Spectral AI Q4 2023 Earnings Call Transcript

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March 27, 2024

There are 7 speakers on the call.

Operator

Good afternoon, and welcome to the Spectral AI 4th Quarter and Full Year 2023 Financial Results Conference Call. All participants will be in listen only mode. Please note, this event is being recorded. I would now like to turn the conference over to Devin Sullivan, Managing Director of The Equity Group. Please go ahead.

Speaker 1

Thank you, Gary, and good afternoon, everyone. Thank you for joining us for Spectral AI's 2023 Q4 and full year financial results conference call. Our speakers for today will be Pete Carlson, Chief Executive Officer and Vince Capone, the company's Chief Financial Officer. Before we begin, I'd like to remind everyone that during this call, certain statements may be made that constitute forward looking statements within the meaning of the Safe Harbor provisions of the United States Private Securities Litigation Reform Act of 1995, including statements regarding the company's strategy, plans, objectives, initiatives and financial outlook. When used during these discussions, the words estimates, projected, expects, anticipates, forecasts, plans, intends, believes, seeks, may, will, should, future, propose and variations of these words or similar expressions or the negative version of such words or expressions are intended to identify forward looking statements.

Speaker 1

These forward looking statements are not guarantees of future performance, conditions or results and involve a number of known and unknown risks, uncertainties, assumptions and other important factors, many of which are outside the company's control that could cause actual results or outcomes to differ materially from those discussed in the forward looking statements. As such, investors are cautioned not to place undue reliance on any forward looking statements. Investors should carefully consider the foregoing factors and the other risks and uncertainties described in the Risk Factors section of the company's filings with the SEC, including its registration statements and other documents filed by the company. These filings identify and address other important risks and uncertainties that could cause actual events and results to differ materially from those contained in the forward looking statements. With that said, I'd now like to turn the call over to Pete Carlson, Spectral AI's Chief Executive Officer.

Speaker 1

Pete, please go ahead.

Speaker 2

Thank you, Devin, and good afternoon, everyone. We appreciate you joining us today for our financial results conference call. For some of you, this may be the first time hearing from me as CEO of the company, and I'd like to take a moment to provide some background. I joined Spectral AI this year as CFO in early January and was appointed CEO on February 29. Most recently, I served as CFO of MeMedics Group, a company focused on managing the treatment of chronic and hard to heal wounds, including diabetic foot ulcers.

Speaker 2

1 of the key attributes that attracted me to Spectral AI, especially given my experiences on the wound treatment side of the equation of Amedix, is my belief that the accurate and immediate wound care assessment provided by our DeepView system can deliver more efficient and more effective health care that reaches across the health care ecosystem from patients to clinicians to institutions and of course to payers. For a combination of proprietary image capture hardware and software, a clinical database that now includes more than 340,000,000,000 clinically validated data points and an ever learning artificial intelligence algorithm, our DeepView system provides an accurate and immediate yes or no answer as to whether a wound will heal on its own or requires advanced medical intervention. To the best of our understanding, there's currently no existing diagnostic tool for burns that uses the breadth of light spectrum employed by DeepView and that can produce a validated immediate and predictive assessment. For burn wounds, DeepView has a clinically validated accuracy of 92%. What does all this mean?

Speaker 2

For the burn patient, this means reduced pain and suffering, a faster and more appropriate treatment plan and reduced risk from complications such as infection that may arise from an inaccurate or delayed diagnosis. For clinicians, DeepView supports an immediate and informed treatment decision, allowing them to act in the best interest of their patient quickly and with a high level of confidence. This is an important point when you consider that there are fewer than 250 burn specialists in the entire country. These individuals, despite years of training, have less than a 75% accuracy rate in determining whether a burn would will heal on its own or require medical intervention. For institutions, DeepView promotes a quality of care and ground level efficiencies and allocating precious healthcare resources.

