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Illumina, Inc. (NASDAQ:ILMN)

Q1 2009 Earnings Call

April 21, 2009 5:00 pm ET

Executives

Jay Flatley - President & Chief Executive Officer

Christian Henry - Senior Vice President & Chief Financial Officer

Peter Fromen - Senior Director of Investor Relations

Analysts

Ross Muken - Deutsche Bank

Doug Schenkel - Cowen & Co.

Tycho Peterson - JP Morgan

Marshall Urist - Morgan Stanley

Quintin Lai – Robert W. Baird

Derik De Bruin - UBS

Isaac Ro - Leerink Swann

Zarak Khurshid - Caris & Company

Matthew Scalo - Canaccord Adams

Davis Bu - Goldman Sachs

Dan Leonard - First Analysis Securities

Bill Quirk - Piper Jaffray

Operator

Welcome to the first quarter 2009 Illumina, Inc., earnings conference call. (Operator Instructions). I would now like to turn the presentation over to your host for today’s call, Mr. Peter Fromen, Senior Director of Investor Relations.

Peter Fromen

Good afternoon everyone, and welcome to our first quarter 2009 earnings call. During the call, we will review our financial results released today after the close of the market, offer commentary on our commercial activities, and provide financial guidance quarter and fiscal 2009. After which, we will host a question and answer session. If you have not had a chance to review the earnings release, it can be accessed in the investor relations section of our website at Illumina.com. Presenting for Illumina today, will be Jay Flatley, President and Chief Executive Officer, and Christian Henry, Senior Vice President and Chief Financial Officer. This call is being recorded, and the audio portion will be archived in the Investor Section of our website.

It is our intent that all forward-looking statements regarding financial guidance and commercial activity made during today’s call be protected under the Private Securities Litigation Reform Act of 1995. Forward-looking statements are subject to risks and uncertainties. Actual events or results may differ materially from those projected or discussed. All forward-looking statements are based upon current information available, and Illumina assumes no obligations to update these statements. To better understand these risk factors, we refer you to the documents that Illumina files with the Securities and Exchange Commission including form 10-K and 10-Q.

Before I turn the call over to Christian, I want to let you know that we will be presenting at the Baird 2009 Growth Stock conference in Chicago on May 13th, the Deutsche Bank Healthcare Conference in Boston on May 18th, and the Goldman Sachs Healthcare Conference in New York which is being held June 9th through June 11th. For those of you unable to attend any of the upcoming conferences, we encourage you to listen to the web cast presentations, which will be available through the investor relations section of our website. With that, I’ll now turn our call over to Christian.

Christian Henry

Good afternoon everyone and thank you for joining us today. During today’s call, I’ll review our Q1 financial results and provide guidance for the second quarter and full year of fiscal 2009. Jay will then discuss our commercial progress and provide an update on the state of the business and our markets.

We are off to a great start in 2009. In the first quarter, we recorded total revenue of $166 million, which represented 36% year over year growth. Product revenue was $156 million and grew 41% over Q1 of last year with significant growth in both our sequencing and microarray product lines. We generated $103 million in consumable revenue, achieving our first $100 million quarter. This compares to $63 million in Q1 of ’08 and $99 million in the fourth quarter, and represents a year over year growth of 63%. While B-chips led the year on a year over year growth in absolute dollars, sequencing consumables drove the sequential increase over Q4. The growing installed base of Genome Analyzers and increase use in production environments pushed sequencing consumable revenue to record levels, growing 44% sequentially.

Instrument revenue for the quarter was just over $50 million, compared to $44 million in the prior period and $51 million last quarter, which represents year over year growth of 13%. We shipped a record number of Genome Analyzers during the quarter which drove our year over year instrument growth. Services and other revenue which includes genotyping and sequencing services as well as instrument maintenance contract was $10 million compared to $11 million in Q1 of last year and $8 million last year. Services revenue is not expected to grow in line with the product businesses as more of our genotyping service revenue is migrating to our CS Pro certified customers. We are relatively indifferent to this shift as our product gross margins are similar to our internal service business.

Before discussing our gross margins and operating expenses for the quarter, I would like to note that we recorded a pre-tax amount of $15 million related non-cash stock based compensation. This impacted our EPS by a tax adjusted amount of $0.08 per pro forma diluted share for the quarter. In my discussion of operating expenses, I’ll highlight both our GAAP expenses which include stock compensation expense and other non-cash charges and the corresponding non-GAAP figures. I encourage you to review the GAAP reconciliation of non-GAAP measures, also included in today’s earnings release.

Total cost of revenue for the quarter was $56 million compared to $48 million in Q1 of 2008. The Q1 ’09 cost includes stock-base compensation expense of $1.4 million, approximately equal to the expense in the prior year period. Excluding this expense and $1.7 million associated with the amortization of intangibles, non-GAAP gross margin was 68.3%. This compares to 66.7% last quarter and 63.3% in the first quarter of ’08, a year over year improvement of 5 percentage points. Both sequential and year over year gross margin gain resulted from improved sequencing and microarray consumable margins as well as the overall product mix.

We have successfully scaled our sequencing reagent manufacturing capability in order to meet the increasing demand. As a result, we are seeing better overhead utilization which is positively impacting sequencing consumable gross margins. Additionally, the reformulated sequencing kits that we launched near the end of Q3 are materially less expensive to produce. During Q1, the annualized consumable pull through on the Genome Analyzer was over $200,000 per instrument and has improved by 40% from Q1 of last year. This is a result of our ability to quickly install new systems and rapidly bring customers to production status.

In our microarray business, pricing in the genotyping market has remained stable. In fact, per chip ASPs on our Infinium genotyping B chips and our whole genome gene expression arrays exceeded the positive trend that we reported in the fourth quarter. During the quarter, annualized consumable pull through was over 600K per installed instrument, higher than Q1 of last year, but lower than the fourth quarter.

Instrument ASPs were also stable across all platforms during the quarter. Research and development expenses were $33 million in the quarter compared to $21 million in the first quarter of 2008 including $4.6 million and $3.3 million respectively in noncash stock compensation expense. Excluding stock compensation expense of $2 million and $2 million related to acquired research and development and $0.9 million of accrued contingent compensation, R&D expenses were $25 million or 15% of revenue, compared to $17 million or 14% of revenue in the prior year period and $24 million or 15% of revenue in Q4. The increase in sequential and year over year research and development spending was primarily attributed to increased head count and increased project activity.

SG&A expenses were $43 million compared to $34 million in the first quarter 2008. This includes stock compensation expenses of $8.8 million and $6.1 million respectively. Excluding these noncash expenses, SG&A was $34 million or 20.5% of revenue, compared to $28 million or 22.7% of revenue in the prior year period and $32 million or 20.1% in the fourth quarter of last. The sequential increase in SG&A spend was primarily attributable to litigation expense during the quarter, and the year over year increase was a result of added head count.

