SRTS Sensus Healthcare Inc

NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

Note 1 — Organization and Summary of Significant Accounting Policies

Description of the Business

Sensus Healthcare, Inc. (together, with its subsidiary, unless the context otherwise indicates, “Sensus” or the “Company”) is primarily a manufacturer of radiation therapy devices sold to healthcare providers and distributors globally through its distribution network. The Company operates in one segment from its corporate headquarters located in Boca Raton, Florida.

Basis of Presentation and Principles of Consolidation

These condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) and include the accounts of the Company and its subsidiary. Accounts and transactions between consolidated entities have been eliminated.

These financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. They do not include all of the information and notes required by GAAP. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair statement of the results have been included. Operating results for the three months ended March 31, 2023 are not necessarily indicative of the results that may be expected for the year ending December 31, 2023 or for any other period.

The condensed consolidated balance sheet as of December 31, 2022 has been derived from the audited financial statements at that date but does not include all of the information and notes required by GAAP for complete financial statements. For further information, refer to the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022 (the “2022 Annual Report”).

Revenue Recognition

The Company’s revenue derives primarily from sales of the Company’s devices and services related to maintaining and repairing the devices as part of a service contract or on an ad-hoc basis without a service contract.

The Company provides warranties, generally for one year, in conjunction with the sale of its products. These warranties entitle the customer to repair, replacement, or modification of the defective product, subject to the terms of the relevant warranty. The Company has determined that these warranties do not represent separate performance obligations, as the customer does not have the option to purchase the warranty separately and the warranty does not provide the customer with a service, only the assurance that the product complies with agreed-upon specifications. The Company records an estimate of future warranty claims at the time it recognizes revenue from the sale of the device based upon management’s estimate of the future claims rate.

Revenue is recognized upon transfer of control of promised goods or services to customers when the product is shipped or the service is rendered, based on the amount the Company expects to receive in exchange for those goods or services. The Company enters into contracts that can include multiple services, which are accounted for separately if they are determined to be distinct.

To determine the transaction price for contracts under which a customer promises consideration in a form other than cash, the Company measures the estimated fair value of the noncash consideration at contract inception. If the Company cannot reasonably estimate the fair value of the noncash consideration, it measures the consideration indirectly by reference to the standalone selling price of the products promised to the customer or class of customer in exchange for the consideration.

The revenues from service contracts are recognized over the service contract period on a straight-line basis. In the event that a customer does not sign a service contract but requests maintenance or repair services after the warranty expires, the Company recognizes revenue when the service is rendered.

The Company has determined that in practice no significant discount is given on the service contract when it is offered with the device purchase as compared to when it is sold on a stand-alone basis. The service level provided is identical whether the service contract is purchased on a stand-alone basis or together with the device. There is no termination provision in the service contract or any penalties in practice for cancellation of the service contract.

Disaggregated revenue for the three months ended March 31, 2023 and 2022 was as follows:

The Company operates in a highly regulated environment, primarily in the U.S. dermatology market, in which state regulatory approval is sometimes required before the customer is able to use the product. In cases where such regulatory approval is pending, revenue is deferred until such time as regulatory approval is obtained.

Deferred revenue as of March 31, 2023 was as follows:

The Company does not disclose information about remaining performance obligations with original expected durations of one year or less in connection with deposits for products. Estimated service revenue to be recognized in the future related to performance obligations fully or partially unsatisfied as of March 31, 2023 is as follows:

The Company pays commissions for equipment sales. Because the recovery of commissions is expected to occur from product revenue within one year, the Company charges commissions to expense as incurred.

Shipping and handling costs are expensed as incurred and are included in cost of sales.

Concentration

Financial instruments that potentially subject the Company to concentration of credit risk consist primarily of cash and cash equivalents, and accounts receivable.

