Nephros, Inc. — Q1 2014 Form 10-Q
Reporting period: Three months ended March 31, 2014. Nephros is a commercial-stage medical-device company developing and selling liquid-purification filters, including products for dialysis, military use and commercial facilities. Financial statements are unaudited; amounts below are in U.S. dollars unless noted.
Financial results and liquidity
| Metric | Q1 2014 | Q1 2013 | Change / context |
|---|---|---|---|
| Net revenue | $473,000 | $521,000 | Down 9%; product revenue fell $127,000, partly offset by a $79,000 increase in Bellco license revenue. |
| Gross profit / margin | $367,000 / 77.6% | $325,000 / 62.4% | Margin improved as cost of goods sold declined faster than revenue. |
| Operating expenses | $929,000 | $1.333 million | Down 30%, mainly lower SG&A and R&D. |
| Operating loss | $562,000 | $1.008 million | Improved year over year. |
| Net loss | $760,000 | $1.242 million | Loss per share was $0.04 versus $0.10. |
| Cash used in operations | $622,000 | $929,000 | Use declined by $307,000. |
| Cash and cash equivalents | $473,000 at March 31 | $579,000 at December 31, 2013 | Quarter-end cash decreased $106,000. |
| Total assets / liabilities | $3.059 million / $2.293 million | $2.889 million / $3.499 million | Stockholders’ equity was $766,000, versus a $610,000 deficit at year-end. |
Quarter-end current assets were $1.212 million and current liabilities were $2.293 million, a working-capital deficit of approximately $1.081 million. The $1.5 million senior secured note was repaid in March, along with $61,000 of accrued interest; no senior secured note remained outstanding at March 31. The balance sheet included $1.842 million of net intangible assets related to the Medica license and supply agreement.
Material changes and business developments
- A March rights offering raised $2.1 million gross and issued 7,140,822 shares, equal to 77% of the shares offered. The company reported approximately $581,000 in net proceeds after repayment of the note, interest and specified fees and expenses. The offering substantially increased shares outstanding.
- Bellco amended its license agreement in February, extending it through 2021 and expanding its territory. Nephros is due €450,000 in upfront fees; the final €225,000 installment, approximately $309,000, was received April 4, 2014. Future royalties are subject to revised terms, including lower fixed payments from 2015 and per-unit royalties for 2015–2016.
- Revenue concentration was high: three customers accounted for 54%, 25% and 9% of Q1 sales. Two customers represented 26% and 65% of accounts receivable at quarter-end.
- During March, Nephros signed a non-exclusive agreement with Mar Cor Purification to distribute dialysis ultrafilters in the U.S. and Canada.
Outlook, risks and contingencies
- Going concern: Management stated that recurring losses and insufficient operating cash flow raise substantial doubt about the company’s ability to continue as a going concern. It expected rights-offering proceeds and the Bellco amendment to fund operations into Q3 2014, excluding future operating cash receipts. Additional financing may be required; the company cautioned it may need to curtail operations or cease operations if financing is unavailable.
- Product recalls and regulation: Voluntary recalls of point-of-use and DSU ultrafilters for hospital-water applications, announced in October 2013, remained a risk. The company said it was working to resolve FDA issues and could not predict further effects or possible regulatory or consumer claims. The filing reported no currently pending legal proceedings.
- Commercialization: Nephros had not begun broad marketing of its mid-dilution HDF system and was seeking a U.S. commercialization partner. It expected a U.S. clinic placement in Q2 2014, while noting delays at the initial site. The U.S. Army’s IWPD procurement evaluation was ongoing; the Army could award several, one or no contracts.
- Inventory and commitments: Approximately $85,000 of DSU inventory was written off during the quarter. The company also had 2014 minimum purchase commitments to Medica of €750,000 for the year; aggregate purchases were approximately €88,000 in Q1. The Medica agreement includes a 3% royalty on specified net sales through 2022.
- No quantitative earnings or revenue guidance was provided. Management warned that quarterly results may fluctuate and depend on sales growth, product acceptance, research and development, recalls and access to financing.
Important facts for investors to verify
- Whether Nephros obtained sufficient financing after the stated expected runway into Q3 2014, and whether it continued to satisfy its obligations.
- Collections of the Bellco receivable and actual licensing payments, sales targets and royalties under the amended agreement.
- FDA developments and any financial, sales or liability effects related to the POU and DSU recalls.
- Whether the HDF clinic placement and Army evaluation led to commercialization or contract awards.
- Customer concentration, product-sales trends, inventory reserves and the company’s ability to improve operating margins.
- The impact of the rights offering and warrant anti-dilution provisions on potential share dilution.