Memorandum

Dexcom 3Q19 – Sales of $396 Million Rise 49% on Outstanding US Traction; Guidance Raised ~$88 Million; G6 Medicare Launch & Big Walgreens Access Win – November 6, 2019

Executive Highlights

  • Dexcom reported record 3Q19 sales of $396 million, rising a robust 49% YOY and 18% sequentially. This marks six straight quarters of >39% YOY growth, even accelerating from 3Q18’s 44% growth! 3Q19 was a record quarter across the board – for US and OUS sales, for absolute dollar growth (+$130 million YOY!), patient adds, and volume growth in every channel. The US commercial business and rising awareness of CGM were cited as key drivers. Record US sales of $308 million grew 52% YOY (highest in three years), 16% sequentially, and drove 82% of Q3’s YOY growth. International sales hit a record of $88 million, growing 37% YOY and 26% sequentially.
  • Full-year revenue guidance was raised for the third straight quarter – from $1.325-$1.375 billion (+28%-33%) to $1.425-$1.450 (+38%-41% growth). The ~$88 million guidance raise (at the midpoint) comes off of $75 million guidance raises in both 2Q19 and 1Q19.
  • Shipments of Dexcom G6 to Medicare patients began in “early October,” and  Walgreens announced this morning that it will make G6 available to all Medicare patients at any Walgreens retail store location. Through a “new billing solution,” G6 Medicare users will now have all the advantages of pharmacy distribution, including simpler prescribing, faster fill, and pickup – a huge win to overcome the administrative barriers in the Medicare Part B (DME) channel. This could also bode well for pushing more of Dexcom’s commercial business through the pharmacy channel.
  • G6 manufacturing capacity is on track to double by the end of the year, though Dexcom is currently supply constrained – challenges with one automated G6 line have temporarily lowered production and inventory levels are “tight” into Q4. To post this level of growth while supply constrained bodes very well for 2020. All this learning will also filter into G7, where the company is emphasizing a limited launch.
  • G6 has been filed in Japan (1H20 launch). G6’s launch in Canada saw a “great response,” and the UK posted a record quarter.
  • Dexcom’s fully disposable, smaller, low-cost G7 is still slated for limited launch in late 2020 and broader rollout in 2021. Only “final tweaks” are left before the design is finalized. Investment and focus remains high here, and this marks at least six straight updates where the same launch timing has been reiterated.

Dexcom reported 3Q19 financial results this afternoon in a call led by CEO Kevin Sayer, CFO Quentin Blackford, and EVP Steve Pacelli. The 3Q19 financial slides are available here. CEO Kevin Sayer provided some powerful concluding remarks, which nicely summarize the year Dexcom has had:

  • “In closing, I want to acknowledge the contribution of all of our team members... $130 million in growth in this quarter combined with our best financial results ever. We've never delivered a quarter like this, and we've asked our people to go above and beyond in 2019 to achieve these things. While our year-to-date revenue growth is near 50%, I can assure you all that our volume growth of all product components far exceeds that number, and we've been running all year to keep up, and while we see a light at the end of the tunnel, it's just not as quickly as we'd hoped for. Our commercial teams have hit on all cylinders this year. International growth remains strong and a great opportunity going forward for us as global access and awareness continues to improve. We also talked about the effectiveness of our US reimbursement team and positioning us for the future, enabling our shift to more efficient distribution channels with numerous contract wins, and our relationships throughout our distribution channels have been nothing, but strengthened over the course of the year.

  • And finally, our US sales team, both internal and external, they've navigated through some very difficult situations with respect to our supply constraints, yet remain engaged and effective. There isn't a better group anywhere. Many of our accomplishments this year can't be measured by numbers, all of the letters and emails of lives that we've changed. Standing up a facility and a business in the Philippines over the past nine months that's grown to a nearly 700 person workforce of people as committed to this company as everybody here in the States and who demonstrate the commitment to patients that we've always had that have made Dexcom the company that it is today. We look forward to continuing this success in the future. Thank you.”

