Rebecca Chambers - Illumina, Inc. Francis A. deSouza - Illumina, Inc. Sam A. Samad - Illumina, Inc..

Tycho W. Peterson - JPMorgan Securities LLC Adam Wieschhaus - Cowen & Co. LLC Jonathan Groberg - UBS Securities LLC Daniel Arias - Citigroup Global Markets, Inc. (Broker) Derik de Bruin - Bank of America Merrill Lynch Ross Muken - Evercore ISI Amanda L. Murphy - William Blair & Co. LLC William R. Quirk - Piper Jaffray & Co. Isaac Ro - Goldman Sachs & Co.

Dan Leonard - Deutsche Bank Securities, Inc. Steve C. Beuchaw - Morgan Stanley & Co. LLC Jack Meehan - Barclays Capital, Inc..

Welcome to the Fourth Quarter 2016 Illumina, Inc. Earnings Conference Call. My name is Sherry and I will be your operator for today's call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Please note that this conference is being recorded.

At this time, I would like to turn your call over to Rebecca Chambers. Please go ahead..

Thanks, Sherry. Good afternoon, everyone, and welcome to our earnings call for the fourth quarter and fiscal year 2016. During the call today, we will review the financial results released after the close of the market and offer commentary on our commercial activity, after which we will host a question-and-answer session.

If you have not had a chance to review the earnings release and earnings presentation, both can be found in the Investor Relations section of our website at illumina.com.

Participating for Illumina today will be Francis deSouza, President and Chief Executive Officer; Marc Stapley, EVP and Chief Administrative Officer; and Sam Samad, Chief Financial Officer. Francis will provide a brief update on the state of our business and Sam will review our financial results.

This call is being recorded and the audio portion will be archived in the Investor section of our website. It is our intent that all forward-looking statements regarding our expected financial results and commercial activity made during today's call will be protected under the Private Securities Litigation Reform Act of 1995.

Forward-looking statements are subject to risks and uncertainties. Actual events or results may differ materially from those projected or discussed. All forward-looking statements are based upon current available information and Illumina assumes no obligation to update these statements.

To better understand the risks and uncertainties that could cause actual results to differ, we refer you to the documents that Illumina files with the Securities and Exchange Commission, including Illumina's most recent forms 10-Q and 10-K. With that, I will now turn the call over to Francis..

Thank you, Rebecca, and good afternoon, everyone. As we shared a few weeks ago, we had a stronger than expected finish to 2016. Q4 revenue equaled $619 million, driven by robust sequencing consumables growth and strong demand for our microarray portfolio.

Revenue grew 8% to $2.4 billion for the full year with sequencing consumable and microarray growth offset by declines in sequencing instruments. Geographically, Asia-Pacific saw impressive growth as revenue increased 29% in Q4 versus the prior year, propelled by China, which grew approximately 50%. Europe grew 11%, driven in part by year-end spending.

Americas revenue declined 4% due to lower high throughput sequencing instrument shipments. Demand from oncology testing customers continued to grow and led to annual shipments of $260 million, an increase of 20% versus 2015.

Products like the RUO version of TruSight Tumor 170, or TST 170, that we launched in the fourth quarter are enabling and accelerating the adoption of genomics in this market.

TST 170's enrichment-based target panel simultaneously analyzes DNA and RNA and assesses the mutation status of genes commonly associated with solid tumors to provide a deep view of the underlying genetics of the cancer.

The IUO version of this product will be available in the fourth quarter for pharma companies and their partners to assess patients for clinical trials. In NIPT, we continue to see positive reimbursement trends in the U.S., and today coverage for average risk testing exceeds 100 million lives.

Additionally, we are pleased that many of our largest customers who were previously sending samples to our facility are now running their own tests. And, as a result, sequencing consumables for NIPT grew approximately 65% versus the prior year.

With the transition to in-house testing complete at two large customers, we expect more stable test (04:06) volumes as well as continued growth in sequencing instruments and consumable sales. To further foster NIPT adoption in Europe, we recently announced the application of the CE mark on our expanded VeriSeq NIPT Analysis Software.

Newly designed for 48 samples versus the current 16 samples, clinical labs will now have access to highly accurate, fast and reliable software for analysis of sequencing data for NIPT. We expect to launch our CE marked VeriSeq NIPT solution shortly, which we believe will further catalyze this market.

Moving now to platforms, a few weeks ago, we introduced NovaSeq, a brand new architecture designed from the ground-up to be the most powerful sequencer available. Since the launch, we have hosted webinars with more than 1,000 attendees and embarked on a three-city road show hosting more than 300 customers.

At these events, we have demonstrated the innovation underlying the platform as well as the workflow enhancements and flexibility of the system. The feedback from these sessions have been very positive.

Supporting our view that NovaSeq will encourage customers to perform higher powered studies to analyze larger swaths of the genome, including whole genome sequencing at greater depth, again demonstrating the elasticity of the genomics market.

Additionally, initial interest is aligned with our expectation that this platform will drive sequencing instrument growth via a multiyear replacement cycle starting now at most of the 800 active HiSeq customers and in future years at HiSeq X customers.

NovaSeq is expected to reinvigorate demand for high throughput instruments, which declined in the fourth quarter, as anticipated. This led to Q4 sequencing instrument revenue of $111 million, down 23% versus the prior year. HiSeq shipments were in line with our expectations.

We exited the year with approximately 35 HiSeq X customers and 37 HiSeq X instruments in backlog, which are candidates for conversion to NovaSeq. NextSeq shipments and orders both grew sequentially as commercial customers scale capacity in part to help satisfy NIPT demand in the U.S. and China.

