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CBMX: Momentum Continues Through Q1. CF Positive Is In Sight

05/11/2017
By Brian Marckx, CFA

NASDAQ:CBMX

Q1 2017:  No Slowing Down, Records Across The Board. CF Positive By Q4 In Sight…

2016 was somewhat of a transformative year for CombiMatrix (NASDAQ:CBMX) in that initiatives that had been put in place to return the company to sustainable growth and improve performance became much more obvious as measured by financial and operating metrics.  Specifically, 2016 set new records on revenue, gross margin, operating loss and cash collections as well as on test pricing and test volumes – the latter including (the important) miscarriage analysis and overall reproductive health segment. 

Clearly that momentum has not slowed.  On the Q1 call (which we missed due to a timing conflict) management reiterated their expectations of reaching a point of positive operational cash flow by Q4 of this year.  We think likelihood of that happening improved even more given the performance in Q1, which further extended records on revenue, gross margin, profitability and cash flow.  Revenue jumped 27% yoy and was up 17% from Q4 ’16 – which was the prior record.  Gross margin surprised fairly substantially on the upside – widening 150 basis points from Q4 (also the prior best) to 59.9% and benefitting from a combination of strong pricing and efficiency initiatives.  

Growth was particularly broad-based in the most recent quarter with volumes of every itemized test category increasing on a yoy basis through Q1 and all but one growing on a sequential basis – and the one product (pediatric) that didn’t grow from Q4, fell by just 1%.  In fact miscarriage analysis, PGS and the reproductive health segment in general, which represents much of the margin and the bulk of the near-term growth opportunity, all turned in record volumes.  Pricing was similarly robust with miscarriage analysis and prenatal microarray, as well as average pricing of all tests combined, setting new record highs in the quarter.     

Both revenue and gross margin have now increased on a sequential basis for six straight quarters and operating loss has improved for eight straight quarters.  Cash collections are at a record high and cash burn at a record low.  Meanwhile, operating expenses as a percent of revenue again reached an all-time low and, we think, will likely trend even lower through the rest of 2017.  

The step-wise fashion in which these metrics have improved is telling of management’s direct efforts - which has included adding new cash-pay products (such as PGS), sponsoring or otherwise supporting evidence-based studies aimed at expanding reimbursement coverage and adoption of their tests (most notably their bread-and-butter miscarriage analysis tests), investing in billing and collections resources, selective hiring and training of their sales force and closely watching expenses.  Much of these efforts have helped to significantly increase both the number of tests sold and the average revenue per test – particularly in their reproductive health segment, which saw testing volumes and average revenue per test increase by 36% and 35%, respectively, over the last two years (i.e. from Q1 ’15 to Q1 ’17).  The combination of growth in both volumes and average pricing has been dramatic as total testing revenue increased 64% over that same period.    

And there remain near-term catalysts to extend this record financial performance.  This includes the potential that additional payors favorably revise their coverage policies as it relates to recurrent pregnancy loss (at least 25 have done so since January 2016).  CBMX is also adding three new reps to their sales force as of mid-May – growing the total to 13.  Productivity gains from the sales force have also contributed to sales growth while keeping operating expenses relatively flat – there may be more opportunity in that regard.  Additionally, uptake of the PGS test rebounded in Q1 – management indicated that adoption of PGS-NGS (next-gen sequencing) was a contributor – and we think this may have more room to grow, particularly given that the company recently put a greater emphasis on increasing sales of the test, which has also had a favorable reception from physicians and patients.  Prenatal has also shown recent strength which could continue given that CBMX has had some success in picking up some of Sequenom’s (i.e. their previous distributor) legacy accounts.  And as it relates to pricing, while average revenue per test is at an all-time high, further positive changes in insurers’ coverage decisions, incremental improvement in cash collections and outsized growth of cash-pay tests (such as PGS) could all push average pricing even higher.  And, finally, bolt-on growth – potentially in the form of acquiring add-to-the-bag products, partnerships or licensing remain on the table of near-term possibilities.  In the meantime, expect management to remain very diligent on watching costs and cash flow as there is little doubt about their determination to reach cash flow positive by Q4 2017. 
  
