Illumina, Inc. Earnings Call Nuggets: HiSeq Consumables, Capacity and Demand

On Monday, Illumina, Inc. (NASDAQ:ILMN) reported its first quarter earnings and discussed the following topics in its earnings conference call. Here are the key takeaways from executives to digest.

HiSeq Consumables

Tycho Peterson – JP Morgan: Maybe just first one on HiSeq consumables. You got back to around 300,000 per year. Is it the right run rate to kind of think about it going forward? Can you talk a little bit about how much of this is being driven by the commercial partners and how much of it is kind of on a standing order basis as well?

Jay T. Flatley – President and CEO: Well, we’re cautiously optimistic that we’re going to be able to continue to push that rate up. I mean we’re certainly not committing to forward-looking models higher than say $300,000, but as I mentioned in the script the trend lines are looking pretty good, Tycho, and so we’re pretty optimistic about our ability to continue to push this, particularly in places like Asia where we’re seeing great uptake for consumables, the overall trends from quarter-to-quarter looked very promising. When you talked about partners, you’re referring to which partners in that question?

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Tycho Peterson – JP Morgan: Sequenom and Genomic Health, and some of the commercial partners?

Jay T. Flatley – President and CEO: I see. Sure, yeah in the clinical markets that are clearly emerging now, we think that those customers will have overall very high utilization rate as they get the products into clinical application, so sequencing is leading the pack there obviously the sequencers that they’ve purchased from us, their goal would be to utilize them at as higher rate as they possibly can. So, on average that type of customer will have higher utilization and push the averages up.

Tycho Peterson – JP Morgan: You are able to talk about the percentage of customers that are on kind of standing orders, I guess, we’ve had some questions with the price increases to the extent that maybe demand was pulled forward if you could address that, that would be helpful?

Jay T. Flatley – President and CEO: Yeah. What we did there, Tycho, is we had a price increase, and we gave customers two ways to reduce the impact of that potential price increase on them. The first was if they agreed to order through – place the orders through our e-commerce system, they were able to get about 50% cut from the total increase of the price to them, and if they put a standing order in place that was essentially non-cancellable through the rest of the year, then they were able to avoid the price increases altogether. I can’t tell you exactly how many customers took advantage of that. Certainly, it was a reasonable number, I guess. I’d qualitatively characterize it as a reasonable part of the installed base, but none of those orders counted as revenue in Q1. So, there was no impact on what we reported in our $273 million for the quarter. So, those orders went into backlog, not into revenue.

Christian Henry – SVP & General Manager, Genomic Solutions: Yeah. I think, the one other thing I’d point out, Jay, is that the shelf life of the reagents makes it such that you don’t ship any customer a year’s worth of demand in front of a price increase. So, as Jay pointed out, getting people on routine schedules of deliveries will help me a lot in the operations area to make sure that we hit our forecast and push that gross margin up. Both those attempts that we made there were to try to improve the overall organizational efficiency, clearly on the ordering side for e-commerce, so we don’t have to send sales people in every time we want to get a consumable order and our ability to forecast through the year in the case of customers putting in standing orders gives us a much better ability to order raw material and to produce a correct amount of reagents in a given quarter.

Tycho Peterson – JP Morgan: Then last one, can you just touch on Japan, what really drove the strength there and how do we think about the sustainability of that trend?

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Jay T. Flatley – President and CEO: Japan was very, very strong in the quarter, and part of it was I think a return to significant incremental fundings. So they had a large funding increase last year. I think, their projections for this year forward are about 6% incremental funding. So the trend lines in Japan are very positive there. There’s probably some one-time tsunami funding that came in to try to in particular reinvigorate the economy, and I think there’s an overall resurgence in the general focus on genomic research in Japan that we’re seeing as well. I might also comment that I think organizationally we’re doing very well in Japan. We have strong leadership there and a very solid sales team. So, our execution in Japan has been excellent.

