SRTS 10-Q Quarter ended Sept. 30, 2018

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended September 30, 2018

OR

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ____________ to ____________

Commission File Number: 001-37714

Sensus Healthcare, Inc.

(Exact name of registrant as specified in its charter)

(561) 922-5808

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒  No ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☒  No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an “emerging growth company”. See definitions of “large accelerated filer”, “accelerated filer”, and “smaller reporting company” and an “emerging growth company” in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☒

As of October 31, 2018, 16,085,461 shares of the Registrant’s Common Stock, $0.01 par value, were outstanding .

SENSUS HEALTHCARE, INC.

QUARTERLY REPORT ON FORM 10-Q

TABLE OF CONTENTS

INTRODUCTORY NOTE

Caution Concerning Forward-Looking Statements

This Quarterly Report on Form 10-Q contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements include, among others, statements about our beliefs, plans, objectives, goals, expectations, estimates and intentions that are subject to significant risks and uncertainties and are subject to change based on various factors, many of which are beyond our control. The words “may,” “could,” “should,” “would,” “will,” “believe,” “anticipate,” “estimate,” “expect,” “intend,” “plan,” “target,” “goal,” and similar expressions are intended to identify forward-looking statements.

All forward-looking statements, by their nature, are subject to risks and uncertainties. Our actual future results may differ materially from those set forth in our forward-looking statements.

Our ability to achieve our financial objectives could be adversely affected by the factors discussed in detail in Part I, Item 2. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Part II, Item 1A. “Risk Factors” in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K, as well as:

However, other factors besides those listed in Item 1A Risk Factors in our Annual Report on Form 10-K or discussed in this Form 10-Q also could adversely affect our results, and you should not consider any such list of factors to be a complete set of all potential risks or uncertainties. Any forward-looking statements made by us or on our behalf speak only as of the date they are made. We do not undertake to update any forward-looking statement, except as required by applicable law.

SENSUS HEALTHCARE, INC.

See accompanying notes to the unaudited condensed consolidated financial statements.

SENSUS HEALTHCARE, INC.

(unaudited)

See accompanying notes to the unaudited condensed consolidated financial statements.

SENSUS HEALTHCARE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2018

See accompanying notes to the unaudited condensed consolidated financial statements.

SENSUS HEALTHCARE, INC.

(unaudited)

See accompanying notes to the unaudited condensed consolidated financial statements.

SENSUS HEALTHCARE, INC.
NOTES TO THE FINANCIAL STATEMENTS

(unaudited)

Description of the Business

Sensus Healthcare, Inc. (the “Company”) is a manufacturer of superficial radiation therapy devices and has established a distribution and marketing network to sell the devices to healthcare providers globally. The Company was organized on May 7, 2010 as a limited liability corporation. On January 1, 2016, the Company completed a corporate conversion pursuant to which Sensus Healthcare, Inc. succeeded to the business of Sensus Healthcare, LLC. In February 2018, the Company formed a wholly-owned subsidiary in Israel. The Company operates as one segment based at its corporate headquarters located in Boca Raton, Florida.

Basis of Presentation

The accompanying unaudited condensed financial statements in this Quarterly Report on Form 10-Q have been prepared in accordance with accounting principles generally accepted in the United States of America, or GAAP, and the rules and regulations of the U.S. Securities and Exchange Commission, or SEC. Accordingly, they do not include certain footnotes and financial presentations normally required under accounting principles generally accepted in the United States of America for complete financial statements. The interim financial information is unaudited, but reflects all normal adjustments and accruals which are, in the opinion of management, considered necessary to provide a fair presentation for the interim periods presented. The accompanying condensed consolidated financial statements should be read in conjunction with the Company’s audited financial statements and notes thereto for the year ended December 31, 2017 included in the Company’s Form 10-K, filed with the SEC. The results for the nine months ended September 30, 2018 are not necessarily indicative of results to be expected for the year ending December 31, 2018, any other interim periods, or any future year or period.

Principles of consolidation

The accompanying condensed consolidated financial statements include the financial statements of the Company and its wholly-owned subsidiary in Israel. All inter-company balances and transactions have been eliminated.

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates to which it is reasonably possible that a change could occur in the near term include, inventory reserves, receivable allowances, recoverability of long-lived assets and estimation of the Company’s product warranties. Actual results could differ from those estimates.

Revenue Recognition

On January 1, 2018, the Company adopted Accounting Standards Codification (“ASC”) Topic 606, “Revenue from Contracts with Customers” using the modified retrospective method. The adoption of this standard did not result in a significant change to the Company’s historical revenue recognition policies and there were no necessary adjustments required to retained earnings upon adoption.

