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Verenium Corporation (NASDAQ:VRNM)

Q2 2011 Earnings Call

August 9, 2011 5:00 PM ET

Executives

Kelly Lindenboom – VP, Corporate Communications

James Levine – President and CEO

Janet Roemer – COO and EVP, Specialty Enzymes Business Unit

Jeffrey Black – CFO, SVP and Chief Accounting Officer

Analysts

Laurence Alexander – Jefferies

Operator

Thank you for holding. Welcome to Verenium’s Second Quarter 2011 Financial Results Conference Call. At this time, all participants are in a listen-only mode. There will be a question-and-answer session to follow. Please be advised that this call is being taped at the Company’s request.

At this time, I would like to introduce your host for today’s call, Kelly Lindenboom. Please go ahead.

Kelly Lindenboom

Thank you for joining Verenium’s second quarter 2011 conference call. I’m Kelly Lindenboom, Vice President of Corporate Communications. With me today are Jamie Levine, our President and CEO, Janet Roemer, our COO, and Jeff Black, our CFO.

The agenda for today’s call is as follows: First, Jamie will give an update on the first year – first half of the year followed by an outlook for the remainder of 2011. Janet will then discuss commercial operations including Q1 product performance. Jeff will then summarize our financial results for the first half of 2011, and we will then take your questions.

Before we begin, I would like to advise you that this discussion will include certain statements that are not historical facts and our forward-looking statements that involve a high degree of risk and uncertainty. These statements relate to matters such as our strategy, future operating plans, markets for our products, partnering and collaboration activities, public policy and financing activities, technical and business outlooks.

The company’s actual results may differ materially from those projected in such forward-looking statements. Factors that could cause or contribute to differences include, but are not limited to, those discussed in our filings with the SEC, but not limited to our reported on Form 10-K for the year ended December 31st, 2010. These forward-looking statements speak only to the date hereof.

I will now turn the call over to Jamie.

James Levine

Thanks, Kelly and good afternoon everyone and thanks for joining us on our second quarter earnings call. I’d like to begin today’s call by giving a quick recap of the strategy we laid out at our Analyst and Investor Day in June and then, I’ll discuss some of the milestones we’ve achieved in the first half of the year that demonstrate we are indeed successfully executing against our business plan. And finally, I’ll end with some thoughts on our current market valuation.

Our Analyst and Investor Day was an important opportunity for us to provide a detailed view of where the company is today and our plan to realize transformational growth over the next several years. Finally, we laid out the milestones against which stakeholders can judge our execution of that plan and which will position us to become a major industrial enzymes player in a market currently dominated by two players.

So, to summarize the Capital Markets Day, in the industrial biotech space, Verenium has it all. We have the leading product development technology and we have proof of that claim through a portfolio of top-performing products. We have a deep pipeline of new products, attracting industry leading partners and finally, our resources are targeted at multiple, fast growing and highly profitable markets that exist today.

Looking at each component of that vision, I’ll start with our market. In the last 12 months, we had 53 million of product sales into end markets that we estimate at over $1 billion, which is only a fraction of the $3 billion market for industrial enzymes which is projected to grow to nearly 4.4 billion by 2015. What’s more of that growth it’s being catalyzed by significant worldwide trends of first meeting food needs for growing populations.

Second, meeting demand for transportation fuels and third, the need to achieve these objectives while reducing our impact on the environment. Importantly for Verenium and our current and prospective partners and customers, enzymes address all these needs head on.

Moving next to our suite of commercial products, the 53 million in sales I mentioned earlier has significant opportunity for near-term growth given our success and penetration, the animal health and nutrition and grain processing markets and our success in creating the oilseed processing market for enzymes.

Over the next two to three years, we expect our current products to be the primary growth driver as several of them including Fuelzyme alpha-amylase and Purifine PLC are in the early stages of their launch and are gaining significant traction in their market. It’s primarily through the acceleration of sales in these products and the others in our current commercial offering that we expect to achieve breakeven from operations in the late 2013 timeframe, a critical turning point for Verenium.

