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Operator
Greetings and welcome to the Fulgent Genetics first quarter 2024 conference call and webcast. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Melanie Solomon, Investor Relations for Fulgent Genetics. Thank you. You may begin.
Melanie Solomon
Good morning and welcome to the Fulgent First Quarter 2024 Financial Results Conference Call. On the call are Ming Hsieh, Chief Executive Officer, Paul Kim, Chief Financial Officer, and Brandon Perthews, Chief Commercial Officer. The company's press release discussing the financial results is available on the Investor Relations section of the company's website, www.FulgentGenetics.com. A replay of this call will be available shortly after the call concludes on the Investor Relations section of the company's website. Management's prepared remarks and answers to your questions on today's call will contain forward-looking statements. These forward-looking statements represent management's estimates based on current views and assumptions, which may prove to be incorrect. As a result, matters discussed in any forward-looking statements are subject to risks, uncertainties, and changes in circumstances that may cause actual results to differ from those described in the forward-looking statements. The company assumes no obligation to update any of the forward-looking statements it may make today to reflect actual results or changes in expectations. Listeners should not rely on any forward-looking statements as predictions of future events and should listen to management's remarks today with the understanding that actual events, including the company's actual future results, may be materially different in what is described and or implied by these forward-looking statements. Please review the more detailed discussions related to these forward-looking statements, including the discussions of some of the risk factors that may cause results to differ from those described in the forward-looking statements, contains and accompanies filings with the Securities and Exchange Commission, including the previously filed 10-K for the year ended December 31, 2023, and subsequently filed reports which are available on the company's Investor Relations website. Management prepared remarks, including discussions of earnings and earnings per share, contain financial measures not prepared in accordance with accounting principles generally accepted in the United States or GAAP. Management has prepared these non-GAAP financial measures because it believes they may be useful to investors for various reasons, but these measures should not be viewed as a substitute for or superior to the company's financial results prepared in accordance with GAAP. Please see the company's press release discussing its financial results for the first quarter, 2024, for more information, including the description of how the company calculates non-GAAP income or loss, earnings or loss per share, non-GAAP operating margin, and adjusted EBITDA, and a reconciliation of these financial measures to income or loss, earnings or loss per share, and operating margins, the most directly comparable GAAP financial measures. With that, I'd now like to turn the call over to Ming.
Ming Hsieh
Thank you, Melanie. Good morning, and thank you for joining our call today. I will start with some comments on the first quarter and our therapeutic development business. Then Brandon will review our product go-to-market updates for our laboratory service business in the first quarter. Paul will conclude with the financials and outlook before we take your questions. We are pleased with our results in the first quarter. With $64.5 million in total revenue, we recognize $1.3 million of revenue on previously billed COVID-19 tests. Excluding COVID-19 revenue, First quarter core revenue of $63.2 million was driven by momentum in precision diagnostics, particularly reproductive health and oncology. All fusion revenue at this time originated from our laboratory services business, previously referred as our clinical diagnosis business. Brandon will discuss this business further. Turning to our therapeutic development business, we continue to make good progress with the Fulgine Pharma. Our novel nano-encapsulation technology includes over 30 issued or active patents and active patent applications and the target therapy platform designed to improve therapeutic windows and the pharmacokinetics profile of both new and existing cancer drugs. We are excited about this platform because of its potential to yield several drug candidates. We believe that our lead drug candidate, FID07, has shown promising results in clinical trials today for treatment of numerous cancers, including head and neck, ampullary, and pancreatic. An abstract of a preliminary HNSCC clinical results from our Phase I-1B study has been accepted for presentation at the 2024 ESCO Annual Meeting, which will be held May 31 through June 4 in Chicago. Our Phase II clinical protocol for second-line treatment of HNSCC was accepted by the FDA, and we expect to enroll the first patient this quarter. We look to bring FID-07 to more patients in the clinical trial setting and keeping you updated on the progress of the trial. We are advancing second drug candidate, FID-02, a nanoencapsulated SN38 toward an IND or investigational new drug application by end of this year. We believe our nano drug delivery platform has the potential to address the challenges of currently available treatment for the colon, bile duct, and other cancers using SN38 instead of pro-drug of SN38. Building up our nanoparticle technology, we are also developing next-generation antibody drug conjugate ADC technology platform that could potentially provide even broader killing toward heterogeneous cancer cells than those ADCs with a bystander killing effect. Our ADC platform is not target-driven and may be potentially being applied more targeted ADCs, particularly new targets with low antigen expression where existing ADC platforms have failed to show the effectiveness. Overall, we have a strong strategy with both laboratory service business and the therapeutic development business. We continue maintain a strong balance sheet with which we'll execute this strategy. I'd like to thank our employees, partners, stakeholders for your hard work and loyalty. We'll look forward to continued progress in 2024. I'll now turn over the call to Brandon Perthew our Chief Commercial Officer to talk about our laboratory services business results during the first quarter. Brandon.
