Repligen Corp

NASDAQ:RGEN

Earnings Call Transcript 2022-Q2

[Operator]

Good morning and welcome to the Repligen's 2022 Second Quarter Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] In order to accommodate all individuals, who wish to ask questions, there will be a limit of two questions at a time. Please note this event is being recorded.

I would now like to turn the conference over to Sondra Newman, Head of Investor Relations for Repligen. Please go ahead.

[Sondra Newman, Head-Investor Relations]

Thank you, Renan, and welcome to our second quarter report. On this call, we'll cover business highlights and financial performance for the three and six month periods ended June 30, 2022. We'll also provide updates to our financial guidance for the full year 2022. Repligen's President and CEO, Tony Hunt, and our CFO; Jon Snodgres, will deliver our report and then we will open the call up for Q&A.

As a reminder, the forward-looking statements that we make during this call, including those regarding our business goals and expectations for the financial performance of the company, are subject to risks and uncertainties that may cause actual events or results to differ. Additional information concerning risks related to our business is included in our annual report on Form 10-K, our quarterly reports on Form 10-Q, the current report on Form 8-K, which we're filing today, and other filings that we make with the Securities and Exchange Commission.

Today's comments reflect management's current views, which could change as a result of new information, future events or otherwise. The company does not obligate or commit itself to update forward-looking statements except as required by law. During this call, we are providing non-GAAP results and guidance. Reconciliations of GAAP to non-GAAP financial measures are included in the press release that we issued this morning, which is posted to Repligen's website and on sec.gov.

Non-GAAP figures in today's report include the following: revenue growth at constant currency, gross profit and gross margin, operating expenses including R&D and SG&A, operating income and operating margin, contingent consideration, income tax expense, net income and earnings per share, as well as EBITDA and adjusted EBITDA. These adjusted financial measures should not be viewed as an alternative to GAAP measures, but are intended to better enable investors to benchmark Repligen's current results against historical performance and the performance of peers when evaluating investment opportunities.

Now I'll turn the call over to Tony Hunt.

[Tony Hunt, President and Chief Executive Officer]

Hey, thank you, Sondra, and good morning everyone and welcome to our Q2 earnings call. We are very pleased with our performance in the second quarter and through the first half of 2022 with quarterly revenue coming in at $208 million and first half revenues reaching $414 million. Similar to Q1, our base business continues to perform well finishing up 41% for the quarter and 39% through the first six months of the year. Our Filtration and Chromatography businesses were the major drivers of this growth with robust demand in our core monoclonal antibody and gene therapy markets. Gene therapy growth, which excludes COVID related revenue from these accounts, was up almost 70% in the quarter, representing 15% of total revenue with strong contribution across our direct product lines. This places us in a very good position to finish the year above our 40% growth target for gene therapy or over $105 million in related revenue.

A key concern during the quarter was the situation in China and our ability to not only ship product into the region, but also transact with our customers for future orders. Our China business ended the quarter of 36% on revenues and of 18% on orders versus prior year. This is a direct result of the outstanding effort by our team there as they worked through numerous logistic issues associated with the pandemic while still delivering an excellent quarter for the company. As discussed on our Q1 call, we saw predicted drop off in COVID revenues in the quarter down 21%. In terms of pacing, we still expect second half of the year of COVID revenues to be down 30% to 40% versus first half with full year COVID revenues now expected to come in at $140 million to $150 million, slightly down from our estimate on our Q1 call.

From an orders perspective, we had another strong quarter, especially for our base business, which was up 14% year-on-year and 18% year-to-date. Book-to-bill and total orders to the first half of the year was just below 1, while base business orders were above 1. Based on overall performance of our base business and a strong order book, we are updating our revenue guidance for the year. We are now projecting revenues in the range of $790 million to $810 million for total revenue growth of 18% to 21%. We're increasing guidance for base business growth to 31% to 33% from our previous 24% to 31%. And we anticipate organic growth in the range of 19% to 22%.

Before transitioning to the business unit highlights for the quarter, I want to spend a few moments discussing new product market traction and the progress we've made on capacity expansion. From a new product perspective, we had an excellent start to 2022 with the 12 products developed and launched last year. New product revenues accounted for 4% of our sales in the first half led by our ARTeSYN Chromatography and flat sheet cassette systems. Within our affinity portfolio, our Protein A high pH ligand and resin sold through Ecolab is performing well for pH sensitive antibodies and a number of customers are now scaling up.

In addition, our AVIPure AAV portfolio of infinity resins launched in the first quarter of this year are going through the sampling and evaluation phase of market seating and adoption with very positive feedback on performance. Overall, we are very pleased with our new product adoption, which validates the approach we have taken in R&D over the last five years, which is to focus on differentiated and disruptive technologies as core to our product development strategy. From an operations perspective, we have completed the hollow fiber expansion in Rancho, increased our filtration capacity in Marlborough and opened up our new assembly center in Hopkington. Q3 will focus on bringing this capacity fully online. With lead times down to pre-COVID levels, we are seeing share gain wins, especially in our filtration portfolio. We have another 12 months of capacity expansion programs lined up, which will position us well for the next five years as we support our growing customer base.