Driving growth beyond our current products is our deep pipeline of product candidates, which represent what we are characterizing, is medium-term growth opportunity that allows us to meet our goal of continuing to grow and diversify our revenue base over the 2013 to 2015 time horizon. While our commercial products are critical to our near-term success, our pipeline is equally as important to our mid and longer-term growth and success.

A mainstay of our strategy for developing and commercializing our pipeline is aligning with partners who bring complementary resources and capabilities to our team. Our goal with these partnerships is to share equally in the development costs and profits, similar to our current agreement with Danisco and the partnership we just announced with Novus, both in the animal health and nutrition area. This financial model provides significant benefit to Verenium over the product lifecycle.

We’ve had a strong start to 2011 and I’m very encouraged by the momentum behind us as we move into the later part of the year and before I turn the call over to Janet, I’d like to take just a moment to touch on our current market valuation. In a few moments, you’ll hear Janet and Jeff discuss very tangible progress across various aspects of the business. This progress demonstrates the strength of the technology we practice, technology that we created through over $300 million of investment over the past decade to develop and patent unique discovery and evolution platform.

I believe that Verenium as the people, the intellectual property position and the capabilities today to continue to deliver the leading high-performance products to the market and to grow into the next leading industrial enzymes company. Today, we are a leader in an industry where some of our peers are valued at several multiples of their revenue, while we are valued at a small fraction of our 50 million in 2010 product sales.

Our goal is nothing less than achieving a higher valuation multiple than our peers to reflect the broad applicability of our unique technology and the high-performance products we’re developing and selling to customers today. And our strategy for achieving this goal is straight forward, continued execution.

As we look ahead to the next several months, we are focused on a number of key areas that we believe will drive value, including first continuing to accelerate growth in our current commercial products. Second, continuing to advance manufacturing improvements. Third, completing additional strategic partnerships. Fourth, advancing at least three product candidates into the regulatory process and finally addressing the remaining debt and the company’s financing need.

And with that, I’ll turn the call over to Janet.

Janet Roemer

Thank you Jamie and good afternoon. I’m very pleased with our continued progress on multiple fronts, to build a robust and leading enzymes business. First, by growing and diversifying revenue by product in these markets and geography lead by growth in these sales through oilseed and grain processing market while continuing to support to NSO sales of (inaudible).

Secondly, we have continued investing in pipeline products to expand our portfolio and forming strategic partnership to accelerate commercialization. Notably, our recently announced collaboration with Novus International and thirdly, we have continue to make strategic investments in manufacturing to reduce cost and support our long-term growth plans.

I’ll now turn to discussion of our product lines starting with Animal Health and Nutrition. In the second quarter, the poultry industry which is the largest market for Phyzyme phytase experienced record high feed cost and unexpectedly weak consumer demand resulting in an oversupply of chicken. Weekly statistics publishing by the USDA showed a downward trend during what is normally the start of seasonally strong demand for chicken. Against a difficult backdrop, our second revenue from the segment was essentially flat versus the first quarter.

Shifting to more positive news. In June we announced a development in marketing partnership with Novus International, which we are very enthusiastic about. Formed 20 years ago, Novus has to grown to become a $1 billion company doing business in 100 countries. Like Verenium, they are a science based company. They bring a strong established presence in the animal health and nutrition market and a track record of successful new product launches.

We are excited to have found the right partner to maximize the commercial opportunity for our next general animal feed enzymes. In addition, by partnering with Novus, we will have greater insight into market needs and will tailor our product development approach accordingly. We will share costs and profits equally. And in the marketplace, all products will be cobranded by Verenium and Novus, thereby raising our profile in this important industry.

In terms of our pipeline candidates for animal nutrition, we are currently advancing our phytase and non-starch polysaccharides enzymes through the development process according to plan. As we continue to move new products to market, the first of which are expected in the 2013 to 2015 timeframe. We will participate more broadly in this $520 million market segment than we do today with just one product.

I’ll now turn to Oilseed Processing and our foundational product in this segment Purifine phospholipase C. I’m pleased to announce that we have increased the number of plans that have already implemented the Purifine enzymatic degumming processing from four to six, with an additional six implementations underway.

