The accompanying notes are an integral part
of these condensed consolidated financial statements.
The accompanying notes are an integral part
of these condensed consolidated financial statements
The accompanying notes are an integral part
of these condensed consolidated financial statements
The accompanying notes are integral part
of these condensed consolidated financial statements.
Notes to Condensed Consolidated Financial
Statements (unaudited)
Three Months and Six Months Ended June
30, 2016 and 2015
1. Organization and Business Operations
Second Sight Medical
Products, Inc. (“Second Sight” or “the Company”), formerly Second Sight LLC, was founded in 1998 as a limited
liability company and was subsequently incorporated in the State of California in 2003. Second Sight develops, manufactures and
markets implantable prosthetic devices that can restore some functional vision to patients blinded by outer retinal degenerations,
such as Retinitis Pigmentosa.
In 2007, Second Sight
formed Second Sight (Switzerland) Sarl, initially to manage clinical trials for its products in Europe, and later to manage sales
and marketing in Europe and the Middle East. As the laws of Switzerland require at least two corporate stockholders, Second Sight
(Switzerland) Sarl is 99.5% owned directly by the Company and 0.5% owned by an executive of Second Sight, who is acting as a nominee
of the Company. Accordingly, Second Sight (Switzerland) Sarl is considered 100% owned for financial statement purposes and is consolidated
with Second Sight for all periods presented.
Since its inception,
the Company has generated limited revenues from the sale of products and has financed its operations primarily through the issuance
of common stock, convertible debt (which has been converted into common stock), and grants primarily from government agencies.
The Company’s
financial statements have been presented on the basis that its business is a going concern, which contemplates the realization
of assets and the satisfaction of liabilities in the normal course of business. The Company is subject to the risks and uncertainties
associated with a business with one product line and limited commercial product revenues, including limitations on the Company’s
operating capital resources and uncertain demand for its products. The Company has incurred recurring operating losses and negative
operating cash flows since inception, and it expects to continue to incur operating losses and negative operating cash flows for
at least the next few years. The Company’s independent registered public accounting firm, in its report on the Company’s
2015 consolidated financial statements, raised substantial doubt about the Company’s ability to continue as a going concern.
As a result of the rights offering in June 2016, as described below, management believes it has sufficient resources to fund the
operations for at least the next twelve months.
In June 2016, the
Company successfully completed a Rights Offering to existing stockholders, raising proceeds of $19.5 million net of cash offering
costs, and selling 5,978,465 shares of common stock at $3.315 per share, representing 85% of the Company’s stock price at
the close of the rights offering. The Company evaluated the financial impact of FASB ASC 260, “Earnings per Share,”
which states, among other things, that if a rights issue is offered to all existing stockholders at an exercise price that is less
than the fair value of the stock, then the weighted average shares outstanding and basic and diluted earnings per share shall be
adjusted retroactively to reflect the bonus element of the rights offering for all periods presented. The Company determined that
the application of this specific provision of ASC 260 was immaterial to previously issued financial statements and, therefore,
did not retroactively adjust previously reported weighted average shares outstanding and basic and diluted earnings per share.
2. Basis of Presentation,
Significant Accounting Policies and Recent Accounting Pronouncements
Basis of Presentation
The accompanying unaudited
condensed consolidated financial statements have been prepared in accordance with the rules and regulations of the Securities and
Exchange Commission for Form 10-Q. Accordingly, certain information and footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and
regulations. The condensed consolidated balance sheet at December 31, 2015 has been derived from the Company’s audited consolidated
financial statements.
In the opinion of
management, these financial statements reflect all normal recurring and other adjustments necessary for a fair presentation. These
consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in
the Company’s Annual Report on Form 10-K for the year ended December 31, 2015. Operating results for interim periods are
not necessarily indicative of operating results for an entire fiscal year or any other future periods.
Significant Accounting
Policies
The Company’s
significant accounting policies are set forth in Note 2 of the financial statements in its Annual Report on Form 10-K for the year
ended December 31, 2015.
Recent Accounting
Pronouncements
In June 2016 the FASB
issued ASU 2016-13,
Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments
,
which requires measurement and recognition of expected versus incurred credit losses for financial assets held. ASU 2016-13 is
effective for the Company in the first quarter of fiscal 2020 with early adoption permitted beginning in the first quarter of fiscal
2019. The Company is currently evaluating the impact the adoption of this standard will have on our consolidated financial statements.
In March 2016, the
FASB issued ASU 2016-09, Improvements to Employee Share-Based Payment Accounting (Topic 718), a new standard that changes the accounting
for certain aspects of share-based payments to employees. The new guidance requires excess tax benefits and tax deficiencies to
be recorded in the income statement when the awards vest or are settled. In addition, cash flows related to excess tax benefits
will no longer be separately classified as a financing activity apart from other income tax cash flows. The standard also allows
the Company to repurchase more of an employee’s shares for tax withholding purposes without triggering liability accounting,
clarifies that all cash payments made on an employee’s behalf for withheld shares should be presented as a financing activity
on the cash flow statement, and provides an accounting policy election to account for forfeitures as they occur. The new standard
is effective for the annual periods beginning after December 15, 2016, and interim periods within those annual periods with early
adoption permitted. The Company is currently evaluating the impact of the standard on the Company’s financial statements.
Management does not
believe that any recently issued, but not yet effective, accounting standards, if adopted, will have a material effect on the financial
statements.
3. Concentration of Risk
Credit Risk
Financial instruments
that subject the Company to concentrations of credit risk consist primarily of cash, money market funds, and trade accounts receivable.
The Company maintains cash and money market funds with financial institutions that management deems reputable, and at times, cash
balances may be in excess of Federal Deposit Insurance Corporation and Securities Investor Protection Corporation insurance limits.
The Company extends differing levels of credit to customers, and typically does not require collateral.
The Company also maintains
a cash balance at a bank in Switzerland, which is insured up to an amount specified by the deposit insurance agency of Switzerland.
