Pacific Biosciences Of California, Inc. Q3 FY2021 Earnings Call

Good day, everyone and thank you for standing by. Welcome to the Pacific Biosciences of California Incorporated Third Quarter 2021 Earnings Conference Call. At this time, all participants are in a listen-only mode. And after the speakers' presentation, there will be a question-and-answer session. I would now like to hand the conference over to the Director of Investor Relations, Mr. Todd Friedman. Please go ahead, sir.

Good afternoon and welcome to PacBio's third quarter 2021 earnings conference call. Earlier today, we issued a press release outlining the financial results we will be discussing on today's call, a copy of which is available on the Investors section of our website at www.pacb.com, or alternatively as furnished on Form 8-K available on the Securities and Exchange Commission website at www.sec.gov. With me today are Christian Henry, President and Chief Executive Officer; Susan Kim, Chief Financial Officer; and Mark Van Oene, Chief Operating Officer. Before we begin, I'd like to remind you that on today's call, we will be making forward-looking statements, including providing predictions, estimates, plans, expectations, and other information. You should not place undue reliance on forward-looking statements because they are subject to assumptions, risks, and uncertainties and may differ materially from actual results. These risks and uncertainties are more fully described in our press release issued earlier today and in our filings with the Securities and Exchange Commission. We disclaim any obligation to update or revise these forward-looking statements. In addition, please note that today's call is being recorded and will be available for audio replay on the Investors section of our website shortly after the call. Investors electing to use the audio replay are cautioned that forward-looking statements made on today's call may differ or change materially after the completion of the live call. I'll now turn the call over to Christian.

