SmartKem, Inc. — Q2 2023 Form 10-Q
Business context and period. Unaudited results cover the three and six months ended June 30, 2023, compared with the corresponding 2022 periods. SmartKem is developing organic thin-film transistors and TRUFLEX electronic inks for display applications; revenue remains limited to customer assessment and development sales.
Financial performance and liquidity
| Metric | Q2 2023 | Q2 2022 | Six months 2023 | Six months 2022 |
|---|---|---|---|---|
| Revenue | $8,000 | $4,000 | $24,000 | $34,000 |
| Gross profit | $2,000 | $2,000 | $2,000 | $9,000 |
| Operating expenses | $2.538m | $2.714m | $5.361m | $5.413m |
| Net loss | $2.027m | $3.701m | $4.075m | $6.463m |
| Net loss per share | $0.05 | $0.13 | $0.12 | $0.23 |
| Operating cash used | Not provided for quarter | Not provided for quarter | $3.070m | $5.651m |
Gross margin was approximately 25% in Q2 2023 versus 50% in Q2 2022; for the first half it was approximately 8% versus 26%. These margins reflect very small revenue bases. Q2 operating loss was $2.367m, compared with $2.418m a year earlier; first-half operating loss was $4.921m versus $4.826m. Foreign-exchange movements materially affected reported results: first-half non-operating foreign-exchange gain was $1.035m, versus a $1.638m loss in 2022.
At June 30, cash and cash equivalents were $13.774m, up from $4.235m at year-end 2022. Current assets were $15.071m and current liabilities $1.752m. Total liabilities were $3.721m, including a $1.834m warrant liability and $0.380m in lease liabilities; the filing reports no conventional borrowings on the balance sheet. Stockholders’ equity was $12.329m. The company used $3.070m of operating cash in the first half and spent $6,000 on capital expenditures.
Material changes and financing
- In June, SmartKem completed a private placement described as raising approximately $14m gross and $12.7m net after expenses. The proceeds lifted cash and, according to management, alleviated substantial doubt about the company’s ability to continue as a going concern.
- The placement included Series A-1 and A-2 convertible preferred stock and Class A and B warrants. The preferred shares generally convert at $0.25 per common share, subject to adjustments. The warrants include exercise prices of $0.25 and $0.01 and expire five years from issuance. Their accounting liability was valued at $1.834m at quarter-end.
- Reported warrants outstanding totaled approximately 91.5m shares at June 30. The filing also lists 56.6m common-share equivalents from assumed preferred-stock conversion and 2.7m outstanding options; these potential securities were excluded from diluted EPS as anti-dilutive. Significant dilution is possible if securities convert or are exercised.
- After quarter-end, 2.5m warrants were exercised for $25,000, and 200 Series A-2 preferred shares converted into 800,000 common shares.
- First-half R&D expense declined to $2.536m from $2.802m, while SG&A increased to $2.757m from $2.611m. The accumulated deficit was $90.642m.
Outlook, risks, and unusual items
Management expects operating losses to continue as it funds research, technology and product development, and commercialization. It believes June 30 cash is sufficient for operations for 12 months from issuance of the financial statements, but expects it may need additional capital thereafter. Capital commitments over the next 12 months include approximately $1.5m of accounts payable and accrued expenses and $0.2m of lease liabilities.
The financing agreement restricts operating cash use to an average of $2.8m per consecutive three-month period through June 14, 2024, subject to exceptions, and includes investor participation, pricing-consent, and “most-favored” provisions affecting future financings. Series A-1 may accrue dividends at 19.99% annually if a specified share-price test is not met on the 18-month anniversary; cash payment could pressure liquidity, while share payment could dilute common holders. Preferred-stock terms also restrict certain debt, liens, and other actions without investor consent.
Commercial-scale manufacturing is not yet established. The company is working with a third-party foundry in Taiwan and depends on external fabrication access; transferring know-how, meeting customer specifications, and achieving production cost, volume, and timing targets may be difficult. Management also identifies technology competition, market acceptance, funding needs, key-person dependence, and intellectual-property protection as risks. Legal proceedings are reported as none; management says potential claims in the ordinary course are not expected to be material.
Disclosure controls were concluded to be ineffective at June 30, 2023 because of a material weakness related to complex accounting for the June private placement. The company states the weakness did not affect filed financial statements and the Q2 statements reflect the appropriate accounting. A $0.2m portion of placement costs allocated to warrant liabilities was expensed; foreign-exchange gains and losses also significantly influenced period comparisons.
Investor verification priorities
- Confirm the cash runway assumptions, forecast spending, and timing and size of any additional capital requirement.
- Review the preferred-stock and warrant terms, potential dilution, Series A-1 dividend trigger, and financing covenants and investor consent rights.
- Assess whether third-party manufacturing transfer and customer qualification can support commercial-scale production on expected timelines and costs.
- Track customer-development revenue, grants and R&D tax credits, and progress toward commercial sales.
- Monitor remediation of the material weakness in financial reporting controls and the valuation assumptions for the Level 3 warrant liability.