ILMN Illumina Inc

We reaffirm our Neutral rating on genetic products maker Affymetrix (AFFX) following its lackluster third-quarter fiscal 2011 results. Its loss per share for the quarter was higher than the Zacks Consensus Estimate.

Sales declined at a double-digit bracket, hit by lower product revenues and an uncertain academic funding environment, and also missed the Zacks Consensus Estimate. The California-based company witnessed declines in consumable and instrument sales in the quarter, resulting in a 15% decline in product revenues.

Both DNA and RNA sales declined in the third quarter. Despite lower revenues, gross margin improved year over year benefiting from lower material costs and a favorable mix.     

Affymetrix is a leading provider of microarray-based products and services to the global research community. Along with Illumina Inc. (ILMN), it is one of the two major providers of microarray technologies primarily used in the field of genetic research. Affymetrix holds a leading position in the gene expression products and services market.

Affymetrix is expanding its customer base through new product launches and strategic alliances. During the third quarter, the company unveiled the innovative Cytoscan HD platform for cytogenetic analysis. Also, the company broadened its Axiom genotyping platform with the launch of the Axiom Genome-Wide Pan-African Array for studying diseases and characterizing the genetic basis of diseases in Africans and African Americans.

Moreover, Affymetrix is pursuing a number of strategies (including expansion into new markets) aimed at expanding its top line. The company is shifting its R&D focus from discovery and exploration markets to the faster-growing validation and routine testing markets.

Affymetrix reckons cytogenetics and cancer research as promising areas for expansion, representing market opportunities of roughly $200 million and $500 million, respectively.

During the third quarter, the company realigned its operation into a number of business units including gene expression, genetic analysis, life science reagents and clinical diagnostics. The structural changes are expected to streamline its decision-making process while improving customer focus and accountability.

However, Affymetrix is operating in an intensely competitive industry and faces risks associated with lower R&D spending by its customers due to a soft economy and government actions including budget cuts.

Affymetrix is exposed to a volatile funding environment. The company has been beset by uncertainties surrounding National Institutes of Health (NIH) funding. Decline in government research grants may substantially affect the company’s revenues. This leads us to tread with caution. Affymetrix currently retains a Zacks #4 Rank, which translates into a short-term “Sell” recommendation.

 
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