Insulet Corporation (PODD) Q1 2012 Earnings Report, Transcript and Summary

Good afternoon. My name is Misty and I will be your conference operator today. At this time I would like to welcome everyone to the Quarter 1 2012 Insulet Corporation Earnings Conference Call. [Operator Instructions] Thank you. Mr. Brian Roberts, Chief Financial Officer, you may begin your conference.

Thank you. Good afternoon, everyone. Thank you for joining us for our first quarter 2012 conference call. I’m Brian Roberts, Chief Financial Officer of Insulet. Joining me on the call today is Duane DeSisto, our Chief Executive Officer. Before we get started I’d like to remind everyone that our discussion today may include forward-looking statements as defined under the securities laws. We intend these forward-looking statements to be covered by the Safe Harbor provisions for forward-looking statements contained in Section 27A of the Securities Act and Section 21E of the Securities Exchange Act and are making this statement for purposes of complying with those Safe Harbor provisions. The forward-looking statements reflect our current views about our plans, intentions, expectations, strategies and prospects, which are based on the information currently available to us and on assumptions we have made. There are risks and uncertainties that could cause actual results to differ materially from those expressed in the forward-looking statements. Information concerning the company’s potential risks and uncertainties is highlighted in the company’s press release issued earlier today and in the Risk Factor section of the company’s SEC filings, including the company’s annual report on Form 10-K for the year ended December 31, 2011. These risk factors apply to our oral and written comments. We assume no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise. I’d also like to remind you that the guidance we’re offering today represents a point-in-time estimate of our future performance. You'll find a link to the webcast of this call as well as to today’s press release at myomnipod.com in the Investor Section. And now I’ll turn the call over to Duane.

Thanks, Brian, good afternoon, everyone. 2012 is off to a strong start as the first quarter was another period of solid execution for Insulet as we continue to make significant progress across all aspects of the business. Revenue increased by 69% to $47.8 million in the quarter, representing about 25% organic year-over-year growth. Nearly 10% of the people using an insulin pump today in the United States have chosen to use the OmniPod system to better control their diabetes. The reason is simple: the OmniPod with its unique features, such as no tubing, automatic cannula insertion and discreet, watertight design, give people the freedom to do what they want, when they want, without the hassles of conventional style pumping. Despite the typical slow start to the year due to the timing of trainings and the resetting of deductibles, we have seen solid sales performance. Referrals were up over 15% in Q1 as compared to the prior year, and the momentum we saw in March has continued building into April and May. Since January 1, we have added several new members to our commercial team in the form of territory reps, clinical service managers and inside sales. Just last week, we officially launched our new inside sales capability to improve our sales lead handling efforts by guiding prospective customers more efficiently through the sales process. We believe that this new capability will boost overall sales productivity as we better qualify leads before handing them over to our field base team. As our new team members get up to speed, we believe that the productivity will continue to improve in time to support the launch of the next generation OmniPod. Our solid revenue growth was supported by ongoing process improvements in our operating capabilities. We manufactured a record 1.4 million pods in Q1 and are pleased that the improvements made to the pod in the fourth quarter of last year have resulted in better overall pod quality. Calls into our customer support team decreased in April to their lowest levels in a year, and our average cases per patient metric is at an all-time low. The manufacturing team has also been focused on our next generation OmniPod. As we previously discussed, our plan calls for 3 manufacturing lines, each averaging about 250,000 to 300,000 pods per month by the end of 2012. The first line is operational and manufacturing product, while the implementation of the second line remains on schedule for completion near the end of the second quarter. The third line is also on track to be completed around the end of the third quarter. On the regulatory side we continue to make progress towards receiving 510(k) clearance from the Food and Drug Administration. Since we last spoke, we have had several conversations with the agency and orally answered questions as part of these discussions. Recently we received a small written set of questions from the FDA. We have formally responded to these questions and now await further direction from the agency. While we believe that we have made significant progress towards clearance, we ultimately do not control the actual timing of such an approval. We remain confident that FDA clearance will be received in the coming months and our goal of converting the customer base to the next generation OmniPod by the end of 2012 remains achievable. We continue to move forward with our plans to unveil the new OmniPod at the American Diabetes Association Meeting, which commences on June 8 in Philadelphia. We achieved a significant milestone on the international front in the first quarter. In March, we made our initial commercial shipment of the new OmniPod to Ypsomed for use in the UK. We continue to make shipments of the new OmniPod in the current quarter and expect that we will convert all Ypsomed customers over the next few months. Ypsomed has proven to be an excellent partner for Insulet and we have been pleased by the progress they have made in key markets such as Germany, The Netherlands and the UK. As a result, just last month we expanded our partnership to include an additional 11 markets across Europe, Asia and the Middle East for a total of 22 countries. We also extended the relationship for another year, through June of 2016, and included purchase incentives which could add up to 2 additional years to our agreement. This gives both companies an appropriate amount of time to gain traction in these new territories. We are working closely together to develop timelines for launch in these additional locations. We expect all the new territories to launch with the new OmniPod. With the design and development work of our next generation OmniPod completed, we have commenced work on several new research and development initiatives. In the quarter, we announced the signing of a global agreement with LifeScan Inc, a subsidiary of Johnson & Johnson. As part of this agreement, we will integrate LifeScan’s OneTouch glucose monitoring technology into our handheld Personal Diabetes Manager starting in 2013. We're thrilled to partner with LifeScan as their OneTouch platform is recognized as a market leader throughout the world. Recently we had several productive discussions with DexCom and are pleased that both companies are ready to move forward with the development of the integrated handheld. The new combination PDM will leverage both companies' newest technologies, our next generation OmniPod and DexCom’s fourth generation sensor. Finally let me provide a brief update on our subsidiary Neighborhood Diabetes. Next month marks our one year anniversary of the acquisition and I am very happy with the progress to-date. We have commenced cross-selling activities, and while the revenue contribution is immaterial at this point, we’re pleased with the early results. Neighborhood Diabetes continues to win strategic accounts and we have launched their services around certain managed care plans in new key geographies, such as Texas. In March, we also welcomed Todd Durniak to the team as the new General Manager for Neighborhood Diabetes. Todd has an extensive resume of relevant experience and will be a strong leader for the Neighborhood Diabetes team. More than ever I am convinced the opportunities exist between these businesses of these -- between these businesses and remain excited about the progress to come. In summary, 2012 is off to a strong start and we are very optimistic as we look out to the rest of the year. We’ve extended our Ypsomed relationship and are thrilled that they have the new OmniPod in hand. We are eager to be working on exciting development projects with LifeScan and DexCom. Our commercial organization has been strengthened and is poised to drive and capture demand for the new OmniPod. We remain confident that we will achieve our goal of converting the customer base to the next generation OmniPod by the end of 2012. And with that, I’ll turn it back to Brian.