GAAP operating profit for Q1 was $35 million and includes non-cash expenses that I just outlined. Excluding these expenses, our non-GAAP operating profit for the quarter was $54 million or 32.6% of revenue compared to $32 million or 26.5% of revenue in the first quarter of last year. This represents year over year operating profit growth of 67% versus topline growth of 36%, indicative of a significant leverage the business generated during the quarter.

GAAP interest expense in the first quarter reflected our adoption of FSP APB 14-1 accounting for convertible debt which cause us to recognize approximately $4.7 million in non-cash interest expense associated with our convertible notes and $0.8 million of gain upon the extinguishment of a portion of those notes. Excluding this amount, pro forma interest income was offset primarily by a loss of $3 million due to the foreign currency revaluation of monetary assets outside the United States. This resulted in approximately $0.015 of FX-related losses. Following the end of the quarter, we began implantation of a hedging program to mitigate the FX impact to monetary balance sheet assets in our major function currencies.

Our non-GAAP tax rate for the quarter was 32.8% compared to 28.4% last quarter. As a reminder, last quarter we recognized the retroactive R&D tax credit for the full year which reduced our tax rate by approximately 4 percentage points. We continue the successful ramp of B-chip production in Singapore this quarter and recognizing the corresponding tax benefit from the net income generated by that site. Quality and yield were again comparable to that our San Diego factory.

On a GAAP basis for the fourth quarter, we reported net income of $19 million or $0.14 per diluted share, compared to $11 million or $0.08 per diluted share in the prior year period. Excluding the impact of non-cash stock compensation expense, non-cash interest expense associated with the adoption of FSP APB 14-1, and the other items identified on our press release and net of pro forma tax expense, non-GAAP net income was $35 million or $0.28 per pro forma diluted share compared to $22 million or $0.19 per pro forma diluted share in the first quarter of 2008. This represents a 58% growth in net income on a year over year basis.

Reviewing the cash flow statement and the balance sheet, we generated $51 million in cash flow from operations during the quarter. We had capital expenditures of roughly $13 million in the quarter resulting in free cash flow of $38 million or $0.30 pro forma fully diluted share. This compares to the first quarter of last year when generated $0.17 of non-GAAP free cash flow per share. Accounts receivable DSO were 74 days during the quarter, which is up from the first quarter of last year due to a higher percentage of sales outside the US, but down from the fourth quarter as we approved our cash collection activities. Depreciation and amortization expenses for the quarter were approximately $7 million. We ended the quarter with approximately $728 million in cash and investments.

Now, we will move forward and discuss the financial guidance for the second quarter and full year of fiscal 2009. As I mentioned last quarter, we will exclude the charges associated with the adoption of FSP APB 14-1, which requires us to report incremental non-cash interest expense related to our convertible debt outstanding. Consistent with our previous calls, guidance will exclude certain non-cash charges including stock compensation expense related to FAS-123R, the amortization of intangibles, and acquisition-related charges. For additional details, please refer to the table in our earning release that reconciles our non-GAAP guidance to the related GAAP figures.

Based on our performance in the first quarter, we are raising our lower end of our original annual guidance by $10 million to $700 million. We therefore believe total revenue for 2009 will range between $700 and $720 million. This represents growth at the mid point of approximately 24%. We expect gross margins for the full year to range from the mid to the upper 60s. We expect non-GAAP earnings per share to be between a $1.13 and $1.23. This assumes pro forma fully diluted weighted average shares outstanding of approximately $133 million.

We expect non-cash stock compensation expense for the year to be approximately $64 million or $0.32 for tax adjusted pro forma diluted share. As a reminder, the pro forma diluted share calculation excludes the double dilution resulting from the accounting impact of our convertible debt outstanding. The Q1 impact on shares is included on the reconciliation to the GAAP figures that accompanies today’s press release.

For the second quarter, we expect revenues to range between $168 and $173 million which represents year over year growth, between 20% and 23%. We expect second quarter non-GAAP earnings per share to range between $0.27 and $0.30 assuming pro forma fully diluted weighted average shares of approximately 131 million. We expect non-cash stock compensation expense for the quarter to be approximately $16 million or $0.08 per tax adjusted pro forma diluted share.

We anticipate a non-GAAP annualized tax rate of approximately 33% for 2009. However, our actual tax rate will be highly dependent on the shipments made out of our Singapore manufacturing facility to international locations. We expect capital expenditures for the full year to be approximately $50 million. At this point, I would like to turn the call over to Jay for some remarks on our commercial activity during the quarter before we begin the question and answer session.

Jay Flatley

Good afternoon everyone. As Christian described, we are off to a great start for 2009. We exceeded all of our financial targets and extended our leadership position across our core markets. Our order results for the first quarter were right on plan and our order pipeline is very rich. The strength of our product portfolio continues to drive revenue, and I’m happy to report our 31st consecutive quarter of revenue growth. I’m particularly pleased that we improved our gross margins over the first quarter of 2008 by 5 percentage points to more than 68%.

Gross margin progress combined with a disciplined expense management were directly responsible for driving our operating margins above 32% and as a result, we generated over $50 million in cash flow from operations which resulted in $30 million of free cash flow. In our microarray business, we saw strong growth in consumables compared to the first quarter of 2008. Our whole genome B-chips continue to constitute the majority of array revenue and were again led by the human 610 quad.

Following the 610 quad was the 660W quad that we launched last quarter which added additional copy number content to our existing half 550 plus B-chip. Infinium B-chip ASPs increased from the fourth quarter and helped drive record gross margins in the array business to well over 70%.

Our custom and targeted content array products also provided a significant contribution to consumable growth during the quarter. As a reminder, last quarter we moved to our iSelect custom product on the Infinium HD platform enabling researchers to interrogate up to 2000 custom markers across 12 samples on a single B-chip.

In addition to iSelect HD, we launched the universal 32B chip which will transition golden gate genotyping customers from our array matrix to the B-chip format, with the ability to run 32 samples on a chip. Not only will this give our customers more flexibility, it simplifies our manufacturing processes as we will have one standard array format.

In combination with BeadExpress, customers now have the ability to customize content from 1 to 200,000 markers per sample. We are seeing encouraging uptake in the lower complexity market as we achieved our third consecutive quarter of growth in VeraCode shipments for the BeadExpress system. Annualized consumable revenue per installed instrument was approximately $100 in Q1 which is at the top end of our forecasted range of $50,000 to $100,000.

In the fourth quarter of last, we launched a 12 sample chip that targets approximately $300,000 markers known to be associated with cytogenetic abnormalities. The conjunction with this year’s American College of Medical Genetics Meeting, we announced that research at Baylor College of Medicine’s Medical Genetics Laboratories will use Illumina’s Infinium HD arrays to study a broad range of cytogenetic disorders. The meeting provided further evidence that this market is rapidly moving toward arrays for both research and clinical applications as over 60% of the cytogenetic posters and over 85% of the presentations involved microarray-based approaches. We view this rapidly growing $200 million market to be a significant future opportunity.