Customer Concentration
During the three and
six months ended June 30, 2016 and 2015 (unaudited), the following customers comprised more than 10% of revenues
:
|
|
Three Months
Ended
June 30, 2016
|
|
|
Three Months
Ended
June 30, 2015
|
|
|
Six Months
Ended
June 30, 2016
|
|
|
Six Months
Ended
June 30, 2015
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Customer 1
|
|
|
17
|
%
|
|
|
3
|
%
|
|
|
9
|
%
|
|
|
7
|
%
|
Customer 2
|
|
|
13
|
%
|
|
|
14
|
%
|
|
|
18
|
%
|
|
|
18
|
%
|
Customer 3
|
|
|
13
|
%
|
|
|
0
|
%
|
|
|
6
|
%
|
|
|
2
|
%
|
Customer 4
|
|
|
13
|
%
|
|
|
0
|
%
|
|
|
6
|
%
|
|
|
0
|
%
|
Customer 5
|
|
|
9
|
%
|
|
|
16
|
%
|
|
|
4
|
%
|
|
|
12
|
%
|
Customer 6
|
|
|
9
|
%
|
|
|
14
|
%
|
|
|
4
|
%
|
|
|
8
|
%
|
Customer 7
|
|
|
9
|
%
|
|
|
1
|
%
|
|
|
16
|
%
|
|
|
1
|
%
|
Customer 8
|
|
|
0
|
%
|
|
|
10
|
%
|
|
|
0
|
%
|
|
|
7
|
%
|
As of June 30, 2016
and December 31, 2015, the following customers comprised more than 10% of accounts receivable:
|
|
June 30,
|
|
|
December31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(unaudited)
|
|
|
|
|
Customer 1
|
|
|
45
|
%
|
|
|
17
|
%
|
Customer 2
|
|
|
14
|
%
|
|
|
0
|
%
|
Customer 3
|
|
|
13
|
%
|
|
|
19
|
%
|
Customer 4
|
|
|
13
|
%
|
|
|
2
|
%
|
Customer 5
|
|
|
10
|
%
|
|
|
3
|
%
|
Customer 6
|
|
|
2
|
%
|
|
|
10
|
%
|
Customer 7
|
|
|
0
|
%
|
|
|
10
|
%
|
Customer 8
|
|
|
0
|
%
|
|
|
10
|
%
|
Geographic Concentration
During the three and
six months ended June 30, 2016 and 2015 (unaudited), regional revenue, based on customer location, consisted of the following:
|
|
Three Months
Ended
June 30, 2016
|
|
|
Three Months
Ended
June 30, 2015
|
|
|
Six Months
Ended
June 30, 2016
|
|
|
Six Months
Ended
June 30, 2015
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
United States
|
|
|
56
|
%
|
|
|
54
|
%
|
|
|
45
|
%
|
|
|
40
|
%
|
Italy
|
|
|
29
|
%
|
|
|
17
|
%
|
|
|
27
|
%
|
|
|
25
|
%
|
France
|
|
|
8
|
%
|
|
|
15
|
%
|
|
|
8
|
%
|
|
|
21
|
%
|
Saudi Arabia
|
|
|
6
|
%
|
|
|
0
|
%
|
|
|
3
|
%
|
|
|
0
|
%
|
Netherland
|
|
|
0
|
%
|
|
|
5
|
%
|
|
|
0
|
%
|
|
|
3
|
%
|
Turkey
|
|
|
0
|
%
|
|
|
3
|
%
|
|
|
8
|
%
|
|
|
2
|
%
|
Germany
|
|
|
0
|
%
|
|
|
3
|
%
|
|
|
4
|
%
|
|
|
5
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sources of Supply
Several of the components,
materials and services used in the Company’s current Argus II product are available from only one supplier, and substitutes
for these items cannot be obtained easily or would require substantial design or manufacturing modifications. Any significant problem
experienced by one of the Company’s sole source suppliers could result in a delay or interruption in the supply of components
to the Company until that supplier cures the problem or an alternative source of the component is located and qualified. Even where
the Company could qualify alternative suppliers, the substitution of suppliers may be at a higher cost and create time delays that
impede the commercial production of the Argus II and impact the Company’s abilities to deliver its products as may be timely
required to meet demand.
Foreign Operations
The accompanying condensed
consolidated financial statements as of June 30, 2016 (unaudited) and December 31, 2015 include assets amounting to $2,372,000
and $3,041,000, respectively, relating to operations of the company’s subsidiary based in Switzerland. It is possible that
unanticipated events in foreign countries could disrupt the Company’s operations.
4. Money Market Funds
The authoritative
guidance with respect to fair value establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used
to measure fair value into three levels, and requires that assets and liabilities carried at fair value be classified and disclosed
in one of three categories, as presented below. Disclosure as to transfers in and out of Levels 1 and 2, and activity in Level
3 fair value measurements, is also required.
Level 1. Observable
inputs such as quoted prices in active markets for an identical asset or liability that the Company has the ability to access as
of the measurement date. Financial assets and liabilities utilizing Level 1 inputs include active-exchange traded securities and
exchange-based derivatives.
Level 2. Inputs, other
than quoted prices included within Level 1, which are directly observable for the asset or liability or indirectly observable through
corroboration with observable market data. Financial assets and liabilities utilizing Level 2 inputs include fixed income securities,
non-exchange based derivatives, mutual funds, and fair-value hedges.
Level 3. Unobservable
inputs in which there is little or no market data for the asset or liability which requires the reporting entity to develop its
own assumptions. Financial assets and liabilities utilizing Level 3 inputs include infrequently-traded non-exchange-based derivatives
and commingled investment funds, and are measured using present value pricing models.
Money market funds
are the only financial instrument measured and recorded at fair value on the Company’s balance sheet, and they are considered
Level 1 valuation securities. The following table presents money market funds at their level within the fair value hierarchy at
June 30, 2016 and December 31, 2015 (in thousands):
|
|
Total
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2016 (unaudited):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Money market funds
|
|
$
|
23,691
|
|
|
$
|
23,691
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2015:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Money market funds
|
|
$
|
15,721
|
|
|
$
|
15,721
|
|
|
$
|
—
|
|
|
$
|
—
|
|
5. Selected Balance Sheet Detail
Inventories, net
Inventories consisted
of the following at (in thousands):
|
|
June 30,
|
|
|
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(unaudited)
|
|
|
|
|
Raw materials
|
|
$
|
524
|
|
|
$
|
575
|
|
Work in process
|
|
|
5,640
|
|
|
|
5,028
|
|
Finished goods
|
|
|
3,238
|
|
|
|
3,156
|
|
|
|
|
|
|
|
|
|
|
|
|
|
9,402
|
|
|
|
8,759
|
|
|
|
|
|
|
|
|
|
|
Allowance for excess and obsolescence
|
|
|
(2,035
|
)
|
|
|
(550
|
)
|
Inventories, net
|
|
$
|
7,367
|
|
|
$
|
8,209
|
|
Property and equipment, net of accumulated
depreciation and amortization
Property and equipment
consisted of the following at (in thousands):
|
|
June 30,
|
|
|
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(unaudited)
|
|
|
|
|
Laboratory equipment
|
|
$
|
3,526
|
|
|
$
|
3,369
|
|
Computer hardware and software
|
|
|
2,098
|
|
|
|
1,960
|
|
Leasehold improvements
|
|
|
508
|
|
|
|
508
|
|
Furniture, fixtures and equipment
|
|
|
135
|
|
|
|
135
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6,267
|
|
|
|
5,972
|
|
Accumulated depreciation and amortization
|
|
|
(4,742
|
)
|
|
|
(4,540
|
)
|
|
|
|
|
|
|
|
|
|
Property and equipment, net
|
|
$
|
1,525
|
|
|
$
|
1,432
|
|
6. Long Term Investor Right
Investors who purchased
shares in the Company’s IPO, and who complied with certain terms and conditions, such as holding their IPO shares in their
name during the twenty-four month period following the closing of the IPO, are entitled under certain conditions to receive up
to one additional share for each share they purchased in the IPO. For a more complete discussion of the Long Term Investor Right,
see Note 2 in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015.