Thanks, Duane. Revenue increased by 69% to $47.8 million in the first quarter of 2012 compared to $28.3 million in the first quarter of 2011. On an organic basis, excluding the impact of the June 2011 acquisition of Neighborhood Diabetes, revenue grew by approximately 25% year-over-year. As we’ve seen in prior years, sales rebounded in March after a seasonally slower January and February. This momentum appears to be continuing into the second quarter. In terms of deductible issues and their impact on patients, the first quarter of 2012 appeared to be very consistent with what we saw in 2011. We do not expect insurance deductibles to be a significant concern in Q2. Gross profit for the quarter improved to $20.3 million compared to a gross profit of $13.5 million in the first quarter of 2011. Our gross margin was approximately 43% in the quarter, consistent with the fourth quarter gross margin and down from approximately 48% in the first quarter of last year. Margins in our U.S. OmniPod business remained flat at approximately 50% in the first quarter of 2012. Operating expenses for the first quarter were $31.2 million compared to $20.8 million in the first quarter of 2011 and $30.6 million in the fourth quarter of 2011. The year-over-year increase is primarily related to the operating activities of Neighborhood Diabetes, including amortization on acquired intangibles. Sequentially, the increase is primarily related to the ongoing FDA approval process, the additions to our commercial team and timing of payroll-related expenses. We reported an operating loss for the first quarter of $10.9 million compared to an operating loss of $7.3 million for the first quarter of last year. Our first quarter 2012 operating loss includes approximately $6.4 million of non-cash operating expenses comprised primarily of depreciation, amortization and stock-based comp. Excluding these expenses, our cash operating loss for the quarter was about $4.5 million. We continue to believe we will be at or near operating cash breakeven in the back half of this year. As a reminder, we define operating cash breakeven as earnings before interest, taxes, depreciation, amortization and stock compensation expense. Net interest expense was $3.8 million in the first quarter of 2012 compared to $2.6 million in the first quarter of 2011. The increase is a result of the refinancing of our convertible debt last June. Of the $3.8 million in interest expense, approximately $2.5 million was non-cash. For the first quarter, we reported a net loss of $14.8 million or $0.31 per share compared to a net loss of $9.8 million or $0.22 per share for the first quarter of last year. As of March 31, cash and cash equivalents totaled $83 million as compared to $94 million at December 31. We believe we have sufficient cash on hand to achieve operating profitability. And as of March 31, we had approximately $47.7 million common shares outstanding. Finally, we reaffirm our previous full year 2012 revenue guidance of $210 million to $225 million, representing nearly 40% to 50% growth from 2011. We continue to expect an overall operating loss of $25 million to $35 million. For the second quarter, we expect revenue in the range of $50 million to $53 million. And with that, let me turn the call back over to Duane.

Thanks, Brian. We had a strong first quarter as all aspects of the business continue to execute well. We manufactured a record level of pods and the quality of the product has never been better. We shipped the first next generation OmniPod to the UK and have extended our Ypsomed partnership to bring the benefits of the OmniPod to even more countries. We continue to make progress towards gaining 510(k) clearance of the next generation OmniPod, and we remain confident of launch later this year. 2012 is shaping up to be a transformational year for Insulet. And with that, operator, can we open it up for questions.

[Operator Instructions] Your first question comes from the line of Danielle Antalffy with Leerink Swann.

If I could just touch on the next gen OmniPod. Obviously that’s -- everyone's waiting with baited breath. Could you guys talk about what this sort of -- so it’s looking tight here for ADA. I know you talked in the past, hoping to get it by then. What’s the drop-dead date, so to speak, that you need to get approval by in order to achieve your goal of transitioning patients by year end?

Danielle, this is Duane. I think -- look, I think the drop-dead date, and it's reset around everyone's -- I think the drop-dead date is all centered around the manufacturing capability. As long as -- I think the manufacturing capability is really the gating factor to be there, and we’re pretty excited that we think we have a pretty clear picture on where we are and that we should be able to achieve that. And within that timeline we -- once again, I've got to be careful, but we have no -- based on the recent round of questions, we have no reason to believe that we won’t have FDA approval well before we have those lines up and working.

Okay, great. So if it's fair to think about how reorder rates go with the OmniPod, is it fair to say manufacturing aside, as far as approval goes, you'd need approval by sort of end of Q3, have a quarter where you can get transition on all of those patients, or is it earlier than sort of September 30?

Yes, no, that’s correct, Danielle. I mean we need, effectively, the reorder cycle which, with the great majority of our patients, is quarterly, to be able to really convert them over in a systematic way. I mean it would be challenging to try to take within an reorder period, if you only had a month or 2, I think that would be more of a struggle. Basically we need a reorder period to be able to get everybody converted over.

Okay, awesome. That’s really helpful. And then on the manufacturing side, it actually sounds like -- and correct if I’m wrong, you’re moving the timelines up a little bit, which is encouraging. If I remember correctly, the third line was supposed to be by year end. A, am I reading that wrong? And B, is there anything to read into that, i.e. maybe this could actually happen soon or faster?

