of both 2017 and 2016 were unchanged at $2.3 million. R&D expenses increased slightly to $132,000 for Q3, 2017. We reported a non-cash loss of the fair value of warrant liability for the third quarter of 2017 of $281,000. This compares with the non-cash loss of $1.7 million in the prior period. The net loss for the third quarter of 2017 was $2.4 million or $0.16 per share. This compares with the next loss for the third quarter of 2016 of $3.7 million or $0.34 per share. Turning now to our year-to-date results. Net sales for the nine months ended September 30, 2017 were $11.9 million, up 52% from the $7.8 million for the nine months ended September 30, 2016. Gross profit margins on the total net sales was 85% for the first nine months of 2017, up from 79% in the prior year period. Gross profit margin on Avenova sales improved to 90% for the first nine of 2017, which is above our guidance for the year and compares with 85% for the first nine months of 2016. The operating loss for the first nine months of 2017 was $7.7 million, which is a 14% improvement over the operating loss of $9 million for the prior year period. Operating expenses for the first nine months of 2017 included sales and marketing expenses of $10.4 million, G&A expenses of $7.1 million and R&D expenses of $264,000. Non-cash loss on the change of fair value of warrant liability for the first nine months of 2017 was $501,000 compared with a non-cash loss of $2.5 million for the first nine months of 2016. The net loss for the nine months ended September 30, 2017 was $8.2 million or $0.54 per share as compared with the net loss for the nine months ended September 30, 2016 of $11.5 million or $1.54 per share. Turning to cash flow, we used $3.3 million to fund operations in the first nine months of 2017, which represents a 71% improvement from the $11.4 million used for the prior year period. This improvement resulted primarily from higher Avenova sales and increased accounts receivable collections. As we look at our balance sheet, we had cash and cash equivalents of $6.1 million as of September 30, 2017, compared with $9.5 million as of December 31, 2016. As mentioned earlier, we have entered into a $10.3 million financing agreement that will close in the first quarter of 2018. That financing of course is not yet included in those cash numbers. And lastly, we are revising our 2017 financial guidance as follows: We are adjusting our outlook for total sales and now expect them to be between $17.5 million and $18.5 million. This compares with our prior guidance of $19 million. Our new guidance represents an increase of 47% to 55% over 2016 with growth driven by higher Avenova sales. As Mark discussed, we benefited from higher net sales per unit for the third quarter compared with the first half of the year. We expect higher per unit sales to continue through the end of 2017. However, the higher per unit sales are not expected to be sufficient to offset the higher rebates we incurred in the first half of the year. We are firming our guidance for 2017 for gross profit margin in Avenova sales to be in high 80% range. We plan to continue carefully managing expenses and reducing cash burn while investing in sales and marking initiatives to support the Avenova brand. And with that, I’ll turn the call back over to Mark.

