OraSure Technologies, Inc. (OSUR) Q3 2021 Earnings Report, Transcript and Summary

Welcome to the OraSure Technologies, Incorporated 2021 Third Quarter Earnings Conference Call. My name is Adrian, and I’ll be your operator for today’s call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. [Operator Instructions] I’ll now turn the call over to Scott Gleason, Interim CFO. Mr. Gleason, you may begin.

Good afternoon, and welcome to the OraSure Technologies third quarter 2021 earnings call. I am Scott Gleason, the Interim CFO and SVP of Investor Relations and Communications. Presenting with me today is from OraSure is Dr. Stephen Tang, our President and Chief Executive Officer. As a reminder, today’s webcast is being recorded and a recording along with the presentation accompanying the webcast can be found on our Investor Relations website. Before we begin, you should know that this call may contain certain forward-looking statements, including statements with respect to revenues, expenses, profitability, earnings or loss per share and other financial performance, product development, performance, shipments and markets, business plans, regulatory filings and approvals, expectations and strategies. Actual results could be significantly different. Factors that could affect results are discussed more fully in the company’s SEC filings, including its registration statements, its Annual Reports on Form 10-K for the year ended December 31, 2020, its quarterly reports on Form 10-Q and its other SEC filings. Although forward-looking statements help to provide complete information about future prospects, listeners should keep in mind that forward-looking statements are based solely on information available to management as of today. The company undertakes no obligation to update any forward-looking statements to reflect events or circumstances after this call. With that, I’m pleased to turn the call over to Dr. Steve Tang.

