Nephros, Inc. — Q3 2022 Form 10-Q
Reporting period: Three and nine months ended September 30, 2022. Financial amounts below are in thousands of dollars unless stated otherwise. The company develops and sells water filtration products and is developing hemodiafiltration (HDF) products through its 62.5%-owned subsidiary, Specialty Renal Products (SRP). Pathogen Detection Systems (PDS) is presented as discontinued operations.
Financial performance and liquidity
| Metric | Q3 2022 | Q3 2021 | Nine months 2022 | Nine months 2021 |
|---|---|---|---|---|
| Continuing-operations revenue | $2,409 | $2,578 | $7,417 | $7,504 |
| Gross margin | $762 (32%) | $1,360 (53%) | $3,222 (43%) | $4,162 (55%) |
| Loss from continuing operations, after other income/expense | $(1,250) | $(802) | $(3,558) | $(2,059) |
| Loss from discontinued operations | $(1,904) | $(360) | $(2,700) | $(766) |
| Net loss | $(3,154) | $(1,162) | $(6,258) | $(2,825) |
| Net loss per share, basic and diluted | $(0.30) | $(0.11) | $(0.61) | $(0.28) |
- Q3 revenue fell 7%; nine-month revenue fell 1%. Management attributed the quarterly decline primarily to customers advancing purchases into Q2 ahead of a June 1 price increase, shifting about $300 in sales from Q3.
- Gross margin declined 21 percentage points in Q3 and 12 points year to date. Management cited inventory reserves for expirations, obsolescence and inventory-count adjustments, as well as higher shipping costs year to date; price increases partly offset cost pressure. The company recorded a $773 inventory obsolescence charge in the first nine months.
- Operating expenses were $2,043 in Q3 and $6,864 year to date. Year-to-date R&D declined 23%, while SG&A rose 8%, mainly from sales headcount, travel and recruiting costs.
- Operating cash used was $3,039 for the first nine months, versus $1,082 in 2021. Investing cash used was $137; financing provided $145. Cash and cash equivalents were $3,940 at September 30, down from $6,973 at year-end 2021.
- At September 30, current assets were $9,118 and current liabilities $1,551; reported working capital excluding held-for-sale balances was $7,567. Total liabilities were $1,754 and stockholders’ equity was $9,581. The secured note had $141 outstanding, due by April 2023; equipment financing was $2. Lease liabilities totaled $430.
Material changes and unusual items
- On October 4, 2022, after quarter-end, Nephros entered an agreement to sell substantially all PDS assets for $1,000 cash at closing, plus potential royalties for seven years beginning in 2023, subject to a minimum gross-margin threshold. Future royalties are a contingency and were not recognized. PDS was classified as held for sale and discontinued operations as of September 30.
- The company recorded a $1,395 impairment charge on the PDS disposal group, reducing the assets’ net carrying value to zero. PDS reported a $2,700 loss for the first nine months, including the impairment, compared with a $766 loss in 2021.
- SRP’s second-generation HDF system received FDA 510(k) clearance on May 13, 2022. Management planned a measured initial launch at one to three clinics in late 2022, followed by gradual expansion in 2023.
- The company received $188 in proceeds attributable to noncontrolling interests from SRP preferred-share financing and $163 from Nephros warrant exercises during the first nine months. Nephros’s loan to SRP, including accrued interest, was approximately $1,400.
- Management disclosed that its November 4 earnings-release balance sheet contained items that were corrected in this 10-Q, including held-for-sale and total-asset and liability amounts.
Outlook, risks and contingencies
- Management expects continued operating losses for the next several quarters but believes available cash, anticipated revenue and expense reductions will fund the current operating plan for at least 12 months from issuance of the financial statements. If results fall short, further discretionary cuts—including headcount and R&D—may be needed.
- No quantified revenue or earnings guidance was provided. The company identified market acceptance, HDF adoption, sales execution, supply-chain and inflationary costs, competition, regulatory matters, potential litigation and future COVID-19 disruption as risks.
- Nephros had an accumulated deficit of $142.0 million and negative operating cash flow since inception. A Medica supply agreement required minimum purchases of €3.5 million (approximately $3.7 million) for 2022; remaining commitments at September 30 were €2.8 million (approximately $3.0 million).
- Revenue concentration is notable: Customer A represented 32% of Q3 revenue and 24% of nine-month revenue. The two largest customers represented 33% of nine-month revenue.
Most important facts for investors to verify
- Whether the PDS sale closed, the timing and use of the $1,000 proceeds, and whether any royalties become probable and payable.
- Cash burn and liquidity against management’s stated 12-month runway, particularly as losses continue and the PDS disposal changes the business profile.
- Whether gross margins recover as inventory charges and shipping pressures ease and price increases take effect.
- Progress, costs and adoption of SRP’s HDF launch, including whether clinics initiate use and whether additional financing is required.
- Exposure to major customers and compliance with Medica’s minimum-purchase commitments.