Well, thanks Jack. It’s been a highly productive two year since we restructured NovaBay to focus on Avenova commercialization. With Avenova we are attacking the underlying cause of blepharitis and dry eye and not simply the symptoms. Gaining market adoption for a paradigm shift such as this can and has been a significant challenge. I’m proud to report on our success in capturing the attention of eye care specialists across the U.S. and we now have an established base of more than 11,300 prescribers. We initially focused the commercial launch of Avenova on the direct prescriber channel in which the eye care specialist sold Avenova directly to the patient, and now is the call point for our sales representatives. We then changed our strategy to concentrate on the higher margin retail pharmacy channel. This strategy allows us to take advantage of insurance reimbursement, which will provide for the higher per unit pricing to support both revenue growth and expanded gross margin. We anticipated converting prescriber under a direct sales model to our higher margin retail pharmacy model; however, we are finding that many of them are reluctant to make that move. In fact, to-date only 11% have covered. Now as a result, our sales organization start from almost the ground up in developing a base of eye care specialists writing prescriptions that would be filled through retail pharmacies. While this presented a hurdle, our sales organization is successfully developing the newer prescriber base. Early this year we announced a modest expansion of our sales origination and we have seen substantial growth as a result. I do want to reiterate that we have room for significant growth as we geographically cover only a portion of the market and we have barely scratched the U.S. market in total. An estimated 30 million Americans suffer from the chronic eye conditions, blepharitis and dry eye and many eye care specialists are finding these conditions are best managed by regular two daily use of Avenova. Eye care specialists are also using Avenova for patients undergoing ophthalmic procedures such as LASIK, retinal and cataract surgeries, as well as for patients with contact lens tolerance issues, which represent another 11 million Americans. Given our progress in establishing a prescriber base and assembling a high performing sales team, we are now directing our focus to improving net sales per unit. Data we have been collecting about our market guides us to zero-in on our opportunities and where we need to strengthen our organization. Now as a for instance, we now have a much clear understanding of our reimbursement picture. We are integrating this information into our growth strategy by more precisely targeting our sales and marketing resources, and a select number of prescribers in the higher reimbursement regions. Additionally, based on this data we are now in the planning stage to address reimbursement on a granular level by calling on the managed care and private healthcare market to obtain new or additional coverage. We also intent to primarily focus on increasing the penetration from our current physician base rather than further building on that base. Our analysis show that when an eye care specialist understands the benefit of Avenova for their patients and their patients are covered by insurance, they tend to embrace the product. This targeting strategy is aimed at cost effectively optimizing the number of units per prescriber and at higher rates of reimbursement. We continue to benefit from the awareness created by heavy consumer advertising and promotion of dry eye products. We are also sharpening our message on Avenova ability to reduce the bacteria that can be the underlying cause of dry eye, which makes Avenova use complementary with these other products. At NovaBay we remain firmly focused on growing Avenova sales. We are analyzing data collected over now, the past several years to optimize both our sales and marketing resources. We plan to continue managing expenses and reducing cash burn. We have strengthened our balance sheet to support our operating activities and our growth strategy in this large market. We also continue to pursue opportunities to monetize non-core assets to bring in additional capital while we focus on our core Avenova franchise. Our goal is to create value for our shareholders. So in summary, over the last two years we have number one, reset the strategy; we have minimized cash burn; we have done away now with the finical overhang; we’ve cleaned up the balance sheet; we’ve growth the organic sales force propelling Avenova growth and we increased the market cap by nearly 10 fold. This is only the beginning of a bright future not only for our employees and our shareholders, but also for the millions of patients who have suffered from the quality of life issues due to chronic blepharitis and dry eye. On behalf of our great employees who have made this happen, we look forward to sharing continued stores of growth and success for many years to come. With that overview of our business and our plans, I thank you for your attention and operator; we are ready to take questions.

[Operator Instructions].

While we are waiting for the first question, I’d like to mention that we will be holding meetings in San Francisco from January 8 through the 10 during the Annual J.P. Morgan Healthcare Conference. Our meetings will be across the street from the conference hotel and if you are interested, please give LHA a call and schedule some time with us. Operator, I’m ready for your first question.

Our first question is from the line of Frank Brisbois with Laidlaw. Please go ahead with your question.

Hey guys, thanks for the question. It’s Frank [inaudible]. Just first question here. So just in terms of MedVantx, can you give us a little update on; is there an issue here with translation for the Symphony data or how is that going?

Yeah Frank, I think I’ll let the rest of the group know when you are talking, but the Symphony data, that you know is public data. It does not contain the MedVantx data, which is the separate rollup. And at this point in time, the way it is captured, I do not see in the short term that the MedVantx data will be rolled-up into Symphony. So we’ll have to talk about that separately. I’m just going to ask Jack maybe to give you an idea of how many units went through MedVantx. Jack you have that data handy?

Yeah, roughly Frank, in the third quarter we put through approximately 35,000 units through the MedVantx channel in addition to Symphony data that you’ve probably seen.

Okay, great, that’s very useful. And then in terms of the rebate impact, it was a little bit higher than expected. Is that something that should be happening going forward or is that kind on a one-time thing or what do guys think of that?

No, I think – Frank, I think the way the issue rolls is in the first half of the year people have to eat-up their deductibles and their co-pays, which again on a macro basis have been going up as more people are switching to HSAs, and we saw that in the first half of the year. In the second half, and this is what you are referring to in the third quarter, our net pricing goes up as basically we are buying down through our couponing program, less is the prescription. So that you know as we saw last year continued to go up during the third and fourth quarter and we’d anticipate that you continue to see that type of behavior going forward. Again, the missing link in that is how much more growth you see out of the expansion of HSAs and therefore the expansion of deductibles and co-pays for the covered people out there and we are just going to have to do a better job of trying to forecast that as we move forward. But the second half of the year is always a good part of the year for us because those co-pays and deductibles are eaten up.

Okay, great, and then just lastly here in terms of seasonality, obviously its summer months, is seasonality something that you would expect just third quarter obviously there is summer months, but then fourth quarter going into the holiday season, is that something that should be expected this quarter?

