Codexis Morphs From Big Science Project Into $100M Business

10/27/10Follow @xconomy

Enzymes make the world go around, if you spend much time listening to biochemists. Now one of the emerging players in the business of engineering industrial enzymes, Redwood City, CA-based Codexis, is starting to show it can make those biological workhorse proteins into something else important—money.

Codexis (NASDAQ: CDXS) made headlines back in April when it went public at $13 a share, as investors bought in to its story about enzyme technology and its potential use for the future of renewable biofuels. What fewer people realize is that while this is largely about technology, Codexis is on pace to generate almost $100 million in sales this year and to turn an operating profit, as measured by earnings before interest, taxes, depreciation and amortization (EBITDA). Tomorrow, the company will provide more color on where it stands in its third-quarter financial report.

The Codexis story is one of those rare tales in which a big science project finds its legs as a business. The company was founded in 2002 as a spinoff from Maxygen, which itself spun off from Affymax. The underlying technology is all about what’s known as “directed evolution,” in which scientists take an existing enzyme, or stretch of DNA to make an enzyme, and tweak properties here and there in a way that Mother Nature never intended, to get a useful product. Scientific imaginations can run wild with ideas of enzymes to run nifty processes that make active pharmaceutical ingredient for drugmakers; new catalysts that break down cellulosic biomass sugarcane into renewable fuel; or concentrate carbon dioxide so it can be stashed underground to limit the pollution from coal-fired power plants.

More than $400 million of investment has gone into the technology by Codexis and its two predecessors over the past two decades, and only now can Codexis say with confidence that it is off and running as a sustainable business with potential to really go after its biggest commercial ambitions.

“In the last two years we have been able to put hand on our hearts and say we now have a platform that works,” says Codexis CEO Alan Shaw. “It works in a time frame that matters in the real world.”

Alan Shaw

Alan Shaw

Enzymes can be finicky things in which seemingly small differences end up counting for a lot, so the key for a company like Codexis is to find the right combination and make it consistently and profitably. Without going too deep into the science, it starts with a template of DNA, and the company does high-powered screening of different mutations to see if it can get the properties of an enzyme it wants. What might take Mother Nature a millennium to evolve can be done in a matter of months through the high-speed screening technique, Shaw says.

The big question was always where this technology would be useful in a commercial setting. Codexis started with the pharmaceutical industry.

“When you try to deploy a new technology in a market, usually the best place to go is to look for natural innovators, you have to look for early adopters, and you find them in the life sciences industry,” Shaw says.

One of the important test cases for Codexis came through a contract it earned with the world’s largest drugmaker, Pfizer. The company makes the world’s best-selling drug, atorvastatin (Lipitor), for lowering cholesterol. It’s a conventional small-molecule compound that chemists can synthesize in the lab, and Pfizer did some of this work itself, and relied on contract manufacturers in some cases to provide other components, Shaw says.Codexis argued that it had an enzyme catalyst that could produce an essential chemical intermediate for the cholesterol drug, at a lower price. It worked, and cut the cost of key raw materials for Lipitor by almost half, Shaw says.

Word has gotten around the pharmaceutical business about this profit margin-enhancing feat—which is no small thing as pharma companies struggle to develop innovative new medicines. Codexis has now persuaded nine of the world’s top 10 pharma companies to use its enzyme catalysts, and expects revenue to grow 40 to 60 percent this year. That’s still from a small original base, and it’s nowhere near supplanting traditional chemical synthesis methods. Plus, some of its big hits will soon face competition from cheaper generics, which would undermine the cost advantage Codexis delivered in the first place. But there are a lot of drugs out there for a lot of diseases, and few of them rely on biological catalysts. So Codexis plans to keep pushing ahead in this market.

“It’s still embryonic,” Shaw says. “This business has a lot more life.”

The bigger upside, however, is with the biofuel business. Codexis, like many other biofuel contenders, sees big opportunity in the federal mandate for the U.S. to produce 36 billion gallons of renewable fuel by 2022. Codexis still hasn’t generated a nickel of royalties from commercial-grade biofuel derived from one of its catalysts. But since 2006, it has had an important partnership with Shell Oil to see if it can develop enzyme catalysts that can convert cheap and abundant cellulosic biomass into renewable ethanol, diesel, and other fuels. There are a lot of technical milestones that Codexis needs to reach as part of this deal, and while they are confidential, Shaw says, the company has achieved all but one of them.

The future potential of Codexis will depend on how well this partnership goes. The plan is to be a technology provider to Shell, which has all the established expertise in drilling, refining, distributing, and marketing that are basically impossible for a startup to build itself. Shell was the best partner for this program, Shaw says, because it has a ton of experience in biofuels, and noted that it recently signed an agreement to join a $12 billion joint venture in Brazil to make ethanol and biodiesel from sugarcane.

Codexis, with a team of about 300 employees, aspires to be the dominant player in technology for making biofuels, not to make the biofuel itself. Codexis will sell Shell the critical enzymes. The enzymes in question are still being tested at lab scales, and the company needs to prove they will work during the all-important scale up phase over the coming years. If Codexis can pass those tests, bigger revenue streams from biofuel could start flowing in 2013, 2014 or 2015 Even when the real money starts flowing, Shaw has no plan to turn around and invest it in giant refineries of his own. “My No. 1 priority is to make sure Shell gets to market in a timely fashion,” Shaw says.

He adds: “We don’t want to be an oil company. Cleantech companies that want to produce biofuel themselves are delusional. It’s a fool’s errand,” Shaw says. “Low capitalized companies can’t compete with large companies like Shell.”

There’s one other big swing for the fence at Codexis, that’s in carbon capture. While biofuels gets most of the press, this is actually an application that could have a much bigger impact on greenhouse gas emissions and global warming. The U.S. and the world needs to cut its carbon emissions 80 percent by 2050, from baseline readings in 1990, according to the Intergovernmental Panel on Climate Change. So if you want to start cutting, policymakers in the U.S. tend to look at four primary sectors-generating electricity, transportation, industry, and residential and commercial use. People could switch to electric cars, buses, trucks, and electric heating and cooling. But if that happens there’s going to be a lot more demand for electricity. And more than half of the nation’s electricity, and the leading source of air pollution, comes from the same source-coal.

Carbon capture, in which the CO2 gets piped and stashed underground, is one of ideas getting support from the U.S.Department of Energy, but nobody has proven it can be done at any large scale. Codexis has secured a $4.7 million grant under the ARPA-E program to pursue an enzyme that absorbs CO2 like a natural enzyme in the body, but that is rugged enough to withstand high industrial heat and high pH, Shaw says. If this enzyme can be integrated into an industrial process—and this is still several years away—then “it could be the perfect solution to our nation’s energy crisis,” Shaw says.

The ultimate vision, Shaw says, is to build Codexis into a diversified enzyme developer and producer along the lines of Novozymes and Genencor. His goal is to be profitable by 2012. And Codexis will be making enzymes for more than one industry, which it hopes will balance out economic cycles from one business to the next. It’s quite a grand plan for a young public company trading at less than $10 a share, with a market capitalization of less than $350 million today.

“We’ll be partnered with some of the world’s greatest companies. Our business looks a bit like a software model. It will be our software, running on other people’s hardware,” Shaw says. “My ambition is really to be the industry standard. If we are successful to have our technology as an industry standard, across industries, we could be worth billions in 5 to 10 years.”

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