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SQNM > SEC Filings for SQNM > Form 10-Q on 1-Aug-2014All Recent SEC Filings

Show all filings for SEQUENOM INC

Form 10-Q for SEQUENOM INC


1-Aug-2014

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Introduction
All statements in this report that are not historical are forward-looking statements within the meaning of Section 21E of the Securities Exchange Act. These forward-looking statements can generally be identified as such because the context of the statement will include words such as "may," "will," "intend," "plans," "believes," "anticipates," "expects," "estimates," "predicts," "potential," "continue," "opportunity," "goals," or "should," the negative of these words or words of similar import. Similarly, statements that describe our future plans, strategies, intentions, expectations, objectives, goals, or prospects are also forward-looking statements. These forward-looking statements are or will be, as applicable, based largely on our expectations and projections about future events and future trends affecting our business, and so are or will be, as applicable, subject to risks and uncertainties including but not limited to the risk factors discussed in this report, that could cause actual results to differ materially from those anticipated in the forward-looking statements. We caution investors that there can be no assurance that actual results or business conditions will not differ materially from those projected or suggested in such forward-looking statements. Our views and the events, conditions and circumstances on which these future forward looking statements are based, may change. All forward-looking statements are qualified in their entirety by this cautionary statement and we undertake no obligation to revise or update any such statements to reflect events or circumstances after the date hereof. SEQUENOM ® , Sequenom Center for Molecular Medicine ® and SensiGene ® are registered trademarks and RetnaGene™, MaterniT21™, MaterniT21™ PLUS and Heredi-TTM are trademarks of Sequenom, Inc. This report may also refer to trade names and trademarks of other organizations.
Sequenom, Inc., was incorporated in 1994 under the laws of the State of Delaware. As used in this report, the words "we," "us," "our," the "Company," and "Sequenom" refer to Sequenom, Inc. and its wholly-owned subsidiaries on a consolidated basis, unless explicitly noted otherwise.
This following discussion and analysis of financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and accompanying notes included in this report and our Annual Report on Forms 10-K and 10-K/A for the fiscal year ended December 31, 2013. This discussion and analysis may contain forward-looking statements that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, such as those set forth under the heading "Risk Factors," and elsewhere in this report.
Overview
We are a life sciences company committed to improving healthcare by providing genomic and genetic analysis solutions for the molecular diagnostic market. We develop and commercialize innovative molecular diagnostics testing services that target and serve molecular diagnostics markets. We offer our services in the U.S. and globally with international emphasis in countries in the European and Asia-Pacific regions. We conduct our business in one operating segment, Sequenom Laboratories.
Sequenom Laboratories provides molecular based laboratory developed tests, with a focus principally on prenatal diseases and conditions and ophthalmological diseases and conditions. Sequenom Laboratories is a CAP (College of American Pathologists) accredited and CLIA (Clinical Laboratory Improvements Amendment of 1988, as amended) certified molecular diagnostics laboratory that develops, validates and exclusively offers tests branded under the names MaterniT21™ PLUS, HerediT™, SensiGene®, and RetnaGene™. These genetic tests, offered as a testing service to physicians for the benefit of their patients, provide early patient management information for obstetricians, geneticists, maternal fetal medicine specialists, and ophthalmologists and eye care specialists. Sequenom Laboratories' tests are:
MaterniT21 PLUS : a noninvasive prenatal test, or NIPT, to detect fetal chromosomal abnormalities by determining the relative amount of chromosomal material present in circulating cell-free DNA in a maternal blood sample. The test is intended and offered for use in pregnant women at increased risk for fetal chromosomal abnormalities, including abnormalities associated with trisomies 21, 18, and 13. Originally launched in October 2011, the test has been expanded and now includes detection of increased representation of chromosomes 21, 18 and 13 material (associated with trisomy 21, 18 and 13, respectively) and the presence of the Y chromosome, and if observed, chromosomal abnormalities associated with chromosomes 16, 22, sex chromosomes X and Y, and select chromosomal microdeletions.
HerediT CF: part of the prenatal menu, a carrier screen test to help identify individuals who may have an increased risk of having certain cystic fibrosis, or CF, genetic mutations. This test has been expanded to include screening for a broad set of phenotypically relevant genetic mutations selected from the leading Johns Hopkins CFTR2 database.
SensiGene RHD: a NIPT to determine the presence or absence of fetal Rhesus D factor, or RHD by direct detection of the fetal RHD genotype in RHD negative mothers from a maternal blood sample.


