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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Welcome to the DexCom Second Quarter 2019 Earnings Release Conference Call. My name is Adrienne and I'll be your operator for today's call. At this time, all participants are in a listen-only mode. Later, we'll conduct a question-and-answer session. [Operator Instructions] Please note this conference is being recorded.
I'll now turn the call over to Sean Christensen. Sean Christensen, you may begin.
Thank you, operator, and welcome to DexCom's second quarter 2019 earnings call. Our agenda begins with Kevin Sayer, DexCom's Chairman, President, and CEO, who will provide a summary of the quarter, followed by a financial review and outlook from Quentin Blackford, our Executive Vice President and CFO; and then a strategic update from Steve Pacelli, our Executive Vice President of Strategy and Corporate Development.
Following our prepared remarks, we will open the call up for your questions. At that time, we ask the analysts to limit themselves to one question and a follow-up so we can provide an opportunity for everyone participating today. Please note that there are also slides available related to our second quarter performance on the DexCom Investor Relations website on the Events and Presentations page.
With that, let's review our Safe Harbor statement. Some of the statements that we will make in today's call may constitute forward-looking statements. These statements reflect management's intentions, beliefs and expectations about future events, strategies, competition, products, operating plans and performance.
All forward-looking statements included in this presentation are made as of the date hereof, based on information currently available to DexCom, and are subject to various risks and uncertainties, and actual results could differ materially from those anticipated in the forward-looking statements.
The factors that could cause actual results to differ materially from those expressed or implied by any of these forward-looking statements are detailed in DexCom's annual report on Form 10-K, quarterly reports on Form 10-Q and other filings with the Securities and Exchange Commission.
Except as required by law, we assume no obligation to update any such forward-looking statements after the date of this presentation or to conform these forward-looking statements to actual results.
Additionally, during the call, we will discuss certain financial measures that have not been prepared in accordance with GAAP with respect to our non-GAAP and cash based results. Unless otherwise noted, all references to financial metrics are presented on a non-GAAP basis. The presentation of this additional information should not be considered in isolation or as a substitute for results or superior to results prepared in accordance with GAAP.
Please refer to the tables in our earnings release and the slides accompanying our second quarter earnings presentation for a reconciliation of these measures to their most directly comparable GAAP financial measure.
Now, I will turn it over to Kevin.
Thank you, Sean. And thank you, everyone, for joining us today. We are pleased to report another outstanding quarter for DexCom, with awareness of DexCom's CGM continuing to rise within the diabetes community.
Second quarter revenue grew to $336 million, a 40% increase over the second quarter of 2018 on a constant currency basis, continuing the momentum that we have seen for the past five quarters.
As we have observed in previous quarters, the primary driver of our growth in all channels, including our US commercial business, Medicare and O-US businesses, remains volume growth attributable to new patients. In fact, new patient additions once again reached a record level in the second quarter.
And as our results indicate, the volume growth that we're experiencing is more than offsetting the pricing pressure that we anticipated with lower revenue per patient associated with our move to the pharmacy channel, as well as the continued expansion of our Medicare and O-US businesses.
While attending the American Diabetes Association Conference in San Francisco in early June, two conclusions became increasingly clear to me. First, awareness of real-time CGM is quickly progressing and driving CGM towards standard of care status.
We have gone on record for years telling that the future is CGM first and we believe that future is here. At ADA, CGM was no longer a minor presence relative to the various drug therapies. Instead, DexCom CGM featured prominently in standing-room-only product presentations, academic papers and as the driver of automated insulin delivery devices, all of which reflect the growing market awareness that we're seeing.
Time and range is quickly becoming the most important metric to assist glucose control, with new time and range guidelines being established this year. Only CGM can provide these types of metrics.
It is very clear to us that CGM as a diagnostic tool will become another large market for us in the future. This is well-timed with the recent submission of our G6 Pro product which we expect to launch in 2020. With significant room for further adoption in both the Type I and intensive Type II populations, we are ever more confident in the growth opportunity that lies ahead for these core business segments.
Second, we're just scratching the surface of the potential for DexCom CGM. Discussions around CGM at ADA were not limited to traditional intensive insulin using populations, whether contingent to preliminary studies on use in pregnancy and inpatient settings. And as we stated on the last call, we are exploring applications of our technology into these settings as we position DexCom to maximize its long-term growth opportunity.
To support these significant opportunities, our team's operational performance remains critically important. At the start of the year, we established the ambitious goal of doubling our G6 production capacity and I'm pleased to report that we are on track to achieve that goal.
We're excited about the fact that we have initiated production of our low cost transmitter in our San Diego and Mesa locations. We are now building inventory as we prepare for launch.
Based on the hard work of our operations teams in both San Diego and Mesa, we continue to strengthen our G6 capacity. This positions us well to expand the launch of G6 in the second half of this year. We look forward to bringing G6 to Canada later this year and driving the ongoing transition to G6 in additional O-US markets.
We remain committed to a G6 launch for our Medicare patients later this year and believe that this should drive incremental demand and patient satisfaction in an already strong category.
Also, on the Medicare front, as a number of you have seen, CMS recently differentiated reimbursement between Class II and Class III CGMs. And while the rate for the G6 system will be less than a Class III CGM, please keep in mind that we will ship fewer sensors and no BGM supplies for the future G6 bundle.
Based on our better-than-expected second quarter performance, we're pleased again to be able to increase our revenue outlook for 2019 as well as our full-year operating margin and adjusted EBITDA targets.
I will now turn the call over to Quentin who will provide detail on this outlook as well as review our financials.
Thank you, Kevin. As a reminder, unless otherwise noted, the financial metrics presented today will be discussed on a non-GAAP basis. Reconciliations to GAAP can be found on today's earnings release as well as on IR website.
Today, we reported worldwide revenue of $336.4 million for the second quarter of 2019 compared to $242.5 million for the same quarter in 2018, representing growth of 39% on a reported basis.
Our momentum continued to be strong, with this being the third consecutive quarter that we have added more than $90 million in absolute dollar growth on a year-over-year basis and, as Kevin stated, another quarterly record of new patient additions for the company.
