VirnetX Holding Corporation — Q3 2022 Form 10-Q
Reporting period: Three and nine months ended September 30, 2022. Financial statement amounts are unaudited and, unless stated otherwise, in thousands of dollars. VirnetX commercializes a patent portfolio and offers security software and services, including War Room and VirnetX Matrix, launched in March and April 2022.
Financial performance and position
| Metric | Q3 2022 | Q3 2021 | Nine months 2022 | Nine months 2021 |
|---|---|---|---|---|
| Revenue | $4 | $4 | $43 | $24 |
| Operating expenses | $5,359 | $4,240 | $14,068 | $42,054 |
| Operating loss | $(5,355) | $(4,236) | $(14,025) | $(42,030) |
| Net loss | $(4,280) | $(3,331) | $(12,037) | $(36,625) |
| Loss per diluted share | $(0.06) | $(0.05) | $(0.17) | $(0.51) |
Revenue remains minimal; gross and operating margins are not meaningful given the very small revenue base. Q3 R&D expense was $1,216 and SG&A was $4,143. For the first nine months, R&D was $3,698 and SG&A was $10,374.
At September 30, cash and cash equivalents were $105.8 million and available-for-sale investments were $53.2 million, totaling about $159.0 million. Working capital was $157.5 million, versus $168.5 million at December 31, 2021. Total liabilities were $1.9 million; the balance sheet reports no debt. The company reported total assets of $177.3 million and stockholders’ equity of $175.4 million.
For the nine months, operating cash use was $9.8 million, investing cash use was $26.4 million, and financing cash use was $29,000. Cash and cash equivalents declined by $36.2 million. The investing outflow primarily reflects purchases of investments; available-for-sale investments increased from $27.3 million at year-end.
Material changes versus prior periods
- Q3 net loss increased to $4.3 million from $3.3 million a year earlier, principally alongside higher SG&A and R&D; investment and other income rose to $589,000 from $10,000.
- Nine-month net loss narrowed to $12.0 million from $36.6 million. This comparison is substantially affected by prior-year items: 2021 SG&A included a $38.3 million McKool legal-fee accrual, and 2021 operating expenses included a $9.4 million licensing-cost reversal. These unusual items make the year-over-year expense comparison less representative of underlying operating trends.
- Cash and cash equivalents fell from $142.0 million at December 31, 2021, while investments rose from $27.3 million to $53.2 million. Combined cash and investments decreased by about $10.3 million.
- Common shares outstanding were 71.4 million at September 30, 2022, up from 71.2 million at December 31, 2021.
Outlook, risks, litigation and unusual items
Management said cash, cash equivalents and short-term investments should fund the current operating-expense level, including legal expenses, and working capital for the foreseeable future. It expects most future revenue to come from patent, technology, software and secure-domain-name licensing and royalties. No quantified revenue, earnings or cash-flow guidance is provided.
- Apple litigation: A 2020 jury awarded VirnetX $502.8 million in the Apple II case. Apple appealed; oral arguments were held September 8, 2022, and the company was awaiting the Federal Circuit’s ruling. The award is uncertain and is not recorded as a gain before cash is collected. Patent challenges could reduce, eliminate or delay any recovery.
- Other patent proceedings: Several appeals concerning patent invalidity findings were pending, including matters involving Apple, Cisco and the USPTO. Outcomes and timing are uncertain and litigation consumes management attention and resources.
- Commercialization: VirnetX identified slow adoption, customer-acquisition costs, long sales cycles and the possibility that prospective customers may wait for litigation outcomes as obstacles to meaningful product or licensing revenue. The company described its software commercialization as early-stage and reported minimal current licensing and product revenue.
- Tax restatement and controls: The company previously restated 2021 financial statements after an overstatement of deferred tax assets and identified a material weakness in internal control over financial reporting. It reported remediation measures and said disclosure controls were effective as of September 30, 2022. The deferred tax asset was $17.1 million at quarter-end; valuation depends on future taxable income and remains an estimate.
- Other items and risks: The company pays a related-party aircraft service provider controlled by its CEO and Chief Administrative Officer; fees and reimbursements were $268,000 for Q3 and $782,000 for the nine months. Investment fair value included $486,000 of unrealized losses at September 30. Key risks include patent validity and litigation outcomes, product-market acceptance, privacy and cybersecurity, customer concentration, and stock-price volatility.
Important facts for investors to verify
- Track the Federal Circuit decision and any subsequent developments in Apple II, related patent challenges and other appeals; do not treat the jury award as realized cash.
- Assess whether new software launches lead to customer adoption, recurring revenue and licensing agreements; reported revenue remains very low.
- Monitor cash burn and the composition, liquidity and fair value of investments, as well as the company’s stated ability to fund operations.
- Review the 2021 tax restatement, deferred-tax-asset assumptions and whether remediation of the material weakness remains effective in subsequent filings.
- Consider the impact of prior-year legal and licensing-cost adjustments when evaluating operating-expense comparisons and underlying trends.