Danielle, this is Duane again. Look, I think from our standpoint a couple of things have kind of gone right in the quarter. We've started making product so we’re kind of excited about it. We still have to get over all the normal stuff when you go from making 1,000 a day to 1 million a day. I mean, there's still -- I don’t want to trivialize this. Charlie'll kill me. But we feel pretty good about it. I think we have some really good visibility. And I think we gained a great deal of confidence by starting to produce the product. So we know where we are. And we still have to execute. I’m not -- like I said, I’m not making little of that because it’s always a big challenge to get all the pieces there. But now that we’re starting to produce, we know where the touch points are and we have people all over it.

Is it fair to say at this point that, based on what you know so far with the manufacturing first line up and running, second line should be up and running shortly, really once you get approval you guys are ready to go and you feel confident there won’t be hiccups?

Look, I think what we want to do is -- it's back to the same thing. If you’re making 1,000 a day, you learn things, you learn things. If you’re making 5,000 a day, you learn some more. We just want to be cautious, but I would tell you, we’re feeling pretty good about where we are. Like I said, I’d err on the side of caution because once I convert someone, I’m not going to be able to convert them back to the big one. So that -- in the back of my mind, that’s the thing that’s always gating everything we do. We want to make sure we’re pluperfect, because once I switch you to the little one -- as good as the current one is, once I switch you to the little one, you’re not going to want to go back to the big one. So I just want to make sure we got it right so we’re not in the ugly predicament and trying to explain to people, well, try the big one back on for a little while.

Your next question comes from the line of Kim Gailun with JPMorgan.

So first question is on the FDA manufacturing process. And could you maybe describe for us the content of your back and forth with FDA? It sounds like you had some verbal back and forth and then you had some written back and forth. Can you give us a little bit more color on the nature of the questions that were flying around on both of those?

Sure. I think on the verbal back and forth, the agency reached out on a couple of things that we submitted. They just needed some clarification. They didn't quite fully understand either where certain things were or what we were referring to. So that was straightforward. And on kind of the written back and forth, I would characterize -- I would characterize most of the questions as spun out of the previous responses that we made. So there's really -- I would tell you there's really kind of nothing new. Some of it was, we included a couple of summary reports, they wanted to see the detail behind the summary reports. One, we forgot to include a label, so there was some of that. It was -- I think in the first round of questions we had 40 something and this one was a little more than a dozen, but they kind of referred back, they were spun out of the 40 something responses that we sent them.

Okay that helps. So really nothing came across that was new or surprising relative to the prior set of questions?

No, I would tell you -- maybe the best way I can do this to give you some sense, I think within, I don’t know, 8, 10 -- don't hold me to the exact number, within 8, 10 days of getting the questions we responded, to give you some indication on -- more on the nature of them, right. So there was no running to a lab somewhere and doing some testing. We got the questions in -- like I said, within 8, 10 days I think we responded.

And is it fair to -- is it fair to think that you probably responded, the timing of that was probably within the last week, week and a half?

Yes, in the last couple of weeks. Yes.

Okay. And just a follow-up -- a separate question, excuse me, on manufacturing. On the line one, it sounds like every time we’ve spoken over the past kind of 3 months, it seems like things are really moving in the right direction. Can you tell us how many pods per month you’re making right now on line one?

Well, overall, I mean I think we -- at this point we have that capacity to make kind of in the neighborhood of 150,000 to 200,000 pods per month. We’re not running it every day, full speed. Don't really have the need to yet. Right? So -- but we absolutely are starting to produce product and there's some of those pods that are now part of our inventory. As we said, you can look at the balance sheet and see that our inventory balance has started to increase, and some of that is related to the [inaudible].

Your next question comes from the line of William Plovanic with Canaccord.

So walk me through, if you could, we have a couple things going on. We have the upgrade to the gen 2 pod. And then we have the J&J agreement which, if I read things right, Abbott ends in the end of February, J&J begins in March. How is that swap out going to go? You’re going to swap one handheld and then, 6 months later, you swap out a new handheld? Or can you just help me understand this, please?

So where we are, where we are with that is, we’re going to swap out, we’re going to swap out everyone to the new product, because we want to get them out. And then to go to the LifeScan product, there will be a cost associated with that until people come out of warranty. When people come out of warranty, then they'll come back into the pipe. We’re not going to immediately swap everyone out unless we’re compensated. For the LifeScan model. So LifeScan -- starting in ‘13, LifeScan will get all the new business that we’re doing.

Starting in January or March?

In March. So starting in March, everything going out will be a J&J, will be a J&J-embedded glucose meter. And but with regards to the installed base, there is a mechanism to swap that out if we're compensated. So, but if we’re not compensated, then we’re not going to swap it out.

I mean, Bill, said another way, I don’t think it’s fair to assume at this point that we'll ultimately only wind up with one blood glucose meter partner. Right? So certainly we’re very excited to have LifeScan as a partner and effectively have that option soon to be available for our customers. It doesn’t necessarily mean that we’re just going to wholeheartedly go from one to the next, at this point.

Okay. And then Brian, what is the cost of a handheld for you?

Today, roughly, excluding warranty costs and some other things, a little over $100 a PDM. So as we’ve talked about beforehand, when we swap people in the back half of this year to the next generation OmniPod, it’s effectively a 3-month payback, right, because we save somewhere in the neighborhood of $3 to $4 per pod. We’ll ship you about 30 pods in your initial reorder. And the cost of the PDM happens to be between that $100 and $120 mark, so that those effectively offset each other.

Okay. I asked the question, if you’re not going to be upgrading to the gen2 pod until the back half of the year, November, December -- October, November, December, whatever it may be, and then you literally right around the corner, 2 months later, have this whole new handheld, why wouldn’t you just wait a couple of months and then push everything out then?

again, I mean one of the big things is we think it’s important for our customers to be able to get them this next generation OmniPod as soon as we possibly can, right? Certainly there's some financial benefits to the business as well by doing so, but we think ultimately it’s going be a great product and it’s going to provide customers with a great experience. So our push is the same as it’s been, which is we’re moving everybody to the next generation OmniPod, frankly, as soon as we're able to.

And then I was wondering if you could just kind of frame the response you gave us in regards to moving forward with DexCom, and just give us a little more on that.

