Bio-Techne - Q2 2023

Transcript

Operator (participant)

Good morning. Welcome to the Bio-Techne Earnings Conference Call for the second quarter of fiscal year 2023. At this time, all participants have been placed in a listen-only mode, and the call will be open for questions following management's prepared remarks. During our Q&A session, please limit yourself to one question and a follow-up. I would now like to turn the call over to David Clair, Bio-Techne's Vice President, Investor Relations.

David Clair (VP of Investor Relations)

Good morning, thank you for joining us. On the call with me this morning are Chuck Kummeth, Chief Executive Officer; and Jim Hippel, Chief Financial Officer of Bio-Techne. Before we begin, let me briefly cover our safe harbor statement. Some of the comments made during this conference call may be considered forward-looking statements, including beliefs and expectations about the company's future results, as well as the potential impact of the COVID-19 pandemic on our operations and financial results.

The company's 10-K for fiscal year 2022 identifies certain factors that could cause the company's actual results to differ materially from those projected in the forward-looking statements made during this call. The company does not undertake to update any forward-looking statements because of any new information or future events or developments.

The 10-K, as well as the company's other SEC filings, are available on the company's website within its investor relations section. During the call, non-GAAP financial measures may be used to provide information relevant to ongoing business performance. Tables reconciling these measures to most comparable GAAP measures are available in the company's press release issued earlier this morning on the Bio-Techne Corporation website at www.bio-techne.com. Separately, we will be presenting at the Citi, Cowen, Barclays, and KeyBanc Healthcare Conferences in March. We look forward to connecting with many of you at these upcoming conferences. I will now turn the call over to Chuck.

Chuck Kummeth (CEO)

Thanks, Dave. Good morning, everyone. Thank you for joining us for our second quarter conference call. In our second quarter of fiscal 2023, we delivered 4% organic growth on top of a challenging year in your comp, where we grew 17% in Q2 of last year. One year ago, the life sciences industry was in the midst of an incredibly strong biotech funding environment, spurred by COVID-related vaccine and therapeutic development that drove high equity valuations for smaller firms.

It's been well documented that this funding environment has slowed in recent quarters, returning to pre-COVID levels. In Q2, we did experience a divergence in ordering patterns from our biotech end market versus our larger pharma customer base, which is still very strong. This divergence was seen in certain large bulk reagent orders, which did not repeat this year, and in the delay of instrument orders as conservation of cash becomes more of a priority for our biotech customers.

Encouragingly, the underlying research activity that accelerated during the past strong funding environment continues, which is evident in the strength of our biopharma research reagent run rate business, continued cell and gene therapy growth, and strong utilization trends within our proteomic analytical tools.

The order funnel for our protein analytical instruments remains full, and we continue to experience record uptake of our ExoDx Prostate test. I'll provide additional details on each of these growth drivers later in the call. Before we discuss the results, I'd first like to welcome Shane Bohnen to the leadership team of our new Senior Vice President, General Counsel, effective March 3rd.

Shane will be transitioning into this new role from Brenda Furlow, who has served as Executive Vice President and General Counsel for the past nine years. The contributions Brenda has made to the company over the last nine years are immeasurable, including establishing Bio-Techne's legal and compliance functions and leading our corporate sustainability initiatives. I wish Brenda the very best in her retirement.

Let's get into the specifics of the quarter, starting with an overview of our performance by geography and end market. In Europe, we drove mid-single-digit revenue growth in the quarter, recovering nicely sequentially from the growth rates experienced in Q1. As a reminder, Europe grew in the mid-teens last year on the wave of stronger biotech funding. We've seen more stability in European end markets as the year progresses and concerns around high energy prices and severe recession have tempered.

The team is also nearly finished implementing a new Dublin warehouse to support mainland Europe and a new ERP system that has been implemented with minimal disruption to our operations. North America is where we saw the biggest impact of lower biotech spend in Q2. North America was still able to grow low single digits on top of a prior year comp that experienced greater than 30% growth in biopharma and over 20% growth overall.

The multi-year growth rates in North America are still double digit and in line with our long-term goals. The consumable run rate business and instrument order book also suggests that underlying research activity is still robust, and this should become more evident as we pass the remainder of last fiscal year's high biotech comps. Moving on to China, I want to first acknowledge the tremendous dedication and resilience of our team there.

Following multiple lockdowns, our team has continued to supply the Chinese research market with the proteomic research reagents, analytical tools, and spatial biology solutions to enable scientific discoveries in this geography. Now, following a change in COVID management strategy by the Chinese government, COVID is spreading rapidly in the country, including within our China team, which was over 90% infected at one point. Thankfully, this does not appear to be a particularly virulent strain, and our impacted team members are typically back to the office within five to 10 days.

Despite the disruption caused by the rapid spread of COVID, our team in China was still able to produce mid-single-digit growth in Q2. After the waves of COVID subside in China, most likely in our fiscal Q4, we believe a full reopening of our end markets will accelerate faster compared to the government's prior zero COVID strategy, positioning Bio-Techne for a sustainable return to our historic 20%+ growth rate in this region.

Given proven pent-up demand in past shutdowns in 2020 and the pending $1.7 trillion RMB government stimulus, we see a strong Q4 looking ahead. Let's discuss our growth platform, starting with our protein sciences segment, where organic revenue increased 2% for the quarter on top of the strong comp from last year when the segment grew 19%.

During the quarter, we continued to gain traction with our portfolio of cell and gene therapy workflow solutions, despite a challenging year-over-year comp where we grew our cell and gene therapy business over 80% organically in Q2 of last year, and within that, our GMP proteins over 185%. We still grew our cell and gene therapy portfolio over almost 20% in the quarter.

Specific to our GMP proteins business, the commercial team did an excellent job growing business with existing customers, as well as adding additional accounts during the quarter, culminating in a record quarter for our GMP protein business. The roadmap to adding additional GMP proteins to the menu produced in our state-of-the-art St. Paul manufacturing facility remains on track, with plans in place to almost double in the number produced in this facility in the coming months.

It's worth noting that GMP protein sales are driving cross-selling activity throughout our portfolio, as its growing list of customers are also frequently purchasing additional items, including RUO media, proteins, and small molecules. Speaking of small molecules, our GMP small molecules remain key components in the regenerative medicine cell therapy fields as they enable the reprogramming, self-renewal, storage, and differentiation processes that are key to these workflows.

