Memorandum

Insulet 2Q18 – Sales of $124 million grow 13%, miss guidance on OUS inventory speed bump; record high in US; FY guidance reduced by ~$18 million; Dash limited US launch underway – August 2, 2018

Executive Highlights

  • Insulet’s global 2Q18 sales of $124 million rose 13% YOY, flat sequentially, missing the low end of guidance by $6 million, and the first time growth has come in <20% since 3Q15. Record-high US Omnipod sales of $78 million grew a robust 19% YOY and 11% sequentially. However, turbulence in the EU distribution changeover from Ypsomed (effective July 1st) depressed OUS Omnipod sales to just $29 million, up 7% YOY and down 26% sequentially. Drug Delivery revenue of $17.7 million decreased 1% YOY but came in $3 million higher than in 1Q18.  Management said that if not for excess inventory in the channel that impacted Q2, OUS revenue would’ve been ~$11 million higher: ~$40 million (+48% YOY). Notably, management had just increased guidance on the low end by $5 million in the first quarter; without that bump, sales would’ve come in at essentially the low end of guidance (missing just by $1 million).  

  • Due to the weaker-than-expected OUS Omnipod performance, which is expected to continue into Q3 (another ~$11 million impact to go with 2Q18’s $6 million lower than expected result) before normalizing in Q4, full-year global sales guidance was knocked down ~$18 million at the midpoint to $547-$562 million (+18-%21% YOY). This came despite modest rises in US Omnipod and Drug Delivery guidance, as international Omnipod guidance was reduced by >$20 million to $163-$173 million. Management is highly confident that the underlying EU business is very strong, with 60,000 successful customer transitions and a very strong July – during the transition, it also wanted to make sure not to come up short for customers in the EU, which although ultimately overly conservative, we appreciate on behalf of patients in countries where there is particularly high growth (France is one example). Projected EU Q4 revenue is ~$55 million, which would have to be nearly twice as much as 2Q – this would be a very positive run rate that management says will accelerate once the EU distribution changeover gets over what it characterized as a “speed bump.”

  • On the positive side, Insulet achieved positive operating profit (+$4.3 million) for the first time ever, and expects to maintain positive EBIT status for the full-year 2018. The company has executed on this in line with guidance despite the revenue miss. The company achieved this with the big help of an expanded gross margin that reached an impressive 66% in 2Q18, up from 61% the past few quarters – 65% is now considered the “new base.”

  • Insulet’s worldwide user base is expected to hit ~167,000-177,000 by the end of the year (+15-26% YOY): ~91,000-96,000 in the US, ~76,000-81,000 OUS. Management detailed access wins in the US, including growth from the UHC in-network decision, Medicare Part D contracts (Express Scripts and Magellan on board thus far), and Medicaid (up to ~30 million covered lives). Pharmacy discussions are also going well, they said.

  • The limited market release of the new Dash touchscreen PDM commenced last month, and is still expected to expand out to a full release in early 2019. Management touted very positive feedback at ADA from both providers and patients. This is a “transition product” in our view – some won’t want to carry around two items (Dash plus a traditional blood glucose monitor or CGM receiver or another smartphone) but clearly the “all in one” is coming with Horizon and this is a means to an end.

  • Launch of the Horizon hybrid closed loop system is slated for end of 2019 to early-mid 2020. The third IDE study (2-6 years) is set to wrap up in September, after which Insulet/FDA will determine whether the next step is a pre-pivotal or pivotal study.

  • The Lilly-partnered U200 Omnipod has been pushed back to launch in “end of 2020 or 2021.” There was no update on the U500 Omnipod, which is presumably still on track for 2019 following positive ADA data. Overall, ~13% of US Omnipod users have type 2 diabetes, a group expected to grow as Insulet’s type 2 portfolio rolls out. There have been continuous delays with the more concentrated insulin and lots of latent demand – we hope to see this launch ASAP and in the new time frame.

Insulet reported its 2Q18 financial update this afternoon in a call led by CEO Pat Sullivan, President Ms. Shacey Petrovic, and CFO Mr. Mike Levitz. Insulet missed guidance that had been raised in 1Q18 by $5 million (had it not raised guidance, it would’ve been about right on plan). With the exception of what Mr. Sullivan referred to as a “speed bump” (inventory) in the transition to assuming direct EU distribution from Ypsomed, the quarter had multiple bright spots with record US sales, strong operating results, strong profitability gains, Dash’s limited market release, and more. Read on for our top highlights from the call.