So Bill, this is Duane. I think where we are with DexCom, it was pretty simple. I think from day one, if you remember, to kind of give you -- not to bore everyone with the history, but we have put their gen3 sensor in our current handheld and we went through that whole process. We submitted to the FDA and we had, I don’t know, 80 pages of questions and they said, and this isn’t the end. So we kind of postponed that. So where we are now, the both companies -- now the both companies feel pretty good about the next generation product. I think from day one we said we think the process of doing this is pretty straightforward. What was the difficult part on the previous one was that both companies had to re-qualify every single product they had. So we had to re-qualify the pod, we had to re-qualify the handheld, they had to re-qualify the sensor. So I think the actual engineering of putting these 2 together is going to be pretty straightforward. DexCom's deep into their process, we're deep into our process. We can see the light at the end of the tunnel. So we think the engineering, we're going sit down and kind of bang this thing out and put it together and then go from there.

And I’d just add to Duane comments, that I think both companies have looked at this as a winning product combination that we both want to move forward with. And one of the benefits that we have is with the Neighborhood acquisition, is it allows us better opportunity to be able to serve customers in a more efficient manner. So those were some of the things we had worked through with the folks on the other side.

And your stake in the sand on timing of commercialization of the combination or sensor-augmented pump product?

Not yet.

None. Okay. Lastly, just to go back to the first question asked. A drop-dead date for ADA? It just sounds like you'll show the product at ADA, but you won’t have approval? You're expecting approval sometime after ADA, is that fair to say?

Once again, let me qualify this. I cannot speak, obviously, on behalf of the FDA. We got a set of questions that, within a very short period of time we had turned around. We are very encouraged by the set of questions. We are very happy that we could quickly answer them. So we have our fingers crossed. Having said that, there's nothing to say that 1 or 2 may not come back here. But we're in the queue. The agency has been pretty responsive and we're going to do whatever we can do to help them along. And I think the real trick for us is, as soon as we get any feedback from them, just to flip it ASAP. So like I said, I think we were -- we were very happy with what we saw coming back. We went from 40 something to 14 or 15, I think was the number probably. And it was very, very quickly -- very, very quickly turned around. So I mean we're not -- I’m not going to sit here and tell you we’ll have it by then, I’m also not going to sit here and tell you we won’t have it by then because I don’t control that piece. But I like I said, I -- we know the type of questions we had, we were able to turn them in literally -- I don’t know, 8 to 10 days we were able to turn those responses. And we're assuming to the extent we get something, hopefully it’s a much, much smaller subset of the one we had. And then we should hopefully beat their worst case.

Your next question comes from the line of Ben Andrew with William Blair.

Just 2 questions from me. Brian, you said I think it was x Neighborhood Diabetes growth was about 25%. Is that the pod growth?

It’s the legacy OmniPod business growth, if you will, yes.

Okay. And then you talked about Jan, Feb being weak with March kind of recovering. And you said it was typical to last year with continuing through April and into May. Can you sort of characterize the breakdown in the quarter? Is it like 40% of the revenues or 45% coming in March? And is that something we should continue to expect based on what you're seeing, given that you said you don’t see any new issues with deductibles and co-pays?

I mean we're always a little hockey stick in the third month of a quarter just given -- part of it's a sales cycle, where January and February every year is slow. Also just I’d tell you it’s normal I think just habit of companies, the last month of the quarter, the urgency maybe ratchets up a notch. And then our re-order cycle works off of that. So the 40%, 45% is probably a good parameter to use. That said, when we get into Q2, Q3, Q4, you don’t have that same seasonality effect that you have in January and February. So from an initial shipment side, it’s not as much of a hockey stick in the remaining quarters of the year.

_ Okay. And I guess just on that point, I mean if a patient is aware gen 2 is coming, are you seeing anybody not maybe yet deferring purchases, but is that a possible short-term impact? I mean you'd get those back, obviously, but is there any likelihood that we could see that over the next few months?

I mean I can’t tell you that it's going to be an absolute zero, by any stretch. I mean who knows for sure. We certainly think there's patients who are going to be very excited about the next generation OmniPod who, for whatever reason, don’t want to have the current one and haven’t come on the product before. I think we all have the anecdotal stories about that. That said, I mean I think the sales team has done a tremendous job and continue to do a tremendous job to be with potential customers as well as healthcare professionals, talk to them about the benefits of being on pump therapy. I mean keep in mind that 70% to 75% of our customers have never been on a pump before. Right? So if a pump makes sense for those people, there is no reason whatsoever to wait. Right? It's to get them on product now, and ultimately the upgrade path will take care of itself with no additional cost and burden and any of those other things. So given that, we think we’ve done a real good job trying to mitigate the risk of people deciding to wait for something that's, frankly, still an unknown target. Can I tell you as a certainly that’s everybody, of course not.

Okay. And then finally, Duane said you thought you'd have the approval in hand within months. If we say we're sitting out at the end of August and you've got approval at that point, would there be any need for you to change guidance for the year?

No.

Your next question comes from the line Sara Michelmore with Brean Murray.

It’s actually Max on line. Thanks for getting the question. I just had a quick one. More on the launch update and everything. I know you guys are gunning for ADA in June, but I just wanted to kind of get some details or clarity about what kind of back-up plan you would have, and how you’d go about that if it didn't come in time? Thanks.

So I think from our standpoint, right, and it’s -- if you've been to our booth, we have a whole international section. So there will be -- the next generation pod will be at the booth. It's CE marked approved, the Ypsomed folks will be there, so we will be showing that to people. I think to the extent that we don’t have FDA approval, right, there is -- if our lawyer was here, he'd give you the litany of laws on pre-marketing. I think it’s simple. If we don’t have it there, half of booth is going to have new product, the other half of the booth will have probably the product that basically says not yet 510(k) approved. So maybe a banner over the thing. So we have a couple of contingency plans just in case we don’t have it. So like I said, it’s just a nice industry event. It will be a nice-to-have. If we don’t have it there, it doesn’t -- as Brian articulated, it really doesn’t impact where we want to be as a business by the end of the year. But it would just be nice, for no other reason, to have everybody in one room and kind of unveil it, so.

