Infinity Pharmaceuticals Inc (INFI) 2004 Q2 法說會逐字稿

Good morning. And welcome, ladies and gentlemen, to the Discovery Partners International second-quarter financial results conference call. (OPERATOR INSTRUCTIONS). I will now turn the conference over to Mr. Riccardo Pigliucci, Chairman and CEO of Discovery Partners International. Please go ahead, sir.

Thank you and good morning. I'm Riccardo Pigliucci, Chairman and Chief Executive Officer of Discovery Partners International. And I would like to welcome you to Discovery Partners' second-quarter 2004 financial results conference call. With me today is Craig Kussman, Chief Financial Officer of Discovery Partners.

In this call we plan to review the results of the quarter and the six months ended June 30, 2004, and update the guidance for the second half of 2004. As you know, I'm obliged to remind you to consider the following Safe Harbor statement regarding forward-looking statements. Statements in this conference call that are not strictly historical are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and involve a high degree of risk and uncertainty.

The Company's actual results may differ materially from those projected in the forward-looking statements due to risks and uncertainties that exist in the Company's operation, our development efforts, and our business environment, including the establishment of offshore chemistry operations, the mix and timing of revenue based on our backlog, our ability to establish and maintain collaborations, execute more profitable business, and realize operating efficiency, our ability to achieve expected growth in earnings per share in 2004, the integration of acquired business, and the trend towards consolidation of the pharmaceutical industry, quarterly sales variability, technological advances by competitors, and other risks and uncertainties more fully described in the Company's annual report on Form 10-K for the year ended December 31, 2003, as filed with the Securities and Exchange Commission and other SEC filings.

In addition, in response to Reg G we will no longer refer to in our commentary or in answer to questions on past, current or future results through non-GAAP financial measures, such as EPS or gross margin before restructuring charges or other provisions. But we will only highlight the magnitude of the changes included in the various periods, if any.

And though those of you who are listening by webcast now, this conference call is publicly available by live webcast on our website at www.discoverypartners.com. This call is the property of Discovery Partners. A copy of the prepared remarks on this call, as well as the earnings press release issued this morning have been furnished to the Securities and Exchange Commission on Form 8-K.

Now I'll turn the call over to Craig Kussman, Discovery Partners CFO, to discuss our financial performance.

Thanks, Riccardo, and good morning. Revenues for the second quarter ended June 30, 2004 were $13 million, 16 percent above the second quarter of 2003 and 10 percent above the first quarter of 2004. The increase over the first quarter was primarily due to an increase in chemistry services business with Pfizer, Vertex and Merck. The increase over prior year was due to increased Crystal Farm product shipments and increased screening in chemistry service revenues which offset declines in license and development contract services revenue. Pfizer accounted for 58 percent of our revenues for the quarter.

Gross margin as a percentage of revenue for the second quarter of 2004 was 40 percent, up from 35 percent in the second quarter of 2003 and down from 45 percent in the first quarter of 2004.

The decrease in gross margin as a percentage of revenue versus the first quarter resulted from a lower-level of the per compound margin benefits resulting from the modification to the Pfizer contract, combined with lower compound production volumes and lower systems volumes, which were partially offset by higher screening services volumes.

The increase in gross margin percentage versus the prior year was due to higher screening service and instrumentation product margins resulting from higher volumes, and in part from per compound margin benefits resulting from the modification of the Company's chemistry agreement with Pfizer. These increases were partially offset by amortization charges related to the microARCS asset totaling $0.3 million per quarter over the next five years and lower compound production volumes.

Research and development costs for the second quarter of 2004 were $0.9 million, up from $0.7 million in the second quarter of 2003 and unchanged from the first quarter of 2004. The increase in research and development costs versus prior year resulted from the redeployment of development scientists and engineers from direct revenue generating activities of customer-funded R&D programs and collaborations to internal drug discovery process improvement and Crystal Farm software development activities.

SG&A costs for the second quarter of 2004 were $3.6 million, up from $3.4 million in the second quarter of 2003 and unchanged from the first quarter of 2004. The increase in SG&A costs versus prior year resulted from higher business development costs which were partially offset by savings resulting from the closure of our Tucson facility.

