Jody Cain - Investor Relations, LHA John McGovern - Interim CEO and Chief Financial Officer Jason Raleigh - Corporate Controller

Frank Brisbois - Laidlaw Yi Chen - H.C. Wainwright Ed Woo - Ascendiant Capital

Welcome to the NovaBay Pharmaceuticals’ Third Quarter 2018 Conference Call. At this time all participants are in a listen-only mode. Following management's prepared remarks, we will hold a Q&A session. [Operator Instructions] As a reminder, this conference is being recorded at November 14, 2018. I would now like to turn the conference over to Jody Cain. Please go ahead Ma’am.

This is Jody Cain with LHA. Thank you for participating in today's call. Joining me from NovaBay Pharmaceuticals are Jack McGovern, Interim CEO and CFO and the Jason Raleigh, Corporate Controller. 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 accurate only as of the date of the live broadcast, November 14, 2018. NovaBay Pharmaceutical undertakes no obligation to revise or update any statements to reflect events or circumstances, except those required by law. Now I'd like to turn the call over to Jack McGovern. Jack?

Thank you, Jody. Good afternoon everyone and thank you for joining us. It's a pleasure to be addressing you for the first time in my dual role as Interim CEO and CFO. We announce leadership changes in September which were implemented to help us better utilize our resources in achieving our corporate objectives. In addition to his role as Chairman, Mark Sieczkarek has now has more time to focus on broadening our product offering by identifying commercial and late-stage ophthalmic products to leverage our sales infrastructure. I’m pleased to report that he continues to be actively engaged with the leadership team to drive NovaBay’s future success. In my new role I’m much more focused on driving organic growth through managing our sales organization and other initiatives on a daily basis. I’m supported by a strong team within NovaBay and we are closely monitoring the key metrics that are critical to driving business success which gives me the intelligence and resources to oversee our commercial operations. With these changes now implemented I want to reiterate our continued expectation of returning to double-digit growth in both net sales and unit volume in 2019. In reviewing our third quarter results, Avenova revenues and unit volume grew on a sequential quarter basis as anticipated. Some of this improvement was due to modest per-unit gains in net product revenue compared with the second quarter as more patients satisfied their 2018 health plan deductibles. Importantly, we benefited from the improved performance from our sales organization with all 45 of our sales reps now deployed in territories we've identified as having relatively strong reimbursement profiles. I am pleased to report that we’ve also begun to see initial contributions from the seven reps we brought on board midyear. You may recall that these new hires all had significant experience in the eye care space which has help them become productive within a short timeframe. We plan to add another three to five reps with similar experience by the end of 2018 and to increase our sales force to 55 reps by the end of Q1, 2019. We’ve already targeted the territories where we plan to deploy these new hires. Additionally we’ve engaged several excellent recruiting firms to help us identify professionals to fill these new positions in an expedited fashion. I would now like to introduce NovaBay’s Controller, Jason Raleigh with the expansion of my role I’ve ask Jason to review our financial results. Jason.

