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DCTH > SEC Filings for DCTH > Form 10-K on 18-Mar-2016All Recent SEC Filings

Show all filings for DELCATH SYSTEMS, INC.

Form 10-K for DELCATH SYSTEMS, INC.


18-Mar-2016

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.

Overview

Delcath Systems, Inc. is a late-stage clinical development company with early commercial activity in Europe focused on cancers of the liver. We are a specialty pharmaceutical and medical device company developing our proprietary product-Melphalan Hydrochloride for Injection for use with the Delcath Hepatic Delivery System (Melphalan/HDS). In Europe, our proprietary system to deliver and filter melphalan hydrochloride is marketed as a device under the trade name Delcath Hepatic CHEMOSAT® Delivery System for Melphalan (CHEMOSAT).

Our primary focus is on the execution of our clinical development program (CDP) in ocular melanoma liver metastases (mOM), intrahepatic cholangiocarcinoma
(ICC), hepatocellular carcinoma (HCC or primary liver), and certain other cancers that are metastatic to the liver. We believe the disease states we are investigating represent a multi-billion dollar global market opportunity and a clear unmet medical need.

Our clinical development program for CHEMOSAT/Melphalan/HDS is comprised of: The FOCUS Clinical Trial for Patients with Hepatic Dominant Ocular Melanoma, a Global Phase 3 clinical trial that is investigating overall survival in mOM, and a Global Phase 2 clinical trial program investigating Melphalan/HDS with and without sorafenib in HCC and Melphalan/HDS in ICC. Our CDP also includes a commercial registry for CHEMOSAT non-clinical commercial cases performed in Europe and sponsorship of select investigator initiated trials (IITs) in HCC and colorectal cancer liver metastases (mCRC).

The direction and focus of our CDP for CHEMOSAT/Melphalan/HDS is informed by prior clinical development conducted between 2004 and 2010, non-clinical, commercial CHEMOSAT cases performed on approximately150 patients in Europe, and prior regulatory experience with the FDA. Experience gained from this research, development, early European commercial and U.S. regulatory activity has led to the implementation of several safety improvements to our product and the associated medical procedure.

In the United States, Melphalan/HDS is considered a combination drug and device product, and is regulated as a drug by the FDA. The FDA has granted us six orphan drug designations, including three orphan designations for the use of the drug melphalan for the treatment of patients with mOM, HCC and ICC. Melphalan/HDS has not been approved for sale in the United States.

In Europe, the current version of our CHEMOSAT product is regulated as a Class IIb medical device and received its CE Mark in 2012. We are in an early phase of commercializing the CHEMOSAT system in select markets in the European Union where the prospect of securing adequate reimbursement for the procedure is strongest. In 2015 national reimbursement coverage for CHEMOSAT procedures was awarded in Germany, with coverage levels to be determined by German authorities in mid to late 2016. Currently there are few effective treatment options for certain cancers in the liver. Traditional treatment options include surgery, chemotherapy, liver transplant, radiation therapy, interventional radiology techniques, and isolated hepatic perfusion. We believe that CHEMOSAT/Melphalan/HDS represents a potentially important advancement in regional therapy for primary liver cancer and certain other cancers metastatic to the liver. We believe that CHEMOSAT/Melphalan/HDS is uniquely positioned to treat the entire liver either as a standalone therapy or as a complement to other therapies.


Our Ability to Continue as a Going Concern

Our independent registered public accounting firm has issued its report dated March 18, 2016 in connection with the audit of our financial statements as of December 31, 2015 that included an explanatory paragraph describing the existence of conditions that raise substantial doubt about our ability to continue as a going concern. Our financial statements as of December 31, 2015 have been prepared under the assumption that we will continue as a going concern. If we are not able to continue as a going concern, it is likely that holders of our common stock will lose all of their investment. Our financial statements do not include any adjustments that might result from the outcome of this uncertainty.

Liquidity and Capital Resources

The Company's future results are subject to substantial risks and uncertainties. Delcath has operated at a loss for its entire history and anticipates that losses will continue over the coming year. There can be no assurance that Delcath will ever generate significant revenues or achieve profitability. The Company expects to use cash, cash equivalents and investment proceeds to fund its operating activities. Delcath's future liquidity and capital requirements will depend on numerous factors, including the progress of clinical trials and research and product development programs, obtaining approvals and complying with regulations; the timing and effectiveness of product commercialization activities, including marketing arrangements; the timing and costs involved in preparing, filing, prosecuting, defending and enforcing intellectual property rights; and the effect of competing technological and market developments.

