Executives
Doug Farrell – VP, IR
Kevin King – President and CEO
Tim Barabe – CFO and EVP
Analysts
Quintin Lai – Robert W. Baird
Jon Groberg – Macquarie
Ross Muken – Deutsche Bank
Neha Sahni – Morgan Stanley
Brigham Hyde – Cowen & Company
Dan [ph] – UBS
Dan Leonard – Leerink Swann
Jeff [ph] – Goldman Sachs
Evan Morris [ph] – JPMorgan
Affymetrix, Inc. (AFFX) Q4 2010 Earnings Call Transcript February 2, 2011 5:00 PM ET
Operator
Greetings and welcome to the Affymetrix fourth quarter conference call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Doug Farrell, Vice President of Investor Relations for Affymetrix. Thank you, Mr. Farrell. You may begin.
Doug Farrell
Hi. Good afternoon, everyone, and thanks for joining us for the call. At the close of the market today, we released our results for the fourth quarter and fiscal year 2010. Joining me on the call today is our CEO, Kevin King, who will provide a commercial and operational update, followed by our CFO, Tim Barabe, who will provide a detailed review of our financial results for the fourth quarter as well as the full year. As a reminder, today's call is being recorded and the audio from the call is being webcast over our homepage at affymetrix.com.
During this call, we may make various remarks about the company's future plans, expectations, and prospects that constitute forward-looking statements for purposes of Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995. Such statements are subject to risks and uncertainties that could cause actual results to differ materially for Affymetrix from those projected.
These risk factors are discussed in Affymetrix's Form 10-K for the year ended December 31, 2009 and other SEC reports, including our quarterly reports on Form 10-Q for subsequent periods. We encourage you to review these documents carefully, as forward-looking statements are made as of today's date and we make no obligation to update this information.
So with that, let me turn the call over to Kevin.
Kevin King
Thanks, Dough. And good afternoon, everyone. I’ll begin my comments with an overview of our 2010 operating results and discuss the progress we are making in executing to our growth strategy within the markets of validation and testing. I’ll then turn the call over to Tim for a detailed review of our operating results.
In 2010, we made substantial progress in improving the fundamental of our business as measured by return to profitability for the second half of the year, annual free cash generation of more than $40 million, and double-digit growth within our strategic target markets of routine testing and validation. While we achieved good success in these areas, our overall revenues declined driven by a major slowdown in scientific services and lower than expected sales within the discovery segment of our business. Clearly, our number one priority for the future is driving top line revenue growth.
On the discovery side of the business, we continue to see strong demand for our products from both academic and pharma customers as measured by sustained double-digit volume increases throughout the year. That said, total revenues within the discovery markets were down approximately 5% over the prior year, as the adoption of lower priced products increased as a percent of total mix. This change in mix has occurred in both RNA and DNA and includes increased adoption of our array plate formats.
Despite lower revenues, we did generate higher gross margins in percentage terms and in absolute dollars. This was achieved through a combination of lower manufacturing costs spread across a higher volume base relative to the prior year. Within discovery, we believe that the customer sensitivity to price-volume changes will play well for the business as we focus on continuously improving our cost position and expanding our distribution reach into the marketplace.
As you know, we have been executing to a strategy that diversified our products and revenues into the large and high growth markets as cytogenetics, cancer testing, and the research in clinical validation markets. Our focus on these areas in 2010 resulted in double-digit revenue increases, and approximately 20% of our revenue came from these segments, an increase of approximately 12% over last year.
New product introductions remain an important part of our growth strategy, so now I’ll take a few minutes to give you an update on the trends that we are seeing, beginning with consumables. We’ve significantly expanded the range of our consumable products, beginning with whole genome and targeted assays on our GeneChip technology, spanning down into low plex and single molecule detection systems.
DNA, we had a successful first year of Axiom commercialization with rapid growth of the product to about 40% of our total DNA volumes in both the fourth quarter and throughout the year. Customer demand was driven by the assays’ outstanding performance and a platform’s unique ability to create customized offerings from 50,000 markers to 2.5 million markers per sample. About half of Axiom volumes in 2010 were custom designs.
Axiom is a powerful platform that enables rapid creation of new designs. For example, we recently introduced an important new product in the $500 million per year Ag-bio market. The Axiom BOS 1 Array, which was developed in conjunction with the Affymetrix Bovine Consortium of leading breeders and researchers worldwide, provides 35% higher genetic coverage than current alternative arrays.
The BOS 1 comprehensively covers the genetic trades from the most commercially relevant breeds of dairy and beef cattle, and these high-performing markers greatly increase the value of genetic profiling, giving breeders an accelerated path to higher quality beef and dairy cattle, thereby reducing the need for expenses and time-consuming phenotypic testing.
Additionally, we introduced our new GeneChip Rice 44K Array, the industry’s first high density genotyping array. This array was designed in collaboration with a worldwide community of rice researchers, and their goal is to improve the industry’s production with a low-cost, high-quality method for reliably identifying rice varietals and examining the genetic inheritance of important agricultural traits.
