| 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, 2022 included in our Annual Report on Form 10-K, filed with the SEC on March 31, 2023 (the “2022 Annual Report”).
Executive Summary
We realized significant revenue growth during the three months ended March 31, 2023. Revenue totaled $3.8 million, an increase of 18%, as compared to $3.2 million for the same period of 2022. Gross margins also decreased to 67% for the three months ended March 31, 2023, from 72% for the same period in 2022, due to third party manufacturer price increases as compared to the prior year.
Net loss for the three months ended March 31, 2023, was $13.1 million, or ($0.02) per basic and diluted share, compared to a net loss of $5.1 million, or ($0.01) per basic and diluted share, for the same period in 2022. The increase in our net loss for the three months ended March 31, 2023, was due to the increased cost of financing to fund operations.
Results of Operations
| | | For the Three Months Ended | |
| | | March 31, | | | Change | |
| | | 2023 | | | 2022 | | | $ | | |
| % | |
| Revenues: | | | | | | | | | | | | | |
| Total Revenue | | $ | 3,775 | | | $ | 3,195 | | | $ | 580 | | | | 18 | % |
| Cost of Revenues | | | 1,262 | | | | 889 | | | | 373 | | | | 42 | % |
| Gross Margin | | | 2,513 | | | | 2,306 | | | | 207 | | | | 9 | % |
| Operating Expenses: | | | | | | | | | | | | | | | | |
| General and administrative | | | 2,759 | | | | 2,205 | | | | 554 | | | | 25 | % |
| Selling and marketing | | | 1,412 | | | | 1,715 | | | | (303 | ) | | | -18 | % |
| Research and development | | | 131 | | | | 166 | | | | (35 | ) | | | -21 | % |
| Depreciation and amortization | | | 189 | | | | 176 | | | | 13 | | | | 7 | % |
| Operating Loss | | | (1,978 | ) | | | (1,956 | ) | | | (22 | ) | | | 1 | % |
| Other Income (Expense), net | | | (11,102 | ) | | | (3,145 | ) | | | (7,957 | ) | | | 253 | % |
| Net Loss | | $ | (13,080 | ) | | $ | (5,101 | ) | | | (7,979 | ) | | | 156 | % |
Revenues and Gross Margin
Revenues for the three month-period ended March 31, 2023, were $3.8 million compared to $3.2 million for the same period of 2022, an increase of $0.6 million. The increase was driven by the continued increased sales of UltraMIST® system.
Gross margin as a percentage of revenue decreased to 67% from 72% during the three-month period ended March 31, 2023. The decrease in gross margin percentage for the three months ended March 31, 2023, was driven by higher cost of production from our third-party manufacturers.
General and Administrative Expenses
General and administrative expenses increased $554 thousand or 25% for the three months ended March 31, 2023, compared with the same period of 2022. The increase for the three months ended March 31, 2023, was primarily due to increased professional fees, including legal expenses, audit fees, and other consulting fees.
Selling and Marketing Expenses
Selling and marketing expenses decreased by $303 thousand or 18% for the three months ended March 31, 2023, as compared with the same period of 2022. The decrease was primarily due to a reduction in sales headcount during 2023 and additional cost management activities.
Research and Development Expenses
Research and development expenses decreased $35 thousand or 21% for the three-month period ended March 31, 2023, as compared with the same period of 2022. Research and development expense as a percentage of revenue decreased from 5% during the three-month period ended March 31, 2022, to 3% for the same period in 2023. The decrease is primarily due to improved cost management in 2023.
Other Income (Expense), net
| | | For the three months ended March 31, | | | Change | |
| | | 2023 | | | 2022 | | | $ | | |
| % | |
| | | | | | | | | | | | | | |
| Interest expense | | $ | (4,278 | ) | | $ | (3,192 | ) | | $ | (1,086 | ) | | | 34 | % |
| Change in fair value of derivatives | | | (6,797 | ) | | | 3,482 | | | | (10,279 | ) | | | -295 | % |
| Loss on issuance of debt | | | - | | | | (3,434 | ) | | | 3,434 | | | nm | |
| Other expense | | | (27 | ) | | | - | | | | (27 | ) | | nm | |
| Loss on foreign currency exchange | | | - | | | | (1 | ) | | | 1 | | | nm | |
| Other expense, net | | $ | (11,102 | ) | | $ | (3,145 | ) | | $ | (7,957 | ) | | | 253 | % |
nm - not meaningful
Other expense, net increased by $7.9 million to $11.1 million for the three months ended March 31, 2023, as compared to the same period for 2022. This increase was due to increased convertible promissory notes outstanding from the transactions executed during the second half of 2022 and an increased change in the fair value of warrants and their embedded conversion liabilities.
