Repligen Corporation

Good day, ladies and gentlemen, and welcome to Repligen Corporation's second quarter of 2023 Earnings Conference Call. My name is Vaishnavi, and I will be your coordinator. All participants will be in a listen-only mode. Should you need assistance, please signal a conference specialist by pressing star, then zero. Please note that there will be a question-and-answer session following the company's formal remarks. In order to accommodate all individuals who wish to ask questions, there will be a limit of two questions at a time. I would now like to turn the call over to your host for today's call, Sondra Newman, Head of Investor Relations for Repligen. Please go ahead.

Thank you, Vaishnavi, and welcome to our second quarter of 2023 report. ON THIS CALL, WE'LL BE COVERING BUSINESS HIGHLIGHTS AND FINANCIAL PERFORMANCE FOR THE THREE- AND SIX-MONTH PERIOD ENDED JUNE 30TH, 2023. WE'LL ALSO PROVIDE AN UPDATE TO OUR FINANCIAL GUIDANCE FOR THE FULL YEAR 2023. REPLAGEM'S PRESIDENT AND CEO TONY HUNT AND OUR CFO JOHN SNODGRASS WILL DELIVER OUR REPORT, AND THEN WE'LL OPEN THE CALL UP FOR Q&A. AS A REMINDER, THE FORWARD-LOOKING STATEMENTS THAT WE MAKE DURING THIS CALL including those regarding our business goals and expectations for the financial performance of the company, are subject to risks and uncertainties that may cause actual events or results to differ. Additional information concerning risks related to our business is included in our quarterly reports on Form 10-Q, our annual report on Form 10-K, and our current reports on 8-K, including the report that we're filing today, also other filings that we make with SEC. Today's comments reflect management's current views, which could change as a result of new information, future events, or otherwise. The company does not obligate or commit itself to update forward-looking statements, except as required by law. During this call, we are providing non-GAAP results and guidance. Reconciliations of GAAP to non-GAAP financial measures are included in the press release that we issued this morning, which is posted to Repligen's website and on SEC.gov. Non-GAAP figures in today's report include the following, revenue growth at constant currency, cost of sales, gross profit and gross margin, operating expenses, including R&D and SG&A, operating income and operating margin, income tax expense, net income, and net income per share, as well as EBITDA and adjusted EBITDA. These adjusted financial measures should not be viewed as an alternative to GAAP but are intended to better enable investors to benchmark Repligen's current results against historical performance and the performance of peers when evaluating investment opportunities. Now, I'll turn the call over to Tony Hunt.