Thank you, Todd, and good afternoon, everybody. Thanks for joining us. On today's call, I will start with a brief update on our strong third quarter performance. Next, I will discuss the progress we are making in some of our target markets, and finally, I'll share how both PacBio and the research community more broadly are innovating to further drive the utility of HiFi sequencing. Q3 marked another successful quarter as we continue to make solid progress against our strategic initiatives. We achieved another all-time record for revenue in the third quarter, with product and services revenue of $34.9 million, an 83% increase compared to the third quarter of last year and a 14% increase over the second quarter of this year. We installed 44 Sequel II and IIe systems, which is also an all-time quarterly high and brings our total installed base to 326 units, almost double the installed base we had at the end of the third quarter last year. Sequel II and IIe is now the most installed PacBio sequencer in the history of our company and we are on pace to break our record for the most sequences placed in a single year. Nine of our system orders were new to PacBio instrument customers from across all regions, which is encouraging as it demonstrates our investment in developing a world-class commercial organization is enabling us to reach more customers than ever before. As of the end of the quarter, we have doubled our quota-carrying sales team, achieving that goal a quarter ahead of our plan. Additionally, the product enhancements that we made over the past year are providing more value to our customers, which is driving adoption of our platform. Over the past year, we've been working to develop tools to help us understand our growth in specific target markets. And today, we're pleased to provide some insight into the revenue contribution from these key markets. We will provide this information periodically. Additionally, please note that the size and relative growth rates are approximate and intended to be used as directional in nature. First, the human germline market is our largest and fastest-growing and contributes just over one-third of our total revenue year-to-date. Included in this market are translational research customers, focused on areas like rare and inherited disease, carrier screening, pharmacogenomics, and HLA as well as population genomics and other research initiatives. Human germline includes customers like Children's Mercy Research Institute which is showing signs of success using PacBio HiFi in the genomic answers for kids program. Recent findings from the institute help substantiate the use case for accurate long-read sequencing in the clinical research setting. The program has completed over 600 HiFi genomes to date and uncovered multiple diagnostic findings attributed to disease, including structural variants, single nucleotide variants, and repeat expansion disorders that were not found with previous sequencing methods. Specifically, HiFi WGS uncovered over four times more rare coding structural variants than short-read WGS and found variants and genes of unknown significance in over half of the undiagnosed cases. These genes or variants may prove one day to be pathogenic and provide insight into unanswered questions today. Outside of rare and inherited disease, customers in our human germline focus include Prenetics, a leading genetics and diagnostic health testing company, and a new instrument customer in Q3 that installed a Sequel IIe to further differentiate its carrier screening test outside the United States. It also includes existing PacBio customers like Berry Genomics. Berry announced last week that they received NMPA approval for the Sequel II which they will brand as the Sequel II CNDX in China as a clinically qualified system. This approval is an important step for them to submit data for clinical trials and its plan for selling the Sequel II directly to hospitals. This milestone also marks the first regulatory body to approve a PacBio instrument. Other programs in our human germline category include the human pangenome reference project which uses PacBio sequencing to build a more diverse representative reference genomes. The project has already made available over 40 reference-quality human genomes to researchers around the globe and expects to complete hundreds more. Moving on, the plant and animal market with the myriad of diverse and complex genomes continues to be a main staple for highly accurate long-read sequencing and year-to-date represents just under one-third of our revenue. This category includes initiatives like the European Reference Genome Atlas which is leveraging PacBio HiFi sequencing to help generate reference-quality, complete, and error-free genome assemblies towards its goal to ultimately assemble at least 200,000 plant and animal species across Europe. It also includes customers like the USDA which installed multiple Sequel IIe's in the third quarter, utilizing their remaining year-end budget. We're encouraged by the USDA's progress towards its five-year science blueprint and its goal to use WGS to tap into genetic diversity and use genomic technologies to accelerate breeding progress, decrease susceptibility to climate change, pests, and diseases, and increase yield potential. Next, roughly 20% of our business comes from infectious disease and microbiology applications which includes customers like Drexel University who installed a Sequel II/IIe to address its needs for COVID-19 research today and to have a pathogen surveillance solution on hand that prepares them for the next emerging threat like respiratory infections. Also related to infectious disease and microbiology, Inqaba Biotech, our African distributor, has partnered with the African Center of Excellence for Genomics of Infectious Disease to place the first Sequel IIe in West Africa. Professor Christian Hoppe will implement HiFi sequencing at the center to fill the gaps from other short and long-read technologies and to help provide a more complete genetic picture of viruses and microorganisms. Finally, just about 10% of our revenue today comes from oncology and emerging applications. While still nascent today, long-read sequencing has been demonstrated as a useful tool in emerging applications like gene therapy, CRISPR, and synthetic biology, and we see a growing list of publications and studies supporting the use of PacBio Technology in these areas. What's exciting to me is that as