At December 31, 2015, the Company had cash and cash equivalents totaling $12.6 million, as compared to cash and cash equivalents totaling $20.5 million at December 31, 2014. During the year ended December 31, 2015, the Company used $16.4 million of cash for its operating activities, which compares to $15.6 million used for operating activities during the year ended December 31, 2014. The increase of $0.8 million is primarily driven by an increase in expenses related to our clinical trial initiatives which was offset by continued efforts to improve efficiency in the Company's organization and operations. The Company believes it has sufficient capital to fund its operating activities through the third quarter of 2016.

Our consolidated financial statements as of December 31, 2015 have been prepared under the assumption that we will continue as a going concern for the next twelve months. We expect to incur significant expenses and operating losses for the foreseeable future. These factors raise substantial doubt about our ability to continue as a going concern. Because Delcath's business does not generate positive cash flow from operating activities, the Company will need to obtain substantial additional capital in order to fund clinical trial research and support development efforts relating to Ocular Melanoma liver metastases, ICC, HCC or other indications, and to fully commercialize the product. The Company believes it will be able to raise additional capital in the event it is in its best interest to do so. The Company anticipates raising such additional capital by either borrowing money, selling shares of Delcath's capital stock, or entering into strategic alliances with appropriate partners. To the extent additional capital is not available when needed or on acceptable terms, the Company may be forced to abandon some or all of its development and commercialization efforts, which would have a material adverse effect on the prospects of our business. Further, the Company's assumptions relating to its cash requirements may differ materially from its actual requirements because of a number of factors, including significant unforeseen delays in the regulatory approval process, changes in the timing, scope, focus and direction of clinical trials and costs related to commercializing the product.

The Company has funded its operations through a combination of private placements of its securities, public offerings in 2000, 2003, 2009, 2010, 2011, 2012, 2013, and 2015, registered direct offerings in 2007, 2009 and 2013, and "at the market" equity offering programs initiated in 2012 and 2013. For a detailed discussion of the Company's various sales of securities and the "at the market" equity offering program see Note 10 to the Company's audited financial statements contained in this Annual Report on Form 10-K.

As of December 31, 2015, the Company had two active registration statements. Pursuant to SEC regulations, so long as the Company's public float remains below $75 million, we cannot sell securities from the shelf registration statement which represent more than one third of the market value of our non-affiliated public float during any 12-month period.

In March 2013, the Company filed a registration statement on Form S-3 with the SEC and also entered into a new sales agreement (the "March 2013 Sales Agreement") with Cowen and Company, LLC to sell shares of the Company's common stock, par value $.01 per share, having aggregate sales proceeds of $50.0 million, from time to time, through an "at the market" equity offering program under which Cowen and Company, LLC will act as sales agent. The registration statement became effective on May 1, 2013 (333-187230). As of December 31, 2015, Delcath had approximately $39.9 million available under this registration statement subject to market conditions and certain SEC limitations discussed above. The Company intends to use this for its "at the market" equity offering program.

In October 2015, the Company filed a registration statement on Form S-3 with the SEC, which was declared effective on October 20, 2015 and allows the Company to offer and sell, from time to time in one or more offerings, up to $77.4 million of common stock, preferred stock, warrants, debt securities and stock purchase contracts as it deems prudent or necessary to raise capital at a later date.


This registration statement replaces the shelf registration filed in October 2012. As of December 31, 2015, Delcath had approximately $77.4 million available under this registration statement subject to market conditions and certain SEC limitations discussed above.

The Company intends to use the net proceeds from any future offerings for general corporate purposes, including, but not limited to, funding clinical trials, obtaining regulatory approvals, commercialization of its products, capital expenditures and working capital.

On February 24, 2014, shareholders of the Company approved, through a shareholder vote, an amendment to the Company's Amended and Restated Certificate of Incorporation authorizing the Board of Directors to effect a reverse stock split of Delcath's common stock. The reverse stock split became effective on April 8, 2014 at which time Delcath's common stock began trading on the NASDAQ Stock Exchange on a one-for-sixteen (1:16) split-adjusted basis. All owners of record as of the close of the NASDAQ market on April 8, 2014 received one share of Delcath common stock in exchange for sixteen issued and outstanding shares of Delcath common stock. No fractional shares were issued in connection with the reverse stock split. All fractional shares created by the one-for-sixteen exchange were rounded up to the next whole share. The reverse stock split had no impact on the number of common shares authorized or the par value per share of Delcath common stock, which remain 170,000,000 and $0.01, respectively. All current and prior period amounts related to shares, share prices and earnings per share, presented in these Consolidated Financial Statements and the accompanying Notes have been restated to give retrospective presentation for the reverse stock split.