RetnaGene AMD: a genetic test to predict the risk of a patient with "dry" or early stage age-related macular degeneration, or AMD, progressing to "wet" or advanced choroidal neovascular disease within 2, 5, and 10 years. We depend upon third-party payors to provide reimbursement for our tests. Accordingly, we continue to focus substantial resources on obtaining reimbursement coverage from third-party payors. In December 2012, the American Congress of Obstetricians and Gynecologists, or ACOG, and the Society for Maternal Fetal Medicine Specialists, or SMFM, issued a joint committee opinion on NIPT for fetal aneuploidy, which supported the use of circulating cell-free fetal DNA as a basis for NIPT in pregnant women at high risk of carrying a fetus with fetal aneuploidy. We believe these guidelines will drive further adoption of Sequenom Laboratories' MaterniT21 PLUS test and strengthen our efforts to obtain insurance reimbursement. Following the issuance of these guidelines, many third-party payors have adopted positive coverage policies for reimbursement of NIPT for high-risk pregnancies.
In the United States, the American Medical Association (AMA) generally assigns specific billing codes for laboratory tests under a coding system known as Current Procedure Terminology, or CPT, codes, which are necessary for us to bill and receive reimbursement for our diagnostic tests. Once the CPT code is established, the Centers for Medicare and Medicaid Services, or CMS, in turn establishes payment levels and coverage rules under Medicare, and private payors establish rates and coverage rules independently. Additionally, payors have initiated efforts to develop a more specific set of billing codes for laboratory tests so that the particular laboratory test is more precisely identified. CMS implemented new codes beginning January 1, 2013 that did not include a specific code relevant to most of Sequenom Laboratories' tests. This coding change adopted by CMS and most third party payors has resulted in delayed payments and, in some cases, reduced payments from payors for services performed after January 1, 2013. Additionally, following the coding change, many state Medicaid programs have not included an appropriate test code in their fee schedule and, in some cases, are considering whether molecular diagnostic tests such as ours should be a covered benefit.
Sequenom Laboratories bills insurance companies and other third party payors for performance of the tests and bills patients for deductibles and copayment amounts. Sequenom Laboratories' diagnostic testing services revenues are primarily recognized on a cash basis. In the second quarter of 2014 we began to transition to accrual accounting on a payor-specific and test-specific basis where we can reliably estimate the amount that will ultimately be collected for our tests. For the three months ended June 30, 2014 we recognized $5.7 million on an accrual basis for these specific payors, and of that revenue we collected $3.8 million as of June 30, 2014. Sequenom Laboratories continues to obtain contracts with additional payors and continues to work with other third-party payors, including state Medicaid programs, to adopt positive coverage policies for its tests. In some cases, such coverage decisions enable retroactive payment, however, in other cases, prior services may not be collectible. Due to the payment practices of many of the payors, we expect revenues will fluctuate until these factors are resolved.
Sequenom Laboratories performs its tests at three locations, San Diego, California, and Raleigh-Durham, North Carolina, for its MaterniT21 PLUS test, and Grand Rapids, Michigan, for its other tests. Sequenom Laboratories will continue efforts to ensure that office and laboratory space is adequate to accommodate the necessary capacity requirements to meet Sequenom Laboratories' current and future business needs.
We have a history of recurring losses from operations and we expect to incur additional operating losses in 2014 as we continue to seek to improve reimbursement for our tests and work to develop additional products and tests, and incur legal fees to defend our patent position. The timing of becoming profitable is dependent upon a number of factors, including the timing of reimbursement payments from third-party payors; the timing and costs related to research and development projects; selling and marketing efforts; and administrative expenses to support our operations. Our capital requirements to sustain operations have been and will continue to be significant. As of June 30, 2014, we had available cash and cash equivalents and current marketable securities totaling $82.1 million and working capital of $51.4 million.