we reach more customers, we expect to see important new applications of long-read sequencing emerge which will further catalyze our growth. Finally, we expect the addition of a short-read sequencing platform to drive growth in oncology applications upon its launch. One of our core strategies to accelerate the adoption of HiFi sequencing has been to develop end-to-end kitted solutions to make PacBio sequencing accessible to more labs and to simplify customer workflows. One of these kitted solutions includes our HiFiViral kit for COVID-19 which we expect to launch in the coming weeks. HiFiViral allows customers to scale genomic surveillance testing quickly and efficiently with an accurate and robust solution to capture all variants, including novel mutations. In our view, it also offers a simpler kit than protocols from other providers with fewer reagents and less pipetting at a very competitive price. The University of Louisville, for example, explained that their early access use of HiFiViral allowed them to reduce hands-on time by 80% while improving mutation detection compared to PCR amplicon approaches used by other sequencing technologies. We are extremely proud of this assay design. Our team developed a robust product with redundancy and capture design, allowing HiFiViral to catch emerging variants, and we've already seen it identify novel variants missed due to other assays' fixed designs. We look forward to sharing more when we officially launch the kit in the next few weeks. Beyond HiFiViral, we plan to also release an updated end-to-end microbial genome assembly application on the Sequel IIe system. This update doubles the current multiplexing capacity while continuing to deliver the industry's leading standard for reference-quality microbial genomes. Together, these two releases provide public health and microbial research labs with a powerful menu of applications to service a broad range of use cases on their Sequel IIe platform. With this exciting set of improvements for WGS, we're continuing to build on PacBio's unique ability to simultaneously detect not only the genomic information but also the epigenetic signature. We're expecting to bring an updated and vastly improved version of this feature to the Sequel II and IIe platforms early next year and have received immense interest in this feature at ASHG last month. Customers are already talking about seamlessly adding methylation to their PacBio sequencing runs to bolster their research. As you can see, we're committed to making HiFi sequencing not only the highest quality but also the easiest to use and the most complete data type available. With the addition of Circulomics in the third quarter, we are already beginning to see progress in simplifying and improving long-read sample prep. This past quarter, the team collaborated with the Coriell Institute for Medical Research to develop a high molecular weight DNA reference product based on its NIGMS and NHGRI cell repositories, which are among the most widely used repositories in genomics research. Coriell's adoption of Nanobind is a testament to the superior quality of the technology and the growing demand for long-read sequencing which often requires high molecular weight DNA. We are pleased to have a solution in-house that addresses this important part of the long-read sequencing workflow and we're fully committed to supporting customers on any platform. In the backdrop of all these improvements, we're pleased to see data published in September from the Association of Biomolecular Resource Facilities that compares major commercial short and long-read sequencing technologies which affirms PacBio as a leader in accurate and complete sequencing. Specifically, the publication shows that circular consensus reads or HiFi reads had the lowest error rate of all technologies and the highest mapping rate and the highest precision in calling variants in clinically relevant regions. And there's still headroom to make HiFi more accurate as the scientific community keeps pushing their boundaries. The genomics team at Google Health, for example, shared a feasibility study on the deep consensus tool that builds on PacBio software to produce even more accurate HiFi reads. According to the preprint, the software reduced read-level errors by 42% and increased total HiFi yield by approximately 9%. The tool also increased the yield of Q30 and Q40 reads. Similarly, the PacBio team collaborated with bioinformaticians at NVIDIA in a study to train deep learning models to polish HiFi reads and reduce errors by 25% to 40%. As you can see, sequencing accuracy is a North Star and we'll continue to invest in raising the bar. Improved accuracy has the potential to translate into more clinically relevant genomic discoveries, more complete and better reference-grade genome assemblies, both human and non-human, and higher sensitivity to novel mutations in viruses and bacteria. As we expand our installed base and get HiFi sequencing into more customers' hands, it creates an environment where researchers can push the boundaries of Sequel II and its addressable applications. The Broad Institute, for example, recently published their MAS-ISO-seq protocol which has the potential to transform the way single-cell and RNA-Seq are performed. According to the Broad, this new protocol achieved up to a 22x improvement in throughput, generating up to 40 million isoform reads per 8M smart cell and is fully compatible with most protocols that generate full-length cDNA, including existing 10x genomics single-cell cDNA libraries. Not only is this a breakthrough in the amount of single-cell data obtainable in a Sequel II/IIe run, but deciphering full-length isoforms is something currently unattainable on short-read single-cell sequencing or site-Seq. This is especially important as their unique isoforms associated with specific cell types relevant to cancer and disease. Finally, 1.5 months after we completed our acquisition of Omniome, I'm pleased to report our development timelines remain on track globally to launch the first platform using the Omniome technology in the first half of 2023. Our combined R&D teams are making solid advancements, leveraging each other's expertise. We have seen an increase in the number of invention disclosures submitted, including dozens of new disclosures leveraging the synergies between the company's technologies. With that, I'll turn the call over to Susan to discuss our financial results. Susan?

