SANUWAVE Health, Inc. — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018. Financial statements are unaudited. SANUWAVE develops acoustic shock-wave technology; its lead U.S. product, dermaPACE, received FDA authorization to market for diabetic foot ulcers in December 2017, and U.S. commercialization began in 2018.
Financial performance and liquidity
| Metric | Q1 2018 | Q1 2017 / comparison |
|---|---|---|
| Revenue | $344,272 | $149,569; up 130% |
| Cost of revenue | $165,466 | $55,144 |
| Gross margin | 52% | 63% |
| Research and development | $349,444 | $260,338 |
| General and administrative | $945,606 | $448,606 |
| Operating loss | $(1,121,260) | $(620,639) |
| Net loss | $(5,856,655), or $(0.04) per share | $(493,532), or approximately $(0.00) per share |
| Cash used in operating activities | $(1,848,565) | $(114,884) |
Revenue growth reflected initial U.S. dermaPACE device and applicator sales and increased applicator refurbishment sales. Gross margin declined because devices carried lower margins than new and refurbished applicators. Higher operating expenses included additional personnel, travel, bonuses, recruiting, professional fees and commercialization consulting.
Net loss increased principally because of $2.97 million in warrant revaluation expense and $1.74 million in net interest expense. These items substantially exceed the operating loss; the warrant revaluation and much of the debt-related expense are noncash accounting charges.
Cash and cash equivalents were $154,205 at quarter-end, down from $730,184 at December 31, 2017. Financing activities provided $1.28 million, including $1.16 million of net convertible-note proceeds. Current assets were $826,815 versus current liabilities of $14.77 million; total liabilities were $14.84 million and stockholders’ deficit was $13.94 million. The filing identifies no clear conventional liquidity cushion.
Major current obligations included $5.26 million of related-party notes payable, $2.00 million of convertible notes net of discounts and issuance costs, a $375,729 related-party line of credit, $685,907 of related-party interest payable, and a $4.80 million warrant liability. The related-party notes are in default and callable; the product equipment financing was also reported in default and callable.
Material changes and notable transactions
- The company adopted ASC 606 revenue guidance on January 1, 2018; it reported no material effect on the financial statements. The filing recorded $55,700 in contract assets and $109,214 in contract liabilities at March 31.
- Convertible-note activity increased debt and potential dilution. The 10% notes generally have six-month terms, convert at $0.11 per share, and were issued with warrants. The company reported 110.6 million warrants outstanding at quarter-end.
- A January 2018 equipment lease provided a financing line of up to $1 million, but the company reported default after selling equipment acquired under the agreement. The lender may call the obligation or require equipment to be returned.
- In February, the company entered a limited exclusive distribution and sales agreement with Premier Shockwave entities, which are owned by director and shareholder A. Michael Stolarski. It includes a minimum purchase of 100 devices over three years and generated $116,447 of Q1 related-party revenue. The agreement also contains change-of-control purchase options.
- Common shares outstanding were 141,050,550 at March 31 and 151,378,374 as of May 11. Subsequent events included conversion of $631,000 principal plus accrued interest into shares and additional warrant exercises.
Outlook, risks and unusual items
Management stated that additional capital would be required during the second and third quarters of 2018 to fund operations. Potential sources included strategic partnerships or licensing, warrant exercises, equity or convertible securities, and debt. Management warned that financing could significantly dilute shareholders and that, if efforts failed, the company might seek bankruptcy relief. The filing includes a going-concern uncertainty and says the financial statements contain no adjustments that might be required if the company cannot continue.
Management expected operating losses to continue over the next few years while commercializing dermaPACE; it provided no quantified revenue or earnings guidance. Commercial success depends on execution in marketing, distribution and reimbursement, among other factors. A South Korean distributor represented 49% of gross accounts receivable; the company was pursuing payment by June 30, 2018, citing the distributor’s delayed sales and payment difficulties.
Clinical trial results included statistically significant wound-closure differences at 20 and 24 weeks, but the primary 12-week endpoint was not statistically significant. The filing also describes ordinary-course legal claims, including contract and intellectual-property matters, for which ultimate liability could not always be estimated. No material governmental proceedings were identified.
Disclosure controls were deemed ineffective as of March 31, 2018. Management reported three unresolved material weaknesses involving accounting for complex financial instruments and derivatives, equity components of service agreements, and completeness and accuracy of GAAP disclosures. Remediation plans were still being developed.
Most important facts for investors to verify
- Whether the company obtained sufficient financing after quarter-end, on what terms, and whether dilution or bankruptcy risk changed.
- The status and consequences of defaults under the NFS equipment lease and HealthTronics related-party notes, including any acceleration, waiver or enforcement.
- Cash runway, actual commercial dermaPACE placements and collections, and the timing and collectability of the South Korean receivable.
- The economic and governance terms of the Premier Shockwave related-party agreement, including purchase commitments, royalties and change-of-control options.
- Potential dilution from convertible notes, warrants and post-quarter share issuances, and progress in remediating the reported material weaknesses.