Thanks, Scott, and thank you to everyone for joining us on the call today. This quarter, OraSure once again delivered strong top line performance with sales of our core products growing 37% year-over-year. As an organization, we began setting the stage for even more rapid growth as we look forward to fiscal year 2022. The global pandemic is providing the impetus to fundamentally transform our company into a higher growth and more innovative organization with broader customer reach, both within and outside the United States. Perhaps as importantly, what we call effortless diagnostics, which are diagnostic products and collection kits that are so simple in design that can be used in any setting are having a watershed moment. Consumers, healthcare workers and regulators are seeing the power of these tests can have on addressing our greatest public health challenges. We see significant opportunity to capitalize on these trends and utilize InteliSwab growth to permanently enhance our operational profile and our competitive positioning through investments in automation and efficiency. We will increasingly talk about these plans as we transition into fiscal year 2022. We remain highly focused on executing on our strategic priorities, including capitalizing on COVID-19 testing opportunity, expanding our sample collection and molecular services businesses and even further, in support of our multi-omics discovery in diagnostics, expanding our global reach and driving innovation with a focus on achieving higher growth for both internal R&D and M&A. I would now like to discuss our progress in each of these areas. First, as we look to the COVID-19 testing opportunity, we are convinced that COVID-19 testing will be an integral part of our business over the long-term. Internal and external market models project testing demand based on vaccination rates in epidemiology and forecast a slow taper in disease instance and testing over the next five years. Coupled with recent discussions with the federal government and Fortune 500 employers, we are increasingly convinced of the durability of our InteliSwab as a product for the company. And as you can see on Slide 5, our epidemiological based model forecasts a global testing market of approximately 1.1 billion rapid antigen tests by 2025. Rapid COVID-19 antigen test, especially extremely easy to use tests, such as InteliSwab are having a breakthrough moment in the United States. The ability to rapidly assess disease status outside of healthcare settings by an untrained user is proven to be a critical tool in countering the pandemic, and this is an area where OraSure has a long history and expertise. In this quarter alone, we received over $400 million in customer orders, including those from major commercial retailers such as Walgreens and Walmart and other major retail customers, which we had to turn away due to manufacturing constraints. We’ve also had to perceived orders and increase from multiple Fortune 500 companies, major healthcare systems and numerous entertainment and hospitality customers. You may have even noticed singer Sheryl Crow tweeting about the use of InteliSwab with our touring team. We are currently in a position where we can sell every test we can manufacture, and believe this paradigm will persist into at least fiscal year 2022. This quarter, we also signed three major U.S. government contracts that are transformationable for the company as we look to the future. The first is a $205 million procurement contract from the Defense Logistics Agency for InteliSwab over-the-counter test. This contract is strategically important for the company, and we bid aggressively to ensure we would win a significant portion of this business for several reasons. First, this contract will essentially fill the factory for assuring fiscal year 2022, providing meaningful fixed cost absorption and ensuring we generate significant free cash flow, which we can reinvest in growth and utilize to further expand our war chest for strategic mergers and acquisitions. Importantly, given this fixed cost absorption, the contribution margin on additional testing beyond the government contract will be higher. Second, as part of the contract, we will ship product to up to 25,000 customers across the United States, expanding our customer interactions and enabling even more consumers to experience the simplicity of testing that only InteliSwab can provide. The second major contract we received was $109 million contract with the Department of Defense to expand our manufacturing capacity for InteliSwab. This contract further integrates us as part of the government’s pandemic response program and will increase our annual capacity for InteliSwab test production to 200 million tests by early 2024. Under this contract, the capital equipment investments, installation and validation work will be funded by the government, thereby increasing our ability to supply InteliSwab tests and improving our long-term cost structure. Finally, we will receive up to $13.6 million from the Biomedical Advanced Research Development Authority to fund our additional clinical studies in application for FDA 510(k) clearance and CLIA waiver for InteliSwab. Once received, these full regulatory clearances will ensure that InteliSwab remains commercially available long-term, even after the pandemic is declared over and the Emergency Use Authorizations are no longer allowed. We also received a label claim expansion from the FDA as it pertains to our InteliSwab COVID-19 rapid test, where the FDA revised the over-the-counter indication, enabling everyone with symptoms to only use one test to determine if they have COVID-19. Those without symptoms will still be directed to test twice within 24 to 36 hours if their first test is negative. In addition, we have submitted to the FDA to expand our age range across all of our EUAs to include children, ages 2 to 14, in addition to our prior authorizations for age 15 and up. Per FDA agreed upon protocols, we conducted both pediatric-specific usability and clinical studies to ensure acceptability and performance in this population. We are now awaiting FDA review of this data. We also submitted for authorization of our new reporting app InteliSwab Connect, which can be used by communities, schools and businesses to record, save and report their results to public health. Finally, we conducted studies with live Delta and Lambda variants in two independent labs and detected both variants in addition to Alpha, Beta, and Gamma variants from prior studies. While we believe the preponderance of our InteliSwab revenues in fiscal year 2022 will be domestic, our long-range plan has increased contribution from international markets over time. In fiscal year 2022, we are planning to conduct studies to support the CE Mark for InteliSwab with a configuration most appropriate for countries outside