Illumina, Inc.
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
|
|
|
þ |
|
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For
Quarterly Period Ended July 2, 2006
|
|
|
o |
|
Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the transition period from to
Commission File Number 000-30361
Illumina, Inc.
(Exact name of registrant as specified in its charter)
|
|
|
Delaware
|
|
33-0804655 |
|
|
|
(State or other Jurisdiction of
Incorporation or Organization)
|
|
(I.R.S. Employer
Identification No.) |
|
|
|
9885 Towne Centre Drive, San Diego, CA
|
|
92121 |
|
|
|
(Address of Principal Executive Offices)
|
|
(Zip Code) |
(858) 202-4500
(Registrants telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for
such shorter period that the Registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days.
Yes R No £
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer,
or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in
Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer R Accelerated filer £ Non-accelerated filer £
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act).
Yes £ No R
As of July 14, 2006, there were 45,952,517 shares of the Registrants Common Stock outstanding.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
Illumina, Inc.
Condensed Consolidated Balance Sheets
(In thousands)
|
|
|
|
|
|
|
|
|
|
|
July 2, 2006 |
|
|
January 1, 2006 (1) |
|
|
|
(unaudited) |
|
|
|
|
|
ASSETS |
|
|
|
|
|
|
|
|
Current assets: |
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
152,250 |
|
|
$ |
50,822 |
|
Short-term investments |
|
|
4,511 |
|
|
|
|
|
Accounts receivable, net |
|
|
23,100 |
|
|
|
17,620 |
|
Inventory, net |
|
|
17,324 |
|
|
|
10,309 |
|
Prepaid expenses and other current assets |
|
|
2,153 |
|
|
|
959 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current assets |
|
|
199,338 |
|
|
|
79,710 |
|
|
|
|
|
|
|
|
|
|
Property and equipment, net |
|
|
22,728 |
|
|
|
16,131 |
|
Goodwill |
|
|
2,125 |
|
|
|
2,125 |
|
Intangible and other assets, net |
|
|
6,760 |
|
|
|
2,644 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets |
|
$ |
230,951 |
|
|
$ |
100,610 |
|
|
|
|
|
|
|
|
LIABILITIES AND STOCKHOLDERS EQUITY |
|
|
|
|
|
|
|
|
Current liabilities: |
|
|
|
|
|
|
|
|
Accounts payable and accrued liabilities |
|
$ |
34,757 |
|
|
$ |
21,600 |
|
Current portion of long-term debt |
|
|
114 |
|
|
|
118 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
34,871 |
|
|
|
21,718 |
|
|
|
|
|
|
|
|
|
|
Long-term debt, less current portion |
|
|
|
|
|
|
54 |
|
Deferred gain on sale of land and building |
|
|
2,656 |
|
|
|
2,843 |
|
Other long-term liabilities |
|
|
6,756 |
|
|
|
3,498 |
|
Commitments and contingencies |
|
|
|
|
|
|
|
|
Stockholders equity |
|
|
186,668 |
|
|
|
72,497 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and stockholders equity |
|
$ |
230,951 |
|
|
$ |
100,610 |
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
The Condensed Consolidated Balance Sheet at January 1, 2006 has been derived from the audited
financial statements as of that date. |
See accompanying notes to the condensed consolidated financial statements.
3
Illumina, Inc.
Condensed Consolidated Statements of Operations
(Unaudited)
(In thousands, except per share amounts)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Six Months Ended |
|
|
|
July 2, 2006 |
|
|
July 3, 2005 |
|
|
July 2, 2006 |
|
|
July 3, 2005 |
|
Revenue: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Product revenue |
|
$ |
36,403 |
|
|
$ |
12,636 |
|
|
$ |
59,664 |
|
|
$ |
24,801 |
|
Service and other revenue |
|
|
4,795 |
|
|
|
2,783 |
|
|
|
10,062 |
|
|
|
5,474 |
|
Research revenue |
|
|
379 |
|
|
|
405 |
|
|
|
953 |
|
|
|
697 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue |
|
|
41,577 |
|
|
|
15,824 |
|
|
|
70,679 |
|
|
|
30,972 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Costs and expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of product revenue (including non-cash stock
compensation expense of $300, $0, $498 and $0,
respectively) |
|
|
11,912 |
|
|
|
4,033 |
|
|
|
19,588 |
|
|
|
7,970 |
|
Cost of service and other revenue (including non-cash
stock compensation expense of $50, $0, $102 and $0,
respectively) |
|
|
1,664 |
|
|
|
701 |
|
|
|
3,281 |
|
|
|
1,363 |
|
Research and development (including non-cash stock
compensation expense of $878, $17, $1,836 and $32,
respectively) |
|
|
8,587 |
|
|
|
7,318 |
|
|
|
16,803 |
|
|
|
13,211 |
|
Selling, general and administrative (including non-cash
stock compensation expense of $2,099, $24, $4,022 and $66,
respectively) |
|
|
12,891 |
|
|
|
6,518 |
|
|
|
25,025 |
|
|
|
12,553 |
|
Acquired in-process research and development |
|
|
|
|
|
|
15,800 |
|
|
|
|
|
|
|
15,800 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total costs and expenses |
|
|
35,054 |
|
|
|
34,370 |
|
|
|
64,697 |
|
|
|
50,897 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from operations |
|
|
6,523 |
|
|
|
(18,546 |
) |
|
|
5,982 |
|
|
|
(19,925 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest and other income, net |
|
|
856 |
|
|
|
58 |
|
|
|
1,424 |
|
|
|
253 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes |
|
|
7,379 |
|
|
|
(18,488 |
) |
|
|
7,406 |
|
|
|
(19,672 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision for income taxes |
|
|
611 |
|
|
|
51 |
|
|
|
742 |
|
|
|
102 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) |
|
$ |
6,768 |
|
|
$ |
(18,539 |
) |
|
$ |
6,664 |
|
|
$ |
(19,774 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) per basic share |
|
$ |
0.16 |
|
|
$ |
(0.46 |
) |
|
$ |
0.16 |
|
|
$ |
(0.50 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) per diluted share |
|
$ |
0.14 |
|
|
$ |
(0.46 |
) |
|
$ |
0.14 |
|
|
$ |
(0.50 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used in calculating basic net income (loss) per share |
|
|
43,528 |
|
|
|
40,187 |
|
|
|
42,502 |
|
|
|
39,267 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used in calculating diluted net income (loss) per share |
|
|
47,330 |
|
|
|
40,187 |
|
|
|
46,252 |
|
|
|
39,267 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to the condensed consolidated financial statements.
4
Illumina, Inc.
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(In thousands)
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
|
|
July 2, 2006 |
|
|
July 3, 2005 |
|
Operating activities: |
|
|
|
|
|
|
|
|
Net income (loss) |
|
$ |
6,664 |
|
|
$ |
(19,774 |
) |
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: |
|
|
|
|
|
|
|
|
Acquired in-process research and development |
|
|
|
|
|
|
15,800 |
|
Depreciation and amortization |
|
|
2,559 |
|
|
|
1,669 |
|
Loss on disposal of property and equipment |
|
|
20 |
|
|
|
71 |
|
Amortization of premium on investments |
|
|
|
|
|
|
(14 |
) |
Stock-based compensation expense |
|
|
6,458 |
|
|
|
98 |
|
Amortization of gain on sale of land and building |
|
|
(187 |
) |
|
|
(187 |
) |
Changes in operating assets and liabilities: |
|
|
|
|
|
|
|
|
Accounts receivable |
|
|
(5,031 |
) |
|
|
(742 |
) |
Inventory |
|
|
(7,991 |
) |
|
|
(1,349 |
) |
Prepaid expenses and other current assets |
|
|
(1,229 |
) |
|
|
231 |
|
Other assets |
|
|
145 |
|
|
|
|
|
Accounts payable and accrued liabilities |
|
|
12,645 |
|
|
|
524 |
|
Accrued litigation judgment |
|
|
|
|
|
|
(5,957 |
) |
Other long-term liabilities |
|
|
3,210 |
|
|
|
2,436 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) operating activities |
|
|
17,263 |
|
|
|
(7,194 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investing activities: |
|
|
|
|
|
|
|
|
Cash paid for acquisition, net of cash acquired |
|
|
|
|
|
|
(2,388 |
) |
Investment in secured convertible debentures |
|
|
(3,036 |
) |
|
|
|
|
Purchases of available-for-sale securities |
|
|
(4,529 |
) |
|
|
|
|
Sales and maturities of available-for-sale securities |
|
|
|
|
|
|
12,248 |
|
Purchases of property and equipment |
|
|
(9,149 |
) |
|
|
(6,232 |
) |
Cash paid for intangible assets |
|
|
(15 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) investing activities |
|
|
(16,729 |
) |
|
|
3,628 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Financing activities: |
|
|
|
|
|
|
|
|
Payments on long-term debt |
|
|
(58 |
) |
|
|
(27 |
) |
Proceeds from issuance of common stock |
|
|
101,088 |
|
|
|
2,935 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by financing activities |
|
|
101,030 |
|
|
|
2,908 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effect of foreign currency translation on cash and cash equivalents |
|
|
(136 |
) |
|
|
435 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase (decrease) in cash and cash equivalents |
|
|
101,428 |
|
|
|
(223 |
) |
Cash and cash equivalents at beginning of period |
|
|
50,822 |
|
|
|
54,789 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period |
|
$ |
152,250 |
|
|
$ |
54,566 |
|
|
|
|
|
|
|
|
See accompanying notes to the condensed consolidated financial statements.
5
Illumina, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
1. Summary of Significant Accounting Principles
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have been prepared in
accordance with U.S. generally accepted accounting principles for interim financial information and
the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include
all of the information and footnotes required by U.S. generally accepted accounting principles for
complete financial statements. The condensed consolidated financial statements include the accounts
of the Company and its wholly-owned subsidiaries. All intercompany transactions and balances have
been eliminated in consolidation. In managements opinion, the accompanying financial statements
reflect all adjustments, consisting of normal recurring accruals, considered necessary for a fair
presentation of the results for the interim periods presented.
Interim financial results are not necessarily indicative of results anticipated for the full
year. These unaudited financial statements should be read in conjunction with the Companys 2005
audited financial statements and footnotes included in the Companys Annual Report on Form 10-K for
the year ended January 1, 2006, as filed with the Securities and Exchange Commission (SEC) on March
6, 2006.
The preparation of financial statements requires that management make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenue and expenses, and
related disclosure of contingent assets and liabilities. Actual results could differ from those
estimates.
Fiscal Year
The Companys fiscal year consists of 52 or 53 weeks ending the Sunday closest to December 31,
with quarters of 13 or 14 weeks ending the Sunday closest to March 31, June 30, and September 30.
The quarters and six months ended July 2, 2006 and July 3, 2005 were both 13 and 26 weeks,
respectively.
Reclassifications
Certain prior period amounts have been reclassified to conform to current period presentation.
Revenue Recognition
The Companys revenue is generated primarily from the sale of products and services. Product
revenue consists of sales of arrays, reagents, instrumentation and oligos. Service and other
revenue consists of revenue received for performing genotyping services, extended warranty sales
and revenue earned from milestone payments.
The Company recognizes revenue in accordance with the guidelines established by SEC Staff
Accounting Bulletin (SAB) No. 104. Under SAB No. 104, revenue cannot be recorded until all of the
following criteria have been met: persuasive evidence of an arrangement exists; delivery has
occurred or services have been rendered; the sellers price to the buyer is fixed or determinable;
and collectibility is reasonably assured. All revenue is recorded net of any applicable allowances
for returns or discounts.
Revenue for product sales is recognized generally upon shipment and transfer of title to the
customer, provided no significant obligations remain and collection of the receivables is
reasonably assured. Revenue from the sale of instrumentation is recognized when earned, which is
generally upon shipment. However, in the case of BeadLabs, revenue is recognized upon the
completion of installation, training and customer acceptance. Revenue for genotyping services is
recognized when earned, which is generally at the time the genotyping analysis data is delivered to
the customer or as specific milestones are achieved.
In order to assess whether the price is fixed and determinable, the Company ensures there are
no refund rights. If payment terms are based on future performance, the Company defers revenue
recognition until the price becomes fixed and determinable. The Company assesses collectibility
based on a number of factors, including past transaction history with the customer and the
creditworthiness of the customer. If the Company determines that collection of a payment is not
reasonably assured, revenue
6
recognition is deferred until the time collection becomes reasonably assured, which is
generally upon receipt of payment. Changes in judgments and estimates regarding application of SAB
No. 104 might result in a change in the timing or amount of revenue recognized.
Sales of instrumentation generally include a standard one-year warranty. The Company also
sells separately priced maintenance (extended warranty) contracts, which are generally for one or
two years, upon the expiration of the initial warranty. Revenue for extended warranty sales is
recognized ratably over the term of the extended warranty period. Reserves are provided for
estimated product warranty expenses at the time the associated revenue is recognized. If the
Company were to experience an increase in warranty claims or if costs of servicing its products
under warranty were greater than its estimates, gross margins could be adversely affected.
While the majority of its sales agreements contain standard terms and conditions, the Company
does enter into agreements that contain multiple elements or non-standard terms and conditions.
Emerging Issues Task Force (EITF) No. 00-21, Revenue Arrangements with Multiple Deliverables,
provides guidance on accounting for arrangements that involve the delivery or performance of
multiple products, services, or rights to use assets within contractually binding arrangements.
Significant contract interpretation is sometimes required to determine the appropriate accounting,
including whether the deliverables specified in a multiple element arrangement should be treated as
separate units of accounting for revenue recognition purposes, and if so, how the price should be
allocated among the deliverable elements, when to recognize revenue for each element, and the
period over which revenue should be recognized. The Company recognizes revenue for delivered
elements only when it determines that the fair values of undelivered elements are known and there
are no uncertainties regarding customer acceptance.
Some of the Companys agreements contain multiple elements that include milestone payments.
Revenue from a milestone achievement is recognized when earned, as evidenced by acknowledgement
from the Companys collaborator, provided that (i) the milestone event is substantive and its
achievability was not reasonably assured at the inception of the agreement, (ii) the milestone
represents the culmination of an earnings process, (iii) the milestone payment is non-refundable
and (iv) the performance obligations for both the Company and its collaborators after the milestone
achievement will continue at a level comparable to the level before the milestone achievement. If
all of these criteria are not met, the milestone achievement is recognized over the remaining
minimum period of the Companys performance obligations under the agreement. The Company defers
non-refundable upfront fees received under its collaborations and recognizes them over the period
the related services are provided or over the estimated collaboration term using various factors
specific to the collaboration. Advance payments received in excess of amounts earned are classified
as deferred revenue until earned.
Research revenue consists of amounts earned under research agreements with government grants,
which is recognized in the period during which the related costs are incurred.
Cash and Cash Equivalents
Cash and cash equivalents are comprised of short-term, highly liquid investments primarily
consisting of money market-type funds.
Investments
The Company applies Statement of Financial Accounting Standards (SFAS) No. 115, Accounting for
Certain Investments in Debt and Equity Securities, to its investments. Under SFAS No. 115, the
Company classifies its investments as available-for-sale and records such assets at estimated
fair value in the balance sheet, with unrealized gains and losses, if any, reported in
stockholders equity. The Company invests excess cash balances in marketable debt securities,
primarily government securities and corporate bonds and notes, with strong credit ratings or short
maturity mutual funds providing similar financial returns. The Company limits the amount of
investment exposure as to institutions, maturity and investment type.
