In September 2020, genetic testing equipment manufacturer Illumina (ILMN) announced that it would buy back Grail, a liquid biopsy company that it had previously spun off four years prior. The price Illumina would pay — $8 billion in cash and stock — raised eyebrows at the time, but it wasn’t the biggest issue investors had with Illumina’s desire to buy Grail.
Their biggest concern was that both the European Commission and the U.S. Federal Trade Commission challenged the merger and began review proceedings. That is to say, that used to be investors’ biggest concern with Illumina. As of today, a new concern has emerged:
Ignoring the protests of the regulators, Illumina went ahead and closed its acquisition of Grail Wednesday, before receiving permission to do so.
The reaction of Leerink analyst Puneet Souda was typical of how Wall Street took this news. Souda downgraded Illumina stock to “market perform,” and dropped his price target on the from $510 to $425 per share. (To watch Souda’s track record, click here)
As Souda explained, closing the Grail acquisition without receiving sign-off from U.S. and European regulators “raises uncertainty” about Illumina stock because, for one thing, the European Commission has authority to fine Illumina for its action, charging the company as much as 10% of its global revenue (or about $400 million).
And for another, it’s possible that the Europeans could require Illumina to unwind the deal if they end up disapproving of it.
That’s bad enough, but Souda actually has other concerns about Illumina stock, above and beyond his concerns over the impetuous rush to merge with Grail. For one thing, Souda worries that after enjoying powerful tailwinds in 2021 from labs reopening and upgrading their equipment to Illumina’s new NovaSeq gene sequencers, Illumina’s numbers will face “tougher compares” in 2022. By next year, these upgrades will presumably have been completed already, and they won’t be repeated. At the same time, the analyst worries that Illumina’s sales of consumables for testing won’t grow as fast in 2022, as they did in 2021, as the Coronavirus pandemic gets brought under control next year.
Covid testing, points out Souda, made up about 7% of the growth in Illumina’s revenues in the first half of 2021, but will add only half that amount of growth in the year’s second half. It could contribute even less growth in 2022 and beyond as, says the analyst, “surveillance efforts” (i.e. testing for Covid) begin “stabilizing around the world.” And this leads Souda to conclude that “this leaves limited avenues of growth for COVID revenue in 2022, making it unlikely ILMN significantly beats projected $175M revenue in 2021.”
Finally, Souda worries that “core elasticity of demand [is] not as robust with ILMN increasingly levered to clinical testing end-markets.” As the analyst points out, fully 45% of Illumina’s clinical testing revenues now come from the sale of sequencing “consumables.” This was great when clinical labs were ramping up their testing activities, but Souda doesn’t believe that testing volumes will increase “meaningfully” enough in the future to make up for Illumina’s planned price reductions, so as to permit revenues to grow in the future.
Simply put, he doesn’t think Illumina can “make it up on volume,” so to speak. Hence the downgrade.
All in all, the Street is currently taking a cautious approach to ILMN. The Hold consensus rating breaks down into 3 Buys, 4 Holds and 2 Sells. The analysts expect the share price to stay rang-bound in the coming months, given the average price target currently stands at $484.75. (See ILMN stock analysis on TipRanks)
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Disclaimer: The opinions expressed in this article are solely those of the featured analysts. The content is intended to be used for informational purposes only. It is very important to do your own analysis before making any investment.