Interest in MiniSeq continues to ramp and, in the fourth quarter, we shipped more than 110 instruments. We witnessed steady MiSeq demand and now have 5,300 instruments installed. With MiSeqDx now cleared across 20 countries, our outlook for this product remains stable.

Before moving to arrays, I'd like to share that we have decided to end-of-life the NeoPrep instrument. We have deprioritized work on additional applications in favor of more promising investment opportunities.

We have a robust plan to support our customers and for those that wish to continue use of their instrument, we will maintain supply of TruSeq Nano DNA and Stranded mRNA kits for the next year. In Q4, microarray revenue grew 14% year-over-year to approximately $100 million, bolstered in parts by year-end spending.

Continued consumer demand, which increased over 60%, shipments of our Global Screening Array and demand for our Infinium XT family of products drove this record quarter. Our array backlog has grown to the highest level since 2012, benefiting growth in 2017 and beyond.

We've also made good progress in building out our leadership team and adding talented individuals to our board. On that note, I'd like to welcome Caroline Dorsa to Illumina's Board of Directors as well as Garret Hampton, Jonathan Seaton, and Sam Samad to our management team.

A year ago, we created the Executive Vice President and Chief Administrative Officer role overseeing all G&A functions including finance and asked Marc Stapley to take this on. I'd like to thank Marc for his many contributions as CFO over the past five years and look forward to his continued leadership as he hands the CFO reins to Sam.

I will now turn this call over to Sam for a detailed overview of our fourth quarter results..

Thank you, Francis. As Francis mentioned, Q4 revenue grew 5% year-over-year to $619 million, consistent with our preliminary estimates on January 9. Fourth quarter consumable revenue represented 66% of total revenue or $407 million, an increase of 18% compared to the fourth quarter of 2015.

Sequencing consumable revenue grew 20% year-over-year to $331 million. As a result of growth in our installed base, increased HiSeq X utilization and gains in NextSeq pull-through, which again reached the top end of our $100,000 or $150,000 guidance range.

MiSeq pull-through was in our projected range of $40,000 to $45,000 and MiniSeq utilization equaled $24,000. We ended the year with 370 active MiniSeq instruments, which we now forecast will generate annual consumables of $20,000 to $25,000 per box.

HiSeq and HiSeq X utilization were within their respective guidance ranges of $300,000 to $350,000 and $625,000 to $725,000. Going forward, we plan to report a combined pull-through figure for this family of instruments, which is expected to decline as customers use fewer HiSeq consumables or fully decommissioned instruments.

Utilization on the HiSeq family of instruments will depend upon the rate of adoption of the new platform. Services and other revenue equaled $94 million. Strength in genotyping services and sequencing instrument maintenance contracts was offset by an expected decline in NIPT service revenue, as customers migrated to in-house testing.

Turning now to gross margin and operating expenses, I will highlight our adjusted non-GAAP results, which exclude non-cash stock compensation expense and other items. I encourage you to review the GAAP reconciliation of non-GAAP measures, which can be found in today's earnings release and presentation.

Please note that all subsequent references to net income and earnings per share refer to the results attributable to Illumina stockholders.

Our adjusted gross margin for the fourth quarter was 69.9%, lower sequentially by 260 basis points, including 150 basis points of product transition reserves associated with the end-of-life of NeoPrep as well as the HiSeq family. In addition, we have scaled manufacturing operations.

Given this investment is to support future growth, it will take several quarters to be more fully absorbed. Finally, the variable compensation accrual benefits we saw in Q3 contributed to the sequential decline.

As a result of these last two factors, as well as the introduction of a new platform, which historically depresses gross margins, we are forecasting margins to be roughly flat sequentially, but growing later in the year.

Adjusted research and development expenses in Q4 were $121 million, or 19.5% of revenue, an increase of $7 million over Q3, and adjusted SG&A expenses for the quarter equaled $130 million, or 20.9% of revenue, an increase of $13 million sequentially.

Adjusted operating margins were 29.5% compared to 34.4% in the third quarter, lower primarily due to the variable compensation accrual benefits we saw in Q3, as well as Q4 gross margin impacts previously discussed and head count addition.

Operating margin was lower compared to the 33.4% reported in the fourth quarter of last year due to increased investments in manufacturing, head count, GRAIL and Helix.

Excluding GRAIL and Helix, operating margin was 33.9%, a sequential decrease of 430 basis points, again, related to the gross margin impact and variable compensation accrual benefits we saw in Q3.

Stock-based compensation expense equaled $27 million, down sequentially from $35 million and lower than expected due primarily to the timing of executive departures and appointments.

In 2017, stock-based compensation is expected to be 6% of revenue on average and, going forward, we will report gross margin, R&D, SG&A and operating margin including the respective allocations of this charge. This is consistent with the treatment of the expense in our non-GAAP diluted earnings per share figures.

We reported fourth quarter GAAP net income of $124 million and EPS of $0.84 per diluted share. Non-GAAP net income was $126 million or $0.85 of EPS with GRAIL and Helix dilution of $0.05 and $0.03, respectively. This led to 2016 non-GAAP EPS of $3.33, including GRAIL and Helix dilution of $0.27 and $0.09, respectively.

Cash flow from operations equaled $280 million, reduced by 100% of the GRAIL and Helix cash burn of $33 million this quarter. Q4 DSO totaled 56 days, down slightly compared to 57 days last quarter, due to the benefit of higher revenue and strong collections.

Capital expenditures in Q4 were $82 million, and we reported an additional $25 million increase in property and equipment recorded under build-to-suit lease accounting, where such expenses were paid for by the landlord. Consequently, Q4 free cash flow was $199 million.