That’s great. That’s very helpful. And then if I could ask just last call you guys talked about some reimbursement stuff going on in France and the whole push for China. And could you guys give us kind of any updates or color on that?

Yes, I mean we’re pretty much status quo with where we were 3 months back. We’re still working around the French reimbursement. Now with the CE marked pod, obviously the plan would be is to figure out how to gain it around the next gen product as compared to the older version. And China, we’re still going through the FDA regulatory process there as well.

Your next question comes from the line of Raj Denhoy with Jefferies.

I wonder If I could ask just a bit more on the manufacturing. I know it's kind of been asked quite a bit. But you still seem a little bit -- I don't know if skittish is the right word, but you still seem to have some doubt in your ability to kind of manufacture to scale. I think you’ve kind of called that your -- the gating factor in terms of your ability to swap patients out. And I guess I’m just curious what you may have seen or what still causes you, now that you have the first line up in running, to still have a little bit of concern on your ability to really manufacture these at scale?

Sure. So Raj, I would tell you history has proven to us from the original line, and in the new line that -- I’m not skittish, to use your words, about our manufacturing capability, but the supply chain has to be pluperfect to get up to those kind of volumes. And that’s the process, we had to get our lineup, we had to get our line working, and now we’re working our way back to through the supply chain. As an example, if you go back to the old days in the OmniPod, right, we started off with single-cavity tooling, then we went to multi-cavity tooling. Well we’re starting off with multi-cavity tooling, but what you find is, when you start ramping up, all cavities and multi-cavity tooling may not be graded equal and you've got to weed through that. So, look, I think it’s just for us, it's just an iterative process. I mean we feel pretty comfortable about it. I have no doubt that we’ll get there and -- but like I said, you learn things. And there's a reason more than -- there's is a reason that you don’t see a lot of people making Class II medical devices that make 1.4 million pods in a quarter. It’s a process. But we’re pretty excited about it. And like I said, I think we’ve taken a big step forward. We're manufacturing. And like I said, when you go to ramp this thing up, you find out that 2 out of the 3 cavities are perfect and the third one's not so good. So you got to go back to that, tweak that to make sure you can maintain volume. So like I said I think the manufacturing side we feel really good about. The supply chain side is what we’re digging into now to make sure we can support what we do.

No, that's perfectly clear. Just a couple other questions as well. As you announced, you started to supply the next gen pod into international markets through Ypsomed. What’s the initial feedback? I think in times past you talked about how I think half of your patients in international markets come from competitive pumps. Has the availability of the next gen pod changed that dynamic at all? Are You capturing more potential competitive pumps or just say really help there?

Again, not to shortcut, but I think next quarter, at the end of the next quarter call we’ll have a much better indication. Right now it’s too early. I mean we shipped the stuff at the end of the quarter. Ypsomed is going to do more of a formal roll out at their --

The DDG conference that takes place this month.

Yes, the DDG conference. They’re kind of using that as the big coming-out party. So we have a little bit anecdotal, but it wouldn’t be fair to characterize any of it yet. It’s just a little too public.

Fair enough. And then just lastly, Neighborhood Diabetes, I think you mentioned that you’re now into that integration, and yet you commented that there's very little synergies happening there. What’s the issue there, as well? I mean when do you expect to start to see these synergies start to take hold?

Well, I mean I guess I’d characterize it a little bit differently. And I think that we’ve been pretty clear since we did the acquisition back in June that it was going to take us the fair part of 2 to 3 quarters to kind of work through all of the true integration efforts to make sure that we can be in position to be able to do a good job with this. So I mean I think we could have rushed it and been able to try to maybe make some short-term impact sooner, but at the same time we might have sacrificed in the long run to be able to do that. So a lot of effort went into the people side, the managed care plan side, the systems side, all of those pieces to make sure that we’re up and ready to go. I think that work is done. And really, we spent the first quarter and even the beginning part of second quarter just fine tuning the process of how we’re really kind of approaching customers around the cross-sell. The good news, I think the feedback has been excellent so far. I mean, I think I’ve mentioned previously, we did some marketing work, back in the back-half of last year, that showed that 8 out of 10 customers had interest in the service, assuming that you can keep them economically level with where they were. So I wouldn’t read into there's been a delay. I think we’ve actually been pretty much on track. I think, appropriately, we’re just taking our time to make sure that we don't stub our toe along the process.

Okay, fair enough. And lastly, attrition rate is still 9% to 10%? Any change on that front?

Sorry. One more time, Raj?

The attrition rate, I think you had commented in the past 9% to 10% has kind of been where it's been running. Any change?

Yes, no, I mean, good news on that front. I mean we're still a solid 9%, but I would tell you, we’ve actually creeped to the other side of 9% as compared to being on the side between 9% and 10%.

Your next question comes from the line of Jonathan Block with SunTrust.

Maybe just the first question, and a lot have been answered. But Brian, can you give us any feel for just the amount or a little bit of a range on what was the Ypsomed shipment in the quarter?

Overall, we -- we shipped them probably in the neighborhood of 100,000 pods or so in the quarter. Somewhere around there. So I mean, again, they're making good progress as they continue to add patients overall.

Got it. And this sort of builds on an earlier question, but I just want to make sure. The 25% organic growth that you gave, that compares to I think the 30% number that you provided last quarter, and think of it as what you were reporting as Insulet as a standalone entity before you acquired Neighborhood, sort of in all-in revenue, not just the pod number. Is that correct?

Yes, I mean, right. I mean we’ve never broken between pods and PDMs or any of that stuff. So think of it as -- if Neighborhood didn’t exist, right, that’s what the growth would have been.

Got it. 25% in 1Q and 30% in 4Q.

Yes.

And then just maybe, Duane, asking the synergy question a little bit differently. But what synergies are occurring right now? What has been sort of the easier work to get out of the gate? And what do you think is the next tranche to come on board?

