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Cepheid (NASDAQ:CPHD)

Q4 2012 Earnings Call

January 24, 2013 5:00 pm ET

Executives

Jacquie Ross – Investor Relations

John L. Bishop – Chief Executive Officer

Andrew D. Miller – Executive Vice President and Chief Financial Officer

Analysts

Peter Lawson – Mizuho Securities

Derik De Bruin – Bank of America

Bill Bonello – Craig-Hallum Capital Group LLC

Brian Weinstein – William Blair

Zarak Khurshid – Wedbush Securities

Vamil Divan - Credit Suisse

Dan Leonard – Leerink Swann LLC

Daniel Arias – UBS

William R. Quirk – Piper Jaffray, Inc.

Isaac Ro – Goldman Sachs

Vijay Kumar – ISI Group

Sung Ji Nam – Cantor Fitzgerald & Co.

Evan Lodes – JPMorgan

Jeff T. Elliott – Robert. W. Baird

Shaun K. Rodriguez – Cowen & Co. LLC

David Ferreiro – Oppenheimer Securities

Nicholas Jansen – Raymond James & Associates, Inc.

Operator

Good day ladies and gentlemen and welcome to Cepheid’s Fourth Quarter and Fiscal Year 2012 earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct the question-and-answer session and instructions will be given at that time. (Operator Instructions) As a reminder, this conference call maybe recorded.

I would now like to hand the conference over to Ms. Jacquie Ross, Cepheid’s Investor Relations. Ma’am, you may begin.

Jacquie Ross

Thank you, Sayed. And welcome to Cepheid’s 2012 fourth quarter and full year conference call. On the call today are John Bishop, Chief Executive Officer and Andrew Miller, Chief Financial Officer. Today’s conference call is being broadcast live through an audio webcast and a replay of the call will be available later today at www.cepheid.com

During this call, Cepheid will make forward-looking statements including guidance as to future operating results. Because such statements deal with future events, actual results may differ materially from those projected in the forward-looking statements. Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements can be found in Cepheid's Annual Report on Form 10-K, quarterly reports on Form 10-Q and other filings with the US Securities and Exchange Commission, as well as in today's press release. The forward-looking statements, including guidance provided during this call, are valid only as of today's date, January 24, 2013, and Cepheid assumes no obligation to publicly update these forward-looking statements.

During the call, Cepheid will discuss non-GAAP financial measures. These non-GAAP measures are not prepared in accordance with generally accepted accounting principles. A reconciliation of the non-GAAP financial measures to the most directly comparable GAAP measures can be found in today's press release made available on our website.

With that, I'd like to turn the call over to Cepheid's Chief Executive Officer, John Bishop.

John L. Bishop

Thank you, Jacquie. Good afternoon everyone and thank you for joining us for a review of our 2012 fourth quarter and full year results. While Cepheid continued to experience strong growth and made significant progress on our strategic initiatives in 2012, let me start by acknowledging that this was a challenging year, as we worked through growing pains associated with our scale up of our manufacturing operations and adapted to the incremental variability associated with our HBDC program.

These items clearly impacted our ability to consistently execute against our guidance in 2012, a fact which is inconsistent with our performance in recent years. I will specifically address these areas later in our discussion. At the same time, however, we should not lose sight of Cepheid's positive achievements in 2012 of which there were many. For the full year, we placed a total of 1029 GeneXpert systems bringing our cumulative total to 3835. Commercially, we added a total of 523 systems bring the cumulative total to 2918, a particularly strong performance in light of the prevailing economic and political uncertainty during the year, not to mention the distractions to our sales organization and customers throughout the test allocations.

For the full year, total commercial clinical reagents grew 25% including 23% growth in North America highlighting the continued growth we’re seeing in the adoption of the GeneXpert System and test menu.

HAI revenue grew 22% or more than $30 million from 2011. These growth rates are particularity notable given that Cepheid is just now beginning to enter an important new product cycle in test menu expansion, enabling access to large established market segments. Critically Cepheid delivered on its commitment to launch Xpert CT/NG globally during 2012. This is an extremely exciting product for Cepheid as it represents the first potential high volume commercial test outside of Cepheid’s traditional HAI portfolio.

As previously communicated, the first U.S. shipments of the test are expected next week and we look forward to sharing updates of the test early performance in the coming quarters.

During 2012, we continued to invest aggressively in our Xpert test menu. On a non-GAAP basis, R&D spend represented 19% of total revenue, array of investment we believe is unmatched in the industry and appropriate given the magnitude of the opportunity we face. I’ll give a comprehensive update later in the call. But we continue to grow our ambitious test menu.

In addition to Xpert CT/NG, we added Xpert GBS LIM broth test which supports the most recent CDC guidelines for GBS lab testing from enriched broth for antipartum screening between weeks 35 and 37 of pregnancy, and also updated our flu test.

Moving to HBDC, the program gained momentum. During 2012 with total revenue up $35 million growing more than 80% from 2011, supported by a prestigious group of NGOs, our Xpert MTB/RIF test was made available to HBDC customers at a lower price of around $10 which accelerated adoption in the second half of the year.

Reagents aside, we placed an impressive 506 systems in HBDCs in 2012. In total and in a little more than two years, we have place 917 HBDC systems in 83 of the 145 designated HBDC countries. To support the expansion of our commercial operations, we went direct in Germany and South Africa in early 2012 and we are very pleased with the resulting momentum we’re seeing in both markets. Germany for example contributed very strongly to international commercial growth, highlighting the potential benefits that can be achieved when we transition from indirect to direct sales in selected operations.

Before I get into further discussion, I would like to provide a bit more detail and a few updates relative to manufacturing, at last week’s announcement on commercial operations. Recall from our announcement a couple of weeks ago that parts and process issues have been addressed and that a second Roboline is now operational here in Sunnyvale. I am pleased to share with you that all commercial products are now out of allocation with the exception of Xpert Flu which is seeing even higher demand than we anticipated when we gave our last manufacturing update a few weeks ago.