Liquidity and Capital Resources
Since inception, we have incurred losses from operations each year. As of March 31, 2023, we had an accumulated deficit of $207 million. Historically, our operations have primarily been funded from the sale of capital stock, notes payable, and convertible debt securities. The recurring losses from operations, the events of default on our notes payable, and dependency upon future issuances of equity or other financing to fund ongoing operations have raised substantial doubt as to our ability to continue as a going concern for a period of at least twelve months from the filing of this Form 10-Q. We expect to devote substantial resources for the commercialization of UltraMIST and PACE systems which will require additional capital resources to remain a going concern.
Management’s plans are to obtain additional capital in 2023 through the conversion of outstanding warrants, 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 stockholders. 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.
| | | For the three months ended March 31, | |
| (in Thousands) | | 2023 | | | 2022 | |
| Cash flows used by operating activities | | $ | (371 | ) | | $ | (3,132 | ) |
| Cash flows (used by) provided by investing activities | | $ | (18 | ) | | $ | 360 | |
| Cash flows (used by) provided by financing activities | | $ | (654 | ) | | $ | 2,470 | |
Cash used in operating activities during the three months ended March 31, 2023, totaled $0.4 million as compared to $3.1 million in the previous period. This improvement in cash used in operations aligns with our approach for profitable growth.
Cash used by financing activities of $0.8 million for the three months ended March 31, 2023, was primarily due to our factoring arrangement. Cash provided by financing activities for the three months ended March 31, 2022, consisted primarily of $2.9 million received from our senior lender.
Critical Accounting Policies and Estimates
We have used various accounting policies to prepare the consolidated financial statements in accordance with U.S. GAAP. Our significant accounting policies are disclosed in Note 4 to the consolidated financial statements in Part II Item 8. “Financial Statements and Supplementary Data” in our Annual Report on Form 10-K filed with the SEC on March 31, 2023.
The preparation of the condensed consolidated financial statements, in conformity with U.S. GAAP, requires us to use judgment in making estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, and expenses. These estimates reflect our best judgment about economic and market conditions and the potential effects on the valuation and/or carrying value of assets and liabilities based upon relevant information available. We base our estimates on historical experience and on various assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.
The following accounting policies and estimates are deemed critical:
Litigation Contingencies
We may be involved in legal actions involving product liability, intellectual property and commercial disputes, tax disputes, and governmental proceedings and investigations. The outcomes of these legal actions are not completely within our control and may not be known for prolonged periods of time. In some actions, the enforcement agencies or private claimants seek damages that could require significant expenditures or result in lost revenues or limit our ability to conduct business in the applicable jurisdictions. Estimating probable losses from our litigation and governmental proceedings is inherently difficult, particularly when the matters are in early procedural stages, with incomplete scientific facts or legal discovery; involve unsubstantiated or indeterminate claims for damages; potentially involve penalties, fines, or punitive damages; or could result in a change in business practice. The Company records a liability in the consolidated financial statements for loss contingencies when a loss is known or considered probable, and the amount may be reasonably estimated. If the reasonable estimate of a known or probable loss is a range, and no amount within the range is a better estimate than any other, the minimum amount of the range is accrued. If a loss is reasonably possible but not known or probable, and may be reasonably estimated, the estimated loss or range of loss is disclosed. Our significant legal proceedings are discussed in Note 11 to the condensed consolidated financial statements.
Derivative Liabilities from Embedded Conversion Options and Warrants
The Company classified certain convertible instruments as having embedded conversion options which qualified as derivative financial instruments to be separately accounted for. The Company also determined that certain warrants also qualified as derivative financial instruments. Various valuations models were used to estimate the fair value of these derivative financial instruments that are classified as derivative liabilities on the consolidated balance sheets. The models include subjective input assumptions that can materially affect the fair value estimates and as such are subject to uncertainty. The material assumptions for the selected subjective inputs have not changed for the reporting period, except for the expected volatility, which is estimated based on the actual volatility during the most recent historical period equal to the remaining life of the instruments.