Stock-Based Compensation
On January 2, 2006, the Company adopted SFAS No. 123 (revised 2004), Share-Based Payment,
which addresses the accounting for stock-based payment transactions in which an enterprise receives
employee services in exchange for (a) equity instruments of the enterprise or (b) liabilities that
are based on the fair value of the enterprises equity instruments or that may be settled by the
issuance of such equity instruments. In January 2005, the SEC issued SAB No. 107, which provides
supplemental implementation guidance for SFAS No. 123R. SFAS No. 123R eliminates the ability to
account for stock-based compensation transactions using the intrinsic value
7
method under Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to
Employees, and instead generally requires that such transactions be accounted for using a
fair-value-based method. The Company uses the Black-Scholes-Merton option-pricing model to
determine the fair-value of stock-based awards under SFAS No. 123R, consistent with that used for
pro forma disclosures under SFAS No. 123, Accounting for Stock-Based Compensation, in prior
periods. The Company has elected to use the modified prospective transition method as permitted by
SFAS No. 123R and, accordingly, prior periods have not been restated to reflect the impact of SFAS
No. 123R. The modified prospective transition method requires that stock-based compensation expense
be recorded for all new and unvested stock options, restricted stock and employee stock purchase
plan (ESPP) shares that are ultimately expected to vest as the requisite service is rendered.
Stock-based compensation expense for awards granted prior to January 2, 2006 is based on the grant
date fair-value as determined under APB No. 25. For the three and six months ended July 2, 2006,
the Company has recorded an incremental $3.3 million and $6.5 million, respectively, of stock-based
compensation expense as a result of the adoption of SFAS No. 123R. Net income per diluted share was
reduced by $0.07 and $0.14, respectively, for the three and six months ended July 2, 2006 as a
result of the adoption of SFAS No. 123R. Stock-based compensation expense capitalized as part of
inventory as of July 2, 2006 was approximately $0.1 million. As of July 2, 2006, approximately
$32.3 million of total unrecognized compensation cost related to stock options, restricted stock
and ESPP shares are expected to be recognized over a weighted-average period of approximately two
years.
Prior to the adoption of SFAS No. 123R, the Company measured compensation expense for its
employee stock-based compensation plans using the intrinsic value method prescribed by APB Opinion
No. 25. The Company applied the disclosure provisions of SFAS No. 123, as amended by SFAS No. 148,
Accounting for Stock-Based Compensation Transition and Disclosure, as if the fair-value-based
method had been applied in measuring stock-based compensation expense. Under APB Opinion No. 25,
when the exercise price of the Companys employee stock options was not less than the market price
of the underlying stock on the date of the grant, no compensation expense was recognized.
The following table illustrates the effect on net loss and basic and diluted net loss per
share as if the Company had applied the fair value recognition provisions of SFAS No. 123 to
stock-based compensation during the specified reporting periods (in thousands, except per share
amounts):
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Six Months Ended |
|
|
|
July 3, 2005 |
|
|
July 3, 2005 |
|
Net loss as reported |
|
$ |
(18,539 |
) |
|
$ |
(19,774 |
) |
Add: Stock-based compensation expense recorded |
|
|
41 |
|
|
|
98 |
|
Less: Assumed stock-based compensation expense |
|
|
(1,641 |
) |
|
|
(4,041 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pro forma net loss |
|
$ |
(20,139 |
) |
|
$ |
(23,717 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted net loss per share: |
|
|
|
|
|
|
|
|
As reported |
|
$ |
(0.46 |
) |
|
$ |
(0.50 |
) |
|
|
|
|
|
|
|
Pro forma |
|
$ |
(0.50 |
) |
|
$ |
(0.60 |
) |
|
|
|
|
|
|
|
SFAS No. 123R requires the use of a valuation model to calculate the fair-value of stock-based
awards. The Company has elected to use the Black-Scholes-Merton option-pricing model, which
incorporates various assumptions including volatility, expected life, and interest rates. The
expected volatility is based on the historical volatility of the Companys common stock over the
most recent period generally commensurate with the estimated expected life of the Companys stock
options, adjusted for the impact of unusual fluctuations not reasonably expected to recur and other
relevant factors. The expected life of an award is based on historical experience and on the terms
and conditions of the stock awards granted to employees.
8
The assumptions used for the specified reporting periods and the
resulting estimates of weighted-average fair value per share of options granted and for stock
purchases under the ESPP during those periods are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Six Months Ended |
|
|
|
July 2, 2006 |
|
|
July 3, 2005 |
|
|
July 2, 2006 |
|
|
July 3, 2005 |
|
Interest rate stock options |
|
|
4.92 5.02 |
% |
|
|
3.87 |
% |
|
|
4.36 5.02 |
% |
|
|
3.88 |
% |
Interest rate stock purchases |
|
|
4.85 4.86 |
% |
|
|
4.08 |
% |
|
|
4.85 4.86 |
% |
|
|
4.08 |
% |
Volatility stock options |
|
|
75 |
% |
|
|
90 |
% |
|
|
75 77 |
% |
|
|
90 |
% |
Volatility stock purchases |
|
|
76 |
% |
|
|
90 |
% |
|
|
76 |
% |
|
|
90 |
% |
Expected life stock options |
|
6 years |
|
5 years |
|
6 years |
|
5 years |
Expected life stock purchases |
|
6 12 months |
|
6 12 months |
|
6 12 months |
|
6 12 months |
Expected dividend yield |
|
|
0 |
% |
|
|
0 |
% |
|
|
0 |
% |
|
|
0 |
% |
Weighted average fair value per share of options granted |
|
$ |
18.33 |
|
|
$ |
6.81 |
|
|
$ |
16.03 |
|
|
$ |
6.60 |
|
Weighted average fair value per share of employee stock purchases |
|
$ |
8.12 |
|
|
$ |
3.64 |
|
|
$ |
8.12 |
|
|
$ |
3.64 |
|
Net Income (Loss) per Share
Basic and diluted net income (loss) per share is presented in conformity with SFAS No. 128,
Earnings per Share, for all periods presented. In accordance with SFAS No. 128, basic and net
income (loss) per share is computed using the weighted-average number of shares of common stock
outstanding during the period, less shares subject to repurchase. Diluted net income (loss) per
share is typically computed using the weighted average number of common and dilutive common
equivalent shares from stock options using the treasury stock method. The following table presents
the calculation of weighted-average shares used to calculate basic and diluted net income (loss)
per share (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Six Months Ended |
|
|
|
July 2, 2006 |
|
|
July 3, 2005 |
|
|
July 2, 2006 |
|
|
July 3, 2005 |
|
Weighted-average shares outstanding |
|
|
43,567 |
|
|
|
40,232 |
|
|
|
42,541 |
|
|
|
39,325 |
|
Less: Weighted-average shares of common stock subject to repurchase |
|
|
(39 |
) |
|
|
(45 |
) |
|
|
(39 |
) |
|
|
(58 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average shares used in calculating basic net income
(loss) per share |
|
|
43,528 |
|
|
|
40,187 |
|
|
|
42,502 |
|
|
|
39,267 |
|
Plus: Effect of dilutive potential common shares |
|
|
3,802 |
|
|
|
|
|
|
|
3,750 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average shares used in calculating diluted net income
(loss) per share |
|
|
47,330 |
|
|
|
40,187 |
|
|
|
46,252 |
|
|
|
39,267 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The total number of shares excluded from the calculation of diluted net loss per share, prior
to application of the treasury stock method, was 7,307,818 for the three and six months ended July
3, 2005.
Comprehensive Income (Loss)
Comprehensive income (loss) is comprised of net income (loss) and other comprehensive income
(loss). Other comprehensive income (loss) includes unrealized gains and losses on the Companys
available-for-sale securities, changes in the fair value of derivatives designated as effective
cash flow hedges, and foreign currency translation adjustments.
The components of other comprehensive income (loss) are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Six Months Ended |
|
|
|
July 2, 2006 |
|
|
July 3, 2005 |
|
|
July 2, 2006 |
|
|
July 3, 2005 |
|
Net income (loss) |
|
$ |
6,768 |
|
|
$ |
(18,539 |
) |
|
$ |
6,664 |
|
|
$ |
(19,774 |
) |
Foreign currency translation adjustments |
|
|
123 |
|
|
|
77 |
|
|
|
160 |
|
|
|
108 |
|
Unrealized gain on investments |
|
|
123 |
|
|
|
7 |
|
|
|
81 |
|
|
|
29 |
|
Unrealized loss on cash flow hedges |
|
|
|
|
|
|
|
|
|
|
(10 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other comprehensive income (loss) |
|
$ |
7,014 |
|
|
$ |
(18,455 |
) |
|
$ |
6,895 |
|
|
$ |
(19,637 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Recent Accounting Pronouncements
In July 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation (FIN) No.
48, Accounting for Uncertainty in Income Taxes an interpretation of FASB Statement No.
109, which clarifies the accounting for uncertainty in tax positions. FIN No. 48 requires that we
recognize the impact of a tax position in our financial statements if that position is more likely
than not of being sustained on audit, based on the technical merits of the position. The
provisions of FIN No. 48 are effective as of the
9
beginning of the Companys 2007 fiscal year, with the cumulative effect of the change in
accounting principle recorded as an adjustment to opening retained earnings. We do not expect the
adoption of FIN No. 48 to have a material impact on our financial reporting, and we are currently
evaluating the impact, if any, the adoption of FIN No. 48 will have on our disclosure requirements.
2. Acquisition of CyVera Corporation
On April 8, 2005, the Company completed its acquisition of 100% of the voting equity interests
of CyVera Corporation (CyVera). Pursuant to an Agreement and Plan of Merger, dated as of February
22, 2005 (the Merger Agreement), by and among Illumina, Semaphore Acquisition Sub, Inc., a Delaware
corporation and wholly-owned subsidiary of Illumina (Merger Sub), and CyVera, Merger Sub merged
with and into CyVera, with CyVera surviving as a wholly-owned subsidiary of Illumina. The results
of CyVeras operations have been included in the Companys consolidated financial statements since
the acquisition date of April 8, 2005.
CyVera was created in October 2003 to commercialize its VeraCode technology and optical
instrumentation/reader concepts. The Company believes that the CyVera technology will be highly
complementary to the Companys own portfolio of products and services; will enhance the Companys
capabilities to service its existing customers; and will accelerate the development of additional
technologies, products and services. The Company believes that integrating CyVeras capabilities
with the Companys technologies will better position the Company to address the emerging biomarker
research and development and in-vitro and molecular diagnostic markets. The Company plans to launch
its first products resulting from this acquisition by the end of 2006.
Pursuant to the Merger Agreement, the Company issued 1.6 million shares (the Shares) of common
stock, paid $2.3 million in cash and assumed the net liabilities of CyVera. In addition, the
Company assumed the outstanding stock options of CyVera. Approximately 250,000 of the Shares were
deposited into an escrow account with a bank to satisfy any claims for indemnification made by the
Company or CyVera pursuant to the Merger Agreement. No claims for indemnification were made and, as
of July 2, 2006, the escrow agent has released the shares from escrow.
The results of CyVeras operations have been included in the accompanying condensed
consolidated financial statements from the date of the acquisition. The total cost of the
acquisition is as follows (in thousands):
|
|
|
|
|
Fair market value of securities issued, net |
|
$ |
14,433 |
|
Cash paid |
|
|
2,291 |
|
Transaction costs |
|
|
681 |
|
Fair market value of options assumed |
|
|
394 |
|
|
|
|
|
|
|
|
|
|
Total purchase price |
|
$ |
17,799 |
|
|
|
|
|
The fair value of the Shares was determined based on the average closing price of the
Companys common stock for five trading days preceding, and following, February 22, 2005 (the date
the transaction was announced). The Company believes that this time period gives proper
consideration to matters such as price fluctuations and quantities traded and represents a
reasonable period before and after the date on which the terms of the acquisition were agreed.
Based on these closing prices, the Company estimated the fair value of its common stock to be
$9.167 per share, which equates to a total fair value of $14.4 million.
The final purchase price allocation is shown below (in thousands):
|
|
|
|
|
Cash |
|
$ |
4 |
|
Prepaid expenses |
|
|
12 |
|
Fixed assets |
|
|
349 |
|
Deferred compensation |
|
|
196 |
|
Accounts payable and accrued liabilities |
|
|
(432 |
) |
Debt assumed |
|
|
(255 |
) |
|
|
|
|
|
|
|
|
|
Net book value of net liabilities acquired |
|
|
(126 |
) |
|
|
|
|
|
In-process research and development |
|
|
15,800 |
|
Goodwill |
|
|
2,125 |
|
|
|
|
|
|
|
|
|
|
Net assets acquired |
|
$ |
17,799 |
|
|
|
|
|
10
In accordance with SFAS No. 142, Goodwill and Other Intangible Assets, the goodwill is not
amortized, but will be subject to a periodic assessment for impairment by applying a
fair-value-based test. None of this goodwill is expected to be deductible for tax purposes. The
Company performs its annual test for impairment of goodwill in May of each year. The Company is
required to perform a periodic assessment between annual tests in certain circumstances. The
Company has performed its annual test of goodwill and has determined there was no impairment
of goodwill as of May 1, 2006 or July 2, 2006.
The Company allocated $15.8 million of the purchase price to in-process research and
development projects. In-process research and development (IPR&D) represents the estimated fair
value of acquired, to-be-completed research projects. At the acquisition date, CyVeras ongoing
research and development initiatives were primarily involved with the development of its VeraCode technology and optical instrumentation/reader concepts. These two projects were
approximately 50% and 25%, respectively, complete at the date of acquisition.
The value assigned to purchased IPR&D was determined by estimating the costs to develop the
acquired technology into commercially viable products, estimating the resulting net cash flows from
the projects, and discounting the net cash flows to their present value. The revenue projections
used to value the IPR&D were, in some cases, reduced based on the probability of developing a new
technology, and considered the relevant market sizes and growth factors, expected trends in
technology, and the nature and expected timing of new product introductions by the Company and its
competitors. The resulting net cash flows from such projects are based on the Companys estimates
of cost of sales, operating expenses, and income taxes from such projects. The rates utilized to
discount the net cash flows to their present value were based on estimated cost of capital
calculations. Due to the nature of the forecast and the risks associated with the projected growth
and profitability of the developmental projects, discount rates of 30% were considered appropriate
for the IPR&D. The Company believes that these discount rates were commensurate with the projects
stage of development and the uncertainties in the economic estimates described above.
If these projects are not successfully developed, the sales and profitability of the combined
company may be adversely affected in future periods. The Company believes that the foregoing
assumptions used in the IPR&D analysis were reasonable at the time of the acquisition. No assurance
can be given, however, that the underlying assumptions used to estimate expected project sales,
development costs or profitability are accurate or the events associated with such projects will
transpire as estimated. At the date of acquisition, the development of these projects had not yet
reached technological feasibility, and the research and development in progress had no alternative
future uses. Accordingly, the $15.8 million initially allocated to IPR&D was charged to expense in
the second quarter of 2005.