On a geographic basis, our revenue growth continued to be strong in both our US and O-US businesses, which grew at 40% and 37% respectively on a constant currency basis in the second quarter.
I'd like to remind you that our growth comps in both our US and O-US businesses were meaningfully more difficult in the second quarter than the first quarter and will continue through the remainder of the year.
Our second quarter gross profit was $206.5 million or 61.4% of revenue, representing 120 basis points sequential improvement over the first quarter of 2019, while increasing our G6 capacity and was in line with our expectations.
On a year-over-year basis, gross margin was negatively impacted by our ongoing investments to drive capacity expansion as well as the increasing mix in both our O-US and pharmacy channels.
Our full-year gross margin expectations remains unchanged.
As we invest in the long-term, our team has done an excellent job of introducing automation and innovation into the sensor manufacturing process and, therefore, decreasing the cost profile of our systems. We're confident that we can continue to do this both within the G6 platform and as we progress toward the launch of G7, providing the company with flexibility as we evaluate future growth opportunities.
Operating expenses were $200.3 million for Q2 2019 compared to $155.8 million in Q2 2018. This reflects an increase of 29% year-over-year.
As a result of our continued outperformance on the top line, we realized an uptick in our variable operating expenses for the quarter. In addition, the second quarter included two sources of higher-than-expected expense that we expect to normalize in the near term.
First, we made a number of investments in the quarter toward the development of G7 as we continue to prepare for launch. We made good progress in the quarter which triggered a small incentive charge of $3.2 million to Verily for accelerating development work.
Even as we continue with the worldwide rollout of our G6 system, we are beginning to invest aggressively in the product and manufacturing innovation, which will ensure rapid introduction of our G7 product when launched.
Second, we incurred duplicative costs within our customer service organization as we ramp our operations in Manila. We remain willing to incur these costs through this transition and believe we have built a world-class team in our DexCom Manila location.
However, we recognized that our third-party service capabilities have not met our expectations and are working to bring them up to the same level.
Normalizing for these unusual items, operating expense growth would have been approximately half the rate of revenue.
Overall, we are on track to demonstrate good operating leverage this year and anticipate continued improvement in operating margins in the second half of the year.
Operating income was $6.2 million in the second quarter of 2019 compared to an operating loss of $2.2 million in the same quarter of 2018. Even with the second quarter expenses that I just highlighted, we achieved nearly 300 basis points of year-over-year operating margin expansion in the quarter.
Adjusted EBITDA was $45.9 million or 13.6% of revenue for the second quarter compared to $24.5 million or 10.1% of revenue for the second quarter of 2018. We remain well positioned to achieve our long-term margin targets that we established at our investor day in late 2018, while generating cash to invest in the next wave of innovation that will extend our growth trajectory. This includes our investment in the G7 platform as well as our exploration of the value of CGM in new markets.
Our net income was $7.8 million or $0.08 per share.
We ended the second quarter in a strong cash position with nearly $1.4 billion on our balance sheet, providing the company with significant financial and strategic flexibility. For now, as evidenced by the $47 million of capital expenditures in the second quarter, our priority remains expansion of our production capacity.
And as Kevin stated in his remarks, we are tracking towards our target of doubling G6 capacity this year, while beginning to invest for G7 production.
Given the strength of our first half performance and the continued demand that we are seeing for DexCom real-time CGM, we now anticipate 2019 total revenue of approximately $1.325 billion to $1.375 billion, reflecting reported growth of 28% to 33% for the year, up from our prior outlook of 21% to 26%.
As I mentioned previously, our full-year gross margin expectation stands at 64% to 65% and approaching 70% as we exit the year, driven primarily by the broad introduction of our lower-cost G6 transmitter in the back half of the year.
In light of our better-than-expected revenue growth, we now expect operating margins of approximately 7% and adjusted EBITDA margins of approximately 18.5%, reflecting an increase of 100 basis points and 50 basis points respectively from prior guidance.
With that, I will now turn the call over to Steve for a strategic update.
Thank you, Quentin. With another great quarter in the bus, we are excited about the growing acceptance of CGM around the world as a first line technology for people with diabetes on intensive insulin therapy.
Despite a number of rapidly changing market dynamics, DexCom is capitalizing on a massive growth opportunity and we're confident that the business is well positioned to succeed over the long-term.
One of the core strategic objectives entering 2019 was to expand access to DexCom CGM. Within the US market, our teams have been focused on two primary areas.
First, as we have discussed in detail, we are making a strong push to ensure that patients have access to DexCom CGM through the pharmacy channel. Although this has not been the primary driver of our volume growth in the first half of the year, we are confident that it is the most efficient channel for patients, clinicians and for DexCom over the long-term.
The second area where we have sought to expand access is in the intensive insulin Type II population. With an estimated more than 1.5 million people with Type II diabetes using real-time insulin, this population effectively doubles the addressable market of our core business in the US.
Most importantly, as CMS recognized when they first approved our CGM for the Medicare population, this is a group of patients that clearly stands to benefit from our technology for better glucose management and safer insulin dosing.
Our proactive effort to drive these two initiatives will be increasingly driving CGM to the standard of care over the long-term and has also been the primary factor behind the pricing headwinds that we have detailed throughout the year.
While it will take time to realize the full benefits of these strategic priorities, we are pleased to report that we are gaining strategic traction in both of these efforts.
Our insulin delivery partners are progressing well toward the commercialization of integrated products. On the plus side, both Tandem Diabetes and Insulet presented encouraging results at ADA related to their respective automated insulin delivery systems.
We believe that these solutions will not only gain share among pump users, but will attract those interested in pump therapy.
At ADA, we also announced our intent to integrate the DexCom G6 into Tidepool Loop. This represents yet another example of DexCom support of patient choice and interoperability in the diabetes ecosystem as we leverage our iCGM designation.
We remain excited about our partnerships with Novo Nordisk on the smart pen side and with Eli Lilly on the development of both a smart pen and a connected pump. As a reminder, the majority of people with diabetes on intensive insulin therapy around the world continue to choose insulin pens as their preferred means of insulin delivery, which highlights the importance of our smart pen relationships.
In early June, we also announced a collaboration with smart pen maker, Companion Medical, which allows us to integrate insulin data from Companion's pen users into DexCom's CLARITY software.