Financial Highlights

1. Global Sales Record of $396 Million, +49% YOY; US Sales Grow 53% to Record $309 million, Driving 82% of Growth; OUS Record Sales of $88 million Rise 37% YOY

  • Dexcom reported record global revenue of $396 million in 3Q19, rising a whopping 49% YOY and 18% sequentially. The 49% YOY gain came on a very tough comparison to 44% growth in 3Q18 – accelerating growth on this level of sales is truly impressive. This marks six straight quarters of growth of >39% YOY, a testament to adoption of G6 and rapidly growing CGM uptake globally. The quarter’s $130 million absolute YOY dollar growth was the highest in company history, and 2019 year-to-date has posted $300 million in absolute growth. 3Q19 also set records for new patient additions and saw volume growth in every channel (US commercial, US Medicare, OUS); overall volume growth “far exceeds” 50% revenue growth posted year-to-date. Management cited increasing awareness (and outcomes demonstrating CGM’s effectiveness) as the main drivers for this growth. US sales drove 82% of the quarter’s growth.

    • Worldwide sensor revenue of $317 million rose 64% YOY and comprised 80% of sales, a sign of just how strong the core business is performing. Transmitter revenue of $62 million rose 27% YOY, while the receiver business declined to ~$17 million (-29% YOY). Given the ease of using G5/G6 mobile apps and the durability of the G6’s receiver, the decline is not too surprising. The new lower-cost transmitter will also roll out for all of 4Q19, though we’re assuming pricing will remain the same.

    • The explanation for this performance remains relatively simple. More and more people are becoming aware of the value of Dexcom's real-time CGM and with G6, we have the right product to meet their needs. We often highlight access and awareness as the primary answers for the growth that we are experiencing, but this is the result of years of work from the Dexcom team. It is the result of many people embracing our core value to think big.” – Kevin Sayer, CEO

  • US sales also hit a record high of $309 million, accelerating to 53% YOY growth on a tough comparison to 34% in 3Q18. For the first time in three years, Dexcom has posted four consecutive quarters of ≥40% YOY growth in the US. Sales increased a robust 16% sequentially from 2Q19. CEO Kevin Sayer emphasized that 3Q19 represented the highest US growth rate since 1Q16 when the business was three times smaller ($97 million). In Q&A, management emphasized the primary driver in the US was the commercial business, which grew at a rate faster than any previous quarter.

  • OUS sales hit a record of $88 million, growing 37% YOY and 26% sequentially. The 37% YOY gain came on a very tough comparison to 93% growth in 3Q18. International sales growth has tapered over the past few quarters, from >70% YOY growth to <40% YOY growth in 2Q19 and to 37% in 3Q19 (albeit on tough comparisons and a larger base). Overall, OUS sales through international distributors are more choppy than the US market (i.e., distributors’ order timing in different markets), which management did mention during today’s call.

2. FY19 Guidance Raised for Third Straight Quarter; Up ~$88 Million at Midpoint to $1.425 Billion-$1.450 Billion (+38%-41% YOY)

  • Dexcom raised full-year revenue guidance for the third straight quarter – from $1.325-$1.375 billion (+28%-33%) to $1.425-$1.450 (+38%-41%). The ~$88 million guidance raise (at the midpoint) comes off of $75 million guidance raises in both 2Q19 and 1Q19 – wow! During Q&A, management noted that the guidance takes into account one of Dexcom’s automated G6 sensor production lines going down in September, which has temporarily lowered production levels and inventory entering Q4. Dexcom has been chasing G6 demand ever since the launch last year, and management repeatedly emphasized that this will not be repeated with G7.

  • Dexcom is guiding for a ~$425 million fourth quarter, which would represent a 7% sequential increase from 3Q19. When asked about the apparently low sequential growth, CFO Quentin Blackford downplayed concerns, attributing it partly to a stronger-than-expected 3Q19, the move to the pharmacy driving less of a seasonal pattern, and some impact of supply constraints.