While we saw strong performance in array consumables during the quarter, shipments of our iScan system were below plan. Since this launch, we have indicated that we expected to ship fewer units of iScans relative to our legacy bead stations because of its significant increase in throughput, and we saw this effect in the first quarter. This throughput improves the value proposition for our customers by allowing scale of their laboratories with fewer scanners and results in material increase in the theoretical consumables revenue per system. Our consumable revenue per installed system was over $600,000 in the quarter, which is higher than the year ago quarter, but less than the fourth quarter. We do believe this figure will vary based on the timing of projects at customer sites.

Moving on to sequencing, demand for the genome analyzer continued to be very strong in the first quarter. In February, we participated in the AGBT Conference in Marco Island, Florida. At the meeting, we laid out our roadmap for system enhancements over the course of 2009, relying largely on improvements to the chemistry and analysis software. We now believe we will be able to achieve up to 95 gigabytes of data per run by the end of this year. When we achieve this goal, we will increased the throughput by nearly 100-fold since the beginning of 2008. Clearly, the results of these improvements are dramatically lower cost of sequencing and a commensurate expansion of the market.

We remain optimistic that we can push the technology well beyond even these projected levels, putting us in a very favourable position with respect to the forecast for new platforms that might be brought to the market in the next few years.

During the quarter, we announced an improvement to the GA instrument as well, offering an upgrade to what we now call the Genome Analyzer 2X. The GA2X allows capture of 20% more image area and provides for greater reagent volume enabling lock-away automation for read lengths to at least 100 base pairs. Response to this upgrade has been tremendous. We’ve already received well over 100 orders for the upgrade kit.

In addition to the throughput map that I just outlined, we’re working broadly to improve the usability and the versatility of our system. This will include software improvements, longer read lengths, simplification of the workflow, reduction of run times, and improved sample indexing. In combination, these improvements place us in an excellent position to continue our leadership of the next generation sequencing market.

During the quarter, we saw several major genome centers place new orders to increase their total capacity. In February, the Genome Center at Washington University in St. Louis agreed to acquire 21 additional GAs taking their total to 35. Toward the end of the quarter, Beijing Genome Institute ordered another 12 systems bringing its total installed base to 29, and just last week, we announced that the Broad Institute added another 22 systems to increase its installed base to 47 units.

While we received a large number of orders from major genome centers during the quarter, over 80% of Q1 shipments went to non-genome centers continuing to demonstrate the broad market adoption of the platform and demand for sequence data. In fact, we once again shipped a record number of GAs during the quarter with the annualized consumable throughput exceeding the upper bound of our forecasted range of $150,000 to $200,000.

Stepping back to take a broader view of our markets, we do expect a slowdown in the growth rate of genome-wide association studies over the next few quarters, as researchers await new content from sequencing projects such as the 1000 Genome Project to be incorporated on to microarrays. We expect the slowdown to be temporary as this content will drive a whole new round of rich genome-wide association studies based on rare variant content. In addition, we believe that trajectory of growth in our sequencing business will more than offset any slowing of growth in whole genome association studies.

Finally, we continue to see significant opportunities in the agricultural markets, particularly as more species are sequenced and the content moves toward array-based screening.

Now, I’d like to share our current view on the economic stimulus program and the incremental funding to be allocated to NIH over the next couple of years. We’ve been actively working with customers to help navigate the various types of grants and sources of funding that will become available in the near future, so they can determine how to best achieve their project goals. We have also implemented promotional packages that match the guideline set out in some of the NIH grant programs and are already seeing a significant code activity across all of our platforms. At this point, it is still too early to determine what the incremental impact of this stimulus will be to our markets and when that opportunity will be realized.

To date, there have been over 250 publications generated using the Genome Analyzer and coupled with the performance improvements that we’ve implemented, we think the GA is in the sweet spot of where we anticipate incremental demand.

To conclude, our financial results demonstrate our ability to execute both commercially and in our research and development programs. We significantly improved gross margin sequentially and year over year and generated record cash flow from operations. Our Singapore facility is firing on all cylinders and helping to lower our tax rate and provide opportunities for future capacity expansion. Our markets remain robust, as we still do not see any material impact from the broader economic environment, and demand for sequencing continues to accelerate. Our product pipeline is the richest it has even been, enabling us to continue our record of innovation and providing great growth opportunities over the next few years.

Thank you for your time, and we’ll now open the lines for your questions.

Question-and-Answer Session

Operator

(Operator Instructions). And your first question comes from the line of Ross Muken - Deutsche Bank.

Ross Muken - Deutsche Bank

I wanted to dig in a little bit to your comment about the slowing in whole genome studies and the sequencing. Can you talk a bit about the dynamics there between obviously the need for content, but also the fact that some of the work is moving on direct to sequencing, or are you seeing some of the designs of studies change, so that the applicability is more so done on a sequencer than on a microarray-based platform?

Jay Flatley

We’ve seen tremendous growth in the micro-array business over the last few years, and the point we’re making is that we think the growth in that market is going to slow down. The market isn’t going to shrink. What we expect is that customers are going to be finishing up existing projects and maybe holding up starting of the next one until some of these new chip versions come out, and that’s going to start to happen over the next few quarters, so we do think this is a temporary phenomenon. With respect to moving over to sequencing, we are seeing great progress in expression applications moving over to sequencing. In fact, we’ve seen very high consumable rates and good increases in the consumables onto the sequencer. We’re certainly seeing things like methylation and chip seek moving over to sequencing applications, but we don’t see in any timeframe we can imaging genotyping moving to sequencing as a replacement technology, so we feel until sequencing gets to be well below $1000 that customers will remain focused on doing genotyping when the content is known and the targets they are trying to interrogate are very well known.

Ross Muken - Deutsche Bank

It was just an article I had read in the New England Journal of Medicine which suggested that certainly there is quite a bit of array work to be done, but it seems like a lot of the new projects that are coming along or the types of studies people are designing, there is a lot more interest given the high level of success on your platform that a lot of the new focus is shifting towards to the sequencing side.

Jay Flatley

There is certainly no question that the sequencing market is the fastest growing segment that we know of, so clearly dollars are flowing the next-gen sequencing in a big way. Maybe you could theorize that temporarily some of the dollars are going to be diverted from arrays into more sequencing projects, but we certainly don’t see at least as it pertains to genotyping that if you looked out in a timeframe greater than 6 months that that’s really going to be the case. Of course, in some sense, we’re indifferent to this shift because we’re the only company that has both technologies.

Ross Muken - Deutsche Bank

Relative to the stimulus, the comments you made around quote activity, etc., I looked the web site you guys have put up. It’s quite different, I think, than some of the approach your peers have taken. It seems like you’re being far more proactive. Is there anyway you can quantify even on a relative basis the increase in activity or the increase in inquiries or quotes or web site hits or whatever is the most relevant thing is to give us a sense for the activity shift change and what the average bed scientist is thinking about now today with the stimulus in his back pocket relevant to maybe what we’ve seen with activity in the fourth quarter?