The following unaudited pro forma information shows the results of the Companys operations
for the specified reporting periods as though the acquisition had occurred as of the beginning of
those periods (in thousands, except per share data):
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Six Months Ended |
|
|
|
July 3, 2005 |
|
|
July 3, 2005 |
|
Revenue |
|
$ |
15,824 |
|
|
$ |
30,972 |
|
Net loss |
|
$ |
(2,746 |
) |
|
$ |
(5,225 |
) |
Basic and diluted net loss per share |
|
$ |
(0.07 |
) |
|
$ |
(0.13 |
) |
The pro forma results have been prepared for comparative purposes only and are not necessarily
indicative of the actual results of operations had the acquisition taken place as of the beginning
of the period presented, or the results that may occur in the future. The pro forma results exclude
the $15.8 million non-cash acquired IPR&D charge recorded upon the closing of the acquisition during the second
quarter of 2005.
3. Segment Information
The Company has determined that, in accordance with SFAS No. 131, Disclosures about Segments
of an Enterprise and Related Information, it operates in one segment as it only reports operating
results on an aggregate basis to chief operating decision makers of the Company.
4. Inventories
Inventories are stated at the lower of standard cost (which approximates actual cost) or
market. Inventory includes raw materials and finished goods that may be used in the research and
development process and such items are expensed as consumed. Provisions
11
for slow moving, excess and obsolete inventories are provided based on product life cycle and
development plans, product expiration and quality issues, historical experience and inventory
levels. The components of net inventories are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
July 2, 2006 |
|
|
January 1, 2006 |
|
Raw materials |
|
$ |
7,206 |
|
|
$ |
4,575 |
|
Work in process |
|
|
7,987 |
|
|
|
4,546 |
|
Finished goods |
|
|
2,131 |
|
|
|
1,188 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
17,324 |
|
|
$ |
10,309 |
|
|
|
|
|
|
|
|
5. Intangible Assets
Intangible assets consist of license agreements and acquired technology. The cost of the
Companys license agreements was $859,450 and the Company has amortized $798,867 through July 2,
2006.
6. Warranties
The Company generally provides a one-year warranty on instrument systems. At the time revenue
is recognized, the Company establishes an accrual for estimated warranty expenses associated with
system sales. This expense is recorded as a component of cost of product revenue. Estimated
warranty expenses associated with extended maintenance contracts are recorded as cost of revenue
ratably over the term of the maintenance contract.
Changes in the Companys warranty liability during the specified reporting period are as
follows (in thousands):
|
|
|
|
|
Balance at January 1, 2006 |
|
$ |
751 |
|
Additions charged to cost of revenue |
|
|
663 |
|
Repairs and replacements |
|
|
(391 |
) |
|
|
|
|
|
|
|
|
|
Balance at July 2, 2006 |
|
$ |
1,023 |
|
|
|
|
|
7. Accounts Payable and Accrued Liabilities
Accounts payable and accrued liabilities consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
July 2, 2006 |
|
|
January 1, 2006 |
|
Accounts payable |
|
$ |
12,195 |
|
|
$ |
7,390 |
|
Compensation |
|
|
6,172 |
|
|
|
4,922 |
|
Legal and other professional fees |
|
|
1,937 |
|
|
|
2,311 |
|
Short-term deferred revenue |
|
|
2,538 |
|
|
|
1,937 |
|
Customer deposits |
|
|
7,466 |
|
|
|
1,361 |
|
Reserve for product warranties |
|
|
1,023 |
|
|
|
751 |
|
Other |
|
|
3,426 |
|
|
|
2,928 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
34,757 |
|
|
$ |
21,600 |
|
|
|
|
|
|
|
|
8. Stockholders Equity
On May 24, 2006, the Company completed a public offering of 4,025,000 shares of its common
stock at a public offering price of $25.50 per share. This transaction generated net proceeds of
$96.5 million for the Company and was completed pursuant to a shelf registration statement
initially filed with SEC in May 2006.
As of July 2, 2006, the Company had 45,952,517 shares of common stock outstanding, of which
4,813,742 shares were sold to employees and consultants subject to restricted stock agreements. The
restricted common shares vest in accordance with the provisions of the agreements, generally over
five years. All unvested shares are subject to repurchase by the Company at the original purchase
price. As of July 2, 2006, 39,000 shares of common stock were subject to repurchase. In addition,
the Company also issued 12,000 shares for a restricted stock award to an employee under the
Companys 2005 Stock and Incentive Plan based on service performance. These shares vest monthly
over a three-year period.
12
2005 Stock and Incentive Plan
In June 2005, the stockholders of the Company approved the 2005 Stock and Incentive Plan (the
2005 Stock Plan). Upon adoption of the 2005 Stock Plan, issuance of options under the Companys
existing 2000 Stock Plan ceased. The 2005 Stock Plan provides that an aggregate of up to 11,542,358
shares of the Companys common stock be reserved and available to be issued. In addition, the 2005
Stock Plan provides for an automatic annual increase in the shares reserved for issuance by the
lesser of 5% of outstanding shares of the Companys common stock on the last day of the immediately
preceding fiscal year, 1,200,000 shares or such lesser amount as determined by the Companys board
of directors. As of July 2, 2006, options to purchase 3,511,195 shares remained available for
future grant under the 2005 Stock Plan.
The Companys stock option activity under all stock option plans during the specified
reporting period is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted- |
|
|
|
|
|
|
|
Average |
|
|
|
Options |
|
|
Exercise Price |
|
Outstanding at January 1, 2006 |
|
|
7,325,431 |
|
|
$ |
7.96 |
|
Granted |
|
|
1,775,650 |
|
|
$ |
23.07 |
|
Exercised |
|
|
(517,776 |
) |
|
$ |
6.80 |
|
Cancelled |
|
|
(215,471 |
) |
|
$ |
10.46 |
|
|
|
|
|
|
|
|
|
Outstanding at July 2, 2006 |
|
|
8,367,834 |
|
|
$ |
11.17 |
|
|
|
|
|
|
|
|
|
Following is a further breakdown of the options outstanding as of July 2, 2006:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
|
|
|
Average |
|
|
|
|
|
|
Average |
|
|
|
|
|
|
|
|
|
Exercise |
|
|
|
|
|
|
Remaining |
|
Weighted |
|
|
|
|
|
Price |
Range of |
|
Options |
|
Life |
|
Average |
|
Options |
|
of Options |
Exercise Prices |
|
Outstanding |
|
in Years |
|
Exercise Price |
|
Exercisable |
|
Exercisable |
$0.03 5.15
|
|
|
1,422,177 |
|
|
|
6.40 |
|
|
$ |
3.45 |
|
|
|
905,442 |
|
|
$ |
3.37 |
|
$5.25 7.90
|
|
|
1,732,781 |
|
|
|
6.84 |
|
|
$ |
6.67 |
|
|
|
693,250 |
|
|
$ |
6.81 |
|
$7.94 8.76
|
|
|
1,493,495 |
|
|
|
7.84 |
|
|
$ |
8.53 |
|
|
|
505,238 |
|
|
$ |
8.51 |
|
$8.89 13.69
|
|
|
1,667,011 |
|
|
|
7.95 |
|
|
$ |
11.12 |
|
|
|
637,422 |
|
|
$ |
10.32 |
|
$13.74 23.38
|
|
|
1,463,170 |
|
|
|
9.00 |
|
|
$ |
20.30 |
|
|
|
224,842 |
|
|
$ |
18.59 |
|
$24.00 45.00
|
|
|
589,200 |
|
|
|
9.73 |
|
|
$ |
27.22 |
|
|
|
13,333 |
|
|
$ |
33.32 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$0.03 45.00
|
|
|
8,367,834 |
|
|
|
7.75 |
|
|
$ |
11.17 |
|
|
|
2,979,527 |
|
|
$ |
7.81 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Aggregate intrinsic value of options outstanding and options exercisable as of July 2, 2006
was $154.8 million and $65.2 million, respectively. Aggregate intrinsic value represents the
difference between the Companys closing stock price on the last trading day of the fiscal period,
which was $29.66 as of June 30, 2006, and the exercise price multiplied by the number of options
outstanding. Total intrinsic value of options exercised was $9.7 million for the
six months ended July 2, 2006.
2000 Employee Stock Purchase Plan
In February 2000, the board of directors and stockholders adopted the 2000 Employee Stock
Purchase Plan (the Purchase Plan). A total of 4,827,988 shares of the Companys common stock have
been reserved for issuance under the Purchase Plan. The Purchase Plan permits eligible employees to
purchase common stock at a discount, but only through payroll deductions, during defined offering
periods.
The price at which stock is purchased under the Purchase Plan is equal to 85% of the fair
market value of the common stock on the first or last day of the offering period, whichever is
lower. The initial offering period commenced in July 2000. In addition, the Purchase Plan provides
for annual increases of shares available for issuance under the Purchase Plan beginning with fiscal
2001. 118,740 shares were issued under the Purchase Plan during the six months ended
July 2, 2006. As of July 2, 2006, there were 2,910,590 shares
available for issuance under the Purchase Plan.
13
9. Commitments and Long-Term Debt
Deferred Gain / Building Loan
In July 2000, the Company entered into a ten-year lease to rent space in two newly constructed
buildings in San Diego that are now occupied by the Company. That lease contained an option to
purchase the buildings together with certain adjacent land that has been approved for construction
of an additional building. The Company exercised that option and purchased the properties in
January 2002 and assumed a $26.0 million, ten-year mortgage on the property at a fixed interest
rate of 8.36%. The Company made monthly payments of $208,974, representing interest and principal,
through August 2004.
In June 2004, the Company entered into a conditional agreement to sell its land and buildings
for $42.0 million and to lease back such property for an initial term of ten years. The sale was
completed in August 2004 at which time the lease was signed. After the repayment of the remaining
$25.2 million debt and other related transaction expenses, the Company received $15.5 million in
net cash proceeds. The Company removed the land and net book value of the buildings of $36.9
million from its balance sheet, deferred the resulting $3.7 million gain on the sale of the
property, and is amortizing the deferred gain over the ten-year lease term in accordance with SFAS
No. 13, Accounting for Leases.
Operating Leases
In August 2004, the Company entered into a ten-year lease for its San Diego facility after the
land and building were sold (as discussed above). Under the terms of the lease, the Company paid a
$1.9 million security deposit and is currently paying monthly rent of $328,202 with an annual
increase of 3% in each subsequent year through August 2014. The lease contains an option to renew
for three additional periods of five years each. In accordance with SFAS No. 13, the Company
records rent expense on a straight-line basis and the resulting deferred rent is included in other
long-term liabilities in the accompanying condensed consolidated balance sheets. The Company also
leases office space for a facility in Connecticut, an additional distribution and storage facility
in San Diego and for four foreign facilities located in Japan, Singapore, China and the Netherlands
under non-cancelable operating leases that expire at various times through June 2011. These leases
contain renewal options ranging from one to five years.
10. Legal Proceedings
The Company has incurred substantial costs in defending itself against patent infringement
claims, and expects to devote substantial financial and managerial resources to protect its
intellectual property and to defend against the claims described below as well as any future claims
asserted against it.
Affymetrix Litigation
On July 26, 2004, Affymetrix, Inc. (Affymetrix) filed a complaint in the U.S. District Court
for the District of Delaware alleging that the use, manufacture and sale of the Companys BeadArray
products and services, including the Companys Array Matrix and BeadChip products, infringe six
Affymetrix patents. Affymetrix seeks an injunction against the sale of products, if any, that are
determined to be infringing these patents, unspecified monetary damages, interest and attorneys
fees. On September 15, 2004, the Company filed its answer to Affymetrix complaint, seeking
declaratory judgments from the court that it does not infringe the Affymetrix patents and that such
patents are invalid, and the Company filed counterclaims against Affymetrix for unfair competition
and interference with actual and prospective economic advantage.
On February 15, 2006, the court allowed the Company to file its first amended answer and
counterclaims, adding allegations of inequitable conduct with respect to all six asserted
Affymetrix patents, violation of Section 2 of the Sherman Act, and unclean hands. In March 2006,
Affymetrix notified the Company of its decision to drop one of the six patents from the suit, and
of its intention to assert infringement of certain additional claims of the remaining five patents.
The Company has filed a motion to preclude Affymetrix from asserting infringement of those
additional claims. On April 20, 2006, the court held a claims construction hearing. Rulings on the
Companys motion and on claims construction could be issued at any time. On June 30, 2006, the
court dismissed the patent Affymetrix had sought to withdraw from the suit. Affymetrix and the
Company filed summary judgment motions by the July 14, 2006 court-established deadline. Trial is
scheduled for October 16, 2006. The Company believes it has meritorious defenses against each of
the infringement claims alleged by Affymetrix and intends to defend vigorously against this suit.
However, the Company cannot be sure that it will prevail in this matter. Any unfavorable
determination, and in particular, any significant cash amounts
14
required to be paid by the Company or prohibition of the sale of its products and services,
could result in a material adverse effect on its business, financial condition and results of
operations.
Dr. Anthony W. Czarnik v. Illumina, Inc.
On June 15, 2005, Dr. Anthony Czarnik, a former employee, filed suit against the Company in
the U.S. District Court for the District of Delaware seeking correction of inventorship of certain
of the Companys patents and patent applications, and alleging that the Company committed
inequitable conduct and fraud in not naming him as an inventor. Dr. Czarnik seeks an order
requiring the Company and the U.S. Patent and Trademark Office to correct the inventorship of
certain of the Companys patents and patent applications by adding Dr. Czarnik as an inventor, a
judgment declaring certain of the Companys patents and patent applications unenforceable,
unspecified monetary damages and attorneys fees. On August 4, 2005, the Company filed a motion to
dismiss the complaint for lack of standing and failure to state a claim. While this motion was
pending, Dr. Czarnik filed an amended complaint on September 23, 2005. On October 7, 2005, the
Company filed a motion to dismiss the amended complaint for lack of standing and failure to state a
claim. On July 13, 2006, the court granted the Companys motion to dismiss the counts of Dr.
Czarniks complaint dealing with correction of inventorship in pending applications and inequitable
conduct. The Company has responded to the two remaining counts of the complaint (correction of
inventorship in issued patents, and fraud). There has been no trial date set for this case. The
Company believes it has meritorious defenses against these claims.
11. Collaboration Agreements
Invitrogen Corporation
In December 2004, the Company entered into a strategic collaboration with Invitrogen
Corporation (Invitrogen). The goal of the collaboration is to combine the Companys expertise in
oligonucleotide manufacturing with the sales, marketing and distribution capabilities of
Invitrogen. In connection with the collaboration, the Company has developed the next generation
Oligator® DNA synthesis technology. This technology includes both plate- and tube-based
capabilities. Under the terms of the agreement, Invitrogen paid the Company an upfront
non-refundable collaboration payment of $2.3 million during the first quarter of 2005.
Additionally, Invitrogen made a milestone payment of $1.1 million to the Company in November 2005
upon achievement of a milestone event under the terms of the collaboration.
