Earnings Call: Q3 2018

Nov 6, 2018

Good day, ladies and gentlemen, and welcome to the Flotron Genetics Third Quarter 2018 Earnings Conference Call. At this time, all participants are in a listen only mode. Later, we will conduct a question and answer session and instructions will follow at that time. As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Ms. Nicole Borja, Investor Relations. Ma'am, you may begin. Great, thanks. Good afternoon, and welcome to the Fulgent Genetics' 3rd quarter 2018 financial results conference call. On the call today is Ming Hsieh, Chief Executive Officer and Paul Kim, Chief Financial Officer. The company's press release discussing its financial results is available in the Investor Relations section of the company's website, fulgentgenetics.com. An audio replay of this call will be available shortly after the call concludes. Please visit the Investor Relations section of the company's website to access the audio replay. Management's prepared remarks and answers to your questions on today's call will contain forward looking statements. These forward looking statements represent management's estimates based on current views and assumptions, which may prove to be incorrect. As a result, matters discussed in any forward looking statements are subject to risks, uncertainties and changes in circumstances that may cause actual results to differ from those described in the forward looking statements. The company assumes no obligation to update any of the forward looking statements it may make today to reflect actual results or changes in expectations. Listeners should not rely on any forward looking statements as predictions of future events and should listen to management's remarks today with the understanding that actual events, including the company's actual future results, may be materially different in what is described in or implied by these forward looking statements. Please review the more detailed discussions related to these forward looking statements, including the discussion of some of the risk factors that may cause results to differ from those described in these forward looking statements contained in the company's filings with the Securities and Exchange Commission, including the previously filed 10 Q for the Q2 of 2018, which is available on the company's Investor Relations website. Management's prepared remarks, including discussions of earnings and earnings per share, contain measures not prepared in accordance with accounting principles generally accepted in the United States or GAAP. Management has prepared these non GAAP financial measures today because it believes they may be useful to investors for various reasons, but they should not be viewed as a substitute for or superior to the company's financial results prepared in accordance with GAAP. Please see the company's press release discussing its financial results for the Q3 2018 for more information, including the description of how the company calculates non GAAP earnings and earnings per share and a reconciliation of these financial measures to loss and loss per share, the most directly comparable GAAP financial measures. With that, I'd now like to turn the call over to Ming. Thank you, Nicole. Good afternoon, and thank you for joining us on our call today to discuss our Q3 2018 results. We had a good Q3 and I'm pleased with our results. I will spend a few minutes discussing the highlights of the quarter before Paul discuss our financial results in detail. Let me first provide a brief overview of our financial results for the Q3. Revenue totaled $5,600,000 up 25% from the Q3 last year and 4% sequentially. Billable tests in the quarter grew 37% year over year to 5,569. Dollars Our ASP was $10 up 7% compared to Q2 of 2018. Non GAAP gross margin in the 3rd quarter was 55.7%, up 3 10 basis points from the Q3 last year and flat sequentially. GAAP loss was 595,000 dollars and a non GAAP loss was $40,000 Non GAAP loss per share was 0 in the 3rd quarter. The adjustable EBITDA was positive 2 100 $81,000,000 in the 3rd quarter. In the 3rd quarter, we continue on the positive trajectory we have experienced since the beginning of this year. As revenue continue to increase, gross margin continue to improve and loss continued to shrink. We are seeing increasing momentum and stabilization in our business. We are pleased to report positive adjustable EBITDA for the 2nd consecutive quarter. We saw strength across our businesses this quarter, including momentum from some of the 2018 initiatives and R and D spending we have discussed. Our Beacon carrier has seen continued growth and our international business is starting to pick up steam. Also, our core pediatric business has continued to do well. We saw strong momentum with our sequencing as a service agreement and in the quarter and our processing increased volume and disagreement. Let me provide with an update on the key areas of our businesses that we are focused on for driving the growth. First, we have seen strong momentum with our high quality comprehensive sequencing as service business. Our internal capability for this opportunity continue to improve and are integrally involved in various complex sequencing projects for biopharmas and research institutions as well as large labs. We're seeing projects of increasing size and complexity. And our near term pipeline continues to grow. 2nd, our international businesses continue to grow. We have wins in Australia and Europe over the course of the year and we have begun recognizing revenue from these wins in the 3rd quarter. 