Why is Illumina’s Stock Price Falling?
Fewer than half of Americans own a passport. Some say that’s because their own backyard is such a big one. The half of our audience that hails from there may not be aware of what’s happening with global travel because they’re blissfully watching the stock market soar inexplicably.
According to the World Tourism Barometer, international arrivals plunged 81% in July and 79% in August, the two busiest months of the year for travel. Up until August, 700 million fewer arrivals than 2019 has translated into a loss of US $730 billion in export revenues from international tourism, more than 8X the loss experienced during the 2009 global economic crisis.
For those who still travel, many countries now require a negative polymerase chain reaction (PCR) COVID-19 test within 72 hours of your flight leaving. Good luck with that. Labs are absolutely slammed right now. (If you’re a paying subscriber, email us for an intro to a trusted test provider.) With every life sciences company under the sun doing some sort of “pandemic pivot,” we decided to see how that’s benefiting one of the biggest holdings in The Nanalyze Disruptive Tech Portfolio – Illumina (ILMN).
Why is Illumina’s Stock Price Falling?
You may have noticed the title of this article is a bit clickbait-y, but that’s because it answers a very popular question. For most stocks, people ask Google that question all the time – “why is XYZ stock falling?” What Google won’t tell them is that stocks rise and fall all the time for any number of reasons, and sometimes it’s just normal market movements. When the size of a stock’s drop exceeds the broader market’s drop, then there may be some “there there.” Yesterday, Illumina stock fell just over -7% at market closing price. Let’s adjust this first:
- Illumina return adjusted by market return – (-7.05 minus -2.45) = -4.6%
People with decade-long investment horizons don’t ask why a stock fell less than five percent. Earlier this year, Illumina fell over -30%, but then so did the entire market. This past September, Illumina shares tumbled -7.5% when they announced plans to buy Grail for $3.5 billion in cash and $4.5 billion in shares, a price tag that investors may have thought was too rich. (Illumina plans to raise $1 billion in capital through debt or equity issuance to fund the deal which is expected to close in mid-2021.)
Stocks rise and fall for many reasons, but abnormal movements are often associated with earnings announcements. Turns out that yesterday, Illumina announced Q3 2020 earnings, which is probably why their stock fell -4.6%. As long-term investors, we prefer to focus on yearly results, but we’re interested in the most recent earnings report to see how Illumina is being affected by “the Rona.”
Illumina’s COVID Response
Looking at Illumina’s 10-Q SEC filing reminds us of why this company has performed so well over the years. Incredibly, over 70% of Illumina’s revenues came from consumables. Also known as the “razor and blades model,” these business models work well when consumables are high-margin products, and Illumina is no exception with 2019 gross margins nearing 70%.
Like every company out there, Illumina plasters the usual “in these unprecedented times” mantras all over their homepage. To understand how they’re actually being impacted by the pandemic, let’s look at their sales breakdown for 2020 year-to-date relative to the same period in 2019.
On display is the resilience of Illumina’s business model. While sales of their instruments have plummeted 27% so far this year, sales of consumables have only fallen 6%. In order to understand if the increase in COVID testing will impact Illumina, we can turn to an article by Nature this past summer which talks about how the PCR method – the gold-standard required by most countries that require COVID testing – requires “trained personnel, specific chemical supplies and expensive instruments that take hours to provide results and are often available only in labs that provide routine, centralized services,” which is why such tests are so tough to get right now in a timely fashion.
According to a comprehensive article by Labome, the manufacturers of the most commonly used PCR machines are names like Thermo Fisher (TMO), Bio-Rad (BIO), and Qiagen (QGEN). Illumina is not on that list because they sell next-generation-sequencing (NGS) machines that played a critical role in identification of the pathogen. Once the pathogen was identified and the genome shared publicly, diagnostic tests (PCR) were then developed, based on the pathogen’s genomic sequence. While PCR testing shows the existence of COVID, NGS machines can still be used going forward to show how the virus mutates over time. While PCR testing may be the gold standard today, new tests are being developed that could be the gold standard tomorrow.
The Cancer Blood Test Opportunity
Earlier this year, Illumina unveiled two new sequencing systems that boast a 50% reduction in operating cost, 6X faster secondary analysis, and a 4X reduction in storage footprint. Lowering the cost of sequencing increases use cases which increases their install base (presently at ~15,000 machines) which increases consumables revenue. Growth drivers include non-invasive prenatal testing (NIPT), population genetics, and of course, cancer blood testing.
In our earlier article on A Liquid Biopsy Stock That’s Going Places, we noted three broad categories of cancer blood testing which Illumina defines as screening, therapy selection, and monitoring:
Screening is where the biggest opportunity lies, and that’s where Grail’s Galleri test excels with the ability to identify 50 different types of cancer from a simple blood draw.
As for the competition, Illumina provides another slide that lists the key players in each of the three categories.
In the early screening space, you have three publicly traded companies now – Exact Sciences (EXAS) which recently acquired Thrive, Guardant (GH), and Illumina’s Grail. The only private company left is Freenome which has raised more than $500 million from investors such as Roche, Novartis, Google, and Fidelity. In the therapy selection space, we also see Illumina, a result of their partnership with Roche announced earlier this year which can be summarized as follows:
As part of the agreement, Illumina will grant Roche rights to develop and distribute in vitro diagnostic (IVD) tests on Illumina’s NextSeq™ 550Dx System, as well as on its future portfolio of diagnostic (Dx) sequencing systems. Roche will in turn collaborate with Illumina to complement Illumina’s comprehensive pan-cancer assay TruSight Oncology 500 (TSO 500) with new companion diagnostic (CDx) claims.
As we discussed before, companion diagnostics (CDx) are a form of personalized medicine that help drug companies target patients based on their genetic profiles. Also note that Roche owns Foundation Medicine, a key competitor for Guardant.
Invitae (NVTA) now owns ArcherDX which plays in both therapy selection and monitoring, and Guardant is the only company to play in all three areas. Here’s how our own portfolio is exposed to each area following the spate of M&A activity.
|Early Detection||Therapy Selection||Monitoring|
Broadly speaking, Illumina’s revenues for the first nine months of 2020 are only 12% less than last year. Since the Rona reared its ugly head at the beginning of this year, shares of Illumina have risen +4% compared to a Nasdaq return of +37% over the same time frame. The best thing we can do is hope the share price hits new lows. If our thesis hasn’t changed – and it hasn’t for over a decade now – then Illumina share price drops are simply opportunities to buy a great business at a discount.
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