In October, we announced Affymetrix’s participation in the 1000 Genomes Project and began providing open access to an expanding base of validated SNPs. This partnership is allowing scientists around the globe to access the world’s largest database of validated contents and accelerate their research. Participation in the 1000 Genomes Project will provide Affymetrix with real-time access to the wealth of newly discovered and rare genetic variance that will be used to create even more comprehensive tools for genetic analysis. This will be an important growth driver for a new cycle of gene loss experiments.
Cancer and cytogenetic products are growing and expected to contribute to our growth in DNA revenue in 2011 and beyond. There is also growing interest among top cancer centers and pharmaceutical companies around the world for our revolutionary new OncoScan offering. Using OncoScan, molecular pathologists and oncologists are assessing all relevant cancer measurements in one simple assay that needed for patient risk stratification, therapy selection, and the discovery of new cancer signatures.
Given its outstanding performance in aged FFPE samples, OncoScan has the potential to accelerate large scale studies of thousands or even tens of thousands of patients, ultimately accelerating our understanding of and approach to treating cancer. OncoScan is currently offered as a service, and we are working it make it available as a consumable product in the future.
In the perinatal markets, we’ve seen a major shift by the medical community toward the adoption of Affymetrix microarrays over conventional approaches. The recent recommendation by the American College of Medical Genetics that array should be considered as a first-line tool for genetic studies is helping to accelerate that transition.
Throughout 2010, we expanded our dialog with FDA regarding the approach regulatory path to bring high-density cytogenetic arrays to the market, and we’ll keep you informed of our plans to file for clearance during this year. In addition, several of our PbA partners are advancing a number of cancer arrays through the regulatory process in both the US and in Europe.
On the RNA side of our business, RNA was down 8% from 2009. We believe that the price-volume dynamic previously mentioned contribute to about two-thirds of this decline or about 5%. The remaining of the decline was driven by the unusually strong comp for Q4 ’09 at $45 million. With the exception of Q4 ’09, our RNA revenues have been trending between $36 million to $38 million per quarter over the last eight quarters.
Instrument revenue grew for the year by 9% as a result of the introduction of GeneAtlas, increased adoption GeneTitan, and the expansion of our FDA-cleared Dx 2 instrument into clinical settings. In February, we launched our new GeneAtlas platform, making microarray technology available to a large market of new users. GeneAtlas is a complete personal solution for characterizing changes in gene expression in a variety of research applications.
Just a few weeks ago, we announced that we signed a distribution agreement with Fisher Scientific, under which they will sell the GeneAtlas system and its related consumables throughout the United States and in Canada. This is an important step in putting our industry-leading gene expression products within the reach of the large and fragmented global community of researchers. Training has started with the Fisher Scientific team, and we expect to see the benefits of this partnership beginning in Q2.
In 2010, we increased our install base of GeneTitans by about 75%. This in turn will generate increased volumes for our highly differentiated array plate formats that will enable higher throughput at lower cost per sample, including reduced labor and hands on time. Our installed base of instruments for clinical research and testing has grown to over 200 systems. This increased adoption by molecular and cytogenetic laboratories relates the instrument’s compelling menu of applications and proven robust workflows. The breadth of application menu today includes assays for cancer, cytogenetics, and PbA partner assays.
While we are not providing revenue guidance for 2011, I will provide several key business milestones along with major operating parameters related to margins and expense. First, we expect adoption of products sold into the validation of routine testing segment of the business to increase. We expect this to grow roughly to 25% of our total revenue in 2011, and over the next three years, anticipate that revenues from clinical and validation markets will grow to be 45% of our total revenue.
We expect instruments to grow, as we expand the distribution of our GeneAtlas platform with Fisher Scientific, increase our GeneTitan install base, and further penetrate clinical markets with new instrument placements. Our Ag-bio business will expand as the BOS 1 bovine array, rice array and other planned products gain lives for the adoption. OncoScan will establish a major presence at key cancer centers as an invaluable tool for the assessment of cancer samples. And we expect our gene expression discovery business to be down year-over-year by about 5 points.
Operationally, we are targeting to expand total gross margin by 200 basis points over 2010, to generate positive cash flow from operations in every quarter, and to achieve positive net income for the full year. Looking back on 2010, good progress was made in several areas of the business. We significantly improved the fundamentals of the company with improvements to gross margins, reductions in operating expenses, and positive cash generation. The business is now running at a roughly breakeven or better on a quarterly basis.
Revenue growth is the key priority for us to address going forward. We are aggressively pursuing a number of promising new markets with well-differentiated products, and while we know it takes time to realize the benefits of the strategy, we’ve got the business in order and we see a path towards long-term growth and increase shareholder value.
I’ll now turn the call over to Tim for a detailed review of our financial results.
Tim Barabe
Thanks, Kevin. I’ll begin my remarks by reviewing our financial results for the fourth quarter and fiscal year 2010 and then close with an update on our balance sheet. For the fourth quarter of 2010, the company reported total revenue of $84.9 million compared to $88.8 million for the same period last year. Total revenue was down 4% from prior year, driven by lower consumable sales. For the year ended December 31, 2010, the company reported total revenue of $310.7 million compared to $327.1 million in 2009, down 5%, driven primarily by service revenue, which declined by $19 million from 2009.
