OPKO Health, Inc. — Q3 2016 Form 10-Q
Business context and period: Quarterly report for the three and nine months ended September 30, 2016. OPKO operates diagnostics and pharmaceutical businesses. Results include Bio-Reference Laboratories, acquired in August 2015, and Transition Therapeutics, acquired in August 2016. Comparisons with 2015 are therefore not fully like-for-like.
Financial results and liquidity
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Total revenue | $298.0m | $143.0m | $946.2m | $215.5m |
| Operating loss | $(23.6)m | $(8.2)m | $(22.9)m | $(90.5)m |
| Net income (loss) | $(15.0)m | $128.2m | $(11.4)m | $(33.0)m |
| Basic EPS | $(0.03) | $0.26 | $(0.02) | $(0.07) |
| Operating cash flow | Not provided by quarter | Not provided by quarter | $1.7m | $173.4m |
- Revenue mix, nine months: Services $777.6m, products $63.3m, and intellectual-property transfer and other revenue $105.3m. The service-revenue increase principally reflects Bio-Reference; 2016 intellectual-property revenue includes the $50m Vifor upfront payment and $53m recognized under the Pfizer agreement.
- Margins: The filing does not provide a consolidated gross-margin percentage. Operating margin was approximately -7.9% in Q3 2016 versus -5.7% in Q3 2015, and -2.4% for the first nine months of 2016 versus -42.0% in 2015.
- Cash and working capital: Cash and cash equivalents were $144.6m at September 30, down from $193.6m at December 31, 2015. Current assets were $502.1m and current liabilities $254.5m. Nine-month cash declined by $49.0m.
- Debt and credit: Outstanding lines of credit totaled $47.2m, including $38.4m under Bio-Reference’s JPMorgan facility. The 2033 Senior Notes had $32.2m principal outstanding; their reported carrying amount includes the embedded derivative and discount. Other notes and debt totaled $3.7m. The filing reports $152.3m of total availability under the credit agreement and other lines, with $47.2m drawn.
- Cash flows: Investing activities used $14.2m, including $17.0m of capital expenditures and $9.2m of investments, partly offset by $15.9m cash acquired with Transition Therapeutics. Financing activities used $37.0m, principally reflecting net line-of-credit repayments.
Material changes and unusual items
- Nine-month revenue rose $730.6m, principally because Bio-Reference was consolidated for a longer period in 2016. Cost of service revenue and SG&A also increased substantially with the acquired business.
- Q3 2015 net income included a $93.4m release of a deferred-tax valuation allowance and substantial noncash derivative gains; the 2015 nine-month comparison also included a $17.3m gain on SciVac deconsolidation. These items make reported earnings comparisons especially uneven.
- Q3 2016 included $5.7m of net derivative expense, including expense from the embedded conversion option in the 2033 notes. Nine-month contingent-consideration expense was $15.6m, up from $6.5m, reflecting revised milestone timing assumptions following Rayaldee’s approval.
- Nine-month SG&A included $17.9m of severance costs for certain Bio-Reference executives. The company also recorded $62.5m of bad-debt provision versus $8.3m in the prior-year period; the allowance for doubtful accounts was $41.1m at September 30.
- Transition Therapeutics was acquired for approximately $58.5m in OPKO shares. Its acquired pipeline includes TT401 and TT701.
Outlook, commentary, and risks
- Rayaldee received FDA approval in June 2016. Management expected a U.S. launch through a dedicated renal sales force in Q4 2016 and anticipated higher R&D and SG&A spending as development and commercialization expanded. No formal financial earnings guidance is provided.
- The Vifor agreement covers specified international markets for Rayaldee: OPKO received a nonrefundable $50m upfront payment and may receive up to $232m in regulatory and sales milestones, plus royalties. A separate U.S. dialysis-indication option could carry up to $555m in milestones and royalties if exercised. Milestone revenue had not been recognized at the filing date.
- Management said cash on hand and borrowing availability were expected to cover anticipated operating and debt-service needs beyond 12 months, but noted this depended on assumptions and that additional funding might be needed for acquisitions, clinical programs, or expanded development. The company said it had not generated sustained positive cash flow sufficient to offset expenses.
- Planned construction of an Ireland research, development, and manufacturing center was expected to cost $25m–$35m, with spending beginning in Q4 2016 and completion anticipated in 2019.
- Principal risks include reimbursement and pricing pressure in diagnostics, collection and billing risks, successful Rayaldee commercialization, clinical and regulatory uncertainty, competition, reliance on partners and manufacturers, financing needs, acquisition integration, and potential legal or regulatory matters. The company disclosed ongoing responses to subpoenas and document requests concerning laboratory operations; it did not quantify a possible loss.
- Management reported disclosure controls were effective at September 30, 2016. Integration of acquired businesses and implementation of a company-wide ERP system materially affected, or were reasonably likely to materially affect, internal control over financial reporting.
Important facts for investors to verify
- Rayaldee’s launch timing, adoption, reimbursement, and resulting sales and spending.
- Bio-Reference revenue quality, bad-debt trends, payer reimbursement, and cash conversion.
- Cash burn, remaining borrowing availability, covenant compliance, and financing needs as pipeline spending and facility construction proceed.
- Progress and milestone prospects under the Vifor and Pfizer agreements, including the timing of deferred revenue recognition and any Vifor U.S. option decision.
- Clinical and regulatory progress for OPKO’s pipeline, and the assumptions supporting the substantial goodwill, intangible-asset, and in-process R&D balances.
- Potential dilution from stock issuance and conversion of the 2033 Senior Notes, which were convertible through December 31, 2016 under the conditions described in the filing.