Contractual Obligations, Commercial Commitments and Off-Balance Sheet
Arrangements

The Company is obligated to make future payments under various operating lease
agreements. The following table provides a summary of significant contractual
obligations at December 31, 2015:



                                                             Payments Due by Period
                                                  Less than                                        More than
(in millions)                       Total          1 year         1-3 years       3-5 years         5 years
Operating Activities:
Future minimum lease payments,
net of receipts
  due under subleases             $      2.5     $       0.5     $       1.4     $       0.6     $           -

Our operating lease obligations at December 31, 2015 include: the annual rent for our office space at 1301 Avenue of the Americas, New York, New York, which will expire in May 2016; the annual rent under the lease for our office space at 810 Seventh Avenue, New York, New York, which will expire in March 2021 and of which a certain amount of expense has been offset by two sub-leases; the annual rent under the lease for a facility in Queensbury, New York, which will expire in October 2016; and the annual rent for our facility in Galway, Ireland, which will expire in August 2021 and of which a certain amount of expense has been offset by a sub-lease. See Part I, Item 2, "Properties" and Notes 8 and 12 to the Company's audited financial statements contained in this Annual Report on Form 10-K.

Future Capital Needs; Additional Future Funding

Our future results are subject to substantial risks and uncertainties. The Company has operated at a loss for its entire history and there can be no assurance that it will ever achieve consistent profitability. The Company believes that it has adequate resources to fund operations through the third quarter of 2016 and anticipates that additional working capital will be required to continue our operations. There can be no assurance that such working capital will be available on acceptable terms, if at all.

Results of Operations for the Year Ended December 31, 2015; Comparisons of Results of the Years Ended December 31, 2014 and 2013

Revenue

The Company recorded approximately $1.7 million in total revenue during the year ended December 31, 2015. During the same period in 2014, Delcath recorded $1.1 million in total revenue related to product sales. During the same period in 2013, Delcath recorded $0.8 million of which $0.3 million is related to the recognition of previously deferred revenue as a result of satisfying certain requirements of the Company's agreement with Chi-Fu Trading Co. Ltd. The remainder of the revenue is related to product sales. The year over year increases are a result of greater product sales each year as Delcath continues to see increased market acceptance of its product in the EU.

Cost of Goods Sold

During the year ended December 31, 2015, the Company recognized cost of goods sold of approximately $0.5 million related to product revenue of $1.7 million.


During the year ended December 31, 2014, the Company recognized cost of goods sold of approximately $0.3 million related to product revenue of $1.1 million.

During the year ended December 31, 2013, the Company recognized cost of goods sold of approximately $0.5 million related to product revenue of $0.5 million. Due to adjustments in the anticipated use of inventory, the Company recorded $0.3 million cost for expired, obsolete and slow-moving inventory during the year ended December 31, 2013.

The Company continues to expect a certain amount of volatility in both the average selling price and gross margin for the next several years. This volatility will be related to several factors, including: adjustments to volume forecasts; the gradual increase in cost of goods sold as the Company exhausts raw materials that were purchased and expensed in prior periods and begins to recognize the actual costs of materials, labor and overhead; and an improvement in efficiencies as the Company increases its production of CHEMOSAT.

Selling, General and Administrative Expenses

For the year ended December 31, 2015, selling, general and administrative expenses decreased to $10.0 million from $15.8 million for the year ended December 31, 2014. During 2014, the Company recorded approximately $2.0 million in workforce and lease restructuring expenses. The remaining decrease of $3.8 million is primarily attributable to the Company's successful efforts to increase organizational efficiencies as a result of the workforce restructurings as discussed in Note 8 to the Company's audited financial statements contained in this Annual Report on Form 10-K, as well as the completion of its evaluation of potential strategic options during the leadership transition period.

For the year ended December 31, 2014, selling, general and administrative expenses decreased to $15.8 million from $20.7 million for the year ended December 31, 2013. The decrease reflects a reduction in severance and compensation related expenses following the Company's significant workforce restructurings throughout 2013. As discussed further in Note 8 to the Company's audited financial statements contained in this Annual Report on Form 10-K, in 2014 the Company recognized $1.3 million in expenses related to vacating its 810 Seventh Avenue office space, offsetting a portion of the decrease in year over year expenses.

Research and Development Expenses

For the year ended December 31, 2015, research and development expenses increased to $6.5 million from $4.3 million for the year ended December 31, 2014. During 2015, the Company had an increase of approximately 2.6 million in expenses related to its clinical development initiatives. This increase was partially offset by savings related to efforts to increase organizational efficiencies through a phase out of the medical science liaison program and workforce restructurings discussed in Note 8.

For the year ended December 31, 2014, research and development expenses decreased to $4.3 million from $12.7 million for the year ended December 31, 2013. The decrease is primarily due to a significant reduction in regulatory and clinical expenses related to the Company's NDA submission to the FDA, as well as a reduction in severance and compensation related expenses following the Company's significant workforce restructurings throughout 2013.

