This month we go back to the MedTech well and pull out a small company with a potentially transformative technology that could shake up the organ transplant market.

With recent FDA approvals and a platform that appears to be head and shoulders above the standard of care, this company is enjoying rapid revenue growth now.

Enjoy!

Cabot Small-Cap Confidential Issue: July 7, 2022

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The Big Idea
There are hundreds of thousands of people around the world dealing with end-stage organ failure. The underlying causes are demographic trends contributing to chronic disease.
The solution is organ transplant. And there are loads of people that have elected to donate organs after their death.

But the standard of care for organ transplant storage – cold storage organ preservation – just isn’t cutting it.

Cold storage basically consists of flushing a donor organ with cold pharmaceutical solution, putting it in a plastic bag, and putting it on ice in a cooler.

Organs on ice, with no oxygenated blood supply, don’t last that long. They get injured (i.e., ischemia). Since they’re not functioning there’s also no way to assess their viability for transplant. And there’s no real way to tweak how these organs are handled to optimize their use for transplant.

The end result is that damaged organs can lead to post-transplant complications. Or they are too damaged to be any good and are just thrown away.

The unfortunate truth is that only two out of ten lungs are used and only three out of ten hearts are used.

Those statistics stink. Each organ that’s tossed out represents a life that might have been saved.

The world needs a better way.

The Company
TransMedics Group (TMDX) is a small MedTech company addressing the unmet market need for more and healthier organs for transplantation, specifically in the heart, lung and liver markets.

The company’s revolutionary technology is called the Organ Care System (OCS). OCS replaces a very old standard of care, cold storage, that is too static to meet the dynamic needs of today’s organ transplant market.

The elevator pitch is that the OCS does a better job at preserving organ quality, assessing organ viability prior to transplant, boosting organ utilization and slashing transplant costs.

This is good for patients (better access to life-saving transplants and quicker recoveries), hospitals (higher transplant volumes, better procedure economics) and for insurance payers (more cost-effective treatment for end-stage organ failure and lower post-transplant complication costs).

The OCS is also the foundation of TransMedics’ National OCS Program (NOP), a turnkey solution for transplant centers that provides outsourced organ retrieval and OCS organ management.

The goal of the NOP is to streamline delivery of donor organs from anywhere in the U.S. to a transplant center.

This is very much an emerging platform technology and therefore there are risks. Growth can be rapid (revenue was +125% in Q1 2022). But revenue is also coming off a low base, so growth could be lumpy.

For example, revenue growth in all of 2021 was just 18% before the big acceleration in the first quarter of 2022.

That all said, the NOP is just gathering momentum now and TransMedics was granted several FDA approvals over the last twelve months. These programs are just starting to contribute revenue, so this could very well be the liftoff stage of this business.

The early-stage nature of TransMedics is one reason analysts at the big banks haven’t fully jumped on board the stock (yet). But they’re inching closer. After the Q1 result both Morgan Stanley and JP Morgan increased their price targets from 15 to 25 and 12 to 26, respectively.

Those are significant increases that will surely shoot up further if management executes in the coming quarters. Due to broad market conditions and the early-stage nature of TransMedics we are starting with a half-sized position.

The Platform
The OCS – a proprietary, portable organ perfusion, optimization and monitoring system that preserves human organs in a near-physiologic condition – replicates aspects of the organ’s natural living and functioning environment outside of the human body.

It is the first and only multi-organ platform to leverage the same proprietary technology across several organs.

The OCS is designed to perfuse donor organs with warm, oxygenated, nutrient-enriched blood and maintain the organs in a living, functioning state.

That means lungs are breathing, hearts are beating, and livers are producing bile.

The end result is that, as verified through clinical trials, OCS dramatically cuts injurious ischemic time on donor organs and increases donor organ utilization as compared to cold storage.

TransMedics management believes the platform – in concert with the National OCS Program (NOP) – can dramatically increase the number of organ transplants and improve post-transplant outcomes.

So far, TransMedics has developed three OCS products; OCS Lung, OCS Heart and OCS Liver.

All three have been approved by the FDA for organs donated after brain death (DBD organs) and organs donated after circulatory death (DCD). OCS Lung and OCS Heart are also approved in Europe.

The OCS Technology Platform
The OCS platform was designed to leverage common technologies across multiple organs. Each organ-specific solution is customized with additional technology for that particular organ.

There are three main parts of the OCS platform.

OCS Console: A portable medical device that houses and controls the function of the OCS and is designed to fit in the current workflow for organ transplantation.

OCS Perfusion Set: A sterile, biocompatible, single-use disposable set that stores the organ and circulates blood. Includes all accessories needed to place the organ on the system.

