Luminex Corporation (NASDAQ:LMNX) Q2 2016 Earnings Conference Call July 29, 2016 8:30 AM ET
Matthew Scalo - Senior Director Investor Relations
Homi Shamir - President and Chief Executive Officer
Harriss Currie - Senior Vice President, Chief Financial Officer, Finance and Treasurer
Daniel Arias - Citigroup
Patrick Donnelly - JPMorgan
Matthew Larew - William Blair & Company
William Quirk - Piper Jaffray & Co.
Good day, ladies and gentlemen, and welcome to the Luminex Corporation's Second Quarter 2016 Earnings Conference Call. My name is Abigail and I will be your coordinator for today. Today's call is being recorded. At this time, all participants are in a listen-only mode. Following the prepared remarks there will be a question-and-answer session. [Operator Instructions]
I would now like to turn the call over to Matthew Scalo, Senior Director of Investor Relations, for opening remarks. Please proceed.
Good morning and welcome to Luminex Corporation's conference call for the second quarter 2016 financial and operational results.
On the call today are Homi Shamir, President and Chief Executive Officer, and Harriss Currie, Senior Vice President and Chief Financial Officer. We'll be following our standard agenda today. Homi will review our second quarter corporate highlights; Harriss will review the financial performance. And after that, we'll open the call for your questions. As a reminder, today's conference call is being recorded and a replay will be available for six months on the Investor Relations section of our website.
Certain statements made today during the course of today’s call may not be purely historical and consequently may be forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, and the Company claims the protections provided by Section 21E of the Securities Exchange Act for such statements.
These forward looking statements speak only as of today hereof and are based on our current beliefs and expectations and are subject to known or unknown risks and uncertainties some of which are beyond the Company's control that could cause actual results or plans to differ materially and adversely from those anticipated in the forward looking statements.
Factors that could cause or contribute to such differences are detailed on our Form 10-K for the year-ended December 31, 2015 and our Quarterly Reports on Form 10-Q filed with the SEC. We encourage you to review these documents and we undertake no obligation to update these forward-looking statements.
Also, certain non-GAAP financial measures, as defined by SEC Regulation G may be covered in this call. To the extent that any non-GAAP financial measures are covered, a presentation of and reconciliation to the most directly comparable GAAP financial measures is included in our earnings release which is available on our website in accordance with Regulation G.
I'll now turn the call over to our President and CEO, Homi Shamir.
Thank you, Matt. Good morning and welcome to our second quarter 2016 earnings call. We appreciate your accommodation of our revised earning call, date and time. Second quarter results they are outstanding. We generated revenue of over $64 million, up 9% from a year-ago and equivalent to our growth during the first quarter. This growth doesn’t include any revenue contribution from Nanosphere.
Gross margin remain very healthy at 70% while operating profit excluding approximately $2 million in cost related to the Nanosphere deal is approximately 15%. On June 30, we closed the tender offer and completed the acquisition of Nanosphere, a leading player in the microbiology lab. We are very pleased to own this Company due to its excellent strategic fit and high growth potential.
We believe this acquisition will enhance our market leadership, expand our customer base and improve our growth trajectory in the near and long-term. Overall, it’s a great deal and we are very pleased to welcome the Nanosphere team to the Luminex family.
Looking at the highlights of our second quarter we see another well balanced performance across our four pillars of growth business model. The first pillar, our partner business demonstrated another quarter of outstanding growth. Partner revenue grew 17% during the quarter as well as in the first half of 2016.
This record quarterly performance reflects continued momentum in system, consumable, and royalty’s revenue. However, we anticipate the strong sales of growth rate should moderate in the second half of the year. We expect 2016 full-year revenue growth to be just over 10%.
For our second pillar of growth, our MDx business generated over $27 million in revenue for the quarter driven by balanced growth across both our infectious disease and genetic test portfolio. Our CF franchise grew in the mid single-digit this quarter. We continue to expect LabCorp to phase-out at the end of 2016 or early 2017. However, we are gaining revenue from new customer and Harriss will provide more details later.
Our third pillar of growth which we now refer as the new MDx opportunity includes both ARIES sample-to-answer platform and the Nanosphere platform called Verigene. We received FDA clearance and CE Mark for the ARIES M1 platform which targets those institution that don't need higher testing volume capacity.