Thank you, Jack. Good afternoon everyone. Starting with our Q3 topline, net sales for the third quarter of 2018 were $3.1 million compared with $4.1 million in the prior year period, with the decrease primarily due to lower selling price of Avenova. In reviewing Q3, 2018 sales by channel, Avenova sales in the retail pharmacy channel were $2.8 million or 89% of the total. Sales through our in-office direct sales channel were $348,000. Gross margin on net product revenue for the third quarter of 2018 were 89% and increase from 87% in the year ago period, with the improvement due to product mix. In reviewing Q3 expenses by line item, sales and marketing expenses were $3.2 million, down 2% from $3.3 million for the prior year period. The decrease was due mainly to a reduction in number of sales representatives partly offset by an increase in product sampling. G&A expense for Q3, 2018 were $1.3 million, down from $2.3 million for the prior year period. The 42% decline was due primarily to lower stock-based compensation expense along with lower professional services and consulting fees. R&D expense for Q3, 2018 decreased to $45,000 compared with $132,000 in the year ago quarter. The operating loss for the third quarter 2018 was $1.8 million which compares favorably with an operating loss of $2.2 million for the third quarter of 2017. The non-cash gain on the fair value of warrant liability for Q3, 2018 was $267,000, which compares with the non-cash loss of $281,000 per Q3 2017. We’ve reported a net loss for the 2018 third quarter of $1.5 million or $0.09 per share. This compares with a net loss for the 2017 third quarter of $2.4 million or $0.16 per share. Turning to our year to-date results; net sales for the nine months ended September 30, 2018 were $8.9 million compared with $11.9 million for the nine months ended September 30, 2017. Gross margins on net product revenue were 88% for the first nine months of 2018, up from 85% for the first nine months of 2017. The net operating loss for the first nine months of 2018 was $6.3 million, which is a 19% improvement from the $7.7 million operating loss for the comparable period in 2017. Operating expense for the first nine months of 2018 include sales and marketing expense of $9.6 million, G&A expense of $4.3 million and R&D expense of $152,000. Non-cash gain on the fair value of warrant liability for the first nine months of 2018 was $971,000 versus a non-cash loss in the first nine months of 2017 of $501,000. The net loss for the nine months ended September 30, 2018 was $5.3 million or $0.31 per share compared with a net loss for the nine months 2017 of $8.2 million or $0.54 per share. In reviewing our balance sheet we had cash and cash equivalents of $5.2 million as of September 30, 2018. With that, I’ll turn the call back to Jack.

Thanks, Jason. Given the reimbursement environment that we’ve discussed some past calls, improving net revenue for Avenova which is our top priority, to that end we are engaging specialty pharma providers as new channel partners. This new channel allows for improved patient experiences with relatively quick time lapses between initial scriptwriting and filling that script, fast refills and home delivery while providing NovaBay with a negotiated price per prescription. Today, we've engaged to specialty pharma providers to this new channel which includes Meds In Motion Pharmacy headquartered in Salt Lake City and iLogic Specialty Pharma headquartered in the Indianapolis area. These providers are licensed in 42 and 47 states respectively. We expect to add at least one more provider to this new channel by the end of 2018 and we’ll be engaging in more over time. As a parallel initiative we remain dedicated to improving managed care coverage for Avenova as another tactic to increase our revenue per unit. Additionally, we have completed a comprehensive review of our in office direct sales model in which eye care specialist resell Avenova to their patients. You may recall that we commercially launched Avenova through this channel prior to introducing the higher-margin retail pharmacy channel. While our strategy was to transition practices in the in-office direct model to the Rx channel we have found some eye care specialists selling Avenova directly to their patients have been reluctant to change, rather than abandon this channel we have now have an in-house sales team to conduct an incoming and outbound calling strategy strictly dedicated to these prescribers. NovaBay continues to embrace the tremendous opportunity in promoting Avenova as a proven product that addresses the large underserved conditions of blepharitis and bacterial dry eye which represents about 85% of the dry eye market. Our challenge is to educate ophthalmologists and optometrist who have adopted a standard of care that’s inconsistent with the bacterial nature of most dry eye patients. We believe that Avenova to be the best non-antibiotic commercial product available to treat the underlying cause of blepharitis and evaporative dry eye. Unlike traditional antibiotics Avenova is safe for chronic use because it does not give rise to bacterial resistance. We have an established base of 12,000 prescribers nationwide and we project that more than 100,000 prescriptions be written for Avenova in 2018. With that said, we’ve only begun to address the sizable and largely untapped market that is comprised of millions of Americans who suffer from blepharitis and dry eye and who undergo ophthalmic procedures such as LASIK retinal and cataract surgeries or experience contact lens intolerance issues. So in summary, we’ve expanded and upgraded our sales force and plan to add more reps in the coming quarters. We are better prepared to face the reset health plan that occurs each January by engaging new channel partners to support higher per unit revenue while improving the patient experience. We have a new internal initiative to refocus on the in-office direct channel to better capitalize on this opportunity and we're looking for products that can help leverage our sales force asset. We expect net sales in the fourth quarter to be higher than the third quarter as our new sales rep gain tenure, more patients satisfy their annual health plan deductibles and we benefit from the new channel partners. With this successful execution on these initiatives we expect growth in the Avenova net set net sales through higher unit volume and improved net product revenue per unit. All of this supports our goal of returning to double-digit growth in 2019 with strong and sustainable growth for the future. With that overview of our business and our plans I’d like to thank you for your attention. Operator, we’re now ready to take questions.

