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Welcome to the DexCom Third Quarter 2020 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 third quarter 2020 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 COO 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 analysts to limit themselves to one question, so we can provide an opportunity for everyone participating today. Please note that there are also slides available related to our third quarter performance on the Dexcom Investor Relations website on the Events and Presentations page.
Before we dive in, I am also pleased to announce that DexCom will be hosting its biannual Investor Day on Wednesday, December 9, where we will discuss our business and long-term outlook in more detail. This will be a fully virtual event available by webcast. With that, let's review our safe harbor statement.
Some of the statements 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, 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 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 third 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. Well, we've got a bit different rate over the past 24 hours compared to our usual earnings reports, but I am very glad to be with you today. Most of you probably saw that we pre-announced revenue after market close yesterday, in conjunction with the announcement of the retirement of Rick Doubleday, our Chief Commercial Officer. I'll have more to say about Rick and what is accomplished later in this call.
We chose to provide the revenue pre-announcement in order to remove any market uncertainty about the strength of our business in conjunction with our notification of Rick's retirement. Our strong third quarter results reflect the resilience of our business and the importance of DexCom CGM to our growing customer base, even as the world continues to navigate the challenges prevented by the COVID pandemic. Based on this performance, we are pleased to be in a position once again to raise our 2020 revenue guidance in the year-end.
Total revenue grew 26% in the third quarter, driven by our strong new patient growth over the past year. This patient growth continued in the third quarter with our pharmacy and Medicare channels, exhibiting the strongest growth in the quarter. We continue to see some impact to new patients relative to our expectations as a result of the pandemic. However, as our updated guidance indicates, the impact was not as significant as we expected and communicated on our second quarter call. We also officially introduced our patient assistance program at the start of the third quarter, extending our support to our customers who have lost coverage during this trying time.
We saw a small handful of people utilized the program during the quarter, but it did not have a material impact on our performance. We've made excellent progress on the access front with nearly all people with type 1 diabetes in the U.S., now having access to DexCom CGM as well as a quickly increasing amount of people with type 2 diabetes on intensive insulin therapy.
We recently entered into a government wide contract for the sale of DexCom CGM through eligible government buyers, including the VA. This contract will facilitate easier and more convenient access to CGM as it may allow for pharmacy access to DexCom CGM for eligible veterans. Another example of how we're making it easier for patients to take control of their diabetes at an affordable price.
In addition, our team is doing great work to expand access outside of the U.S., including the recent publication of our U.K. cost effectiveness study that showed the clear economic benefits associated with use of DexCom CGM. Based on studies like these, we are hopeful that we will be able to drive near-term access wins on behalf of people with diabetes with government payers on a global basis.
With customer feedback related to G6 continuing to trend at record levels, we have several initiatives underway to extend the DexCom growth opportunity and bring DexCom CGM to more people who stand to benefit from enhanced knowledge of their glucose levels.
For our intensive business, many of you likely saw our press release with Eli Lilly earlier this month, announcing our co-marketing efforts of our G6 CGM with Lilly's new ultra rapid-acting insulin. This collaboration is a great example of our strong partnership with the Lilly team and should provide a nice boost to our efforts to extend awareness of Dexcom CGM among practicing clinicians, including primary care physicians.
We are making great progress in our efforts to extend DexCom CGM to nonintensive type 2 customers as well. Intermountain Healthcare recently published the results of their first pilot using DexCom CGM, which demonstrated annual cost savings of approximately $5,000 per member for DexCom users relative to standard of care fingersticks.
We are thrilled to say the large expansion of this trial with Intermountain is now well underway. We are excited about our work with UnitedHealth as they extend their rollout of the Level 2 program. Although it is still early in the commercial rollout, our teams are working together very well to ensure the kind of patient experience that we expect for any users of our CGM systems.
We continue to support hospitals and help protect patients and frontline workers during the pandemic, with more than 200 hospitals reaching out to us about DexCom CGM during this crisis. We remain focused on generating evidence to potentially expedite approval for the use of CGM for patient monitoring.
Along these lines, early feedback on the performance of our CGM has been positive, including several recently published articles documenting use of the product during the pandemic. In September, we also announced the creation of a hospital registry to allow us to collect data on DexCom CGM performance efficiently during this time.
As we press forward these initiatives with a great customer satisfaction with G6, our teams internally are intently focused on the next steps with G7. We commenced approval support trials for G7 in mid-October. This timing remains consistent with our previous discussions around the impact of COVID to our clinical trial timeline. Although all of us are eager for you to experience G7, we are committed to doing this in the right way and ensuring that the trials are run efficiently and that we bring to market a product that delivers a best-in-class customer experience for DexCom users.
We expect to launch G7 into several key markets during the second half of 2021. Given the growth of the business and our expanding patient base, the expansion of G7 into all of our core markets will likely extend it in 2022 as we continue to scale manufacturing to support these markets in the right way.
There is one change to G7 from our previous discussions. After extensive evaluation in several premarket studies, we have made the decision to launch G7 versus a 10-day product with a clear pathway to extend the wear duration shortly.
Our customers' lives are heavily dependent upon DexCom CGM, and we have high standards to ensure that we meet our commitments to our customers. For example, while our 15-day configuration demonstrates survival rates in the 70% plus range, we don't believe this is good enough for our patients.
With that, I will turn it over to Quentin for a financial review.
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 in today's earnings release as well as on our IR website.
For the third quarter of 2020, we reported worldwide revenue of $529 million, compared to $396.3 million for the third quarter of 2019, representing growth of 26% on both a reported and constant currency basis. Our U.S. business maintained strong performance in the third quarter despite facing the toughest quarterly comparison for all of 2020 as we lap the 53% growth in the third quarter of 2019.