As of June 30, 2016,
the Company identified investors who had perfected and maintained Long Term Investor Rights in 1,185,177 shares of common stock
that were acquired as part of the Company’s IPO. The highest average closing price for the Company’s common stock on
NASDAQ during any consecutive 90 day period ended on or before June 30, 2016 was $13.96. Based on this average closing stock price,
an investor who purchased shares as part of the IPO, and who has perfected its Long Term Investor Right, would be entitled to 0.2894
shares for each share purchased in the IPO, rounded up to the next whole share, which represents an aggregate maximum of 343,031
shares that are potentially issuable by the Company pursuant to the Long Term Investor Right at such date. The actual number of
common shares issuable pursuant to the Long Term Investor Right is dependent on the future stock price of the Company over the
two year period subsequent to the November 24, 2014 closing date of the IPO, and could be as high as 343,031 shares and as low
as zero shares.
The Long Term Investor
Right is an equity instrument that will be accounted for as a component of the actual price per common share paid by the investor
in the IPO. For basic earnings per share, the common shares associated with the Long Term Investor Right are treated as contingently
issuable shares and are not being included in basic earnings per share until the actual number of shares can be calculated and
the shares have been issued.
7. Equity Securities
Common Stock Issuable
Beginning with services
rendered in 2014, and with payments in June 2015 and 2016, non-employee members of the Board of Directors are paid for their services
in common stock on June 1 of each year based on the average closing prices for the immediately preceding twenty trading days. As
of June, 30, 2016, the Company accrued $22,000 for these services, which equates to 5,802 shares. These shares have not yet been
issued and are excluded from the calculation of weighted average common shares outstanding for EPS purposes.
Potentially Dilutive
Common Stock Equivalents
At June 30, 2016 and
2015 (unaudited), the Company excluded the outstanding securities summarized below, which entitle the holders thereof to ultimately
acquire shares of common stock, from its calculations of earnings per share and weighted average shares outstanding, as their effect
would have been anti-dilutive (in thousands).
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
Long Term Investor Rights
|
|
|
343
|
|
|
|
497
|
|
Underwriter’s warrants
|
|
|
802
|
|
|
|
805
|
|
Warrants associated with convertible debt
|
|
|
1,038
|
|
|
|
1,043
|
|
Common stock options
|
|
|
3,588
|
|
|
|
3,073
|
|
Restricted stock units
|
|
|
190
|
|
|
|
—
|
|
Employee stock purchase plan
|
|
|
121
|
|
|
|
26
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
6,082
|
|
|
|
5,444
|
|
8. Warrants
A summary of warrant activity for the six
months ended June 30, 2016 (unaudited) is presented below (in thousands, except per share and contractual life data).
|
|
|
|
|
|
|
|
Weighted Average
|
|
|
|
|
|
|
Weighted
|
|
|
Remaining
|
|
|
|
Number of
|
|
|
Average
|
|
|
Contractual
|
|
|
|
Shares
|
|
|
Exercise Price
|
|
|
Life (in Years)
|
|
Warrants outstanding at December 31, 2015
|
|
|
1,840
|
|
|
$
|
7.72
|
|
|
|
2.80
|
|
Granted
|
|
|
—
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
—
|
|
|
|
|
|
|
|
|
|
Forfeited or expired
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Warrants outstanding at June 30, 2016
|
|
|
1,840
|
|
|
$
|
7.72
|
|
|
|
2.31
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Warrants exercisable at June 30, 2016
|
|
|
1,840
|
|
|
$
|
7.72
|
|
|
|
2.31
|
|
The intrinsic value
of warrants outstanding at June 30, 2016 was $0. During the six months ended June 30, 2016, no warrants were exercised.
9. Stock-Based Compensation
Under the 2003 Plan,
as restated in June 2011, the Company was authorized to issue options covering up to 3,500,000 common stock shares. Effective June
1, 2011, the Company adopted the 2011 Equity Incentive Plan (the “2011 Plan”). The maximum number of shares with respect
to which options may be granted under the 2011 Plan is 7,500,000 shares, which is offset and reduced by options previously granted
under the 2003 Plan. The option price is determined by the Board of Directors but cannot be less than the fair value of the shares
at the grant date. Generally, the options vest ratably over either four or five years and expire ten years from the grant date.
Both plans provide for accelerated vesting if there is a change of control, as defined in the plans.
A summary of stock
option activity for the six months ended June 30, 2016 (unaudited) is presented below (in thousands, except per share and contractual
life data).
|
|
|
|
|
|
|
|
Weighted Average
|
|
|
|
|
|
|
Weighted
|
|
|
Remaining
|
|
|
|
Number of
|
|
|
Average
|
|
|
Contractual
|
|
|
|
Shares
|
|
|
Exercise Price
|
|
|
Life (in Years)
|
|
Options outstanding at December 31, 2015
|
|
|
3,472
|
|
|
$
|
8.01
|
|
|
|
6.39
|
|
Granted
|
|
|
526
|
|
|
$
|
4.48
|
|
|
|
|
|
Exercised
|
|
|
(96
|
)
|
|
$
|
5.00
|
|
|
|
|
|
Forfeited or expired
|
|
|
(314
|
)
|
|
$
|
9.79
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options outstanding at June 30, 2016
|
|
|
3,588
|
|
|
$
|
7.41
|
|
|
|
6.63
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options exercisable at June 30, 2016
|
|
|
1,603
|
|
|
$
|
5.84
|
|
|
|
3.91
|
|
The estimated aggregate
intrinsic value of stock options exercisable at June 30, 2016 was $0. As of June 30, 2016, there was $7.6 million of total unrecognized
compensation cost related to outstanding stock options that will be recognized over a weighted average period of 2.94 years.
On January 1, 2015,
the Company’s current Chairman, who at the time was the Chief Executive Officer, exercised stock options on a cashless basis
to purchase 59,063 shares of common stock at an exercise price of $4.75 per share. Based on the closing market price of the Company’s
common stock of $10.26 on December 31, 2014, the Chief Executive Officer tendered 27,344 shares of common stock that he owned to
satisfy the aggregate exercise price and surrendered 12,055 shares of common stock to satisfy the related $123,684 income and payroll
tax withholding amounts related to the transaction.
During the six months
ended June 30, 2016, the Company granted stock options to purchase 495,973 shares of common stock to certain employees. The options
are exercisable for a period of ten years from the date of grant at prices ranging from $4.10 to $5.16 per share, which was the
fair value of the Company’s common stock on the respective grant dates. The options vest over a period of four years. The
fair value of these options, as calculated pursuant to the Black-Scholes option-pricing model, was determined to be $1,058,000
($1.98 to $2.47 per share). Assumptions used in the model were an expected term of 6.25 years, volatility of 48.2%, a risk-free
interest rate of 1.52% to 1.87%, and an expected dividend rate of 0%. During the six months ended June 30, 2016, the Company
issued 95,493 shares of common stock through exercise of stock options that resulted in net proceeds of $479,000.
During the six months
ended June 30, 2016 the Company granted stock options to purchase 30,000 shares of common stock to an outside attorney in connection
with his services relating to the Company’s rights offering to stockholders. The options are exercisable for a period of
four years from the date of grant at a price of $5.23 per share, which was 125% of the fair value of the Company’s common
stock on the grant date of January 14, 2016. As of June 30, 2016, all of the options have vested. The fair value of these options,
as calculated pursuant to the Black-Scholes option-pricing model, was determined to be $53,000 ($1.77 per share). Assumptions used
in the model were an expected term of 6.25 years, volatility of 48.2%, a risk-free interest rate of 1.87%, and an expected dividend
rate of 0%. The cost of these shares was treated as an issuance cost of the offering and was deducted from the gross
proceeds from the offering.