Brandon
Thank you, Ming. Our laboratory services business includes precision diagnostics, anatomic pathology, and biopharma services. These three represent our core revenue streams and do not include COVID-19 testing revenue. First quarter core revenue was up approximately $500,000 year-over-year, however, down about $3.3 million sequentially. The sequential decline was attributed to timing of biopharma service contracts and a decline in our anatomic pathology revenue. However, looking at our precision diagnostics revenue stream, precision diagnostics was up $9.5 million or 34% year-over-year and increased $2 million or 6% sequentially. The growth in precision diagnostics was led by reproductive health and oncology. We saw volumes continue to trend up late in the first quarter, and we exited the quarter with great momentum. We believe this momentum will carry into the second quarter, thus we expect approximately 10% sequential core revenue growth for the second quarter. In terms of reproductive health, the outperformance was driven by our Beacon Expanded Care Screening to continue to execute on the operational front, delivering excellent turnaround time, clinical support, and comprehensive gene content, leading to increased detection rates. We also continue to execute on the commercial front, winning new accounts and working with our B2B partners to win new accounts. We have a robust pipeline for beacon opportunities, thus we are predicting continued growth in this area. Our beacon volume has mostly been limited to IVF clinics due to carrier screening often being coupled with non-invasive prenatal testing, or NIPT, at the OBGYN level. However, for the first time, we are launching a new NIPT test. This will allow us to shift gears and focus more on the OBGYN market. This will include hiring a new sales team with OBGYN experience currently in progress. Our new NIPT test, which we marketed as NOVA, spelled K-N-O-V-A, is a unique, first of its kind approach. NOVA will include aneuploidy screening, deletion duplication screening, and de novo point mutations, all on one maternal blood sample. While there are tests on the market today that include aneuploidy screening and deletion duplication analysis, and other tests that look for de novo point mutations, there has not been one lab to offer both, and more importantly, not one test to combine all three into one. This will streamline the process for physicians, allowing them to use one lab for their NIPT needs. We expect NOVA volume to start slowly as we onboard early adopters and our key opinion leaders. Moving to our oncology services. As you may recall, we have two oncology laboratories, one based in Alpharetta, Georgia, and one based in Phoenix, Arizona. Both laboratories offer comprehensive heme and solid tumor testing. The laboratory in Alpharetta caters to a pathologist clientele, while the Phoenix laboratory caters to an oncologist clientele, enabling us to specifically tailor our reports to the relevant client base. Both provide full-service expert hematopathology diagnosis, cytogenetics, flow cytometry, immunohistochemistry, FISH, and molecular. The Alpharetta lab in particular provides solid tumor consultation services to pathologists, along with prognostic immunohistochemical and FISH testing, including tech-only services, while the Phoenix Solid Tumor Service concentrates on providing prognostic immunohistochemical and FISH testing to oncologists. NGS is available to both pathologists and oncologists and is performed centrally in our El Monte Laboratory. This includes separate state-of-the-art NGS assays for solid tumor, including liquid biopsy and hematological neoplasms, as well as offering germline testing. We believe that our heme assay is extremely comprehensive and is exclusively devoted to hematologic neoplasms, unlike other providers, which usually offer a heme assay either combined with solid tumor or something else like soft tissue. Clients choose Fulgent based on two main points, turnaround time and rate of insufficient specimens. We not only promise a turnaround time of less than 10 business days for our somatic cancer assays, we actually deliver on that in 96% of cases. And due to our expertise in nucleic acid extraction, our insufficient rates have been lower than what is generally seen in the industry with an overall Q&S rate of 8.5% and 4.5% Q&S rate specifically for lung. For heme, our Q&S rate sits at 0.6%. Our Alpharetta location is growing nicely, transitioning from an excellent regional lab it was before Fulgent acquired it and growing into a more national footprint with an expanded sales force. And the oncology lab, which started as a regional laboratory with a focus in Southern California, has now expanded into multiple regions in the country as we have grown its sales team. Turning to anatomic pathology, while this revenue stream has seen some headwinds, we are beginning to see the new sales team and structure pay off. We are continuing to gradually layer on additional sales team members and expect to see this business stabilize in 2024. In addition, We have been diligently working on improving operational efficiency. We have recently purchased a new building just outside of Irving, Texas, where we will be able to consolidate our existing Texas operation and our New York operation. In addition, we continue to invest in digital technology for slide imaging and AI to improve both efficiency and quality of our operation. Finally, in terms of our biopharma services revenue stream, We are tracking on plan for 2024, and we continue to believe this revenue stream will perform well over time. With our expanded product offering, the focus is to build a deeper opportunity funnel to help smooth out the lumpiness in this business. To that end, we are continuing to look at expanding on existing biopharma relationships and forging new ones. We have recently expanded the biopharma sales team to a small degree We continue to build on a robust product offering that we believe biopharma clients value, allowing us to address a large market for these types of studies. We are encouraged by the momentum in the business and look forward to updating our investors on our progress throughout 2024. I'll now turn the call over to Paul Kim, our CFO. Paul? Revenue in the first quarter of 2024 totaled $64.5 million compared to $66.2 million in the first quarter of 2023.