Our leadership position in regenerative medicine workflow is driving substantial growth in our GMP small molecule business, as well as specialty cell culture media, matrices, and our portfolio of 19 GMP proteins that are focused to regenerative medicine, including 11 GMP proteins that are only available from Bio-Techne. The growth is so profound in our GMP small molecules that we are drastically expanding our manufacturing capacity in Bristol, UK.

Let's discuss our core portfolio of proteomic research reagents, including the RUO proteins, antibodies, and small molecules that are key components to enabling biopharma and academic scientific discoveries. Collectively, our RUO reagents grew in the low teens in Q2 of last year, driven in part by a strong contribution from bulk reagent orders from biotech customers, some of which did not repeat during the quarter.

We are very encouraged that excluding these large orders, the performance of our run rate research reagent business remains very healthy, especially in the U.S. We continue to expand our catalog of research reagents, which now includes over 6,000 proteins, 425,000 antibody variations, and a growing small molecule portfolio.

For example, during the quarter, we expanded the small molecule portfolio with the launch of our MitoBrilliant fluorescent dyes, enabling the fluorescent labeling and tracking of mitochondria in live and fixed cells. Initial reception to the launch was very strong, with the initial production lots of these dyes selling out in the quarter. These dyes, when used with our new RNAscope Plus smRNA-RNA for co-detection, gives extremely high resolution at a single cell level and on a hard to detect short base RNA.

Moving on to the performance of our ProteinSimple branded analytical tools, where the team delivered low single-digit growth in the quarter. Here we faced a particularly strong year-on-year comp of nearly 30% in second quarter of prior year, driven by strong adoption among vaccine and monoclonal antibody therapeutic manufacturers for Maurice in the prior period.

The rapid installed base growth we delivered over the past few years is leading to a strong consumable growth as our portfolio biologics, fully automated Western blot and multiplexing immunoassay solutions become fully ingrained in our biopharma and academic customers' processes. We are very encouraged that the order funnel across all three of our instrument platforms remains very full, including a record level for our Maurice Biologics instrument.

Although the biotech funding environment has lengthened the closing cycle. Simple Western led instrument growth as the system's ability to automate the cumbersome and time-consuming Western blot process with a sample in, answer out solution continues to resonate with our biopharma and academic research end markets. Simple Western is turning out to be much more than an automated Western blot replacement, with the system's ability to identify and quantify proteins in complex samples like lysates, leading to its use as a quantitative immunoassay platform.

This expanded application for the system is driving usage and targeted protein degradation and drug tolerance studies, intracellular signaling applications, and as an alternative to custom ELISA development. We are actively implementing marketing strategies to educate the market on these additional applications. On January 24th, we officially launched our next generation biologics platform, Maurice Flex, at the WCBP conference. As a reminder, we have seen tremendous adoption of the Maurice since its launch in 2016, with the system's ability to provide protein purity, charge, and identity in five minutes in an easy-to-use cartridge-based instrument driving robust demand for the platform.

Maurice Flex expands on these capabilities, adding iCIEF fractionaliztion capabilities to the instrument. Fractionalization is a front-end step in mass spectrometry, where the sample to be analyzed is separated into mixture components based on differences in their size, charge, or other characteristics. Maurice Flex addresses the labor-intensive and time-consuming challenges of using legacy fractionation methods, including ion exchange chromatography. This new application allows us to expand Maurice into a new $300 million market.

Now, for an update on our Simple Plex branded multiplexing immunoassay system, Ella. Ella's ease of use, sub-picogram sensitivity, smaller footprint, and cost advantages continue to draw increased attention from biopharma and academic researchers. As our install base of Ella systems continues to grow, now nearing 1,000 placements, and utilization trends remain robust, we opened a new state-of-the-art product innovation and manufacturing facility to meet current and forecasted cartridge demand.

This new facility adds laboratory, manufacturing, and clean room space and increases cartridge capacity to 500,000 cartridges per year. We also successfully completed the initial ISO 13485 audit of our Wallingford, Connecticut facility as we prepare Ella to make inroads into the large and nascent clinical diagnostics opportunities that exist for the platform.

I see Ella as possibly our largest instrument platform someday. No other tool works so well across both biomarker discovery and diagnostics. Rounding out our instrument platforms, let's now discuss Namocell, our single-cell separation and dispensing platform. Recall that we closed on the Namocell acquisition in July of 2022, and we are pleased with growing interest in this novel technology, as well as the progress we have made integrating the team and the business.

During the quarter, a single-cell cloning workflow publication using the Namocell single-cell isolation and dispensing platform was featured in Nature Protocols. The study outlines a robust and scalable workflow that maximizes cell viability for cloning human pluripotent stem cells, or hPSCs, using Namocell's low-pressure microfluidic technology, which ensures gentle and rapid dispensing of cells.

We are in the early stages of realizing the potential of the Namocell platform and see a bright future for this technology, having shipped over 100 instruments to date. Let's shift to diagnostics and genomics segment, where we grew revenue by 7% organically in the quarter. Let's start with a discussion of our molecular diagnostics business and the continued adoption of our ExoDx prostate cancer test.

During the quarter, the team delivered the fourth consecutive quarter of record test volume as the number of tests performed increased over 70% and revenue grew over 110% in the quarter. The combination of a strengthened marketing message to the urology community that emphasizes ExoDx as a tool to identify not only the right patients for prostate biopsies, but also drive patient adherence to biopsy recommendations.

A four to five and expanded commercial team, as well as the favorable impact of our reconsidered local coverage decision, LCD, with our Medicare contractor, has driven sustained momentum in the business. We are seeing strong trends across the key performance indicators we track for the ExoDx prostate test, including the number of ordering doctors, the average number of tests ordered per doctor, and the number of new doctors ordering, which all set records in the quarter.

We also hired a veteran reimbursement executive with a redesigned game plan to derive favorable coverage decisions within the private payer community. With less than 20% penetration of urologists in the U.S. who have used the test at least once and the potential to expand the usage of our test among current doctors by 5x, we are positioned to continue the strong growth in this business for the remainder of fiscal 2023 and for the years beyond.