So, moving now to our quarterly performance. The story of the quarter was the 41% base business growth and the continued strength across the regions in our filtration and chromatography franchise. In filtration, our business was up more than 40% in the second quarter and 50% through the first six months of this year, compared to the same periods in 2021. The strength in filtration was broad based led by our hollow fiber product lines. Our TFDF business accelerated up greater than 80% in the first half of the year. With more customer sites opening up, we've been able to conduct a significant number of field trials focused on process intensification. The interest in TFDF is accelerating for use in the production of monoclonal bodies, mAb fragments, viral vectors and exosomes. As customers scale and implement the technology, we fully expect that TFDF will be a key driver of growth for our filtration business going forward.

Our ATF business had a strong orders and revenue quarter as customers continue to evaluate, implement and scale the technology across multiple modalities. And finally, our hollow fiber systems business was up greater than 30% driven by strong demand for both our bench-top and process scale systems. For the year we are increasing our guidance for our filtration business to 24% to 28% growth, up from our previous guidance of 19% to 24%.

Moving to chromatography. Our OPUS pre-packed column product line had an excellent quarter driven by mAbs and gene therapy customers. This business is off to a very strong start in 2022 with 50% increase in demand for our large scale columns. In Europe, approximately 90% of our customers have now qualified in our Breda facility for pre-packed columns. We also continue to be encouraged by the split of resins and columns on our overall business with columns now representing 70% of OPUS revenues. Finally, we are seeing some positive signs of improved resin supply, which should result in a strong second half for OPUS. For the year, we anticipate that the chromatography franchise will grow in the range of 25% to 30%.

Our proteins business had a solid quarter, but as anticipated this franchise was down year-on-year with very tough comps for both ligands and growth factors. As discussed in our Q1 call, Cytiva continues to reduce their external demand in line with the agreement we signed in 2021. Our NGL family of ligands continue to perform well in the marketplace and we are encouraged by the traction we're seeing. We continue to expect proteins to be down approximately 10% here in 2022.

Finally, our process analytics business continues to perform well as we focus our efforts on FlowVPX adoption. FlowVPX sales were up almost 40% year-on-year and approximately 60% in the first six months of 2022. Pipeline opportunities continue to expand, so our expectation around growth remains at 25% for the year. So overall, we had another outstanding quarter in Q2. We are very encouraged by our base business growth, which we anticipate will be above 30% this year with additional capacity coming online, new products, continuing to hit the market, excellent performance by our recent M&As. The future remains bright as we continue to execute on our strategic initiatives for the company. We look forward to updating you on our progress through the year.

And with that, I will turn the call over to Jon for the financial update.

[Jon Snodgres, Chief Financial Officer]

Thank you, Tony, and good day, everyone. Today, we are reporting our financial results for the second quarter, as well as updating our financial guidance for the year. Unless otherwise mentioned, all financial measures discussed, reflect adjusted non-GAAP measures.

As shared in our second quarter earnings press release this morning, we once again delivered record revenue totaling $207.6 million as well as strong earnings performance.

Base business outperformed expectations up 41% year-over-year and up 13% sequentially from the first quarter of 2022. While our base business represented 80% of total revenue during the second quarter, we saw solid COVID-related revenue contribution equating to 17% of total revenue and a nearly 4% uplift from inorganic M&A.

At the market level, we expanded our presence in gene therapy with another strong quarter with year-over-year growth of approximately 70% excluding COVID-related revenue at gene therapy accounts.

Our cell and gene therapy accounts comprised 15% of total revenue in the quarter. This exciting area complements the steady growth that we continue to see across our monoclonal antibody market, including biosimilars where approvals continue to expand the commercial market available to Repligen.

We’ve also continued to successfully integrate our 2021 acquisitions of Polymem, Avitide and BioFlex to support respective share gains in hollow fiber, affinity chromatography, and fluid management markets. Our investments to scale our business to support our long-term growth projections are ongoing. And we expect to bring our Marlborough, Massachusetts and Rancho, California filtration expansions fully online here in the third quarter, along with building out our Hopkington Massachusetts fluid management facility, where we’ve already shipped our initial products to customers in the second quarter of this year.

For the full year-to-date, period, excuse me, for the year-to-date period, we’ve spent $54 million on capital expenditures, and we are now accelerating our plans to build out and scale up fluid management and proteins manufacturing. Our 2022 CapEx spend is now expected to be approximately $85 million, an increase of about $15 million to support additional projects with go-live goals in 2023.

Now returning to our second quarter revenue commentary. On our top line, we delivered revenue of $207.6 million in the second quarter, representing an increase of approximately $45 million and 27% reported growth. Constant currency growth was 32% and our organic growth was 29% year-over-year.