3rd, our newborn and prenatal business has continued interest from the hospitals and the related organizations. On that note, I would highlight an agreement we announced with the same site in October to partner with them on 2 tests and expand the carrier screening test and a newborn genetic analysis test. These tests are being offered through stem site and powered by the Fulgent technology. First, our semantic offering can now do simultaneous assessment of RNA and DNA and we're building highly sensitive and reliable coverage. Though volumes are still small, we are excited about our capabilities and the interest into the growth market. And finally, I've seen improvement leverage as investment we have made across businesses in the last year and the increase pay off with better dividend. We are encouraged by the progress we are making and the momentum we are seeing in our business. We are focused on executing well deliver further growth as our newer initiative continue to ramp. We're well positioned to capitalize on our market are well positioned to capitalize on our market opportunity. I would like now to turn over the call to Paul to provide the detail on our financial performance in the 3rd quarter. He will also provide an update on our outlook for 2018. Thanks, Ming. 3rd quarter revenues totaled $5,600,000 an increase of 25% compared to the Q3 of 2017 and an increase of 4% sequentially. As Ming discussed, we have continued to see momentum from initiatives such as our sequencing of service agreements, while our core business remains strong. Our international business outside of China continues to do well. And in the Q3 international revenues excluding China grew 33% year over year. At the same time, our U. S. Business has seen growing momentum and revenues in the U. S. Grew 49% year over year in the Q3. Beginning in Q4, our growth rates will be normalized as the impact of a China JV will be fully behind us on a year over year growth rate basis. Though activity is relatively low, the China JV is fully operational and we believe and we continue to record our portion of revenues from the JV. Longer term, we believe the JV uniquely positions us to capture the large China market. Sellable tests were $5,569 in the 3rd quarter, an increase of 37% over Q3 of last year. Our average selling price was $10 up slightly from the Q2 due to product mix, which was impacted by sequencing and service agreements becoming a larger portion of our business. For many sequencing for service agreements, they're invoiced without number of billable tests, rather they're billed out by the number of lanes used in sequencers. As such, the number of billable and the near term pipeline, the number available tests should rebound in the 4th quarter. Cost per test in the quarter was $4.69 on a GAAP basis and $4.47 excluding equity based compensation of $121,000 After a significant dip in cost per test last quarter, we're pleased to see the cost per test stabilize at these lower levels in the 3rd quarter. Lower cost per test continues to be driven by increased operational efficiencies, higher volume and better productivity as well as introduction of our enhanced probes. Our non GAAP gross margin was flat sequentially and improved 310 basis points year over year. Gross margin has generally improved and stabilized as cost per test has increased with increased efficiencies. We're pleased with the progress we've seen in gross margin and feel that additional efficiencies could lead to an even lower average cost per test in the future. Now turning to operating expenses, we have remained focused on controlling expenses while investing in different areas of our business for growth. Our operating margin improved 350 basis points sequentially as we've seen improving efficiencies across our business. Sales and marketing expense on a GAAP basis was $1,100,000 in the quarter, down from $1,300,000 last quarter. We've seen improving leverage from our sales organization as the investments we've made over the last year in this area are continuing to pay off. On research and development, we continue to invest to maintain our technological advantage to expand our test menu. R and D expense was $1,400,000 in Q3, up from $1,200,000 last quarter. We continue to invest in all areas of R and D from probes to bioinformatics and in test offerings whether it be germline or somatic. We believe we can be aggressive in our R and D investments, while still maintaining a business model that's able to demonstrate improvements and leverage over time. Lastly, total G and A expense was $1,300,000 down from $1,400,000 in Q2. Total GAAP operating expenses were $3,900,000 for the 3rd quarter, flat from last quarter. Non GAAP operating expenses totaled $3,400,000 flat from last quarter. Adjusted EBITDA for the 3rd quarter was a positive for the second consecutive quarter and came in at $281,000 compared to $99,000 in Q2. On a non GAAP basis and excluding equity based compensation expense, loss