With our engineering partners, Alfa Laval and Desmet Ballestra, we continue to focus our efforts in North America, Brazil, Argentina and China, which together account for more than 90% of the world’s soybean crushing capacity. While Argentina bodes the world’s largest gale soybean processing plant. China has plants that are quite large with average crushing capacity of nearly 3,000 tons per day, which presents us with the opportunity to grow our business in significant increment. And on that front, I’m pleased to report that we recently made our first shipment of Purifine to China.

As we’ve stated previously, each implementation represents between 500,000 and 2 million in new annual revenue with a range resulting from variables such as crushing capacity and phosphorus content of the soybean. And from a capability standpoint, we’re continuing to add critical capabilities to our sales and marketing efforts. Recently, we hired Steve Gregory experienced process engineer and former soybean plant manager who is now providing technical support to our field sales team. His expertise is adding a new dimension to our ability to support the start up of implementation as well as ensuring our existing customers get maximum value from the Purifine enzymatic degumming process.

And finally, with our partner Bunge, we continue to progress pipeline candidates that will add to our portfolio of products for the oilseed processing industry with two in the regulatory phase and additional concept currently being developed.

Turning now to our Grain Processing line, we continue to see good progress in this area. In this highly competitive market, we compete against large entrench competitors. But, because of our differentiated product offerings, we’ve been able to achieve market traction and steady growth in a $400 million addressable market. Since 2009, we’ve expanded our grain processing product portfolio from just Fuelzyme alpha-amylase to a suite of four products and our market presence from the just the U.S. to now includes sales in Europe, Brazil and India.

Revenue from our grain processing line is up 35% year-to-date versus the first half of 2010 and now represents 31% of our 2011 product revenue for the first half.

Before turning the call over to Jeff, I’d like to make a few comments on manufacturing. We’re continuing to make progress and the execution of the series of projects that require minor amounts of capital to improve economic and deep bottleneck capacity. For example, new controls costing just a few thousand dollars have reduced the cost of making Purifine and then another example, new controls are being added to enable better dispersion of a process chemical that’s reduce the amount consumed.

Larger projects are cutting processing time and improving yields are progressing. With opportunities for further improvement, combined with a premium pricing we attain based on differentiated product performance, we fully expect margins of 45% or more are achievable in the midterm from our commercialized products.

Now, I hand it over to Jeff.

Jeffrey Black

Thank you, Janet. And thank you everybody for joining us today. Over next few minutes, I’ll cover three topics. The first I’ll provide some commentary on the financial results we announced earlier today. Second, I’ll briefly touch on a review of progress against the full year guidance we’ve provided and third, I’ll review the financing that we announced at Capital Markets Day in June.

With respect to financial results, I’ll start with a review of our product revenue performance. In the first half of the year total product revenues were $27.5 million, which is a more than 10% increase over the same period in 2010. And this increase is a result of increased market penetration of our products targeted at the grain processing and oilseed processing industries. These two product lines have grew to about 40% of product revenues in the first half of 2011, compared to about 30% in 2010 and this is consistent with our objective to diversify our revenue concentration.

Product revenues from our animal health nutrition products for the first half of 2011, decreased by about 4% versus 2010 to $16.1 million. The biggest driver of this decrease is a lower profit share on Phyzyme quoted by Danisco. And as Janet mentioned earlier, we’re seeing unfavorable market conditions impact the phytase market including the decline in the consumption of poultry.

Product revenues from our grain processing product line, which includes Fuelzyme, Xylathin, Veretase and Deltazym increased 35% to $8.4 million for the first half of 2011 as compared to 2010. And this reflects both a continued general recovery in the first generation ethanol sector as well as our ability to further penetrate the market with our products.

Product revenues from all other products increased by nearly 70% to $3 million for the first half of 2011 as compared to 2010 and the major driver for this growth is our Purifine enzyme for oil degumming.

Turning to product gross profit. In the first half of 2011, we generated product gross profit of $10 million, an increase of slightly more than 5% over the same period in 2010, despite an approximate 15% decrease in our gross profit in Phyzyme. This is indicative of the overall growth of an improvement in gross profit from our non-Phyzyme products.

