Ladies and gentlemen, thank you for standing by, and welcome to the Q2 2020 Bio-Rad Laboratories, Inc. Earnings Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded. [Operator Instructions] I would now like to hand the conference over to your speaker today, Kevin Han. Please go ahead, sir.

Thank you, operator. Good afternoon and thank you all for joining us. Today, we will review the second quarter of 2020. And with me on the phone today are Norman Schwartz, our Chief Executive Officer; Ilan Daskal, Executive Vice President and Chief Financial Officer; Andy Last, Executive Vice President and Chief Operating Officer; Annette Tumolo, President of the Life Science Group, and Dara Wright, President of the Clinical Diagnostics Group. Before we begin our review, I would like to caution everyone that we will be making forward-looking statements about management's goals, plans and expectations, our future financial performance and other matters. These statements are based on assumptions and expectations of future events that are subject to risks and uncertainties. Included in these forward-looking statements are statements regarding the impact of the COVID-19 pandemic on Bio-Rad's results and operations, and steps Bio-Rad is taking in response to the pandemic. Our actual results may differ materially from these plans and expectations, and the impact and duration of the COVID-19 pandemic is unknown. We cannot be certain that Bio-Rad's responses to the pandemic will be successful, that the demand for Bio-Rad's COVID-19-related products is sustainable or that Bio-Rad will be able to meet this demand. You should not place undue reliance on these forward-looking statements, and I encourage you to review our filings with the SEC where we discuss in detail the risk factors in our business. The company does not intend to update any forward-looking statements made during the call today. Our remarks today will also include references to non-GAAP net income and non-GAAP diluted income per share, which are financial measures that are not defined under generally accepted accounting principles. Investors should review the reconciliation of these non-GAAP measures to the comparable GAAP results contained in our earnings release. I'll now turn over the call to Ilan Daskal, our Executive Vice President and Chief Financial Officer.

Thank you, Kevin. Good afternoon. Thank you all for joining us, and we hope that you and your families are well and staying healthy during these challenging times. And also, we want to officially welcome Kevin Han as our new Head of Investor Relations. Kevin comes to Bio-Rad with a breadth of experience in finance, capital markets, financial analysis and investment management, primarily in the life sciences and medical technology space. We believe that he will make an excellent addition to Bio-Rad. Now before I begin the detailed quarterly discussion, I would like to ask Andy Last, our Chief Operating Officer, to provide an update on Bio-Rad's operations in light of the current pandemic-related environment that we are experiencing globally. Andy?

Okay. Thank you very much, Ilan. And I'd like to start by taking a few minutes to review our current state of operations around the world. Before I begin, I'd like to recognize our employees around the world who continue to make extraordinary efforts to serve our customers under the current circumstances. So thank you to all of our employees for your dedication and continued commitment to the company. Your efforts are truly appreciated. So since the beginning of the pandemic, we have been focused on three key areas to manage through this challenging period: the ongoing safety of our employees; continuing manufacturing operations to ensure product supply and support of our customers; and making sure we continue to make progress on our core strategies. On employee safety, we have worked hard to put measures in place to guard the well-being and safety of our employees. Early on, we implemented work-from-home globally for all employees who are not essential to maintaining ongoing production and core R&D. And we continue to have this policy in place in the US. In Asia, return back to the workplace resumed relatively faster than the rest of our regions, and we are now starting to see resumption in Europe as well. We have requirements in place for social distancing, wearing of masks, temperature checks, contact tracing and, of course, remote working from home depending on the region. All of these measures have served to minimize the number of cases we have experienced throughout Bio-Rad. Our manufacturing operations team have also responded extremely well. Early on in the pandemic, we experienced some supply chain disruptions as we ramped up production to meet the increased demand of mainly our PCR instruments, but reagents, too. Today, we are in a more appropriately scaled position to meet demand, and we have room to continue expanding production should the need arise. Lastly, with much time and energy were spent initially to manage through the impacts of the global pandemic, we have adjusted extremely well to the new working environments and believe that we have executed well given the situation. We continue to work on our core initiatives and strategies and look forward to sharing more details later this year. So with that overview, I'd like to pass it back to Ilan. Thank you.