    • “As we continue to move more and more of the business toward a subscription-based model, the historic seasonality is going to play a little bit differently in the current year than what we’ve seen throughout history. The other thing to keep in mind is Q3 was truly a remarkable quarter for us. We were up 18% sequentially from Q2, whereas historically, we've been up 8% to 10%. For us to look at that, call it a trend, and anticipate that we're going to see the same sequential increase into the fourth quarter, that's a bit premature. We want to see this play out a little bit longer than just 90 days’ worth of experience in the third quarter. We’re trying to be mindful of that.” – Quentin Blackford, CFO

3. Net Income of $60 Million, First Profitable Quarter on both GAAP and Non-GAAP Basis; $1.4 Billion in Cash

  • Dexcom reached a major profitability milestone, posting GAAP and non-GAAP net income for both 3Q19 (for the first time) and Year-to-Date. Non-GAAP net income in 3Q19 was $60 million, a nearly four-fold improvement from $16 million in 3Q18. GAAP net income was $46 million in 3Q19 – up significantly from ~$12 million in 3Q18 if the $35 million in investment income from Tandem is excluded from 3Q18.

  • Gross margin for 3Q19 was 62%, a slight improvement from 61% in 2Q19. Dexcom is now guiding for a gross margin of ~63% for the full year, a slight drop from 64%-65% that was expected as of 2Q19. The company had also previously anticipated gross margins approaching 70% by the end of the year, though that is now expected to be slightly lower. Gross margin in the quarter was adversely affected by the production line going down and continued investment in manufacturing capacity. Dexcom expects a gross margin increase in 4Q19, driven by the lower-cost transmitter that has now launched and will have a full quarter of benefit.

G6 – Medicare, Pharmacy, Manufacturing, and International Launches

1. Medicare Launched in “Early October”; Medicare Patients Can Get G6 At Any Walgreens Retail Location – Simpler Prescribing, Fill, and Pickup; Pharmacy Coverage Sees “Good Momentum”

During prepared remarks, CEO Kevin Sayer shared that shipments of G6 to Medicare patients began in “early October” – on par with August expectations to launch in 4Q19 and about one year after G6 secured Medicare coverage. Importantly, Walgreens announced this morning that it will make G6 available to all Medicare patients at any retail location – a significant convenience win for the administrative-prone Medicare CGM channel. Walgreens is calling it “a new billing solution” for CGM, as it appears to bring the G6 from Medicare Part B DME into the pharmacy channel – offering simpler prescribing for HCPs (like a drug), faster processing, in-person fill, and convenient in-person pickup for patients. We’re not sure what the behind-the-scenes coding is here, but kudos to Walgreen’s for pioneering this! Walgreens is now the largest retail pharmacy chain providing nationwide distribution for Dexcom CGM. The press release notes that Walgreen’s is also working with other CGM manufactures to incorporate their product into the new Medicare billing model – for now that would only be Abbott’s FreeStyle Libre, as Senseonics and Medtronic do not have Medicare reimbursement. This is Dexcom’s second major collaboration with Walgreens this year, after G6 was also featured in the “Find Care” section of Walgreens’ app and website. On Dexcom’s August call, Mr. Sayer hinted that more collaboration between the two companies was coming, and making G6 available at Walgreens’ nearly 10,000 retail locations throughout the US will be a major access win for patients and healthcare providers. With the increasing pharmacy availability, the company expects Medicare G6 adoption to really “take off” next year.

  • Dexcom continues to believe pharmacy will be its “primary distribution channel” over time, though we did not hear an update on the actual number of contracts in place in the pharmacy or the percentage of the business running through the pharmacy. Dexcom has said for the last three earnings calls that it has contracts for >50% of US covered lives in the pharmacy, though far less than that amount of the business is currently running through the pharmacy. Insulet is probably the best comparator here, as it is also pivoting from a DME to a pharmacy business with Dash – “over 20% of its business is now running through the pharmacy (as of yesterday’s call), with a similar “over 50%” of US covered lives under contract for Dash. For comparison, Abbott reported in 2Q19 that it currently has ~75% of private covered lives under contract in the pharmacy, and we assume close to that level is running through the business. Sort-of tongue-in-cheek, EVP Steve Pacelli said that Dexcom will not comment on every contract win it gets, “as this is a normal part of our business operations.” Still, Mr. Pacelli noted that Dexcom had “good momentum” regarding pharmacy contracts and looks forward to “continued expansion.”

