Codexis Inc (CDXS) 2010 Q2 法說會逐字稿

Welcome to the Codexis Second Quarter 2010 Earnings Conference Call. I would now like to turn the call over to Doug Sheehy, Codexis' senior vice president and general counsel.

Thank you, and good afternoon. Today after the market closed we announced our fiscal Second Quarter 2010 financial results. The press release is available on the investor relations page of our website at Codexis.com. With me today are Alan Shaw, our president and CEO, and Bob Lawson, our CFO. During the course of this conference call, management will make a number of forward-looking statements, which are statements regarding future events.

These forward-looking statements include statements regarding our beliefs about annual Januvia's sales, potential upside to our pharmaceutical business if Merck deploys our Januvia process; the potential market advantage of our carbon capture technology; revenue recognition of biofuels milestones in 2010; grant revenue for the remainder of 2010; our pharmaceutical product gross margins for the remainder of 2010; our 2010 total revenue and adjusted EBITDA guidance; our expectation that our pharmaceutical business will drive revenue and operating income growth in the near term; our ability to work with Merck on additional product opportunities in the future; our ability to capture more of the cost savings that we provide to our pharmaceutical customers; our ability to decrease production capital and operating costs across multiple feedstocks in our biofuels program; and our ability to extend our technology platform to future markets without significant additional investment.

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. Given these risks and uncertainties, you should not place undue reliance on these forward-looking statements. Please refer to our Form 10Q filed with the Securities and Exchange Commission on May 28th, 2010 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 occur after this call.

During this call today, we will discuss certain non-GAAP financial measures for comparison purposes only. The non-GAAP amounts of adjusted EBITDA is calculated by adding depreciation, amortization, net interest expense, income taxes, warrant-related costs, and stock compensation to our net loss. This non-GAAP measure is in addition to, not a substitute for or superior to, measures of financial performance prepared in accordance with GAAP. Please refer to our press release today for a reconciliation of non-GAAP financial measures to GAAP. Now I'll introduce Alan to discuss the quarter.

Good afternoon, and thank you for joining us today. We had an excellent second quarter. Total revenues for the quarter increased 28% compared to the second quarter of 2009. And our adjusted EBITDA improved to $527,000 against a $98,000 loss in the second quarter of 2009. We capitalized on our pharmaceutical opportunities as product revenues reached a record high of $8.5 million for the quarter. Importantly, we recognized $2 million of revenue from Merck for the supply of enzymes to support the FDA validation of our sitagliptin process. Sitagliptin is the generic name for Januvia. As a reminder, Januvia is Merck's fastest-growing drug for the treatment of Type II Diabetes. Annual sales of Januvia and Janumet were $2.6 billion in 2009, and are expected to exceed $3 billion in 2010.

We're very pleased that this comes on top of the June announcement that Merck and Codexis were jointly awarded the Annual Presidential Green Chemistry Challenge Award from the U.S. Environmental Protection Agency for our novel sitagliptin synthesis process. The details behind our development of the customized enzyme for sitagliptin were published in the peer-reviewed journal "Science." This was Codexis' second Presidential Green Chemistry Award. The first, in 2006, for a key chemical building block of Atorvastatin, the active ingredient in Lipitor for Pfizer. We are very proud of this recognition from the Environmental and scientific communities for Merck and Codexis' improvement in production efficiency and significant reduction in chemical waste. If our new process for sitagliptin is approved by the FDA and deployed by Merck, it could provide significant upside for our pharmaceutical business in the future.

We made our first public announcement of our progress involving an enzyme for carbon capture in June. This technology focuses on capturing and storing carbon dioxide emitted from coal fire power plants. About 50% of U.S. electricity is generated by these plants, and carbon dioxide is a significant source of air pollution. Current carbon capture technology is expensive and inefficient. We believe Codexis' technology can offer a significant market advantage, and we are enthusiastic about its long-term potential. As you know, we received a $4.6 million-dollar ARPA-E Grant from the U.S. Department of Energy related to our carbon work.

