Zymergen Inc. (ZY) Q1 2022 Earnings Call Transcript

Zymergen Inc. (ZY)
Q1 2022 Earnings Call
May 12, 2022, 4:30 p.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good day and thank you for standing by. Welcome to the Zymergen first quarter 2021 financial results call. [Operator instructions] Please be advised that this call is being recorded. If you require any further assistance, I would now like to hand the conference over to your host today, Carrie Mendivil from investor relations.

You may begin.

Carrie Mendivil -- Investor Relations

Thank you. Earlier today, Zymergen released preliminary substantial results for the quarter ended March 31, 2022. If you haven't received this news release or if you'd like to be added to the company's distribution list, please send an email to investors @zymergen.com. Joining me today from Zymergen are Jay Flatley, acting chief executive officer, and Ena Singh, chief financial officer.

Before we begin, I'd like to remind you that management will make statements during this call that are forward-looking statements under the meaning of federal securities laws. These statements involve material risks and uncertainties that could cause actual results or events to materially differ from those anticipated. Additional information regarding these risks and uncertainties appear in the section entitled forward-looking statements in the press release Zymergen issued today. For a more complete list description, please see the risk factors section of the company's latest 10-K and other filings with the Securities and Exchange Commission, including ones filed with Form 10-Q for the first quarter of 2022.

Except as required by law, Zymergen disclaims any intention or obligation to update or revise any financial or product pipeline objections or other forward-looking statements, whether because of new information, future events or otherwise. This conference call contains time-sensitive information and is accurate only as of the live broadcast, May 12, 2022. In addition, please note that the first quarter financial results discussed today are preliminary and estimated and are subject to the computation and finalization of Zymergen's financial and accounting [inaudible ]. With that, I'd like to turn the call over to Jay.

Jay Flatley -- Chief Executive Officer

Thanks, Carrie, and good afternoon, everyone. Today, I'll provide a brief update on progress against a few of our key programs, and then Ena will also share a more detailed review of our financials including our preliminary first quarter 2022 results and our forecasted cash runway. Let me begin by reiterating Zymergen's mission to partner with nature to make better products, a better way for a better world. We committed in August of last year to rapidly transform how Zymergen was organized, managed and operated.

That included restructuring and rightsizing our teams, instituting a robust product development process, trimming and refocusing and balancing our product pipeline, creating a three-year strategic plan and extending our cash runway. I've been very pleased with our team's performance to get the new Zymergen operating system fully implemented. This infrastructure provides the foundation for great execution to deliver products in our three businesses of advanced materials, drug discovery and automation. As a reminder, our strategy is distinctly committed to bringing products to the market, designing and producing molecules, microbes and materials for diverse end markets.

Those markets include four in advanced materials, namely agriculture, water repellency, advanced polymers and enzymes. Drug, where we leverage our metagenomic database to uncover molecular matter that inhibit targets of interest focused initially in oncology and on partnerships with biopharmaceutical companies. And we began to offer our proprietary automation technology outside of Zymergen in January of this year. As I mentioned earlier, one of the key transformations we made was to create a nimble, disciplined product development process.

We were fully implemented by the end of last year, with all programs operating under this structure. Since year-end, we've had three programs advance the phase, and we've promoted two research programs into our product development pipeline, both of which are in one of the four market segments that we've been targeting. Our nitrogen fixation program is delivering engineered microbes to a partner that replaces a requirement to use nitrogen fertilizer. The production of this fertilizer consumes 1% to 2% of the world's energy with field runoff that creates algae blooms and dead zones and waterways around the globe.

We believe that microbes can ultimately meet all of corn's nitrogen needs and can be expanded to include additional cereal crops such as wheat and sorghum, as well as other nutrients. To ensure that microbes will have consistent performance in a variable agricultural environment, we measure strain performance in a suite of assays, each of them representing very specific conditions. This is a process of iterative improvement. Our Gen 1 microbes validated the predictive power of our lab assays.

Based on that, we're quite optimistic about the Gen 2 microbes being planted now and we're already hard at work on Gen 3 for 2023 trials. Our best Gen 3 microbes are early in development, but the best variance is already showing over a 50% improvement against the commercial benchmark under defined lab conditions. And this is after only a few months of work. It's an excellent example of how powerful the iterative learning cycle is that can be implemented using our technology platform.