Jay Flatley

We’re a little to quantify it only because we really don’t know exactly yet how much is going to come our way and when it’s going to come, but I can say qualitatively that once the package was put out there and there was a little bit of specificity around what kinds of grants and what the buckets were going to look like, our quote activity went up dramatically, and we’ve seen this across the normal types what you might everyday projects and instrument acquisitions that you might expect, but the other things we’ve seen are proposals for very bold projects that people probably couldn’t have conceived of 6 months ago just because they never thought they could get a bolus of money of that magnitude, so I do think there are going to be some very large projects financed. We just don’t know exactly what they’re going to look like right now, so we’re a little reluctant to quantify it. In fact, we saw in Q1 the stimulus package actually hurt our order rate, we think, because there were definitely some customers who decided not to place orders in Q1 with the hope that they would get stimulus money in Q2 and use that money as opposed to some other pot of funds, so I think in some ways stimulus was a little bit negative for us in the first quarter.

Operator

Your next question comes from the line of Doug Schenkel - Cowen & Co.

Doug Schenkel - Cowen & Co.

On April 16th, the Broad order for 22 new Genome Analyzers was announced. On the 20th, you announced the 12 instrument BGI order. Doing simple math, that gets you to 33 instruments announced in the quarter. My understanding is that more than half of the Washington University order is going to be shipped in Q2, so this takes you north of 40, maybe even 45 instruments, that could be revenue recognized in the second quarter. If that were the case, it would seem like your Q2 revenue guidance should be higher. If this in fact is simply a function of revenue recognition timing, that’s fine, but if it isn’t, it would be helpful to understand what other dynamics in play. Specifically, are you expecting any change in the pace of placements outside major genome centers over the next couple of quarters or is there anything that you’re doing differently when it comes to pricing?

Christian Henry

Some of the orders were shipped a little bit in Q1; the majority will be shipped in Q2, but it’s really the revenue recognition, so you’re going to look at this spread over the next few quarter with respect to these particular orders, so I wouldn’t take that we put these press releases out in tight succession as any indication of the timing of when we’re going to recognize the revenues, and typically we don’t talk about the revenue recognition on any particular deal, but you’ll see the revenue roll out, a little bit rolled into the first quarter, some will roll in the second, and some will probably roll in the third as well.

Doug Schenkel - Cowen & Co.

Retuning to iScan, you said that iScan placements were disappointing. You attributed this to improved scan time and also to the fact that there is some new content coming off the 1000 Genome study which will probably slow down other studies. I just wanted to make sure there were no new competitive dynamics that came into play during the quarter that would have resulted in iScan placements slowing or utilization slowing, for that matter.

Jay Flatley

There is no new competitive dynamic, Doug, and what we said precisely was that the iScan number was under plan for the quarter. Interestingly, we felt exactly the same thing in Q1 of ’08, so exactly the same pattern, so we may have a planning process revision we need to do here because historically Q1 is always the slowest order quarter in the life sciences industry, and that’s consistent across all companies and consistent in our business for years, and I think we just overplanned iScan in Q1. Our pipeline for iScans going forward looks great.

Doug Schenkel - Cowen & Co.

Is there anything regarding stimulus funding that’s in your guidance at this point? I know before there wasn’t anything in guidance.

Christian Henry

We haven’t put in anything specific for stimulus. As I mentioned, there are some large projects, and we certainly haven’t put any of those in. As we begin to look forward in our pipeline, the way we do guidance is we look at what is in our sales force/pipeline, and we measure that out two to three quarters. I think a quarter from now, we will begin to have some of those orders and prospects actually into that pipeline, and so it will become sort of intrinsic in the guidance and our view of what the business might look like in Q3 and Q4, but there is nothing exclusively in our guidance now.

Operator

Your next question comes from the line of Tycho Peterson - JP Morgan

Tycho Peterson - JP Morgan

Following up on the question on some of these large orders that you’ve talked about, I’m just trying to get a sense as to whether you’re seeing this as a natural step up in the build out of the genome centers or are they stockpiling ahead of some of these sequencing dollars or is there a competitive dynamic, maybe they are losing researchers to the smaller labs. I am just trying to get comfortable with the timing given that the sequencing dollars haven’t really started to flow.

Jay Flatley

Is this with respect to the comment I made about potential large projects?

Tycho Peterson - JP Morgan

Yes, and also the Broad order and Washington University.

Jay Flatley

Those orders were not related to my comment. My comment really relates to tackling projects that might not have been even conceived as being possible before because there are potentially very large pots of money that could become available in the stimulus, and you could think of these as being things like maybe we should go sequence 5000 people, and that’s not something that would have nominally been fundable under the standard NIH budget, but might be under stimulus, and so those are the kinds of things that are over and above the baseline business, and so none of the orders that we’ve talked about with any of the genome centers or the planned scale up of the genome centers is related to those projects. The projects would be incremental.

Christian Henry

I think Tycho the simple fact is that the genome centers are running at full capacity, and they needed more capacity to satisfy the demand for sequencing, and so that’s why you saw Washington University early in the quarter, BGI, and Broad at the end of the quarter, and I think our expectation is that the demand for sequencing is continuing to accelerate here even independent of the stimulus, and so we’d like to take advantage of that.

Tycho Peterson - JP Morgan

Can you just comment, Christian, on the margin improvement? I don’t know if you can give any other color as to how much of that was a function of mix versus the new kits versus Singapore. Any additional color you can give there would be helpful.

Christian Henry

Sure. Obviously the mix is always important. On a sequential basis if you look at it, effectively instruments were flat, so the revenue growth came from consumables, which are higher gross margin, but if you look in the gross margin of the consumables, we are seeing meaningful improvements in gross margin in sequencing consumables, one because the reformulated kits have really taken off and have been broadly adapted by our customers, and two, we’re scaling up so quickly that we’re really starting to effectively absorb our capacity and overhead and so you’re seeing a nice benefit from that. The other overarching thing that Jay pointed out and maybe I did as well in the comments was pricing has been very stable in both markets, and really for array side of the world, instruments, as well as the sequencing side, both instruments and sequencing kits, so we’ve had a nice pricing environment, and we continue to make significant progress in manufacturing. In Singapore, our costs are lower, and we’re getting some benefit there, but it’s not so dramatic that it’s the key driver of the margin improvement, but it’s definitely something that I think you’ll see us continuing to evaluate whether or not we move more products over there over the course of the year and probably into next year as well.

Jay Flatley

We’ve also, Tycho, continued to make progress in improving the gross margins of the GA itself, and that’s driven both by continued improved overhead absorption because we’re using the same factory to make more units, but also the fact that we’re just reducing the material costs, and that’s through purchase price variance and value engineering on the systems, so we’re just continuing to get better in our ability to manufacture the system. It’s more stable from an engineering change perspective, and that allows you to refocus on cost.

Tycho Peterson - JP Morgan

As we think ahead, you’ve talked about semi-ordered arrays and some of these product improvements and then obviously Harmonia looks like it potentially has a nice consumable pull through. Is it fair to assume there’s a lot of head room on the margin side going forward?

Christian Henry

On the consumables?

Tycho Peterson - JP Morgan

Yes.