Thank you, Sandra, and good morning, everyone, and welcome to our Q2 earnings call. As you saw in our press release this morning, we delivered $159 million in total revenue in the quarter, down 13% sequentially and 23% year-over-year. Our base business, which excludes COVID revenue and inorganic M&A, delivered reasonable performance, where revenues in the quarter were down 2% sequentially and 9% versus Q2 of last year, in what continues to be a very challenging macro environment. Looking at the first half of 2023, we delivered $342 million in total revenue. Overall, this was down 17% versus H1 of last year, with the base business again holding up relatively well down less than 3% in the same period. As a reminder, our base business is coming off two years of stellar growth. This makes the comps really challenging. In 2022, our base business was up 41% for the second quarter and 34% for the full year. And in 2021, our base business was up 34% in the second quarter and 38% for the year, in each case, well above market growth. On a franchise level, We saw revenue growth during the second quarter in three of our four businesses, the exception being Filtration, which continues to recalibrate to post-COVID market dynamics. Filtration by far has the largest market inventory overhang and was the primary contributor to revenue declines in the quarter, with base Filtration down 20% year over year off a tough comp and down 2% sequentially. Strength of the quarter came from our analytics, chromatography, and protein franchises. For the quarter and first half of the year, we saw mid-single to double-digit base business growth. Another area of improvement was cell and gene therapy, which includes non-COVID-related mRNA. Revenues were up 7% sequentially, though down 4% versus the prior year, also on a tough call. The quarter-over-quarter growth in new modalities was led by chromatography and analytics, where we saw a strong adoption of our Opus columns and process analytics products, and by commercial approvals, which should be a catalyst for future growth. On the orders front, our book-to-bill for the base business was 0.82 for the quarter and 0.88 for the first half of the year. Within our base orders, cell and gene therapy orders were up 4% in the quarter. Overall, cell and gene therapy is proving to be a steady performer for us here in 2023, with first half book-to-bill at 0.96. However, the big change that we are seeing in the market in the second quarter is a drop-off in demand from pharma, which includes biotech, along with the slowdown in orders at the CDMO level after two quarters of modest gains. The headwinds in the market, which have been predominantly related to inventory overhang and confined for the most part to the CDMO and component integrator sectors of the market, have broadened. Pharma-based revenues were solid in the second quarter, and have remained consistent for the past five quarters, while pharma orders have softened. In the first quarter of this year, orders were down primarily due to weakness in China. This broadened in the second quarter, where pharma-based business orders were down 25% in the quarter year on year and 17% sequentially. We are seeing longer purchasing and approval timelines for capital equipment purchases and delays in pharma projects. where some programs are getting pushed out by one to two quarters. We are also seeing pharma drawing down inventory levels on consumables, something we didn't observe in 2022 when pharma demand remained strong throughout the whole year. Of the 25% drop in pharma orders here in Europe, we estimate that about a third came from softness in capital equipment spend, a third from consumables inventory drawdown, and a final third is related to China. Orders from seeding mills also softened down 10% sequentially, but still up 9% for the first half of this year versus the second half of last year for both base and total CDMO orders. Regionally, China ordering remained weak in the second quarter with no improvement versus Q1, although APAC orders were up 15% excluding China and up 5% as a whole. With this backdrop, forecast demand for the second half of 2023 has dropped across many of our product lines, impacting all of our franchises except for analytics. For the full year, we are de-risking our revenue guidance and now expect revenues in the range of $635 million to $665 million, which implies a base business decline of 5% to 9%. Before moving on to our second half strategic priorities and an update on Q2 performance by business, I do want to comment on base business performance and why I believe we are still well-positioned to grow above market as our industry comes out of this downturn. The portfolio we have put together over the last 10 years is highly differentiated, and this has been reflected in the growth we have seen over the last five years, where we have consistently outperformed the market. From 2019 through 2022, our average base business growth for the three-year period was 28%. If we include 2023 using the midpoint of our newly revised 2023 guidance, both the three-year and five-year averages come in at 22%. We have an enormous amount of confidence in our strategy, and we remain confident about the medium and longer-term growth potential for the company. In the near term, we expect that market conditions will start to improve in Q4, and this is based in large part on our strengthening funnel where we have seen a 25% increase in high-probability opportunities over the last three months. Beyond the macro environment, I believe we are executing exactly the way we should be to drive growth for the company. That said, we do need to focus our immediate efforts here on second half of 2023 on the following three priorities. The first is around optimizing our resources and controlling costs. It's clear that the surge in demand related to COVID required us and the industry to ramp up capacity. This leaves us with the post-pandemic reality of lower volumes and associated lower margins. To address this, we've started to rebalance our resources and spend over the last few quarters, especially in the manufacturing of our filtration and component products. We're now expanding and accelerating this program with the goal to complete the process over the next few months. We believe this will put us in a better position to see margin improvement in 2024. Second is our commercial focus, We spent a lot of time here in 2023 building on our sales funnel, which continues to grow and expand. As I mentioned, the challenges around delays and closing out opportunities and dealing with our customers' longer purchase cycles. For example, the time it takes to close out capital equipment opportunities and associated consumables has moved from three to six months out to six to nine months. We expect this conservatism in the market to remain through 2023. but we do anticipate orders to pick up again in Q4. This would have a positive impact on Q1 2024 revenues, but not material impact what we can ship in Q4 this year. We're also investing in building out our top-down corporate key account program, which we kicked off in Q3 last year. The response from the top pharma and CDMO accounts has been very positive, and we have initiated new programs to embed replicant products at these accounts. We feel this is an appropriate time in our journey to balance the efforts of our commercial team with a corporate account structure as we become a larger and more integrated player in bioprocessing. And finally, new product launches. A key part of our strategy this year involves disruptive product launches. And in 2023, we are on track to launch H10 products. Contribution from new products launched in 2021 through Q2 of this year counted for 12% of our revenues in the second quarter. slightly above the 10% we saw in the first quarter. A key launch in Q3 will be a first-to-market, soft-contained, flat-cheeked set, which does not require external sealing for setup and performance. This is ideally suited for customers working on ADCs and gene therapy drugs, where full containment is required. Continuing to introduce and scale differentiated bioprocessing products into our customers' manufacturing workflows remain core to our culture and to driving the long-term growth for Repligen. So moving now to our quarterly performance. As mentioned earlier, the story of the quarter was the performance of our chromatography, proteins and analytics franchises and the overall performance in cell and gene therapy space. In chromatography, second quarter revenues increased approximately 5% year on year. Opus revenue was essentially flat versus prior year. However, Opus unit growth in the quarter was up more than 15% as more customers and drop shipping residents to us at our facilities in North America and Europe. The driver of Chroma revenue growth in the quarter was our artisan systems and flow paths, which were up more than 50% year-on-year. For the first half of 2023, Chroma was up over 10%, again driven by artisan systems and flow paths, which nearly doubled year-on-year. As noted in prior quarters, we expect Opus Residence supply to pick up here in the second half of 2023, and we are guiding to full-year chromatography growth of 5% to 10%, slightly down from what our prior guidance of 10% based on column resin mix. Our performance had a solid quarter in first half of 2023 with year over year organic growth in the mid single digits for the quarter and for the first half of the year. We saw consistent performance across the portfolio in the first half of the year, which was very encouraging. However, the challenge is now in the second half. The slowdown in demand at pharma accounts is impacting proteins. with lower second half forecasts for both their leggings and growth factors. The push out in demand is coming from project delays, where we are seeing programs move out by up to six months. Based on this, we are now guiding to our proteins business being down 10 to 15% here in 2023. Infiltration, our business was down approximately 40% of the quarter, driven by a predicted sharp decline in COVID-related revenue, which was nominal in the second quarter of 2023. Looking at our base filtration business, revenues were down 20% in the second quarter and 13% for the first half of 2023 against challenging comps. Sequentially, base filtration revenues in the second quarter were down slightly at 2%. Filtration orders during the quarter were soft, but as mentioned previously, we're encouraged by the strength in our filtration funnel and we do expect orders to pick up in the second half of this year, most likely in Q4. For the year, we now expect this franchise to be down approximately 30% overall and down 14% on base business. Finally, our process analytics business has been performing well, with second quarter revenues up 15% to 20% and first half growth of almost 10%. We continue to see strong traction for our inline analytics portfolio, led by the FlowVPX and RPM systems, where we're integrating real-time process management into our cross-flow TFS systems. We are also seeing strong performance from an install base for solo VPEs. I expect this business to deliver 15% growth in 2023. So overall, we delivered a little north of $340 million in the revenue in the first half. The macro headwinds, which have been confined to CDMOs and integrators, have spread to the pharma sector, which makes the second half of 2023 more challenging. We have a strengthening pipeline of higher probability opportunities that we expect to translate into increased orders in Q4. Gene therapy continues to be resilient. We continue to bring new products to market. And finally, we're taking charge of optimizing our resources to control our margins. We're confident the bioprocessing markets will turn in a positive direction in 2024, and we are well positioned to capture our share. With that, I will turn the call over to John for the financial update.