[Operator Instructions].

While we’re waiting for the first question, I would like to introduce and welcome Pat Damberg as our new Direct of Sales reporting directly to me. This promotion recognizes the contributions Pat is made to NovaBay during his tenure as both a Sales Rep and recently as a Key Account Manager. Pat completed his bachelor degree in behavioral and social sciences from the University of Maryland and continues doing graduate study in developmental psychology at University Notre Dame. Pat has over 30 years of experience in sales and marketing which includes 18 years in a variety of management roles. He brings a wealth of experience to our sales department and we're excited about his new role. Pat has focused on a number of strategic sales and marketing initiatives which include improved core messaging, sales force training and development and overall efficiency and productivity. When you have the opportunity I’d like you to join me in congratulating Pat on this new role with the company. Also we will be holding one-on-one meetings with investors and analysts during the JPMorgan Healthcare conference in San Francisco in January. The 2019 dates are January 7 through 10 and please contact LHA if you'd like to schedule a meeting. With that, operator, we’re ready for the first question.

Our first question comes from Frank Brisbois with Laidlaw.

Hi, guys. Thanks for taking the questions. Just a couple of here. So, you mentioned this and I missed it. But the number of sales reps is obviously brought down in 2018, but you mentioned – can you just repeat how many you just hired and is it 55 that you expecting as of the start of 2019?

Sure. Just to start beginning there, Frank, and good to hear from you again. We had 19 – I’m sorry, 49 reps at the end of 2017. We let 10 of those folks go probably the first week of January. So we're down to a net sales force of 39. We brought back seven of those 10 that we let go, I think in --- I’ll call mid July 15th if you will. So we’re currently at a sales force of 45 and we’ll have another five that we’ll bring in by year end and five more by the end of Q1 of 2019.

Okay. Okay, excellent. Okay. And then in terms of the – can you explain a little more, still more color, granularity in terms of the -- how the special pharmacies could provide help here for the per unit revenue growth?

Sure. So, I’ll explain it in a couple of ways. One is our goal with all of our relationships if you will, is one is kind of enhance the patient's experience. So they get the prescription about Avenova with at least friction as possible. So I would tell you that the primary driver is really enhancing the patient experience which turns around to enhance the doctor experience as well. But answer your question financially, the use of specialty pharma allows us to pre-contract with those folks, so that in patients that have insurance covered will pay $35 and all the patients who have insurance an uncovered or have no insurance at all patient experience will be $60. So, in that fashion we lock in economics for NovaBay and effectively reduce where we’re rebating down to zero or negative numbers. So the economics are just predetermined in those specialty pharma arrangements where we know the economics going in as opposed to not knowing what the amounts of the rebate card in the traditional I’ll call retail channel.

Okay, great. That's helpful. And then in terms of the impact if that had you guys break down since you brought in those two specialty pharmas that you’ve already brought in. You think you’re going to have one more. Do you breakdown the impact on revenue per unit every time or is that something that you guys don’t give color on?

I can certainly give you the generalities there. So our gross to net, I think year to-date was somewhere in the 106, 110 range using the traditional channels and on a pro forma basis using the 2.5 months of beta that we use with the two specialty pharmas. That 106 year to-date would have been 126 year to-date, so there’s a $20 per unit improvement by using these new outlets. So obviously that’s going to change with the mix of either insured coverage or insured not covered as we get into year end, but we know that with these contracted rates we’re going to experience a significant improvement over the first three quarters of the year with these new partners.

