Castle Biosciences, Inc. — Q2 2020 Form 10-Q
Reporting period: Three and six months ended June 30, 2020. Financial amounts are in millions of dollars unless otherwise indicated. The interim financial statements are unaudited.
Business context and reporting period
Castle Biosciences is a commercial-stage dermatological cancer diagnostics company. Its marketed tests include DecisionDx-Melanoma and DecisionDx-UM; most revenue comes from DecisionDx-Melanoma. Management expected to launch DecisionDx-SCC in early September 2020 and its test for suspicious pigmented lesions in the second half of 2020.
Key financial metrics
| Metric | Q2 2020 | Six months 2020 |
|---|---|---|
| Revenue | $12.715; +18.4% year over year | $30.133; +54.9% |
| Gross profit / gross margin | $10.569 / 83.1% | $25.596 / 84.9% |
| Operating income (loss) | $(0.645) | $0.391 |
| Net loss | $(1.376) | $(0.806) |
| Operating cash flow | Not presented quarterly | $13.250 |
| Capital expenditures | Not presented quarterly | $2.256 |
| Cash and cash equivalents | $179.759 at June 30 | $98.845 at December 31, 2019 |
| Debt, net carrying amount | $24.741; $10.000 current | $25.122 at December 31, 2019 |
Q2 basic and diluted loss per share were both $(0.08); six-month loss per share was $(0.05). Six-month operating cash flow included an $8.35 million CMS advance recorded as a liability, the $1.88 million HHS relief payment, and other working-capital and noncash items; it should not be read as recurring cash generation. The HHS payment is not repayable under the terms described in the filing.
Material changes versus the prior comparable period
- Q2 revenue rose 18.4% despite total DecisionDx-Melanoma and DecisionDx-UM reports delivered falling 18.5% year over year. Management attributed the revenue increase primarily to higher per-test revenue, including the DecisionDx-Melanoma Medicare rate, partly offset by lower report volume and smaller positive adjustments for prior-period tests.
- For the first six months, revenue rose 54.9% and reports delivered increased 7.7%. Growth benefited from higher per-test revenue and higher first-quarter activity; Q2 report volume declined.
- Q2 gross margin improved to 83.1% from 81.4%; six-month gross margin improved to 84.9% from 81.5%. Research and development expense rose 105.3% in Q2 and 107.2% for the six-month period; SG&A rose 52.4% and 66.8%, respectively, reflecting higher headcount, clinical activity, and public-company costs.
- Q2 operating results included $1.882 million of HHS CARES Act relief as other operating income. Q2 operating loss was $0.645 million versus operating income of $0.608 million a year earlier. Six-month net loss narrowed to $0.806 million from $2.627 million.
- Cash increased primarily due to the June follow-on offering, which generated about $69.1 million net proceeds by June 30. The underwriters’ option was exercised after quarter-end, adding $10.4 million net proceeds on July 2. Common shares outstanding rose to 19.374 million at June 30 from 17.131 million at year-end.
Outlook, commentary, risks and unusual items
- COVID-19: Operations and test-report turnaround times remained uninterrupted, but patient-visit delays and cancellations reduced test demand. DecisionDx-Melanoma orders were down 45% in April and 39% in May year over year, then up 10% in June; management also reported year-over-year order growth in July. Management cautioned that the duration and future effects of the pandemic were uncertain and provided no quantified full-year guidance.
- Liquidity and debt: Management said available cash and anticipated product-sale collections were expected to fund operations for the foreseeable future, while noting estimates rely on uncertain assumptions. The term loan bears interest at 8.55% at June 30; principal repayments of $833,333 per month began June 1, with maturity on November 1, 2022. The loan is secured by substantially all assets other than intellectual property. The company reported compliance with its amended covenant through a 6.89-to-1 liquidity ratio against a 2.00-to-1 minimum.
- CMS advance: The $8.35 million advance is repayable through Medicare claim recoupments beginning August 14, 2020; any remaining balance after November 12, 2020 was to be addressed with the Medicare contractor. No revenue was recognized from this advance as of June 30.
- Medicare claims: In March 2020, OMHA denied payment on all 2,698 DecisionDx-Melanoma claims in a consolidated appeal. The company appealed and recognized no revenue for those claims pending the outcome; the filing gives no clear value for the claims.
- Reimbursement and concentration: Revenue depends on third-party payors, particularly Medicare, and variable-consideration estimates can cause period-to-period revenue volatility. The filing reports limited broad coverage for DecisionDx-Melanoma and possible adverse effects from payor policy or reimbursement changes.
- Other risks: The company relies on a single laboratory in Phoenix, faces regulatory uncertainty for laboratory-developed tests, and depends on successful product adoption, clinical evidence, reimbursement, and development of pipeline products. Management reported no litigation expected to have a material adverse effect and stated disclosure controls were effective as of June 30.
Important facts for investors to verify
- Whether order and test-report growth recovered after the Q2 COVID-related declines, and whether July’s reported improvement continued.
- Whether future revenue and margins depend on sustained Medicare reimbursement rates and on prior-period variable-consideration adjustments.
- The status and potential financial effect of the appeal involving 2,698 denied Medicare claims.
- Repayment or recoupment progress for the $8.35 million CMS advance and compliance with the amended debt covenants.
- Launch timing, clinical evidence, reimbursement, and commercial adoption for DecisionDx-SCC and the suspicious-pigmented-lesion test.
- Actual cash use relative to management’s “foreseeable future” liquidity statement, given planned investment, ongoing expenses, and debt repayments.