Christian Henry – SVP & General Manager, Genomic Solutions: Dave, one other point, I mean, it was the end of the fiscal year, this first quarter in Japan for many of the customers?

Jay T. Flatley – President and CEO: Yeah. That’s right. Because where the NIH it ends at the end of September, the Japanese fiscal year ends at the end of Q1.

Capacity and Demand

Doug Schenkel – Cowen & Company: You guys had a very strong MiSeq and sequencing consumable quarter, as you noted in your prepared remarks. Our check suggest that not all customers could actually get the instruments in the sequencing kits they wanted as quickly as they might have hoped, this is clearly a high class problem for the company right now, but not one that you would want to last all that long. Can you just talk about how capacity is tracking relative to demand, and the progress you expect to make relative to that in the second quarter specifically?

Jay T. Flatley – President and CEO: I’ll take the instrument, and then I’ll Christian talk about the reagents, Doug. As we entered the quarter, we had still a remaining large backlog of instruments, and the manufacturing team has done a great job of ramping up our instrument manufacturing, and we delivered quite a few of those in Q1. And so now I think we characterize exiting Q1 that we’re getting very close to commercially acceptable lead times and we generally characterize that as about 4 to 6 weeks, so that a customer could place an order and expect to be running in their laboratory with that instrument in that window of say 4 to 6 week timeframe. So, do you want to touch on the reagents question?

Christian Henry – SVP & General Manager, Genomic Solutions: Sure, on the reagent side, we have – in the first quarter, we actually had stronger demand that we’re originally anticipating, and so as we got through the quarter we shipped most of our safety stock and when we get into the second quarter, the first part of the second quarter here we’ve been rebuilding – we’re rebuilding the safety stock, so that slowed some of the shipments in the first week or two, but it really doesn’t have an impact on the overall second quarter. One thing that’s important to note is the sample prep, as Jay pointed out in his remarks our sample prep volumes have gone up dramatically in the last quarter or so, and so the complexity of the number of reagents we are making and consumables that we are shipping has increased and that’s also pushed some of the lead times for people to get sample prep reagents out a little bit, but at the end of the day as you pointed out, Doug, it is a pretty high class problem to have because we’re capturing market share in the sample prep side that we couldn’t before and on the generic reagent side, we are seeing pull through higher than we originally anticipated, which I bodes well for the year.

Doug Schenkel – Cowen & Company: So there was a study released in Nature Biotech. Nick Loman was the lead author and this study compared the performance of various next – benchtop next generation sequencers. One metric where the MiSeq was much better than the Roche 454 GS FLX Junior and the Ion Torrent platform, was homopolymers. Of how important do you think this issue is in the clinical end market? Are there instances with customers where you know you are getting competitive wins specifically because of this issue and given that one of your key competitors has been arguing that SBS chemistry has a more material homopolymer issue, what’s the importance in your view of a study like this being published in a peer-reviewed journal such as Nature Biotech?

Jay T. Flatley – President and CEO: I haven’t actually had a chance to read that yet, Doug, but with respect to homopolymers, SBS performs beautifully in homopolymers because we add a single base at a time, so whether there is three base run or a 23 base run, largely doesn’t matter to SBS chemistry. In many of the competing chemistries after you get out to 3 or 4 bases of the same type, the quality of the accuracy of the calls drops precipitously. So I think we have a significant advantage there in some of the core clinical applications, that’s exactly what you want to measure is how long is the repeat and is particularly informative in particular types of clinical diagnostic tests. So, I think that is a major advantage of the platform.

Doug Schenkel – Cowen & Company: Last question, anything you can say specific about the trade-in programs relative to basically the impact it had on a quarter specifically for PGMs is and for Roche boxes?

Jay T. Flatley – President and CEO: We have traded in a number of instruments and the number of customers that are in the evaluation queue I would say of the trade-in potential is growing considerably. So I think as we look forward over the next couple of quarters, we expect that number to grow.