CareDx, Inc. — FY 2016 Form 10-K Summary
Reporting period: Fiscal year ended December 31, 2016. This is an annual report, not a standalone Q4 filing; Q4 figures are included where useful. Amounts are in U.S. dollars unless noted.
Business context
CareDx develops and sells transplant diagnostics. Its post-transplant business centers on AlloMap, a heart-transplant gene-expression test. The April 2016 acquisition of Allenex added pre-transplant HLA typing and matching products, including Olerup SSP and QTYPE. AlloSure, a donor-derived cell-free DNA test, remained in development/early evaluation. The acquisition expanded CareDx to two reportable segments: CareDx and Olerup.
Financial performance and liquidity
| Metric | FY 2016 | FY 2015 | Change / context |
|---|---|---|---|
| Total revenue | $40.6 million | $28.1 million | Up 44%; growth primarily reflects Allenex product sales included after acquisition. |
| Testing revenue | $29.7 million | $27.9 million | Up 6%; AlloMap results delivered rose 8%, to 14,148. |
| Product revenue | $10.7 million | — | Primarily Allenex sales from April 14 onward. |
| Gross profit / margin | Approx. $19.5 million / 48% | Approx. $17.9 million / 64% | 2016 cost of product included $4.0 million of acquisition inventory step-up amortization. |
| Operating loss | $37.3 million | $11.9 million | Includes $13.0 million goodwill impairment and higher operating costs. |
| Net loss attributable to CareDx | $39.5 million | $13.7 million | Basic and diluted loss per share: $2.39, versus $1.16. |
| Operating cash flow | $(16.5) million | $(9.8) million | Cash use increased year over year. |
| Cash and cash equivalents | $17.3 million | $29.9 million | At December 31, 2016. |
| Working capital | $(14.2) million | $24.2 million | At December 31, 2016. |
| Total debt | $23.9 million | $15.8 million | At December 31, 2016; $22.8 million classified current. |
Medicare represented 44% of testing revenue in 2016. AlloMap’s 2017 Medicare fee schedule rate was $2,841 per test, up from $2,821 in 2016; the proposed lower gapfill rates were not implemented. Revenue recognition remains sensitive to payer coverage and collections: the filing reports that roughly 36%–37% of AlloMap revenue was recognized on a cash basis in 2016, with figures varying by disclosure.
Quarterly context: Q4 2016 revenue was $10.9 million and net loss attributable to CareDx was $15.5 million, compared with $6.6 million revenue and $4.8 million loss in Q4 2015. Allenex’s post-acquisition results contributed to the year-over-year comparison.
Material changes and unusual items
- Allenex was acquired for approximately $34.1 million in cash and stock. Its post-acquisition revenue was $10.7 million, and its reported net loss for the period was $17.9 million.
- CareDx recorded a $13.0 million Allenex/Olerup goodwill impairment after lowering forecasts in light of earlier-than-expected NGS and q-PCR adoption and increased competition.
- Research and development expense increased 33% to $12.4 million, mainly for AlloSure and QTYPE development. Sales and marketing rose 34% to $11.2 million; general and administrative expense rose 69% to $20.7 million, including acquisition and financing-related costs.
- Cash used in investing activities was $21.1 million, mainly due to the Allenex acquisition. Financing activities provided $24.9 million, principally from equity financings and the public offering.
- The company’s stock price ranged from $2.50 to $6.84 during 2016, and closed the year at $2.70.
Outlook, risks and contingencies
- Going concern and funding: The auditor included a going-concern explanatory paragraph. Management said existing cash, expected revenue and later financing proceeds were expected to fund operations only into the quarter ended June 30, 2017, absent a demand for repayment by Danske. Additional financing or refinancing was required to meet obligations and fund the business; failure could require substantial reductions or cessation of operations. No numerical revenue or earnings guidance is provided.
- Subsequent financing: On March 15, 2017, CareDx received $24.0 million net from senior secured convertible debentures, used $11.2 million to repay East West Bank, and was required to maintain $9.4 million of restricted cash unavailable for operations. The debentures carry 9.5% interest, mature in 2020, and are convertible at $4.56 per share. Holders may require monthly redemptions beginning March 2018; warrants cover up to 1.25 million shares. These terms create repayment, dilution and covenant risks.
- Debt covenants: Allenex violated Danske leverage covenants at June, September and December 2016. Waivers were obtained, but the December waiver was conditional; Danske could demand repayment if the waiver were withdrawn or a default remained unresolved. Related-party and deferred acquisition obligations also included amounts due in 2017.
- Commercial and reimbursement risks: AlloMap and Olerup products generated most revenue. AlloSure adoption, clinical utility, payer coverage and reimbursement were not established. MolDX had accepted CareDx’s AlloSure dossier for technical assessment, but no coverage determination had been made. New Medicare market-based CLFS rates under PAMA were scheduled to take effect in 2018.
- Regulatory and operating risks: Potential FDA oversight of laboratory-developed tests could require additional studies or clearance. CareDx also cited supplier concentration, reliance on laboratory operations and partners, competition, integration risk, and foreign-exchange exposure. A 10% unfavorable currency movement was estimated to reduce annual results by $1.9 million and testing revenue by $0.7 million.
- Controls and filing status: Management concluded disclosure controls and internal control over financial reporting were ineffective at year-end, citing four material weaknesses in close processes, acquisition accounting, payer-contract revenue recognition and inventory valuation. Allenex was excluded from management’s control assessment despite accounting for about 46% of assets and 26% of revenue. The 10-K was filed late; CareDx said it was temporarily unable to use Form S-3 for shelf offerings and accrued JGB liquidated damages of approximately $7,000 per day beginning April 18, 2017 until a required registration statement was filed.
- Legal matters: Oberland litigation was settled for $0.6 million in March 2017. A Swedish takeover-rules fine of approximately $0.1 million was paid in February 2017.
Important facts for investors to verify
- Current unrestricted cash, cash burn, and whether subsequent financing and any additional funding provide sufficient runway.
- Status of Danske covenant waivers, repayment demands, related-party notes and the deferred Allenex purchase consideration.
- Terms and ongoing costs of the JGB debentures, including restricted cash, redemption rights, warrant dilution and registration-related damages.
- Progress, clinical evidence, regulatory status and reimbursement prospects for AlloSure, including MolDX’s determination and TULIP plans.
- Whether CareDx remediated the four material weaknesses and restored effective disclosure and financial-reporting controls.
- AlloMap test volumes, payer mix, cash-basis revenue collections and the impact of PAMA’s 2018 pricing methodology.
- Allenex/Olerup performance, integration outcomes and any further impairment or inventory write-downs.