Under ASC 606, a performance obligation is a promise within a contract to transfer a distinct good or service, or a series of distinct goods and services, to a customer. Revenue is recognized when performance obligations are satisfied and the customer obtains control of promised goods or services. The amount of revenue recognized reflects the consideration to which the Company expects to be entitled to receive in exchange for goods or services. Under the standard, a contract’s transaction price is allocated to each distinct performance obligation. To determine revenue recognition for arrangements that the Company determines are within the scope of ASC 606, the Company performs the following five steps: (i) identifies the contracts with a customer; (ii) identifies the performance obligations within the contract, including whether they are distinct and capable of being distinct in the context of the contract; (iii) determines the transaction price; (iv) allocates the transaction price to the performance obligations in the contract; and (v) recognizes revenue when, or as, the Company satisfies each performance obligation.

The Company’s revenue consists of sales of the Company’s devices and services related to maintaining and repairing the devices. The agreement for the sale of the devices and the service contract are usually signed at the same time and in some instances a service contract is signed on a stand-alone basis. Revenue for service contracts is recognized over the service contract period on a straight-line basis. The Company 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, by comparing the median selling price of the service contract as stand-alone and the median selling price of the service contract when sold together with the device. The service level provided is identical when the service contract is purchased stand-alone or together with the device. There is no termination provision in the service contract nor any penalties in practice for cancellation of the service contract. The service contract is not considered a performance obligation until it is paid, and it does not provide a material right for a significant discount when purchased with the device. The service portion of a sales contract or a stand-alone service contract is accounted for over the period of time of the service contract only when the customer exercises the option by paying for the service contract. For the three and nine months ended September 30, 2018, service contract revenue was approximately 6% and 7% of total revenues, respectively.

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

Deferred revenue as of September 30, 2018 and December 31, 2017 was as follows:

The Company provides warranties, generally for one year, in conjunction with the sale of its product. These warranties entitle the customer to repair, replacement, or modification of the defective product subject to the terms of the respective warranty. The Company records an estimate of future warranty claims at the time the Company recognizes revenue from the sale of the product based upon management’s estimate of the future claims rate.

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

Segment and Geographical Information

The Company’s revenue is generated primarily from customers in the United States, which represented approximately 93% and 99% for the three months ended September 30, 2018 and 2017, respectively, and approximately 95% and 99% for the nine months ended September 30, 2018 and 2017, respectively. A customer in the U.S. accounted for approximately 78% and 69% of revenues for the three months ended September 30, 2018 and 2017, respectively, and approximately 74% and 58% for the nine months ended September 30, 2018 and 2017, respectively, and 92% and 85% of the accounts receivable as of September 30, 2018 and December 31, 2017, respectively.

Cash and Cash Equivalents

The Company maintains its cash and cash equivalents with financial institutions which balances exceed the federally insured limits. Federally insured limits are $250,000 for deposits. As of September 30, 2018 and December 31, 2017, the Company had approximately $16,900,000 and $9,952,000, respectively in excess of federally insured limits.

For purposes of the statement of cash flows, the Company considers all highly liquid financial instruments with a maturity of three months or less when purchased to be a cash equivalent.

Investments

Short-term investments consist of investments which the Company expects to convert into cash within one year and long-term investments after one year. The Company classifies its investments in debt securities at the time of purchase as h eld-to-maturity and reevaluates such classification on a quarterly basis. Held-to-maturity investments consist of securities that the Company has the intent and ability to retain until maturity. These securities ar e carried at amortized cost plus accrued interest and consist of the following:

There were no investments as of September 30, 2018.

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 is expected to vary by customer due to the financial condition of each customer. The Company monitors exposure to credit losses and maintains allowances for anticipated losses considered necessary under the circumstances. The allowance for doubtful accounts was approximately $0 and $16,000 as of September 30, 2018 and December 31, 2017. Bad debt expense (recovery) for the three months ended September 30, 2018 and 2017 was $0 and for the nine months ended September 30, 2018 and 2017 was approximately ($13,000) and $176,000, respectively.

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.

Earnings Per Share

Basic net income (loss) per share is calculated by dividing the net income (loss) by the weighted-average number of common shares outstanding for the period. The 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 warrants, as well as unvested restricted shares. In periods when the Company has incurred a net loss, options, warrants 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 were excluded as follows:

Advertising Costs

Advertising and promotion expenses are charged to expense as incurred. Advertising and promotion expense included in selling expense in the accompanying statements of operations amounted to approximately $195,000 and $185,000 for the three months ended September 30, 2018 and 2017, respectively, and $1,028,000 and $1,242,000 for the nine months ended September 30, 2018 and 2017, respectively.

