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AFFX > SEC Filings for AFFX > Form 10-Q on 1-May-2013All Recent SEC Filings

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Form 10-Q for AFFYMETRIX INC


1-May-2013

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This Management's Discussion and Analysis of Financial Condition and Results of Operations as of March 31, 2013 and for the three months ended March 31, 2013 and 2012 should be read in conjunction with our financial statements and accompanying notes thereto included in this Quarterly Report on Form 10-Q and with the Management's Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ended December 31, 2012.
All statements in this quarterly report that are not historical are "forward-looking statements" within the meaning of Section 21E of the Securities Exchange Act as amended, including statements regarding our strategic initiatives, anticipated cost savings, return to profitability and integration of and synergies related to eBioscience, as well as all other statements regarding our "goals," "expectations," "beliefs," "intentions," "strategies" or the like. Such statements are based on our current expectations and are subject to a number of factors and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements. Actual results or business conditions may differ materially from those projected or suggested in such forward-looking statements as a result of various factors, including, but not limited to, our capacity to identify and capitalize upon emerging market opportunities; risks relating to our ability to acquire new businesses and technologies and successfully integrate and realize the anticipated strategic benefits and cost savings or other synergies thereof, including our acquisition of eBioscience, in a cost-effective manner while minimizing the disruption to our business; risks that eBioscience's future performance may not be consistent with its historical performance; risks relating to our ability to make scheduled payments of the principal of, to pay interest on or to refinance our indebtedness; risks relating to our ability to develop and successfully commercialize new products and services; uncertainties related to cost and pricing of Affymetrix products; fluctuations in overall capital spending in the academic and biotechnology sectors; changes in government funding policies; our dependence on collaborative partners; the size and structure of our current sales, technology and technical support organizations; uncertainties relating to our suppliers and manufacturing processes; risks relating to our ability to achieve and sustain higher levels of revenue, higher gross margins and reduced operating expenses; uncertainties relating to technological approaches; global credit and financial market conditions; personnel retention; uncertainties relating to the FDA and other regulatory approvals; competition; risks relating to intellectual property of others and the uncertainties of patent protection and litigation; volatility of the market price of our common stock; unpredictable fluctuations in quarterly revenues; and the risk factors disclosed under Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2012. We expressly disclaim any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements contained herein to reflect any change in our expectations with regard thereto or any change in events, conditions or circumstances on which any such statements are based, except as required by law.
OVERVIEW
We are a leading provider of life science tools and molecular diagnostic products that enable parallel analysis of biological systems at the gene, protein and cell level. We sell our products to genomic research centers, academic institutions, government and private laboratories, as well as pharmaceutical, diagnostic and biotechnology companies. Over 48,000 peer-reviewed papers have been published based on work using our products. We have approximately 1,100 employees worldwide and maintain sales and distribution operations across the United States, Europe, Latin America and Asia. Reportable Operating Segments
Our operations consist of two reportable operating segments, Affymetrix Core and eBioscience. During the three months ended March 31, 2013, Affymetrix Core accounted for approximately 76% of total revenue and eBioscience accounted for approximately 24% of total revenue.

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Affymetrix Core is divided into four business units with each business unit having its own marketing groups to better serve customers and respond quickly to the market needs. In addition, the business units share research, development and common corporate services that provide capital, infrastructure, resources and functional support, allowing them to focus on core technological strengths to compete and innovate in their markets. Affymetrix Core manufacturing operations are based on platforms that are used to produce various Affymetrix Core products that serve multiple applications and markets. The following describes the four business units that form Affymetrix Core:
· Expression: This business unit markets the Company's GeneChip gene expression products and services, and the QuantiGene® line of low-to-mid-plex RNA measurement products.

· Genetic Analysis and Clinical Applications: This business unit markets the Company's genotyping products, such as the Axiom® product line, and arrays with clinical research applications, such as the CytoScan® cytogenetics arrays.