During the first quarter
of 2016, the Company recorded a charge of $55,000 to extend the exercise period of 98,681 vested options for one employee who resigned
and became a consultant for the Company. All unvested options for this employee were terminated when this employee ceased full-time
employment with the Company.
On May 10, 2016, the
stockholders approved amendments to the Company’s 2011 Equity Incentive Plan that (i) increase the maximum number of shares
of common stock that may be issued under the Plan from 6.0 million shares to 7.5 million shares, (ii) allow issuance of Restricted
Stock Units, and (iii) permit repricing and exchanges of options at the discretion of the Board of Directors.
The Company adopted
an employee stock purchase plan (“ESPP”) in June 2015 for all eligible employees. Under the ESPP, shares of the Company's
common stock may be purchased at six-month intervals at 85% of the lower of the closing fair market value of the common stock (i)
on the first trading day of the offering period or (ii) on the last trading day of the purchase period. An employee may purchase
in any one calendar year shares of common stock having an aggregate fair market value of up to $25,000 determined as of the first
trading day of the offering period. Additionally, a participating employee may not purchase more than 100,000 shares of common
stock in any one offering period. At June 30, 2016, 154,225 shares had been issued under the plan. Proceeds from the purchase of
stock under the plan totaled $337,000 for the six months ended June 30, 2016.
The following table
summarizes Restricted Stock Unit (RSU) activity for the six months ended June 30, 2016 (in thousands, except per share data):
|
|
Number
of Awards
|
|
|
Weighted
Average Grant
Date Fair Value
Per Share
|
|
|
|
|
|
|
|
|
Outstanding as of December 31, 2015
|
|
|
190
|
|
|
$
|
12.43
|
|
Awarded
|
|
|
-
|
|
|
|
-
|
|
Vested
|
|
|
-
|
|
|
|
-
|
|
Forfeited/canceled
|
|
|
-
|
|
|
|
-
|
|
Outstanding as of June 30, 2016
|
|
|
190
|
|
|
$
|
12.43
|
|
As of June 30, 2016,
there was $1,848,000 of total unrecognized compensation cost related to the outstanding RSUs that will be recognized over a weighted
average period of 3.13 years.
The total stock-based
compensation recognized for stock-based awards granted under the 2003 Plan and the 2011 Plan in the condensed consolidated statements
of operations for the three and six months ended June 30, 2016 and 2015 (unaudited) is as follows (in thousands):
|
|
Three Months
Ended
June 30, 2016
|
|
|
Three Months
Ended
June 30, 2015
|
|
|
Six Months
Ended
June 30, 2016
|
|
|
Six Months
Ended
June 30, 2015
|
|
Cost of sales
|
|
$
|
87
|
|
|
$
|
62
|
|
|
$
|
165
|
|
|
$
|
162
|
|
Research and development
|
|
|
83
|
|
|
|
38
|
|
|
|
160
|
|
|
|
118
|
|
Clinical and regulatory
|
|
|
45
|
|
|
|
52
|
|
|
|
93
|
|
|
|
121
|
|
Selling and marketing
|
|
|
(124
|
)
|
|
|
96
|
|
|
|
(15
|
)
|
|
|
185
|
|
General and administrative
|
|
|
645
|
|
|
|
316
|
|
|
|
1,279
|
|
|
|
475
|
|
Total
|
|
$
|
736
|
|
|
$
|
564
|
|
|
$
|
1,682
|
|
|
$
|
1,061
|
|
10. Litigation, Claims
and Assessments
Fourteen oppositions
have been filed by a third-party in the European Patent Office, each challenging the validity of a European patent owned or exclusively
licensed by the Company. The outcome of the challenges is not certain, however, if successful, they may affect the Company's ability
to block competitors from utilizing some of its patented technology in Europe. Management of the Company does not believe a successful
challenge will have a material effect on its ability to manufacture and sell its products, or otherwise have a material effect
on its operations.
The Company is party
to litigation arising in the ordinary course of business. It is management's opinion that the outcome of such matters will not
have a material effect on the Company's financial statements.
|
Item 2.
|
Management’s Discussion and Analysis of Financial
Condition and Results of Operations
|
The
following discussion and analysis of our financial condition and results of operations should be read in conjunction with the
unaudited condensed financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q as well
as our audited 2015 financial statements and related notes included in our Annual Report on Form 10-K, which was filed with
the Securities and Exchange Commission on March 11, 2016 and as amended in a filing with the Commission on August 8, 2016. In
addition to historical information, the discussion and analysis here and throughout this Form 10-Q contains forward-looking
statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those anticipated
in these forward-looking statements as a result of certain factors, including, but not limited, to those set forth under
“Risk Factors” in Part II, Item 1A of this report.
Second Sight was founded
in 1998 with a mission to develop, manufacture, and market prosthetic devices that restore some useful vision to blind individuals.
Our principal offices are located in Sylmar, California, approximately 25 miles northwest of downtown Los Angeles. We also have
an office in Lausanne, Switzerland, that manages our commercial and clinical operations in Europe and the Middle East.
Our current product,
the Argus
®
II System, treats outer retinal degenerations, such as retinitis pigmentosa, which we refer to as RP.
RP is a hereditary disease, affecting an estimated 1.5 million people worldwide including about 100,000 people in the United States,
that causes a progressive degeneration of the light-sensitive cells of the retina, leading to significant visual impairment and
ultimately blindness. The Argus II System is the only retinal prosthesis approved in the United States by the Food and Drug Administration
(FDA), and was the first approved retinal prosthesis in the world. By restoring some useful vision in patients who otherwise have
total sight loss, the Argus II System can provide benefits which include:
|
·
|
improving patients’ orientation and mobility, such as locating doors and windows, avoiding obstacles, and following the
lines of a crosswalk,
|
|
·
|
allowing patients to feel more connected with people in their surroundings, such as seeing when someone is approaching or moving
away,
|
|
·
|
providing patients with enjoyment from being “visual” again, such as locating the moon, tracking groups of
players as they move around a field, and watching the moving streams of lights from fireworks, and
|
|
·
|
improving patients’ well-being and ability to perform activities of daily living.
|
The Argus II System
provides an artificial form of vision that differs from the vision of people with normal sight. It does not restore normal vision
and it does not slow or reverse the progression of the disease. Results vary among patients and while the majority of patients
receive a significant benefit from the Argus II, some patients report receiving little or no benefit.
Our major corporate,
clinical and regulatory milestones include:
|
·
|
In 1998, Second Sight was founded.
|
|
·
|
In 2002, we commenced clinical trials in the US for our prototype product, the Argus I retinal prosthesis.
|
|
·
|
In 2007, we commenced clinical trials in the US for the Argus II System, which later became our first commercial product.
|
|
·
|
In 2011, we received marketing approval in Europe (CE Mark) for the Argus II System.
|
|
·
|
In 2013, we received marketing approval in the United States (FDA) for the Argus II System.
|
|
·
|
In 2014, we launched the Argus II in the US, completed our initial public offering (“IPO”), and began trading on
NASDAQ under the symbol “EYES.”
|
|
·
|
In 2015, we commenced a clinical trial in the UK for an expanded indication for the Argus II System in individuals with dry
AMD.
|
We began selling the
Argus II System in Europe at the end of 2011, Saudi Arabia in 2012, the United States and Canada in 2014, and Turkey in 2015. We
have full regulatory approval to sell in these regions. We sell primarily through our direct sales force, but use distributors
in Spain and Turkey. We recently signed distribution agreements in Argentina, Iran and Taiwan. We are at various stages of discussions
with a number of other distributors for other countries outside of the U.S.