OCS Solutions: Nutrient-enriched solutions used with blood to replenish depleted nutrients and hormones needed to optimize the organ’s condition outside of the body.

The OCS platform has additional technologies that are designed to comprehensively address the limitations of cold storage and improve transplant outcomes:

• proprietary pulsatile blood pump to simulate beating heart perfusion
• proprietary software-controlled titanium blood warmer to maintain blood at body temperature while maximizing portability
• gas exchanger to maintain organ oxygenation
• customized hemodynamics sensors to monitor and assess organ function
• proprietary software-controlled, miniaturized, electromechanical system with universal power supply and hot-swappable batteries to maximize portability and travel distance for organ retrieval
• proprietary wireless monitor and control software to provide an intuitive user interface for monitoring critical organ function
• customized carbon fiber OCS console structure to reduce the overall weight of the system and maximize portability.

The National OCS Program (NOP)
The National OCS Program (NOP) is an organ retrieval and management program developed by TransMedics for transplant programs so they have an efficient process to source donor organs with the OCS. Management believes it will dramatically accelerate adoption of the OCS while boosting the company’s profile among transplant centers and payers.

The key benefit of the NOP is that it allows transplant centers to outsource the retrieval and organ management process to TransMedics and avoid the capital and resource investments to support higher transplant volumes and long-distance organ retrievals. TransMedics currently has 14 dedicated NOP launch points across the U.S., with more to come.

Growth Initiatives
FDA Approvals for Heart and Liver in September: Both OCS Heart for DBD and OCS Liver were approved in September 2021, then OCS Heart was approved for DCD in April 2022. Those approvals have significantly expanded the pool of eligible donor organs and boosted pricing and sales volume, a trend that should continue.

National OCS Program (NOP): TransMedics has recently expanded the NOP (14 centers today, up from 11 in 2021), which is dramatically streamlining organ deliveries and boosting sales. Management expects to add more centers this year and next. To put the success of the NOP in context, it drove over 70% of Q1 revenue.

Next Gen OCS Device: The next gen OCS device is expected to roll out in early 2024.

Expansion to Additional Organs: OCS products for additional organs, including kidneys, are currently in development with clinical trials for Kidney likely to start in 2023.

The Business Model
Almost all of TransMedics’ revenue comes from sales of single-use, organ-specific disposable sets used on organ-specific OCS Consoles. Customers are transplant centers, Organ Procurement Organizations, non-profits responsible for recovering organs from deceased donors and, less frequently, overseas distributors.

Products are sold through two channels; the direct acquisition channel (transplant centers with their own teams and inventory of OCS disposables) and the National OCS Program (NOP), which I discussed earlier. OCS products are reimbursed in the U.S. through Medicare and private payors.

The Bottom Line
In 2021 revenue grew 18% to $30.3 million. Adjusted EPS was -$1.60. It was a lumpy year as revenue contracted in the quarters ending in March (down 6%) and September (down 24%). Covid played a role, as did limited FDA approvals. Things have improved dramatically on both fronts.

In Q1 2022 revenue grew by 125% to $15.9 million (85% came from the U.S.). This beat expectations by $6 million. Adjusted EPS was -$0.38. Liver was the biggest driver (up 1,680% to $7.87 million and 50% of revenue) while heart also grew nicely (up 37% to $5.7 million and 36% of revenue). The growth of these two solutions was driven by FDA approvals in Q3 2021. Lung was down 5% (14% of revenue), due largely to Covid impacts.

On the conference call management increased full-year revenue guidance by $10 million (as compared to February 2021 guidance) to $59 - $65 million (+95% - 115%). Several analysts asked why “only” a $10 million raise given Q1 beat by $6 million. Management indicated a desire to be conservative at this stage of the game but that there were no specific concerns or headwinds. I believe this is an effort to establish the beginnings of a “beat and raise” cadence. That would likely be a very good scenario for the stock.

The company ended March 2022 with $72 million. It’s likely a capital raise of some sort will be needed within the next four quarters given TransMedics has $35 million in long-term debt, due June 2023. If I were a betting man, and market conditions allowing, I suspect this will be paid off through an equity offering in the first half of 2023.

Risk
Covid-19: The pandemic adversely impacted the transplant market, causing transplant procedure delays and challenges finding clinical trial participants. It seems TransMedics is on the other side of this – the headwind has become a tailwind – but as we all know pandemics are unpredictable.

Transformative Platform Might Not Catch On: New technologies don’t always catch on as expected. While the early evidence is compelling for OCS it might not live up to expectations.

