Natera, Inc. — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 30, 2018. Financial statements are unaudited; 2017 comparatives were revised following retrospective adoption of ASC 606 revenue recognition.
Business context
Natera develops and commercializes genetic testing services. Revenue is led by Panorama non-invasive prenatal testing (NIPT) and Horizon carrier screening (HCS), with additional offerings including Constellation, Evercord, Vistara and research-use-only Signatera. Panorama accounted for 55% of first-half revenue and HCS for 32%.
Key financial results
| Metric | Q2 2018 | Q2 2017 | First half 2018 | First half 2017 |
|---|---|---|---|---|
| Revenue | $63.1 million | $52.3 million | $125.4 million | $101.7 million |
| Gross profit and margin | $22.1 million; 35.0% | $17.7 million; 33.9% | $43.8 million; 34.9% | $33.4 million; 32.9% |
| Operating loss | $27.2 million | $28.4 million | $57.7 million | $62.9 million |
| Net loss | $33.8 million | $29.1 million | $66.7 million | $62.5 million |
| Loss per share, diluted | $0.62 | $0.55 | $1.23 | $1.18 |
| Cash used in operating activities | — | $34.5 million | $38.4 million |
Revenue increased 20.6% in Q2 and 23.4% in the first half year over year. First-half Panorama revenue rose to $69.0 million from $64.1 million; HCS revenue rose to $39.7 million from $29.4 million. Total costs and expenses increased 11.9% in the first half, slower than revenue growth, and operating loss narrowed. Net loss nevertheless widened, principally reflecting higher interest expense and warrant fair-value losses.
First-half cost of product revenue was 68.3% of product revenue, versus 67.3% in the prior-year period. Management said the updated HCS automation workflow, launched in April, was expected to gradually reduce product costs in the remainder of 2018. First-half tests processed totaled approximately 327,200, up from 247,100; Panorama and HCS accession volumes grew approximately 26% and 45%, respectively.
Balance sheet, liquidity and debt
- At June 30, cash and cash equivalents were $12.3 million, short-term investments $70.9 million, and restricted cash $6.0 million. Cash, cash equivalents and restricted cash totaled $18.3 million for cash-flow reporting.
- Accounts receivable was $57.0 million, up from $44.1 million at December 31, 2017. Deferred revenue increased to $37.3 million, including $34.4 million related to remaining Qiagen performance obligations.
- Debt consisted of $50.1 million outstanding under the UBS credit line, including accrued interest, and a $73.2 million net carrying amount for the OrbiMed term loan. The filing reports gross debt of approximately $125.1 million including accrued interest. The term loan bears interest at 8.75% plus the higher of 1.00% or LIBOR, matures in August 2024, and is secured by substantially all assets, including intellectual property. The company reported covenant compliance.
- On July 16, 2018, after quarter-end, Natera completed an equity offering of 5.175 million shares at $20 per share and received $96.6 million net proceeds. Management expected cash and marketable securities to fund requirements for at least 12 months after August 9, 2018.
Material changes, outlook and risks
- Revenue accounting: ASC 606 was adopted retrospectively, with a $41.6 million cumulative adjustment to opening accumulated deficit as of January 1, 2016. It changes the timing and estimation of revenue, particularly for payer collections; prior-period comparisons are revised.
- Qiagen agreement: The 10-year agreement provides for $40.0 million in upfront license fees and prepaid royalties, subject to limited refund conditions, plus potential milestones and royalties. The company recognized $5.6 million in first-half revenue; much of the consideration remains deferred or excluded from the transaction price pending performance and uncertainty.
- Unusual items: A $4.1 million first-half loss from warrant fair-value changes contributed to other expense; the warrants were fully exercised in June and the liability was zero at quarter-end. A $1.5 million R&D impairment charge wrote off capitalized development costs after termination of a cell-free DNA extraction automation project.
- Reimbursement and operations: Management cited collection pressure, including payer prior-authorization requirements. Coverage and reimbursement remain uncertain for average-risk Panorama and microdeletions screening; a new expanded carrier-screening CPT code was expected to take effect in 2019 and could affect Horizon reimbursement. The company also reported longer-than-expected turnaround times under the updated Horizon workflow.
- Legal and contingencies: Natera agreed to an approximately $11.4 million settlement with the U.S. Department of Justice concerning past reimbursement claims; the company stated the settlement was not an admission of liability and included no corporate integrity agreement. Illumina sued alleging Panorama patent infringement; the company filed an inter partes review petition and could not estimate potential loss. Three payers alleged overpayments and sought recoupment. The filing also noted that, on August 7, 2018, the court granted Natera’s motion for judgment in the IPO securities case, without leave to amend; plaintiffs could seek appellate review.
- Other key risks: Ongoing losses and cash burn; dependence on Panorama and payer reimbursement; competition and pricing pressure; reliance on Illumina and other limited or sole-source suppliers; laboratory and third-party processing capacity; regulatory uncertainty for laboratory-developed tests; and intellectual-property, privacy and cybersecurity risks. Management provided no specific revenue or earnings guidance in the filing.
Most important facts for investors to verify
- Whether revenue growth and test-volume gains translate into improved collections, gross margins and reduced cash burn.
- Accounts-receivable aging, payer denials and prior-authorization effects, refund reserves, and exposure to payer recoupment claims.
- How much of the Qiagen consideration is ultimately recognized, when remaining obligations are fulfilled, and whether milestones or royalties are achieved.
- Post-offering liquidity, debt service, term-loan covenants and the sustainability of management’s stated 12-month cash runway.
- Developments in Illumina patent litigation, the DOJ settlement payments, and reimbursement and regulatory decisions affecting Panorama and Horizon.