We ended the quarter with approximately $1.6 billion in cash and short-term investments, including the consolidated cash balances of GRAIL and Helix. During the quarter, we repurchased 1 million shares under our previously announced buyback programs at an average price of $129, leaving us with approximately $100 million of remaining authorization.

Moving now to guidance, we are projecting Q1 revenue of $580 million to $595 million with the low-end of our range reflecting an ability to manufacture and recognize a dozen NovaSeqs and the upper end two dozen instruments.

We believe high throughput customers will choose to wait to purchase the NovaSeq platform and, as a result, expect to ship approximately 10 HiSeq instruments in the first quarter, including HiSeq X.

Additionally, as we work through the transition from HiSeq to NovaSeq, customers will pause experiments, work down consumables on hand, place fewer inventory buys, and take time to validate their new workflow.

Hence, consumable sales will also be impacted as a result of this transition leading to decelerating sequencing consumable growth versus prior year for a number of quarters and flat to slightly down sequencing consumables sequentially.

As we previously shared, total company revenue is expected to grow 10% to 12% in 2017, including less than 1% revenue contribution from each of GRAIL and Helix, as well as a 100 basis point currency headwind versus the prior year, given current rates.

We are forecasting Q1 GAAP earnings per diluted share of $0.51 to $0.56 and non-GAAP earnings per diluted share of $0.60 to $0.65. For the full year, GAAP earnings per diluted share is expected to be $3.25 to $3.35 and non-GAAP EPS is expected to be $3.60 to $3.70.

Our GAAP and non-GAAP EPS guidance assumes no meaningful impact to tax expense from the new stock-based compensation pronouncement.

We will report GAAP results that reflect the impact of this guidance and our non-GAAP results will exclude the impact on our effective tax rate due to the potential volatility and so that our results are comparable to prior periods.

Our Q1 and full year EPS guidance does not include any one-time items associated with the close of the GRAIL Series B, which we have assumed is completed by the end of Q1. We have included $0.08 of dilution from the consolidation of GRAIL's financial results in the first quarter only and $0.18 of Helix dilution for the full year.

Thank you for your time. We will now move to the Q&A session. To allow full participation, please ask one question and rejoin the queue if you have additional question. Operator, we'll now open the line..

Thank you. Our first question comes from Tycho Peterson..

Hey, thanks. I'm going to ask a couple on NovaSeq. I know you're not going to say a lot, but wondering if you can give us an update on orders relative to what you said back in January at our conference.

Any thoughts on how we should think about trading dynamics relative to 2500 on the basis of throughput capacity? Anything you're willing to say about initial consumable pull-through expectations? And then, lastly, when you think you'll work through the manufacturing constraints? Thanks..

Tycho, that's a lot more than one question..

You may not answer it all, but it's worth a shot..

Francis is (17:37).

All right. Let me see if I've got them all. So, the first one was about sort of any update on orders. So, we had really good commercial activity since we announced at JPMorgan. We think we have had orders since then, but we think it's too early to start talking about order numbers.

And so you can expect us probably to give you an update on the next earnings call, but we're happy with the level of activity, although we don't have an order number to announce on this call. In terms of trading dynamics, I think what you'll see is – and there's two parts to this answer.

In terms of the backlog, we are allowing customers that have ordered either HiSeqs or Xs that are in backlog to look at purchasing NovaSeqs instead. And we expect the majority of them will purchase NovaSeqs.

We expect although there are going to be some customers and there are, we're hearing already, that will continue to purchase either the X that they had – probably the X that they had planned.

And that's because they could have experiments that are underway and they don't want to switch instruments in the middle of an experiment, or they're looking at the economics and saying, look, until S4 comes out, the X is still a good instrument for them. And that's the dynamic we expect to play out over the course of this year.

In terms of pull-through, it is too early and so we'll watch it play out over the next few quarters. What we will be doing, though, is we'll start to give you a combined pull-through number for our high throughput portfolio, but that will take a little time to play out so we can get a number that makes sense to publish..

And a combined number, just to clarify, for HiSeq and HiSeq X. And when we eventually have a good sense of what the NovaSeq pull-through looks like, we will probably give a range for that at that point..

Yeah. And I think the last part of your question was around how we're doing on the manufacturing side. And, look, our development and manufacturing and operations team are full speed ahead and we are on track for a first quarter launch of NovaSeq.

The last – the pilot builds are wrapping up their final assembly and a number of the pilot builds are now going through design verification testing. It's very exciting to see the first production units on the manufacturing floor. The exact number we end up shipping this quarter will depend upon, obviously, how the next few weeks play out.

And also we are keen to make sure that the first NovaSeq customers have a great experience and so we're looking through the demand we have and picking the sites that we want to ship to as well as the number of units per site. So, all that will factor into the actual number we put out in this quarter..

And, Tycho, one thing to add on the order commentary that Francis provided, it wouldn't be typical of us to be able to update that at this point in time. For an instrument like NovaSeq, the sales cycle is typically months, not necessarily weeks.

And so while we do have a couple of fast-acting customers who have been able to get us orders in the last few weeks, we never really expected to share that because we think it's not representative of the entirety of the demand that will generate in the first quarter. So, we do look forward to sharing that figure on the first quarter call.

And, in between now and then, it's all about demand generation and getting that HiSeq customer really excited about the platform attributes of the NovaSeq..

Okay. I appreciate all the color..

Thank you. And then our next question comes from Doug Schenkel of Cowen & Company..

Hi there. This is Adam on for Doug. Thanks for taking my questions. China has been a source of strength for you guys over the last several quarters and I think you mentioned you had 50% revenue growth in Q4.

Could you provide any further commentary on what drove growth in China in Q4? And is the China PMI progressing as you had expected in terms of instrument demand and utilization? Thank you..