· Life Science Reagents: This business unit sells reagents, enzymes, purification kits and biochemicals used by life science researchers.

· Corporate: This business unit is comprised primarily of incidental revenue from royalty arrangements and field revenue from services provided to customers of the Company.

Acquired in 2012, eBioscience is operated as a separate business unit with its own research, marketing and manufacturing groups:
· eBioscience: This reportable segment specializes in the development, manufacturing, marketing and distribution of research tools in the areas of flow cytometry, immunoassays, microscopic imaging and other protein-based analyses.

All of our business units sell their products through our Global Commercial Organization comprised of sales, field application and engineering support, and marketing personnel. We market and distribute our products directly to customers in North America, Japan and major European markets. In these markets, we have our own sales, service and application support personnel responsible for expanding and managing their respective customer bases. In other markets, such as Mexico, India, the Middle East and Asia Pacific, including the People's Republic of China, we sell our products principally through third party distributors that specialize in life science supply. For molecular diagnostic and industrial applications market opportunities, we supply our partners with arrays and instruments, which they incorporate into diagnostic products and assume the primary commercialization responsibilities.
See Note 13. "Segment and Geographic Information" for more information on our reportable operating segments.
Overview of the First Quarter of 2013
We have faced declining financial performance over the past several years. Traditionally, a significant portion of our business was in the well-established gene expression business where our GeneChip® Expression product line comprised more than half of our revenue as we concentrated on selling these products in the basic research market focused on discovery research. Declining sales and intense competition from newer technologies such as next generation sequencing in this business has led to decreasing revenue annually since 2007. Affymetrix Core reported revenue of $58.9 million for the three months ended March 31, 2013, as compared to $65.2 million during the same period in 2012. The decrease was primarily due to a $9.4 million decline in our Expression business unit revenue compared to the same period in 2012 across all regions, particularly in Japan, due to a challenging business environment. This decrease was partially offset by a $2.9 million increase in our Genetic Analysis and Clinical Applications business unit as a result of increased volume of sales in our Cytogenetics line of products which has been steadily increasing beginning in 2012 and our Axiom® products that more than doubled compared to the three months ended March 31, 2012.


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Since Frank Witney became our President and Chief Executive Officer in July 2011, we continue to focus areas from a dependency on our Expression business unit to a more diversified portfolio with broader revenue stream capabilities that can reach into the growing markets for translational medicine and molecular diagnostics. Excluding eBioscience, revenue from this business unit was approximately 39% of our business in the first quarter of 2013 as compared to 50% in the same period of 2012 while revenue from our Genetic Analysis and Clinical Applications business unit was 37% as compared to 29%.
As we progress through 2013, we continue to execute on a strategy developed by Dr. Witney and our management team where we will realign our product portfolio, stabilize our core business and position our company for growth and increasing profitability. We expect this transformation to take several years, and have categorized this plan into three phases.
· Phase 1 (2011-2012) -Portfolio Realignment. During this phase, we reorganized ourselves into business units to sharpen our business focus based on target markets. We also launched CytoScan®, our growing cytogenetic microarray product line, grew our Axiom genotyping platform aggressively and acquired eBioscience. We believe these actions will lead to a stabilization of our core business and the realignment of our product portfolio will position us for growth.

· Phase II (2013-2014) - Profitability, Strengthen Balance Sheet, Development of Newer Product Lines. In the beginning of 2013, we communicated a corporate restructuring with a goal of accelerating our path to profitability. The corporate restructuring is expected to result in annualized savings of approximately $25 million based on 2013 run rates, of which $5 million is expected to be in cost of goods sold. Our priorities for this phase will be to achieve profitability, repay our senior secured debt, successfully commercialize our newer product lines (CytoScan®, Axiom® and QuantiGene® lines, as well as our eBioscience products) and invest in new product offerings. In addition, we will train and refocus our global commercial organization to expand our reach to customers in the translational medicine, molecular diagnostics and applied markets.