We think this system will play a role in the hub-and-spoke model for MDx testing. We are very pleased with the feedback we received at the recent ASM and CVS meeting. As for the overall ARIES placement, we have placed more than 60 systems. As I mentioned previously, the Nanosphere deal fit well within this pillar of growth.
The highlight today include, we expect revenue contribution of between $13 million to $16 million in the second half of 2016 and anticipate annual cost savings of $8 million to $10 million beginning in the third quarter. Harriss will provide additional details.
With the acquisition of Nanosphere, we also gain access to their existing pipeline particularly its next generation high-plex sample-to-answer system that will serve as a base for the expansion of our ARIES platform offering.
Now turning to our fourth pillar of growth, our strong financial position. We remain in a great position with $82 million in cash. Now Harriss will review the financial data and afterwards I will return with some closing comments.
Thanks, Homi. Let's begin the financial review with a look at revenue. Total revenue for the second quarter increased from the prior-year period by 9% driven by strong double-digit growth in system and consumable revenue.
Assay revenue grew 7% year-over-year as both our infectious disease and genetic assay portfolios grew in the mid single-digits. For the quarter, infectious disease assay sales comprised 66% of total assay sales with genetic testing sales comprising 34%. Royalty revenues were up 3% this quarter impacted somewhat from a difficult comp resulting from a royalty true-up in the prior year.
Second quarter consumable revenues were up 12% primarily attributable to strong demand across our partner base and reflected by partner purchase timing. However, we do expect consumable revenue in the second half of 2016 to be down from the first half.
For the full-year 2016, aggregate consumable purchases are expected to be up 10% over 2015 levels. This full-year growth rate is an improvement from past commentary and reflects the overall health of our partner business. In the aggregate, our higher margin items consumables, royalties, and assays, comprised 79% of total revenue in the quarter and have played a significant role in helping us maintain our gross margins in the low 70% range.
System revenues were up 37% for the quarter, as we shipped 277 multiplexing analyzers, above our 225 to 275 historic quarterly range due to a combination of new demand in the underlying replacement cycle.
Now let's turn to the income statement. Gross margin for the quarter was 70%, primarily due to continued concentration of our higher-margin items, consumables, royalties, and assays. We remain confident in our abilities to sustain gross margins in the strategic range of high 60s to low 70s even with the addition of Nanosphere revenue stream which has historically been below the Luminex corporate target.
Operating expenses increased 12% for the quarter and includes approximately $2 million in one-time Nanosphere deal related costs. If we exclude this, our total operating expenses grew only 6% from the year-ago period and this reflects the results of our continued focus on efficiency while growing the business. R&D expenses for the quarter were flat over the prior year and represented 18% of revenue.
Moving forward, we expect R&D expenses as a percentage revenue to rise slightly as we add the Nanosphere cost into the mix. As a reminder, Nanosphere R&D cost as a percentage of revenue or is excess of 50% of their revenue in the last filed report for the first quarter of 2016. However, over time they'll begin to fall again towards our longer term targets of around 15% of total revenue.
SG&A costs were up 15% for the quarter from quarter two 2015, but again this growth rate includes the $2 million of one-time deal related costs. Excluding these one-time cost SG&A expenses grew 6% and represented 35% of total revenue. For the second quarter, operating margin was 12% and 15% when you exclude the $2 million of one-time deal related costs. This operating margin expansion reflects the leverage realized through efficient management of our expenses.
Also important to highlight other income was an expense of $1.5 million, this cost was related to extinguishing the debt held by Nanosphere. So as you look at the income statement, total one-time costs related to the transaction were $3.5 million in the second quarter. We will continue to incur modest cost tied to the integration of the deal over the next few quarters.
Our consolidated effective tax rate was 7%, but 19% for the year-to-date period below our longer-term expectations in the high-20s. For the second quarter, we achieved net income of $5.7 million or $0.13 per diluted share compared with income of $2.6 million or $0.06 per diluted share in the prior year period.
On a non-GAAP basis, we generated net income of $14.1 million or $0.33 per diluted share for the second quarter. As we proceed, our expectations are that we will maintain both profitability and positive cash flow as we progressed towards the acquisition of Nanosphere being accretive no later than the fourth quarter of 2017.