No, the fourth quarter if you take a look at it, you know our historical, our fourth quarter has been our best and it goes back to your prior question about reimbursement. You know again if people don’t have to pay a large co-pay or you know their deductibles eaten up, then they are getting Avenova for a very good cost and so we’ve seen demand spike and it’s not only for us. We track people in our industry specifically and to that point we looked at their third quarter data and graphed it and it mimicked our third quarter seasonality. You know so again it’s a good data point for us to take a look at the industry and seeing what they are going through. Like I said, we are not unique in seasonality, but your question about seasonality in the fourth quarter despite the holidays, for prescription products it’s usually a great quarter.

Right, okay, very helpful. That’s it from me. Thank you.

Our next question is from the line of James Tannahill with H.C. Wainwright. Please go ahead with your question.

Hi guys, thank you for taking my question. I’m on the phone today for Yi Chen. I have four questions. My first one, is the new long term investor going to have any influence on the company’s overall direction and strategy, and I’m referring to the new credit placement that you guys announced.

Yeah. Well look, as I said in my opening remarks, we are happy to have them onboard, because they are very long term focused and so I see them in our stock for a long time. Again, I can’t predict exactly what they are going to do, but I think from that perspective as well, they see this is a nice play in terms of an up and coming ophthalmology company and they are willing to invest in our future. So as we see opportunities to again marry Avenova with potentially other products in our bag that complement Avenova, I’m sure we’ll be talking to them on that basis going forward. So we are really pleased with their longer term attitude and their track record. They have a great track record. They are a publicly traded company. In China I believe their market cap is in the billions of dollars. So we’re pleased that they’ve come aboard, certainly as shareholders and partners.

Great. Thank you. Do you expect the revenues from doctor’s buy-and-build channels to diminish going forward?

Yeah, well that’s a great question. I think as you saw this quarter and again as I said in my opening remarks, our percentage of business was 90% in that retail pharmacy channel. So we certainly made the switch and it appears that that business you know is continuing to move in the, I’ll call it somewhat the wrong direction, but again our strategy was to convert that also to the retail pharmacy channel. So I guess that we continue to see that diminish somewhat, at least on the current track that we’re on and we’ll leave it at that.

Alright, thank you. How much more does a company need to spend on sales and marketing to keep Avenova’s revenue growing at roughly a 50% rate in 2018 and beyond?

You know I’ll go back to what I said in the remarks and that is, look at this point in time we’re very focused on identifying where we’re reimbursed and those are the areas for instance that we’re going to put a major emphasis on our sales effort, and that includes adding to our sales force. So we’re in the process of assessing that data as we speak. So that as we get started in 2018 and beyond, again we’ve always said that our investments probably in the order of importance are going to be the sales force expansion, our clinical paperwork, and what?

And managed care.

Oh yes! And managed care. Thanks Jack.

Alright, thank you. And finally, do you expect the over the counter hypochlorous acid products to erode any of Avenova’s sales?

Well look, you know I always say, I think the difference between us and those other products is we’re very different and even though you know can use the term hypochlorous acid, the fact that we’re pure hypochlorous acid and that’s where our patent lies and there’s a very big difference between their products and their products do contain other ingredients, preservatives and really bleach, which is a byproduct of their manufacturing process and you know you can use Avenova certainly medically over the long term. It’s not so clear that you can use hypochlorous with the additives that they have in there, including bleach in the eye for the longer term. So they’ll will always be there as you walk into your eye care and to your retail pharmacy and look at the eye care shelf, there are plenty of products for dry eye as well and again, the reason for prescription products and non-prescription are that obviously we have to get to a higher bar and you know that’s what we’re going to continue to market our product on.

Great. Thank you so much for taking my questions. I am going to hop back in the queue.

Alright, thanks James.

[Operator Instructions] Our next question is from the line of Scott Henry with Roth Capital. Please go ahead with your question.

Hi, thanks for taking my question. This is David Solomon for Scott Henry. I’m curious when you expect to see an inflection point in your prescription data for Avenova? Thank you.

