Business Context and Reporting Period
Heron Therapeutics, Inc. filed an unaudited Form 10-Q for the quarter and six months ended June 30, 2018. The commercial-stage biotechnology company sells SUSTOL for chemotherapy-induced nausea and vomiting and began commercial sales of CINVANTI in January 2018. Its principal development program is HTX-011, an investigational postoperative-pain treatment.
During the quarter, HTX-011 received FDA Breakthrough Therapy designation. Management expected to submit an NDA for HTX-011 in the second half of 2018.
Financial Metrics
| Metric | Three Months Ended June 30, 2018 | Three Months Ended June 30, 2017 | Six Months Ended June 30, 2018 | Six Months Ended June 30, 2017 |
|---|---|---|---|---|
| Net product sales | $17.3 million | $8.5 million | $28.8 million | $12.1 million |
| Cost of product sales | $5.2 million | $1.0 million | $8.4 million | $2.2 million |
| Gross profit | $12.0 million | $7.5 million | $20.5 million | $9.9 million |
| Approximate gross margin | 69.7% | 88.1% | 71.0% | 81.9% |
| Research and development | $30.2 million | $28.6 million | $69.7 million | $62.0 million |
| Total operating expenses | $56.1 million | $50.6 million | $119.7 million | $103.5 million |
| Loss from operations | $(38.9) million | $(42.1) million | $(90.8) million | $(91.4) million |
| Net loss | $(38.7) million | $(42.8) million | $(90.9) million | $(93.1) million |
| Net loss per share | $(0.54) | $(0.80) | $(1.33) | $(1.79) |
Approximate operating margins were negative 225% in the second quarter and negative 315% for the six-month period. The lower loss per share reflected higher sales and a larger weighted-average share count.
- Cash and cash equivalents were $258.9 million at June 30, 2018, compared with $144.6 million at December 31, 2017.
- Short-term investments were $164.0 million, resulting in total cash, cash equivalents and short-term investments of $423.0 million.
- Net cash used in operating activities was $122.4 million for the six months, compared with $82.6 million in the prior-year period.
- Net cash used in investing activities was $137.6 million, primarily reflecting purchases of short-term investments.
- Net cash provided by financing activities was $374.4 million, including $363.1 million of net proceeds from two common-stock offerings.
- Inventory increased to $27.2 million from $10.1 million at year-end, primarily reflecting CINVANTI commercial inventory.
- Debt included a $25.0 million related-party promissory note and convertible notes with a $4.1 million carrying value and $6.6 million of principal outstanding. The promissory note was repaid in August 2018, after the reporting date.
- Management stated that available cash, cash equivalents and short-term investments were sufficient to fund operations for at least one year from the filing date.
Material Changes Versus the Prior Comparable Period
- Revenue increased 103% in the second quarter and 137% for the six months, driven primarily by the launch of CINVANTI. CINVANTI contributed $11.2 million in quarterly sales and $16.4 million in six-month sales.
- SUSTOL sales were $6.1 million in the quarter and $12.4 million for the six months under the new revenue standard. Management reported that generic palonosetron entry negatively affected provider demand and was expected to weigh on SUSTOL for several quarters.
- Cost of product sales grew faster than revenue, reducing gross margin, partly because CINVANTI manufacturing costs were capitalized after FDA approval and commercial launch.
- Research and development expense increased 5% in the quarter and 12% for the six months, primarily because HTX-011 development costs increased by $3.2 million and $16.0 million, respectively.
- Sales and marketing expense was broadly unchanged in the quarter but increased 7% for the six months due to commercialization activities for SUSTOL and CINVANTI and planning for HTX-011.
- Operating cash usage increased by $39.8 million year over year, reflecting working-capital investment associated with the product launches, including higher inventory and receivables.
- Shares used in calculating loss per share increased to 72.0 million in the quarter and 68.4 million for the six months, compared with 53.8 million and 52.2 million, respectively.
Guidance, Outlook, Risks and Unusual Items
- Management expected to submit an HTX-011 NDA in the second half of 2018. HTX-011 had achieved positive Phase 2b and pivotal Phase 3 results, but remained subject to FDA review and approval.
- Management expected continued pressure on SUSTOL from generic palonosetron competition and identified market acceptance, reimbursement, pricing, competition and commercial execution as key drivers of product performance.
- The company continued to incur substantial operating losses and negative operating cash flow and stated that it expected losses to continue for at least the next several years.
- Revenue recognition changed on January 1, 2018 from a sell-through model to a sell-in model under ASC Topic 606. The adoption produced a $1.6 million cumulative retained-earnings adjustment and accelerated recognition of certain product sales. Reported 2018 revenue is therefore not directly comparable with 2017 revenue without considering the accounting change.
- Product sales were concentrated among three customers, which represented 99.5% of second-quarter sales and 99.8% of accounts receivable at June 30, 2018.
- Product sales allowances totaled $12.6 million at June 30, 2018, including returns, distributor fees, discounts, rebates and administrative fees. Changes in estimates could materially affect revenue and earnings.
- The company relies on third-party manufacturers and suppliers, including single-source suppliers for certain components, creating manufacturing, supply and quality risks.
- Future clinical, regulatory and commercialization results remain uncertain. Fast Track and Breakthrough Therapy designations do not assure faster approval or approval at all.
- The company entered into an amendment for additional office space with total future minimum lease payments of $9.1 million under the amendment; total future minimum operating-lease payments were $19.2 million.
- Disclosure controls and procedures were concluded to be effective at the reasonable assurance level, and the filing reported no legal proceedings or material off-balance-sheet arrangements.
Important Facts for Investors to Verify
- Whether CINVANTI sales growth can offset declining or pressured SUSTOL demand and whether the company can improve gross margins as commercial volumes scale.
- The timing, completeness and outcome of the HTX-011 NDA submission, FDA review and potential approval.
- The company’s rate of operating cash burn relative to the stated $423.0 million liquidity position and the timing of any additional financing needs.
- The effect of the ASC Topic 606 sell-in revenue model on reported revenue, inventory, accrued liabilities and future product returns.
- Customer concentration, product rebates and returns, reimbursement conditions and competitive pricing pressure.
- The $25.0 million promissory-note repayment disclosed as an August 2018 subsequent event and the remaining terms, conversion exposure and dilution potential of the convertible notes.
- Execution risks involving third-party manufacturing, clinical-trial contractors, regulatory compliance, intellectual property and postmarketing obligations.