Looking closer to second quarter growth of 27%, our base business contributed 29 points of growth. We added four points from our 2021 acquisitions, and we saw a six point decline from COVID-related revenues.

Foreign exchange triggered a five-point headwind primarily in the U.S. by U.S. dollar strength compared to the Euro and Chinese Yuan. For perspective, we expect that full year – for the full year, about 60% of sales will be U.S. dollar denominated and approximately 25% of our sales will be Euro based. We continue to see positive regional revenue growth. In the second quarter across each of our three global regions led by our North America region expansion of 41%, Asia/rest of world growth at 34% and a European increase of 11% influenced by later COVID revenues.

We expect our growth in Europe to be lower in the second half of the year as COVID volumes decline. Our regional revenue distribution for the second quarter included Asia/rest of world at 20%, Europe at 35%, and North America at 45%.

Now moving down to our income statement. Adjusted gross profit was $121.9 million in the second quarter of 2022, increasing by $20.8 million or 21% compared to the same period in 2021. Adjusted gross margin of 58.7% for the second quarter compares to 62% in the same period of 2021, where we had significant revenue acceleration pacing well ahead of our capacity and personnel expansion activities. We continue to manage FX headwinds and increases in material and labor costs, while still holding margins at a reasonable level for the company.

Now transitioning down the P&L to adjusted operating expenses. Adjusted research and development expenses for the second quarter were about 5% of total revenue. Increases in R&D spend continue to support the development of several innovative new products to be launched later this year. Second quarter 2022 adjusted SG&A expenses were approximately 22% of total revenue, slightly lower than the same period in 2021.

Year-over-year dollar spend increases continue to be linked to the timing of our 2021 acquisitions and continuing investments in personnel, facility and systems expansions to support our long-term growth expectations.

Now moving to adjusted earnings and EPS. Second quarter 2022 adjusted operating income was $65.6 million, an increase of $8.9 million or 16% compared to the same 2021 period. We are pleased to report adjusted operating margin of 31.6% in the second quarter of 2022, compared to 34.7% in the prior period where revenue acceleration significantly outpaced our scaling activities at that time.

Moving to adjusted net income. In the second quarter of 2022, our adjusted net income was $51.4 million, an increase of $6.5 million or 15% compared to the same 2021 period. Adjusted EPS increased to $0.91 per fully diluted share in the second quarter 2022, an improvement of $0.12 or 15% compared to $0.79 in the 2021 quarter.

And finally our cash and cash equivalents, which are GAAP metrics, totaled $596.5 million at June 30, 2022.

We’ll now transition to our 2022 full year guidance. Our GAAP to non-GAAP reconciliations for our 2022 financial guidance are included in the reconciliation tables in today’s earnings press release. As previously mentioned, unless otherwise noted, all 2022 financial guidance discussed will be non-GAAP.

Please also keep in mind that our 2022 guidance may be impacted by fluctuations and foreign exchange rates beyond our current projection of a 4% headwind on full year sales and does not include the potential impact of any future acquisitions that the company may pursue.

Overall, we are updating our 2022 full year revenue guidance, a GAAP metric to $790 million to $810 million, which reflects increased projected demand for our base business offset by slightly lower projected COVID-related revenue. We are now guiding to overall revenue growth in the range of 18% to 21% as reported, 22% to 25% at constant currency and organic growth of 19% to 22%.

Base business revenue is expected to increase by 31% to 33% to reach $630 million to $640 million. At midpoint, this is a $22 million increase in anticipated base revenue. We now expect $140 million to $150 million in COVID-related revenue and about $20 million in inorganic acquisition revenue. We are increasing our 2022 adjusted gross margin guidance by 50 basis points to 57.5% to 58.5%.

We are ramping our adjusted operating income guidance by $8.5 million at midpoint to the range of $234 million to $239 million. And we are increasing our adjusted operating margin by 50 basis points to the range of 29% to 30% of revenue for the year.

Adjusted other income and expense is expected at $6 million of expense for the year, up from our previous guidance of $1 million due to transactional foreign exchange impacts. We expect – we continue to expect 2022 adjusted income tax expense to be approximately 21% of adjusted pretax income for the year.

Our adjusted net income guidance is now expected to be in the range of $180 million to $184 million, an increase from our previous guidance of $177 million to $182 million. And we are guiding to adjusted EPS of $3.13 to $3.20 per fully diluted share.

Our adjusted EPS guidance reflects an estimated 57.5 million weighted average fully diluted shares outstanding at year end 2022.

Adjusted EBITDA is now expected to be in the range of $256 million to $262 million compared to our April guidance of $252 million to $258 million with depreciation and intangible amortization expenses projected to be approximately $25.2 million and $26.4 million respectively.

The company expects to spend $85 million in capital expenditures in 2022, an increase from our previous guidance of $70 million. We expect year-end cash and cash equivalents, a GAAP metric to be in the range of $640 million to $660 million with our CapEx investments being fully funded by cash generation from our operations.