Financial and Business Highlights

1. Worldwide Sales Rise 13% YOY to $124M, Miss Guidance by ≥$6M; Record US Omnipod Sales: $78M, +19% YOY; OUS Omnipod sales: $29M, +7% YOY with $11M Negative Inventory Impact

  • Worldwide sales of $124 million grew 13% YOY in 2Q18, the lowest growth rate since revenue fell in 3Q15 (growth has exceeded 20% in every quarter since then). Sales fell $6 million short of the bottom-end of guidance ($130-$134 million), and Mr. Sullivan characterized it as a “speed bump” internationally: a negative $11 million impact associated with inventory in the Ypsomed changeover. Sales came on a tough comparison to 2Q17’s 26% YOY growth. Total revenue was flat sequentially from 1Q18. All three business lines contributed to growth in the quarter, though US Omnipod sales (see below) provided the largest contribution to overall growth (63%) in nearly three years.

  • Record-high US Omnipod sales of $78 million grew a robust 19% YOY and 11% sequentially. The new record topped the previous $77 million in 4Q17 revenue, a trend Tandem also saw in its 2Q18 ($34 million, +60% YOY). US Omnipod provided 63% of Insulet’s Q2 growth, the highest point since 4Q15, though this was driven in part by lower-than-expected sales figures in Europe. Still, putting up record sales in the US as Tandem put up a record quarter and Medtronic sells 670G is a terrific achievement for the US commercial team.

  • International Omnipod sales of $29 million grew 7% YOY, but fell a whopping 26% sequentially and came in ~$11 million lower than the midpoint of guidance (~$40 million). Management said the weakness reflected excess inventory in the EU channel when Insulet assumed direct distribution from Ypsomed on July 1st. In total, management says there are ~7-8 weeks of inventory left in the channel – ~4-5 weeks-worth in Q2 and ~2-3 weeks-worth in Q3. They said there shouldn’t be any disruption in patient access to Omnipod, which seems an obvious point since there is too much product in the channel rather than any shortages. The causes underlying the financial impact were three-fold:

    • (i) Ypsomed had excess pods, PDMs, and supplies, which Insulet opted to repurchase for $7.4 million. Presumably, this should have been expected. This inventory was sold to Ypsomed at a lower price point than that sold to the end user (that’s how Ypsomed made a profit), and repurchased at that same lower price – the repurchase sum counts against revenue. Part of the issue was “inaccurate and understated” inventory reporting on Ypsomed’s part, something we also saw a few years ago when the OUS business also came in much lower than expected. Ms. Petrovic said that the OUS business was growing rapidly (particularly in France) and Insulet didn’t want anyone to go without product. However, Insulet did realize that it was shipping in excess and slowed supply to Ypsomed in 1H18.

    • (ii) Insulet had expected to sell ~$3.6 million-worth of pumps and supplies in the final weeks of Q2 to intermediaries (distributors) so they could begin selling as soon as Q3 hit, but the intermediaries already had a surplus of inventory that they had purchased from Ypsomed. There is less inventory “clogging” this channel, but it’s causing Insulet to miss out on direct-to-intermediary sales at a higher average sales price than would’ve been sold to Ypsomed. Though Insulet is going direct internationally, there are some markets where it still can’t directly sell to patients, but has to go through government intermediaries.)

    • (iii) As described in Insulet’s 10-Q filing, Insulet slowed down shipments to Ypsomed as the distribution agreement neared its July 1st end date.

  • This issue, or other unforeseen problems with the distribution handoff, could again impact sales in Q3 (“also an $11 million impact in Q3”), but it is expected to be resolved in Q4, and management was otherwise extremely positive regarding international operations and sales (not surprising since it’s an earnings call – although overall it sounds like inventory was off nearly $20 million, we do give management credit for not wanting customers in the EU to miss receiving Pods). Despite the strong headwinds from the unforeseen complications in the transition, and higher than expected inventory, international Omnipod sales still drove 32% of Insulet’s growth for the quarter. Indeed, the underlying US business certainly does seem very healthy, and we’ll reserve judgment on the international business until we better understand the various markets and the underestimated inventory channel issue. It’s clear that Insulet is focused on driving penetration in existing markets and perhaps expanding into new EU markets in 2019 – we expect demand to be strong.

  • Drug Delivery revenue of $17.7 million was flat YOY and up $3 million sequentially. The business has basically been flat for two years, and though it’s a longer-term pipeline, it’s been surprising to hear no public updates here. 