We are committed to helping people manage their diabetes by bringing together the two critical components of treatment decisions, glucose levels and insulin dosing, to give patients and clinicians a comprehensive picture for their diabetes management. We intend to continue to integrate additional sources of insulin data into the DexCom ecosystem over time.
As Quentin mentioned, even as we roll out G6 to additional markets, the development of our G7 platform remains a key strategic objective for the company. With a significantly reduced form factor, our market defining accuracy and a one-piece disposable wearable, we are confident that G7 will be highly desirable to our existing and prospective patients as well as a product that accelerates our entrance into new markets outside of our core intensive insulin business.
On this front, we are pleased to reaffirm our timelines for a limited launch in late 2020, ahead of a broader launch in 2021.
With that, I will pass it back to Kevin.
Thank you, Steve. Anytime you exit the first half of the year, having raised full-year revenue guidance by $150 million or more than 10%, you know that the year must be going well. And it has truly been a great first half of 2019 for DexCom.
To grow at our current scale, there are a lot of things that have to come together, and this is a great testament to the team that we have here at DexCom. To those in the field and the clean rooms and those thinking years down the road asking what's next, thank you for your commitment to DexCom and to the people we serve.
There is still a huge growth opportunity ahead for DexCom's core business in diabetes and beyond. The technology that we have worked so hard to develop positions us well to go after any significant market opportunity that we choose.
In summary, it's been a great first half of 2019, but we're just getting started and we will not rest.
I would now like to open up the call for Q&A. Sean?
Thank you, Kevin. As a reminder, we ask our audience to limit themselves to only one question and one follow-up. Operator, please provide the complete Q&A instructions.
Thank you. [Operator Instructions]. And our first question comes from Robbie Marcus from JP Morgan. Your line is open.
Great. Congratulations on another really nice quarter here.
Thanks, Robbie.
Thank you.
Maybe I could start – and I don't want to get greedy here. And this is for Quentin. But after the big beats and raises you put up in the first half of the year with north of 45% growth in the first half of the year, guidance implies 17% to 25% growth in the back part of the year. I know there's a lot of moving parts here in terms of pricing as you switch from DME to pharmacy, Medicare, international, but maybe the catchall question here, Quentin, help us understand some of the moving pieces here and the impact that each of them have on guidance for the back part of the year?
Sure, Robbie. You point out that decelerating growth in the back half of the year, which is accurate – I think probably the most important thing, just to draw everybody's attention to, is the fact that comps get meaningfully more difficult in the back half of the year to the tune of roughly 15 percentage points to 20 percentage points of headwind in the third and fourth quarter respectively.
So, if you think back to the launch of G6 last year, you saw growth in the back half of the year start to get up into the mid-40s, even north of 50% in the fourth quarter. We're now anniversarying that and it creates a meaningful comp headwind.
So, I think you start to start normalize for that and you get growth rates back into the ranges that you have seen in the first half of the year, so you have to be mindful of that aspect.
And then, certainly from a price perspective, we continue to anticipate that we'll see those headwinds throughout the course of the back half of the year, even probably accelerating just a bit in the fourth quarter when you start to contemplate some of the incremental moves that CMS has made with the Medicare business. That will create a little bit of an incremental headwind from a pricing perspective.
Although from a margin perspective, we feel pretty good that, over time, it's actually going to be beneficial to us as we no longer have to provide all the BGM supplies. So, we feel good about where that goes longer term. But it's going to create a bit of headwind.
So, I think those are the big moving pieces, the biggest one being the tougher comps.
Okay, great. And then, follow-up question. Everybody's focus is ahead, all the way to G7 as we sit here today. Can you layout just the timelines of what we should expect? I know it's a nice an iCGM filing that's going to be different than what we've historically seen for your different alterations. But give us sort of the timelines of what we'll see, when we'll see it, whether it's data presentations or manufacturing ramping up and product out there. No, help us understand the timelines from here on out. Thanks.
Yeah, Robbie. This is Kevin. I'll take that one. We continue a lot on the development side on G7. We're making some very big decisions over the next couple of months before we lock in design and go.
As far as clinical trial presentations, in all candor, we probably will not have much till the product is approved and the pivotal has been submitted to the FDA because we really don't want to play our hand. We are running small trials all over the place right now, looking at configurations and things we've got to consider putting in that product. But none of those are really contemplated for publication.
The push on this one since our iCGM standards – we know what the outcome has to look like. Therefore, we're going to run a trial that will meet those outcome points and no one should be overly surprised. We're confident that the G7 platform will perform very well. We have some really wonderful things going into it and the technology that we've been developing for years.
As far as the launch, as Steve said in his remarks, it will be a limited launch in late 2020. We will not have the capacity to roll it out to everyone in the fourth quarter and we're not going to try. We do not want to – we've learned enough about capacity this year. We're not going to re-learn those lessons in an even bigger way. We will then, once we get approved, roll this thing out as we get our manufacturing plant up and fully ready to go whereby we can support significant volumes.
Another lesson we've learned on G6 from G5 is the conversion to the new technology can actually be very fast. We probably underestimated the rate at which our patients would convert from G5 to G6 just given what we know about our patient behavior. We're not going to underestimate this conversion. It's going to go fast. And it is going to be a wonderful product.
So, 2021, we really want the capacity to be able to swap everybody out. We will continue to support G6 in specific markets and with integrated products and such. But G7 becomes our flagship product by the end of 2021, with G6 supporting it in totally different roles.
Thanks a lot. Appreciate it.
And the next question comes from J.P. McKim from Piper Jaffray. Your line is open.
Hi. Good afternoon. Thank you for taking the question. I'd like to just touch on the pharmacy, if you can just give us an update on where you are in terms of coverage and maybe volume going that way. And if you could, touch a little bit on the Walgreens announcement. It is in the PowerPoint, but you didn't talk about it in your prepared remarks. So, maybe talk about that partnership and what that could do for you guys going forward.
Sure, J.P. I'll speak to the pharmacy question and Kevin will give you an update on the Walgreens. We can see we're making progress on the pharmacy front in terms of adding lives [ph] that are able to access the product through pharmacy coverage. So, we continue to move down that path.
