QuidelOrtho Corporation (QDEL) Q3 2016 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by. Welcome to the Quidel Corporation Third Quarter 2016 Earnings Conference Call. At this time all participants are in a listen-only mode. Later instructions will be given for the question-and-answer session. [Operator Instructions] I would now like to turn the call over to Mr. Randy Steward, Quidel’s Chief Financial Officer. Please go ahead.

Thank you, Operator. Good afternoon, everyone and thank you for joining today’s call. With me today is our President and Chief Executive Officer, Doug Bryant; and Ruben Argueta, Director of Investor Relations. Our third quarter 2016 earnings release is now available on ir.quidel.com, our Investor Relations website. We will also post our prepared remarks on the Presentations tab of our IR website following the conclusion of this call. And it will be posted for a period of 24 hours. Please note that this conference call will include forward-looking statements within the meaning of Federal Securities laws. It is possible that actual results and performance could differ significantly from these stated expectations. For a discussion of risk factors, please review Quidel’s Annual Report on Form 10-K, registration statements and subsequent Quarterly Reports on Form 10-Q, as filed with the SEC. Furthermore, this conference call contains time-sensitive information that is accurate only as of the date of the live broadcast, today October 26. Quidel undertakes no obligation to revise or update any statements to reflect events or circumstances after the date of this conference call, except as required by law. Today, Quidel released financial results for the three and nine months ended September 30, 2016. If you have not received our news release, or if you would like to be added to the company's distribution list, please call Ruben at 858-646-8023. For today’s call, Doug will report on the highlights of the third quarter and provide updates on our product development pipeline. I will then briefly discuss our financial results and we’ll then open the call for your questions. I’ll now hand the call over to Doug for his comments.

Thank you, Randy, and good afternoon everyone. Total revenues for Q3 was $49.3 million, up 5% from $46.8 million in the same period in 2015. On the surface, our growth rate for the quarter basically modest, but given how unpredictable Q3 distributor ordering can be, I would suggest that it’s reasonable and importantly that the underlying fundamentals of our business are unchanged. I would point out that revenue that has driven our shipments to distribution in advance of an undefined respiratory season is not necessarily a lagging indicator of commercial performance and may not represent the growth and traction that a company is seeing at the end-user level. And that is certainly true in our case. For today’s call, I’ll talk about leading indicators of longer-term revenue growth which grew positive, the impact of timing of orders and inventory on Rapid Immunoassay test revenue in the quarter and how we are doing with our other key growth drivers. To begin, there are a number of leading indicators that are pretty good measure of how well we are doing at the end-user level. And that can foretell impending success or the opposite I would suppose. For example, the number of amendments and removals to multi-year Sofia agreements is a good indicator because it would support what our distributor partners have told us in terms of the stability of the existing installed base. The good news is that the number of amendments and renewals to existing Sofia agreements in the quarter was significant. Therefore the number of customers that was lost was few, just as in previous quarters. Additionally the number of Sofias connected to the Virena cloud would be another indicator of stability. And that number increased noticeably as well. Next, the number of new Sofia agreements and placements is another great leading indicator. In Q3 2016, the number of Sofia instrument shifts was up 37% over the prior year period and was one of our large replacement quarters since the launch of Sofia. Overall, our Sofia business has been a home-run for us. It appears to be robust and with Vitamin D line and other assays, and Sofia 2 is likely to grow as projected on a path to a number of instruments approaching 30,000. In addition, Solana instrument placements for Group A Strep confirmatory testing were noticeable in the quarter, all of which are incremental to Q3 2015. Clearances to market, our Solana products in the U.S. on our performance metric for both our R&D and clinical and regulatory teams, but they are also a leading indicator for potential - for future commercial success. In that regard, we’ve recently announced the availability of three new Solana products, Trichomonas, Influenza A+B and Strep Complete, our confirmatory assay for Strep A and Cryogenic [ph] C or G, which are each in the early stages of market introduction. Next, leading indicators aside, shipments to distribution of our Rapid Immunoassay test products in September were softer than we would have liked, driven by a number of factors. At the end-user level, many of our larger customers given lighter respiratory disease prevalence in Q1 of this year, did not burn through a significant portion of the inventory that they had purchased previously. As a result, sales from distribution warehouses to our Influenza customers were lower versus the prior year quarter by about $2 million. To illustrate this point, one of our large new alternate site customers encouraged by a distribution promotion, purchased $1.2 million of Sofia Influenza and Strep in September 2015, but did not need to repurchase in Q3 of this year and did not. And of course, even when promotional incentives are in place, they’re not going to affect of lower depletion of inventory than expected at the customer level is less demand for building inventory at distribution centers. At least until distributors see CDC data showing ILI [ph] above 2% or perhaps until we show them Virena data indicating an up-tick in the Influenza testing and positive test results. And so, while inventory built-in on hand at distribution sites in Q3 of this year was substantially higher than Q2 as you would expect, inventory of the top four Rapid Immunoassay tests was about 13% lower than we saw in Q3 2015. In fact that inventory has simply been at that level that it was last year at the end of Q3, our revenue in the quarter would have been $4.2 million higher. And finally, we did see revenue growth in our non-seasonal franchises, although in fairness those things are smaller. Nevertheless their revenue and margin contributions are helpful. Thyretain, our high-margin Graves’ disease product grew 7% over the prior year quarter. Our Bone Health and Complement pathway assay business which is also highly profitable grew 21% due in large part to the acquisition of Immutopics earlier in the year. And finally, revenue and margin for our molecular business with the ongoing launch of Solana Group A Strep have accelerated with revenue growing 103% over the prior year quarter as several larger customers went live. In summary, Q3 was a solid quarter. Our R&D and clinical and regulatory teams performed well as they always do. Our manufacturing and operations groups continued to look for ways to lower cost and lose productivity. And as evidenced by the recent launch of Solana Influenza A+B, we’ve closed some of the gaps between FDA clearance and sales to customers, which further demonstrates the improving efficiency of our commercial organization and our distribution partners. Once again, the underlying fundamentals of our business are unchanged. And we remain focused on our longer-term objectives which we firmly believe are achievable. Randy?