Paul
$1.3 million came from COVID-19 testing in Q1, which was not part of our guidance. Revenue from our core business totaled $63.2 million. Gross margin was 34.3%. The increase in gross margin year over year is primarily related to a decrease in overall compensation expense as we optimize our cost structure. Total gap operating expenses were $43.9 million for the first quarter, decreased from $176.4 million in the fourth quarter of 2023, primarily related to the one-time non-cash goodwill impairment charge incurred in the fourth quarter. Non-GAAP operating expenses totaled $32.4 million, decreased from $45.1 million in the fourth quarter of 2023. Non-GAAP operating margin increased approximately 12 percentage points sequentially to a minus 12.9% primarily due to lower bad debt reserve and legal fees. Adjusted EBITDA loss for the first quarter was $3.2 million compared to a loss of $7.2 million in the first quarter of 2023. On a non-GAAP basis and excluding equity-based compensation expense and intangible asset amortization, loss for the quarter was $269,000 or one cent per share based on $30 million weighted average shares outstanding. Turning to the balance sheet, we ended the first quarter with approximately $846.2 million in cash, cash equivalent, and marketable securities. We are reiterating our outlook for 2024 provided in February. With minimal revenue from COVID-19 testing expected, we're guiding to core revenue, which is total laboratory services revenue for the company without COVID-19 testing revenue. We continue to expect total core revenues to be approximately $280 million for 2024, representing core growth of 7% year over year. There's no revenues from our therapeutic development business anticipated in our 2024 guidance. Turning to expected margins for 2024, excluding COVID-19 revenue and stock-based compensation, We expect non-GAAP gross margins to continue to improve as the efficiencies of our integration efforts take effect, increasing from the mid-30% range we saw in Q1 to our target of 40% or slightly above 40% by end of year. We expect to see slightly lower non-GAAP operating margins in the quarters ahead as we further invest resources to grow our business, with operating margins approximately at minus 18% for the year. We remain focused on managing our spend and continue to believe that our foundational technology platform supports a strong margin profile longer term. We expect associated cash burn for our therapeutics development business of approximately $15 to $17 million this year, which is contemplated in our EPS and cash guidance. Utilizing a non-GAAP tax provision, an average share count of 31 million, we reiterate our full year 2024 net non-GAAP loss of approximately $1.05 per share for our shareholders, excluding stock-based compensation and amortization of intangible assets, as well as any one-time charges. Moving on to cash, cash position remains strong, excluding any stock repurchases or other expenditures outside of ordinary cores, we would anticipate ending 2024 cash with approximately $800 million of cash, cash equivalent and investments in marketable securities. Overall, we see strength in our core business, which has grown organically through our strategic acquisitions and see good momentum ahead. Thank you for joining the call today. Operator, now you may open it up for questions.
Operator
Thank you. At this time, we'll be conducting a question and answer session. If you'd like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Our first question comes from the line of Dan Leonard with UBS. Please proceed with your question.
Dan Leonard
Great. Good morning and thanks for the time. My first question, perhaps for you, Brandon, what gives you comfort on the revenue ramp required to hit that $280 million sales target for the year? And I think you gave a second quarter target that 10% sequential growth, but it wasn't clear to me if that was just precision diagnostics or if that was the entire lab services business.