Speaker 2

There are approximately 125 burn centers in the United States, which by definition makes them a limited resource and a scattered one at that. Most burned injuries present at local emergency departments where physicians with no burn training have a diagnostic accuracy rate of about 50% equivalent to a coin flip. DeepView can place specialist burn expertise in the hands of all healthcare professionals regardless of rural or urban locations of the institution. Finally, for payers, DeepView provides objective coverage support and eliminates unnecessary procedures, while justifying clinician driven decisions to treat patients sooner using the assistance provided by our technology. One example, research indicates a typical stay in a burn center is 8 days.

Speaker 2

We believe that the use of DeepView can reduce that stay by as much as 3 days, a reduction of 37.5%. For diabetic foot ulcers, or DFUs, our largest market opportunity, similar benefits apply. Like our burn application, as far as we know, there is no diagnostic tool to assess DFUs, which are complex, have a non linear healing trajectory and can often result in amputation. The standard of care for DFUs, which are often chronic in nature, is typically a 4 week wait and see approach using standard of care as outlined by payers before the use of advanced wound care therapies such as bioengineered skin substitute is provided. From our perspective, that's 4 weeks too long and we believe the use of DPU by clinicians can result in appropriate treatment commencing upon the first presentation of the wound.

Speaker 2

That takes us to where we are in the process of developing and commercializing the DeepView platform. I use the word platform deliberately because of the inherent flexibility of the technology. As discussed, our current focus is burn and DFUs. However, we believe that the platform can, over time, support multiple clinical indications. Goal remains for the DeepU system to become part of the clinical treatment flow at emergency departments, hospitals, burn centers and clinics for both diabetic foot ulcers and burn wounds.

Speaker 2

We have a well defined business focus for 2024 and beyond and continue our to continue our research, development and clinical activities, while also driving DeepView from the clinical environment to commercialization. I'm pleased to say the team has made good progress along a number of fronts. I'll touch on a few of these. For Bern, in September 2023, we were awarded the largest contract in our history from the U. S.

Speaker 2

Government, Project BioShield, valued up to $150,000,000 This multi year, non dilutive contract includes an initial award of $54,900,000 to fund continued research and development activities through the Q1 of 2026, leading to submission to the FDA of an application for de novo approval. This award brings total non dilutive support from the U. S. Government to develop our burn indication to approximately $250,000,000 In January 2024, we commenced enrollment for a pivotal study initiated in December to validate the DeepView system for burn, which is expected to be the final clinical trial before seeking FDA approval. This study is conducted in burn centers and emergency departments with an enrollment target of 240 subjects in both adult and pediatric patients.

Speaker 2

In February, we received UKCA authorization to commence sales of our DeepView system for burn in the United Kingdom. We deployed our first burn device in March and expect to commence generating commercial revenues in the second half of twenty twenty four. This is a great milestone for the company and a significant validation of our technology. In March, we received a new contract valued at $500,000 from the U. S.

Speaker 2

Government that provides additional support for the development of the handheld version of our DeepView system called DeepVue Snapshot M. This new award brings total external non dilutive support for the DeepVu Snapshot M to more than $6,000,000 Now let me discuss our regulatory filing outlook. We continue to advance work under our current U. S. Government contracts for our DeepU system burn indication and plan to submit regulatory filings for the approval of this indication in the U.

Speaker 2

S. In 2025. We are pursuing the commercialization of our DPU system for the assessment of DFU in the U. S. And the U.

Speaker 2

K. And expect to submit regulatory filings for the approval of this indication in both countries later this year. Given the expected time frames associated with each of these filings, we would expect to be generating commercial revenues across 4 platforms, burn in the U. S. And UK and diabetic foot ulcer in the U.

Speaker 2

S. And UK by 2026. I want to briefly discuss some recent announcements. As you know, one of the most valuable assets Spectral Controls is our intellectual property or IP, which our team has developed over the years. We have 20 allowed U.

Speaker 2

S. And international patents and 34 pending U. S. And international patents. Additionally, the useful life on our key patent protection of our core concepts exceeds 14 years.