Thank you, Christian. As discussed, we are pleased to report another record revenue quarter in the third quarter of 2021, with $34.9 million in product and service revenue which represented an increase of 14% from $30.6 million in the second quarter of 2021 and an increase of 83% from $19.1 million in the third quarter of 2020. Instrument revenue in the third quarter was $15.9 million, an increase of 12% sequentially from $14.3 million in the second quarter and a 106% increase from $7.7 million recorded in the prior year quarter. We delivered 44 Sequel II and IIe systems during the third quarter, growing the installed base to 326 systems as of September 30. Turning to consumables, revenue of $14.6 million in the third quarter grew 19% sequentially from $12.2 million in the prior quarter and was up 82% from $8.0 million in the third quarter of last year. The growth in consumable revenue reflects increased smart cell usage as a result of our growing install base of Sequel II and IIe systems and increased average utilization per instrument. Sequel II and IIe consumables represented approximately 85% of our total consumable shipments in the third quarter, with the rest from older systems and other consumables. Annualized pull-through system on the Sequel II and IIe install base in the third quarter remained relatively strong at approximately $175,000. We continue to observe increasing utilization from customers connected to our smart fleet network, further evidence that customers are sequencing on PacBio more than ever. Finally, service and other revenue grew to $4.4 million in the third quarter compared to $4.1 million in the prior quarter and $3.4 million in the third quarter of 2020. Our service revenue growth reflects the growing install base of Sequel II and IIe. Shifting to a regional view, Americas revenue of $19.4 million more than doubled from the third quarter of last year. Of note, in the third quarter, we installed the first Sequel II unit in South America. Moving to Asia-Pacific, revenue of $9.2 million grew 58% year-over-year and marked the fifth straight quarter of consumable revenue growth, representing the increasing installed base and continued improvement in utilization since the start of the pandemic. Finally, EMEA revenue of $6.3 million was up 46% compared to the prior year and roughly flat on a sequential basis. Our commercial presence continues to expand in the region and we signed additional distributors in the third quarter, including in Spain, the Middle East, and North Africa, and they have already shown tangible signs of driving new business. As a result of our recent acquisition, starting this quarter, we will begin sharing both GAAP and non-GAAP results for gross margin, operating expenses and net income or net loss. We believe that reporting GAAP and non-GAAP measures will provide our investors with a deeper understanding of the company's operational performance. I encourage you to review the GAAP reconciliation of these non-GAAP measures which can be found in today's release for more information. GAAP gross profit of $15.4 million in the third quarter of 2021 represented a gross margin of 44%. Excluding fair value inventory adjustments and amortization of intangibles, third-quarter 2021 non-GAAP gross profit of $15.7 million represented a gross margin of 44.9% compared to a gross profit of $13.8 million or 44.9% in the second quarter of 2021. Benefits from higher factory utilization were partially offset by expenses we incurred as a result of continuously enhancing our manufacturing process as we drive higher volumes through our factory. Year-over-year non-GAAP gross profit was approximately 7.9 points higher compared with 37% in the year-ago quarter, driven by the higher product volume and improved factory utilization. Moving on, GAAP operating expenses were $89.8 million in the third quarter of 2021 which included merger-related expenses of $11.8 million and merger-related compensation expenses associated with equity acceleration in the context of the Omniome acquisition of $18.9 million. Excluding merger-related expenses, non-GAAP operating expenses in the third quarter totaled $59.1 million, up 15% sequentially compared with $51.3 million in the second quarter and 89% higher than $31.2 million in the third quarter of the prior year. The increase in operating expense compared to the previous quarter and last year was primarily a result of higher headcount-related spend in our R&D and commercial organizations and expenses added from acquisitions in the third quarter. In terms of headcount, we ended the quarter with 687 employees. The increase from 492 as of June 30 was primarily due to hiring in our R&D organization as well as the acquisition of Omniome and Circulomics. As of September 30, we've also doubled our quota-carrying headcount from the start of the year with further growth expected in the fourth quarter. GAAP operating expenses in the third quarter included a total non-cash stock-based compensation expense of $26.6 million which included $11.5 million expense related to the acceleration of certain equity awards as part of the acquisition of Omniome. Excluding merger-related non-cash stock-based compensation, third-quarter 2021 non-GAAP stock-based compensation was $15.1 million compared to $13.9 million in the prior quarter and $4.3 million in the third quarter of 2020. In Q3, we booked a discrete income tax benefit related to the acquisition of Omniome and Circulomics. Both acquisitions were considered nontaxable acquisitions for tax purposes; therefore, the acquired intangible assets do not receive a tax basis adjustment to fair value. The book-to-tax basis difference resulted in a release of a portion of the valuation allowance. The end result was a one-time discrete non-cash income tax benefit on the GAAP P&L of $94.8 million in the quarter. Interest expense in the third quarter of $3.7 million reflects interest expense associated with our convertible notes. GAAP net income in the third quarter of 2021 was $16.5 million or $0.08 per basic and diluted share. Excluding merger-related adjustments, non-GAAP net loss was $47.2 million and net loss per share was $0.23 compared to a non-GAAP net loss of $41 million and net loss per share of $0.21 in the second quarter of 2021 and a non-GAAP net loss of $23.7 million or a net loss of $0.14 per share in the third quarter of 2020. Now, turning to our balance sheet. We ended the third quarter with $1.0 billion in unrestricted cash and investments compared with $1.14 billion at the end of last quarter and $319 million at the end of 2020. Inventory balances increased in the third quarter to $18.3 million, representing 4.2 inventory turns compared with $18.0 million at the end of the second quarter of 2021, which represented 3.9 inventory turns. Accounts receivable increased in the third quarter to $23.9 million, reflecting a DSO of 58 days compared with $19.9 million at the end of the second quarter of 2021, reflecting a DSO of 49 days. Long-term deferred revenue grew approximately $8.3 million in the third quarter to a balance of $18.4 million. The increase reflects largely a cash received from Invitae as part of our collaboration agreement to develop an ultra-high throughput sequencer. Now moving to guidance. For the full year 2021, we are maintaining the guidance we provided on our Q2 earnings call in August. 2021 revenue is expected to grow in the range of 62% to 67% compared to 2020 which represents an annual revenue of approximately $128 million to $132 million. We had a record quarter in Q3 with Sequel II and IIe shipments at an all-time high. As we previously discussed, quarterly revenue mix can be variable based on timing of instrument placements in a particular quarter. We still expect Sequel II and IIe installations to grow in the second half from the 79 we installed in the first half of the year. Moving down the P&L, we expect 2021 GAAP gross margin to be between 44% and 45%. On a non-GAAP basis, which excludes merger-related fair value inventory adjustments and amortization of intangible assets to be about 50 basis points higher. In the backdrop of global supply chain pressures, our team has worked diligently to procure sufficient inventory to meet customer demand for the next several quarters and beyond. However, if there is an unexpected material disruption to our global supply chain or higher-than-expected increase in customer demand, it may become difficult to continue to ensure sufficient availability to meet customer demand, similar to others in our industry. As a result of supply chain pressures, we are starting to incur higher prices for raw materials and components which may have an impact of 100 to 200 basis points on our gross margins over the next several quarters. For GAAP operating expenses, we expect the full year to be between $263 million and $267 million. Excluding merger-related expenses of approximately $31 million in the third quarter, we expect full year non-GAAP operating expenses to be between $232 million and $236 million. This is roughly $15 million higher than our previous full year guidance, largely reflecting operating expenses from Omniome. This guidance also includes R&D expenses associated with Invitae collaboration which we expect to be approaching $20 million by the end of the year. For the full year, we expect interest expense to be approximately $13 million which reflects interest expense and amortization of debt issuance costs for our convertible notes issued earlier this year. We expect weighted average share count for purposes of EPS for the full year to be approximately 204 million shares and 221 million shares for the fourth quarter. The increase in weighted average share count reflects 11.2 million shares issued for our PIPE investment and 8.9 million shares issued for the acquisition consideration in the third quarter. As a reminder, please refer to our press release for a full reconciliation between GAAP and non-GAAP net loss for the nine months ended September 30, 2021. With that, I will turn the call back to Christian. Christian?