We expect this annual development and test cycle to continue over at least the next few years with continuous improvement in performance features. Next, I'd like to update you on our water repellancy program. The first market segment we're exploring is coated straws that improve the mouthfeel and key performance characteristics over paper. We recently demonstrated the successful conversion of our coated paper into an end product manufactured on the actual production line of a potential customer.

These included the typical straws used in the fast food industry, as well as straws that are used in plastic wraps on juice boxes. In our research group, we're exploring a family of other uses for our water repellency technology in packaging applications, as well as in new market segments. Finally, I'd like to talk about our progress in automation. We're increasingly excited about the commercial potential of our automation technology.

Having built and operated a large-scale system for years internally, we have a unique and informed view of the challenges that need to be solved to fully automate, maintain, scale and reconfigure such a system. As a reminder, our design is based on building blocks we call RACs, the Reconfigurable Automation Carts. These modules house units of automation and contain third-party equipment such as robot bids, plate readers, PCR machines and many other devices. These cards literally plug together to form a raceway that moves plates from station to station and are controlled by our cloud-native automation control software called ACS for which we've recently filed a patent.

ACS schedules workflows, which can be interleaved, collect scientific and process data on instrument performance, utilization and monitors progress all remotely. A collection of RACs can scale to any size depending upon throughput and application and can be reconfigured in a matter of hours. We've seen very strong interest from potential customers that run the gamut from start-ups to very large pharmaceutical and chemical companies. Our pipeline of approximately 30 prospects has given us confidence that our products can address real market needs that are not unique to Zymergen.

To give you a sense of the value of this pipeline, a typical 10 RAC system would cost somewhere between $1 million and $2.5 million, depending upon instrument mix with approximately $400,000 in annual software and support costs. I would add that this prospect list was generated solely by word of mouth as we've done no promotion nor have we hired any sales team. To conclude, I wanted to take a minute to illustrate technical productivity of our teams. One measure of that is the quality and quantity of intellectual property patents that we create and ultimately get issued.

We have approximately 98 issued or allowed patents and roughly 261 active or pending applications across 110 families. While the depth and breadth of this portfolio is impressive, perhaps more important are our foundational patents, including one we hold, titled High Throughput Genomic Engineering Platform. This IP establishes a broad territorial fence around our platform. To sum up, I'm pleased with the execution of our team since the start of this year and look forward to updating you on our progress.

With that, I'll turn it over to Ena to update you on our financials.

Ena Singh -- Chief Financial Officer

Thank you. I will now take you through our preliminary results for the first quarter of 2022. Total revenue was $4.8 million, primarily from R&D service agreements and collaboration revenue. This compares to $3.7 million in the same quarter of 2021.

The increase in revenue was driven by a new R&D service contract obtained through our acquisition of Lodo Therapeutics in May 2021, as well as to the timing of deliverables on other R&D service agreements. In addition, Total revenue for the first quarter of 2022 includes $1.7 million of onetime revenue with the recognition of previously deferred revenue related to the termination of a legacy R&D service agreement as we rotate to focus on our product pipeline. Total operating expenses, including cost of service revenue for the first quarter of 2022 was $68.4 million. a decrease of 22% compared to $87.1 million in the first quarter of 2021.

First quarter operating expenses decreased by 8% compared to $74.3 million in the fourth quarter of 2021. Cost of service revenues for the first quarter 2022 were $12.5 million, a decrease of 41% compared to $21.1 million in the same period of the prior year. The decrease from the same period in the prior year was primarily driven by lower headcount as a result of our reductions in force. Cost of service revenue increased 30%, compared to the fourth quarter of 2021, primarily as a result of annual salary increases that became effective in Q1 2022 and additional stock compensation costs.

R&D expenses for the first quarter of 2022 were $28.7 million, a decrease of 28% compared to $39.8 million in the same period of the prior year and a decrease of 4% compared to the fourth quarter of 2021. The decrease from the same period in the prior year was primarily driven by the slowdown in spending on canceled programs and lower headcount as a result of our reductions in force. Sales and marketing expenses for the first quarter of 2022 were $3.6 million, a decrease of 47%, compared to $6.9 million in the same period of the prior year and a decrease of 26% compared to the fourth quarter of 2021. The decrease from prior year was primarily driven by reduced spending on public relations and brand marketing activities and lower headcount as a result of our reduction in force.

