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Amid Pharma Slump, Revenue Dip, Affy Optimistic on 2008 Product Milestones

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After disclosing a lower full-year revenue forecast, closing a manufacturing facility, and reporting a slight decline in second-quarter revenues, Affymetrix last week maintained that the company is on track to meet its 2008 product and strategic milestones.
 
“Despite ongoing softness in the pharma market, we continue to execute well in other areas of our business,” Affy CEO Kevin King assured investors during the firm’s second-quarter conference call. “We remain focused on our long-term strategic plan to expand our market opportunities, improve revenue growth, and gross margins.”
 
For the three months ended June 30, Affy reported that revenue slid 1.6 percent to $86.9 million, from $88.3 million in the year-ago period.
 
Service revenue fell 25 percent to $9 million, from $12 million in the second quarter of 2007, and royalties and other revenue decreased 63 percent to $2.9 million form $7.9 million. Second-quarter product revenue, however, rose 9.6 percent to $75 million from $68.4 million in 2007, netting $68.9 million in array and reagent sales and $6.1 million in instrument sales. The company said it shipped 22 GeneChip systems in the quarter.
 
Affy reported that net loss for the period swelled to $3.6 million compared with a net income of $1.2 million in the comparable period of 2007.
 
While R&D spending was almost identical year-over year, $19.6 million compared to $19.4 million in the second quarter of 2007, SG&A costs decreased by 12 percent to $29.6 million from $33.6 million in the prior-year period.
 
Largely because of its revenue declines, Affy announced last week that it is closing a manufacturing plan in West Sacramento, Calif., and consolidating five manufacturing centers into three. The company said these changes, slated for completion in the second quarter of 2009, will generate between $20 million and $25 million in annual savings.
 
“These manufacturing consolidations will ultimately improve our gross margin percent[age] by several points,” Affy Chief Financial Officer John Batty said during the call.
 
King assured that while Affy was making steady progress with its cost-containment efforts, the changes are not likely to affect its financials until 2009.
 
As of June 30, Affy had $326 million in cash and cash equivalents.
 
Also as a result of its quarterly performance and decreasing pharma research budgets, Affy lowered its yearly revenue guidance for the second time this year. The company now expects 2008 revenue to be in the range of $455 million to $460 million, including a $90 million payment from Illumina related to litigation between the firms.
 
Affy had already lowered its revenue forecast for fiscal 2008 to between $490 million and $510 million from an initial forecast of between $505 million and $525 million.
 
“We're experiencing continued softness in our pharmaceutical sales,” King said. “As a result of reduced spending in the pharma industry and the closure or downsizing of research centers, our sales into pharma have declined, particularly in the area of capital spending on instrumentation.”
 
The three months ended June 30 is the second consecutive quarter that Affy’s pharma instrument sales have been down by 30 percent, and the outlook for the remainder of the year is not any better, Affy conceded.
 
“At this point, we don't expect to see pharma conditions improving for the rest of the year,” King told investors.
 
‘Particularly Pessimistic’
 
Affy’s shares dropped more the 20 percent the day after it reported its earnings. The company’s stock has lost more than two-thirds of its value since January, and was trading at $7.43 as Pharmacogenomics Reporter went to press on Wednesday — barely above its all-time low of $6.62, recorded in July 1996 soon after it went public.
 
The company’s lackluster financial performance, together with the precipitating fall in its stock valuation, have caused some investors to question whether Affy would be able to remain competitive and profitable.
 
Indeed, at least two analysts asked during the call how the company will be able to pull itself out of its current predicament.
 

“At this point, we don't expect to see pharma conditions improving for the rest of the year.”

“How can we be convinced that Affymetrix has the right technological answer to be able to keep you in the market in the face of rapid advances by all of your competitors?” Derik DeBruin, a research analyst at UBS, asked during the call. “What can you possibly give us to give more confidence that you guys are still going to be here next year?
 
Ross Muken, a research analyst at Deutsche Bank, in a research note released last week, said that “after another quarter of missteps, poor performance, and eroding end-markets, we are officially throwing in the towel on Affymetrix.
 
“We think that the company does not currently have a technology capable of competing in an increasingly innovative market,” he said. “The new microarray platform should help, but we think [Affy] has missed the boat on a full technology cycle and think they need to take serious steps to rebuild both customer and investor credibility.”
 
He also cautioned that while the “company is working hard to come out with new products to help rebuild some market share ... this will be a long and arduous process.” Muken said that Deutsche Bank remains “particularly pessimistic on the company’s outlook,” but said that there is “stronger potential now for a sale of the company given the cheap value of the asset.”
 
In response to DeBruin’s question during the call, King said that the firm has “good growth prospects” though he admitted that Affy has been “weak on the pharma side for some time.”
 
Expressing an Up Side
 
In light of such pessimistic sentiments form investors, company officials sought to highlight a few positives.
 
For instance, despite the slump in the pharma industry, Affy’s sales to academia grew by 12 percent year over year, and sales of its gene-expression technologies and genotyping platforms increased by 9 percent and 26 percent, respectively.
 
“Our overall growth in gene expression is a result of continued adoption of our newer expression products such as exon, tiling, and gene-level arrays,” King said.
 
Affy’s flagship genotyping product, its SNP 6.0 array, was chosen in the second quarter to conduct genome-wide association studies for Case Western, the Center for Inherited Diseases, and the Korean National Institute of Health. Last week, the SNP 6.0 array was picked by the Wellcome Trust Case Control Consortium for its studies.
 
Also during the second quarter, Ipsogen commercialized its first genomic test to provide a measurement of breast tumor grading based on Affy’s GeneChip platform [see PGx Reporter 05-28-2008]. Affy also announced during the quarter a partnership with Asuragen to develop and manufacture in vitro molecular diagnostic kits.
 
Also last week Affy announced it had spent $25 million to buy True Materials, a company that is developing a microparticle technology for use in diagnostic applications. The San Francisco-based firm’s technology will compete with bead-based platforms and will be applicable to research, applied, and diagnostic markets, Affy said.
 
Affy claims the acquisition will allow it to enter the mid-multiplexing market, which King estimates to be a greater than $2 billion opportunity, growing at an annual rate of 15 percent. King noted that Affy would discuss in more detail commercialization plans for this product at upcoming conferences.
 
During the call, King maintained that the second-quarter declines wouldn’t impact the company’s product-development timelines, which he said are advancing as scheduled.
 
“Our next-generation diversity screen remains on track, and when complete, will provide us with the most detailed representation of the world's genetic diversity to power new products,” King said.
 
Additionally this week, Affy began shipping its next-generation genotyping software that detects SNP and copy number changes based on 30 million markers. Affy developed the software in collaboration with the Broad Institute at Harvard University and the Massachusetts Institute of Technology.
 
The software is “currently in a number of customer sites, and we are expecting to expand this to additional customers in the second half of the year,” King said.
 
Affy’s DMET Early Access service, which helps pharma and academia make more informed and earlier clinical trial decisions, is also being marketed globally and has already assisted Affy’s customers in 10 studies, officials said.
 
The company is also developing a new high-throughput system for array processing and scanning of human, mouse and rat expression products, and expects to begin shipping the system in the fall.
 
BioArray News editor Justin Petrone contributed to this report.

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