Thank you, Susan. With the few months left in 2021, I am proud of all that we've been able to accomplish this year as our achievements positioned the company well for continued long-term growth. We announced and closed the first two acquisitions in the company's history during the quarter and we're extremely pleased with the Omniome and Circulomics teams as we continue to grow our company and build out our new PacBio locations in San Diego and Baltimore. As I discussed earlier, we've performed a more detailed analysis of the markets that we serve and we're translating these learnings into sales opportunities for our expanded commercial team. We continue to invest heavily in our long-read smart sequencing platform with a focus on improving the end-to-end workflow, dramatically increasing throughput and lowering the cost of highly accurate long-read sequencing. We are also accelerating the development of highly accurate short-read sequencing, acquired through our acquisition of Omniome. We believe that having both long and short-read platforms in our portfolio will enable us to offer solutions to our customers that will help them resolve biology and ultimately enable the promise of genomics to better human health. Finally, I look forward and invite you all to our Virtual User Group Meeting next week, November 9, where customers from across the globe will share how HiFi sequencing is expanding knowledge of genomes and inspiring advancements in science. And with that, I'd like to open the call for questions. Operator?

Now with our first question, Mr. Tycho Peterson of J.P. Morgan. Please go ahead.

Thanks. I'll start with the supply chain dynamics Susan flagged at the end. I know, you're reiterating full year guidance, so it doesn't seem like near term issues. And I think you shored up semiconductor supply ahead of some of this. But as we look ahead are there component shortages that you have to kind of worry about, whether it's cameras or semis or otherwise and are you starting to have to work down inventory in the near term?

Yes. Tycho, thanks for the question. I'm going to have Mark answer the bulk of it. But one of the good things about having a very strong balance sheet position is that we're able to order well in advance and we've done that. And so, we're generally in pretty good shape. But I'm going to ask Mark to step in and address the specifics.

Yes, Tycho. So Susan mentioned a little bit of extra costs. We have secured some extra supply to make sure that we're okay. And the one good thing about having really long lead times on our products is that we can plan far ahead. And so, it's actually working a little bit in our favor that we have significantly longer lead times. But I see it has been one of the hardest things for us to get a hold of and obviously we'll be battling the audio industry there a little bit, but we feel pretty good about our supply position right now.

Yes. We feel very confident about the near term and even the first half of next year, and we are positioning the company well for the second half of next year.

And then on the end markets, Christian, I appreciate all the incremental color that was super helpful in terms of your customer segments. Are you able to give us a sense for HiFi penetration, what percentage of your customers are using the HiFi reads today? Are some of these things like the NVIDIA and Google Enhancement going to be rolled out commercially? And what's interesting on the new applications front? You mentioned there are a handful of new ones coming.

Yes. There is a lot to discuss regarding the adoption of HiFi technology. We are observing an increasing number of users transitioning from traditional sequencing to HiFi, and I believe all of our applications are now HiFi-enabled. I suspect this will become the main approach moving forward. Concerning advancements in informatics, we plan to make as much of that clinically and commercially available as possible. This process takes time as we need to consider the existing computational resources in labs and ensure the algorithms can function within standard customer settings. High throughput customers with substantial IT infrastructures will benefit significantly from these advancements. It's crucial to consider the end-to-end workflow. In my section, I highlighted our progress with sample preparation through the launch of our first kits. We are also working to enhance the back end, and the raw read accuracy is continually improving, creating more opportunities and applications. Regarding emerging applications, we are seeing remarkable progress in AAV with some of our customers, making gene therapy and CRISPR important areas for us. Additionally, the recent MAS-ISO-seq paper from the Broad introduces isoform sequencing in RNA, which offers possibilities that short reads cannot access and allows us to operate at a competitive scale. I expect us to develop core kits for these applications to simplify access for customers worldwide. However, as I've mentioned previously, expanding our installed base will lead to the emergence of even more new applications. We have experienced this phenomenon in the past; as we deepen our penetration into the installed base, new applications often arise unexpectedly, providing substantial business opportunities. We are at the beginning of this exciting opportunity.

Great. Two quick ones before I hop off on Omniome and then also NPK clinical whole genome sequencer. Are there milestones over the next year that you would point us to that we should be paying attention to on the development path? And then, speaking of next year, are you willing to make any comments on '22 at this point? I think the Street's guiding at about $188 million.