This completes our financial report and guidance update, and will now turn the call back to the operator to open the lines for questions.

[Operator]

Thank you. We will now begin the question-and-answer session. [Operator Instructions] The first question comes from Dan Arias with Stifel. Please go ahead.

[Dan Arias, Stifel]

Good morning guys. Thank you. Tony, on lead times, what percentage of the portfolio does it feel like you can point to lead times as a strategic advantage? And then I'm sure you're not looking to get too specific, but at a high level, maybe where do you think the market shares are most likely to reflect the difference between where you are and where your competitors are, where they might be?

[Tony Hunt, President and Chief Executive Officer]

Yes, I would say in terms of portfolio, I would say our filtration portfolio is probably the one area we put a lot of effort over the last 24 months to build out capacity and really over the last say six months or so, we've been able to drive down lead times to pre-COVID levels and in some cases lower than that. That's definitely an advantage for us. And I think it's something that – when we look at 2022 that's where we're honestly focused on. In terms of how that splits with our competitors, I think, it's kind of across the board. Everybody is in a different position. Everybody is bringing on capacity. I think we just need to focus on the differentiated nature of the products that we have and the good lead times that we have. And as customers, who've really struggled over the last year to get product, we can deliver that, which I think should be to our advantage.

[Dan Arias, Stifel]

Okay. And then maybe just on destocking activity and the way in which the customers of yours are managing their supply inventory, that's clearly been the topic of debate coming into the quarter. It doesn't feel like your results suggest too much of that. But can you just maybe touch on the extent to which you're seeing or not seeing that? And then what your expectations might be when it just comes to book-to-bill and the trend there into the back half of the year or next year? Thanks.

[Tony Hunt, President and Chief Executive Officer]

Yes. On destocking, I think, our view of the world is pretty similar to what our peers have seen, which is very strong order run rates in the first half of the year. I would say that I think as we go through the next 6 to 12 months, there probably will be a little bit of destocking. It's hard to tell where it is because when you look at us and other bioprocessing companies, we all suffered from long lead times in 2021. So I'm not sure there was a whole lot of product built up during that time period. But I would say over the next say two to four quarters, if there is some destocking that's happening – that will happen, it's probably going to be in that timeframe.

[Dan Arias, Stifel]

Okay. Thanks a bunch.

[Tony Hunt, President and Chief Executive Officer]

Yep.

[Operator]

The next question comes from Julia Qin with J.P. Morgan.

[Julia Qin, J.P. Morgan]

Hi, good morning. Congrats on a quarter. So in terms of pricing many of your peers have noted meaningful price increases given the inflationary environment. Can you comment on the pricing contribution of growth you've seen so far this year or expect to see for the full year? And then given the orderly time how much of incremental revenue benefit from pricing increases do you expect to carry into next year?

[Tony Hunt, President and Chief Executive Officer]

Do you want that one, Jon?

[Jon Snodgres, Chief Financial Officer]

Yes, sure. I'll take that one. So, yes, just like peers in our industry, we work closely with our customers to help them understand the challenges that we were seeing. Many of them are experiencing similar situations in their businesses. So we did implement price increases overall. And historically, Julia, if you remember, we said we typically had recognized about 1.5% to 2% on average per year. I'd say in H1, we're kind of double that at the high end. So, in that 4-ish percent range overall for price realized. And we actually implemented list prices higher than that. We did a mid-year increase as well. Some of that sticks, some of it doesn't. We have certain contracts under contract. We had backlog coming into the quarter and whatnot. But overall as we go through the year, we should expect to see a bit more price sticking than we've seen on that roughly 4% level.

[Julia Qin, J.P. Morgan]

Got it. That's very helpful. And second one for me obviously you saw exceptional strength in cell and gene therapy in the quarter of 70%. I was wondering how much of that is driven by the anticipation of near-term at the approval and commercial scale up? Or how much incremental acceleration do you still expect to see once we have more positive FDA updates?

[Tony Hunt, President and Chief Executive Officer]

Yes. So I would say that if we see across the board where you get – if we see approvals, it's definitely going to be very positive for the bioprocessing industry. But I would say from – when I look at Q1 and Q2, I would say that it's been more broad based. It isn't really an anticipation of success or approval. It's more we have a lot of accounts that are using our technology that are scaling – a number of customers that are scaling through different phases of clinical trials. So you'll see what second half of the year brings in terms of approvals, but I think I've said this on a few occasions, I think approvals will be really positive for everyone. And we'll definitely give more momentum to the overall gene therapy market.

[Julia Qin, J.P. Morgan]

That's great. Lastly from me in terms of new products I know you previously talked about TFDF momentum on track to double every year and you noted strong initial traction for several new products. Just thinking more broadly how to think about the combined potential of all those 12 new products launched last year and I think the three that's launched so far this year? I know you previously said, new products launched in the past seven years accounts for 25% of revenue today. Is that a reasonable benchmark to use for the next seven years? Or are there factors that could support even more accelerated uptake trajectory?