The Company began manufacturing and shipping the plate-based and certain tube-based oligo
products under the collaboration in the third quarter of 2005 and, therefore, has begun to amortize
the upfront collaboration payment of $2.3 million as product revenue over the life of the agreement
on a straight-line basis. The unamortized portion of the collaboration payment has been recorded as
short- and long-term deferred revenue. The Company recorded the $1.1 million milestone payment in
service and other revenue upon achievement of the milestone during the fourth quarter of 2005. The
Company recorded revenue related to this milestone payment upon its achievement, as evidenced by
acknowledgment from Invitrogen and due to the fact that (i) the milestone event is substantive and
its achievability was not reasonably assured at the inception of the agreement, (ii) the milestone
represents the culmination of an earnings process, (iii) the milestone payment is non-refundable
and (iv) the performance obligations for both the Company and Invitrogen after the milestone
achievement will continue at a level comparable to the level before the milestone achievement. In
addition, the agreement provides for the transfer of the Companys Oligator technology into two
Invitrogen facilities outside North America. The Company recognizes product revenue upon shipment
of collaboration products based on the Companys actual manufacturing cost. Collaboration profit,
as defined in the collaboration agreement, from the sale of collaboration products is divided
equally between the two companies and is recorded as product revenue.
deCODE genetics
In May 2006, the Company and deCODE genetics, ehf. (deCODE) executed a Joint Development and
Licensing Agreement (the Development Agreement). Pursuant to the Development Agreement, the parties
agreed to collaborate exclusively to develop, validate and commercialize specific diagnostic tests
for variants in genes involved in three disease-related pathways: the gene-encoding leukotriene A4
hydrolase, linked to heart attack; the gene-encoding transcription factor 7-like 2 (TCF7L2), linked
to type 2 diabetes; and the gene-encoding BARD1, linked to breast cancer. The Company and deCODE
intend to develop these diagnostic tests for use on the Companys BeadXpress system.
Under the agreement, the Company will be responsible for the manufacturing, marketing and
selling of the diagnostic products. The companies will share the development costs of these
products and split the profits from sales of the diagnostics tests. The Development Agreement may
be terminated as to a particular product under development if one party decides to discontinue
funding
15
the development of that product, and may be terminated in whole by either party if the
other party commits an uncured material breach, files for bankruptcy or becomes insolvent. Under a
separate supply agreement, the Company will install instrumentation at deCODE that will enable
deCODE to perform whole genome association studies on up to 100,000 samples using the Companys
HumanHap300 BeadChips and associated reagents.
12. Investment in Genizon BioSciences Inc.
In January 2006, Genizon BioSciences Inc. (Genizon), a Canadian company focused on gene
discovery, purchased from the Company approximately $1.9 million in equipment and committed to
purchase an additional $4.3 million in consumables. Genizon is using Illuminas Sentrix®
HumanHap300 BeadChip along with the Infinium assay to perform whole-genome association studies
involving thousands of members of the Quebec Founder Population. The goal of the studies is to
provide understanding of the genetic origins and mechanisms of common diseases which may then lead
to possible drug targets.
In March 2006, the Company entered into a Subscription Agreement for Secured Convertible
Debentures with Genizon. Pursuant to the agreement, the Company purchased a secured convertible
debenture (the debenture) of Genizon and certain warrants for CDN$3.5 million (approximately U.S.
$3.0 million).
The debenture is convertible, automatically upon the occurrence of a liquidity event, as
defined in the debenture, into Class H Preferred Shares of Genizon. Upon the occurrence of certain
events, Illumina may be entitled to receive additional shares of Genizons Class H Preferred
Shares. The debenture matures two years from issuance and bears interest, payable semiannually, at
a rate of 5% per annum for the first year and 12.5% per annum for the second year. Unless the
debenture is converted before maturity, 112.5% of the principal amount of the debenture is due upon
maturity. Illumina also received warrants to purchase 226,721 shares of Genizon Class H Preferred
Shares at an exercise price of $1.5437 per share.
As of July 2, 2006, the debenture was recorded at face value, which is the fair value, and is
classified in accordance with SFAS No. 115, Accounting for Certain Investments in Debt and Equity
Securities, as an available-for-sale security.
The Company has concluded that the purchase of the debenture and the concurrent purchase by
Genizon of Illuminas products are linked transactions under guidance contained in EITF No.
00-21, Revenue Arrangements with Multiple Deliverables. Since the transactions are considered
linked, the Company has deferred approximately $3.0 million of revenue (the face value of the
Debentures) as of July 2, 2006, related to the Genizon product shipments. The deferred revenue is
classified as a long-term liability as of July 2, 2006. This amount is expected to remain in
deferred revenue until Genizon settles the Debenture in cash or when a liquidity event occurs that
generates cash or a security that is readily convertible into cash. The Company has also deferred
approximately $1.1 million of costs related to product shipments to Genizon as a long-term asset as
of July 2, 2006. All Genizon shipments that generate revenue over the face value of the debenture
will be evaluated under the Companys revenue recognition policy, which is outlined in Note 1.
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations.
This discussion and analysis should be read in conjunction with our financial statements and
accompanying notes included in this Quarterly Report on Form 10-Q and the financial statements and
notes thereto for the year ended January 1, 2006 included in the Companys Annual Report on Form
10-K. Operating results are not necessarily indicative of results that may occur in future periods.
The discussion and analysis in this Quarterly Report on Form 10-Q contain forward-looking
statements that involve risk and uncertainties, such as statements of our plans, objectives,
expectations and intentions. Words such as anticipate, believe, continue, estimate,
expect, intend, may, plan, potential, predict, project, or similar words or phrases,
or the negatives of these words, may identify forward-looking statements, but the absence of these
words does not necessarily mean that a statement is not forward-looking. Examples of
forward-looking statements include, among others, statements regarding the integration of CyVeras
technology with our existing technology, the commercial launch of new products, including products
based on CyVeras technology, and the duration which our existing cash and other resources is
expected to fund our operating activities.
Forward-looking statements are subject to known and unknown risks and uncertainties and are
based on potentially inaccurate assumptions that could cause actual results to differ materially
from those expected or implied by the forward-looking statements. Factors that could cause or
contribute to these differences include, but are not limited to, those discussed in the subsection
entitled Item 1A. Risk Factors. below as well as those discussed elsewhere. Accordingly, you
should not unduly rely on these forward-looking statements, which speak only as of the date of this
Quarterly Report. We undertake no obligation to publicly revise these
16
forward-looking statements to reflect circumstances or events after the date of this Quarterly
Report or to reflect the occurrence of unanticipated events. You should, however, review the
factors and risks we describe in the reports we file from time to time with the Securities and
Exchange Commission (SEC).
Overview
We develop, manufacture and market next-generation tools for the large-scale analysis of
genetic variation and biological function. Understanding genetic variation and biological function
is critical to the development of personalized medicine, a key goal of genomics. Using our
technologies, we have developed a comprehensive line of products that are designed to provide the
performance, throughput, cost effectiveness and flexibility necessary to enable researchers in the
life sciences and pharmaceutical industries to perform the billions of tests necessary to extract
medically valuable information from advances in genomics and proteomics. This information is
expected to correlate genetic variation and biological function with particular disease states,
enhancing drug discovery and clinical research, allowing diseases to be detected earlier and
permitting better choices of drugs for individual patients.
In 2001, we began commercial sale of short pieces of DNA called oligonucleotides, which
we refer to as oligos, manufactured using our proprietary Oligator technology. We believe our
Oligator technology is more cost effective than competing technologies, and this advantage enabled
us to market our oligos under a price leadership strategy while still achieving attractive gross
margins.
In 2001, we commercialized the first implementation of our BeadArray technology, the
Sentrix Array Matrix. This is a disposable matrix of 96 fiber optic bundles arranged in a pattern
that matches the standard 96-well microtiter plate. Each fiber optic bundle may perform more than
1,500 unique assays, which enables researchers to perform focused genotyping experiments in a
high-throughput format. This format was also used to initiate our single nucleotide polymorphism
(SNP) genotyping services product line. As a result of the increasing market acceptance of our high
throughput, low cost BeadArray technology, we have entered into genotyping service contracts with
many leading genotyping centers.
Our production-scale BeadLab is a turn-key platform that includes all hardware and
software necessary to enable researchers to perform genetic analysis research on what we believe is
an unprecedented scale. This system is being marketed to a small number of high throughput
genotyping users. As of July 2, 2006, we have installed and recorded revenue for 13 BeadLabs.
In 2003, we announced the launch of several new products, including 1) a new array
format, the Sentrix BeadChip, which significantly expands market opportunities for our BeadArray
technology and provides increased experimental flexibility for life science researchers; 2) a gene
expression product line on both the Sentrix Array Matrix and the Sentrix BeadChip that allows
researchers to analyze a focused set of genes across eight to 96 samples on a single array; and 3)
a benchtop SNP genotyping and gene expression system, the BeadStation, for performing
moderate-scale genotyping and gene expression using our technology. The BeadStation includes our
BeadArray Reader and analysis software and is designed to match the throughput requirements and
variable automation needs of individual research groups and core labs. Sales of these products
began in the first quarter of 2004 and, as of July 2, 2006, we have shipped 165 BeadStations.
In late 2004, we announced a strategic collaboration with Invitrogen Corporation
(Invitrogen) to synthesize and distribute oligos. In the third quarter of 2005, we began shipping
oligo products in connection with this agreement. As part of the agreement, we have developed the
next generation of our Oligator DNA synthesis technology, which we have designed to support both
plate- and the larger tube-based oligo markets. Invitrogen is responsible for sales, marketing and
technical support and we are responsible for manufacturing. Profits from sales of collaboration
products are divided equally between the two companies.
In 2005, we began shipments of Sentrix BeadChips for whole-genome gene expression and
whole-genome genotyping. The whole-genome gene expression BeadChips are designed to enable
high-performance, cost-effective, whole-genome expression profiling of multiple samples on a single
chip, resulting in a dramatic reduction in cost of whole-genome expression analysis. Our
whole-genome expression product line includes multi-sample products for both the Human and Mouse
Genomes. The whole-genome genotyping BeadChip is designed to scale to high levels of multiplexing
without compromising data quality and to provide scientists the ability to query hundreds of
thousands of SNPs in parallel. In the second quarter of 2005, we commenced shipment of our first
whole-genome genotyping BeadChip, the HumanHap-1, which interrogates more than 100,000 SNPs in
parallel.
In the second quarter of 2005, we completed the acquisition of CyVera Corporation, a
privately-held Connecticut-based company, pursuant to which CyVera became a wholly-owned subsidiary
of Illumina. We believe that CyVeras digital-microbead
17
technology, renamed the VeraCode technology, is highly complementary to our portfolio of
products and services. The acquisition is expected to provide us with a comprehensive approach to
bead-based assays for biomarker research and development and in-vitro and molecular diagnostic
opportunities, including those that require low-complexity as well as high-complexity testing. We
expect the first products based on the VeraCode technology to be available by the end of fiscal
2006. The purchase price associated with this transaction was approximately $17.8 million. We
allocated $15.8 million of this purchase price to acquired in-process research and development and
charged such amount against earnings in the second quarter of 2005.
In the fourth quarter of 2005, we began shipping the new Sentrix HumanHap300 Genotyping
BeadChip to customers around the world. Using the Infinium assay, which enables us to select
virtually any SNP in the genome, the HumanHap300 BeadChip allows analysis of more than 317,000
SNPs. We selected the SNPs for inclusion on the chip in collaboration with a consortium of
scientists that are leaders in the genotyping field. We believe this product has quality and
performance features that support our expectation that it will become an important discovery tool
for researchers seeking to understand the genetic basis of common, yet complex diseases.
In the first quarter of 2006, we introduced the Sentrix HumanHap240S BeadChip for
genome-wide disease association studies. This product is a companion to our Sentrix HumanHap300
BeadChip and enables researchers to interrogate an additional 240,000 SNPs utilizing our Infinium
assay. We also introduced the Sentrix HumanHap550 BeadChip in the first quarter of 2006. The
Sentrix HumanHap550 BeadChip contains over 550,000 SNPs on a single microarray. The HumanHap550
BeadChip is currently shipping commercially.
In the first quarter of 2006, we announced the availability of the Illumina AutoLoader. The
AutoLoader automates BeadChip loading and scanning, which increases lab throughput. The AutoLoader
is designed to support up to two BeadArray Readers simultaneously for unattended operation. We
began shipment of AutoLoaders in the second quarter of 2006.
In the second quarter of 2006, we introduced the Sentrix HumanHap650Y BeadChip. The
Sentrix HumanHap650Y BeadChip contains over 650,000 SNP markers on a single microarray,
which we believe provides the most comprehensive genomic coverage and highest data quality of any
whole-genome genotyping product currently available.
In the third quarter of 2006, we introduced the Sentrix HumanHap550+ BeadChip and
iSelectTM Infinium genotyping products. The Sentrix HumanHap550+ BeadChip allows
customers to add up to 120,000 custom SNP markers to supplement the standard content provided on
the existing Sentrix HumanHap550 BeadChip, yielding up to 670,000 markers for association studies.
For focused-content applications, the new iSelect Infinium product allows
customers to create a custom array of up to 60,000 SNP markers per sample with 12 samples per chip.
Our revenue is subject to fluctuations due to the timing of sales of high-value products
and service projects, the impact of seasonal spending patterns, the timing and size of research
projects our customers perform, changes in overall spending levels in the life science industry,
the timing and amount of government grant funding programs and other unpredictable factors that may
affect our customer ordering patterns. Any significant delays in the commercial launch or any lack
or delay of commercial acceptance of new products, unfavorable sales trends in our existing product
lines, or impacts from the other factors mentioned above, could adversely affect our revenue growth
in 2006 or cause a sequential decline in quarterly revenues. Due to the possibility of fluctuations
in our revenue and net income or loss, we believe quarterly comparisons of our operating results
are not a good indication of our future performance.
Prior to 2006, we incurred substantial operating losses. As of July 2, 2006, our accumulated
deficit was $137.9 million and total stockholders equity was $186.7 million. These losses have
principally occurred as a result of the substantial resources required for the research,
development and manufacturing scale up effort required to commercialize our products and services,
an acquired in-process research and development charge of $15.8 million related to our acquisition
of CyVera and a charge of $5.9 million related to a termination-of-employment lawsuit. We expect to
continue to incur substantial costs for research, development and manufacturing scale up activities
over the next several years. We will also need to increase our selling, general and administrative
costs as we build up our sales and marketing infrastructure to expand and support the sale of
systems, other products and services. As a result of the expected increase in expenses, we will
need to increase revenue to achieve and sustain annual profitability.
18
Critical Accounting Policies and Estimates
General
Our discussion and analysis of our financial condition and results of operations is based upon
our condensed consolidated financial statements, which have been prepared in accordance with U.S. generally
accepted accounting principles. The preparation of financial statements requires that management
make estimates, assumptions and judgments with respect to the application of accounting policies
that affect the reported amounts of assets, liabilities, revenues and expenses, and the disclosures
of contingent assets and liabilities. Actual results could differ from those estimates. Our
significant accounting policies are described in Note 1 to our condensed consolidated financial
statements. Certain accounting policies are deemed critical if 1) they require an accounting
estimate to be made based on assumptions that were highly uncertain at the time the estimate was
made, and 2) changes in the estimate that are reasonably likely to occur, or different estimates
that we reasonably could have used would have a material effect on our condensed consolidated
financial statements.
Management has discussed the development and selection of these critical accounting policies
with the Audit Committee of our Board of Directors, and the Audit Committee has reviewed the
disclosure. In addition, there are other items within our financial statements that require
estimation, but are not deemed critical as defined above. We believe the following critical
accounting policies reflect our more significant estimates and assumptions used in the preparation
of the consolidated financial statements.