Thank you, Tony, and good day, everyone. To date, we are reporting our financial results for the second quarter of 2023, as well as updating our financial guidance for the year. Unless otherwise mentioned, all financial measures discussed reflect adjusted non-GAAP measures. As shared in our press release this morning, we delivered revenue of $159.2 million in the second quarter, nearly all of which was base business revenue at $157.1 million. As Tony mentioned, the 9% year-over-year decrease in our base business was against difficult comps following two years of well-above market growth. While it is an especially challenging year for our company and industry, as we adapt to post-COVID and macro market dynamics, we believe we are well-positioned to remain the innovation leader in bioprocessing, and we are taking necessary steps to rebalance our resources and preserve margins while looking forward to a return to market growth. I'll share more of those details, but first let's review the second quarter and year-to-date financial highlights. For the second quarter, our total revenue decreased by 23% as reported and at constant currency. COVID-related revenue for the second quarter was nominal at just over $1 million compared with $36 million for the 2022 quarter. Our base business was down 9% as reported and 8% at constant currency. FX impact in the quarter was less than $1 million, creating less than a one-point headwind on reported growth. Based on current market conditions, we expect negligible impact from FX for the full year. As it relates to regional revenue, we saw contraction in Asia Pacific, Europe, and North America as expected, driven by waning COVID demand and softer order trends in our base business. Overall revenues from Asia Pacific decreased by 30%, while Europe and North America contracted by 21% and 22%, respectively. Regarding overall revenue distribution by region for the year-to-date period, Asia Pacific represented 21%, Europe represented 37%, and North America represented 42% of our global business. Now moving down our income statement. Second quarter 2023 adjusted gross profit was 79.9 million, a 34% decrease year-over-year. Adjusted gross margin of 50.2% in the quarter was down from 58.7% in the 22 quarter. The year-over-year decline in gross margin was related to volume deleverage, less favorable product mix, and higher expenses tied to our capacity expansions. now transitioning down the P&L to adjusted operating expenses. Adjusted research and development expenses for the second quarter 2023 represented 6.1% of total revenue. As Tony mentioned, we are continuing to focus our R&D efforts to launch key new products into the market this year, with our primary focus areas being filtration and real-time process analytics-enabled systems. Adjusted SG&A expenses for the second quarter of 2023 were nearly 26% of total revenue compared to 22% in the same 2022 period. Year-over-year percentage increases continue to be tied to lighter revenues coupled with capacity expansion expenses and investments made in commercial resources over the past year to continue to drive growth and market share gains. Now moving to adjusted earnings and EPS. Second quarter of 2023 adjusted operating income was 29.4 million compared to 65.6 million in the prior year quarter. And adjusted operating margin was 18.5% compared to 31.6%. Volume to leverage and product mix challenges continue to be primary drivers. Adjusted net income for the second quarter of 2023 was 30.2 million compared to 51.4 million in the same quarter of 2022. 41% reduction. Adjusted fully diluted EPS for the second quarter of 2023 was 53 cents compared to 91 cents in the same 2022 period, a decline of 37 cents or 41%. Adjusted EBITDA for the second quarter of 2023 was 38.4 million, representing a 24.2% margin. This compares to adjusted EBITDA of $67.7 million with a 32.6% margin for the second quarter of 2022. Finally, we maintain a strong cash position with cash, cash equivalents, and short-term investments, which are GAAP metrics, totaling $603.7 million at June 30th, 2023. We'll now transition to our 2023 full-year guidance. Our GAAP to non-GAAP reconciliations for our 2023 financial guidance are included in the reconciliation tables in today's earnings press release. As previously mentioned, unless otherwise noted, all 2023 guidance discussed will be non-GAAP. Please also keep in mind that our 2023 guidance may be impacted by fluctuations in foreign exchange. Our current guidance includes the impacts of Deflects Biosys acquisition that we announced in April but excludes potential impact of any additional acquisitions that the company may pursue. Before updating our guidance ranges, I'd like to share more about plans for rebalancing resources, both in areas where capacity is currently underutilized and also more broadly across the organization. We are taking difficult but necessary steps to protect and preserve our margins. We expect that rebalancing actions will set us up for margin improvement in 2024 By our estimates and as reflected in our updated GAAP P&L guidance, we expect the charges associated with this rebalancing to be approximately $6 million, consisting of severance and related costs, which will be recognized in the second half of 2023. We also expect to realize approximately $15 million in cost savings in the second half to partially offset the impacts of lower sales volumes and other P&L timing issues. Now for our guidance updates. Based on our current view of market conditions, we are revising our 2023 full-year revenue guidance, a gap metric to a range of $635 to $665 million, a reduction of $90 million at midpoint compared to our previous guidance. This revised guidance reflects a 17 to 21% decrease in total revenue compared to 2022. Our overall revenue guidance includes COVID-related revenues of $30 million, and includes $5 million of revenue from our FlexBiosis acquisition. Our base business revenue is expected to be in the range of $600 to $630 million, down 5% to 9% year-over-year compared with our previous expectation to grow base revenue by 4% to 8%. We are revising our 2023 adjusted gross margin guidance to the range of 50 to 51%, a two percentage point reduction from our previous guidance of 52 to 53%, driven primarily by lower revenue projections for the year. We are modifying our adjusted operating income guidance to a range of 104 to 110 million for the year, a reduction of 48.5 million at midpoint from our May guidance. Our adjusted operating margin guidance is now expected in the range of 16% to 17% for the year, compared with our May guidance range of 20.5% to 21.5% of revenue. Adjusted other income guidance is being increased to $18 million compared to our prior guidance of $14 million, and we continue to expect 2023 adjusted income tax expense to be approximately 20% of adjusted pre-tax income. We are revising our adjusted net income guidance to the range of 98 to 102 million, a decrease of 36 million at midpoint from our May guidance. We are revising our adjusted EPS guidance to the range of $1.72 to $1.80 per fully diluted share, a reduction of 63 cents from our May guidance. Our adjusted EPS guidance assumes 56.8 million weighted average fully diluted shares outstanding at year end 2023. Adjusted EBITDA is now expected to be in the range of 141 to 147 million, a reduction of 48.5 million at midpoint from our prior guidance. with depreciation and intangible amortization expenses expected to be approximately $35.8 and $30.1 million, respectively. Adjusted EBITDA margins are expected to be in the range of 21.5 to 22.5% for the year, reflective of the exclusion of fixed depreciation costs from our capacity expansions. We expect year-end cash and cash equivalents, a gap metric, to be in the range of $610 to $630 million, with $45 million of CapEx investments being fully funded by cash generation from our operations. This revised ending cash figure is inclusive of cash payments made for our April acquisition of FlexBiosys. This completes our financial report and guidance update, and I will now turn the call back to the operator to open the lines for questions.

