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RGDX > SEC Filings for RGDX > Form 10-Q on 13-Aug-2013All Recent SEC Filings

Show all filings for RESPONSE GENETICS INC

Form 10-Q for RESPONSE GENETICS INC


13-Aug-2013

Quarterly Report


Item 2: Management's Discussion and Analysis of Financial Condition and Results of Operations.

Special Note Regarding Forward-Looking Statements

Certain information included or incorporated by reference in this Quarterly Report on Form 10-Q for the period ended on June 30, 2013 contains or may contain forward-looking statements within the meaning of The Private Securities Litigation Reform Act of 1995, as may be amended from time to time. Statements that are not historical facts, including statements that use terms such as "anticipate," "believe," "should," "expect," "intend," "plan," "project," "seek" and "will" and that relate to our plans, objectives, strategy and intentions for future operations, future financial position, future revenues, projected costs and prospects are forward-looking statements but not all forward-looking statements contain these identifying words. Forward-looking statements relate to future periods and may, for example, include statements about our expectation that, for the foreseeable future, a significant amount of our revenues will be derived from ResponseDX® product sales; our ability to maintain revenue from pharmaceutical clients; the factors that may impact our financial results; the extent of our net losses and our ability to achieve sustained profitability; our business strategy and our ability to achieve our strategic goals; our expectations regarding revenues from ResponseDX® products; the amount of future revenues that we may derive from Medicare patients; the potential or intent to enter into distribution arrangements; our ability to sustain or increase demand for our tests; our sales forces' capacity to sell our tests; plans for the development of additional tests; our expectation that our research and development, general and administrative and sales and marketing expenses will increase and our anticipated uses of those funds; our ability to comply with the requirements of a public company; our ability to attract and retain qualified employees; our compliance with federal and state regulatory requirements; the potential impact resulting from the regulation of our tests by the U.S. Food and Drug Administration; the impact of new or changing policies or regulation of our business; our belief that we have filed adequate patent and trademark applications to protect our intellectual property rights; the impact of accounting pronouncements and our accounting policies, estimates, assumptions or models on our financial results; and anticipated challenges to our business.

Forward-looking statements are subject to significant inherent risks and uncertainties that could cause actual results to differ materially from those expected. For us, these risks and uncertainties include, but are not limited to, our ability to develop and commercialize new product without unanticipated delay; the risk that we may not maintain reimbursement for our existing tests or any future tests; the risk that reimbursement pricing may change; the risks and uncertainties associated with the regulation of our tests; our ability to compete; our ability to obtain capital when needed; and our history of operating losses. In light of the risks and uncertainties inherent in all forward-looking statements, including the above, the inclusion of such statements in this Quarterly Report on Form 10-Q for the period ended on June 30, 2013 should not be considered as a representation by us that our objectives, projections or plans will be achieved. These statements are based on current plans, estimates and expectations. Actual results may differ materially from those projected in such forward-looking statements and therefore you should not place undue reliance on them. The forward-looking statements included in this Quarterly Report on Form 10-Q for the period ended on June 30, 2013 speak only as of the date hereof and we expressly disclaim any obligation or undertaking to publicly update any forward-looking statements contained herein to reflect any change in our expectations with regard thereto or any change in events, conditions or circumstances on which any such statement is based.

The following discussion of our financial condition and results of operations should be read in conjunction with our unaudited financial statements and related notes to the financial statements included elsewhere in this Quarterly Report on Form 10-Q for the period ended June 30, 2013 and our audited financial statements for the year ended December 31, 2012 included in our Annual Report on Form 10-K for the period ended December 31, 2012 previously filed with the Securities and Exchange Commission.

Overview

Response Genetics, Inc. (the "Company") was incorporated in the State of Delaware on September 23, 1999 as Bio Type, Inc. for the purpose of providing molecular profiling services of tumor tissue that has been formalin-fixed and embedded in paraffin. In August 2000, we changed our name to Response Genetics, Inc.

Our Approach

Clinical studies have shown that not all cancer chemotherapy works effectively in every patient, and that a number of patients receive therapy that has no benefit to them and may potentially even be harmful. Our goal is to provide cancer patients and their physicians with a means to make informed, individualized treatment decisions based on genetic analysis of tumor tissues. We are focusing our efforts in the following areas:

· Continued commercialization of our ResponseDX® tests;

· Developing additional diagnostic tests for assessing the risk of cancer recurrence, prediction to therapy response and tumor classification in cancer patients; and

· Expanding our testing services business by pursuing new technologies through collaborations and in-licensing to expand our business.