Revenue Recognition
Our revenue is generated primarily from the sale of products and services. Product revenue
consists of sales of arrays, reagents, instrumentation and oligos. Service and other revenue
consists of revenue received for performing genotyping services, extended warranty sales and
revenue earned from milestone payments.
We recognize revenue in accordance with the guidelines established by SEC Staff Accounting
Bulletin (SAB) No. 104. Under SAB No. 104, revenue cannot be recorded until all of the following
criteria have been met: persuasive evidence of an arrangement exists; delivery has occurred or
services have been rendered; the sellers price to the buyer is fixed or determinable; and
collectibility is reasonably assured. All revenue is recorded net of any applicable allowances for
returns or discounts.
Revenue for product sales is recognized generally upon shipment and transfer of title to the
customer, provided no significant obligations remain and collection of the receivables is
reasonably assured. Revenue from the sale of instrumentation is recognized when earned, which is
generally upon shipment. However, in the case of BeadLabs, revenue is recognized upon the
completion of installation, training and customer acceptance. Revenue for genotyping services is
recognized when earned, which is generally at the time the genotyping analysis data is delivered to
the customer or as specific milestones are achieved.
In order to assess whether the price is fixed and determinable, we ensure there are no refund
rights. If payment terms are based on future performance, we defer revenue recognition until the
price becomes fixed and determinable. We assess collectibility based on a number of factors,
including past transaction history with the customer and the creditworthiness of the customer. If
we determine that collection of a payment is not reasonably assured, revenue recognition is
deferred until the time collection becomes reasonably assured, which is generally upon receipt of
payment. Changes in judgments and estimates regarding application of SAB No. 104 might result in a
change in the timing or amount of revenue recognized.
Sales of instrumentation generally include a standard one-year warranty. We also sell
separately priced maintenance (extended warranty) contracts, which are generally for one or two
years, upon the expiration of the initial warranty. Revenue for extended warranty sales is
recognized ratably over the term of the extended warranty period. Reserves are provided for
estimated product warranty expenses at the time the associated revenue is recognized. If we were to
experience an increase in warranty claims or if costs of servicing our warrantied products were
greater than our estimates, gross margins could be adversely affected.
While the majority of our sales agreements contain standard terms and conditions, we do enter
into agreements that contain multiple elements or non-standard terms and conditions. Emerging
Issues Task Force (EITF) No. 00-21, Revenue Arrangements with Multiple Deliverables, provides
guidance on accounting for arrangements that involve the delivery or performance of multiple
products, services, or rights to use assets within contractually binding arrangements. Significant
contract interpretation is sometimes required to determine the appropriate accounting, including
whether the deliverables specified in a multiple element arrangement should be treated as separate
units of accounting for revenue recognition purposes, and if so, how the price should be allocated
among
19
the deliverable elements, when to recognize revenue for each element, and the period over
which revenue should be recognized. We recognize revenue for delivered elements only when we
determine that the fair values of undelivered elements are known and there are no uncertainties
regarding customer acceptance.
Some of our agreements contain multiple elements that include milestone payments. Revenue from
a milestone achievement is recognized when earned, as evidenced by acknowledgement from our
collaborator, provided that (i) the milestone event is substantive and its achievability was not
reasonably assured at the inception of the agreement, (ii) the milestone represents the culmination
of an earnings process, (iii) the milestone payment is non-refundable and (iv) the performance
obligations for both us and our collaborators after the milestone achievement will continue at a
level comparable to the level before the milestone achievement. If all of these criteria are not
met, the milestone achievement is recognized over the remaining minimum period of our performance
obligations under the agreement. We defer non-refundable upfront fees received under our
collaborations and recognize them over the period the related services are provided or over the
estimated collaboration term using various factors specific to the collaboration. Advance payments
received in excess of amounts earned are classified as deferred revenue until earned.
Research revenue consists of amounts earned under research agreements with government grants,
which is recognized in the period during which the related costs are incurred.
Allowance for Doubtful Accounts
We maintain an allowance for doubtful accounts for estimated losses resulting from the
inability of our customers to make required payments. We evaluate the collectibility of our
accounts receivable based on a combination of factors. We regularly analyze customer accounts,
review the length of time receivables are outstanding and review historical loss rates. If the
financial condition of our customers were to deteriorate, additional allowances could be required.
Inventory Valuation
We record adjustments to inventory for potentially excess, obsolete or impaired goods in order
to state inventory at net realizable value. We must make assumptions about future demand, market
conditions and the release of new products that will supercede old ones. We regularly review
inventory for excess and obsolete products and components, taking into account product life cycle
and development plans, product expiration and quality issues, historical experience and our current
inventory levels. If actual market conditions are less favorable than anticipated, additional
inventory adjustments could be required.
Contingencies
We are subject to legal proceedings primarily related to intellectual property matters. Based
on the information available at the balance sheet dates and through consultation with our legal
counsel, we assess the likelihood of any adverse judgments or outcomes of these matters, as well as
the potential ranges of probable losses. If losses are probable and reasonably estimable, we will
record a liability in accordance with Statement of Financial Accounting Standards (SFAS) No. 5,
Accounting for Contingencies. Currently we have no such liabilities recorded. This may change in
the future depending upon new developments in each matter.
Goodwill and Intangible Asset Valuation
The purchase method of accounting for acquisitions requires extensive use of accounting
estimates and judgments to allocate the purchase price to the fair value of the net tangible and
intangible assets acquired, including in-process research and development (IPR&D). Goodwill and
intangible assets deemed to have indefinite lives are not amortized, but are subject to annual
impairment tests. The amounts and useful lives assigned to other acquired intangible assets impact
future amortization, and the amount assigned to IPR&D is expensed immediately. Determining the fair
values and useful lives of intangible assets especially requires the exercise of judgment. While
there are a number of different acceptable generally accepted valuation methods to estimate the
value of intangible assets acquired, we primarily use the discounted cash flow method. This method
requires significant management judgment to forecast the future operating results used in the
analysis. In addition, other significant estimates are required such as residual growth rates and
discount factors. The estimates we use to value and amortize intangible assets are consistent with
the plans and estimates that we use to manage our business and are based on available historical
information and industry estimates and averages. These judgments can significantly affect our net
operating results.
During fiscal 2001, we adopted SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No.
142 requires that goodwill and certain intangible assets be assessed for impairment using fair
value measurement techniques. If the carrying amount of a reporting
20
unit exceeds its fair value, then a goodwill impairment test is performed to measure the
amount of the impairment loss, if any. The goodwill impairment test compares the implied fair value
of the reporting units goodwill with the carrying amount of that goodwill. The implied fair value
of goodwill is determined in the same manner as in a business combination. Determining the fair
value of the implied goodwill is judgmental in nature and often involves the use of significant
estimates and assumptions. These estimates and assumptions could have a significant impact on
whether or not an impairment charge is recognized and also the magnitude of any such charge.
Estimates of fair value are primarily determined using discounted cash flows and market
comparisons. These approaches use significant estimates and assumptions, including projection and
timing of future cash flows, discount rates reflecting the risk inherent in future cash flows,
perpetual growth rates, determination of appropriate market comparables, and determination of
whether a premium or discount should be applied to comparables. It is reasonably possible that the
plans and estimates used to value these assets may be incorrect. If our actual results, or the
plans and estimates used in future impairment analyses, are lower than the original estimates used
to assess the recoverability of these assets, we could incur additional impairment charges. As of
July 2, 2006, we had $2.1 million of goodwill. This goodwill is reported as a separate line item in
the balance sheet. We have performed our annual test of goodwill and have determined there was
no impairment of goodwill as of May 1, 2006 or July 2, 2006.
Stock-Based Compensation
We account for stock-based compensation in accordance with SFAS No. 123R, Share-Based Payment.
Under the provisions of SFAS No. 123R, stock-based compensation cost is estimated at the grant date
based on the awards fair-value as calculated by the Black-Scholes-Merton (BSM) option-pricing
model and is recognized as expense over the requisite service period. The BSM model requires
various highly judgmental assumptions including volatility, forfeiture rates, and expected option
life. If any of these assumptions used in the BSM model change significantly, stock-based
compensation expense may differ materially in the future from that recorded in the current period.
Income Taxes
We record a tax provision for the anticipated tax consequences of the reported results of
operations. In accordance with SFAS No. 109, Accounting for Income Taxes, the provision for income
taxes is computed using the asset and liability method, under which deferred tax assets and
liabilities are recognized for the expected future tax consequences of temporary differences
between the financial reporting and tax bases of assets and liabilities, and for operating losses
and tax credit carryforwards. Deferred tax assets and liabilities are measured using the currently
enacted tax rates that apply to taxable income in effect for the years in which those tax assets
are expected to be realized or settled. As of July 2, 2006, we have recorded a valuation allowance
for the full amount of the resulting net deferred tax asset, as the future realization of the tax
benefit is uncertain.
21
Results of Operations
To enhance comparability, the following table sets forth our unaudited condensed consolidated
statements of operations for the specified reporting periods stated
as a percentage of total revenue.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Six Months Ended |
|
|
|
July 2, |
|
|
July 3, |
|
|
July 2, |
|
|
July 3, |
|
|
|
2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
|
Revenue: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Product revenue |
|
|
88 |
% |
|
|
80 |
% |
|
|
85 |
% |
|
|
80 |
% |
Service and other revenue |
|
|
11 |
|
|
|
18 |
|
|
|
14 |
|
|
|
18 |
|
Research revenue |
|
|
1 |
|
|
|
2 |
|
|
|
1 |
|
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue |
|
|
100 |
|
|
|
100 |
|
|
|
100 |
|
|
|
100 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Costs and expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of product revenue |
|
|
28 |
|
|
|
26 |
|
|
|
28 |
|
|
|
26 |
|
Cost of service and other revenue |
|
|
4 |
|
|
|
4 |
|
|
|
5 |
|
|
|
4 |
|
Research and development |
|
|
21 |
|
|
|
46 |
|
|
|
24 |
|
|
|
43 |
|
Selling, general and administrative |
|
|
31 |
|
|
|
41 |
|
|
|
35 |
|
|
|
40 |
|
Acquired in-process research and development |
|
|
|
|
|
|
100 |
|
|
|
|
|
|
|
51 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total costs and expenses |
|
|
84 |
|
|
|
217 |
|
|
|
92 |
|
|
|
164 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from operations |
|
|
16 |
|
|
|
(117 |
) |
|
|
8 |
|
|
|
(64 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest and other income, net |
|
|
2 |
|
|
|
|
|
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes |
|
|
18 |
|
|
|
(117 |
) |
|
|
10 |
|
|
|
(64 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision for income taxes |
|
|
2 |
|
|
|
|
|
|
|
1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) |
|
|
16 |
% |
|
|
(117 |
)% |
|
|
9 |
% |
|
|
(64 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
Three and Six Months Ended July 2, 2006 and July 3, 2005
Our fiscal year consists of 52 or 53 weeks ending the Sunday closest to December 31, with
quarters of 13 or 14 weeks ending the Sunday closest to March 31, June 30, and September 30. The
quarters and six months ended July 2, 2006 and July 3, 2005 were both 13 and 26 weeks,
respectively.
Revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
Six Months Ended |
|
|
|
|
|
|
July 2, |
|
|
July 3, |
|
|
Percentage |
|
|
July 2, |
|
|
July 3, |
|
|
Percentage |
|
|
|
2006 |
|
|
2005 |
|
|
Change |
|
|
2006 |
|
|
2005 |
|
|
Change |
|
|
|
(in thousands) |
|
|
|
|
|
|
(in thousands) |
|
|
|
|
|
Product revenue |
|
$ |
36,403 |
|
|
$ |
12,636 |
|
|
|
188 |
% |
|
$ |
59,664 |
|
|
$ |
24,801 |
|
|
|
141 |
% |
Service and other revenue |
|
|
4,795 |
|
|
|
2,783 |
|
|
|
72 |
% |
|
|
10,062 |
|
|
|
5,474 |
|
|
|
84 |
% |
Research revenue |
|
|
379 |
|
|
|
405 |
|
|
|
(6 |
)% |
|
|
953 |
|
|
|
697 |
|
|
|
37 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue |
|
$ |
41,577 |
|
|
$ |
15,824 |
|
|
|
163 |
% |
|
$ |
70,679 |
|
|
$ |
30,972 |
|
|
|
128 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue for the three and six months ended July 2, 2006 and July 3, 2005 was $41.6
million and $70.7 million, and $15.8 million and $31.0 million, respectively. This represents an
increase of $25.8 million, or 163%, and $39.7 million, or 128%, as compared to the three and six
months ended July 3, 2005.
22
Product revenue increased to $36.4 million and $59.7 million, respectively, for the three and
six month periods ended July 2, 2006, from $12.6 million and $24.8 million, respectively, for the
three and six months ended July 3, 2005. The increase in both the three and six months ended July
2, 2006 resulted primarily from higher consumable and BeadStation sales. In addition, in the three
months ended July 2, 2006, we had higher BeadLab sales. Growth in consumable sales was primarily
attributable to the shipment of our whole genome genotyping products, the HumanHap300 Bead Chip in
the first quarter of 2006 and the HumanHap550 Bead Chip in the second quarter of 2006. In addition,
growth in consumable revenue can be attributed to the growth in our installed base of BeadStations.
Consumable products constituted 57% and 60% of product revenue in the three and six months ended
July 2, 2006, as compared to 51% and 46% in the three and six months ended July 3, 2005. As of July
2, 2006, we have shipped a total of 165 BeadStations and 13 BeadLabs. We expect to see continued
growth in product revenue, which can be partially attributed to the launch of several new products,
as well as the growth of our installed base of BeadStations and BeadLabs.
Service and other revenue increased to $4.8 million and $10.0 million, respectively, for the
three and six months ended July 2, 2006, from $2.8 million and $5.5 million for the three and six
months ended July 3, 2005, due primarily to higher demand for both our Infinium and GoldenGate SNP
genotyping service contracts. We expect sales from SNP genotyping services contracts to fluctuate
on a quarterly basis, depending on the mix and number of contracts that are completed. The timing
of completion of a SNP genotyping services contract is highly dependent on the customers schedule
for selecting the SNPs and delivering their samples to us.
Government grants and other research funding remained flat at $0.4 million in the three months
ended July 2, 2006, compared to the three months ended July 3, 2005. For the six months ended July
2, 2006, government grants and research funding increased to $1.0 million from $0.7 million for the
six months ended July 3, 2005, due primarily to an increase in internal research spending for our
grants from the National Institutes of Health. We expect government grants to remain a small
percentage of total revenue in the future as our focus shifts to commercial operations.