  • Reiterating the December 2018 Analyst Meeting and every call over the past year, management again called pharmacy a “very, very attractive” business model, including higher per-patient profit vs. DME. The pharmacy channel reduces “back office effort” from Dexcom to get devices out to patients (e.g., paperwork, benefits) and does so in quicker time with less paperwork delays. Getting CGM through pharmacy offers convenient reordering for patients (e.g., fill in mobile app), reduces uncertainty of where an order stands, reduces calls, and simplifies prescribing for HCPs. Additionally, the pharmacy represents a potential marketing point – especially given Dexcom’s work this year with Walgreens.

2. Manufacturing Capacity for G6 Will Have “Doubled” by the End of 2019, and Double Again by “Middle of 2020”; Issues on One Line Reduce Inventory

Dexcom is on track to double its manufacturing capacity this year and plans to add more automated production lines “in the first quarter, more in the second quarter” that will again double G6 production by the “middle of 2020.” At the same time, G7 manufacturing is already being planned! A manufacturing line for G6 went down in September, temporarily reducing production. The reduced manufacturing capacity (and strong demand for G6) left inventory levels “tight’ entering 4Q19, and CFO Quentin Blackford noted that the G5 to G6 transition in certain channels of the business would be “slower than originally anticipated.” Abbott went through similar manufacturing capacity challenges with FreeStyle Libre, and, overall, this is a good “problem” to have. Still, Dexcom has been chasing G6 demand for over a year now, and it shows just how much manufacturing capacity and scale this market will take.

  • 4Q19 will see a full quarter of benefit from the new lower-cost G6 transmitter. Manufacturing began in 2Q19, building inventory for the 4Q19 launch. The design is 50%+ less expensive than the current iteration, and this transmitter is required for direct-to-Apple-Watch – a long awaited feature for those who want to be untethered from their phone. It’s unclear if Dexcom will drop actual transmitter pricing, though perhaps there is now wiggle room for those paying cash, those with high-deductibles, or payer relationships. The current three-month G6 transmitter can be expensive for those without coverage.

  • During Q&A, Mr. Blackford called Dexcom’s customer support center in the Philippines a “real corporate asset.” The team is now nearly 700 people! Despite some early concerns that the new center was not up to Dexcom’s high standards it had at its American support center, it seems those concerns have been addressed. The new center is operating at “some of the highest levels” in the company’s history, confirmed by positively trending net promoter scores. Dexcom is continuing to invest in efficiency in the area, especially as it is trying to “eliminate the need for a live person” to handle very single request (e.g., order status).

3. “Great Response” to Canada Launch, International Roll-Out Continues; Japan Likely in 1H20

Early in the call, Mr. Sayer expressed enthusiasm for the “great response” to launch of Dexcom G6 in Canada (September 2019). This was previously constrained by manufacturing capacity, but the launch came in line with expectations following Health Canada approval in February. Dexcom’s FAQ page notes that “most private insurers” cover Dexcom for type 1 diabetes, but we aren’t sure how coverage looks for type 2 insulin users. In September, Abbott received public reimbursement for FreeStyle Libre in Canada’s two largest provinces, including for insulin using type 2s in Ontario.

  • Dexcom has plans to continue launching G6 into more geographies, specifically noting that G6 has been filed in Japan and is expected to launch in the “first half of next year.” Getting the no-cal, 10-day-wear G6 to more OUS markets will offer nice growth potential for Dexcom’s smaller OUS business; G5 has half the wear length and 100% more calibrations (once every 12 hours). We estimate FreeStyle Libre sales outside the US (~$370 million) are about 5x the size of Dexcom’s international business.