Well, that’s a great question. If I knew the answer I’d be happy to share it with you. I think you know it kind of goes back to again some of my remarks. You know we’re changing the paradigm in terms of eye care. I mentioned on previous calls that you know current therapy are for the most part and has been in doctors training for probably 30 to 50 years. You know for people who present with dry eye and other eye issues, it’s typically you know wash your eyes at night with baby shampoo and use hot compresses. That remains the initial therapy, so we have to change that paradigm. And I think to further you know answer your question, when I say that we’re now going after utilization by physicians, if you look at our data as we do internally, we’ll have physicians that you know write prescriptions for Avenova, some to the tune of 50 a month and we have many, many, many others who are writing one per month. When questioned you know these doctors who are writing one per month are very high in Avenova, but what they are doing currently is really saving their product sometimes for their most severe cases of blepharitis and you know again, we have to continue in our marketing message that you know Avenova is for anything from you know mild, moderate to sever blepharitis and that’s where I think you’re going to see the inflection. You know at that point in time when people get over the point of just using it for their more severe cases and use it on a day-to-day normal basis. We had meetings this last week at AAO in New Orleans with our KOLs and you know we asked that exact question and the answer I gave you is what they answered and they too understand that you know, that current mode of operation is really outdated, that again being baby shampoo and hot compresses, and that Avenova is ultimately the answer for all those first line patients. So you know it’s going to take us a bit to get that and get that message across. Again paradigm shifts you know don’t happen in two or three years. You know they happen over a period of time, but I think what we can say is you know we guarantee that you know with continued investment in our sales force and continued investment in seeing the reimbursement rates move higher and higher that we’re going to be able to show you certainly years and years of good solid growth out of the Avenova product line.

That’s very helpful, thank you. Just a quick follow-up; regarding the data that’s not captured by Symphony, is it growing at a similar rate to the data that’s captured by Symphony regarding prescriptions.

I’d say at this point it is actually growing – it’s growing faster, but again we only have one quarter of evidence at this point in time.

That’s very helpful. Thank you very much.

And we do have a follow-up question from the line of Frank.

Hi, yeah so thanks for the follow-up. I was just wondering, you guys mentioned a little bit of a ramp up in sales. You guys being more granular, is there a number of reps that you’re adding on and you know what’s the thought there?

Yeah, in terms of that Frank, you know I’ll go back to what I said. We’re assessing the data and you know where we have good reimbursement, if it fits us that we should have more than one rep for instance in a city, we’ll do that and if there is good reimbursement data where we don’t have good coverage, we’re going to move that forward. At this point in time thought I can’t, because I don’t have a number, but I have mentioned on previous calls that ultimately I think the sales force and the ultimate size in the U.S. is somewhere between 120 and 150 people. So that’s the number that you know ultimately we need to aim for to cover the whole U.S., but it’s going to be very dependent on first gaining the reimbursement rather than putting people in areas where we are not reimbursed.

Okay, great. And then the push back from you know for the physicians that are only using this in severe cases, is it literally that they just don’t know the ones that are only prescribing once a month. Is it just an awareness thing or…

It is an awareness thing. I mean we talked to physicians and our sales people have you know given us anecdotal stories of talking to physicians who say that in many cases they don’t necessarily even treat that mild cases of dry eye in their office and now all of a sudden you know there is a good answer for it and that’s good eye hygiene and certainly that’s what we present. So it’s again a change of habit. I call it paradigm shift and I always you know laugh about paradigm shifts. Your too young Frank to realize this, but you know when cell phones first came out it took them about 10 years to grab on and now of course everybody owns about you know three of them each. So it’s one of those issues where it’s the same thing with electric cars. You know you start off slow even though technology is advanced and ultimately between demand, consumer preference, things move in the right direction and I think you could put Avenova in that same boat.

Okay, great. And just lastly on the dry eye usage, is there a complementary way? Did you guys break down how many docs kind of use it for dry eye as well or is that growing or do people need to see clinical data; how does that look?

Well look we’ve always talked about from a competitive standpoint and we don’t look at ourselves as competitive to necessarily dry eye therapy. I always talk about cause and symptom and our highest prescribing docs are the ones who actually use it in unison with Xiidra or Restasis, you know which is specifically for dry eye care. So that certainly doesn’t bother me in terms of again it being complementary too. Again if we’re working on the cause and they are working on a symptom in unison, that’s not a bad deal for either company or the consumer.

Okay, but I just mean, is it only your very highest prescribers that are kind of using it that way or is that growing or are you guys breaking that down or…

Yeah, we are breaking that down and yes, it is a characteristic of our high prescribers.

Okay, great. That’s it for me. Thanks.

Alright.

And we have no further questions at this time. Sir, I would like to hand the call back over to you for any closing remarks.

Yeah, well I guess thank you once again for joining us today. An exciting day you know here at NovaBay, certainly with the financing and being able to move forward and do the things that we want to do to drive Avenova and its growth. So we’re certainly excited about our progress to-date and that opportunity that I just laid out and we look forward to updating you during our next call to discuss the fourth quarter financial results. So have a good day. Thank you.

Ladies and gentlemen, that does conclude your conference for today. We thank you for your participation and ask that you please disconnect your lines.