The U.S. revenue totaled $398.6 million for the quarter, compared to $308.8 million in the third quarter of 2019, representing growth of 29%. All three of our channels contributed to the year-over-year growth in the U.S. with pharmacy and Medicare standing out as the strongest contributors, in line with our strategic emphasis and our efforts to streamline access for our customers over the last several years.
Our Net Promoter Scores approached record levels amongst our users, and in particular, our Medicare customers including those with Type 2 diabetes on intensive insulin therapy, a testament to the simplicity of our DexCom G6 system in the value of real-time CGM knowledge.
Our international business grew 17% versus the prior year in the third quarter to $102.3 million and increased 21% on a sequential basis from the second quarter. The impact of the COVID pandemic on new patient starts continue to be felt more acutely in our international markets, especially as some of our core international markets have experienced increased case rates toward the end of summer and into the fall. This is primarily in those markets that have higher administrative requirements to access the technology, which are much more difficult with COVID related restrictions.
However, in markets where administrative burdens are limited, we continue to see strong growth and momentum with the U.K. and Canada, especially standing out. In addition, we are continuing to benefit from the increased manufacturing capacity that we've driven over the past year, enabling us to extend the G6 offering to additional international markets, including our most recent launches into Belgium and Turkey at the start of the fourth quarter.
Our third quarter gross profit was $340.7 million or 68% of revenue compared to 62.3% of revenue in the third quarter of 2019. Despite the increased pricing pressure that we have been talking about, this represents our highest quarterly gross margin since we launched G6 in 2018.
Our teams have done a terrific job designing cost out of our products and manufacturing processes in addition to driving greater manufacturing efficiencies as volume continues to increase. We are more excited than ever about where we believe we can take the cost profile of our products over time, further enabling our ability to successfully navigate the lower pricing environment that accompanies are pushed to enable easier access to our products for our customers through the pharmacy channel.
Operating expenses were $245.7 million for Q3 2020 compared to $187.8 million in Q3 2019, in line with our previous commentary. This reflects an increase of approximately 170 basis points as a percent of sales as we invested into some of our key initiatives in the third quarter. The increased spend in research and development is primarily focused on the G7 clinical trials, in addition to finalizing manufacturing readiness in anticipation of our future G7 launch.
Within sales and marketing, we are prioritizing our direct-to-consumer marketing efforts, given the continued momentum with CGM awareness and the adoption runway ahead. With the results of our early campaigns delivering an excellent return to DexCom.
On a go-forward basis, we continue to anticipate an elevated level of operating expenses in the fourth quarter and into 2021, as we move forward with our G7 pivotal trials, manufacturing scale-up and direct-to-consumer efforts. Importantly, general and administrative expenses continue to lever nicely in the quarter.
Operating income was $95 million or 19% of revenue in the third quarter of 2020 compared to $59.1 million or 14.9% of revenue in the same quarter of 2019. This reflects a year-over-year improvement of 410 basis points in operating margin for the quarter. Adjusted EBITDA was $146.9 million or 29.3% of revenue for the third quarter compared to $92.5 million or 23.3% of revenue for the third quarter of 2019, an improvement of 600 basis points. Net income for the third quarter was $93.6 million or $0.94 per share.
We closed the quarter in a great financial position with more than $2.6 billion in cash and cash equivalents. This leaves us with plenty of liquidity to continue our capacity expansion initiatives for G6 and G7 in conjunction with growing CGM demand, while also being opportunistic with our investment strategy as we contemplate the long-term growth potential for our technology.
We continue to anticipate some volatility to new patients in the fourth quarter of the year as COVID-case rates rise and fall in certain of our areas of operations and the global economy fluctuates. But with the strong third quarter results, we are in a good position to once again raise our outlook for the remainder of the fiscal year.
We now expect 2020 revenue to be approximately $1.9 billion, representing growth of 29% over 2019. This represents an increase of $50 million from our previous guidance and $150 million from the midpoint of our guidance at the outset of the year, despite the impact from COVID over the past two quarters.
As Kevin mentioned, new patient starts came in slightly ahead of the levels that we anticipated for the second half of the year and communicated on our second quarter call, although they were still down relative to our pre-pandemic expectations. For the fourth quarter, we expect new patient starts to be approximately 90% of our original expectations before the impact of COVID.
Turning to margins. We now anticipate the following non-GAAP results to meet or exceed the following levels. Gross margins to meet or exceed 66%, representing an increase of approximately 300 basis points versus 2019, despite the pricing pressures that we have realized primarily as a result of our emphasis on the pharmacy channel. We expect operating margins to meet or exceed 16%, an increase of approximately 500 basis points from the prior year.
Finally, we expect that adjusted EBITDA margins will expand to meet or exceed 26% for the year, also an increase of approximately 500 basis points from the prior year. Our margin profile is clearly reflecting the strong revenue growth over the past several years and our ability to drive strong operating leverage from our key strategic drivers.
We have also benefited to a certain degree this year from some near-term operating expense benefits associated with COVID-related impacts to clinical trials, industry conferences and other normal work practices. We anticipate that some of the investments will begin to generate returns in the fourth quarter and in 2021.
In addition, we will continue to invest to maximize our growth potential for the long-term and we believe that as COVID-related restrictions free up, there will be a return to spend in certain areas. So, while we expect the organization to continue to progress, the cadence of margin expansion may not continue at the same magnitude or with the same predictability as we've seen this year.
With that, I will now turn the call over to Steve for a strategic update.
Thank you, Quentin. Even with the ongoing impact of the COVID pandemic in our communities, our focus at DexCom remains largely business as usual. This means that we are focused on our patients, striving to ensure that they are cared for, and empowered by DexCom CGM in this time where glucose control is as important as ever.
This also means that our teams are focused on executing on our core strategic priorities to best position DexCom to capitalize on our growth opportunity. The significant capacity expansion that our teams have worked tirelessly for since the start of 2019, has left us in a great position to aggressively target new patients via different strategic marketing pathways, including enhanced direct-to-consumer marketing and as of very recently, the ability to offer product samples to health care providers so that their patients can experience firsthand the benefits of DexCom CGM.