Given the unexpectedly strong Flu season and as we balance customer requirements and work to rebuild inventory here at the company, it is likely that Xpert Flu will remain on allocation during the first quarter. As a result, it is possible that a couple of our lowest volume test could experience intermitted windows of allegation as we prioritize Flu production.

We expect however that our highest volume commercial test namely Xpert MRSA and Xpert C. difficile will be freely available for customers to order. Additionally, we believe that those U.S. customers looking to adopt Xpert CT/NG will be able to do so with the first shipments as I’ve indicated initiating next week.

Moving to HBDC, Xpert MTB remains on allocation at this time. The test is primarily manufactured in Sweden but all test cartridges are shipped from the U.S. to Sweden for filling on our Roboline there. As previously discussed, our fix in the fourth quarter took a little longer than we anticipated and we were not able to get enough cartridges to Sweden to meet all of the fourth quarter Xpert MTB demand.

Sweden is now receiving cartridges and is working steadily through backorders. Of course the ramp of HBDC test is more challenging to predict but based on our current forecast, we currently expect to be out of allocations by the end of the quarter. As we prepared to meet the growing demand we face in 2013 and beyond, I would remind that we have recently introduced a number of new elements to our manufacturing operations, namely next generation higher throughput cartridge assembly robo filling lines in addition to new higher capacity models,

The second Roboline in Sunnyvale for example was brought up ahead of schedule. In late December, benefiting from the experience we had in bringing up the first Robolines. As you know we are in the process of duplicating our manufacturing operations at Sweden where we expect to have a second Roboline operational during the second half of 2013.

As compared to our manufacturing capacity at the start of 2012, Therefore we will have more than triple our test production capacity by the end of 2013.

Now specific to our molding capability, an integral to our manufacturing strategy and as previewed at our analyst event in the fall, we did close on the acquisition of our plastics molder Quashnick in late December and are in the process of expanding their capacity.

And finally on manufacturing, I’m pleased to welcome John Reed, our new Vice President of Manufacturing who joined us last week. John brings more than 25 years of experience in manufacturing operations and product development. He joins us from Advantis Medical Systems where he served as Chief Operating Officer for the past five years. Prior to that, he held a variety of executive roles with Agilent and Applied BioSystems. This important hire is part of a continuing broader initiative at Cepheid to ensure that we have the right people in the right roles to support our fast moving high growth business such that we can fully exploit the sizable opportunity we face.

In the same vein, we recently welcomed Philippe Jacon to the Cepheid team to head our international commercial operations, where he is responsible for commercial and HBDC sales everywhere except North America. Philippe who brings more than two decades of commercial diagnostics and medical device experience has hit the ground running and has already made one key hire to drive the development of our emerging opportunities in Asia Pacific. I am looking forward to seeing how our international business further develops under Philippe leadership.

Finally, and as you know, we have commenced the search for a new head of North American commercial operations. Cepheid clearly faces substantial opportunity as we further develop our traditional hospital markets within the U.S. and driven by pivotal test menu expansion for example in the women’s health began to develop non-hospital markets. Give the growth opportunities in these respective markets, we firmly believe that our already fast growing commercial clinical business can benefit further from a dedicated executive focused solely on driving our North American commercial initiatives.

Now getting back to Cepheid’s performance in 2012, many of our commercial Xpert test delivered new revenue heights in the fourth quarter, despite our product allocations. We should be clear that our highest volume test Xpert MRSA, Xpert C. dif, and Xpert Flu for an allocation throughout the fourth quarter. As a result, we do not believe the fourth quarter reagent strength was driven by widespread incremental stocking of Xpert test customer size. This is clearly something we’ll look for as we work to rebuild our inventories in the early part of 2013, and we’ll share any observations on our next quarter call.

In the mean time, we are confident that our reagent revenue for the full year 2012 approximates normal demand. The 2012 reagent highlights included continuing market leadership in molecular HAI’s where despite new entrants; Cepheid continues to extend its lead. Xpert MRSA Nasal grew 17% for the full year as we continue to add new customers who are primarily switching from culture.

As we enter 2013, Xpert MRSA Nasal is now at an annual normalized run rate of almost $120 million with particular strength in the U.S. and Germany. In the US, we expect to see further adoption as hospitals increase their focus on patient safety and respond to the new requirement to report five rates of HAC’s which includes, two HAIs namely MRSA and C. difficile to the CDC National Healthcare Safety Network as part of the Medicare inpatient quality reporting program.

Speaking of C.difficile, Xpert C.diff revenue grew 45% for the full year with the conversion from EIA to molecular test in full swing. On a dollar basis, it was the second largest contributor to commercial reagent growth followed closely behind MRSA in the fourth quarter. We believe we extended our number one molecular market leadership position with C.diff revenue that was more than double that of our nearest molecular competitor.

During 2012, we also saw our first revenue associated with the launch of Xpert CT/NG outside the U.S. Early customers include not only accounts in our install base in northern Europe, but new accounts in Southern Europe as well.

Though it’s really too early to start calling trance, I will share that our experience so far has shown that the majority of our early adopters were bringing the test in-house. However, we are also seeing a promising contribution from customers that we’re converting from older technologies, which include BD Probe-Tec, Roche Amplicor, and TaqMan, Abbott m2000, and Gen-Probe Pace products.

Additionally, we have won a number of head-to-head evaluations against the Gen-Probe PANTHER system. Typical volumes of these customers so far range from 20 to more than 500 tests per month and system size runs the full spectrum of our uniquely scalable platform, everything from GeneXpert force to infinity systems.

Looking-forward, we’re very excited bout Xpert CT/NGs prospects now that the test is cleared in the U.S., aside from it’s unique position as the only moderately complex molecular test for CT/NG available. This product is highly differentiated in terms of the built-in controls and dual targets for NG which we believe will contribute the higher performance and confidence, but also and the multiple sample types.

Notably, our claim for male and female urine specimens was cleared in the U.S. giving clinicians an opportunity that is not currently available on the PANTHER.