General and administrative expenses for the first quarter of 2022 were $23.7 million, up 23% compared to $19.3 million in the first quarter of 2021 and up 7% from $22.1 million in the fourth quarter of 2021. The increase versus the prior year was primarily driven by the increase in stock compensation costs related to our employee retention efforts. Net loss in the first quarter of 2022 was $72.1 million compared to $84.6 million in the first quarter of 2021 and $78.1 million in the fourth quarter of 2021. We ended the quarter with $337 million in cash and cash equivalents and $11.5 million in restricted cash.

Looking ahead in 2022, we continue to expect product revenue to be immaterial this year and continue to prioritize closely managing expenses. We expect total operating expenses, including cost of service revenue in our second quarter of 2022 to be in the range of $75 million to $79 million due to deferred spend from the first quarter of 2022. Thereafter, we continue to expect our total operating expenses run rate to be in the range of $70 million to $75 million. This includes $14 million to $19 million of stock-based compensation, depreciation, and amortization expenses.

As a result of cost savings related to our restructuring efforts, we believe that we have sufficient cash to fund operations to mid-2023. However, the quarterly cash flow will be uneven due to capital expenditures on leasehold improvements through the third quarter of 2022, and the repayment of our Perceptive debt in the second quarter of 2022. With that, I would like to turn the call back over to Jay for closing comments.

Jay Flatley -- Chief Executive Officer

Thank you, Ena. To close, I'd like to reiterate how excited I am about the progress that we have made. We're intensely focused on our strategy of pursuing continuous launches of breakthrough products. We have an enormous TAM and a powerful technology platform to create novel products.

I hope it's clear how we're managing the business to create multiple successful products and that we have an engine feeding that pipeline with new opportunities. It is our burden to demonstrate that we can execute technically and commercially against our plans. The market is hungry for a new generation of technology that will transform the way materials are manufactured. We're confident that Zymergen will be a significant contributor to that future.

We look forward to updating you on our progress. With that, we'll now open it up for questions. Operator?

Questions & Answers:

Operator

[Operator instructions] And our first question comes from Matt Sykes from Goldman Sachs. Your line is now open.

Matt Sykes -- Goldman Sachs -- Analyst

Hi. Thanks for taking my questions. Hi, Jay. Hi, Ena.

Maybe just on the first question, just, Jay, for you on automation, you talked a bit about it in the past. I think you've given some detail in some of your public commentary about the size of customers and prospects. Would love to hear in terms of types of customers, specific end markets. Where is it really resonating? And on a geographic basis, I'm assuming much of this in the U.S., but maybe talk a little bit more about where you see the funnel for automation in terms of end markets, geographies, etc.?

Jay Flatley -- Chief Executive Officer

Yes. So it is fair to say that most of it is U.S., but we've had a surprising number of inquiries from customers outside the U.S. And so, I'd say a handful out of the 30 prospects we're working on are outside the U.S. The scale of the systems cover quite a range all the way from prototype systems of a few RACs up to potentially ones that have 50 RACs in them.

So some very large potential installations. And they range from government sites to biopharmaceutical laboratories. Quite a number of start-ups in the list that are well funded and are looking to install automation for the first time. So it covers a pretty wide range and the most exciting we want is to do an installation in their site, but then to essentially replicate that in their customer sites.

So those are customers that would be super exciting for us, obviously, because the parents create child applications or child installations.

Matt Sykes -- Goldman Sachs -- Analyst

Got it. Thanks, Jay. And then, maybe just on your commentary on opex. That $70 million, $75 million run rate is on a quarterly basis.

In terms of your flex within that. It seems like you're prioritizing R&D just given the stage of the company. Where is some of the flex? I'm sure some of it's on sales and marketing, but on the G&A side, how flexible are you within that sort of $70 million, $75 million run rate if you need to be?

Ena Singh -- Chief Financial Officer

Yes. I mean, we are prioritizing R&D. That's exactly right. And we have some flexibility in that run rate, especially as you think about optional choices on sales and marketing.

But in terms of restructuring, we're largely done at this point.

Jay Flatley -- Chief Executive Officer

Yes. And recall that that run rate you cited includes noncash of about, as we said, $15 million to $19 million. So the cash run rate is substantially less than that.