Going Concern
From inception, our operations have been
funded primarily through the sales of our common stock, as well as from the issuance of convertible debt, research and clinical
grants, and product revenue generated by the sale of our Argus II System. During the years ended December 31, 2015 and 2014 and
the six months ended June 30, 2016, we funded our business primarily through:
|
·
|
Revenue of $2.1 million in the first six months of 2016, and $8.9 million and $3.4 million in 2015
and 2014, respectively, generated by sales of our Argus II System,
|
|
·
|
A $4.1 million grant under Joint Research and Development Agreement with The Johns Hopkins University
Applied Physics Laboratory in 2014,
|
|
·
|
Issuance of common stock in private placements aggregating $9.1 million in 2014,
|
|
·
|
Issuance of common stock in our initial public offering in November 2014, which generated net proceeds
of $34.2 million of cash after offering expenses.
|
|
·
|
Issuance of common stock in our Rights Offering in June 2016, which generated net proceeds of $19.5
million of cash after offering expenses.
|
Our financial statements have been presented
on the basis that our business is a going concern, which contemplates the realization of assets and the satisfaction of liabilities
in the normal course of business. We are subject to the risks and uncertainties associated with a business with one product line
and limited commercial product revenues, including limitations on our operating capital resources and uncertain demand for our
products. We have incurred operating losses and negative operating cash flows since inception, and we expect to continue to incur
operating losses and negative operating cash flows for at least the next few years. The Company’s independent registered
public accounting firm, in its report on the Company’s 2015 consolidated financial statements, raised substantial doubt about
the Company’s ability to continue as a going concern.
In June 2016, we successfully completed a Rights Offering to
existing shareholders, raising proceeds of $19.5 million net of cash offering costs, and selling 5,978,465 shares of common stock
at $3.315 per share. Based upon this funding, management believes that it has sufficient resources to fund the operations for at
least the next twelve months.
Insurance Reimbursement
Obtaining reimbursement from governmental
and private insurance companies is critical to our future commercial success. Due to the cost of the Argus II System, our sales
would be limited without the availability of third party reimbursement.
In the U.S., coding,
coverage, and payment are necessary for the surgical procedure and Argus II system to be reimbursed by payers. Coding has been
established for the device and the surgical procedure. Coverage and payment vary by payer. Argus II patients are eligible for Medicare,
and coverage is primarily provided through traditional Medicare Fee-for-Service (FFS) or Medicare Advantage. A small percentage
of U.S. patients are covered by commercial insurers.
|
·
|
Medicare FFS patients
– Coverage is determined by Medicare Administrative Contractors
(MACs) that administer various geographic regions of the US. As of June 30, 2016, five of 12 MACs (including 17 states, Puerto
Rico and U.S. Virgin Islands) have made positive coverage decisions for the Argus II. For calendar 2016, the Centers for Medicare
& Medicaid Services (CMS) established a hospital outpatient payment rate of $95,000 for both the procedure and the Argus II
Retinal Prosthesis System. On July 6, 2016, CMS posted the proposed rules for the 2017 Medicare Hospital Outpatient Prospective
Payment System and proposed a calendar 2017 Medicare hospital outpatient payment rate of approximately $150,000 for the Argus II
and the associated surgical implantation procedure. The proposed rules, including the proposed Medicare hospital outpatient rate,
were posted for public comment. No assurance can be made that the final Medicare hospital outpatient payment rate for 2017 will
not differ substantially from this proposed rate. Prior to 2016, the Argus II was classified as having pass-through payment status
and the device was paid separately from the procedure.
|
|
·
|
Medicare Advantage patients
– Medicare Advantage plans are required to cover the same
benefits as those covered by the MAC in that jurisdiction. For example, if a MAC in a jurisdiction has favorable coverage for the
Argus II, then all Medicare Advantage plans in that MAC jurisdiction are required to offer the same coverage for the Argus II.
Individual hospitals and Ambulatory Surgery Centers (ASCs) may negotiate Medicare Advantage contracts specific to that individual
facility, which may include additional separate payment for the Argus II implant system. In addition, procedural payment is variable
and can be based on a percentage of billed charges, payment groupings or other individually negotiated payment methodologies.
Medicare Advantage plans also allow providers to confirm coverage and payment for the Argus II procedure in advance of implantation
|
|
·
|
Commercially insured patients
– Commercial insurance plans make coverage and payment
rate decisions independent of Medicare decisions and contracts are individually negotiated with facility and physician providers.
|
For the second
quarter of 2016, four individuals in the US received and were implanted with the Argus II technology. Of these, three were
Medicare FFS patients and one was a Medicare Advantage patient.
The Agency for Healthcare
Research and Quality, or AHRQ, which is an agency of the Department of Health and Human Services, is conducting a Technology Assessment
that will provide an overview of retinal prosthesis systems (RPSs). On May 18, 2016, AHRQ published a draft of its assessment entitled,
Retinal Prostheses in the Medicare Population. This assessment evaluated all retinal prosthesis systems and examined the availability
of evidence for each. The draft concluded that the strength of the evidence was insufficient to estimate the proportion of patients
who will benefit from an RPS. It is important to note that the literature review combined all retinal prosthesis systems, whether
in concept phase or in development, and came to a single conclusion about the strength of the evidence as noted in this draft assessment.
Comments have been submitted by various stakeholders, including Second Sight, and it is anticipated that the AHRQ technology assessment
final report will be published in the next few months. A description of the draft Health Technology Assessment can be found at
http://www.ahrq.gov/sites/default/files/wysiwyg/research/findings/ta/retinalprostheses/eye1215-retinal-prosthesis-draft-report.pdf.
No assurance can be given as to what impact, if any, this report may have on us.
Based on a review
of three-year clinical data, in June 2016 the Ontario Health Technology Committee (OHTAC) recommended that Health Quality Ontario
(HQO) should not publicly fund the Argus II. HQO is the agency mandated to advise government and health care providers on evidence
to support healthcare solutions in Ontario, Canada. OHTAC recommended that HQO review the evidence for retinal prosthesis systems
in 1 year to re-evaluate the clinical effectiveness. To date, all Argus II implants in Canada have been privately funded.
Within Europe, we have obtained reimbursement
approval in Germany, France and parts of Italy. We also are seeking reimbursement approval in other countries including the United
Kingdom, Belgium, Netherlands, Switzerland and Turkey.
In France, Second
Sight was selected to receive the first "Forfait Innovation" (Innovation Bundle) from the Ministry of Health, which is
a special funding program for breakthrough procedures to be introduced into clinical practice. As part of this program, Second
Sight is conducting a post-market study in France which will enroll a total of 18 subjects and follow them for two years.
The French program will fund implantation of up to 18 additional patients that will not be part of the post-market study. After
review of the study’s results, we expect Argus II therapy to be covered and funded through the standard payment system in
France, however, we can provide no assurance that the French government will continue to fund the Argus II after the first 36 implants.
