OPKO HEALTH, INC. annual report, FY2018

OPKO Health, Inc. — 2018 Form 10-K Summary

Reporting period: Fiscal year ended December 31, 2018. This annual filing includes fourth-quarter results and post-year-end developments through the filing date, March 1, 2019. OPKO operates diagnostics and pharmaceutical segments, including BioReference Laboratories and the pharmaceutical product Rayaldee.

Financial performance and liquidity

Metric	FY 2018	FY 2017
Total revenue	$990.3 million	$966.0 million
Cost of revenue	$604.6 million	$620.1 million
Gross profit and gross margin	$385.6 million; 38.9%	$345.9 million; 35.8%
Operating loss	$171.2 million	$276.4 million
Net loss	$153.0 million	$305.3 million
Basic and diluted loss per share	$0.27	$0.55
Cash from operating activities	$(109.1) million	$(92.1) million
Capital expenditures	$27.9 million	$46.5 million
Cash and cash equivalents at year-end	$96.5 million	$91.5 million

Revenue grew 2.5%. Revenue from services was $813.2 million, up $30.5 million; product revenue was $107.1 million, essentially flat; and revenue from intellectual-property transfers and other items was $69.9 million, down $5.6 million. Gross margin improved to 38.9%; operating and net margins were approximately negative 17.3% and negative 15.5%, respectively. The filing reports no sustained positive cash flow; operating cash use increased despite lower capital spending.

At year-end, current assets were $317.7 million and current liabilities were $288.3 million, for working capital of $29.4 million and a current ratio of approximately 1.10. Reported long-term liabilities were $371.5 million. Debt included $108.7 million drawn on credit lines, $55.0 million principal of 5% convertible notes due 2023, and $31.9 million principal of 3% senior notes due 2033; the 2033 notes were substantially classified as current. BioReference’s revolving facility had only $2.0 million of additional availability at year-end.

Material changes and notable items

• Rayaldee net sales rose to $20.3 million from $9.1 million. Prescriptions in Q4 2018 were approximately 141% higher year over year and 17% higher sequentially. OPKO reported commercial and Part D coverage for more than 70% of U.S. covered lives.
• Service revenue benefited from improved billing and collections, including $12.9 million attributed to collection improvements and $4.7 million from higher genomics volume. Offsetting pressures included $24.5 million from clinical-test volume changes, $15.6 million from PAMA reimbursement reductions, and $11.6 million from lower genomics reimbursement. Revenue adjustments for estimated third-party-payor collections reduced revenue by $22.8 million, versus $66.0 million in 2017; the 2017 amount included a $30.0 million payor-overpayment claim, compared with $8.1 million in 2018.
• SG&A declined to $358.3 million from $414.6 million, mainly reflecting BioReference cost reductions and lower corporate expenses. R&D was broadly unchanged at $125.6 million; management expects R&D spending to increase as development expands.
• Operating loss narrowed substantially, but remained significant. The year included a $38.7 million income-tax benefit, compared with an $18.9 million tax provision in 2017. Asset impairment charges were $21.8 million, including $10.1 million for Alpharen and OPK88004 development assets and $11.7 million of FineTech goodwill following the loss of a significant customer.
• Q4 2018 revenue was $221.9 million and net loss was $76.1 million, or $0.13 per share. Q4 2017 revenue was $161.0 million and net loss was $217.9 million, or $0.39 per share. Q4 2018 costs and expenses included $311.9 million.
• OPKO adopted ASC 606 retrospectively. The change chiefly reclassified patient bad-debt amounts as reductions to service revenue and produced a $41.8 million cumulative reduction to revenue and increase in accumulated deficit as of December 31, 2017. Historical comparisons reflect the revised accounting.

Outlook, risks and contingencies

• Management stated that year-end cash, available credit and proceeds from the February 2019 notes offering were expected to cover operating needs and debt service beyond 12 months. This is an estimate based on assumptions; OPKO cautioned it may need additional financing, reduce programs or curtail operations if funding or cash generation falls short.
• In February 2019, OPKO issued $200 million of 4.50% convertible senior notes due 2025, initially convertible at approximately $4.22 per share. The company also reported that approximately $28.8 million of 2033 notes were tendered for repurchase on February 1, 2019. The 2025 note proceeds funded repayment of amounts borrowed in 2019 under a 10% affiliate credit line, which was terminated around February 20, 2019.
• Management identified upcoming development milestones: topline results from the pediatric hGH-CTP Phase 3 study expected in Q4 2019; topline data from the OPK88003 Phase 2b study expected in March 2019; and Rayaldee dialysis-study data expected in the second half of 2020. The OPK88004 Phase 2b study was suspended after variability in prostate-volume measurements and reports of elevated liver enzymes; analysis of other endpoints was expected in Q2 2019.
• Novitas issued a future non-coverage determination for the 4Kscore test, effective March 20, 2019. OPKO was evaluating appeal options and an FDA-approval strategy. Loss of Medicare coverage could adversely affect 4Kscore revenue and reimbursement prospects.
• The adult hGH-CTP Phase 3 trial did not meet its primary endpoint in the original analysis. Post-hoc analyses excluding outliers showed a statistically significant difference, while analyses retaining outliers were mixed. OPKO and Pfizer agreed OPKO could discuss a potential biologics license application with the FDA. Development costs exceeded the agreed cap, and unresolved cost-sharing or development obligations with Pfizer could reduce the collaboration’s expected benefits.
• The SEC complaint against OPKO and CEO/chairman Phillip Frost was settled, without admission or denial of allegations; OPKO paid a $100,000 penalty and agreed to compliance and governance undertakings. Numerous shareholder class and derivative cases remained pending, and OPKO said it could not reasonably estimate a possible loss. Its primary and Side A D&O insurer had denied coverage, which OPKO was appealing.
• BioReference was reviewing a U.S. Attorney’s Office allegation of improper Medicare and TRICARE billing for certain hospital inpatient laboratory services; the potential liability was not estimable and could be material. The company also reported responding to other government information requests concerning laboratory operations.
• Goodwill and other intangible assets totaled approximately $2.0 billion, about 79% of total assets, making future impairment charges a risk. The Waterford, Ireland facility was expected to cost $40–$50 million; cumulative spending was $39.1 million through year-end 2018, with completion then expected in 2019.

Most important facts for investors to verify

• Whether operating cash use can be reduced and whether liquidity remains adequate after the 2025 note issuance, 2033 note repurchase, and continuing R&D and facility commitments.
• BioReference’s revenue, collections, reimbursement rates, payor adjustments, credit-facility availability and compliance with borrowing covenants.
• The impact of the 4Kscore Medicare non-coverage determination and the status of any appeal or FDA-approval effort.
• Rayaldee prescription growth, net sales, reimbursement coverage and progress toward international milestones and royalties.
• Clinical results, regulatory progress and remaining development costs for hGH-CTP, OPK88003, OPK88004 and Rayaldee’s additional indications.
• Potential financial exposure from the BioReference billing allegations and shareholder litigation, including the availability of insurance coverage.
• Valuation assumptions supporting the company’s substantial goodwill and intangible assets and the risk of further impairments.
• Related-party financing and ownership: the November 2018 equity placement included $70 million from a Frost affiliate and $2 million from Vice Chairman Jane Hsiao; the filing also discloses related-party investments and office leasing.