the United States. Finally, we have continued to make progress in our manufacturing scale-up for InteliSwab, but are behind where we would hope to be from a test production standpoint. Despite the challenges we are facing, we continue to believe we are on track to generate approximately $30 million in total InteliSwab revenue for this year. We believe we’ve isolated the scale-up challenges to be primarily caused by variability in certain raw materials and processing steps, and we are currently working with vendors and third-party experts to achieve a resolution. Importantly, as we look to January of next year, we believe we are on track to scale to greater than 4 million InteliSwab tests per month, which is our current installed capacity, assuming resolution of the manufacturing process. However, given time lines to pack tests into finish OTC two pack kits, our sales run rate will likely be below this level for the first quarter. We continue to anticipate being at annual production levels of approximately 8 million InteliSwab tests per month by June and are looking at more ways to rapidly scale and supply significant market demand that currently exists. Next, I’d like to discuss some of our recent internal innovation and highlight our work in expanding sample coverage and analytical services as part of our multi-omic vision. In the first quarter of next year, we expect to launch a new GUT metatranscriptome collection kit and related service offerings through our Diversigen subsidiary. For those of you that don’t know, the metatranscriptome looks at gene level expressions across the genome, in this case, the metagenome. Our pharmaceutical and research customers have been highly interested in this technology, which we believe will expand our current microbiome offerings and provide a new avenue for growth in both collection kits and services. We continually evaluate new opportunities to introduce new collection kits and services in support of our vision, enabling multi-omic discoveries and diagnostics. On that note, in the first half of fiscal year 2022, we plan to take a step forward in our microbiome program and launched the first FDA-cleared collection kit for GUT microbiome. We have submitted our application for this product to the FDA and are awaiting regulatory approval. This innovation will support our commercial customers as they seek to launch clinical assays based on the microbiome or want the reliability of an FDA-cleared device in their therapeutic development programs. Additionally, we’re looking at our Colli-Pee, first full urine collection device, we have seen the commercial interest following the publication of data demonstrating similar sensitivity and specificity with Colli-Pee to clinician collected cervical samples using Abbott’s real time, high-risk human papilloma virus assay for the detection of neoplasia. We plan to present and publish additional data sets with other major HPV test manufacturers in the first half of fiscal year 2022. To support further applications of Colli-Pee, we are launching a new research use only chemistry to stabilize analytes in urine, critical to oncology applications such as liquid biopsy. This will allow us access to additional high-growth segments of the oncology market. Moving on to our strategy to expand our global reach and presence, we continue to see strong adoption of our OraQuick HIV test internationally, driven by the double-digit annual growth since 2016 of our HIV self-test, the only CE Mark and World Health Organization pre-qualified oral fluid self-test for HIV in the world. And as we look forward to 2023, InteliSwab could become our largest international product and could provide the impetus for further international expansion and new customer relationships outside the United States. For our legacy business, we continue to expand our global reach and now have over 445 product registrations in 98 countries. These efforts were aided this quarter with a receipt of our Thailand pre-sale certificate for OraQuick HIV cell test. This was an important certification, which now enables us to obtain registrations and sell our tests in a number of Latin American and Asian countries. With our molecular collection kit business, we have identified eight target countries predominantly in Europe and Asia, where we see an ongoing demand for PCR testing and an opportunity for expanding the use of our products. We plan to make broader inroads internationally with our collection kits business in the coming years. Finally, I’d like to discuss our strategic priority of driving innovation with a focus on higher growth spaces through internal research and development and mergers and acquisitions. Now that we have successfully launched InteliSwab, which was a major R&D undertaking. We are planning on investing more heavily in research and development to build our internal product development capabilities. We have a number of products we have publicly spoken about including novel new point of care tests to determine medication adherence for PrEP and anti-retroviral drugs from our UrSure acquisition last summer. The launch of the CE mark HIV oral fluid self test in Europe, our Colli-Pee research collaborations with major diagnostic manufacturers in human papilloma virus and other sexually transmitted diseases and our upcoming gut metatranscriptome collection kits in diverse and service launch. Beyond these initiatives, we have other pipeline development projects we will look at to showcase in future investor events. From an external business development standpoint, we are highly focused and currently engaged in evaluating a number of potential opportunities. One area of strategic interest is to find the next generation platform for our broader expansion into what we call effortless diagnostics. We have seen the market increasing transition to point of care testing and these trends have only begun to accelerate during the pandemic. We are currently in discussions with the number of companies which really could increase a customer value proposition around our diagnostic products and facilitate broader test menu expansion. We continue to evaluate technology and product adjacencies that would complement our molecular solutions business and facilitate our strategy of enabling multiomics through expanded kit service and data integration offerings. The global pandemic’s provided OraSure with the opportunity to fundamentally transform the company, spur innovation, invest for growth and increase our efficiency as an organization. We have now updated our strategic plan and we believe our plan will position OraSure to unlock shareholder value in the coming years. We look forward to sharing key elements of this plan with the investment community in the first half of 2022. With that, I’d like to turn the call over to Scott to address our financial results and outlook.

