Earnings Call: Q1 2018

May 7, 2018

Good day, ladies and gentlemen, and thank you for standing by. Welcome to the First Quarter 2018 Fulgent Genetics 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 presentation, Ms. Nicole Borges of Investor Relations. Ma'am, please begin. Great. Thank you. Good afternoon, and welcome to the Fulgent Genetics' Q1 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, fulgent genetics.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 results 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 the forward looking statements included in the discussions 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 ks for the full year 20 17, which is available on the company's Investor Relations website. Management's prepared remarks, including discussions of earnings and earnings per share, contain financial measures not prepared in accordance with the accounting principles generally accepted in the United States or GAAP. Management has presented these non GAAP financial measures 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 Q1 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 metrics. 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 discuss our Q1 2018 results. I will spend a few minutes discussing update on our recent initiative before Paul discuss our financial results in detail. Let me first provide a brief overview of our financial results for the Q1. Revenue totaled 4 compared to $5,300,000 in the Q1 last year and up 9% sequentially from Q4 2017. Billable tests in the quarter grew 5% year over year and 10% sequentially to a corporate record of 4,621. Our ASP was 1,007, essentially flat compared to the 4th quarter. Non GAAP gross margins in the 4th quarter was 40 3.1%, down slightly from 43.8% in the previous quarter. GAAP loss was $1,900,000 and the non GAAP loss was $1,200,000 Non GAAP loss per share was $0.06 in the Q1. We are pleased with our Q1 results and believe we are beginning to see stability in our business. We have begun to see momentum from our new initiatives, particularly our Beacon carrier swinging test. As we discussed last quarter, we are now using accrual method of recording this revenue and are using a conservative estimate on collection rate for this test. Looking at the section across our business overall, we saw increase approximately 50.6% compared to Q1 of 2017. We recognize that we are early in the process of reaccelerating our growth, but we are pleased with our initial traction and the start we had for the year. I would like to focus on updates on key drivers of our business. First, we are seeing strong demand for our Beacon carry swing test, which is helping drive volume growth. We are establishing relationships with the clicks, network and organization. As such, our customer base continue to expand. Further, we are planning to introduce a newborn screening test in coming months. 2nd, we launched our somatic test panel. With the introduction of this panel, we expanded our test menu beyond the traditional gem lock, screening to provide a more comprehensive cancer screening option. With the launch of the somatic panel, our tax menu remained one of the most comprehensive in the industry. Though we are still very early in the rollout of the somatic test, we have started to receive some samples. 3rd, we made programs in securing reimbursement agreements and signed several regional third party contracts in the quarter. First, service revenue from the Biofarma Organization is growing and now accountable for more than 10% of our overall revenue. 5th, we won strategic government contract with the veterans' administration and look forward to serve their genetic testing needs. 4th 6th, our China JV is operating well and will look forward long term business opportunities in that market. Lastly, expanding our lead in including automation and integration, we have made a significant investment in our lab operation and we now have ample capacity to handle increased volume we expect to see. Overall, we are again pleased with the trend traction we are seeing in our business, And I believe the Q1 makes the beginning of the positive trends in 2018. I would like now to turn the call over to Paul to provide details on our financial performance in the Q1, and he also provides update on our outlook for 2018. Todd? Thanks, Ming. 1st quarter revenue totaled $4,700,000 a decrease of 12% compared to the same period a year ago, but an increase of 9% compared to the Q4 of 2017. We're seeing increased momentum in our business as we gain traction with our Beacon carrier screening test. And as we secure more business from our service agreements with pharma organizations. As we discussed last quarter, we're now using the accrual method of revenue recognition for all our business. Specific to our carrier test, of CAT when recording this revenue. We will adjust the rate in the future based on actual collection experience. Revenue from Asia has contributed. CAS continued to decline and represented less than 3% of our total revenues in the Q1 compared to 29% in the Q1 of 2017. Countering this decrease was notable strength in the United States, which caused our revenue to increase sequentially and resulted in record quarterly billable tests. Billable tests were 4,621 in the first quarter, an increase of 5% to over Q1 of last year and an increase of 10% from the Q4 of 2017. Our average selling price was $1,007 flat with the 4th quarter. Cost per test for the quarter was $600 on a GAAP basis and $5.73 excluding equity based compensation of $124,000 