Codexis Inc (CDXS) 2014 Q3 法說會逐字稿

Good day ladies and gentlemen and welcome to the Third Quarter 2014 Codexis Earnings Conference Call. My name is Kim and I will be your operator for today. At this time all participants are in a listen-only mode. Later we will conduct a question and answer session.

(Operator Instructions)

As a reminder this conference is being recorded for replay purposes.

I would now like to turn the conference over to your host for today, Ms. Ina McGuinness, Managing Director of LifeSci Advisors. Please proceed.

Thank you, Kim. Earlier this afternoon, Codexis released its financial results for the quarter ended September 30, 2014. The press release is available on the IR page of codexis.com. If you've not received the press release or if you'd like to be added to the company's distribution list, please call LifeSci Advisors in New York at 646-597-6979 and speak with Veronica Melina.

This call is being webcast and a replay will be available on the Company's website for 30 days. All information provided on today's call is as of the date of the live broadcast, Tuesday, November 4th, and except as required by law, Codexis disclaims any obligation to publicly update or revise any information to reflect events or circumstances that occur after this call.

Participating on today's call from the company are President and Chief Executive Officer, John Nicols; EVP, Chief Administrative Officer, General Counsel and Secretary, Doug Sheehy; and Chief Financial Officer Gordon Sangster.

And with that, I'd like to turn the call over to Doug Sheehy. Doug?

Thank you. During today's call, management will make a number of forward-looking statements. These forward-looking statements include our forecast for a number of full-year 2014 financial metrics, including total revenue, total gross profit, and cash flow. Our expectation that under our agreement with GSK, we will collect a milestone payment in 2014. We will remain on track for completing wave two Tech Transfer activities in 2015 and we expect to receive a wave two milestone payment in 2015.

Our expectation that we will see year-on-year sales growth with two food industry customers, our expectation that we may see a potential decline in Argatroban revenue and the benefits that a CodeEvolver license can bring to a potential licensee.

These forward-looking statements are based on assumptions and are subject to risks and uncertainties that can cause actual results to differ significantly from those projected during this call. Given these risks and uncertainties, you should not place undue reliance on these forward-looking statements. Please refer to our Annual Report on Form 10-K filed with the Securities and Exchange Commission on March 13, 2014, and our subsequent SEC filings for some of the important risk factors that can cause actual results to differ materially from the forward-looking statements made on this call.

Now, I'd like to turn the call over to John Nicols.

Good afternoon, and thank you for joining us. As we look toward closing out the year in less than two months, we can say already that 2014 will turn out to be a year of significant progress on many key fronts for Codexis. This quarter, we've shown excellent momentum in our core business. We've continued to take on new pharma clinical trial orders and have also been successful in expanding outside of the pharmaceutical market. Through our landmark agreement with GlaxoSmithKline announced in July, we have opened up a new pathway for more widely applied biocatalysts across the world's drug manufacturing.

On the financial side, we reported total revenues in Q3 of $7.5 million, driven in part by the highest R&D service revenue we have achieved in any quarter in the last two years. Today, we are reiterating our guidance for the year, which we raised following the announcement of our agreement with GSK.

Gordon Sangster will go into more detail on the financials in a few minutes. The growing recognition of our value proposition for designating novel biocatalysts for our clients has led to a steadily growing stream of funded R&D projects.

In parallel, we've become increasingly efficient at minimizing the cost and time to deliver these projects. In addition to helping to drive solid short-term financial results, these projects also broaden our active customer base and bode well for future commercialization successes that can come from these earlier stage biocatalyst R&D projects.

We are pleased to report that we have secured three new material biocatalyst orders for clinical trials with two major pharma accounts during the third quarter. We expect to deliver all of those new orders in the next few quarters. Two of the orders involve follow-on biocatalyst shipments where we previously supplied smaller quantities during earlier stages of our customers' developmental programs.

The third order is significant because the application involves supplying a new biocatalyst that is intended to replace the customer's prior traditional non-biocatalyst chemistry. It also involves a completely new class of biocatalysts for us which further demonstrates the very broad applicability of the Codexis core biocatalyst technology to help solve new chemistry problems.

We are pleased to report that our CodeEvolver technology transfer activities with GSK are proceeding very smoothly. We received a $6 million upfront payment from GSK in July. In addition, we have completed all the deliverables required for satisfying our wave one milestone obligations.

