DNA sequencing pioneer Illumina (ILMN 4.08%)typically takes advantage of the annual J.P. Morgan Healthcare Conference to make its most important hardware announcements of the year. Investors are hoping for news that foreshadows revived growth of sequencer sales.
Image source: Illumina.
Although two-thirds of Illumina's sales are comprised of consumables, sales of the sequencing instruments themselves are critical for sustaining the growth of the entire business. Each sequencer sold pulls through supply sales during the life of the product, so slower growth of instrument sales eventually leads to slower growth of supplies revenue. Some products in the line will deliver enough supply sales after only two years of use to equal the entire initial cost of the sequencer, so a lost instrument sale could have a delayed impact on company revenue of two or more times the price of the hardware itself.
We can see the impact of slowing sequencer sales on supplies over the last few quarters in the chart below. A decline in the growth of instrument sales results in a decline in the supplies growth rate, delayed by a quarter or more. Illumina had very successful product announcements of flagship products at the top of the lineup and in the mid-range in January 2104 that powered revenue growth of 31% that year. The announcements in 2015 and 2016 had far less impact on growth.
Data source: Illumina. YOY = year over year. Chart by author.
What might inspire investors next week? There are several possibilities.
Re-energize the high end
Illumina's high-performance sequencer line consists of two product families. The HiSeq 2500/3000/4000 family, having evolved from the original breakthrough HiSeq 2000 introduced in 2010, are workhorse machines that can sequence an entire genome in a day. The higher-end HiSeq X products are systems that consist of five or 10 individual instruments interconnected for doing very large sequencing runs. Despite the higher upfront cost, the HiSeq X family has an operating cost of one-half to one-quarter that of the HiSeq family, and that lower cost is a big enabler for many genomic projects that require very deep sequencing and generation of lots of data.
The company has said that there is considerable elasticity in the demand for sequencing at the high end. An upgrade of either or both product families that results in lower usage costs could enable new applications for high-volume sequencing and result in a new burst of demand for the products.
The HiSeq 2500/3000/4000 products, in fact, have been mentioned in recent conference calls as underperforming, both in unit sales and utilization, as some target customers are showing preference for the mid-range NextSeq platform. Lower operating costs for HiSeq could help stop this buy-down phenomenon. Another possibility would be to offer the HiSeq X systems in smaller increments -- say one or two linked instruments instead of the current minimum of five -- to lower the entry price for the X line.
Release more clinical solutions
One element of Illumina's strategy is to grow sales into clinical applications. Today, Illumina's sales are approximately two-thirds to researchers and one-third to clinicians working with patients. The clinical applications the company has focused on to date include non-invasive prenatal diagnosis, profiling tumors in cancer patients, and the early detection of certain genetic conditions and diseases such as cystic fibrosis. Since clinical applications of DNA sequencing are so new, often these instruments are being placed in situations with first-time users of sequencing, whereas in research environments they may be replacing older machines.
Illumina has an excellent platform for clinical markets: NextSeq. We may not see a major platform upgrade for the mid-range product, but expect to see more solutions targeted at more clinical applications: prep kits, reagents, informatics, etc. Today the company has targeted solutions for oncology, reproductive health, and microbial genomics. We may see expansion into even more applications next week or in coming months.
Update the low-end situation
In the long term, the low end of the market represents a tremendous opportunity for instrument growth. Last year's MiniSeq introduction doesn't seem to have made a big impact on sales, but it may be that it just didn't hit the critical price point to produce an explosion of new uses for sequencing. At some point, that will happen, and it will be a battlefield with the competition. Think mobile forensic labs, identification of individuals at border crossings, disease identification in the field, and so on. Illumina is working on a project called Firefly with these sorts of applications in mind, but it's not expected to release until the second half of the year. Expect Illumina to talk about it next week, though.
Will Illumina cheer investors?
We'll find out on Jan. 9 when Illumina presents at the J. P. Morgan Healthcare Conference. Without substantial news on a new hardware cycle, we're not likely to see expectations for the company's growth to improve. On the other hand, with the stock down almost 30% in 2016, a little good news on the hardware front might just the thing to provide some New Year's cheer for Illumina stockholders.