Now turning to the balance sheet. We ended the second quarter with approximately $82 million in cash and investments after paying $92 million to acquire all the outstanding shares of Nanosphere in retiring approximately $25 million of Nanosphere debt. At June 30, DSO on accounts receivable was 38 days including the Nanosphere receivables included at quarter end for which no revenue is reflected.
Revenue guidance for the full-year 2016 is expected to be in the range of $261 million to $269 million resulting in overall growth over 2015 between 10% and 13%, 5% to 7% of which is organic and 5% to 7% of which can be attributable to the acquisition of Nanosphere. As we previously mentioned, Nanosphere is expected to add between $13 million and $16 million of revenue for 2016.
System revenue is expected to continue to be robust, but total multiplexing system placements in the second half slightly exceeding those in the first half resulting in a corresponding increase in multiplexing system revenue with a modest contribution for Nanosphere instrument sales. Consumer revenues were expected to be down in the second half of the year, but still close to 10% growth for the full-year.
Royalty revenue for the year is still expected to grow at the approximate rate of growth of our partner’s license fields in the mid single-digits. Assay revenue for the year is expected to grow in the mid single-digits excluding the ARIES and Nanosphere contributions.
Two items have affected the current year assay growth expectations. The first is the expectation that LabCorp purchases of CF will decline in the fourth quarter, but may not go to zero. As they prepare for their transition to NGS by the end of the first quarter 2017. And secondly, there are headwinds within PGx that could resolve themselves by year-end resulting from a major customer’s review of options.
I recognize that this is not a 2017 guidance call. I want to provide some context around the departure of LabCorp CF. Relative to current year CF expectations the departure of LabCorp by the end of the first quarter of 2017. That will be partially offset by the annualization of accounts we have added in the current year. As a result of a competitor's departure from the market, results in an overall 2017 CF decline but less than $10 million.
This decline is not nearly a substantive as we initially anticipated. The contribution from both ARIES and Nanosphere assay sales for the year could approach $14 million, obviously with Nanosphere assay sales only occurring in the second half of the year.
All of these assay factors would result in an all-inclusive assay revenue for the year increase approaching 20%. As you build your models for the third quarter you should expect between $67 million and $70 million in total revenue within approximately 90/10 split between the existing Luminex business and the Nanosphere business.
I'll now turn the call back over to Homi for some final comments.
Thanks. In summary, we continue to execute well on our four pillars of growth strategy. The prospectus for elevated growth within our partner business remains strong. Our partners are engaged with our technology and continue to make strides within the target market.
As we have mentioned earlier our partner business this year is on track for double-digit growth. Our future is exciting because of our combined sales personal offer the most complete portfolio of sample to answer solution. Our offering includes both long and high plex solution plus sample to answer capability. All providing significant value to the customer at a relative low cost of entry.
This ends our formal comments. Operator, please open the line for questions.
Thank you. [Operator Instructions] Our first question comes from Dan Arias with Citigroup. Your line is open.
Hi, good morning, guys. Can you hear me?
Yes, how are you?
Yes, good morning, Dan.
Good morning pretty good thanks. Homi pretty solid instrument and consumables performance there? Can you just sort of put some color to the end markets in the applications that are driving that on the research side? And then on that note, how would you say you're dealing in the pharma space that's clearly been the strongest side in the end market for a while. So just curious if you feel like that's a driver that's working for you here?
Yes, I mean Dan good morning. Really what we see there and I mentioned it few times same still receive very healthy life science research market. But since I joined the Company here we try to I would say manage it better and put more discipline in our relation with the customer that’s why we are trying to eliminate those fluctuation also in all that et cetera. But we have very, very healthy relation in the market space.
Nevertheless, we see sales in buying more system, but also we have to remember we have 12,500 installed base. Some of them need to upgrade. We start seeing more and more upgrade coming through some of the customer. We see upgrade cycle in our business. We just see One Lambda, we see more system coming out of FM3D system. So it’s all very healthy and also we manage to gain higher prices by better managing our partners.
So overall, I think this trend will continue, obviously we will be over the 1,000 system this year, I think we stated it and it will continue to grow. And by the way the beauty of that as we keep more and more system especially those FM3D, we eventually will see more bids in royalty from our customers.