As a result, the associated $5 million milestone payment will be confidently received in the fourth quarter as previously projected.

We have also commenced wave two Tech Transfer activities with GSK in the quarter. Those include providing support for the design and construction of GSK's CodeEvolver lab in Upper Merion, Pennsylvania. We are on track for completing those specific wave two tech transfer activities on schedule. Wave two also includes collaborating with GSK on two biocatalyst development projects. The first project is underway and is focused on improving the production of an already marketed GSK drug.

This project is very exciting for us as our prospects for potential milestone payments and/or enzyme sales are naturally quicker when we are targeting the biocatalytic overhaul of an already marketed drug versus our more typical API projects focused in the clinical stages.

Completion of wave two with GSK is expected to result in the milestone payment of $6.5 million and remains on target to be received in 2015 as previously indicated. The CodeEvolver license we are deploying with GSK is a brand new business model that allows us to work in a much more accelerated way with our customers by installing our proprietary protein engineering technology in-house at our customers' R&D facilities.

We see it as a natural alternative alongside our more traditional approach in which our customers hire us to create new biocatalysts on a project-by-project basis for them. We believe it can find broad appeal amongst our customer base and we have commenced pursuit of similar licensing arrangements with other companies accordingly.

We will keep you up-to-date on the progress that we make on securing additional CodeEvolver licenses going forward.

Looking at our application of biocatalysts outside the pharmaceutical market, our business with our previously announced major food ingredients customer continues to go well, delivering over $1 million of sales in the third quarter. The enzyme we've been improving for them has been successfully scaled up and delivered.

In addition, our delivered enzyme met the targeted performance in the client's commercial scale facilities. We await the results of our customer's trials of their new food ingredient with their downstream customers. If the business continues on its current good track, we expect to see continuing year-on-year sales growth with this client. In addition, I am pleased to announce that we have also secured new business with another major client in the food industry in the third quarter.

We performed biocatalyst R&D services for this new customer, working towards the biocatalytic overhaul of one of their traditional food processes. We are optimistic that the business with this second food industry customer will show solid growth going forward based on the very positive start to our relationship.

Now let me turn to our product revenue sharing business with Exela Pharma Sciences for the injectable anticoagulant drug, Argatroban. On June 30, the formulation patent for the original Argatroban innovator expired, allowing new generic competitors to enter the market for the first time during the third quarter. This resulted in a sequential decline in our revenues to Exela in the quarter, although in line with our prior expectations. There is a possibility of some additional sequential headwinds in this category in the coming quarters, but we have already taken that into account in our 2014 financial guidance.

On the organizational leadership front, we have upgraded the talent driving the top of the company over the recent months significantly. First, we are successfully driving the membership of our Board of Directors strongly in the direction of pharmaceutical industry expertise, which is obviously increasingly critical for our forward strategic direction.

Both Kathleen Glaub and Pam Cheng have joined our Board in recent months. As President of Plexxikon for 12 years, Kathy successfully led the biotech company to build an approved and developmental drug portfolio and ultimately managed the sale of the company to Daiichi Sankyo for nearly $1 billion in cash in 2011.

Pam, a longstanding Supply Chain and Operations Executive at Merck, now heads the drug major's operations in China managing $1.3 billion in sales and the 4,000 plus person cross-functional organization.

We are very excited to bring the energies and complementary skills of both Kathy and Pam to help drive Codexis' success going forward. In addition, I'd like to welcome Gordon Sangster as we mark his first quarterly call as our new CFO.

Gordon is a seasoned life sciences financial executive and we are pleased and fortunate to have him join our team at this time. Gordon's arrival coincides with the company's new phase of growth and we look forward to his efforts on behalf of Codexis in the areas of business strategy, finance, commercial operations and investor relations.

With that, I'll turn the call over to Gordon now to discuss financials.

Thanks, John. I am very pleased to be here. Now let me review the quarter's financial results. Revenues for the quarter ended September 30, 2014, were $7.5 million, a 90% increase from $3.9 million reported in the third quarter of 2013.

