Cabot Small-Cap Confidential Issue: March 6, 2025

The Big Idea

In 2010, U.S. Marine Corporal Jeffrey Cole was on routine patrol checking for Taliban activity with his unit in Afghanistan.

Then, the patrol began taking fire.

Jeffrey was hit six times. His body armor stopped four bullets, but the other two struck his left arm, badly damaging his brachial artery and ulnar nerve.

Back in the U.S., surgeons found that the gap in his ulnar nerve was almost three inches long.

Nerves provide the pathway for motor and sensory signals throughout the body. With such a large gap, Jeffery’s left arm and brain were no longer communicating. His arm no longer worked.

He surveyed the options.

Option one was amputation. Not desirable.

Option two was to try and repair the nerve. The gap was too large to pull the existing nerve ends together and suture them up, so Jeffrey needed a nerve transplant to bridge the gap.

Again, there were a few options.

Option one was a nerve autograft procedure. This involved removing part of the sural nerve from the back of his lower leg (or maybe both legs) and using it to bridge the gap in the ulnar nerve. This would create a nerve deficit where the nerve material came from, so likely some loss of sensation in his foot/feet. Also, it required multiple surgeries and a lot of time.

Better than arm amputation, but still not ideal.

A second nerve transplant option was to bridge the gap in his ulnar nerve with other materials on the market. These included hollow-tube synthetics and hollow-tube nerve cuffs. They would likely restore some arm function but would also limit nerve healing since their architecture and flexibility didn’t match that of a human nerve. There was also risk that Jeffrey’s body would reject these foreign materials.

The third and best option was a nerve transplant using a cadaver allograft, which is nerve tissue from a deceased person.

The allograft bridged the nearly three-inch gap without damaging nerve function elsewhere in his body. And since it was processed from donated human nerve tissue, his nerve cells could regenerate through it, restoring arm function over time.

Jeffrey’s arm would never be like new. But after a couple of years, he had recovered partial use, wasn’t at risk of having to amputate, and was working as a national parks ranger.

The company that provided the nerve allograft to Jeffrey is the small-cap MedTech company we’re jumping into today.

The company has come a long way in the decade and a half since Jeffrey’s surgery, has many more products on the market and is on the cusp of international expansion. It’s even profitable.

The Company

Axogen (AXGN) is a $800 million market-cap company specializing in surgical solutions for peripheral nerve injuries.

Every day, people incur nerve damage from car accidents, power tool accidents, gunshot wounds and surgical mistakes. Axogen’s products help these patients heal.

The company’s portfolio includes six surgical products in three product families: Avance Nerve Guard, Axoguard Connector/Protector/Nerve Cap, and Avive+ Soft Tissue Matrix.

These solutions are used to bridge gaps in severed nerves (transections), repair crushed and damaged nerves (compressions) and wrap and protect severed and/or repaired nerves that are attempting to regrow (stump neuromas).

Management sees a $5 billion market opportunity out there. Much of Axogen’s focus is on trauma and upper extremity-related nerve repair (roughly $2.9 billion market). Over the last few years, the business has expanded into oral maxillofacial (OMF), pain and breast reconstruction (fastest-growing market).

Management currently sees emerging opportunities in head and neck (H&N), corneal, prostate and podiatry, where there are a number of robotic and/or elective procedures.

Axogen is past the supernormal growth phase (when revenue growth topped 50% a year) and has evolved into an increasingly profitable company with solid gross margins and seemingly sustainable revenue growth in the 15% to 20% range, with potential upside from a number of growth initiatives.

A Crash Course in Peripheral Nerve Repair

The body’s nervous system includes the Central Nervous System (brain and spinal cord) and the Peripheral Nervous System (the rest of the body’s nerves).

Axogen’s products are for peripheral nerve repair.

Peripheral nerves function like networking cables. They transfer sensory and motor signals between every organ in the body and the brain.

A typical nerve has hundreds of axons (cell cytoplasm resembling a hair-like fiber) lying inside long, thin endoneurial tubes. These tubes are bundled together in groups called fascicles.