Yeah. Sure, Adam. There are a number of trends that are driving the demand we're seeing in China. Part of it is, as you point out, demand associated with the China PMI and we're seeing customers that are buying X instruments in anticipation of the work that will come out from the Chinese PMI initiative. But there are other dynamics playing out too.

We are continuing to see growth in the NIPT market in China and that's driving demand for us. There have been incremental progress in terms of the opening up the number of labs in China that can do NIPT and so that continues to be a robust market for us. And then we are seeing growth in oncology testing play out in China as well.

So, all of those are contributing to that 50% growth that we saw last quarter..

Okay. Thank you. And for my follow-up, you noticed a shift in the U.S. Government funding practices led to smaller project disbursements in Q3, which impacted capital commitments that quarter. Did these dynamics persist in Q4? And if so, is this fund that you expect – a trend you expect to continue going forward? Thank you..

So, what we said in Q3 was we noticed in a couple of agencies a change in the funding dynamic and that impacted because we had a couple of deals associated with those agencies. We didn't see any change in how the other agencies fund their projects and so we didn't really see any impact of that in Q4..

And I would say the change in the agencies that we're talking about, there's nothing – no reason for us to assume that's not going to continue under the new approach that they've adopted. We don't see an end in sight to that..

Okay. Thank you..

Thank you. And then our next question is from Jonathan Groberg of UBS..

Hey, thanks a million. So, one more on the NovaSeq and then one on arrays.

On NovaSeq, what's your kind of sense as to what percent of the HiSeq that you have out there, the 1,900 or so, excluding the Xs, are potentially moving to upgrade given the volume that they do and your conversation with customers, are you getting any sense as to the ratio at which you're expecting customers to upgrade from their existing platform to NovaSeq? And then on the array business, just curious what your expectations are for that? It sounds like consumer genomics – the consumer array had another strong quarter in the fourth quarter? Thanks..

Thanks, Jonathan. So, I'll start by saying this. We've talked about the fact that for our HiSeq portfolio, we have 1,900 instruments, so we have 800 customers. And I think the right way to think about it is to work from the number of customers up rather than number of instruments down.

And so, we have started the conversation with all of the 800 customers that are HiSeq customers, and there is going to be interest we think in the majority of them in the coming years to upgrade specifically to NovaSeq. I think there'll be a small number of that potentially look at NextSeq as well.

But I think you will see nearly that entire base turnover over the next few years. And the focus, in fact, of this year is to really focus on that base primarily.

Now, once we get the S4 out towards the end of the year, we'll also be working the X customer base as well, but the focus this year is to target those 800 customers and we fully expect that the vast majority of them will become NovaSeq customers in the coming years.

I caught that third part of your question was around the consumer market?.

Expectations for growth in array business?.

I'm happy to handle that. Obviously, the array business grew very well in 2016 and fueled largely by the consumer business, but also a couple other areas that we cited in the call. And so, we are expecting growth in 2017, but it will be lower than the growth for the company overall..

Thanks..

Thank you. And our next question comes from Dan Arias of Citigroup..

Hi. Good afternoon, guys. Thanks.

Francis, maybe to your last point, I know you are not trying to look too far down the road, but as we try to understand how the S4 configuration phases in, can you just help us with the way that you see X systems being utilized once that happens? I mean, to your point, it sounds like genome centers want the economics associated with the S4 specifically for whole genome work.

So, I guess, how are you thinking about X system usage once they have the S4 capabilities and how should we think about the consumables pull-through relative to current levels once the S4 is out?.

Yeah. Sure. I mean, once the S4 launches – and we talked about a 20% sort of economic benefit to going to NovaSeq in S4 over running an X. And we think that will drive customers over time to move their workloads from an X to an S4/NovaSeq and we expect it to be a phased rollout.

I think there will be a small set that may want to do most of their fleets, but I think you'll see other customers bring in NovaSeq and move their workflows to the NovaSeq S4 combination using their Xs as sort of overflow capacity until over time they've migrated their fleet over to two NovaSeqs.

We'll also see some customers I expect that are X shops that bring in NovaSeqs to take on the workloads that are being done by their HiSeqs and use that as a way to get experience with NovaSeqs even before the S4 comes out and really take over the workloads that are being done on the rest of the HiSeq portfolio..

Okay. Thanks. If I could just sneak in one follow-up.

Do you see negative demand at all being impacted by the Nova box? I mean, obviously, that's aimed at a bit of a different workload, but I'm just wondering whether or to the extent which customers or institutions kind of put their whole instrument purchase process under review as they look at the NovaSeq, particularly given that it seems like last quarter you did comment on NextSeq siphoning a bit of the HiSeq demand?.

I think it will have an incremental impact and the incremental impact will be that over time I think you will see customers sort of making the decision and say, okay, if I look at my entire fleet, it will be simplified to the high throughput part of that fleet instead of having all the combinations they have today between the different flavors of HiSeq and the X that will all be consolidated down to and the answer is the NovaSeq.

And so, as they look at the fleet they want to run, even in a genome center, it will be NovaSeq and then NextSeq is the sort of mid box. So, I think there will be an incremental benefit from that dynamic for NextSeq as everybody sees it as part of the portfolio of the future, but I think that will just be an incremental benefit..

Okay. I appreciate the color. Thanks..

Thank you. And then our next question is from Derik de Bruin of Bank of America Merrill Lynch..

Hi. Good afternoon..

Hi, Derik..

Hi, Derik..

Hi. So, as you sort of ramp up the NovaSeq and you sort of swap them out, I mean, you're going to also lose some service contracts considering that you're going to be swapping either two for one or three for one on those.