Thank you, Doug. As Doug mentioned previously, total revenues for the third quarter of 2016 were $49.3 million, as compared to $46.8 million in the third quarter of 2015. Global Infectious Disease revenues, which include QuickVue, Sofia, DFA cell culture, and molecular products, decreased 2% to $32.8 million in the third quarter of 2016. Influenza revenues, which include Sofia, QuickVue and DHI Respiratory products, decreased 9% to $19.9 million. QuickVue and Sofia Influenza inventory at distribution is down 26% versus the third quarter of last year, resulting in the year-over-year revenue decline. In the third quarter of 2016, total Strep A revenue grew 19% to $7.7 million, driven by revenue growth from Sofia, Solana and Virena assay products. RSV total product sales declined 11% to $1.4 million, due to timing of distribution orders. Inventories at distribution were down 38% versus last year. Revenues for the Women’s Health category increased 7% in the third quarter of 2016 to $10.2 million. Growth in the category was led by Thyretain which grew 7% and our Bone Health and Complement Business, which grew a combined 21% mostly due to the Immutopic acquisition earlier this year. Our Gastrointestinal product category revenues were $1.7 million in the quarter. And our other revenues were $4.7 million. In the quarter we received a final milestone based cash payment from the Bill and Melinda Gates Foundation. Based on this fact, we realized the remaining $3.8 million of grant revenue in the third quarter of this year. All of the grant revenue of $20.9 million has now been realized. Gross margin in the third quarter of 2016 was equal to last year at approximately 64%. The gross margin benefit of incremental grant revenue was offset by product mix and lower manufacturing volumes. For the third quarter, research and development costs were $8.8 million, an increase of $400,000 versus last year as we continued our investment in the Sofia 2 and Savanna platform. Additionally, we had higher clinical trial costs for the Solana assays. Including yesterday’s FDA clearance for Solana Strep Complete, we estimate that we will exit the year with a total of five Solana assays cleared and in market. For the full-year, we continue to believe that our R&D spending will be in the range of $39 million to $40 million. Sales and Marketing expenses was slightly below last year at $11.9 million, as lower compensation costs were partially offset by higher marketing activities including Virena. For the full-year we expect our sales and marketing spend to be in the range of $49 million to $51 million. G&A expenses were $6.6 million in the third quarter of 2016. The increase versus last year was primarily due to business integration cost associated with the Immutopics acquisition this year, partially offset by suspension of the medical device excise tax. Our tax rate for the third quarter was approximately 35%, this compares to 59% for the third quarter of the prior year. The lower income tax benefit is primarily driven by a lower loss before income taxes for Q3 2016 versus Q3 2015. Net loss for the third quarter of 2016 was $600,000 or $0.02 per share. This compares to a net loss of $800,000 or $0.02 per share for the third quarter of 2015. On a non-GAAP basis, net income for the third quarter of 2016 was $3.2 million or $0.10 per diluted share compared to a net income of $1.7 million or $0.05 per diluted share for the third quarter of 2015. From a cash flow perspective, for the first nine months ended September 30, operating activities used $4.8 million of cash and purchases of property and equipment including intangibles were $7.9 million. In the quarter, the company did not repurchase any common stock or convertible senior notes. Through the first nine months, the company spent $20.1 million to repurchase shares of its common stock and $4.5 million to repurchase the convertible senior notes. As of the end of September, the company had no outstanding borrowings and had $153.4 million in cash on the balance sheet. And with that, we conclude our formal comments for today. Operator, we’re now ready to open the call for questions.