When a nerve cable is cut or crushed, the sheath structure protecting the axons gets damaged and the axons no longer carry signals.

Nerve damage is similar to a break in the networking cable that goes from a router to a computer. Cutting it knocks out internet service. Unfortunately, there is no wireless service to replace nerve function just yet.

When sensory and motor signals are interrupted, bad things happen. Imagine grabbing a scalding hot iron and not even feeling it.

Sensory nerve damage can lead to feelings of numbness and lack of sensation. While motor nerve damage can mean that muscles, limbs and joints don’t work properly, or at all.

The bottom line is that nerve damage is likely to lead to a lower quality of life.

Whether a nerve is cut (transection injury), crushed (compression injury), stretched or terminated due to amputation (neuroma), nerve injuries typically require surgical repair.

Platform & Solutions

Axogen’s implants are considered regenerative medical products because their complex structure supports nerve cell regeneration in the patient’s body. They are pliable, can be sutured, and are translucent, which helps surgeons see through them to the underlying nerve.

They are all off-the-shelf solutions, meaning they can be purchased, stored, and made available for use at a moment’s notice.

The company has three product families: Avance Nerve Graft, Axoguard Connector/Protector/Nerve Cap and Avive+ Soft Tissue Matrix. The easiest way to describe these solutions is by the types of nerve repairs they are used for.

Transection Repair

Avance Nerve Graft: The Avance Nerve Graft is made from cadaver peripheral nerves, so it has all the advantages of the “real thing.” It is used to repair severed peripheral nerves with gaps of up to 70mm in length and 5mm in diameter. Avance has over a decade of clinical evidence supporting its use and data showing 82% to 84% meaningful recovery in sensory, mixed and motor nerve caps. In the last fifteen years, over 100,000 of the company’s Avance Nerve Grafts have been implanted.

Axoguard Nerve Connector: The Axoguard Nerve Connector is a strong, flexible hollow tube that’s open on each end (like a straw) and is made from minimally processed porcine (pig) extracellular matrix (ECM). It’s an alternative to direct suture repair and is available in 14 sizes, up to 15mm long and 7mm in diameter.

Compression Repair & Protection

Axoguard & Axoguard HA+ Nerve Protector: Axogen’s do-it-all solution is made of the same minimally processed porcine ECM as the Axoguard Nerve Connector, but instead of being a solid tube it is made in a slit tube form. In addition to use with severed nerves with or without gaps, it can also be used to repair partially severed nerves, crushed nerves, or other damaged nerve variations. The HA+ version adds a hyaluronate-alginate gel layer that offers enhanced nerve gliding, making it particularly effective where nerve mobility is critical.

Avive+ Soft Tissue Matrix: Used to separate tissues and reduce inflammation around repaired nerves following surgery. The soft and flexible membrane is made from minimally processed human umbilical cord, which has been used by surgeons for decades and is resorbed by the body after healing.

Stump Neuroma Repair

Axoguard Nerve Cap: Made from small intestine submucosa (SIS), the solution separates the nerve end from the surrounding environment to protect it from painful stimulation and to reduce neuroma formation (benign growth of nerve tissue). Larger diameters of the Nerve Cap were just launched in February 2024 to address procedures in upper and lower extremities.

Growth Initiatives

Build Out Clinical Evidence: Current studies include Sensation-NOW, RANGER, REPOSE-XL and COVERED. Additional studies to advance standard of care are planned in the areas of breast neurotization, mixed & motor nerve, protection and prostate.

Avance Nerve Graft BLA: Axogen built clinical evidence for the Avance Nerve Graft through the Phase 3 RECON study (which met its primary endpoint) to support a Biologics License Application (BLA), which could be approved on its PDUFA date of September 5, 2025. The BLA will expand the number of procedures the product can be used for (roughly 50% of commercial lives are currently covered; that will go way up) and really open the door for international use. It could also provide 12 years of market exclusivity.

International Growth: Nerve care is a global market. While Axogen is highly concentrated in the U.S., today it is beginning to explore international opportunities.