In September 2013, we announced that our board of directors authorized a review of potential strategic alternatives for our Sequenom Bioscience business segment, which includes the evaluation of a full range of strategic alternatives for this business, including, but not limited to, a possible sale of the business or joint venture involving the business.
On May 30, 2014 we completed the sale of our Bioscience business to BioSciences Acquisition Company ("BioSciences") which purchased substantially all of the assets used in what the Company previously reported as its Bioscience business segment. With this divestiture, the Company now operates in a single business segment, Sequenom Laboratories.
As a result of the Bioscience segment sale the Company has retrospectively revised the consolidated statements of operations and cash flows for the three and six months periods ending June 30, 2014 and 2013 and the consolidated balance sheet as of December 31, 2013 to reflect the financial results from the Bioscience business segment, and the related assets and liabilities as discontinued operations.
Our strategic focus for 2014 is to improve profitability and reduce our cash burn as we work to our goal to achieve break-even and positive cash flow for the fourth quarter of 2014 and to expand Sequenom Laboratories' NIPT menu with the


development of a low cost fetal chromosomal abnormality test which could be performed on an alternative platform by the end of 2014. Our ability to achieve our goal is dependent on a number of factors, including the risks as summarized in our risk factors, including the amount incurred for legal expenses, and timing of cash flows which may vary from our expectations. We will focus on growing profitable volume in our diagnostic testing business, increasing our market penetration and cash collections and growing our revenues through obtaining contracts with payors to create a sustainable, profitable business model for the future. We expect to expand our relationships with physicians who order our tests and invest in our research and development programs to develop additional or enhanced tests.

Second Quarter of 2014
• Total revenues during the three months ended June 30, 2014 increased $15.3 million, or 62%, to $39.8 million when compared to $24.5 million during the three months ended June 30, 2013.

• Total accessions for all Sequenom Laboratories tests during the three months ended June 30, 2014 increased by 3,400, or 7%, to 50,100 when compared to 46,700 during the three months ended June 30, 2013.

• Net cash used in operating activities was $18.2 million for the second quarter of 2014, compared to $55.2 million in the same period in the prior year.

• Total revenues during the six months ended June 30, 2014 increased $23.2 million, or 43%, to $76.8 million when compared to $53.6 million during the six months ended June 30, 2013.

• Total accessions for all Sequenom Laboratories tests during the six months ended June 30, 2014 increased 8,800, or 10%, to 100,000 when compared to 91,200 during the six months ended June 30, 2013.

• During the six months ended June 30, 2014 we used $0.6 million for capital investments compared to $9.0 million for the same period in 2013. We also used $3.8 million for debt repayments during the six months ended June 30, 2014 compared to $3.8 million for the same period in 2013.

• As of June 30, 2014, total cash, cash equivalents, and marketable securities were $82.1 million.

• In the second quarter we began to recognize revenue on the accrual basis for tests billed to certain third-party payors. We recognized net revenue of $5.7 million from those payors, compared to cash collected of $3.8 million during the quarter, for incremental revenue of $1.9 million compared to the amount we would have recognized as revenue on a cash basis.

• On May 30, 2014 we announced sale of our Bioscience business segment. The gain on the sale of Bioscience business segment, net of $9.9 million of related tax expense was $14.4 million, with an aggregate cash purchase price of $31.8 million plus a $2 million milestone payment that was earned in June 2014 upon receiving FDA premarket 510(k) clearance.

Results of Operations
Revenues
We derive our revenues primarily from diagnostic services. We operate our
business in one segment, Sequenom Laboratories, which provides laboratory
testing services.
Our revenues and accessions were as follows:
                             Three Months Ended                               Six Months Ended
                                  June 30,                 Change                 June 30,                Change
(dollars in thousands)       2014           2013        $ / #       %        2014          2013        $ / #       %
Diagnostic services      $    39,782     $ 24,526     $ 15,256     62%    $  76,843     $ 53,609     $ 23,234     43%
revenue
Total accessions (for
all Sequenom                  50,100       46,700        3,400      7%      100,000       91,200        8,800     10%
Laboratories tests)

Diagnostic services revenues are derived from providing testing services for Sequenom Laboratories' tests and are primarily recognized on a cash basis as payments are received. We will account for revenues on a cash basis until we have a history of collections from a third-party payor and we are able to demonstrate that we can make a reasonable estimate of collectible amounts before moving to the accrual method of revenue recognition for such payor and test. In the second quarter of 2014, we adopted accrual accounting for select payors. For the payors recorded on an accrual basis we recognized $5.7 million, and of that revenue we collected $3.8 million as of June 30, 2014. The revenue recorded on a cash basis for the second quarter totaled $29.2 million. Revenues for international samples and royalties are recorded on an accrual basis and amounted to $4.9 million


