SWK Holdings Corporation — Q3 2023 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2023. SWK operates specialty finance and asset management focused on life sciences, and pharmaceutical development and manufacturing through Enteris. Figures below are in U.S. dollars; financial statement amounts are generally in millions.
Financial performance and position
- Q3 revenue: $9.0 million, down $4.6 million (34%) year over year. Finance receivable interest income was $8.6 million; pharmaceutical development revenue was $0.3 million.
- Q3 earnings: Operating income was $4.3 million and net income was $4.5 million, versus $6.8 million and $6.6 million, respectively, a year earlier. Diluted EPS was $0.36 versus $0.51. The quarter included a $0.4 million income tax benefit.
- Nine-month revenue and earnings: Revenue was $27.9 million, down 12%; operating income was $14.3 million versus $13.8 million; net income was $13.0 million versus $10.7 million. Diluted EPS was $1.02 versus $0.83.
- Cash flow, nine months: Operating activities provided $9.2 million; investing activities provided $3.6 million; financing activities provided $12.1 million. Cash increased $24.9 million to $31.0 million.
- Balance sheet at September 30: Total assets were $315.8 million, finance receivables net were $223.6 million, total liabilities were $38.3 million, and stockholders’ equity was $277.6 million. Cash exceeded the $22.0 million revolving-facility balance by $9.0 million.
- Credit portfolio: Gross finance receivables were $234.9 million, compared with $248.4 million at year-end 2022; the allowance was $11.3 million. Nonaccrual receivables rose to $26.5 million from $18.0 million, including $17.3 million of royalty purchases. Management said the nonaccrual assets were not considered impaired at quarter-end.
- Margins: Calculated from reported figures, operating margin was approximately 48% for Q3 and 51% for the first nine months; net margin was approximately 50% and 47%, respectively. The quarterly net margin reflects the tax benefit.
Changes versus comparable periods
- Q3 pharmaceutical development revenue fell $4.7 million, mainly because the prior-year quarter included a $5.0 million milestone from the Cara license agreement; no similar milestone was recognized in Q3 2023. Finance receivable revenue increased $0.1 million, primarily with higher reference rates.
- Nine-month pharmaceutical development revenue declined $5.3 million, while finance receivable revenue increased $1.5 million. Management attributed finance revenue growth to new and existing loan funding and higher reference rates, partly offset by lower royalties and repayments or payoffs of prior investments.
- Pharmaceutical manufacturing, research and development expense declined to $0.6 million for Q3 and $2.8 million year to date, principally due to lower headcount and research and clinical-trial spending. General and administrative expense also fell, partly reflecting the absence of prior-year severance and strategic-planning costs.
- Interest expense increased to $0.7 million year to date from $0.2 million, reflecting costs associated with the prior and replacement credit facilities, including accelerated debt issuance costs.
- SWK adopted the CECL credit-loss standard in January 2023. The transition adjustment increased opening equity by $9.7 million; the prior-period credit-loss figures are not presented under the new methodology.
Liquidity, debt, outlook and risks
- SWK replaced its prior facility with a First Horizon revolving credit facility in June 2023: initial commitments of $45 million, $22 million drawn at quarter-end, and $23 million then available. It bears interest at Term SOFR plus 3.75% before the commitment termination date and includes monthly financial and liquidity covenants.
- After quarter-end, commitments rose to $60 million under an October 10 amendment. SWK also completed a $30 million senior-notes offering on October 3 and, after the underwriters’ option was exercised October 27, issued an additional $2.9 million. The 9% notes mature in January 2027; reported net proceeds after discounts and commissions, but before expenses and fees, were approximately $31.9 million.
- Other subsequent investments included a $20 million Shield Therapeutics loan and a $6 million Nicoya Lifesciences loan, each with a warrant. These were made after September 30.
- Management expects the existing finance receivables to generate positive cash flows in 2023, but says investment timing is difficult to predict, assumes no near-term borrower repayments, and gives no assurance that results will meet expectations. No formal earnings guidance is provided.
- Principal risks include borrower credit quality and concentration in life sciences, uncertain expected-credit-loss estimates, interest-rate movements, inflation effects on borrowers, and dependence on investment opportunities and pharmaceutical-development results. Most finance receivables have floating rates; SWK does not currently hedge interest-rate risk. Unfunded commitments totaled $7.4 million.
- Flowonix assets were sold during the period; SWK received $1.5 million at closing for releasing its lien and expects royalties on two products beginning in late 2024. The royalty remained on nonaccrual. Contingent consideration related to Enteris was $11.2 million. SWK reported no legal proceeding expected to have a material effect and no material changes to previously disclosed risk factors.
Important facts for investors to verify
- Whether the nonaccrual portfolio—especially royalty purchases—and the $11.3 million credit allowance adequately reflect borrower risk and likely recoveries.
- How much recurring revenue and cash generation can replace the prior-year Cara milestone, and whether pharmaceutical development can reduce its operating losses.
- Post-quarter capital deployment and leverage: the $60 million facility commitment, $32.9 million of senior notes issued, and subsequent $26 million of new loans.
- Compliance with the revolving facility’s financial covenants, including its $5 million minimum liquidity requirement, and the impact of 9% note interest on future cash flows.
- The timing and collectability of expected Flowonix royalties, the value of other nonaccrual or lower-rated exposures, and any changes in credit-loss estimates.
- Management’s forecast for using net operating loss carryforwards; the filing says it does not currently expect the segments to generate enough income to use all NOLs before expiration.