Speaker 2

Earlier this month, we announced the formation of a wholly owned subsidiary called Spectral IP that will focus on developing or acquiring IP applicable to the broader artificial IP that will focus on developing or acquiring IP applicable to the broader artificial intelligence ecosystem, specifically within healthcare. We have received a $1,000,000 investment from an affiliate of our largest shareholder, who is also a globally recognized IP industry leader. We believe that Spectral IP has the potential to add value to our shareholders by unlocking applications within our own IP library and through acquisitions, strategic partnerships and collaborations with AI technology providers, healthcare institutions and research organizations. One final point that Vince will highlight in his remarks is our improved financial position, including last week's announcements about our capital raise with a long only investor. This additional capital supports the strategic imperatives I have discussed, including our commercialization efforts.

Speaker 2

With that, I will turn things over to our newly named Chief Financial Officer, Vince Capone. Vince?

Speaker 3

Thanks, Pete, and thank you all for joining us today. I would like to remind everyone that our press release issued this afternoon contains additional detail of our operating results. We expect to file our 10 ks with the SEC later this week. With that in mind, I will focus my remarks on select highlights and key items. Starting with the Q4 2023 results, research and development revenue was $5,300,000 as compared to $6,100,000 in the prior year period.

Speaker 3

This decrease reflects less activity during the quarter as we completed work under the BARDA burn 2 contract. This decrease was expected as clinical trials were nearing completion at the end of the year. As a reminder, especially for those of you who may be new to Spectral, R and D revenue is driven by our research and development activities. We invoice the government monthly to reflect our R and D expenditures with an added margin of approximately 62 percent to cover expenses such as labor, 3rd party contractors and consultants. We generally receive payment against these invoices from the government shortly after invoice submission, which produces a positive and predictable effect on our P and L and our cash flow.

Speaker 3

Gross margin in the 4th quarter rose to 46.1% as compared from 41.1% in the prior year period, due primarily to the increase in the new governmental contract reimbursement rate associated with the BARDA PBS contract as compared to the prior BARDA burn 2 contract. General and administrative expenses in the 4th quarter rose to $5,400,000 as compared to $4,300,000 in the prior year period, primarily driven by an increase in our headcount by almost 30% from 2022. Moving on to our full year results, research and development revenue in 2023 was $18,100,000 a 28.8 percent decrease from the $25,400,000 reported in 2022. The year over year decrease reflects a wind down in activity due to the completion of our work under the BARDA burn 2 contract. During the Q4, we initiated work on the BARDA project BioShield contract as Pete mentioned.

Speaker 3

The contract represents the largest in our company's history with a value of $150,000,000 Gross margin rose to 43.6 percent from 42.7% in the prior year period despite a decrease in our gross profit. This increase in gross profit percentage was driven by the reimbursement rate under the BARDA PBS contract, which has a higher rate as compared to the BARDA burn 2 contract, therefore creating a favorable impact on the company's gross margin. General and administrative expenses in 2023 were $20,900,000 as compared to $13,500,000 in 2022, primarily driven by an increase in our headcount as we continue to prioritize our investment in key personnel that will support the growth of our platform indications and our path towards commercialization. Search and development expenses in 2023 decreased to $15,100,000 from 16.5 $1,000,000 in 2022. It's important to note that our total revenue and development activity is reflected both in our general and administrative expense and in our cost of revenue.

Speaker 3

As a result, the decrease in 2023 is driven by lower activity, particularly later in the year on our government contracts, consisting primarily of the winding down of the Barn 2 contract and the ramp up of our Project BioShield contract. As of December 31, 2023, cash and cash equivalents totaled $4,800,000 and the company continues to have no long term debt. As of today, our cash position is approximately $10,000,000 not including an additional $1,000,000 in our newly formed subsidiary Spectral IP. Regarding our liquidity, I would like to highlight the following. First, as Pete discussed, the Project BioShield contract awarded in September provides up to $150,000,000 of non dilutive funding if all future options are exercised.