Christian Henry

Yes, I think we have more room on the consumables, and we’re going to keep working on the cost side, and the purchase price side gets better as the volume goes up, so all of those factors will help us. We’re going to continue to engineer the instrument as well, so we’re going to keep working it. The flipside argument is that sequencing will become a higher percentage of our business probably over the next quarters, and sequencing is doing great, but not quite at the margin levels of the array business.

Jay Flatley

You might have a macro mix factor as sequencing becomes a greater proportion. That would be a counterbalance to some of the improvements we’re making.

Christian Henry

Yes, but we have guided in this call to gross margins in the mid to upper 60’s, so clearly we’re doing better on the margin side.

Jay Flatley

Obviously a change to where it’s been historically.

Tycho Peterson - JP Morgan

Last one on the ag market, any economic sensitivity there, or what are you seeing I guess from a marco perspective in terms of the drivers for the ag business?

Jay Flatley

Still looks very positive. Haven’t seen any direct economic affects at all. In fact, our bovine chip was the fourth revenue chip in our lineup during the quarter, so it’s generating significant revenue for us.

Tycho Peterson - JP Morgan

And you said Bead Express was pretty positive for the ag screening as well.

Jay Flatley

Yes, the consumable on Bead Express were terrific, and they continue to grow nicely.

Christian Henry

We’re really started to turn the corner in our ability to scale up production, scale up the instrument production as well as the consumables, and we’re seeing quite a bit of demand out there for thr products, so I think that’s an exciting part of the portfolio for us right now.

Operator

Your next question comes from the line of Marshall Urist - Morgan Stanley

Marshall Urist - Morgan Stanley

I was wondering if you could help us a little bit better understand the sequential dynamics around iScan consumable pull through. I know you made some comments, but if you could just help us understand there what happened from 4Q into 1Q, and then also what’s contemplated in guidance on that front, and do you think we’re stable around where you are right now?

Christian Henry

I think the single biggest impact is just the overall seasonality in order rates. Q4 tends to be a very strong order quarter, particularly for arrays. Customers have money they want to spend in the fourth quarter, and so it’s a strong order quarter for us, and Q1 has classically been sequentially a drop in orders as far back as I can remember for us and even in my prior company, so no surprise that the order rate would have gone down, and I think that’s the primary effect that you saw in the first quarter, and I think the secondary effect might be the fact that there are some people that are beginning to wait a little while to do the next version of the genome-wide association study for the next generation of chips coming. That was what was behind my comment that I think the growth rate might slow a little bit in the array business for whole genome association, not for the other parts of the business, but just for whole genome association.

Marshall Urist - Morgan Stanley

For the assumption in guidance around that, is it around where it is today?

Christian Henry

I think roughly the ranges we’ve been is where we ought to model it. We are in the same range as our history, so it’s not really any different than what we’ve seen. Last quarter was a really high, as Jay pointed in the fourth quarter, and also if you look at it, it was significantly higher than Q1 of last year, so from our perspective, we see the consumable part of the array as being strong, and yes the growth might be slowing for a period of time there, but we feel confident in it.

Marshall Urist - Morgan Stanley

The next question was again around you comments about people waiting to do the next round of genome-wide association studies. Can we just walk through what is your perspective in terms of what product introductions might be? Are we waiting for 1000 Genome’s output before those then get validated and rolled into a new product, and what kind of timelines might that happen for your guys?

Jay Flatley

The first comment I’d like to make, Marshall, there is that everybody should realize that these projects are continuing in scale, so it’s not that everybody is going to sit and wait beginning in Q1. There are out of face with each other. There very large projects continuing. This is just at the margin that we’re seeing some people decide to wait, and what they will wait we think is the content to begin to emerge from the 1000 Genome Project. That content is already emerging; however, so we’re already getting public information put into the databases from the 1000 Genome project, and that will continue at a very high rate here over the next quarter, and I think through the course of this year, you will begin to see products begin to contain incrementally more information from what’s going on in the 1000 Genome Project.

Marshall Urist - Morgan Stanley

Is that sort of a back half event from the new product flow right now?

Jay Flatley

We’re not going to get anymore specific about it than that, and don’t think of this either as sort of a digital event where one day you didn’t have it, and the next day you did, because there will be chips that will come out that will have increasing percentage of content that comes from these rare variation projects, and an ultimate chip might be two years away by the time people really get done discovering all these and screening them, but there will be products that contain increasing amount of rare-variant information.

Operator

Your next question comes from the line of Quintin Lai – Robert W. Baird.

Quintin Lai – Robert W. Baird

Jay, I remember several years ago and several hundred million dollars of revenue ago when we were talking about what happens after the Hap Map, and you made the same comment then that as content comes on then new projects start to come up. Is this analogous to what you think will go forward?

Jay Flatley

Yes, that’s exactly what happened, and what was it, four years ago, when we did a project called the Hap Map, and nobody was doing whole genome association because we didn’t have great content to do it, and the last couple of years, we have done round one of genome-wide association. I think the hopes were high that that project would produce all the great answers to disease association, and it didn’t quite do that, and so I think we continue to realize that the biology is more complicated and what’s happening now is the second phase of that, so we’re discovering more snips, and it’s logical to believe and I think scientists generally do that rare variation is going to critically important in making these associations and that’s the phase we’re entering into now, and so we predict and we’re very confident that there’s going to be another broad round of genome-wide association with next generation chips.

Quintin Lai – Robert W. Baird

With respect to this last quarter, it sounds like the GA was really strong. With the instrument placements 80% outside the genome centers, are you seeing any commercial big pharma/big biotech interest, or is this still mainly the academic and government side?

Jay Flatley

There is definitely commercial interest, and as we’ve stated before, we think if you’re going to be a player in molecular biology going forward, you have to access to next gen sequencing. It’s going to become a pervasive tool in any research lab that’s doing molecular biology, and so I think that pertains as much to the commercial customers as it does to the academics, so we certainly see pharma buying these machines, we see the ag companies buying these machines, we see discovery companies buying the machines. What you’re not going to see is large scale programs ramped up in front of us, so we just don’t think compared to what happened in the ‘90s that we’re going to get an order for 30 sequencers from a large pharmaceutical company. What will happen is that every lab in those companies will have one or two sequencers with them.

Quintin Lai – Robert W. Baird

Christian, with respect to hedging, you mentioned this quarter was $3 million FX impact on the ex-US money. Is that right?

Christian Henry

Yes.

Quintin Lai – Robert W. Baird

That’s incremental or I guess new to your guidance. You weren’t expecting that. Were you?

Christian Henry

Well, we were expecting some, but it turned out to be a little bit bigger than what were expecting, primarily due to the fact that more and more of our customers have converted to local pricing and pricing in local currencies. If you remember, middle part of last year, we implemented local pricing to give customers some flexibility, and quite frankly not that many customers adopted it in the middle part of the year. Towards the end of the year, more and more did and now in the first quarter, even more have, and so the exposure was created, basically really the accounts receivable in Euros and Yen in particular, and so now we’ve got enough experience that we can implement an effective hedging program, and so in April, we started our first hedges of our monetary exposures, and we’ll be monitoring it and forecasting. This was a little bit more than what we would have expected, but it’s impossible to predict what the currencies are going to do, and now I think our customers have settled in on local pricing, so now it’s something that I can predict and we can manage as a business going forward.