The Company reported no restructuring expense during the first and second quarters of 2004 compared to $1.6 million recorded in the second quarter of 2003 when the Company closed its Tucson chemistry operations.

The Company reported a $0.6 million profit from operations during the second quarter of 2004, unchanged versus Q1 2004 and up from a $1.7 million loss from operations, including $1.6 million in restructuring costs related to the Tucson closure in the second quarter of 2003. The improvement versus the prior year is due to the absence of the restructuring charge and the improvement in gross margin, which more than offset the increases in R&D and SG&A costs. This mark the fourth consecutive quarter of operating profit.

Interest income was $0.3 million for the second quarter of 2004, unchanged from the first quarter of 2004 and a decrease of $0.2 million from the second quarter of 2003 due to declines in U.S. interest rates.

Net income for the second quarter ended June 30, 2004 was $0.7 million, or 3 cents per share, compared to net income of $1 million, or 4 cents per share, in the first quarter of 2004 and a net loss of $1.3 million, or 5 cents per share, including the $1.6 million or 6 cents per share restructuring charge in the second quarter of 2003.

For the six months ended June 30, 2004 revenues were $24.8 million, up 4 percent from the $24 million result in 2003. The slight increase in year-over-year topline performance is due to increased Crystal Farm product shipments and higher screening services volumes, which offset declines in chemistry services and license and development contract services revenues.

Gross margin as a percentage of revenue for the six months ended June 30, 2004 was 42 percent, up from 32 percent for the same period in 2003. The year-over-year increase in gross margin percentage resulted from the per compound margin benefit resulting from the modification to the Pfizer contract and higher Crystal Farm product and screening service volumes, which offset the impact of lower chemistry compound production volumes and higher the microARCS amortization.

Research and development costs for the first six months of 2004 were $1.8 million, up from $1.4 million in the same period of 2003. The increase in research and development costs resulted from the redeployment of development scientists and engineers from direct revenue generating activities of customer-funded R&D programs and collaborations to internal drug discovery process improvement and Crystal Farm software development activities.

SG&A costs for the first six months of 2004 were $7.2 million, up from $6.4 million in the same period in 2003. The increase in SG&A costs versus 2003 is due to higher business development costs which offset savings resulting from the consolidation of facilities and lower incentive compensation accruals.

Restructuring costs for the first half of 2004 were zero compared to $1.6 million in the same period in 2003 related to the closure of the Company's Tucson facility.

The Company reported a $1.2 million profit from operations during the first six months of 2004 compared to a loss from operations of $2 million for the same period in 2003, which included $1.6 million of restructuring costs. This substantial improvement is primarily due to the lack of restructuring charges and the improvement in gross margin.

Interest income from the first six months of 2004 was $0.6 million, down from $1 million in the same period of last year due to declines in U.S. interest rates.

Net income in the six months ended June 30, 2004 was $1.8 million, or 7 cents per share on a fully diluted basis, compared to net loss of $1 million, or 4 cents per share, including $1.6 million, or 6 cents per share, of restructuring costs for the same period in 2003.

Cash and short-term investments at June 30, 2004 were $77.9 million, an increase of $5.1 million from the balance at March 31, 2004 due primarily to proceeds raised as part of the secondary offering of shares held by the Applera Corporation which closed in the second quarter of 2004 and for net cash flow provided by operations.

Now let me ask Riccardo to review the operations for Q2 and the key milestones for the remainder of 2004.

Thank you, Craig. This quarter has been a particularly busy and eventful one for the Discovery Partners. I am again pleased to be able to report profitable financial results, but I am also delighted to highlight the successful conclusion of the secondary offering of the 7.2 million Applera shares and the 1.1 million new DPI shares issued as a result of the exercise of the underwriters' over allotment option. It was a great, although hectic, opportunity to meet many current and potential shareholders. And I wish to thank them now for their time and interest in DPI.

In Q2, in addition to our continued successful collaboration with Pfizer, we started working on the new drug discovery chemistry collaboration with Vertex announced at the beginning of the quarter. Our Basel biology operation was particularly successful this quarter. First of all in renewing its collaboration with Novartis Pharma for an additional year. Under the terms of this agreement Discovery Partners will work with Novartis to develop assay and perform screening on several undisclosed new biological targets.