2. 2018 Guidance Reduced by ~$18 million ($547-$562 million), with OUS Omnipod reduced by ~$22 million

Management reduced full-year 2018 sales guidance to $547-$562 million (+18-%21% YOY), down ~$18 million at the midpoint from previous guidance of $565-$580 million (+22%-25%). The deficit is more than accounted for by the international inventory headwinds, which are expected to take away $11 million from both Q2 and Q3 revenue (the “miss” in 2Q18 was actually $6 million on the low end as we understand it). 2018 international Omnipod revenue was accordingly revised to $163-$173 million (still up 36%-44%), down from the previous expectation for revenue of $186-$194 million – a ~$22 million reduction, which seems like it could be a bigger than necessary reduction (though given the uncertainty that makes sense). Meanwhile, full-year US Omnipod guidance was raised slightly to $320-$323 (+18%-19%), and drug delivery guidance was raised to $64-$66 million (down 9%-11%).

  • Full company 3Q18 revenue is expected to fall in the range of $144.5-$151.5 million (+19%-24%). That figure includes US Omnipod revenue of $82-$83 million (+17%-18%), drug delivery revenue of $17.5-$18.5 million (down 4%-9%), and international Omnipod revenue of $45-$50 million (+39%-54%). Mr. Levitz recommended modeling “closer to the midpoint of the range” due to near-term channel inventory issues in the EU.

    • Extrapolating from the midpoints of given revenue and 2018 guidance, OUS revenue in 4Q18 – when inventory challenges are expected to be resolved – is expected to reach $55 million. We are “standing aside” on this expectation for now since ~$20 million is a lot to be off.  Assuming flat YOY performance, this run rate will yield very strong $220 million revenue in 2019. That assumes no sequential ramp in 2019, and would still represent 32% YOY growth outside the US in 2019. However, Ms. Petrovic expects the OUS business to grow “at an accelerated rate” from Q4. Roughly, that would put the international Omnipod business at a point close to where the US Omnipod business was (~$55 million/quarter) in 2016.

  • While we would not be surprised if the international full-year projection winds up being conservative, the international business seems harder than expected to predict. That said, we’re very happy for Insulet about selling direct OUS again and margins will obviously ultimately benefit. The underlying business seems to be strong if $40 million in sales were generated (even though $40 million of product wasn’t needed since the channel had so much more product than expected). Ms. Petrovic said in Q&A that customer base inventory levels have been validated with ~75%-80% of intermediaries, but the anticipated $11 million impact in Q2 and Q3 has more to do with “just being cautious in terms of the rest of the area that we haven’t quite validated” (smart in our view) and other possible unforeseen obstacles. In other words, the $11 million hit may or may not happen, depending on the volume of excess inventory in the channel that Insulet finds in the remaining 20%-25% of intermediaries. Thus, anything less than an $11 million Q3 impact should allow the company to beat its international full-year guidance.

  • Despite the near-term noise, we still believe taking over directly from Ypsomed is going to be a huge win for Insulet. As a reminder, going direct means Insulet automatically benefits from a ~50% uplift in pricing (with none passed to the end user). From a customer support and acquisition perspective, management is confident that the company has successfully transitioned ~60,000 patients with 100% continuity of care, in addition to shipping to “thousands” of new patients across all of the direct markets (“hundreds” on-boarded) in a “very strong” July (notably higher than historical run rate).

  • Management remains “very confident” in the 2021 targets of $1 billion in revenue, 70% gross margin, and above-market profitability.

3. Positive operating profit of $4.3 million for first time in history

  • Insulet reported positive operating profit (+$4.3 million) for the first time in its history after a breakeven 1Q18. The company also remains on track to achieve positive operating income in 2018 for the first time ever.

    • Gross margin saw a notable uptick, reaching 66% after three straight quarters flat at 61% – Mr. Levitz boldly stated that “we view 65% as our new base.” Improvements again came from manufacturing and supply chain wins – this team is really executing impressively on this front. 2018 guidance now calls for full-year gross margins of 65%, and Mr. Levitz reiterated that the company is on track to achieve 70% gross margins in 2021 – that is fairly far out to be predicting but we’re glad no changes are envisioned.

      • As an aside, we note that Insulet’s gross margin in 2Q18 (66%) exceeded Dexcom’s in 2Q18 (63%). While Dexcom had some G6 manufacturing expenses of its own, this is really a testament to how seriously Insulet’s team has improved profitability. Two years ago, Insulet’s gross margin was at 54%, while Dexcom was at 65% - wow!