Yes, Dan. This is Harriss. We also saw unanticipated strength in the Far East that offset some of the weakness in Western Europe that also help drive our life science research proteins testing and the related consumable sales.
Okay. Got it. That’s helpful. And then maybe just on Nanosphere and just thinking about the installed base in the existing customer group. It's my understanding there are actually quite a few Verigene systems that are in labs that are not necessarily in production mode. You had a chance over the last quarter poke around there and see what's going on and if so, do you feel like those accounts start to contribute to the consumables revenue pool, it sounds like that that something could be added at the year outlook here.
So just to remind you, we’ve only own them for about 30 days, right. So we did get some opportunity and in the course of diligence to take a look, but not a lot of opportunity to do a lot of customer management there. We are now actively taking a look at the systems that are placed under evaluation for Nanosphere and doing all we can to get them converted over to commercial units.
Obviously, the conversion from an evaluation unit to a commercial unit ended up itself to drive consumable revenue. Then we also want to identify additional accounts where we can place systems and drive that revenue as well.
Yes. One more thing. The Nanosphere did not report second quarter, but roughly it was around $7 million. And when you look at those $7 million, tremendous growth compared to last year. So if you look at Nanosphere at least this year and last year they are growing the business more than 50% and its coming from more utilization on those existing customers.
So at least in the USA, we see more and more customer utilizing the system and it’s very, very encouraging. And we think we will continue to strength I mean, again, look at the guidance we provide for the second part of the year. It’s a strong guidance of growth even if you compare it to last year performance.
Okay, great. And then maybe just one last one for me. Harriss, the royalty outlook for the year, do you think that can still be up low singles for 2016. It sounds like the number this quarter with the true-up was a bit of a one-off.
Yes. So last year in the second quarter we had a self-reported royalty finding if you will from a customer, it was pretty significant. When you take that out and we look at both total royalties, we look at base royalties. So base royalties actually increased in the high single-digits which exclude the effect of those one-time payments, audit finding, self-reporting and all the rest.
So we're going to file our Q later today, what we're going to see is that the total end user reported sales quarter-over-quarter actually went up from the low 120s to the low 130 million, so about a 7% to 8% increase there. So the royalty stream itself is healthy, but some of those one-time payment items oftentimes sort of screw up the math for you.
Okay. So the full-year outlook is all things considered similar to last quarter or maybe a little bit different?
Okay, great. Thanks a lot.
Thank you. Our next question comes from Patrick Donnelly with JPMorgan. Your line is open.
Great. Thanks guys. Just in for [Tico] this morning. Maybe on ARIES M1, can you just talk through the different value proposition of that compared to the original ARIES? How the end customer may vary if at all and does this change the expectation for 100 systems by year-end or is that kind of baked down?
So when you think about M1. M1 is a system that’s very well suited for operation in a distributed lab environment, so we have laboratories where there's a core lab facility where a two-bay 50 sample with any system works well, when you then get into the more distributed labs or regional labs the outside locations to these large central facilities, you have the opportunity to place a smaller system that can process samples without having to send them into the core lab.
So it really hasn’t - due to the satellite level that we are talking about, so they really haven't - we really haven't ascertained yet whether or not the overall 100 system placement will increase. By the end of the year, we are still on target to get to 100. By the end of the year, we mentioned we placed over 60 as of the middle of the year, so well on track to getting there?
Yes. I’ll say again, it’s opening together with the Nanosphere system now diverging and eventually the new generation having something has to discuss with the customer, so what we are trying to do now and in fact we can have a full offering to our customer is starting to allow non-automated system the multiplexing, our traditional system very low cost of operation, high volume and now we can come with - there is the M1, the normal ARIES and moving into the Nanosphere.
So I think we are the only company in the market and that’s what really exciting us and we will be there for long time that we can offer this all solution to the customer and from the sales force cannot offer a better opportunity to engage with the customer.
Okay. That makes sense. And then just on the genetic offerings for assays, you saw some weakness last quarter due to timing a recovery for 6% growth this quarter? Could you just talk through the performance, did you see any catch up trade or should we expect this to kind of be a fair number going forward is just kind of an organic growth number?
So we talk about genetic assays were primarily talking about CF and the PGx franchises - those two franchises. Our CF franchise actually grew healthily quarter-over-quarter as a result of the acquisition of those customers from a major customer that stepped out of the market, so we actually saw some pretty significant growth in there. The PGx revenues were significant more flat and that really is a function of a couple things.