Moving then to an update on our test menu expansion, as noted we added Xpert CT/NG, Xpert GVS LIM broth and the updated Xpert Flu in the U.S. in 2012.

With regard to the test and development, I’ll share a few highlights from a selection of the 14 tests in active development today. We continue to target U.S. commercial release of Xpert MTB test around the middle of the year. We continue to expect to built, to submit the blood culture products later this quarter.

Xpert HPV is progressing through early CEIBD clinicals and remains on track for CEIVD release late in 2013. Our Xpert Virology portfolio continues to make excellent progress and remains on track for commercial release in the 2014–2015 time frame and Xpert Norovirus is progressing and continues to be targeted for commercial release outside the U.S. at the end of 2013.

Now, just a couple of menu modifications, I’d like to share with you. First, reflecting the growing market interest. In molecular test for this particular organism, we have decided to initially focus on a dedicated rather than a combined Trich Canada panel. With this modification, we now expect to commercialize this product around the end of 2013 outside of the U.S. and in the middle of 2014 in the U.S.

Second and in part to our deliberate decision to ship cartridges to customers rather than use them for clinical trials this quarter, we have decided to delay the trials of our CLIA waived flu test until next flu season. This does remain a strategic priority for the company. But in the immediate term, we have felt it more appropriate to give priority to current customer demand.

With that, I’ll invite Andy to discuss our 2012 fourth quarter and full year financial results and 2013 guidance. Andy.

Andrew D. Miller

Thank you, John. As always, please note that I will be discussing our non-GAAP results unless I indicate otherwise. Fourth quarter total revenue of $92.4 million was up 15% year-over-year driven almost entirely by 21% growth in our commercial clinical business. Of total revenue, fourth quarter products revenue was $89.7 million and other revenue was $2.7 million.

Clinical sales of $82.2 million grew 19% year-over-year and 22% sequentially and represented 92% of total product sales. Within clinical, system revenue of $13.4 million was down 33% from exceptionally strong fourth quarter of 2011 and flat from last quarter. Commercial clinical system revenue increased more than 40% from last quarter, but as expected was down 24% from a record Q4 2011 reflecting a strong 153 system placements.

Variability in HBDC orders coupled with limited cartridge availability resulted in only 68 HBDC systems and $1.6 million HBDC system revenue, which was lower than expected. As previously disclosed, HBDC system revenue was the primary driver of our HBDC mix in the fourth quarter.

As a result, we will be even more cautious with regards to our HBDC guidance forward.

Record clinical reagent revenue of $68.8 million in the fourth quarter of 2012 was up 40% from last year and up 26% sequentially. Excluding HBDC commercial clinical reagent revenue of $60.5 million was up 37% from the same quarter a year ago and up 26% sequentially. Commercial clinical reagent growth trend in the fourth quarter of the year were impacted by the back orders at the beginning and end of the quarter.

To help you understand some of the reagent growth trends after normalizing for the back orders at the end of Q3 and Q4, let me share a few highlights. First, fourth quarter normalized commercial clinical reagent growth was more than 30% year-over-year. HAI's grew 25% year-over-year and in dollar terms MRSA was the largest growth contributor followed by C.diff, Flu and commercial TB in that order. Our non-clinical business delivered fourth quarter revenue of $7.5 million in line with our expectations and overall represented about 8% of total product revenue.

Moving to the rest of the income statement, non-GAAP gross margin of 54.8% compared to 50.7% last quarter and 57.8% in the fourth quarter of 2011. Sequentially, gross margin benefited from last HBDC revenue that last quarter, stronger commercial clinical reagent mix and was less impacted by our manufacturing challenges.

Excluding the HBDC business, non-GAAP gross margin for our commercial business was around 59%, up from 57% last quarter, but down from the low 60s in the fourth quarter of 2011 reflecting the negative impact of our manufacturing challenges.

On a GAAP basis, gross margin was 52.2% which compares to 49.1% last quarter and to 49.8% in the same quarter a year ago. GAAP gross margin this quarter includes intangible write downs of approximately $1.2 million. Non-GAAP R&D of $14.7 million or 16% of revenue was basically flat sequentially and year-over-year with lower clinical trial costs than expected. Non-GAAP sales and marketing of $14.7 million increased sequentially due to higher commissions. Finally, G&A of $7.2 million declined sequentially due to the lower litigation expenses.

Non-GAAP operating income for the fourth quarter was a record $13.9 million or about 15% of revenue. Non-GAAP net income for the fourth quarter was $14.2 million or $0.20 per diluted share compared to $9.4 million or $0.14 per share a year ago. Reflecting stock compensation expense, amortization of acquisition intangibles and the write down of intangibles noted above, GAAP net income was $5.6 million or $0.08 per share.

Moving to the balance sheet, cash and cash equivalents were $95.8 million as of December 31, 2012 down from last quarter primarily due to the acquisition of our molder in late December. The total consideration for Quashnick was $12.4 million comprising $7.8 million in cash including a hold back of $1.3 million in lieu of an escrow and $4.6 million in stock. Moving then to guidance; as we entered 2013, there are number of considerations that we have carefully factored into our guidance for the year.

First, we remain cautious about the capital spending environments and the global economy in general. Second, as we saw once again in 2012, there is an underlying variability inherent in two distinct elements of our business. Commercial system placements which tend to vary significantly from quarter to quarter and the HBDC business where we have seen variability in both system placements and quarterly reagent revenues.

Third, while we are optimistic about our prospects for our CT/NG test, as well as the other new tests we expect to bring to market in 2013, we are always cautious with respect to how much revenue we include in our guidance for any product in its first year of availability. And finally, we feel that it is prudent to factor some caution into our guidance for any potential market impact stemming from our second half 2012 manufacturing challenges.

With those caveats in mind, Cepheid currently expects total revenue in the range of $375 million to $385 million for the full year ending December 31, 2013. Included in our full year guidance, we expect commercial clinical revenue of $293 million to $303 million driven by approximately 19% to 24% growth in commercial clinical reagents and low single digit growth in commercial clinical systems. This represents high teens to low 20s growth in total commercial clinical revenue.