Our technologies enable us to reliably and consistently extract the nucleic acids ribonucleic acid ("RNA") and deoxyribonucleic acid ("DNA") from tumor specimens that are stored as formalin-fixed and paraffin-embedded, specimens and thereby to analyze genetic information contained in these tissues. This is significant because the majority of patients diagnosed with cancer have a tumor biopsy sample stored in paraffin, while only a small percentage of patients' tumor specimens are frozen. Our technologies also enable us to use the formalin-fixed paraffin embedded ("FFPE") patient biopsies for the development of diagnostic tests.

ResponseDX®

The outcome of cancer therapy is highly variable due to genetic differences among patients. Some patients respond well with tumor shrinkage and increase in life span. Other patients do not obtain benefit from the same therapy and may actually experience toxic side effects, psychological trauma and delay in effective treatment.

At present, most cancer treatment regimens are administered without any pre-selection of patients on the basis of their particular genetics. However, recent development of very sensitive molecular technologies has enabled researchers to identify and measure genetic and biochemical factors in patients' tissues that may predict the probability of success or failure of many currently used anti-cancer agents. In order to increase the chances of a better outcome for cancer patients, we have and continue to expand our development of genetic tests for measuring predictive factors for tumor response in tumor tissue samples. We offer tests for non-small cell lung cancer ("NSCLC"), colorectal cancer ("CRC") and gastric and gastroesophageal cancer ("GE"), and melanoma cancer patients' tumor tissue specimens through our ResponseDX: Lung®, ResponseDX: Colon®, ResponseDX: Gastric® and ResponseDX: Melanoma® test suites at our laboratory located in Los Angeles, California, which is certified under the Clinical Laboratory Improvement Amendments of 1988 ("CLIA"). These tests serve to help oncologists make optimal therapeutic decisions for cancer patients. The results from our tests may help oncologists choose among therapies to treat their cancer patients. As of June 30, 2013, our sales team consisted of 16 members located in the West Coast, Midwest, and East Coast areas of the United States.

Diagnostic Tests for Other Cancers

In addition to ResponseDX: Lung®, ResponseDX: Colon®, ResponseDX: Gastric® and ResponseDX: Melanoma®, we intend to develop and commercialize tests for other types of cancer. We also are identifying genetic profiles of tumors that are more or less responsive to a particular therapy. Following the development of tests to determine the most active therapy regimen for the individual patient at risk, we intend to leverage our relationships in the healthcare industry to market, sell or license these tests as a means for physicians to determine the courses of cancer treatment.

Pursue Additional Collaborations and In-licensing to Expand Our Business

We intend to pursue additional collaborations with pharmaceutical companies or in-licensing of products or technologies that will enable us to accelerate the implementation of our plans to expand the services we provide to oncologists and pathologists. We expect to implement this plan by way of licensing of technology and know-how, investments in other companies, strategic collaborations, and other similar transactions. We expect these collaborations to provide us with early access to new technologies available for commercialization.

There are no assurances that we will be able to continue making our current ResponseDX® tests available, or make additional ResponseDX® tests available; or that we will be able to develop and commercialize tests of other types of cancer; or that we will be able to expand our testing service business through collaborations.

We anticipate that, over the next 12 months, a substantial portion of our capital resources and efforts will be focused on sales and marketing activities related to our ResponseDX® diagnostic tests, research and development to expand our series of diagnostic tests for cancer patients, and for other general corporate purposes.

Research and development expenses represented 17.2% and 11.5% of our total operating expenses for the three months ended June 30, 2012 and 2013, respectively, and 15.1% and 9.6% of our total operating expenses for the six months ended June 30, 2012 and 2013, respectively. Major components of the $699,791 and $447,686 in research and development expenses for the three months ended June 30, 2012 and 2013, respectively, and of the $1,269,746 and $744,886 in research and development expenses for the six months ended June 30, 2012 and 2013, respectively, included supplies and reagents for our research activities, personnel costs, occupancy costs, equipment warranties and service, patent fees, insurance, business consulting and sample procurement costs.

