What changed in this filing

/stocks — the workspaceLOADING

Item 2. Management’s Discussion and Analysis

2020-08-06 compared with 2020-05-08 · 101 added, 56 removed, 111 unchanged (59% of the section changed)

1 unchanged sentence

You should read the following discussion and analysis of our financial condition and results of operations together with our condensed consolidated financial statements and the related notes included in this Quarterly Report on Form 10-Q and those in our Annual Report on Form 10-K for the year ended December 31, 2019.

Some of the information contained in this discussion and analysis or set forth elsewhere in this report, including statements related to our expectations regarding the potential impacts of the COVID-19 pandemic on our business, financial condition, and results of operations, and information with respect our products, plans and strategy for our business and related financing, includes forward-looking statements that involve risks and uncertainties, including statements regarding our expected financial results in future periods.

Some of the information contained in this discussion and analysis or set forth elsewhere in this report, including statements related to our expectations regarding the potential impacts of the COVID-19 pandemic on our business, financial condition, and results of operations, and information with respect to our products, plans and strategy for our business and related financing, includes forward-looking statements that involve risks and uncertainties, including statements regarding our expected financial results in future periods.

The words “anticipates,” “believes,” “could,” “estimates,” “expects,” “intends,” “may,” “might,” “plans,” “potential,” “predicts,” “projects,” “seeks,” “should,” “target,” “will,” “would” and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words.

9 unchanged sentences

In addition, up to the $52.0 million of Continuation Advances paid to us are repayable without interest to Illumina if, within two years of March 31, 2020, we enter into a Change of Control Transaction or raise at least $100 million in equity in a single transaction or debt financing (that may have multiple closings), with the amount repayable dependent on the amount raised by us.

Senior Management

On April 1, 2020, Michael Phillips retired as Sr.

Vice President of Research and Development.

Phillips transitioned to a consultant role on the same date.

The consulting services are scheduled to end in March 2021.

On May 26, 2020, we announced that Eric E.

Schaefer was appointed to the role of Vice President and Chief Accounting Officer and designated as the Company’s principal accounting officer.

On June 10, 2020, we announced that Dr.

Michael Hunkapiller will retire as Chief Executive Officer and President by the end of the year.

Hunkapiller will continue to serve on the board until the end of his term in 2021.

On the same date, we announced that Susan Barnes will retire as Executive Vice President and Chief Financial Officer in August 2020.

On July 31, 2020, our Board of Directors appointed Ben Gong to the role of interim Chief Financial Officer and designated him as the Company’s principal financial officer, effective August 8, 2020.

Gong will replace Susan K.

Barnes who will retire as the Company’s Executive Vice President, Chief Financial Officer and principal financial officer on August 7, 2020.

Business Overview

11 unchanged sentences

By providing access to genetic information that was previously inaccessible, we enable scientists to confidently increase their understanding of biological systems.

COVID-19 Pandemic

COVID-19 Update

The COVID-19 pandemic and efforts to control its spread have significantly curtailed the movement of people, goods, and services worldwide, including in the regions in which we sell our products and services and conduct our business operations.

Our first quarter 2020 financial results were impacted negatively as our customers in multiple regions around the suspended their normal operations in efforts to curb the spread of the COVID-19 pandemic.

In particular, multiple customers postponed deliveries of our systems they had ordered previously, resulting in lower instrument revenues for the first quarter of 2020 as compared to the first quarter of 2019.

We cannot be certain when or if these customers will eventually take delivery of their systems.

Additionally, as of the end of April 2020, normal operations at a majority of our customers with PacBio systems continued to be suspended.

As a result, it is likely that our consumable revenues will decline from the levels we experienced in the first quarter of 2020.

We cannot reliably estimate the size and duration of the negative impact to our sales and results of operations that will result from the COVID-19 pandemic .

The financial results for the three and six months ended June 30, 2020 were impacted negatively as many of our customers in multiple regions around the world shut down operations for various periods of time in efforts to curb the spread of the COVID-19 pandemic.