In addition, the same Basel operation was also awarded a research milestone in its collaboration with Mitsubishi based on the positive progress in the lead find (ph) and collaboration that was initiated last year.

Our Discovery System Division has experienced a marked increase in the interest in the Crystal Farm systems now that several units have been placed in key strategic accounts at leading pharmaceutical and biotech companies in the U.S., Europe and the Far East. We remain very pleased with the efforts and level of collaboration and performance we are experiencing in our alliance with Bruker AXS.

As of June 30, 2004 our backlog of products and services under contract and shippable in the 12-month period ending June 30, 2005, will still be 1 million. This is approximately 8 million lower than the backlog figure of 39 (ph) million reported for the period January 1, 2004 to December 31, 2004.

Considering the pattern of new business and contract renewal in the first and last calendar quarter of each year and the level of potential new business in our pipeline, we expect that this level of backlog should be sufficient to deliver our projected performance in 2004. Therefore, given our results in the first half of this year, while it is always possible that the mix and the timing of delivery of product and services in the second half of the year could influence specific quarterly performance and/or total revenue levels, we are reconfirming our original full year expectation of net income per share in the mid teens cents per share.

This concludes the first part of our conference call. I'm available to answer questions at this time, and we urge investors and analysts to ask any and all questions, as we will not be responding to individual calls and questions regarding acquisitions, financial results or financial guidance following the conclusion of this conference call. Operator?

(OPERATOR INSTRUCTIONS). Sean McKenna of Merriman.

Riccardo, I was wondering if I can get you to repeat the backlog figures again (inaudible).

Sure. The backlog figure were for the period from now -- so as of June 30, 2004 for the next 12 months is 31 million. The backlog we reported in the beginning of the fiscal year in January, which was for the period January 1 through December 31 we actually reported in February with the 10-K, was for 39 million. So those are the two numbers. Which is quite normal because you have an order renewal both of the Pfizer agreements and everything else in the period between Q4 and Q1. That's when all the renewals come in. And the situation today with the backlog of 31 million does not include any renewal of Bruker unit for next year or anything else yet.

Thanks. And while we are on the topic of (inaudible).

I can hardly hear you, Sean. Can you speak up please?

Is that better?

Yes.

Can you remind us again of how big -- while we're on the topic of renewals -- how big the Novartis contract is and the work you're (inaudible)? Can you just remind us of that?

Yes. The level of business that we did last year prior to the renewal is in the 2 to $3 million range. I think with the renewal this year it is probably somewhere similar in that range.

Could it be higher?

It can always be dependent -- I mean this is sort of a framework agreement in which they send us different amounts of work at different times, so I would now like to speculate at this time if we discern higher or not for the full year.

And the number of Crystal Farm you shipped in the (inaudible) how many was that and how many do you have now?

I don't think we have issued that specific numbers, and without the Bruker consent I would rather not do it.

Phil Nadeau of SG Cowen.

First, I was wondering, Riccardo, if you could comment on the overall macroenvironment for your services? Have you seen that environment get easier or more difficult over the past quarter?

I don't think things ever get easier. I will say that we see the same -- pretty much the same pattern with big pharma being -- looking for new businesses, but also being very cost-conscious. There's certainly a trend in big pharma in trying to get lower overall costs for their projects, whether that is by trying to outsource or to get a mix of work done in the U.S. and offshore, or by really looking at every single detail of the contract. So that is basically what has been happening in the last half of the year pretty much; nothing much different than that.

Okay, great. And my second question is actually on your cash flows for the year. You gave net income, or EPS, guidance. Can we assume that the rate of non-cash items for the first six months of the year can be extrapolated to the back half? Or are there any lumpy items that we should take into account when we're trying to figure out the cash flows for the year?

I would say you can pretty well extrapolate to the second half of the year. The key items are really capital expenditures, and I would expect those to continue at roughly the same rate as we experienced in the first half. The only one that could be potentially lumpy is the accounts receivable, but that is not going to move by that much. And the other one is -- the negative for the first half of the year is deferred revenue. And I think that one is -- I wouldn't expect to experience any real further decline in the deferred revenue balance.

Gene Mannheimer of Roth Capital Partners.

Nice quarter, guys. Congratulations. A few questions. Recently you have begun to break out product from service revenues. Can you comment or elaborate on the rest of the year how you might project product revenue? Would it be consistent with the first half?