On March 10, 2023, Silicon Valley Bank (“SVB”) was closed by the California Department of Financial Protection and Innovation, and the Federal Deposit Insurance Corporation (the “FDIC”) was appointed receiver. On March 13, 2023, the FDIC transferred all deposits, both insured and uninsured, and substantially all assets of SVB to a newly created, full-service FDIC-operated “bridge bank”, Silicon Valley Bridge Bank, N.A. (“SVBB”), chartered by the Office of the Comptroller of the Currency as a national bank. Subsequently, on March 27, 2023, the FDIC entered into a purchase and assumption agreement for all deposits and loans, as well as certain other assets, of SVBB, with First-Citizens Bank & Trust Company (“FCB”), a subsidiary of First Citizens BancShares, Inc. ("First Citizens"). As a result of this transaction, SVB became a wholly owned subsidiary of FCB.

Based upon information available to us, we believe that FCB assumed all contracts SVB entered into prior to its failure, and that FCB will continue to perform under those contracts. See Note 4, Debt, for additional information.

As of March 31, 2023, at another financial institution, the Company’s deposit balance exceeded the federally insured limit. The Company has not incurred losses related to the deposit and does not believe it is exposed to unusual credit risk beyond the normal risk associated with commercial banking relationships. 

One customer in the U.S. accounted for approximately 60% and 81% of revenue for the three months ended March 31, 2023 and 2022, respectively, and 93% and 91% of the accounts receivable as of March 31, 2023 and December 31, 2022, respectively.

Fair Value of Financial Instruments

Carrying amounts of cash equivalents, accounts receivable and accounts payable approximate fair value due to their relatively short maturities.

Fair Value Measurements

The Company uses a fair value hierarchy that prioritizes inputs to valuation approaches used to measure fair value. The fair value hierarchy gives the highest priority to quoted prices (unadjusted) in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. Assets and liabilities measured and reported at fair value are classified and disclosed in one of the following categories:

Level 1 Inputs:

Quoted prices (unadjusted) in active markets for identical assets or liabilities at the reporting date.

Level 2 Inputs:

Quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities that are not active; quotes from pricing services or brokers when the Company can determine that orderly transactions took place at the quoted price or that the inputs used to arrive at the price are observable; and inputs other than quoted prices that are observable, such as models or other valuation methodologies.

Level 3 Inputs:

Unobservable inputs for the valuation of the asset or liability, which may include nonbinding broker quotes.

Significance of Inputs: 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 financial instrument.

Cash and Cash Equivalents

The Company considers all highly liquid financial instruments with maturities of three months or less when purchased to be cash equivalents.

Accounts Receivable

The Company does business and extends credit based on an evaluation of each customer’s financial condition, generally without requiring collateral. Exposure to losses on receivables varies by customer, primarily due to the customer’s financial condition. The Company estimates future credit losses based on the age of customer receivable balances, collection history and forecasted economic trends. Future collections can be significantly different from historical collection trends or current estimates. The allowance for expected credit losses was $107 thousand as of March 31, 2023 and December 31, 2022. No bad debt expense was incurred for the three months ended March 31, 2023 or 2022.

Inventories

Inventories consist of finished product and components and are stated at the lower of cost or net realizable value, determined using the first-in-first-out method. The Company periodically reviews the value of items in inventory for obsolescence based on its assessment of market conditions and writes down any obsolete inventory to its net realizable value through a charge to costs of goods sold. The provision for inventory obsolescence was $18 thousand as of both March 31, 2023 and December 31, 2022.

Earnings Per Share

Basic net income (loss) per share is calculated by dividing net income (loss) by the weighted average number of common shares outstanding for the period. Diluted net income per share is computed by giving effect to all potential dilutive common share equivalents outstanding for the period, using the treasury stock method for options and unvested restricted shares. In periods when the Company has incurred a net loss, options and unvested shares are considered common share equivalents but have been excluded from the calculation of diluted net loss per share as their effect is antidilutive. Shares excluded were as follows:

The factors used in the earnings per share computation are as follows:

Leases

The Company evaluates arrangements at inception to determine if an arrangement is or contains a lease. The operating lease right-of-use asset (the “ROU asset”) represent the Company’s right to use an underlying asset for the lease term, and operating lease liabilities represent the Company’s obligation to make lease payments arising from the lease. The ROU asset and operating lease liability are recognized at the commencement date of the lease based upon the present value of lease payments over the lease term. When determining the lease term, the Company includes options to extend or terminate the lease when it is reasonably certain that the Company will exercise the options. To determine the present value of the lease payment, the Company uses an incremental borrowing rate that the Company would expect to incur for a fully collateralized loan over a similar term under similar economic conditions. In addition, the Company has elected available practical expedients to not separate lease and non-lease components for all leased assets and to exclude leases with initial terms of 12 months or less.