Cost of Product and Service and Other Revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
Six Months Ended |
|
|
|
|
|
|
July 2, |
|
|
July 3, |
|
|
Percentage |
|
|
July 2, |
|
|
July 3, |
|
|
Percentage |
|
|
|
2006 |
|
|
2005 |
|
|
Change |
|
|
2006 |
|
|
2005 |
|
|
Change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of product revenue |
|
$ |
11,912 |
|
|
$ |
4,033 |
|
|
|
195 |
% |
|
$ |
19,588 |
|
|
$ |
7,970 |
|
|
|
146 |
% |
Cost of service and other revenue |
|
|
1,664 |
|
|
|
701 |
|
|
|
137 |
% |
|
|
3,281 |
|
|
|
1,363 |
|
|
|
141 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of product and service and other revenue |
|
$ |
13,576 |
|
|
$ |
4,734 |
|
|
|
187 |
% |
|
$ |
22,869 |
|
|
$ |
9,333 |
|
|
|
145 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of product and service and other revenue represents manufacturing costs incurred in the
production process, including component materials, assembly labor and overhead, installation,
warranty, packaging and delivery costs, as well as costs associated with performing genotyping
services on behalf of our customers. Costs related to research revenue are included in research and
development expense. Cost of product revenue increased to $11.9 million and $19.6 million for the
three and six months ended July 2, 2006, from $4.0 million and $8.0 million for the three and six
months ended July 3, 2005, primarily driven by higher consumable and instrument sales. Gross margin
on product revenue decreased to 67% for both the three and six months ended July 2, 2006, from 68%
for both the three and six months ended July 3, 2005, due primarily to a shift in consumable
product mix as well as lower margins associated with oligo products sold as a part of the
Invitrogen collaboration. The change in oligo gross margin is due to the fact that, under the
Invitrogen collaboration, we no longer sell oligos directly. As a result, the gross margin related
to this product line decreased; however, the net margin has increased due to the fact that most of
the sales and marketing expenses surrounding the oligo business have shifted to Invitrogen. In
addition, gross margin on product revenue was unfavorably impacted by a $0.3 and $0.5 million
increase in stock-based compensation expense recognized as cost of product revenue resulting from
the adoption of SFAS No. 123R for the three and six month periods ended July 2, 2006, respectively.
Cost of service and other revenue increased to $1.7 million and $3.3 million for the three and
six months ended July 2, 2006, from $0.7 million and $1.4 million for the three and six months
ended July 3, 2005, primarily due to higher service revenue. Gross margin on service and other
revenue decreased to 65% and 67% for the three and six months ended July 2, 2006, as compared to
75% for both the three and six months ended July 3, 2005, primarily due to a change in the mix of
projects. In addition, gross margin on service and other revenue was unfavorably impacted by a
$50,000 and $0.1 million increase in stock-based compensation expense recognized as cost of service
and other revenue resulting from the adoption of SFAS No. 123R for the three and six month periods
ended July 2, 2006, respectively.
23
We expect product mix to continue to affect our future gross margins. However, we expect our
market to become increasingly price competitive and our margins may fluctuate.
Research and Development Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
Six Months Ended |
|
|
|
|
July 2, |
|
July 3, |
|
Percentage |
|
July 2, |
|
July 3, |
|
Percentage |
|
|
2006 |
|
2005 |
|
Change |
|
2006 |
|
2005 |
|
Change |
|
|
(in thousands) |
|
|
|
|
|
(in thousands) |
|
|
|
|
Research and development |
|
$ |
8,587 |
|
|
$ |
7,318 |
|
|
|
17 |
% |
|
$ |
16,803 |
|
|
$ |
13,211 |
|
|
|
27 |
% |
Our research and development expenses consist primarily of salaries and other
personnel-related expenses, laboratory supplies and other expenses related to the design,
development, testing and enhancement of our products. We expense our research and development costs
as they are incurred.
Research and development expenses increased to $8.6 million and $16.8 million for the three
and months ended July 2, 2006, from $7.3 million and $13.2 million for the three and six months
ended July 3, 2005. Research and development expenses for the three and six months ended July 2,
2006 included stock-based compensation expenses resulting from the adoption of SFAS No. 123R
totaling $0.9 million and $1.8 million, respectively. Exclusive of these stock-based compensation
charges, the increase in research and development expenses for both the three and six month periods
ending July 2, 2006 is primarily due to the development of our recently-acquired VeraCode
technology purchased in conjunction with our acquisition of CyVera in April 2005. The VeraCode
technology is being developed to produce our BeadXpress system which is scheduled for commercial
product launch by the end of fiscal 2006. Research and development expenses related to the
VeraCode technology increased $0.7 million and $2.2 million for the three and six months ended July
2, 2006 as compared to the three and six months ended July 3, 2005. In addition, costs to support
our Oligator technology platform and BeadArray research activities decreased $0.3 million and $0.4
million, respectively, for the three and six months ended July 2, 2006 as compared to the three and
six months ended July 3, 2005.
We believe a substantial investment in research and development is essential to remaining
competitive and expanding into additional markets. Accordingly, we expect our research and
development expenses to increase in absolute dollars as we expand our product base.
Selling, General and Administrative Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
Six Months Ended |
|
|
|
|
July 2, |
|
July 3, |
|
Percentage |
|
July 2, |
|
July 3, |
|
Percentage |
|
|
2006 |
|
2005 |
|
Change |
|
2006 |
|
2005 |
|
Change |
|
|
(in thousands) |
|
|
|
|
|
(in thousands) |
|
|
|
|
Selling, general and administrative |
|
$ |
12,891 |
|
|
$ |
6,518 |
|
|
|
98 |
% |
|
$ |
25,025 |
|
|
$ |
12,553 |
|
|
|
99 |
% |
Our selling, general and administrative expenses consist primarily of personnel costs for
sales and marketing, finance, human resources, business development and general management, as well
as professional fees, such as expenses for legal and accounting services. Selling, general and
administrative expenses increased to $12.9 million and $25.0 million for the three and six months
ended July 2, 2006, from $6.5 million and $12.6 million for the three and six months ended July 3,
2005. Selling, general and administrative expenses for the three and six months ended July 2, 2006
included stock-based compensation expenses resulting from the adoption of SFAS No. 123R totaling
$2.1 million and $4.0 million. Exclusive of these stock-based compensation charges, our sales and
marketing expenses increased $1.7 million during the three months ended July 2, 2006, as compared
to the three months ended July 3, 2005, of which $1.5 million is attributable to personnel-related
expenses for the build-out of our sales force and customer support staff and $0.2 million is
attributable to other non-personnel-related costs, mainly sales and marketing activities for our
existing and new products. General and administrative expenses, exclusive of stock-based
compensation expense, increased $2.5 million in the three months ended July 2, 2006, as compared to
the three and six months ended July 3, 2005, of which $1.4 million is attributable to outside legal
costs related to the Affymetrix patent infringement litigation, $0.6 million is attributable to
higher personnel-related costs associated with the growth of our business and $0.5 million is
attributable to higher outside consulting costs.
Exclusive of stock-based compensation charges, sales and marketing expenses increased $3.0
million during the six months ended July 2, 2006 as compared to the six months ended July 3, 2005.
The increase is primarily due to increases of $2.6 million attributable to personnel-related
expenses and $0.4 million attributable to other non-personnel-related costs, mainly sales and
marketing activities for our existing and new products. Exclusive of stock-based compensation
charges, general and administrative expenses increased $5.5 million during the six months ended
July 2, 2006 as compared to the six months ended July 3, 2005, due to an increase of $3.2
24
million in outside legal costs related to the Affymetrix patent infringement litigation, an
increase of $1.4 million in personnel-related expenses and an increase of $0.9 million in outside
consulting costs.
We expect our selling, general and administrative expenses to accelerate in absolute dollars
as we expand our staff, add sales and marketing infrastructure, and incur increased litigation
costs and additional costs to support the commercialization and support of an increasing number of
products.
Interest and Other Income, Net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
Six Months Ended |
|
|
|
|
July 2, |
|
July 3, |
|
Percentage |
|
July 2, |
|
July 3, |
|
Percentage |
|
|
2006 |
|
2005 |
|
Change |
|
2006 |
|
2005 |
|
Change |
|
|
(in thousands) |
|
|
|
|
|
(in thousands) |
|
|
|
|
Interest and other income, net |
|
$ |
856 |
|
|
$ |
58 |
|
|
|
1,376 |
% |
|
$ |
1,424 |
|
|
$ |
253 |
|
|
|
463 |
% |
Interest income on our cash and cash equivalents and investments was $0.9 million and $1.4
million, respectively, for the three and six months ended July 2, 2006 as compared to $0.3 million
and $0.7 million for the three and six months ended July 3, 2005. The increase is primarily due to
higher cash balances from operating cash flow and proceeds from our May 2006 stock offering and
higher effective interest rates on our cash equivalents and short-term investments.
During the three months ended July 2, 2006, we recorded an immaterial amount of foreign
currency transaction losses as compared to approximately $0.3 million of foreign currency
transaction losses during the three months ended July 2, 2005. During the six months ended July 2,
2006, we recorded approximately $0.1 million in gains due to foreign currency transactions, as
compared to approximately $0.3 million in losses during the six months ended July 3, 2005. We
experienced more favorable foreign currency transaction gains in 2006 due primarily to the
strengthening of the Euro and the British Pound over the U.S. Dollar.
Provision for Income Taxes
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
Six Months Ended |
|
|
|
|
July 2, |
|
July 3, |
|
Percentage |
|
July 2, |
|
July 3, |
|
Percentage |
|
|
2006 |
|
2005 |
|
Change |
|
2006 |
|
2005 |
|
Change |
|
|
(in thousands) |
|
|
|
|
|
(in thousands) |
|
|
|
|
Provision for income taxes |
|
$ |
611 |
|
|
$ |
51 |
|
|
|
1,098 |
% |
|
$ |
742 |
|
|
$ |
102 |
|
|
|
627 |
% |
Our provision for income taxes consists of estimated foreign income tax expense,
totaling approximately $0.1 million and $0.2 million for the three and six months ended July 2,
2006 as compared to $51,000 and $0.1 million for the three and six months ended July 3, 2005. In
addition, we have estimated U.S. federal and state income taxes of $0.5 million for both the three
and six months ended July 2, 2006. Although profitable for the three and six months ended July 2,
2006, we have utilized our net operating loss carryforwards and as such, our federal and state
income taxes are minimal. As of January 1, 2006, we had net operating loss carryforwards for
federal and California tax purposes of approximately $103.7 million and $40.1 million,
respectively. In the first quarter of 2006, we completed a formal Section 382 and 383 analysis,
which resulted in approximately $0.2 million of our total net operating loss carryforwards being
limited.
25
Liquidity and Capital Resources
Cashflow (in thousands)
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
|
|
July 2, 2006 |
|
|
July 3, 2005 |
|
Net cash provided by (used in) operating activities |
|
$ |
17,263 |
|
|
$ |
(7,194 |
) |
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) investing activities |
|
|
(16,729 |
) |
|
|
3,628 |
|
|
|
|
|
|
|
|
|
|
Net cash provided by financing activities |
|
|
101,030 |
|
|
|
2,908 |
|
|
|
|
|
|
|
|
|
|
Effect of foreign currency translation on cash and cash equivalents |
|
|
(136 |
) |
|
|
435 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Increase (decrease) in cash and cash equivalents |
|
$ |
101,428 |
|
|
$ |
(223 |
) |
|
|
|
|
|
|
|
As of July 2, 2006, we had cash, cash equivalents and short-term investments of $156.8
million. We currently invest our funds in U.S. dollar-based, short-term money market mutual funds,
corporate bonds and treasury notes.
Our operating activities generated cash of $17.3 million in the six months ended July 2, 2006,
as compared to using cash of $7.2 million in the six months ended July 3, 2005. Net cash provided
by operating activities in the six months ended July 2, 2006 was primarily the result of a $12.6
million increase in accounts payable and accrued liabilities, net income of $6.7 million, $6.5
million related to non-cash stock compensation expense resulting from the adoption of SFAS No.
123R, a $3.2 million increase in long-term liabilities primarily related to payments received from
Genizon BioSciences Inc. recorded as deferred revenue and non-cash charges of $2.6 million for
depreciation and amortization. These sources were partially offset by a $8.0 million increase in
inventory, a $5.0 million increase in accounts receivable and a $1.2 million increase in prepaids
and other current assets. The accounts receivable and inventory increases are primarily due to our
significant sales growth of 128% in the six months ended July 2, 2006, as compared to the six
months ended July 3, 2005, which resulted from increased customer demand and our introduction
of new products and services into the market. The increase in prepaid expenses and other current
assets can be primarily associated with prepaid software licenses and prepaid rent. The increase
in accounts payable and accrued liability balances was primarily driven by increases in general
business activity associated with such sales growth, as well as expenses associated with the
expansion of our corporate infrastructure to accommodate this growth. Net cash used in operating
activities in the six months ended July 3, 2005 was primarily the result of a net loss of $19.8
million, a $5.9 million payment for a litigation judgment, a $1.3 million increase in inventory and
a $0.7 million increase in accounts receivable. These usages were reduced, in part, by a $0.5
million increase in accounts payable and accrued liabilities, a $2.4 million increase in long-term
liabilities primarily related to payments received from Invitrogen Corporation recorded as deferred
revenue, non-cash charges of $1.7 million for depreciation and amortization and a non-cash IPR&D
charge of $15.8 million related to the CyVera acquisition.
Our investing activities used cash of $16.7 million in the six months ended July 2, 2006, as
compared to cash provided by investing activities of $3.6 million in the six months ended July 3,
2005. Cash used in investing activities in the six months ended July 2, 2006 was due in part to the
payment of $9.1 million for the purchase of property and equipment primarily related to the
expansion of our manufacturing capacity. Our manufacturing capacity for BeadChips has increased
approximately tenfold over the level at the end of July 3, 2005. In addition, we used cash of
$4.5 million to purchase available-for-sale securities, as well as $3.0 million to purchase a
secured convertible debenture in Genizon BioSciences Inc. Cash provided by investing activities in
the six months ended July 3, 2005 was due to $12.2 million from the sale or maturity of
available-for-sale securities used to provide operating funds for our business, reduced by $6.2 million for the
purchase of property and equipment and $2.4 million paid for the acquisition of CyVera.
Our financing activities provided $101.0 million in the six months ended July 2, 2006, as
compared to $2.9 million in the six months ended July 3, 2005. Cash provided by financing
activities in the six months ended July 2, 2006 was primarily due to proceeds from a public stock
offering completed in May 2006, as well as proceeds from the issuance of common stock from option
exercises totaling $4.6 million. On May 24, 2006, we raised approximately $96.5 million, net of
offering expenses, through the sale of our common stock under a shelf registration statement. Cash
provided during the six months ended July 3, 2005 was due primarily to proceeds from the issuance
of common stock from option exercises.
26
We anticipate that our current cash and cash equivalents and income from operations will be
sufficient to fund our anticipated operating needs for the foreseeable future. Operating needs
include the planned costs to operate our business, including amounts required to fund working
capital and capital expenditures. At the present time, we have no material commitments for capital
expenditures. However, our future capital requirements and the adequacy of our available funds will
depend on many factors, including our ability to successfully commercialize our SNP genotyping and
gene expression systems and extensions to those products and to expand our oligos and SNP
genotyping services product lines, scientific progress in our research and development programs,
the magnitude of those programs, competing technological and market developments, the successful
resolution of our legal proceedings with Affymetrix, the success of our collaboration with
Invitrogen and the need to enter into collaborations with other companies or acquire other
companies or technologies to enhance or complement our product and service offerings. Therefore, we
may require additional funding in the future.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
Interest Rate Sensitivity
Our exposure to market risk for changes in interest rates relates primarily to our investment
portfolio. The fair market value of fixed rate securities may be adversely impacted by fluctuations
in interest rates while income earned on floating rate securities may decline as a result of
decreases in interest rates. Under our current policies, we do not use interest rate derivative
instruments to manage exposure to interest rate changes. We attempt to ensure the safety and
preservation of our invested principal funds by limiting default risk, market risk and reinvestment
risk. We mitigate default risk by investing in investment grade securities. We have historically
maintained a relatively short average maturity for our investment portfolio, and we believe a
hypothetical 100 basis point adverse move in interest rates along the entire interest rate yield
curve would not materially affect the fair value of our interest sensitive financial instruments.
