Business Context and Reporting Period
Company: Nephros, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 30, 2008
Business Overview: Nephros develops hemodiafiltration (HDF) products for End Stage Renal Disease (ESRD) and water filtration systems (Dual Stage Ultrafilter). The company is a smaller reporting company with operations primarily in Europe and the United States. As of June 30, 2008, the company held 38,165,380 shares of common stock outstanding.
Key Financial Metrics
| Metric (in thousands) | Three Months Ended June 30, 2008 |
Six Months Ended June 30, 2008 |
Six Months Ended June 30, 2007 |
|---|---|---|---|
| Net Product Revenues | $253 | $640 | $644 |
| Gross Margin | $91 | $240 | $194 |
| Net Loss | $(2,444) | $(4,084) | $(3,201) |
| Net Loss Per Share (Basic/Diluted) | $(0.06) | $(0.11) | $(0.26) |
| Cash and Cash Equivalents | $1,404 | $1,404 (End of Period) | $530 (End of Period) |
| Short-term Investments | $4,100 | $4,100 (End of Period) | $4,700 (End of Period) |
| Total Current Assets | $6,694 | $6,694 | $9,296 |
| Total Current Liabilities | $2,539 | $2,539 | $1,329 |
| Stockholders' Equity | $4,814 | $4,814 | $8,756 |
| Accumulated Deficit | $(85,695) | $(85,695) | $(81,612) |
Cash Flow (Six Months Ended June 30, 2008):
- Net cash used in operating activities: $(2,640) thousand
- Net cash provided by investing activities: $592 thousand
- Net decrease in cash and cash equivalents: $(2,045) thousand
Material Changes vs. Prior Period
- Revenue: Net product revenues decreased 27% in the three months ended June 30, 2008, compared to the same period in 2007, primarily due to reduced sales of ESRD therapy products in Europe caused by raw material delays and deferred shipments. For the six-month period, revenue was relatively flat (down 1%).
- Expenses: Research and development (R&D) expenses surged 176% in the quarter and 133% for the six months, driven by the costs of a U.S. clinical trial for ESRD products. Selling, general, and administrative (SG&A) expenses increased 28% in the quarter due to new hires (CFO, VP of Marketing), marketing for the DSU product, and higher insurance costs.
- Profitability: The net loss widened to $4.084 million for the six months ended June 30, 2008, compared to $3.201 million in the prior year period. However, net loss per share improved due to a significant increase in the weighted average shares outstanding following debt conversions in late 2007.
- Liquidity: Cash and cash equivalents declined from $3.449 million at year-end 2007 to $1.404 million at June 30, 2008. Stockholders' equity decreased from $8.756 million to $4.814 million.
Guidance, Outlook, Risks, and Unusual Items
- Outlook: Management expects to continue incurring losses in the short term. The company is targeting submission of data to the FDA for its 510(k) application by the end of the third quarter of 2008. It is actively qualifying distributors for its DSU water filtration system.
- Unusual Items: The company recorded an unrealized holding gain of $114,000 related to auction rate securities (ARS) in the second quarter. This was due to reclassifying the investment from Available-for-Sale to Trading Securities. Subsequently, in July 2008, the company sold these ARS for $4.1 million (par value), reversing the unrealized gain and recording a realized gain.
- Listing Compliance Risk: As of June 30, 2008, stockholders' equity ($4.814 million) fell below the American Stock Exchange (AMEX) continued listing standard of $6.0 million. Management is considering approaches to regain compliance, but there is no assurance of success, and delisting is a risk.
- Internal Controls: Management concluded that disclosure controls and procedures were not effective as of June 30, 2008. A material weakness was identified due to insufficient resources in the accounting and finance department, leading to ineffective review of financial statements and misapplication of GAAP. Remediation plans are underway.
- Liquidity Risk: The company has incurred significant losses since inception and has not generated positive cash flow from operations. Continued operations depend on raising additional capital or increasing revenue substantially.
Investor Verification Checklist
- AMEX Compliance: Verify the status of the company's plan to regain compliance with AMEX listing standards regarding minimum stockholders' equity.
- Cash Runway: Assess the sufficiency of current cash ($1.4M) and short-term investments ($4.1M) to fund operations given the burn rate of approximately $2.6M in operating cash over six months.
- FDA Approval Timeline: Monitor the submission and approval status of the 510(k) application for ESRD products, targeted for Q3 2008.
- Internal Control Remediation: Review future filings to confirm the remediation of the material weakness in internal controls over financial reporting.
- Customer Concentration: Note that Customer A accounted for 84% of sales in the first six months of 2008, creating significant concentration risk.