[Tony Hunt, President and Chief Executive Officer]

Yes, I haven't run that analysis, but just thinking through that – I would say that what we've done over the last seven years and the impact of those products and contributing about 25% of the revenue, I would expect that it'll be at least 25% of the revenue on a go forward basis. There is a lot of really great products coming through. 4% is actually a really good number for contribution for new products that were only launched in 2021. So I think that's a really positive sign and we have a lot of other products in the pipeline that we think will also be major contributors to the overall growth in the company. So I think we're pretty bullish on our new products.

[Julia Qin, J.P. Morgan]

Great. That's it for me. Thank you.

[Tony Hunt, President and Chief Executive Officer]

Thanks, Julia.

[Operator]

The next question comes from Jacob Johnson with Stephens.

[Jacob Johnson, Stephens]

Hey, good morning. Tony, maybe just following up on that that last question. Inter quarter, you're highlighting 25% of your revenue came from 10 truly disruptive products like TFDF. It seems like you're continuing to have traction winning new accounts there. Can you just talk about how much of those markets do you think you've penetrated today? Maybe what's the commercial clinical mix for those products? I guess what I'm just trying to get at is just kind of how long of a runway for growth is there for those kind of key products for you all?

[Tony Hunt, President and Chief Executive Officer]

I think there is a long runway for growth. Our industry is moves fairly slowly. So in terms of new products, once they're launched, they tend to go into pre-clinical phase 1, maybe you get into a phase 2, if you're really lucky you get into a phase 3. So it does take a number of years for those products to get into commercial processes. So when you look at the 10 disruptive products launched since 2014, 2015, many of those products now are in commercial processes, but we're at the very beginning. So I expect that those products will continue to have a very positive impact on the company. And I would say the products that we're launching last year, this year and over the next few years, they start to gain momentum in the marketplace. They will also have a very positive contribution.

I mean, that's one of the reasons why we highlighted TFDF. A number of you have asked me, specifically how it's doing, it's really tracking right to where we expected it to track to, in other words, doubling most years. And we're getting into lots of processes and the applications are expanding. And that's what you want to see with the products, right? You may have an idea around a target application, but it's even more impressive when you can broaden the application base and really bring more customers into the fold for that type of a technology.

[Jacob Johnson, Stephens]

Got it. Thanks for that, Tony. And then just as a follow up on – on the biosimilar opportunity, it seems like we're probably nearing an inflection point for those products. Just how meaningful is that opportunity for Repligen? I guess in particular as we think about some of these larger biosimilars that that could come to market, what areas of your portfolio are best suited to support those?

[Tony Hunt, President and Chief Executive Officer]

Yes, I think, the areas of our portfolio that are best suited to biosimilars clearly are filtration portfolio. And I would say our upstream portfolio where people are looking for process intensification, yield improvement, sufficiency improvement, these are all the things that are really important in the manufacturing of biosimilars. We've always worked with the companies that have focused on biosimilars. We kind of lump it into the – for the most part into the mAB market. But yes, I expect it to be meaningful because if you think about the history of Repligen, we're really only in bioprocessing since 2013, 2014. So we're really not in the originator molecule, so it's another opportunity for younger bioprocessing companies like Repligen to jump in on the biosimilar side and get some share of commercial drugs in the marketplace.

[Jacob Johnson, Stephens]

Got it. Thanks for taking my questions, Tony.

[Tony Hunt, President and Chief Executive Officer]

Yep. Thanks, Jacob.

[Operator]

The next question comes from Lisa Garcia with UBS. Lisa, you may proceed.

[Tony Hunt, President and Chief Executive Officer]

We might want to come back to Lisa at the end. She might have a problem with…

[Lisa Garcia, UBS]

Hello, guys. Can you hear me?

[Tony Hunt, President and Chief Executive Officer]

Yes, we can hear you now.

[Lisa Garcia, UBS]

Hello. Oh, sorry about that. Good morning guys. Thanks so much for taking the question. Congratulations on the quarter and on the updated guide. I just, I guess, starting off kind of a little bit higher level. Just kind of how the demand trends and thinking about that and kind of the current base business and what that kind of does for how you think about kind of that longer term $1 billion target that you have out there for the revenue. And maybe kind of giving us an update on the puts and takes and how you think about that. That would be great to kind of – just kind of hear given the capacity expansions that you're – the incremental capacity expansions that you're doing.

[Tony Hunt, President and Chief Executive Officer]

Yes. So base business, Lisa, has been really fantastic for the last few years. We've – honestly, three years in a row where base business performed really, really well, we've had very high organic growth rates as well for the company. Purely, the COVID piece is something that we're all dealing with. We talked about it last quarter. I think in terms of our goal of getting to $1 billion, every year we grow our base business about 30%, gets us much, much closer to achieving that goal. I think we're right on track to being able to accomplish that. I think next year we'll all have to deal with lower COVID numbers and trying to make up that shortfall through base business growth. So I think message is really on track for $1 billion in 2024 and really driven by base business performance and obviously dealing with the slower COVID revenues or lower COVID revenues in 2023.