While we are being strategic about these investments in light of the impact of COVID, our inventory position has us well positioned to take advantage of these new opportunities and provide full support to the efforts of our field sales force.
In September, we announced a new five-year research collaboration with the University of Virginia, my own mater, of course. This agreement enables additional resources for our Charlottesville team as we look to innovate our artificial pancreas algorithm technology.
We look forward to developing additional tools to offer our pump and smart pen partners to simplify the experience of managing diabetes for our collective customers. We'll also use the collaboration to advance our data analytics capabilities and research programs as we demonstrate the clinical value of DexCom CGM for customers for customers outside of our core intensive insulin-using population. This includes our efforts in non-intensive type 2 diabetes, prediabetes, pregnancy, and the hospital market.
We are making good progress in our efforts to extend the use of DexCom CGM to the broad type 2 population. This includes continued traction in our type 2 intensive segment, where the recent VA contract adds to our significant reimbursement progress thus far in 2020.
With Medicare, UnitedHealthcare, Aetna, The VA, and others now covering DexCom for the type 2 intensive population, we are confident that this will be a nice growth driver for the company and a great outcome for those with type 2 diabetes on intensive insulin therapy.
But we are equally excited about the work we are conducting demonstrate the value of DexCom CGM for the non-intensive type 2 community. In addition to our work with Level2 and Intermountain Healthcare, which Kevin mentioned, we will kick off commercial pilot programs with several of our key digital health partners in the fourth quarter.
Our automated insulin delivery partnership strategy continues to support our growth and position DexCom to lead the shift toward connected devices for people with diabetes on intensive insulin therapy.
Tandem's Control-IQ became the first automated insulin delivery system driven by DexCom technology earlier this year and has quickly generated great momentum for both companies and, more importantly, great outcomes for users of the system.
As we drop closer to the start of 2021, we are excited for the anticipated launch of Insulet's Omnipod 5 system in the first half of next year. This represents another important step for DexCom as we will have systems commercially available that are arguably best-in-class solutions for both tube and patch pump technologies.
And with our integration work with Eli Lilly, Novo Nordisk, and Ypsomed progressing as well, we believe that DexCom is well-positioned to support our core markets for users of insulin pump and smart pen systems in the years ahead.
With that, I will pass it back to Kevin.
Thanks Steve. As we head towards the collation of 2020, I want to take a moment to extend my gratitude to Rick Doubleday, our Chief Commercial Officer, who plans to retire at the end of this year and continue with us in a consulting role through 2021. Rick joined DexCom in 2009, leading our sales organization from approximately $49 million in sales in this first full year to the $1.9 billion that we're closing in on now. I can't think of many examples where a commercial leader has overseen companion growth of greater than 40% over a 10-year period. But that is what Rick has accomplished here at DexCom.
He is a great leader and a great friend who has developed a solid plan to execute as we progress into 2021 and the launch of our G7 system. Rick has also worked extensively to develop a very talented commercial team. So we are in a great position as we press forward to execute on our goals in 2021 and beyond. So I hope you will join me in expressing appreciation for Rick's outstanding leadership at DexCom, and best wishes as he embraced his well-deserved time spent with his family.
I would now like to open up the call for Q&A. Sean?
Thank you, Kevin. [Operator Instructions] Operator, please provide the Q&A instructions.
Thank you. [Operator Instructions] And our first question comes from Robbie Marcus from JPMorgan. Your line is open.
Thank you and congrats on a nice quarter. Kevin, you know the topic de jure, that I think is the focus to most investors now is the competitive environment and the pricing environment, particularly between you and Abbott. You both have great products. It's a large market. We've got a lot of product updates, both from your competitor and today with G7, moving into trials here and a launch in second half of next year, now with a 10-day product.
How should people think about the increasing -- I know I don't want to put the word out there, but similarity of the options from the 2 products and how to think about the ongoing price differential in the pharmacy? I know you've talked about this before, but I just think it's important to reiterate the answer here given the focus for investors? Thanks.
No. I appreciate that, Robbie. With respect to pricing, I think our results very clearly demonstrate how well we've managed this process as we moved a great deal of our business. Through the pharmacy channel, and I'm sure Quentin will get into that more later as we get into more questions. As you look at our margins as great as they are with volumes significantly higher than they were before and prices coming down. We've truly proven that we can scale here. So we definitely understand how that works.
With respect to products and features and things of that nature, let me start with G6 before we move to G7. This is an incredible product and it has incredible features and has truly been a market leader. It has taken us a while to get up to scale manufacturing G6 and get the capacity that we need, and we have that now. And so we will push G6 very hard and very competitively until G7 gets here. G6 is what we have today.
With respect to our future products, I can't speak to what our competitors have. I know what G7 is and what it does. There are many features in there. We have not shared with everybody that will delight the world. We went to the 10-day life for exactly the reasons I said on the call. And it really leads into what's going to be the differentiation. We did this because we want the patient experience to be what we committed to.
We have learned in our extensive research, the most important thing for us is to deliver what we say. And as we were getting out to 15 days, particularly with our algorithm with that sensor, we saw too many of them not making it. And while it performed great at the longer time, it wasn't great enough for us. So we shortened the life for now. We're very confident with changes we can make to make it last longer.
Where the difference will be over time and where we're investing significant resources is on the experience side. The concept that One CGM experience fits all is just not going to work going forward as you look at the AID systems. As you look at people that are Type 2 intensive insulin users, who have migrated to CGM later in life, they may want different information and different experience.
I think as we get the physical features of the product, exactly where patients want them, and we're very comfortable with G7, what's going to be most important is delivering the experience that keeps them engaged and leads to better outcomes, and we're very confident that we can win that battle.