So, how do you sort of tend to look at the service contributions from the service – going forward on that? And another question along on the NovaSeq is, you're going from a four-color to a two-color chemistry, similar to what you have in the NextSeq.

Is there enough data available to the scientists that are out there to analyze it to get people comfortable or is there going to be some prolonged evaluation process as people sort of get comfortable and want to switch their workflows over?.

Yeah. So, maybe I'll start with the two-channel chemistry and the four-channel chemistry. So, we had, as you know, two-channel chemistry out now for a while with the NextSeq and so I think people have had some experience with two-channel chemistry.

In addition, we've actually put out some data on NovaSeq that we're showing customers and we expect to show even more data at AGBT coming up.

So I think there is a decent similarity and some comfort now with two-channel, but there will be customers that want to spend some time really looking at the data that we put out at AGBT, but it's not new like it was when we came out with the NextSeq..

Right..

Would you want to cover the services one?.

Yeah. On the services question, Derik, I think it will have an impact obviously as customers decommission or stop using or stop renewing their services contracts on existing legacy HiSeq instruments.

But with the kind of rollout being more of a ramp throughout the year and mostly the instruments will be shipped in Q2 and the decommissioning will – Q2 and beyond and the decommissioning will tend to lag that. I think it's a fairly marginal impact and it's included in our guidance to the extent it's going to happen this year.

And then once you get past the first year of NovaSeq, you start to charge instrument contracts for that as well. So, it tends to offset..

So if I can sneak a quick one in, I think some people are little bit surprised at the $580 million to $595 million revenue number in Q1, 3% growth year-over-year, 10% to 12% for the full year.

Can you sort of bridge us the revenue pacing that you're sort of looking at so the cell-size models can get a little bit more homogenized?.

I wouldn't bridge by quarter in terms of pacing, but I think the way to think about it is we gave that figure for Q1 because the entirety of a high throughput portfolio is being impacted by this launch and that's a significant quarterly revenue number.

We talked about 10 HiSeqs of HiSeq Xs combined in Q1 and we've talked about a dozen to two dozen NovaSeq. So, doing that math, you can see the potential headwind in the first quarter on that part of the portfolio. And then Sam mentioned and talked about the four items – the four ways that consumables can get impacted.

And so, as a result of that, consumables in the first quarter could be flat to down somewhat. So, those combined factors is that's what leads to the $580 million to $595 million in the first quarter..

And I think, Derik, I think the most important point on this topic is that, obviously, this was contemplated in our full year revenue guidance and we did share at JPMorgan that the high throughput portfolio will be impacted as a result of this launch.

And so while the actual figures obviously weren't out there that that conversation has been relatively active over the last few years..

Okay. Thank you..

Thank you. And then our next question comes from Ross Muken of Evercore ISI..

Good afternoon, guys. One of the other things you sort of talked about at JPMorgan was the path to the $100 genome. Obviously, number of years away, but that's sort of in concept something pretty transformational in the market.

I mean, what's been the feedback particularly from clinical or translational customers on sort of what that enables and, I guess, how is it sort of helping frame your thinking in terms of how some of these studies we've been waiting to kind of come to market maybe catalyze or not catalyze, but add sort of elasticity?.

Yeah. Thanks, Ross. That's a great question. One of the great things that happened since JPMorgan is that announcement has had the effect we're hoping, in that it's ignited imagination across a lot of our customers. And we've had some terrific conversations about the kinds of projects that could be enabled as we walk our way down to the $100 genome.

In fact, we had a terrific presentation from one of our customers at our sales kick-off that talked about where we could go potentially with single-cell work as the price of sequencing and genome continues to drop. That was the effect we wanted to have and it's definitely catalyzed that thinking.

Obviously then now everybody is inpatient and everybody wants the $100 genome now and that's good too because it shows us that there is a demand for it, there is an interest for it. The interest so far has been a lot on the research side, honestly around what could be enabled.

And if there is some interest on the clinical side that I stated the biggest – sort of the biggest catalyst to growth in the clinic are not necessarily pricing ones along right now, but definitely it's created a lot of fantastic conversations..

And maybe just more quickly in terms of, once the Series B for GRAIL is done, updated thoughts or any color on what the size of the repurchase may look like or help us frame how to think about that in the course of the guidance, is that sort of an upside or is that contemplated in the share count?.

Yeah. I'll ask Sam to comment on the share repurchase point. On the GRAIL Series B, we talked before about our timing and GRAIL is expecting to get that done in the first quarter.

Sam, do you want to comment on the repurchase?.

Yeah. On the share repurchase, we completed $100 million in Q4, as I mentioned, and currently have $100 million left on our authorization and we'll evaluate it going forward..

Yeah. I think, Ross, on the share repurchase, I wouldn't tie it necessarily to the GRAIL close. I mean, we have the authorization and we'll decide what to do with the authorization at the appropriate time more so than tie it to GRAIL..

Got it. Thanks. Thanks, everyone..

One of the point, don't forget that any gain on the GRAIL has a tax impact on it too, so make sure you take that into account..

Thank you. And our next question comes from Amanda Murphy of William Blair..

Hi. Thanks. So, I have two on NovaSeq as well. I guess, just sort of following after Derik's question on two-color chemistry. So appreciating that it's early, but taking a step back and looking at the NovaSeq.

So, obviously, it's a new architecture, you've laid out a long-term roadmap and also it's introducing meaningful improvements in both performance and cost per base over time. And thinking about prior launches that you've had, so obviously the genome analyzer to HiSeq was quite a meaningful replacement back a few years ago.

So I'm just trying to think through, given the improvements this platform is introducing, obviously, at different customers, you mentioned clinical and different applications that are looking at.