We will now begin the question and answer session. To ask a question, you may press star, then one on your touchtone phone. If you're using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star, then two. Again, in the interest of time, please limit yourselves to two questions at a time. At this time, we will pause momentarily to assemble our roster. Our first question comes from Puneet Soda with Learing Partners. Please go ahead.

Hi, Toni and John. Thanks for taking my questions. If you could maybe step back on the guidance, I think one of the key questions here is the guidance has been cut a few times and understand totally that this is an industry-wide phenomenon, but you have higher exposure to phase one and two trials, and there's obviously biotech funding pressures beyond the destocking. So I think the question is at this point, you know, is there potential for, you know, further cuts beyond this, you know, given the environment, or this adequately captures, and maybe just talk to us a little bit about when you see the trough levels here and potential recovery, both on the stocking side and the, you know, potentially biotech funding, which is, I know it's more of an industry phenomenon when, you know, capital markets are turned into biotech funding. So thanks for covering those points.

Thanks, Puneet. Maybe I'll start with our guidance cut. So it's down about 90 million from our last guidance. And for us, we felt it was important to de-risk the year based on everything we're seeing. And the difference between where we were in May and where we are right now is that when we were all talking to you in May, we could clearly see that most of the destocking issues that we were dealing with, and I mean it from a Repligen perspective, was really around the CDMOs and the integrators. And in Q1, we clearly saw a drop off in orders in China. The revenue in China was absolutely fine in Q1, but it was orders dropped off significantly in China But in Q2, and that's continued all the way through July, the orders have come down. So you can clearly see that in our book to build. And it's broadened into pharma. And what we're seeing in pharma are three things. One is burn off of consumables. So there's a destocking, but it's only started. Maybe it started in Q1 and it just wasn't visible to us, but definitely visible in terms of the order strength in Q2. And then there's definitely conservatism across the whole industry in terms of capital spend. So for any systems, et cetera, it's just taking longer on the purchase cycle. And then we're seeing project delays. Projects are getting delayed three months, six months. Projects that were supposed to be kicking in in the second half of this year are now slated for uh q uh for early next year so those things all combined and really led us to looking exactly at what we think we can do this year based especially based on the order declines that we saw in q2 which is what gave us to the 90 million drop um you know i think the only answer to your question about could there be further cuts At this stage, we don't think so. But this, like last quarter, I said, hey, we would need to see order growth in the second half of the year for us to hit the guides that we gave you. And we believe that we could do that. This time around, I'm saying that unless there's further declines in ordering, in the order pattern, then we're good with the range that we put out there. In terms of, I know you had a bunch of questions in that first question, Puneet. But the early biotech funding, we've looked at that again. It hasn't really changed in terms of impact to replicant in Q2 versus Q1. And I think pieces where we're encouraged is honestly on the cell and gene therapy side, which is where you would honestly put the biotech funding piece. And when we look at that customer base, we are seeing sequential growth. But it is driven, and I want to be clear on this, it is driven by those customers that we were talking about last year that were scaling. It's not a broad market increase. It's really the customers who are in phase two, phase three, and going into commercial. That's where we're getting our growth this year. So hopefully that answers the questions, Puneet.

No, that's super helpful. Thanks for covering those. And last one, if I could ask on, you know, There was an assumption for base business growth of 20%. Is that still accurate for 2024? I know we have historically talked about the number in street as I believe near that number two prior to the quarter. And maybe just if you could talk a little bit about margins, sort of jump off point with significantly lower margin right now for 2023. Thank you.

Yeah, on the growth for next year, I think we need to see out 2023 and see exactly where we are at the end of the year before we give a guidance for next year. I think the whole market has honestly changed pretty dramatically over the last four or five months. So I think it's more prudent for us at this stage to wait until the end of the year and then guide for next year. But I will say that, you know, based on our funnel, right, and what we're seeing, we do anticipate order pickup in Q4, which will translate into revenue increase in Q1 of next year. And on the margins, I think, you know, maybe I'll hand it over to John to comment on the margin profile.