Thanks, Steve. I’m pleased to discuss our financial results for the third quarter and provide updates on our financial outlook. First, from a top line perspective, we deliver total revenue of $53.9 million in the third quarter of 2021 compared to $48 million in the prior year, representing year-over-year growth of 12%. Excluding COVID 19 revenue, our core business grew 37% in the quarter to over $40 million, reflecting a continuation of the strong growth trends we saw last quarter. This quarter, we had record diagnostic revenue, which was $23.5 million versus $16.3 million in the previous year, reflecting 44% growth. This growth was driven primarily by InteliSwab. Our HIV business was relatively flat year-over-year for two reasons. First, the Bill & Melinda Gates Foundation subsidy for our international HIV self test business expired in the second quarter, which negatively impacted revenue despite test volume growth on a year over year basis. Secondly, we continue to see logistical issues with shipping and with our NGO partners in Africa, which impacted international HIV sales as COVID-19 spiked in much of Africa and Asia this quarter. We anticipate some improvement on this front in the fourth quarter. In terms of domestic HIV testing, there was a recent publication with results from the center for disease controls take me home program, where our OraQuick HIV self test were shipped directly to consumers. The study found that 37% of the high risk consumers receiving a test had never been tested at all in the past and 56% had not been tested for HIV in the last year. This data was very positively received and we are optimistic that it could lead to further utilization of home HIV, self testing. As a reminder, our OraQuick oral fluid HIV test is the only over the counter self test for HIV in the United States and required significant studies to gain PMA approval. This quarter we also continue to see strong growth in our HCV and drugs-of-abuse testing businesses, based predominantly on a recovery and testing from the impact of the pandemic. Finally, we have stronger than anticipated InteliSwab revenue in the quarter of $7.7 million, predominantly based upon better than forecasted test pricing. As we stated last quarter, we have seen exceptionally strong customer demand for InteliSwab, and we can sell every test we can manufacture. So our performance spends on our ability to produce tests. As Steve mentioned earlier in the call, we are ramping production on a weekly basis, but remain constrained due to raw material variability and processing issues. For the year, we are anticipating approximately $30 million in InteliSwab revenue and our goal is to have our production capacity match our installed capacity early in the first quarter. Given demand levels, we are also evaluating ways to further accelerate our production capacity. Looking at the Molecular Solutions business, total third quarter revenue was $30.4 million and declined 4% from the same period last year. This decline was entirely driven by lower sales of our molecular collection kits for COVID-19, casting of $6.3 million in the quarter versus $18.8 million in the same period of the prior year as customers experienced lower PCR testing levels due to vaccination rates and an increase in the available point-of-care rapid antigen tests. Excluding COVID-19 testing, Molecular Solutions revenue grew 87% year-over-year, driven by an ongoing rebound in research and clinical markets as well as an accelerated ordering patterns of seasonal customers, seeking to ensure product availability for holiday promotions. We continue to take a conservative outlook for the COVID-19 molecular collection kit business, but it is possible we could see a step-up in revenue in the fourth quarter as some of our customers resume back to school and workplace testing programs. Microbiome services revenue in the quarter was $2.4 million and grew 6% year-over-year. Revenue this quarter was negatively impacted by the timing of our pharmaceutical partner contracts. However, we are anticipating a strong fourth quarter. Turning to gross margins, our gross margin percentage in the third quarter was 39.8% compared to 63.1% in the same period last year. The decline in overall gross margin this quarter was primarily due to our production scale up for InteliSwab as our equipment and labor was utilized inefficiently relative to the revenue base this quarter for InteliSwab. We also had material scrap rates higher than we anticipate in the future as we streamline our production process and we are seeing a negative impact on all of our products, including InteliSwab from the higher shipping costs associated with the global supply chain crisis. We also saw a detrimental gross margin impact in the quarter on a year-over-year basis from product and customer mix and the expiration of the Bill & Melinda Gates subsidy. We also had a $1.8 million reserve on inventory this quarter related to our oral fluid antibody test, where we had built inventory in anticipation of an EUA and withdrawn that application to focus on research use sales given the antibody testing market for COVID-19. Looking forward to 2022, our gross margins and operating margins will be impacted by the large government procurement contract for InteliSwab. We priced the government contract to have an attractive operating margin, but the gross margins on this business will be significantly below our historical gross margins for the company. These gross margins include our incremental shipping costs, which will be significantly under the contract due to the fact that it requires potential shipment of low volumes to up to 25,000 customers in the U.S. This was done strategically to ensure we would be well positioned to win a significant part of the contract and knowing that from an operating profit standpoint we will not incur significant additional expenses beyond our manufacturing and shipping costs. Importantly, this contract fills our factory for next year and makes the contribution on the remaining business higher. From an expense standpoint, total operating expenses in the quarter were $34.5 million compared to $25.9 million in the third quarter of last year. Higher expenses in the quarter were predominantly attributable to higher sales and marketing costs with our new InteliSwab launch and expenses associated with our strategic review. In the quarter, we had an operating loss of $13 million compared to an operating profit of $4.4 million in the third quarter of 2020. We expect to once again generate negative operating income in the fiscal fourth quarter due to production inefficiencies and our scaling of the InteliSwab business and then transition to a meaningful operating profit in fiscal year 2022. Moving to the bottom line, we generated a loss per share of $0.21 in the third quarter of this year compared to a net profit of $0.01 per share in the same quarter last year. Looking at our financial outlook, we are raising our financial guidance for the year and are now anticipating total revenue of $230 million to $233 million versus our prior guidance, which called for full year revenues of approximately $230 million. This implies fourth quarter revenue of $60 million to $63 million. Looking at our 4Q revenues, we’re expecting lower sales in molecular collection kits due to the timing of orders in some of our larger consumer testing customers. From an expense perspective, we expect gross margins to once again be similar to what we saw in the third quarter due to a continuation of the issues we previously discussed. We are also anticipating higher operating expenses. Several of our ongoing completed InteliSwab post marketing and clinical studies will lead to higher R&D expenses in the fourth quarter. We also expect higher SG&A expenses as we prepare for the significant commercial ramp for our business in fiscal year 2022. While we are in a transitory period here, we are well positioned as we look to next year to significantly scale our revenue base, which will facilitate further investment by the company and growth initiatives. With that, I’m pleased to turn the call back over to Steve.