But why wouldn't we see that type of replacement? Again, appreciating it's early, but just trying to appreciate the puts and takes of this launch vis-à-vis prior launches that you've had?.

Yeah. Amanda, I think you've made a really good observation, which is, if we try to look for a good analogy here to provide you guys, I think you picked a better analogy. This is not like, for example, the launch of the X or the NextSeq because those were incremental to our portfolio and were opening up a new customer base.

And so, NovaSeq is not quite like that and we've been asked that question a lot, and I think the better analogy is the one you baked, which is the GA moving to the HiSeq. Now, it's not a perfect analogy, but it's good in the sense that we are talking about the biggest part of our customer base that is going to be upgrading.

And so, to that point, I think, over time, we do expect that those 800 HiSeq customers over time will move to NovaSeq, maybe a small percentage will move to NextSeq. But, over time, the entire HiSeq customer base will turn over. And in that sense, it is similar to what happened with the GA.

Now, the impact was bigger when it was – in terms of percentage of our customers, it was bigger when it was GA to HiSeq because that was our only instrument and we upgraded our entire customer base. Here we are doing the biggest part of our customers base, but it's not our entire customer base.

But we do expect this big part of our customer base over time and we will kick that wave off this year and it'll play out in the coming years, but that is exactly the intent..

Okay. Got it. And then, just another one on comments you made about the addressable market, obviously, you talked about new – or new applications I should say that, maybe enabled here and I know, again, it's very early, so I appreciate that.

But any sense of at least early conversations with customers, even the 49 orders that you've referred, I guess, indications you've received already, how they are thinking about using the NovaSeq even for new projects or anything incremental they are looking at in terms of funding? It's just something we get asked a lot about in terms of – is this going to fund or drive new incremental demand versus more of a competitive type dynamic?.

Yeah. Absolutely. So, let me give you some color. And we had an advantage because we were already talking to our customers, obviously, before we launched NovaSeq. And one of the thing we heard very loud and clear was a lot of our HiSeq customers wanted the power of the X, but they couldn't in some cases (39:26) $6 million or the $10 million.

And so, we had the benefit of years of feedback from HiSeq customers saying, they want that power. If they have that power, they could do this and that and the other. And then we also heard from them that they wanted the power of the X and they wanted it across multiple applications.

And so, when we talked about the scenarios that the NovaSeq was going to address, it was with the benefit of already having had that feedback for a couple of years. And so, not surprisingly, the conversations we've had since validated those points.

Every one of the examples I gave at JPMorgan, we had real customers say that's exactly what they want to do. So, if it's moving from exomes to genomes, there is a whole set of customers that want to do that.

Other customers have talked to us about doing much deeper sequencing for tumor/normal or ctDNA applications, those were examples I gave at JPMorgan, there are real customers that want to use the NovaSeq to do that. The single-cell example that I talked about, again, they're real customers that want to do that.

And so those all we believe will be fundamentally enabled by NovaSeq and those will open up. So, this will be much more than just an upgrade cycle, and this has been true at every big platform that we brought out over the years. This will enable fundamentally new applications like those to play out in the coming years..

Okay. Thanks very much..

Thank you. And then our next question comes from Bill Quirk of Piper Jaffray..

Great. Thanks. Good afternoon, everybody. Francis, I want to go back to a topic you talked about, I think it was in response to one of the first question, sort of talking about how some of the Xs may not convert to NovaSeq. You mentioned that some of the 3000s and 4000s at least it sounded like may still be installed.

So, I guess, question is, are you carrying a backlog for the 3000s and 4000s? And then secondly, can you just give us an update around the timing of releasing protocols for different sequencing methods on NovaSeq? And then lastly, if I could just squeak one in around, your thoughts on the new administration's tax and import plans? Thanks..

Yes. So, let me get through the first set of questions. We are carrying a very small backlog on the HiSeqs, and so the backlog we're carrying primarily are the Xs and we talked about we have 37 Xs in the backlog coming into this quarter.

We do expect the majority of them to go to NovaSeq, but there are specific cases of customers that are running big projects. And in some cases, the projects will continue for the better part of this year. And so, if you're already in the midst of a project and you need additional capacity, it makes sense for you to buy another X.

And so, we expect some of the customers to continue to buy Xs to service those existing projects. And then, there are other customers who will be talking to us that need to run sample cohorts now. And as they look at the math, the benefit on NovaSeq for X customers really comes in when you get to the S4.

And that's not till the sort of tail-end of this year. And so there are scenarios where it actually make sense for you to go out and buy an X now if you have a large cohort that you want to process now. And so we expect to see that dynamic play out too, but the majority of customers will go to NovaSeq..

And Bill, that explanation is aligned with the commentary that Sam had in the script that we would ship approximately 10 HiSeq and HiSeq X instruments combined in the first quarter..

And then to the second part of your question around the new administration. Obviously, it's still early days, but to the extent that we see tax reform and we see a lower corporate tax rate, that would be beneficial.

We have currently setup a tolling infrastructure, so we have to look at how that plays out with a new tax regime, but that could be incrementally beneficial to us..

I think there is one more in there we may have missed..

Yeah, sorry. The last piece there, which is Francis if you could just touch on the timing of releasing protocols for different sequencing methods on NovaSeq? Thank you..

I believe there is some data in BaseSpace already. I'll follow-up with the timing on the rest of the protocol, Bill. I don't have it off the top of my head..

Got it. Thanks, Rebecca. Thanks, Francis..

Thank you..

And then our next question comes from Isaac Ro of Goldman Sachs..

Well, good afternoon, guys. Thank you. I wanted to maybe ask a bigger picture question away from the technology and the NovaSeq product cycle.