Q1 Totals…

-Billable tests: 
oVolume: 2,938 total billable tests – up 11% yoy, up 6% sequentially   
oDiagnostic Revenue: Q1 set a new record at $3,758 - up 28% yoy and 7% sequentially

-Reproductive Health: this is CBMX’s major area of focus.  
oVolume: Q1 set a new record at 1,642 - up 15% yoy and 9% sequentially 
oRevenue: Q1 set a new record at $2,856 is up 32% yoy and 11% sequentially

The widening of gross margin has also been a major impetus for the consistent improvement in operating loss.  As noted, increase in test pricing – particularly in the reproductive health segment, coupled with lab efficiencies, favorable changes in insurers’ coverage policy and CBMX's direct efforts in facilitating the customer billing and reimbursement process have all contributed.  While we expect service margin in 2017 to increase relative to 2016, we are not modeling any incremental growth from the Q1 ’17 level given that changes in product and payer mix can have some influence and likely favorably affected margin in the most recent quarter.  Nonetheless, we think further growth in average reimbursement would likely benefit margins.  

Q1 OpEx was $2.8M, while slightly higher than our $2.7M estimate it was about 8% lower than the comparable prior-year period.  OpEx has been relatively flattish over the last 9 quarters – over the same period revenue has increased by 62% (Q1 ’15 vs Q1 ’17).  This has resulted in substantial improvement in operating leverage as measured by OpEx as a percentage of revenue – which has gone from 152% in 2014, 108% in 2015, 86% in 2016 and to a record low of 73.2% in Q1 2017.  That improvement has also been reflected in the greatly decreased cash burn.   

The $3.4M in cash collections in Q1 also was a new record.  CBMX used $495k in cash for operations in Q1, down from $539k in Q4 ’16 and from $1.7M in Q1 ‘16.  Cash balance at quarter-end was $3.2M, compared to $3.7M at the close of 2016.  Management believes the current cash balance is sufficient to fund operations for at least the next 12 months.  Based on the current burn rate and expectations that revenue and profitability continue to improve, we think the current cash balance should be more than sufficient to fund operations until Q4 2017 - which is when management is forecasting being to the point of cash flow break even.    


Operational Update: 

Miscarriage analysis…
Over five consecutive quarters we have seen very strong pricing of miscarriage analysis testing, continued action by more insurers including CMA as ‘medically necessary’ for the evaluation of pregnancy loss and a growing database of evidence supporting the use of CMA.  Since January 2016 at least 25 payors have updated their coverage policies relative to miscarriage testing.  Management, using their industry insight, has indicated that they believe this positive shift will continue.  

Another reason for the rapid miscarriage revenue growth has been retraining of the company’s sales force – management noted on a recent earnings call that at around mid-2016 they had their sales reps focus almost entirely on building their miscarriage franchise.  This appears to have paid dividends as CBMX recently noted that they added several large accounts.  We expect, based on the industry fundamentals and CBMX’s direct efforts to capitalize on them, to result in continued growth of their miscarriage testing products.     

Miscarriage analysis generated $2.0M in revenue in Q1 on 1,105 tests sold –  this compares to $1.6M (+26%) and 995 (+11%) tests in Q1 2016 and $1.9M (+9%) and 1,029 (+7%) tests in Q4 2016.  Average pricing per test in Q1 was $1,843, a new record and up from $1,630 (+13%) in Q1 2016 and $1,810 (+2%) in Q4 2016.  

While miscarriage testing had already been a major catalyst to the company’s growth, with it now accounting for about 54% of total revenue, growing volumes and a rapid increase in average pricing, coupled with recent supporting industry fundamentals and CBMX’s continued dedicated focus on this area, there is no sign that revenue will slow.  The recent jump in average pricing is not only benefitting revenue, it is also having a dramatically positive effect on margins and profitability.          