Overall, we are pleased with the level of gross profit growth we’ve been to continue to generate even in light of the decrease in Phyzyme profit share. Assuming Phyzyme profit share, remains at current levels, we anticipate we can see further gross profit improvements in the second half of 2011 as we continue to implement improvements at Fermic.

In terms of our operating expenses excluding cost of sales and restructuring charges, on a non-GAAP basis, our gross operating expenses decreased by $2.2 million during the first half of 2011 to $14.1 million, compared to $16.3 million in the 2010. And while our total operating expenses decreased over prior year, our R&D cost increased by $2.2 million. This is consistent with our overall corporate objectives and financial guidance reflecting a focus on investment in advancing new products into pipeline, well at the same time maintaining a key focus on controlling G&A cost. During the first half of 2011, our SGA cost decreased by $4.4 million or more than 30% over the same period on 2010.

Regarding our balance sheet, we ended the second quarter of 2011 with $44.6 million in cash and cash equivalents, $5 million in restricted cash, and $44.2 million in debt at face value. Subsequent to the end of the second quarter, we repurchased $8.2 million in principal amount of our outstanding convertible notes in a privately negotiated transaction. We paid a total of $7.7 million in cash to a noteholder to retire principal, leaving us with approximately $36 million in face value of debt.

With respect to financial guidance, based up on results for the first half of the year, we believe we are in line to meet the full year, 2011 guidance we released in March. Well, our products revenues and gross profit have been negatively impacted by the decline in Phyzyme profit share, assuming Phyzyme revenue and related profit share remain at current levels, we should be on track to meet our revenue and gross profit guidance for the year. And from an operating expense standpoint, we expect to end 2011 within our published guidance.

And finally, before I wrap up. I like to briefly touch on our financing initiatives. As we communicated on Capital Markets Day in June, we estimate a financing need of around $30 million to cover the following. First, operating cash flow until breakeven operations in late 2013. Second, CapEx requirements related to manufacturing improvements at Fermic and the build out of our facility in San Diego. And third, retirement of our existing convertible notes assuming holders exercise their put options in April of 2012.

To reiterate, we are focusing our efforts to address this financing need from a number of sources. First, we continue to aggressively executive against our business model and any potential upside opportunities. Our recently signed deal with Novus International is a good example of this. From this deal, we generated $5 million license increase, $2.5 million of which was paid to us in June and we continue to advance discussions with the number of partners that can bring in additional operating cost in the form of upfront fees and/or cost sharing.

We have the ability to accelerate or decelerate spend as necessary. As we gain traction with partners, we may choose to accelerate spend and bring products to market sooner as our burn will be offset by cofounding. On the other hand, we have a flexible expense structure that allows us to reduce or slowdown investment in earlier stage opportunities while not comprising short-term growth from our existing products.

Second, we are aggressively pursuing secured financing structures that utilize our assets as collateral for medium term funding. And finally, equity is another option which we still believes is an expensive one today and so, we’re focused primarily on securing less dilutive sources of capital to the extent available.

We look forward to updating you further on our progress. And with that, I’d like to turn the call over to the operator to take your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first questionnaire in queue is Laurence Alexander from Jefferies. Your question please.

Laurence Alexander – Jefferies

Good afternoon.

Janet Roemer

Hello.

James Levine

Good afternoon.

Laurence Alexander – Jefferies

I guess, first of all could you answer a little bit more of a sense of what’s entailed with China opportunity for Purifine. Are there any changes in specification or is there anything else that which we thinking about in terms of what that could be for your business compared to the U.S. and Brazilian market.

Janet Roemer

Yeah, sure Laurence. This is Janet. You might recall, we did announce the approval of to sell Purifine into China by the Ministry of Health and Ministry of Agriculture in the fourth quarter last year. And so, our first shipment record is a milestone for us after having received that approval. China is the – it has about 60 plants operating with average crushing capacity close to 3,000 tons per day. So, their average plant size is larger than that of the U.S. where the plant size is about 2,000 tons per day. So, on average we see a nice opportunity in China to get incremental growth in a larger of our range of potential revenue which we – we stated at 500,000 to 2 million per plant.