Speaker 3

The initial $55,000,000 commitment at execution of the contract will fund development activities through the Q1 of 2026 for our DeepFUSE system for burn, including our ongoing pivotal clinical trial. Next, earlier this year, the company drew down under an existing committed equity facility receiving net proceeds of approximately 2,800,000 dollars This represented issuances of approximately 1,200,000 shares at an average gross issuance price of $2.39 per share. The company may draw down an additional $3,000,000 under the committed equity facility prior to implementing our new standby equity line of credit. Finally, as announced last week, we entered into a prepaid advance and standby equity purchase agreement that has a total capacity of $30,000,000 consisting of a prepaid advance of 12,500,000 dollars 5,000,000 of which was funded March 20, 2024 at a fixed conversion price of $3.16 We expect to receive funds from the additional $7,500,000 of the prepaid advances during the Q2 of 2024. Conversion prices for the additional advances are fixed at

Speaker 2

the time of the funding.

Speaker 3

For clarity, I want to remind you that any funding under the Standby Equity Purchase Agreement beyond the prepaid advances is solely at our discretion. We believe that our recent financial agreements in combination with our multi year non dilutive funding provided by our U. S. Government contracts provides us with a sound financial foundation to pursue our strategic objectives. For 2024, we would like to reiterate our revenue guidance of approximately $28,000,000 and expect an increase of about 55% from $18,100,000 in 2023.

Speaker 3

Much of this growth will be derived from the PBS contract with initial contributions from the ongoing handheld contract. Revenue from the commercialization of our DeepVue AI burn in the United Kingdom, which we expect to commence in the second half of twenty twenty four will be in addition to the $28,000,000 guidance. With that, I will turn it back over to Pete.

Speaker 2

Thank you, Vince. Before turning to your questions, want to thank our team for their dedication and commitment to our promise to develop and commercialize our DPU system. Their achievements to date and those on the horizon drive our success. The management team is excited to leverage the sound financial footing Vince described in supporting the team's efforts. Gary, we can now open the call for questions.

Operator

We will now begin the question and answer session. Our first question today comes from Ryan Zimmerman with BTIG. Please go ahead.

Speaker 4

Good afternoon. Thanks for taking my questions. Can you hear me okay?

Speaker 2

Yes. We hear you great, Ryan. Good afternoon.

Speaker 4

Good. Congrats. I'm wondering if you could talk about the business and the company. I'll start with the UK. It's a good validation that you guys can execute.

Speaker 4

Maybe Pete, love to get your initial impressions about what you're seeing in the UK, and of how you're approaching it, where you expect to see adoption and any other incremental color or anecdotal feedback you can

Speaker 2

locations lined up for deployment of the machine. As we sit here today, 2 are in the field and beginning use. The initial feedback from that deployment is very positive, including an ease of use and a significantly reduced scale and operating complexity compared to laser directed tool that is in place there in the United Kingdom. We've got a series more, 5 or 6 more locations where we will deploy the device. And what's happening over these few months is a bit of field validation by these clinics.

Speaker 2

After that period of time is when we'll enter into the commercial arrangements with those clinics and they'll use the devices that they've had on-site. So we are in the field, continuing our rollout and looking to work with those institutions, those clinics as they gather data and then pivot to this commercialization. The benefit here is that is real world data we will obtain. And that real world data can be useful in many ways. It's not only information for us as we continue to improve our development or improve the device through our development activities, but it's also information we can use to help inform payers, institutions and others about the success of the tool.

Speaker 4

Okay. Very helpful, Pete. And the BARDA guidance has been very clear, the $28,000,000 for this year. It's pretty well known. There's not a lot of changes to timelines in that given you kind of control your R and D efforts and then are rewarded by VARTA.

Speaker 4

But given maybe the incremental capital you brought in, given the UK approval, has your outlook on spend or burn changed at all that we need to consider that allows you to maybe accelerate development of anything over the course of the next year as you're sitting here today?

