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Sequenom June 2015 Results: Another Hit From Transition To Pool

|Includes: Sequenom, Inc. (SQNM)

Sequenom reported revenues of $32.8 million and a net loss of $9.0 million for their June 2015 quarter. The stock tanked in AH by 25%, stabilizing just above $2 per share. This quarter should mark the bottom of the transition cycle to the license pool model. Despite the revenue miss and resultant selloff, this company actually beat expectations on adjusted earnings and adjusted EBITDA. The company provided some insight into several of my open questions (What to watch for link) going into this call which leads back to my question: Is the growth window open or closed looking forward? Here is a quick look at the quarter first.

Revenue and accessions

Revenue was down sequentially by $5.0 million. The company had anticipated this quarter would be down $3 million resulting in a top line miss of $2 million. Consensus was $36 million primarily because Wedbush decided to raise their revenue target 2 days ago to $38m. I won't attribute intent in this move other than to note that this firm was involved in the recent IPO of a competitor Natera (NASDAQ:NTRA) and they reduced their price target simulataneous to the revenue raise. The sequential decrease is partially explained by the Quest transition to a licensee. The company explained the remaining drop as a timing issue on reimbursements (See point 13 in updates below).

MaterniT 21 accessions were down sequentially by 19% or 8,300 tests. The company attributed approximately 8,000 of this decline to the shift by Quest (NYSE:DGX) to a licensee processing QNatal in their labs.

Other accessions were flat which was surprisingly positive considering the transition of HerediT Universal screen to Recombine on a license arrangement. Sequenom does not process this test. It has not been disclosed whether VisibiliT is in this total or in the MaterniT 21 accessions. If here, it would explain why this was flat sequentially.

Diagnostic Services Gross Margin

The trendline for diagnostic services gross margin remained intact for the quarter. This margin excludes the license revenues, looking solely at the gross margin for tests processed by Sequenom as an indication of cost containment and pricing.

  • June 2015 46.3% vs prior year 43.1%
  • March 2015 45.9% vs prior year 38.0%

NonGAAP earnings per share

This calculation excludes nonrecurring income and expenses along with noncash stock compensation expenses. For some reason the company has not provided this reconciliation which leaves it to the discretion of each analyst to come up with their own. This following table represents my calculation which is consistent with other companies I track. The loss per share for June 2015 represented a penny better than my estimate and a penny worse than consensus as contrasted to the March 2015 quarter which missed expectations by two cents per share. Street estimates do not include nonrecurring income or expenses.

  Mar14 Jun14 Sep14 Dec14 Mar15 Jun15
Net income $(15,674) $4,463 $(6,078) $18,311 $14,284 $(9,013)
IP Legal (1) $4,200 $5,300 $1,400 $2,200 $1,500 $300
IP Pool(2)       $(22,850) $(21,000)  
Restructuring (3) $910 $975   $22   $656
Discont ops (4) $(625) $(13,187)   $(1,564)    
Convert fee (5)           $1,600
Stock comp (6) $2,577 $3,890 $2,624 $2,428 $1,542 $1,865
Inc tax (7) $(246) $(6,558) $(2,107) $1,235 $76 $48

NonGAAP

$(8,858) $(5,127) $(4,161) $(218) $(3,598) $(4,544)
NonGAAP EPS (8) $(0.08) $(0.04) $(0.04) $(0.00) $(0.03) $(0.04)

Footnotes:

  1. Legal costs in G&A to defend IP portfolio. Amounts estimated based upon SEC filings.
  2. IP upfront gain recognized from Illumina (NASDAQ:ILMN).
  3. Costs associated with company restructuring and layoffs.
  4. Restructuring costs related to sale of BioScience.
  5. Cost recorded in G&A for exchange of convertible notes.
  6. Noncash stock compensation expense.
  7. Income tax expense/benefit. All costs or benefits are related to adjustments or noncash.
  8. This adjusted EPS seems most aligned with company operations.