Number one, the big customer that we mentioned last year that gone in another direction, and secondly this year there are still reimbursement concerns in the PGx market that create some headwinds there as the laboratories work themselves through how to best those support and get reimbursement for these test. So overall the genetic assay franchise is healthy, but not as healthy as you might imagine as infectious disease franchise, it’s growing nicely.
Okay. And then maybe just one last one on the system side, when you look at the replacement cycle, can you kind of figure out what inning we are in and also you guys came in at the top of the 225 to 275 kind of standing quarterly guidance and do you still feel like that's a pretty good range going forward or do you think maybe will tend to be near the top end for the next couple of quarters?
Well, we think it's a good range. However, as we said in our comments, we expect that our system revenues in the back half to exceed that in the front half, so that would suggest that we likely would be at the top end of that range in the back half of the year at least for the next couple quarters.
As we go into the first quarter next year, you know what happen to capital equipment, a lot of equipment bought in the fourth quarter as people exhaust their budgets. Those numbers typically fall in the first quarter of each year, so the first quarter 2017; again this isn’t 2017 guidance call so I can't tell you right now exactly what to expect there. But at least in the next couple quarters the expectation is that we would be at the top end of the range.
As far as the replacement cycle, it's an interesting phenomenon to look at. We have systems that were placed in 2000, that are still in use in the marketplace, primarily in the life science research proteins small labs, university labs where the system is used a lot less frequently than they are in the higher volume situations of a larger research lab or a pharma lab.
We estimated useful life of a system that is at full utilization is in that five to seven-year range and if you look back five to seven years ago, we were replacing 900 to 1000 systems a year and so the likelihood is that the systems that were placed in that were used at a much higher rate in some of the placements in university labs and others are - they're now beginning to be replaced by our partners like Millipore, Bio-Rad obviously Thermo is going through a replacing systems that were previously the LX 100/200 Systems and increasing their offering with the FLEXMAP 3D.
That shows the [indiscernible] remains the Thermo also is over 1000 system, okay and all of them eventually we will has to be changed to the new technologies, and we can see that we have growth in the moment of FM3D not only for Thermo, but from other customer. Really it’s a very healthy market, good market. It’s a market that at least some of you were not kind of giving us the credits, but I think now we are working on that to make it more successful, obviously initially we were thinking about this market to be in a growth of 6% to 9% for the year, now we are talking about being under 10% so it’s really been a growth market and hopefully it will continue this trend for few more years.
Very helpful. Thank you.
Thank you. Our next question comes from Brian Weinstein with William Blair. Your line is open.
Good morning. This is Matt Larew for Brian. My first question here is about the long-term strategy with Nanosphere and thinking about how the pipelines might code just in terms of work together. Homi you mention that a next generation Nanosphere box would be on the way.
And first just want to know what that might look like and if it might provide susceptibility. And then second, you mentioned there might be a way to leverage the technologies or happen code just in some way, both ARIES and [indiscernible], just wondering if you could talk a little bit more about other two products going forward?
Basically Nanosphere have developed one system, they had their own timeline and we had our own timeline, we are validating now the timeline and our assumption before the acquisition. At this stage, I don’t want to provide a timeline, but it’s again it is not something far away. They have a system, but I rather wait with the timeline below the 100% that we can both execute on this timelines and won’t embrace ourselves. So again - it’s probably will not too long we will speak about the timeline.
Okay. The second question is for Harriss and on the guidance on the second half understanding that perhaps some consumables may be pulled into the second quarter, obviously the system strength has been very strong. Just wondering excluding Nanosphere, the guidance for the back half was implied a little bit lower than we were expecting, where there other things that were pulled into the first half, just if you could comment on that?
Yes. So nothing was pulled into the first half - it was pure partner timing I think that we received orders in the first half that were anticipated to come in the second half and that actually affected some of the timing around consumables I mentioned consumables were expected to be down slightly in the back half the year as a result of some of those timings.
What actually we see in the quarterly guidance is that we - if you take the $13 million to $16 million of Nanosphere and you back that out of the 261 to 269 number that we provide which you end up with is an increase in the bottom of the range modestly. But then cutting a little bit of the top of the range off as well, so it was a narrowing of the range of the Luminex only, which I guess when you average it right you end up with a smaller number in the middle.