This resulted in lower product revenues for the three and six months ended June 30, 2020 as compared to the same period of 2019.

A significant number of our customer sites that had shut down due to COVID-19 have re-opened.

However, those that have re-opened have not necessarily resumed operating at their prior run rates, which has negatively impacted the sale of our consumables.

As of June 30, 2020, approximately 20% of the sites remained inactive.

This dynamic continues to negatively impact the recognition of revenue related to the sale of our Sequel and Sequel II instruments.

The negative impacts of COVID-19 on our customers will likely continue to adversely impact our revenues during the second half of 2020, including the third quarter of 2020.

Due to the uncertain scope and duration of the pandemic, we cannot reasonably estimate the future impact to our operations and financial results.

In response to local stay-at-home orders and in alignment with CDC recommendations, we have limited our manufacturing and commercial operations based in Menlo Park, California.

We will, however, continue to provide consumables, instruments and support to scientists at government, academic, and commercial labs working on COVID-19 and other high-priority research needs.

We will, however, continue to provide consumables, instruments and support to scientists at government, academic, and commercial labs that remain open.

To aid in containing the spread of COVID-19, we have implemented remote-work options and are limiting employee travel as much as possible.

12 unchanged sentences

We adopted ASU 2016-13 Financial Instruments - Credit Losses (Topic 326):

Measurement of Credit Losses on Financial Instruments loss on January 1, 2020, using the modified retrospective method.

Measurement of Credit Losses on Financial Instruments on January 1, 2020, using the modified retrospective method.

Please see “Recently Adopted Accounting Standards” in the Note 3.

3 unchanged sentences

Results of Operations

Comparison of the three months ended March 31, 2020 and 2019

Three Months Ended March 31,

Comparison of the three months ended June 30, 2020 and 2019

Three Months Ended June 30,

(in thousands, except percentages)

11 unchanged sentences

Operating loss

Gain from Continuation Advances from Illumina

Interest expense

Other income, net

Net income (loss)

Total revenue for the three months ended March 31, 2020 was $15.6 million, compared to $16.4 million for the same period during 2019.

Product revenue of $12.3 million for the three months ended March 31, 2020 consisted of $4.0 million from sales of Sequel and Sequel II instruments and $8.3 million from sales of consumables, compared to total product revenue of $13.5 million for the same period during 2019, consisting of $5.6 million from sales of Sequel instruments and $7.9 million from sales of consumables.

The decrease in instrument sales was primarily attributable to a lower number of instrument shipments and installations attributed due to COVID-19 as discussed above.

The increase in consumable sales was primarily attributable to utilization from a larger installed base of instruments.

Service and other revenue of $3.3 million and $3.0 million for the three months ended March 31, 2020 and 2019, respectively, was primarily derived from product maintenance agreements sold on our installed instruments.

The increase in service and other revenue was primarily attributable to a larger number of installed instruments under service contracts.

Cost of product revenue was $5.4 million for the three months ended March 31, 2020, compared to cost of product revenue of $8.6 million for the same period during 2019.

Cost of service and other revenue for the three months ended March 31, 2020 was $2.7 million, compared to $2.7 million for the same period during 2019.

Gross profit for the three months ended March 31, 2020 was $7.5 million, resulting in a gross margin of 48.0%, compared to gross profit of $5.1 million, resulting in a gross margin of 31.2% for the same period during 2019.

Gross margin improved for the three months ended March 31, 2020 compared to the same period in 2019 primarily due to low margins for the three months ended March 31, 2019.

Gross margin of 31.2% for the three months ended March 31, 2019 was negatively impacted by approximately $1.0 million of product transition costs, including an inventory reserve taken relating to an updated forecast of a faster transition from Sequel to Sequel II instrument sales.

In addition, gross margin for the three months ended March 31, 2020 benefited from higher output and factory utilization compared with the three months ended March 31, 2019.