Recently issued and Adopted accounting Standards

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). ASU 2014-09 eliminated transaction- and industry-specific revenue recognition guidance under current GAAP and replaced it with a principle based approach for determining revenue recognition. ASU 2014-09 requires that companies recognize revenue based on the value of transferred goods or services as they occur in the contract. The ASU also requires additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to obtain or fulfill a contract. ASU 2014-09 is effective for reporting periods beginning after December 15, 2017. Entities can transition to the standard either retrospectively or as a cumulative-effect adjustment as of the date of adoption. In April 2016, the FASB also issued ASU 2016-10, Identifying Performance Obligations and Licensing, implementation guidance on principal versus agent, identifying performance obligations, and licensing. ASU 2016-10 is effective for reporting periods beginning after December 15, 2017. Entities can transition to the standard either retrospectively or as a cumulative-effect adjustment as of the date of adoption. The Company adopted the new revenue recognition standard in the first quarter of 2018 using the full retrospective method. There was not a material impact to revenues as a result of applying ASC 606 for the nine months ended September 30, 2018, and there have not been significant changes to the Company’s business processes, systems, or internal controls as a result of implementing the standard.

In February 2016, the FASB issued ASU No. 2016-02, “Leases (Topic 842).” The guidance in ASU 2016-02 supersedes the lease recognition requirements in ASC Topic 840, Leases (FAS 13). The new standard establishes a right-of-use (ROU) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. The new standard is effective for fiscal years beginning after December 1, 2018, including interim periods within those fiscal years, with early adoption permitted. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. Early adoption of the amendments in the update is permitted. The Company is currently evaluating the effect this standard will have on its financial statements.

In May 2017, the FASB issued ASU 2017-09, Compensation – Stock Compensation (Topic 718) – Scope of Modification Accounting. The amendments included in this update provide guidance about which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting. The amendments in this update will be applied prospectively to an award modified on or after the adoption date. The amendments in this update are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. The Company adopted this standard in the first quarter of 2018 and it did not have a material impact on its financial statements.

Depreciation expense was approximately $170,000 and $79,000, for the three months ended September 30, 2018 and 2017, respectively, and approximately $355,000 and $223,000, for the nine months ended September 30, 2018 and 2017, respectively.

Amortization expense was approximately $24,000 for the three months ended September 30, 2018 and 2017, and approximately $72,000 for the nine months ended September 30, 2018 and 2017. As of June 30, 2018, future remaining amortization expense is as follows:

On March 12, 2013, the Company entered into a two-year $3 million revolving credit facility. The credit facility was amended and extended effective March 12, 2015 through May 12, 2017. The maximum borrowing was reduced to $1,500,000 and was limited by the Company’s eligible borrowing base of 80% of eligible accounts receivable. On September 21, 2016, a second amendment to the credit facility extended the facility through September 21, 2017, increased the maximum borrowing to $2,000,000 and expanded the eligible accounts receivables to include certain international receivables. The Company was not in compliance in April and May 2017 with one of its financial covenants. On June 27, 2017, the covenant defaults were waived and the agreement was amended to modify the financial covenants effective June 2017. An amendment signed on September 15, 2017 extended the maturity date of the credit line through November 19, 2017. On October 31, 2017, the Company amended its revolving credit facility to extend the maturity to October 31, 2019 and to amend the financial covenants. The availability under the amended facility will equal the lesser of the $5 million commitment amount or the borrowing base plus the $2.5 million non-formula sublimit. The borrowing base consists of 80% of eligible accounts receivable, as defined in the agreement.

Interest, at Prime plus 0.75% (6.00% at September 30, 2018) and Prime plus 1.50% on non-formula borrowings (6.75% at September 30, 2018), is payable monthly, and the outstanding principal and interest are due on the maturity date. The facility is secured by all of the Company’s assets and limits the amount of additional indebtedness, restricts the sale, disposition or transfer of assets of the Company and requires the maintenance of a certain monthly adjusted quick ratio restrictive covenant, as defined in the agreement. The Company was in compliance with its financial covenants as of September 30, 2018 and December 31, 2017. There were no borrowings outstanding under the revolving credit facility at September 30, 2018 and approximately $2,215,000 was outstanding at December 31, 2017. The Company pays commitment fees of 0.25% per annum on the average unused portion of the line of credit.

