Outset Medical, Inc. — Q3 2020 Form 10-Q Summary
Business context and reporting period
Outset Medical is a medical technology company developing the Tablo Hemodialysis System for acute-care, chronic-care and home dialysis settings. The filing covers the three and nine months ended September 30, 2020, compared with the corresponding 2019 periods. Tablo is the company’s primary commercial product and generates revenue from consoles, consumables and service contracts.
The company completed its initial public offering in September 2020, selling approximately 10.3 million shares at $27.00 per share and receiving net proceeds of approximately $254.8 million. All outstanding redeemable convertible preferred stock converted into common stock upon the IPO.
Key financial metrics
| Metric | Q3 2020 | Q3 2019 | Nine months 2020 | Nine months 2019 |
|---|---|---|---|---|
| Total revenue | $13.8 million | $2.6 million | $32.7 million | $8.0 million |
| Product revenue | $10.8 million | $2.4 million | $26.4 million | $7.5 million |
| Service and other revenue | $2.9 million | $0.2 million | $6.3 million | $0.5 million |
| Gross profit | $(5.1) million | $(5.3) million | $(13.5) million | $(15.0) million |
| Gross margin | (37%) | (201%) | (41%) | (188%) |
| Operating loss | $(40.7) million | $(18.5) million | $(85.9) million | $(51.7) million |
| Net loss | $(42.3) million | $(15.4) million | $(89.4) million | $(48.9) million |
| Net loss per share | $(3.44) | $(18.93) | $(6.30) | $(78.77) |
| Cash used in operating activities | Not separately provided | Not separately provided | $(73.2) million | $(55.1) million |
As of September 30, 2020, cash and cash equivalents were $311.3 million, short-term investments were $32.9 million, and restricted cash was $33.3 million. Total cash, cash equivalents, restricted cash and short-term investments were approximately $377.5 million. The company reported an accumulated deficit of $462.0 million.
Total debt was approximately $30.0 million, net of unamortized debt discount. The SVB term loan bears interest at the greater of 0.5% above the prime rate or 3.75%, matures in November 2025, requires interest-only payments through May 2023, and is secured by substantially all company assets. The company must maintain restricted cash at least equal to the outstanding principal balance.
Material changes versus the prior comparable period
- Revenue increased 423% in Q3 and 309% for the first nine months, driven by greater Tablo console adoption, fleet expansion, consumable sales and service revenue.
- Management attributed part of the demand increase to COVID-19, while cautioning that pandemic-related demand may not persist.
- Gross margin improved materially but remained negative, reflecting lower product costs, higher service revenue and improved field-service utilization.
- Operating expenses increased 171% in Q3 and 97% for the first nine months, led by higher headcount, sales commissions, public-company costs and stock-based compensation.
- Stock-based compensation rose to $13.9 million in Q3 and $15.2 million for the first nine months, including $13.4 million of cumulative expense triggered by the IPO-related vesting of performance- and market-based awards.
- The company replaced the Perceptive term loan with the $30.0 million SVB term loan in July 2020 and recorded a $1.6 million loss on extinguishment.
- Operating cash use increased to $73.2 million for the first nine months from $55.1 million in the prior-year period, partly because of increased inventories, prepaid expenses and accounts receivable.
Guidance, outlook, commentary and risks
The company did not provide quantitative revenue, earnings or margin guidance in the filing. Management expects significant expenses and operating losses to continue while it invests in commercial expansion, research and development, manufacturing and home-dialysis adoption. Management believes existing cash, investments and expected revenue will fund anticipated needs for at least the next 12 months.
Management’s gross-margin strategy includes insourcing console manufacturing, adding a second cartridge manufacturer and using the cloud-based platform and product improvements to reduce service costs. The company was establishing a manufacturing facility in Tijuana, Mexico and planned to shift substantial console and cartridge production there.
- Tablo remains substantially the company’s sole source of revenue, creating product and market-concentration risk.
- Customer concentration is significant: three customers accounted for 23%, 17% and 16% of nine-month revenue, respectively.
- The FDA issued a Section 522 post-market surveillance order concerning unsupervised home use. Required work includes human-factors testing and analysis of home-user adverse events and complaints; enrollment was halted because of COVID-19.
- Failure to satisfy the FDA’s requirements could result in product changes, additional regulatory submissions, labeling or training changes, recall or withdrawal, or other enforcement action.
- The company relies on third-party suppliers, contract manufacturers and certain single-source components, exposing it to supply interruptions, price increases, quality problems and manufacturing-transition risk.
- COVID-19 may support near-term demand but could disrupt suppliers, manufacturing, clinical work and customer operations; demand could decline as pandemic conditions improve.
- Competition includes substantially larger dialysis companies such as Fresenius, Baxter and B. Braun.
- The company has a history of losses and negative operating cash flow and may require additional capital. Future equity financing could dilute shareholders, while debt financing could add restrictive covenants.
- The SVB facility requires cash collateral equal to outstanding principal and includes restrictive covenants and customary events of default.
- Additional risks include reimbursement and healthcare-policy changes, product liability, cybersecurity and data-privacy incidents, regulatory compliance, intellectual-property disputes and the ability to scale the sales, service and manufacturing infrastructure.
Most important facts for investors to verify
- Whether rapid revenue growth and COVID-19-related demand translate into durable customer adoption, recurring consumable utilization and home-dialysis growth.
- Progress toward positive gross margins, including actual savings from Tijuana manufacturing, cartridge second sourcing and service-cost initiatives.
- Cash-burn rate and projected liquidity runway relative to continued operating losses, capital expenditures and working-capital needs.
- Compliance with the FDA Section 522 order and the outcome of home-use human-factors and post-market surveillance activities.
- Customer concentration, contract terms and the sustainability of revenue from the three largest customers.
- Supply-chain resilience, product reliability, warranty claims and execution of the manufacturing transition.
- Terms, collateral requirements and covenant compliance under the SVB term loan.
- Future stock-based compensation, equity dilution and the expiration or release of IPO lock-up restrictions.