Turning to the detail, fourth quarter product revenue was $71.9 million compared to $81.0 million for the fourth quarter of 2009, representing a decrease of 11%. Consumables sales were $63.4 million, down 11.8% from $71.9 million in the fourth quarter of 2009. DNA revenue was $21.5 million, down from $25.0 million in 2009 or 14%. And RNA revenue was $36.4 million versus $44.9 million, or down 19% from the prior year. The product mix was about two-thirds RNA and one-third DNA and other.
For the full year, consumable sales were $252.2 million in 2010, down about 1% from $255.7 million for 2009. DNA revenue of $91.3 million was up 3% over 2009. RNA revenue of approximately $147 million was down about 8% from $161 million for the same period last year. As Kevin indicated, the revenue decline was driven primarily by a mix shift to lower price formats, as overall unit volumes increased.
Additionally, instrument sales for the quarter were $8.5 million compared to $9.1 million in the prior year’s quarter. Service revenue was $6.4 million compared to $5.9 million in the fourth quarter of 2009, and for the year, services revenue was approximately $20.6 million compared with $39.6 million in 2009. For the full year, service revenue was down 48%.
Royalties and other revenue were $6.6 million, which included a $4.8 million license payment received during the fourth quarter versus $1.9 million in the fourth quarter of 2009. For the year, royalties revenue was $12.4 million compared to $8.3 million last year. For the fourth quarter, operating income was $5.2 million versus $2.5 million in the fourth quarter of 2009. For the full year, we sharply reduced our operating loss from $33 million in 2009 to $5 million in 2010, a $28 million year-over-year improvement.
For the fourth quarter, net income was $4 million or $0.06 per diluted share. This compares to a net income of $2.8 million in 2009 or $0.04 per diluted share. And for the year, the company reported a net loss of $10.2 million or $0.15 per diluted share compared to a net loss of $23.9 million or $0.35 per diluted share in 2009.
Turning to gross margin, in the fourth quarter, total gross margin was $58.1 million, representing a decrease of about 3 points over the prior year’s quarter. While we generated higher margins for arrays and favorable absorption, this was offset by increase in excess and obsolescence costs driven by the portfolio review that we told you was underway during our last call.
While the majority of the E&O exposure is now behind us, we continue to assess our product portfolio and evaluate both low margin and low volume products, which may result in some E&O charges over the next quarter or two. For the full year, total gross margin percent was 57% compared to 54% for 2009.
Turning to operating expenses, total operating expenses for the fourth quarter were approximately $44 million or down 14% from the $51.3 million for the same period last year. For the total year, operating expenses were $182.7 million compared to $209.9 million in 2009 or a reduction of 13%.
Fourth quarter R&D expenses in 2010 were $15.5 million, down 9% as compared to $17 million for the same period in 2009. And for the full year, R&D expenses were $67.9 million, down 12% from $77.4 million in 2009. SG&A expenses in the fourth quarter of 2010 were $28.7 million compared to $34.6 million in 2009 or 17% lower. And for the full year, SG&A expenses were $114.8 million compared to $130.8 million in 2009, or 12% lower.
The company recorded net interest and other expense of approximately $300,000 in the fourth quarter as compared to a net expense of $1.1 million in the prior year’s quarter. On a full year, the company recognized a net expense of $2.9 million in net interest and other expense, which included a net gain of $6.3 million from the repurchase of convertible notes during 2010. This is compared to the net income and other expense of $9.1 million in 2009, which included a gain of $17.4 million from the repurchase of convertible notes.
In the fourth quarter, we recognized income tax expense of approximately $1 million, consisting primarily of foreign taxes. This is a similar amount to the amount of tax recognized in 2009. To facilitate the analysis of the company’s core operating results, I would like to summarize non-core adjustments to our net loss for the quarter and their impact on pretax earnings per share.
In the aggregate, these adjustments amounted to a net $1.4 million or about $0.02 per share increase in GAAP net income and include, within gross margin, $500,000 or roughly $0.01 a share for amortization of acquisition-related intangibles; in operating expenses, $1 million or $0.02 a share, again the amortization of acquisition-related intangibles; and in non-operating income/loss $400,000 or $0.01 per share related the gain from the convertible notes buyback; and $300,000 or less than $0.01 per share on interest income and other income related to an impairment write-down of non-marketable securities.
Let me take a moment to summarize our balance sheet. As we mentioned in last quarter’s conference call, we continued to actively evaluate our capital structure. During the fourth quarter, we bought back an additional 53 million of our 3.5% convertible notes, maturing in January 2013. The net impact of the buyback reduced our outstanding convertible debt to around $95 million and generated a gain of about $400,000. In total, we repurchased $151.7 million face value convertible debt during 2010, which saved us more than $1.5 million in net interest expense in 2010 and more than $3.9 million in net interest expense going forward.