Yes. Regarding guidance for 2022, our business continues to grow, and I believe we are well positioned to maintain that growth. However, I won’t provide specifics until we reach that stage. My goal is to achieve growth every quarter while keeping our customers happy with excellent products. I’m enthusiastic about 2022. As for Omniome and its product launch, the first thing you can expect is to see data emerging from our new amplification method. To give some background, Omniome had fully developed its EPCR front end and recently completed a successful beta test. The challenge with this front end is that to reach our desired ultra-high throughput and fully scaled capabilities, we needed to create a new front end, which is already well into development. I anticipate data will be released—specifically sequencing data—from this new front end. Additionally, I expect significant discussions around beta tests and early access before we initiate a full launch in 2023. By "full launch," I imply a global one with our complete commercialization capabilities, which I believe will provide a robust platform for introducing this advanced technology to the market. Apologies, I forgot to mention that Mark was going to address Invitae.

You asked for some key milestones. So obviously, on the Omniome front, we do look for some more demonstrated data generation next year. Invitae, we actually have our quarterly Joint Steering Committee with them next week. We're making great progress on all of the concepts around that and we've aligned on all the preliminary assumptions and all the designed input, actually looking to exit our concept phase by the end of next week once we get through that meeting. So really encouraged with the way the teams are working together. And we've kicked off some new working groups with Invitae. So we've got a whole sequencing work group, we've got a front-end sample prep group where they have amazing automation expertise and then another team working on the compute infrastructure because you can imagine, you see that many genomes is going to require a lot of compute power on the back end, but really remain encouraged with the engagement and looking forward to the meeting with them next week.

Yes. And I think to take that development parlance, that Mark was talking about, what it means is that the project is still right on track. It's where we would expect it to be at this point, which as we exit concept into the feasibility and then development phases of a program, we will be able to start demonstrating data, demonstrating working units and really prepare ourselves for launch in accordance with the timeline we've outlined. We haven't really publicly talked about it but we're right on track.

And for our next question, Kyle Mikson of Canaccord Genuity. Please go ahead.

Hey guys, thank you for taking my question. Congrats on the quarter and Prenetics and the sales team, great updates. I want to start with your thoughts on the competitive landscape in long-read, how that's evolving? Your main long-read competitors are pretty busy with some publications of their own highlighting things like using short-read libraries for long-read sequencing, among other things and it's also obviously kind of public outside the U.S. So I guess, are you noticing any change in the competitive landscape of the environment or any changes in types of requests from customers, especially internationally, maybe in Europe or in Asia?

Yes, thank you for the question and for your comments on the quarter. Regarding our competition in long-reads, it's interesting to see that as we analyze where our revenues are coming from, we actually don't overlap significantly. In competitive scenarios, we tend to come out ahead, likely because our systems, as a clinically focused human sequencing company, are highly reliable and provide the necessary answers. This is contributing to our ongoing growth, while our competitors are also experiencing growth. We are currently building our commercial infrastructure outside of the United States to reach more customers, and we are making excellent progress in China, Europe, Japan, Korea, and other parts of APAC. Overall, I am very optimistic about our future, and I don't believe that competition is hindering our growth at all. I actually appreciate having competition in the market, as it drives us to improve. We are a competitive team and aim to provide our customers with the solutions they need. While we respect our competition, I don’t believe it is slowing our growth in any way.

I appreciate that, Christian. That was helpful. I agree that more input is beneficial in long-read. I'd like to ask about Omniome. Were there plans to submit or announce some publications involving Omniome in 2022? Is that still on the agenda? I know this was addressed earlier, but how are the adjustments to the amplification method with Omniome progressing? Have you seen any promising data yet? It sounds like you're planning to launch in the first half of '23, which is encouraging, but is there anything concrete that has excited you so far?

Yes, we're seeing positive data every day, and I truly believe that the team has done an outstanding job. We're very close to the commercial specifications we aim to launch with regarding the clustering work we're doing. We're integrating that directly into the sequencing workflow. The sequencer is effectively processing that data and performing as expected, perhaps even ahead of our timeline. For the first half of '23, you will clearly see opportunities for us to present data and ideally publish peer-reviewed papers that will help everyone understand the significant accuracy and capabilities we're achieving. Our technology will allow us to generate hundreds of millions of reads per run, making it competitive with other technologies in the market. Overall, we are very optimistic about our progress. I was pleased to see the strong technical synergy between the teams, and how proactively they have been working together. The advantages of our single-molecule sequencing technology equip us with essential skills in various areas including entomology and dye and surface chemistry, as well as informatics that streamline our computing workflow. If we can tackle the challenges associated with SMRT sequencing and apply those solutions to SBB, it will expedite development and likely improve the quality of our outcomes compared to if Omniome were operating independently. Currently, the integration is proceeding smoothly, and our product development process is on track. The beta tests using the EPCR method were very successful, indicating both sequencing capability and instrument performance. We're making some modifications to the instrument, but they are not extensive; it's not a complete redesign. However, these adjustments will enhance its power, user-friendliness, and overall capability to penetrate the market and establish our presence, which is something I mentioned when we finalized the acquisition.