for the quarter was $40,000 or breakeven per share based on 18,000,000 weighted average common shares outstanding. The GAAP and non GAAP tax rate at the end of the 3rd quarter was 23%. Turning to the balance sheet, we remain well capitalized to support our growth and we're comfortable with our cash position. Cash used in operating activities was approximately $105,000 compared to $57,000 used last quarter. We've continued to manage our business around cash flow breakeven with the goal of achieving sustainable cash flow generation in the coming quarters. We ended the 3rd quarter with $36,900,000 in cash, cash equivalents and marketable securities with no debt. This translates to $2.05 in cash, cash equivalents per share. Now moving on to our outlook. We're pleased with the progress we have made in this year and the stability we've seen in the business. We've been gaining traction with recent initiatives and expect to see sustainable growth in the quarters ahead. More specifically based on what we see in our pipeline and backlog, we expect revenues in the Q4 to be approximately $6,000,000 which represents a year over year growth of 40%. We expect that gross margin will continue to be above 50 points through the end of the year. We also remain focused on improving leverage while investing for growth. As we continue to scale, we expect to return to GAAP profitability in the coming quarters. We remain encouraged by the momentum we're seeing and believe we still have significant opportunities ahead of us. Thank you again for joining our call today. Operator, you can now open it up you. Our first question comes from Erin Wright with Credit Suisse. Your line is now open. Great, thanks. I was just curious what are the factors contributing to the rebound in test volume that you are alluding to in the Q4? Aaron, thank you for the questions. We continue to see the dividends paying off by our sales organization. We're seeing the test samples from the domestic as well as from international. And in addition, as Paul mentioned, we're also seeing quite a bit of test volume from the our sequencing high quality sequencing service business. Okay. Great. And then Go ahead, Aaron. I guess okay. Yes. So I guess and you spoke to kind of reaching profitability in the Q4 and beyond, if I heard you correctly. Is that really what you were kind of framing out there? And can you talk about a little bit about incremental kind of sales force investment as well and how that kind of ties into your profit outlook? Thanks. Okay. So, a couple of different things. We are seeing very encouraging signs that we're going to be hitting revenues of approximately $6,000,000 in the 4th quarter. It could potentially be higher than that. And we're getting confidence of the estimates that we're making. And based on the jobs that we have in hand and based on the revenues and the billings that we currently are invoicing. That is coming from a number of different fronts. It's coming from the sequencing of service contracts that are very, very active right now. That's also coming from the continued traction that we see with our BEACON carrier test. As you remember, we introduced that at the beginning part of this year. And the quality of the tests, the customers are very, very happy with. So whether it be from reimbursement or from the cash side, we believe that that business will continue to look promising. The other thing that is gaining traction that we're very encouraged by is our international portion of our business. We signed a number of contracts in Europe and in Canada as well as Australia in particular and we're seeing very, very good growth from partners from that portion of our business. All in the meanwhile, the core pediatric part of our business continues to do well. So when you wrap all of that together, we believe that we will hit the revenue numbers of approximately $6,000,000 in Q4, which should be a record for the company and the number of billable tests should increase. And then as far as your question and comments about profitability, on a GAAP basis, we had a loss of almost $2,000,000 in the first quarter and that was chopped in half or approximately half in the second quarter. The GAAP loss was approximately $1,000,000 In the Q3, our GAAP loss that includes the loss that we had in China JV is narrowed again by approximately half at $595,000 The stock based compensation that was approximately $600,000 for the quarter. So we're very, very close to profitability even on a GAAP basis. This is the 2nd quarter that we had EBITDA positive. And I don't know whether we're going to be profitable in the Q4, but profitability is very, very close to our sites. And then on the expense side, because of the leverage that we have in the business, even with the growth that we have in the Q4, we believe that that'll continue to translate into narrowing losses. So to answer your question, I think profitability, whether it's in the quarter or a couple of quarters ahead, we look very, very forward to posting those numbers. Then as far as the investments that we're seeing across our business, we continue to make them. So we're not compromising any kind of opportunities that we could be making on the R and D side. Okay. That's great color. Thank you. Thank