I think, importantly, the new patients that continue to come into the company continue to come in through the pharmacy channel. We're seeing good progress being made there. Obviously, we've got an existing business that we've put in place over the years. I've trained folks how to navigate through the DME channel, and they're still accustomed to that. So, that shift out of DME and the pharmacy on the existing base has gone a bit more slowly than what we see coming in with the new patients. So, we fully anticipate that the business model over time will be through the pharmacy channel. We continue to push the organization down that pathway and we're making good progress. But there's a still a lot of runway ahead of us. Still lot of room to go. So, we'll continue to focus on and get here to talk about it for quite some time I'm sure.
And with respect to Walgreens and that announcement, Walgreens has been a good partners of ours for quite a while. In fact, as we started pharmacy coverage for patients, one of our best distribution outlets in the early days was Walgreens specialty pharmacies where our patients could very easily get access to the technology via pharmacy benefit.
Going forward, with all the data we gather from our patients and all the data we gather from our patients' other devices and other sensors and such going forward, with Walgreens and the data they have, we view this as opportunity to be a very strong data partner for general healthcare. What we have certainly meets their ambitions and we need the partner and the relationship. We think it will be a great place for patients to get their product on time. And we're looking forward to working much closer together. So, this is the beginning. And if you can't go look at their website and how they've talked about this, it's pretty front and center. So, we're very happy.
That's helpful. And then, Quentin, if you could just address, like the delta in the growth rate between the segments on transmitter, receivers. Specifically, on the receiver side with down 4%. So, I assume it has to do with international and the move into the pharmacy, but if you could just maybe give people some expectations around why the growth rates should be so different across the various products?
Yeah. It's a great question. And to your point, the receiver is actually down from a dollar perspective in the reported figures. I can tell you, from a unit basis, they were up significantly. And as Kevin pointed out in his prepared remarks, our new patient numbers were at record levels, an all-time record for us again in the second quarter. So, volume continued to trend very well.
What you're seeing play out there is really a dynamic in how we think about strategically pricing the product for the future, both as we move into the pharmacy, but as well as we start to think about new product iterations like G7 over time that start to remove the transmitter or the receiver component altogether. And so, where the value ends up getting placed is a bit different from a category perspective, but it's not reflective of the underlying volume growth in the business.
So, I think that's what you're seeing play out there. It's certainly something that we have made very distinct decisions around in terms of how we set up these pricing strategies and you're now seeing it start to play through in the categories from a dollar perspective. But nothing that would indicate any underlying concerns that anybody needs to pay attention to. Volume growth is incredibly strong, new patient growth is strong as it's ever been.
Thank you.
And the next question comes from Jeff Johnson from Baird. Your line is open.
Thank you. Good afternoon, guys. Can you hear me okay?
Yep.
All right, great. Quentin, maybe I'll follow-up on that question there. Trying to move away from looking at sensors versus transmitters versus receiver revenue, conceptually, we've thought of you guys kind of generate maybe $3,000 per year per patient in kind of ex-receiver revenue anyway. With G7 launching late next year, into 2021 and going from maybe 10 to 14 or more likely, I think, 15 days, what do you think that $3,000 per year per patient revenue – what are the puts and takes on where that could go?
Jeff, we're not going to get into the specifics of that price point. I think, importantly, as we sit down with payers to negotiate physicians, we tend to look at just from an average value per patient on average annual basis. And so, the degree that we're going to give that information, we are putting the playbook out there in front of everybody to see, particularly the payers. And you can imagine that, as soon as it's out there, you're going straight there.
I think the important thing to know is that we understand the configuration of G7 when it comes into the marketplace. It's very different than the G6 product. We're having discussions with payers today around how we structure these contracts, so that G7 can come in very seamlessly and we move right into it. And so, the revenue does start to change across each of the buckets.
And it does start to come down on an annual basis on a per user perspective. So, as we move further into the pharmacy, we know it has to come down over time. And I would just point you back to our long-term goals. When we put out the $2 billion to $2.5 billion of revenue, we absolutely anticipated that the revenue per patient has to come down over time. And we're playing right along the pathway of what we anticipated that might look like. We're executing nicely on that front and feel very good about the progress being made.
All right. Fair enough. And then, on your fourth-quarter comments around Medicare and with that class 2 bundle down, I think, 13% or 14% or something like that, you size that as one of the impacts why 4Q may be modestly impacted or the guidance implies maybe a little bit slower growth then. How do we think about that into 2020, understanding you're not giving 2020 guidance? But is that a rounding error as we start thinking about 2020? Is that something we need to put a finer point on in our models thinking about next year's revenue growth, just that change in the Medicare dollars? Thanks.
I think you need to be mindful of it. It is going to be a headwind for us as we now will have a full year of impact relative to just one quarter in 2019. So, it's certainly something that we'll speak more about as we get closer to the end of the year and start talking about 2020. But you're going to want to be mindful of it.
I think, importantly, the ability to eliminate the BGM supplies from the bundle or no longer having to provide that actually puts us in a position where it becomes margin accretive relative to the current position that we're in with the Medicare channel.
So, overall, we view it as an opportunity from a margin perspective to show some improvement. It's not going to move the needle in a significant way, but it doesn't become the headwind that it's been.
Fair enough. Thank you.
And our next question comes from Margaret Kaczor from William Blair. Your line is open.
Hi, guys. Thanks for taking the questions. Maybe one for me, switching over to the O-US dynamic a little bit. If you could walk us through the near and long-term outlook and really what are the two or three scenarios for you guys in a bear and bull case? Where and when will market penetration be outside the US above 20% and above 50% penetration?
Yeah. Look, I think, for us, Europe is lagging a little behind our penetrations in the US, but there is no reason that – particularly in the reimbursed markets in Western Europe that over time, Western Europe should look a whole lot like our US business, as frankly should Japan and Canada and Australia and the other developed markets. We're not going to give, obviously, specifics on when and how quickly we think we can get to those levels of penetration, but it's coming.
The European business, one comment I would make on European business and revenues, particularly in the second quarter, and we've said this time and again on our calls that the European business because it's still predominantly through third-party distribution tends to be a little more choppy. We don't have the same seasonality from DME deductibles that reset in the first quarter. And the European distribution network, the order patterns just tend to be a little choppier. So, the European business is still humming along. It's a big bright spot for us and we expect it to continue to be great from a growth perspective.