Commercial Rollout Challenges: Great tech is a starting point, but sales and marketing execution is needed to truly seize the day. There is no guarantee the TransMedics team will execute.

Clinical Challenges: Medical device companies need FDA approvals. While the early results are very solid, new data could always come to light that undermines the efficacy of the OCS. Same goes for the OCS Kidney program.

Valuation, Bear Market, Etc.: This has been a risk-off year for investors. That trend could continue, and if it does, stocks like TMDX might not get the love we expect them to.

Equity/Capital Raise Likely in 2023: While revenue growth could solve this problem, it’s more likely the company will raise capital early next year.

Competition
While there are several companies competing in the cold storage and cold perfusion areas of organ preservation, there are only a couple in the more specialized warm perfusion market, which better addresses the limitations of cold storage. This is the sandbox TransMedics plays in, and the primary competitors are OrganOx Limited and XVIVO Perfusion AB (XVIPF).

The Stock
Trading Volume: TMDX trades an average of 285,000 shares daily.

Historical Price: TMDX came public at 16 on May 2, 2019, and got off to a good start, trading up into the low 30s by the end of May. Shares came back to the IPO price near the end of the year and hit a low near 10 during the pandemic crash. When the market went bonkers in 2021 TMDX hit an all-time high of 49.5 on March 22, 2021. Shares pulled back to the 200-day line near 20 a few months later then consolidated in the 25 – 35 range through November. As the market slid, TMDX did as well, seemingly bottoming at 10 on February 24, 2022 (the day after Q4 2021 earnings came out). Since then, the stock has begun to form a choppy uptrend with pullbacks to the 50-day line attracting buyers. With the stock currently bumping up against last year’s resistance level near 35 we’ll start with a half position now and look for either a pullback closer to the 50-day line (27.5) or a confirmed breakout to fill the other half. BUY HALF

Valuation: TMDX trades at an EV/Forward Revenue multiple near 8.7. That’s not cheap but with revenue taking off (with considerable upside potential) picking a target valuation here is more art than science.

Buy Range: Expect to buy between 27.50 (50-day line) and up to 36 (overhead resistance) in the near term.

The Next Event: Q2 earnings likely in early August.

Updates on Current Recommendations

Please email me at tyler@cabotwealth.com with any questions or comments about any of our stocks, or anything else on your mind.

Glossary
Buy means accumulate shares at or around the current price.
Hold means just that; hold what you have. Don’t buy, or sell, shares.
Sell means the original reasons for buying t Buy means accumulate shares at or around the current price.
Hold means just that; hold what you have. Don’t buy, or sell, shares.
Sell means the original reasons for buying the stock no longer apply, and I recommend exiting the position.
Sell a Half means it’s time to take partial profits. Sell half (or whatever portion feels right to you) to lock in a gain, and hold on to the rest until another ratings change is issued.

Disclosure: Tyler Laundon owns shares in one or more of the stocks mentioned. He will only buy shares after he has shared his recommendation with Cabot Small-Cap Confidential members and will follow his rating guidelines.

The next Cabot Small-Cap Confidential issue is scheduled for August 4, 2022.

About the Analyst

Tyler Laundon

Tyler Laundon is chief analyst of the limited-subscription advisory, Cabot Small-Cap Confidential and grand slam advisory Cabot Early Opportunities. He has spent his entire career managing, consulting and analyzing start-up and small-cap companies. His hands-on experience has taught Tyler that the development of a superior business model is the biggest factor in determining a company’s long-term success. Accordingly, his research focuses on assessing the viability of management’s growth strategies, trends in addressable markets and achievement of major developmental milestones.

Tyler’s small-cap portfolios favor a high allocation to stable, high growth companies, upon which he layers strategic purchases of higher risk, event-driven investments. He first began publishing his analysis of small-cap opportunities in 2009. Since 2012, he has led his subscribers into 10 doubles. Between 2012 and September, 2015 his small-cap recommendations generated cumulative returns of over 2,300%, including both winners and losers, and outperformed the Russell 2000 Index by an average of 28% per year.

Prior to joining Cabot, Tyler founded and operated a small business for 15 years. He then worked as a consultant for start-up technology companies, as well as Vermont’s largest health care institution. From 2009 to 2015, he was the chief analyst of growth stocks at Wyatt Investment Research, where his research spanned the full spectrum of the growth stock universe, from micro-cap start-ups to multi-national mega-caps.

Tyler holds a B.S. and MBA from The University of Vermont, where he graduated Valedictorian. He has been a long-time contributor to the Wall Street’s Best Investments, has been quoted by U.S. News & World Report, and has presented investing ideas and strategies for The Money Show and Bloomberg Markets LiveINSIGHTS.