NEXGEL, INC. 10-Q

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 condensed financial statements and related notes above. Forward-Looking Statements This Quarterly Report on Form 10-Q contains “forward-looking statements,” which include information relating to future events, future financial performance, strategies, expectations, competitive environment and regulation. Words such as “may,” “should,” “could,” “would,” “predict,” “potential,” “continue,” “expect,” “anticipate,” “future,” “intend,” “plan,” “believe,” “estimate,” and similar expressions, as well as statements in future tense, identify forward-looking statements. Forward-looking statements should not be read as a guarantee of future performance or results and may not be accurate indications of when such performance or results will actually be achieved. Forward-looking statements are based on information we have when those statements are made or our management’s good faith belief as of that time with respect to future events and are subject to risks and uncertainties that could cause actual performance or results to differ materially from those expressed in or suggested by the forward-looking statements. Important factors that could cause such differences include, but are not limited to: ● our ability to continue as a going concern; ● inadequate capital; ● inadequate or an inability to raise sufficient capital to execute our business plan; ● our ability to comply with current good manufacturing practices; ● loss or retirement of key executives; ● our plans to make significant additional outlays of working capital before we expect to generate significant revenues and the uncertainty regarding when we will begin to generate significant revenues, if we are able to do so; ● adverse economic conditions and/or intense competition; ● loss of a key customer or supplier; ● entry of new competitors; ● adverse federal, state and local government regulation; ● technological obsolescence of our manufacturing process and equipment; ● technical problems with our research and products; ● risks of mergers and acquisitions including the time and cost of implementing transactions and the potential failure to achieve expected gains, revenue growth or expense savings; ● price increases for supplies and components; and ● the inability to carry out our business plans. 22 Table of Contents For a discussion of these and other risks that relate to our business and investing in shares of our common stock, you should carefully review the risks and uncertainties described elsewhere in this Quarterly Report on Form 10-Q. The forward-looking statements contained in this Quarterly Report on Form 10-Q are expressly qualified in their entirety by this cautionary statement. We do not undertake any obligation to publicly update any forward-looking statement to reflect events or circumstances after the date on which any such statement is made or to reflect the occurrence of unanticipated events. Overview We manufacture high water content, electron beam cross-linked, aqueous polymer hydrogels, or gels, used for wound care, medical diagnostics, transdermal drug delivery and cosmetics. We specialize in custom gels by capitalizing on proprietary manufacturing technologies. We have historically served as a contract manufacturer, supplying our gels to third parties who incorporate them into their own products and have recently began producing our own consumer products using our gels focused on proprietary branded products and white label opportunities. Both our gels and our consumer products are manufactured using proprietary and non-proprietary mixing, coating and cross-linking technologies. Together, these technologies enable us to produce gels that can satisfy rigid tolerance specifications with respect to a wide range of physical characteristics (e.g., thickness, water content, adherence, absorption, moisture vapor transmission rate [a measure of the passage of water vapor through a substance] and release rate) while maintaining product integrity. Additionally, we have the manufacturing capability to offer broad choices in the selection of liners onto which the gels are coated. Consequently, we and our customers are able to determine tolerances in moisture vapor transmission rate and active ingredient release rates while personalizing color and texture. Results of Operations The following sections discuss and analyze the changes in the significant line items in our statements of operations for the comparison periods identified. Comparison of the Three Months ended September 30, 2022 and 2021 Revenues, net . For the three months ended September 30, 2022 revenues were $568 thousand and increased by $233 thousand, or 69.6%, when compared to $335 thousand for the three months ended September 30, 2021. The increase in our overall revenues was primarily due to sales growth in branded consumer products and our contract manufacturing products. Gross profit (loss) . Our gross profit was $148 thousand for the three months ended September 30, 2022 compared to a gross loss of $57 thousand for the three months ended September 30, 2021. The profit recorded for the three months ended September 30, 2022, as compared to a loss recorded for the three months ended September 30, 2021, was primarily due to the higher volume of contract manufacturing sales against fixed costs. Gross profit was approximately 26% for the three months