[Lisa Garcia, UBS]

Great. And then, I mean, it would be just great to kind of get kind of what you're seeing in the market in terms of the M&A pipeline. I mean, there's certainly a couple of moving pieces just given market volatility and kind of updated valuations. But it would be great to hear kind of what you're seeing and any incremental pieces you might think would be great for the portfolio?

[Tony Hunt, President and Chief Executive Officer]

Yes. So maybe the last part of the question, there is always pieces we'd love to add. Every year is a little different in terms of what might be available. We're very active in terms of conversations and it just has to be the right fit and the right timing. So I don't think this year is any different than any other year. I do think – I would say that the first half of this year was a little slower in terms of opportunities, but we tend to target a handful of companies that we think make sense for Repligen and then see how conversations go. And then hopefully over time they can become part of the Repligen family.

[Lisa Garcia, UBS]

Great. Thank you guys.

[Operator]

The next question comes from Matt Larew with William Blair.

[Matt Larew, William Blair]

Hi, good morning. As we think about the margins in the second half, could you maybe help us just parse out a little bit the impact from inflationary costs like material labor and freight versus the drug – capacity expansion activity and maybe that can help us better understand what the true jumping off point for 2023 will be as we get to year end.

[Tony Hunt, President and Chief Executive Officer]

Yes. So I'll just take it from an operating margin perspective and then that really – we'll handle this – the key drivers of gross margin as well. If you look at the three drivers, I think one is FX, right? So, we continue to see a strengthening dollar, weakening other currencies across the globe. That's certainly having an impact on us from both a translational and transactional impact. So there is a headwind there associated with FX. We're also seeing cost inflation. For us most of the cost inflation on material costs, which is a largest component of our overall COGS, really hasn't hit our P&L that significantly yet in the first half of the year. And that's because we've carried quite a bit of inventory as we plan to do by stocking up into 2022 from 2021.

So we continue to burn off that inventory at lower cost, but starting in Q3, that's going to start rolling through the second half of Q3 and into Q4, it's going to have a pretty significant impact. And then headcount adds and capacity expansion projects kind of tie together. And as we start to take those projects live, we'll start having the depreciation and we've continued to add heads throughout. As I mentioned in my prepared remarks, we've continued to try to catch up to the revenue growth because last year we had obviously revenue growth preceded our ability to do all the capacity expansion.

So, the other component I would tell you on the gross margin level maybe it makes sense to, to go there. We've seen a really good performance year-to-date. We're at 59.5% gross margin. This comes on top of the last three years. I guess, 2019 through 2021 we've expanded about 310 basis points on the gross margin. And so, we've had a good run there. But we do expect as we look at our implied margins in the second half to be in that 56.5% to 57% range. So we do expect a bit of slow down as we come through the end of the year with all these different elements really contributing to it.

[Matt Larew, William Blair]

Okay, great. Thank you. And then, you provided an updated outlook on COVID for the back half. Just curious if the ability to give a bit tighter range there has also the ability to get with an outlook on 2023 for COVID as well?

[Tony Hunt, President and Chief Executive Officer]

Yes. So on the COVID front, it’s pretty clear that what we talked about back in May is reality, right? There’s clearly a slow down we saw it in Q2. In Q2, we know that the numbers in the second half of the year will be lighter. We think that in general COVID is going to be probably in that 25% to 35% of peak revenues in 2023, that’s our best kind of range at this stage and it’ll normalize after that. There’s going to be some sort of normalized level of COVID revenue. That’ll be there for the next two, three, four years. So that’s kind of what we see about 25% to 35% of peak revenue in 2023.

[Matt Larew, William Blair]

Okay. Thanks, Tony. Thanks, Jon.

[Operator]

The next question comes from Paul Knight with KeyBanc.

[Paul Knight, KeyBanc]

Hi, Tony. When you acquired BioFlex, you were talking about the fluid management portfolio. What’s in that portfolio and then second part of the question is you had cited that single use was just starting to develop in flow path in that, in kind of the market. Are we still early days in flow path going to single use? So kind of a two parter there.

[Tony Hunt, President and Chief Executive Officer]

Yes. So maybe start with what’s in the fluid management portfolio. So over the last two years, we’ve acquired a number of companies as you stated, BioFlex being the latest back in December, but we – in 2020, we acquired EMT, NMS, almost half of the ARTeSYN business is really fluid management. And then you have BioFlex in at the end of last year.

So bringing that all together under one roof was really the goal here in 2022. So we have a business team, we have a management group. We’ve integrated those companies together. And so the best way to look at our fluid management business is probably to split it into two. There’s a component part where we sell basically the components that come from those individual companies to many of the players in bioprocessing, right?

