Nov 12, 2013
Executives
Doug Sheehy – SVP and General Counsel John Nicols – President and CEO David O'Toole – SVP and CFO
Analysts
Andrew Weinberger – Bear Stearns
Operator
Welcome to Codexis’ Third Quarter Earnings Conference Call. This call is being webcast live on the Investors section of Codexis’ website at codexis.com.
This call is property of Codexis and any recording, reproduction or transmission of this call without the expressed written consent of Codexis is strictly prohibited. As a reminder, today’s call is being recorded.
You may listen to a webcast replay of this call by going to the Investors section of Codexis website. I would now like to turn the call over to Mr.
Doug Sheehy, Codexis’ Senior Vice President and General Counsel. Please proceed.
Doug Sheehy
Thank you and good afternoon. Today after market closed, we announced our fiscal third quarter financial results.
The press release is available on the Investors page of our website at codexis.com. With me today are John Nicols, our President and Chief Executive Officer; and David O'Toole, our Senior Vice President and Chief Financial Officer.
During the course of today’s call, management will make a number of forward-looking statements. These forward-looking statements include our forecast for pharmaceutical related revenue for the fourth quarter of 2013, our forecast for a number of full year 2013 financial metrics, including pharmaceutical revenue, product revenue, product gross margins, total gross margins for pharmaceutical revenue, total gross profit dollars and total cash burn; atorvastatin volumes and profit margins for 2013 and 2014, the timing of sitagliptin revenue, our forecast for a number of full year 2014 financial metrics, including revenue growth, gross margins, gross profit dollars and cash burn.
Our ability to secure a strategic transaction for our CodeXyme cellulase enzymes and our CodeXol detergent alcohols programs, the ability of our technology to quickly reduce costs and create value for customers, our ability to generate positive cash flow and profits, our ability to accelerate adoption of our technology across a wider set of applications, potential expansion of our relationship with Merck and our ability to develop strong relationships with large companies beyond Merck. These forward-looking statements are based on assumptions and are subject to risks and uncertainties that could cause actual results to differ significantly from those projected here.
Given these risks and uncertainties, you should not place undue reliance on these forward-looking statements. Please refer to our quarterly report on Form 10-Q that we filed with the Securities and Exchange Commission today November 12, for some of the important risk factors that could cause actual results to differ materially from the forward-looking statements made on this call.
Except as required by law, we disclaim any obligation to publicly update or revise any forward-looking statements to reflect events or circumstances that could occur after this call. Now, I’d like to turn the call over to John Nicols.
John Nicols
Good afternoon and thank you for joining us. Since taking over the helm of this company 17 months ago, my charter has been to put forward and drive the most value creating strategy for the company.
In these six quarters, what has become increasingly clear is the strength of our biocatalysis platform where we develop and supply enzymes to reduce costs and increase the efficiency of our customers’ pharmaceutical and chemical manufacturing processes. Our historical focus in this business has been exclusively applied in the pharmaceutical industry.
And now we are also starting to gain traction in other complex chemical markets. Furthermore, our continuous improvement of our genetic engineering technology toolkit combined with our intimate collaborative approach with customers in the marketplace has positioned us well as a premier novel enzyme innovator and marketer.
This business is only beginning to hit its stride with year-over-year gross profit growth on track to deliver a 70% result in 2013, demonstrating that our core biocatalysis strengths are increasingly delivering to the bottom line for the company. In parallel, we have worked hard to exploit enticing opportunities to apply our core strengths into the world’s needs for bio-based fuels and chemicals, especially those based on non-food cellulosic feedstocks in abundance and largely wasted on our planet.
While we are very proud to have developed what we believe to be industry-leading technology in our CodeXyme cellulase enzymes and CodeXol detergent alcohol platform, we have fought an uphill battle against a number of external forces, including the growth of cheap and abundant non-renewable fuel sources, the shifted fuel strategy of our prior partnership with Shell, the delayed economic validation timelines for cellulosic ethanol technologies and the rising political sentiment against ethanol’s growth in the fuel pool. Regarding CodeXyme, we have been clear with you over the last year on two things.