The volumes going forward into the second half -- let's see -- I would estimate that the product revenues would most likely be consistent with what we have experienced in the second half. I wouldn't see any dramatic increase or decrease in the product revenues.

Thanks, Craig. And Pfizer decreasing as a percent of total revenue, do you have any expectation on full year '04 what that percentage might be?

It is difficult. Depending on the mix of other business that will be coming in between now and the end of the year to be honest with you in terms of (indiscernible) to Pfizer shipments at the end of Q4 this year versus Q1 next year. So it is difficult for me to judge yet.

Right. It depends on the level of, if any, potential year-end business that we might get from Pfizer.

I mean last year if you recall at the last minute we got an emergency request to do an extra couple of million dollars worth of business. And if it comes we will certainly take it.

It is certainly not planned for, right?

I'll not plan for it, but if it comes I will take it.

Okay. Any comments on '05, where you see say topline growth?

At this time I think it is premature to go to start on '05. We will definitely at the end of Q3 give you a first pass of '05, at least for the full year, both in terms of overall business growth and in EPS. We're in the process, as you know, with our budgeting and looking at forward (ph) process starts about now. So that is -- I would say by the time we get to the end of Q3 I can be more precise.

And then final question. We have seen a trend of certain competitors moving to -- moving from a purely outsourced R&D model to that of developing their own drugs. Would you consider this type of strategy in the future?

I have been on record several times by saying that I would not spend R&D money for my own drug development. That does not mean that I would not enter at the right time with some different pricing structure that would allow for higher upside or milestones and so on in exchange for a more aggressive pricing up front, if that is the situation that happens. But no, I will not -- there's no intention for the Company to get into the self-funded drug discovery.

Sean McKenna.

Riccardo, again, I missed the part where you were talking about Mitsubishi and the milestone. I was wondering if I could get you to repeat that?

Yes. Basically we received a milestone in Switzerland from Mitsubishi for a program that we started about -- almost a year ago for identifying some leads in its particular potency. And the way that the contract was structured was a payment -- a prepayment for the screening plus a premium or a milestone if we had achieved a certain capability, a certain number of hits and certain potency. And we have done it, so we have been paid that milestone.

How much was that, can you tell us?

It is not financially material to the quarter and in total.

(OPERATOR INSTRUCTIONS). Larry Brooks of Maloney Securities.

Mine is related to the cash that you guys are accumulating. What are some of your goals? Is your gold to keep accumulating cash, to use it for acquisitions, to make to make disbursements, or -- what is your plan there?

Thank you for the question. Fundamentally the cash that we raised originally with the FPO (ph) and we kept so far is fundamentally for acquisitions. That is what we intend to go forward and grow the Company by spending some of the cash for acquisitions. We have been waiting until the right timing in terms of making sure we had a solid positive cash flow operation as well as a market pricing environment that would allow us to do an acquisition whether or not – over diluted at least. But that is the reason for the cash on the balance sheet. It is certainly not to keep it in the bank at 1 percent.

In reference to the acquisition, what is your time frame, 3 months, 6 months, a couple of years? And is that generally something that you would look for it to be accretive?

Generally speaking we're looking at acquisitions all the time. To put a timing on acquisition whether it is 3 months or 6 months it is very dangerous because you never know until the paper is signed if you've actually got one. But I can tell you that we're looking as we speak continuously to opportunities.

In terms of the -- we're looking at acquisitions that would have revenues and they would have the fundamental capability of being accretive within a reasonably short period time, which would be anything between the 6 and 18 months I would say is probably our goal in terms of getting this acquisition back accretive.

It is unlikely that you can manage to get an acquisition accretive from day one, because otherwise the other guys that is on the other side of the equation, knows exactly what your calculations are and what it can try to get from you.

Okay. It sounds good. Thank you.

If there are no further questions, I will now turn the conference back over to Mr. Riccardo Pigliucci. Please go ahead.

Well, thank you. I would just like to thank all the participants -- for you who participated in this teleconference. And I look forward to talk to you again soon, and at the latest the beginning of next earnings release. Thank you very much.

This concludes our conference for today. Thank you all for participating, and have a nice day. All parties may now disconnect.