Thank you, Andy. And now I would like to review the results of the second quarter. Net sales for the second quarter of 2020 were $536.9 million, which is a 6.2% decrease on a reported basis versus $572.6 million in Q2 of 2019. On a currency-neutral basis, sales decreased 4.4%. On a regional basis, strength in Asia was offset by weakness in other regions. As Andy alluded, the pandemic resulted in a significant change in the mix of product demand across our portfolio. We saw strong demand for products associated with COVID-19 testing and related research. However, we saw lower demand in the rest of our business. We estimate that the COVID-19-related sales were about $71 million in the quarter. Sales of the Life Science Group in the second quarter of 2020 were $252.1 million compared to $212.4 million in Q2 of 2019, which is an 18.7% increase on a reported basis and a 20% increase on a currency-neutral basis. The majority of the year-over-year growth in the second quarter was driven by our core PCR products, Droplet Digital PCR and Process Media. Our core PCR and Droplet Digital PCR products revenue increases were driven by strong demand for COVID-19-related products. Growth overall in the Life Science segment was offset by softer academic research demand as these labs around the globe were operating materially below capacity. Process Media, which can fluctuate on a quarterly basis, saw significant year-over-year growth in the quarter, which was primarily due to an easy compare over the same quarter last year. Excluding Process Media sales, the Life Science business grew 14.1% on a currency-neutral basis versus Q2 of 2019. On a geographic basis, Life Science currency-neutral year-over-year sales grew in Asia and in Europe, while the Americas were about flat. We continue to be excited…

[Operator Instructions] Our first question comes from the line of Dan Leonard from Wells Fargo. Your line is now open.

Thank you. So a question on the COVID surge demand in the quarter. How much of that 71 million was equipment-related versus consumables? And do you have any efforts to perhaps be more directly involved in testing? So there must be 100 qPCR tests out there, but I don't think Bio-Rad has one yet and so curious for your thoughts on that.

Okay. Dan, hi, this is Andy here. I think what we'd say is the majority of the sales there were instrument. Of course, we do have reagents, too, and on our core PCR business there, some embedded Droplet Digital PCR sales, too. That was the answer to the first part of your question. Could you just repeat the second part?

Yeah. The second part was, do you have any aspirations to be more directly involved in the testing effort? I mean I noticed you don't have your own qPCR test, and I'm uncertain if you have plans to develop one or otherwise.

Yes. So we've got a ddPCR EUA that was approved. And I'll allow Annette – I'll pass to Annette to answer the question on the qPCR question.

Okay. Thanks, Andy. Yeah, as Andy said, we have quite a large footprint in instruments, but we did see dramatic increase in demand for our reagents and our plastic consumables that go along with it. We chose to put a Droplet Digital PCR COVID test kit out first, and we are always evaluating whether putting a qPCR test out would make sense for us. I mean, it may, and that's something that we could always choose to do.

Okay, thank you. And my follow-up question, what are your expectations on the pace of academic, government and market demand into Q3? It seems you're over-indexed there in Life Sciences, and it seems like that's an important variable in the Q3 outlook. Thank you.

Andy, do you want to take that?

Sure. I can take that. So we expect to continue to see a gradual increase in opening as we go through Q3. We're not expecting any sudden changes in pace, to be fair. We saw a gradual opening through Q2, picking up in the second half a bit. And we're thinking the same as we go through Q3.

Thanks for the color.

Thank you, Dan.

Thank you. Our next question comes from the line of Patrick Donnelly from Citi. Your line is now open.

Great, thanks. Ilan, maybe one for you on the margins, very encouraging and particularly in this environment to see the expansion there. Can you just talk through the strength, particularly with the onetime headwind you guys faced? And then the expectations going forward, how much of it was mix, as you kind of talked about the COVID benefit maybe a little smaller as we go forward? How much was related to that versus some of the internal initiatives that you guys have had going for some time here?