First, our growing pride and encouragement in the face of well-capitalized competition that our CodeXyme cellulase enzyme product is as good as anyone’s today. And second, the funding challenge to continue to develop this business without depleting our limited balance sheet resources.
For the last nine months now, we have engaged a globally leading financial adviser to help us to secure the needed funding partner. Despite the strong efforts of our investment banker, in concert with our highest priority attentions from our team, it is now clear that we do not expect to be able to secure a partnership or transaction that will sufficiently let us recognize the value of our CodeXyme technology and business state.
While we had encouraging discussions with a number of companies, ultimately and across the board we found partner appetite muted by cellulosic ethanol industry build-out uncertainties, extended views of investment runway and reduced perceived returns. Accordingly, we begin today to immediately wind down our CodeXyme operations after already having stopped the development of our CodeXol program earlier in the year.
Consistent with that, we have embarked on a cost reduction effort, which sheds substantially near term costs while at the same time redirecting the company's human talents to best reinforce the biocatalysis business. In parallel, these moves will dramatically mitigate the cash burn profile of the company.
What had been an approximate $30 million plus per year cash burn from the 2010 IPO until I joined to the roughly $20 million per year since I joined, we will now drive the company to a much more manageable $8 million or less cash burn for 2014. Of course, the Codexis leadership team and I have a keen eye to deliver better than this next year.
The vast majority of our restructuring plan will be implemented and in place by the end of this year to give us an optimal financial start to 2014. While we may continue to explore possible strategic transactions for both our CodeXyme cellulase enzymes and CodeXol detergent alcohols programs, we now direct the full attention of the Codexis team onto its 11 year biocatalysis core.
Successes for us here, including working with Merck to overhaul their manufacturing process for Januvia sitagliptin currently and the overhaul of the world’s manufacture of atorvastatin that we pioneered prior and our broad diverse long-term growth opportunities will form the core conversation with our investor base from here. The Codexis team is confident and hooked on the prospects.
Our biocatalysis is underpenetrated in large diverse markets and the ability of our technology to quickly reduce costs and create value for our customers is an outstanding platform for continued future growth. With this focus, we will drive Codexis as rapidly as possible towards positive cash flow and eventual profitability thereafter.
We are pursuing an aggressive strategy to produce these results, not just in my aforementioned focus on cost control and productivity but also, of course, in driving the growth of our biocatalysis business. We excel in our capability to deliver today.
Our 200 plus and growing genetic engineering patents provide us a leading platform to enable us to create new biocatalysts. Far better performing than mother nature can provide faster and cheaper year after year, allowing an acceleration of adoption across a widening set of value-added applications.
This is what we do at Codexis and it is tremendously exciting to be part of the team that makes that happen. We are building across the entire spectrum of our opportunity pipeline from prospecting the best potential new uses through increasing awareness of the bench chemist to reach for us for a biocatalytic solution to serving some of the world’s greatest companies with often exclusive supply of their crucial raw materials.
We plan to continue our well documented growth with Merck and to replicate with similar successes at other blue-chip companies. Not only in the pharmaceutical industry but increasingly for other adjacent markets.
Here we have made encouraging progress this year, most excitingly working with a large global food ingredients company and exploring our technologies applicability in new drug discovery programs. Further supporting the strategy, we have had great success in attracting new talent.
Last quarter, we highlighted the addition of industry sales veteran Scott Watson at our new Vice President of Sales and Marketing. A few weeks ago, we have now also lined up Dr.
Greg Hughes, an 11-year veteran from Merck as our new Vice President for Strategic Alliance and Product Development. Greg’s hire is a tremendous validator for the strength of Codexis’ competitive advantages delivering biocatalysis.
Within Merck, Greg had the role to build biocatalysis capabilities and spread them more widely across Merck’s diverse businesses and functional platforms. In that role, he and Merck had the options to build out Merck’s internal team, collaborate with other technology companies or build a collaboration with Codexis.
