Software Blip Causes Slight Revenue Miss
Brian Marckx, CFA
Q1 2012 RESULTS
Transgenomic Inc. (TBIO) reported financial results for Q1 ending March 31, 2012 on May 8th. Revenue missed our number by about 6%. The majority of the miss was from the Clinical Lab business – which is likely directly related to a laboratory software issue which management noted limited their sample processing capacity for a period during Q1. Gross margin, which came in significantly weaker than our estimate, was at least to some degree, also impacted by the software blip. Operating expenses were also higher than our numbers, although we think both gross margin and operating expenses (as a percent of revenue) will improve for the remainder of 2012.
Transgenomic continues to make progress in all of its business segments. Interest in ICE-COLD PCR in drug discover and companion diagnostics is growing and was recently highlighted by the announcement that TBIO is collaborating with the MD Anderson Cancer Center at the University of Texas to evaluate the technology in the identification of certain biomarkers in circulating tumor cells of advanced cancer patients.
The Plavix response test is expected to be a major contributor to growth of the Clinical Lab business. TBIO also continues to look to expand the product offerings and recently launched an atrial fibrilation and a nuclear mitome test.
And while the Instruments business has only treaded water over the last few quarters, with Menarini now onboard and new assays expected to be introduced over the near-term, we continue to expect that this business could begin to show meaningful growth by early 2013.
Q1 revenue was $7.2 million, down 4% y-o-y and $480k (6%) less than our $7.7 million estimate. Almost all ($436k) of the difference came from the Clinical Lab business with revenue from both the Pharmacogenomics ($630A vs $572E) and Instruments ($3.2MM A vs $3.3MM E) businesses coming in almost dead-on with our numbers.
While not giving specifics, management indicated that the software issue impacted Clinical Lab revenue by $600k (or more) in Q1 and that this revenue will not be lost but instead is expected to be deferred to Q2 when all the samples should be processed. We've made a slight upward adjustment to our Q2 Clinical Lab revenue estimate.
GM was relatively soft at 43%. We were looking for 55%. Clinical Lab margin was 38% which compares to 59% for the full year 2011. The software issue had at least some downward impact on the margin. The other component impacting GM was an initial stocking order by Menarini, TBIO's instruments distributor for the European market (distributor sales naturally carry a lower margin to TBIO). We look for GM to turn around in Q2 as both of these factors should have much less impact. Also noteworthy is that the Pharmacogenomics GM was 60% in Q1 – driven by the solid $630k revenue in that business (Pharmacogenomics business is highly scalable).
Net Income / EPS
Net income and EPS came in at ($2.9) million and ($0.05) compared to our ($1.2) million and ($0.02) estimates. The majority of the difference was the lower gross margin and higher operating expenses. We model a slight sequential uptick in operating expenses throughout the remainder of 2012 (although lower as a percent of sales), mostly reflective of expected growth in revenue.
Transgenomic exited Q1 with $19.3 million in cash and equivalents, compared to $4.9 million at the end of 2011. Cash balance benefitted from the January sale of $3 million in convertible notes (which were subsequently converted to equity) and the February sale of $19 million in common stock. $7.3 million of the $8.6 million PGxHealth note is due within 1 year with the remainder due by December 2013. TBIO should have no problem covering the note.
Cash used in operations was $2.8 million in Q1 but excluding changes in working capital (which included a $1.1 million decrease in A/P), cash used in operations was $1.4 million. We expect cash burn to significantly moderate going forward.
OUR 2012 OUTLOOK
We've made some slight tweaks to our model following Q1 results. We model 2012 revenue of $36.3 million, implying growth of 13% from 2011. We look for Laboratory Services and Instruments to generate revenue of $22.8 million (24%) and $13.4 million (-2%), respectively. We think net income and EPS come in at ($4.4) million and ($0.06). We are maintaining our Outperform rating and $2.50/share price target.
Our $22.8 million revenue estimate for Laboratory Services assumes meaningful contribution from recently launched new products in the clinical lab segment, including the Plavix response and atrial fibrillation tests. Transgenomic is clearly excited about the potential opportunity of the Plavix test in particular and already began dedicating more sales and marketing resources to promote the product. As we noted in the past, the market for Plavix is huge (the second largest selling drug) and will likely expand with the impending patent expiration, which could also translate into an enormous opportunity for Transgenomic – depending on the ultimate interest in and success of the test, our clinical lab revenue estimates could end up low (possibly substantially so, especially in 2013 and beyond). And while revenue from the pharmacogenomics business did not ramp as quickly in 2011 as Transgenomic had hoped would be the case (although it to show strong growth on a % basis and rebounded nicely in Q1 2012), management continues to indicate that there is substantial interest in their technology from some prominent names in pharma and they continue to score more and more clinical trials business. The MD Anderson collaboration is indicative of the interest in ICE-COLD PCR. Our model assumes pharmacogenomics revenue shows a steeper ramp towards mid-2012.
We model the equipment portion of Transgenomic's instrument business to fall 2% in 2012 but revenue from the consumables business to hold up much better and eke out 1% growth due to selling to a larger installed base. Benefitting from the Menarini distribution agreement, along with new consumable product launches including several new cancer kits we think the instruments business can stem the slide in revenue in 2013 and return to growth that year.
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