To date, we
have not faced traditional sales challenges in any of our markets, largely due to the currently unmet clinical need and the
lack of any other commercially available device or competitive treatment for RP-caused profound blindness. However, we
believe that recently we may have lost commercial implant opportunities in France and Germany due to patients electing to
wait or to participate in clinical trials for new products from other manufacturers that are seeking regulatory approval
or reimbursement. We have faced what we believe are unfair and illegal marketing practices by our competitors and
certain European courts have granted us six preliminary injunctions against two European companies. As these competitive
implant technologies expand their clinical trials, or gain regulatory approval, gain national reimbursement and gain
market acceptance, they may have or cause an adverse impact on our business in several European countries. Currently, we
are not aware of any existing clinical trials in the U.S. market.
Our marketing
activities continue to focus on raising awareness of the Argus II System with potential patients, implanting physicians, and
referring physicians. We believe we are differentiating our product by highlighting the Argus II’s unmatched durability
in long term trials, the large number of centers performing implants, the relative availability of reimbursement, and the
fact that over 200 Argus II units have been implanted, making it by far the most performed solution among those available.
Our marketing activities include exhibiting, sponsoring symposia, and securing podium presence at professional and trade
shows, securing journalist coverage in popular and trade media, attending patient meetings focused on educating patients
about existing and future treatments, and sponsoring information sessions for the Argus II System. In the US, our efforts in
2016 include media ads dedicated to RP patients and their families. These ads are being placed in geographic areas where we
have proven implanting centers and established reimbursement. As a result of the above efforts, as of June 30, 2016, the
Company had a patient interest list in the U.S. with over 150 conditionally qualified individuals.
Product and Clinical Development Plans
In the first half
of 2016, we introduced new clinical software that is used for programming the Argus II that we believe helps clinicians with the
initial programming and follow-up training of patients. In early 2017, we plan to introduce new eyewear (including camera) and
a more powerful VPU that will allow us to implement various software enhancements and an improved user interface. The new, more
sophisticated software enhancements may improve the quality and usefulness of the vision provided by Argus II. Commercial rollouts
of the software enhancements are dependent on outcomes of testing and additional regulatory approvals.
Currently, our Argus
II System is approved for persons suffering from RP. We believe we may be able to expand the market for the Argus II System beyond
RP to patients with severe to profound vision loss due to dry age-related macular degeneration, or AMD. We have enrolled and implanted
five patients in a pilot study to evaluate the safety and benefit of the Argus II System for use in persons suffering from AMD.
Based on the results from this study, we may decide to begin a larger scale efficacy trial. The size and timing of the pivotal
study are dependent on multiple factors including the actual subset of AMD patients we target and whether we decide to modify the
Argus II system prior to commencing a pivotal study. The subset of patients will influence the regulatory and reimbursement pathways,
the size of the study and the length of time required to enroll the study. The company is also evaluating the potential benefits
of system changes optimized for AMD. No assurance can be given that we will be successful in any of these endeavors. If the Argus
II System is successfully developed and approved for sale to treat AMD, as to which there can be no assurances, we believe that
the potential addressable market opportunity for that device will significantly exceed our existing RP markets for the Argus II
System.
We are also conducting
preclinical development, including animal studies, of a product for cortical stimulation that we refer to as the Orion I visual
cortical prosthesis (or “Orion I”), which we expect will be able to provide some vision restoration to individuals
with almost all unpreventable forms of blindness. Our objective in designing and developing the Orion I is to bypass the retina
and optic nerve and to directly stimulate the visual cortex region of the brain. Human clinical testing is likely to take the form
of a feasibility study followed by a premarket approval pivotal trial. The details of these trials will be determined collaboratively
with the FDA at that time. We cannot accurately estimate the timing or exact cost of these trials at this time although we do plan
to apply to the FDA to begin a feasibility study around the end of 2016. If the Orion I is successfully developed and approved
for sale, as to which there can be no assurances, we believe that the potential addressable market opportunity for that device
will greatly exceed our existing RP market for the Argus II System.
Critical Accounting Policies
The preparation
of our condensed consolidated financial statements in conformity with generally accepted accounting principles in the United
States, or GAAP, requires management to make estimates and assumptions that affect the amounts reported in the financial
statements and the notes to the financial statements. Some of those judgments can be subjective and complex, and therefore,
actual results could differ materially from those estimates under different assumptions or conditions. A summary of our
critical accounting policies is presented in Item 7 of our Annual Report on Form 10-K, as amended, for the year
ended December 31, 2015. There have been no material changes to our critical accounting policies during
the six months ended June 30, 2016.
Results of Operations
Net sales.
Our
net sales are derived primarily from the sale of our Argus II System. We began selling our products in Europe in 2011, Saudi Arabia
in 2012, the United States and Canada in 2014, and Turkey in 2015. Our objective is to increase our product revenue over the next
several years as we pursue commercialization of our product, as our product becomes more well-known and accepted in the market,
and as insurance coverage becomes more widespread.
Cost of sales.
Cost
of sales includes the salaries, benefits, material, overhead, third party costs, warranty, charges for excess inventory, and other
costs required to make our Argus II System at our Sylmar, California facility. Historically, our cost of sales has been greater
than our revenues, which has resulted in gross losses. However, beginning in the second half of fiscal 2014 and continuing through
the first quarter of 2016, due to higher revenues and increased manufacturing output and efficiencies, we began generating positive
gross margins for the first time in our operating history. In the second quarter of 2016, due to lower revenues, lower production
activity and a reserve for excess inventory, we once again recorded a gross loss. Our ability to generate a gross profit in the
future will be dependent on our ability to (1) generate higher revenues and (2) to produce our product in sufficient amounts that
will allow us to absorb all production costs in a given period and spread our costs over a larger production base, which will lower
our cost per unit.
Operating Expenses.
We
generally recognize our operating expenses as we incur them in four general operational categories: research and development, clinical
and regulatory, sales and marketing, and general and administrative. Our operating expenses also include a non-cash component related
to the amortization of deferred stock-based compensation allocated to research and development, clinical and regulatory, sales
and marketing and general and administrative personnel. From time to time we have received grants from institutions or agencies,
such as the National Institutes of Health, to help fund some of the cost of our development efforts. We have recorded these
grants as offsets to the costs as they are incurred to complete the related work.
|
·
|
Research and development expenses consist primarily of employee compensation and consulting costs related to the design, development, and enhancements of our current and potential future products, offset by grant revenue received in support of specific research projects. We expense our research and development costs as they are incurred. We expect research and development expenses to increase in the future as we pursue further enhancements of our existing product and develop technology for our potential future products, such as the Orion I visual cortical prosthesis. We also expect to receive additional grants in the future that will be offset primarily against research and development costs.
|
|
·
|
Clinical and regulatory expenses consist primarily of salaries, travel and related expenses for personnel engaged in clinical and regulatory functions, as well as internal and external costs associated with conducting clinical trials and maintaining relationships with regulatory agencies. We expect clinical and regulatory expenses to increase as we assess the safety and efficacy of enhancements to our current Argus II System, seek to expand the indications for the Argus II System, such as AMD, and prepare to initiate clinical studies of potential future products, such as the Orion I visual cortical prosthesis.
|
|
·
|
Sales and marketing expenses consist primarily of salaries, commissions, travel and related expenses for personnel engaged in sales, marketing and business development functions, as well as costs associated with promotional and other marketing activities. We expect sales and marketing expenses to increase as we hire additional sales personnel, initiate additional marketing programs, develop relationships with new distributors, and expand the number of doctors and medical centers that buy and implant our Argus II System and any future products.
|
|
·
|
General and administrative expenses consist primarily of salaries and related expenses for executive, legal, finance, human resources, information technology and administrative personnel, as well as recruiting and professional fees, patent filing costs, insurance costs and other general corporate expenses, including rent. We expect general and administrative expenses to increase as we add personnel and incur additional costs related to the growth of our business and operate as a public company.
|
Comparison of the Three Months Ended
June 30, 2016 and 2015
Net Sales.