I think the main focus of the synergy so far have been around the cross-selling efforts that we’ve talked about, so there's 2 main channels there. It's how do we bring OmniPod customers things like testing supplies, and that can happen through either the pharmacy side of the house or the DME side of the house, the more managed care plan side of it. Both have their parts where they're easier than the other and probably both have their parts that they're a little more challenging. So, but that’s been the main focus on it. Secondarily, and really I think for a while now we’ve had some synergy that’s happening at the doctor’s offices across the sales teams where we've tried to help support each other a little bit and kind of making sure that -- we're managing a doctor’s account and if there's something that the doctor needs from the OmniPod side but the Neighborhood rep's there, so we can try to kind of cover those things for each other. So I think that’s been a big positive over the last couple of quarters, frankly. And then the third area, kind of a big area probably to come, is really focusing around how can we start to look through their base of customers, especially with the next generation OmniPod on the horizon, and be able to bring some of those MDI patients, for example, to pump therapy.

Okay, perfect. And maybe just last 2 quick questions for you. Just a clarification on the combo product with DexCom. Just say, if you were to get the approval in a week, would you turn around and would you go ahead and proceed with the filing before gen 4 gets approved, or is your take, hey, we're going to wait until our next gen’s approved, we’re going to wait until gen 4 is approved, and then we’re going to go ahead and work on the filing?

Okay, this is Duane. I think from our standpoint, we’re going to wait for our product to be approved because we think it’s relatively close. And I think, and I’m not the expert, and that would be a good question for DexCom. I don’t know if you can have a couple of PMEs in there at the same time. My guess might be not, but I’m not by any stretch the expert there. So that would be a good question for the guys at DexCom. But from our standpoint, we want to do it with our next generation handheld and our new pod, obviously, because we want to convert all those people anyhow by the end of the year, so we want everything running off that.

Perfect. And very last one, just on the sales guys you’ve been bringing on board, how do you view, Duane, in terms of, what do you see the ramp and when do they sort of turn the corner on being additive, if you would, in terms of making back their costs?

That’s a great question. I think if you look at the really good ones, I think we’re starting to shorten this down to a 2, 3-month potential where they're kind of -- they’re paying for themselves. And I think some of the other territories, a lot depends on the territories [indiscernible], but some of the other territories, probably it’s closer to 5, 6-ish type. Now one of the things we’re doing is, with the inside sales force, what we’re trying to do is, is there a way to shorten all this ramp, and is there a way to additively increase the productivity of our existing guys? And we've only had that in place about 10 days now. So far, I would tell you, it’s promising, but once again, that’s also too early to tell.

Your next question comes from the line of Ben Haynor with Feltl & Company.

Just sort of real quick clarification one. When you say compensated to swap the units out when you go to the new LifeScan PDM. Would that be compensated by the patient or by LifeScan?

Yes.

Yes, which one? The latter?

Both.

I got it, okay. And then, last call you mentioned a couple of potential white papers you might have in the works on reducing healthcare costs using the Neighborhood model. Is there any update on that?

Yes, I think on the Neighborhood, what we did is we brought in -- I mentioned in the script, we brought in Todd Durniak. And Todd's in the process of putting together kind of the whole sales pitch here on how we’re going to roll this out. But I mean we’re pretty excited about the possibility. And just to give everyone clarity, I mean it’s pretty simple. 65% of the cost of a diabetes patient is when they either walk through the emergency room or brought in by an ambulance. And what we’ve seen from this Neighborhood model by just talking to these people, touching them out, reaching them, they have reduced -- in these couple of plans, they have reduced hospitalization. So we're putting the final touches on that. Like I said, we didn't want to roll that out until we had a general manager to go forward with it because we needed someone to put all those pieces together. But we’re pretty excited about it, we think it’s real. I mean we really think it’s real.

Would that be something you’d put out there at ADA?

That is something we may be putting out there at ADA.

Your next question comes from the line of Tom Gunderson with Piper Jaffray.

So just following up on the last question, do you have 2 or 3 things that you think we or investors should focus on at ADA? Are their posters or sessions or seminars that will advance clinical data or quality of life or costs, any of those kinds of things?

Like I said, I think we’ve kind of highlighted a little bit, but a couple of white papers that we put together, I’d have to get back to you on all the -- whatever else is out there. I know they're working on a couple of things, but I do not have it at my fingertips at the moment.

And then just a quick clarification from a previous question. I got a little confused by the question and the answer, gen3 is off the table for you guys, right, its gen4 on DexCom, and you'll do it by whatever way the FDA has most amenable, but gen3 is off the table?

Absolutely.

Yes.

Tom, just to kind of give you a perspective, gen3 is -- on a bunch of these various closed-loop sites, when you hear people talking about our product working in the closed loop in conjunction with the DexCom sensor, that is -- all that clinical work is being done with the gen3 product.

Got it. And then polling or market research. Have you gone to your users to see -- do you have a sense of how many are using LifeScan now and how many are using DexCom now and maybe even how many are using both?

I mean we do have a sense. I'm not sure we probably want to share it today. We have said in the past, at least on the blood glucose meter side, that over 90% of our users use the current meter that’s integrated into the device, into the PDM, because of just the simplicity and the ease of having it at your fingertips in that one device. I would tell you that, when you get into the few folks that are not using that meter, OneTouch is the largest meter of choice of the remaining group. And fair to say, again given our population where a third of our patients are kids, DexCom is used pretty frequently and pretty prevalently across that group. But it’s probably -- we probably wouldn’t have a percentage to share at this time.

Got it. And then last question, again, just a clarification for me. I appreciate it. When you're talking about supply chain and you're talking about 3 new lines starting up, and very quickly, and at extraordinarily high volumes for medical devices. How are you managing the raw materials and the work in process as you go into those lines when you’re going to have this hockey stick of output? Is that just -- when we see the Q are we are going to see a big increase in inventory?