Brandon
Thanks for the question, Dan. That would be for the entire lab services business. So what's giving us the confidence in the guide and the momentum? It's what we're seeing come through the front door, right? We're winning new opportunities. We're gaining market share in reproductive health. We're gaining market share in oncology. Our anatomic pathology business is beginning to stabilize. We had contracts in place for biopharma services that were not delivered in Q1. I mentioned a timing issue. Those contracts are in place. They will roll into Q2. So really across those revenue streams, we see that momentum. And that gives us, like I said, the confidence in the annual guide, but also the double-digit growth we expect in Q2.
Dan Leonard
Appreciate that. And then my follow-up question, I was hoping you could touch on the implications of those finalized lab-developed test regulations that were issued earlier in the week, the implications for Fulgence.
Brandon
Yeah, certainly. I mean, obviously a big development, a new development. We're still digesting some of that information. But our initial read on that, Dan, we believe it bodes well for Fulgent. There appears to be some exceptions that are made for products that are already marketed that may not have to go through a full PMA process. I mean, obviously Fulgent has a large test menu already on the market. So that seems to bode well for Fulgent. In addition, there seems to be some exceptions for New York State-approved tests, which we have several of. So our read on it is we're in a good place with what we've learned so far. Obviously, we will still be under those regulations, just perhaps not a big need for PMAs. And we believe we have the quality systems expertise and ability to adhere to these guidelines. It's likely to perhaps even strengthen our position in this marketplace, perhaps increasing the bar and barrier for entry for new laboratories. So we'll obviously be monitoring this very closely, and we look forward to working with the FDA closely on these new regulations.
Dan Leonard
Appreciate the thoughts. Thanks, Brandon. Thank you.
Brandon
Thank you.
Operator
Thank you. Our next question comes from the line of David Westenberg with Piper Sandler. Please proceed with your question.
Brandon
Hi, thank you. My questions actually are going to be kind of a continuation of some of Dan's questions. I did love the 10% growth sequentially. Can you maybe run us through some of the things that you saw in March that give you confidence? Do you think maybe January, February might have been maybe more weather impacted or Was there a big customer win? Just kind of run us through why March might have been so much better than January and February. Thanks.
Brandon
Yeah, I think it's safe to say there was a big customer win, but not just one big customer win. There were multiple customer wins that happened late in the quarter. In addition, as I mentioned, there was some biopharma business that we were able to close in the quarter contractually, but not deliver in the quarter. But I would say that most of our confidence is coming from that precision diagnostics momentum, which was Fulgent gaining market share late in the quarter that we believe is going to continue throughout the rest of the year. Gotcha.
Brandon
Okay. And I wanted to also hit on the FDA changes. Do you think any of those, you know, for example, the new NIPT offering is going to have to go to the FDA for 510Ks and I mean, you do have a very big rare disease portfolio. Any thoughts to cost on getting it into compliance as we look at the years? I know maybe you're not ready to – or it still requires a look given the fact that this was all just this week.
Brandon
Yeah, thanks for the question. You're right. It's hot off the press. We certainly haven't been able to model what the cost could look like, but again – our read on it is tasks that are currently on the market would be exempted from a PMA process, not exempted from regulation. We would still have to adhere to FDA quality standards and quality guidelines and reporting. And we believe we have those systems in place. And we've been working on something similar for the IVDR stuff in Europe. So I think we're in a good place to adhere to those guidelines. And certainly, there's no disruption to our product offering. We can continue to offer these products. So We'll see how that PMA exemption continues to play out for products that are already on the market. But, you know, again, we think that's a big part of this that bodes well for Fulgent considering the amount of products we currently offer.
Brandon
Okay, great. And then I'll ask an actual original question here. So just in terms of the go-to-market strategy with the OBGYN community, Um, how are, how is that? I mean, what's, what's the investment going to look like? Are you going to target maybe sub markets first, then expand like you would with, uh, I think when you talked about like Fulgen oncology, or are you just going to go, uh, maybe, maybe high level system wins. I'm just trying to think about the pacing of, of, of, um, SG&A over the course of the next couple of years as you add that, um, that call point on. So that's really what I'm targeting there. Thank you.