Yeah. Thank you, Patrick. I appreciate the question. So yes, this quarter, we had, obviously, a better gross margin due to the better mix. As well as some benefit from the inventory buildup that started post Q4 of 2019. Generally speaking, when I think about the full year, I don't think that there will be a big impact on the full year gross margin. We plan to take the utilization a little bit lower in the second half since we have built up some inventory this quarter. And also it depends on the mix that we'll experience in the second half, but assuming that we'll have a gradual continued recovery out there. It will have a balancing kind of effect on the overall kind of mix and the benefit on the gross margin going into the second half.

Okay. That's helpful. And then maybe just on the Clinical Diagnostics side. Can you just talk through the trends as we progressed through the quarter? How much improvement did you see as we went through June there? And then also, as we've seen this reuptick of COVID in July, I've heard some kind of say the elective stuff has pulled back a little bit. It'd be great if you could just talk through what you've seen quarter-to-date as well on that side. Did you see things come back and then take a little bit of a pause or have things progressed pretty well?

Dara, do you want to take that question?

Sure. We did start to experience some modest recovery in June and exactly, as you said, still muted by selective procedures and routine testing really not being back to historical averages. So we're in watchful waiting, but we did see an improvement in June.

Great and maybe a last one, just on the ddPCR side, are you guys getting this technology in front of customers that perhaps you weren't accessing before COVID, meaning has the demand upticked to a level where the installed base is all of a sudden strengthening quite a bit? And the technology is getting out there in a more broad sense, whereas on the other side of COVID now, maybe you have a bit of a stronger franchise, given the acceleration there?

Yeah, I'll address that question to Annette.

Sure. I think the general answer that – to your question is, yes, that's likely what's happening. We've been experiencing good growth with this platform for quite a long time, and we continue to see it. We had not focused the technology on infectious disease. And I think what has emerged is how it can be quite useful in this area in virology, in particular. So I think we'll have kind of a lasting effect there. And certainly, we've already been present in wastewater monitoring for wastewater that's being reused, they monitor for pathogens. They're using the platform because it's highly sensitive and very precise. It's being used by governmental agencies for environmental monitoring, public safety, for swimming areas. So I think we're seeing an uptick there, people getting in – monitoring for those reasons are now saying, gee, maybe we should be looking to monitor for SARS. So I think we're going to get some lasting kind of customers in that area as well.

Very helpful, thank you.

Thank you, Patrick.

Thank you. [Operator Instructions] Our next question comes from the line of Jack Meehan from Nephron Research. Your line is now open.

Thanks, good afternoon. I was hoping just a little bit more granularity on the $71 million benefit from COVID in the quarter. How much of that was in Life Sciences versus whatever benefit you might have seen with serology on the diagnostics side?

Hi, Jack. Yeah. This is Andy. The majority came through the Life Science PCR and Digital PCR side of the business. Contribution from serology was very modest. We launched our product late in the quarter, and so it was a very modest contribution.

Okay. And I guess you were capacity constrained in the second quarter. And I know your third quarter guidance calls for a step down sequentially in the contribution. But I guess, why would that be the case if the manufacturing footprint is where it needs to be going into the summer?

Annette, do you wish to answer that question?

Sure. I can take that. So at the beginning of this pandemic, we experienced, as did many others, a real upswing in demand, and we spent several months in the end of the first quarter and into the second quarter, scaling our manufacturer to meet demand across our platform, our reagent and our plastics consumables lines. I think we're in a good place now to meet demand and to scale further if we have to. We do have to watch out for supply chain constraints as our – other life science companies do as well. But I think moving into the third quarter and through the end of the year, we've gotten ourselves into a good position to meet demand.

Got it and then if I look at the Life Science results, if the COVID tailwind was concentrated there, and you had the biochromatography Process Media tailwind I'm getting something like the core business, I don't know if my math is right, I'm trying to do it while we go, but down well over 20%. Can you just talk about some of the additional products and the expectations for a recovery going into the back half within the Life Science segment?