And then, Quentin, just wanted to follow-up a little bit on some of the outsourced support organization and some of the commentary you guys had on that. Walk us through what you guys maybe have missed? What you guys are doing to fix it? And over kind of what time horizon should we still assume everything is on track towards the operating margin goal long-term? Thanks.
Yeah. I don't think you should have – or walk away from the call with any incremental concern being added to an operating margin goal. We are tracking incredibly well from that perspective, and we feel great about the decision that we made there and it's going to be a really nice leverage point for us over time.
I think the difference is, when we stood up that Philippines operation, we started with really two paths. There was a direct DexCom employee base that has performed incredibly well and then there's a third-party outsourced component that we've utilized as well. And I think what we've learned is the standard that we hold ourselves to honestly is just not the same standard that other parties probably hold themselves to. And so, the question or the issue that we're starting to remedy is to get into those situations, elevate the standard that we expect and hold them accountable to deliver that for us and to us.
I think it's going to be a few months here as we work through it. It's front and center. It is a priority for the team. We've got our resources all over it. The reality is we can do better. And I think that's what we're trying say here, is we understand the challenge. The experience can get better for our patients. We know that and we're after it. And so, we're committed to investing and improving in that. You shouldn't look at that as a significant investment beyond the current spend rate that you see us executing to now.
Great. Thanks, guys.
And the next question comes from Joanne Wuensch from BMO. Your line is open.
Thank you for taking the question. I just want to get my head around the move to the pharmacy channel a little bit more. It sounds like, last quarter, you were able to announce or share that the Cigna had granted pharmacy benefit. Are there any other larger insurers that you can give us an update on? Or another way to look at it, a percent coverage moment?
You know what, I'll take that. We haven't had any large contracts that we disclosed that have come to fruition this quarter, but we continue to roll along really well. One of the things we're struggling with, in all honesty, is having to find how much – how many covered lines we have because we – as we look at all the payers we have and our competitor may have. We have about the same, but we don't really want to disclose that same percentage. We know we're well over 50%. We're on our way to getting where we want to be. The more important factor, Margaret – I mean, not Margaret, Joanne; I'm sorry, I missed – in this situation is we've got to get patients move to the coverage that we have. And as we continue to follow new patients through there, that would be helpful. And as we continue to – we'll just continue to have programs and relationships. You'll see a lot of effort there in the future.
Our strategy has been working very well as we go before payers, and I've gone before a couple of them. Our presentation has been very strong and we've been able to get the reimbursement that we're wanting and very frequently get to the pharmacy channel. But we've just got to keep knocking them out.
Thank you. Just as a follow-up, if I calculate this correctly, on a broader basis, your international revenue was flat sequentially. Am I looking at that right? And is there something going on there I should know about?
Yeah. You're looking at it correctly. I don't think there's anything there that you need to particularly be concerned about. I think, from a sequential perspective, your point is accurate. To Steve's point earlier, this is a lumpy business. Nearly half of it still flows through the distributor channel. And I can tell you, in a market or two, the matter of an order coming through in the first quarter or second quarter or falling into the third quarter, it can cross over from time to time. So, we did have a little bit of that that played out in the second quarter that would change that sequential trend.
I think the important thing is, when you look at new patient adoption, you look at existing patient performance in these markets. It's consistent with what we've seen. There is no change in that trend. So, I think you're seeing more of a timing issue when you look at it from a sequential perspective.
In terms of the year-over-year, I think the other thing, just to point out is, you've got a meaningfully more difficult comp in the second quarter than what you had in the first quarter in this international business, nearly 30 points of incremental growth that showed up in Q2 of last year versus Q1, which, again, I think, just kind of comes back and demonstrates the lumpiness in the international business.
So, nothing that we are concerned about playing out there. We still are incredibly bullish on the international business. The new patient opportunities continue to be strong and probably, most importantly, the overall adoption of our technology in the market is still quite lite, which leaves a lot of room to run.
Thank you. Another nice quarter.
Thanks, Joanne.
And the next question comes from Danielle Antalffy from SVB. Your line is open.
Hey, good afternoon, guys. Thanks so much for taking the question. Congrats on another really, really strong quarter. Quentin, I was hoping you could give a little bit more color on the pricing headwind that you've seen so far year-to-date? I know you guys talked about $100 million for the year. How much that's been absorbed thus far? And how much incremental should we expect in the second half? And I have a follow-up.
Yeah. So I think you go back to the first quarter, we commented then that it was a bit less than the $20 million. Here in the second quarter, it's closer to the $25 million that we've had commented on on a per quarter basis. I would tell you it was right in line with expectations.
I think in the back half of the year, we expect that to accelerate a bit. I think importantly, there's a couple of dynamics playing out. Certainly, the move into the pharmacy is a big priority for us and we've talked very clearly around our intent to allow price to come down a bit to open up that channel.
You've got the Medicare revision and their rates. That will play a bit into – a bit of a headwind there as well. And then, I think, importantly, we're also seeing a willingness and opportunity with the payers to continue to even move in the DME channel to create easier access to product and technology. And so, we're willing to give a bit of price in that scenario as well, knowing that, over time, it's going to have to walk itself down.
So, in those negotiations, generally, what happens is you're negotiating for easier access to the technology, less paperwork, less requirements in terms of logging glucose levels. Those are the kind of things that, if we can make that easier for the patient, we are willing to concede price a bit because we understand that volumes are likely to pick up and we certainly have seen that play out. So, we've got that baked into the back half as well. That should give you some color on the incremental price in the back half versus first.
Okay, that's helpful. And then, my follow-up is at a high-level. Kevin, I don't know if you want to take this one, but you talked about – it's not necessarily been the pharmacy yet that's been driving the outperformance. And I'm just curious if you can talk about, like, what has been driving the outperformance, what level of visibility do you have? You've raised guidance $150 million, but you've only beat consensus year-to-date by $65 million. So, you clearly have some level of visibility into that, I would expect. And it sounds like it's expanded access. Could you quantify at all? Like, how much over the last 12 months access has actually expanded as a percentage of your addressable patient population has increased by a certain percent or something? Thanks.