Brandon
Yeah, thanks for the question. I think what we're currently planning right now is ramping to a net new sales headcount of around 20 people by the end of 2024. Again, this is a novel NIPT product. It's not lost on us that we're late to this market and late to this game, but we've talked about this for a while that we were interested in this market, but we did not want to launch another similar product that was on the market. So I think we were able to develop this product, be a differentiated product. We do expect volume to start slowly. We will be offering this novel product so there will be some education involved in why this product is different and how this product leads to additional diagnostic yields and we'll be able to detect a significant number of conditions that are currently being missed by products on the market. long answer to your question of we will build this sales team gradually throughout the year. In terms of a regionality approach, we believe there's no particular reason to focus in certain regions other than just based on population density and where pregnancies are happening. But other than population density, I don't see any reason that we have to focus on certain regions or states. So I would consider this a national rollout, but again, you know, starting slowly throughout the year. Thank you, guys. Thank you.
Operator
Thank you. Our final question comes from the line of Andrew Cooper with Raymond James. Please proceed with your question.
Andrew Cooper
Hey, guys. Thanks for the time. Maybe just first kind of following up on the OBGYN launch. Just to make sure we understand the guide, you know, nice beat on the bottom line in one queue, but some step down in the margins from here. Is part of that, in terms of reiterating the guidance, layering in incremental costs from this NOVA, you know, ramp and build out? Or was that already contemplated in the prior guide?
Paul
Yeah. Thank you for that question. The operating expense structure that we have experienced, including the first quarter, we've had benefits from particularly like collection and lower fees from an operating expense perspective. If you take a look at our operating expenses in Q2, Q3, and Q4, that should be more normalized, which is consistent with the original guide that we had. So excluding stock-based compensation, we anticipate the operating expenses to be approximately $43 million in each one of the quarters of Q2, Q3, and Q4. But I think the real highlight of what we wanted to point out was, one, the elevated revenues and the expansion of the business that Brandon indicated. So what we're indicating for the second quarter is core revenues to be approximately or in excess of about $70 million. That already puts us at a $280 million annual core revenue rate, which we're very, very pleased with. The other thing that I wanted to point out is our gross margins. We've been talking about increasing our gross margins for some period of time. And with the acquisitions that we made a year or two ago, if you take a look at our gross margins excluding stock-based compensation, And if you strip out the COVID-19 revenues, in 2023, in the first quarter, we had our gross margins at approximately 28%. And then that increased to about 33%. And then in Q3 and Q4 of 2023, it was approximately 35%. This quarter, that gross margin rate was approximately 36%. But starting in the second quarter of 2024, we anticipate our gross margins, excluding stock-based compensation, to be approximately 40% or higher. We think that that'll grind even higher than that in Q3 and Q4 to approximately 42%. So what we see is, one, our core revenues being intact because we raised our guidance from 260 to 280. But we see the gross margins continue to grind higher for the business, which we're very proud of.
Andrew Cooper
That is helpful. Maybe next, just on AP, you know, I know Precision Diagnostics, you spend a lot of time on doing very well. Do you want to dive in a little bit just on anything that you've seen on the anatomic pathology side in terms of competitive landscape or or any share shift and maybe what you attribute that to and how you can get that business back to a little bit healthier growth there?
Brandon
Yeah, certainly. Thanks for the question. I think one of the things we've done there is a revamp of the sort of go-to-market strategy and the sales organization. I don't want to get into the details specifically, but sort of the focus of the sales team, their roles and responsibilities wasn't overly complicated. calibrated to hunting and finding new business. So this year, in January this year, we've revamped that and changed that go-to-market strategy. In addition, we've layered on some additional sales leadership and additional sales headcount for that area. So we expect that team to perform better this year. I wouldn't say there's been any macro changes in the competitive landscape or market share. We continue to see consolidation with physician groups, and sometimes that would lead to creation of these supergroups and physicians-owned laboratories. So they continue to be a competitor. But our goal there is to blocking and tackling and getting back to growing that business. We have the quality turnaround time, the subspecialty-trained pathologist, the product menu to be successful in that space. For some time, we've talked about synergies with the precision diagnostics division and the ability to cross-sell. I would say over the last year or so, we've been sort of more focused on fixing and growing the AP business. But as we're beginning to see that business stabilize, I think we're getting to the point now where we can spend more time and energy on these opportunities to cross-sell. For example, perhaps cross-selling germline hereditary oncology to many of our AP clients, which include GI, GU, and DERM. So we continue to invest in that business, again, focusing on operations there, improving operational efficiencies. But obviously, importantly, we do want to see that business return to top-line growth.
Andrew Cooper
Super helpful. I'll stop there. Thank you.
Operator
Thank you. Ladies and gentlemen, that concludes our Q&A session and thus concludes our call today. We thank you for your interest and participation. You may now disconnect your lines.
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