We ended the fourth quarter of 2010 with total cash and available for sale securities of approximately $237 million compared to $346.6 million at the end of the fourth quarter of 2009. Our current net cash is more than $142 million, up from roughly $100 million at the end of 2009, and is growing. In the fourth quarter, the company generated about $23 million in cash flow from operations. For the full year, we generated more than $48 million in cash flow from operations, up from $9.5 million in 2009.
Capital spending was about $1.1 million, and depreciation and amortization was approximately $9.1 million, including amortization of acquired intangible assets. Operating expenses for the fourth quarter included $2.3 million of stock compensation expense as compared to $2.5 million in the fourth quarter of 2009. For the full year, capital spending was $7.7 million, down from $10.2 million in 2009. Net inventory at the end of 2010 was $49.4 million compared to $54.5 million at the end of 2009, down 9%. This reflects our continuing emphasis on improving operational efficiencies. For the full year, we’ve made steady operational improvements.
Let me summarize some of the highlights for 2010. Product gross margin expanded by more than 3 points. Operating expenses were reduced 13% or more than $27 million from 2009. Operating income improved by $28 million. Cash flow from operations was about $48 million positive. And subtracting capital expenditures, free cash flow was over $40 million for 2010. And we ended the year with net cash of $142 million.
At this point, we’d like to open the call for questions.
Question-and-Answer Session
Operator
Thank you. (Operator instructions) Our first question comes from the line of Quintin Lai with Robert W. Baird. Please go ahead.
Quintin Lai – Robert W. Baird
Hi, good afternoon.
Kevin King
Hey, Quintin.
Quintin Lai – Robert W. Baird
First question, did you say – did you give a number of how much validation and testing was as a percent of the overall revenues were in 2010?
Kevin King
Yes, it was 20%.
Quintin Lai – Robert W. Baird
Okay. 20%. And so then, as you look at your targets, Kevin, for increasing this, is there anything special that you’ll be doing on the marketing and sales front? Will it require adding any people or bringing any specialized sales in to help promote that?
Kevin King
Absolutely, Quintin. We are heavily into a re-balancing and remixing in the company resources not only on the commercial size, but on the ROE side, to make sure that we are well staffed and prepared to attack these global markets. So aligning ourselves with more specialists to sell to oncologists the molecular pathology, for example, versus the core labs that we traditionally call on is one example. I think the work that we’ve done with the Fisher Scientific partnership is an example of that. We feel very strongly about GeneAtlas as a product in the research markets, but rather than take that product to market through a direct channel with Affy, we chose to go in direct and then take those dollars and allow them to go into these higher value, higher growth markets for us.
Quintin Lai – Robert W. Baird
And then, as you guided to 200 basis points – is that right, 200 basis points of gross margin improvement in –?
Kevin King
For next year, yes.
Quintin Lai – Robert W. Baird
For next year?
Kevin King
For this year. I’m always in the – for this year, yes.
Quintin Lai – Robert W. Baird
For 2011.
Kevin King
Right.
Quintin Lai – Robert W. Baird
How is that going to roll out, because you talked about lower price formats, higher volumes? Is it just a volume thing or is there anything actually that you are doing on the manufacturing side?
Kevin King
It’s a blend. We are pretty balanced between the adoption of new products that have lower costs. To the point I made earlier in my prepared remarks, year-over-year our consumables were about the same, but yet our margins went up 3 points. That’s largely because of the new product adoption at lower price point – at lower cost, if you will. And then in addition to that, from an operational efficiency side, we’ve been doing a lot of work in things like excess and obsolescence, making sure that we’ve got the right materials in hand. I think you are well aware that there is expiry associated with a lot of products that we use, particularly on the reagent side, and we have room there. And we also have leverage in our manufacturing area, as volumes go up. We can push more of our overhead through on a per-unit basis.
Quintin Lai – Robert W. Baird
And then final question, I’ll jump back into the queue. You talked a little bit about the discovery and your expectations for expression to be down 5% in 2011. Is that – I think in prior quarters you talked about geographical, you know, Europe being maybe weaker, North America – can you give a little bit of color on how you anticipate geographical performance in 2011?
Kevin King
Specific to –
Quintin Lai – Robert W. Baird
Well, first the discovery and then just the overall trends that you are seeing right now.
Kevin King
Asia-Pacific continues to be our fastest growing segment. It was last year and I believe it was the year before. Within Asia-Pacific, the hot spot for us has been Japan, where a lot of funding for research used applications has been cut back. We’re hopeful that with the validation and testing products that we have, we can just grow back in Japan. The Americas, a balance of both academic and pharma, is probably the second in line. And then last year, I think Europe was certainly our weakest region, just going from recollection of numbers overall. As far as the segments themselves and the percentages – was that your second part?
Quintin Lai – Robert W. Baird
That’s it now from me. Thank you.
Kevin King
Okay. Yes.
Operator
Thank you. Our next question is from the line of Jon Groberg with Macquarie. Please go ahead.
Jon Groberg – Macquarie
Hi, thanks for taking the questions. I just have two questions. One, I guess, Kevin, some of your competitors in the array business have talked about that business still growing and some pieces are recovering, others continue to grow depending on kind of where they were. Do you have any thoughts – kind of latest thoughts on market share? I’m not sure how you slice and dice, so kind of what your sense is on from a market share standpoint.