Critical Accounting Policies and Significant Judgments and Estimates

This discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles ("U.S. GAAP"). The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities and expenses and the disclosure of contingent assets and liabilities at the date of the financial statements, as well as revenues and expenses during the reporting periods. We evaluate our estimates and judgments on an ongoing basis. We base our estimates on historical experience and on various other factors we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results could therefore differ materially from those estimates under different assumptions or conditions. We believe the following critical accounting policies reflect our more significant estimates and assumptions used in the preparation of our financial statements.

Revenue Recognition

Pharmaceutical Revenue

Revenues that are derived from pharmacogenomic testing services provided to pharmaceutical companies are recognized on a contract specific basis pursuant to the terms of the related agreements. Revenue is recognized in accordance with ASC 605, Revenue Recognition, which requires that four basic criteria must be met before revenue can be recognized: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred and title and the risks and rewards of ownership have been transferred to the client or services have been rendered;
(3) the price is fixed or determinable; and (4) collectability is reasonably assured.

Revenues are recorded on an accrual basis as the contractual obligations are completed and as a set of assays is processed through the Company's laboratory under a specified contractual protocol and are recorded on the date the tests are completed. Certain contracts have minimum assay requirements that, if not met, result in payments that are due upon the completion of the designated period. In these cases, revenues are recognized when the end of the specified contract period is reached.

In March 2012, the Company entered into a non-exclusive license agreement with GlaxoSmithKline, LLC, which calls for payments to be made to the Company when certain events specified in the agreement occur, specifically GlaxoSmithKline, LLC submitting an application to use the license to the FDA, the FDA approving the application, and issuance of certain patent applications to the Company. The Company has no further obligations related to these events and therefore records the amount due into revenue at the time the event occurs. The Company incurs no additional cost related to these revenues at the time these events occur.

ResponseDX ® Revenue

Net revenue for the Company's diagnostic services is recognized on an accrual basis at the time discreet diagnostic tests are completed. Each test performed relates to a specimen encounter derived from a patient, and received by the Company on a specific date (such encounter is commonly referred to as an "accession"). The Company's services are billed to various payors, including Medicare, private health insurance companies, healthcare institutions, and patients. The Company reports net revenue from contracted payors, including certain private health insurance companies, and healthcare institutions based on the contracted rate, or in certain instances, the Company's estimate of the amount expected to be collected for the services provided. For billing to Medicare, the Company uses the published fee schedules, net of standard discounts (commonly referred to as "contractual allowances"). The Company reports net revenue from non-contracted payors, including certain private health insurance companies, based on the amount expected to be collected for the services provided. The Company analyzes historical payments from payors as a percentage of amounts billed by the Company to estimate expected collections for purposes of recording net revenue.

The Company has its Medicare provider number which allows it to invoice and collect from Medicare. Invoicing to Medicare is primarily based on amounts allowed by Medicare for the service provided as defined by Common Procedural Terminology ("CPT") codes. In January 2013, the initial 2013 annual Medicare fee schedule update was announced which included proposed changes to Medicare reimbursement rates that significantly reduced the reimbursement rates for certain of the testing services we provide. The Company is participating with other impacted organizations to provide guidance to the local Medicare Administrative Contractor ("MAC") that may result in adjustments to the proposed reimbursement rates to better reflect the value of the services being performed. As a result of this guidance, the local MAC updated certain pricing on or about April 3, 2013 which reflected an increase in many of the tests originally priced in January 2013. It is uncertain if continued guidance provided to Medicare and the local MAC by impacted organizations will result in additional fee increases during 2013. If, however, the current level of reduction in reimbursement rates is adopted as is, it may have a material adverse effect on the Company's operations.

As a result of these CPT code changes and Medicare price changes, we have experienced a departure from our normal reimbursement patterns with Medicare and other payors. Specifically, we have experienced delays in certain reimbursements for services and an increase in initial denials of claims for certain services provided. Accordingly, we re-evaluated the assumptions employed in our model for estimating revenue to be recognized for ResponseDX® testing. We view the code and price changes described above as affecting only the assumptions we used in pricing our services. The nature of the testing we provide, the evidence we gather to establish the creditworthiness of our payors and the delivery method of our services have not changed from prior periods, and there are no indicators that these assumptions require change.

We performed an analysis that considered our historical patterns of revenue by payor in conjunction with the fluctuations we experienced in the six months ended June 30, 2013 to arrive at the revenue recorded during 2013. We believe that the changes in CPT codes and pricing that are causing confusion and erratic payment experience in the payor community will take some time to resolve. The time needed for resolution will depend upon Medicare and the local MAC releasing additional pricing changes and potentially, revisions to previously revised prices, and upon the private payor community adopting the new CPT codes and some level of revised pricing. Accordingly, our revenue recognition estimates could be materially affected in future periods as pricing and payments patterns change and develop, and we may be materially affected by future or retroactive price changes.