Company cash burn disclosure

Sequenom has announced their NonGAAP cash burn for the past few quarters. The June 2015 quarter and 6 month comparisons are:

  • June 2015 quarterly cash burn of $2.9m improved $6.5m sequentially and $1.2m compared to June 2014.
  • The year-to-date cash burn of $12.3m improved $10.2m compared to the prior year cash burn of $22.5m.

Updates on questions I had going into the release

  1. Sequenom announced that there are 31 licensees under contract currently. They were not clear if this is the count as of the end of the June quarter or as of release date. Either way, it is clear that this is gaining momentum increasing from 19 at the end of December and 24 at the end of March. Increasingly this represents a larger portion of the overall NIPT test market albeit at much smaller revenues per test attributed to Sequenom.
  2. Sequenom for the first time disclosed the number of licensees that are validated and processing samples at ten. No timetable was provided on the remaining 21 licensees but it was mentioned that this process can take many months to complete.
  3. The company did not disclose the number of tests which had been converted to in-house licensed processing aside from the sequential drop of 8,000 related to Quest.
  4. Sequenom disclosed that most Illumina licensees were on a one quarter lag and that all of Sequenom licensees are recognized on an accrual basis. Illumina has the majority of the licensees and is responsible for signing and administering new customers.
  5. Management did not directly address the Wedbush comments but did say that they believe that the high risk market still has room for growth.
  6. There was no discussion related to the OB/GYN test mix on the call.
  7. Management mentioned that they were happy with the early response to VisibiliT and shared that they have a company objective of 8,000 tests for the calendar year and the product trajectory, while early, is on track.
  8. Sequenom reported an increase in Medicaid covered lives of 14 million to 40 million now representing 19 states (up from 15).
  9. MaterniT Genome was briefly discussed but no significant new information was provided on market size, timing, price or distribution strategy.
  10. No mention was made of MaterniT Genome with respect to Illumina or the IP Pool.
  11. There was no new information related to the planned liquid biopsy release later this year.
  12. There was no spending guidance provided. Sales and marketing expense dropped $127,000 sequentially.
  13. Reimbursement timing remains a cloudy issue. This was highlighted by the company as the reason for the current quarter's revenue short fall. This appears to be supported by the trended percentage of diagnostic product revenues reported on an accrual basis. The trend throughout 2014 showed steady improvement ending the December quarter at 41.0%. The March 2015 dropped to 38.7% and June 2015 dropped to 36.0%. No explanation for this decline was noted.
  14. The company did not provide any forward guidance on what operational improvements to expect from the lab consolidation.

This quarter was not a pretty one for Sequenom but upon review did show signs that this should be the bottom of their revenue erosion from customers moving to a licensee status. Unfortunately there was no update to guidance for the remainder of the year for either accessions or revenues. It appears very likely that the shortfall in the first half will NOT be made up in the second half resulting in missed annual expectations. Comps could continue to be a problem for the 2H 2015.

Is the window closed or still open? Still up for discussion in my opinion. High risk is going to be a lower revenue/higher net margin business for Sequenom. Low risk appears largely dependent upon Illumina and average risk NIPT adoption which is still likely 2-4 quarters out. MaterniT Genome is too new and requires a new CPT code. Liquid biopsy is the new cool kid on the molecular diagnostic block and everyone is gearing up for it. The window of opportunity appears to still be open but perhaps not as wide as it was in 2013.

I'm going to follow the 3-day rule and let this stock settle over the next three trading days before buying. This looks like a similar set up to the June 2013 quarter which saw a reimbursement-driven revenue and earnings shortfall. That quarter release led to a 35% selloff in the three trading days post earnings. The subsequent quarter saw a complete reversal with a 35% rally post earnings. This valuation is already quite reasonable. Once the reasons for this quarter's revenue miss are understood and if confirmed by a return to growth next quarter, this seems likely to show a similar pattern.

Disclosure: I am/we are long SQNM.

Additional disclosure: draft