Kevin King
Yes. I think within, what we recall, discovery with respect to gene expression and genotyping, it’s our view and it’s been substantiated by third parties and so forth that our share in gene expression continues to be in the 50% to 54% range, and that would be on a dollar basis. Genotyping, somewhere closer to 40% share, so not – and that’s on whole genome side. Not number one there, but number two. Roughly 40%.
And I don’t have great visibility to the cytogenetics competitor more so than we have conversion, the percent of people that are converting from karyotyping and FISH, which we think is about – somewhere around 15% to 17% of that market has converted, if you will, from those older technologies to arrays. And I think our business is likely to be the fastest growing from the array manufacturers within cytogenetics. Within cancer, we’re just getting started with OncoScan. That’s the product that’s been out for a couple of quarters. It’s kind of hard to tell. There really isn’t any competition or good competition for applications requiring paraffin-embedded samples for copy numbers. So I think that again that’s largely on our own.
Jon Groberg – Macquarie
Okay. Thanks a million. And then, if I think of these targets that you laid out in terms of the products in routine validation and clinical markets that you said to become 25% of sales by the end of this year and I think 45% in the next few years, can you just remind me – I can’t remember. Are most of those in the DNA bucket or in the RNA bucket when you guys give those numbers? Are they mixed between the two? I’m just trying to think of some way of kind of watching or seeing how those are going to grow.
Kevin King
Yes. It’s a blend between DNA and RNA. It is consumables based. So we’re not counting instruments per se. It’s – certainly on the DNA side, it’s cytogenetics, it’s our drug metabolizing transporter product, DMET. It gives the OncoScan products its DNA re-sequencing applications are used at a wide variety of applications at the academic medical center labs and so forth. So Quantigene View and Quantigene Plex products that are in there on the DNA and RNA side. We’ve got products from USB for – in some molecular biology categories with the PbA partner revenues that’s growing quite nicely in there. It’s a pretty good balance overall of both RNA and DNA. I think the fastest growing area will be cytogenetics and the OncoScan category, followed by the Quantigene View products that are just beginning to hit the market.
Jon Groberg – Macquarie
Okay, thanks. And if I could just one more, Tim, on the gross margins, would you be willing to say, if you excluded the obsolescence costs, what product gross margins would have been in the quarter?
Tim Barabe
Yes. We haven’t spelled out exactly what it was. But it didn’t impact us, no question about that, in the fourth quarter. And it is part of our plan to get about 60% in 2011. We think a good piece of that is behind us.
Jon Groberg – Macquarie
Okay. Thanks.
Operator
Thank you. Our next question is from the line of Ross Muken with Deutsche Bank. Please go ahead.
Ross Muken – Deutsche Bank
Good afternoon. Obviously you’ve done quite a bit the sort of restructuring the P&L on the cost side and you’ve done quite a bit also to introduce some new products into some adjacent and even kind of nascent markets I guess. So, in the context of where we are in sort of the Affy lifecycle, from a turnaround perspective, we’ve had number of years and quarters of sort of a lack of top line growth. I mean, in terms of the context, I know you gave some targets relative to where you would like some of these pieces to go. In terms of where we are in that cycle to kind of getting back to a more consistent grower – I mean, I don’t want to give formal guidance, but in the sort of context on a bigger picture basis, maybe you feel we’re approaching the period at some point, 12, 18, 24, 36 months from where we’d be at fairly consistent top line, or do you think we need more as the R&D engine and maybe a bit more erosion in the base business to kind of get there?
Kevin King
I think absolutely would be my reply, Ross. And if – I think maybe your first part of your question about historical Affy, we’ve had a lot of headwinds that we had to face into over the last few years here where we had many one-time occurring events, top-line related. We’ve had to watch those through the business in a big way. And when some of those opportunities go away, they’ve been major changes. We’ve had, in some cases, large customers that represented tens if not $20 million that have been raised, that we’ve had to make up and so forth. We spoke about previously. We’ve had declines in licensing and research revenues. And now I think we’re at the point where most of that stuff is behind us. We are largely 85% consumable base. And I think our base is getting a little stronger each quarter. So I think your time horizon is about right, and I don’t see that we have the headwinds to face into that we’ve had to work our way through in the past.
Ross Muken – Deutsche Bank
And with the improved cash flow, I mean, is the goal still to kind of pay down some of the convert or would we see you maybe return to some of the tuck-in acquisitions that we did a few years ago? I mean, is the base of the R&D organization sort of at the point where you can kind of bring that in and that would be something – that would be the best use of sort of (inaudible) and kind of the team’s time?
Tim Barabe
Let me take that one, Ross. We threw off $40 million in cash in 2010. Without saying whether that’s repeatable in 2011 and 2012, given we’ve restructured the business, it’s not a bad estimate where we’re going. We’ve got $95 million worth of converts left on the balance sheet. They are trading at about par. So we’ve got enough cash over the next couple of years to basically repay those converts, which leaves our cash balance open for other opportunities. And I guess I’ll stop there. Kevin, do you want to add something to that?