Quintin Lai – Robert W. Baird

So the guidance that you gave, the revised guidance includes an additional cost now for hedges.

Christian Henry

That’s right.

Quintin Lai – Robert W. Baird

So, it absorbs those costs?

Christian Henry

Absolutely.

Operator

Your next question comes from the line of Bill Quirk with Piper Jaffray. Please proceed.

Bill Quirk – Piper Jaffray

Just wanted to follow up on Quintin’s question, Christian. What was the topline impact from Forex given that you are now doing deals in local currencies?

Christian Henry

It really wasn’t super-significant. I mean it was really hitting us on the AR side, basically the realized, because our functional currencies in all of these territories are USD. We are really focused on the balance sheet and the monetary aspects there.

Bill Quirk – Piper Jaffray

Jay, when do you guys expect to see the impact of that? Obviously, you think you have a negative impact in the first quarter, but what about the positive impact?

Jay Flatley

I think in Q3 we may begin to see the first dribbles of it. Certainly we expect to see some in Q4, and then hopefully a material impact in 2010, so we’re going to wait and see and tract what our pipeline looks like and we’ll have some early warnings in our pipeline as we begin to get confidence that these quotes are going to turn into real orders.

Bill Quirk – Piper Jaffray

Turning the question around a little bit, Jay, if we saw an impact from folks holding off in the first, how confident are you that as you guys think about guidance, that we have appropriately modeled that for 2Q?

Jay Flatley

I think we’re very confident. Our core pipeline looks great. The kinds of things that we’re measuring for Q2 do not depend on decisions that people will make with respect to stimulus, and we think some of the orders that were postponed in Q1 will come in in Q2, and because it’s so close in, we don’t think it’s particularly that big a risk for us, so we’re really comfortable with Q2.

Bill Quirk – Piper Jaffray

Also if we think about some of the longer term implications of the new market discovery from sequencing and we think about that in the context of your array R&D, it sounds like new markets are coming in at a pace that we can absorb them pretty readily into R&D, and we shouldn’t expect to see any shocks to that line in the near term?

Jay Flatley

That’s right. We don’t have any plans to boost R&D in some significant way that would be unanticipated by you or by us, and that even includes our diagnostics work which is folded into the guidance we’ve given us.

Bill Quirk – Piper Jaffray

Can you give us an update just on the timing for Harmonia, the CLIA lab, and then ovarian cancer?

Jay Flatley

Let me give you a broad update there. We’ve been working real hard on the CLIA lab, and we’re making great progress. We expect o have an update for you that’s more specific probably in the next quarter or so on the CLIA lab status. We’re also making good progress toward our 510-K filing on BeadExpress and so we think we’ll have some updates for you there as well. In terms of sequencing for the cancers, acquisition of the samples has been a little slower than we might have anticipated, but we now have samples ready for sequencing, and we’re beginning that part of the project in earnest now, and so we’ll begin to actually pump out sequences pretty quickly here in the next quarter or so. With respect to Harmonia, I guess what I can tell you today is it’s on track. So we continue to expect that product to be available roughly year end.

Operator

Your next question comes from the line of Derik De Bruin – UBS.

Derik De Bruin - UBS

Christian, could you walk through the interest expense line again and what’s going on. I got distracted unfortunately, and didn’t catch all of it during the presentation.

Christian Henry

The simple way to think about it Derik is that we had take $4.7 million of expense associated with the convertible debt, and then we had $3 million of currency loss, and that $3 million of currency loss effectively offset our interest income, and then we also had the normal interest expense of roughly $900K or so, associated with the convertible debt.

Derik De Bruin - UBS

You put out a press release the other day talking about your relationship with Agilent and the targeted resequencing. How does this product compare with some of the things that Roche and NimbleGen have been doing? Could you just talk about the whole debate on targeted re-sequencing versus whole re-sequencing, and where is the market leaning towards right now?

Jay Flatley

We continue to believe that targeted re-sequencing is going to be a huge opportunity. The technology for doing targeted resequencing isn’t perfect yet in anyone’s product. We think what we’re doing with Agilent is the best there is today, and it’s working quite well, but it could always get better, so based on our evaluation, and we’ve done a broad evaluation, both internally and with our customers, our judgement is that the Agilent product is the best, and that’s why we did a co-marketing agreement with them.

Derik De Bruin - UBS

Do you see expanding collaborations along with other players in this area, thinking of RainDance and some of those companies that are out there?

Jay Flatley

We always continue to evaluate those technologies, and we have, and obviously we’re continuing to do a lot of work internally on front-end sample prep to make it easier for customers, more user-friendly, more versatile with different applications, so we’re continuing to invest internally and we watch all of the potential new technologies out there, and as you probably have seen from us in the past, we’re not averse to working with others where that technology might be better than what we have in house, so we’ll keep an eye on it.

Derik De Bruin - UBS

How sustainable is the high 60s gross margin number? Are we going to see potentially a lot of fluctuation in that quarter to quarter, Christian?

Christian O. Henry

It’s obviously dependent upon the mix and the pricing environment, and assuming a stable pricing environment and similar mix, I do think we have the pieces in place to…in our guidance we said mid to upper 60s, if those assumptions continue to hold, there is no reason why we can’t continue to operate at these levels where we achieved this quarter, but once again, it depends on the mix and the pricing environment.

Derik De Bruin - UBS

With the lower iScan in plan, was that beneficial to the gross margin this quarter?

Christian O. Henry

Yes, that would help a little bit of course the instruments are typically lower than the consumables, but even if it was equivalent to last quarter, we are seeing fundamental improvement in the gross margins in particular in the sequencing business, and I think that’s giving us opportunities to create leverage. One thing we’ve talked a lot about is that we do believe that there are opportunities to improve our leverage on that gross margin line over the course of 2009, and the first quarter was really the first example of that, and we had a very strong performance there.

Derik De Bruin - UBS

You said you had about 100 orders for upgrade kits. How much of your installed base is upgraded?

Christian O. Henry

We actually said well over 100. We didn’t give the number, and at this point, virtually none of our installed base is upgraded. We’ll be doing those upgrades over the course of the second and third quarters.

Derik De Bruin - UBS

How many of your customers to you expect to upgrade?

Christian O. Henry

We think that if you were to look out sort of toward of toward year end that it would be in the 80-90% range, so there’s such a dramatic performance enhancement from this upgrade that we think virtually everybody will adopt, unless for some reason they can’t get us on to do it.

Derik De Bruin - UBS

When you look at the roadmap you presented to expanding the GA at AGBT, would this upgrade basically be enough to get you to some of the targets that you’re talking about towards year end, or will there have to be an upgrade to get to the 100 G pull-through?