Pipeline Highlights

1. Dexcom G7 is “On Schedule” for Late 2020 Limited Launch, Broader 2021 Rollout; “Final Tweaks” to Design and Algorithm and App Work To Do;

Dexcom and Verily’s work on G7 is continuing full speed ahead, with a limited launch still expected in late 2020 and broader rollout in 2021. This timing is in line with what we’ve heard for the past ten months (2Q19, 1Q19, ATTD, 4Q18, JPM, and December’s Investor Day). On the 2Q19 call, we heard the groups were “making some very big decisions over the next couple months.” In today’s update, it seems those “big decisions” were made as Dexcom and Verily are now evaluating the “final tweaks” before locking down the entire design. Work will continue on the app and algorithm development, but “none of that will slow down the clinical study.” Getting the hardware done is easily the biggest piece of this product – great to see it getting close to ready a year before launch.

  • On production, Mr. Sayer noted that Dexcom was being careful about G7’s broader launch in 2021. The automated production lines are already designed and “being built,” with many activities like ordering molds “already happening.” The company expects “significant capital expenditures” over the next several months, in preparation for high demand when launch time comes. Importantly, Dexcom’s automation teams are working on automating lines for both G6 and G7.

    • “We're going to make this easier, and so everything we're doing with G6 is going to fly right into G7 and we are preparing to become a company that serves several million patients not just several hundred thousand.” – Mr. Sayer

  • Based on recent updates, the planned G7 features are: a one-piece fully disposable wearable (integrated sensor/transmitter) that is slimmer on the body (see below); significantly lower cost design (presumably similar to FreeStyle Libre or perhaps lower); iCGM accuracy and factory calibration; 14-15 day wear (or perhaps even 16-day?); an applicator that is smaller, lighter, less plastic, and more convenient; and the Android/iOS mobile apps to display real-time data with Bluetooth. What additional software and hardware features should we expect? How will the hardware size and consumer cost compare to Abbott FreeStyle Libre 2? Could Dexcom get an over-the-counter (non-prescription) indication in the US?

  • At Keystone, EVP Andy Balo said Dexcom is “eventually hopefully going to more of a flexible transmitter that contours to the body.” Work on this novel form factor is apparently ongoing with Verily. It was unclear if he was referring to the initial G7, a future G7 iteration, or a product beyond that.       

2. G6 Pro Cleared, Shipments to Begin “Early” 2020

During prepared remarks, EVP Steve Pacelli made brief reference to the Dexcom G6 Pro, which received FDA clearance in October, following submission in early July. Dexcom continues to benefit from the 510(k) iCGM pathway it opened up with G6. Notably, the professional CGM is indicated for all people (i.e., non-diabetes) in unblinded mode, and all people with diabetes in its real-time mode – that was new to us today. The system will launch in “early” 2020 using the same G6 sensor platform (10-day wear, factory-calibrated, auto-applicator), but moving to a fully disposable Bluetooth transmitter, offering both real-time and blinded modes, and giving users the option of the receiver or G6 app for viewing data. The new transmitter will automatically start the sensor when clicked into place, eliminating the need to scan a code or hit “start.” Making the device fully disposable also eliminates the HCP burden of having to keep track of and clean transmitters, while also preparing Dexcom for the manufacturing of its fully disposable G7.

 

3. Insulin Delivery Partnerships and Timing: Tandem, Insulet, and Smart Pens

Management mentioned a few key insulin delivery partnerships. Quotes and the latest timing are listed below.

  • “Tandem is on the verge of launching their advanced hybrid closed-loop system.” We heard Tandem give an update on Control-IQ just this week, noting that there were “no concerning issues” with the FDA and it was seeing a “routine, interactive review.” Submission of Control-IQ to the FDA came in ~July, following strong “landmark” pivotal trial results at ADA 2019 and the prestigious publication in NEJM two weeks ago. Control-IQ, expected to launch in 4Q19, is one of the most highly anticipated tech products (up there with Libre 2 in the US) and we are eager to see if it helps expand the market into more MDI/BGM users. With launch of Control-IQ, Tandem also plans to release its t:slim X2 mobile app, which will allow wireless upload of both pump and Dexcom CGM data to its t:connect web platform.