Kevin King
Tim, I think it’s a great perspective. Our ability to generate cash going forward is that we’re equal to 2010 would be enough to pay the debt down, and that would mean what have – $0.25 billion to apply towards acquisitions. And I think the organization is at the point where reasonable sized acquisitions that can strengthen the portfolio are a good thing for us to be looking at. And we would look for them in the target segments that we are going after.
Ross Muken – Deutsche Bank
Okay. Great, guys. Thanks.
Kevin King
You bet.
Operator
Our next question is from Marshall Urist with Morgan Stanley. Please go ahead.
Neha Sahni – Morgan Stanley
Good afternoon. This is Neha Sahni stepping in for Marshall. Could you please quantify the Kaiser study contribution for the quarter?
Kevin King
I don’t think we’ve ever really quantified Kaiser’s contribution in quarterly levels. I think through 2010, we were slightly above 50% of the study completed – completeness of the study was in 2010.
Neha Sahni – Morgan Stanley
Great. And then just look at 2011, we were hoping to get your thoughts on how total operating expenses may trend over the course of the year.
Tim Barabe
Yes. I think that we are in a mode of continuing to try to hold the line. And as I said in the last call last quarter, 44, 45 was a reasonable number for us, probably trending up, and heavily dependent upon sales channels as well. I think we’re going to take it slowly and be cautious as we move into the year. And as we see some success of some of the products that we launched, we might be spending a bit more, but you’re not going to see a massive increase in operating expenses in 2011 versus 2010.
Neha Sahni – Morgan Stanley
Great. Thank you.
Operator
Thank you. Our next question is from the line of Doug Schenkel with Cowen & Company. Please go ahead.
Brigham Hyde – Cowen & Company
Hi, this is Brigham Hyde in for Doug. Thanks for taking the questions. First off, just to start on pricing and I just want to talk about two gains quickly for this. First in RNA, I guess, seeing some headwinds there and switching just some lower-priced products. Wondering – first off, what’s driving that? And you guys seeing competition from RNA-seq. And second, I guess, have we kind of bottomed there or we have to annualize clearly some stuff, but has that kind of reached a new stable level?
Kevin King
This is Kevin. Competition from RNA-seq, I would say, no. Could it occur in the future? Absolutely. But throughout 2010, I don’t think that sequencing had an impact on technology as a substitution. Clearly, sequencing is competing for a limited pool of funds overall, and there is a big headset around that right now. As far as what drove the changes in RNA, a couple of things. One, we’ve introduced new lower cost products in new application areas. So, micro-RNA, for example, is a new area for us. It’s growing very rapidly and it’s fairly low cost product. That drags down the average.
Another key change here in mix is the conversion from cartridge products, legacy cartridge configuration to these new array plates. And those products are both less expensive, but also cost is significantly less to make. And we’ve seen increased adoption of those. They naturally follow the adoption of GeneTitan. I think overall I would say that the trend for pricing should begin to stabilize, and that was the comment I made relative to this being favorable for us. If volumes continue to increase, we should be seeing acceleration on the margin side as these prices stay stable. And that’s kind of the expectation that we have.
Brigham Hyde – Cowen & Company
And second vein related to pricing, talking about this kind of clinical translational market that’s going to be coming a bigger part of your business, just like-for-like what the pricing dynamics are against the discovery business? And almost as a potential positive, are there pricing levels that open up a broader market there and how you guys are looking at that?
Kevin King
Yes. Brigham, most – the short answer is yes. Our clinical research and clinical-based products command higher premiums. There is a much more stringent requirement for reproducibility, quality and things of that nature when the people are doing testing, if you will. Right now, most of our products are whole genome related products, and so they got a modest bump. I think as these products begin to emerge into or evolve into real test, then you might be looking for maybe an order of magnitude more in terms of price opportunities on a per-patient per-sample basis.
Brigham Hyde – Cowen & Company
Okay, great. And just quick follow-up. The Thermo deal, just wanted to see if you guys want to give a little more detail on your expectations and maybe specifically just the nature of it. I know it’s an instrument reselling deal. Is there any consumable arrangement there? And maybe – so how much of the pull-through are you guys getting versus Thermo, et cetera?
Kevin King
I don’t think I can discuss the financial terms, but Fisher Scientific has an elite sales force, a very large sales force that calls on the space that we believe our GeneAtlas is applicable. They will get both instrument and consumable sales in the US and in Canada, and they basically are buying the product from us and reselling it. So they will get a distribution margin, and we’ll get our margin on our products and so forth. I think I’d say a good win-win for both of us.
Brigham Hyde – Cowen & Company
Okay. And last one quickly, you touched on it earlier, the obsolescence charges in 2010 realized and you guys I think just went through that portfolio look, and I’m trying to clear some of that up. When you talk about 200 basis points of GM improvement next year, is a big part of that just kind of washing through some challenges this year and making improvements to the extent you could talk about that, I’d appreciate it?