The only other thing I'll add, Kyle, and I'm really impressed with the technological shift with EPCR. I'm also really encouraged by the conversations we're having with people that want to explore what applications higher read accuracy will benefit. And so some really good external conversations about access to some sample types to really go and start to explore Q40 probably its accuracy.

I mean, as you know, Mark runs our Corporate Development Group in addition to his day job and has really been taking the charge, leaving a lot of very important conversations around the Omniome technology which bodes well for the future of the technology.

Perfect. I appreciate all that color guys. I think it's awesome. Let me just ask one quick one before I hop off, about COVID. I'm sure you saw the same trends but the COVID sequencing data news published from CDC really stepped up in the summer months. I was wondering if you could break out if that was a material portion of revenue during the third quarter? And then related to that, I guess, it's exciting to see cumulative solutions is going to be launched in the fourth quarter, I guess, as expected. Maybe, Mark, could you just walk through just one more time why that's so meaningful compared to your kind of current ability to do the surveillance testing?

The new HiFiViral?

Yes. Maybe start with that, why HiFiViral, why we're so excited about it?

I'm going to let Susan move on to some of the COVID revenues. But a couple of things that this is important for us to prove. First, to prove ourselves that we could kit a product. And so this is really our first end-to-end workflow with library prep, three sequencing kits and with the back-end informatics. And developing those capabilities was an important thing for us to do. But what I really like about this new product is we've moved now to doing enrichment with molecular inversion probes and which dramatically improves the workflow in the hands-on time. And so if you compare that to ARTIC PCR approaches or other approaches that are on the market, you're going to start to see this really seamlessly plug into existing automation and laboratory technicians just embrace this. And so we really want to make sure that we're going to create a differentiated product from a workflow perspective. I mean also from the way we've been able to tile across the virus, we're unlikely to suffer from dropouts. And so, discovering new variants is going to be really important as those continue to emerge. So we do feel that we've created not just a workflow for the first time but a really good workflow that's going to benefit laboratories around the world. And how the data quality that I think is representative of PacBio which we're trying to build as an organization.

Kyle, regarding revenue volume, we've discussed it being in the single-digit millions, and we are maintaining that revenue level. We are also increasing the number of customers we support for COVID surveillance. Additionally, we are very excited about the HiFiViral product that will be launched this quarter. Our focus is on introducing this complete product and getting it into the market to reach more customers.

Yes. The challenge is that we receive a small fraction of revenue from each sample because we don't have a kitted solution. While more samples are being sequenced and our revenue is increasing, it still remains around a few million dollars per quarter. Therefore, I wouldn't consider it a significant factor in our performance for the quarter. The core business and significant one-time multisystem orders were more impactful. Our multisystem order volume tends to fluctuate each quarter. The real driver has been the expansion of our sales force, which is increasing individual instrument orders in new areas, especially in the Americas, as we divide territories. These splits allow us to engage with more customers and enhance our visibility. I believe this is improving our sales funnel, which is in the strongest position it has ever been.

Great. Thanks for the details, everyone.

And for our next question from Tejas Savant of Morgan Stanley.

Hey guys, good evening. I just wanted to go back to the instrument guidance, Susan. I think you mentioned doing more than 79 units in the second half of the year. And by my math, that sort of suggests about 35 units as a floor for the fourth quarter. That's a pretty big sequential step-down, and I'm sure there's upside to that number. But I'm just curious whether you expect to exceed 44 or did you have any pull forward that we should be thinking about in the third quarter here?

Yes. So I'm going to take that one. The reality is that we did not have much pull forward from the fourth quarter. The business continues to grow but we continue to say that the instrument number will be variable from quarter to quarter, as you've seen in each of the three quarters of this year so far. You're right; that range might be more variable than what we've seen in the last few quarters and therefore, might be a little too wide. But at this point, we are planning to grow every single quarter and are very focused on serving our customers, making sure that we drive instrument placements and preparing our customers for '22 as well. So there's a lot of factors involved. And I think what Susan said is more than 79, so I think you can take it at that.

Got it, okay. And Christian, what are you expecting around the year-end budget flush on that sort of related note here?

That's a good question. We're still early in the quarter, so we don't have an answer yet. We have had good quarters in the past. My first full quarter last year in Q4 was very strong due to some budget flush opportunities. We are being cautious about not overextending ourselves and are focused on our core business. If additional orders come in, we are ready to fulfill them. Mark's team has done an excellent job preparing the supply chain and manufacturing organization to support a wide range of outcomes, which is quite exciting.

Got it. And then one on the commercial expansion here. You said you doubled your quota-carrying sales team a quarter ahead of plan and you plan to grow further in the fourth quarter. Do you have a new target in mind relative to the '22 reps you had as of year-end 2020? And then any color that you can share in terms of the new rep productivity here?