You know what, I'll walk through that. And if Steve and Quentin have anything they want to add, they're welcome to. I think there's a couple of factors. I think awareness has become a huge factor in our marketplace. Many more people are aware of CGM and what it can do now than have ever been before. As we do our own marketing research and ask about our brand awareness and CGM awareness, the responses are much, much better than we've ever seen.
I would tell you also that G6 is a big deal. Patients have learned about G6 and learned the experience they can have and all that it does. This has been extremely helpful in our growth.
There's other little things. Tandem having an approved pump that's integrated with our system. It's certainly been helpful in driving new patients to DexCom. The growth in the international markets.
And it's interesting. Oftentimes, we would look at growth, like back in the old days. I look at Steve. You all would ask us, what about peds? Is peds driving growth? And then recently, is Medicare driving growth? Every segment is growing. Every single business line is growing and growing nicely.
Commercial business, the Medicare business, you look at peds and adults, they're both growing. You look at Europe, it's very much across the board. It is really driven by CGM awareness and the fact that people really are figuring out that this is something they really need to control and manage their diabetes. I don't know you if you guys have anything else you want to add on that.
Thanks so much.
And our next question comes from David Lewis from Morgan Stanley. Your line is open.
Good afternoon. Just a couple for me. Maybe first for Quentin. So, Quentin, I think ADA was the first time you offered some qualitative specifics around what G7 COGS could be. I think, specifically, you said, you think G7 COGS can get down to competitor levels at scale. I just want to make sure. There's a couple of things. What you think those levels are? How do you define scale from a revenue perspective and what's driving your confidence now in kind of providing that kind of qualitative commentary?
This is Kevin. I'll take that, David. When we started the G7 project back in 2015, one of the things we put on the table was a cost target. That was very aggressive and we didn't think we'd ever be able to meet. But we'd march to that cost target going forward. We know when we rolled thing out the door in the beginning we're not going to hit that target. But, over time, as we look at the cost here in electronics, the battery, the manufacturing processes when implementing that are different than anything we've done before, even the number of parts in the insertion system, everything has been designed not only to perform at our standard, but it's been designed to manufacture. It has been designed to manufacture at a lower cost in a more reliable way. So, we're very confident we can get to lower COGS.
Quite honestly, I said in the meeting yesterday, our G6 COGS, as we get to volumes next year and as we've increased our manufacturing capacity and fill out our Mesa plant, are going to come down significantly as well.
Our COGS are moving in the right direction. It's just taking more time. And as we've invested dollars to expand, before the expansion, things get a little bit tough on the insertion side, but as we fill that plant and keep working hard in San Diego, we're very confident we'll get there. But G7 is just designed completely different than anything we've ever done.
Okay. It's very helpful, Kevin. The second thing is just pharmacy coverage percentage. I think you said 50% last quarter. Can you just update us what that number is today? I think one of your competitors shared that they were at 75% this quarter. So, where are you guys today? And just give us any sense, by year-end, what percent of revenue you think will come through the pharmacy and just a sense of scale in that number, what that number could be perhaps in a year from now? Thanks so much.
This is Kevin. I'll go into a year from now because I think that's easier than today. I can set a goal. We certainly would want to be in the 80% range as far as coverage a year from now, and that certainly is what we're shooting for.
As far as where we are today, we know we're above 50%. We've gotten some more contracts. It is better than it was last quarter, but there's some – we haven't done a lot of these calculations. I've heard one number at 57%. I've heard others above 60%. I don't have the perfect number for you, David. But we're comfortable where we are. And like I said earlier in our comments, we've gone through each payer. We do this on a regular basis. What we have, what the rest of the market have, we don't see a lot of difference. So, maybe we compute our lives different. It doesn't matter. We're making the progress that we want to make.
As far as the percentage of our business going through, I'll reiterate Quentin's comments. We never disclose our percentage and we won't until it becomes – it all becomes very obvious. At the end of the day, our new patients are very much going over there. We have launched a major effort to move the existing patients over there. And again, this relates to people being comfortable with how they process things in the past, having good insurance that covers them in DME. There's just going to be a process. It's going to take time, but we'll get there.
Yeah. David, as we were talking in our preparations earlier today, Kevin pointed out, we spent 13 or 14 years – the last 13 or 14 years building a big DME business and it's just not going to shift overnight. Our doctors, our field sales force, our patients are used to processing their existing business. So, you'll see new patients shift to the pharmacy much quicker because we're, obviously, taking every new patient who comes in the door to see if we have pharmacy coverage, but transitioning the DME base over to pharmacy is going to take some time.
Great. Thank you. Nice quarter.
Thank you, David.
And our next question comes from Travis Steed from Bank of America. Your line is open.
Congrats on a great quarter again. So, we've heard a lot about capacity strengths, both from you and from patients. So, wanted to get a sense for how much of a limiting factor capacity you've actually been on adding new patients in the first half of the year and what you could see from a tailwind as you double capacity in the second half.
I'll start. We don't think we've lost many new patients for capacity. The issue that we have literally is timing of shipments and we've delayed things a bit. And at the end of the quarter, we really can tell pretty much everything patient wise and direct patient wise that was on the books.
The double capacity, the goal to have it in place by the end of the year, we will not have double capacity running as we go through the rest of the year. That's a process that is ongoing and we've got some new processes. For example, we have our first fully automated G6 lines up and running here in San Diego and we'll then replicate those lines over in Arizona over the next several months to get those things up and running. And the fully automated G6 process is really exciting, at least it is for me to see.
Over the course of the end of the year, again, you can see capacity is constrained just a bit still. We are delaying the Medicare launch till the fourth quarter. We have Canada coming on this second half of the year, but that is not coming on immediately. And there are some other international geographies we want to be in with G6 as well. We want to swap out the G5 patients, particularly those in our European markets and in our existing Medicare base. So, we're still a bit constrained on all the things we would like to do, but we'll work through it. And we think, by the end of the year, we'll be in a very good place.