Breaking out our revenues down by category, biocatalysts product revenues which consist primarily of sales of biocatalyst intermediates, APIs and Codexis Biocatalyst Panels and Kits, were $2.6 million, an increase of 138% compared with $1.1 million a year ago. This was primarily attributable to an increase in sales of enzymes for food-related products.

Biocatalyst research and development revenues rose 66% year-over-year to $3.4 million compared to $2.0 million reported in the third quarter of 2013, due mainly to an increase in the number and scale of projects in our pipeline. Revenue sharing arrangement sales were $1.5 million, an increase of 84% year-over-year and relate to our license to Exela Pharma Sciences for the anticoagulant drug Argatroban. The decrease we saw from the $2.1 million reported in the second quarter was the result of the generic competition that John referred to.

Turning to expenses, research and development expense in the third quarter of 2014 declined 26% year-over-year to $5.0 million. The decrease was primarily due to lower depreciation expense resulting from the disposal or write-off of equipment related to discontinued products and projects, and lower expenses resulting from headcount reductions associated with the company-wide restructuring implemented in late 2013.

Selling, general and administrative expenses declined 12% to $5.2 million, due primarily to reductions in headcount and other expense reductions related to the late 2013 restructuring as well.

Net loss for the third quarter of 2014 was $4.6 million, or $0.12 per share, compared with a net loss of $9.3 million or $0.24 per share, for the third quarter of 2013. We included a section in our earnings release highlighting impairment charges, amortization of an intangible asset, stock-based compensation and depreciation expense to give a better picture of the cash impact of our operating expenses by excluding these non-cash items. The non-GAAP net loss for the third quarter of 2014 was $1.9 million or $0.05 per share, compared with a non-GAAP net loss of $6 million, or $0.16 per share for the third quarter of 2013.

Cash, cash equivalents, and marketable securities at September 30, 2014, totaled $22.6 million. This compared to $25.9 million at December 31, 2013.

As John mentioned, we received our first payment for upfront fees from GSK which totaled $6 million, and we anticipate receiving an additional $5 million by the end of 2014. The upfront $6 million is being amortized over the next three years.

Turning to 2014 guidance, based on current expectations we are maintaining previously stated 2014 financial guidance of revenues of between $35 million and $38 million. This would represent growth of 10% to 19% compared to the 2013. Gross margin, which we define as total revenue less cost of product revenues, for 2014 is expected to be in the range of 70% to 75%. Lastly, as previously stated, our 2014 guidance includes being cash flow positive in 2014. Achieving a positive cash flow result in 2014 will be possible due to the GSK arrangement and will be substantially ahead of our prior expectations.

Codexis has recently experienced manufacturing delays at its enzyme manufacturing subcontractor. The 2014 financial guidance provided here is contingent on a timely resolution of this manufacturing issue. If this manufacturing issue is not resolved in a timely manner, up to $2 million of revenues that Codexis expected to recognize in the quarter ending December 31, 2014, will be delayed until 2015. This potential delay in revenue recognition could cause Codexis to report less annual revenue than the revenue guidance range presented above. Codexis does not expect that this manufacturing issue will result in the loss of any customer orders.

Let me turn the call back over to John.

We are ready to start the question and answer session, operator.

(Operator Instructions)

Your first question comes from the line of James Lieberman from Wells Fargo Advisor. Please proceed.

Greetings. It sounds like there is an awful lot of activity going on there. And I appreciate the overview. Are you able for the lay person to give some color on the - on any of these items, the biocatalysts overhaul of an existing biopharma, how that differs from anything else you are doing or this new class of biocatalysts that you talked about?

Hey, Jim, thanks for the question. This is John. Yes, when we develop new biocatalysts, we are basically designing a protein from our CodeEvolver technology. We are targeting a catalyst that is based on that protein that targets a specific chemical transformation.

When you build a drug molecule, an API, an active pharmaceutical ingredient, it usually takes multiple steps for the manufacturing process to get to the ultimate API. Our biocatalysts are designed to make some or multiple of those steps more efficient for the production of that ultimate API.

When we target a non-pharmaceutical application like these food industry applications that we referenced on the call today, it's a very, very similar approach. Those customers are also doing multi-step complex chemistry transformations, and our biocatalysts are equally potentially well designed to help their manufacturing processes, and inside our shop, we are doing exactly the same activity to design a novel protein using our CodeEvolver technology. So, it's a generic process that can target many different kinds of chemistries in multiple industries. So hopefully that gives you some of the color you are looking for, but if not, please if you have a follow-on question...