  • Insulet has $456 in cash and investments, down from $566 million at the end of 2017. Management noted that the sizable burn rate is primarily due to investment in US manufacturing and supply chain operations. On that front, automated Pod production at the new Acton facility is expected in early 2019. Production at the facility will ramp through 2019, and won’t serve the full US business until “probably late 2019, early 2020.”

4. Worldwide User Base Expected to Hit ~167,000-177,000 by End of 2018 (Up 15%-26% YOY); Private, Public Access Wins Highlighted

Insulet expects the worldwide Omnipod user base to rise to ~167,000-177,000 by the end of 2018, reflecting growth of ~15%-26%. This is notably broader than 4Q17 guidance, which called for 20% YOY growth. This estimate encompasses projections for the US Omnipod user base to rise to ~91,000-96,000 (up 18%-20% YOY) and for the OUS base to rise to ~76,000-81,000 (up 20%-25%). Said Ms. Petrovic: “We really are just getting started” and that is for sure, particularly due to the automated insulin delivery coming! Management detailed a number of key access wins Insulet’s realized in recent months:

  • Growth associated with UHC in-network coverage, expected to accelerate in 2019, was characterized as “extraordinary” (now 90%-94% of commercial lives covered);

  • Regarding Medicare, Express Scripts and Magellan added Omnipod as a covered Part D benefit effective April 1, 2018, and other payer conversations are “progressing really well.” Payers will publish their formulary schedules from the end of August through October, so Insulet will have a better idea of 2019 Medicare coverage breadth by the Q3 call;

  • Insulet gained ~4.5 million covered Medicaid lives in Q2, bringing the total to ~30 million. This number is expected to continue to grow through 2018 and 2019;

  • British Columbia’s public insurance extended Omnipod coverage for all ages and make pump reimbursement a lifetime benefit; and

  • Greater Medicare/Medicaid coverage does have pricing implications: Very positive volume effects, but slightly offset by lower reimbursement. (Dexcom has the same trend.) Management noted that some providers who had patient bases with solid commercial coverage may have been hesitant to offer Omnipod without Medicare and Medicaid coverage. Now that Medicare/Medicaid are improving for Insulet, the team is finding that these providers are much more willing to prescribe Omnipod. Significantly broader access is obviously a huge win, despite lower levels of pricing.

5. Payers responding well to pharmacy move, an advantage over other pumps

Management underscored that payers are responding well to the move to the pharmacy, which shifts some cost from the “free” PDM to the recurring Pods. Said Ms. Petrovic: “It's just a sort of further enhancing the advantage that Omnipod already has over these other systems where payers are plunking down a ton of money and then keeping their fingers crossed and hoping that people stay on the product and get the benefit. So we've just eliminated that hurdle for payers.” She added that the pharmacy channel provides a faster turnaround, reduces paperwork burden for clinics and patients, and improves patient convenience and (possibly) economics. It seems like diabetes technology has some real momentum on this front now, presumably helped by Abbott’s FreeStyle Libre, Insulet getting Medicare Part D, and now Dexcom opening up these discussions with G6 (see its 2Q18).

Pipeline Highlights

1. Dash Limited Launch Began in July, Will Scale to Full Market Release in “Early 2019”; “Big Hit” at ADA

Following FDA clearance in June, a limited launch of the next-gen Omnipod Dash system commenced in July. As previously guided for, the release will scale over the next two quarters and move toward full market release in early 2019. Management reported that the Bluetooth-enabled pod, touchscreen PDM (locked-down Android phone), secondary display iOS apps, and paired Ascensia Contour Next One BGM was a “big hit” at ADA, and that “meaningful [payer] coverage” has already been secured. The call highlighted very positive reception at the booth, particularly from HCPs (with whom the Display and View mobile apps were a hit) and with patients (who particularly appreciated the integrated Dexcom G6 CGM-Omnipod iPhone Today Widget screen view – a brilliant way to close to CGM integration, but without any the regulatory burden). Ms. Petrovic highlighted one piece of feedback from a Dash user, who said it took her four minutes to learn the system and prime a pod – wow! Ease of use was definitely a priority for Insulet in the development of this system, and boy did it pay off…see a number of screen shots of the user experience here and here.

  • In Q&A, Ms. Petrovic was asked how Insulet plans to fend off competition from Roche’s Solo patch pump (currently undergoing limited launch in Europe). She replied: “We certainly have good insight into Roche's product. We've been contacted by some of the customers in the UK that were reached out to about participating in a clinical trial with Roche's product. It’s early days and I don't know that anyone's even seen the product, but they have received the user guide. And I think what we're hearing from clinicians is that it's a very complex product. In fact, one customer sent us the user guide and pointed out that it's not waterproof, it's six components and has a 12-step process before putting the pod onto the patient. So, I think at least early days it certainly seems like a fairly complex, not-as-user-friendly device. But our job is to make sure that we have the most compelling delivery mechanism and that we have the best customer service and the best commercial team in the market. So that's certainly what we're focused on.”