Okay, great. And then, in terms of you mention M&A and Mark will have a little more time to focus on that. What is it that the sweet spot for you guys. What you guys looking for? Is it something that's commercial to help out with your commercial team or is there any kind of pipeline, R&D side to it or what the sweet spot when you guys looking?

I think the big focus will be – basically I’ll call it, leveraging our sales force. So if you look at the -- their community of doctors that were calling on both front of eye, back of eye. We’re in discussions now and drawing various stages of complimentary of people who have a product that is a late-stage Phase 3 where they would prefer to leverage off an existing sales force as opposed to bring one on themselves. So the most obvious case for us it is just that is where there's another product in the marketplace that we could add to ourselves and basically avoid the other company having to build a salesforce [Indiscernible] which is reasonably expensive and takes a fair amount of time. So we think that’s the most obvious case and there's probably a handful of opportunities that marks in discussions are now in that regard.

Okay. And then just last one if I can –sorry, couple of questions, but last one I just – you guys obviously – can you talk about more of a seasonality and the deductibles on how last year the fourth quarter was quite a good jump from the third, but then obviously with that reimbursement issues there is a big drop off in the first quarter of 2018. And just, when we’re looking at the fourth quarter to just to end the year here, is it something that is related to deductibles and then we got to worry about the first quarter next year or how should we think of that?

Your characterization is actually spot on. So as people spend the first two quarters of the year trying to pay to their deductibles, there's a falloff either a falloff and rate or increase in our rebating, so we have to basically contribute more for them in those example. So the first part of your question which is we do expect most of those rebates to bet or in this case deductibles has been paid through in Q4, so we expect our gross net be better in Q4 that was in Q3. As we get into Q1 next year the other benefit of specialty pharma it's really again two-fold. We expect the patient experience to be constant at $35 and $60 depending on whether you are insured or not. We also expect there are an economics will be flattened out because again those economics are pre-negotiated with the specialty pharma channel. So rather than having the vagaries of that with a set economics probably more scripts will drift into that that second bucket if you will as opposed to commercial but those economics are fixed and certainly were better than they were in Q1 of this year.

Understood. All right. Thank you very much. That’s it from me.

Thanks Frank.

And our next question comes from Yi Chen with H.C. Wainwright.

Good morning, Yi.

Thank you for taking my questions. My first question is with [Indiscernible] market sees a lot more OTC products entering the market including OTC eyelid scrub. How does Avenova remain competitive in the market?

That’s a great question. I think one of the observations that we've come to this year is interested enough and this isn’t unique to Avenova but I think it’s an opportunity we have to utilize going forward that we didn’t recognize historically and that’s we actually have three market segments. If you think about there’s a buy and sell market segment if you will and that kind of addresses the over the counter competitors that you just mentioned. There’s a strictly Rx side of the business which is on the right side. And interesting enough there’s actually a circle in the middle which represents practices that do both. They prefer to sell the product out of their office on buy and sell basis and then they’ll script on the backend, so you might see a physician, prescriber or sell Avenova in a pre-op situation and then prescribe six or seven months of a refill postop. So I say that because historically we probably had a really one-size-fits-all approach to the market that didn't really look at or understand in detail the different profiles are characteristics of those three segments. So to your point we are going to continue to operate. As I said in this script in the buy and sell channel and we will see competitive over the counter products. We think Avenova is a clearly superior product and it will be price competitive in that channel to be competitive if you will. On the Rx side we’re finding that the practitioners who practice in the Rx side are not people who are either entertaining or at over-the-counter products. So I think going in we’re doing a much better job of understanding the physician profile and making sure that the offering that were getting that doctor fits their particular practice. So there's an opportunity for us to be competitive in the over-the-counter market. It's a much smaller margin to the company but we prefer to sell Avenova into that channel. So is not to lose. The patient population and traction we already gain there. And then we know that on the Rx side those are doctors that are really focused on Rx, really don’t entertain in our experience over the counter products as competition and those are of course higher margin for us. And that composite growth to net of cost for three channels is certainly a composite growth to net that’s work for the company well.