And then there’s an assembly part, which is the flow path piece where we’ve opened up the Hopkington assembly center. So we’re integrating with our filters or we’re integrating our tubing with clamps and other products in the portfolio, so line sets, et cetera and we sell those. They actually complement what we are selling with our systems, so they support our systems sales. So our ARTeSYN systems and also our Spectrum Systems that we’ve had in the marketplace for a number of years. So that’s a big part of it.

And then it supports our customers who need those flow paths to run their systems as well. So that’s how it all comes together. The single use part you’re absolutely right. It’s increasing. I think it increases more as the assembly centers come online and we can provide more flow paths into our own product line and more flow paths to the customers who are buying those products. So that’s kind of how we see it playing out. We see it as about a $50 million revenue business this year, Paul, and growing well north of the 20% plus for the foreseeable future.

[Paul Knight, KeyBanc]

Okay. Thank you.

[Operator]

The next question comes from Matt Hewitt with Craig-Hallum Capital Group.

[Matt Hewitt, Craig-Hallum Capital Group]

Good morning and thank you for taking the questions. Maybe first up, but you’ve touched on this a little bit. But obviously you’ve seen some strong growth from the new products that were launched. I think as of last quarter, your expectations were to have nine to 12 new products yet this year, you’ve got a few out the door. Are you still on track for that target?

[Tony Hunt, President and Chief Executive Officer]

Yes, we are. A number of products will be coming through the pipeline here in the second half of the year. So expect it’s going to be in that nine to 12 range. And that’s really a great reflection of the importance of the deals we’ve done Matt over the last three or four years, maybe five years, and the ability now to absorb those R&D teams into the larger R&D group, and then be able to produce products and get them out the door. Because if we went back three, four or five years ago, we were maybe launching two products, three products a year max. Now we’re in that kind of nine to 12 products per year. That’s just going to help us long term, especially as we are, our focus is really on adding more disruptive products into the bioprocessing market.

[Matt Hewitt, Craig-Hallum Capital Group]

That’s great. And then maybe a second question for me. Phenomenal job navigating the challenges of China last quarter. And so far this year, I’m just curious how much of a headwind did that represent either for Q2 or the first half, and has that subsides or potentially subsides? Does that represent maybe a little incremental growth in the back half of the year and entering next year?

[Tony Hunt, President and Chief Executive Officer]

Yes, so China was really a challenge in Q2, less of a challenge in Q1. Remember, we came into the year with a pretty strong order book, just like all of our peers. So it wasn’t an issue really around getting orders or anything like that. It was more [indiscernible] Q2 hit Shanghai shut down, it was just really challenging from a logistics point of view to get product into the country.

As we exited May, it started to open up. And so the team in China, just and the logistics folks here in the U.S. just did a phenomenal job, getting everything out the door. So we had hit our targets for the quarter. I don’t know if there’s really upside in the second half of the year. And the reason is you’ve kind of expect that there’s going to be some bumps in the road. If you look at Omicron waves in the U.S. and Europe, it’s not like there’s five, six months between a wave, it’s pretty every few months there’s waves of Omicron coming through. So expect to see some shutdowns in regions. And we’re just actually beginning to see that again in China over the last week.

So I don’t think there’s a whole lot of upside. I think it’s more around executing to the plan for the year and making sure that our customers in China get the product that they need. And I think our team over there has shown their ability to roll with the punches and be able to execute as we need to execute. So we expect more of the same in terms of execution from the broader Repligen team.

[Matt Hewitt, Craig-Hallum Capital Group]

That’s great. Thank you.

[Operator]

The next question comes from Brandon Couillard with Jefferies.

[Unidentified Analyst]

Hey guys, this is Matt on for Brandon. Thanks for taking the question. Quick one on the CapEx step up of $15 million. Can you just talk a little bit more about what’s driving that? Is it better visibility and demand, a little bit of easing on the supply chain that makes projects more feasible? And then, if you just confirm if that’s pull forward from projects you had from 2023, or should we think of that as kind of incremental CapEx spent? Thanks.

[Jon Snodgres, Chief Financial Officer]

Yes. Great question. I think we’ve been in the middle of a three-year capacity expansion journey. We’ve talked about it quite a bit, it’s 2021 through 2023, we’re expecting to put significant dollars forward in terms of building out facilities, adding facilities, building out equipment, et cetera. So it is part of that journey. I think we’ve seen the opportunity this year as we start to close out some of the major projects and filtration that we’ve been working on to actually kick start a couple other filtration projects and to really work on the fluid management expansion. And these are projects that we had slated for 2023 that we’ve just pulled forward because we’ve completed some projects and we feel like we have the ability to go ahead and execute on these.

So again, all part of the longer-term plan all here to support that three to five year capacity expansion that we said we were going to do. And right in line with our plans and just pulling it forward a little bit, which I think everybody will be very happy about in a couple years when we have capacity for growth.