What you will see as we approach the back half of the year, absolutely, is going to be a big increase in inventory. And I think from our standpoint, with all lines up and running, we also -- what you will see is we will make sure that we built an adequate safety stock. Because like I said, the scenario we are not going to get ourselves into as a company, is I'm not going to covert you, put you on the smaller pod and then 4 months later tell you, go find your old PDM and use the big one for the time being. So you will see it, the ultimate cushion is -- the ultimate cushion is inventory. The reality of it is, like I said, unlike when we did this the first time, we built all kinds of multi-cavity tools. We're in the process of qualifying all that. And we are working our way through the supply chain. I think very early on, we have enough experience that we know the 2 or 3 critical vendors that we're going to make sure have to get up to speed very, very quickly. So it is -- Tom, it’s a great question because that is -- right, that’s the challenge, ultimately, having every single piece. If you have a product with 25 pieces in it, having 24 right and one missing means you don’t have a product. And that’s -- and that’s the challenge. But it’s also a huge opportunity we’ve had as a company and I think we’ve done a pretty good job with it.

Yes. And just to clarify one thing on the financial side of it. You will start to see a little bit of an uptick in inventory. The way inventory works is, effectively we buy finished good product, from Flextronics. So ultimately part of the service that Flextronics provides us in outsourcing our manufacturing capability to them is that they’re -- they’re the ones effectively procuring raw material. So we work very carefully and closely with them on the supply chain to make sure that they have appropriate amounts in the hand and suppliers have appropriate safety stocks within their businesses. And they'll like to make sure that we’re good, because I think everybody gets, this is a very important medical device product and nobody wants to run out. But within our balance sheet, when you actually at it, just to be clear, it’s effectively just finished good product.

Your next question comes from the line of Anand Vankawala with Avondale Partners.

Quick follow-up on Ypsomed. What's the expectation for additional country launches by the end of this year?

We'd certainly love to be able to get to the position with China and, again, it’s a regulatory process we don't control, and we’re working our way through France, which are 2 of the primary ones. Beyond that with the next generation pod, Ypsomed is effectively in 7 markets I think, with Germany, Switzerland, Netherlands, UK, Sweden, Norway. And I’m probably forgetting somebody, but that’s kind of their core group today and we’re working through a few others to be this year. So a country like Austria, for example, that leverages some of the -- like a German PDM already, is one that we would be able to probably launch in relatively short order. Couple of the other ones which get into new languages and new territories will take us a little bit longer. So, to give you a flavor for it. I don’t have at this point an actual country-by-country list. We're still working through that with the Ypsomed folks to kind of make sure we have the right prioritization, the right schedule and the right timing.

Okay. And then just on the manufacturing side, just trying to understand, what are the single points of failure for the supply chain as far as raw materials go?

Well, I think -- look, this is Duane. I think, and Charlie is going to be much better equipped to take that question. But I think from our standpoint, it’s just a question of, this is a medical device, they have to be within spec. And like I said, I think it’s a process of you qualify one of the cavities, you qualify the second, you qualify the third. So there is -- like I said, I think there's 2 or 3 components. In the old product it was always the chassis that was the key to the whole thing. This one has -- I could tell you about springs and rings and other things and it wouldn't mean anything to you. So there's 2 or 3 components that we think are clearly on the critical path that we're focused on. Charlie, as we speak, is in China. So we know where they are. We know -- we think we have a pretty good handle on what we have to do. It's just -- you've just got to pay attention to it. And like I said, it's -- to make 1.4 million medical devices in a quarter is not a small feat.

One other thing. Keep in mind that most of the vendors, most of the supply chain is the same.

Yes.

So it's not like there's a lot of new folks here that have no idea of what we're doing. We're ultimately just making sure that we have a good seamless transition to be able to move volume from one product to the next.

Your next question comes from the line of Greg Chodaczek with First Analysis.

Just a couple of quick as everyone asked the important questions. Number one, does the FDA have to sign off on the line prior or could they sign off on the line prior to the 510(k) approval or clearance?

So just, yes, so this isn't the PMA, it's the 510(k). The FDA does not have to sign off on the manufacturing at all. So it really is based -- it’s their review of the submission and the supporting data. Has nothing to do with the manufacturing line.

Okay, number two, what was the percentage that you mentioned right in the beginning of the call, Duane, pump users using the OmniPod?

About 10%.

10%?

In the U.S, yes, so and basically we have about a 10% share in the U.S. of pumpers.

And you did not give out total international revenue numbers, Brian?

Did not.

Okay.

Sorry.

No, I had to ask. Also, based on the DexCom call, to quote them, and they were talking about the VIBE, they said -- they were talking about the FDA appears to be moving at a rapid pace. I guess for them. And if this continues we want to avoid closing any unnecessary delay or confusion by filing a PMA supplement on top of the pending PMA. So for all those listening, that was the DexCom comments.

Your next question comes from the line of Suraj Kalia with Rodman & Renshaw.

Duane, how many -- or Brian, how many Neighborhood Diabetes customers have been converted to the OmniPod?

On to OmniPod pumps, you mean?

Yes, yes.

I don’t have an exact number. Not a lot because, again, it hasn’t been the primary focus. And ultimately a lot of that comes back down to managed care plans and other things. I mean some, but we haven’t put together very formal active programs to do so.

And how should we look upon for the rest of the year? Is that -- considering a pretty sizable Neighborhood Diabetes customer base. I know that was one of the things that was mentioned in the prior calls. Should we look upon the remaining of the year as a core area of focus or you would say this is more 2013 and beyond?

Well I think we previously kind of talked about it. I think the primary focus is right now around some of the synergies that we’re after from the revenue side have been around some of the cross-selling efforts. We think that there's a lot of benefits to be able -- to be had there in a relatively short period of time, and to really improve kind of our customer service effort for a lot of our OmniPod customers by doing so. And then I think secondarily to that is this idea of, with the next generation OmniPod hopefully in hand, which has been part of our driver for it is to be able to kind of plan it around then, is to be able to more aggressively and actively go after those customers. To characterize it as somewhere in the end of ‘12, beginning of '13, that’s probably the right timing, but I’m not sure it’s exactly when it will go.

Yes, Raj, what we didn't want to do is we didn't want to go out and start soliciting them, give them the old product and then launch the new one.

Fair enough.

We just thought that would probably create more badwill than goodwill.

Fair enough.

So your timing is probably as Brian said, the end of the year, beginning of -- we want to go -- we want to go at it with new product.