Got it. Thank you, Jack. My second question is, do you have internal target regarding how many products you will like to bring in to your product portfolio in 2019?

We really don’t only because and I’ll answer that two ways. What we don't want to do is distract from Avenova because I think we really starting to hit our stride in terms of understanding how to maximize that particular product set. So when something obvious in nature is going to really help for leverage the cell about Avenova we’ll probably do that. If it's either a distraction or something that takes away from Avenova, I think we’re going to be slow to move to make sure that that move is a good move for the company. So as a result, I will say we’re certainly involved in more discussions now than we have been in months or years passed. So it's likely that we identify one or two of them in the 2019 timeframe, but I probably couldn't be more specific in terms on a actual date than that.

Okay. Got it. My final question is, I know you mentioned that you expect the topline growth to get back to double digit in 2019, but do you seeing the total 2019 revenue can get above the 2017 level?

I’m going to answer this in two ways and not to be non-responsive. We already in the process of 2019 budgeting, so I’m not going to give you a number before I give it to our board if you will, but I do – I would like to predict that based on board approval of the budget we will be again on the street next year with a basically prediction of earnings next year. So we will give much more color to both quarters and amounts next year after we have approval for that number.

Okay. Thank you, Jack.

You bet. Thank you.

Our next question comes from Ed Woo with Ascendiant Capital. Q - Ed Woo: Thank you for taking my question. My question is going into little bit more details on the sales force. When do you think your sales force will be completely ramp or do you feel that your salesforce is pretty mature at this current state?

I can tell you, Ed, that certainly the new folks that we’re bringing on. There’s a noticeable compression in the time to get up to speed. We are simply spending a lot more time finding that more mature profile that we talked about before, so these reps are deep in the Ophthalmic space. They have 10 to 15 years experience. They are probably in a lot of cases coming from a competing pharma company, so there they spent here selling against Avenova. Now they’re reversing that trend, so there the really really knowledgeable about how to position the product and the benefits. And let me pause there. One of the real consult of natures of the sales folks is to explain the practices -- the difference between as we describe it here aqueous deficient dry eye and evaporative dry eye. Obviously Avenova has a real role in the bacterial or evaporative side while lot of the competing products really are more focus on tear production or the aqueous side. So as we really make that distinction in the marketplace it allows our salespeople who tell that story to come up to speed much, much quicker. So I think we’re certainly there in all the new hires. I think all of them fit that profile. I think we’re continuing to try to educate the existing salesforce we have, so they come up to speed. But some of those folks just by resume don't already have those 10 or 15 years, so that's more of a training education process. Long answered your question. I would tell you by the end of Q1 start of Q2 I expect all 45 and 55 of our reps to tell a very consistent deep story about Avenova and have relatively same level of experience either by their experience or by the training we provide them between now and then. Q - Ed Woo: Looking for bit more detail about sales productivity, you think its going to be ramped up that quickly? Or do you still see a runway for them to actually get that productive with sale?

Maybe I’m not understanding your question in terms of time it takes to be productive or our script per rep? Q - Ed Woo: Yes, either one.

Well, certainly this level of training and the depth of experience that we’re bringing on we expect all of the salesforce both the 45 that are here now and the 10 we bring on to be much more productive in total. So the average script per rep will go up as total which is obviously going to drive next year's topline number to be up into the right if you will from where we are today. The second part of the question is because of the nature the reps we’re going to bring on we think the compression of timeframe is also much shorter. So our expectation is that a rep is ramped and we’re expecting to be and what I’ll recall 90 or 120 day timeframe and that’s significantly quicker than it's been in years past. Q - Ed Woo: Great. Well, thanks a lot for the detail and wish you guys good luck. Thank you.

Thank you, Ed.

Our next question comes from [Dean Rider] with Private Investor.

