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Please Don t Call Sequenom a Pure-Play Genotyping Tool Shop

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At A Glance

Name: Steve Zaniboni

Title: Chief Financial Officer, Sequenom

Age: 45

Background: MBA, CPA from Boston College

At the beginning of the year, when SNPtech Reporter asked Sequenom CEO Toni Schuh what his company’s prospects were as a pure-play SNP-genotyping play, Schuh’s response was terse: “We are not a pure-play genotyping company.”

Considering the growing competitiveness in the $200 million genotyping instrument space and a commoditization in its chemistry component, one could forgive Schuh for describing Sequenom as something more than a genotyping instrument or service provider.

It turns out, however, that Schuh was projecting an image of Sequenom as he saw it in six months. To date, though the company is still very much a strong player in the SNP-genotyping instrument space (it has recently abandoned the genotyping-service market segment), Sequenom is trying to expand its popular MassArray platform into a $1 billion global market that includes gene expression, quantitative gene analysis, and resequencing.

Significantly, Sequenom is also heading into a novel area among genotyping shops: internal and collaborative drug discovery.

The company is in transition, and companies in transition can expect revenues to fall and spending to surge until they regain their bearings. But this doesn’t appear to be the case for Sequenom, which reported either increasing or flat revenue and slumping R&D spending in the first and second quarters of 2003. However, on its road to diversity, the company will burn between $35 million and $38 million this year — higher than officials would like to see, but still “in the comfort zone,” as CFO Steve Zaniboni recently said.

SNPtech Reporter caught up with Zaniboni this week to talk about Sequenom’s transition.

Revenue during the first quarter of the year was flat when compared with the same period in 2002, but it picked up during the second quarter in 2003 versus 2002. Sales were either flat or slightly increased during the same year-over-year time, while revenue from the services business fell considerably. To what do you attribute these results, both on the sales side and on the services side? Do you think it’s competition in the market, or a slowdown in demand?

I don’t think it’s either of those two things. I think it’s some strategic decision making that we’ve put in place here. If I take the product component — which is the MassArray hardware and consumables and software — that revenue is actually growing pretty nicely; from the first half of ‘02 to the first half of ‘03, that’s grown at about 25 percent a year. And the way that business has grown to date has been on the genotyping application. And now I think moving forward, what we’re going to see is expanding into some new market areas.

Here’s an example: We’ve got our quantitative gene-analysis product, expression-profiling product launch, and diagnostic sequencing. And these application are well suited for out bench-top MassArray system. I think the key to continuing to maintain that 25-percent growth in the systems business unit is adding our new products to the marketplace, and addressing the clinical market segment.

In the services segment, [whose revenue] has been going down, early in the game, Sequenom had two service deals that impacted our financials in ‘01 and ‘02 for about $15 million in service revenue — with Incyte and Glaxo. And we don’t have any comparable deals like that now. What’s happened in that service market is that it has evolved into much more of a price-competitive commodity service-type business. In connection to ramping up our internal efforts in the pharmaceuticals unit — which requires the use of this internal capacity to run our full genome screens — we made the decision no longer to compete on the commodity pricing points. In fact, the service revenue that you see being recorded now is more in connection with our strategic first-phase deals with pharmaceutical companies.

R&D spending during the first half has been down year over year. Will this trend continue, or does the decrease reflect an end to the R&D programs leading up to the bench-top MassArray roll-out?

[The decreasing R&D spending is the result of the] rolling out of the desk-top MassArray, and also the completion of some of these new applications that will be running on the system. I think there’s still R&D investments to make going forward, but I think the model that we have established at these current R&D levels growing revenue-based is one we’re comfortable with.

Might the pharmaceutical arm of the company be a catalyst for increased R&D spending in the future?

I think we’re currently on consistent R&D spending in the pharmaceuticals unit in the remainder of the year, and what we’re doing is reaching a transition point where we can begin to spend more in downstream drug-discovery areas of R&D, and possibly less genetic research, where we’re doing our full-genome scan and capturing our ... genes for downstream development. Then, in 2004, and going forward, even more so; much more spending in [the drug] discovery area.

And we also anticipate collaborations that have evolved into programs that would bring in additional sources of funding from our [biopharma] partners.

Does the decrease in genetic research translate into fewer R&D dollars for new or updated versions of the MassArray platform?

No. It would mean that we have completed our full-genome scan. For example, we have completed 12 so far: four cancers — breast, lung, skin, prostate — [plus] cholesterol; osteoporosis; diabetes; obesity; and others. And we now have our gene-patent estate to take the selected targets downstream.

The MassArray platform is moderately priced — around $500,000. Illumina, one of your main competitors, plans in the next 12 to 18 months to enter its BeadArray platform into the mid-range SNP-genotyping market that you now occupy. In addition, Applied Biosystems intends to launch a similarly priced mid-range platform at the end of the year. What’s your forecast on how that MassArray will compete in this space once these other instruments land on the market?

We think the MassArray will perform well because of that fundamental detection principle: mass spectrometry [because of] it’s data quality, specificity, and sensitivity in terms of assay development and configuration and cost.

Are you anxious at all that these to big competitors, ABI and Illumina, will soon be entering your market?

The competitor we think about most frequently, frankly, is ABI. They’re the ones, historically, that we’ve had to go up against. … I’m sure that they’ll be a strong competitor going forward. But I think with those added features, we’ll still have an adequate place in this market.

What is Sequenom’s revenue outlook for the remainder of the year?

Our overall revenue target is $34 million for the year; $32 million of that will be in the systems unit, and that’s growing at 25 percent plus for the remainder of the year. And then we’ll do a couple of million dollars in service work — in the form of dealing with our first phase of our relationships with … pharmaceutical companies.

Cash-wise, I think we’ll burn $35 million to $38 million this year. We’ll have a year-end balance of somewhere between $65 million and $67 million. Also this year, about 40 percent of the overall burn will go into the systems unit, that we see breaking even next year. Around 60 percent [spending] will go to the pharma unit.

Is this a normal burn rate for Sequenom, or is it too high, in your opinion?

I think it’s clear that it’s gone up slightly from our expectations from the beginning of the year. It’s still within our comfort-zone range. The reason it’s slightly increased is due to the decision not to pursue the commodity-service business, and shifting some of the licensing on the pharma side into ‘04.

So, I think that $65 million year-end 2004 cash point still puts us in a good position to make substantial investments in both the systems side R&D and the pharma side — at least at the level of 2003.

Let’s talk about the pharma unit. Where does it stand now, and where do you expect it to be at year’s end?

We haven’t generated revenue from licensing of our genetic IP estate, but we certainly hope to be doing that. … We want to find a few targets that cause human disease, and our view is that the only reliable predictive model to assess human clinical relevance is human genetics. And that is what we perform here.

So far, we have done 12 full genome scans with our SNP estate and our sample population. And we’ve got 40-plus high-impact disease genes across these 12 diseases, with three or four diseases that we think are highly attractive targets for drug development. And we’ll do some internal development, and we’re also marketing these [genes] to pharmaceutical companies. And we’re doing some validation work ourselves, internally. …

At what point do you expect to become cash-flow positive?

I think we’re pretty comfortable in saying that the systems unit [which is the company’s sole revenue driver] … will reach cash-flow breakeven in 2003. Pharma? Yet to be determined.

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