Continuing with molecular diagnostics, our Asuragen-branded genetic carrier screening and oncology kits continued to grow double digits. During the quarter, Asuragen announced a partnership with Oxford Nanopore Technologies to develop assays designed to deliver more accurate and reliable options for reproductive health and carrier screening.

The collaboration combines Asuragen's long-range PCR and Oxford Nanopore's any read length sequencing capabilities in a single workflow to identify genetic sequence variants in both hard to decipher genes and conventional genes using a single sequencing system. Our spatial biology business, branded ACD, grew mid-single digits in the quarter as a softer biotech market provided some headwinds similar to protein sciences.

Our professional assay service business had a strong quarter as revenue increased nearly 20% year-on-year. Historically, accounts leveraging ACD's pharma assay services capabilities for biomarker discovery eventually transitioned into product customers, making strength in the service business a proxy for future product demand.

We recently expanded our ACD portfolio with the launch of RNAscope Plus small RNA, enabling the simultaneous fluorescent detection of small regulatory RNA using our new vivid dyes, including microRNA together with three target RNAs or RNA biomarkers in the same tissue section at single-cell and subcellular resolution. RNAscope Plus provides gene therapy researchers with a valuable new tool to quantify changes in gene expression and cellular function in response to the introduction of regulatory RNAs, which is essential for optimization, efficiency, and safety.

I would note RNAscope Plus was initially offered through Spatial Biology's Professional Assay Services, where it saw an overwhelmingly positive customer response. Lastly, we experienced low single-digit growth in our diagnostic reagents and controls business as order timing among a handful of customers impacted the quarter. Looking at this business on a trailing twelve-month basis, growth remains in the mid-single digits.

With patients returning to their physicians, demand for diagnostic testing is increasing. This favorable macro environment plus a strong pipeline of additional products positions our diagnostic reagents and controls for future growth.

In summary, despite the temporary challenges created by the current biotech funding environment and the COVID impact in China, our team continues to successfully navigate this dynamic environment and grow the business. The long-term tailwinds supporting proteomic scientific research, cell and gene therapies, spatial biology, and liquid biopsies remain firmly intact, and our portfolio is ideally suited to capitalize on these opportunities as they shape the future of life science research and healthcare. The team to execute our strategy is in place at full strength, and we remain well-positioned and more optimistic than ever to deliver on our long-term targets. With that, I'll turn the call over to Jim.

Jim Hippel (CFO)

Thanks, Chuck. I will provide an overview of our Q2 financial performance for the total company, provide some additional details on the performance of each of our segments, and give some thoughts on the remainder of the fiscal year. Before we get started, I'd like to remind everyone that Bio-Techne executed a four-for-one stock split on November 29, 2022. All references to share and per share amounts have been retroactively adjusted to reflect the effects of the stock split.

Let's start with the overall second quarter financial performance. Adjusted EPS was $0.47, consistent with the prior year quarter. Foreign exchange negatively impacted earnings per share by $0.02 or -4% in the quarter. GAAP EPS for the quarter was $0.31 compared to $0.49 in the prior year.

The biggest driver for the decrease in GAAP EPS was a non-recurring gain on our previously held ChemoCentryx investment in the prior year period. Q2 revenue was $271.6 million, an increase of 4% year-over-year on an organic basis and 1% on a reported basis. Foreign exchange translation had an unfavorable impact of 4%, and acquisitions had a favorable impact of 1% to revenue growth.

As Chuck mentioned, following a period of red-hot biotech funding last year, we are seeing a normalization of purchasing trends from these customers. Additionally, COVID is now sweeping through China and slowing the amount of research activity in this region, temporarily impacting the growth of our proteomic research reagents, analytical tools, and spatial biology products.

Adjusting our organic growth rate for large orders from a handful of biotech customers that did not repeat and normalizing for China, our organic growth would have been double digits in the quarter. Summarizing our organic growth by region and end market in Q2, North America grew low single digits, Europe grew mid single digits, China grew mid single digits, while APAC was flat due to prior year government stimulus in Japan not repeating this year.

By end market, biopharma grew low single digits, while academic grew mid single digits. We are encouraged by the revenue growth from our large pharma customers, as well as the underlying health of the overall biopharma end market as reflected in the continued strong momentum in our run rate business. For academia, we are encouraged by the recent NIH outlay data, which showed a 13% year-over-year increase in our second quarter.

We anticipate this strong NIH outlay to begin to work its way through the system and benefit academic life science research spending in the near term. The 5.6% NIH budget increase and 50% ARPA-H budget increase for the federal government's fiscal 2023 sets the stage for a healthy academic end market for the remainder of our fiscal year.

Moving on to the details of the P&L. Total company adjusted gross margin was 71.7% in the quarter compared to 72.3% in the prior year. The decrease was primarily driven by unfavorable foreign exchange. Adjusted SG&A in Q2 was 27.9% of revenue compared to 26.5% in the prior year, while R&D expense in Q2 was 8.3% of revenue compared to 7.5% in the prior year.

The increase in SG&A and R&D was driven by wage inflation and the acquisition of Namocell. The businesses implemented strategic price increases during the first half of fiscal year 2023 to offset the dollar impact of inflation in operating income. The dollar for dollar offset did have a negative impact on operating margin.

Adjusted operating margin for Q2 was 35.5%, a decrease of 280 basis points from the prior year period. Negative FX impact decreased margin by 100 basis points. The price and inflation dynamic decreased adjusted operating margin by another 50 basis points, while the acquisition of Namocell and timing of other fiscal year 2022 growth investments drove the remainder of the margin dilution for the quarter.

For the remainder of the year, we expect adjusted operating margins to continue to expand sequentially, ending the fourth quarter of fiscal year 2023 up to 100 basis points higher than the fourth quarter of fiscal year 2022. Looking at our numbers below operating income, net interest expense in Q2 was $1.2 million, decreasing $1.3 million compared to the prior year period. Our bank debt on the balance sheet as the end of Q2 stood at $200 million, a decrease of $64.7 million compared to last quarter.

Other adjusted net operating income was flat in the quarter, an increase of $1.2 million compared to the prior year, primarily reflecting the foreign exchange impact related to our cash pooling arrangements. Moving further down the P&L, our adjusted effective tax rate in Q2 was 21%.