Net
sales decreased by $1,624,000, or 61%, from $2,661,000 in the second quarter of 2015 to $1,037,000 in same period in 2016, primarily
due to a decrease in implants and lower revenue per implant in the second quarter of 2016 compared to the prior year.
There were 11 Argus
II Systems implanted in the second quarter of 2016, compared to 20 in the same period of the prior year. In Europe and the Middle
East (EMEA), there were seven implants in the second quarter of 2016 compared to 13 in the second quarter of 2015. Of these, there
was one implant in France during the second quarter of 2016 compared to five in the second quarter of 2015. We believe that the
decline of implants in France in the current year is attributable, in part, to patients electing to wait or to participate in a
clinical trial for a new product from a competitor.
In
North America, there were four implants in the second quarter of 2016, with all occurring in the U.S. In the same period of
the prior year there were seven implants in North America, with all seven implants occurring in the U.S. The decline in
U.S. implants was due, in part, to the 2016 Medicare reimbursement level being reduced to $95,000, which is approximately
$50,000 below our U.S. list price. We made the decision in late February 2016 to implement temporary discounts in the U.S.,
lasting through December 2016, to alleviate concerns of our customers that they would lose money on Argus II patient
cases due to the difference between the device cost and the reimbursement amount. With this U.S. pricing issue addressed, and
with the hiring of a new commercial vice president for the U.S. and Canada in March 2016, we expect that implant volumes in
North America will rebound from current levels, and potentially grow, over the next few quarters.
Revenue
recognized per implant was $94,000 in the second quarter of 2016 compared to $133,000 in the same period of the prior year.
The lower revenue per implant reflects the reduced CMS reimbursement rate for 2016, the timing of revenue recognition due to
certain deal terms and certain incentives provided to customers. For the balance of 2016, due to our temporary discounting
strategy in the U.S., we expect the overall revenue per implant will be approximately $80,000 to $90,000. For 2017, with the
proposed CMS hospital outpatient payment rate of $150,000 for U.S. Medicare patients, we would expect our average revenue per implant
to increase to $100,000 to $120,000, depending on the geographic mix of implants.
Cost of sales.
Cost of sales increased by approximately $1,672,000, or 107%, from $1,569,000 in the second quarter 2015 to $3,241,000 in the
second quarter of 2016, primarily from $973,000 of unabsorbed manufacturing costs and an increase in our reserve for excess inventory
of approximately $1.5 million. Our gross margin was a negative 213% in the second quarter of 2016 compared to a positive 41% in
the second quarter of 2015. We made the decision during the second quarter of 2016 to (1) increase inventory reserves for slow
moving inventory, (2) reduce our production levels and (3) lay off six direct manufacturing personnel and reassign certain other
indirect personnel to where the Company could better utilize their skills. As a result of the reduced production output, we are
spreading our production costs over a lower number of units, which resulted in unabsorbed production variances that we recognized
as period costs in the second quarter. We will continue to monitor our inventory levels and sales volume, and at the appropriate
time we will increase production of Argus II units and components. Until then, we will utilize a significant portion of our manufacturing
resources to support our research and development efforts.
Research and development
expense.
Research and development expense, net of grant revenue, increased by $67,000, or 8%, to $916,000 in the second quarter
of 2016 compared to $849,000 in the second quarter of 2015. In the second quarter of 2016, we utilized $705,000 of grant funds
to offset costs compared to $512,000 in the prior year period. Excluding the effect of grants, research and development expense
increased by $260,000 in the current year quarter, primarily due to an increase in expenditures for next generation prototypes.
We expect research and development costs to increase in the future as we pursue further enhancements of our existing product and
develop technology for our potential future cortical implant product.
Clinical and regulatory
expense.
Clinical and regulatory expense decreased $324,000, or 36%, from $892,000 in the second quarter of 2015 to $568,000
in the same period of 2016. This decrease is primarily attributable to lower clinical trial costs reflecting decreased new enrollment
in post-market studies being conducted in the U.S. and Europe. We expect clinical and regulatory costs to increase in the future
as we conduct clinical trials to assess further enhancements to our existing product, and to continue to assess the safety and
efficacy of our current product for treating blindness due to age related macular degeneration.
Selling and marketing
expense.
Selling and marketing expense decreased $99,000, or 4%, from $2,298,000 in the second quarter of 2015 to $2,199,000
in the second quarter of 2016, due to lower salaries and a net credit for stock-based compensation in the second quarter of 2016
related to stock option forfeitures by a former employee. These cost reductions were, in part, offset by higher marketing expenses
in the second quarter of 2016. While we expect selling and marketing costs to increase in the future as we increase our commercialization
efforts, we expect selling and marketing expense to decrease over time when expressed as a percentage of product revenue.
General and administrative
expense.
General and administrative expense increased $620,000, or 31%, from $2,000,000 in the second quarter of 2015 to $2,620,000
in the same period of 2016. This increase is primarily attributable to higher stock-based compensation charges, other compensation
costs, and bad debt expense in the current year. Stock-based compensation charges in the second quarter of 2016 increased by $329,000
compared to the second quarter of 2015 primarily due to new-hire stock option and RSU grants made in August 2015 to our Chief Executive
Officer.
Comparison of the Six Months Ended June
30, 2016 and 2015
Net
Sales.
Our net sales decreased from $4,361,000 in the first six months of 2015 to $2,090,000 in same period in 2016, a decrease
of $2,271,000, or 52%. This decrease in net sales was due to a lower number of implants in 2016, and at a lower average amount
of recognized revenue per implant than in the same period of the prior year.
Twenty-one
Argus II Systems were implanted in the first six months of 2016 compared to 39 in the first six months of 2015. Of
these, there were 15 implants in EMEA in the first six months of 2016 compared to 25 in the first six months of 2015.
The decrease in EMEA is primarily attributable to a decline of implants in France and Italy, which combined accounted for 19
implants in the first six months of 2015, whereas there were nine implants in France and Italy in the first six months of
2016.
In North America,
there were six implants in the first six months of 2016 compared to 14 implants in the same period of the prior year. As
we strengthen our North American sales teams and resolve pricing uncertainties as described above, we expect to see our North American
implants rebound and potentially grow over the next several quarters.
