VirnetX Holding Corporation — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018. Financial statements are unaudited; amounts below are in U.S. dollars unless stated otherwise. VirnetX commercializes a patent portfolio and is developing and licensing secure communications technology, including its GABRIEL products.
Financial results and liquidity
| Metric | Q1 2018 | Q1 2017 / prior date |
|---|---|---|
| Revenue | $6,000 | $375,000 |
| Research and development expense | $1.005 million | $814,000 |
| Selling, general and administrative expense | $6.609 million | $3.467 million |
| Operating loss | $7.608 million | $3.906 million |
| Net loss | $7.605 million | $3.894 million |
| Basic and diluted loss per share | $0.13 | $0.07 |
| Operating cash used | $5.289 million | $6.134 million |
| Cash and cash equivalents | $5.544 million | $3.135 million at Dec. 31, 2017 |
| Available-for-sale investments | $583,000 | $1.453 million at Dec. 31, 2017 |
| Working capital | $2.4 million | $697,000 at Dec. 31, 2017 |
Cash flow from investing activities was positive $872,000; financing activities provided $6.826 million, primarily from ATM share sales. Cash and investments totaled approximately $6.127 million at quarter-end. The balance sheet reports no debt. Gross margin is not separately presented; revenue was minimal relative to operating expenses.
Changes and significant accounting items
- Reported revenue fell by $369,000 year over year. VirnetX attributed the decline primarily to adopting ASC 606 on January 1, 2018, rather than simply to a change in underlying sales: Q1 2017 included $375,000 of revenue from a previously collected settlement contract. The filing’s ASC 606 comparison shows Q1 2018 revenue of $381,000 before the standard’s effects and $6,000 as reported.
- ASC 606 adoption reduced deferred revenue and increased retained earnings/adjusted accumulated deficit by approximately $2.5 million at adoption, as described by the company. The filing’s transition table shows a $2.125 million reduction in total liabilities and corresponding increase in equity at March 31, 2018.
- SG&A rose $3.142 million, primarily due to a $2.946 million increase in legal fees related to patent litigation. R&D increased $191,000, mainly from employee costs and stock-based compensation.
- The company sold 1,751,689 shares through its ATM during the quarter at an average $4.02 per share, reporting aggregate proceeds of $7.042 million; cash-flow financing proceeds from common-stock sales were $6.830 million. The ATM authorization was increased from $35 million to $50 million.
Outlook, risks, litigation and unusual items
- Management said quarter-end cash and investments, together with potential additional ATM or shelf-offering proceeds, should fund the current level of selling, general and administrative costs, including legal expenses, and working capital for the foreseeable future. No numerical earnings or revenue guidance was provided. Management expects most future revenue to come from patent licenses and royalties.
- On April 12, 2018, after quarter-end, a jury awarded VirnetX $502.6 million in the Apple II case and found willful infringement. The verdict concerns redesigned VPN on Demand and FaceTime features. It is a jury verdict, not cash received or revenue reported for Q1; final post-trial proceedings and potential appeals remain relevant.
- The separate Apple I final judgment totaled $439.7 million and was under appeal. The filing also describes multiple patent-related appeals and patent-validity proceedings; the Federal Circuit affirmed certain PTAB invalidity findings in March 2018. Litigation outcomes, timing, recoverability of awards and legal costs are uncertain.
- After quarter-end, VirnetX sold a further 622,448 ATM shares for $2.531 million gross, with $76,000 of fees and costs. This also increases share dilution.
- A related-party aircraft lease with an entity controlled by the CEO and Chief Administrative Officer generated $608,000 in rental fees and reimbursements in Q1, versus $252,000 a year earlier; $258,000 was payable at quarter-end.
- Key business risks include dependence on litigation and licensing for revenue, patent challenges and expirations (issued patents expire at various times from 2019 to 2024), limited product revenue, potential capital needs and dilution, and execution and adoption risks for GABRIEL. The company also disclosed termination of its PITA arrangement in March 2018 and the possibility of a dispute.
- Management concluded disclosure controls were effective as of March 31, 2018 and reported no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether the $502.6 million Apple II verdict survives post-trial motions and appeals, and when, if ever, any proceeds are collected.
- The status and outcome of the Apple I appeal and the other patent appeals and PTAB proceedings, including potential effects on enforceable patent rights.
- How much operating cash is consumed by legal expenses and other costs, and the company’s actual financing needs and ATM usage.
- Whether GABRIEL products and licensing generate meaningful recurring revenue; reported Q1 revenue was only $6,000.
- The impact of future share issuance and outstanding equity awards on existing shareholders, and the terms and governance of related-party transactions.