However, since the middle of March, we have significantly reduced our manufacturing output, leading to idle capacity.

As a result, we expect our gross margin to decrease significantly until we return to normal capacity, the timing of which we cannot reliably estimate due to the effects of COVID-19.

Total revenue for the three months ended June 30, 2020 was $17.1 million compared to $24.6 million for the same period during 2019.

Product revenue of $13.8 million for the three months ended June 30, 2020 consisted primarily of $8.9 million from sales of Sequel and Sequel II instruments and $4.8 million from sales of consumables, compared to total product revenue of $21.3 million for the same period during 2019, consisting of $12.7 million from sales of Sequel instruments and $8.6 million from sales of consumables.

The decrease in instrument sales was primarily attributable to a lower number of instrument shipments and installations due to COVID-19 as discussed above.

The decrease in consumable sales was primarily attributable to lower utilization of the installed base of instruments due to COVID-19 as discussed above.

The negative impact of COVID-19 on our customers will likely continue to adversely impact our revenues during the second half of 2020.

Service and other revenue of $3.3 million and $3.4 million for the three months ended June 30, 2020 and 2019, respectively, was primarily derived from product maintenance agreements sold on our installed instruments.

Cost of product revenue was $8.2 million for the three months ended June 30, 2020, compared to cost of product revenue of $12.0 million for the same period during 2019.

Cost of service and other revenue for the three months ended June 30, 2020 was $2.2 million, compared to $3.0 million for the same period during 2019.

Gross profit for the three months ended June 30, 2020 was $6.6 million, resulting in a gross margin of 38.7%, compared to gross profit of $9.6 million, resulting in a gross margin of 39.0% for the same period during 2019.

Gross profit decreased $3.0 million for the three months ended June 30, 2020 compared to the same period in 2019 primarily due to lower product revenue realized for the three months ended June 30, 2020.

Research and Development Expense

During the three months ended March 31, 2020, research and development expense decreased by $0.2 million, or 2%, compared to the same period during 2019.

Research and development expense included stock-based compensation expense of $1.8 million and $2.0 million during the three months ended March 31, 2020 and 2019, respectively.

During the three months ended June 30, 2020, research and development expense remained relatively flat compared to the same period during 2019.

Research and development expense included stock-based compensation expense of $1.4 million and $1.9 million during the three months ended June 30, 2020 and 2019, respectively.

Sales, General and Administrative Expense

During the three months ended March 31, 2020, sales, general and administrative expense increased by $5.2 million, or 26%, compared to the same period during 2019.

The increase in sales, general and administrative expense was primarily attributable to the financial advisory fee of $6.0 million associated with the terminated merger with Illumina and $3.7 million associated with higher patent litigation expenses, partially offset by a $5.1 million reduction in merger related expenses incurred during the three months ended March 31, 2020 as compared to the three months ended March 31, 2019.

Sa les, general and administrative expense included stock-based compensation expense of $1.7 million and $1.9 million during the three months ended March 31, 2020 and 2019, respectively.

During the three months ended June 30, 2020, sales, general and administrative expense decreased by $4.0 million, or 21%, compared to the same period during 2019.

The decrease in sales, general and administrative expense was primarily attributable to $3.3 million in merger related expenses during the three months ended June 30, 2019, which did not recur during the three months ended June 30, 2020, and a decrease of $1.1 million in patent litigation expenses incurred during the three months ended June 30, 2020 as compared to the same period in 2019.

Sa les, general and administrative expense included stock-based compensation expense of $1.3 million and $1.7 million during the three months ended June 30, 2020 and 2019, respectively.

Interest Expense

Interest expense for the three months ended June 30, 2020 decreased $0.6 million compared to the same period in 2019, as the debt agreement with Deerfield entered into in February 2013 (the “Facility Agreement”) matured in February 2020.