Factoring in the extreme variability we saw in this business in 2012, we expect HBDC revenue of approximately $45 million for the year. Bear in mind that, once we exhaust the remaining USAID funding, we will be recognizing $9.98 per test, which means we will need to ship significantly more tests during 2013 to deliver the same revenue.

For example, we sold approximately $1.4 million HBDC tests in 2012. To deliver the same $23.8 million in revenue however, we would need to ship $2.4 million HBDC tests.

And finally, we expect non-clinical revenues to be down 10% to approximately $31 million, and other revenue to be down to approximately $6 million.

Moving to the bottom line, we expect non-GAAP EPS of $0.41 to $0.46 as compared to $0.31 in 2012, an increase of 32% to 48%. We expect GAAP EPS to range from a loss of $0.05 to a profit of $0.01.

Non-GAAP results exclude approximately $29 million related to stock compensation expense and $4 million associated with the amortization of acquired intangibles, which total approximately $0.45 per share.

We expect our fully diluted share count to be approximately $72 million shares, except in the case where there is a GAAP loss, but the GAAP share count would be approximately 67 million shares.

Looking at the first quarter of 2013, we’d remind you to consider normal seasonality and variability in systems placements, HBDC variability, expected underlying growth in commercial reagent demand, flu trends and quarter-end back order levels at the end of Q3 and Q4. As a result, we expect total revenue to be modestly down from the fourth quarter of 2012.

For the first quarter of 2013, we expect non-GAAP and GAAP EPS to decline by $0.09 to $0.11 per share from Q4 2012. This is primarily driven by timing of clinical trials including the beta and CE IVD trials for a HPV, HIV and Norovirus. Additionally, payroll taxes, bonus accruals and our annual national sales meetings drive higher OPEX in the first quarter.

To help you with your model, let me share with you a few more details with respect to our guidance for the full year starting with non-GAAP gross margin. For the full year, we expect non-GAAP gross margin for our commercial business excluding HBDC to be approximately 63%. We expect it to be modestly lower early in the year and modestly higher in the later part of the year.

Also for the year and with all three buy down agreements now executed, we expect non-GAAP gross margin for our HBDC business in the 5% to 7% range. This gross margin factors in the impact of the Unitaid agreement which you will recall spread up to $4.1 million over the next 10 years.

First quarter non-GAAP gross margin will be slightly higher as we still have a portion of the USAID subsidy to work through. Reflecting both these data points and our relative revenue assumptions for commercial HBDC, we expect

a non-GAAP combined gross margin for our total business of approximately 56%. Regarding operating expenses, you can expect diligence on expense management and cost containment while balancing investments in our growth initiatives.

As we discussed at our Investor Day in September, we are expecting a significant step-up in R&D expense in 2013 in support of our test menu expansion driven by much higher beta and clinical trial. In 2012, non-GAAP R&D expense was about 19% of total revenue. For 2013, we expect non-GAAP R&D expense of about 20% of total revenue which represents more than 22% of our commercial revenue consistent with our comments at our Investor Day.

For the full year, sales and marketing and G&A expense combined as a percentage of total revenue and as a percentage of our commercial revenue are both expected to be flat to just modestly down from 2012. With this in mind, we expect our non-GAAP operating margin for our commercial business excluding HBDC to be approximately 11% of revenue consistent with our Investor Day comments.

For HBDC, after factoring in the buy down accounting impact on gross margin and HBDC OpEx, we expect a non-GAAP HBDC operating margin this year in the low single digit as a percentage of HBDC revenue. Thus for our total business, we expect a non-GAAP operating margin of approximately 10% of total revenue. I’ll now turn the call back to John.

John L. Bishop

Thanks, Andy. As we put the challenge in 2012 behind us, we are more optimistic than ever about the opportunity ahead of us.

First, building on our leadership position in the HAI market. We expect to expand our position in the women’s healthcare market with a very exciting product, an Xpert CT/NG, which we expect to have broad appeal to existing and new customers alike.

In fact, we believe that Cepheid will establish itself as an important player in women’s healthcare testing with a broad portfolio that includes Xpert CT/NG, Xpert Trichomonas, Xpert GBS and Xpert HPV.

As we progress to this goal, Cepheid is not just benefiting from the market trends of platform consolidation and decentralization of testing, it is driving them. Beyond HAIs and women’s health the addition of our Xpert Virology portfolio will enable Cepheid to meet most of our customers’ high volume testing needs.

The first virology test will become available outside the U.S. as early as next year as we continue to target HIV, HBV and HCV for global commercialization in the 2014, ’15 time frame.

Internally, we continue to prepare for Cepheid’s next phase of growth, whether it’s scaling our manufacturing operations, building out international sales and marketing infrastructure, developing new expert test or optimizing our organizational structure. Cepheid is preparing carefully and positioning itself to fully exploit the multi-billion dollar opportunity in front of us.

With that I’ll ask the operator to begin the Q&A.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question comes from Peter Lawson from Mizuho Securities.

Peter Lawson – Mizuho Securities

Hey John, just wondering did you get incrementally more cautious around any part of the businesses other than HBDC in 4Q?

John L. Bishop

As far as you talk about guidance, Peter? So let me see if I can generally answer your question, Peter. Did we get incrementally more cautious? The answer is generally no. I mean we see the capital markets as the same as what we saw last year. Andy mentioned already in the guidance that we remain cautious on the capital markets. Now, the one item that we are seeing, there was people who are basically a little bit paralyzed on capital purchases during the fourth quarter waiting to see the outcome of the elections. Of course, that’s clearly behind us now and people can see what’s happening with the healthcare initiatives.

The rest of our commercial business is growing very nicely. You can see the percentage growth numbers that we had with the HAI products and generally good growth with all of our other products and we’re making already good progress with our expert CT/NG. We indicated there, in Europe that we’re seeing, actually wins against all of the major players that are in the STD testing market. So our only comment there, we don’t want to get carried away and get ahead of our self, we want to be a bit cautious as Andy called out relative to products on the market first year. But overall, we’re quite optimistic about everything that we’re looking at here.