Changes in product warranty liability were as follows for the nine months ended September 30, 2018:

Operating Lease Agreements

In July 2016, the Company renewed its lease with an unrelated third party for its headquarters office. The renewal was effective September 1, 2016 and expanded the office space being occupied. The lease expires in September 2022 and lease payments increase by 3% annually. In February 2017 and January 2018, the Company signed amendments to expand further the leased office space. The Company’s Israeli subsidiary entered into a two year lease for office space starting in September 2018. Future minimum lease payments as of September 30, 2018 are as follows:

Rental expense for the three months ended September 30, 2018 and 2017 was approximately $58,000 and $46,000, respectively, and for the nine months ended September 30, 2018 and 2017 was approximately $167,000 and $131,000, respectively.

Manufacturing Agreement

In July 2010, the Company entered into a three-year contract manufacturing agreement with an unrelated third party for the production and manufacture of the Company’s main product in accordance with the Company’s product specifications. The agreement renews for successive years unless either party notifies the other party in writing, at least 60 days prior to the anniversary date of this agreement that it will not renew the agreement. The Company or the manufacturer has the option to terminate the agreement with 90 days written notice. Any change in the relationship with the manufacturer could have an adverse effect on the Company’s business.

Purchases from this manufacturer totaled approximately $1,302,000 and $1,582,000 for the three months ended September 30, 2018 and 2017, respectively, and approximately $3,127,000 and $3,074,000 for the nine months ended September 30, 2018 and 2017, respectively. As of September 30, 2018, and December 31, 2017 approximately $1,209,000 and $829,000, respectively, was due to this manufacturer, which is presented in accounts payable and accrued expenses in the accompanying balance sheets.

Legal contingencies

The Company is 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 November 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 Company received a Civil Investigative Demand from the Department seeking documents and written responses in connection with that investigation. The Company has fully cooperated with the investigation. The Department has advised the Company that it was considering expanding the investigation to determine whether the Company had any involvement in the physician’s use of certain reimbursement codes. The Company disputes that it has engaged in any wrongdoing with respect to such reimbursement claims; among other things, 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. At this time, the Company is unable to estimate the cost associated with this matter.

We sponsor a 401(k) defined contribution retirement plan that allows eligible employees to contribute a portion of their compensation through payroll deductions in accordance with specified plan guidelines. We make contributions to the plans that include matching a percentage of the employees’ contributions up to certain limits. Expenses related to this plan totaled approximately $24,000 and $0 for the three months ended September 30, 2018 and 2017, respectively, and approximately $72,000 and $0 for the nine months ended September 30, 2018 and 2017, respectively.

The Company has authorized 50,000,000 shares of common stock, of which 16,118,915 were issued and 16,085,461 outstanding at September 30, 2018; 13,522,168 shares were issued and 13,488,714 were outstanding as of December 31, 2017.

Stock Issuances

On September 17, 2018, the Company completed a public offering of 2,205,882 shares of its common stock, par value $0.01 per share, at a public offering price of $6.80 per share. Total proceeds to the Company from the offering, before deducting underwriting discounts and commissions and estimated offering expenses, were approximately $15 million. On September 21, 2018 the Company issued an additional 330,882 shares of its common stock pursuant to the exercise in full of the underwriters’ option received in connection with the public offering of its common stock. After giving effect to the full exercise of the option, Sensus sold an aggregate of 2,536,764 shares of its common stock at a price of $6.80 per share with total gross proceeds of approximately $17.25 million, before deducting underwriting discounts and commissions and other offering expenses.

Warrants

In April 2013, the closing date of the Company’s second common offering, the Company’s placement agent received investor rights to 5 year warrants to purchase 86,376 common shares of the Company at an exercise price of $4.55 per unit, which was equal to 110% of the offering price. During the first quarter of 2018, 73,309 of the warrants were exercised, and 13,067 warrants expired.

In June 2016, from the Company’s IPO, the investors received three-year warrants to purchase 2,300,000 shares of common stock at an exercise price of $6.75 per share; the warrants are exercisable through June 2, 2019. Following the first anniversary of the date of issuance, if certain conditions are met, the Company may redeem any and all of the outstanding warrants at a price equal to $0.01 per warrant.

In addition, the underwriter’s representatives for the IPO received four-year warrants to purchase up to 138,000 units, consisting of one share of common stock and one warrant to purchase one share of common stock. The warrants for the units are exercisable between June 2, 2017 and June 2, 2021 at an exercise price of $6.75 per unit.

The following table summarizes the Company’s warrant activity:

The intrinsic value of the common stock warrants was approximately $3,974,000 and $19,000 as of September 30, 2018, and December 31, 2017, respectively.