  • “The combination of Insulet and Dexcom will provide a unique and compelling user experience and form factor.” Per yesterday’s earnings call, Insulet plans to start its Horizon automated insulin delivery (AID) pivotal trial next month (December), sharing the first-ever details on study design: a three-month pivotal trial enrolling 240 people with diabetes across a broad age range, including pediatrics. A US launch of Horizon is still expected in 2H20 with personal smartphone control and Dexcom’s G6 iCGM.

  • “Eli Lilly, Novo Nordisk and Companion Medical are all making progress in their efforts to commercialize connected smart pens.” Dexcom inked a partnership with Companion Medical in June, and as of September, Companion’s InPen dosing data was already integrated into Dexcom Clarity. At EASD, we learned that Novo Nordisk’s connected insulin pens are expected to launch in “2020,” at least a one-year delay from the original plan to launch in “early 2019”. Lilly’s connected pens have been filed with the FDA since 1Q19, but we haven’t heard any updates since.

4. No Updates on Tidepool, Direct-to-Apple Watch, New Adhesive, Pregnancy and Hospital Studies

  • At ADA, Dexcom signed on as a partner to integrate G6 into Tidepool Loop – joining Insulet and Medtronic. There was no reference to this on today’s call, but previously Mr. Pacelli has highlighted Dexcom’s “support of patient choice and interoperability with the iCGM designation.” At Friends for Life, Tidepool CEO Howard Look gave an update on timing for Tidepool Loop: “We let the FDA know that we set an aggressive target of trying to have a submission prepared before the end of the (calendar) year, but there's a lot that's out of our control, so that's just an estimate. We promise to keep the community up to speed as things proceed.”

  • Dexcom is expected to launch direct-to-Apple Watch data transmission (i.e., without an iPhone nearby) within the next nine months. Notably, the direct-to-Apple Watch feature will require the new low-cost G6 transmitter, which began production in 2Q19 and will see its first full quarter on the market in 4Q19.

  • In response to feedback from the field that sensors aren’t staying put for the full 10 days, Dexcom filed with FDA to replace the G6 adhesive with a new one called “MA91.” Additionally, Dexcom has been working with 3M - maker of Post-its and Scotch tape – for three years, developing a new adhesive with the goal to extend wear time and get a survival rate of ≥90% for sensors in the field. Dexcom does offer an excellent transparent over-tape for the current G6 adhesive, which customers can order for free but must take the initiative to ask for it.

  • Dexcom has several pregnancy studies in motion. As of 2Q19, a study with arm-wear finished and submission for pregnancy and arm-wear indications were expected “within the month (July).” On today’s call, Mr. Sayer did refer to the “opportunity for expanded use of Dexcom in pregnancy,” but did not elaborate further. The company hopes to eliminate the pregnancy contraindication by the end of the year, and “will also have an arm indication, which will be good for all of our products too” (no timing shared). Reversing the pregnancy contraindication will be huge, as far more women should be on CGM – the CONCEPTT study showed that it is cost saving (particularly in the neonatal outcomes category), so much so that NHS plans to offer CGM to all pregnant women with type 1 diabetes by 2020/2021! The arm-wear indication will also be a nice win, as it’s commonly done off-label and it will be nice to have this on-label for training, customer support, and marketing.

  • Dexcom is currently running four hospital CGM studies across the country, with the goal of completion by the end of the year: One in the ICU, two in med-surg, and one in pre-op (our coverage). On the business case: “We’ve learned that, on a weekly basis, surgeries are cancelled because of high blood glucose levels. They can’t do the surgery – so they bring patient back, give them insulin, and the cost of the patient goes up…Pre-/post-op, we think this can reduce the cost of the patient, and reduce readmissions. If the glucose level goes up before they leave, what happens is they don’t leave – they get readmitted, sometimes back to the ICU.”

 

--by Ani Gururaj, Albert Cai, Adam Brown, and Kelly Close