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Affy Blames ‘Disappointing’ Q1 Revenue On Weak Pharma Demand for GeneChips

Affymetrix last week attributed a slight decline in first-quarter revenues to weak demand by pharmaceutical companies for its gene-expression products, but vowed that it is about halfway through a new-technology cycle that will result in several next-generation array launches in 2009.
For the three months ended March 31, Affy reported that organic revenues declined to $79.6 million from $80.4 million year over year. However, total first-quarter receipts increased to $169.6 million when taking into account the $90 million payment Illumina gave to Affy in January to settle an ongoing patent-infringement suit between the two rivals (see BAN 1/15/2008).
“It's disturbing to me, because we had figured out [that] at the end of the year, a lot of the uncertainty in pharma had pretty much washed down and we could count on revenue from these accounts,” Affy CEO Stephen Fodor said during a conference call accompanying the results.
The first-quarter results were expected, since Affy earlier this month warned that it would miss its revenue target for the quarter. Affy also lowered its forecast for fiscal 2008 revenues by 3 percent (see BAN 4/15/2008).
In line with that warning, President Kevin King said Affy’s receipts fell about $11 million below the firm’s original expectations, due largely to a decrease in spending by the firm’s pharma clients. King told investors during Affy’s Q1 earnings call that gene expression and instrument revenue were lower than original expectations by around $8 million, while $3 million in expected services revenues were not realized during the quarter.
King added that the $3 million in services revenue “was a timing issue and we will expect it to be recognized in Q2. From a customer perspective, roughly two-thirds of the $8 million difference came from our pharma business.”
Typically, Affy generates more than $150 million each year in expressions sales, half of which are sold to pharmaceutical companies, King said. Affy’s pharma partners have primarily used these products for biomarker discovery and target identification. However, Affy believes that this market has “matured” and it now expects to sell fewer expression products to pharma.
“Our installed base in pharma is quite large and we have very close relationships with our customers, and our analysis for the year-over-year variance indicates that this change was not driven by competitive inroads or the emergence of emerging technologies, but rather pharmaceutical companies simply doing less target identification,” King explained.
During the call, Fodor said that Affy’s pharma customers are currently working with undefined budgets and undergoing structural reorganizations, two factors that have resulted in a decrease in demand for research products like those sold by Affy.
“I literally go around the globe each quarter and I've met not only with academic customers, but in this quarter with pharma customers as well, and there is a fair amount of uncertainty with respect to a handful of our large pharma customers,” Fodor said.
New Technology Cycle
In addition to their budgetary and structural constraints, pharma clients are “just doing fewer and fewer studies” as they move resources from biomarker discovery into drug development. Still, Fodor said he expects newer products, including the firm’s D-MET panel for drug-metabolism studies and its exon-level and gene-level expression products, to buoy the expression business through 2008.
“We are not forecasting much growth in this business in the near-term, but in the long run we believe that the market will continue to need advanced tools to understand the function of the genome; therefore, we expect that expression and functional analysis is an important long-term market,” said Fodor. “Accordingly, we plan to maintain our expression market franchise and to leverage the revenues with the development of new product lines.”
Discussing Affy’s genotyping business, King said Affy now expects it to be its primary growth driver as it prepares new products for 2009. He pointed out that Affy’s first-quarter genotyping revenues rose 24 percent to $21.3 million year over year due largely to sales of the company’s 1.8-million feature SNP 6.0 Array for whole-genome genotyping studies.

“It's disturbing to me, because we had figured out [that] at the end of the year, a lot of the uncertainty in pharma had pretty much washed down and we could count on revenue from these accounts.”

“The market for genotyping is growing rapidly,” King said. “To date, our high double-digit growth in genotyping has been driven by a few products, mainly our SNP 5.0 and 6.0 products.” He said that the firm is now investing in a “major expansion” of its genotyping product line.
Fodor also updated investors on several projects underway that will result in a new generation of chips. He said that the various projects comprise a “new technology cycle” that should begin to generate revenue by the end of this year.
Among these products is an enzymatic sequencing reaction the firm developed that it claims could eventually enable it to compete in the next-generation sequencing market. Affy is also screening an internally developed panel of human genetic variants against all known human polymorphisms to generate a master database of SNPs that it will use to create new genotyping arrays. Fodor said that the firm is scheduled to finish this screen by the middle of the year.
“Our plans include introducing product formats that span the range from assays with millions of markers to very cost-effective formats with hundreds of markers,” he said. “We believe that this product line will open significant new market opportunities for the company by expanding whole genome association product offerings and introducing a targeted genotyping offering, and it will also have application in markets such as agricultural [biotechnology] and diagnostics.”
Fodor also said that Affy plans to expand its cytogenetic product line — in particular, the firm expects to make available a three-chip, 30-million marker, high-resolution copy number set by year end — and forge new partnerships with diagnostic labs..
Last month, Affy launched its Cytogenetics Solution, a pairing of the SNP 6.0 Array with a new assay format with custom-designed software that has been adopted by LabCorp in its cytogenetic service for genetic abnormality identification (see BAN 3/25/2008).
Fodor called array-based cytogenetic testing a “high-growth diagnostics market” and said that the University of California, Los Angeles’ Molecular Pathology and Cytogenetics Lab along with LabCorp have adopted the Cytogenetics Solution. But Affy faces stiff competition in the market, particularly from Signature Genomic Laboratories, CombiMatrix Molecular Diagnostics, and others that offer chips, services, or both for identifying chromosomal abnormalities.
According to Fodor, the partnerships with LabCorp and UCLA are just the first stage of Affy’s expansion into the cytogenetics-testing market. He suggested that the 30-million marker set set to debut later this year could in turn give rise to a “new family” of more targeted cytogenetics products that would “open up important new growth opportunities for Affymetrix.”
In addition to new array products, Affy is planning to expand its instrumentation offering. The company will launch a new platform called the 96F in the second half of the year that will enable higher throughput scanning of arrays using the company’s scanner. Specifically, the 96F will allow users to scan single, 24, or 96 samples.
King projected that it will take “less than 30 minutes of hands-on time per day to run our system at capacity from hybridization to data file generation.” The 96F will “run both expression and genotyping assays and will be compatible with our next-generation technologies that are in development.”
Q1 in Full
For the first quarter of the year, Affy reported revenues of $169.6 million, which included the $90 million payment from Illumina.
The Santa Clara, Calif.-based firm said product revenues fell to $62.8 million from $71.3, which included array and reagent revenue of $58.8 million and instrument sales of $4 million.
Affymetrix posted a profit of $46.3 million, or $.58 per share, for the three-month period ended March 31, which include a pre-tax restructuring charge of $13.9 million, compared with a net loss of $4 million, or $.06 per share, including restructuring charges of $5.4 million in the year-ago period.
The company’s R&D costs declined 2.1 percent for the quarter to $18.8 million from $19.2 million. Its SG&A costs fell 3.3 percent to $34.7 million from $35.9 million.
During the firm’s earnings call, Chief Financial Officer John Batty said that the company is increasingly benefiting from its decision to move array production to Singapore. Batty said that in Q1, 35 percent of the company’s chips were manufactured in Singapore, where Affy enjoys a tax holiday, compared to 25 percent of arrays in Q4 2007.
The company finished the quarter with $431.2 million in cash and cash equivalents, and reiterated its forecast from two weeks ago that fiscal 2008 revenues will be between $490 million and $510 million, which would be an increase from the $371.3 million in revenues it posted in 2007.

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