There has been a lot of change in the company on leadership side over the last six, 12 months and you guys have made some interesting steps I think to streamline the portfolio, you mentioned the NeoPrep end-of-life and I think you got out of other – couple other very small product areas.

So, it's a more focused company, it's new leadership team, and I was interested in how you guys think about where you want to take the company from a product standpoint over the next three, five years? You've obviously put out NovaSeq, but should we assume that this is sort of the beginning of a wave of refreshes across the core product line and that's the core focus? Or is this sort of just a point in time and there is a bunch of other things away from sequencing equipment where we can expect the innovation curve to continue to pick up?.

Sure. I'll start by saying that, look, at our core – and this has been true since the founding of the company.

We are an innovation-driven company and we spend a lot of our time thinking about the fundamental breakthroughs that will accelerate the adoption of genomics and accelerate, as in our mission to improve human health through unlocking the power of the genome. And so, we're going to continue to do that. We continue to invest a lot in R&D.

And we believe there is a lot of headroom that we can invest in either to provide better, faster, cheaper sequencing and get us to that $100 genome or to provide more sample-to-answer solutions that would be enabling in applied markets and in the clinical markets.

And so, the focus on great products, the focus on innovation, that's going to continue to be true for indefinitely. We have done – we've used the opportunity over the last year with the change in leadership to look critically at the whole portfolio and see where there was an opportunity to focus.

And we found the set of opportunities, we found SKUs that were on the market that had a place in the portfolio that made sense at a given time, but weren't the best use of our investment dollars. And so, we've end-of-life'd some SKUs, we shut down some projects, and we put more wood behind the really game-changing projects that we're working on.

We've also built that into our strategic planning process. So, we have in my mind one of the best strategic planning processes I've ever seen around identifying emerging areas in the market and identifying disruptive technologies that would enable those areas in the market.

What we've added in the last year is also a focus on – and what do we not do to enable us to accelerate those big areas. And so, that focus has now been incorporated into our strategic planning process.

As you think about the future, you will continue to see us innovate to enable more research in genomics across many, many areas, as we've done in the past. But in the future, you will see us being much more clinically focused, much more globally focused, and much more digital than we've ever been before. And so, you can start to see that play out.

You'll see more focus on not just products that target the clinical markets, but also the other elements that enable the clinical market.

So, we created a Market Access Group in the last year to work with payers and national systems to provide them with the clinical utility data, the economic analysis data to accelerate decisions around the adoption of genomics-based testing. You'll see those kinds of activities.

You've seen us put regulatory feet on the ground in more geographies to work with the local markets to make sure that we have the right regulatory frameworks in place for the key markets that we're going after. And so, those are some of the ways you can expect to see us evolve in the coming years..

That's helpful. And then just maybe one follow-up on the numbers. You guys had done a big Analyst Meeting in 2014. You gave a long-term guidance range. And as we move into sort of the 2017 and beyond timeframe, there isn't any long-term guidance currently to hang your head on, hence a lot of questions around near-term numbers.

Can you give us a sense of what it would take for you to get comfortable and get to a point where you'd want to go out and give another long-term guidance outlook? Is it a function of installing your team more fully? Is it more about continued portfolio review? Just curious about some of the gating factors that you need to clear in order to give investors an updated long-term view.

Thank you..

I think you have a right to and I think you can expect to see from us some time in the coming year to spend the time and either put on – and we'll think about the forum, whether it's an Analyst Day or something like that, but we do owe you long-term guidance and a way to think about this market.

And so, that doesn't mean there is any specific thing gating us, I think we just have to get it on the calendar and sort of get it out there. So, that's something....

So, one IR caveat to that, and that is that, that will be a very typical Analyst and/or Investor Day when it happens. It won't be a forum that we use to launch products like we have in the past. So, just to set the expectation now that it will be a broader company update, not necessarily tied to product launches..

Got it. Thank you, guys..

Thank you, Isaac..

And our next question is from Dan Leonard of Deutsche Bank..

Thank you.

How are you thinking about samples availability as you roll out or when you roll out the S4 ChIP? (49:42) Are there things you can do to help your customers get more samples, so that they could utilize the 20% economics on that?.

Yeah. So, the customers that we are talking to, a lot of them actually have access to samples already or they have line of sight into where they could get the samples.

Some of them, it's because they're connected to healthcare systems; some of them, just because they've been doing this for a while, they have a very large number of samples banked that they have access to.

The other thing that we are doing is, by pre-signaling where the price of a genome could go, we are as I said igniting the imagination of all these researchers who are thinking about the kinds of projects that they will be able to do.

And so, what that does and have done for us historically is that creates sort of the demand that we then launch a product into. So, the X gave everybody preview of the power that they could expect to be available to the masses. And so, for the last few years, that power is only available to 35 customers around the globe.

But the other 800 customers that had HiSeqs knew that we had that power, and so for the last couple of years, they've been doing the work to think about what could they do and then they lobbied us on, give us that power. And so, a lot of them have already got line of sight into what they would do and where they would get those sample..

Operator, we can hear you..

That's helpful, Francis. And if you don't mind a follow-up. I think a number of investors could help with the reconciliation of the $1 billion-plus GRAIL fundraising with the less than 1% expectation in revenue for 2017 between GRAIL and Helix.

Any color you could offer on that?.

Yeah. So, if GRAIL buys – if GRAIL bought instruments such as they did, and if they buy in Q1 and they are still a consolidated entity, we don't get to recognize revenue on the instruments we give them. So, through the end of Q1, they could have purchased instruments and we don't get to recognize revenue on those instruments.