dollars Although average cost per test was essentially flat with what we saw in the Q4 2017, we believe we're beginning to benefit from the onset of accelerating test volume, which will lower our average cost per test going forward. We anticipate that our average cost per test will begin to decline as we see benefits from increased volume, better productivity and make collections on insurance claims beyond our conservative initial estimates. Our non GAAP gross margin was 40 0.1%, down slightly from 43.8% in the 4th quarter. Our gross margin will continue to fluctuate as our test mix varies and our volumes scale. Longer term, we remain confident that our differentiated technology and operating efficiency will allow us to improve the gross margin. Now turning to operating expenses. We continue to balance investments for growth while managing expenses with the goal of reaching sustainable profitability in the future. Sales and marketing expense on a GAAP basis was $1,100,000 for the quarter, flat from last quarter. Our sales organization is now stable, and we're just beginning to see the payoff from the restructuring we made in 2017. On research and development, we continue to invest to maintain our technology advantage and expand our test menu as evidenced by the development of our somatic test this quarter. R and D expense in Q1 was 1,500,000 dollars up from $1,300,000 last quarter. We incurred several 100 of 1,000 of dollars in expense related to the development of our somatic test and enhancing our proprietary probe. This effort is largely complete. As such, incremental expense related to probe and somatic tests should be minimal in coming quarters. Lastly, total G and A expense was $1,500,000 slightly up from $1,400,000 in Q4. Total GAAP operating expenses were $4,100,000 for the quarter, up from $3,800,000 last quarter. Non GAAP operating expenses were $3,700,000 Adjusted EBITDA loss for the quarter was $1,100,000 compared to a loss of $1,000,000 in the 4th quarter and $1,200,000 in Q1 of last year. On a non GAAP basis and excluding equity based compensation expense, non GAAP loss for the quarter was $1,200,000 or $0.06 loss per share based on 17,900,000 of common shares outstanding. The GAAP and non GAAP tax rate at the end of the Q1 was 22%. Turning to the balance sheet. We remain well capitalized to support our growth and we're comfortable with our cash position. We ended our Q1 with $38,800,000 in cash, cash equivalents and marketable securities with no Moving on to our outlook. As Ming discussed, we're pleased with our Q1 results and are off to a good start to the year. We are beginning to see stability in our business as our sales organization matures and as we're growing and we see growing contributions from our new initiatives. We are still very early in the process of reaccelerating our growth, but are confident in our positioning. We made investments and changes last year in the sales area, and we're beginning to see signs that those investments are paying off. We remain on track for reaching our goal of at least $20,000,000 of revenue for the full year. We also expect that our gross margin will continue to improve over the course of the year as our volume increases combined with experience on an insurance basis. We also remain focused on controlling expenses while investing for growth. Our profitability goals remain unchanged and we expect a modest loss next quarter before moving towards breakeven at the end of the year. It is still early on our path towards reaccelerating growth, but we remain confident that our technology advantage as well as expanding test menu and lab capabilities can continue to drive growth in the quarters ahead and will demonstrate the viable business model we have. You again for joining our call today. Operator, you can now open it up for questions. Our first question or comment comes from the line of Erin Wright from Credit Suisse. Your line is open. Great. Thanks. Can you talk or speak to the test mix in the quarter, how that influenced ASP and kind of how we should think about that progressing, I guess, over the course of the year and how maybe some of your newer R and D initiatives and newer test offerings influence that overall ASP metric? Thank you for the question, Aaron. So as far as the test mix for the quarter, our core customers who purchased the complex and the larger panels, they continue to grow and they grew from what we had in the Q4. We also had a decent quarter for the sequencing for service with the pharma organizations. And as Ming indicated, now that accounts for over 10% of our revenues. And then we're beginning to see the recognition of revenues from our carrier and our cardio test, which we launched towards the late part of last year. And we're just beginning to see the revenues being recorded from those 2 particular tests, the carrier and the cardio. To give you a little bit more color into orders and revenues, our sessions are at a record. As Ming indicated, on a year over year basis. Accessions were up 57% or 56%. But a huge chunk of the increase in assessions comes from the introduction of those new tests. But if you take a look at the revenues that we recorded from the carrier and the cardio test, it still only represents 2% to 3% of our booked revenues. And that's because we use a very, very conservative rate initially on the collections based on the little experience that we had of processing insurance claims. We believe that the rate that we use which estimates the collections is very conservative. And we believe