And I guess the other thing about China of course is its growth and our ability to getting down onto the ground and develop the market for Purifine as perhaps the first step towards building our enzyme business further in China in the future.

James Levine

Laurence, I’ll just add to that, there are no additional product specifications or changes that are required to go to China. It’s the same product with obviously a different label. But, there is no additional technical spec that we need to do to sell in any markets that we sell to. It’s the same physical product.

Laurence Alexander – Jefferies

And then, this is a follow-up, in terms – which of your products do you think would be low or least vulnerable to an economic slowdown if there were one in 2012. You got a sense for and also can give you a sense for how you would handle your cash burns if those products were affected. If you could maybe just rank order them so to speak.

Janet Roemer

Yeah, I’d say that’s really hard to do Laurence because for example, nobody expected the poultry industry slowdown that occurred in the second quarter. If you look Pilgrim’s Pride at the second quarter, reports out and they said they were astonished by it. They were – it was unexpected to them. So, it really defies forecasting, which are more vulnerable of course in grain processing. You are exposed to the differences in ethanol cost and so forth. But, it looks like the tariff in place against Brazilian ethanol at least for time being. So, in the U.S. we have to blend ethanol into gasoline. So, there is a certain floor under which the industry will certainly produce to at least that floor. So, I guess there is really no say – there is really no way of speculating as to which would be more susceptible to changes in the economy.

Laurence Alexander – Jefferies

Maybe if we could…

James Levine

One comment I make Laurence is to follow up on that is one we have been diversifying our revenues. So, one of the key focus areas that we laid out a year ago is that we’re then we were getting in the order of 75% or even two thirds of our revenue from one product. Now, you seen that continue to drop and that trend has continued. So, I think that – first of all we’re trying to make ourselves less vulnerable to any single product and that’s an important part of the strategy.

Secondly, as we see Purifine ticking up, we see that as product that obviously once the customer decides to implement there is no alternative in terms of a competitor enzyme to use in the oilseed crushing market. So, we think that provide good stability because once they’ve decided to put in place the CapEx, if they want to see return on that CapEx, they need to continue to run our process. So, even in times of tough economic times that people are trying to get more efficiency, very often the enzymes that we sell have a better opportunity to look favorable in those types of environment.

And to the last part of your question, as Jeff said, we wanted to emphasize that the bogie that we put out on a Capital Markets Day, the $30 million number was based on the base plan that requires a significant investment in pipeline, whereas, if we decided to, we could reduce the cost of putting products into the regulatory phase and therefore reduce our overall burn. That’s not our plan right now based on the access to capital we expect to have. But, it’s always an option for us. So, we’re certainly comfortable with the plans that we have. But, we have flexibility to reduce it, should we decide to that.

Laurence Alexander – Jefferies

And then, maybe we could just revisit what your minimum burn might be just to if you have sense for such a great flexibility that you have.

James Levine

Well, I guess right now, maybe the one way to attack it is looking at the operating loss from the business. Certainly, if you look at the trend over the last several quarters, you can see that as gross margin as either held steady or has been ticking up. We have been able to hold cost steady or ticking down and so, we see that right now we said that we’re comfortable with the guidance that’s out there for the whole year. But obviously, we remain very focused on looking to increase revenues and keep cost very much under control. I don’t think that we provided any concept of a minimum burn. So, I don’t know that we can go there. But, we’ve just said that there is a lot of flexibility in terms of the cost that – it will allow us to reduce cost by – is not material amount. It’s amount that will be meaningful to our overall burn. If we decided that was the right approach.

Laurence Alexander – Jefferies

Thank you.

James Levine

Thanks Laurence.

Operator

Thank you. (Operator Instructions) Right now, I’m not showing any further questions at this time. I’d like to turn the program back to management for any further remarks.

Kelly Lindenboom

Thank you for joining us this afternoon. We look forward to update you on our continued progress. Have a nice evening.

Jeffrey Black

Thanks everyone.

Operator

Thank you ladies and gentlemen for your participation in today’s conference. This does conclude the program, you may disconnect at this time. Good day.

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