· Phase III (2015 -2016) - Strategic Flexibility, Expansion of Product Lines; Growth. Our goal is to have a strong balance sheet in this phase that will provide us with the flexibility to make strategic acquisitions. In addition, we aim to grow revenues with developed product lines and new product offerings in the translational medicine and molecular diagnostic markets.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Management's Discussion and Analysis of Financial Condition and Results of Operations is based upon our Condensed Consolidated Financial Statements, which we have prepared in accordance with U.S. generally accepted accounting principles ("GAAP"). The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. Management bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Management has discussed the development, selection and disclosure of significant estimates with the Audit Committee of our Board of Directors. Actual results may differ from these estimates under different assumptions or conditions.
An accounting policy is deemed to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimate is made, if different estimates reasonably could have been used, or if changes in the estimate that are reasonably likely to occur could materially impact the financial statements. For a description of accounting changes and recent accounting standards, including the expected dates of adoption and estimated effects, if any, refer to Note 1. "Summary of Significant Accounting Policies" in the Notes to the Condensed Consolidated Financial Statements of this Quarterly Report on Form 10-Q. During the three months ended March 31, 2013, there have been no significant changes in our critical accounting policies and estimates compared to the disclosures in Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2012.


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RESULTS OF OPERATIONS
The following discussion compares the historical results of operations for the
three months ended March 31, 2013 and 2012.
REVENUE
The components of revenue are as follows:
Dollars in thousands           Three Months Ended          Dollar         Percentage
                                    March 31,              change           change
                                2013          2012        from 2012       from 2012
Consumables                  $   68,125     $ 53,788     $    14,337               27 %
Instruments                       3,432        4,703          (1,271 )            (27 )
Product sales                    71,557       58,491          13,066               22
Services and other revenue        6,388        6,756            (368 )             (5 )
Total revenue                $   77,945     $ 65,247          12,698               19 %

Excluding first quarter revenue from eBioscience of $19.0 million, total product sales decreased $5.9 million in the three months ended March 31, 2013 as compared to the same period in 2012. The decrease was primarily due to lower-than-expected revenue of $9.4 million in our Expression business unit across all regions, particularly in Japan, due to a challenging business environment. This decrease was partially offset by a $2.9 million increase in our Genetic Analysis and Clinical Applications business unit as a result of increased volume of sales in our Cytogenetics line of products which has been steadily increasing beginning in 2012 and our Axiom® product that more than doubled compared to the three months ended March 31, 2012. Instrument revenue decreased due to lower pricing.
Services and other revenue decreased slightly for the three months ended March 31, 2013 as compared to 2012 due to lower services revenue partially offset by higher royalty revenue.

TOTAL REVENUE BY BUSINESS UNIT
The following table summarizes revenue by business unit:
Dollars in thousands                            Three Months Ended          Dollar         Percentage
                                                    March 31,               change           change
                                                2013          2012         from 2012       from 2012
Expression                                   $   22,964     $  32,315     $    (9,351 )            (29 )%
Genetic analysis and clinical applications       21,752        18,830           2,922               16
Life science reagents                             8,308         8,201             107                1
Corporate                                         5,913         5,901              12                0
eBioscience                                      19,008             -          19,008              100
Total product sales                          $   77,945     $  65,247     $    12,698               19 %



Percentage of revenue                           Three Months Ended
                                                     March 31,
                                               2013            2012
Expression                                          29 %            50 %
Genetic analysis and clinical applications          28              29
Life science reagents                               11              12
Corporate                                            8               9
eBioscience                                         24               -
Total product sales                                100 %           100 %