They chose the latter and the results to Merck and our shareholders have been clear. A successful overhaul of Merck’s Januvia diabetes drug manufacturing to incorporate our novel cost disruptive biocatalyst, a growing list of biocatalysis service projects together, a growing revenue stream for Codexis and increased public awareness of our growing partnership, catching peer attentions across the pharma industry.
The credibility that Greg can bring as we work to accelerate the same penetration into other major pharmaceutical companies is clear. He has been there on the other side.
He knows the general resistances to introducing such an impactful new technology. He knows their language.
We are delighted to have Greg on board and greatly look forward to him stepping up our biocatalysis capabilities and to grow our competitive advantage, another notch wider from the pack. David will now walk you through the financials for the third quarter of 2013.
I will follow him with some concluding remarks and then we will take questions.
David O'Toole
Thanks, John. As we've done in earlier quarters this year, all comparisons given here are on a quarter-over-quarter measures.
This time comparing the third quarter of 2013, sequentially with the company’s second quarter of 2013 financial results. The third quarter was a soft revenue quarter for the company.
In the quarter, we reported total revenues of $3.9 million, a 44% decrease from $7 million in the second quarter of 2013. Revenues for the nine months ended September 30, 2013 were $22.4 million.
Product revenue for the third quarter of 2013 was $1.1 million, a 78% decrease from $5 million in the second quarter. The decrease in product revenue was primarily due to continued weakness in our atorvastatin biocatalyst business as well as delays in the sales ramp-up of biocatalysts to Merck for their manufacturing of Januvia or sitagliptin.
Product revenue for the nine months ended September 30, 2013 was $15.2 million. Product gross margin for the third quarter of 2013 was 54% compared to 27% in the second quarter.
Product gross margin for the nine months ended September 30, 2013 was 35%. Collaborative research and development revenue, which consists of license payments, R&D services, milestone payments and royalties, was $2.8 million for the third quarter, an increase of 40% from $2 million in the second quarter of 2013.
Our operating expenses in the third quarter continued to decrease even before the restructuring efforts we have undertaken that John referred to. This trend continues the cost containment focus of the current management.
Research and development expenses in the third quarter were $6.8 million, a decrease of 21% from $8.6 million for the second quarter of 2013. Selling, general and administrative expenses in the third quarter were $5.8 million, a decrease of 17% compared to $7.2 million in the second quarter of 2013.
The decrease in operating expenses was primarily due to a decrease in employee-related expenses. Net loss for the quarter was $9.3 million or a loss of $0.24 per share based on 38.1 million weighted average common shares outstanding in the third quarter.
This compares to a net loss of $12.6 million or a loss of $0.33 per share during the second quarter of 2013. Net loss for the nine months ended September 30, 2013 was $31.5 million or a loss of $0.83 based on 38 million weighted average common shares outstanding during the period.
We ended the quarter with cash, cash equivalents and marketable securities of $31 million compared to $38.9 million on June 30, 2013. Now I would like to turn to our financial guidance for the full year of 2013.
We are revising our prior outlook on several key metrics. We expect total revenue to be in the range of $9 million to $10 million during the fourth quarter, which will bring our full year guidance for total revenue in the range of $30 million to $32 million.
This compares unfavorably to our previous annual guidance of $35 million to $40 million. Of the total projected revenue for 2013, we now expect product revenue to be approximately $19 million.
Our product gross margin guidance continues to be in the range we had previously provided of 30% to 35%. Gross margin for total revenue will be in excess of 50%, consistent with previous guidance.
We now expect to end this year with total gross profit dollars between $17 million and $18 million, a growth of approximately $7 million or 70% over 2012, a significant year-over-year performance for us, although about $1.5 million below implied guidance at the lower end of the revenue target previously given. Stronger collaborative R&D revenues could not offset the profit impacts of missed product revenues.
Regarding cash burn, we are revising our prior guidance for cash burn to now be approximately $20 million to $23 million for the year versus our prior guidance of $16 million to $19 million. This projection has increased primarily due to our continuing to self-fund the CodeXyme business to this date, and consequently, not removing the associated expenses earlier in the year, as we had originally interested.