Thanks, Scott. Our goal all along is to emerge from the pandemic as a larger and faster growing company. We strongly believe that the tailwind behind InteliSwab revenue is longer than most investors give us credit for and will facilitate significant growth investment in the organization in the coming years. We also see additional tangible benefits, such as growing our customer base, expanding our global reach into new markets and demonstrating the significant clinical importance of effortless diagnostics that empower consumers and healthcare workers. Our expertise in this area positions us exceptionally well for the healthcare market of the future. With that, I’d like to turn the call back over to Scott for Q&A.

Thanks, Steve. Operator, we’re now ready to begin the Q&A portion of the call. We would ask that you limit your questions to one question and one follow-up to ensure broad participation.

Thank you. We’ll now begin the question-and-answer session. [Operator Instructions] And our first question comes from Vijay Kumar from Evercore.

Hi. This is Kevin on for Vijay. And thanks for taking the question. Looking at guidance for 4Q, guide seems to imply a decline in base business growth, excluding COVID. Considering volumes and utilization is normalizing, what is causing the decline? And can you just walk us through the assumptions for 4Q guidance? Thank you.

Thanks for the question, Kevin. This is Scott. There’s a couple of factors. When we look at the fourth quarter that we mentioned on the call, they’re really driving that sequential change in the core business. The first one is when we look at the molecular kits business, some of our larger and more consumer-focused customers there changed the timing of some of their ordering patterns, where they took more products in the third quarter. And so we would anticipate that that portion of the business being down in the fourth quarter. The second factor is just when you look at the COVID molecular collection kits, we are modeling that business being down sequentially. As I stated on the call, that’s potentially a conservative assumption given some of the conversations we’ve had with our customers, but we feel it’s prudent right now, just given what we know in terms of the outlook. And so those are really the two factors outside of InteliSwab that are driving kind of the core piece downwards on a sequential basis.

Vijay, do you have another question?

No, that’s it. Thank you.

Okay, thank you. And our next question comes from Andrew Cooper from Raymond James. Your line is open.

Hey, guys. Thanks for the questions. Maybe first just thinking about sort of the capacity ramps and what’s going on there. Previously, we talked about technology transfer and now we’re hearing about some new things in terms of the incoming raw materials and the processing steps. So are these related or are these kind of new challenges? And can you just give us a little bit more flavor for what these issues are and how you can go about resolving them and how quick that can actually occur?

Yes, certainly, Andrew, it’s Steve. These are not different problems than what we expressed after our call in August for the second quarter. What we’ve been doing is narrowing down the factors effectively, and that’s why we have expressed them today in terms of certain raw materials and processing steps. So we are successfully worked the list of potential issues down to a small number. And I think what you can read into this is, first of all, we’re not happy with the situation. We’re not – we’re doing everything we can to resolve it as quickly as possible. Many people are working 24/7 on this. But obviously, when you leave $400 million in customer orders on the table are not able to fulfill them that is highly disappointing. So, I want to say that upfront. Having said that, when we provided our guidance for the fourth quarter, $30 million in InteliSwab sales for 2021 and looked at the ramp to 4 million tests per month in the first quarter next year and then moving to 8 million tests per month by June, all that has built in expectations for the ramp up from here. So it’s not where it needs to be today, clearly, but I think we see the path forward from here. We understand the issues. We’ve gotten experts from our equipment manufacturers, additional expertise in engineering and lateral flow technology. So, we are on it. I think we’re very close to having this fully resolved in the near future.

Okay, helpful. And then…

No, Andrew, I think the only thing I would add to that it’s important to understand that we are scaling on a weekly basis. It’s just not quite yet at the rate that we wanted to be at this point.

Understood. Understood. Okay. And then maybe as a related follow-up and then I’ll stop. Just as we think about the government contract in terms of the big purchase order and that volume or that capacity that you’re expecting to reach, it doesn’t necessarily leave a ton to try to – a ton of slack to hit the full $205 million purchase. How do we think about maybe timing of the shipments there? And then what’s left to necessarily go out to the more kind of traditional market? How do we think about what the mix might look like from that perspective?