[Operator Instructions]. And our first question comes from the line of Jack Meehan from Barclays. Your line is open.

Hi, thanks, good afternoon guys. I want to start with the Sofia please, rate in the quarter, I had in my notes from last year the rate was up 67% year-to-date over year-to-date. So, 37% seemed like a big number. Could you help us quantify that a little bit better? And then, just where are you seeing the most interest in sort of the new demand?

I don’t know that I can speak Jack to specific placement numbers. I mean, certainly in the past, the beginning of the year we’ve tried to bring everybody up to speed and we plan on doing that again in January. What I can say is the combination of larger IDM closures as well as a number of alternate site closures those are two bigger drivers of the demand in the quarter.

And then, just in terms of numbers, is there a ballpark for where you stand today or an update that you can provide us?

Again, I’d be happy to report that as we did last year in January. I think it’s safe to say that it was a very good quarter. And one of our larger quarters, which tells me that there is still some demand at this point. And I imagine that of Sofia 2 and the new assays that it’s going to drive demand moving forward.

Got it. And then, one on the distribution levels, do you think that there was any impact in the quarter with the upcoming Sofia 2 launch, do you think that impacted the way some customers were purchasing?

No, I don’t think that has an impact at all. The main driver was the inventory that exists on customer shelves. Distribution shipped a lot of products in Q3 2015, and then less than expected in Q4 of 2015. And as you remember Jack, the season has delayed into later in Q1 than usual. So, there is inventory on lab shelves. So, distributors did restock a bit in Q2 of this year and then even more inventory in this recent quarter Q3 but just not at the same level that they did last year in Q3.

Okay, understood. And then just any update on the Sofia 2 launch in terms of timing, in building up inventory will be great? Thanks guys.

Sure. We’re building inventory today. We expect to have products mid-to-late November. It’s possible that we could ship to end-users before year-end. But we certainly will have product end-market in January.

Thank you. And our next question comes from the line of Bill Quirk from Piper Jaffray. Your line is open.

Great, thanks and good afternoon. Doug, I trust you don’t have the flu but rather it’s a cold is what we’re hearing.

Thanks for asking. Unfortunately I don’t think it’s the flu.

Okay. Question for you on Solana Flu A and B, it’s now for a couple of weeks recognized super-early here in the launch. But can you help us think a little bit about up-take within some of the Strep A customers there?

Well, as I said in my notes, Solana Influenza has been our most efficient product introduction to date. In fact we have product at several distribution centers have closed customers and has shipped products. Clearly, many of those customers would have had Solana because they were Group A Strep customers. So it’s obviously handy to have instrument on the ground as we launch each of these new assays. And the good news is the product appears to be a viable alternative and a good molecular solution. The bad news is that it will make us even more dependent on the Influenza season.

Understood. Just couple of other questions here, one of Randy. I noticed the receivables were up quite a bit, any color there? And then I guess just a longer-term question Doug, talking about moving away from products with a lot of seasonality. Help us think a little bit about the long-term opportunity here for Trich. It’s been a rapidly growing product for one of your competitors albeit it’s still very, very kind of early stage market?

Yes, Bill, the receivables are really just a seasonality thing. We do see a significant amount of Q3 volumes also in September. From a DSO perspective we’re still tracking right around 30 DSOs, so nothing unusual from our perspective.

Regarding Trichomonas Bill, as our competitors have stated it’s a significant opportunity because the prevalence is actually so high. The traditional method of course is wet mount, read by microscope and customers would love to move away from that. We think that with Solana, the ability of that and very low total cost of ownership that we can, as we’re doing with Group A Strep, we can move people from a method that they don’t like much, doesn’t perform very well to a molecular product. And we can do so affordably. So, I like the opportunity and we don’t have a great deal of customers at this point. But I think we have engaged a number of very interesting conversations thus far.

Got it. Thanks so much.

Thank you.

You’re welcome Bill.

Thank you. And our next question comes from the line of Nicholas Jansen from Raymond James. Your line is open.