ended September 30, 2022 compared to a gross loss of (17)% for the three months ended September 30, 2021. The Company anticipates continued improvement in gross margins due to both increased revenue against fixed facility expenses and larger productions runs on commercially proven products. The components of cost of revenues are as follows for the three months ended September 30, 2022 and 2021 ($ in thousands): Three Months Ended September 30, 2022 2021 Cost of revenues Materials and finished products $ 113 $ 121 Compensation and benefits 176 157 Depreciation and amortization 20 22 Equipment, production and other expenses 111 92 Total cost of revenues $ 420 $ 392 23 Table of Contents Cost of revenues increased by $28 thousand, or 7.1%, to $420 thousand for the three months ended September 30, 2022, as compared to $392 thousand for the three months ended September 30, 2021. The increase in cost of revenues is primarily aligned with the revenue growth in the current year. Selling, general and administrative expenses . The following table highlights selling, general and administrative expenses by type for the three months ended September 30, 2022 and 2021 ($ in thousands): Three Months Ended September 30, 2022 2021 Selling, general and administrative expenses Compensation and benefits $ 118 $ 87 Share-based compensation 85 45 Depreciation and amortization 4 3 Other expenses and professional fees 785 418 Total Selling, general and administrative expenses $ 992 $ 553 Selling, general and administrative expenses increased by $439 thousand, or 79.4%, to $992 thousand for the three months ended September 30, 2022, as compared to $553 thousand for the three months ended September 30, 2021. The increase in selling, general and administrative expenses is primarily attributable to an increase of franchise tax expense, increased research and development investment and the costs for professional fees and other administrative expenses in the current period associated with public company governance requirements. The exceptionally high franchise tax charge of $220 thousand was due to the company’s IPO and related increase in gross assets. In August of 2022 the Company reduced its authorized shares at its annual stockholders’ meeting. The result of this reduction, assuming a similar asset base as the Company currently has will reduce the 2023 franchise tax liability to approximately $28 thousand. Compensation and benefits increased by $31 thousand, or 35.6%, to $118 thousand for the three months ended September 30, 2022, as compared to $87 thousand for the three months ended September 30, 2021. The number of employees increased compared to the prior period and officer compensation increased in conjunction with contract renewals. Share-based compensation increased by $40 thousand, or 88.9%, to $85 thousand for the three months ended September 30, 2022, as compared to $45 thousand for the three months ended September 30, 2021. The share-based compensation related to the issuance of restricted stock awards and options to our CEO, restricted stock awards to all employees and options to board members, employees, and advisors. Other expenses and professional fees increased by $367 thousand, or 87.8%, to $785 thousand for the three months ended September 30, 2022 from $418 thousand for the three months ended September 30, 2021. Other selling, general and administrative expenses generally consist of costs associated with our selling efforts and general management, including information technology, travel, training and recruiting. We continued to incur legal, accounting and consulting fees associated with public company governance requirements, however, the increase in professional fees compared to the prior year period was primarily due to the increase in professional fees in connection with our in the NASDAQ up-listing on December 27, 2021. Research and development expenses . Research and development expenses increased by $193 thousand for the three months ended September 30, 2022 from $0 for the three months ended September 30, 2021. The increase is due to the initiation of two proof of concept studies for drug delivery candidates utilizing our hydrogel technology. Comparison of the Nine Months ended September 30, 2022 and 2021 Revenues, net . For the nine months ended September 30, 2022 revenues were $1,524 thousand and increased by $506 thousand, or 49.7%, when compared to $1,018 thousand for the nine months ended September 30, 2021. The increase in our overall revenues was due to sales growth of new products as well as our initiatives in custom label manufacturing and branded consumer product. 