And we strengthened our management team with the addition of Peter Strumph as senior vice president, commercial operations. Peter brings rich experience in driving growth and productivity improvements, including time at CV Therapeutics. We have asked Peter to drive our efforts to manage our customer delivery and operational efficiency efforts. As we enter the second half of 2010, I am confident about the strength of our organization to drive future successes, given the scientific and commercial progress we have achieved year to date. I'll present a strategic overview following Bob's financial review. Over to you, Bob.

Thanks, Alan. I'm pleased to share Codexis' financial details with you for the second quarter of 2010. Total revenues were $24.5 million, a 28% increase year over year. Our pharmaceutical business is off to a strong start with product revenue of $8.5 million for the second quarter, more than double the second quarter of 2009. Revenue was evenly split between innovator and generic drug manufacturers. Merck was our largest customer for the quarter with sales as Alan mentioned of the enzyme for sitagliptin.

We also enjoyed strong sales of Atorvastatin intermediates to Pfizer and to generic manufacturers preparing for the patent expiration of Lipitor in 2011. Our collaborative R&D revenues represent service contracts and royalties related to our pharmaceutical business. These revenues were $851,000 for the second quarter, an increase of 85% year over year, and an increase of 29% sequentially. This revenue included optimization programs with Teva and Sanofii Aventis, and royalties from Pfizer.

Related party collaborative R&D revenues which reflect reimbursement from Shell for biofuel R&D services were $14.7 million compared to $14.5 million in the second quarter of last year. The year over year change in revenue reflects contractually-mandated inflation adjustments as staffing levels remained constant for the past 12 months at 128 full-time employees. All of the Q2 revenue is from reimbursement of full-time employees.

We did not recognize Shell Milestone revenue in the second quarter, but we did provide notice to Shell that our testing indicates we've hit two 2010 milestones related to our biofuel program. As is customary, Shell will independently validate the achievement of the milestones, and we expect to earn milestone revenue from them later in the year. We also recognized a $492,000 grant payment from the Singapore government related to our pharmaceutical R&D program. We do not expect any further revenue from this grant for the rest of 2010.

From an operational perspective, we generated pharmaceutical product gross margin of 28% compared to 19% for the same quarter of last year and 17% for the first quarter of 2010. Both the year over year and sequential increases were due primarily to the sale of enzyme to Merck for sitagliptin, and the sale of $190,000 of obsolete inventory. We do not anticipate that our margins will continue at this level for the second half of 2010.

Our R&D expenses of $13 million in the second quarter of 2010 compared to $12.1 million in the prior year. The increase was primarily attributable to depreciation expense related to capital spend for our biofuels program and higher stock-based compensation expenses. Our SG&A expenses increased from $6.2 million last year to $8.7 million in Q2 2010. Drivers of this $2.5 million-dollar increase were costs and increased headcount related to public company readiness, an increase in stock-based compensation, legal costs related to our growing patent portfolio, and the impact of a one-time benefit in 2009 for the sublease of our former Pasadena facility. SG&A expense was essentially flat on a sequential basis.

Adjusted EBITDA was $527,000 in the second quarter compared to a loss of $98,000 in the prior year. As a reminder, we calculate adjusted EBITDA by adding depreciation, amortization, net interest expense, income taxes, warrant-related costs and stock compensation to our net loss. Our net loss increased to $3.9 million in the quarter compared to a net loss of $2.9 million for the second quarter of 2009. That equates to a fully diluted loss per share of $0.15 for the quarter. Since our IPO occurred at the end of April, our weighted average shares outstanding increased from $2.7 million in the first quarter to $26.6 million in the second quarter.

Moving to cash flow in the balance sheet, we ended the quarter with approximately $100 million in cash and marketable securities. We benefited from $72.5 million in net proceeds from our initial public offer. This was partially offset by a $5.9 million decrease in deferred revenue, and a $1.7 million payout for costs related to our public offering.

We also had $9.2 million owed by Shell as of June 30th related to our biofuels R&D program. That payment was received in late July. As I noted in our first quarter conference call, the timing of large orders can create revenue and expense variability between quarters. So we will only provide guidance for annual results. We expect to update our total year guidance on a quarterly basis throughout the year. We are affirming our revenue guidance for full year 2010. We expect revenue between $94 million and $98 million, which would represent growth of 13% to 18% versus 2009. And we continue to expect our adjusted EBITA to be positive for 2010. I'll turn the call back over to Alan for an overview of our strategy.