Hi guys, I just wanted to dig a little bit deeper into kind of market share within Influenza, kind of how are you thinking about your position there amid some of the newer molecular competition. And then just, also on top of that, thinking about the cannibalization of Sofia relative to QuickVue, are we seeing any sort of acceleration in that trend?

Thanks Nick, I’ll answer the last question first on cannibalization. We’re seeing pretty much the same cannibalization rate as we had before which is probably in the mid-30s. So, most of our placements believe it or not are still at the stage as compared to takeaways. Regarding molecular competition, generally, obviously it’s a question that we anticipate getting. Over the last couple of weeks I actually spent a few days in the field with customers recognizing that CEOs visiting customers is a very poor substitute for true market research. I do have some observations like share at first. Regarding Solana, customers are impressed by our data in the claims that we have in our package insert. So everyone likes the low total cost of ownership story. I would say it was about 50-50 on my calls on whether they think the addition of C or G through a Group A Strep A assays are important. And I think there are a number of different and very quotient arguments on both sides. So, but we do know that there are customers who are going to like that product, most likely the badge patient samples and overall while I’m obviously biased I would say that Solana will do well although it’s not for every customer. Every system has both its capabilities and limitations, for example Solana does not yet have clear waiver and the workflow is not ideal for the lower volume physician office or when a physician wants to test before while the patient isn’t in favor. I also think that we’re going to need RSV based on my just very brief number of calls there, that seems to be something that will be important for us and we’re working on that. Now, my observation regarding the molecular competitors, as the customers seem to know a lot about the capabilities and limitations of each of the systems, I was actually a bit surprised by that. And among those systems discussed the ROSH [ph] system was mentioned most often as having more capabilities relative to its limitations. And at least during the small number of visits over a few days was really the only system being seriously considered but again, very small number of accounts. In fairness, though I do know that another molecular competitor had a number of placements in 2015 in physicians’ offices in fact quite a few placements. Although that early placement rate has apparently dropped considerably in 2016, from our own market intelligence, I don’t see at this stage an impact on our market share. And certainly returns Sofia has been non-negligible. And so I would say right now we appear to be in pretty good shape.

Thanks for all that color. And then I guess maybe one for you or Randy, as we think about 4Q, obviously the flu season timing plays a role and how well the growth can be. But you guys did over $63 million of 4Q revenue back in 4Q ‘14. Clearly it sounds like your market share has grown since then. So I’m just trying to get a better sense of how we think - how we should be thinking about the sequential trends given the lack of inventory ordering in 3Q and how we should be positioned for 4Q? Thanks.

My best guess is that, if we see evidence of an impending flu season, then the distributors may want to place larger orders again, probably in the last few weeks to dissemble that. Then that’s been the trend over the last seasons when we had normal flu. But that puts a lot of pressure on those orders coming in the last several weeks. So it’s really hard Nick for me to speculate the magnitude of any share gain that we’ve had at this stage because I clearly don’t have any insight into what the flu season is going to look like, at least not at this stage.

Okay. I’ll hop back in queue. Thanks.

Okay.

Thanks Nick.

Thank you. And our next question comes from the line of Tycho Peterson from JPMorgan. Your line is open.

Hi guys, it’s Steve [ph] on for Tycho. Thanks for taking my question. First on Sofia 2, given your production cost, obviously it’s so much lower versus Sofia. Can you give us kind of your updated advise to potentially use reagent rental agreements and drive placements which would obviously not only increase test revenue but potentially - presumably increase the value of your data network?

Sure, just to be clear Sofia 1 is placed on reagent agreement today. So the impact will be really a reduction in what we’re depreciating. Just as a reminder, we depreciate our Sofia analyzers over a three-year period today. We’ve said publicly before that our total cost is somewhere north of $1,600 for each Sofia placement. And we’ve said that Sofia 2 is going to be roughly little bit more than a fourth of that.

Got it, and I know you get this question - sorry go ahead.

As I was saying, the intent is to continue with the rental reagent agreement with Sofia 2 as well.

Got it. And then, I know you get this question a lot. But have you had any recent conversations with governmental agencies like the CDC or anyone else that potentially would be interested in licensing kind of the cloud data you’re building so you can potentially monetize that asset?

Of course. We are in contact with a CDC and in fact as I’ve said before, we do push our data to them nightly. And there are now thousands of arenas relative to last year, so significant up-tick. So, I’m sure they’re highly appreciative to data. I will tell you that we’re working with them to see if there is a way to look at forecasting models and to enhance those forecasting models with our data. Once we’ve determined that and we actually have what I would call data product, I do think that there is a possibility that we could monetize that program in some way. But we’re not really yet prepared to describe all that.