And Ravi, just to add on to that and hit on Kevin's point of the pharmacy, I think it's important for folks to recognize that in the pharmacy channel, our product is not priced all that differently from Libre with respect to what the patients coming out-of-pocket for. Greater than 70% of our patients are able to get on to our product at less than $60 per month, many of them with no out-of-pocket on a per month basis. So from a patient perspective it’s price vary competitively.
And our next question comes from Danielle Antalffy from SVB Leerink. Your line is open.
Hi, good afternoon, guys. Thanks so much for taking the question. Just a question on – I'm sorry to harp on the competitive landscape, but I'll ask more specifically, you saw growth in Europe did – was lower than, I believe, one of your competitors, and they did launch a competitive product and in Europe. And I guess, if you could give us a little bit of color on what's happening. If anything there is the first part of the question?
The second part of the question is, just as a whole, you grew slower than the competitor that's been on top of mind for a lot of investors today. And I'm just curious if how much of that is supply constraint is being a little bit more constrained and not really pushing G6 as much as you could or will be doing in the future versus any real competitive dynamics here? Thanks so much.
Sure. Danielle, I'll take that. Let me hit OUS first. From an OUS perspective, our performance in the quarter was right in line with our expectations. I think if you go back and look historically at seasonal trends in that international business, Q3 is typically up around that 20% range, and we were up 21% sequentially this year in Q3 coming off of Q2.
To b e a bit more clear with it, though, we certainly saw some mixed results at the country level. And in those countries where the patients required to be in the physician office to train on, to go through the administrative process through all the paperwork that's required, we certainly have seen that be a slower uptick in getting back to normal volumes in the midst of this COVID environment. Clearly, COVID has impacted the ability to be in the office.
Contra to that, though, in markets where we have our e-commerce platform in place, for example, U.K., Canada, we're seeing record numbers of new patients coming on to our technology and just some tremendous growth there. So I really believe it's more a story of what the model looks like and how COVID is impacting that or not in terms of the patient's ability to get onto the product.
And I think if you look across the competitive landscape, and you go back to some of the commentary that's been put out there over the course of the quarter, for those folks who are more focused in the IIT space, which happens to be where we're primarily focused today in our international business, I think you've heard them speak to some softness in the international business as well. So I think what you saw come together for us was right in line with what the market is seeing. We feel good about it. Again, it was in line with our expectations.
To your point, in terms of growing overall at a slower rate than one of our competitors, I think you have to keep in mind, we're navigating through a price headwind right now as we start to step price down and move more into the pharmacy channel. And we're making terrific progress on that front, even a bit ahead of our expectations. And if you were to look at the third quarter, in particular, in the 26% revenue dollar growth that we put up, if you were to look at that on a unit volume perspective, I believe we put up market-leading unit growth in the quarter itself, growing nearly 40% from a unit perspective. That's better than anything else out in the marketplace right now. So I think when you adjust for price, which is a bit specific to us and you really look at patients and unit volume, I think we're putting up market leading performance.
Our next question comes from Matthew Blackman from Stifel. Your line is open.
Good afternoon, everyone. Thanks for the question. I wanted to touch on the comment on Steve about sampling. And if you indulge, I'll just have two intertwined questions on the topic.
The first one is, how should we think about the potential impact of sampling on Type 2s versus Type 1s? Would you expect it to be more impactful for Type 2s than Type 1s? And then the follow-on to that is we actually did talk to a doc last week that I'll say very gruffly told us you had begun sampling his practice for the first time. And he said, you expected something like 50% conversion of his first, call it, 20 patients or so into paying customers. That sounds like that would be a home run if that was broadly true, but help us understand how you're going to measure success or ROI on this new initiative? Thanks.
Well, this is Kevin. I will take that one. We're thrilled to be able to sample at this point in time. And to be doing it in a manner that we think can be very large scale for years, patients have wanted to try a Dexcom and see what they could do. And given our status with our direct business and all the things we're doing, there were constraints around our ability to do that. We've removed those constraints as we work through the distribution channel.
We believe that it's going to affect patients across the board, not only Type 1s, but I think your comment on Type 2 intensive insulin users is a very good one. They might be a bit more resistant to the technology, because they've been dealing with diabetes longer. And gee, do I really want to do that. If you have the experience of wearing a G6 and having -- being able to see what happens, this becomes very easy. And so we're really excited about it.
We expect the results to be good, if not fantastic. And if you look at the payback for us, you look at the revenue we get from a patient per year. If we convert 50% of these people to full-time use, that is beyond spectacular program. We don't even have to come close to that number for this to be a spectacular result for us. But I think the recognition and the ability for a physician to say, look, I have an answer for you. Let's try this. It's really important to us, and we think it's going to be a big initiative for us this year.
And our next question comes from Jeff Johnson from Baird. Your line is open.
Good afternoon all. I just wanted to weave a couple points into a single question, maybe we've been discussing recently some fairly tangible evidence that we think exist anyway that you guys might be looking to dramatically expand your sales force over the coming months. So what I'm wondering, I guess, more than anything is, one, is that true? Two, does Rick's departure at all signal maybe he wasn't on board with that or anything else in organization? And three, we don't typically think of sales reps in your business being a key driver of sales. So, what might be driving that plant expansion, if it is underway or plan to take place here over the coming months? Thanks.
I'll take that one. Let me address the Rick issue first. This has nothing to do with Rick deciding to retire. If anything, this -- all our sales efforts right now are Rick's plans, and he does get to see them through to the end of the year, while he'll be working with us through year-end. So, these events are completely unrelated.
We are planning several things on the sales and marketing front over the next year. We won't reveal all of them. But what we do believe is we do need more coverage in the field, particularly as we look at the HCP community and those who are not endocrinologists as you get into primary care physicians who are seeing more and more of these patients. We need some access there, and we need some more feet out speaking to them.