Operator

Thank you. And our next question comes from Derik De Bruin from Bank of America.

Derik De Bruin – Bank of America

Hi, good afternoon.

John L. Bishop

Hi, Derik.

Derik De Bruin – Bank of America

Hi. So your, sort of comments on through the outlook for 2013, you mentioned still some caution given the Tier customers in the second half challenges, about the customer relationships and also you’re being conservative on your outlook for the CT/NG ramp up in the first year of sales. What I’m curious is that have you lost any customer as a result of some of the challenges in terms of the supply constraints. And I guess in your initial conversations with customers in the U.S. are you seeing any people holding back on potentially adopting the CT/NG product in the sense that they’re concerned, they may not be able to get the product. I’m just curious about how you advance our customer relationships (inaudible) business?

John L. Bishop

Well, certainly. And so what we’re doing is stepping up communication with the customers. I would add that clearly and we see this and feel this very strongly. It’s been a very frustrating time for our customers and something that we absolutely do not want to repeat going forward. That said, our customer relationships are very, very strong. Clearly, I think we’ve lost an account or two. But nothing over – no major trends, there are some frustrations out there. But the customers are staying with us. They absolutely appreciate the benefits of this system and what it’s doing within their institutions. And frankly we’re continuing to expand. I mean, we’re still – we’re winning on head to head competitions. We’re facing competitors, new entrants coming in for the HAI. And frankly, they’re even putting more pressure on prices down pricing, undercutting our prices very significantly and we’re still taking the business from those customers. We also had during the quarter one of our infinity placements on the quarter was a text book platform consolidation and it was head to head while also with customers involved with the HAIs and it was a takeaway. So that was a significant takeaway against competition there. So those things are looking good and end user remarks they used to say well we want to be a bit cautious but right now we’re certainly not seeing any trend that I am really expecting the customers, everything we’re seeing are hanging in there with us, the couple that we’re looking at right now is lost. Obviously we’re going to continue to speak with them, I think there’s very good opportunity to bring those back later in the year as we deliver and we show consistency in our production.

Operator

Thank you. Our next question comes from Bill Bonello from Craig-Hallum.

Bill Bonello – Craig-Hallum Capital Group LLC

Great. I have a simple question, which is just can you give us any sense of the magnitude that flu contributed to growth in the fourth quarter?

John L. Bishop

I think the primary thing is we listed the growth contributors in quarter of how they contributed with MRSA drive first, C.diff second, flu was third and TB commercial was fourth. And since we’ve given you so many growth rates around MRSA and C. diff for so long and you know - I think those products are, you can probably figure that out.

I will say that they were far in a way much greater than flu was far the growth contributor once for the quarter.

Operator

Thank you. Our next…

John L. Bishop

Birds flu is closer than commercial TB growth year-over-year in absolute dollars

Jacquie Ross

Thank you Sayed. Do we have our next caller?

Operator

Our next question comes from Brian Weinstein, from William Blair.

Brian Weinstein – William Blair

Hi, good afternoon and thanks for taking the question. My question is around the sales and marketing infrastructure. You guys have lost two key members of that infrastructure over the last year now. Can you talk about what that says about the organization and give any details into the reasons for the changes with (inaudible) and why we should be confident that things are on solid footing in the sales and marketing management team going forward here? Thanks.

John L. Bishop

Okay. So I appreciate the question, Brain. First of, let me correct the way you characterize that as loosing those folks, okay. There’s things that you do that are purposeful and then there’s things that you do where you quote, have a loss, okay. And one instance, yes, that was an unexpected individual stepping out of the organization. That is not the case in the second instance. The fact is that right now, I’m directly working with all of the commercial operations relative to North America. We have a really solid team there and some very, very good and frankly, we’re moving some up the ranks, high potential individuals.

Our Vice President of U.S. Sales for North America are recently promoted, actually has grown within the ranks, started off as a sales rep with the company, has done an outstanding job running the western region and is now North American VP of sales. We just recently back filled and promoted an individual for the western region. So, all of that is looking really good. The marketing team is looking absolutely solid in those areas as well. What we’re doing is as we indicated is setting up the organization to really manage the business on a very high growth mode, and there’s a couple of things coming into play here now.

One, as we look at the international markets, and we say last year we have initiatives in China and Japan, we’re doing additional things in the Southeast Asia. We have a significant initiative now that’s getting underway in India, and we’re going to be looking at much more aggressive activity in Brazil.

So as we look at those items coupled with the fact as I mentioned in our prepared remarks that we are in a pivotal period now with menu expansion and pivotal meaning that we’re opening up major new markets, it’s been very interesting to me, and I’ve been sharing with the group. But we look at Europe, Northern Europe has always done really well, southern Europe we haven’t so good.

And frankly the reason for that is that, southern Europe just really has not embraced HAIs. Now, we’re coming with women’s health with CT/NG and now southern Europe is growing to life. So it’s a real game changer, so as we look at that, it’s very clear to us that we needed to have a solid focus on international with someone highly qualified to run the international commercial operations separately that in the U.S. markets, plus of the changes in the menu.

So I think it may have been, because it was expected, which is correct that CT/NG would be moderately complex. However, it’s under appreciated that this is now the only moderately complex CT/NG product in the market. That is going to open up larger moderately complex laboratory capability. So as a result this year we’re working on, obviously our plan in the hospital market before we continue to do well. But now we’re at the point that we’re going to start developing a non-hospital market plan. In addition to that, even though we pushed back the flu, CLIA Waived is still going forward. So as we look at the non-hospital market, that market has a telescoping effect coming first from moderately complex, second, into CLIA Waived. As we move into the CLIA Waived, that will further telescope as we look at programs there for group practices or gym care centers, but then ultimately looking at our Walgreens, CBS or Wall Mart type of strategy in those markets.