Christian O. Henry

This is one piece of the roadmap, but it’s the only piece that’s related to hardware, and so everything else has to do with software chemistry and density on the flow cells.

Operator

Your next question comes from the line of Isaac Ro - Leerink Swann.

Isaac Ro - Leerink Swann

Regarding the development of semi-ordered arrays and Harmonia, can you may be detail a little of what you think the key hurdles are for you guys, either technically speaking or maybe operationally, between now and launch time, and secondly, what kind of interest are you getting in either of those two platforms?

Christian O. Henry

Well, the semi-ordered arrays, we’re not actually offering to customers yet, so there’s no demand for that other than the theoretical demand the people would have for it. The key technical hurdle in semi-ordered arrays, first is to pick the optimal method, there’s lots of ways of doing it and we’re exploring a number of different options and working to make sure we pick the best one and one that’s the easiest for customers to use and it keeps the work flow very simple; so, that’s really the focus, and we want to make sure that we have the ability to push this as far as possible over even beyond what we’ve committed to by the end of this year. With respect to Harmonia, there’s not much invention involved in Harmonia; it’s really implementation and it’s just an engineering project to create a fluidics module that interfaces into the iScan imaging platform and in making the changes in the iScan system to deal with the introduction of fluidics and how the software has to work in iScan. So, it’s not really a project that has technical risk, it’s really one where you just have to work through it.

Isaac Ro - Leerink Swann

Okay, and then just on Harmonia, have you had any customers actually voice interest in that, that was sort of what I was getting up for?

Christian O. Henry

Yes absolutely, because it’s out a little way in terms of its availability, not many customers are ready to place orders yet, but there’s a tremendous interest we think, and as we get closer and closer to launching the product, we think that’s going to ramp up significantly. So, we’re as bullish as ever about this configuration, we think it’s going to be a great transition in product for customers using arrays for those who want to do targeted sequencing after genome-wide association and also for customers who want to do applications like expression and methylation.

Isaac Ro - Leerink Swann

Okay, and then just in terms of diagnostics, I know you mentioned your progress that you’re working on for the ovarian side, but over the last year or so, there’s obviously been a lot of speculation that you guys would potentially acquire other assets, would you further say that is it something where you’re perhaps seeing the prices are still too high for you liking or are you seeing a lack of compelling assets out there, any reason why you guys haven’t been more active on acquisition of diagnostic assets?

Jay Flatley

Well, we’ve continued to look and we’ve been presented with lots of different opportunities there. You have the classic problem of the ones that are inexpensive are the ones that are not that valuable to us and not going to help us that much, and the really great companies with great business models are doing well; so, that’s a classic tension in any acquisition situation. We also want to be very cautious about anything we do because we’re a company that has high growth rate and we’re very profitable, we need to be careful about any combination we mean to our financials and how rapidly we could work through any volition that we come with an acquisition; so, we’re being very cautious there and we want to make sure that whatever we do if we do do something, it’s strategically very consistent with the direction that we’re moving and can advance our diagnostics in a significant way. So, we don’t want to be impatient about this and make a mistake, so we’d rather be patient and get it right.

Isaac Ro - Leerink Swann

And then lastly, Christian, just wondering on tax rate volatility, how much could we see throughout the course of the year depending on that ramp in Singapore, do you have a range on tax rate?

Christian O. Henry

I don’t think it’s going to be really that volatile from where we are today; we’re talking about 33% in the guidance; one thing about tax rate is that you’ve got to kind of predict where you’re going to be for the whole year and then book it in each quarter, so, I don’t expect it to be dramatically viable if we are dramatically volatile over the course of the year quite frankly.

Isaac Ro - Leerink Swann

Okay, and then just lastly on pricing, you said that in arrays you haven’t seen much at all, but obviously, just to name a competitor, has been working on gene tagging trying to get more adoption for that, do you have any concern or are you seeing in the marketplace any pressure from customers who might be getting better pricing on that because of that type of a product?

Christian O. Henry

Gene tagging is not yet available for genotyping as far as we know, so it’s only available for expression, and I think that’s a market that we compete in very effectively now with our HT12 product, it’s very aggressively priced and I think we’re doing great; so, I don’t think we’ve seen any pressure. Obviously, there are strong competitors and we’re going to watch very closely what they do in the genotyping space and do everything we can to remain very very competitive when they do that.

Operator

You next question comes from the line of Zarak Khurshid - Caris & Company.

Zarak Khurshid - Caris & Company

A majority of my questions have been answered; speaking of expression, more broadly, what’re you guys seeing in that space currently?

Jay Flatley

Well, we said in the script that we’ve seen very strong growth in expression year-over-year and sequentially in the array business, year-over-year growth is 23%, so we continue to do quite well on the array side. We’re also seeing lots of customers using our kits for doing expression on sequence servicing; if you look at the state of consumables year-over-year, Q1 to Q1, on the sequence service the numbers are up by about a factor of 3 in terms of how many kits are being ordered for doing expression on the sequence service. We continue to be really optimistic about the potential of expression and using sequencing because you can get so much information that you could never get from array, and so we’re going to continue to push over the next few years to advance our technology, drive the cost of doing it down and that largely can be done by indexing, and once we do that, we think half the market or more will move forward to sequencing.

Zarak Khurshid - Caris & Company

And then just a quick followup, could you talk to us a little bit about your current headcount and what the growth plans are there for this year?

Christian O. Henry

Yes, we’re about 1550 people roughly, and we mentioned in the call the last quarter that we expect to add somewhere in the range of 400 people to the company during the year. We’ve been disciplined in terms of our expenses in Q1 and so we’re running significantly behind that pace right now, and we will continue to monitor that and decide as we go forward how many will actually add to that; that’s sort of what the budget range is for us.

Operator

Your next question comes from the line of Matthew Scalo - Canaccord Adams.

Matthew Scalo - Canaccord Adams

On the GA2X upgrade, is that a physical replacement of the system or is it as you mentioned the kit and therefore kind of an installation tweaking process?

Jay Flatley

It’s a field upgrade that’s very straightforward, it does involve some small pieces of hardware with change in the manifold on the system and replacing little boxes that stores the reagents and shows the reagent; so, it’s done by a service technician in the field, so it’s very straightforward to do.

Matthew Scalo - Canaccord Adams

So, the system can hold higher level of reagents as walk-away time increases?

Christian O. Henry

Right, when the system was originally designed, we made such great progress in read lengths that we had never anticipated we’d be pushing up through 100 and out to potentially 150 in read length and so we didn’t design it to hold enough volume of reagents to support that long a read and so what this does is, it allows customers to put in more reagents so they don’t have to top those off during the run, and then the manifold change is really a very simple engineering change that simply increases the amount of imageable area by changing the physical relationship of some parts so that the objective is one can actually move over and scan more of the flow cell than it does today, so it’s just a simple change in how it is designed.

Matthew Scalo - Canaccord Adams

And so could you do those well over 100 orders, could you install those in say the second or third quarters here where we’re talking about, it will be spaced over time throughout 2009?