    • We haven’t gotten to test drive Solo, but we have written a deep dive on feature set from afar. In brief: The five-component on-body patch is certainly more complicated to prepare than the Omnipod, and it does have an inserter. (The semi-disposable design could potentially make it easier to scale and provide better margins, though we’re not sure.) The Solo touchscreen handheld includes an integrated Accu-Chek Aviva BGM, a bolus calculator, and looks more modern than earlier Solo gens, though it’s still a medical device and not as slick as Dash. Patients will be able to bolus on Solo from the handheld or directly on the patch pump, a nice win and incremental leg up on Omnipod (no on-pump bolus button). Solo doesn’t appear to have a paired mobile app, though since it does have Bluetooth, we assume this could be added. There’s certainly room for both of these products to be successful in Europe and beyond, and we ultimately hope the competition will drive both sides to innovate faster and pursue alternative payment models.

2. Horizon AID Launch in End of 2019 or early-mid 2020; IDE 3 (2-6 Year Olds) to Wrap Up in September, then on to Pre-Pivotal or Pivotal

Insulet management continues to guide for a launch of the Horizon hybrid closed loop system in end of 2019 or early-mid 2020. Horizon is currently in the second half of the third IDE study, where Insulet is “learning a lot about the system performance in two-year to six-year olds in free-living conditions.” After the study wraps up in September, Insulet will share the data with FDA, which will dictate whether the company will proceed to a pre-pivotal or a pivotal study (termed “final IDE” today). If a pivotal study is next, Ms. Petrovic said that there is still a path for launch in “end of 2019, early 2020”; if another study is in the cards, then “it may add a few months to the timeframe” (~mid-2020). Notably, management has been meeting with FDA and Dexcom about iCGM, which “could be a tailwind” timing-wise. As a reminder, Tandem obtained FDA approval for Basal-IQ (PLGS) with iCGM compatibility (Dexcom G6) based on the PROLOG pivotal study, which actually used G5 – that Insulet hasn’t begun using G6 in studies is probably an advantage, since it can design for this from the start. As a side note, though Ms. Petrovic didn’t say anything about Insulet’s consideration of leading the charge to an integrated pump (“iPump”) designation, she did suggest that FDA is “giving pathways like the iCGM and iPump.” FDA has talked about iPump and certainly made it clear a De Novo is possible here – who will be first?

  • At ADA, we saw positive five-day, free-living Horizon closed loop data from the IDE 3 program in adults, adolescents, and children (6-12 years). The data from the adolescents and children was particularly notable, showing very impressive 3-4-hour/day improvements in time-in-range (!) and two-hour/day reductions in time>250 mg/dl. This is going to be a very strong, well-tested system with an unparalleled on-body form factor.

  • Ms. Petrovic predicted that the pump market could grow at a CAGR of 8%-9% over the next 5-10 years, which sounds a bit low to us. Over 10 years, such growth would result in a more than doubling in market size! Interestingly, she suggested that CGM is a big driver of this trend: “…as people get more visibility to their glucose trends, they typically want tools to help them control that. And Omnipod is a great tool for that.” We’ve been saying this for a long time – automated insulin delivery could be the “killer app” that accelerates both fields!

3. U200 Omnipod Delayed from “2020” to “End of 2020 or 2021”; U500 Presumably on Track for 2019; US Base Currently ~13% Type 2

The Lilly-partnered U200 Omnipod is now expected to be on the market “toward the end of 2020 or 2021,” back from February guidance for a 2020 launch, though it is “making good progress.” There was no update on the U500 Omnipod, so we expect it is still on pace for a 2019 launch. Very positive results from the VIVID RCT, comparing U500 Omnipod vs. U500 MDI, were presented by Dr. George Grunberger at ADA: By the end of the 26 weeks, both groups had significant A1c reductions with U500 insulin, but the Omnipod group’s decrease was significant greater by 0.4%; -1.27% vs. -0.85% (p<0.001). Ms. Petrovic shared that ~13% of the US business is composed of type 2s, a segment that has kept up with the growth in the rest of the market. Of course, with the launch of U500 and U200 Omnipods, the company expects the type 2 base to grow even further in the coming years.

 

-- by Brian Levine, Adam Brown, and Kelly Close