Yes. I think when we look at that question, I think we feel our business is kind of down in line with the majority of the other reported – reports for Q2 in the kind of high-teens percentage. We don't see our core Life Science being down over 20%.

And the way we think about it, Jack, also thinking about the second half, obviously, part of our guidance for the third quarter and is a continued gradual recovery, and that goes back to a more normalized kind of mix throughout the portfolio.

Yeah. I didn't – I think we felt quite comfortable with where we were given the market conditions as we netted it out, so nothing new.

That's right. Quite in line with the market dynamics, I think.

Got it and if I can squeeze in one final one. I was curious – just thoughts around capital allocation, the Sartorius stake, if you just look over the last 1.5 years, it's gone from almost $3 billion to closing in on $7 billion now. Does the pandemic change your views at all around the strategic nature of that and looking to build it or the way you think about potentially pursuing larger M&A?

So obviously, Sartorius has continued to do very well. Hence, the increase in their market cap. It's – obviously, it's been a pretty good investment for us.

Yeah. I would add also, Jack, in terms of the overall capital allocation. I mean, it's a similar strategy that we have been discussing in the past year. We have continued interest with the strategy of those smaller tuck-in acquisitions, which we continue to pursue as well as with a much higher appetite for entertaining a larger transaction. And that's obviously – will be more opportunistic. I mean, you need to wait for those to become available. And again that will be complimented by the share buyback, which the Board now authorized to increase the plan.

Great, thank you all.

Thank you, Jack.

Thank you. Our next question comes from the line of Brandon Couillard from Jefferies. Your line is now open.

Thanks. Start with Ilan maybe. As you look at the back half of the year, very specifically around the third quarter, any parameters you can share with us as far as the step down sequentially of the COVID tailwinds? Is it over half or less than half you expect to capture in the third quarter? And then if you look at the OpEx line, a significant amount of leverage in G&A in the second quarter, how much of that spend comes back into the model in the second half of the year?

Yeah. Thank you, Brandon. I think to your first question, I think it's a little bit premature to assess how Q4 is going to shape up. We can tell you, based on the last several months that a lot is happening every few weeks. So I don't know that the general seasonality that we experience every year will be similar this year. Thinking about the operating expenses, so most of the savings specifically this quarter are going to come back at some point, I mean, and it will take a few quarters. With that said, I can tell you that, obviously, that we will have to revisit kind of how do we spend the discretionary expenses, and how do we manage potentially with less travel, et cetera. So if I have to kind of categorize it, most of it is still associated with discretionary, specifically this quarter. Some of it is associated with our long-term initiatives to reduce our operating expenses. And as you can see also on the R&D side, we continue to invest on a dollar basis actually, it was slightly higher. We do not have any intention to reduce our R&D investment.

Maybe one for Annette, on ddPCR, let's get an update now, I guess, six or eight months into the launch of the QX ONE platform, specifically which customers you feel are adopting fastest, what percent of new placements there are or upgrades from the legacy system? Anything you can share with us on how that launch is proceeding.

Sure. Well, fortunately, it's proceeding quite well. And the primary segment where we focused this product was biopharma and to a large extent in the QC and manufacturing parts in the cell and gene therapy markets. And we have many customers who adopted our QX200 for that application, and we see some of those customers adding QX ONE to their repertoire. We see some of those customers looking towards, gee, I like the QX ONE, maybe I'll convert to QX ONEs. But we're pleased with the progress that the product introduction has made.

Just a quick question, Ilan, just to confirm, the non-GAAP gross margins, did that still include the $8 million customs charge? I just want to make sure you didn't back that out of the non-GAAP adjustments.

Yeah, it does. I did not take it out. That's correct. And it's about 150 basis points.

Okay. So margins would have been 150 better, excluding that. Okay. Very good, thank you.

Thank you.

Thank you. At this time, I'm showing no further questions. I would like to turn the call back over to Ilan Daskal for closing remarks.

Thank you, operator. Thank you, everyone, for joining our call today and we look forward to connecting with you in the near future.

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