Comparison of the six months ended June 30, 2020 and 2019

Six Months Ended June 30,

(in thousands, except percentages)

Product revenue

Service and other revenue

Total revenue

Cost of Revenue:

Cost of product revenue

Cost of service and other revenue

Total cost of revenue

Operating Expense:

Research and development

Sales, general and administrative

Total operating expense

Operating loss

Gain from Continuation Advances from Illumina

In accordance with the terms of the Merger Agreement, during the first quarter of 2020 we received Continuation Advances totaling $34.0 million from Illumina, which resulted in a non-operating gain of $34.0 million.

Interest expense

Interest expense for the three months ended March 31, 2020 decreased compared to the same period in 2019.

Interest expense related primarily to the debt agreement with Deerfield entered into in February 2013 (the “Facility Agreement”) which matured in February 2020.

Other income, net

Total revenue for the six months ended June 30, 2020 was $32.7 million, compared to $41.0 million for the same period during 2019.

Product revenue of $26.0 million for the six months ended June 30, 2020 consisted of $13.0 million from sales of Sequel and Sequel II instruments and $13.0 million from sales of consumables, compared to total product revenue of $34.7 million for the same period during 2019, consisting of $18.3 million from sales of Sequel and Sequel II instruments and $16.4 million from sales of consumables.

The decrease in instrument sales was primarily attributable to a lower number of instrument shipments and installations due to COVID-19 as discussed above.

The decrease in consumable sales was primarily attributable to lower utilization of the installed base of instruments due to COVID-19 as discussed above.

The negative impact of COVID-19 on our customers will likely continue to adversely impact our revenues during the second half of 2020.

Service and other revenue of $6.6 million and $6.3 million for the six months ended June 30, 2020 and 2019, respectively, was primarily derived from product maintenance agreements sold on our installed instruments.

Gross profit for the six-month period ended June 30, 2020 was $14.1 million, resulting in a gross margin of 43.2%, compared to gross profit of $14.7 million, resulting in a gross margin of 35.9% for the same period during 2019.

Cost of product revenue was $13.6 million for the six months ended June 30, 2020, compared to cost of product revenue of $20.6 million for the same period during 2019.

Cost of product revenue decreased $7.0 million for the six months ended June 30, 2020 compared to the same period in 2019 primarily resulting from lower product shipments.

In addition, during the six months ended June 30, 2019, we incurred product transition costs including an inventory reserve taken in connection with the transition from Sequel to Sequel II.

Cost of service and other revenue for the six-month period ended June 30, 2020 was $4.9 million, compared to $5.7 million for the same period during 2019.

Research and Development Expense

During the six months ended June 30, 2020, research and development expense remained flat compared to the same period during 2019.

Research and development expense included stock-based compensation expense of $3.2 million and $3.9 million during the six months ended June 30, 2020 and 2019, respectively.

Sales, General and Administrative Expense

During the six months ended June 30, 2020, sales, general and administrative expense increased by $1.2 million, or 3%, compared to the same period during 2019.

The increase in sales, general and administrative expense was primarily attributable to an increase of $0.9 million in compensation expense.

Sales, general and administrative expense included stock-based compensation expense of $3.1 million and $3.6 million during the six-month periods ended June 30, 2020 and 2019, respectively.

Interest Expense

Interest expense for the six m onths ended June 30, 2020 decreased $1.0 million compared to the same period in 2019, as the Facility Agreement matured in February 2020.

Liquidity and Capital Resources

Cash, cash equivalents and investments at March 31, 2020 totaled $142.6 million, compared to $49.1 million at December 31, 2019.

The increase was attributable to the Reverse Termination Fee and Continuation Advances we received from Illumina partially offset by cash used in operations.

We believe that our existing cash, cash equivalents and investments will be sufficient to fund our projected operating requirements for at least the next 12 months from the filing date of the Quarterly Report on Form 10-Q for the quarter ended March 31, 2020.