for the three months ended June 30, 2014.
Each test performed relates to a patient specimen collected by a health care professional, and received by the laboratory. Such specimen encounter is commonly referred to as an "accession" in the laboratory sector. Although accessions are not billed until the test is complete and results are reported to the ordering physician, we believe that the number of accessions received is useful to understand the volume of Sequenom Laboratories' business. These tests are typically completed within approximately six business days from the date of accession. Revenues for diagnostic services are generated primarily from customers located within the U.S. Our international customers collect and ship patient specimens to the laboratory, and Sequenom Laboratories processes the specimens in its laboratory in the United States. We also have royalty agreements with international customers to whom we have licensed our technology in certain countries.
The $15.3 million, or 62%, and $23.2 million, or 43%, increases in diagnostic services revenues during the three and six months ended June 30, 2014, when compared to the same periods in the prior year, are primarily attributable to the increase in the number of accessions, greater collections for accessions performed in current and prior periods and some payor revenue being recognized on an accrual basis. Collections for diagnostic services performed in prior quarters decreased in the second quarter 2014 compared to the first quarter 2014 by 2%, or $0.5 million. Revenue recorded as cash basis revenue for services in the quarter declined $2.7 million because we adopted accrual basis revenue for select payors, while the combined cash basis and accrual revenue recorded for services performed in the second quarter increased 20%, or $3.3 million, compared to the first quarter 2014. The following is a summary of accessions and diagnostic services revenues for the first two quarters in 2014 and the four quarters of 2013:

                                                 2014                             2013
(collections in millions, accessions in
thousands)                                   Q2         Q1         Q4         Q3         Q2         Q1
Accessions by quarter                       50.1       49.9       46.0       48.3       46.7       44.5

Revenue recorded on accrual basis         $ 10.6     $  4.6     $  4.1     $  3.8     $  2.9     $  0.8
Cash basis revenue for diagnostic
services performed in the quarter            8.5       11.2       12.1       11.2        9.1        9.4
Cash basis revenue for diagnostic
services performed in prior quarters        20.7       21.2       16.5       18.3       12.5       18.9
Diagnostic services revenues              $ 39.8     $ 37.1     $ 32.7     $ 33.3     $ 24.5     $ 29.1

Collections for services in prior periods have been volatile, and we expect collections to continue to fluctuate depending upon the results of our efforts to collect payment from third party payors.
As of June 30, 2014, amounts outstanding for tests delivered, net of estimated write-downs and adjustments, which were not recognized as revenue upon delivery of the test result because accrual revenue recognition criteria was not met and the amounts had not been collected, range from approximately $36 million to $40 million, depending upon the ultimate reimbursement received for outstanding claims. We cannot provide any assurance as to when, if ever, and to what extent these amounts will be collected.
One commercial payor represented more than 10% of diagnostic services revenue during the three months ended June 30, 2014, accounted for $4.5 million, or 11.3%, of diagnostic service revenue compared to $5.8 million, or 23.5%, for the same period in 2013. For the six months ended June 30, 2014 one commercial payor accounted for $9.3 million, or 12.1%, of diagnostic services revenue compared to $14.9 million, or 27.8%, for the same period in 2013.
The increases in the number of accessions during the three and six months ended June 30, 2014 of 7% and 10% respectively, when compared to the same period in 2013, is primarily attributable to the increased market adoption domestically and internationally of the MaterniT21 PLUS test which was introduced domestically in the fourth quarter of 2011, and internationally in the first quarter of 2012. International revenues accounted for $9.5 million and $3.8 million of diagnostic services revenues during the six months ended June 30, 2014 and 2013, respectively.
We believe that our diagnostic services revenues will continue to be affected by our current revenue recognition policy, the overall acceptance and demand for our new and existing commercial products and services, the adoption rates of Sequenom Laboratories' existing tests and any future tests we may develop, and payment patterns of third-party payors and patients. Following the coding change on January 1, 2013 many state Medicaid programs have not included the appropriate test code in their fee schedule and, in many cases, are considering whether molecular diagnostic tests such as ours should be a covered benefit. As a result the volume of Medicaid tests has decreased from approximately 25% of accessions in the first two quarters of 2013 to 17.0% of total accessions in the first two quarters of 2014. However, in 2014 more Medicaid programs began to reimburse for our tests. This has increased revenues from government payors 150%, from $3.6 million during the six months ended June 30, 2013 to $9.1 million during the six months ended June 30, 2014. Diagnostic services revenues collected from government payors to date in 2014 were 11.8% of our diagnostic services revenues. We continue to pursue collection for our tests with third-party payors, including Medicaid, where appropriate.