Yeah, happy to do that. So, Puneet, I think the biggest driver here that we're seeing, you know, we've got a $90 million revenue reduction at that point. The contribution margin on that, you know, which, you know, the piece of cost that goes away when you drop the revenue out is the material cost. So that's flowing through at a very high percentage of margin on that revenue decline. And that's the key driver overall of the overall margin drop expectation per H2. Got it.

Okay. Thanks, guys.

The next question comes from Jacob Johnson with Stevens. Please go ahead.

Hey, thanks. Good morning. Maybe, Tony, on destocking, you know, you've cut a couple times this year for a variety of reasons, now cutting kind of 13%, 14% this quarter. Is that a good proxy for the destocking headwind you expect to face in 2023? And then any kind of comments around confidence in maybe that being done by the end of this year? And also, you had a peer talking about working with their customers to work down inventory. I'm just curious if you're doing any of that.

Yeah, maybe start with the last piece. I don't think we are actively working with customers trying to figure out how to work down inventory levels. I think most of our conversation are on the projects that they are working with us on and the timing of those projects and the product that they need. We absolutely know the customers that have months of inventory that they're working through, and we know the areas where that exists, and that'll work its way through the system. I think the difference, honestly, Jacob, is that I don't see this as just a destocking phenomenon. it's more than that. It's destocking and it is much more conservatism in terms of spending patterns, much longer purchase cycles and delays in projects. And maybe destocking is 60% of the total headwind, but 40% is these other factors. And I think that's That's kind of the difference between where we are today and where we were maybe say four months ago. In terms of confidence at the end of the year, you know my view on destocking. While the orders dropped in the second half of last year, it really wasn't until the beginning of this year that the destocking started to happen. And I fully expect that the majority of the destocking will be over by the end of the year. And again, I'll reiterate, our pipeline continues to grow. Our high probability opportunities continue to increase. And we're working on a lot of large projects that are slated to close in the fourth quarter, late third quarter, early fourth quarter. And I think they're all positive signs for us that we will be able to get out of this.

Got it. That's helpful. And then maybe a bigger picture question, Tony, just process analytics seemed like a bit of a bright spot this quarter. You talked about kind of integrating CTEK into some of your systems. I'm just curious kind of how that's been received by customers and if you're having conversations and seeing additional opportunities to kind of integrate process analytics further.

Yeah, and as you know, we integrated the – the flow technology into our benchtop TFFs. And so the response from customers has been incredibly positive. We definitely are gaining momentum and selling more and more units each quarter. So we had a good quarter for systems in Q1, or in Q1, in Q2. I expect that we'll do more in the second half than we did in the first half based on the pipeline. We think it's a natural evolution that we move from benchtop to our, you know, let's call it process scale, production scale systems. And that's our plan, especially with the Artisan portfolio, is to continue the integration, which will, you know, I would say it'll take probably the best part of 12 months, to 18 months to complete all the systems that we have and upgrade to include inline analytics. But we see that as the future. That's what our customers want. That's what we're going to do. And it's going to be a very good business for us as we move forward. So, yeah, really happy with the analytics portfolio and how it's doing.

Got it. Thanks, Danny.

The next question comes from Dan Arias with Stevo. Please go ahead.

Morning guys. Thanks for the questions. Tony on China, do your guys on the ground feel like they have a handle on the situation there? It's kind of a tough place to do that in general, much less in the current environment. It sounds like there's multiple factors that are at play there. So where is the level of understanding on the moving parts and what is the revenue expectation for China at this point for the year?

Yeah, so No, I do think, I do think that our team over there has a good handle on what's happening. And to be honest, it is pretty consistent with what you've heard from, uh, other players. So it's everything from, uh, you know, weakness at the CDMO level, right in China. It's not, it's not outside China, but really within China, the CDMOs are, um, the number of projects that are coming through are just not what it was in 2022 and 2021. I think a lot of the early biotech funding dried up. And so those biotech companies were feeding into the tier two CDMOs. So I think that's been a challenge. I think the other piece that's going on in China is the last year was such a start-stop year for all companies in China that, you know, there was an inadvertent buildup of inventory. So you know how The rest of the industry may have built up excess inventory deliberately. I don't think in China that was actually what the plan was. But because of the way last year played out, there is an excess inventory in China that has to get burnt off. And as I said back in May, we don't expect that China turns until the end of the year. We look at our funnel. We have a number of projects and programs that we like that we're working on. But the level of activity in China right now is much lower than what we were seeing six months ago, nine months ago, a year ago.

Okay. And then just maybe on the 4Q order improvement that it sounds like you feel pretty good about, I guess. Can you maybe just crystallize for everyone, where is the confidence highest there? Is it the CDMOs just given the trajectory on the way down? Is it that order funnel or that funnel of activity that you talked about being up nicely? What do you feel best about as we sort of push to the end of the year here? Thanks.

Yeah, I would say it's the filtration portfolio because many of the big projects that we're working on fall within that portfolio. So that would be where the confidence is, Dan. And, you know, I think When we look at our position in the marketplace, we really have a great portfolio of products. And it's this macro environment that's challenging, challenging for us, challenging for everybody else as well. But the conversations are happening with our customers. The programs and projects are happening. It's just at a much slower pace. And based on what we're seeing, we see order pick up in Q4.

Our next question comes from Matt Larry with William Blair. Please go ahead.

Hi, good morning. Just kind of wanted to follow up again on the notion of guidance being the risk. And Tony, one thing you cited, the 25% increase in high probability opportunities. Maybe just help us understand what exactly that metric means, what it trended like perhaps earlier in the year, and that anything else that you've been able to do over the past six months to get better visibility into customer ordering behavior. And if there are metrics associated with that visibility, I think that'd be helpful as well.