24 Table of Contents Gross profit (loss) . Our gross profit was $220 thousand for the nine months ended September 30, 2022 compared to a gross loss of $(95) thousand for the nine months ended September 30, 2021. The profit recorded for the nine months ended September 30, 2022, as compared to a loss recorded for the nine months ended September 30, 2021, was primarily due to the higher volume of contract manufacturing sales against fixed costs. Gross profit was approximately 14.4% for the nine months ended September 30, 2022 compared to a gross loss of (9.3)% for the nine months ended September 30, 2021. The components of cost of revenues are as follows for the nine months ended September 30, 2022 and 2021 ($ in thousands): Nine Months Ended September 30, 2022 2021 Cost of revenues Materials and finished products $ 403 $ 351 Compensation and benefits 518 419 Depreciation and amortization 63 65 Equipment, production and other expenses 320 278 Total cost of revenues $ 1,304 $ 1,113 Cost of revenues increased by $191 thousand, or 17.2%, to $1,304 thousand for the nine months ended September 30, 2022, as compared to $1,113 thousand for the nine months ended September 30, 2021. The increase in cost of revenues is primarily aligned with the new product line growth in the current year. Selling, general and administrative expenses . The following table highlights selling, general and administrative expenses by type for the nine months ended September 30, 2022 and 2021 ($ in thousands): Nine Months Ended September 30, 2022 2021 Selling, general and administrative expenses Compensation and benefits $ 379 $ 259 Share-based compensation 219 230 Depreciation and amortization 11 10 Other expenses and professional fees 1,850 1,072 Total Selling, general and administrative expenses $ 2,459 $ 1,571 Selling, general and administrative expenses increased by $888 thousand, or 56.5%, to $2,459 thousand for the nine months ended September 30, 2022, as compared to $1,571 thousand for the nine months ended September 30, 2021. The increase in selling, general and administrative expenses is primarily attributable to our costs for professional fees and other administrative expenses in the current period associated with public company governance requirements. Compensation and benefits increased by $120 thousand, or 46.3%, to $379 thousand for the nine months ended September 30, 2022, as compared to $259 thousand for the nine months ended September 30, 2021. The number of employees increased compared to the prior period and officer compensation increased in conjunction with contract renewals. Share-based compensation decreased by $11 thousand, or 4.8%, to $219 thousand for the nine months ended September 30, 2022, as compared to $230 thousand for the nine months ended September 30, 2021. The share-based compensation related to the issuance of restricted stock awards and options to our CEO, restricted stock awards to all employees and options to board members, employees, and advisors. Other expenses and professional fees increased by $778 thousand, or 72.6%, to $1.9 million for the nine months ended September 30, 2022 from $1.1 million for the nine months ended September 30, 2021. Other selling, general and administrative expenses generally consist of costs associated with our selling efforts and general management, including information technology, travel, training and recruiting. We continued to incur legal, accounting and consulting fees associated with public company governance requirements, however, the increase in professional fees compared to the prior year period was primarily due to the increase in professional fees in connection with our in the NASDAQ up-listing on December 27, 2021. Research and development expenses . Research and development expenses increased by $311 thousand to $328 thousand for the nine months ended September 30, 2022 from $17 thousand for the nine months ended September 30, 2021. The increase is due to the initiation of two proof of concept studies for drug delivery candidates utilizing our hydrogel technology as well as continuing development on the NEXDrape medical device. 25 Table of Contents Liquidity and Capital Resources Cash Flow (in thousands) September 30, September 30, 2022 2021 Net cash used in operating activities $ (2,343 ) $ (1,556 ) Net cash used in investing activities (6,068 ) (390 ) Net cash provided by (used in) financing activities (3,512 ) 3,169 Net increase (decrease) in cash and cash equivalents (11,923 ) 1,223 Cash and cash equivalents at beginning of period 13,350 32 Cash and cash equivalent at end of period $ 1,427 $ 1,255 As of September 30, 2022, we had $1.4 million of cash and cash equivalents and $6.0 million of marketable securities, compared to $13.4 million of cash at December 31, 2021. Net cash used in operating activities was $2.3 million and $1.6 million for the nine months ended September 30, 2022 and 2021, respectively. See Notes 2 and 3 of our financial statements above for a more detailed discussion of our marketable securities. Net cash used in investing activities was $6,068 thousand and $390 thousand for the nine months ended September 30, 2022 and 2021, respectively, consisting of investments in marketable securities of $6,980 thousand, the sale of marketable securities for $1,000 thousand, and purchases of capital equipment of $88 thousand for the nine months ended September 30, 2022 and purchases of capital equipment of $390 thousand in the prior year period. Net cash used by financing activities for the nine months ended September 30, 2022 was $3.5 million which is attributable to the principal payments of convertible notes of $3.5 million. For the nine months ended September 30, 2021 cash flows from financing activities were $3.2 million which is attributable to the issuance of common stock of $285 thousand and proceeds of a notes payable of $15 thousand and proceeds from the PPP loan of $127 thousand and convertible notes payable, net of $2.8 million, net of costs and principal payments of convertible notes of $100 thousand. At September 30, 2022, current assets totaled $8.3 million and current liabilities totaled $1.1 million, as compared to current assets