We're very cognizant of the return on our sales force has for us. And I would disagree with you, our sales team is great and they do provide a lot of benefit to our company. They are a great voice. And really our face of the company in many of these geographies. So, that I disagree with. We are fully on board with what we're going forward with and look forward to measuring the results of it.
And our next question comes from Joanne Wuensch from Citibank. Your line is open.
Good afternoon. Thank you for taking the question. Can we pause a little bit on your comments regarding pricing versus unit volume? At one stage, I think we were looking at a little over $100 million headwind in terms of pricing in 2020. Is that sort of the same number that we're thinking about?
And then the second part of that is, at what stage do you close the gap in pricing so that unit volume strength really shines through? Thank you.
Yes, Joanne, this is Quentin. As we spoke about price this year, just coming off of last quarter, for example, we were talking about $150 million in the business, so I think we were north of the $100 million you had referred to. That was something that was probably a year old, to be honest with you, as we were starting to navigate through it last year. So, it was a bit higher than that.
As we've made terrific progress on the pharmacy side, we've actually seen price be a little bit more of a headwind than what that $150 million would have represented. I think it's going to be closer to $175 million for the year. We saw stronger price headwinds come through in Q3 that were embedded in that 26%. And obviously, if you do the unit volume at nearly 40%, you can kind of understand what the impact was in the quarter. But the majority of that is being realized as a result of us opening up that pharmacy channel, which we believe in the long-term, is the much better channel to be putting patients onto the product through for various reasons. It increases access, makes it easier for folks to get onto the product. And importantly, from a profitability perspective, over time, will be a much more profitable business model for us.
And I think just looking at the quarter itself, seeing gross margin reach record levels of 68%, while the quarter represents the greatest amount of mix in that pharmacy channel just demonstrates our ability to really get after the cost profile of our product and compete in that segment quite aggressively.
In terms of how long it takes to ultimately get to the price point or the mix of the pharmacy channel, we're not going to speak to that today. I think you're going to hear more from us as we get to our Analyst Day around just how far we are into that pharmacy channel and where we see that going, but we're making terrific progress. They're very happy with what we're seeing.
And the next question comes from David Lewis from Morgan Stanley. Your line is open.
Hey Quentin, just a follow-up there, just thinking about the fourth quarter guide, it basically kind of 20 points of momentum deceleration. That's probably five points heavier than you guided sort of into the fourth quarter last year. Anything you'd call out U.S. or ex-U.S. we should be thinking about in the fourth quarter and perhaps it just reflects, frankly, that incremental $25 million of price as you exit out the year? Thanks so much.
Yeah. Thanks, David. Let me talk through a little bit of the assumptions that we've made as we head into Q4. I think we continue to operate in an environment where there's not a great deal of clarity with respect to how COVID is ultimately going to impact the business. And we want to be prudent and thoughtful around how we set those expectations.
First and foremost, as we move more and more business into the pharmacy model as well as the Medicare business continues to grow at a strong rate, the seasonal impact in the business is going to shift. You're not going to see nearly as much revenue show up in the fourth quarter as the patients no longer really incentivized to take advantage of a scenario where they might have already met their deductible and they're going to load up on product as they exit the year. So the seasonal trends in the business are going to look a little bit different as the mix in the business shifts.
With respect to COVID in particular, our best estimate at this point in time is that we're going to see about a 10% impact to new patient starts in the fourth quarter. If we navigate that more successfully, then terrific, there's going to be some upside to the number, but that's our best estimate at this point in time.
And then, I think that the other thing to consider is the fact that we put in place the patient assistance program that really hasn't had an impact on the overall results just yet. We saw it start to take place in Q3, but it didn't impact us in a material way, but if you think about it, that was put in place to help those patients who ended up being unemployed or just couldn't afford the product in general.
And most of that started to happen back in the second quarter, as COVID really started to take place. And if you think through that scenario, we've got patients who would go on to COBRA for a period of two or three months, they typically would make their last purchase of a quarter's worth of supply, so another three months of product.
And that puts them right into the fourth quarter when they're going to be making their next purchase, which is when they would now be coming on to the Patient Assistance Program. So our belief is that's going to be a bit more impactful in the fourth quarter than what we've seen in other quarters. I think when you take those sorts of things into consideration and when you try to quantify those, if you were to exclude them, you'd see a growth rate right back in line with what you've seen year-to-date.
And the next question comes from Matthew O'Brien from Piper Sandler. Your line is open.
Good afternoon. Thanks for taking the question. Kevin, the comment that you made about not seeing what you wanted to see from day 10 to day 15, is that because you can't hit the iCGM designation? Was it just the adhesive wasn't working? The algo wasn't quite right? What exactly does that mean? Do you think you're going to have an iCGM designation for this, for G7 when you get out to 15 days? And then on the 10-day sensor, is it going to be a cheaper sensor, because I know cost is a big gating factor for some people. Thank you.
So let me start with pricing. Again, we currently sell a 10-day sensor, and pricing is very much based upon the cost per month, whether you buy two sensors or three sensors as we've done these contracts, CGM is a monthly cost. It really doesn't get down to the unit. Excuse me, particularly, if you look at the way our contracts are negotiated with respect to transmitter and receiver prices and you get into rebates on various component. So the cost per individual sensor really doesn't matter. It's what we can make and what we get reimbursed for in a given month.
With respect to getting out from 10 to 15 days, for us, this is a problem that we can solve. In order to meet iCGM standards the way our algorithm works, as we turn the sensors off when the data, we believe, isn't necessarily good enough for iCGM standards. Many of our patients would argue that the data is just fine when we shut them off, but that's how we look at this and how we run it. We saw that we're basically shutting out more sensors than we wanted to right now, and we needed to perform better.