Hi, everybody. It was a nice summary. I just have one question about the sales force. When you get to 55 members of salesforce and there all up to speed, do that’s enough to bring the company to breakeven or you have other revenue streams that you ideal access to get the breakeven? I look at the cash burn I'm assuming you have to raise more cash if that wasn't discussed, but I don't know how you're not going to have to. And unless the expectations are that the salesforce by increasing the 55 will satisfy the loss of the -- and ongoing quarterly loss for the company. So I like to hear a little more about that?

Sure. As a standalone question, Dean, there is no question that the company will be profitable on Avenova. We do not need a secondary or ancillary product to make their company profitable. So our singular focus right now is to do that in a shorter time period as possible. So if we do agree on other product sets such as we talked about earlier I think there to be additive to the story. I think they’ll provide leverage to the sales team that's already out and calling, but we’re not dependent on that particular stream to make the company profitable. So I think to shorten the distance to profitability to your point about the Company's cash flow needs and requirements is we are obviously working every day to compress that time period into a manageable number. So the whole purpose of bringing on more material reps and making that timeframe to productivity as short as possible. The answer to question is that 55 reps at full productivity is definitely going to bring NovaBay to a profitable position. So adding reps on top of that and just a comment that for a moment, I think fully -- Mark Sieczkarek talked about this in past calls, I think full coverage in the United States is going to be a number of reps somewhere north of the 100, but I certainly in our forecasting abilities know that we can get profitability on the 55 that we’re calling for at the end of the first quarter next year. And we obviously won't be profitable at that point, but it's on the backs of those 55 that will become profitable. So I guess -- well, that's good to hear. I've used the Avenova myself and I prescribed for patients and it's a great product. Then I have full confidence in it and always have. But I guess I guess, I’m just a little bit concern that, at the 40 or 45 reps your – their rep production is what it is and that is still $5 million deficit over the last nine months. And I guess adding 15 more reps is that going to take care of -- is the net on that going to take care of that loss going forward just through your breakeven?

Well, let me answer this way, Dean. I don’t think that you can take this year's, I’ll call it productivity deep [ph], productivity analysis and overlaid on next year, in addition to the 10 folks that we’re bringing on, I expect every rep on the team to be significantly more productive than they are today. To put words on that, we talked about in general prescribing base of 12,000 doctors, on an ongoing basis 3 to 3500 of those doctors prescribed Avenova every month, so let’s say 30% of the 12,000 prescribe on a fairly regular basis. We need to deemphasize in our view. They need to grow that 12,000 to a bigger base and spend more time basically going deeper into the prescribing numbers. To go to the next step of the 35, 3300 rep of doctors that prescribe every month most of those doctors on average still in the one or two scripts per month scenario getting reps to understand that use case much better, getting the doctors prescribing habits from one or two to even three or four or five or six would make the company profitable. So I don't need necessary much more reps. I don't need -- we don't need doc more doctors of the platform. What we need is for our reps to do a better job teasing out those use cases, understanding better where we are competitive and what the application is a better understanding, I mean, unfortunately for us this statistical math is on our side, 86% of dry eye is bacterial and we’re one of the few products that really address that. And as we educate the doctor community in that particular phenomenon that one or two scripts per doctor is going to go to 3 to 4, or 5 to 6 and hopefully the target is really 10 scripts per doctor per month. Although I won’t do all the multiplication or math for you but that is a profitable scenario with the number of doctors and the number reps we currently have right now.

[Operator Instructions] Our next question comes from Frank Brisbois with Laidlaw.

I’m actually, I’ll say, everything was answered. Thank you.

Thanks Frank. Well, that’s the end of our questions. I’d like to thank everybody else for joining us today and for your interest in NovaBay. We look forward to updating you to on our next call which will be March of 2019 to discuss the 2014 –I’m sorry, 2018 fourth quarter results and full year. Thank you and have a great day.

Ladies and gentlemen, that concludes your conference call for today. We thank you for your participation and ask that you please disconnect your lines at this time.