Well, I can step back into the queue for now. Thank you.

Okay, okay, thanks, Jim.

Your next question comes from the line of Mark Silk from Silk Investment Advisors. Please proceed.

Hi, John. Thanks for taking my questions. So, I am kind of new to the story and I have been focusing on the biocatalysts. So can you kind of enlighten me about the food ingredient customer as far as what are they looking for, like how can you help them, and then how big could this market be?

Sure, thanks, Mark. A pleasure. Like I said to Jim earlier, we are - the customers are performing traditional chemistry to affect their process for their specific product. What we do is, we walk in and we introduce a different way to build their particular chemical using a novel biocatalyst that we develop and design for them. By doing that, we can reduce the amount of waste that they generate from their process, at times we can improve the yield of the raw material to make their product, we can make the operating conditions easier for their manufacturer and sometimes, we can even do multiple steps with one biocatalytic step.

Any of these successes will liberate a lot of cost savings for our customer, and if we are able to do so, we are able to share in that and make some money by the sale of our biocatalyst for them. That's generally what we do. And it's no different in the food ingredient or the food industry opportunities that we referenced here. The specific food ingredient opportunities, we see these as larger potential long-term commercialization revenue opportunities for our company than a typical API, and they are also closer - they have shorter development times for us, because unlike in the pharmaceutical industry, we won't be held captive to the very long development clinical trial cycles of development of the drug.

So, they are generally larger revenue opportunities, should they commercialize successfully and they are quicker to market for us. So this encourages us about the prospects of applying our biocatalysts outside of pharmaceutical, and we are real excited that we've announced a second industry partnership with a second major client outside of pharmaceuticals.

I know that's a pleasant surprise. So, in the world of like corporate cost savings, there is no doubt what type of asset that you bring to the table as far as drug development. It makes an exciting story. So I guess, as an anecdotal, so after your GSK announcement, have you received increased interest and can you kind of fill us in regards to what people are asking you now, now that this really does put you on the map?

We've been developing and strengthening our pipeline for years now for the pharmaceutical space and now we are doing similar work outside of pharmaceuticals. The GSK deal has enhanced the buildup of an attractive pipeline of projects that we are working on.

One of the items we have referenced in the call today was the growth in our funded R&D projects which you can see directly in the biocatalyst R&D revenue category. It's the strongest biocatalyst R&D revenue that we generated in any quarter over the last couple of years.

That's a reflection of Codexis taking on new biocatalyst projects for our clients. So that number goes up, the general all things equal means we are working on more projects and/or we are charging getting paid for those at increasing rates. And so, the prospects, the enhancement and the improvement of project flow has been very solid and has been buffeted by the GSK announcement.

In addition, as I referenced in my remarks, we see broad applicability of the possibility of doing a deal like we did with GSK with other major clientele. We've started those discussions with other companies. We are encouraged; we have no specific news to highlight at this point. But we are optimistic that we will generate successes of a GSK-like CodeEvolver license deal in the coming future to share with our investors at some point.

Okay, I got you there. The addition of Pam to the Board, does that open doors for you at Merck, or could that be considered a conflict of interest?

We don't - she wouldn't have been able to join if there was any remarkable conflict of interest, and she is a seasoned veteran of Merck for almost two decades. So I would suspect she could theoretically open doors. We have an excellent relationship with Merck and she can only enhance it, I think.

So you definitely - you guys are definitely going to follow given you have a fantastic story, I mean, you're in an environment where major companies have trouble increasing top-line growth and looking for savings, there is no doubt what you bring to the table can save people a lot of money, so, are you thinking of - how are you thinking of promoting the story going forward?

Yes, we are - the company has had a lot of transition over the last few years. When I first joined two years ago, we were talking more about biofuels than we were - than we are today. Today we are not talking about that at all. We have also been - but our investor base has shifted more slowly to the pharmaceutical-oriented or the life sciences oriented investor base.

So, with our new CFO, Gordon is a veteran of decades in the life science industry. He has got a great Rolodex of relationships with investors and with the help of LifeSci Advisor as our IR firm we are making progress and we think we can continue to accelerate it going forward. I don't know if you had anything else you might want to say, Gordon.