So as a result which you can see is a substantial step up in the opportunity, but also the complexity of commercial operations for North America. And for that reason, we need a fully focused, dedicated, focused on just North America for those issues.

So those are the issues that are behind the moves that we recently took and what are driving it. So the bottom-line where you want to look at this, not a question, but anyhow concerned on the infrastructure, we had some very confident very, very good people.

The issue is we’re positioning to fully leverage the opportunity that we have in front of us.

Operator

Thank you. Our next question comes from Zarak Khurshid from Wedbush Securities.

Zarak Khurshid – Wedbush Securities

Good afternoon. Thanks for taking the questions guys. Can you just give us a rough sense for how much CT/NG revenue is in the guidance as well as how you’re thinking about the other tests that are coming online later in the year? Thanks.

John L. Bishop

Well, on the CT/NG, Zarak, we’ve indicated that we’re seeing a really good response there. We did indicate that in the first year for any new product, we tend to be more cautious. So there, it is a clear contributor relative to the year. But of course, we’re looking at a lot of solid growth still with our MRSA or C. difficile. TB, that’s one item that we didn’t speak about. That expect – we get that on to the market in the U.S. around mid year. I expect that to be a contributor factoring in here. So the items that we’re looking for and we’ll walk you through that in other calls, it’s just how well is the test being accepted out in the market and how is it doing.

So I can tell you that with third party international evaluations that are underway right now that we’re getting great reviews on the accuracy of the test and we’re hearing nothing but positive comments about the shorter time to result that’s enabled them to more effectively manage the patients. So we’re hearing that across the board. We’re also hearing similar comments in that vein in the U.S. market.

Now as you look at the U.S. market, we know that’s a number of accounts have setup their systems and they want to bring CT online very quickly here and that in fact is happening. So orders are already coming in for the product and I will tell you that we’ve blocked two PANTHER placements in the U.S. already with CT/NG.

Operator

Thank you. Our next question comes from Vamil Divan from Credit Suisse.

Vamil Divan - Credit Suisse

Thanks for taking the question. Just wanted a little bit more color if I could on the guidance for 2013and specifically just in terms of – appreciate the details you gave already, but in terms of North America versus internationals. So what level of growth you’re expecting across those two areas and also the need for stocking that you have already factored in for the high volume tests into your guidance?

Andrew D. Miller

Yeah. This is Andy. So we are going to provide guidance geographically based. So you’ve got a good history to see the type of growth that we had highlighted for you for 2013 for commercial clinical reagents. We had 25% growth in commercial clinical reagents, 23% in North America, clearly international grew faster although was impacted by currency during this year which took down its growth. But we’re not going to give guidance going forward, okay.

Operator

Thank you. Our next question comes from Dan Leonard from Leerink Swann.

Dan Leonard – Leerink Swann LLC

Thank you. I have a question about the fourth quarter. You mentioned there was no stocking in the reagent number in Q4. But how are you able to tease apart what might be same store sales growth as opposed to stocking in that fourth quarter and then therefore be confident that there wasn’t any…

John L. Bishop

Sure. Well, as we indicated products we’re still on allocation throughout the quarter. So given the fact that they’re on allocation, there was no way for individual accounts to do significant stocking.

The other item is that one of the things we’ve been doing also along with everything else here is improving our systems. So we have online systems as you would expect to be able to track actual sales to individual accounts by individual sales rep, by individual product. So we can see exactly what’s going in to the accounts and are we seeing a disproportionate amount of product going to an account that we didn’t see previously with those patent. So clearly that’s not what we’re seeing at this point. And so what we’ve indicated here is, it’s normalized demand. Now, that’s a reasonable question as we come off of allocation. Our customers are likely going to up their stocking orders. I think that’s reasonable to expect that to happen.

But then what’s going to happen, that’s then going to go back down. As we proceed forward and they see that they’re going to routinely have product available here. So I don’t expect as we look at the year to have any stocking impact that we talked about or basically artificially loading the pipe line. I don’t expect to have that in 2013. We’re really looking at genuine demand here.

Jacquie Ross

Thanks Dan. Sayed, we’re ready for our next question.

Operator

Thank you. And our next question comes from Dan Arias from UBS.

Daniel Arias – UBS

Hi, thanks very much for the question. Just wondering if I can may be crystallize the thought on guidance for 2013. So I guess Andy, when you roll up the items that you called down for consideration, would you say that the majority of the conservatism is coming from the commercial side or the HBDC side of the equation?

Andrew D. Miller

So when we look at all of the factors, first let me explain how we kind of build our plan. When we build our business plan because our guidance comes out of that, we look at all of the risks and upsides that we faced in our business, we kind of range them and then we try to figure out the most likely outcome as we weight all of those together. So it’s not simply adding each single one together. You take them as a portfolio and then figure out exactly where you think it’s the most likely outcome. We then base our guidance off of that clearly realizing that there is penalty to frankly missing your guidance. So clearly we understand that. So we would bring our guidance a bit below our business plan, as with pretty much any other company. Now, as we look at our overall guidance, I am not going to get into specifics about whether there was more caution factored in the HBC or more caution factored into the commercial business. The thing I will highlight for you is that we have seen more variability in HBDS, and so that variability as it plays out we could be right one, it could be substantially higher that what we gave you.

Operator

Thank you. Our next question comes from Bill Quirk from Piper Jaffray.

William R. Quirk – Piper Jaffray, Inc.

Thanks, good afternoon everybody. To the extent that your win rate on new deals slept in the fourth quarter. Can you talk about when you think that will come back up John? And also just to clarify on when the growth margin should ramp back up and I guess I am thing about this excluding the effects of HBDC. So in other words, well when should we be fully through the production issues? Thanks.

John L. Bishop

So the productions we indicated now, we’re off by allocation as of today. So, now reasonable question because we’re obviously managing the tail-end of those. So I would expect, we’re starting to move to new deal focus. We had some of that in the fourth quarter and as I mentioned we had some wins there. I think that we will move increasingly as we progress here in the quarter in February, March timeframe to new deal focus versus hand holding on the allocation side with the accounts on a go forward basis.