As I said earlier, we can get 70% of them to 15 days with that trouble, but 70% in our mind is not good enough for our patients. We'd rather have a better reliability number and go 10 days. It is a cost issue more than anything else on over time when we get to 15 -- the COGs will obviously be less. But as you look at our G6 performance with our 10-day sensor now and the cost profile that our ops team, Quentin and the team have created. We've -- we're very happy with that, and we're very comfortable going forward with G7 with 10, we'd like to make it 15, and we'll work on that as soon as we're done with the 10 filing. We expect everything we do to have an iCGM designation, by the way. So there won't be any backing off on that.
And our next question comes from Travis Steed from Bank of America. Your line is open.
Hi, thanks for taking the question. Just wanted to get a little bit more color on the G7 timelines, you mentioned key markets in the second half of next year. Is the U.S. falling in the second half? Or is that going to be more 2022? And then on the U.S. pivotal trial, when do you expect that to actually finish enrolling?
We're not going to give all those time line details out for competitive reasons more than anything else, our policy in the past has been more to announce approvals rather than to give a bunch of details on the studies. I did say that we've started our studies with respect to generating data for approvals. By saying multiple geographies, that obviously means there will be international launches. To the extent we launch in other places has yet to be determined.
Right now, we're focused on a number of efforts, getting ready for that. And the complexity of G7 for us is actually, it's kind of a blast. It's very exciting to go through a change as big as we're doing. But literally, every single process in building this is different than what we've done before. And so we are getting factories and capacity up and running, the lines will be fully automated. We want to be completely ready to manufacture tens of millions of these things at launch rather than just a few.
And in fairness to our commercial team and everybody in the field, we spent all of '19 living on about 3 days of finished goods, and we're not doing that again. That won't be – I have very – every comp and that will not be the delay launch, it will be getting all the approvals in. But we'll launch it in the appropriate timeframes and give color as the situation evolves.
And our next question comes from Mark Kaczor from William Blair. Your line is open.
Hi, good afternoon, guys. Thanks for taking my question. I wanted to follow-up on the G7 launch and just operationally, have you guys been able to start working through some of those payer contracts? Are they asking you to wait and I ask it just because of that lack of the transmitter, whether that's going to then structure that G7 sales cycle on an annual revenue basis where maybe days percent or don't matter as you extend further into the life of that. Or is it going to be sensor only?
We've contemplated the G7 launch ever since we started negotiating contracts for G6. We don't view this as a big changeover for us. If anything, our team will be more than ready to do this in the field when time happens. And as it gets closer as we go through the next bidding cycle, inevitably, our team will well flow G7, there will be some payers who will go to dual pricing even though G7 is not approved, others will want to wait until the product is approved, the policies vary across the board. But we've contemplated the G7 launch and all the G6 work that we've done. So we have a model going forward that will be easy to repeat.
And next question comes from Ray Denhoy from Jefferies. Your line is open.
Hey, thank you. Maybe Quentin one for you about the gross margin. It's been pretty impressive to see the gross margin expansion even as you guys are absorbing all of this price. And I guess the question is whether -- or really how long you can keep doing that? Is there a level, at which gross margin has to stop going up and actually starts to go to the direction as pricing continues to come down. And I appreciate G7 represents kind of a step change in that, but as we're still on G6, how long does this keep going?
Yeah, Raj, great question. We couldn't be more excited about where we've been able to take the cost profile of our G6 product. And keep in mind, we're doing that at a time where we've created record inventory levels for the company, which just opened up more and more growth potential and growth avenues for the organization that we can start to pursue. So we're excited about that.
We're currently at our lowest cost point to date on G6. And I think there's quite a bit of runway still in front of us with respect to take cost out of that product, particularly as we keep pushing significant volumes through the plant.
As you look at the cost profile, I believe we can get to a profile that is less than $1 a day cost for the product, regardless of whether that's G6 or G7. Keep in mind, G7 from the very beginning of time was designed with cost in mind and the ability to get to a lower cost profile than G6. And so while we're making tremendous progress on G6, the ability to replicate that and do even better with G7 is something that we fully believe in our ability to do.
Now that being said, G7 will be more expensive in the early stages as we're ramping capacity. But at scale, it will be a lower cost profile for us than G6. So I think there's still quite a bit of good runway in front of us.
The teams are focused on driving cost out of the product. We're redesigning manufacturing process where we can take manual efforts and move them to automated efforts. We're moving into lower cost jurisdictions. We've renegotiated cost points with many of our vendors as they've taken advantage of larger volumes as well we've redesigned the logistics and distribution model that we utilize as well, taking cost out.
So I don't think we're anywhere close to having realized the full benefit of all of that just yet, but you're starting to see it play through. To the degree that we continue to navigate through price headwinds will somewhat impact how high that gross margin can go. But at the very least, it lets us combat those sorts of things. So we're excited about where we're at on the cost side.
And our next question comes from Steven Lichtman from Oppenheimer & Company. Your line is open.
Thank you. Hi, guys. I was wondering if you could update us on progress in intensive Type 2. Are you seeing momentum now on the commercial side with the win you talked about with United Animal recently, Aetna about where do you think we are in terms of the market on an intensive Type 2 CGM penetration?
I'll refer to Steve or Quentin on the market penetration, I can just tell you anecdotally, what we're hearing is very much as these patients are getting covered, the technologies getting to them. We've always had Type 2 intensive insulin use coverage in Medicare.
In that respect, I think our biggest barrier there. And again, it talks to sales force expansion and messaging was getting to physicians to recommend it to those patients and making everybody aware. So we're happy with that one.
On the penetration side, Steve?
What we said on the last call is that our Type 2 business was exceeding 20% of our patient base. I don't think we're prepared to update that today. But the other – the point that I would want to make on the – even just the intensive Type 2 space is the addressable market is simply larger, right? So whether you're looking at the U.S. business or you're even looking at the European or the other foreign markets. In the U.S., we're looking at a patient opportunity of probably pushing like 2 million patients, where we used to use a number maybe like 1.5 million in the U.S., I think we’re – the data that we have suggested that market opportunity is a lot bigger. So while penetration, certainly I think that we're making great progress on the insurance front, and it's a huge market opportunity as we look to continue to expand the intensive business.