2016 and 2017 Equity Incentive Plans

The Company has limited the aggregate number of shares of common stock to be awarded under the 2016 Equity Incentive Plan to 397,473 shares and no more than 397,473 shares of common stock in the aggregate may be granted in connection with incentive stock options. The Company has limited the aggregate number of shares of common stock to be awarded under the 2017 Equity Incentive Plan to 500,000 shares and no more than 500,000 shares of common stock in the aggregate may be granted in connection with incentive stock options. In addition, unless the Compensation Committee specifically determines otherwise, the maximum number of shares available under the 2016 and 2017 Plans and the awards granted under those plans will be subject to appropriate adjustment in the case of any stock dividends, stock splits, recapitalizations, reorganizations, mergers, consolidations, exchanges or other changes in capitalization affecting our common stock.

On June 2, 2016, 307,666 shares of restricted stock were issued to employees and were recorded at the fair value of $5.25 as per the initial offering price. In addition, on January 20, 2017, 10,000 shares of restricted stock were issued to one employee and were recorded at the fair value of $4.99 per share. The restricted shares vest 25% per year over a four-year vesting period and are being recognized as expense on a straight-line basis over the vesting period of the awards.

On January 25, 2018, 80,000 fully vested shares were granted to the nonemployee directors, and 229,334 stock options with a four-year vesting period were granted to employees. The shares were recorded at the fair value of $5.55 per share for a total of $444,000 and the stock options were valued using a Black Scholes model at $3.52 per option using the assumptions noted in the following table.

The Company recognizes forfeitures as they occur rather than estimating a forfeiture rate. The reduction of stock compensation expense related to the forfeitures was approximately $39,000 and $7,000 for the nine months ended September 30, 2018 and 2017, respectively.

A summary of the restricted stock activity is presented as follows:

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

The intrinsic value of the stock options was approximately $649,000 and $0 as of September 30, 2018, and December 31, 2017, respectively.

Stock compensation expense of approximately $143,000 and $102,000 was recognized for the three months ended September 30, 2018 and 2017, respectively, and approximately $823,000 and $303,000 for the nine months ended September 30, 2017 and 2018, respectively. Unrecognized stock compensation expense was approximately $1,298,000 as of September 30, 2018, which will be recognized over the remaining vesting period. As of September 30, 2018, no shares were available to be granted under the 2016 Plan and 305,473 shares were available to be granted under the 2017 Plan.

Treasury Stock

The Company accounts for purchases of treasury stock under the cost method with the cost of such share purchases reflected in treasury stock in the accompanying condensed balance sheet. As of September 30, 2018 and December 31, 2017, the Company had 33,454 treasury shares.

Book income before taxes was negative for the three and nine months ended September 30, 2018. Tax expense for the three and nine months ended September 30, 2018 and 2017 was $0.

There are no uncertain tax positions that would require recognition in the financial statements. If the Company incurs an income tax liability in the future, interest on any income tax liability would be reported as interest expense and penalties on any income tax liability would be reported as income taxes. The Company’s conclusions regarding uncertain tax positions may be subject to review and adjustment at a later date based upon ongoing analyses of tax laws, regulations and interpretations thereof as well as other factors.

The Company accounts for income taxes in accordance with ASC 740, Income Taxes, 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 period, disclosure and transition.

As of September 30, 2018, the Company has U.S. federal and certain state tax returns subject to examination, beginning with those filed for the year 2014.

The Company evaluates subsequent events and transactions that occur after the balance sheet date up to the date that the financial statements were issued for potential recognition or disclosure. The Company did not identify any subsequent events that would have required adjustment or disclosure in the financial statements.

You should read the following discussion and analysis in conjunction with the information set forth within the financial statements and the notes thereto included elsewhere in this Quarterly Report on Form 10-Q, and with our Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2017 (“Annual Report”). The statements in this discussion regarding our expectations of our future performance, liquidity and capital resources, our plans, estimates, beliefs and expectations that involve risks and uncertainties, and other non-historical statements in this discussion, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The words “may,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “expect,” “intend,” “plan,” “target,” “goal,” and similar expressions are intended to identify forward-looking statements. These forward-looking statements are subject to numerous risks and uncertainties, including, but not limited to, the risks and uncertainties described under “Risk Factors” and elsewhere in this Quarterly Report on Form 10-Q. Our actual results may differ materially from those contained in or implied by any forward-looking statements. Please see the Introductory Note and Item 1A. Risk Factors of our Annual Report, as updated in our subsequent quarterly reports filed on Form 10-Q, and in our other filings made from time to time with the SEC after the date of this report.

Overview

The Company was formed in 2010 to design, manufacture and market proprietary medical devices specializing in the treatment of non-melanoma skin cancers and other skin conditions, such as keloids, with superficial radiation therapy. In February 2018, the Company opened a subsidiary in Israel.