Thanks, Bob. As you can see, from our second quarter performance and guidance, we're on track for an excellent year. Turning now to our strategy -- our focus continues to be on growing our pharmaceutical business, and proving our technology to commercialize biofuels with Shell. We are moving into carbon capture, and over time we expect that our technology platform can also be applied to water treatment and the creation of bio-based chemicals. Our pharmaceutical business continues to gain momentum as we benefit from a growing product pipeline. As we scale this business, it will be a growth driver of revenue and operating income in the near term. Our focus in pharmaceuticals is on three areas.

First, growing our pipeline of opportunities and getting them to market. Our biggest opportunity is to expand the list of compounds we're working on with existing customers. As I mentioned earlier, we leveraged our early work with Merck to land an opportunity to provide enzymes for Januvia.

We believe this success will lead to additional opportunities with Merck. Second, increasing our share of the value that we bring to our customers. We continue to demonstrate significant capital and operating cost savings for our customers. We believe this track record will allow us to increase our share of the savings we generate in the future. Thirdly, driving operational excellence across our supply chain. We are focused on driving continuous improvement in quality and cost in our business. We continue to make excellent progress with Shell in developing our technology for advanced biofuels.

And as Bob mentioned earlier, we have reached the 2010 milestones related to one of our biofuel programs in the lab, and are pursuing validation of those accomplishments with Shell. We have several competitive advantages in our path to market in biofuels. We expect to be feedstock agnostic, whereas most of the players require specific feedstock for their development. We will not need to fund capital for biofuel plants. And we expect that the plants that Shell builds leveraging our technology will require lower production capital and operating cost than competitors' solutions.

Finally, we will not need to build distribution networks to distribute fuel. By partnering with Shell, we can focus on what Codexis does well -- the directed evolution of advanced bio catalysts in a capital efficient manner. We have a truly disruptive, proven and proprietary technology platform with a combination of bioinformatics, cutting edge biology, and process engineering expertise that gives us a unique advantage. Our proprietary technology platform applies to pharmaceuticals and biofuels today. We believe that it can be leveraged in the areas of carbon capture, water treatment and the creation of bio-based chemicals, all large potential markets that we believe we can exploit without significant additional investment in our technology platform.

I'm proud of the performance we've delivered in this quarter, and I know we will build on this momentum as we continue to commercialize our technology and deliver the revenue and profit growth to our shareholders. I want to thank our employees for another great quarter and for all they're doing to position the company for continued success in the future. And now we'd like to turn it over to you for your questions.

Thank you. Ladies and gentlemen, if you have a question, please press star, followed by one, on your phone. If your question has been answered or you would like to withdraw your question, press star followed by two. Questions will be taken in the order received. Please press star one to begin. And our first question comes from the line of Edward Westlake with Credit Suisse. Please proceed.

Good afternoon, Alan and Bob. Just a quick question I guess; one strategic and one just on the cash flow statement. Maybe I'll hit the cash flow statement first. Still working capital is absorbing quite a chunk of change. And I guess at the last conference call you were talking about sort of that evening out over the year, looking particularly at other accrued liabilities, deferred revenues. Maybe just chat through that. And then the strategic question is, any update, obviously what we're all waiting for on the Shell -- thanks -- in terms of the [GOE]?

Why don't I take the first one, Ed, and I'll let Alan answer the second? I think that regarding cash flow, we continue to expect over the course of the year that working capital will even out. And I'd expect our cash burn to be roughly our net loss capital expenses and the debt payment that we have, those three items to be the majority of our cash burn for the year. We had, as of June 30th, about $9.5 million that Shell owed us for reimbursement on our biofuel program. They paid us the 26th of July. So that timing difference was -- we burned I think $11.5 million in Q2, and about $9.5 was the Shell receivable.

Right. Okay, good.