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Expression During the three months ended March 31, 2013, Expression revenue decreased by $9.4 million primarily due to a decline in Genechip revenue of $8.3 million, which was driven by a lower volume of sales on our in vitro transcription (IVT) arrays primarily in Japan, decreased instrument sales of $0.6 million and lower revenue from Panomics of $0.5 million. Genetic Analysis and Clinical Applications Genetic Analysis and Clinical Applications revenue increased for the three months ended March 31, 2013 as compared to the same period in 2012, primarily due to $2.1 million and $5.2 million increases in revenue on our Cytogenetics and Axiom® products, respectively, partially offset by a decline in sales of our SNP 6.0 arrays of $2.8 million and lower instrument sales of $0.7 million.
Life Science Reagents For the three months ended March 31, 2013, Life Science Reagents revenue increased slightly as compared to the same period in 2012. Corporate Corporate revenue remained flat between the three months ended March 31, 2013 and 2012. Field service revenue was down but was offset by an increase in royalty revenue.

GROSS MARGIN
Dollars in thousands                                    Three Months Ended        Dollar/Point
                                                            March 31,              change from
                                                        2013          2012            2012
Total gross margin on product sales                  $   37,124     $  34,926     $       2,198
Total gross margin on services and other revenue          2,881         2,977               (96 )

Product gross margin as a percentage of products
sales                                                        52 %          60 %              (8 )

Service and other revenue gross margin as a
percentage of services and other revenue                     45 %          44 %               1

Excluding eBioscience product gross margin of $7.2 million or 38%, that includes $4.6 million of amortization of inventory step-up in fair value, product gross margin decreased by $5.0 million or 3 basis points during the three months ended March 31, 2013 as compared to same period in 2012 primarily due to lower product pricing and a mix shift to lower margin products off-set by headcount reduction savings following our most recent restructuring effort and favorable cost absorption.

RESEARCH AND DEVELOPMENT EXPENSES

Dollars in thousands Three Months Ended Dollar Percentage March 31, change change 2013 2012 from 2012 from 2012 Research and development $ 12,248 $ 13,331 $ (1,083 ) (8 )%

Excluding eBioscience expenses of $2.2 million, the decrease in research and development expenses for the three months ended March 31, 2013 as compared to the same period in 2012 was primarily due to savings on headcount-related costs of $1.6 million, lower spending on supplies and equipment of $0.5 million and consulting and purchased services of $0.4 million. Additionally, allocated costs associated with IT and facilities spending decreased by $0.9 million during the period as compared to 2012.


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SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Dollars in thousands Three Months Ended Dollar Percentage March 31, change change 2013 2012 from 2012 from 2012 Selling, general and administrative $ 35,121 $ 27,924 $ 7,197 26 %

Excluding eBioscience expenses of $9.1 million, the decrease in selling, general and administrative expenses in the three months ended March 31, 2013 as compared to the same period in 2012 was primarily due to less non-recurring acquisition- and integration-related costs incurred during 2013 as compared to the prior year of $0.8 million. Additionally, for the three months ended March 31, 2013, we recognized lower headcount-related and variable compensation costs of $0.5 million, incurred less spending on IT and facilities costs of $0.5 million and marketing and travel costs of $0.3 million. These decreases were partially offset by higher legal services expenses of $0.4 million.
RESTRUCTURING EXPENSES
During the three months ended March 31, 2013, we recognized $4.9 million in restructuring charges due to a cost reduction action that included workforce initiated during the year ended December 31, 2012. We estimate that the total restructuring charge associated with the plan will be approximately $6.6 million, substantially all of which is compensation and benefits afforded to terminated employees. We do not expect any further material restructuring expenses for the remainder of 2013.