Yeah, so on the visibility side, I think the way we've organized our commercial team or optimized how we organize the commercial team this year is definitely helping. So there's a real focus on the opportunities that we know that are out there. And so the conversations are happening with customers and that is what gives us sort of increased confidence on the funnel. When you look at any funnel, right, you've got various probabilities that you have on closing. So I think our overall funnel has increased. Probably we started to see that, honestly, second half of last year has continued through this year, but it's probably been more on the early opportunities. So maybe less than the 50% probability, but it increased significantly. We're seeing a lot of what was early now move into the, what we call greater than 50% funnel and the 25% increases at the 75% and above. So those are very high probability that they'll close. And we just haven't seen that level of a jump in any other quarter over the last three or four quarters. So we're encouraged by that. And we can tap right down into the exact opportunity that that's associated with. So we've got to execute. Customers have to continue to close out and provide the POs. But there are activities happening that signal orders in picking up at the end of the year in Q4.

Okay, just on the margin side here, you know, thinking about, right, jumping off point for next year, I think back half margins, based on the new guidance, suggest something like high 40s gross margin, low double digits operating margin. Obviously, you're going through some cost actions that I presume will have a fuller impact towards the end of the year. But is that a reasonable starting point, at least for sort of first quarter or first half 2024 margins? Or what are the other moving pieces to help us get a sense for the right jumping off point for margins next year.

Yeah, I think you picked up on that right. As we look into the second half of the year, we expect the margins to dip down here a bit in Q3, start to recover in Q4 with additional volume. And I'll go ahead and throw this out just from a kind of revenue cadence perspective. Our expectation is probably 45% of the implied midpoint in H2 is going to come in Q3, and around 55% of the revenue will come in Q4, the way we've got it laid out right now. This implies margins are going to dip down more into the lower 40s on a gross margin level, and in the mid single digits on an operating margin in Q3, and then they'll rebound up in Q4 to get closer to the midpoints by the end of the year. How does that lay us out for 2024? Our views are we're kind of re-baselining the margins here with the lower volume here at the end of the year. And our jumping off point, I think a good way to model it right now is to look at the Q4, or excuse me, the second half implied numbers for margins and start to model off that. And we think we can drive improvements in margins in 2024 based on that. I mean, it's really, really driven by, you know, we're such a volume-driven company in the way our cost structure is built up. We're working on obviously taking out variable costs where we can, but definitely expect margin improvement in 2024.

Okay. Thank you.

The next question comes from Rachel Waddendahl with J.B. Morgan. Please go ahead.

Thanks. Good morning, and thank you for taking the question. So you previously noted that the inventory overhang was primarily related to CDMO customers, but that has now broadened as you noted that pharma orders declined 17% sequentially. You talked about some of these dynamics to pharma softness by region and on the longer purchasing and approval times, project pushouts, et cetera. So can you just walk us through, what are you hearing with your conversations with those customers in terms of will some of these trends improve or really linger into 2024 related to some of those delayed decision-making things? Thank you.

Yeah, so maybe before I answer the second part of the question, just to give people a sense of the pharma situation. So I think everybody should realize like pharma revenue through the first half of the year is actually really consistent with what we saw by quarter last year. So there's really been no change in pharma revenue. But the orders, if you actually start to look at the orders, the orders in Q2 for pharma was down 25% versus Q2 a year ago, and it was down 17% sequentially. And just to give you an idea of how that splits up, we think about a third of the 25% drop year-on-year is coming from inventory drawdown, which is consumables, about a third is coming from lower capex spend, and a third is China. And if you look at it then sequentially, Probably inventory drawdown is probably 40% to 50%. CapEx is probably 10% to 20%. And then there's some product mix changes where you get big orders in one quarter that don't repeat in the following quarter. So overall, when you start to see pharma change by that much in a quarter, it does start to predict what's going to happen with pharma from a revenue point of view in the second half of the year. So to answer your question on the inventory drawdown and what's pharma saying, will it be done by the end of the year? I think pharma has just moved into a more conservative mode, right? An inventory drawdown is just one part of it. I think it's the CapEx spend, it's the conservatism, delays in projects, but it feels like it's a 2023 event, not a 2024 event right now. And when you look at the projects we're working on, we're working on a lot of projects with pharma, some really big projects that will really move the needle for us as we get into Q4 indefinitely in 2024.

Great. Thank you for that, Collar. And then just a question here on pricing. Obviously, we've been in an inflationary environment here. So can you just give us an update on your expectations for the updated guide on pricing for this year? And then how are you thinking about that pricing contribution shifting as we move into 2024? Just given on a multi-year stack, pricing has been a bigger contributor than historical. Thank you.

Yeah, I would say pricing in general is holding to what We guided at the beginning of the year. I think that, John, that was what? Right around 5%. Around 5%. So we're on track for that. And that's just matching all the inflationary issues that we had to deal with as well. So it's covering what we're paying out to our suppliers on all the components and parts that we buy. I think when you get into 2024, and I don't want to give a very specific 2024-2025 guide or anything, but I would think that pricing... is going to return more to normalize level of price increases in our industry, which is probably going to be in that, you know, two, three percent per year on average going forward, which is kind of what it's been historical. And it's because, you know, I think the inflationary pressures seem to be subsiding. And again, everybody in our industry, it's not about putting prices up. It's just about covering costs on materials. So we expect it's going

The next question comes from Paul Knight with KeyBank. Please go ahead.