totaling $13.9 million and current liabilities totaling $2.9 million at December 31, 2021. As a result, we had working capital of $7.2 million at September 30, 2022, compared to a working capital of $11.0 million at December 31, 2021. The decrease in the working capital as of September 30, 2022 is primarily attributable to the repayment of convertible notes payable of $3.5 million in the current period. On December 27, 2021, the Company sold an aggregate of 2,585,000 units at a price to the public of $5.50 per unit (the “Offering”), each unit consisting of one share of the Company’s common stock, par value $0.001 per share (the “Common Stock”), and a warrant to purchase one share of Common Stock at an exercise price of $5.50 per share (the “Warrants”), pursuant to that certain Underwriting Agreement, dated as of December 21, 2021 (the “Underwriting Agreement”), between the Company and Maxim Group LLC (the “Underwriter”). In addition, pursuant to the Underwriting Agreement, the Company granted the Underwriter a 45-day option to purchase up to 387,750 additional shares of Common Stock, and/or 387,750 additional Warrants, to cover over-allotments in connection with the Offering, which the Underwriter partially exercised to purchase 387,750 Warrants on December 27, 2021. On December 27, 2021, the Company received gross proceeds of approximately $14.2 million, before deducting underwriting discounts and commissions of seven percent (7%) of the gross proceeds and estimated Offering expenses. Pursuant to the Underwriting Agreement, the Company also agreed to issue to the Underwriter warrants (the “Underwriter’s Warrants”) to purchase up to a total of 155,100 shares of Common Stock (6% of the shares of Common Stock sold in the Offering). The Underwriter’s Warrants are exercisable at $6.1875 per share of Common Stock and have a term of five years. The Underwriter’s Warrants are subject to a lock-up for 180 days from the commencement of sales in the Offering, including a mandatory lock-up period in accordance with FINRA Rule 5110(e), and will be non-exercisable for six (6) months after December 21, 2021. 26 Table of Contents On September 2, 2021, the Company entered into a securities purchase agreement pursuant to which the Company issued to twenty investors a 12% senior secured convertible promissory note in the principal amount of $1.8 million, including $194 thousand (which represents the twelve months of guaranteed interest which was earned in full as of September 2, 2021), which is convertible into shares of the Company’s common stock at a price per share of $5.25 subject to certain adjustments as discussed herein in Note 13 in the Notes to Condensed Consolidated Financials. The net proceeds received by the Company were $1.5 million after deducting fees and expenses related to the transaction. The purchasers in the September 2021 securities purchase agreement also received warrants to purchase shares of our common stock. On January 25, 2022, the Company repaid an investor in full with a one-time cash payment of $300 thousand of outstanding principal and accrued but unpaid interest the September 2 Offering. The Company did incur a 105% pre-payment penalty of $16,800 with respect to the repayment of the investor’s note and the repayment extinguished the note in its entirety. Furthermore, the remaining September 2 Notes’ were fully repaid (including all principal and interest) on September 6, 2022 with a one-time cash payment of $1.5 million. On March 11, 2021, the Company and Auctus entered into a senior secured convertible promissory note in the principal amount of $1,680 thousand, which includes $180 thousand of interest which was deemed fully earned as of the issuance date. The Auctus Note was fully repaid (including all principal and interest) on March 15, 2022 with a one-time cash payment of $1,680 thousand. We have never declared or paid any cash dividends on our common stock. For the foreseeable future, we anticipate that all available funds and any earnings generated in our business will be used to finance the growth of our business and will not be paid out as dividends to our shareholders. Any future determination related to our dividend policy will be made at the discretion of our Board of Directors and will depend upon, among other factors, our results of operations, financial condition, capital requirements, contractual restrictions, business prospects and other factors our Board of Directors may deem relevant. Management is exploring new product channel sales in consumer products, such as cosmetics, athletic products, and proprietary medical devices. The Company has increased its focus on sales and developing a sales pipeline for potential customers. This customer base expansion will enable us to provide financial stability for the foreseeable future, expand our current processes, and position us for long-term shareholder value creation. We believe we have sufficient cash and marketable securities to operate our business plan through 2024. We intend to maintain and attempt to grow our existing contract manufacturing business. We also plan to continue building and developing our catalog of consumer products for sale to branding partners and to use our in-house capabilities to create and test market additional branded products. These products will be target marketed and sold online through social media, television and online marketplaces. Furthermore, the