INTEREST INCOME AND OTHER, NET

Dollars in thousands                           Three Months Ended            Dollar         Percentage
                                                    March 31,                change           change
                                              2013             2012         from 2012       from 2012
Interest income                            $      (16 )     $      298     $      (314 )           (105 )%
Realized income (loss) on equity
investments, net                                   67               44              23              (52 )
Currency loss, net                               (593 )           (318 )          (275 )            (86 )
Other                                             884                2             882           44,100
Total interest income and other, net       $      342       $       26     $       316            1,215 %

Interest income and other, net, in the three months ended March 31, 2013 increased as compared to the same period in 2012 primarily due to a gain of $0.7 million recognized on the release of accrued deferred rent associated with the exit of one of our San Diego properties. This increase was partially offset by lower interest income as a result of the sale of most of our available-for-sale securities during the eBioscience acquisition in the second quarter of fiscal 2012 and the remaining amounts in the first quarter of 2013. In addition, currency losses increased primarily due to the weakening of the U.S. dollar against other foreign currencies and the net results of our hedging activities. We continue to monitor the liquidity and financing activities of strategic non-marketable investments to determine if any impairment exists. It is uncertain whether or not we will realize any long-term benefits associated with these strategic investments.
INTEREST EXPENSE
Dollars in thousands Three Months Ended Dollar Percentage March 31, change change 2013 2012 from 2012 from 2012 Interest expense $ 2,898 $ 980 $ 1,918 196 %

Interest expense increased during the three months ended March 31, 2013 as compared to the same periods in 2012 due to the interest costs on the debt obligations incurred in connection with the Acquisition partially offset by the redemption of the remaining aggregate principal amount of our 3.50% Notes in the first quarter of 2013.


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INCOME TAX PROVISION
Dollars in thousands Three Months Ended Dollar Percentage March 31, change change 2013 2012 from 2012 from 2012 Income tax provision (benefit) $ 675 $ (89 ) $ 764 (858 )%

In the first quarter of 2013, the provision for income tax primarily consists of a provision for foreign taxes. In the first quarter of 2012, the benefit for income tax primarily consists of a provision for foreign taxes offset by an income tax benefit provided within the intraperiod tax allocation rules. Due to our history of cumulative operating losses, management concluded that, after considering all the available objective evidence, it is not more likely than not that all our net deferred tax assets will be realized. Accordingly, all of our U.S. deferred tax assets continue to be subject to a valuation allowance as of March 31, 2013.
As of March 31, 2013, there have been no material changes to our total amount of unrecognized tax benefits.
LIQUIDITY AND CAPITAL RESOURCES
Historically, we have financed our operations primarily through product sales; borrowings under credit arrangements; sales of equity and debt securities such as our 4.00% Notes, collaborative agreements; interest income; and licensing of our technology.
Our cash outflows have generally been as follows: cash used in operating activities such as research and development programs, sales and marketing activity, compensation and benefits of our employees and other working capital needs; cash paid for acquisitions; cash paid for litigation activity and settlements; and cash used for the payment of principal on debt obligations and repurchases of our convertible notes as well as interest payments on our long-term debt obligations.
As of March 31, 2013, we had cash and cash equivalents of approximately $38.2 million. During the three months ended March 31, 2013, we liquidated our portfolio of available-for-sale securities for $9.4 million in cash proceeds. We anticipate that our existing capital resources along with the cash to be generated from operations will enable us to maintain currently planned operations, debt repayments or convertible notes repurchases, and capital expenditures for the foreseeable future. These expectations are based on our current operating and financing plans, which are subject to change, and therefore we could require further funding. Factors that may cause us to require additional funding may include, but are not limited to: costs associated with defending third party claims; adverse ruling in any of our current litigation proceedings; investments required to commercialize our products; investments required to upgrade our older product lines; a decline in cash generated by sales of our products and services; our ability to maintain existing collaborative and customer arrangements and establish and maintain new collaboration and customer arrangements; arrangements that we may enter into in connection with future acquisitions or depositions; the progress of our research and development programs; initiation or expansion of research programs and collaborations; the costs involved in preparing, filing, prosecuting and enforcing intellectual property rights; the purchase of patent licenses; and other factors.
In 2012, we completed our acquisition of eBioscience for approximately $307.8 million, representing the purchase price of $314.9 million less $7.1 million cash transferred from eBioscience. The Acquisition was financed through a . . .

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