Fair enough. And Duane, this might be an unfair question but I’ll still ask. I mean when do the Flextronics contracts come up for re-negotiation? And can you shed some color on how you’ll see rising Chinese labor costs flowing through directly or indirectly through your re-negotiation efforts? Do you have a fix cost for the next 2 or X number of years? How should we look upon -- for whatever timeframe you can give us some color.

Right. I think if you take a look at it, I think there's a probably a year or so left on the current contract. The good news for us is the labor is a tiny, tiny cost for us. So even -- and it’s all baked in. So we have it baked in, the increases. So it really is not a material change to our cost product. Quite the opposite. With the increase in volumes, part of our negotiation with Flextronics is we believe we ought to be seeing cost -- even with the labor increase, we ought to be seeing cost reductions coming on the existing product. And then obviously, the next generation product, right out of the box is cheaper. So I think we're going the other way. If there -- Flex has made us aware all that’s going on there in terms of labor. But it’s pretty much baked into every piece of guidance we’ve given you. And like I said that, the good news for us is from a materiality standpoint, the largest single number in that bill of materials continues to be the actual -- the bond [ph] of the material costs.

Okay. And Duane, finally, just for clarity purpose, and this might be mundane, but I knew you brought a multi-cavity tools or more than one occasion. And I'm curious if you mentioned springs and cams or I'm not sure some other words you use. Even if you have a stainless steel or aluminum tool with however many cavities you have, you're already doing it for the OmniPod, and you're replicating it or shrinking it, if I may, in terms of size for the cavities, maybe you're adding in more cavities, but if your intrinsic structure of the tools has changed, whether it’s some cam mechanism, some sort of in-built motors, am I fair to say that the method of attachment of the body has changed? Could this be...

No. No. So just to give you some sense, I mean if you kind of pop open the cover of the 2 devices, first of all the adhesive and everything else, obviously everything gets smaller, and that’s the reality of it. The drive mechanism is the same, the reservoir is the same material, the insertion is the same material. But when you shrink that all down, obviously you can’t use the same tools. So like I said, from our standpoint -- and what we did is, and I think if you follow the company and you go back 4 or 5 years, we went through this whole big plating process with everything that was going on. We’ve eliminated all what we believe were the highest areas of potential failure. So there is no plating in this next generation one. We made some tweaks to that. So there are some tweaks and if you pull them apart, you look at it. But the fundamental way this product works, attaches to the body, it's exactly the same. We kid around here, I mean we've got to through this FDA approval process, and we're basically -- we're basically going kind of from a fat pump to a thin pump. Right? Other than that, not a lot is changed.

Yes, it’s a head scratcher why the FDA with already a commercially clear product, and if you reduce the form factor, what is taking so long. And I was just trying to get a handle on is it related to the molding process, is it related to machines or...

What it is, here -- and far be it from me to put words in the FDA’s mouth. But let me give you a kind of a 10,000 foot level. The way the FDA, I believe, looks at this entire process is that, prior to a couple of years ago, the agency believes that the approval process for 510k devices was flawed. Right? And I can’t describe what those flaws are because I don’t know. But they felt, I think the FDA felt that process. So even though you have a predicate device, even though you go in with all that, they’re starting back at ground zero. And our first inkling of what was changing at the agency is when we went with DexCom with their approved gen 3 sensor and our approved OmniPod, and they went back and said you have to do animal testing, you have do insulin stability testing, and when they went through all the stuff with -- they went through all the stuff with DexCom guys. And that’s when we realized that technically there are no predicate devices. If your device was approved prior to, let’s say, the last 24 months, and don’t hold me to it -- but if your device was approved prior to the last couple of years, there really isn’t -- even through there is a predicate device in the submission, in the agency's eyes there is no predicate device. So you pretty much start all over as if this is the first time the world has ever seen the product. It helps that you have product out there and they can track plain reporting and all the other stuff, so that all helps your cause, but you are back to square one doing everything from insulin -- I think we described it from insulin stability testing on human factors, on everything, even through the product's out there. Okay. I don’t make the rules. My job is to try to and make sure I stay inside and do it as efficiently as possible. But that is -- that really is, and I think if you talk with the DexCom guys and some of the other people in the space, that’s kind of the fundamental change. There really aren’t a lot of real predicate devices prior to the last 2 years. So anyone coming out that points at something that's ’s been out on the market, it's deemed interesting, but not necessarily of merit. So you start as square one.

[Operator Instructions]. Your next question comes from the line of Susan Wall [ph] with Federated Kaufmann.

Just a quick point of clarification. The DexCom product you’ve integrated is the 4, not the 5, right?

Absolutely.

It’s a 4, yes.

Okay. And then on their call they mentioned that you might be doing some co-marketing activities. And I was wondering if that’s in advance of the approval?

I think we’re exploring some different ways that the companies can work together. I mentioned earlier that now that we have the Neighborhood Diabetes subsidiary, it’s a way to potentially be able to bring things to customers in a more efficient way. So early days, kind of looking through some different ideas, but we’re exploring it.

Okay. And then one last question. In the past I think most of your business has been people who are new to pump therapy. And I assume that's still the case, right?

Correct. Still 70% to 75% of our new starts, very consistent for the last few years, have been people coming from multiple daily injections, have not been on pumps before.

And Vivian, it’s 30% and 35% are under the age 18. So it’s -- while they may not be newly diagnosed in terms of yesterday, it’s -- that still remains the fastest growing subset of our business.

Of that group that is taking a pump for the first time, what would you guess is your market share in that group? Obviously much higher than the 10%.

Well, yes, I mean if you start taking a look at -- it depends on whose numbers you want to know, but people start -- I've seen numbers as low as 30,000, as high as 45,000 “newly diagnosed patients”. I mean we’re getting a big -- I mean we're getting more than our pro rata share of that group.

At this time, there are no further questions. I would like to hand the call back over to Duane DeSisto for closing remarks

Thank you all for joining us on the call today. And like I said, we look forward, we have a lot of things going on here. We're pretty excited about 2012 and we look forward to updating you for Q2. Thanks, everyone.

This concludes today’s Quarter One 2012 Insulet Corporation Earnings Conference Call. You may now disconnect.