Great. Thanks for that. And, Quentin, gross margin in the first half of the year, low 60% range and still committing to that approaching 70% by Q4. Anything you can give us confidence really on the ramp in the back half on gross margin? How much of that is coming from the lower cost transmitter versus other things?
Yeah. Sure. It's a great question. And the vast majority of our ability to get that 70% range in the fourth quarter is really tied to the lower cost transmitter. So, I think what you want to plan to see is Q3 will step probably somewhat in line with what you saw Q2 over Q1 be. I think you'll see that same kind of sequential improvement and then you'll see the nice improvement in the fourth quarter to 70%.
In terms of trying to deliver a little bit of confidence or help you become more confident in that number, we've got our first low cost units off the production lines as we speak. So, we're producing them in San Diego. They've come off the lines in Mesa. We have a high degree of confidence in being able to scale that up and ramp it. And so, our confidence level is quite high that we can get to these numbers.
Great. Thank you.
And our next question comes from Doug Schenkel from Cowen. Your line is open.
Hi. This is Ryan on for Doug. Thanks for taking my questions. You talked of making steady progress, expanding coverage for intensely managed Type II patients in the US. Is anything more quantitative you can say? I believe Medicare represents about a third of this patient population. How much progress have you made within commercial payers specifically? Do 50% of commercial labs have coverage or anything close to 50%?
It's a great question. I don't know that we have a specific answer for you. We continue to make progress, certainly as we push to move to the pharmacy, pushing for greater access for intensively managed Type 2 is right at the top of the list.
And an example I could give you is, in the past, as you go back a couple of years, one of the things we would give up to give better access for our Type 1 patients was Type 2 access sometimes in our contractual and our pricing discussions. That's not going on now. We are pushing aggressively to get the Type 2 insulin users covered. And quite honestly, having CMS issue that type of guidance has been very helpful for us. It's been a catalyst for us to go to payers and say, look, if Medicare patients get this, so should the others. So, we're making progress. We're not there yet.
Okay. That's helpful. And then, I apologize if I missed this. I think, previously, you had talked about launching a decision support system for MDI patients along with a smart pen partner around late this year or early next year. Is that still on track or has that been pushed out a little bit? Thank you.
Yeah. So, our first commercial smart pen launch will be together with Companion, right, where we're doing – it's really retrospective review of insulin data together with CGM data in our CLARITY system.
With respect to a real-time display of insulin in the DexCom asset, that still could happen later this year or first part of next year. We haven't been specific with who and what and what that product might look like, but we're still making good progress.
I'll just add to that. We don't view that as a revenue driver as we sit here today, that being nice to have.
And the next question comes from Jason Bradford from Raymond James. Your line is open.
Thanks. Just a couple quick ones here. In terms of the new transmitter, I realize the COGS benefit to DexCom, but are there features and benefits to users?
It's identical to the existing G6 transmitter.
But I will add, we couldn't go direct Apple Watch until we got to this new configuration. So, there is some better electronics that we'll be able to use the features on and get some new firmware in and such. But as far as performance, that's – I guess it's my understanding the range is a little bit longer, but it's not a huge change.
Okay. And then, I just want to get back to the international commentary, kind of the flat sequential. You mentioned that half the business goes through distributors. Did you see more consistency from the direct business? And I guess, the other question is, have you seen any change in market dynamics in Europe?
Yes. So, we do see more consistency in that direct business. That revenue cycle is a little bit different. We're recognizing revenue upon the sale to the end user, whereas, at the distributor, generally, they'll take inventory positions where fewer inventory replenish and so forth. So, you get a bit more lumpiness in that distributor business than you do in the direct.
In terms of end market trends or anything changing, no. And I think we were pretty clear with the comments earlier. The new patient numbers continue to be very nice for us, continue to track in terms of what we've seen historically from the overall international business, existing patient trends from an overall international perspective looking very good as well.
And so, again, I come back to – it's a bit of a lumpiness. You've got a tough comp. Honestly, you're going to have a tough comp in the third quarter as well in that international business. Last year, the third quarter growth rate was even beyond what it was in Q2. So, I think you'll see this again for another quarter and then I think you start to see it pick up again in the fourth quarter. But nothing unusual here, nothing that is drawing our concern. We stay very close to it. We understand the patient dynamics quite well and very encourage with what we see.
Thank you.
And our next question comes from Raj Denhoy from Jefferies. Your line is open.
Hi. Good afternoon. I guess it's late in the call, but I figured I'll ask the question anyway just on competition, right? So, that's been asked on most conference calls. We're still waiting for Libre 2.0 to get approved here. I guess do you have any updated thoughts on that product or the competitive landscape and really anything about the delay on that product getting approved?
No. We don't. And we're not going to get there by that time. We've dealt with competition ever since we've been here and we'll deal with that when it comes. So, now, we don't have anything to add.
Fair enough. For my second question, I just wanted to ask about your expectations around – I know you mentioned some of the pump partnerships. And, I guess, over the next several months, we're going to start to see the first automated insulin delivery systems with your CGM. Do you have any thoughts on what that could do to CGM adoption or your growth really into next year?
I'll somewhat defer to Kevin, but their latest public guidance is that they're in control, system would launch in Q4 of this year. So, that'll be a DexCom G6 sensor with a Dexcom/TypeZero algorithm running on the Tandem X2 pump.
As I said before, the beauty of the architecture of that – the current system with Basal-IQ is that patients who are already taking advantage of the G6 system with Basal-IQ will be able to field upgrade their systems. So, many of their existing patients are already joint patients. They're already using the G6 system. It remains to be seen. I've said this on a number of occasions. Do these automated insulin delivery systems – as we get more automation, does that kind of reinvigorate, reaccelerate growth in the pump market? I think we're optimistic that it does. And so, to the extent, we attract new patients into pump therapy, be it Tandem, Insulet, that's obviously a benefit for all of us.
Okay. That's helpful. Thank you.
And our next question comes from Chris Pasquale from Guggenheim. Your line is open.
Yeah. Thanks. Quentin, I wanted to follow-up on the question about gross margin. You had talked about not assuming that [indiscernible] sustainable one for you in 2020, given ongoing pricing pressure. Could you just update thoughts on where gross margin shakes out over the course of the next 12 to 18 months?