Turning to cash flow and return of capital. $64.3 million of cash was generated from operations in the quarter, and our net investment in capital expenditures was $6.1 million. Also during Q2, we returned capital to shareholders by way of $12.5 million in dividends. Following our four-or-one stock split, we finished the quarter with 161.8 million average diluted shares outstanding.

Our balance sheet finished Q2 in a very strong position with $196.8 million in cash and short-term available for sale investments, bringing our net debt position very close to zero. Going forward, M&A remains a top priority for capital allocation. Next, I'll discuss the performance of our reporting segment, starting with the protein sciences segment. Q2 reported sales were $203.9 million, with reported revenue decreasing 1%.

Organic growth for the segment was 2%, with foreign exchange having an unfavorable impact of 4% and acquisitions contributing 1%. Despite the temporary headwinds and the tough year-over-year comps that Chuck pointed out for this segment, I will highlight that the longer-term five-year organic CAGR for this segment is approximately 11%.

Operating margin for the protein sciences segment was 43.8%, a decrease of 170 basis points year-over-year, with operational productivity more than offset by foreign exchange, price inflation dynamics, and the impact of the Namocell acquisition. Turning to the diagnostics and genomics segment, Q2 reported sales were $68 million, with reported revenue increasing 5%. Organic growth for this segment was 7%, with foreign exchange having an unfavorable 2% impact.

As you heard from Chuck earlier, our Exosome Diagnostics business remained incredibly strong in the quarter as our fortified marketing message and strengthened commercial team continued to drive test volume and revenue growth. Our spatial biology business grew mid-single digits in the quarter, with strong performance in our professional assay services and microRNA businesses, partially offset by order timing from a few biopharma customers.

Moving on to the diagnostics and genomics segment operating margin at 12.2%, the segment operating margin decreased 470 basis points compared to the prior year. The segment's operating margin was unfavorably impacted by foreign exchange, price inflation dynamics, and the timing of strategic growth investments.

As we think about the setup for the second half of our fiscal year, it is important to reflect on the drivers of our performance in the first half relative to our expectations at the beginning of the year. Our Q1 relative performance was muddled by the pent-up vacation activity we saw from our customers, as well as heightened inflationary and recessionary concerns, especially in Europe.

In Q2, we saw the slowing of large orders from our biotech customers that possibly could have been foreshadowed by the slowdown in biotech funding earlier in the calendar year. However, the impact to our business was not realized until the December quarter just ended. Throughout the entire first half of our fiscal year 2023, the COVID situation in China has been on a rollercoaster, with rolling government-mandated shutdowns and now widespread infections.

Despite all of this, as Chuck and I have expressed on this call, we believe our end markets are still very healthy and our portfolio positioning is still very strong. Big pharma demand is high. Academic research budgets are on the rise, and most biotechs are not broke, just being more prudent.

Finally, China appears to be closer to the end of the COVID rollercoaster than ever before, with pent-up demand and strong Chinese government stimulus setting up for what could be an incredible calendar year 2023. We need to get through the March ended quarter, our fiscal Q3 first. Right now it appears as though our organic growth this quarter will be similar to that of Q2.

People in China are still sick with COVID, and in protein sciences, we know of several large biotech orders that occurred last year in Q3 that are unlikely to repeat this year. Also in Q3, we will be lapping the large milestone payment realized in our diagnostics and genomics segment from the ExoTRU kidney transplant rejection assay licensing agreement made with Thermo Fisher last year.

As we lap these difficult year-over-year comps, the normalization of biotech funding runs its course and COVID headwinds alleviate in China, we anticipate organic growth to improve significantly in Q4, positioning the company for continued progress on delivering our long term strategic and financial targets. That concludes my prepared comments, and with that, I'll turn the call back over to the operator to open the line for questions.

Operator (participant)

Thank you. We will now be conducting a question and answer session. If you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate that your line is in the question queue. You may press star two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. We are asking all analysts to limit themselves to one question and a follow up. One moment please while we poll for questions.

Our first question is from Puneet Souda with SVB Securities. Please proceed with your question.

Puneet Souda (Senior Research Analyst)

Hi, Chuck, Jim, thanks for taking the questions. First one, Chuck, you know, I think it would be helpful if you could parse out a little bit more on the impact from the emerging biotechs. Are these smaller emerging biotechs? I think Jim said they're not going broke, but the number of projects are lower. If you could describe a little bit more into that. Is this spreading to larger biopharma or the biopharma remains, you know, largely intact?

How much of this is sort of COVID adjacencies, and if you could parse out, you know, what segments or what type of products were these sort of bulk orders? Again, you know, I appreciate that this is, you know, comp related normalization that you're expecting.

I think, you know, the question is sort of, you know, how long do you think this can last in duration? Because obviously funding concerns were there, they're here now. Just wondering, you know, how long will it be before sort of we see improvement here in a meaningful way.

Chuck Kummeth (CEO)

Okay, I'll try to cover that in less than 20 minutes. Thanks, Puneet. You know, as the quarter finished, you know, we were a little dejected. It was my 40th quarter, and it's been a few years since we've seen a growth rate like this. As we look back into the data, man, we saw some amazing things. One, our run rate business, you know, most of our business, both here and Europe was double digit.

Very strong end markets there. Academia about the same, no real issues there. Biotech funding, you know, as I mentioned last, we started digging into more and more about just how much are we becoming more of a front-end research company supporting, you know, our customers as we mitigate it from academia to biopharma.

Within that biopharma, how much is really biotech? Within that biotech, how much are really new biotech and startups and, you know, fresh research and leading edge stuff? It's about 30% is the number. About 20 some in most of our businesses, but in instruments, it's about 40. and I think that's it's a concern.

It's a funding issue right now, and as we, as we dig in more, it's gonna wash through, but there is definitely, you know, a growth of being prudent. Their funding is solid right now, but they're trying to make things last. If you're farther along in clinicals, you're probably okay, because it's committed. If you're a startup, there's actually funding. If you're kind of out there, but looking for your second round, it's tough right now, and it's just the way it is. That's driven a lot of potential growth in OEM and a lot of larger orders as people are, if we're starting these clinicals and doing special things with us, and there are a lot of one-off comps.