On July 8, 2013, the Centers for Medicare and Medicaid Services ("CMS") released a new proposed rulemaking entitled "Medicare Program; Revisions to Payment Policies under the Physician Fee Schedule, Clinical Laboratory Fee Schedule & Other Revisions to Part B for CY 2014". This proposed rule contains a number of provisions that may adversely impact the level of reimbursement for a variety of tests for which the Company receives reimbursement from the Medicare program beginning in 2014. Among other things, CMS has proposed examining approximately 1,200 laboratory tests that appear on the Clinical Lab Fee Schedule (CLFS) over a period of five years to determine whether advances in technology may have reduced the cost of providing such tests and whether or not the level of reimbursement should be revised. The Company is currently performing molecular testing which is reimbursed using CPT codes that fall on the CLFS. CMS has also proposed changing the methodology used to determine reimbursement rates for the technical component of certain tests reimbursed off of the Physician Fee Schedule (PFS). Among other provisions, CMS has proposed limiting the Relative Value Units (RVUs) ascribed to the Practice Expense component of their reimbursement formula for tests performed in "Non-Facilities" (which would include most clinical laboratories like the Company's) to the RVUs that have been ascribed for the same procedures under the Hospital Outpatient Prospective Payment System, or the Ambulatory Payment Classification (APC) system which are used to reimburse "Facilities" (such as hospitals and ambulatory surgery centers). The Company currently performs FISH testing, which may be impacted by this PFS rule change if it is enacted. CMS has not yet proposed any specific rates for CY 2014 and the Company is examining the potential impact that this type of rule change may have on its operations. The final CLFS and PFS for CY 2014 are not expected to be issued until November 2013, and it is likely we will not know the rates for 2014 until that time. Although we are unable to quantify the impacts of the proposed rules at this time, if they are enacted without any changes, it will likely have a material adverse impact on the Company.

License Fees

We have licensed technology for the extraction of RNA and DNA from FFPE tumor specimens from the University of Southern California ("USC') in exchange for royalty fees on revenue generated by use of this technology. These royalties are calculated as a fixed percentage of revenue that we generate from use of the technology licensed from USC. Total license fees expensed in cost of revenue under the royalty agreement with USC were $75,938 and $86,908 for the three months ended June 30, 2012 and 2013, respectively, and were $132,440 and $191,014 for the six months ended June 30, 2012 and 2013, respectively. We also maintain a non-exclusive license to use Roche Molecular Systems, Inc.'s ("Roche") polymerase chain reaction ("PCR"), homogenous PCR, and reverse transcription PCR processes. We pay Roche a fixed percentage royalty fee for revenue that we generate through use of this technology. Royalties expensed in cost of revenue under this agreement totaled $80,418 and $84,362 for the three months ended June 30, 2012 and 2013, respectively, and were $143,887 and $174,507 for the six months ended June 30, 2012 and 2013, respectively.

We are subject to potentially significant variations in royalties recorded in any period. While the amount paid is based on a fixed percentage from revenues of specific tests pursuant to terms set forth in the agreements with USC and Roche, the amount due is calculated based on the revenue we recognize using the respective licensed technology. As discussed above, this revenue can vary from period to period as it is dependent on the timing of the specimens submitted by our clients for testing.

Accounts Receivable and Allowance for Doubtful Accounts

We invoice our pharmaceutical clients as specimens are processed and any other contractual obligations are met. Our contracts with pharmaceutical clients typically require payment within 45 days of the date of invoice. We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our clients to make required payments. We specifically analyze accounts receivable and historical bad debts, client credit, current economic trends and changes in client payment trends when evaluating the adequacy of the allowance for doubtful accounts. Account balances are charged-off against the allowance when it is probable the receivable will not be recovered. To date, our clients have primarily been large pharmaceutical companies. Bad debts to date have been minimal and there is no allowance for doubtful accounts for our pharmaceutical revenue at December 31, 2012 and June 30, 2013.