Yeah. Again, we're not going to get into the setting the expectation for 2020 just yet. Obviously, you see where the fourth quarter is expected to exit. And again, we feel very good about that number approaching the 70% range. So, I think it talks to the potential that we have in front of us. But we are trying to be very transparent about the fact that the pricing headwinds are going to continue to exist. We're going to continue to navigate towards the pharmacy channels. We know Medicare is a bit of a headwind from a topline, but from a margin perspective, without giving the CGM supplies, we actually feel like that could be a bit accretive. So, we'll give more color as we start to get closer to the end of the year or exit the year. But I don't think you should anticipate it being up at that 70% range that we see in Q4. I think that's a fine starting point, but things start to model in the pricing headwinds that we talked about and the pressure that comes from the shifting mix of the business, even as O-US becomes a bigger component. You can start to work yourself into a number, but we're not going to give any more specifics than that at this point. It's too early.
That's fine. That's helpful. And then, if I do a little bit of math here, on the duplicative cost piece that you talked about, looks like it was about $7 million to $8 million in the quarter by my math. Is that in the right ballpark? And how does that trend over the back half of the year? Does it stay in there? Does it gradually come out?
I think you're a little bit high to be honest with you. You're not meaningfully off, but you're a bit on the higher end of where that is. So, I wouldn't look at that and annualize that per se. But you're getting down the right path. We do think that that starts to alleviate a bit in the back half of the year. So, one of the things that we said that we would do and be very careful about was, we would ensure that we have the capability to stood up in our new facility before we let resources go here. And we are now demonstrating that. We have had a wave of resources go or two. We will see that continue to play out in Q3. And so, the duplicative costs will start to step down in the back half of the year.
Thanks.
And our next question comes from Steven Lichtman from Oppenheimer. Your line is open.
Thank you. Hi, guys. Yeah, as you continue to move toward G7, I just wonder if you can update us on your latest thoughts on how you see the usage model within the non-intensive patient population. Do you still expect it to be intermittent use? Just your latest thoughts overall on moving into that large channel long term?
Long term, if we had a device that would be reimbursed that patients can wear all the time, I think they would wear it. The issue becomes whether it's going to be reimbursed and what type of model is going to serve those patients best from a cost perspective.
I can tell you and give you feedback on at least three programs we're aware of where interment use of G6 is going on right now. And different levels of interment use. Some wear for three months straight. Some wear one. Some wear for one month depending upon where they are. And the outcomes in these patients exceeds anything ever in a Type 2 patient in any drug. They learn more from wearing the sensor than any pharmaceutical product that's ever been introduced in that market. We're very optimistic we can make a big difference there. And we will continue to work on that business model with our G6 platforms and with those parties we're working, the programmatic people, the payers and such, to develop the right model.
So, when we're ready, we're ready to go. Quite honestly, we wouldn't walk away from an opportunity if somebody wants to use G6. It's just not the perfect product with a reusable three-month live transmitter to a track app [ph]. But we're learning a lot. We've committed a lot of resources to this. And we're very confident we can make a huge difference, but the business model has yet to be developed.
Great. Thanks. That's helpful, Kevin. And then, just secondly, on international, Steve, you mentioned Japan briefly. I was just wondering if you could provide an update on that opportunity and when you think you can start becoming a personal and not just professional use there.
Yeah. We're still working through the regulatory aspects of G6 in Japan. So, if you remember, we actually launched in Japan with a professional version, utilizing the G4/G5 sensor platform. So, I would tell you it's probably not before the end of this year, but probably sometime – I'm hoping in the first part of next year, we're launching G6 as a direct-to-patient consumer use product.
Got it. Thanks, guys.
And the next question comes from Suraj Kalia from Northland Securities. Your line is open.
Good afternoon, everyone. Thanks for taking my question. Kevin, can you hear me alright?
Yes. I can hear you fine.
Perfect. So, just one question. Most of the questions have been asked. Maybe this is better positioned for Quentin. Quentin, I know this whole thing about – you all have been consistent about Q4 margins, stepping up to 70%. At least the math you have suggested is, Q3 is going to be give or take 63% and then it steps up to 70%. Can you help us fill in the blanks here?
So, I just did some rough math. If the transmitters, those are the ones that are going to cause a step change, am I right that they have to be 80% plus gross margins on that? How should we think about that? Because I'm not getting to that 70%. Any additional fill-in-the-blanks would be greatly appreciated. Gentlemen, thank you for taking my question.
Yeah. I don't think – Suraj, we've never given specific gross margin profiles of any particular product of ours. But I will tell you the cost reduction that we have in that transmitter, from where it was, is significant. It is orders of magnitude less costly than what it used to be. So, we're not going to give you the specifics, but it was a very meaningful reduction. The team did an incredible job. Really both the R&D team and the operation teams combined in designing cost out from a design perspective, but also just the process of manufacturing the product. It was a whole team effort that generated incredible benefit.
Thank you.
And that concludes the question-and-answer session. I will now turn the call back over to Kevin Sayer for final remarks.
Thank you, operator. I just want to talk about one other recurring theme at ADA that kept coming to me over and over again. I met numerous people there that I've known for a number of years who have Type 1 diabetes. I literally heard the same thing over and over again. I haven't pricked my finger for six months I haven't pricked my finger up for eight months.
I heard a story from one patient who said he rubbed his wife on her shoulder and she said for the first time in many, many years his fingers didn't have scales on them or weren't rough.
Other patients said I've never been healthier in my life because it's just so easy to use.
One well-known physician actually took the opportunity to make me aware of the responsibility we have as a company because his patients were right now only on G6 to manage all of their diabetes and no one pricks their finger anymore.
These are great stories. But to assume that type of responsibility, we have to be really good and we have to continue to perform on the financial side, so we can meet our goals on the technology, manufacturing and operation side.
There are things we have do better. As Quentin said earlier, we will address our customer service area, particularly outside service, and we will get that in line with all of the wonderful experiences our patients have with our product.
We appreciate everybody's continued support – our patients, the physician community, our investors and, especially, our employees. Our sustained performance and this excellent performance we had had over the first half of the year only shines a brighter light on what we think is going to happen in the future. Thank you.
Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating and you may now disconnect.