Speaker 2

Brian, we see these resources and financial foundation taking us well into 2025. So while our burn is there, we do feel like these resources support us for the next 12 to 15 months, 15 to 18 months maybe. And it does allow us to accelerate activity. We will increase some hiring, so our people will see our headcount go up. And that the particular area will be our commercialization effort.

Speaker 2

So we've anticipated some of that in our timelines and we're now Okay. Last one for me and I'll hop back

Speaker 4

Okay. Last one for me and I'll hop back in queue. Just any feedback or updates on the progress of the burn trial that you can provide? Anything you've learned so far that maybe allowed you to become more efficient with the enrollment of that trial? We're coming up we're coming into the American Burn Association meeting.

Speaker 4

So just curious kind of what's top of mind there for you guys? And thanks for taking my questions.

Speaker 2

Happy to take the questions. You mentioned the burn conference the week of April 8. That's a great gathering. And we will actually have all of our sites represented in hosting a breakfast that we're looking forward to our opportunity to interact with all of our investigators. At this point, our enrollment is moving along.

Speaker 2

We're not quite at 10%. We're between 5% 10% of enrollment. And we expect by the end of April, we will have almost half of our sites up and fully engaged enrolling participants. We've been pleased with the breakout of adults and pediatric participants. We have a commitment to get at least 25% of pediatric participants in the survey and potentially as many as 40%.

Speaker 2

And that's kind of that was asked from the government to match up to the indication of burn in the marketplace, what we've seen across the country. So we're pleased with the enrollment. We are looking forward to the other sites getting up and running and continuing to learn from that.

Speaker 4

Great. Thanks for taking the questions, Steve.

Speaker 2

Thanks, Ryan.

Operator

The next question is from Carl Byrnes with Northland Capital Markets. Please go ahead.

Speaker 1

Thanks for the question and congratulations on your progress. I think most of my questions have been answered, but I'm wondering if you can provide a little more detail on the launch in the United Kingdom, specifically with respect to staffing So again devices and staffing. And then just wanted to clarify and I think it was just said that the $28,000,000 did not include any contribution from UK sales related to launch? Thanks.

Speaker 2

Carl, that's correct. The $28,000,000 is the research and development revenue. Admittedly, the commercial revenue from these deployments will not be overly significant. It is additive. We would 6 to 8 is the range of deployments we have initially lined up.

Speaker 2

Currently, we have a handful of staff in the UK and we don't see the need to significantly increase that to support this activity.

Speaker 1

Great. Thanks. So the manufacturer

Speaker 2

yes, sorry, the manufacturer of the devices is done here stateside. We have the biomedical, we have a clinical clinician and we have sales resource there in country. So we don't see significant need. There will be a little bit, but nothing significant.

Speaker 1

Great. Thanks. My other question, they were related to the DFU clinical trial and ramp up, you covered that. So thanks so much. Congratulations again on the progress.

Speaker 2

Thanks, Karl.

Operator

The next question is from John Vandermosten with Zacks. Please go ahead.

Speaker 5

Hi, Pete. Hi, Vince. Thank you for taking my questions and good afternoon. Let me start out with a question. And Vince, you touched on this a bit in the in your prepared remarks, how the $55,000,000 is allocated.

Speaker 5

I guess you do work and then you bill the government. Is that a monthly or quarterly event for that process?

Speaker 3

Sure. No, Jonathan. So we actually do it on a monthly basis. And we have a lot of experience with BARDA. And so for us, it's a process that we go through monthly, and we generally get paid within the following month.

Speaker 3

It's a few weeks. And so it's not quarterly. It's a monthly total on R and D expense as we progress through the year.

Speaker 5

Okay. And regarding that program, is there a certain proportion of, I guess, total cost of advancing the candidate to approval that the program tries to cover? Or is it covering the whole amount?

Speaker 2

Yes, it covers the clinical trial cost.

Speaker 5

Okay. Plus that extra kind of overhead amount?

Speaker 2

Yes, correct.