Got it. That’s all from me. Thanks guys.

Sure.

Thank you.

Thank you. And our next question comes from the line of Brian Weinstein from William Blair. Your line is open.

Hi, good afternoon. This is Matt Larew on for Brian. In the past you’ve provided updates on what the new product revenue in trailing 12-month picture looked like. So, hoping you could do that? And then, second, if you strip out the incremental revenue from the grant as well as the Immutopics’ revenue, could you give us what maybe a like or organic revenue growth rate was in the quarter?

Yes, Matt, if you strip out the incremental Gates’ grant and the Immutopics that was slightly down versus a year ago; as we mentioned really driven by the reduction at just the inventory and distribution. And we can pull sign on hands the trailing 12-months we certainly can probably sell it on our website so that everybody sees the same information relating to new product sales as we define it.

Okay, thanks Randy. And then, two more quickly. One would be what you’re seeing in terms of just office visit trends and if that’s changed at all from 2Q to 3Q and early on in the fourth quarter? And then the second would be, just what are you seeing in terms of the M&A landscape and if the either appetite or opportunity from your perspective has changed? Thanks.

We don’t have actually visibility to, actually patient often visit doesn’t know what’s publicly available. I would say based on Virena test data that we do see that there is growth in testing. But I would also suggest that the positivity rate has been low. And so, obviously there are visits that are occurring for respiratory illness. But again, the full test results are coming back predominantly negative. We’re certainly well below the 20% to 30% positivity rate that you would expect during an epidemic. M&A of course you know that I can’t comment specifically on anything that we are currently looking at. I can’t restate that we are very interested in acquiring assets that can deliver revenue in Q2 and Q3, the non-Influenza quarters. And we continue to evaluate assets that fit our existing commercial channels and with the intent of gaining rate in the leverage in our commercial channel. So, we’re actively evaluating a number of things.

Okay, thanks.

Sure.

Thank you. [Operator Instructions]. Our next question comes from the line of Mark Massaro from Canaccord Genuity. Your line is open.

Hi guys, thanks for taking the question. Doug, I was wondering if you could just update us on when you expect to launch Vitamin D in Lyme.

I think it would be very safe to say at this point that we will be in market in 2017. We are coming to the end of our product development cycle. I don’t often comment on when we actually go into clinical trials or significant data. But that program, the Sofia program in general is moving at a fairly rapid pace. And I’m pretty confident in saying we’ll be in market in 2017.

Excellent. You get a lot of questions about competition in molecular. But one area that I figured I would just ask on is the update from Becton Dickinson with their cloud initiative. Have you, and I know it’s early because really the flu season hasn’t really started yet. But based on some of your conversations, do you expect any change in competitive environment or any change of your forecast on how many Virena you think you could place on Sofia?

The short answer is no. The two products are not in the same solution. We actually collect data and interpret those data and provide access to customers who can see their test result within the context of other people’s test results. And we also enabled them to track QC data across the network even in those things it’s possible with the PD system. PD system is basically an agreement with a telecommunications provider to move the data, move the data from the instrument to somewhere else. And in the old days you did that with a cable. Now you can send that into a cloud and the folks in the telecommunications company are glad to send those data for a fee, somewhere else. So, there is no comparison between Virena and the PD, I have to take to use the word solution. It’s basically a pipe.

I understand. And as we think longer term in terms of your forecast for 30,000 Sofias, roughly what percentages of those do you think could have Virena connectivity to them?

That’s a great question. I don’t know that I’ve actually spent any time thinking about that. Certainly with Sofia 2, I would expect a very high percentage of those to not be turned off and that we would be collecting data. So, I guess you do remember Mark that we’ve said before that you can [indiscernible] data, with Sofia 2, but there is nothing that a customer actually needs to do as they do today with Sofia and marauder [ph] and all that. So, over time as Sofia runs are updated to Sofia 2, I suspect that a very high percentage will be sending data into our cloud. I love the concept by the way of the other things that we’re developing like Lyme disease. I think the public will be very interested in the collection of Lyme disease data and seeing what the prevalence is in their area.

Great. Thank you very much.

You’re welcome.

Thanks Mark.

[Operator Instructions]. That is all the time we have today. Please proceed with your presentation or any closing remarks.

Great. Well, thanks everyone for your support and for your interest in Quidel. I look forward to sharing our progress with you over the next several quarters. Thanks again everyone.

Ladies and gentlemen, thank you for your participation in today’s conference. This does conclude the program. You may now disconnect. Everyone have a great day.