Hey, Tony. You know, when we look at Pfizer and Moderna, the vaccine sales are down 70% to 90% here in Q2. I'm guessing it's like that for other treatments related to COVID. How much of a shock factor do you think farmers are getting from this vaccine? cliff of COVID. Is that part of, you think, their psychology on their spin?

Yeah, I saw the same reports on Pfizer and Moderna, and I don't know if people on the bioprocessing side could predict exactly how much it was going to drop off by, but I think everybody knew and realized that related activity would go way down. And because I think those companies are also sitting on some inventory that they would have built, it's probably not a total surprise that the numbers are down 70 to 90%. How that impacts pharma in what programs and projects that they do, I don't think I'm close enough to that, but I can tell you that the companies that worked on COVID vaccines and therapeutics are highly, highly active in other areas, and I haven't seen any change in terms of the programs or projects beyond what I spoke about. There's a general level of conservatism, and some of the projects are getting pushed out, but it's across the board, so it's not just the vaccine guys. It's brought across pharma, so I'm not seeing anything different at the vaccine companies than we are seeing at the other pharma companies.

Okay. And then regarding China, I understand multinationals operate there. I understand Wuxi is doing its own expansion there and worldwide. I was never under the impression that local China companies really had the money for or desire for Western product. I guess there was some demand from emerging China biotech. I guess they were becoming buyers of Western product. Is that a fair kind of read here?

Yeah, I think that's a fair read. I look at what our sales team does in China. We definitely sell very broadly into the market and there are a lot of you know, early biotech, you know, CDMOs that are Chinese CDMOs that serve in-country. I don't think that's any different, honestly, versus any other country in Asia, whether it's India or Korea. I think there's a lot of sales that go, you know, to companies that are making products for in-country use. So I think in general, though, I think the number of Because the biotech funding has dried up in China and because there's been a big pullback in activity, I think the number of projects hitting the CDMOs has gone down pretty dramatically in the first half of the year.

And then lastly, Tony, the rest of Asia looked pretty good. What do you attribute that to? Is it the build-out of biotech in Singapore that's continuing, or what do you see in the rest of Asia that made things look that were pretty good there?

And I can only really answer that question from a Repligen perspective because I think our peers probably may be a little different. But when we look at the other countries in Asia, outside China, it really is a handful of accounts that we sell into. Now, we sell into a lot of accounts, but the ones that really move the needle are a handful of accounts. And so we have some nice projects going on at those accounts, which I think is what's driving the growth on the order side and on sales. Okay, thanks, Tony.

Yeah.

The next question comes from Connor McNamara with RBC Capital Markets. Please go ahead.

Good morning, and thanks for taking the questions. First, Tony, just on your commentary on return to order growth in Q4, can you remind us what your order growth was in Q4 last year, and is this a function of easy comps, or is it more of actual activity of pickup and activity that you're seeing in the markets?

Yeah, so let me talk a little bit about last year in general, right? So we saw the orders begin to dip down in, not dip down, they dropped down in Q3 last year from where we were in Q2 and Q1. But, you know, we were able to hold orders at almost at the same amount for Q3, Q4, Q1. So if you go back and look at our book to build, you will see that orders were, from a dollar point of view, were consistently the same. So, you know, when you go through three quarters and you know that there's a pullback happening in the industry, you start to feel like, hey, look, if we hit a steady state, we need to grow from here. I think what happened in Q2 is we saw a further dip. So, you know, you go from same orders, not from the same customers, but the same volume of orders, over three quarters in a tough environment. And then it drops again in Q2, which was really unexpected. And then that puts you in a different environment. So we were down to, you know, 80%. I think 0.82 was our book to bill in Q2. So you can see the drop down in orders pretty clearly. I think our confidence around Q4 is just based on our funnel and the, you know, higher probability or the probability of the projects that we always look at moving through into that higher probability level, which results in increased orders for us. So it's based on activity. It's based on projects, based on programs. That's our view. But we also believe that, you know, it's not going to have a material impact on revenue in Q4. It's going to have more of an impact in Q1.

Got it. Thanks for that. And then just, you know, you said you've now de-risked your guidance for the year. So how should we be thinking about areas of potential upside for the rest of the year? Would it come from a quicker conversion of that high probability funnel you talked about or potential market share gains that can help you return to growth faster? Or is it more a function of just the overall market coming back?

I think it's a function of the overall market coming back. I honestly, in terms of what we've guided to, I don't see upside to the guidance unless there's a remarkable turnaround in the next three or four months. And we're just not seeing that in Q3. And when you kind of look at our base business, you kind of have to look at what where Repligen came into 22 and 23 with, like we were a much higher percent of what we were doing was COVID related, right? So the impact of COVID on us on a percentage basis is much higher than when you look at our base business. In my script, we had 35 to 40% base business growth two years in a row. And to be down five to 9% this year in this environment is actually not a bad result considering how much growth we've seen in our base business over the last few years. So if you just average out the last three years, including the latest guidance, it's 22%. And I think we were back three years ago and said we would grow 22% on average over the next three years. Everybody would be super happy. So I think that's more a reflection of how good our portfolio is. And it's this macro environment we're all dealing with. And back to the main question here, I think the upside would come from a faster turnaround in the market, but I don't honestly see that happening until we get into Q4, which I think will be too late for any revenue upside in 2023. Got it. Thanks for that.

Appreciate it. Great questions.

The next question comes from Matt Hewitt with Craig Halem Capital Group. Please go ahead.

Good morning. Just one question from me, and I apologize if I missed this earlier, but is it safe to assume that your confidence regarding the pipeline conversion that's expected to start here in Q4 is because as you look at those projects, they're tending to be more late stage, so phase three and or commercial projects, which are much less likely to be canceled or delayed?