No, I think that's fine. I think that Mark's right - it's an undervalued stock and under-followed story. So I am looking forward to being able to talk about it.

And my last question is, as I ask this I am a long-term investor, so, but why wouldn't a biopharma company just buy you out, meaning, listen, I am taking you off the table, so you can't do that for anybody else, they have to develop their drugs, it will take longer, they got to spend more money. Isn't that a no brainer?

I don't know, Glaxo had multiple choices before they chose to do a license with us, and they could have considered that thought or they could have worked with somebody else. The reality is Codexis is sharply focused on continuing to bring forward the world's best protein engineering capability, that's our life blood. That's what we live and die to do. We are applying it for multiple drugs, we've been working on this technology for a decade-plus and we are doing it for a wide variety of customers now across our industries.

If a big drug company were to take us over, you could argue that that focus and that sharpness to make sure that we maintain the world's leading protein engineering capability could easily get lost inside of a big company, and I think that there is some consideration by - in your words a big biopharma company taking us over to see if that makes sense or not.

So, I think this is what we do, this is what we focus on and we expect through that focus and sharpness that we'll be able to maintain an edge in a very fast-moving technological world of protein engineering.

I think there is more upside to let your story play out. No doubt about that. So, I appreciate taking my questions and good luck going forward. .

Thank you very much, Mark. Appreciate it, too.

Your next question comes from the line of [Greg Vinit]. Please proceed.

Hi, John.

Hi, Greg. How are you doing?

Great, thanks for taking the call. So, I had a couple questions in the food area for these enzymes. Does this require any sort of GRAS approval before the manufacturer can utilize this in their production process?

Yes, it does.

So, so far, is it safe to assume that the first million dollars of product that you sent, has that received GRAS approval or this is the beginning of the process to get GRAS approval?

We - our enzyme has received GRAS approval already.

It has, okay, so, it was $1 million in sales during the third quarter for them to test market to bring this product out, is that the way, is that what I heard?

When we announced this partnership back in - I believe the second quarter of last year, we started with a project to improve the activity of the enzyme for their application. And we've been working on that enzyme improvement activity in R&D since that point in time, into the beginning of this year. Starting somewhere in the first half of this year, the emphasis shifted from identifying the most active enzyme for the application to actually scaling up and getting registration approvals for that enzyme.

We scaled up the enzyme during the last few quarters. We produced in our commercial scale facilities, we received GRAS approval. We delivered a substantial amount of that enzyme to our client. They have run it through their commercial facilities in the third quarter. And we collected significant revenue accordingly. So, hopefully, that gives you a real clear feel for the recent history of that food ingredient business.

Well, a follow-on to that is, is this something that could be a $1 million a quarter revenue producer for you or sales producer for you, if they were to continue to roll this out?

It could be, we're really now dependent on our customer's success with their customers. So, they have made their new food ingredient using our enzyme in their commercial facilities and I understand that they have sampled to their customers the product that they make. But it's a new product for them and so the ultimate success for them and therefore for us will be how well does our customers' customers like that new product from them, and that's the main developmental question for us. But if that goes well, it could be in the order of $1 million a quarter like you asked.

Okay, or greater I guess, depending upon the demand.

Sure.

So the second food ingredients customers are you - where are you in the approval process for that enzyme?

We are designing an enzyme for them at this point. So, much earlier stage. Much more like what we were doing for the first food industry client back in the middle of last year, and we are trying to identify a more effective enzyme for their application. And then ultimately it will lead to the need for scale-up and registration and trials at commercial quantities which we haven't begun those activities yet, because we are still in the search for the ideal enzyme. It's an R&D project for some period of time.

Is this is a different food ingredient company, not the same one, correct?

It's a different client in the food industry, correct.

Okay, and is it for a totally different application for food ingredient?

Yes, it's completely different.

So there is no, - there won't be any overlap?

That's correct.

Okay. If I can ask a couple more questions. You announced in the biocatalysts for pharmaceutical companies that two of them were follow-on orders and a third is a biocatalyst aimed at supplanting a customer's traditional non-biocatalyst. Does that require FDA approval in the process for them to approve this or not?