The SRT-100 is a photon x-ray low energy superficial radiotherapy system that provides patients an alternative to surgery for treating non-melanoma skin cancers, including basal cell and squamous cell skin cancers and other skin conditions such as keloids. The SRT-100 may be used to treat primary lesions that would otherwise be difficult to treat or require extensive surgery involving sensitive areas of the head and neck regions, such as the fold in the nose, eyelids, lips, corner of the mouth, and the lining of the ear, which could lead to a less than desirable cosmetic outcome. Superficial radiation therapy treatment procedures do not require the use of anesthetics and eliminates the need for skin grafting. The SRT-100 provides healthcare providers and patients with a safe, virtually painless, and substantially non-scarring treatment option for non-melanoma skin cancer and other skin conditions, such as keloids. It allows dermatologists to retain non-melanoma skin cancer patients, rather than referring them to specialists, while offering radiation oncologists an alternative to costly linear accelerator–based treatments with a process that is less invasive, more time-efficient, and improves practice economics. Our revenue is primarily derived from sales of our SRT-100 product line, which includes the SRT-100 Vision that offers additional features most notably high-frequency ultrasound for imaging.

Components of our results of operations

We manage our business globally within one reportable segment, which is consistent with how our management reviews our business, prioritizes investment and resource allocation decisions and assesses operating performance.

Results of Operations

Three months ended September 30, 2018 compared to the three months ended September 30, 2017

Revenue. Revenue was $6,333,996 for the three months ended September 30, 2018 compared to $4,795,616 for the three months ended September 30, 2017, an increase of $1,538,380, or 32.1%. The growth in revenue was primarily attributable to an increase in sales of the higher priced SRT-100 Vision product in the current quarter.

Cost of sales . Cost of sales was $2,165,345 for the three months ended September 30, 2018 compared to $1,577,715 for the three months ended September 30, 2017, an increase of $587,630, or 37.2%. The increase in cost was due to the increase in sales.

Gross profit. Gross profit was $4,168,651 for the three months ended September 30, 2018 compared to $3,217,901 for the three months ended September 30, 2017, an increase of $950,750, or 29.5%. Our overall gross profit percentage was 65.8% in the three months ended September 30, 2018 compared to 67.1% in the corresponding period in 2017. The decrease in gross margin percentage was primarily due to a decrease in the average selling price.

Selling and marketing. Selling and marketing expense was $1,971,539 for the three months ended September 30, 2018 compared to $1,844,199 for the three months ended September 30, 2017, an increase of $127,339, or 6.9%. The increase was primarily attributable to an increase in commission expense directly related to the increase in sales.

General and administrative. General and administrative expense was $907,746 for the three months ended September 30, 2018 compared to $837,972 for the three months ended September 30, 2017, an increase of $69,774, or 8.3%. The increase in general and administrative was primarily due to an increase in professional services.

Research and development. Research and development expense was $1,712,725 for the three months ended September 30, 2018 compared to $1,501,157 for the three months ended September 30, 2017, an increase of $211,569, or 14.1%. The increase in research and development spending was primarily attributable to the continuation and acceleration of R&D projects.

Other income (expense). We incur interest expense in connection with our secured credit facility with Silicon Valley Bank and interest income from our cash and investments. Interest expense increased in 2018 with the increase in borrowings on the line of credit.

Nine months ended September 30, 2018 compared to the nine months ended September 30, 2017

Revenue. Revenue was $18,346,193 for the nine months ended September 30, 2018 compared to $14,118,130 for the nine months ended September 30, 2017, an increase of $4,228,063, or 29.9%. The growth in revenue was primarily attributable to an increase in sales of the higher priced SRT-100 Vision product.

Cost of sales . Cost of sales was $6,296,653 for the nine months ended September 30, 2018 compared to $4,631,263 for the nine months ended September 30, 2017, an increase of $1,665,390, or 36.0%. The increase in cost was due to the increase in sales.

Gross profit. Gross profit was $12,049,540 for the nine months ended September 30, 2018 compared to $9,486,867 for the nine months ended September 30, 2017, an increase of $2,562,673, or 27.0%. Our overall gross profit percentage was 65.7% in the nine months ended September 30, 2018 compared to 67.2% in the corresponding period in 2017. The decrease in gross margin percentage was primarily due to the decrease in average selling price.

Selling and marketing. Selling and marketing expense was $6,146,759 for the nine months ended September 30, 2018 compared to $6,211,124 for the nine months ended September 30, 2017, a decrease of $64,365, or 1.0%. The decrease was primarily attributable to lower spending on marketing activities.