Double Breast Sales Organization: Numbness after mastectomy is a problem, and Axogen’s solutions can restore sensation. This is the company’s fastest-growing market. Axogen plans to nearly double (to 22) the breast sales organization as well as add market development staff.

Market Expansion in Extremities, Oral Maxillofacial (OMF), Head & Neck & Prostate: Axogen plans to add sales reps and market development resources to build out each of these addressable markets.

Surgeon Education & Training, Sales Team Expansion: Management sees this as a key initiative to support annual growth of 15% to 20%.

Gross Margin Expansion Through Manufacturing Efficiencies: Avance products will come from the new Axogen Processing Center (APC), which took over all Avance processing at the end of 2023 and which has three times the capacity of the previous facility. Significant efficiency gains are expected post-BLA approval while also allowing for future expansion.

Business Model

Axogen makes and sells off-the-shelf regenerative medical products for surgical repair of peripheral nerves. Its products are regulated by the FDA. Revenue growth is dependent on securing new accounts (new surgeons and practices) and increasing sales volume into existing accounts.

The Bottom Line

Axogen grew revenue by 14.7% in 2023 and by 17.8% (to $187.3 million) in 2024. Adjusted EPS in 2023 was -$0.17. The first quarter of 2024 (-$0.06) was the only quarter of negative earnings last year, when full-year adjusted EPS was $0.13. Profitability was a major milestone.

In Q4 2024 (reported Feb. 25), revenue grew by 15.2%, beating expectations by $800K. Adjusted EPS was $0.07 (a $0.03 beat), an improvement from -$0.06 in Q4 2023.

On the Q4 call, management guided for 2025 revenue of 15% to 17%, gross margins of 73% to 75% and for Axogen to be cash flow positive for the full year.

The company ended the year with $39.5 million in cash and $50 million in long-term debt.

Management recently guided for average annual revenue growth of 15% to 20% over the next four years.

Risk

• A delayed or failed BLA application would likely hurt AXGN stock right away, with the eventual pace and magnitude of recovery dependent on details. While management recently said there have been no delays or issues with the FDA regarding the Avance BLA, it’s still possible the new administration’s methods could disrupt the process.
• MedTech is a fiercely competitive space.
• MedTech companies are always at risk of beneficial/detrimental changes to reimbursement rates.
• This is a small company with a market cap under $1 billion. These types of stocks can swing wildly at times, often for no clear reason.
• International growth might not materialize, may face regulatory delays and/or may have an inferior margin profile.

Competition

Integra LifeSciences (IART), Baxter International (BAX), Stryker (SYK) and L&C BIO (South Korea).

The Stock

Trading Volume: AXGN trades an average of 480,000 shares daily and has a market cap of $800 million. We may have a very slight, short-term impact on the stock’s price.

Historical Price: AXGN enjoyed a brilliant run powered by 30% to 60% revenue growth from mid-2015 (stock traded near 3) through mid-2018, where it topped out in the mid-60s. The stock chopped lower through mid-2020 then rallied with the market early in the pandemic before going on another choppy slide, which ultimately ended with AXGN trading below 4 in November 2023. Lower sales growth in the 5% to 15% range, coupled with ongoing losses, were the main reasons. The stock was up and down in early 2024 then broke out above 10 in August after the Q2 earnings report. Shares took a breather last fall to consolidate in the 12 to 15 range (roughly) before chopping higher in December and January 2025. Since January 10, AXGN has mostly traded in the 17.6 to 19.2 range.

Valuation: AXGN trades with an EV/Revenue multiple of 4.4x based on estimated 2025 revenue. That seems very reasonable given the fundamentals.

Short-Term Buy Range: Expect to buy in the 17 (recent area of support) to 21 (recent high) range in the short term. Given the current market conditions, we will start with a half-sized position. BUY HALF

The Next Event: Expected Q1 2025 earnings date around April 30

Current Recommendations

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 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.

Please note that, unless otherwise credited, all images in this Issue are sourced from Axogen’s latest Investor Presentation, which can be found here.

The next Cabot Small-Cap Confidential issue is scheduled for April 3, 2025.

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