Yes, I'll start with the productivity question. One thing we've observed, which I mentioned on our last call, is that representatives entering new territories are taking longer to ramp up than our historical average. They may take as long as three quarters, around six to nine months, to get started. Those entering territories where we are dividing an existing area with some established sales funnel are likely to take about six months. In regions outside the United States, the timeline is more variable due to funding challenges, including navigating tender processes and generally lower funding levels compared to the U.S. On the whole, six to nine months seems appropriate based on our observations. As I've noted in our prepared remarks, we're seeing the positive impact of expanding our commercial organization. This is evident in the strength of our performance in the Americas and in the increase of single-unit orders, indicating we're reaching more customers. People are responding positively to the Sequel IIe and recognizing the value we're offering, as they see the advancements on the front and back ends. The overall value proposition is becoming increasingly persuasive. Looking ahead to 2022, we need to continue growing our sales force, primarily focusing on Europe, with expansion into the Asia-Pacific region as well. We're looking at opportunities in Japan, Australia, and Korea, and I see significant potential in China. We are likely to identify additional leadership roles in China to enhance our efforts and broaden our customer base significantly. This will be a major focus in 2022 regarding our sales representatives. Whether we'll double the number of sales reps remains uncertain until we finalize our budget in a few weeks, but I wouldn't be surprised if we decide we need to ensure we're reaching as many customers as possible.

Got it, and then one final one on China from me, Christian, that's obviously a major geography for you. Can you give us some color there on what you're seeing in terms of the order book and pull-through? And how do you see those trends evolving post-NMPA approval here?

Yes. I think it's too early to say post-approval. I think we'll wait and see and talk to Barry. That's pretty fresh news. But I think in China, we're seeing the business continue to be strong. Hopefully, it continues to be decent.

It still continues to be strong, improving since COVID every quarter.

It continues to improve. And so I think we're really bullish on China. I think there are macro factors that are completely outside of our control between the U.S. and China that maybe I start to lose sleep over a little bit but they're completely out of our control. But based on what we control and what we can see and what customers are actually doing with our technology, we're quite encouraged and we think the opportunity is still in front of us, quite frankly.

And for the next question, Dan Brennan of Cowen. Please go ahead, sir.

Great, thanks for taking my question. Maybe just, Christian, you alluded to it a couple of times during the call but just on the funnel itself, I don't know in the past kind of look on a clarity you provide on it. But just could you give a sense of what the funnel looks like today maybe like customer segment and kind of how it's evolved over the course of 2021?

Yes. First of all, Dan, congratulations on your new role. We're going to miss Doug but it's great to have you on the team. Regarding the funnel, we haven't provided much detail and I don't think we will because those internal processes are constantly evolving and improving. We've spent a lot of time this year refining the funnel, establishing a common language for the sales team to communicate effectively with each other and with executives. This will enhance our forecast accuracy, allowing us to present you with projections that we hope will be reliable. We discussed for the first time some of the market segments we are focusing on and our associated revenues. Previously, the company lacked these capabilities, and we had to build them from the ground up. At this moment, it's probably not the right time for me to elaborate further on the specific funnel, but I can say that our expanding commercial reach is positively affecting the quality and size of the funnel, providing us better visibility into the future than in the past. However, in any given quarter, the significant role of instruments in our revenue can create variability since they represent large amounts and could influence results. Over time, though, we are very encouraged by the strong demand we're seeing for these products and platforms, which will support our growth. As we grow, we can enhance our gross margins and achieve better operational leverage, ultimately steering towards cash flow breakeven and improved outcomes.

That was informative. I would like to ask about academic funding. It appears to be quite strong based on the figures entering '22. Is that something your sales team is noticing an effect from? I'm curious about how this might influence our growth over the next 12 to 24 months.

It's interesting because in the past, we all relied heavily on academic funding, but today we have a more balanced approach with academic and translational research, along with customers like Invitae promoting their products. Currently, the academic funding environment appears to be strong, providing us with good opportunities. The Americas continue to lead in this area. In EMEA, there is a reasonable amount of funding, but it's more challenging to access, and our presence there is still relatively small, so we need to expand aggressively. Overall, I believe the academic market is in good shape right now. A great example is Children's Mercy of Kansas City, which has already sequenced over 600 genomes and is continuing to grow. Accounts like this demonstrate the effectiveness of long-read sequencing and are crucial to our success as a company; we are pleased to see them thrive.

And we no longer have questions on the queue. At this point, I would like to turn back the call over to Mr. Todd Friedman for some closing remarks.

Thank you all for joining us today. As a reminder, a replay of this call will be available on our website in the Investor Relations section as well as through the dial-in instructions contained in today's earnings release. This concludes our call and we look forward to updating you on our progress in the fourth quarter.

And this concludes today's conference call. Thank you, everyone, for your participation. You may now disconnect. Thank you, all.