Literally, it's a handful of deals that bring us back to, like, double-digit growth. It's kind of incredible. Now, talking about biopharma, the pharma side with you, that's just more about overall conservatism in general and the overhang of COVID, like vaccine makers, just, you know, the gravy's over here, right? It's just kind of a normalization. Not long term, just kind of renormalizing, and just again, a little longer out for things and waiting things. We get that vindicated too by looking at our funnel instruments. It's larger than it's ever been. Our instrument funnel is tremendous. It's just the conversion rate has slowed down a lot as getting capital has gotten tighter for teams looking to buy instruments in our segments.

We see that flowing through as well. China will explode in Q4. I think it may be a little better this quarter. We actually had mid-single digit growth. I don't know how. There wasn't anybody working the whole quarter, practically, but we still had growth. It'll come back with a roar, I think, and we've seen that before. We also have, you know, big government stimulus hitting and should be kicking in by, you know, by Q4. The tenders are going out now. We've had that vindicated, so it should be a one-two punch there for China by Q4. I think that may cover most of your questions.

Puneet Souda (Senior Research Analyst)

Yeah.

Chuck Kummeth (CEO)

Did I miss any?

Puneet Souda (Senior Research Analyst)

Yeah. No, I think you covered it well, Chuck. Thanks for that. Just I'll keep it very simple for Jim, just on 4Q. You know, I appreciate your comments on Q3 and being similar to 2Q. You know, 4Q, just, even if I have double-digit increases there, I'm landing, you know, for the full year, single, you know, in single digits, so for total organic growth. Just wondering, you know, does the aspiration for 15% or mid-teen sort of growth rate, longer term still intact? If you could elaborate a bit on that. Thank you so much.

Jim Hippel (CFO)

Yes, they are still intact. The math would suggest that likely not hit double-digit growth for the year this year, even if we hit double-digit growth for Q4. As I mentioned, in my opening comments, if you look at it from multi-year CAGR, we're still in the low teens, and we'll probably end of the year still in the low teens on a multi-year basis. That's essentially on track to where we said we'd be at this point in our five-year journey. The mid-teens is the average over five years.

Again, as the cell and gene therapy continues to ramp and become more material for our business, particularly the GMP proteins, as well as the exosome, you know, becomes more material to our business and continues at those kind of growth rates. As Chuck alluded to, that we're still barely scratching the surface of the potential there. That's what kicks us into the, you know, mid to higher teen growth rates later on in our five-year plan. As far as we see it, we're still on track.

Operator (participant)

Our next question comes from Jacob Johnson with Stephens. Please proceed with your question.

Jacob Johnson (Managing Director)

Hey, thanks. Good morning. Maybe kind of first question, kind of dovetailing, Jim and Chuck on what Jim was just talking about? You're still targeting this $2 billion in revenue by FY 2026. I do think in your new deck, maybe you moderated some of your expected growth for instruments and on the spatial side. Can we just touch on kind of your latest thoughts on the path to $2 billion by FY 2026 once we get beyond some of these kind of near-term.

Chuck Kummeth (CEO)

Sure.

Jacob Johnson (Managing Director)

Dynamics, that you discussed? Thanks.

Chuck Kummeth (CEO)

Yeah, we're not coming off at all. I think the ink isn't even dry on our latest analysis. I mean, the bottom line is we got way ahead of the curve and ahead of forecast the last couple of years riding COVID. Some of that's renormalized, but we're still safely in the $2 billion number, we think. You know, a couple of reasons.

Look at the Maurice Flex coming out. We're gonna be now attacking $400 million more of market. $300 million in the HPLC market for fractionalization, just skipping whole LC and going right to mass spec, which can save weeks and months of work in an analytical lab at biopharma customers. Also the protein characterization market.

It's a smaller market, $100 million or so, but peptide mapping is a very important process, and this machine can do that. So it's gonna grow in that category along with everything else it's been doing. Things are picking up in cell and gene therapy for being specced in for just good old-fashioned QC for purity, et cetera.

Ella's just gonna be on fire. You know, we're doing about 90,000 carts a year now. We just finished the factory for 500,000 carts. We've got ISO 13485 coming. It's just almost done. We're gonna have diagnostic research, you know, coming out our ears, we think, on top of biomarker discovery.

This is gonna be a platform that's gonna get bigger than I think we have in our $2 billion model. I can go up and down this, but, you know, we're also, I think, possibly light on Exosome. Exosome is screaming now, 100% plus a quarter. I see no end in sight. We have a nice portfolio of new diagnostics, new tests coming out where we've got partners calling.

The team's doing great. We've got a great new team in with a new executive for the payer strategy, someone who's actually connected and we've made more progress with private payers last quarter than we've made in the last two years, to be honest. Hopefully more on that coming soon, as we put some numbers to it.

You know, the end-to-answer for you is all the stuff that we were waiting to start growing. By the way, cell and gene therapy, you know, proteins on top of a 185% comp still grew almost 20% this quarter. Nothing's slowing down here. All this new stuff started to pick up, our core, which is the biggest part, hit a speed bump because of these OEM and biotech funding issues, which is gonna recover quickly. We need this new stuff because that's how we get the, you know, high double-digit growth, as Jim alluded to, it's picking up. It's gonna happen.

You know, cell and gene therapy, a $100 million, you know, portfolio for us right now, you know, growing to $2 billion in the next eight to 10 years. We're not letting up. I don't see any issue right now at all. It's the things we put in place years ago are starting to happen and, you know, we're gonna have some bumps here and there with the kind of growth rates we have. I do think we kind of muffed the forecast for sure. I mean, we did not fully appreciate the comps and the strong growth we had the last couple of years due to COVID.

We try to level it out by, you know, averaging over the couple of years, as Jim pointed out, and, you know, I think the recovery will be good. Our brands, we've just done brand studies, you know, R&D Systems still number one. Bio-Techne is actually moving right up the ladder too after 10 years of being out there. We've got great associations. We keep investing digitally, you know, and that's continued to pay back. You know, there's no issue to back off the $2 billion. It's just that we probably aren't as safely in the black of hitting it as we were, but I think we're still there. Namocell is gonna be in the mix now too.

Jacob Johnson (Managing Director)

Got it. Thanks for that, Chuck. Then just the other big picture question. I heard Jim mention that I think M&A is the number one priority on the capital allocation side. I think that speaks to appetite, but maybe just kinda any thoughts on where seller expectations are in the current environment and any areas of interest.