In the first six
months of 2016, revenue recognized per implant was approximately $99,000 compared to approximately $112,000 in the same
period of 2015. Average revenue per implant was lower in the first six months of 2016 compared to the first six months of
2015 primarily due to the lower Medicare reimbursement rate in the United States in 2016. In the United States, the amount of
sales revenue recognized per unit has occasionally been limited due to the uncertainties of the reimbursement environment and
payment terms. Favorable claims outcomes and the development of positive coverage policies in the United States may
eventually result in greater and earlier revenue recognition. For the balance of 2016, due to our temporary discounting
strategy in the U.S., we expect our overall revenue per implant will be approximately $80,000 to $90,000. For 2017, with the
proposed CMS reimbursement rate of $150,000 discussed above for U.S. Medicare patients, we would expect to have our average revenue per implant to
increase to approximately $100,000 to $120,000, depending of the geographic mix of implants.
Cost of sales.
Cost of sales increased from $2,865,000 in the first six months of 2015 to $4,153,000 in the first six months of 2016, an increase
of $1,288,000 or 45%. This increase in cost of goods sold is due to a lower number of units shipped offset by our inventory reserve
increase of $1.5 million. Our gross margin was a negative 99% in the first six months of 2016 compared to a positive 34% in the
first six months of 2015. During the first half of 2016, our implant volume decreased while our inventory levels increased. We
made the decision during the second quarter to (1) increase inventory reserves for slow moving inventory, (2) reduce our production
levels and (3) lay off six direct manufacturing personnel and reassign certain other indirect personnel to where the Company could
better utilize their skills. As a result of reducing our production output, we are spreading our overhead costs and remaining direct
costs over a lower number of units, which results in a higher production cost per unit and unabsorbed overhead charges. We will
continue to monitor our inventory levels and sales volume, and at the appropriate time we will increase production of Argus II
units and components. Until then, we will utilize a significant portion our manufacturing resources to support research
and development efforts.
Research and development
expense.
Research and development expense, net of grant revenue, decreased by $218,000, or 11%, from $1,896,000 in the first
six months of 2015 to $1,678,000 in the first six months of 2016. In the first six months of 2016, we utilized $1,272,000 of grant
funds to offset labor, consulting and overhead costs incurred versus $530,000 in the same period of 2015. Excluding this grant
offset, there was an increase in research and development costs of $524,000, or 22%, primarily as a result of an increase in expenditures
for next generation prototypes. The amount of expense recognized in future periods will vary depending on the amount of grant
funding utilized in future periods.
Clinical and regulatory
expense.
Clinical and regulatory expense decreased by $213,000, or 14%, from $1,559,000 in the first six months of 2015 to
$1,346,000 in the same period of 2016. This decrease is primarily attributable to a lower level of clinical and regulatory activity
reflecting decreased new enrollment in post-market studies being conducted in the US and Europe. We expect clinical and regulatory
costs to increase in the future as we conduct clinical trials to assess further enhancements to our existing product, and to continue
to assess the safety and efficacy of our current product for treating blindness due to age related macular degeneration.
Selling and marketing
expense.
Selling and marketing expense decreased by $82,000, or 2%, from $4,293,000 in the first six months of 2015 to $4,211,000
in the same period of 2016, due to lower salaries and lower stock-based compensation in the first half of 2016 related to stock
option forfeitures by a former employee. These cost reductions were, in part, offset by higher marketing expenses in the first
half of 2016. While we expect these costs to increase in the future as we increase our selling and marketing resources to accelerate
the commercialization of our product, we expect selling and marketing expense to decrease over time when expressed as a percentage
of product revenue.
General and administrative
expense.
General and administrative expense increased by $1,374,000, 38%, from $3,656,000 in the first six months of 2015 to
$5,030,000 in the same period of 2016. This increase is primarily attributable to higher costs for salaries, benefits, outside
services, and stock-based compensation charges. While we expect general and administrative costs to increase in the future, we
expect these expenses to grow at a slower rate than in the past twelve months.
Liquidity and Capital Resources
Our consolidated financial
statements have been presented on the basis of our being a going concern, which contemplates the realization of assets and satisfaction
of liabilities in the normal course of business. We have experienced recurring operating losses and negative operating cash flows
since inception, and have financed our working capital requirements through the recurring sale of our equity securities in both
public and private offerings. As a result, our independent registered public accounting firm, in its report on our 2015 consolidated
financial statements, raised substantial doubt about our ability to continue as a going concern (see “Going Concern”
above). In June 2016, the Company successfully completed a Rights Offering to existing shareholders, raising proceeds
of $19.5 million net of cash offering costs, and selling 5,978,465 shares of common stock at $3.315 per share. Based upon this
funding, management believes that it has sufficient resources to fund the business for at least the next twelve months.
Cash and money market
funds increased by $7,915,000, or 50%, from $15,960,000 at December 31, 2015 to $23,875,000 at June 30, 2016. Working capital was
$26,513,000 at June 30, 2016, as compared to $18,782,000 at December 31, 2015, an increase of $7,731,000, or 41%. We use our cash,
money market funds and working capital to fund our operating activities.
Cash Flows from Operating Activities
During the first six
months of 2016, we used $12,107,000 of cash in operating activities, consisting primarily of a net loss of $14,320,000, offset
by non-cash charges of $3,740,000 for depreciation and amortization of property and equipment, stock-based compensation, excess
inventory reserve, bad debt expense and common stock issuable and increased by a net change in operating assets and liabilities
of $1,527,000. This compares to the first six months of 2015, we used $9,893,000 of cash in operating activities, consisting primarily
of a net loss of $9,879,000, offset by non-cash charges of $1,366,000 for depreciation and amortization of property and equipment,
stock-based compensation and common stock issuable, and increased by a net change in operating assets and liabilities of $1,380,000.
Cash Flows from Investing Activities
Investing activities
in the first six months of 2016 used $8,263,000 of cash, reflecting $7,968,000 used by the purchase of money market investments
and $295,000 used for the purchase of equipment. This compares to the first six months of 2015 when investing activities provided
$7,528,000, reflecting $7,820,000 in proceeds from the sales of money market investments, offset by $292,000 for the purchase of
equipment.
Cash Flows from Financing Activities
Financing activities
provided $20,299,000 of cash in the first six months of 2016, $19,483,000 from the Rights Offering and $479,000 from the exercise
of stock options and $337,000 from the proceeds from sale of stock for the ESPP plan. Financing activities provided $2,155,000
of cash in first six months of 2015, $2,279,000 from the exercise of stock options and warrants offset by $124,000 of cash used
to satisfy the related income and payroll tax withholding amounts related to stock option exercises for our current chairman, who
at the time was our chief executive officer.
Since our
inception, we have generated limited revenues from the sale of products and have financed our operations primarily through
the issuance of common stock, convertible debt (which has been converted into common stock), and grants from government
agencies and other institutions. In June 2016, we raised $19.8 million in gross proceeds from a Rights Offering to
existing shareholders, net cash proceeds were $19.5 million net of cash offering costs, selling 5,978,465 shares of common
stock at $3.315 per share. Based upon this funding, management believes that it has sufficient resources to fund the business
for at least the next twelve months. Although our objective is to increase revenues from product sales in an amount
sufficient to reach operating and cash flow breakeven levels, there can be no assurances that we will be successful in this
regard.
Off-Balance Sheet Arrangements
We do not have any
off-balance sheet arrangements.