Kevin King
I think it will be a big part of the contribution of the 200. I don’t want to get into the specifics of exactly how much. But E&O was more than we would have liked it to be in 2010. And I think if you look at what we’ve done bringing the inventory down by $5 million for instance or 10%, there is a focus internally on making sure that we produce products just in time as opposed to ahead of time because of the life of some of these products. So that will be a good contributor to the progress that we make in 2011.
Brigham Hyde – Cowen & Company
So, big part obsolescence, the rest maybe some pricing stabilization and switch to the higher margin product. Is that fair?
Kevin King
Yes. Some of the products that we sell that are actually lower priced actually have higher margins. So in the pegs, the pegs have higher margins. So that was driving as well.
Brigham Hyde – Cowen & Company
Great. Thanks, guys.
Kevin King
Okay.
Operator
Thank you. Our next question is from Derik De Bruin with UBS. Please go ahead.
Dan – UBS
Hi. This is actually Dan [ph] in for Derik. Thanks for taking the questions. Just going back to the question on operating expenses and not trying to put too fine of a point on it, but when you look at the R&D effort that’s going to be required going forward in a way, does the dollar amount in 4Q represents sort of the ballpark run rate that we can think about going forward?
Tim Barabe
All along we’ve been saying that we’ve got a target level for both R&D and G&A as a percentage of sales. And we are thinking that longer term we should be in the 15% to 18% of sales for R&D. And that ideally, as we begin growing the business, will get down toward the 50% for total G&A, including R&D. So I think the 15% to 18% is where we are targeting.
Kevin King
Yes. And to add to that, there are two dynamics going on here. So, in the past, say, 24 to 30 months or prior 24 to 30 months, we had a fairly heavy R&D investment in new platforms. Those platforms are done or nearly done, and we’re into the application development mode now for those. And given these clinical and validation products have got more stringent requirements associated with them, we are spending more time. I think it’s just another way of answering Tim’s question that there is probably enough there for us to cross over and sustain.
Dan – UBS
Okay. I appreciate that. And then on GeneTitan shipments, I know last quarter you were working through some inventory from Q2 and you were looking to get 60% growth out of the shipments by the end of the year. Were you able to reach that number?
Kevin King
Year-over-year we just gave the number in the prepared remarks that GeneTitans grew 75%. I apologize I don’t have the reference to the Q2 versus what happened in Q4. I think kind of the detail that I don’t have with me, but we could probably get it for you.
Dan – UBS
That’s fine. Okay. One more. And looking at the Ag-bio markets, which certainly seem like an area of focus, are the arrays that you are selling there primarily whole genome or are they more custom arrays? And then also, is it more the plant side or the animal side you are seeing the most demand?
Kevin King
Yes. Good questions. Historically, our focus had been more on plant than in animal. And on the plant side, they were largely whole genome gene expression products. A large fraction of those were custom expression products that were made for a variety of companies, particularly large seed companies and plant companies. This new product we have with the BOS 1 Array is the first of several animal-related products. BOS 1 is for both beef and dairy cow cattle. And we have other product designs and so forth. In building the BOS 1 Array, we generated a fairly large set of markers, and we have a database which customers can now draw from and create their own custom offerings. I don’t have the exact number, but I know it’s measured in the multiple millions of markers across, I think it’s about 22 or 25 different breeds of cattle. And so if customers wanted to genotype or study a particular breed of cattle in a more focused way, we could make for them and we’re actually marketing these products, make for them highly focused products for them for cattle.
Dan – UBS
Okay. Thanks a lot.
Kevin King
You bet.
Operator
Thank you. Our next question is from the line of Dan Leonard with Leerink Swann. Please go ahead.
Dan Leonard – Leerink Swann
Hi, thanks. My first question in just few quick ones – first one for Tim. Tim, can you guys – do you think that Affymetrix can generate free cash flow of $40 million if your revenues don’t grow, or would that number in the future be dependent on revenue growth?
Tim Barabe
I guess the way I’d answer that is that we’re going to have healthy, positive cash flow even if our revenue is flat. We showed you that our revenue was down $16 million in 2010 versus 2009 despite that our gross margin actually went up and our G&A expenses went down. So if we don’t see growth, we will absolutely take another look at our total operating expenses, because we have no intention of not generating a lot of cash. We need this cash, and we’ve got ideas as to how we want to use this cash.
Dan Leonard – Leerink Swann
Okay. That’s helpful. Thank you. And then my second question, just to clarify the relationship with Thermo Fisher, are they actually going to hold inventory of GeneAtlas instruments or there will be some pop when they build inventory, or is it more of a drop-ship arrangement where they will fetch the orders and you guys hold the inventory and ship the instrument to the customer when you receive the order?
Kevin King
I believe it’s an inventory stocking arrangement. There are – I can’t comment on minimums and things like that, but they do hold the inventory and they do make the shipments. I believe we make the shipments to them.
Dan Leonard – Leerink Swann
Okay. Thank you.
Kevin King
You bet.
Operator
Thank you. Our next question is from the line of Isaac Ro with Goldman Sachs. Please go ahead.