Jay Flatley

We certainly could do 100 over two quarters, we won’t get 100 done in Q2.

Matthew Scalo - Canaccord Adams

And then just a macro-level question about the larger Genome centers and the press release that you’ve had on the sequencing side, are you seeing that these large centers are kind of hitching their wagon to one horse on the sequencing platforms or is it a reflection more of volume and activity level?

Christian O. Henry

We’d say we feel really good about our market share and competitive position in the Genome centers; there’s a number of them that have committed exclusively to our platform, and most of them are using Illumina as their principal platform, there’s a few that are using alternative technologies, but we feel like we have a very small market share in the Genome centers.

Operator

Your next question comes from the line of Davis Bu - Goldman Sachs.

Davis Bu - Goldman Sachs

If I could actually follow up on the last one first, can you give us some color on what your market share or order wins are outside of the Genome center? I know you’ve given us some color in terms of what percentage of your placements have been there, and I’m asking this kind of in the context of the stimulus package and may be new customers coming online and what we might be able to expect there in terms of your share.

Jay Flatley

We’ve given some of the information out that we think our market share is more than the combination of all the other competitors and we continue to believe that. It’s a little hard to get specific numbers particularly if you’re trying to judge revenue systems versus non-revenue systems that are placed for evaluation or on contingency, but we do think that our market share is 50% or higher and we intend to keep it there or grow.

Davis Bu - Goldman Sachs

Two followup questions from the previous questions; the first is with the upgrade kits, is it safe to assume that the GA2 upgrade kits as distinct from the GA2X upgrade kits, and similarly for the beta-ray upgrades, and related to that, do you plan on booking these as instrument sales or consumables sales?

Jay Flatley

If I understood your question correctly, the GA2s that are in the field are all upgradable to GA2Xs through this upgrade kit that customers order. We’ll begin to ship and most of the Q2 shipments out of the factory will already be GA2Xs and so those won’t require upgrades.

Davis Bu - Goldman Sachs

I was thinking about the previous upgrade kits and the trade-ins actually; I was thinking of the iScan trade-ins and the Genome analyzer 2 upgrades from the genome analyzer classic, can we presume that those are all completed?

Jay Flatley

Yes, for the most part; probably some old GA1s are out in the field, but they’re very very few, and with respect to iScan versus BeadStation, which I think was the other part of your question, the BeadStations are great machines for a lot of the installed base and they continue to run just fine for a lot of customers and so we think a transition to iScans will take a long time there because anybody that’s buying new systems of course buy the iScan, but not everybody needs six times the throughput of the prior system, and so that will be a gradual turnover from the installed base.

Operator

Your next question comes from the line of Jonathan Groberg - Macquarie Research Equities.

Jonathan Groberg - Macquarie Research Equities

Just a quick clarification and then a question or two; are the accrued compensation charges with Avantome, are those cash charges over 3 years or are those non-cash charges?

Christian O. Henry

Those are cash charges over 3 years.

Jonathan Groberg - Macquarie Research Equities

Just out of curiosity, why do you exclude those just because they’re associated with the acquisition and they are going to go away after the three year; that’s the deal?

Christian O. Henry

That part was not contingent; so what we did was we had to take the whole purchase price of the transaction and it’s just the way we allocated the dollars. There is a cash component and a non-cash component, and it’s just how we decided to allocate between the different elements of the transaction.

Jonathan Groberg - Macquarie Research Equities

It’s not like you’ve already paid the entire cash component and you’re just amortizing. There actually is a piece of it that’s cash over the next three year; just so that I am clear.

Christian O. Henry

That’s right.

Jonathan Groberg - Macquarie Research Equities

I just wondering about margins because everyone started talking so much about the comments around iScan or whatever, but the margins are so impressive, and I guess on the one hand, you seem to be saying things that seem a little counterintuitive, I mean, you are saying that you’re still having over 85% of your wins outside of the genome centers, but your utilization rates seem extremely high; you said you were over the $200,000 per instrument annually on the consumables and I think when we used to talk before the view is more of these wins are outside of Genome centers or maybe they’re not running them 24 x 7 that that would come down, so I’m just curious what dynamic you’re seeing there given that so many of these are going outside of the Genome centers to keep that number so high?

Christian O. Henry

I think a couple of things; one is that we become much more efficient in installing these systems quickly and getting them up and running, and so if you look at last year, when we shipped a system, it might not be installed and fully operational for 6 or 8 weeks or sometimes longer once the customers got trained, and now, that goes much faster because we’re better at it, #1; we staffed appropriately to do those installations, #2; the other thing is that there’s many of these systems that are now the second or third systems that the customers purchase and so they already have one and the training they need to install and get the second one into production is very small. So, the start-up phase is going much more smoothly and more efficiently than it would have before. The second thing is that all the Genome centers are going into full production, and so last year, there was still a lot of experimenting going on with a reasonable fraction of the systems that they had installed, they were exploring new applications; if you think they had 6 or 8 systems, half of them might be what they call tech-dev, and that would be in full production, and now, all the incremental systems they’re buying will go right into full production and so they’ve just no delay, and those are the factors.

Jonathan Groberg - Macquarie Research Equities

And do you think that that number is sustainable or do you think that that number will come down, like before you said would come down as more of these wins are outside of the Genome centers?

Christian O. Henry

It’s hard to know; there’s not too many customers who are going to buy these instruments and let them sit around for very long; so we do think the utilization rates will be pretty high; so we could create arguments that would say it could stay at this level or may be drift back down to 150; it’s hard to know, but we think the general pressure is toward the upward side and so we’re feeling pretty good about where we’re at right now.

Operator

Your next question comes from the line of Dan Leonard - First Analysis Securities.

Dan Leonard - First Analysis Securities

Just want to clarify the currency aspect and its impact on your P&L. Was there a $3 million a quarter hit for currency and you’ve got the guidance you provided in February?

Jay Flatley

No, there was not. We didn’t know we were going to have this big of an exposure in our guidance for February.

Dan Leonard - First Analysis Securities

Christian, do you look at the exposure going forward as being about the same $3 million, is that $3 million a quarter number?

Christian O. Henry

I think we’re implementing the hedging program, so my expectation is that the exposure will be minimized from here, but there’s no question that our business is scaling in currencies outside of the US dollar and we are going to have currency exposures up and down, they’re difficult to predict on a given quarter of course, but we’re implementing a hedging program to try to minimize that exposure.

Dan Leonard - First Analysis Securities

So, to summarize your thoughts, you would expect there would be an exposure in forward quarters but it will be sort of $3 million?

Christian O. Henry

That would be my hope because the hedging program would be effect, yes.

Peter J. Fromen

That’s all the time we have for questions today. Thank you very much for attending the call. As a reminder, a replay of this call will be available in webcast format in the Investor section of our website as well as through the dial-in instructions contained in today’s earnings release.

Thank you for joining us today. This concludes our call and we look forward to the next update in July following the close of the second quarter.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect.

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Source: Illumina, Inc. Q1 2009 Earnings Call Transcript
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