Yes, Andrew. So we receive orders from the government on a weekly basis and we’re working the product mix in real-time here. But I think we’ve shared previously, the preponderance of the government orders are going to be in 2022, so we’re just starting with them. And the government has actually been very responsive to our need to supply commercial customers. Part of the $400 million in customer order demand that we cited in our call are not only driven by retailers like Walgreens and Walmarts, but there are large Fortune 500 employers who are buying in bulk for testing and programs, probably in anticipation of the Department of Labor and OSHA regulations, which will come on stream fairly soon. So I think we can work the product mix in a way that’s favorable to our bottom line and that’s a discussion we have with the government every week.

Okay, great. I’ll stop there. I know we wanted to limit it. I might hop in back at the end. Thanks.

Thank you.

Thanks, Andrew.

And our next question comes from Brandon Couillard from Jefferies. Your line is open.

Hey, guys. It’s Matt on for Brandon. I just want to add one on the M&A pipeline, Steven. You noted you’re evaluating a number of opportunities, especially in the area of next-gen diagnostics. I think you coined it effortless diagnostics. Just add a little more color on the pipeline today, if it’s a little bit more actionable than maybe it has been in the past. And then as we think about any potential deals, kind of talk about more tuck-ins where you can build out the menu over time versus something that could be potentially more transformative. Thank you.

Yes. Certainly on that. So we’ve been talking about the deal flow for some time. And obviously, that change is depending on the circumstances and willing sellers, let me put it that way. Today, I think we’ve never seen a more robust pipeline than we have for the rest of the year. And you’re absolutely right, we have called out effortless diagnostics and next-generation platforms and that’s certainly an area we’re interested in. But they’re also, as you said, tuck-in opportunities like the deals that we’ve done over the past three years, CoreBiome, Diversigen, Novosanis, et cetera, UrSure. These are all companies that could have impact in the three to five-year time period. But there are bigger deals out there that we’re looking at. And I think that our ability to transact has never been better given what the prospects are right now in the pipeline.

Super. Thank you.

Thank you.

And our next question comes from Frank Takkinen from Lake Street Capital. Your line is open.

Steve, Scott, thanks for taking my questions. I wanted to start with the $400 million in orders you referenced. Give us a little bit more color on that if you can. And specifically how much of that do you think is still up for grabs versus how much of that was maybe a function of delta variant spiking and individuals rushing out to shore up their inventory in relation to that. So just maybe give us a little feel into the durability of that $400 million.

Yes, certainly, Frank. Thanks for the question. It’s hard to say how much of that $400 million we can convert because circumstances change over time. But I think you’re right in calling out the demand initially based on delta variant. But I think also in the factors that matter, back to school and back to work programs are still underway today. And there’s been an endemic shortage of rapid antigen test, not only from us but from other manufacturers as well. So we expect to convert some of that $400 million. We can’t say exactly how much. We – customers – we kept in touch with these customers throughout this process and have tried to schedule when we can have capacity to meet their needs. And so we expect some of them to come back, probably not all of them to come back based on the circumstances. But the other thing which I think is very important is the use of rapid antigen test is a new phenomenon for everybody. This is not something that people have been used to doing routinely, weekly, daily, whatever the case may be based on your exposure pattern to other people. But they’re starting to understand it, which I think is driving initial awareness and demand. And then as I mentioned previously, Department of Labor, OSHA requirements for testing in vaccination, I think, will be make clearer what the need is for anybody that’s convening people together, whether they’re employers or sports stadiums or concert venues, nursing homes, prisons, et cetera. We’ll have a tighter, I think, specification, what’s needed and the requirements for employers from there. So we’re very optimistic that there’s going to be reoccurring demand and that’s why we pointed to the durability of this opportunity for OraSure.

And then just a follow-up for Scott. I heard a lot of moving pieces in gross margins. I heard your comment about Q4 likely to be similar to Q3. Maybe give us a little sense to how gross margins you feel will look once we get through the different manufacturing and scale up inefficiencies that we’re experiencing now, some goalpost would be fantastic if we can think about getting back to the 50% range or if it’s 40% range anything in that area would be great.

Frank, I think it’s important, first off, just to point out, we had a kind of a number of transitory factors this quarter, right? We cited the issues associated with the InteliSwab scale up. We’re just not efficiently utilizing our overhead. We’re doing a lot of employee training as we get ready for a manufacturing at higher levels. And so that was a major issue in the quarter. We also had the reserve of $1.8 million, which had a pretty significant impact on the margins this quarter. And then the other piece is the exploration of the Bill & Melinda Gates Foundation subsidy. I think when you look to next year and you think about our margin structure, I think when you think about the core business, the core business obviously depends on mix. But the core business, our gross margin structure currently is in kind of the mid to high-50s. And then obviously, we have the InteliSwab component, right, which will be at a lower gross margin. And so hopefully, that gives you a little bit of granularity in terms of kind of how to think about the overall margin structure next year.