And our next question comes from Chris Pasquale from Guggenheim. Your line is open.
Thanks. Two quick ones for me. One, I was just hoping you could give us a little bit more on the significance of the government contract you mentioned in the U.S., what impact that could have on the business? And then I just want to follow-up on the question about international. I'm curious if the situation is improving in the countries that have lagged due to COVID? Or if you actually think that might be a little bit worse here in 4Q as virus case counts increase in some of those places? Thanks.
The government contract is really important to us, particularly on the VA side, there's a much higher instance of diabetes with that group of patients than the regular general population. Being able to get access to G6 through a pharmacy benefit at zero co-pay, we think is a wonderful benefit for that group.
I think it's just part of the general blocking and tackling that we do to continue to grow. So I can't quantify it. These are the types of wins that you've seen DexCom generate over the past several years, and we are looking forward to serving this patient base much easier than we have before. I'll let Quentin talk about the international piece.
Yes. With respect to international, early signs are starting to point to the fact that new patient numbers are starting to step back up, clearly, not back at the levels they used to be at, but we are seeing those start to trend back up the way we would expect them to, over time. So we're seeing some good progress there. And clearly, that's in those markets that have the administrative burdens placed upon that are bit heavier in those markets where you're utilizing something like the e-commerce platform, we've seen terrific results there.
And our next question comes from Chris Cooley from Stephens. Your line is open.
Good evening. Thanks for taking the questions. Just maybe this point from me interested, Steve, when you think about the UVA collaboration and you talked about the advanced analytics, DexCom already essentially owns and controls the data through the generation. You have the algorithms in place. How's there on maybe the future revenue streams from whether we want to call this an IT management or some type of other ways that you could further leverage the data that you have in-house now to further enhance the margin profile longer term?
Yes. No, it's a great question. We've spent time exploring ways to monetize the data to date. And quite frankly, at this point, to the extent we can help our partners be more competitive with the algorithms that we provide to them and/or that we provide to our patients just from a patient capture and patient retention perspective, I think we're pretty happy with that.
The UVA collaboration, in particular, you guys all know we bought TypeZero, a few years back. That algorithm, in particular, is commercialized in the tandem Control-IQ product today. Really, when we look at the opportunities at UVA, it's really to expand to next-generation algorithms, whether they would be for automated insulin delivery, which we would probably do in conjunction with our folks at TypeZero. Or even beyond to be intensive insulin patients who don't use an insulin pump and even beyond that, whether it's Type 2 more broadly, health and wellness, pre-diabetes, even in the hospital. So we're looking at kind of ample opportunity over the next five years. To really work closely with UVA, who has been responsible together with our folks at TypeZero for developing these best-in-class algorithms.
And our next question comes from Kyle Rose from Canaccord. Your line is open.
Great. Thank you for taking the questions. Just two for me, both on the commercial side. First, on the DTC program. Can you help us understand, I guess, the ongoing effectiveness of the program and where you're at with respect to rolling it out and realizing the value and the return on investment from those DTC investments?
And then secondarily, are you seeing changes with respect to your referring physician mix. Obviously, you talked about maybe making some salesforce investments as you move more into the non-endos. Just trying to understand how those different channels to have different sales and marketing needs?
Well, with respect to DTC, we have rolled that out, and we're going very strong here in the fourth quarter. Our return on our DTC investments has been very, very good to date. In fact, compared to other ones we've seen in other companies, our returns are extremely high still. So that program has not capped as far as effectiveness. So, we'll continue to investigate and you will see more from us going forward this quarter and the first of next year. We have a lot of fun things planned for you on the DTC front.
With respect to more channels and referring physicians again, as Quentin said earlier, we had tremendous new patient numbers this quarter. So, we're still getting referrals, obviously in the endocrinology community and the communities where we serve. Traditionally, we just feel the need to go deeper and end to visit with more healthcare professionals and help them better treat their patients as well.
One of the things we learned from -- we learned from COVID with respect to our clarity system as physicians had to do mobile appointments or tele appointments, if they can pull clarity data up on the screen, those employments become very effective. And there's a large group of physicians who don't have access to clarity or haven't been using it. We need to get out and get our message out there. So, that's our plan. It will go deeper and to help our people focus more on those territories where they work.
And our next question comes from Jayson Bedford from Raymond James. Your line is open.
Good afternoon. I hate to get granular here, but I thought I heard Kevin say that new patient growth continued in the third quarter. And yes, there's a couple of ways to interpret that comment. So, my question is, did you add more new patients in 3Q 2020 than you did in 3Q 2019?
Yes, Jayson, just to be Q3 2020 was a record number of nutrition ads for us. So, it was the highest quarterly new patient add of any quarter in our history.
And the next question comes from Ravi Misra from Berenberg Capital. Your line is open.
Hi there, this is Iris [ph] calling for Ravi. So, if you can talk a bit about CGM coverage under Medicaid. So as we think about the macro economy, the unemployment rate is high, and maybe there are more people moving to Medicaid from other insurances. So, can you talk about CGM coverage under Medicaid? And do you think the shift to Medicaid would reduce patients' access to CGM or increased pricing pressure? Thanks.
Yes, this is Kevin. I will take that. We have Medicaid coverage in approximately 40 of the 50 states as we sit here today. And I would be in full disclosure. It's spotty in some states, it's very easy in some saves, they make it very hard as they're very budget conscious, and they're worried about spending dollars. We believe – and we have various pricing arrangements throughout all the states. There's a wide range of pricing there. I don't -- if we had coverage in all 50 states and everything were equal in almost every device business, Medicaid pricing ends up being lower than everything else. And we're prepared to do that. We believe these patients is sort of access to our technology as well.