I’d also like to provide some additional context for the decrease in product revenue, which together with CodeXyme self-funding has been a major negative financial issue affecting our financial guidance for the full year. 2013 has turned out to be a challenging year for us with our biocatalysts into the manufacturer of atorvastatin.
As we reported in the previous quarter, our biocatalysis sales halted very early in the year as our partner customer Arch Pharmalabs fell into financial difficulties. Our re-entry into the market through Arch has been slow and further compounded by significant Chinese competition against Arch.
We weren’t able to restart the atorvastatin biocatalyst sales in the third quarter. However we are filling modest new orders in the fourth quarter.
We expect to reestablish our market position as we end 2013 and begin next year but with lower volume and profit margin expectations compared to our view a year ago. The other factor weighing on our product revenue has been with our sales of biocatalysis to Merck for their Januvia sitagliptin manufacturing.
For that we have experienced some unexpected delays while Merck’s manufacturing network shifts to their new process which use our enzymes. While impacting especially our second half 2013 revenue expectations, we see the penetration as merely being pushed out into the 2014 and not having any longer-term consequence.
Finally, as we have focused our recent attention to the restructuring of the company's operations, we have made key choices that ensure that we dial-in to a greatly mitigated cash burn rate for the company in 2014. With the financial goal from the restructuring driving us, we are now ready to provide you with our financial outlook for 2014.
For next year, we expect year-over-year revenue growth of 5% to 10% but with the higher gross margin percentage on average that in 2013, which will result in gross profit dollar growth year over year in the range of 15% to 20%. As was already stated by John, we expect the cash burn for 2014 to be less than $8 million.
Now I would like to pass the call back over to John for closing remarks.
John Nicols
Thanks, David. In closing, I’d like to thank everyone for their continued interest in Codexis.
We’ve had to make tough choices and now we move ahead with you to take this great grounding breaking biotechnology company, competitively refined over 11 years through greatness in the field about biocatalysis using cutting edge biology to sustainably overhaul the world manufacturing of drugs and complex chemicals. With that, I would like to turn the call back over to the operator for question-and-answer.
Operator
(Operator Instructions) The first question comes from the line of Andrew Weinberger [Bear Stearns].
Andrew Weinberger – Bear Stearns
Just a quick question on your 2014 guidance, I was just trying to understand one, what type of visibility you have on growing your revenues given at least on the product side revenues falling by 75% sequentially and then on the improvement in gross margins, is that on the product side or is that more mix in that you expect the product business to be under pressure throughout 2014. But your other revenues may sort of make up for that and the mix shift to a higher gross profit dollars.
I guess it’s -- I appreciate the color for 2014 but just given this quarterly result, I guess I want to try to understand what type of visibility you have looking into 2014 especially given some of your cash burn figures are based on that?
David O'Toole
This is David O'Toole. I will answer both of your questions.
As far as visibility, we have, I think, some clear visibility on how the ramp up of sitagliptin is going to happen in 2014. Some of that is being shifted as we talked about in the call.
But that part of the business I think we have some clear visibility, we know what potentially is going to happen there. Some of the other major pharma companies that we work with, again, we do get some visibility into the products that we're going to be selling during 2014.
So overall from a product perspective, we are comfortable that we are going to make those range of revenue that we’re looking at. From a gross margin percentage your question, there is a mix.
And there will be a greater mix towards what we consider to be collaborative R&D, which we’re going to be breaking out in 2014 to specific line items. So you will have more visibility in that and that would be around our license fees, royalties, our collaborative R&D, but there will be separate line items for them.
But we do -- we will have a greater mix of those going into 2014 and therefore the margins were going to be greater in 2014.
Andrew Weinberger – Bear Stearns
To show your guidance essentially assumes still at the end of 2014, there will be roughly $20 million or so on the balance sheet, $0.50 a share.
David O'Toole
That is correct.