as that becomes more normalized, we should get an uplift in the revenues that we book from those tests. As far as your comments on the ASPs, because a larger portion of our business now is being processed through insurance, although we booked a very small piece of revenues from that. The ASPs that they normalize with the various tests that are under our belt now, whether they be the complex panels, the exome, the carrier tests, the sequencing for service, the cardio, the ASPs on average as we process more to insurance should come down. But the thing that will come down even more than the ASPs will be the COGS per test because we're processing all those tests through our labs now and those costs are being recorded in the cost of sales. I think in the near term when we take a look at even as early as Q2, what all that translates into is higher billable tests. We should see top line revenues increase from what we posted in the Q1 in Q2. We'll see gross margins being raised from what we currently reported. And on the operating expenses side, we should see that potentially be even lower than what we posted in the Q1. Because in the Q1, in the operating expense, is, as I indicated, we had up to $300,000 of costs that were booked for the development of the somatic test in addition to the redesign of the new probe. And then as another example on the Q2. So you should see operating expenses be potentially lower than what we had in the Q1. Okay. That was great. That was a lot of information, what I needed. The I guess one other question just on the evolution of your sort of commercial payer relationships. I guess where do we stand now and how is that sort of evolving? Aaron, we are continuing to develop some of those relationships. But as you may know, insurance collection is still accountable in the early stage because it is frustrated, depends on the year, beginning of the year, end of the year, in network, out network, de facto and de facto. But from what we are seeing, as Paul discussed earlier, we do see we see the volume offered from that session and we do start to try to make a reasonable collection. So overall, we feel very good in the area. We have been always be pioneered in terms of technology, but now we are focusing in some of the 3rd party relationships includes flagships. And we do build a pretty very good collection team at the present time. I think the other thing to note, Darren, is some companies are out there, reimbursement is such a huge part of their strategy. For us, it's a very important part of our strategy. As Ming indicated, we are making good strides at improving the process around insurance and we're going to see being more being processed through insurance as I indicated. But from a positioning perspective, we have a core set of institutional clients, which continue to purchase from us. We have developed our sequencing for service capability. We are in the process of finalizing the development for our somatic test. We have a sizable portion of our revenues still coming from the international side. And then as Ming indicated on the call, on the government, we made inroads by landing a contract with the Veterans Administration. So we think that there are a lot of things under our belt. We just need to be able to capitalize on those opportunities and get the volumes and ultimately the revenues up. Great. Thanks. And one quick last one, if I can. Do you still have a relationship with some of the larger reference laboratories like the LabCorp and Quest of the world? Erin, we do. Actually, those reference labs starting to turn in very good and we are starting to generate the revenue, which is collectible with cash. In addition with those relationship with the lab trades, we also have our independent contract now working with the VA hospital. That's great. Great. Thank you so much. Thank you. Thank you. Our next question or comment comes from the line of Bill Quirk from Piper Jaffray. Your line is open. Hi, this is Tyler Reardon on for Bill. I guess building off of the last second how much in terms of reimbursement, where are we at for lives under coverage at this point? It is very hard to talk about what is life. We are talking about 70,000,000 in the range. Okay. And then I guess you mentioned it, but then I was wondering if you could just expand on the China JV and any milestones or progress made in the quarter of any significance? It started to in operation now and we're collecting some for royalties from the operation. But it does run slightly below our expected schedule, but in general, it's a move forward. Got it. And then just an update on the carrier screening test. Should we assume that you'd be building out other supporting tests such as NIPT? The NIPT, it is very crowded for the test. We do have the capabilities, but our intention is to build more the better value of the test such as the newborn, we will introduce the newborn test as well as a test for the personal genetic profile test, which give you a pretty comprehensive test related to all the genes related to the disease and potential treatment. Great. Thank you. Thank you. I'm showing no additional audio questions at this time. I would like to turn the conference back over to management for any closing or additional comments. Well, thank you again for joining us for our call today. And also, I think we'll be close the line. Thank you very much. We'll report our progress and talk to you again in next quarter. Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may now disconnect. Everyone, have a wonderful day.