[Unidentified Analyst]

That’s helpful. And then Tony, on the process analytics side, you talked about how the pipeline continues to expand there. Can you just talk a little bit more about where that demand is coming from either by modality customer type, newer applications, just a bit more color on where that pipeline’s building? Thanks.

[Tony Hunt, President and Chief Executive Officer]

Yes, I would say it’s a combination of traditional mAbs trait [ph] and the gene therapy space. So when we acquired CTech, they really were mAb focused in terms of customer base over the last two plus years, three years, we’ve really focused on expanding the application. So there’s a growing opportunity within gene therapy. So I think we’ve definitely taken advantage of that with the products that we have.

So just it’s really is, I would say the other part that is driving this is all the work that’s being done by the applications and sales team to do evaluations. So when you think about a technology like FlowVPX on the market just about a year at this stage. The number of clinical evaluations has gone up significantly. So as those clinical evaluations are completed and customers make the decision to bring VPE technology and put it on the manufacturing floor that also results in wins for us and gains momentum for the technology in the marketplace. So there would be the two things that are driving it.

[Unidentified Analyst]

Super, thank you.

[Operator]

The next question comes from Puneet Souda with SVB Securities.

[Puneet Souda, SVB Securities]

Yes, hi, thanks, Tony. Thanks for taking the question. So just wanted to clarify on COVID for 2023, was it 25% to 35% or 25% to 30% of the peak revenues. And maybe could you just talk a little bit about the sort of peak revenues and sort of how you were thinking about this in 2023?

[Jon Snodgres, Chief Financial Officer]

Yes, so we see the range of about 25% to 35% of peak revenues. We’ll obviously when we get to the end of the year, we’ll have a better sense of what 2023 is going to look like, but I think that’s a pretty fair range at this stage. So yes, it’s based on conversations we’ve had in the last 10 weeks, 12 weeks. And what we see are the projections for next year and the peak revenues that we’re calling it is the $190 million peak revenues for Repligen.

[Puneet Souda, SVB Securities]

For 2021?

[Jon Snodgres, Chief Financial Officer]

Yes.

[Puneet Souda, SVB Securities]

Okay. Got it. And then on one question we continue to get is around, smaller biotechs being under pressure in a more recessionary environment. So just wondering on that point, what’s if there a number you can provide there, or a metric that helps us understand sort of what’s the exposure there for smaller biotechs? And then more importantly, your exposure to clinical trials versus commercial mAb production historically have been more levered to clinical trials given the innovative product that Repligen has, but just wanted to see if there were any updates you can provide there?

[Tony Hunt, President and Chief Executive Officer]

Yes. So small biotech doesn’t have a huge impact for Repligen. The majority of our customers are big name companies, big name CDMOs. Yes, I think if you looked at the gene therapy space, there’s probably a number of smaller players. But in general, I – the biotech funding hasn’t really impacted bioprocessing companies in general, and hasn’t really impacted Repligen as well.

So your second question on clinical commercial, we will run those numbers again, Puneet at the end of the year, but I think you have a good sense right now that without COVID, we’re in that 65% that’s clinical, 35% that’s commercial, we’ll run the numbers at the end of the year and expected probably bumps up a little bit. But that’s where we are right now.

[Puneet Souda, SVB Securities]

Okay. And then Tony, you’ve talked a bit about the systems’ capabilities and offering more systems to the customers. Could you talk about what’s the feedback so far on providing overall more of a systems approach? And then on the chromatography front, it’s great to see OPUS and the expansion there and what you’re seeing with the growth rate? But just wondering when we think about the chromatography systems itself wondering how Repligen is positioned there versus the existing competitors in the marketplace that are being there for some time? Thank you.

[Tony Hunt, President and Chief Executive Officer]

Okay. I’ll dissect and hopefully give you an answer on this one. But on the system side early days for us, right? So obviously, we’re known in the marketplace for the systems that we have for the hollow fiber portfolio, right. And that really the foundational pieces for that came from the Spectrum acquisition. So that’s continues to do well in the marketplace, very much focused on the Repligen portfolio of hollow fibers. And we – to Paul Knight’s question earlier, a lot of our flow paths are really associated with those systems and the customers that have been buying those products really for the last half dozen years.

Now with the ARTeSYN deal, right, which is still essentially we’re a year and a half into that. We’re clearly working on expanding our portfolio of systems. We’ve brought some chromatography systems to market over the last six to nine months. They’re doing quite well in the marketplace, expect to continue to grow and expand that portfolio for both chrom and for filtration and really expect over the next few years that systems become an important part of our portfolio. They complement the consumables that we have, and they absolutely complement the flow path solutions that we are creating.

[Puneet Souda, SVB Securities]

Okay. Thank you.

[Operator]

This concludes our question-and-answer session. I would like to turn the conference back over to Tony Hunt for any closing remarks.

[Tony Hunt, President and Chief Executive Officer]

Now just like to thank everybody for joining us today. Obviously a great first half of the year for Repligen. We look forward to catching up with you guys in a few months time. And again, thanks for joining today.

[Operator]

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.