Valuation of Intangible Assets and Goodwill
When we acquire a business, the assets acquired, and liabilities assumed are recorded at their respective fair values on the acquisition date. Goodwill is the excess of the purchase price over the estimated fair value of net assets of acquired businesses. Intangible assets primarily include patents, trademarks, and customer relationships. Determining the fair value of intangible assets acquired as part of a business combination requires us to make significant estimates. These estimates include the amount and timing of projected future cash flows of each project or technology, the discount rate used to discount those cash flows to present value, and the assessment of the asset’s life cycle. The estimates could be impacted by legal, technical, regulatory, economic, and competitive risks. The test for impairment of goodwill requires us to make several estimates to determine the fair value of the goodwill. Our estimates associated with the goodwill impairment test are considered critical due to the amount of goodwill recorded on our consolidated balance sheets and the judgment required in determining fair value. We assess the impairment of goodwill at the consolidated level annually. We also test definite-lived intangible assets for impairment when an event occurs, or circumstances change that would indicate the carrying amount of the assets or asset group may be impaired. Our assessment for goodwill and intangible assets impairment is based on future cash flows that require significant judgment with respect to future revenue and expense growth rates and other assumptions and estimates. We use estimates that are consistent with the highest and best use of the assets based on a market participant’s view of the assets being evaluated. Actual results may differ from our estimates due to several factors including, among others, changes in competitive conditions, regulatory changes, results of clinical trials, and changes in worldwide economic conditions.
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, the 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 2022 Annual Report for additional discussions of these obligations.
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.
| 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.
| Item 4. | CONTROLS AND PROCEDURES |
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures, as defined in Rule 13a-15(e) and 15d-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), that are designed to provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the Company’s management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.
We carried out an evaluation under the supervision and with the participation of our management, including our Chief Executive Officer (principal executive officer) and Chief Financial Officer (principal financial officer and accounting officer), of the effectiveness of the design and operation of our disclosure controls and procedures as of March 31, 2023. Based on this evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were not operating effectively as of March 31, 2023. Our disclosure controls and procedures were not effective because of the “material weakness” described below.
As of March 31, 2023, the Company has still identified the following material weaknesses:
| 1. | Expertise and resources to analyze and properly apply U.S. GAAP to complex and non-routine transactions such as complex financial instruments and derivatives and complex sales distributing agreements with select vendors. |
| 2. | A lack of internal resources to analyze and properly apply U.S. GAAP to accounting for financial instruments included in service agreements with select vendors. |
| 3. | The Company has failed to design and implement controls around all accounting and IT processes and procedures and, as such, we believe that all its accounting and IT processes and procedures need to be re-designed and tested for operating effectiveness. |
As a result, management concluded that its internal control over reporting was not effective as of March 31, 2023.
Remediation Plan
We are working with an external vendor to properly document our current internal control policies and procedures to provide the framework for increased effectiveness to test internal controls going forward. We are also adding automated and manual controls into and over the Company’s ERP system to ensure that order to cash controls are implemented to mitigate the risk in customer creation, pricing, and accuracy of billing. We will continue to work with our external vendor to remediate the weaknesses noted above.
We are also working with an outside vendor to improve our IT general controls over our ERP system and set up a proper framework for IT general controls to be executed with the objective to remediate the weaknesses regarding internal controls and provide the framework for testing going forward.
While the above actions and planned actions are subject to ongoing management evaluation and will require validation and testing of the design and operating effectiveness of internal control over a sustained period, we are committed to continuous improvement and will continue to diligently review our internal control over financial reporting. The material weaknesses will not be considered remediated until management completes the design and implementation of the measures described above, until the controls operate for a sufficient period of time, and until management has concluded, through testing, that the controls are effective.
There is no assurance that the measures described above will be sufficient to remediate the previously identified material weaknesses and significant deficiencies.
Changes in Internal Control over Financial Reporting
There have been no changes in our internal control over financial reporting that occurred during the quarter ended March 31, 2023, that materially affect, or are reasonably likely to materially affect, our internal control over financial reporting, except as disclosed in “Remediation Plan” above.
PART II — OTHER INFORMATION
| Item 1. | LEGAL PROCEEDINGS. |
From time to time, the Company is subject to various legal actions, claims and proceedings arising in the ordinary course of business, including claims related to breach of contract and intellectual property matters resulting from our business activities. As with most actions such as these, an estimation of any possible and/or ultimate liability cannot always be determined. The Company believes that all pending claims, if adversely decided, would not have a material adverse effect on our business, financial position or results of operations.