On the margin question, Andrew?

Andrew D. Miller

Yeah, on gross margin, so from Q3 to Q4 our commercial gross margin went from 57% to 59% as it was less impacted by the manufacturing challenges. We expect a continual increase in that in Q1. But Q1 will be a little bit lower that the average for the year, which is 63% and of course it will be higher in the end of the year. So I think you can build your model pretty well from that perspective, especially if we gave you the Q1 ranges, on what we expect as far as EPS being down from Q4.

The other factor that I want to make sure people appreciated, the UNITAID agreement and the accounting for that over 10 years, that approximate $4.1 million. Economically that does subsidize the test for 2013. And that $4.1 million on the $45 million of guidance is about nine margin points. So you can see our HBDC gross margin guidance of 5% to 7%. If you’d add those nine points back, then you would be in the normal range. So that’s the impact of having this adverse accounting that we have to apply for that UNITAID to find out.

Operator

Thank you. Our next question comes from Isaac Ro from Goldman Sachs.

Isaac Ro – Goldman Sachs

Hi, good afternoon guys. Thank you. Wanted to talk about pricing for a minute if I could, and then just asking if you guys assume stable pricing in C.diff and MRSA this year and then maybe what kind of pricing assumption you have for the CT/NG product given where pricing is going for the central lab based platforms in that part of the market?

John L. Bishop

Sure. So I’ll answer last part of the question first, Isaac. There our price point there is around $30, $35 on the product. I think the ASP is going to come at a little less than that. But what we have found with our own analysis is that certainly those labs are already doing send out. They’re already making – cost wise they’re already in that category there. As you know, our primary go to market strategy are not the reference lab market. It’s going to be initially bringing this right into the hospital markets taking care of bringing the send outs in house.

The other key trust will be against systems that are in the hospitals right now, and there’s real opportunity that we’ve called out in the past that Gen-Probe is in the process of shutting down their pace product converting to Aptima. That’s causing accounts to have to go to something different. Anyway, so it’s an opportunity for us to get in there and get on those products. The other item that we’re seeing, very clear benefits relative to product performance against the other competitive products that are out there with CT/NG.

And what was the other part of that?

Isaac Ro – Goldman Sachs

The other part was simply factors and erosion which should be on the…

Andrew D. Miller

We look at that, but as you all have indicated, yeah, well there are some factored in, I would not say a huge amount in that area. And as I indicated in the prepared remarks already on the call or may be on some other questions. What we’re finding is, now some of the competitions coming in they’re being very aggressive on the pricing, on test coming in, specifically on MRSA, separately also on C.diff. We have some of the competition coming in, and quote, giving away little instruments that are out there in the market place and we continue to take the business and win on a head-to-head basis even on a significantly higher price point.

So we’re doing a good job of demonstrating the value that is there and hard dollar savings benefits going with our system.

John L. Bishop

Yeah, the other thing I’ll add, just we have it out there public. There was no change in our ASPs for the big product MRSA and C.diff, once again despite pacing price competition.

Operator

Thank you. Our next question comes from Vijay Kumar from ISI Group.

Vijay Kumar – ISI Group

Thank you for taking my questions. I just wanted to take another shot at the guidance. And when you look at that variation, I mean that’s at the low-end and high-end, it’s coming in from the commercial reagent business. So what are the assumptions of the low and high end? I mean, what are swing factors that we need to monitor? Thank you.

Andrew D. Miller

Between the low and the high end? Usually, you’ve got range there about $10 million, small range in systems and small range in reagents. And the main factors there are both the external factors as well as the uptake of new products as we’ll as intentionally modest variation in our ranges for our existing products and their growth rates.

John L. Bishop

And the HBDC…

Andrew D. Miller

Just on the commercial… Well, it’s on the commercial clinical. HBDC, we have just a point guidance for that at this point.

Operator

Our next question comes from Sung Ji Nam from Cantor Fitzgerald.

Sung Ji Nam – Cantor Fitzgerald & Co.

Thanks for taking the question. I had a quick one on Xpert CT/NG. You talked about obviously that you specimen is being cleared on your system versus your competitors. I’m just trying to get a sense of – does that open up a new – expand the market further or is that largely replacing other types of specimen or is it too early to tell? Do you have a sense of, kind of how, what kind of really distinct competitive advantage that is?

John L. Bishop

Well, yes. So basically that’s a market that already exists. I wouldn’t view that as a market expander. That’s something I mean, Gene-Probe has had historically, split the column out specifically. Those claims on the TIGRIS system, they haven’t yet been able to get the specimens on the PANTHER systems. Others that are out there have year end claims on the market. A general comment there, so I would say no, it’s not a market expander. That market is already there. But if you’re really going to penetrate in all those markets, you really want the urine claims because obviously for easy access of specimen on a go forward basis there. The other item, since we have the opportunity to talk about that, someone asked the question about the focus on Trichomonas versus Vaginatus and I will give you some additional information on that.

We made that shift, the reason being that the Trichomonas and I give credit to Gen-Probe, I mean they recognized that early on. But we’re seeing that also that that is really a grilling problem out in the market place. But it’s not just a woman’s problem. And you’re going to need to be testing males there as well. So as we go after developing the Trichomonas product, we’ll be looking to add claims for male urines with that product, certainly will start internationally with that. And so clearly, that’s where you have a need for a stand alone Trich versus folding in the used.

And that was the reason for the change and we’ll come back to the vaginatus aspect later. One of the items that’s really clear to understand even though everyone talks about women’s healthcare, you can only – you have to treat or manage both size of the equation. So that’s the males and the females. So we’re strongly focused on balance picture there on both sides.

Operator

Thank you. And our next question comes from Evan Lodes from JPMorgan.

Evan Lodes – JPMorgan

Good afternoon. Thank you for taking my question. Within the guidance, can you talk about expectation for HAIs and where you think we currently stand on penetration within the hospitals for screening? Thank you.