General and administrative. General and administrative expense was $3,163,621 for the nine months ended September 30, 2018 compared to $2,798,198 for the nine months ended September 30, 2017, an increase of $365,423, or 13.1%. The net increase was due primarily to a non-recurring stock compensation expense of $444,000, offset by a decrease in bad debt expense and professional fees.

Research and development. Research and development expense was $4,775,767 for the nine months ended September 30, 2018 compared to $3,795,477 for the nine months ended September 30, 2017, an increase of $980,290, or 25.8%. The increase in research and development spending was primarily attributable to continuation and acceleration of R&D projects.

Other income (expense). We incur interest expense in connection with our secured credit facility with Silicon Valley Bank and interest income from our cash and investments. Interest expense increased in 2018 with the increase in borrowings on the line of credit.

Financial Condition

Our cash, cash equivalent and investment balance increased from $11.2 million at December 31, 2017 to $17.1 million at September 30, 2018, primarily as a result of the net proceeds of $15.8 million from the share offering in September 2018, offset by the operating loss of $2.0 million during the nine months ended in September 30, 2018 as well as the $5.7 million increase in accounts receivable as a result of higher sales and longer payment terms to certain customers.

Borrowings under the revolving line of credit of $4.2 million were repaid in September 2018.

Liquidity and Capital Resources

Overview

Our liquidity position and capital requirements may be impacted by a number of factors, including the following:

Our primary short-term capital needs, which are subject to change, include expenditures related to:

We regularly evaluate our cash requirements for current operations, commitments, capital requirements and business development transactions, and we may elect to raise additional funds for these purposes in the future.

Cash flows

The following table provides a summary of our cash flows for the periods indicated:

Cash flows from operating activities

Net cash used in operating activities was $6,911,317 for the nine months ended September 30, 2018, consisting of a net loss of $2,124,672 and an increase in net operating assets of $6,096,780, partially offset by non-cash charges of $1,310,134. The increase in net operating assets was primarily due to the increase in accounts receivable from higher sales and longer payment terms to a key customer, increase in inventories and prepaid and other current assets as well as an increase in accounts payables and deferred revenue. Non-cash charges consisted of stock compensation expense, depreciation and amortization, bad debts and warranty provision. Net cash used in operating activities was $3,851,535 for the nine months ended September 30, 2017, primarily due to the increase in accounts receivable and inventories as well as an increase in accounts payable and accrued expenses.

Cash flows from investing activities

Net cash provided by investing activities was $342,260 due to the maturity of debt securities held-to-maturity for $1,104,635, offset by $762,375 for the acquisition of property and equipment during the nine months ended September 30, 2018. Net cash provided by investing activities was $4,310,901 for the nine months ended September 30, 2017 due to the maturity of debt securities held-to-maturity of $4,816,000, offset by the purchase of debt securities held-to-maturity for $264,365 and $240,734 for acquisition of property and equipment.

Cash flows from financing activities

Net cash provided by financing activities was $13,604,908 during the nine months ended September 30, 2018, mostly from the gross proceeds of $17,249,995 from the offering of common stock and $90,867 exercise of warrants offset by $2,214,970 repayment of our revolving credit facility, $1,402,336 offering costs and $118,648 withholding tax on stock compensation. Net cash provided by financing activities was $1,336,684 during the nine months ended September 30, 2017, mainly from $1,625,970 in borrowing from our revolving credit facility.

Capital resources

On November 6, 2017, we filed a universal shelf registration statement to offer up to $20 million of our securities. In September 2018, we issued and sold 2,536,764 shares of our common stock in a follow-on public offering at a price of $6.80 per share, for an aggregate offering price of $17.25 million. Due to the SEC’s “baby shelf” rules, which prohibit companies with a public float of less than $75 million from issuing securities under a shelf registration statement in excess of one-third of such company’s public float in a twelve-month period, the amount of securities that we could currently issue is severely limited. As a result, until the limit increases, we do not anticipate issuing additional securities under the shelf registration statement.

Silicon Valley Bank Secured Credit Facility

On March 12, 2013, the Company entered into a two-year $3 million revolving credit facility. The credit facility was amended and extended effective March 12, 2015 through May 12, 2017. The maximum borrowing was reduced to $1,500,000 and was limited by the Company’s eligible borrowing base of 80% of eligible accounts receivable. On September 21, 2016, a second amendment to the credit facility extended the facility through September 21, 2017, increased the maximum borrowing to $2,000,000 and expanded the eligible accounts receivables to include certain international receivables. The Company was not in compliance in April and May 2017 with one of its financial covenants. On June 27, 2017, the covenant defaults were waived and the agreement was amended to modify the financial covenants effective June 2017. An amendment signed on September 15, 2017 extended the maturity date of the credit line through November 19, 2017. On October 31, 2017, the Company amended its revolving credit facility to extend the maturity to October 31, 2019 and to amend the financial covenants. The availability under the amended facility will equal the lesser of the $5 million commitment amount or the borrowing base plus the $2.5 million non-formula sublimit. The borrowing base consists of 80% of eligible accounts receivable, as defined in the agreement.

Interest, at Prime plus 0.75% (6.00% at September 30, 2018) and Prime plus 1.50% on non-formula borrowings (6.75% at September 30, 2018), is payable monthly, and the outstanding principal and interest are due on the maturity date. The facility is secured by all of the Company’s assets and limits the amount of additional indebtedness, restricts the sale, disposition or transfer of assets of the Company and requires the maintenance of a certain monthly adjusted quick ratio restrictive covenant, as defined in the agreement. The Company was in compliance with its financial covenants as of September 30, 2018 and December 31, 2017. There were no borrowings under the revolving credit facility at September 30, 2018 and approximately $2,215,000 was outstanding at December 31, 2017. The Company pays commitment fees of 0.25% per annum on the average unused portion of the line of credit.

Off-Balance Sheet Arrangements

We did not have during the periods presented, and do not currently have, any off-balance sheet arrangements.

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations are based on our financial statements, which have been prepared in accordance with generally accepted accounting principles in the U.S., or GAAP. We have identified certain accounting policies as critical to understanding our financial condition and results of our operations. For a detailed discussion on the application of these and other accounting policies, see the notes to our financial statements and our Annual Report on Form 10-K filed with the Securities and Exchange Commission, or SEC, for the year ended December 31, 2017.

JOBS Act

We qualify as an “emerging growth company” pursuant to the provisions of the JOBS Act. For as long as we are an “emerging growth company,” we may take advantage of certain exemptions from various reporting requirements that are applicable to other public companies that are not “emerging growth companies,” including, but not limited to, not being required to comply with the auditor attestation requirements of Section 404(b) of the Sarbanes-Oxley Act, reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements, reduced disclosure obligations relating to the presentation of financial statements in Management’s Discussion and Analysis of Financial Condition and Results of Operations, exemptions from the requirements of holding advisory “say-on-pay” votes on executive compensation and shareholder advisory votes on golden parachute compensation. We have availed ourselves of the reduced reporting obligations in this Quarterly Report on Form 10-Q, and expect to continue to avail ourselves of the reduced reporting obligations available to emerging growth companies in future filings.

In addition, an emerging growth company can delay its adoption of certain accounting standards until those standards would otherwise apply to private companies. However, we have chosen to “opt out” of such extended transition period, and as a result, we plan to comply with any new or revised accounting standards on the relevant dates on which non-emerging growth companies must adopt such standards. Section 107 of the JOBS Act provides that our decision to opt out of the extended transition period for complying with new or revised accounting standards is irrevocable.

Not applicable.

Evaluation of Disclosure Control and Procedures

As of September 30, 2018, the end of the period covered by this Form 10-Q, our management, including our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934). Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer each concluded that, as of September 30, 2018, the end of the period covered by this Form 10-Q, we maintained effective disclosure controls and procedures.

Changes in Internal Control over Financial Reporting

Our management, including the Chief Executive Officer and Chief Financial Officer, has reviewed our internal control over financial reporting (as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934). There have been no significant changes in our internal control over financial reporting during our most recently completed fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

The Company is 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. See Note 6, Commitments and Contingencies.

An investment in our securities involves risks. You should carefully consider the risk factors as previously disclosed in our Form 10-K filed with the SEC for the year ended December 31, 2017, as updated in our subsequent quarterly reports, together with the other information in this Quarterly Report on Form 10-Q, including the financial statements and related notes, before deciding whether to purchase, hold, or sell our securities. The occurrence of any of these risks could harm our business, financial condition, or results of operations or cause our actual results to differ materially from those contained in forward-looking statements we have made in this report and those we may make from time to time. You should consider all of the risk factors described when evaluating our business. There have been no material changes to the risk factors as previously disclosed in our Form 10-K filed with the SEC for the year ended December 31, 2017, the discussion of which is specifically incorporated by reference into this Quarterly Report on Form 10-Q.

(a) Sales of Unregistered Securities

There were no unregistered sales of securities during the three months ended September 30, 2018.

(b) Use of Proceeds from the Sale of Registered Securities

None.

(c) Purchases of Equity Securities by the Registrant and Affiliated Purchases.

None.

None.

Not applicable.

None.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.