Andrew Weinberger – Bear Stearns
And lastly, given that you are bringing CodeXyme development to a close, I just recognize a couple of your top holders at least one of them seemed to be their primarily focus for the company. Could you give just sort of any color as to – do you expect any sort of orderly disposition of those shares or have you had any discussions you could share with us just given the size of that position relative to the limited amount of trading that goes on, in your stock?
David O'Toole
Well, of course, we are in quite close contact with especially our major shareholders. The largest shareholder being the company -- the Brazilian company Raizen, which is a joint venture between Shell and Cosan.
Their business is highly related to ethanol and we've been discussing the reality of our forward position in CodeXyme with them quite closely over the last 9 to 12 months. We don't see any anxiety currently from specific shareholders, but it’s up to them how they may factor their position in our company given the developments which we've come public with you and the rest of the investor base today.
Andrew Weinberger – Bear Stearns
I guess a follow up to that. Is the company in any position with your cash balance to do a share buyback if necessary, or are you trying to keep the balance sheet a bit more flexible going forward just for future development of products?
David O'Toole
Yes, we're at a point where we wouldn’t be in a position to do any share buyback. I think we need our balance sheet to make sure that we can execute against our business plans for the biocatalysis business.
Operator
The next question comes from the line of Greg Rummet [ph].
Unidentified Analyst
On the businesses that you are winding down – or let me back up, Dyadic, the relationship between what you were using with Dyadic in your existing product lines, is it solely based on CodeXyme and CodeXol or does any of the technology that you’re licensed from Dyadic have to do with anything that has to do with biocatalysis?
Doug Sheehy
Yes, this is Doug Sheehy, I will take your question and the simple answer is that we only use the technology that we license from Dyadic in our CodeXyme program. It has no carryover to the biocatalysis business or to the pharmaceutical manufacturing business.
Unidentified Analyst
So going forward, the businesses that you are going to grow on biocatalysts, you are not relying on using or licensing of anybody else’s technology, is that right?
Doug Sheehy
In general that’s correct, yes and specifically you asked about Dyadic and the answer is certainly there is no reliance on Dyadic for the go forward biocatalysis business.
Unidentified Analyst
And these are the businesses that you have announced today that you're winding down, the CodeXyme and the CodeXol?
Doug Sheehy
That’s correct and you mentioned CodeXol. CodeXol, the organism that produces the fatty alcohols is totally unrelated to Dyadic as well.
Unidentified Analyst
But you’re still going to wind that with the Italian chemical firm, is that correct that you are going to wind that down, correct?
Doug Sheehy
That is correct. We have partnered with a company in Italy called Biochemtex and they are a CodeXol partner and we are still winding down – we are winding down the CodeXol program in addition to the CodeXyme program.
Unidentified Analyst
So I am reading an 8-K that came out after your press release, your 8-K and it's describing that Dyadic and you have agreed to extend your discussions to January of 2014?
Doug Sheehy
That’s correct.
Unidentified Analyst
So you basically have announced that you are dumping CodeXyme and CodeXol. You are winding those down.
But at the same time Dyadic and you are still going to be talking about whatever they started three months ago or four month ago about that they felt that you did not have the right to use their C4, or C1 whatever it was?
Doug Sheehy
We announced after the market closed that we did extend our response period with a letter that we received from Dyadic from November 15 until January 17, 2014. And yes we are continuing discussions with Dyadic.
We also disclosed in the 10-Q that we filed this afternoon that we may continue to engage with third parties to consider strategic options relating to CodeXyme and CodeXol. That’s separate from our decision to wind down our own self-funded activity relating to those two programs.
So to the extent that we may continue to have dialogue with strategic – with others relating to a strategic transaction for either – especially for CodeXyme then we will continue to have discussions with Dyadic related to the ongoing dispute on the license agreement between Dyadic and Codexis.
Unidentified Analyst
It sounds to me like that CodeXyme or CodeXol could re-emerge again under some sort of strategic transaction.
John Nicols
This is John Nichols. That is possible.
Today -- up until today we had a significant percentage of our company's workforce improving the enzyme that’s used in cellulosic ethanol, approaching customers to try to get our enzyme position in their installations. All of those activities will cease.