Chuck Kummeth (CEO)

Well, you know, time heals all here, you know. Valuations have come down. They've come down all year, but there's still denial, but there's less denial, you know. There's not a robust IPO market right now, so small companies have limited options. We talked about the funding issues, right? That means a lot of small companies are gonna be looking for ways out and help.

Our phone is ringing more than it was. You know, we're very active. We've been active, but we're definitely more active than usual, and I hope we can land a few more. We landed Namocell not too long ago, and we've got some more in the pipeline. Yes, it is in our number one capital strategy. We're at net debt zero.

We've got a one and a half billion dollar war chest ready to go with cash and we'd love to put it to work. I don't think we'll go over 4x leverage, but I'm willing to get up near that. Board is all very supportive of us getting much more aggressive in M&A. you know, it's like whatever the pertinent, you know, your question's all about the price tags, right? We've got to get real price tags to close some deals.

Operator (participant)

Our next question comes from Dan Arias with Stifel. Please proceed with your question.

Dan Arias (Managing Director)

Good morning, guys. Thanks for the questions. Chuck, on GMP proteins, can you just refresh your view on how you think growth shapes up there? You know, when you guys were opening up the St. Paul facility, you talked about expecting a couple of years where revenue basically doubles. It sounds like you dipped a little bit below that, but maybe now you're accelerating again. What do you think the trajectory there is relative to the overall capacity, which I think at the time was like $140 million-$200 million?

Chuck Kummeth (CEO)

Yeah, there's a little bit overlap even in this area with we'd call OEM. We've got a lot of customers, like 180 customers now for gene proteins, but only a handful that are really sizable, and they're just a little bit lumpy still. We have some year-over-year comps in that area that are tough as well. Even there, we still had a pretty good quarter I'd say. I think going forward, I think it is gonna accelerate. We added another product to the St. Paul site. We're at six. We'll more than double that in the coming year. We have the largest menu for regenerative medicine, and we're moving with most of those over to the St. Paul facility in the coming year or two as well.

You know, we're number one there. We're playing catch up still in the CAR T area, but it's growing strong. It's still kinda, I think gonna be a double kinda year, maybe just a hair under this year, but it won't be too far off, we don't think. Next year should start lighting up as we land a few more larger accounts and we get some things, you know, further up in the clinicals to get more volume going.

We call it turning minnows into tunas and tunas into whales. We have a whole pipeline of how we move these customers forward. More vindication. We had a few of these customers are fairly sizable, and they went to zero, you know, because their funding is tight right now.

They're gonna probably come back online next year, we think, as they get more funding. You know, they've had some stalls in some of their, some of their clinicals. You know, these are small to mid-range biotechs that were kinda hot last year and not so hot this year. They're customers. We're also seeing that, you know, with Wilson Wolf as well. It's definitely slowed down. Seeing the same thing.

There isn't anybody who has a business that's really in the CAR T and in the biotech side, in clinicals that can't say the same thing. It's just the honest to God truth. There are things that slowed down, there's less funding and there are less clinicals starting, and that's just reality. I don't think it's long-term. I think it's just a blip for this year, but you know, it's reality.

Dan Arias (Managing Director)

Okay. Okay, that's helpful. I guess I need to go back to the long-term targets here just because in order to hit that 17% organic growth CAGR that you laid out for 2021 through 2026, and that gets you to the $2 billion, at least by my math, you basically have to do a couple of years of 20% growth. One of the things that we're talking about is how hard comps can be. Apologies for beating a dead horse here, but I guess I just have to ask explicitly if that's at all a decent way to think about outyear growth.

Chuck Kummeth (CEO)

Well, the OEM side of things was bad enough and just on a handful of deals where it took our antibody and our protein business to about flat. That's a short-term blip. We need mid-level, you know, mid-digit growth in that category. We've had way higher than that the last two years, in fact, double-digit. I'm not too worried about that. It's more an issue about the back end and making sure that both cell and gene therapy and exosome as a platform can get to 45%-50% growth in that range. That's what's got to happen. Everything else is within the error bars easily to hit there, but we've got to get to that level.

We've got a couple more years to get to that point. I don't think we're shook about it. It's. Things can only grow so fast, you know, and we're kind of growing pretty fast, so.

Jim Hippel (CFO)

I'd say, you know, I just added that a little bit, Dan. As we mentioned in the call earlier, literally, a handful of customers, biotech customers, smaller biotech customers, was the difference between double-digit growth and mid-single digit growth for us this past quarter. That's how quickly it can flip the other direction as well when things come back online.

Operator (participant)

Our next question comes from Dan Leonard with Credit Suisse. Please proceed with your question.

Dan Leonard (Managing Director)

Hi. Thank you. Chuck, in the past, you've talked about hiring challenges as being a gating factor to your growth and wanting to hire more. Can you give us an update on trends there? Are you still planning aggressive hiring, or have you moderated your ambitions there?

Chuck Kummeth (CEO)

No, that's a very insightful question. I didn't bring it up on the call, but it is more late-breaking news, we definitely had turnover in our sales force in the biologic platform area. As you know, a lot of the instrumentation, things that we're not in pretty hot still, larger metal things. There's been a lot of attrition, and we lost a fair number of people. We're at full strength again, but there's definitely a component there. On spatial, you know, we've come all the way back. I think we're only down one. Overall, we're riding our attrition to kind of stay leaner here as we ride through it. You know, you saw our margins are held pretty well. We're on track.

Part of that is that we've just not replaced everything through attrition. We had a pretty big spend plan this year for this, for this plan to hit these double-digit targets and that they're not there, so we pulled back like any good operator would. I think we'll end up the year up 100 to 200 people, but not the 300 to 400. I think, I think the salespeople are the biggest risk. I think there's a productivity hit we probably took in the last quarter or two off of 1,000 people turning over last year, a full third of the company that is probably unappreciated, and that'll also level out going forward. We're watching that very carefully. We're working it hard. We're changing.

We've done a lot of market upgrades as wage inflation is a big hit. I mean, I think we've done remarkable bottom line considering all the wage inflation we've actually had to absorb this past year. We're fighting it like everybody else. We have a great portfolio, a lot of great, sexy new products and a roadmap. You know, we're still in the business of helping people and helping people develop drugs, and that, you know, that interests a lot of people to come on board. Demographically, we're a much younger company now than we were three, four, five years ago. That makes you want to have more changes too. You know, ESG is very important to us here.