IVF (CombiPGS, Multi-PGS, PGD)…
CombiPGS (IVF test) volumes grew 37% yoy and were up 21% from Q4 2016 to 230 in Q1.  Volumes had effectively stalled around the 190 – 200 tests per quarter range throughout 2016 as CBMX had shifted more of its focus towards growing their miscarriage analysis tests.  But a renewed focus on growing PGS volumes through sales force retraining (included as part of their national sales meeting in January 2017), similar to what helped grow miscarriage analysis in 2016, as well as installing one of their lead IVF reps to head the IVF sales effort, seems to be bearing fruit.  Additionally, management noted on the Q1 call that PGS-NGS demand has picked up and contributed to growth in the quarter. 

PGS pricing dipped about 8% sequentially but was just slightly better than flat from the comparable prior-year period.  The significant jump in volume helped to push PGS revenue to $309k in Q1 – a record high and representing yoy and sequential growth of 39% and 11%, respectively.  

Prenatal…
Prenatal volumes were generally flat in 2016 compared to the prior year and averaged approximately 290 tests per quarter.  As we noted in the recent past, we think one issue since around early 2015 has been CBMX’s distribution partner, Sequenom, driving a push of their NIPT tests.  And LabCorp’s (LH) recent acquisition of Sequenom likely shook things up even more.  On the positive side, management recently noted that they were able to pick up some of Sequenom’s accounts to which they can now sell direct.  This appears to be now showing up in the numbers as prenatal volume and revenue grew 16% and 59% from Q1 2016 – the big jump in revenue also reflects a 37% increase in average pricing.  In fact at $1,661 per test, pricing looks like be at a record high – management attributed the strength in pricing to favorable payor mix.     

In addition to onboarding of additional accounts and recent increase in pricing, we continue to think there are other reasons to be optimistic about the prenatal business.  This includes recent updated recommendations from ACOG and SMFM (see link below to our updated report) supporting the use of CMA for prenatal diagnosis and additional recent clinical evidence highlighting the significant accuracy issues (i.e. susceptibility to high rates of false-positive and false-negative results) of NIPS.  And while NIPS demand remains robust, and could benefit further from a recent update by the American College of Medical Genetics and Genomics (ACMGG) recommending use of it for screening of Patau, Edwards and Down Syndrome in place of conventional screening, its accuracy issues mean that CMA will continue to be used as a confirmatory diagnosis.  In fact ACMG's recent recommendation notes that, "For some patients the goal in prenatal screening may be to maximize the detection of fetal genetic diagnoses. In this
scenario, fetal diagnostic testing (e.g., chorionic villous sampling or amniocentesis) followed by chromosomal microarray (CMA) using fetal DNA should be offered, and NIPS may not be the best choice."     

Pediatric…
Pediatric volume growth was flattish in 2015 and fell about 4% in 2016, although volume in the second half of ’16 was up about 2% yoy.  Q1 2017 volume was 513, up 14% yoy but down 1% from Q4 2016.  Despite the recent softness in volumes, we continue to think pediatric has some room for incremental volume growth through the remainder of 2017.  

Non-array…
While not considered CMBX’s bread-and-butter focus, non-array has and continues to be an important contributor.  Non-array volume and revenue grew 15% and 20%, respectively, in 2016 accounting for approximately 9% of total diagnostic services revenue.  Q1 2017 saw non-array volume increase 2% yoy and 6% sequentially.  But, despite pricing of non-array continuing to grow, it remains at roughly 25% of CBMX’s average microarray tests.  As such, while still meaningful contributor to revenue, we don’t expect this segment to be much of a driver of the top-line or of margins.         

We are maintaining our $12/share price target. See below for free access to our updated report on CBMX. 

READ THE FULL RESEARCH REPORT HERE

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