Matt Sykes -- Goldman Sachs -- Analyst

Understood. All right. Thanks very much.

Operator

And thank you. And our next question comes from John Sourbeer from UBS. Your line is open.

Unknown speaker -- UBS -- Analyst

Hi. Hello. This is [inaudible] calling in for John. So my first question is regarding the [inaudible] you talked about.

If I understand correctly, you mentioned that it was a validated customer process. Any potential strat converting that to revenue? And if not, what is the barrier there?

Jay Flatley -- Chief Executive Officer

So you cut out right at the critical word in your first sentence. So can you repeat that again for us?

Unknown speaker -- UBS -- Analyst

Sorry about that. I was mentioning for the straw application -- can you hear me, all right?

Jay Flatley -- Chief Executive Officer

Right.

Ena Singh -- Chief Financial Officer

Yes.

Unknown speaker -- UBS -- Analyst

OK. For the straw applications, so if I understand your statement previously, you said the straw application under the one room policy were validated in a customer process. So I was just wondering if there's any potential of converting that to revenue.

Jay Flatley -- Chief Executive Officer

Yes, there certainly is, and that's the reason we're working on it. There's a handful of large-scale straw manufacturers in the world. And so, we're in discussions with multiple strong manufacturers, and this is one of those, a particularly large one. And we ran, as I mentioned in the script, both kinds of straws that are used in typical fast food applications, whether it's Starbucks or McDonald's and we also ran straws that are used in juice boxes.

So the plastic package draws that have a U-bend in them. And so, that was the very first run on production instruments, and we want to evaluate along with that potential customer, the quality of the product that came off their machines, any fine-tuning we might need to do to optimize the product. And then, of course, we're going into a testing cycle to see how they actually perform now that we've made them on their machines, as well as looking at additional ways to drive down costs if there's technical improvements or tweaks that we can make that drive down the cost of manufacturing those. So it's certainly our intent to turn that into a revenue opportunity.

Unknown speaker -- UBS -- Analyst

Fantastic. That's very helpful. Any timeline specific on that front as far as generating revenue-wise?

Jay Flatley -- Chief Executive Officer

Yes. We're not predicting any specific timelines. As I've said before publicly, we had our challenges last year predicting where we're going to go. So we're going to announce things once we've done them as opposed to predicting when we're going to do them.

Unknown speaker -- UBS -- Analyst

OK. Thank you. Sorry, if I can just squeeze in one quick one. So in general, the company has mentioned having product revenue in 2023.

Is that still the right time frame to think about in general? Thank you.

Jay Flatley -- Chief Executive Officer

Yes, it is. Our guidance has been consistent there that we think product revenue is immaterial this year, 2022, but that we will begin that product revenue in '23.

Unknown speaker -- UBS -- Analyst

Thank you very much. That's all I had.

Jay Flatley -- Chief Executive Officer

Thanks.

Operator

And our next question comes from Steven Mah from Cowen. Your line is open.

Steven Mah -- Cowen and Company -- Analyst

Great. Thank you, operator, and thanks for taking the question. Jay, I only have two questions. Can you update us on how the CEO search is going and timing on that? And then also on the partnership updates, I think you said on the last call, you're on track to sign a potential drug discovery partnership in 2022.

Just wondering if that's still the case. And if you can give us any color on any additional pharma partnership pipeline? Thanks.

Jay Flatley -- Chief Executive Officer

Sure, Steven. So on the CEO search, we're very active now in the market. So I've already performed a handful of interviews, having probably three or four more of those that I will do in the next 30 days that are in the process of being scheduled from that pallet of candidates. We'll probably down select two or three to make sure that we have a chance to meet them in person.

There are ones that have been largely over video and bring them out to Emeryville to meet the team, and we'll down select from there. So my hope remains that we have somebody in place by mid- to late summer. With respect to partnerships, our goal was to sign a partnership in 2022. We still are holding to that goal.

Nothing specific to report at this time other than discussions are progressing across multiple partners, and we certainly do hope to have one this year.

Steven Mah -- Cowen and Company -- Analyst

OK, great. Thank you.

Operator

Thank you. And our next question comes from Matt Larew from William Blair. Your line is now open.