We have a lot of, a lot of different, new groups and clubs and dealing with different, levels of diversity. The company's never been more focused on that, where, you know, we're over 50% female, over 50% female in our management. We're 25% Chinese, you know, we've got a big float of the world this year for our diversity and stuff. We're focused on all that. Youth and diversity are key, and managing that is the key to attrition, I think, so.

Dan Leonard (Managing Director)

Appreciate all that color, Chuck. My follow-up question on China, I'm not sure I know how to quantify the word explode, when it comes to the $1.7 trillion RMB loan package, what are you seeing on the leading indicators on that? Are you seeing quote activity tied to that spend? Are you seeing RFPs? Is there anything that gives you confidence that money is gonna start flowing beginning that June quarter?

Chuck Kummeth (CEO)

Yep. I had a meeting on that just asking those very same questions with leadership in Asia. Yes, tenders are going out and there is discussion, so it looks like it's very real. It's about a two-month process, so I don't think we'll see much of that here in Q3. It's a Q4 activity. We kind of have them at over 100% to plan in Q4.

Of course, they're trying to negotiate that, but I think it's well over 100%. If there's a reality around this $1.7 trillion RMB stimulus, which is really instrument driven, then it'll be real. I think there's pent-up demand already. We're already you know, we had mid-single digit growth the last quarter with nobody working. I think it'll be a quick comeback story. Kinda, you know, we have data on that, right? This happened two years ago as well after the COVID quarter, and I think it'll be similar.

Jim Hippel (CFO)

Just a-

Chuck Kummeth (CEO)

The government's

Jim Hippel (CFO)

Thanks for that context.

Chuck Kummeth (CEO)

The government's very focused on prioritizing healthcare. I mean, that's what the stimulus is for. I don't think anything changes here. People just got to get back to work. Kind of tough to read right now too, because they're just coming off a new year now, right? They're just coming back to work, I think this week even so. We're, you know, we're coming back fast. I mean, we had the whole office, 90% of our people were sick the same time. Like, within a two-week period, they all got hit. That was actually similar anywhere in Shanghai.

Jim Hippel (CFO)

Customers were the same way.

Chuck Kummeth (CEO)

And customers, too. It's gonna snap back pretty fast, we think, unless there's some new variant. I asked questions about that, too, about when do they expect a second wave, and they don't really expect one for a while. According to the people we talked to.

Jim Hippel (CFO)

Everyone's already got it.

Chuck Kummeth (CEO)

Yeah.

Operator (participant)

Our next question comes from Catherine Schulte with Baird. Please proceed with your question.

Catherine Schulte (Senior Research Analyst)

Hey, guys. Thanks for the questions. I guess first, Jim, just circling back, you said adjusted for China and RUO reagent bulk ordering, organic growth would've been double digits. Can you just quantify the bulk ordering portion? It seems like China was maybe a two-point headwind and bulk orders four points or maybe a little bit more. Is that about the right ballpark? Can you just quantify any bulk purchasing activity in the third or fourth quarter of last year, just as we think about comps heading into the back half of the year?

Jim Hippel (CFO)

Yeah, your percentages are pretty close to what we show as well. Yeah, that's kinda why we said we expect Q3 to be very similar to Q2 in terms of organic growth because the number of one-time kind of bulk orders from these small biotechs was similar to Q2. Perhaps a little bit less, but also keep in mind that we had the very large ExoTRU licensing agreement with Thermo Fisher in our Q3. We did know all along that Q3 was gonna be our most challenging growth quarter because of that very large ExoTRU agreement that occurred.

That's an additional headwind that we didn't have. We think, you know, with the overall momentum of the business, we'll be able to cover some of that sequentially, so that sequentially our growth rates will be similar.

Catherine Schulte (Senior Research Analyst)

Okay. Got it. Can you just talk to the rebound in Europe? I think on your last earnings call, you talked about September being up double digits and that strength continuing into October. Can you just walk through, you know, how things unfolded throughout the rest of the quarter?

Chuck Kummeth (CEO)

Yeah. It was definitely a story of Europe doing better than the U.S. and from last quarter. We had run rates, 12% plus in Europe. Overall, it was about a, you know, mid to high single digit kind of level in Europe. A good recovery, not all the way back where we want, but you remember they were negative last quarter, that was good. We have new management hopefully going into place soon there as well. We're working on that. You know, we didn't talk about we put in a whole new ERP system and without a glitch. That's all coming on live. We have a whole new warehousing system in Dublin now to supporting mainland Europe, and that's coming on live with no glitches.

Been a lot of good things in Europe as well. Going forward, I think the risk of the war and energy in Europe and the winter and stuff has been mitigated pretty well. We're kind of focused on, you know, really getting the teams up to speed, new management in place, completing, you know, the mission on cross-selling and the commercialization strategies and tactics that we were kinda in the middle of doing before COVID hit and all that. Funding seems, you know, reasonable in Europe, country by country.

We're still weaker in Germany than we wanna be. We always have been. We're really focused on trying to build out Germany more going forward. I think that's key. I think there's a risk in the U.K. given Brexit still. So far so good. You know, I guess I'd answer it that way for now. Europe's out of the hot seat from last quarter. Now we got, you know, OEM issues in the U.S. to deal with.

Operator (participant)

Our next question comes from Patrick Donnelly with Citi. Please proceed with your question.

Patrick Donnelly (Managing Director)

Hey, guys. Good morning. Thanks for taking the questions. Jim, maybe kind of follow up on one of the earlier questions in terms of headcount. You know, as you guys kind of see this growth slowing for a little bit, obviously talked about, you know, 3Q being in this area as well, how are you thinking about managing expenses? How are you thinking about the margin cadence?

You know, how nimble can you guys be in terms of protecting the bottom line? The margins held up pretty well this quarter relative to the top line. So just curious how you're thinking about that piece and if you're changing any growth investments or any way you're thinking about the P&L.

Jim Hippel (CFO)

Yeah. I mean, as we've talked about the last couple quarters, you know, we were behind in our investment, investments in hiring for most of fiscal year 2022 and even arguably fiscal year 2021. We made great progress in catching up in those investments and catching up in that headcount in Q4 in particular. That's been a reason for our margin drag, one of the reasons for our margin drag the first half of the year. I think we've also been fairly public about this in the past, where our, you know, not just us, but everyone was dealing with retention issues for the last year and a half.