Foreign Currency Exchange Risk
Although most of our revenue is denominated in U.S. dollars, some portions of our revenue are
realized in foreign currencies. As a result, our financial results could be affected by factors
such as changes in foreign currency exchange rates or weak economic conditions in foreign markets.
The functional currencies of our subsidiaries are their respective local currencies. Accordingly,
the accounts of these operations are translated from the local currency to the U.S. dollar using
the current exchange rate in effect at the balance sheet date for the balance sheet accounts, and
using the average exchange rate during the period for revenue and expense accounts. The effects of
translation are recorded in accumulated other comprehensive income as a separate component of
stockholders equity.
Exchange gains and losses arising from transactions denominated in foreign currencies are
recorded in operations. Periodically, we hedge significant foreign currency firm sales commitments
and accounts receivable with forward contracts. We only use derivative financial instruments to
reduce foreign currency exchange rate risks; we do not hold any derivative financial instruments
for trading or speculative purposes. Our forward exchange contracts have been designated as cash
flow hedges and to the extent effective, any unrealized gains or losses on these foreign currency
forward contracts are reported in other comprehensive income. Realized gains and losses for the
effective portion are recognized with the underlying hedge transaction. There were no forward
foreign currency forward contracts outstanding at July 2, 2006. The notional settlement amount of
the foreign currency forward contracts outstanding at January 1, 2006 was $0.1 million. As of
January 1, 2006, we had one foreign currency forward contract outstanding. This contract had a fair
value of $882, representing an unrealized gain, and was included in other current assets at January
1, 2006. For the six months ended July 2, 2006 and July 3, 2005, there were no amounts recognized
in earnings due to hedge ineffectiveness and we settled foreign exchange contracts of $0.1 million
and $0.3 million, respectively.
Item 4. Controls and Procedures.
We design our internal controls to provide reasonable assurance that (1) our transactions are
properly authorized; (2) our assets are safeguarded against unauthorized or improper use; and (3)
our transactions are properly recorded and reported in conformity with U.S. generally accepted
accounting principles. We also maintain internal controls and procedures to ensure that we comply
with applicable laws and our established financial policies.
We have carried out an evaluation, under the supervision and with the participation of our
management, including our principal executive officer and principal financial officer, of the
effectiveness of the design and operation of our disclosure controls and procedures (as defined in
Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, or the
Securities
27
Exchange Act), as of July 2, 2006. Based upon that evaluation, our principal executive officer
and principal financial officer concluded that, as of July 2, 2006, our disclosure controls and
procedures are effective in providing reasonable assurance that (a) the information required to be
disclosed by us in the reports that we file or submit under the Securities Exchange Act is
recorded, processed, summarized and reported within the time periods specified in the SECs rules
and forms, and (b) such information is accumulated and communicated to our management, including
our principal executive officer and principal financial officer, as appropriate to allow timely
decisions regarding required disclosure. In designing and evaluating our disclosure controls and
procedures, our management recognized that any controls and procedures, no matter how well designed
and operated, can provide only reasonable assurance of achieving the desired control objectives,
and our management have concluded that the disclosure controls and procedures are effective at the
reasonable assurance level.
An evaluation was also performed under the supervision and with the participation of our
management, including our chief executive officer and chief financial officer, of any change in our
internal control over financial reporting that occurred during the second quarter of 2006 and that
has materially affected, or is reasonably likely to materially affect, our internal control over
financial reporting. That evaluation did not identify any such change.
28
PART II OTHER INFORMATION
Item 1. Legal Proceedings.
We have incurred substantial costs in defending ourselves against patent infringement claims
and expect to devote substantial financial and managerial resources to protect our intellectual
property and to defend against the claims described below as well as any future claims asserted
against us.
Affymetrix Litigation
On July 26, 2004, Affymetrix, Inc. (Affymetrix) filed a complaint in the U.S. District Court
for the District of Delaware alleging that the use, manufacture and sale of our BeadArray products
and services, including our Array Matrix and BeadChip products, infringe six Affymetrix patents.
Affymetrix seeks an injunction against the sale of products, if any, that are determined to be
infringing these patents, unspecified monetary damages, interest and attorneys fees. On September
15, 2004, we filed our answer to Affymetrix complaint, seeking declaratory judgments from the
court that we do not infringe the Affymetrix patents and that such patents are invalid, and we
filed counterclaims against Affymetrix for unfair competition and interference with actual and
prospective economic advantage.
On February 15, 2006, the court allowed us to file our first amended answer and counterclaims,
adding allegations of inequitable conduct with respect to all six asserted Affymetrix patents,
violation of Section 2 of the Sherman Act, and unclean hands. In March 2006, Affymetrix notified us
of its decision to drop one of the six patents from the suit and of its intention to assert
infringement of certain additional claims of the remaining five patents. We have filed a motion to
preclude Affymetrix from asserting infringement of those additional claims. On April 20, 2006, the
court held a claims construction hearing. Rulings on our motion and on claims construction issues
could be issued at any time. On June 30, 2006, the court dismissed the patent Affymetrix had
sought to withdraw from the suit. Both parties filed summary judgment motions by the July 14, 2006
deadline established by the court. Trial is scheduled for October 16, 2006. We believe we have
meritorious defenses against each of the infringement claims alleged by Affymetrix and intend to
defend vigorously against this suit. However, we cannot be sure that we will prevail in this
matter. Any unfavorable determination, and in particular, any significant cash amounts required to
be paid by us or prohibition of the sale of our products and services, could result in a material
adverse effect on our business, financial condition and results of operations.
Dr. Anthony W. Czarnik v. Illumina, Inc.
On June 15, 2005, Dr. Anthony Czarnik, a former employee, filed suit against us in the U.S.
District Court for the District of Delaware seeking correction of inventorship of certain of our
patents and patent applications and alleging that we committed inequitable conduct and fraud in not
naming him as an inventor. Dr. Czarnik seeks an order requiring us and the U.S. Patent and
Trademark Office to correct the inventorship of certain of our patents and patent applications by
adding Dr. Czarnik as an inventor, a judgment declaring certain of our patents and patent
applications unenforceable, unspecified monetary damages and attorneys fees. On August 4, 2005, we
filed a motion to dismiss the complaint for lack of standing and failure to state a claim. While
this motion was pending, Dr. Czarnik filed an amended complaint on September 23, 2005. On October
7, 2005, we filed a motion to dismiss the amended complaint for lack of standing and failure to
state a claim. On July 13, 2006, the court granted our motion to dismiss the counts of Dr.
Czarniks complaint dealing with correction of inventorship in pending applications and inequitable
conduct. We have responded to the two remaining counts of the complaint (correction of
inventorship in issued patents, and fraud). There has been no trial date set for this case. We
believe we have meritorious defenses against this claim.
ITEM 1A. Risk Factors.
There have been no material changes to the risk factors previously disclosed in Item 1A of our
Annual Report on Form 10-K for the fiscal year ended January 1, 2006. Our business is subject to
various risks, including those described below. In addition to the other information included in
this Form 10-Q, the following issues could adversely affect our operating results or our stock
price.
Litigation or other proceedings or third party claims of intellectual property infringement could
require us to spend significant time and money and could prevent us from selling our products or
services or impact our stock price.
Our commercial success depends in part on our non-infringement of the patents or proprietary
rights of third parties and on our ability to protect our own intellectual property. As described
above under Item 1. Legal Proceedings, Affymetrix, Inc. filed a complaint against us in July
2004, alleging infringement of six of its patents.
29
On April 20, 2006, a claims construction hearing was held as part of this proceeding. We
expect a ruling related to the claims construction at any time. At issue is the meaning of 15 claim
terms. Depending on the courts ruling on each of the 15 terms or on a mix of rulings across all
the terms, an advantage (or at least the perception of an advantage) may be obtained by one party
or the other as to one or more issues. We are not able to predict the timing or the substance of
the courts rulings. Any adverse ruling or perception of an adverse ruling may have an adverse
impact on our stock price, and such impact may be disproportionate to the actual import of the
ruling itself.
Third parties, including Affymetrix, have asserted or may assert that we are employing their
proprietary technology without authorization. As we enter new markets, we expect that competitors
will likely assert that our products infringe their intellectual property rights as part of a
business strategy to impede our successful entry into those markets. In addition, third parties may
have obtained and may in the future obtain patents allowing them to claim that the use of our
technologies infringes these patents. We could incur substantial costs and divert the attention of
our management and technical personnel in defending ourselves against any of these claims.
Furthermore, parties making claims against us may be able to obtain injunctive or other relief,
which effectively could block our ability to further develop, commercialize and sell products, and
could result in the award of substantial damages against us. In the event of a successful claim of
infringement against us, we may be required to pay damages and obtain one or more licenses from
third parties, or be prohibited from selling certain products. We may not be able to obtain these
licenses at a reasonable cost, if at all. We could therefore incur substantial costs related to
royalty payments for licenses obtained from third parties, which could negatively affect our gross
margins. In that event, we could encounter delays in product introductions while we attempt to
develop alternative methods or products. Defense of any lawsuit or failure to obtain any of these
licenses on favorable terms could prevent us from commercializing products, and the prohibition of
sale of any of our products could materially affect our ability to grow and maintain profitability.
We expect intense competition in our target markets, which could render our products obsolete,
result in significant price reductions or substantially limit the volume of products that we sell.
This would limit our ability to compete and achieve and maintain profitability. If we cannot
continuously develop and commercialize new products, our revenue may not grow as intended.
We compete with life sciences
companies that design, manufacture and market instruments
for analysis of genetic variation and biological function and other applications using technologies
such as two-dimensional electrophoresis, capillary electrophoresis, mass spectrometry, flow
cytometry, microfluidics, next-generation DNA sequencing and mechanically deposited, inkjet and
photolithographic arrays. We anticipate that we will face increased competition in the future as
existing companies develop new or improved products and as new companies enter the market with new
technologies. The markets for our products are characterized by rapidly changing technology,
evolving industry standards, changes in customer needs, emerging competition, new product
introductions and strong price competition. For example, prices per data point for genotyping have
fallen significantly over the last two years and we anticipate that prices will continue to fall.
One or more of our competitors may render our technology obsolete or uneconomical. Some of our
competitors have greater financial and personnel resources, broader product lines, a more
established customer base and more experience in research and development than we do. Furthermore,
the life sciences and pharmaceutical companies, which are our potential customers and strategic
partners, could develop competing products. If we are unable to develop enhancements to our
technology and rapidly deploy new product offerings, our business, financial condition and results
of operations will suffer.
Our manufacturing capacity may limit our ability to sell our
products.
We are currently ramping up our
capacity to meet our anticipated demand for our products.
Although we have significantly increased our manufacturing capacity and we believe that we have
sufficient plans in place to ensure we have adequate capacity to meet our business plan in 2006,
there are uncertainties inherent in expanding our manufacturing capabilities and we may not be able
to increase our capacity in a timely manner. For example, manufacturing and product quality issues
may arise as we increase production rates at our manufacturing facility and launch new products. As
a result, we may experience difficulties in meeting customer, collaborator and internal demand, in
which case we could lose customers or be required to delay new product introductions, and demand
for our products could decline. Additionally, in the past, we have experienced variations in
manufacturing conditions that have temporarily reduced production yields. Due to the intricate
nature of manufacturing products that contain DNA, we may encounter similar or previously unknown
manufacturing difficulties in the future that could significantly reduce production yields, impact
our ability to launch or sell these products, or to produce them economically, prevent us from
achieving expected performance levels or cause us to set prices that hinder wide adoption by
customers.
30
We have not yet achieved annual operating profitability and
may not be able to do so.
We have incurred net losses each
year since our inception. As of July 2, 2006, our
accumulated deficit was $137.9 million. Although we were profitable for the three and six months
ended July 2, 2006, we may not be profitable for the year ended December 31, 2006, due in part to
the impact of SFAS No. 123R, which is expected to add additional expense of $13.0 million to $15.0
million in 2006. Our ability to achieve and sustain annual profitability will depend, in part, on
the rate of growth, if any, of our revenue and on the level of our expenses. We expect to continue
incurring significant expenses related to research and development, sales and marketing efforts to
commercialize our products and the continued development of our manufacturing capabilities. In
addition, we expect that our selling and marketing expenses will increase at a higher rate in the
future as a result of the launch of new products. As a result, we expect that our operating
expenses will increase significantly as we grow and, consequently, we will need to generate
significant additional revenue to achieve and sustain profitability. Even if we maintain
profitability, we may not be able to increase profitability on a quarterly basis.
Any inability to adequately protect our proprietary
technologies could harm our competitive
position.
Our success will depend in part on
our ability to obtain patents and maintain adequate
protection of our intellectual property in the United States and other countries. If we do not
protect our intellectual property adequately, competitors may be able to use our technologies and
thereby erode our competitive advantage. The laws of some foreign countries do not protect
proprietary rights to the same extent as the laws of the United States, and many companies have
encountered significant problems in protecting their proprietary rights abroad. These problems can
be caused by the absence of rules and methods for defending intellectual property rights.
The patent positions of companies
developing tools for the life sciences and
pharmaceutical industries, including our patent position, generally are uncertain and involve
complex legal and factual questions. We will be able to protect our proprietary rights from
unauthorized use by third parties only to the extent that our proprietary technologies are covered
by valid and enforceable patents or are effectively maintained as trade secrets. We intend to apply
for patents covering our technologies and products, as we deem appropriate. However, our patent
applications may be challenged and may not result in issued patents or may be invalidated or
narrowed in scope after they are issued. Questions as to inventorship may also arise. For example,
a former employee recently filed a complaint against us, claiming he is entitled to be named as
joint inventor of certain of our U.S. patents and pending U.S. and foreign patent applications, and
seeking a judgment that the related patents and applications are unenforceable. Any finding that
our patents and applications are unenforceable could harm our ability to prevent others from
practicing the related technology, and a finding that others have inventorship rights to our
patents and applications could require us to obtain certain rights to practice related
technologies, which may not be available on favorable terms, if at all.
In addition, our existing patents
and any future patents we obtain may not be
sufficiently broad to prevent others from practicing our technologies or from developing competing
products. There also is risk that others may independently develop similar or alternative
technologies or design around our patented technologies. Also, our patents may fail to provide us
with any competitive advantage. We may need to initiate additional lawsuits to protect or enforce
our patents, or litigate against third party claims, which would be expensive and, if we lose, may
cause us to lose some of our intellectual property rights and reduce our ability to compete in the
marketplace. Furthermore, these lawsuits may divert the attention of our management and technical
personnel.
We also rely upon trade secret
protection for our confidential and proprietary
information. We have taken security measures to protect our confidential information. These
measures, however, may not provide adequate protection for our trade secrets or other confidential
information. Among other things, we seek to protect our trade secrets and confidential information
by entering into confidentiality agreements with employees, collaborators and consultants.