Speaker 5

Okay, great. And then going to the U. K. Again, in previous rollouts of devices in the U. K, I've noticed I've seen that they do it by country in Wales, Northern Ireland, Scotland and England.

Speaker 5

They're all kind of a little bit separate as part of the NHS. I don't know if that applies here, but I was wondering if there are any more regulatory hoops or anything you need to jump through to get broader expansion into the UK?

Speaker 2

Nothing significant, no. This is a UK wide mark. The UKCA is a post Brexit regulatory approval or access point. You would think of the broader known CE Mark across the continent and the UK had to have their own once they exited the European Union.

Speaker 5

Okay. And then last question is on the way you structure the arrangement. I'm assuming that the there's a subscription component to the AI part, which is always updating, I guess, with new information. Is that how that

Speaker 2

works? Yes. There's the opportunity for revenue on the device deployment itself, device sale as well as annual annuity revenue, if you will. Really, there's 2 or 3 components. The largest is the license for the AI, but there's a service component and the maintenance component.

Speaker 5

Okay. And it's constantly

Speaker 3

updating? Yes.

Speaker 2

So the run rate, the annuity is the annual fees.

Speaker 5

Okay. Okay. And that part, I guess, that's driving the analysis of the images. Is that constantly updating or like annually updating or is there some periodicity to that?

Speaker 2

Right now, the device has been developed to be standalone. This is a requirement for the contract with the U. S. Government. Remember that our government partners' primary motive is mass casualty event response.

Speaker 2

So they want the device to be able to stand be standalone. There's even a battery requirement for the device. And so, at this point, we are looking at batch updates or annual updates to the AI model. Again, we're already at 340,000,000,000 pixels or data points. So there's a very robust data set in there, but we do want to build on the machine learning over time.

Speaker 5

Great. All right. Well, thank you for taking my questions. I appreciate it.

Speaker 2

Thanks, John. Thanks.

Operator

The next question is from Cliff Ricuso with Partner Cap Group. Please go ahead.

Speaker 6

Yes. Good afternoon, gentlemen. Two brief questions for you. The first circling back to your regulatory authorization in the UK. My understanding, correct me obviously if I'm mistaken, but my understanding is that quite often out of the Middle East, various regulatory authorities, health regulatory authorities wait for the U.

Speaker 6

K. To authorize devices and procedures and they go ahead and authorize the same. Are there any developments in the near to medium term that you guys can begin to allude to out of the Middle East in that regard? And then the second question very briefly is in regard to the $28,000,000 that you're forecasting for this fiscal year. Do you have any conception of what your margins, specifically gross and operating margins might look like for fiscal 'twenty four?

Speaker 6

Thank you.

Speaker 2

Cliff, good to talk. On the Middle East situation, you are correct. The GCC or Gulf Council countries are able to leverage the UK regulatory mark or approval for access into those regions. We are in discussion with parties in the Middle East about this. We have attended multiple conferences in the Middle East.

Speaker 2

It is an active market for wounds, particularly diabetic foot ulcers. And so we do see that as a market opportunity. We haven't given any specific guidance or timeline just given sort of logistics over there, But we are in actively pursuing that opportunity. As far as the margins on the $28,000,000 they're going to be relatively consistent with what you've seen particularly in the Q4, maybe a touch higher.

Speaker 3

Okay. Thanks, Bill. Guys. Yes, I would echo that. I think we're going to be consistent with the numbers we presented in the Q4, maybe slightly higher as we roll into the PPS contract for all of 2024.

Speaker 6

Great. Okay. Thank you very much.

Speaker 3

Thanks,

Operator

Chris. This concludes our question and answer session. I would like to turn the conference back over to Pete Carlson for any closing remarks.

Speaker 2

Thank you again for your participation and continued interest in spectral AI. We're very pleased with the progress we have made and remain optimistic about our prospects for future growth. We hope to speak with you at future events, including the upcoming American Burn Association Annual Meeting in April in Chicago and various investor conferences that we will announce throughout the year. Thank you, and have a good evening.

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.

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