SWK Holdings Corporation — Q2 2016 Form 10-Q
Reporting period: Three and six months ended June 30, 2016. Amounts below are in millions of dollars unless otherwise stated. SWK provides specialty financing to life-sciences businesses, primarily through loans, royalty purchases and revenue interests, and also manages investment accounts.
Financial performance
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Total revenue | $8.61 | $5.40 | $13.85 | $11.20 |
| Consolidated net income | $0.04 | $0.30 | $3.98 | $3.37 |
| Net income (loss) attributable to SWK shareholders | $(1.05) | $(0.38) | $2.05 | $1.88 |
| Operating cash flow | Not separately reported quarterly | $5.79 | $4.56 |
- Q2 revenue rose about 59% year over year; first-half revenue rose about 24%. Growth reflected higher finance-receivable interest and fees and greater income from the Holmdel investment.
- Q2 costs and expenses were $9.04 million, including $6.59 million of impairment expense and $1.66 million provision for credit losses. A $0.47 million net unrealized derivative gain brought pretax income to $0.04 million. The quarter’s shareholder loss reflects $1.09 million of income attributable to non-controlling interests.
- First-half results included $6.93 million of impairment expense, $1.66 million of credit-loss provision, and a $0.44 million net unrealized derivative gain. No income-tax provision was recorded in 2016.
Financial position and liquidity
- Cash and cash equivalents were $76.62 million at June 30, up from $47.29 million at year-end. First-half cash increased $29.33 million.
- Finance receivables were $74.70 million, down from $99.35 million at year-end; marketable investments were $3.70 million, and the investment in unconsolidated entities was $7.49 million.
- Total assets were $182.22 million, total liabilities $0.91 million, and total stockholders’ equity $181.31 million. The balance sheet reports no conventional borrowing balance; interest expense was zero in the first half of 2016.
- First-half investing cash inflow was $25.74 million, principally from $20.43 million net receipts on finance receivables, $4.30 million of investment distributions and $1.01 million from warrant settlements. Financing cash outflow was $2.20 million, mainly distributions to non-controlling interests.
- The company reported $6.8 million of unfunded loan commitments at June 30. Management said it believed cash and alternative funding sources were sufficient for current commitments.
Material changes, risks and outlook
- SynCardia: SWK sold its debt and equity interests on June 24 for $7.2 million upfront plus contingent future payments. The interests had a $12.5 million carrying value at sale; SWK recorded $5.3 million impairment expense.
- Credit and investment impairments: SWK recorded a $1.7 million allowance on the Besivance royalty purchase after weakening sales and reduced expected royalties. It also recognized $0.7 million impairment on debt securities and $1.0 million on Cancer Genetics equity securities during the first half.
- Problem loans: Two term loans with a net carrying value of $18.9 million were on nonaccrual at June 30; no cash was collected on nonaccrual loans during the first half. B&D Dental was in default and nonaccrual. ABT Molecular Imaging had defaults under its first-lien arrangements; SWK provided additional liquidity through amendments and continued working with its equity sponsors.
- Portfolio concentration and valuation: SWK stated that its life-sciences focus exposes it to sector-specific credit risk. Finance-receivable fair values and several warrant valuations rely on Level 3, unobservable inputs.
- Management outlook: SWK expected its existing assets to generate income greater than expenses in 2016, but cautioned that investment timing is uncertain and it might not generate positive cash flow beyond that produced by current assets. No formal earnings guidance was provided.
- Subsequent investments: In July, SWK funded $6.0 million of a potential $9.0 million Tenex term loan, with the remaining amount conditional on revenue and covenant requirements. In August, it funded a $6.0 million IntelGenx royalty purchase.
- SWK reported $405.0 million of federal NOL carryforwards, most of which expire by 2021, and $2.7 million of federal research credits. The company cautioned that use of these tax attributes is not assured.
- The filing reported no material change in previously disclosed risk factors, no legal proceeding expected to have a material effect, and effective disclosure controls as of quarter-end.
Most important facts for investors to verify
- Whether SynCardia contingent payments are realized and how the sale affects future earnings and cash flows.
- Recovery prospects and collateral support for nonaccrual or defaulted exposures, particularly B&D Dental and ABT Molecular Imaging.
- Whether Besivance royalties and the impaired securities perform in line with the reduced valuations and expectations.
- How much of the $6.8 million in commitments is drawn, and whether new investments produce cash returns sufficient to support management’s 2016 outlook.
- The assumptions underlying Level 3 valuations, expected credit losses, and realization of deferred tax assets and NOLs.