There have been no material changes from our risk factors as previously reported in Part I, Item 1A “Risk Factors – Risks Related to Our Business” in our 2022 Annual Report.
| Item 2. | UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS. |
The information required by this item is disclosed in Part II, Item 5. “Other Information” of this Form 10-Q and is incorporated herein by reference.
| Item 3. | DEFAULTS UPON SENIOR SECURITIES. |
Not applicable.
| Item 4. | MINE SAFETY DISCLOSURES. |
Not applicable.
| Item 5. | OTHER INFORMATION. |
Because we are filing this Quarterly Report on Form 10-Q within four business days after the triggering event, we are making the following disclosure under this Item 5 instead of filing a Current Report on Form 8-K under Item 1.01, Entry into a Material Definitive Agreement; Item 2.03, Creation of a Direct Financial Obligation, or an Obligation under an Off-Balance Sheet Arrangement of a Registrant; and Item 3.02, Unregistered Sales of Equity Securities:
Securities Purchase Agreement and Common Stock Warrant
On May 9, 2022, SANUWAVE Health, Inc. (the “Company”) entered into a Securities Purchase Agreement (the “Purchase Agreement”), with the purchasers identified on the signature pages thereto (the “Purchasers”) for the sale by the Company in a private placement (the “Private Placement”) of (i) the Company’s future advance convertible promissory notes in an aggregate principal amount of approximately $1.2 million (the “Notes”), and (ii) warrants to purchase an additional 30.7 million shares of common stock of the Company with an exercise price of $0.067 per share (the “First Warrants”) and (iii) warrants to purchase an additional 30.7 million shares of common stock of the Company with an exercise price of $0.04 per share (the “Second Warrants,” collectively with the First Warrants, the “Warrants”). The exercise price of the Warrants is subject to adjustment, including if the Company issues or sells shares of common stock or Share Equivalents (as defined in the Warrants) for an effective consideration price less than the exercise price of the Warrants or if the Company lists its shares of common stock on the Nasdaq Capital Market and the average volume weighted average price of such common stock for the five trading days preceding such listing is less than $0.04 per share; provided, however, that the exercise price of the Warrants shall never be less than $0.01 per share. The Warrants have a five-year term. The closing of the Private Placement occurred on May 9, 2023 (the “Closing Date”). At the Closing Date, the Company received total proceeds of $1.2 million.
The securities in the Private Placement were offered and sold in a transaction exempt from registration under the Securities Act of 1933, as amended (the “Securities Act”), in reliance on Section 4(a)(2) thereof. Each Purchaser represented that it was an accredited investor.
Notes
As described above, on May 9, 2023, the Company issued Notes to the Purchasers in an aggregate principal amount of $1.2 million. Pursuant to the Notes, the Company promised to pay each Purchaser, its designee or registered assigns (the “Holder”) in cash and/or in shares of common stock, at a conversion price of $0.04 (the “Conversion Price”), the principal amount (subject to reduction pursuant to the terms of the Note, the “Principal”) as may be advanced in disbursements (each, a “Disbursement” and together, the “Disbursements” with total principal of outstanding Disbursements equaling Principal), and to pay interest at a rate of fifteen percent (15%) per annum (“Interest”) on any outstanding Principal at the applicable Interest rate from the date of the Notes until the Notes are accelerated, converted, redeemed or otherwise. The Conversion Price of the Notes is subject to adjustment, including if the Company issues or sells shares of common stock for a price per share less than the Conversion Price of the Notes or if the Company lists its shares of common stock on the Nasdaq Capital Market and the average volume weighted average price of such common stock for the five trading days preceding such listing is less than $0.04 per share; provided, however, that the Conversion Price shall never by less than $0.01.
In connection with the Private Placement, on May 9, 2023, the Company entered into a security agreement in favor of each Purchaser to secure the Company’s obligations under the Notes (the “Security Agreement”).
The rights of each Purchaser to receive payments under its Notes are subordinate to the rights of NH Expansion Credit Fund Holdings LP (“North Haven Expansion”) pursuant to a subordination agreement, which the Company and the Purchasers entered into with North Haven Expansion on May 9, 2023, in connection with the Private Placement (the “Subordination Agreement”).