And the strategic question, Ed. We anticipate an announcement imminently. Of course it is not ultimately up to us. That is between Shell and Cosan. What I could draw your attention to is that on the 29th of July during a Shell earnings call, Simon Henry, the CFO there, made specific reference to the impact of our joint venture on 2011 accounts. So I don't think there's any question that that joint venture is coming. And I very much hope we don't have to wait very long at all. Obviously, we would have loved it to have been announced before today. But that's the nature of things. But certainly indications and statements we're all hearing from Cosan and Shell would give very high confidence that that deal is on track.

And to the extent you've had any further contact with the Cosan management and any further update obviously subject to it closing in terms of their excitement for Codexis' involvement?

Well, what -- I mean, yes, of course. There's very much genuine interest at their side. It's acknowledged now within Cosan that there's a real opportunity in what's called first generation ethanol. They're currently producing ethanol using fairly -- how can I say it -- typical fermentation enzymes. Nothing spectacular. So we believe there's room for improvement there. That's recognized. That's what I call a low-hanging fruit. Clearly we can't do anything until we have access to their systems, and that would have to be post signature. There's clearly a strong driver on the cellulosic side because of the significant waste of carbon in the gas in the tops of leaves. And most importantly, I believe, the opportunity to convert sugar directly via novel fermentation into biodiesel. There are pending mandates in Europe coming up in 2015, a real sense of urgency in Europe to address a biodiesel. So I think all of that is tremendously exciting. And of course we've been down there since we last talked to you. But we really can't get [stuck in] until the deal is signed.

Thank you.

Our next question comes from the line of Michael Cox with Piper Jaffrey. Please proceed.

Thanks a lot for taking my questions. Congratulations on the quarter, guys.

Thanks, Mike.

Another, I guess, couple questions on the Shell side. Any expected change to the full-time equivalence in the back half of the year?

No.

Okay. And then on the Shell Iogen plan -- any update on the facility in Saskatchewan?

No, Mike. We don't have any update on that. All I can say is that Shell has continued to speak openly about the imperative of addressing RFS2 cellulosic ethanol in North America, in addition obviously to their Brazil offensive. So no specific update. But I haven't heard anything contrary to that. I know that they continue to remain committed. In fact, I think in the last quarter, did they not announce that they have [accrued] funding for another two years?

They did, and they appointed Duncan McLeod, who's a 30-year Shell veteran ...

That's what I remember. That's right.

... as the operating officer of Iogen Energy, so.

Yes. So they continue to invest significant resources ,and they've even appointed one of their more successful management from Houston to run Iogen Energy. So I think there's something in that.

Okay. I would agree with you. And then on the margins in pharma, Bob, if I heard you correctly, you do not expect the second quarter trend to continue. Could you maybe provide a little more color around where you might think they'll shake out for the balance of the year? Is it more like the Q1 trend? And then longer term do you still see the opportunity for those margins to rise to the 30% level?

Yes, I'll take the long-term question first, because that one I can answer. I think, yes, we do anticipate, as we capture more savings and as we drive operating efficiencies, both from scale and just being more effective in the way we operate, that we'll continue to margins. I think this quarter was clearly helped by the mix that we saw and the -- and Merck's order in particular of sitagliptin enzymes. Typically the first significant order with something's going to be at a higher margin than as we start producing it at larger quantities. So the 28% that we saw in Q2 we don't think is sustainable. We haven't guided margins for the year. So I don't want to get too specific on that. But I certainly see it coming down from 28%.

OK. Thank you very much.

Our next question comes from the line of Stuart Bush with RBC. Please proceed.

Yes, hi, guys. Good quarter.

Thanks, Stuart.

Yes, thanks.

What I was hoping you could clarify for me, the shell milestones. I heard in the script you had met two of them, and then I heard one. Can you just give me an idea of, how many have you met out of total for the year? And is meeting them at this early stage in the year unanticipated that you would meet them so early?

Oh, great. It's Alan here. Great question. So let me clarify. We've signaled that we believe we've met two of six. So there's another four to do between now and December 31st. The second part of your question, it's an outstanding achievement to have achieved the two that we've achieved. And we can't say specifically what they are. But to have achieved them this early in the year is something that we're most pleased about. There is a turnaround on Shell validating the milestones. But the reason why we're excited about achieving milestones early is that the work doesn't stop; it continues.