We bill Medicare and private payors ("Private Payors") for ResponseDX® upon completion of the required testing services. As such, we take assignment of benefits and the risk of collection with Medicare and Private Payors. We continue to monitor the collection history for Medicare and Private Payors. Based on the historical experience for our Medicare and Private Payor accounts, we have determined, based on a detailed analysis, that accounts receivable associated with certain billings are unlikely to be collected. Therefore, we have recorded an allowance for doubtful accounts of $991,990 and $903,961 as of December 31, 2012 and June 30, 2013, respectively.

An allowance for doubtful accounts is recorded for estimated uncollectible amounts due from the Company's various payor groups. The process for estimating the allowance for doubtful accounts involves significant assumptions and judgments. Specifically, the allowance for doubtful accounts is adjusted periodically, and is principally based upon an evaluation of historical collection experience of accounts receivable for the Company's various payor classes. After appropriate collection efforts, accounts receivable are written off and deducted from the allowance for doubtful accounts. Additions to the allowance for doubtful accounts are charged to bad debt expense. The payment realization cycle for certain governmental and managed care payors can be lengthy, involving denial, appeal, and adjudication processes, and is subject to periodic adjustments that may be significant.

We cannot guarantee that we will continue to experience the same credit loss rates that we have in the past. Measurement of such losses requires consideration of historical loss experience, including the need to adjust for current conditions, and judgments about the probable effects of relevant observable data, including present economic conditions such as delinquency rates and financial health of specific customers. We consider all available information in our assessments of the adequacy of the reserves for uncollectible accounts.

Income Taxes

We estimate our tax liability through calculations we perform for the determination of our current tax liability, together with assessing temporary differences resulting from the different treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are recorded in our balance sheets. Our management then assesses the likelihood that deferred tax assets will be recovered in future periods through future operating results. To the extent that we cannot conclude that it is more likely than not that the benefit of such assets will be realized, we establish a valuation allowance to adjust the net carrying value of such assets. The carrying value of our net deferred tax assets assumes that we will be able to generate sufficient future taxable income, based on management's estimates and assumptions. These estimates and assumptions take into consideration future taxable income and ongoing feasible tax strategies in determining recoverability of such assets. Our valuation allowance is subject to significant change based on management's estimates of future profitability and the ultimate realization of the deferred tax assets. The Company has established a full valuation allowance against its net deferred tax assets due to the uncertainty surrounding the realization of such assets.

Results of Operations

Quarters Ended June 30, 2013 and June 30, 2012

Revenues: Revenues were $5,313,914 for the quarter ended June 30, 2013, as compared to $3,835,006 for the quarter ended June 30, 2012, an increase of $1,478,908 or 38.6%. The increase was primarily due to increases in pharmaceutical revenues of $1,207,017 or 120.6% and ResponseDX® revenue of $271,891 or 9.6%. ResponseDX® revenue accounted for 58.5% of total revenue for the quarter ended June 30, 2013 compared to 73.9% for the quarter ended June 30, 2012. The increase in ResponseDX® revenues primarily relates to our continued focus on the restructuring of the sales team during 2013 offset by fluctuations in remittance rates from payors due to confusion in the payor community with respect to the new molecular testing CPT codes introduced in 2013. The increase in pharmaceutical revenues is primarily related to additional business with GSK and GSK Bio.

Cost of Revenue: Cost of revenue for the quarter ended June 30, 2013 was $2,707,966 as compared to $2,426,118 for the quarter ended June 30, 2012, an increase of $281,848 or 11.6%. This change resulted primarily from increases in lab supplies and reagent costs of $428,667 offset by a decrease in fees to Hitachi of $149,175. Cost of revenues as a percentage of revenues was 51.0% for the quarter ended June 30, 2013, as compared to 63.3% for the quarter ended June 30, 2012 primarily due to continued focus on creating cost efficiencies within our laboratory operations.

Sales and Marketing Expenses: Sales and marketing expenses were $1,321,760 for the quarter ended June 30, 2013, as compared to $1,495,321 for the quarter ended June 30, 2012, a decrease of $173,561 or 11.6%. The decrease primarily resulted from lower ResponseDX® promotional, meeting and advertising expenses of $105,463 and lower personnel costs of $47,576. We expect that sales and marketing costs will continue to increase sequentially as we expand our sales and marketing team and related activities.

General and Administrative Expenses: General and administrative expenses were $2,109,268 for the quarter ended June 30, 2013, as compared to $1,863,380 for the quarter ended June 30, 2012, an increase of $245,888 or 13.2%. The change . . .

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