When you talk about 3,000 employees that we ended the year at and are relatively still at today, roughly 1,000 of those employees have been hired in the last year because of both new hires, but also replacements of lost folks. That's a huge, huge influx of new people in the organization that need to get up, you know, up to speed and, frankly, get productive. We're really focusing on getting the productivity out of those folks we hired last year. That's really the focus of this year, which is why there's not a lot of not a new hiring happening nor needed.

That being said, there are strategic investments we're making, particularly around our molecular diagnostics division to support the amazing growth we're seeing in our prostate test there. There's a few other R&D programs that we're slowing down just a bit just to, you know, kinda catch up from all the hiring we did last year, but nothing that's gonna, you know, have any issue with our long-term growth plans.

Chuck Kummeth (CEO)

Well, let me interject, too, here. Remember. One of our reasons for being successful the last 10 years, I think, is our prioritization process. We've talked about it a lot. A lot of you have had the short course meeting with us offline. It allows us to change priorities and change the mix of people and programs very quickly.

We do it zero based every year, and we've already in the middle of that and making those changes. You know, we've doubled the size of our Namocell team since we hired them. We are adding people. We're up 50% in head count in our exosome teams, you know, in the last year because we're waiting for trigger points to happen, they happen. We told you we'd start investing when we saw that. You know, the reconsiderations went through.

Urologists are seeing patients again, and we're lighting it up. We're adding a lot of people there, but we're changing the mix in some other things. We're holding off on some things, you know, that are just prudent to do right now until we see, you know, a reason to change. Remember, myself and all of our leaders all come from working in large companies, all run billion-dollar-plus PNLs, every one of them. They know how to operate, you know.

Jim Hippel (CFO)

No, that's a great point, Chuck. We are actively reallocating resources towards those higher growth platforms. It's our prioritization process at work real-time. As that relates to margins, by, you know, holding our overall cost base we're, you know, relatively neutral, maybe with a slight uptick throughout the year, relatively neutral through the remainder of the year.

Anyone who follows our business knows that our second half from a revenue perspective, seasonality-wise, is much stronger than our first half, simply 'cause our customers are at the bench more days than they are in the first half of the year without all the vacation interruption. That additional revenue on top of that same cost base should allow our margins to continue to expand sequentially.

Chuck Kummeth (CEO)

By the way, people are coming back to work here.

Jim Hippel (CFO)

Yes.

Chuck Kummeth (CEO)

We're a lab.

Patrick Donnelly (Managing Director)

Yeah. Gotcha. Chuck, maybe one on Wilson Wolf. Can you just refresh us in terms of kind of the milestones and timing there? Has anything changed your conviction in kind of moving forward with that change at all?

Chuck Kummeth (CEO)

Yeah.

Patrick Donnelly (Managing Director)

Yeah, go ahead.

Chuck Kummeth (CEO)

We're running out of time, so I got to move fast here. They've slowed down, too, but, you know, as you know, the targets are $92 million in revenue or $55 million in EBITDA for the first tranche. You know, they're very close on one of them. We may strike soon, we may choose to wait. It's as much strategic as it is anything else.

We've got the cash, we're ready to go. We might choose just to weigh in and go sooner than later. We're not sure yet, but it's very. We're getting close to trigger. I got to believe in the next. If things pick up at all for them, we're gonna hit it soon. If they don't pick up, it might be another couple quarters.

It's within our sights here. Nothing's changed strategically. Nothing's changed culturally. Nothing's changed in the relationship. The teams are tighter than ever. If anything, they're pushing to get closer and get this to happen. Great question. It's looming, and I can't wait.

Operator (participant)

Our next question comes from Justin Bowers with Deutsche Bank. Please proceed with your question.

Justin Bowers (Equity Research Analyst)

Hey, good morning, Chuck and everyone. Just one here on China. Is there a way to parse out how much of the slowdown was between the consumables versus the, you know, the instrument business? You know, the second part to that would be in terms of the stimulus funding coming on, do we have a sense of sort of the duration of that, i.e., will that be a tailwind into calendar year 2024 as well, based on some of your conversations?

Chuck Kummeth (CEO)

I think stimulus in the U.S. or anything related to that is here and gone. I think the OEM comments are more about consumables and the instruments are slow, too, with basically off just prudent conservatism in biotech and biopharma and in funding in general. It fits more funding on the instrument side and then conservatism and OEM is more on the consumable side.

Justin Bowers (Equity Research Analyst)

Specifically China.

Chuck Kummeth (CEO)

Well, in China's is just, they're not at work. They're gonna be screaming back here very soon. I'm not worried.

Jim Hippel (CFO)

Yeah, I'd say, you know, the slowdowns from our call it 20%+ normalized growth to mid-single digit growth was across the board in both instruments and consumables.

Chuck Kummeth (CEO)

Yes.

Jim Hippel (CFO)

You know, remains to be seen how long the stimulus impact lasts, but it's gonna take more than a quarter to spend that much stimulus, in our opinion.

Chuck Kummeth (CEO)

For the one point yeah.

Jim Hippel (CFO)

Yeah, it'll be a multi-quarter, if not, you know, year, in benefit we think.

Chuck Kummeth (CEO)

It'll be this whole calendar year. They're intending it for that. They're intending it for healthcare. They're intending it to be in hardware more than anything else. We play big there. You know, we're about productivity and hardware, so, and we've got more platforms than ever. We're gonna share in that as well. I mean, just to put that in scope, it's, you know, $1.7 trillion RMB. If that's the real number, that's way bigger than our entire NIH budget. You know, it's gonna be good. It's gonna be good for everybody.

Operator (participant)

We have reached the end of our question and answer session. I would now like to turn the floor back over to management for concluding comments.

Chuck Kummeth (CEO)

All right. Well, thanks, everyone. We'll see you at the end of next quarter. I think we're as transparent as we can be. We've been doing this a long time together as a team, and we'll always be transparent. Things still look really good here. We don't see any change in our thesis. Anyway, the future is bright, we think. We'll talk to you soon. Thank you.

Operator (participant)

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.