Cash, cash equivalents and investments at June 30, 2020 totaled $120.0 million, compared to $49.1 million at December 31, 2019.

The increase was attributable to the Reverse Termination Fee and Continuation Advances we received from Illumina partially offset by cash used in operations and the $16.0 million repayment of debt associated with the Facility Agreement.

However, the potential economic or other disruptions caused by the COVID-19 pandemic could have a material adverse effect on our business, results of operations and liquidity.

3 unchanged sentences

In addition, Illumina paid us the additional Continuation Advances of $6.0 million in January 2020 and $22.0 million in February 2020 and made the last Continuation Advance payment to us of $6.0 million in March 2020.

P ursuant to the Termination Agreement, in the event that, on or prior to September 30, 2020, we enter into a definitive agreement providing for, or consummate, a Change of Control Transaction, then we may be required to repay the Reverse Termination Fee (without interest) to Illumina in connection with the consummation of such Change of Control

If such Change of Control Transaction is not entered into on or prior to September 30, 2020 or if such change of control transaction is entered into on or prior to September 30, 2020 but is not consummated by the two-year anniversary of the execution of the definitive agreement for such Change of Control Transaction, then we will not be required to repay the Reverse Termination Fee.

21 unchanged sentences

Our primary uses of cash in operating activities are for the development of ongoing product enhancements and future products, manufacturing, and support functions related to our sales, general and administrative activities.

We had $75.4 million of cash provided from operating activities for the three months ended March 31, 2020, compared to cash usage of $25.3 million from operating activities for the same period in 2019.

Cash provided by operating activities for the three months ended March 31, 2020 was due to the $98.0 million Reverse Termination Fee received from Illumina and a net income of $1.3 million plus changes in net operating assets and liabilities, offset by a gain from Continuation Advances from Illumina of $34.0 million that is considered to be a financing activity, and non-cash items such as stock-based compensation of $4.0 million and depreciation of $1.7 million.

The change in net operating assets and liabilities was primarily attributed a decrease of $7.9 million in accounts receivable and an increase of accrued liabilities of $4.7 million, partially offset by a decrease of $4.1 million in accounts payable and an increase of $3.3 million in inventory.

Cash used in operating activities for the three months ended March 31, 2019 was due primarily to a net loss of $30.3 million, offset by non-cash items such as stock-based compensation of $4.4 million and depreciation of $1.8 million.

The change in net operating assets and liabilities was primarily attributed to an increase of $2.1 million in accounts payable, partially offset by an increase of $1.9 million in inventory.

We had $51.6 million of cash provided from operating activities for the six months ended June 30, 2020, compared to cash usage of $42.9 million from operating activities for the same period in 2019.

Cash provided by operating activities for the six months ended June 30, 2020 was due to the $98.0 million Reverse Termination Fee received from Illumina, non-cash items such as stock-based compensation of $7.3 million and depreciation of $3.2 million, partially offset by a net loss of $21.8 million and a gain from Continuation Advances from Illumina of $34.0 million, which is considered to be a financing activity.

The change in net operating assets and liabilities was primarily attributed to a decrease of $3.9 million in accounts receivable, an increase of other liabilities of 2.0 million primarily relating to employee contributions for the Employee Stock Purchase Plan, partially offset by an increase of $3.8 million in inventory.

Cash used in operating activities for the six months ended June 30, 2019 was due primarily to a net loss of $54.9 million, offset by non-cash items such as stock-based compensation of $8.5 million and depreciation of $3.6 million.

The change in net operating assets and liabilities was primarily attributed to an increase of $3.5 million in accounts receivable, partially offset by an increase of $3.2 million in accrued expense.

Investing Activities

Our investing activities consist primarily of capital expenditures and investment purchases, sales and maturities.

We used $54.3 million of cash for investing activities for the three months ended March 31, 2020, compared to receiving cash of $38.0 million from investing activities for the same period in 2019.