So on the programs that we've achieved the milestones on, we're now working towards essentially next year's milestones. So there's always the chance that we just get the whole program to market quicker. So any achievement of any milestone relatively early is very welcome. Unfortunately for Codexis, this is not new to us. Because last year we achieved I think one or two before the end of the first six months. And that's the nature of the technology. It continues to impress us and continues to please Shell. But just to confirm two from six and we're well on track to deliver our year-end objectives.

Fantastic. And does that imply that if Shell were to validate the current two that you've met that you could potentially recognize some of the milestone revenue earlier than anticipated?

Yes, I think we certainly expect we'll recognize some milestone revenue in the second half of the year. So we hit these milestones quickly, it would indicate we'd get some of this in Q3 if they validate. So perhaps a little bit faster, Stuart, than we thought, but within the rounds for the year.

Okay, great. On another question, I was hoping you could comment on Shell's other investments in the biofuels sector. And if you can give any insight if you find those other technologies competitive or complementary, and if you anticipate they will also be included in the Cosan JV?

All right, great. Well, let's first of all just summarize Shell's overall portfolio in biofuels. Clearly, they have an important relationship with a company called Virant. Virant is a thermal chemical conversion of biomass to what is essentially diesel. So, because it's thermochemical, it's not biodiesel; it's diesel. And thermochemical can be energy intensive, but no disrespect to Virant, I think they're a great company, Shell liked them, and that technology is actually complementary to what we do. We do not see it as being competitive. Shell have a smaller but nonetheless real venture in Hawaii on algae. It's a smaller arrangement; not at the same scale at all. But they are experimenting in algae. And I think a lot of people are experimenting in algae. I think people are concluding that in the very long run, long term, algae may have a role to play. But that science has still got a lot to prove, and it's a long way behind first generation, second generation and even third generation biofuels. So I think that's more academic in its nature at this point.

And thirdly, you have what are true biofuels, first generation, second and third, and that's Iogen in Canada which is focused almost exclusively on conversion of wheatstraw into second generation ethanol, cellulosic ethanol. And of course, Codexis, where we're working on second generation -- in partnership with Iogen and independently with Shell. And most importantly, I think, on third generation, which is direct fermentation of sugar to what is essentially biodiesel. And we hope, [for] Cosan, we can even help them on sugar cane ethanol, [first] generation ethanol. All of those, I believe, are complementary. I don't think there's anything in there that I would see as competitive. I think Shell's approach here, which is very strategic, in the early days was place a number of bets. They closed down their investment in corn; they ceased investment in wind, solar and hydro. To be honest, they placed their bet. Now their eggs are in the biofuels basket, and I think these are the companies and technologies that they want to get to market.

That's great color. Thanks, very helpful.

As a reminder, ladies and gentlemen, that is star one to ask a question. And our next question comes from the line of Cory Garcia with Raymond James. Please proceed.

Good afternoon, fellows. Thank you for taking my call.

Hi, Cory.

Just kind of one quick question. A lot of it's already been asked. But in terms of your pharma pipeline, do you guys have any sort of update with regard to the number of drugs -- I think it was 35 or so last time we spoke? And if you could provide any sort of breakdown between innovators and generics in that.

Yes, it's relatively similar to what we talked about before. I think we've got a couple of significant things that are moving along that those customers have asked us not to talk about specifically. So the pipeline is roughly evenly split between innovators and generics, a little higher on generics -- or excuse me, on innovators. But a couple of very promising compounds moving through. And we talked about, I think previously, we've got good visibility into our order backlog in pharma. As we entered the year, about 70% of our revenue was already booked in the form of orders we'd already taken or high visibility from stuff we've supplied before. And that trend continues. As we look forward for the remainder of the year, we've got a strong book of business that we've already recognized. So as I look at the pipeline, continues to be strong, I'd say growing slowly; but some significant compounds in there to give us a lot of confidence as we look forward.

Sure that's great to hear. Also a bit of a housekeeping question. Any [change] that you guys would be willing to, I guess, give a little color around in terms of your SG&A, how that may evolve, now that you guys are a publicly-traded company?

Yes, we haven't guided there. But I tell you, I'd expect relatively smallest growth as we move forward. We saw, as you saw, pretty significant growth through the first half of the year.

Sure.

