Nephros, Inc. — Q2 2019 Form 10-Q
Reporting period: Three and six months ended June 30, 2019. Unaudited consolidated results; financial amounts below are in U.S. dollars unless stated otherwise. Nephros sells water-filtration products, while its SRP subsidiary is developing renal products. The Biocon/Aether acquisition was completed December 31, 2018, so 2019 results include the acquired business.
Key financial results
| Metric | Q2 2019 | Q2 2018 | First half 2019 | First half 2018 |
|---|---|---|---|---|
| Net revenue | $2.309 million | $1.366 million | $4.078 million | $2.351 million |
| Gross margin | $1.367 million; 59% | $0.830 million; 61% | $2.365 million; 58% | $1.297 million; 55% |
| Operating loss | $(0.868) million | $(0.653) million | $(2.169) million | $(1.776) million |
| Net loss | $(0.942) million | $(0.682) million | $(2.291) million | $(2.111) million |
| Net loss attributable to Nephros shareholders | $(1.003) million | $(0.682) million | $(2.411) million | $(2.111) million |
| Loss per share, basic and diluted | $(0.14) | $(0.10) | $(0.33) | $(0.32) |
- Revenue increased 69% in Q2 and 73% in the first half, driven by medical-device sales to new and existing customers and expansion into commercial markets. Product revenue was $2.284 million in Q2 and $4.013 million in the first half. Royalty and other revenue declined to $25,000 and $65,000, respectively, including no CamelBak royalty revenue in 2019.
- Q2 gross margin declined 2 percentage points year over year, primarily because of lower royalty revenue. First-half gross margin improved 3 points, mainly due to lower inventory-reserve adjustments, partly offset by lower royalty revenue.
- Operating expenses rose: Q2 R&D was $793,000 (+125%) and SG&A was $1.403 million (+29%). First-half R&D was $1.549 million and SG&A was $2.906 million. Higher spending reflected water-diagnostics development, second-generation HDF development, staffing, professional services, and expanded facilities.
Cash, liquidity and debt
- At June 30, cash was $4.318 million, versus $4.581 million at year-end 2018. Current assets were $8.437 million, current liabilities $3.292 million, and working capital $5.145 million. Total liabilities were $5.208 million; stockholders’ equity was $6.806 million.
- First-half operating cash use was $2.026 million, compared with $2.012 million in 2018. Investing cash use was $137,000, related to the Biocon working-capital adjustment. Financing provided $1.901 million, including $1.992 million net proceeds from a May private placement. Cash decreased by $263,000 during the period.
- Debt included approximately $1.021 million outstanding under the secured revolving facility and $933,000 principal on the secured note. The note bears 8% interest and matures April 2023; the revolver’s stated rate was 9% at June 30. The filing describes the revolver as a facility of up to $1 million, so the reported balance exceeds that stated limit and merits clarification.
- The revolver was due for automatic renewal on August 17, 2019; renewal was not guaranteed. The company also reported $1.246 million of operating lease liabilities and $492,000 of contingent consideration.
Changes, outlook and material risks
- Management expects operating losses to continue over the next several quarters. It stated that available cash and operating projections were expected to fund the current plan for at least 12 months from the filing date, while noting that additional capital may be needed and cannot be assured. If results fall short, management said it may reduce discretionary spending, including headcount and new R&D projects.
- Management expected to launch its water-pathogen diagnostic product line in late 2019. It also said it believed the second-generation HDF system could return to market in the first half of 2020, subject to FDA clearance. These are forward-looking expectations, not reported outcomes; SRP had no revenue in the periods presented.
- The company remains loss-making, with an accumulated deficit of approximately $126.444 million. Revenue was concentrated: six customers accounted for 49% of Q2 revenue and four for 39% of first-half revenue. Three customers represented 38% of receivables at June 30.
- Nephros committed to minimum 2019 purchases from Medica of €3.0 million (approximately $3.7 million); disclosed aggregate purchase commitments at June 30 were approximately €2.85 million (approximately $3.48 million). This supplier commitment is significant relative to the company’s cash and reported first-half revenue.
- Other risks cited include product acceptance and liability, regulatory approval, supplier and distributor issues, competition, patent protection, and access to financing. The company reported effective disclosure controls and no material quarterly change in internal control over financial reporting.
- A 1-for-9 reverse stock split became effective July 9, 2019, after quarter-end; the filing retrospectively adjusts share and per-share figures. Shares outstanding were 7,672,816 as of August 3, 2019.
Investor verification priorities
- Confirm the revolver balance, borrowing-base availability, renewal status, and any covenant or default implications, given the reported balance above the stated $1 million facility size.
- Assess cash runway against continuing operating losses, cash burn, debt service, and Medica purchase commitments; note that SRP’s $3 million financing proceeds are restricted to SRP expenses.
- Track whether revenue growth continues beyond the Biocon/Aether acquisition contribution, and whether gross margins and customer concentration improve.
- Verify progress, regulatory requirements, funding, and actual launch timing for the water diagnostics product and second-generation HDF system.
- Review the terms and potential cash consequences of Biocon contingent consideration, as well as the concentration of revenue and receivables among major customers.