Jeff – Goldman Sachs
Good evening, guys, and thanks for taking the questions. It’s Jeff [ph] in for Isaac. Going off of the earlier question on the Ag-bio market, when you guys talk about 300 million a year, is that arrays or is that the total Ag-bio market for genomics?
Kevin King
I think I used the number $500 million, and I think that’s the entire market for genomics. We’ve got estimates anywhere from $500 million to $1 billion from a variety of sources. We chose for this call to use the lower number and hit the broader market.
Jeff – Goldman Sachs
How much was that do you think is adjustable with the products you currently have and how much of the addressability is dependent upon lower price point opening up the broader volumes?
Kevin King
Yes, great point. So – I think the array component of that is substantial. It’s probably upwards to 25% to 35% in total and increasing as people try to get away from phenotypic testing and other types. I think on the plant side, more so than – I guess maybe even to some extent on the animal side, very, very low cost products that are used for screening is a potential marketplace, and these are products that are very, very inexpensive, $0.01 or below per marker. And we’re not quite there yet with respect to our products. That market could greatly expand if we were there. Most of where we are right now is kind of early adopter in dairy. Beef is pretty well getting penetrated as more and more people recognize the value of genotyping products.
Jeff – Goldman Sachs
Thanks. Switching over to gross margins, understanding that a lot of gross margin expansion in 2010 and going into 2011 is volume-related, I mean, how close are we to getting a feeling where if the price continues to decline despite volumes going up, we’re kind of topping out on where gross margins can go?
Kevin King
I think we’re switching our business. So if we move our business to routine testing and diagnostics, we’re going to see a shift away from the business that has pricing measure toward a business that’s less competitive and friendlier to us. So I think in that sense we could see continued gross margin expansion, quite frankly. And I think there is plenty of room – I mean, we have massive capacity. So if we can drive product through our facility, our manufacturing facility, we could increase volumes quite a bit without having to change the manufacturing layout whatsoever. So incrementally, we’d be pretty strong.
Jeff – Goldman Sachs
Thanks. And then I’m going to switch to diagnostics, I mean, what gives you guys comfort in terms of the incremental SG&A and R&D expense you’re going to need there that the current level is enough to generate meaningful revenue growth from here?
Kevin King
Well, I think it’s one step at a time. The forecast that we have for this year and into next year, we’ve got great detail on. We understand each step that we need to take, and we’ve costed it out and resourced it out. So we’re comfortable with that. Certainly, we’re trying to drive these markets hard to the extent that we increase our confidence and believe that we can grow these markets faster, we would invest more. But right now, for the view that we have, we think SG&A until fourth can fund where we are. And as I said earlier in the first comment, we are in the process of rebalancing. We will invest less than older markets that are not growing. We will invest more in ones that we think will grow.
Jeff – Goldman Sachs
Thanks a lot.
Kevin King
Okay.
Operator
Thank you. Our next question is from the line of Tycho Peterson with JPMorgan. Please go ahead.
Evan Morris – JPMorgan
Hi, good afternoon. This is Evan Morris [ph] in for Tycho. A few questions if I could. First, again back on Ag-bio and maybe some of the upside markets more generally, could you talk about the margin profile of these businesses relative to the research market?
Kevin King
I think they are pretty similar. I think they are pretty similar. Margin tracks with whether a product is catalog or custom. We tend to do well in custom products. And to my earlier comment, a large number of our plant products have been custom. But I would say margins track well.
Evan Morris – JPMorgan
Okay. And then I guess a modeling question if I could. It’s nice to have the licensing payment in this quarter. Are you guys expecting any other one-time royalties to show up in ’11 or should be thinking more longer lines of about $2 million a quarter you’ve been doing in that line for a while?
Kevin King
I don’t think we’ve really guided to specific categories of revenue for 2011 in any way, shape or form. The payment in the fourth quarter was a payment from a person that – or a company that uses our products in routine use, and they are getting a lot of value from it. So our hope is that those numbers will increase over time, as partners and so forth and others become successful leveraging our portfolio of intellectual property.
Evan Morris – JPMorgan
Okay. And then lastly, could you comment on pull-through of the GeneTitan instruments in terms of consumable usage thus far? Thank you.
Kevin King
I didn’t prepare an estimate for the fourth quarter. We could probably get you that. I think on the last call, in the third quarter, we said it was close to $600,000 per unit at that point in time.
Evan Morris – JPMorgan
Thank you.
Kevin King
You bet.
Operator
We have no further questions in queue at this time. I’ll turn the floor back over to management for closing comments.
Doug Farrell
Great. Thanks, everyone, for taking the type to join us on the call today. If you did miss any portion of the call, a phone replay will be available for the next seven days, beginning at about 5 o’clock Pacific Time. To access replay, domestic dialers should call 877-660-6853. International callers, please use 201-612-7415. The passcode for both is the same, 364850. Alternatively, an audio replay will be available in the Investors Relations section of our website later in the day at affymetrix.com. So, thanks again for taking the time to join us.
Operator
Thank you. Ladies and gentlemen, this concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.
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