Got it. That’s helpful. Thanks for taking my questions.

[Operator Instructions] And our next question comes from Vijay Kumar from Evercore.

Hey, guys. Thanks for taking my question. Steve, one, I just want to make sure I understand the Q4 base business trajectory. My math 2Q base revenues were $40 million, right. We had a total of $54 million with collection InteliSwab was about 14-ish. The guidance for Q4, is it implying a sequential step down from the $40 million for the base business? Look, historically, your Q4 revenues have been higher than 2Q and from everything that we’ve been hearing, utilization is getting back to normalcy post the disruption in the third quarter. Can you just talk about the base business sequential should be above or below the $40 million that we saw in 3Q?

Yes. Vijay, thanks for the question. I’ll state the top line and then Scott can give you detail. This is similar to a previous question, though. What’s driving that sequential step down in the fourth quarter in the base business is timing for our Genomics sector within Molecular Solutions. And so it’s saliva collection kits, primarily driven by consumer-based companies who change their buying behavior. You may recall historically that the fourth quarter is when they normally made their big buys, in this case, they made their big buys in the third quarter. So it was a timing issue primarily related around that particular issue.

Understood. And just on a couple of clarification on that questions. Scott, did you say core gross margins from mid to high-50s? And if I did hear that that correctly, pre-pandemic, you guys were running at 60, 60-plus. What’s caused as gross margins to step down to the mid to upper-50s?

Yes, Vijay. There’s been a couple of drivers there. The first one is really kind of related to product mix, right, as we look at some of the mix issues. Now, when we talk about core, we’re obviously also excluding the COVID collection kits, which are one of our highest gross margin businesses. The second piece, which has kind of driven some changes is the expiration of the Bill and Melinda Gates Foundation subsidy. And so when we look at our international business, the gross margins for that business are quite a bit lower than the overall gross margins. And then the third component is really tied to similar things that other companies are seeing in terms of shipping costs and labor costs have obviously been on the rise. And so it’s really those three factors that have really driven the changes that we’ve seen there.

Understood. And Steve, just one, the last one for you. On the code manufacturing side, the $4 million monthly run rate in January, is that now – have all issues been resolved and are there still outstanding issues? Are there any risk to hitting that $4 million in Jan? And if we do hit $4 million a month on the production side, what’s the right way to think about code assumptions for fiscal 2022 for antigen revenues?

Yes. So Vijay, we haven’t given guidance for InteliSwab revenue for 2022, at least not yet. And the way you think about the $4 million is, that’s our current projection based on our current course and speed of manufacturing, okay. So like anything else, there is risk in that. But that takes into account the time frame that we believe we need to do to solve the issues that we have in hand related to raw material variability and certain processing stuff variability. So that $4 million just ties to the – what we’ve stated before, which is 70 million units of InteliSwab per year, which also takes into account that in our base business, there’s somewhere around 15 million to 20 million units for the OraQuick platform embedded in that. So those numbers do tie together based on our machine capacity and also our time frame for fully resolving the manufacturing issues.

What are these issues, Steve, the manufacturing issues? Is that, maybe in simplistic firms, basic blocking and tackling or would be something perhaps more of a process related change that could have some risk?

Well, they’re not process related changes. It’s the same process and bill of goods and processing steps that we’ve had from the EUA process on. So the challenge has been moving from more of a manual process to an automated process. And so that’s where – when and where the issues became apparent as we shared in August. And so we’ve been working diligently. So I want to be clear, there are not any new problems that have developed since we reported in August. And in fact, we’ve narrowed our sights on the critical few, involving raw materials and certain processing steps.

Understood. Thanks, guys.

Thanks, Vijay.

Thanks, Vijay.

Okay. Our next question comes from Patrick Donnelly from Citi. Your line is open.

This is [indiscernible] on for Patrick. I was wondering if you guys could touch on, I guess, what you’re seeing in hiring retention and wages. I know we’ve talking about couple of other companies and there’s some issues there given inflation and everything. I was wondering if you guys could expand upon that. Thank you.