John L. Bishop

Sure. Well, with regard to penetration within the hospitals, that still continues to be a growth market. We’ve been asked in the past, do we ever think there’s going to be like an inflection point in this market development. No, I don’t think so. I think it’s going to be continual market development now. At this point in time, you probably have well over 50% of the accounts you have, in fact, hospitals in the U.S.A have active surveillance programs. I believe that you’re going to see that continue.

The movement has been to in fact do that. But many of them will still start with culture. The molecular piece of that is growing and I think that will continue to grow, yeah, particularly as you look at the cost benefit relationship, a more timely reporting and what that means within the institution. So continued growth and as we look at this year, then what I would expect to see is continued growth in the MRSA arena.

On the other hand, with the C.diff continued growth in that area because there is still fair amount of the market that’s still non-molecular yet, even though it’s now in full swing t move to molecular, so a lot of incremental opportunity in that area.

Operator

Thank you. And our next question comes from Jeff Elliott from Robert. W. Baird.

Jeff T. Elliott – Robert. W. Baird

The question, most of mine have already been asked. But I was hoping, can we get an update on the LABSCO relationships?

John L. Bishop

Sure. LABSCO is doing very well. We’re pleased with how they’re progressing. They are also – really have a solid commitment. They have a group of people that are dedicated within LABSCO to selling the Cepheid products. So if you’re looking at it that way, it’s incremental Cepheid dedicated feed on the street. And particularly, the other item and that’s the reason why I continue to call out frankly. I’m pretty excited about – as I mentioned the pivotal aspects on where we are with our menu at this point in time because as you look at the LABSCO market segment while the HAI’s are something that you really need and the accounts are going to need to be embraced. I think now with CT/NG that’s starts to be more of a game changer. That’s an immediate benefit demand that you can bring in to a number of these accounts and I think what we’re also going to start seeing now is that CT/NG is going to drive a number of placements. And then what’s going to happen is we’re got to reverse relationship. Previously it’s been HAI’s driving placements to a large extent and trying to pull through other test. What’s going to happen now is that’s going to change around and stop like CT/NG, it’s going to drive placements and then so I just have to pull through the HAI’s.

Operator

Thank you. Our next question comes from Shaun Rodriguez from Cowen & Co. LLC

Shaun K. Rodriguez – Cowen & Co. LLC

Hi guys, thanks for taking the question, actually related to the last one, can you just talk about the expected impact of CT/NG on system placements and system revenue growth expectations, specifically in your guidance. I mean this is clearly the combination of existing customers that might need to buy another system or upgrade the handily incremental volumes and you also obviously have new lab starting out with that test. So is this a material component of your system revenue growth as you see it for this year?

John L. Bishop

Yeah, so as we see it, here we said is, we look at it in a balanced cautious outlook on available capital in the market. We’re bearing that at mind is where we are, one with regard to the existing accounts and number of those as we reported last year, purchase modules and size systems and advance of the availability of the CT/NG. So I don’t expect to see an immediate step up emplacements for those accounts because they have already done that in anticipation of the product.

Now, separately it is within our guidance and yes, we do expect to see placements, now being driven by CT/NG that previously that we wouldn’t have had. I mean, people that were – maybe not interested yet or they were using competitor product on some of the HAI’s. Now, they’re going to be interested and that will put a GeneXpert in the account and then we’ll leverage off of that relative to the menu pull though.

Operator

Our next question comes from David Ferreiro from Oppenheimer.

David Ferreiro – Oppenheimer Securities

I was wondering, could you provide an update on how many eligible HBDC countries that have actually ordered systems and are up and running. As new countries come on line, why shouldn’t we expect more volatility on a quarter-to-quarter basis? Thanks.

John L. Bishop

Okay. Sure, good question. We indicated in our prepared remarks that there’s 145 designated HBDC countries out there that we’ve actually have product system shift to 83 of those countries in the market place. And to your question on, as more come on line, yeah, the question there is not necessarily, as more come on line the volatility comes from funding because you got to remember that the funding for all these various countries comes from the NGOs.

So the question there is, where is the level of commitment? Is there a change of commitment relative to the NGOs that goes into funding these various programs? So what I expect to see, an increase in volatility? No, not necessarily because what you’re going to have are two offsetting factors. One, you already have a – starting to be sizable running base of people that have been running along for a while.

So that puts some base there that’s going to be a little bit less variable. But then as you’re correct, you’re adding one expansion within the base and then totally new shipments to new countries coming on. That will then bring back or you’re running at an increased variability. So that‘s where we looked at the overall variability question and our guidance for this year.

Operator

Thank you. Our next question and final question for today comes from Nicholas Jansen from Raymond James.

Nicholas Jansen – Raymond James & Associates, Inc.

Thanks for squeezing me in. Just one question on the U.S. TB opportunity; how do you frame that from both a reagent and an instrument placement perspective and then how should we think about ramping up into 2014 and 2015? Thanks.

John L. Bishop

Okay. So we said we expect to be on the market around middle of the year. The more definitive number that I’ll give you is on the test. I mean, we view that as about half a million test opportunity within the U.S. market. Is there an opportunity for that test volume to grow, we believe there is coming into the market. Relative to system placements, we believe it will add to system placements, but there is a number of those accounts that already have systems who would be able to immediately start running TB for those labs. So, a lot of uptake there along with some incremental new placements resulting from the TB.

Operator

Thank you. And now I will like to hand the conference back over to Ms. Jacquie Ross for closing remarks.

Jacquie Ross

Thank you, Sayid. If you have questions following today’s call, please contact Cepheid Investor Relations at 408-400-8329. As a reminder, a telephone replay will be available for seven days beginning at about 6:30 PM Eastern Time today. Details of how to access the replay can be found in today’s press release. Additionally, the webcast of today’s call will be available on the Company’s website for at least 90 days.

Thank you for your interest in Cepheid and have a great afternoon.

Operator

Ladies and gentlemen, thank you for participating in today’s conference. This concludes the program. You may all disconnect and have a wonderful day.

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