Illumina’s Q2 2013 revenue aligns with our aggressive forecast of 20% CAGR for the NGS market over the next 3 yearsBy Stephane BudelOn July 23 2013, Illumina discussed Q2 2013 earnings in a call with analysts. The company reported another strong quarter easily beating analyst consensus ($346M vs. $332M consensus).Overall, the quantitative and qualitative information released during the call align very well with the forecast in our NGS report. As a result, we reiterate our aggressive 20% CAGR for this market (through 2015), as we continue to believe that clinical diagnostics NGS market is ready to take off.Key points from the earnings call related to NGS are outlined below.Overall revenues:

• Q2 2013 revenue grew 23% year-over-year (y-o-y) to $346M, driven by strong underlying trends across geographies and product lines
• Total microarray revenue increased 3% y-o-y, due primarily to the impact of the BlueGnome acquisition
• Total sequencing revenue grew 33% y-o-y, driven by strong demand for consumables (26% growth y-o-y), instruments (37% growth y-o-y, as a result of a strong demand for HiSeq instruments and HiSeq 2500 upgrades) and sample prep shipments (~50% y-o-y; with strength in both the Nextera and TruSeq product lines)
• Revenue in the Americas grew 22% y-o-y; in Europe, 19%; in APAC, 36%, due primarily to continued strength in Japan
• For 2013, Illumina updated guidance, now projecting total company revenue growth of ~20%, including its microarray business (implying ~30%+ revenue in their sequencing business)

Sequencing instruments:

• The strong growth in sequencing instrument revenues was driven by strong demand for HiSeq instruments and 2500 upgrades. The demand was generated almost equally from existing capacity-constrained customers and new customers. In Q2, >75% of HiSeq orders were for the 2500 family, reinforcing the value of rapid run mode (for more information, see this article). The rapid mode now allows to prepare full genome sequence and call potential disease-causing variants from a blinded quantified DNA sample in <24 hours. Quick turnaround time is especially important in areas such as infectious diseases and HLA typing (as opposed to cancer)
• ~45% of HiSeq orders were from customers using the technology in the clinical development or commercial setting
• Illumina highlighted that customer satisfaction with HiSeq 2500 instruments and upgrades continues to be high
• Illumina’s competitive position in the desktop sequencing market remains strong as evidenced by stable average selling prices (ASPs). The company believes it continues to win 80%+ of head-to-head placements against its competitors (Ion Torrent); however, Illumina recognized that the desktop sequencer market remains highly competitive
• Illumina continues to see strong MiSeq adoption from translational and clinical customers, including customers switching from capillary systems. >50% of MiSeqs ordered were by nonacademic customers including a multiunit order from HistoGenetics, a leader in HLA testing services
• In 2012, Illumina saw a strong demand from non-traditional customers, which led to ~30% of shipments coming from clinical, agricultural, commercial, hospital and translational customers. In H1 2012, this figure increased to ~40%.
• MiSeq orders grew sequentially, as well as year-over-year, with notable strength in APAC
• In Q2, annual HiSeq pull-through per instrument was in the projected range of $300K-350K per instrument
• With more than 60% of MiSeq placements going to new customers in the first half of 2013, MiSeq utilization per instrument was immaterially below Illumina’s annual projected pull-through range of $45K-50K per instrument.

Sequencing reagents:

• MiSeqDx Cystic Fibrosis System, which includes the MiSeqDx instrument, CF carrier screening assay and CF diagnostic assay, became the first NGS system to receive the CE Mark. Illumina’s carrier screening assay detects 162 functionally-verified, clinically relevant variant within the CFTR gene. Both assays run with low sample input and can be completed in <2 days
• FastTrack services shipped ~2,500 genomes in Q2 2013, compared to 750 genomes in the prior year period. Genomes shipped were lower than in Q1 2013, due primarily to the timing of project completions. However, Illumina received a record >6,000 orders for whole genome sequencing services in Q2
• Illumina launched its Phasing Analysis Service based on the Moleculo technology, the first commercial service available to phase human genomes
• Clinical reagent (TCG reagents channel) require more extensive lot tracking, longer shelf life, and thus allow Illumina to continue to manufacture what would otherwise be obsolete products in the RUO space. These obligations increase Illumina’s costs that are in turn being passed down to customers
• Illumina’s intension is to have moderate price increases in consumable kits on an annualized basis, until technology shifts drive price down
• Reagent pull-through is relatively similar whether customers use the HiSeq 2500 or not; Customers with a 2500 tend to run the platform in fast mode only about half the time

Verinata integration:

• Illumina reported that the Verinata integration is on track
• Reimbursement coverage for the verifi test has been significantly enhanced in Q2, to a total of ~170M covered lives in the U.S. (and 25K lives in Israel).
• Illumina has continued to improve the technology that's being used by Verinata, adding sequencers and automating the sample preparation around the technology to handle higher sample volumes

Product announcements and R&D efforts:

• In H2 2013, Illumina intends to launch reagents enabling sequencing runs of up to 300G in ~60 hours
• Illumina is continuing its development efforts on long read, phasing technologies and its SBS chemistry
• In Q3, Illumina intends to introduce MiSeq functionality, which will enable ~15G of throughput per run (V3 chemistry that increases the number of reads as well as the overall read length)
• In the coming quarters, Illumina plans to launch kits for generating synthetic long reads and phasing of human data
• Adjusted R&D expenses for Q2 2013 were $59 million (17% of revenue)

Comments on Illumina’s strategic direction:

• Illumina intends to maintain its technology leadership, sustain long-term growth and diversify its revenue base by engaging with customers using NGS for new applications, making it easier, more efficient and more economical for them to access this technology
• Illumina continues to focus on simplifying the NGS workflow, and to provide customers with a sample to answer capability as demonstrated by: 1) Its portfolio of products with improved ease-of-use and a more complete user experience (e.g., TruSeq Targeted RNA kit and Nextera Rapid Capture Exome); 2) Its announced collaborations with leading vendors of robotic platforms to provide automation solutions for customers requiring high throughput sample preparation; 3) Its acquisition of Advanced Liquid Logic (ALL). This acquisition will allow Illumina to develop an automated and integrated solution for its (often less sophisticated) low to mid throughput customers. ALL possesses foundational liquid handling IP, including approximately 100 issued or licensed patents and ~200 pending applications. “The company has developed a proprietary digital microfluidics technology, which enables the precise manipulation of small droplets within a sealed cartridge, eliminating the pumps, valves and tubes often associated with automated liquid handling.”

• Illumina continues to work to consolidate its cloud presence, with BaseSpace, an integrated cloud ecosystem. In Q2, Illumina announced new e-commerce functionality which provides software developers the infrastructure to charge for use of their applications
• The company intends to enable the overall growth of the non-invasive prenatal testing (NIPT) market. The 2 main prongs of this strategy are to license Verinata's intellectual property and to submit the verifi test for regulatory approvals. Illumina believes an IVD test will significantly expand the global NIPT market and enable all test providers to be successful in this field
• In clinical settings, Illumina is looking to partner broadly, across areas of diagnostics that include HLA, infectious disease and cancer. The company believes that those particular applications might call for IVD kits in order to be able to sell very broadly into labs around the globe
• On the M&A side, the company intends to continue to perform “tuck-in” type of acquisitions rather than moderate / large acquisitions
• The company continues to emphasize the numerous degrees of freedom around where to move the SBS chemistry. In the past 18 months, Illumina chose to accelerate the HiSeq time of the runs (with its 2500 upgrade), rather than increase throughput. This might shift as the market continues to go more and more toward whole human genome sequencing (in order to decrease cost per base pair)

---Authors: Stephane Budel, Partner at DeciBio, LLC

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