Marty Chilberg's  Instablog

Sequenom has done a pretty good job of informing investors of the early response to their lab developed test ("LDT") for Trisomy 13, 18 and 21 ("T21 Plus"). The most recent announcement was that they had achieved an annual run rate of 60,000 T21 Plus tests processed as of May 28th. Watching the processed tests rate will go a long way toward reducing uncertainty with respect to market acceptance. Even so, there are substantial uncertainties still remaining with respect to the future of this space. The IP battle will go on in the courts, likely for years. Reimbursement by insurance carriers is also uncertain. There is the binary risk of yes/no but also the amount risk. Sequenom has stated they have 20 million lives covered, after Coventry decided to cancel their coverage. This post is focused on the cost of testing, but investors need to recognize that cost is linked to revenues. Ignoring the revenue timing and uncertainties could result in any cost analysis becoming meaningless.

Despite their cautionary comments, Sequenom has been very helpful to investors looking to understand their component costs of testing. The company has provided 2 pie chart slides in the presentation deck, which describe their expectation of test costs. In the first chart, the company stated that they expected to get the total cost of the test to between $500-$600 (used $550) within several quarters. In that chart, I'm estimating that the component costs are:

They provided a second chart which projected the component costs in mid C-13. They are projecting a 30-40% improvement in costs excluding royalties. My estimate of their chart relative costs are :

To put the above in context and to provide a sanity check, investors should note the following:

• The total cost of diagnostic services in CY-11 was $10,031k per the 10k.
• The total number of tests done in CY-11 per the company exceeded 21,000. This included approximately 1,000 T21 Plus LDT's. This calculates to $478 per LDT processed.
• The total cost of diagnostic services in Mar-12 was $6,871k
• The total number of tests done in Mar-12 exceeded 12,700 of which over 4,900 was T21 Plus per the company. This calculates to $541 per test.
• Per the 10Q: We have made up-front payments to Isis and agreed to pay to Isis royalties on net sales of products developed or produced using the licensed patent rights, including specified minimum royalty amounts and milestone payments upon commercial events with respect to products for particular indications. (bold/italics by author)
• The company has stated that they are reporting costs as incurred and revenues as received. Therefore, the royalty component of cost of diagnostic revenue should be reflected in the financial statements as the reimbursement is received. It therefore follows that the cost per test would have been higher in all historical periods. When the company has enough evidence to move to accrual basis for revenue recognition, there would be a royalty expense accrual associated with it. Assuming the above estimate of $65 per test and a benchmark of $1,850 blended revenue per test, the royalty rate calculates to approximately 3.5% of revenues.

The above analysis is based upon company provided information. However, it is an estimate and interpretation of that information, and may prove to be unreliable. Additional information from the company is required in order to validate and refine these estimates.

Disclosure: I am long SQNM.