Castle Biosciences, Inc. — Q2 2022 Form 10-Q
Reporting period: Three and six months ended June 30, 2022. Castle is a commercial-stage diagnostics company; revenue is primarily from dermatologic tests, particularly DecisionDx-Melanoma. Financial statements are unaudited.
Financial performance and position
| Metric | Q2 2022 | Q2 2021 | Six months 2022 | Six months 2021 |
|---|---|---|---|---|
| Net revenue | $34.8 million | $22.8 million | $61.7 million | $45.6 million |
| Operating loss | $4.0 million | $8.8 million | $28.5 million | $13.1 million |
| Net loss | $1.6 million | $8.8 million | $26.3 million | $13.1 million |
| Gross margin percentage | 71.9% | 82.6% | 71.8% | 84.7% |
| Loss per share, basic and diluted | $0.06 | $0.35 | $1.02 | $0.52 |
Q2 revenue increased 53.1%; first-half revenue rose 35.4%. Dermatologic revenue was $31.9 million in Q2 and $56.2 million for the first half, versus $20.4 million and $41.3 million, respectively, a year earlier. Dermatologic test-report volume grew 44.1% in Q2 and 54.6% in the first half. The company attributed growth mainly to higher volume, commercial-force expansion, improved patient flow as COVID restrictions eased, and Medicare payments for DecisionDx-SCC.
Gross margin contracted as cost of sales and acquired-intangible amortization rose, alongside laboratory staffing and compensation investment. First-half results also benefited from a $17.8 million noncash net gain from remeasuring contingent consideration, mainly reflecting lower projected Cernostics milestone achievement. The Q2 gain was $20.4 million. A $1.8 million tax benefit in the first half primarily reflected a reduction in the deferred-tax-asset valuation allowance following the AltheaDx acquisition.
Cash and liquidity: Cash and cash equivalents were $273.2 million at June 30, 2022, down from $329.6 million at year-end 2021. First-half operating cash use was $30.4 million, investing cash use $27.9 million, and financing cash inflow $1.9 million; cash declined $56.5 million. The company reported no outstanding bank debt; its former term loan had been repaid in 2020. Current liabilities were $27.5 million and total liabilities $36.7 million. Management said available cash and anticipated product-sale cash generation should fund operations for at least 12 months, while noting the estimate depends on assumptions.
Material changes and unusual items
- Castle acquired AltheaDx on April 26, 2022, adding the IDgenetix mental-health pharmacogenomics test. Consideration was $49.1 million: $30.5 million cash, $17.1 million in stock, and $1.5 million estimated contingent consideration. The acquired business contributed immaterial revenue and approximately $3.4 million of post-acquisition loss.
- Potential earnouts are substantial: up to $50 million for Cernostics and up to $75 million for AltheaDx, subject to commercial and coverage milestones. At June 30, contingent consideration liabilities totaled $2.0 million after the remeasurement gain.
- Shares outstanding increased to 26.3 million at June 30 from 25.4 million at December 31, 2021, including 763,887 shares issued in the AltheaDx acquisition.
- First-half stock-based compensation expense was $17.2 million, versus $9.7 million in 2021; $99.5 million of unrecognized compensation cost was expected to be recognized over a weighted-average three years.
- New or expanded laboratory leases in Phoenix and Pittsburgh had not commenced at quarter-end. The company estimated they would add approximately $13.8 million to undiscounted future minimum lease payments once commenced.
Outlook, risks and management commentary
No specific revenue or earnings guidance is provided in the filing. Management expects continued investment and rising expenses for sales and marketing, laboratory staffing and capacity, clinical evidence, research and development, and product commercialization. Near-term gross margin percentage is expected to remain pressured by these investments and acquired-intangible amortization. The company planned dedicated sales teams for its Diagnostic GEP and TissueCypher offerings beginning in September 2022, and expected initial development and validation data for its inflammatory skin-disease test in 2023, with commercialization targeted by the end of 2025.
- Reimbursement and coverage are significant risks: Medicare and Medicare Advantage represented 86% of first-half 2022 revenue. Changes in coverage, reimbursement rates, claims appeals or payer collection patterns could materially affect revenue and cash flows.
- DecisionDx-Melanoma remains the principal revenue source. DecisionDx-SCC reimbursement from Novitas was approximately $3,800 per test, but a draft LCD could exclude it if finalized as proposed. Draft coverage criteria for DiffDx-Melanoma were pending; the company expected a final LCD by the end of Q2 2023, without assurance of timing or outcome.
- Revenue includes estimates for variable consideration and may be revised as payer uncertainties resolve; prior-period revenue adjustments were a $0.3 million reduction for the first half of 2022 versus a $5.1 million increase in 2021.
- COVID-19 may again affect patient visits, biopsies and test volumes. The company also cited inflation, particularly personnel costs, and possible effects on expenses and cash runway.
- The tests are marketed as laboratory-developed tests. Potential changes to FDA oversight, laboratory licensing or reimbursement rules could increase costs or constrain commercialization. The filing also highlights clinical-development, acquisition-integration, supply, cybersecurity and data-privacy risks.
- The AltheaDx transaction involved related-party interests: the CEO and board chair had served on its board and certain Castle officers, directors and family members received consideration. The filing says an independent special committee unanimously recommended approval.
Investor facts to verify
- Whether continued test-report growth converts into durable revenue and cash collections, particularly for products with limited or changing payer coverage.
- How the DecisionDx-SCC draft LCD and DiffDx-Melanoma coverage process resolve, and whether reimbursement rates or policies change.
- Whether AltheaDx and Cernostics meet earnout milestones, and how acquired products perform relative to integration and commercialization costs.
- Whether cash use, declining gross margins, hiring and planned facilities expansion remain consistent with management’s stated liquidity outlook.
- How much reported earnings depend on noncash contingent-consideration remeasurement, tax-valuation-allowance changes and stock-based compensation.