Registration Rights Agreement
In connection with the Purchase Agreement, the Company entered into a registration rights agreement with the Purchasers on May 9, 2023 (the “Registration Rights Agreement”), pursuant to which the Company agreed to file a registration statement (the “Registration Statement”) with the SEC no later than sixty (60) days following the Closing Date to register the resale of the number of shares of common stock issuable upon conversion of the Notes and exercise of the Warrants issued pursuant to such Purchase Agreement (the “Registrable Securities”) and to cause the Registration Statement to become effective within one-hundred eighty (180) days following the Closing Date. The Company shall use its best efforts to keep the Registration Statement continuously effective under Securities Act, until all Registrable Securities have been sold, or may be sold without the requirement to be in compliance with Rule 144(c)(1) of the Securities Act and otherwise without restriction or limitation pursuant to Rule 144 of the Securities Act, as determined by the counsel to the Company.
| Exhibit No. | Description |
| |
| Articles of Incorporation (Incorporated by reference to Exhibit 3.1 to the Form 10-SB filed with the SEC on December 18, 2007). |
| | |
| Certificate of Amendment to the Articles of Incorporation (Incorporated by reference to Appendix A to the Definitive Schedule 14C filed with the SEC on October 16, 2009). |
| | |
| Certificate of Amendment to the Articles of Incorporation (Incorporated by reference to Exhibit A to the Definitive Schedule 14C filed with the SEC on April 16, 2012). |
| | |
| Bylaws (Incorporated by reference to Exhibit 3.02 to the Form 10-SB filed with the SEC on December 18, 2007). |
| | |
| Certificate of Designation of Preferences, Rights and Limitations of Series A Convertible Preferred Stock of the Company dated March 14, 2014 (Incorporated by reference to Exhibit 3.1 to the Form 8-K filed with the SEC on March 18, 2014). |
| | |
| Certificate of Amendment to the Articles of Incorporation, dated September 8, 2015 (Incorporated by reference to Exhibit 3.6 to the Form 10-K filed with the SEC on March 30, 2016). |
| | |
| Preferred Stock of the Company dated January 12, 2016 (Incorporated by reference to Exhibit 3.1 to the Form 8-K filed with the SEC on January 19, 2016). |
| | |
| Preferred Stock of the Company dated January 31, 2020 (Incorporated by reference to Exhibit 3.1 to the Form 8-K filed with the SEC on February 6, 2020). |
| Certificate of Designation of Preferences, Rights and Limitations of Series C Convertible Preferred Stock of the Company dated January 31, 2020 (Incorporated by reference to Exhibit 3.1 to the Form 8-K filed with the SEC on February 6, 2020). |
| | |
| Certificate of Designation of Series D Convertible Preferred Stock (Incorporated by reference to Exhibit 3.1 to the Form 8-K filed with the SEC on May 20, 2020). |
| | |
| Certificate of Amendment of the Articles of Incorporation (Incorporated by reference to Exhibit 3.1 to the Form 8-K filed with the SEC on January 5, 2021). |
| | |
| Certificate of Amendment of the Articles of Incorporation, dated January 31, 2023 (Incorporated by reference to Exhibit 3.12 to the Form S-1/A filed with the SEC on January 31, 2023). |
| | |
| Rule 13a-14(a)/15d-14(a) Certification of the Chief Executive Officer. |
| |
| Rule 13a-14(a)/15d-14(a) Certification of the Chief Financial Officer. |
| |
| Section 1350 Certification of the Principal Executive Officer. |
| |
| Section 1350 Certification of the Chief Financial Officer. |
| |
101.INS* | XBRL Instance. |
| |
101.SCH* | XBRL Taxonomy Extension Schema. |
| |
101.CAL* | XBRL Taxonomy Extension Calculation. |
| | |
101.DEF* | XBRL Taxonomy Extension Definition. |
| |
101.LAB* | XBRL Taxonomy Extension Labels. |
| |
101.PRE* | XBRL Taxonomy Extension Presentation. |
| |
104 | Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101). |
*Filed herewith.
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.
| | SANUWAVE HEALTH, INC. |
| | | |
| Dated: May 11, 2023 | By: /s/ Kevin A. Richardson, II |
| | | Kevin A. Richardson, II |
| | | Chief Executive Officer |
| | | (Duly Authorized Officer and Principal Executive Officer) |
| | | |
| Dated: May 11, 2023 | By: /s/ Toni Rinow |
| | | Toni Rinow |
| | | Chief Financial Officer |
| | | (Principal Financial and Accounting Officer) |
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