But really the challenge for us has been getting it across the finish line in a manner to whereby patients can get the technology. And it's just too hard right now. We are trying hard to be better. And we've had some major wins on that front. But there's a couple of states where we just keep knocking on the door and keep -- I mean, there are some states where we get across the finish line, and then they've attached Medicaid coverage to some other thing and in the state legislature and we get thrown out.
It's been a very frustrating thing for me and particularly because so many of those patients are children and really deserve access to DexCom CGM, deserve access the share and fall and all the things that we have to offer. So we continue to fight that battle. I hope we have it in every state, and we'll make sure that we can compete competitively on the pricing side. We're not going to give the Medicaid business up. We want patients to have access to us.
And our next question comes from Ryan Blicker from Cowen. Your line is open.
Hi, thanks for taking my question. You've always said that at some point, competitors will close the gap versus DexCom and on performance and connectivity assuming this happens at some point over the next 1 to 2 years, do you believe DexCom can differentiate versus its competitors via software around the CGM and accordingly to sustain some degree of premium price long-term?
You're clearly making significant investments here as demonstrated with TypeZero and the UVA collaboration. But again, do you believe DexCom can differentiate via software over time instead of the hardware differentiation you've enjoyed since 2012? And if so, when will we start to hear more about your software product pipeline? Thank you.
Well, you'll hear more about our software product pipeline as we launch those products over time. And let's be clear on the hardware differentiate side, while we've said that gap is going to close, it still hasn't. And we still lead in connectivity and connectivity and multiple devices and interoperability and data sharing and all of those things. That infrastructure has taken us a long time to build, and it costs a lot to support.
I think over the next several years, software will be a key thing, delivering the experience to the patient that will keep them engaged and provide a great outcome. I was at dinner with a long time diabetes patient the other night, and we started talking about experiences, and a guy looked at me goes, so wait a minute, you don't think one size fits all and said, no, I don't. I think at some point in time, you'll see -- I know you'll see from DexCom, different software offerings. So stay tuned on, on that one.
I think the other thing that everybody needs to understand also about this market, as we look out over the next several years, is just the challenge of scale. And we've lived through this. As we continue to invest in factories, we've got G6 pretty much built out now. That took us a couple of years, and now we're investing heavily in G7. You're looking at somewhere between $0.5 billion and $1 billion in capital investment on our part to do this to get to where it needs to be to get these products at the cost basis they need to be, but also automated and at scale, so we can deliver the volumes that we need. And that will be a differentiator as well.
If companies aren't investing in that scale, that's going to be difficult. So as I look out over time, connectivity and the higher experience that we provide, we still believe we'll be best-in-class over everybody else. But the software experience we can create based on the mentality that we have and as close as we are to our patients really is going to be a differentiator.
As far as premium pricing over time, we will continue to work towards that end. We've done very well in the pricing -- in our pricing schemes now that as Quentin alluded to earlier, with our shift to the pharmacy, and many of our patients to Medicare, that's becoming – our pricing models have moved in the way that we thought they would.
I do think there are things, we have CGMs to do, that are worth more than other things. And as I looked at this in the future, I do see an experience. This is just me personally, that it's worth a higher price than some other experience and conversely as some other experiences that may not be worth as much as what we charge today. So stay tuned on that. We – as I mentioned somebody the other day, we've kind of created this industry from 2012 to now, and it's going to be fun to evolving over the next several years as well.
And the next question comes from Larry Biegelsen from Wells Fargo. Your line is open.
Hey, guys. Thanks for fitting me in. Quentin, any color or preliminary thoughts on 2020 – how we should think about 2021 relative to 2020, the 29% top line growth you're guiding to in 2020 and the operating margin of greater than 16%, any high level thoughts? Thanks for taking the question.
Yes, Larry. We're not going to talk about 2021 on the call today. Clearly, we believe there's tremendous opportunity for growth in front of us, given just the fact that there's so much awareness to continue to be had around our product. I think we've been clear from a profitability side.
We're going to be disciplined in this organization, and we're going to make the right investments where we need to, to open up new growth channels into the future. And all of that will be contemplated in the guidance that we ultimately end up providing for 2021, but we're not going to do that today.
And that concludes the question-and-answer session. I'll turn the call back over to Kevin Sayer for final remarks.
Thank you. I, again, want to thank everybody for participating on our earnings call today. I really can't emphasize enough how strongly our teams performed during these incredibly unstable times. $0.5 billion in quarterly worldwide sales at the time when our field teams have had very limited access to clinicians, and it had to be very creative to figure out how to get the message out to patients. We've raised our guidance now for three straight quarters.
We have gross margins approaching 70% during a period of managed price reduction, combined with unit volumes being more than double what they were two years ago and significantly higher than last year at this time. We have operating and net income levels higher than we've ever had before, during a period when our customer satisfaction scores are also at all-time highs, far in excess of those of our competitors. We are doing our best on our commitment to our patients.
Innovation continues to thrive here. I personally learn more about sensor technology in 2020 than any of the other years
I’ve been here. All of this is pushing towards tremendous innovation going forward. And as we see the use of CGM and other applications and some of the things, some of our data partners or our payer partners are going to be able to do with this data going forward, never been more bullish about innovation and what's coming in the future.
And barriers to our new markets are coming down. As we've navigated our way through the hospital experience and learn there, our Type 2 efforts with the program Steve talked about earlier, we're making progress in multiple markets for the future, so we'll be able to address those. You can’t do all these things without a remarkable team. I want to express my gratitude to everybody on the DexCom family at this time, but I'll remind everybody of one thing, we are still at the very beginning of this journey, and it's only going to get faster or from here. Thank you, everybody.
Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating, and you may now disconnect.