Illumina, Inc. — Q1 2023 Form 10-Q Summary
Business context and reporting period
Illumina provides sequencing- and array-based genomic solutions for research, clinical, and applied markets. GRAIL, acquired in 2021 and focused on early cancer detection through its Galleri test, remains a separate reportable segment and is subject to legal and regulatory proceedings.
The filing covers the 13-week quarter ended April 2, 2023, compared with the 13-week quarter ended April 3, 2022. The financial statements are unaudited and prepared under U.S. GAAP.
Financial performance and liquidity
| Metric | Q1 2023 | Q1 2022 | Change |
|---|---|---|---|
| Total revenue | $1,087 million | $1,223 million | Down 11% |
| Product revenue | $922 million | $1,070 million | Down 14% |
| Service and other revenue | $165 million | $153 million | Up 8% |
| Gross profit | $655 million | $815 million | Down 20% |
| Gross margin | 60.3% | 66.6% | Down 630 bps |
| Operating income (loss) | $(64) million | $184 million | Down $248 million |
| Net income | $3 million | $86 million | Down 97% |
| Diluted EPS | $0.02 | $0.55 | Down $0.53 |
| Operating cash flow | $10 million | $172 million | Down $162 million |
Revenue weakness primarily reflected lower sequencing consumables and instrument revenue. Core Illumina revenue declined 12% to $1,076 million, while GRAIL revenue increased 100% to $20 million. Core Illumina operating income fell to $142 million from $362 million; GRAIL generated an operating loss of $204 million.
Operating expenses increased 14% to $719 million, including research and development expense of $341 million and selling, general and administrative expense of $378 million. The company reported a tax benefit of $81 million and an effective tax rate of 103.9%, compared with a 38.3% rate in Q1 2022. The tax benefit was materially affected by research and development expense capitalization, GRAIL pre-acquisition losses, GILTI, and foreign tax credits.
Cash and cash equivalents were $1.494 billion at April 2, 2023, compared with $2.011 billion at January 1, 2023. Including $24 million of short-term investments, liquidity totaled approximately $1.5 billion; approximately $506 million of cash and cash equivalents was held by foreign subsidiaries.
Cash declined by $517 million, primarily because Illumina repaid $500 million of 2023 Term Notes. Investing cash outflows were $56 million, including $52 million of capital expenditures. The company expects existing liquidity, operating cash flow, and available borrowing capacity to fund near-term needs for at least 12 months.
At quarter-end, term debt had a net carrying value of $1.487 billion, and $749 million of convertible notes due August 15, 2023 was classified as current. A new $750 million revolving credit facility was undrawn, and Illumina was in compliance with its covenants.
Material changes versus the prior comparable period
- Revenue declined $136 million, driven primarily by a $92 million decrease in sequencing consumables and a $58 million decrease in sequencing instruments.
- The NovaSeq X platform began shipping in Q1 2023. Transitioning customers and lower NovaSeq 6000 shipments pressured consumables pull-through and instrument revenue.
- Gross margin declined because of lower manufacturing-volume leverage and lower initial instrument margins on the NovaSeq X launch.
- Operating expenses increased $88 million, including higher Core Illumina research and development spending and higher GRAIL and Core Illumina selling, general and administrative costs.
- Operating results shifted from $184 million of income to a $64 million loss, while net income declined from $86 million to $3 million.
- Operating cash flow decreased to $10 million, partly reflecting lower accrued liabilities and accounts payable.
- Illumina repaid the $500 million 2023 Term Notes and did not repurchase shares during the quarter.
Guidance, outlook, risks, and unusual items
- Management continued to expect 2023 revenue growth of 7% to 10% compared with 2022.
- Management planned to reduce annualized run-rate expenses by more than $100 million beginning later in 2023 to support margin improvement and investment flexibility.
- Macroeconomic conditions, inflation, foreign exchange movements, customer inventory management, supply-chain pressures, COVID-19-related effects, and the Russia-Ukraine conflict may continue to affect demand, shipments, and results.
- The Federal Trade Commission issued an order on March 31, 2023 requiring Illumina to divest GRAIL. Illumina appealed, and the order was stayed pending the appeal. The European Commission had separately prohibited the acquisition and was pursuing divestiture-related proceedings.
- Illumina accrued $458 million for a probable European Commission fine related to completing the GRAIL acquisition during regulatory review. The filing states that the ultimate fine or loss could exceed the accrued amount.
- GRAIL must be held and operated separately under European Commission interim measures, creating additional administrative, legal, advisory, and operating costs and limiting expected acquisition synergies.
- GRAIL-related contingent consideration was $411 million at quarter-end. GRAIL employee cash-based equity awards had an aggregate outstanding value of $378 million, with a $40 million accrued liability.
- GRAIL goodwill totaled $2.178 billion. Management noted that the GRAIL reporting unit’s carrying value approximated fair value and that a 100-basis-point increase in the discount rate used in the prior impairment analysis could have produced approximately $350 million of additional impairment.
- Illumina settled the RavGen patent litigation confidentially on April 12, 2023; the parties denied liability and agreed to dismissal with prejudice.
Important facts for investors to verify
- Whether NovaSeq X adoption offsets lower NovaSeq 6000 demand and supports the stated 2023 revenue-growth outlook.
- The pace and magnitude of the planned expense reductions and their effect on gross and operating margins.
- The timing and outcome of the FTC appeal and European Commission proceedings, including any required GRAIL divestiture, fines, taxes, contractual effects, and loss of synergies.
- Illumina’s ability to repay or refinance the $750 million convertible notes due August 2023 while maintaining liquidity for operations and regulatory obligations.
- Potential additional GRAIL goodwill impairment and changes in the $411 million contingent consideration liability.
- Whether operating cash flow improves after the quarter’s working-capital outflows and debt repayment.
- The effect of foreign exchange, customer inventory controls, macroeconomic conditions, and regional demand weakness, particularly in China and other international markets.