Cash used in investing activities for the three months ended March 31, 2020 was due primarily to net purchases of investments of $54.2 million and purchases of property and equipment of $0.1 million.

Cash provided in investing activities for the three months ended March 31, 2019 was due primarily to net maturities of investments of $39.2 million.

We used $57.2 million of cash for investing activities for the six months ended June 30, 2020, compared to receiving cash of $45.8 million from investing activities for the same period in 2019.

Cash used in investing activities for the six months ended June 30, 2020 was due primarily to net purchases of investments of $56.8 million and purchases of property and equipment of $0.4 million.

Cash provided in investing activities for the six months ended June 30, 2019 was due primarily to net maturities of investments of $47.7 million.

Financing Activities

Cash provided from financing activities was $18.2 million and $6.7 million for the three months ended March 31, 2020 and 2019, respectively.

Cash provided by financing activities during the three months ended March 31, 2020 was due to $34.0 million of Continuation Advances from Illumina and proceeds of $0.2 million from the issuance of common stock through our equity compensation plans, partially offset by $16.0 million we repaid for the remaining outstanding principal to Deerfield upon the maturity of the Facility Agreement.

Cash provided by financing activities during the three months ended March 31, 2019 was due to $6.7 million from the issuance of common stock through our equity compensation plans.

Cash provided from financing activities was $18.8 million and $8.1 million for the six months ended June 30, 2020 and 2019, respectively.

Cash provided by financing activities during the six months ended June 30, 2020 was due to $34.0 million of Continuation Advances from Illumina and proceeds of $0.8 million from the issuance of common stock through our equity compensation plans, partially offset by $16.0 million we repaid for the remaining outstanding principal to Deerfield upon the maturity of the Facility Agreement.

Cash provided by financing activities during the six months ended June 30, 2019 was due to $8.1 million from the issuance of common stock through our equity compensation plans.

Capital Resources

In August 2017, we filed a shelf registration statement on Form S-3 with the SEC pursuant to which we may, from time to time, sell up to an aggregate of $150.0 million of our common stock, preferred stock, depository shares, warrants, units or debt securities.

On August 18, 2017, the registration statement was declared effective by the SEC, which allows us to access the capital markets for the three-year period following this effective date.

In June 2020, we filed a shelf registration statement on Form S-3 with the SEC pursuant to which we may, from time to time, sell up to an aggregate of $250.0 million of our common stock, preferred stock, depository shares, warrants, units or debt securities.

On July 14, 2020, the registration statement was declared effective by the SEC, which allows us to access the capital markets for the three-year period following this effective date.

However, the Termination Agreement currently limits our ability to issue additional securities or incur indebtedness as up to the $52.0 million of Continuation Advances paid to us are repayable without interest to Illumina if, within two years of March 31, 2020, we enter into a Change of Control Transaction or raise at least $100 million in equity or debt financing in a single transaction (with the amount repayable dependent on the amount raised by us).

Off-Balance Sheet Arrangements

As of March 31, 2020, we did not have any off-balance sheet arrangements.

As of June 30, 2020, we did not have any off-balance sheet arrangements.

In the ordinary course of business, we enter into standard indemnification arrangements.

7 unchanged sentences

Commitments and Contingencies” in Part I, Item 1 of this Form 10-Q, any associated expenses incurred are included within the related accrued litigation expense amounts.

No additional liability associated with such indemnification agreements has been recorded as of March 31, 2020.

No additional liability associated with such indemnification agreements has been recorded as of June 30, 2020.

Quantitative and Qualitative Disclosures About Market Risk

Except for the broad effects of COVID-19 as a result of its negative impact on the global economy and financial markets , there have been no material changes in market risk from the information provided in our Annual Report on Form 10-K for the year ended December 31, 2019.

Except for the broad effects of COVID-19 and its negative impact on the global economy and financial markets, there have been no material changes in market risk from the information provided in our Annual Report on Form 10-K for the year ended December 31, 2019.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis