SANUWAVE Health, Inc. 10-Q

Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS You should read the following discussion and analysis of our financial condition and results of operations together with our unaudited condensed consolidated financial statements and the related notes appearing elsewhere in this report, and together with our audited consolidated financial statements, related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” as of and for the year ended December 31, 2021 included in our Annual Report on Form 10-K, filed with the SEC on May 13, 2022 (the “2021 Annual Report”). Overview We are a shock wave technology company using a patented system of noninvasive, high-energy, acoustic shock waves for regenerative medicine and other applications. Our initial focus is regenerative medicine utilizing noninvasive, acoustic shock waves to produce a biological response resulting in the body healing itself through the repair and regeneration of tissue, musculoskeletal, and vascular structures. Our lead regenerative product in the United States is the dermaPACE® device, used for treating diabetic foot ulcers (“DFU”), which was subject to two double-blinded, randomized Phase III clinical studies. On December 28, 2017, the U.S. Food and Drug Administration (“FDA”) granted the Company’s request to classify the dermaPACE® System as a Class II device via the de novo process. As a result of this decision, the Company was able to immediately market the product for the treatment of DFU as described in the de novo request, subject to the general control provisions of the Food, Drug and Cosmetic Act and the special controls identified in this order. On August 6, 2020, we entered into an asset purchase agreement (the “Asset Purchase Agreement” or “Acquisition”) with Celularity Inc. (“Celularity”) pursuant to which we acquired Celularity’s UltraMIST® assets (“UltraMIST®” or the “Assets”). The UltraMIST® System provides through a fluid mist a low-frequency, non-contact, and pain free ultrasound energy deep inside the wound bed that promotes healing from within. The ultrasound acoustic waves promote healing by reducing inflammation and bacteria in the wound bed, while also increasing the growth of new blood vessels to the area. The UltraMIST® System treatment must be administered by a healthcare professional. This proprietary technology has been cleared by the FDA for the promotion of wound healing through wound cleansing and maintenance debridement combined with ultrasound energy deposited inside the wound that stimulated tissue regeneration. In connection with the Asset Purchase Agreement, on August 6, 2020, we entered into a license and marketing agreement with Celularity pursuant to which Celularity granted to the Company a license to the Celularity wound care biologic products, Biovance® and Interfyl® (the “License Agreement”). The License Agreement provides the Company with an exclusive license to use, market, distribute and sell Biovance® in the “Field” and “Territory” (each as defined in the License Agreement), and a non-exclusive license to use, market, distribute and sell Interfyl® in the Field and in the Territory. The License Agreement has an initial five-year term, after which it automatically renews for additional one-year periods, unless either party gives written notice at least 180 days prior to the expiration of the current term. In May 2021, the Company received notification alleging that it is not in compliance the License Agreement with Celularity. See further discussion in Note 10 – Commitments and Contingencies in the accompanying condensed consolidated financial statements. Critical Accounting Policies and Estimates Management’s Discussion and Analysis of Financial Condition and Results of Operations is based on our condensed consolidated financial statements, which have been prepared in accordance with U.S. GAAP. The preparation of our condensed consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, and expenses. On an ongoing basis, we evaluate our estimates and judgments, including those related to the estimate of the fair value of embedded conversion options and warrants. We base our estimates on authoritative literature and pronouncements, historical experience and on various other assumptions that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Our actual results may differ from these estimates under different assumptions or conditions. The results of our operations for any historical period are not necessarily indicative of the results of our operations for any future period. In addition, there are other items within our financial statements that require estimation but are not deemed critical as defined above. Changes in these and other items could still have a material impact upon our financial statements. Our significant accounting policies are more fully described in Note 3 to our consolidated financial statements filed with our 2021 Annual Report. 17 Table of Contents For a description of recent accounting policies and the impact on our financial statements, refer to Note 3 in the accompanying condensed consolidated financial statements. Financial Overview Since inception in 2005, our operations have primarily been funded from the sale of capital stock, notes payable, and convertible debt securities. We have devoted and expect to continue to devote substantial resources for the commercialization of the dermaPACE® System and intend to continue to research and develop the non-medical uses of the PACE technology, both of which will require additional capital resources. We also expect to require additional working capital as sales of our UltraMIST® product continue to grow. Our recurring losses from operations, the events of default on the Company’s notes payable and dependency upon future issuances of equity or other financing to fund ongoing operations create substantial doubt about the Company’s ability to continue as a going concern for a period of at least twelve months from the financial statement issuance date. Although no assurances can be given, we believe that potential additional issuances of equity, debt or other potential financing may provide the necessary funding for us to continue as a going concern for the next 12 months. Management’s plans are to obtain additional capital in 2022 through investments by strategic partners for market opportunities, which may include strategic partnerships or licensing arrangements, or raise capital through the conversion of outstanding warrants, the issuance of common or preferred stock, securities convertible into common stock, or secured or unsecured debt. These possibilities, to the extent available, may be on terms that result in significant dilution to our existing shareholders. In addition, there can be no assurances that our plans to obtain additional capital will be successful on the terms or timeline we expect, or at all. If these efforts are unsuccessful, we may be required to significantly curtail or discontinue operations or, if available, obtain funds through financing transactions with unfavorable terms. The accompanying condensed consolidated financial statements have been prepared in conformity with U.S. GAAP, which contemplate continuation of the Company as a going concern and the realization of assets and satisfaction of liabilities in the normal course of business. The carrying amounts of assets and liabilities presented in the condensed consolidated financial statements do not necessarily purport to represent realizable or settlement values. The condensed consolidated financial statements do not include any adjustment that might result from the outcome of this uncertainty. Our condensed consolidated financial statements do not include any adjustments relating to the recoverability of assets and classification of assets and liabilities that might be necessary should we be unable to continue as a going concern. Since our inception, we have incurred losses from operations each year. As of September 30, 2022, we have an accumulated deficit of $186.1 million. We continue to incur expenses related to commercialization of our dermaPACE® system for the treatment of DFU in the United States. If we can successfully commercialize, market, and distribute the dermaPACE® system, then we believe we may be able to partially or completely offset these losses in the future with revenues from sales of our UltraMist® systems and applicators. Although no assurances can be given, we believe that potential additional issuances of equity, debt, or other potential financings, as discussed above, may provide the necessary funding for us to continue as a going concern for the next 12 months. We cannot reasonably estimate the nature, timing, and costs of the efforts necessary to complete the development and approval of, or the period in which material net cash flows are expected to be generated from, any of our products, due to the numerous risks and uncertainties associated with developing and marketing products, including the uncertainty of: • the scope, rate of progress and cost of our clinical trials; • future clinical trial results; • the cost and timing of regulatory approvals; • supplier and customer disputes; • the establishment of successful marketing, sales and distribution channels and partnerships, including our efforts to expand our marketing, sales and distribution reach through joint ventures and other contractual arrangements; • the cost and timing associated with establishing reimbursement for our products; • the effects of competing technologies and market developments; and • industry demand and patient wellness behavior. 18 Table of Contents Any failure to complete the development of our product candidates in a timely manner, or any failure to successfully market and commercialize our product candidates, would have a material adverse effect on our operations, financial position, and liquidity. A discussion of the risks and uncertainties associated with our business are set forth under the section entitled “Risk Factors – Risks Related to Our Business” in our 2021 Annual Report. The worldwide spread of the COVID-19 virus has resulted in a global slowdown of economic activity which has decreased demand for a broad variety of products, including from our customers. We have experienced a disruption of our supply channels which will continue for an unknown period until the global supply chain can return to pre- disease status. Also, the pandemic may cause continued or additional actions by hospitals and clinics such as limiting elective procedures and treatments and limiting clinical trial activities and data monitoring. These factors have had a negative impact on our sales and our results of operations. Results of Operations For the Three Months Ended For the Nine Months Ended September 30, Change September 30, Change 2022 2021 $ % 2022 2021 $ % Revenues: Total Revenue $ 4,166 $ 3,725 $ 441 12 % $ 11,242 $ 8,750 $ 2,492 28 % Cost of Revenues 606 1,555 (949 ) -61 % 2,590 3,658 (1,068 ) -29 % Gross Margin 3,560 2,170 1,390 64 % 8,652 5,092 3,560 70 % Operating Expenses: General and administrative 3,404 2,864 540 19 % 8,482 8,909 (427 ) -5 % Selling and marketing 1,650 2,150 (500 ) -23 % 5,037 6,450 (1,413 ) -22 % Research and development 157 297 (140 ) -47 % 494 923 (429 ) -46 % Gain on disposal of assets - - - N/A (690 ) - (690 ) N/A Depreciation and amortization 189 194 (5 ) -3 % 575 585 (10 ) -2 % Operating Loss (1,840 ) (3,335 ) 1,495 -45 % (5,246 ) (11,775 ) 6,529 -55 % Other Income (Expense), net 1,427 (911 ) 2,338 -257 % 3,111 (6,001 ) 9,112 -152 % Income tax expense - (6 ) 6 - (28 ) 28 Net Loss $ (413 ) $ (4,252 ) 3,839 -90 % $ (2,135 ) $ (17,804 ) 15,669 -88 % Revenues and Gross Margin Revenues for the three month-period ended September 30, 2022, were $4.2 million compared to $3.7 million for the same period of 2021, an increase of $0.4 million. Revenues for the nine months ended September 30, 2022, were $11.2 million compared to $8.7 million for the same period in 2021, an increase of $2.5 million. The increase for both periods was driven by the continued increased sales of UltraMIST® devices and single-use accessories. Gross margin as a percentage of revenue increased to 85.5% from 58.3% during the three-month period ended September 30, 2022, as compared with the same period of 2021, and to 77.0% from 58.2% during the nine-month period ended September 30, 2022, as compared with the same period of 2021. The increases in gross margin percentage for the three and nine-months ended September 30, 2022, were driven by higher sales of single-use accessories, which have a higher gross margin percentage, and by the discontinuation of Biologics sales in the first quarter of 2022, which had a lower gross margin percentage. General and Administrative Expenses General and administrative expenses increased $540 thousand or 19% for the three-month period ended September 30, 2022, compared with the same period of 2021. General and administrative expenses decreased $427 thousand or 5% for the nine-month period ended September 30, 2022, compared with the same period of 2021. The increase for the three-month were primarily due to increased accounting costs as we transition from contractors to permanent employees. The decrease for the nine-month period ended September 30, 2022, were primarily due to a reduction in the registration penalties and legal and license fees that were incurred during the same period in 2021. Selling and Marketing Expenses Selling and marketing expenses decreased by $500 thousand or 23% for the three-month period ended September 30, 2022, as compared with the same period of 2021. Selling and marketing expenses decreased by $1.4 million or 22% for the nine-month period ended September 30, 2022, as compared with the same period of 2021. The decrease was primarily due to a reduction in sales and marketing headcount during 2022 and increased cost management activities. 19 Table of Contents Research and Development Expenses Research and development expenses decreased 47% to $157 thousand from $297 thousand during the three-month period ended September 30, 2022, as compared with the same period of 2021. Research and development expense as a percentage of revenue decreased from 8% during the three-month period ended September 30, 2021, to 4% for the same period in 2022. Expense decreased 46% to $494 thousand, or 4% of revenue, from $923 thousand, or 11% of revenue, during the nine-month period ended September 30, 2022, as compared with the same period of 2021. These decreases were primarily due to improved cost management in 2022. Liquidity and Capital Resources We expect to devote substantial resources for the commercialization of the dermaPACE® System and intend continue to research and develop the next generation of our technology as well as the non-medical uses of the PACE technology, both of which will require additional capital resources. Our recurring losses from operations, the events of default on the Company’s notes payable and dependency upon future issuances of equity or other financing to fund ongoing operations create substantial doubt about the Company’s ability to continue as a going concern for a period of at least twelve months from the financial issuance date. Historically, our operations have primarily been funded from the sale of capital stock, notes payable, and convertible debt securities. The continuation of our business is dependent upon raising additional capital to fund operations; we may not be able to do so, and/or the terms of any financings may not be advantageous to us. On August 5, 2022, we entered into the Purchase Agreement for our sale in the Private Placement of (i) Notes in an aggregate principal amount of $16.2 million, consisting of $12.4 million in newly raised capital and $3.8 million in rolled forward accrued expenses, bridge notes payable, convertible promissory notes, related parties, and fees; (ii) First Warrants to purchase an additional 404.8 million shares of common stock with an exercise price of $0.067 per share and (iii) Second Warrants to purchase an additional 404.8 million shares of common stock with an exercise price of $0.04 per share. The Notes will be convertible and the Warrants exercisable at such time as our authorized and unissued shares of common stock are at a number sufficient to permit the exercise or conversion of all outstanding securities exercisable for, or convertible into, common stock. During the nine months ended September 30, 2022, cash used by operating activities totaled approximately $13.2 million, which was largely by the change in the fair value of the derivative liabilities. Cash provided by investing activities during the first nine months of 2022 consisted primarily of the proceeds received from the sale of property and equipment of $1.0 million. Cash provided by financing activities for the period consisted primarily of $12.4 million from the Notes issued in August 2022, of which $3.0 million was used to settle old convertible debt, $2.9 million received in connection with the Second Amendment to Note and Warrant Purchase and Security Agreement in February 2022 and proceeds from short-term notes of $0.6 million. Segment and Geographic Information We have determined that we have one operating segment. Our revenues are generated from sales primarily in the United States. International sales include sales in Europe, Canada, Middle East, Central America, South America, Asia, and Asia/Pacific. All significant expenses are generated in the United States and all significant assets are in the United States. Contractual Obligations Our major outstanding contractual obligations relate to our financing leases for rental equipment, operating leases for our facilities and office equipment, purchase and supplier obligations for product component materials and equipment, and our outstanding debt. Please see our 2021 Annual Report for additional discussions of these obligations. Off-Balance Sheet Arrangements Since inception, we have not engaged in any off-balance sheet activities, including the use of structured finance, special purpose entities or variable interest entities. Effects of Inflation Due to the fact that our assets are, to an extent, liquid in nature, they are not significantly affected by inflation. However, the rate of inflation, which has been increasing, affects expenses such as employee compensation, office space leasing costs and research and development charges, which may not be readily recoverable during the period of time that we are bringing the product candidates to market. To the extent inflation results in rising interest rates and has other adverse effects on the market, it may adversely affect our consolidated financial condition and results of operations. 20 Table of Contents Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK As a “smaller reporting company” as defined by Item 10 of Regulation S-K, we are not required to provide the information required under this item.