Cost of Revenues and Gross Margins
Cost of revenues consist of material, direct labor of our laboratory personnel,
outside laboratory costs, royalties and overhead. Gross margin consists of our
revenues less cost of revenues.
Our costs of revenues and gross margins were as follows:
                            Three Months Ended                              Six Months Ended
                               June 30,                  Change                 June 30,                 Change
(dollars in thousands)     2014          2013          $          %        2014          2013          $          %
Cost of Revenues
Diagnostic services    $   22,410     $ 20,634     $  1,776      9%     $  45,180     $ 41,713     $  3,467      8%

Gross Margin
Diagnostic services    $   17,372     $  3,892     $ 13,480     346%    $  31,663     $ 11,896     $ 19,767     166%

Gross Margin as a % of Revenues
Diagnostic services 44 % 16 % 41% 22%

Cost of diagnostic services revenues consists of cost of materials and direct labor costs, equipment and infrastructure expenses associated with accessioning patient specimens (including quality control analyses and shipping charges to transport patient specimens), royalties, and license fees. Infrastructure expenses include allocated facility occupancy and information technology costs. Costs associated with performing tests are recorded as tests are completed. Costs recorded for patient specimen processing represent the cost of all the tests processed during the period regardless of whether revenues were recognized with respect to that test. Royalties for licensed technology calculated as a percentage of revenues are recorded as license fees in cost of revenues at the time revenues are recognized or in accordance with other contractual obligations. While license fees are generally calculated as a percentage of revenues, the percentage increase in license fees does not correlate exactly to the percentage increase in revenues because certain agreements contain provisions for fixed annual payments and other agreements have tiered rates and payments that may be capped at annual minimum or maximum amounts. License fees represent a significant component of our cost of revenues and are expected to remain so for the foreseeable future.
The increases in cost of diagnostic services revenues during the three and six months ended June 30, 2014 when compared to the same period in 2013 is primarily attributable to increased labor, materials and royalties associated with increased test volumes, including increased costs for the additional site location in North Carolina which became commercially operational in June 2013. Gross margin as a percentage of diagnostic services revenues is also affected by generally recognizing revenues upon cash collection, which may result in costs being incurred in one period that relate to revenues recognized in a later period. The increase in gross margin during the three and six months ended June 30, 2014 compared to the same period in 2013 is primarily attributable to the increased number of accessions completed, collections for accessions performed in prior quarters, cost cutting initiatives executed in the past year and increased international sales.
We expect that gross margin for our diagnostic services will continue to fluctuate and be affected by the adoption rates of Sequenom Laboratories' diagnostic tests, our revenue recognition policy, the levels of reimbursement, cost improvement initiatives, and payor and other contracts we may enter into for our tests.
We expect the cost of revenues to increase in future periods to the extent Sequenom Laboratories processes more tests. Sequenom Laboratories currently has the physical capacity to conduct 300,000 MaterniT21 PLUS tests per year with minimal additional capital investment. The North Carolina site location can be expanded if, and when, additional capacity is needed. Operating Expenses
Our operating expenses were as follows:

                                Three Months Ended                                 Six Months Ended
                                     June 30,                   Change                 June 30,                 Change
(dollars in thousands)           2014           2013          $          %        2014          2013          $          %
Selling and marketing      $    7,920         $ 9,978     $ (2,058 )   (21)%   $  16,479     $ 19,955     $ (3,476 )   (17)%
Research and development        7,087          10,910       (3,823 )   (35)%      13,876       22,522       (8,646 )   (38)%
General and administrative     14,590          12,222        2,368      19%       27,070       25,442        1,628      6%
Restructuring costs               975               -          975     100%        1,885            -        1,885     100%


Selling and Marketing Expenses
Selling and marketing expenses consist primarily of compensation and related departmental expenses for sales and marketing, customer support, and business development personnel.
The $2.1 million, or 21%, decrease in selling and marketing expenses during the three months ended June 30, 2014, when compared to the three months ended June 30, 2013, resulted primarily from $0.6 million in lower travel expenses and $0.8 million in lower labor costs for our sales force which decreased in connection with our restructuring in the third quarter of 2013 and $0.4 million in lower marketing expense.
The $3.5 million, or 17%, decrease in selling and marketing expenses during the six months ended June 30, 2014, when compared to the six months ended June 30, . . .

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