Company plans to develop its own proprietary medical devices and explore drug delivery programs for its technology. Additionally, the Company continues to evaluate strategic initiatives (e.g., acquisitions) and additional capital raises through debt or equity may be necessary to achieve these objectives. We expect to continue incurring losses for the near-term future. Our ability to continue to operate as a going concern in the long term is dependent upon our ability to manage and grow our current products and to ultimately achieve profitable operations. Management may consider various options to raise capital to fund potential acquisitions through equity or debt offerings. There can be no assurances, however, that management will be able to obtain sufficient additional funds, if needed, or that such funds, if available, will be obtained on terms satisfactory to us. The financial statements do not include any adjustments relating to the recoverability and classification of recorded assets and liabilities that might be necessary should we be unable to continue as a going concern. Additionally, it is reasonably possible that estimates made in the financial statements have been, or will be, materially and adversely impacted in the near term as a result of these conditions, including the recoverability of long-lived assets. 27 Table of Contents Off Balance Sheet Arrangements As of September 30, 2022, we had no off-balance sheet arrangements in the nature of guarantee contracts, retained or contingent interests in assets transferred to entities (or similar arrangements serving as credit, liquidity or market risk support to entities for any such assets), or obligations (including contingent obligations) arising out of variable interests in entities providing financing, liquidity, market risk or credit risk support to us, or that engage in leasing, hedging or research and development services with us. Critical Accounting Policies and Estimates The preparation of our Financial Statements in accordance with generally accepted accounting principles is based on the selection and application of accounting policies that require us to make significant estimates and assumptions about the effects of matters that are inherently uncertain. We consider the accounting policies discussed below to be critical to the understanding of our Financial Statements. Actual results could differ from our estimates and assumptions, and any such differences could be material to our Financial Statements. Share-based compensation – We utilize share-based compensation in the form of incentive stock options. The fair values of incentive stock option award grants are estimated as of the date of grant using a Black-Scholes option valuation model. Compensation expense is recognized in the statements of operations on a straight-line basis over the requisite service period, which is generally the vesting period required to obtain full vesting. The expected term of the awards granted is estimated using the simplified method which computes the expected term as the sum of the award’s vesting term plus the original contractual term divided by two. Warrant Liability – Warrants to purchase common stock were issued in connection with equity financing raises which occurred on September 2, 2021, March 11, 2021, February 3, 2021, December 24, 2020, March 18, 2020, September 10, 2019 and November 6, 2019. The fair values of the warrants are estimated as of the date of issuance and again at each period end using a Black-Scholes option valuation model. At issuance, the fair value of the warrant is recognized as an equity issuance cost within additional paid-in-capital. Fair value adjustments to the warrant liability are recognized in other income (expense) in the statements of operations. The expected term of the awards granted are based on the 3 year contractual expiration date. Black Scholes Inputs - The fair value of each stock option award and warrant issued was estimated on the date of grant using a Black-Scholes option-valuation model, which requires management to make certain assumptions regarding: (i) fair value of the common stock that underlies the stock option; (ii) the expected volatility in the market price of our common stock; (iii) dividend yield; (iv) risk-free interest rates; and (iv) the period of time employees are expected to hold the award prior to exercise (referred to as the expected term). Under the Black-Scholes option-valuation model, entities typically estimate the expected volatility based on historical volatilities of the entity’s own common stock. Based on the lack of historical data of volatility for the Company’s common stock, the Company based its estimate of expected volatility on a weighted average of the historical volatility of comparable public companies that manufacture similar products and are similar in size, stage of life cycle, and financial leverage. The fair value of the common stock that underlies the stock option is estimated by the Company considering the price of the most recent issuance of the Company’s common stock. The dividend yield is based upon the assumption that the Company will not declare a dividend over the life of the options. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for bonds with maturities consistent with the expected term of the related award. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Not required.