Unfortunately, it's not heap to become a public company. We were kicking that around a little bit with our audit committee a few days ago, and how much it costs to go public. But I'd expect us to even out. We saw a fair amount of increase in the first half as a result of some higher headcount in G&A, higher stock-based comp as we've now got stock that's public stock versus what we had as a private company. And I don't expect those things to grow at the pace that we saw the first half of the year.

All right. Thank you, guys. Great quarter.

Thank you.

Thanks, Cory.

Our next question comes from the line of Weston Twigg with Pacific Crest Securities. Please proceed.

Hi, guys. Thanks for taking my question.

Hi, Wes.

I have a couple of questions actually. My first one, back to the Shell milestone. Just wondering if you can give us an idea of the size of the milestone opportunity this year?

Yes, total milestones, I don't think we broke out the specifics, but it's single-digit millions.

Okay, and ...

Between $5 million and $10 million I think, would be a little more ...

Between $5 million and $10 million. And there are six of them.

Okay, perfect. And then, just moving on, on the biofuel side, I'm wondering if you guys think that the EPA delay on the E15 blend decision is impacting Shell's decision to move forward with its scale-up of its program with yourself and Iogen?

You know, I asked that question myself. In all honesty, I have to tell you, I have not heard anything along those lines in any of my discussions with Shell. The driver for Shell is really economic as much as strategic. They will deploy second generation biofuel as soon as it is economically viable to do so, largely irrespective of the mandate. Now, don't misunderstand me. If it wasn't for the mandates, one wonders whether we'd be having this conversation. Well, we all know that they're real, and sometimes to get an industry galvanized -- I mean, that's one of the most important roles of government I believe sometimes in helping drive and create markets. But Shell's whole raison d'etre here has very much moved into, it's got to be economically driven.

I think it's wonderful to hear Shell say, we're not just doing this because we feel we have to do it; we're not doing it because it's green. They're doing it because there is an increasing demanding the world for transportation fuel. One billion cars today increasing to two billion cars by 2030. I accept there will be a proportion of those driven electrically by 2030, but I don't believe it will be 50%. There's incredible demand for liquid transportation fuels in Asia, particularly in China and emerging economies like Brazil. And therefore I believe that Shell's driver here is less about RFS2 and as much about finding alternative sources of transportation fuel. But we have to be competitive with oil. So if anything slows down that investment decision, it'll be the economics of the process, not E15.

Okay. I guess that leads to my second question, which is, do you feel that maybe Shell's roadmap is shifting with the joint venture with Cosan and maybe the program with [Bioren] apparently getting some steam, and that is changing maybe the roadmap for Codexis in terms of what we could expect over the next five years, maybe if the Saskatchewan plan, or the ethanol program doesn't move forward?

Yes, we agree with you. During the IPO roadshow, Bob and I were highly enthusiastic about Cosan. The biggest concern we had, of course, is it was only an MOU. And because one acts with the utmost integrity -- or at least that's the way I was brought up -- we couldn't really say too much about Cosan, because it was just an MOU. And as Ed asked earlier, we all want the damn thing signed, right. And then it's no longer an MOU. We can really get stuck in. I think Brazil represents a huge opportunity for Codexis.

I also think it represents a huge opportunity for Shell and Cosan. [There's] access to over 40 sugar mills, vast tracts of land. Cosan is the third largest sugar producer in the world, larger than Australia. The opportunity to deploy our technology at scale with existing infrastructure -- it's just an amazing opportunity for Codexis. And I think it dwarfs actually the Iogen opportunity. But please don't misunderstand me. I believe Shell are committed to both. One is a North America solution, and the other one is a Brazilian and a platform really to then address Southeast Asia and Europe. But the one that we're most excited about, I think just because I think it's closer and the deployment and the scale is there, is absolutely Brazil.

Okay, very helpful. Thank you.

We have no further questions. I would now like to turn the presentation back to Alan Shaw for closing remarks.

Okay, well, it remains for us to thank you all very much for your time and attention. We've had a great quarter. We're looking forward to having a great year, and the outlook looks good. Thank you very much for joining us.

Ladies and gentlemen, that does conclude today's program. You may now disconnect. Have a great evening.