In all three cases, of course, these are clinical stage projects for our customer. So it's before FDA approval for our customer, and these, all three of these orders are at a stage in our customer's clinical development process before they have to file their manufacturing process for the targeted API.

So, that's the nice part about working with our clients in the development stage is that it's before all the regulatory - major regulatory issues start up that could impact Codexis' biocatalyst. If we start working with a customer after FDA approval, like we just indicated our first project with GSK is, those will require some measure of re-registration approval by our customer versus their traditional process.

Do you have any idea how long that will take to get that approval through?

It varies and it - sometimes they don't even need to do anything for the FDA to switch their process to a biocatalytic process.

Okay.

It varies very much, depending on the project.

So, big drug companies, pharmaceutical companies have done this before where they've changed their process to create the API and it doesn't--?

Yes, yes, it's extremely common in the clinic for them to go from one process to another before they do the FDA registration filing. And then after, if we work with them after FDA approval to switch to a biocatalytic process, then we've got multiple experiences helping our clients to get approvals for that. Most notably, we went through that process with Merck as we introduced a substantially lower-cost biocatalyst for their Genuvia diabetes drug a couple years back.

Okay. You mentioned in a previous call about, were you all talking about possibly working with a fine chemicals company or fine chemicals business or did I not hear that correctly?

Yes, we used a very wide definition for fine chemicals. We reached out to multiple different industries and continue to do so, looking for ideal complex chemistries that are practiced in those industries to see if we could bring cost savings through our biocatalyst approach.

So far, the best successes that we've had outside of the pharmaceutical in that so called fine chemical space, has been in the food ingredients in the food industry. And those have led to the successes that we spoke to quite a bit in today's call.

But the biocatalyst approach to building chemicals can apply in a wide set of other potential industries including flavor, fragrances and agricultural and we've spoken to efforts to try to break into those industries. We haven't had any material news in industries besides the food space over the last year or two.

If I get, do you have time for a couple others or you want me to get back in queue?

I think, why don't you take two more for Greg.

Okay. So, is the new director with Merck, her whole concentration is working in China looks like. Is there the potential, do the Chinese utilize any or have you - it seems like there is a potential for Codexis to license this technology in China. Their pharmaceutical industry or fine chemicals business would probably be totally different.

It has a very different complexion. The pharmaceutical industry in China is much more focused on the generic drugs and manufacturing for big pharmaceutical companies. But we are excited to bring Pam's Chinese expertise, frankly Asian expertise to the company. We look forward to leveraging her expertise and knowledge to potentially open up significant opportunities for us in Asia-Pacific.

Okay. And then the second question, at the very end of the call, you all mentioned about having a potential supply issue with the supplier of - wouldn't most of your clients or your customers want more than one supplier or one that you can demonstrate more than one supplier and how much confidence do you have this one supplier is not going to short you before the year end?

Yes, we mentioned this issue because we've been working with this supplier to us over about the last month to deal with this manufacturing issue. They haven't solved the problem yet. We are confident that they will. It's very hard to know when they will solve their manufacturing issues.

And so, we chose to identify the worst case potential revenue impact, if the manufacturer can't solve it for the remaining eight weeks of the quarter. So, that's one. Number two, we manufacture in-house, we manufacture through this contract manufacturer, we have manufactured products for ourselves through other manufacturers as well.

And it's a careful balance with our clients of whether we go through the time and expense of qualifying multiple sources. Sometimes that makes sense for our customer, sometimes they are comfortable. We think we are striking a good balance in terms of the supply chain risk, but we have entered into this situation which we thought was notable enough to highlight.

But nonetheless we have maintained our guidance for the year, because we think that that we will be able to hit our guidance as we work through this issue, but it's a possibility that we might not.

If you don't work through the issue by the end of the year, do you think you will notify us, your investors or do you think we will have to wait until March for your next conference call?

We'll just have to see how this plays out. We don't know yet.

Okay, thank you very much. I appreciate your taking my questions.

Those were good questions. We appreciate your interest. Thanks.

And ladies and gentlemen, that's the all the time that we have budgeted for today's call. I will now hand the call back over to John Nicols for closing remarks. .

Okay, thank you. Thank you very much for participating on today's call and we look forward to providing you an update on our progress in the next quarter. Thank you very much for your interest in Codexis.

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect and have a great day.