And so that is a significant change in the direction of what our employees are working to drive strategically. But you are right.
I mean there is a prospect it’s not going to be a core activity of the company going forward any longer, but there is a prospect that there may emerge a strategic transaction for either one of those technology and business states.
Unidentified Analyst
One of the enzyme business that you were talking about, I think you said it was subject to Chinese competition during the quarter. Is that correct?
John Nicols
Yes, it’s our generic for Lipitor, atorvastatin business that we have had with Arch Pharmalabs, and indicated Arch fell on a little bit of financial difficulties during the year and the Chinese manufacturers have come in with a lower-cost alternative. And so they are facing the Chinese competition to get their atorvastatin business up and running again.
And that business has fallen off this year and we’re taking a more conservative approach on how we enter into that business for 2014.
Unidentified Analyst
And then later in your press release you said that it sounds like your research and development revenues increased by over 40%, it was 2.8 million versus 2 million, I think third quarter of this year compared to third-quarter – or actually second-quarter, it's sequential. Do I have that right?
John Nicols
It’s sequential, correct.
Unidentified Analyst
So what industry – I guess you can’t name – what industry is funding that big increase?
John Nicols
Hey, this is John again. That growth in collaborative R&D revenues is spread across a significant number of customers, primarily in the pharmaceuticals industry but not exclusively in the pharmaceuticals industry.
In the section that I spoke to during the prepared remarks, I spoke to growing services and the efforts to install biocatalytic solutions in a range of different manufacturing processes. At the earliest stage of development typically for an opportunity for Codexis would be an R&D service agreement.
That’s typical the earliest approach. So it's an indication that we are getting traction at earlier stages of development in our customer base.
Unidentified Analyst
To go from research and development are beginning to actually go to commercialization, do you have any idea what the timeline is for that? Is that years or is that months or –
John Nicols
It very much depends on the opportunity, it certainly can be years. So sometimes we work with, for example, pharmaceutical customers to help them in phase 1 in -- designing and manufacturing process in a phase 1 candidate.
And I think you probably know the kind of timeline it takes and the probability of success to go from phase 1 to a truly commercialized product. And so that would be a significant number of years for that particular product.
So we want to make sure we are covering our costs and making the margin off of those service revenues, which we're very successful in negotiating with our customer base him. But on the flipside, for example, the Merck Januvia story which we speak to with some regularity, that was a project to work with Merck to come up with a lower-cost manufacturing route for an already commercial and patented drug of Merck.
So the timeline for a project like that is significantly shorter than obviously starting the work in a phase 1 or phase 2 development. So it depends on the particular opportunity that we have in our pipeline.
Unidentified Analyst
In your last press release you made a point of working and you've touched on here again food ingredients company. But you are not giving us any other details, whatever you are working on with the food ingredients company, would that require a GRAS approval or is that something that could be -- they could put through their process without needing any kind of approvals?
Doug Sheehy
This is Doug again. It’s our understanding that it would require a GRAS approval for that partner of ours to ultimately get to market.
Unidentified Analyst
The GRAS approval normally is quicker than FDA approval, less than six months, until probably 3 to 6 months, has your partner made any application to GRAS for approval of any of the things that you're working on?
Doug Sheehy
I don’t think we can answer that question. We work quietly with this partner of ours and we haven’t identified it because they prefer that way.
Ultimately we might be able to talk more about it, if we move this potential project further along towards commercialization, including potential regulatory approvals. When we get there, I think we will work with our partner to have more public announcements around it.
Unidentified Analyst
So I guess the answer is no, you have.
Doug Sheehy
No, I didn’t say no. I just said when we get further along with our partner, we might have more to say.
Operator
At this time, I would like to turn the presentation back over to Mr. John Nicols for closing remarks.
John Nicols
Okay. Well, thank you very much for your interest and engagement in Codexis.
We look forward in the coming quarters and years to delivering on your expectations for growth of our company. Thank you very much.
And we will talk to you next quarter.
Operator
Ladies and gentlemen, that concludes today’s presentation. Thank you again for your participation.
You may now disconnect. Have a great day.