Interest Income

Interest income is from a money market account and interest earned on operating accounts. For the year ended December 31, 2015, the Company had interest income of $8,617 as compared to interest income of $5,232 for the same period in 2014.

For the year ended December 31, 2014, the Company had interest income of $5,232 as compared to interest income of $19,777 for the same period in 2013.

Other Expense and Interest Expense

Other expense is primarily related to currency gains and losses. Interest expense is related to the commitment fee paid in 2012 upon entering into a Loan and Security Agreement with Silicon Valley Bank (SVB) and an ongoing Revolving Line Facility Fee as required by the agreement with SVB as discussed in Note 11 to the Company's audited financial statements contained in this Annual Report on Form 10-K.

Net Loss

The Company had a net loss for the year ended December 31, 2015 of $14.7 million, a decrease of $2.7 million, or 15.4%, compared to the net loss for the same period in 2014. This decrease is primarily due to a $3.6 million decrease in operating expenses and a $0.5


million improvement in gross profit, which was offset by a $1.4 million change in the fair value of the warrant liability, a non-cash item. As detailed above, the Company has reduced operating costs through workforce restructurings that began in 2013, lease restructurings in 2014, and continuing efforts to improve efficiency in the Company's organization and operations as discussed above.

The Company had a net loss for the year ended December 31, 2014 of $17.4 million, a decrease of $12.9 million, or 42.6%, compared to the net loss for the same period in 2013. This decrease is primarily due to a $13.3 million decrease in operating expenses. The decrease in operating expenses reflects a significant decrease in severance and compensation related expenses following the Company's workforce restructurings throughout 2013 as well as a reduction in costs related to the Company's NDA submission.

Application of Critical Accounting Policies

The Company's financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America (GAAP). Certain accounting policies have a significant impact on amounts reported in the financial statements. A summary of those significant accounting policies can be found in Note 3 to the Company's audited financial statements contained in this Annual Report on Form 10-K.

The Company considers the valuation allowance for the deferred tax assets to be a significant accounting estimate. In applying ASC 740 management estimates future taxable income from operations and tax planning strategies in determining if it is more likely than not that the Company will realize the benefits of its deferred tax assets. Management believes the Company does not have any uncertain tax positions.

The Company has adopted the provisions of ASC 718, which establishes accounting for equity instruments exchanged for employee services. Under the provisions of ASC 718, share-based compensation is measured at the grant date, based upon the fair value of the award, and is recognized as an expense over the option holders' requisite service period (generally the vesting period of the equity grant). The Company expenses its share-based compensation under the ratable method, which treats each vesting tranche as if it were an individual grant.

The Company has adopted the provisions of ASC 505-50, which establishes accounting for equity-based payments to non-employees. Measurement of compensation cost related to common shares issued to non-employees for services is based on the value of the services provided or the fair value of the shares issued. Each transaction is reviewed to determine the more reliably measurable basis for the valuation. The measurement of non-employee stock-based compensation is subject to periodic adjustment as the underlying equity instrument vests. Non-employee stock-based compensation charges are amortized over the vesting period or period of performance of the services.

The Company has adopted the provisions of ASC 820, which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements.

ASC 820 emphasizes that fair value is a market-based measurement, not an entity-specific measurement. Therefore, a fair value measurement should be determined based on the assumptions that market participants would use in pricing the asset or liability. As a basis for considering market participant assumptions in fair value measurements, ASC 820 establishes a fair value hierarchy that distinguishes between market participant assumptions based on market data obtained from sources independent of the reporting entity
(observable inputs that are classified within Levels 1 and 2 of the hierarchy)
and the reporting entity's own assumptions about market participant assumptions (unobservable inputs classified within Level 3 of the hierarchy).

Level 1 inputs utilize quoted prices (unadjusted) in active markets for identical assets or liabilities that the Company has the ability to access. Level 2 inputs are inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs may include quoted prices for similar assets and liabilities in active markets, as well as inputs that are observable for the asset or liability (other than quoted prices), such as interest rates, foreign exchange rates, and yield curves that are observable at commonly quoted intervals. Level 3 inputs are unobservable inputs for the asset or liability which are typically based on an entity's own assumptions, as there is little, if any, related market activity. In instances where the determination of the fair value measurement is based on inputs from different levels of the fair value hierarchy, the level in the fair value hierarchy within which the entire fair value measurement falls is based on the lowest level input that is significant to the fair value measurement in its entirety. The Company's assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability. See Note 9 to the Company's audited financial statements contained in this Annual Report on Form 10-K for assets and liabilities the Company has evaluated under ASC 820.

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