The lease payments used to determine the Company’s operating lease asset may include lease incentives, and stated rent increases are recognized in the ROU asset in the Company’s consolidated balance sheets. The ROU asset is amortized to rent expense over the lease term and included in operating expenses in the consolidated statements of income (loss).

Income Taxes

The Company recognizes deferred tax assets and liabilities for the expected future tax consequences of events that have been recognized in the Company’s financial statements or tax returns. Under this method, deferred tax assets and liabilities are determined based on differences between the financial statement carrying amounts and the tax bases of the assets and liabilities using the enacted tax rates in effect in the years in which the differences are expected to reverse. A valuation allowance against deferred tax assets is recorded if, based on the weight of the available evidence, it is more likely than not that some or all of the deferred tax assets will not be realized.

Uncertain tax positions are recognized in the financial statements only if that position is more likely than not to be sustained upon examination by taxing authorities, based on the technical merits of the position. The Company’s practice is to recognize interest and/or penalties related to income tax matters in income tax expense.

Recent Accounting Pronouncements

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. The amendments in this ASU replace the incurred loss model for recognition of credit losses with a methodology that reflects expected credit losses over the life of the loan and requires consideration of a broader range of reasonable and supportable information to calculate credit loss estimates. In November 2019, the FASB issued ASU 2019-10, which provides a one-year deferral of the effective dates of ASU No. 2016-13. Accordingly, the guidance is effective for fiscal years beginning after December 15, 2022. The Company adopted this update in January 2023. This update did not have a significant impact on the Company’s consolidated financial statements.

Management does not believe that any recently issued, but not yet effective, accounting standards, if currently adopted, would have a material effect on the Company’s consolidated financial statements.

Depreciation expense was $48 thousand and $68 thousand for the three months ended March 31, 2023 and 2022, respectively.

Accumulated amortization was $1,249 thousand and $1,224 thousand as of March 31, 2023 and December 31, 2022, respectively.

Note 4 — Debt

As of December 31, 2022, the Company had a revolving credit facility with SVB that provided for maximum borrowings equal to the lesser of (a) the $15 million commitment amount or (b) the borrowing base plus a $7.5 million non-formula sublimit.

On March 10, 2023, SVB was closed by the California Department of Financial Protection and Innovation, and the Federal Deposit Insurance Corporation (the “FDIC”) was appointed receiver. On March 13, 2023, the FDIC transferred all deposits, both insured and uninsured, and substantially all assets of SVB to a newly created, full-service FDIC-operated “bridge bank”, Silicon Valley Bridge Bank, N.A. (“SVBB”), chartered by the Office of the Comptroller of the Currency as a national bank. Subsequently, on March 27, 2023, the FDIC entered into a purchase and assumption agreement for all deposits and loans, as well as certain other assets, of SVBB, with First-Citizens Bank & Trust Company (“FCB”), a subsidiary of First Citizens BancShares, Inc. ("First Citizens"). As a result of this transaction, SVB became a wholly owned subsidiary of FCB.

At March 31, 2023, the available borrowing was $15 million. Interest on any borrowings, at Prime plus 0.75% (8.75% at March 31, 2023) and Prime plus 1.50% on non-formula borrowings (9.5% at March 31, 2023), is payable monthly, and the outstanding principal and interest are due on the maturity date. The revolving credit facility is secured by all of the Company’s assets.

The Company was in compliance with its financial covenants under the revolving credit facility as of March 31, 2023 and December 31, 2022. There were no borrowings outstanding under the revolving credit facility at March 31, 2023 or December 31, 2022.

Note 6 — Leases

Operating Lease Agreements

The Company leases its headquarters office from an unrelated third party. In April 2022, the Company renewed the lease through September 2027. The amortization of the ROU asset was $48 thousand and $52 thousand for the three months ended March 31, 2023 and 2022, respectively.