Certainly, Elizabeth. It’s no doubt a tight labor market and we’ve experienced that primarily in the Lehigh Valley, where we’re hiring to ramp up for InteliSwab, particularly in the manufacturing area. Having said that, I think we are getting traction of late in filling key roles. But this is an endemic issue today. I think there’s a – I think it was a macro view that came out a week or so ago that said that labor costs have gone up in the past quarter more so than they have been in previous quarters for some time. So we’re not immune to that phenomenon. But I think we are successful in hiring folks. I think the most successful we’ve been is when we hire folks that are referred by other employees. And so I think there’s a stickiness to that sort of retention when somebody knows that somebody else is at the company and that continues to, I think, give us good employees that stay with us for the long-term.

Thank you. And just as a follow-up, are you guys seeing any impact from the nursing shortage unemployment there? Thank you.

I don’t think we can identify anything from the nursing shortage perspective. No, not particularly.

Okay. Thank you.

You’re welcome.

And our next question comes from Andrew Cooper from Raymond James.

Hi, thanks for let me hop back in. Maybe just to talk about something that’s not COVID for a minute here. You talked about having submitted to the FDA for the GUT – the commercial GUT microbiome product. Can you give us a little bit of flavor for the use cases you see there and where you think we are in the process of having some of those things that have historically been a little bit more on the research side and not really kind of true commercial, where are we in terms of those things hitting more of a commercial use case in a commercial market?

Yes, Andrew. Thanks. This is a lot like skating to where the puck is going to be, right. And so what we have in-store for this FDA-cleared device for the microbiome is for its use in clinical trials. So when you need a FDA-cleared device for that process, and there are several of our customers, which we reported back in August, who are in therapeutic development programs, Phase 1, Phase 2 clinical trials, et cetera. In addition, there is an inherent reliability when you have an FDA-cleared device, even though you may not need it immediately. So this is very similar to where we were with our saliva collection device, early days in 2015, 2016, where we took the steps to get that device cleared. And then the FDA, as everyone knows, required of consumer genomics companies that have their protocols, FDA cleared. And so we were in the right place and the right time based on our investments in moving through FDA clearance for saliva collection device and we’re doing the same for the microbiome. So I think we are arriving at the point of an inflection for commercial use for our product in clinical trials and beyond. So I think that we see similar here, which is based on our own experience, and that’s what we’re planning for.

Okay, great. I’ll stop there. Thanks, again.

Thanks, Andrew.

And our next question comes from Jacob Johnson from Stephens. Your line is open.

Hey, good evening, everybody. Steve, something you called out in your comments and in your deck is that the increased investment in your internal R&D pipeline. Can you want to talk about kind of what the initiative is there? And then maybe for Scott, if you could just kind of help frame up how we should think about the pickup in R&D expenses maybe as we head into 4Q and beyond that to the extent you want to?

Yes. Certainly, Jacob. So I’ll start with some of the products that I mentioned in the call here. We’re working towards an HIV self-test to be cleared in Europe next year. We’re working towards a PrEP adherence product. We’re working towards the 510 clear device for the microbiome, which I just mentioned, as well as the metatranscriptone product and service offering for the microbiome as well. And not to big note in all this is a cost reduction for our InteliSwab product, which is good, which we’re moving through online as well. So there are a number of key activities here that we’ve outlined and highlighted, which I think will be – give us engines for growth through these innovations, and that’s why we’re making the investments today.

Yes. And Jacob, I would just add to that. Obviously, it hasn’t been lost on us with the significant uptick in revenue we’re going to see with InteliSwab next year. One of the things we’ve looked to do is to enhance and build out our internal R&D function. And so that will be part of a process that will be starting really as we go into next year. Right now you’re also seeing some increased research and development spend associated specifically with the InteliSwab. And so the studies that we are running for the EUA label expansions, for instance, those are all really hit in the second half of the year here. And so those are also part of the cost. Our study for CE Mark will obviously be in there. And so there’s several things ongoing on the InteliSwab front.

Got it. I leave it there. Thanks for taking the questions.

You’re welcome.

We have no further questions. I’ll turn the call back over to Stephen for final remarks.

Thank you all for…

Somebody just stepped in.

Okay. One more, right.

Yes. Let me just take Stephen Tang – no, dropped, nevermind. I’ll turn back over to Stephen, sorry.

No worries. Thank you, everyone, for participating in our call today and your continued interest in OraSure. We wish you a great afternoon and evening, wherever you are. Stay safe and be well. Thank you.

Thank you, ladies and gentlemen. This concludes today’s question-and-answer session and conference call. Thank you for participating. You may now disconnect.