And so, if you think about it, what we will be recognizing as revenue are instruments they buy Q2 to Q4. They've already bought instruments, so you shouldn't be expecting them to buy a big bolus of instruments between Q2 and Q4. And so, I think that's one big driver.

Also, if they've already embarked on any kind of study, they'd want to close out that study before they swapped instruments. Over time, we fully expect them to become a very large customer of ours and likely on a large number of NovaSeqs. So, that's going to be over time and not this year..

Okay. That's helpful. Thank you..

And Dan, it's 1% from GRAIL and 1% from Helix..

Understood. Thanks..

Or less than 1% each..

Thank you. And our next question comes from Steve from Morgan Stanley..

Thanks. It's Steve Beuchaw here from Morgan Stanley. A quick question following-up on the commentary on the backlog of HiSeqs. It's helpful to think about the backlog of HiSeqs to think about the potential impact that we see on instrument revenue.

I wonder if you could give some similar color with regard to consumables just to think about the potential impact on consumables revenue this year. If you thought about how much revenue or the value in revenue terms of consumables associated with high throughput instruments that's out there in the field.

Could you give us a rough idea of how big that is?.

Well, I think the best way to get off of that Steve is, you've got the ranges that existed through 2016 and you've got the installed base, and from that you can derive the high throughput consumable pull-through that we're getting on an annual basis.

I think as you think into 2017 about that, we've got the temporal effect, whether it's Q1 and Q2 or not of the four factors that Sam outlined that will drive customers to spend less initially on sequencing consumables because of NovaSeq. So, I think you're going to see some temporal shifts there.

And then over time, what we should see, thanks to elasticity, is that at least the sequencing consumables that you lose on the high throughput instruments to get replaced is replaced on NovaSeq. And because we are creating more capacity, we're creating more potential for even incremental spend if customers can get hold of the money.

So, that creates a multi-year upside opportunity, given the higher capacity we're putting out there.

Does that answer your question?.

I want to put some numbers to it later on, but before we get there, just as my follow-up, would it be reasonable to think about a consumables re-acceleration exiting 2017 as we see some restocking? Thanks..

Well, you might – it depends. I mean, it depends on a lot of factors. And have you saw a restocking effect, then you wouldn't necessarily want to extrapolate a restocking. But really the best way to think about consumables, I like to think about it as, it's really driven first and foremost by samples.

And so, if you believe that more samples will get sequenced sequentially quarter after quarter, time over time, then ultimately it translates to consumables whether you get a lumpiness due to a stocking buy or a customer buying every six months instead of every quarter, you'll see those effects.

But over time, it's just correlated to the number of samples that get sequenced and the price per sample that we put out there, and the elasticity that we're creating with new instruments..

As well as the function of the installed base growth in the prior year..

Yeah..

Okay. Makes sense. Thanks for all the help there..

Thank you. Our next question comes from Jack Meehan of Barclays..

Hi. Thanks. Good afternoon, guys.

I wanted to start and ask about the oncology growth, but as you get more experience in clinical setting, just I'm curious what surprised you about the market? Have you seen more demand for reagent rental and just sort of the consolidation of customers and really pushing into community hospitals?.

Yeah. So, in terms of oncology growth and we talked about the strong growth we are seeing and we saw that across the whole year, the growth is driven primarily today still in the translational side of that market.

And so, it is the large academic cancer centers, but it's also some commercial organizations that are driving a lot of the growth that we are seeing. In terms of what surprised us, one of the thing, I think, that has been a surprise has been just how much innovation there is happening.

I mean, the whole area of immunotherapy, for example, over the last couple of years has been not only transformational in oncology, but has started to show up in terms of the impact that will have in the clinics and the demand for our offerings over time in that segment of the market.

We weren't expecting to see quite the proliferation of panels is another thing that surprised us, that's played out over the last couple of years.

And that's also driven by the innovation we're seeing at our customers sites, where the leading academic cancer centers have created probably over a thousand panels out in the market, and that's really great in terms of the innovation moving the whole space forward.

And now, we're at the time where we are starting to see a need for consolidation, especially as you talked about, as we think about the next tier of hospitals or the community hospitals. And so, we're now at the stage where we're seeing it crossover into being something that the community hospitals want access to.

And to enable that access, they've been asking for more standardized panel that is more prescriptive around what genes to look at. They have been asking for a more standardized reporting capability and analysis capability.

And so, that's driven a lot of the work that we've done around TST 170, that's also driven the partnerships that we put together with IBM Watson, with Philips.

And so, we think the market is now at the stage where we're starting to see pull from the next tier of hospitals and community hospitals, but they want more of the pieces sort of prepackaged for them..

Great. Very thorough. Just one more on GRAIL. What are updates we should be expecting in 2017, whether it's research published, traction toward a clinical trial, just prep for that, what should we be watching for in terms of update? Thanks..

What they've talked about is the circulating cell-free tumor DNA atlas that they are putting together. And they talked about the fact that you should start to see output from them towards the back half of the year.

And so, I think that's a big step for the team, obviously, the close of Series B is something that you'll see from them in the coming weeks. Those are probably things they have publicly put out in terms of what you can expect to see from them..

And bear in mind you, you wouldn't be getting updates from us on GRAIL on for Series B closes, just like you don't on any other of our customers..

Thank you. This concludes the question-and-answer session. At this time, I will turn the call back to Rebecca Chambers for closing remarks..

Thank you, Sherry. As a reminder, a replay of this call will be available as a webcast in the Investors section of our website, as well as through the dial-in instructions contained in today's earnings release. Thank you for joining us today.

This concludes our call and we look forward to our next update following the close of the first fiscal quarter..

Thank you. Ladies and gentlemen, this concludes today's conference. Thank you for participating. You may now disconnect..