The following table presents information about the amount, timing and uncertainty of cash flows arising from the Company’s operating leases as of March 31, 2023.

Cash paid for amounts included in the measurement of operating lease liabilities was $46 thousand and $66 thousand for the three months ended March 31, 2023 and 2022, respectively, and is included in cash flows from operating activities in the accompanying consolidated statement of cash flows.

Operating lease cost recognized as expense was $60 thousand and $63 thousand for the three months ended March 31, 2023 and 2022, respectively. The financing component for operating lease obligations represents the effect of discounting the operating lease payments to their present value.

Note 7 — Commitments and Contingencies

Manufacturing Agreement

In 2010, the Company entered into a three-year contract manufacturing agreement with an unrelated third party for the production and manufacture of the SRT-100 (and subsequently the SRT-100 Vision and the SRT-100 Plus), in accordance with the Company’s product specifications. The agreement renews for successive one-year periods unless either party notifies the other party in writing, at least 60 days prior to the anniversary date of the agreement, that it will not renew the agreement. The Company or the manufacturer may also terminate the agreement upon 90 days’ prior written notice.

Purchases from this manufacturer totaled approximately $6.6 million and $3.3 million for the three months ended March 31, 2023 and 2022, respectively. As of March 31, 2023 and December 31, 2022, approximately $1.4 million and $1.5 million, respectively, was due to this manufacturer, which is presented in accounts payable and accrued expenses in the accompanying condensed consolidated balance sheets.

Legal Contingencies

The Company is a party to certain legal proceedings in the ordinary course of business. The Company assesses, in conjunction with its legal counsel, the need to record a liability for litigation and related contingencies.

In 2015, the Company learned that the Department of Justice (the “Department”) had commenced an investigation of the billing to Medicare by a physician who had treated patients with the Company’s SRT-100. The Department subsequently advised the Company that it was considering expanding the investigation to determine whether the Company had any involvements in physician’s use of certain reimbursements codes. The Company has received two Civil Investigative Demands from the Department seeking documents and written responses in connection with its investigation. The Company has fully cooperated with the Department. The Company disputes that it has engaged in any wrongdoing with respect to such reimbursement claims; among other considerations, the Company does not submit claims for reimbursement or provide coding or billing advice to physicians. To the Company’s knowledge, the Department has made no determination as to whether the Company engaged in any wrongdoing, or whether to pursue any legal action against the Company. Should the Department decide to pursue legal action, the Company believes it has strong and meritorious defenses and will vigorously defend itself. As of March 31, 2023, the Company is unable to estimate the cost associated with this matter.

Note 8 — Stockholders’ Equity

Preferred Stock

The Company has authorized 5 million shares of preferred stock. No shares of preferred stock were issued or outstanding at March 31, 2023 or December 31, 2022.

Treasury stock

Treasury stock includes shares surrendered by employees for tax withholding on the vesting of restricted stock awards and shares repurchased in open market transactions. During the three months ended March 31, 2023, 4,487 shares were surrendered by employees for tax withholding, and the Company did not repurchase any shares in open market transactions.

Note 9 – Stock-Based Compensation

2016 and 2017 Equity Incentive Plans

The 2016 Equity Incentive Plan and the 2017 Incentive Plan (collectively, the “Plans”) provide for the issuance of up to 397,473 shares and 500,000 shares, respectively. In addition, unless the Compensation Committee specifically determines otherwise, the maximum number of shares available under the Plans and the awards granted under them are subject to appropriate adjustment in the case of any stock dividends, stock splits, recapitalizations, reorganizations, mergers, consolidations, exchanges or other changes in capitalization affecting the Company’s common stock. The awards may be made in the form of restricted stock awards or stock options, among other forms. As of March 31, 2023, 48,973 shares are available for grant under the Plans.

On February 1, 2020, a total of 35,000 shares of restricted stock were issued to employees. The restricted shares vest 25% per year over a four-year period. The grant date fair value of $4.11 per share is being recognized as expense on a straight-line basis over the vesting period. During the three months ended March 31, 2023, 7,500 shares of unvested common stock were forfeited due to the termination of employment for two employees with the Company.