But we really didn't take down overall expectations for the business what we did we resolved issues at the end of the year. For instance clarity on LabCorp’s ultimate departure causes to be able to moderate that that top end of the range. Things like that provided you know we're halfway through the year right and so we have significantly better clarity there.
Thank you. [Operator Instructions] Our next question comes from Bill Quirk with Piper Jaffray. Your line is open.
Great. Thanks, good morning. It's Bill on for Bill I guess.
First question. Can you talk a little bit about sales team integration between Luminex as well as Nanosphere reps. Obviously we're talking about molecular diagnostics but in many ways they are different products potentially different interested parties in the lab. So, Homi maybe you could just elaborate a little bit on that?
Yes. We are in the midst of welcome integrating the sales force. I don’t think we are going to census people home and I think with the performance in-house sales force and the excellent performance of Nanosphere sales force will combined the sales force, obviously under one management that will combine the sales force and we continue to get there. At the MDx will have about 44, 45 people carrying close to $130 million of a product.
So that’s said I think it’s a very productive sales force. What we are doing in it - if you think about synergy that Luminex was planning to build up and starting actually this part of the year in anticipation to continue to grow. Our plan was to hire additional sales people to Luminex to help us to continue the penetration of the market with ARIES and et cetera.
So we are not going to hire additional sales people, but that’s the synergy we have, but overall combining the sales force, it’s a great team, very motivated to the sales force. We have [indiscernible] for the sales people as well as customer, so we are feeling very good at the direction with this integration.
Got it. And then couple of additional questions for me. On the M1, were customers presumably asking for the lower throughput system for some of the satellite labs and are you aware of any customers that may have held off on purchases because they were waiting for a lower throughput system?
No. I mean - but you are right. We listen here to customer, one of the most important things that we are working because in Luminex is to listen to what our customer asking for. And they ask royalty throughput systems for the satellite, but beyond that when you look at the system it’s giving us really a great opportunity, also as I keep saying, we are in the business of making money and compared to some of our competitor here.
And this one is lowering our costs because we are giving system away, so it's giving us a very good introduction at the lower cost to our customer without really putting too much - poking too much money out of our pocket. So, again, as I keep saying it's a modular offering. All self-people have to have more item in the bags and that's what we are getting in order to excite the customer and fighting to each of the customer what fit their needs.
Understood. And then just lastly for me, certainly appreciate all the Cystic Fibrosis commentary. Can you elaborate I guess more perhaps a longer term question here Homi, we certainly seeing a shift over the last couple of years towards panels rather than simply a Cystic Fibrosis test obviously looking at additional genetic conditions.
And so I guess two-part question. One, I guess want to hear your outlook on that space. And then secondly, no doubt you guys have seen this in the market and should we expect somewhere in the pipeline to see some sort of I guess broader panel offering within that screening product? Thanks.
This is Harriss. Let me help you out a little bit there. So with respect to CF being incorporated into a much bigger panel or overall genetic screen. The only way that really is going to happen is if reimbursements established for full genetic screenings that amount to a search if you will for I’m going to call it buried treasure, but certainly a search for things that exist in the genome that aren't apparent initially. Today the way CF is reimbursed it would be difficult to do that.
However, as the market ultimately moves there as a cost of an overall genetic screen comes down significantly. The likelihood that overall CF moves to absolutely - entirely technology like NGS is not unheard of I mean we certainly can see that happening in the long-term, but reimbursements what's going to drive a shift from a CF panel to an overall genetic panel being able to get paid for the work that you do.
Yes. But also we need to remember; in LabCorp it's totally different because the LabCorp is so big. We see a lot of smaller customer embracing our technology now. Why? Because they are not planning to have NGS, it's too expensive to them. And we provide them the perfect solution is what we have now with the panel, we have now. So, it’s again part of the overall offering to our customer.
Got it. Thanks a lot guys.
Thank you. That does conclude the Q&A session for today. I'd like to turn the call back to Homi Shamir for closing remarks.
Thank you once again, and thank you for everyone for your attendance today. We look forward to see you in person in the very near future. Have a great day.
Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone have a great day.
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