Nevertheless, employees, collaborators or consultants may still disclose our confidential
information, and we may not otherwise be able to effectively protect our trade secrets.
Accordingly, others may gain access to our confidential information, or may independently develop
substantially equivalent information or techniques.
If we are unable to find third-party manufacturers to
manufacture components of our products,
we may not be able to launch or support our products in a timely manner, or at all.
The nature of our products requires
customized components that currently are available
from a limited number of sources. For example, we currently obtain the fiber optic bundles and
BeadChip slides included in our products from single vendors. If we are unable to secure a
sufficient supply of those or other product components, we will be unable to meet demand for our
products. We
31
may need to enter into contractual relationships with
manufacturers for commercial-scale
production of some of our products, or develop these capabilities internally, and we cannot assure
you that we will be able to do this on a timely basis, for sufficient quantities or on commercially
reasonable terms. Accordingly, we may not be able to establish or maintain reliable, high-volume
manufacturing at commercially reasonable costs.
We have a limited history of commercial sales of systems
and consumable products, and our
success depends on our ability to develop commercially successful products and on market acceptance
of our new and relatively unproven technologies.
We may not possess all of the
resources, capability and intellectual property necessary
to develop and commercialize all the products or services that may result from our technologies.
Sales of our genotyping and gene expression systems only began in 2003, and some of our other
technologies are in the early stages of commercialization or are still in development. You should
evaluate us in light of the uncertainties and complexities affecting similarly situated companies
developing tools for the life sciences and pharmaceutical industries. We must conduct a substantial
amount of additional research and development before some of our products will be ready for sale,
and we currently have fewer resources available for research and development activities than many
of our competitors. We may not be able to develop or launch new products in a timely manner, or at
all, or they may not meet customer requirements or be of sufficient quality or at a price that
enables us to compete effectively in the marketplace. Problems frequently encountered in connection
with the development or early commercialization of products and services using new and relatively
unproven technologies might limit our ability to develop and successfully commercialize these
products and services. In addition, we may need to enter into agreements to obtain intellectual
property necessary to commercialize some of our products or services, which may not be available on
favorable terms, or at all.
Historically, life sciences and
pharmaceutical companies have analyzed genetic variation
and biological function using a variety of technologies. In order to be successful, our products
must meet the commercial requirements of the life sciences and pharmaceutical industries as tools
for the large-scale analysis of genetic variation and biological function.
Market acceptance will depend on
many factors, including:
|
|
|
our ability to demonstrate to potential customers the benefits and cost effectiveness of our
products and services relative to others available in the market; |
|
|
|
|
the extent and effectiveness of our efforts to market, sell and distribute our products; |
|
|
|
|
our ability to manufacture products in sufficient quantities with acceptable quality and reliability
and at an acceptable cost; |
|
|
|
|
the willingness and ability of customers to adopt new technologies requiring capital investments; and |
|
|
|
|
the extended time lag and sales expenses involved between the time a potential customer is contacted
on a possible sale of our products and services and the time the sale is consummated or rejected by
the customer. |
Our sales, marketing and technical support organization may
limit our ability to sell our
products.
We currently have fewer resources
available for sales and marketing and technical support
services as compared to some of our primary competitors. In order to effectively commercialize our
genotyping and gene expression systems and other products to follow, we will need to expand our
sales, marketing and technical support staff both domestically and internationally. We may not be
successful in establishing or maintaining either a direct sales force or distribution arrangements
to market our products and services. In addition, we compete primarily with much larger companies
that have larger sales and distribution staffs and a significant installed base of products in
place, and the efforts from a limited sales and marketing force may not be sufficient to build the
market acceptance of our products required to support continued growth of our business.
If we are unable to develop and maintain operation of our
manufacturing capability, we may not
be able to launch or support our products in a timely manner, or at all.
We currently possess only one
facility capable of manufacturing our products and services
for both sale to our customers and internal use. If a natural disaster were to significantly damage
our facility or if other events were to cause our operations to fail, these events could prevent us
from developing and manufacturing our products and services. Also, many of our manufacturing
processes are
32
automated and are controlled by our custom-designed Laboratory
Information Management
System (LIMS). Additionally, as part of the decoding step in our array manufacturing process, we
record several images of each array to identify what bead is in each location on the array and to
validate each bead in the array. This requires significant network and storage infrastructure. If
either our LIMS system or our networks or storage infrastructure were to fail for an extended
period of time, it would adversely impact our ability to manufacture our products on a timely basis
and may prevent us from achieving our expected shipments in any given period.
The growth and profitability of our oligo business depends
on a third party.
In December 2004, we entered
into a collaboration agreement with Invitrogen to sell and
market our oligos worldwide. Under the terms of the collaboration, Invitrogen is responsible for
sales, marketing and technical support, while we are responsible for the manufacture of the
collaboration products. As Invitrogen is solely responsible for the sales and marketing support of
the collaboration, our continued growth and profitability related to these products depends on the
extent to which Invitrogen is successful in penetrating the oligo market and selling the
collaboration products. If Invitrogen is not successful in selling the collaboration products, our
business, financial condition and results of operations may suffer.
We may encounter difficulties in integrating recently
completed or future acquisitions that
could adversely affect our business.
In April 2005, we acquired
CyVera Corporation and may in the future acquire technology,
products or businesses related to our current or future business. We have limited experience in
acquisition activities and may have to devote substantial time and resources in order to complete
acquisitions. Further, these potential acquisitions entail risks, uncertainties and potential
disruptions to our business. For example, we may not be able to successfully integrate a companys
operations, technologies, products and services, information systems and personnel into our
business. An acquisition may further strain our existing financial and managerial resources, and
divert managements attention away from our other business concerns. In connection with the CyVera
acquisition, we assumed certain liabilities and hired certain employees of CyVera, which is
expected to continue to result in an increase in our research and development expenses and capital
expenditures. There may also be unanticipated costs and liabilities associated with an acquisition
that could adversely affect our operating results. To finance any acquisitions, we may choose to
issue shares of our common stock as consideration, which would result in dilution to our
stockholders. Additionally, an acquisition may have a substantial negative impact on near-term
expected financial results.
We may encounter difficulties in managing our growth. These
difficulties could increase our
losses.
We expect to experience rapid and
substantial growth in order to achieve our operating
plans, which will place a strain on our human and capital resources. If we are unable to manage
this growth effectively, our losses could increase. Our ability to manage our operations and growth
effectively requires us to continue to expend funds to enhance our operational, financial and
management controls, reporting systems and procedures and to attract and retain sufficient numbers
of talented employees. If we are unable to scale up and implement improvements to our manufacturing
process and control systems in an efficient or timely manner, or if we encounter deficiencies in
existing systems and controls, then we will not be able to make available the products required to
successfully commercialize our technology. Failure to attract and retain sufficient numbers of
talented employees will further strain our human resources and could impede our growth.
We may need additional capital in the future. If additional
capital is not available on
acceptable terms, we may have to curtail or cease operations.
Our future capital requirements will
be substantial and will depend on many factors
including our ability to successfully market our genetic analysis systems and services, the need
for capital expenditures to support and expand our business, the progress and scope of our research
and development projects, the development and enforcement of our patent portfolio, the outcome of
our legal proceedings with Affymetrix, the defense of any future litigation involving us and the
need to enter into collaborations with other companies or acquire other companies or technologies
to enhance or complement our product and service offerings. We anticipate that our current cash and
cash equivalents, revenue from sales and funding from grants will be sufficient to fund our
anticipated operating needs, barring unforeseen developments. However, this expectation is based
upon our current operating plan, which may change as a result of many factors. Consequently, we may
need additional funding in the future. Our inability to raise capital would seriously harm our
business and product development efforts. In addition, we may choose to raise additional capital
due to market conditions or
strategic considerations, such as an acquisition, even if we believe we have sufficient funds
for our current or future operating plans. To the extent that additional capital is raised through
the sale of equity, the issuance of these securities could result in dilution to our stockholders.
33
We have no credit facility or
committed sources of capital available as of July 2, 2006.
To the extent operating and capital resources are insufficient to meet future requirements, we will
have to raise additional funds to continue the development and commercialization of our
technologies. These funds may not be available on favorable terms, or at all. If adequate funds are
not available on attractive terms, we may be required to curtail operations significantly or to
obtain funds by entering into financing, supply or collaboration agreements on unattractive terms.
If we lose our key personnel or are unable to attract and
retain additional personnel, we may
be unable to achieve our goals.
We are highly dependent on our
management and scientific personnel, including Jay
Flatley, our president and chief executive officer, and John Stuelpnagel, our senior vice president
and chief operating officer. The loss of their services could adversely impact our ability to
achieve our business objectives. We will need to hire additional qualified personnel with expertise
in molecular biology, chemistry, biological information processing, sales, marketing and technical
support. We compete for qualified management and scientific personnel with other life science
companies, universities and research institutions, particularly those focusing on genomics.
Competition for these individuals, particularly in the San Diego area, is intense, and the turnover
rate can be high. Failure to attract and retain management and scientific personnel would prevent
us from pursuing collaborations or developing our products or technologies.
Our planned activities will require
additional expertise in specific industries and areas
applicable to the products developed through our technologies, including the life sciences and
healthcare industries. Thus, we will need to add new personnel, including management, and develop
the expertise of existing management. The failure to do so could impair the growth of our business.
A significant portion of our sales are to international
customers.
Approximately 43% and 40% of our
revenue for the three months ended July 2, 2006 and July
3, 2005, respectively, was derived from customers outside the United States. Approximately 44% and
41% of our revenue for the six months ended July 2, 2006 and July 3, 2005, respectively, was
derived from customers outside the United States. We intend to continue to expand our international
presence and export sales to international customers and we expect the total amount of non-U.S.
sales to continue to grow. Export sales entail a variety of risks, including:
|
|
|
currency exchange fluctuations; |
|
|
|
|
unexpected changes in legislative or regulatory requirements of foreign countries into which we import our
products; |
|
|
|
|
difficulties in obtaining export licenses or in overcoming other trade barriers and restrictions resulting in
delivery delays; and |
|
|
|
|
significant taxes or other burdens of complying with a variety of foreign laws. |
In addition, sales to international
customers typically result in longer payment cycles
and greater difficulty in accounts receivable collection. We are also subject to general
geopolitical risks, such as political, social and economic instability and changes in diplomatic
and trade relations. One or more of these factors could have a material adverse effect on our
business, financial condition and operating results.
Our success depends upon the continued emergence and growth
of markets for analysis of genetic
variation and biological function.
We design our products primarily for
applications in the life sciences and pharmaceutical
industries. The usefulness of our technology depends in part upon the availability of genetic data
and its usefulness in identifying or treating disease. We are initially focusing on markets for
analysis of genetic variation and biological function, namely SNP genotyping and gene expression
profiling. Both of these markets are new and emerging, and they may not develop as quickly as we
anticipate, or reach their full potential. Other
methods of analysis of genetic variation and biological function may emerge and displace the
methods we are developing. Also, researchers may not seek or be able to convert raw genetic data
into medically valuable information through the analysis of genetic variation and biological
function. In addition, factors affecting research and development spending generally, such as
changes in the regulatory environment affecting life sciences and pharmaceutical companies, and
changes in government programs that provide
34
funding to companies and research institutions, could
harm our business. If useful genetic data is not available or if our target markets do not develop
in a timely manner, demand for our products may grow at a slower rate than we expect, and we may
not be able to achieve or sustain annual profitability.
We expect that our results of operations will fluctuate.
This fluctuation could cause our
stock price to decline.
Our revenue is subject to
fluctuations due to the timing of sales of high-value products
and services projects, the impact of seasonal spending patterns, the timing and size of research
projects our customers perform, changes in overall spending levels in the life sciences industry,
the timing and amount of government grant funding programs and other unpredictable factors that may
affect customer ordering patterns. Given the difficulty in predicting the timing and magnitude of
sales for our products and services, we may experience quarter-to-quarter fluctuations in revenue
resulting in the potential for a sequential decline in quarterly revenue. A large portion of our
expenses are relatively fixed, including expenses for facilities, equipment and personnel. In
addition, we expect operating expenses to continue to increase significantly. Accordingly, if
revenue does not grow as anticipated, we may not be able to achieve and maintain annual profitability. Any
significant delays in the commercial launch of our products, unfavorable sales trends in our
existing product lines, or impacts from the other factors mentioned above, could adversely affect
our revenue growth in 2006 or cause a sequential decline in quarterly revenues. Due to the
possibility of fluctuations in our revenue and expenses, we believe that quarterly comparisons of
our operating results are not a good indication of our future performance. If our operating results
fluctuate or do not meet the expectations of stock market analysts and investors, our stock price
probably would decline.
Item 2. Unregistered Sales of Equity Securities and Use
of Proceeds.
None.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security
Holders.
The registrants 2006 Annual
Meeting of Stockholders was held on June 8, 2006. Directors
Karin Eastham, Jay T. Flatley and William H. Rastetter, Ph.D. will continue to serve as directors
with terms expiring at the 2009 Annual Meeting of Stockholders. The Registrants stockholders
ratified the appointment of Ernst & Young LLP as the Companys independent auditors for the year
2006.
The following numbers of votes were
cast for and to withhold authority to vote for the
election of Karin Eastham, elected director at the meeting:
For: 36,582,315
Withhold
Authority: 2,345,768
The following numbers of votes were
cast for and to withhold authority to vote for the
election of Jay T. Flatley, elected director at the meeting:
For:
37,631,400 Withhold
Authority: 1,296,683
The following numbers of votes were
cast for and to withhold authority to vote for the
election of William H. Rastetter, Ph.D., elected director at the meeting:
For:
36,951,828
Withhold Authority:
1,976,255
The vote on ratification of the
appointment of Ernst & Young LLP as the Companys independent auditors for the year 2006:
For:
38,801,994
Against:
117,237
Abstain:
8,852
Non Votes:
0
Item 5. Other Information.
None.
35
Item 6. Exhibits.
|
|
|
Exhibit Number |
|
Description of Document |
3.2
|
|
Bylaws. |
|
|
|
10.32
|
|
Joint Development and Licensing Agreement dated May 15, 2006 between deCODE genetics,
ehf.
and Registrant (confidential treatment has been requested with respect to certain portions of this exhibit). |
|
|
|
31.1
|
|
Certification of Jay T. Flatley pursuant to Section 302 of the Sarbanes-Oxley Act of
2002. |
|
|
|
31.2
|
|
Certification of Christian O. Henry pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002. |
|
|
|
32.1
|
|
Certification of Jay T. Flatley pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002. |
|
|
|
32.2
|
|
Certification of Christian O. Henry pursuant to 18 U.S.C. Section 1350, as adopted
pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002. |
36
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused
this report to be signed on its behalf by the undersigned thereunto duly authorized.
|
|
|
|
|
|
|
Illumina, Inc. |
|
|
|
|
|
|
|
|
|
(Registrant) |
|
|
|
|
|
|
|
Date: August 2, 2006
|
|
/s/ CHRISTIAN O. HENRY |
|
|
|
|
|
|
|
|
|
Christian O. Henry |
|
|
|
|
Vice President and Chief Financial Officer |
|
|
37