NeuroPace, Inc. — Q3 2023 Form 10-Q Summary
Business context and reporting period
NeuroPace is a commercial-stage medical device company focused on the RNS System, a brain-responsive neuromodulation device for adults with drug-resistant focal epilepsy. The company manufactures and distributes its products primarily in the United States and began distributing DIXI Medical stereo-electroencephalography products in the fourth quarter of 2022.
This unaudited filing covers the three and nine months ended September 30, 2023, compared with the corresponding 2022 periods. The company had approximately 26.3 million common shares outstanding as of October 31, 2023 and more than 5,000 patients had received the RNS System as of September 30, 2023.
Financial performance and position
| Metric | Q3 2023 | Q3 2022 | Change |
|---|---|---|---|
| Revenue | $16.4 million | $11.2 million | Up 47% |
| Gross profit | $12.2 million | $8.0 million | Up 54% |
| Gross margin | 74.5% | 71.4% | Up 310 basis points |
| Operating loss | $6.0 million | $10.2 million | Improved $4.2 million |
| Net loss | $7.3 million | $11.8 million | Improved $4.5 million |
| Net loss per share | $0.28 | $0.48 | Improved |
| Metric | Nine months 2023 | Nine months 2022 | Change |
|---|---|---|---|
| Revenue | $47.4 million | $32.7 million | Up 45% |
| Gross profit | $34.6 million | $23.7 million | Up 46% |
| Gross margin | 72.9% | 72.4% | Up 50 basis points |
| Operating loss | $22.1 million | $30.9 million | Improved $8.8 million |
| Net loss | $26.8 million | $35.9 million | Improved $9.2 million |
| Net cash used in operating activities | $16.4 million | $29.0 million | Improved $12.7 million |
Q3 revenue growth was driven by higher initial-implant unit volumes, pricing, and DIXI Medical sales, partly offset by lower replacement-procedure volume. Replacement procedures represented approximately 3% of Q3 revenue versus 17% in the prior-year quarter. For the nine-month period, replacement procedures represented approximately 5% of revenue versus 21% in 2022.
Q3 gross margin benefited from greater RNS production volume and lower fixed manufacturing cost per unit. The benefit was partly offset by the lower margin associated with DIXI Medical product distribution. Research and development expense declined 15% in Q3 and 9% year to date, partly because NIH funding is recorded as a reduction of research and development expense. Selling, general and administrative expense increased 7% in Q3 and 9% year to date, primarily due to personnel, sales-based compensation, marketing, severance, and DIXI-related commercial support costs.
At September 30, 2023, the company reported cash and cash equivalents of $9.7 million, short-term investments of $51.6 million, and total liquidity of $61.3 million. Current liabilities were $12.8 million, total assets were $99.3 million, and stockholders’ equity was $16.4 million. Accounts receivable increased to $11.3 million from $7.5 million at December 31, 2022.
Net cash used in operating activities was $16.4 million for the first nine months. Investing activities provided $19.6 million, mainly from sales of short-term investments, while financing activities used $0.1 million. Cash, cash equivalents and restricted cash increased by $3.1 million to $9.8 million, including restricted cash of $0.1 million.
Debt, liquidity and capital requirements
Term loan debt, net of discount and issuance costs, was $55.9 million at September 30, 2023, compared with $52.9 million at December 31, 2022. The loan bears interest at 13.5% and had an effective interest rate of 16.8%. The company elected the paid-in-kind interest option for payment dates from April 2022 through September 2023, increasing principal by approximately $3.9 million. Interest expense was $2.2 million in Q3 and $6.3 million year to date.
The loan is secured by substantially all company assets, including intellectual property, and includes a 10% backend fee upon repayment. Principal is due in one installment on September 30, 2025, following an interest-only period. The company was in compliance with its debt covenants at September 30, 2023, including the $45.0 million minimum 2023 annual net revenue covenant and $5.0 million minimum cash requirement.
Management believes existing cash, cash equivalents and short-term investments will fund planned operations for at least 12 months from issuance of the interim financial statements. The company nevertheless expects continued operating losses and negative cash flows and may require additional equity or debt financing. No securities had been issued under the $50.0 million ATM program as of the filing date.
Material changes, outlook and unusual items
- Revenue increased substantially, but the revenue mix shifted toward initial implants and DIXI products as replacement-procedure revenue declined.
- Gross margin improved, supported by manufacturing scale, although DIXI distribution carries lower margins.
- Net losses and operating cash burn improved year over year, but the company remains unprofitable with an accumulated deficit of $497.6 million.
- The DIXI agreement requires minimum purchases, and the company paid or expects to pay commercial-support amounts totaling $4.5 million over the stated agreement period.
- NIH funding approval for the third year of the Lennox-Gastaut Syndrome research program totaled $3.0 million, including $1.5 million for subawards. Through September 30, $1.7 million of qualifying expenses had been funded.
- The company is pursuing clinical and regulatory work to expand RNS indications to generalized epilepsy and patients aged 12 to 17 with drug-resistant focal epilepsy. The filing does not provide a clear timing or probability of approval.
- Management expects continued investment in sales and marketing, clinical studies, product development, regulatory activities, and public-company infrastructure. No formal revenue, earnings or margin guidance is provided in the filing.
Principal risks and contingencies
- Failure to achieve broader clinician, hospital and patient adoption of the RNS System or to expand referral pathways could limit growth.
- The company competes with larger, better-capitalized providers of alternative neuromodulation devices and surgical treatments.
- Reimbursement, pricing and procedure volumes may decline, and COVID-19-related effects, hospital staffing constraints or elective-procedure disruptions may recur.
- The company relies on a single Mountain View manufacturing facility and several single-source suppliers for critical components, including batteries and printed circuit assemblies.
- Failure to meet the term loan’s revenue or liquidity covenants could permit the lender to accelerate repayment, potentially requiring immediate additional capital.
- FDA approval, post-market compliance, clinical-study results, product liability, recalls, intellectual property disputes, healthcare-law compliance, cybersecurity and data-privacy obligations remain material risks.
- The filing states that no material legal proceedings were pending and no contingency accrual was required as of September 30, 2023.
Most important facts for investors to verify
- Whether fourth-quarter revenue will be sufficient to satisfy the $45.0 million 2023 annual net revenue covenant.
- The pace of cash burn and whether the $61.3 million liquidity balance can support operations through the stated 12-month period.
- The September 30, 2025 term-loan maturity, accumulated PIK interest, backend fee and refinancing requirements.
- The sustainability of initial-implant growth, the decline in replacement revenue, and the contribution and margin profile of DIXI Medical products.
- Progress, cost and regulatory outcomes for expanded RNS indications and related clinical studies.
- Supply-chain resilience, single-source supplier exposure, reimbursement trends, competitive pressure and any FDA, product-liability, cybersecurity or intellectual-property developments.