On July 21, 2021, a total of 130,000 shares of restricted stock were issued to employees and board members. The restricted shares vest 25% at grant date and 25% per year over a three-year period. The grant date fair value of $3.84 per share is being recognized as expense on a straight-line basis over the vesting period.

On December 19, 2022, a total of 77,000 shares of restricted stock were issued to employees. The restricted shares vest 25% per year over a four-year period. The fair value of $6.40 per share, the stock price on grant date, is being recognized as expense on a straight-line basis over the vesting period.

On January 26, 2023, 10,000 shares of common stock were issued to an employee and were recorded at the fair value of $8.96 per share, the stock price on the grant date. The shares vested at grant date.

The Company recognizes forfeitures as they occur rather than estimating a forfeiture rate. The reduction of stock compensation expense related to the forfeitures was $18 thousand and $0 for the three months ended March 31, 2023 and 2022, respectively.

Unrecognized stock compensation expense was $631 thousand as of March 31, 2023, which will be recognized over a weighted average period of 3 years.

Stock Options

Stock options expire 10 years after the grant date. Options that have been granted are exercisable and vest based on the terms on the related agreements.

The following table summarizes the Company’s stock option activity:

The stock options outstanding had an intrinsic value of $0 and $183 thousand as of March 31, 2023 and December 31, 2022, respectively.

Stock compensation expense related to restricted stock and stock options was $161 thousand and $60 thousand for the three months ended March 31, 2023 and 2022, respectively.

During the three months ended March 31, 2023, the Company issued 8,334 shares of common stock upon the exercise of stock options with an exercise price of $5.55 per share.

Note 10 — Income Taxes

The Company accounts for income taxes in accordance with ASC 740, Income Taxes, (“ASC 740”), which prescribes a recognition threshold and measurement process for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. ASC 740 also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.

Effective income tax rates for interim periods are based upon the Company’s current estimated annual rate, which varies based upon the Company’s estimate of taxable earnings or loss and the mix of taxable earnings or loss in the various states in which the Company operates. In addition, the Company recognizes taxes related to unusual or infrequent items or resulting from a change in judgment regarding a position taken in a prior period as discrete items in the interim period in which the event occurs.

As of December 31, 2022, deferred tax assets were primarily the result of state and foreign net operating loss, state tax credit carryforwards and accrued expenses. A valuation allowance of $185 thousand was recorded against the deferred tax asset balance attributed to foreign net operation losses as of December 31, 2022.

For the quarter ended March 31, 2022, the Company recorded a net valuation allowance release of $3.7 million on the basis of management’s reassessment of the amount of its deferred tax assets that are more likely than not to be realized. As of each reporting date, management considers new evidence, both positive and negative, that could affect its view of the future realization of deferred tax assets. As of March 31, 2023, management determined there continues to be sufficient positive evidence that it is more likely than not that the net deferred tax asset (other than foreign net operation losses) is realizable.

Income tax (benefit) expense was ($802) thousand and $648 thousand for the three months ended March 31, 2023 and 2022, respectively.

The effective tax rates for the three months ended March 31, 2023 and 2022 were 29.7% and 3.9%, respectively. The tax rate is affected by recurring items, such as tax rates in foreign jurisdictions and the relative amounts of income the Company earns in those jurisdictions, which are expected to be fairly consistent in the near term. It is also affected by discrete items that may occur in any given year but are not consistent from year to year. The item that had the most significant impact on the difference between the statutory U.S. federal income tax rate of 21% and the effective tax rate for the three months ended March 31, 2023 was state income taxes. The items that had the most significant impact on the difference between the statutory U.S. federal income tax rate of 21% and the effective tax rate for the three months ended March 31, 2022 were state income taxes, exercises of stock options, the favorable impact of credits, the release of the valuation allowance during the first quarter of 2022, and the difference in statutory rates in foreign jurisdictions.

As of March 31, 2023, the Company’s U.S. federal and certain state tax returns remain subject to examination, beginning with those filed for the year ended December 31, 2017.