Matt Larew -- William Blair -- Analyst

Hey, good afternoon, Jay. In a couple of conferences earlier this year, you provided an update on Z1 and Z2. I think Z2 maybe has some ongoing tests with Z3, printing OEMs. I know Z1 has still been in talks with Sumitomo.

Just curious if you could provide any updates if there are any on that.

Jay Flatley -- Chief Executive Officer

Yes. I'd say we continue to make progress on both fronts. Z2, as a reminder, is the polymer that we were initially deploying in the Hyaline application, and we repurposed that for 3D printing. We've gone through a number of evaluations there that continue to look promising.

We have some additional data coming fairly soon. There are some upcoming trade shows where we will have actual customers that we have worked with talking about the Z2 polymer, but we don't have anything specific to report yet in that market. We do remain optimistic about our technology and about the size and growth of that market. All the testing data that we're performing continue to demonstrate improved performance characteristics of that polymer.

Nothing specific to report on Z1, which is the Sumitomo partnership all of their discussions with the ultimate customers of that material continue and continue to go well. But no specific news to report there.

Matt Larew -- William Blair -- Analyst

OK. And then, just I think maybe the last category was on enzymes. I think you mentioned that you have been in some at discussions, but also, we're going to be retaining manufacturing. Have you gone to sample any material out to any distribution partners? Curious if you've gotten feedback either from contract manufacturing or from [inaudible] on the distribution side.

That's the last one for me.

Jay Flatley -- Chief Executive Officer

Yes. We're not quite at the point yet where we're sampling at scale, but we're about to start doing that here over the next few months. And again, partnership discussions continue, but nothing that's far enough along for us to report at this point.

Matt Larew -- William Blair -- Analyst

OK. Fair enough. Thanks, Jay.

Operator

Thank you. [Operator instructions] And our next question comes from Rachel Vatsndale from J.P. Morgan.

Rachel Vatnsdal -- J.P. Morgan -- Analyst

Hey. Thanks for taking the questions. So first off, on automation offering. So last quarter, you mentioned that you had two contracts for system design.

So I was just wondering if you could give us an update on how those two initial design contracts have been progressing and if those customers are continuing toward a full automation contract? And then also, have you signed any additional system design contracts in the last quarter?

Jay Flatley -- Chief Executive Officer

Yes. We've completed one of those system design contracts, and that is for a government facility. And so, we expect that. We continue to be very optimistic about that one.

I did at the recent conference last week, stated publicly that we believe that will -- that deal is contingent on additional government funding coming. And we're waiting to see if and when that happens, and that will be the event that we think would unlock an opportunity for us with that potential customer. The second one is in contract negotiations. So that is underway.

But again, nothing specific to report on that one. We don't have any additional design contracts and not all of our customers will go through that phase. So only some of them will be -- will require that. We are, in many cases, scoping out systems.

So some of these large potential deals are ones where we can scope out, but we actually haven't done detailed system design where we'd actually be compensated but we're just doing high-level architectural recommendations, and that's where we are with a handful of customers.

Rachel Vatnsdal -- J.P. Morgan -- Analyst

Great. And then, as a follow-up, just on the economics for those automation contracts. So I think I heard you mention $400,000 a year in the annual software revenue that could come from some of these automation offerings. So is that on average? Or will it really be the same just depending on the size of the contract and how many RACs that that customer has.

Jay Flatley -- Chief Executive Officer

Yes, it definitely varies. That's an average number. And so, if you had a smaller installation, it would scale back and a larger one would scale up, obviously. But that's just kind of a place to put a pencil down in terms of what an average might be for a 10-RAC system.

Rachel Vatnsdal -- J.P. Morgan -- Analyst

That's it for me. Thank you.

Jay Flatley -- Chief Executive Officer

Thanks, Rachel.

Operator

[Operator signoff]

Duration: 29 minutes

Call participants:

Carrie Mendivil -- Investor Relations

Jay Flatley -- Chief Executive Officer

Ena Singh -- Chief Financial Officer

Matt Sykes -- Goldman Sachs -- Analyst

Unknown speaker -- UBS -- Analyst

Steven Mah -- Cowen and Company -- Analyst

Matt Larew -- William Blair -- Analyst

Rachel Vatnsdal -- J.P. Morgan -- Analyst

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