Fulgent Genetics, Inc. quarterly report, Q1 FY2018

Fulgent Genetics, Inc. — Q1 2018 10-Q

Reporting period: Three months ended March 31, 2018. Figures are unaudited; amounts are in U.S. dollars unless otherwise noted. Fulgent provides genetic testing services, primarily to hospitals and medical institutions.

Financial performance and liquidity

Metric	Q1 2018	Q1 2017
Revenue	$4.653 million	$5.306 million
Gross profit / gross margin	$1.881 million / 40.4%	$3.447 million / 65.0%
Operating income (loss)	$(2.194) million	$0.219 million
Net income (loss)	$(1.910) million	$0.232 million
Operating cash flow	$(1.291) million	$1.508 million

• Cost of revenue rose 49% to $2.772 million, while operating expenses rose 26% to $4.075 million. Research and development increased 71% to $1.458 million; selling and marketing increased 27% to $1.130 million.
• Billable tests delivered rose 5% to 4,621. Average recognized revenue per billable test fell 16% to $1,007; cost per test rose 43% to $600.
• At March 31, cash and cash equivalents were $5.274 million and marketable securities were $33.496 million. Current assets were $36.075 million versus current liabilities of $2.409 million. Total liabilities were $2.415 million; the filing reports no borrowings.
• Fixed-asset purchases were $1.116 million. Cash declined $1.216 million during the quarter to $5.274 million.

Changes versus the prior comparable period

• Revenue decreased 12%, mainly due to lower average test pricing and sharply lower PRC customer revenue. Two PRC customers that together generated 29% of Q1 2017 revenue ordered no tests in Q1 2018; management does not expect meaningful future revenue from them.
• U.S. revenue increased to $2.527 million from $2.090 million, while PRC revenue declined to $0.024 million from $1.525 million. Revenue from other countries increased.
• Management attributed higher costs to increased test volume, headcount, facility costs, and laboratory equipment. The combined revenue decline and cost increase reduced gross margin by 24.6 percentage points.
• Q1 2018 included a $245,000 equity-method loss from the FF Gene Biotech joint venture; there was no comparable loss in Q1 2017.

Outlook, commentary, risks and unusual items

• Management said existing cash, operations and equity-financing proceeds should cover anticipated requirements for at least 12 months, while noting operating cash flows fluctuate and future financing may be needed. No quantified revenue or earnings guidance was provided.
• Fulgent adopted ASC 606 on January 1, 2018 using the modified retrospective method. Adoption added $327,000 to opening accounts receivable and improved opening accumulated deficit by a net $253,000. Q1 revenue under the prior standard would have been $4.830 million, $177,000 above reported revenue. Third-party-payor revenue is estimated on an accrual basis; management noted limited historical collection experience for these payors.
• Fulgent has a 30% interest in FF Gene Biotech, a PRC joint venture accounted for under the equity method. Its remaining equipment contribution obligation was RMB 43.6 million, approximately $6.9 million, as of quarter-end. The filing identifies a large stockholder affiliate and company insiders among the venture’s other participants.
• Other commitments included $2.3 million of reagent and equipment purchase obligations and operating leases extending through January 2023. The headquarters lease was renewed through January 2021.
• Key risks include customer and geographic concentration, pricing pressure and competition, reimbursement and collections uncertainty, regulatory changes affecting laboratory-developed tests, dependence on a single U.S. laboratory and key suppliers, and execution and funding risks related to growth and the PRC joint venture. One affiliated customer group represented 13% of Q1 revenue.
• The company reported a $434,000 income-tax benefit in Q1 2018 and a $245,000 joint-venture loss. It also disclosed an immaterial correction to the prior-year cash-flow statement: Q1 2017 operating cash flow was restated to $1.508 million, with $801,000 of IPO-cost payments classified as financing outflows.
• Management concluded disclosure controls were effective as of March 31, 2018. It reported no material legal proceedings and no material off-balance-sheet arrangements.

Important facts for investors to verify

• Whether test volume growth can offset lower pricing, rising per-test costs and the loss of significant PRC customers.
• How ASC 606 estimates for third-party-payor collections develop, including cash collections, receivable aging and allowance adequacy.
• The timing and funding of the remaining approximately $6.9 million FF Gene Biotech contribution, and the venture’s performance and related-party governance.
• Whether cash generation can support operations, capital spending and commitments if operating cash flow remains negative or fluctuates.
• Progress on gross-margin recovery, new-test development, sales expansion and reimbursement access, alongside regulatory and supplier risks.