DexCom, Inc. — Q2 2017 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2017. Amounts are in U.S. dollars; financial figures are in millions except per-share data.
Business context
DexCom develops and commercializes continuous glucose monitoring (CGM) systems for people with diabetes and healthcare providers. Revenue is primarily from disposable sensors and durable systems; management attributed growth to a larger installed base of G4 PLATINUM and G5 Mobile users and sales to new and existing customers.
Key financial metrics
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Revenue | $170.6 | $137.3 | $312.9 | $253.5 |
| Gross profit / margin | $117.5 / 69% | $85.5 / 62% | $211.6 / 68% | $160.6 / 63% |
| Operating expenses | $131.1 | $105.6 | $265.6 | $199.9 |
| Operating loss | $(13.6) | $(20.1) | $(54.0) | $(39.3) |
| Net income (loss) | $2.9 | $(20.2) | $(38.8) | $(39.4) |
| Basic and diluted EPS | $0.03 | $(0.24) | $(0.45) | $(0.48) |
Revenue increased 24% in Q2 and 23% for the first half. Gross margin improved in both comparisons, which management primarily attributed to higher revenue and lower warranty costs. Q2 operating expenses rose 24% year over year; first-half R&D increased to $93.4 and SG&A to $172.2, reflecting personnel, equipment, clinical, marketing and support costs.
Q2 net income included a $17.3 income tax benefit despite a $14.4 pretax loss. The benefit was primarily related to the deferred tax liability created by the convertible-note issuance and is not expected to recur in future years. For the first half, the $15.9 tax benefit partly offset a $54.7 pretax loss. DexCom maintained a full valuation allowance against U.S. deferred tax assets.
Cash flow and liquidity: First-half operating cash flow was $14.6, versus $19.9 a year earlier; investing cash outflow was $106.7, including $34.9 of capital expenditures and purchases of marketable securities; financing cash inflow was $394.7. Cash and cash equivalents were $395.9 at June 30, compared with $94.5 at December 31, 2016. Cash, cash equivalents and marketable securities totaled $496.6; working capital was $551.7.
Debt: DexCom issued $400.0 principal amount of 0.75% convertible senior notes due 2022, receiving approximately $389.0 net proceeds. The notes’ net carrying amount was $320.5; reported fair value was $409.7. The effective interest rate, including discount and issuance-cost amortization, was 5.5%. No principal is due before maturity, but conversion, fundamental-change repurchase and default provisions may affect timing or cash requirements. The $200.0 revolving credit facility was undrawn at quarter-end.
Material changes and management commentary
- Q2 revenue rose $33.3 year over year; first-half revenue rose $59.4. Sensors represented about 70% of revenue and durable systems about 30% in both comparable periods.
- Products shipped to distributors accounted for approximately 74% of Q2 revenue and 75% of first-half 2017 revenue, up from 69% and 73%, respectively, in 2016.
- Operating losses continued, and DexCom reported an accumulated deficit of $660.4. Management expects continued losses as it expands commercialization, R&D, manufacturing and corporate infrastructure.
- Management said available resources, expected commercial cash contributions and the undrawn credit facility should fund anticipated needs through at least June 30, 2018. It cautioned that additional capital may be needed and may not be available on acceptable terms.
- Management cited Medicare coverage developments for therapeutic CGM and negotiated coverage rates with seven large private payors, while noting that reimbursement access and administrative hurdles remain important to market adoption.
Risks, contingencies and unusual items
- Manufacturing capacity and execution are key risks. The Mesa, Arizona facility was under development, with manufacturing not expected before 2018; delays or qualification issues could constrain supply. First-half capital expenditures were $34.9, and $70.7 of purchase commitments were due within one year.
- DexCom relies on single-source suppliers for certain components and disclosed risks from supply interruptions, product quality issues and regulatory requirements. The filing also discusses the 2016 voluntary Class I receiver alarm-and-alert recall; DexCom said it had implemented a solution and was awaiting FDA response.
- AgaMatrix patent litigation remained unresolved. Two of three asserted patents were under inter partes review and the related court case was largely stayed; a review petition on the third patent was pending. No litigation accrual was recorded, and the outcome and potential fees were not estimable.
- Other major risks include reimbursement and healthcare-policy changes, regulatory approval and clinical-trial uncertainty, competition and technology changes, product liability, cybersecurity and privacy, and the possibility of continued operating losses or additional financing needs.
- Convertible-note terms may require cash repayment or repurchase in specified circumstances, and conversion could dilute shareholders. The notes and credit facility also contain covenants and cross-default provisions.
- The 2018 revenue-recognition standard’s impact had not yet been estimated. The company was evaluating the lease standard; adoption of the inventory standard had no material impact.
Important facts for investors to verify
- Whether revenue growth and gross-margin improvement persist as the product mix, distributor shipments and reimbursement environment evolve.
- Whether operating-expense growth and cash generation support the company’s investment plans and stated liquidity runway.
- Progress, cost and qualification timing for the Mesa manufacturing facility, and the ability to meet demand without supply or quality disruptions.
- Developments in Medicare and commercial-payor coverage, including the breadth and economics of reimbursement.
- Convertible-note conversion, cash-settlement and repurchase exposure, and any changes in revolving-credit availability or covenant compliance.
- Outcomes of the AgaMatrix patent proceedings and the FDA’s response regarding the prior recall actions.