Yeah, great question, Matt. I haven't looked at exactly every single opportunity in that funnel, but many of them are late stage. And I think your analysis is accurate, right? I think there's higher probability that they move forward than get canceled.

Great, thank you.

The next question comes from Lisa Garcia with UBS. Please go ahead.

Hey guys, thanks for squeezing in. Um, I guess, you know, I know it's early days, but, um, it would be great to just get a sense of kind of, uh, early integration on flex biosis and, um, you know, obviously, um, interesting times in the market, but, um, I guess, you know, that can create opportunities. So, you know, just given, um, balance sheet optionality, it would be great to, um, kind of get a sense from you guys, kind of how the funnel is looking and, and, um, you know, kind of get a sense from you guys' M&A appetite and the opportunities in the market at the moment. And I have a quick follow-up.

Yeah, maybe the last part, Lisa. I think the M&A activity I think is if I look at the first half of this year versus first half of last year, it was pretty dead. First half of last year, first half of this year, a lot more activity going on. I would say we continue to be very active in the marketplace. And I think we've shown over the years that we're kind of selective buyers. So it has to fit with our strategy. It has to strengthen some part of the portfolio that we're focused on. We like what we did with Flex earlier in the year. The integration has gone well. We like the fact that we're now in the bioprocess bag part of the market, and we have some big plans on what we want to do over the next 12 months with that portfolio, how we grow what they have, but also how do we expand what they have. So between what we're doing at Flex and what we're doing in our Hockington assembly facility, I think that's going to be kind of the drivers of the success of that particular acquisition. So I think the funnel is actually reasonably strong and I don't see us slowing down in terms of M&A over the next few years. So kind of the pace we've done in the past is probably the pace that we'll move forward with.

Great. you know, great to hear like the unit volume increase at Opus 15%, I think you said. If you could just give a quick update on kind of how resin availability has been trending relative to expectations for the year. I know that was a little bit of an issue in the beginning of the year. Appreciate that.

Yeah, I think resin availability has steadily improved. We see that from the two, three big suppliers. It's definitely getting better. I think the piece that's always hard to predict is what percent of orders we get are going to be with resin or without resin. We've clearly driven a lot of the ordering in North America to just drop ship the resin. And since we pulled out or we added in our facility in Breda, customers in Europe are starting to drop ship more resin to us. But, yeah, look, we're encouraged by the increase in unit volume. That helps us on the margin side. And, you know, resin availability is definitely improving.

Great. Thanks, guys. The next question comes from Tim Daly with Wells Fargo Securities. Please go ahead.

Great, thanks. I've just got one here. So, you know, Tony, you were hesitant to give an update versus the 20% previously communicated 24 outlook, wanting to see where this year ends up. I just want to understand the factors behind this hesitancy. So to Rachel's question earlier, you seem to indicate the pharma spend pause dynamic, maybe a 23 event. To another question, you suggested the inventory destock will be over this year. You know, comps are getting easier with today's cuts. Just putting it all together, it suggests that the prior guide might at least be a floor here. So, you know, a long-winded way to say, you know, are you waiting to update us on 24 growth to see where the comps end up in 23, or 24 growth to see where the comps end up in 23, or are there other factors that your, you know, concern may leak into 24?

Yeah, no, I think that right now, given the changes that we saw in Q2 and that was not something that we were factoring in at all. And so the weakness in pharma is definitely the primary reason why I don't want to comment on 2024 growth until we get closer to the end of the year. We just have to see this year out. It's had so many twists and turns that you just don't I don't think it's prudent right now to start putting a number out there and saying, hey, we think we can do X and Y. I think we felt a lot more confident about that a quarter ago because we knew where the destocking and issues were, and it has broadened. So we've got to get through and to a more stable customer base before we start talking about 2024. So it's got nothing to do with the comps. It's got everything to do with market dynamics and how fast the industry now pulls out of what we're dealing with.

Got it. Thank you for the time. No problem.

The next question comes from Brandon with Jefferies. Please go ahead.

Hey, thanks. Good morning. Tony, you called out you know, many campaigns that are being pushed back, call it three or six months. I mean, imagine there's some normal churn that may be a normal part of the business, but this seems to be more of a consistent trend across your, your customer basis. Is that accurate? And are these mostly for commercial therapies? I imagine would make them more material in terms of your revenue impact. You just unpack that a little bit.

I think it's, I think it's the combination of everything, Brandon, right? I think there's probably, you could go into any year, right, and find a handful of customers that have delayed projects. But we're seeing longer approval cycles on POs. We're seeing projects that were supposed to happen this year, like capital projects where building out facilities coming online that are getting delayed. We've got programs that are getting pushed out by companies you know, one to two quarters. Then you got the inventory overhang. It's the combination of all of these things that are all coming together at the same time, where you could obviously handle some delays at some pharma companies or biotech companies or CDMOs in the past. But when you have it all in one, it just makes it really, really challenging. And that's the difference.

Okay, that's really helpful. Last one, John. Did you break out the M&A dollar contribution in 2Q and then what you have penciled in for the full year?

Yeah, we said the M&A would be $5 million for the year for flex biosys. So we haven't changed that. That's consistent with what we said back in Q2, on the Q1 call, excuse me.

Okay. Or maybe back to the operator.

All right. This concludes the question and answer session. I'd like to turn the conference back over to Tony Hunt for any closing remarks.

Great. Thank you. So thanks, everybody, for joining us. We'll be back in a few months with an update on Q3.

This concludes our conference. Thank you for attending today's presentation. You may all now disconnect.