ILLUMINA, INC.

## ILLUMINA, INC. (ILMN) — Investment Memo

### 🐂 The Bull Case *(Warren's voice)*

- **Why does the moat last?** Switching costs are real. Once a lab installs an Illumina sequencer, the proprietary consumables and workflows lock them in for years. Retraining and revalidation take 2–3 years. *No competitor has cracked that grip at scale – yet.*
- **Exceptional economics?** The razor‑blade model once produced gross margins above 65% on consumables. Even after compression, the **$4.3B revenue base** generates **$0.9B in free cash flow** (2025). *That’s a 21% FCF margin* – rare outside software. Zero debt and a recovering balance sheet add ballast.
- **Attractive entry price?** The DCF value of **$171 per share** assumes only **11.7% FCF growth** – a modest bet. If genomics demand accelerates (cancer screening, population sequencing), real growth could beat that. *At a 25% discount (~$128), the downside feels protected by the installed base and essential nature of the business.*

### 🐻 The Bear Case *(Charlie inverts)*

- **Scenario #1 – MGI cracks the workflow barrier.** A Chinese state‑backed firm selling **50% cheaper instruments and compatible consumables**. If large clinical labs (the highest‑margin customers) validate MGI workflows in 5–10 years, Illumina’s consumables revenue collapses. *Switching costs are strong, but price gaps this wide eventually overcome inertia.*
- **Scenario #2 – The Grail hangover repeats.** Management already destroyed **~$8B** in the Grail acquisition. *If they attempt another empire‑building move (e.g., a vertical integration into diagnostics), they could crater the balance sheet again.* The negative equity in 2023‑2024 shows how fragile the capital structure is.
- **Scenario #3 – Sequencing becomes a commodity.** If MGI, PacBio, and new entrants drive per‑base costs to near zero, Illumina’s pricing power vanishes. Gross margins have already fallen **from 28% (2019) to 20% (2025)** – a 30% decline. *At 10% gross margins, the razor‑blade model becomes a low‑margin hardware business.*
- **Most likely threat:** MGI wins workflow validation in **5–7 years**. Illumina’s moat narrows from “impregnable” to “leaky.” Revenue stagnates or declines, and the stock trades on single‑digit free cash flow multiples.

### 💰 Valuation & Margin of Safety

- **Intrinsic value estimate (DCF):** **$171 per share** (enterprise value **$26.2B**). Assumes 11.7% FCF growth for 10 years, then 3% terminal. *Sensitive to terminal growth – a 2% terminal knocks it to ~$145.*
- **25% margin of safety entry:** **$128 per share** (*conservative, if you believe the bull case*).
- **50% margin of safety entry:** **$86 per share** (*Buffett’s ideal – requires a structural overreaction or near‑panic*).
- **Is it cheap?** At the current market price (not provided), compare to $171. If it’s **above $171**, it’s expensive relative to our DCF. If **between $128 and $171**, it’s fair – but the bear case argues **no margin of safety** exists given the competitive and management risks. *We see it as fair to overvalued given the structural headwinds.*

### Verdict: PASS

The moat is narrowing under competitive pressure from MGI, management’s capital allocation record (Grail) destroys trust in stewardship, and the razor‑blade model is bleeding margin. At **$171 per share** intrinsic value, even a 25% discount doesn’t compensate for the risk of a permanent impairment within 10 years. *Berkshire requires a business we can hold for 20 years – Illumina doesn’t pass that test.*