Insight
Nanophase is a health-oriented, science-driven company, which, along with its wholly owned subsidiary, Solésence, LLC (our "Solésence beauty science subsidiary"), is focused in various beauty- and life-science markets. Our primary skin health products are fully developed prestige skin care formulations with mineral-based UV protection, marketed and sold through our Solésence beauty science subsidiary, enabled by our proprietary Active Pharmaceutical Ingredients ("APIs") which are also marketed as APIs for sale to manufacturers of other types of skin health products, including sunscreens and daily care products. In terms of the balance of our life sciences focus, we have seen current conditions significantly increase demand for our medical diagnostics ingredients, which are used in testing for various viruses, most notably COVID-19. Additionally, we continue to sell products in legacy markets including architectural coatings, industrial coating applications, abrasion-resistant additives, plastics additives, and surface finishing technologies (polishing) applications- all of which, along with medical diagnostics, currently fall into the advanced materials product category. Leveraging a platform of integrated patented and proprietary technologies, we create products with unique performance to enhance end-consumers' health and well-being. We offer soup-to-nuts production, from engineered materials, formulation development, and finished product development, to commercial manufacturing and packaging capabilities. Our expertise in materials engineering allows us to effectively coat and disperse materials on a nano and "non-nano" scale for use in a variety of markets in skin health, including for use in sunscreens as APIs and as fully developed prestige skin care products, marketed and sold through our Solésence beauty science subsidiary. We believe that we have developed technological advantages with respect to our APIs sold for use as ingredients, while our Solésence beauty science technologies lead to enhanced efficacy and aesthetics in our finished products, which have received broad acceptance in the marketplace. Due to the enhanced efficacy and aesthetic qualities offered by our proprietary technology platform, Solésence finished products satisfy growing consumer demands around "clean" and inclusive beauty. Solésence beauty science also benefits from the Company's vertical integration with each product's key active ingredient that delivers its point-of-difference. This vertical integration helps us to improve efficiency and avoid potential major supply chain challenges while also addressing ongoing sustainability efforts. Given the Russian invasion ofUkraine , we do not anticipate any directly related supply disruptions as we do not knowingly source any materials directly from either country. We have seen recent conditions significantly increase demand for our medical diagnostics materials. Polymerase Chain Reaction ("PCR") testing for various viruses, most notably SARS-CoV-2 ("COVID-19"), has become a critical use of our technology in the life science space. While we saw reduced demand for these materials in 2021, it is difficult to predict whether the increased demand for our medical diagnostic materials used in COVID-19 testing will expand from 2021 levels over the next few years. Our expectation is that we may establish a new sales volume "floor" over the next few years as we continue through the unprecedented period of testing utilization and awareness of the way viruses impact all of us. We believe that our deep expertise in materials science has created advantages that enable performance in certain tests that may not be achievable through other materials. Outside of life science, we continue to sell advanced materials for use in legacy applications, all of which, along with medical diagnostics, currently fall into the advanced materials product category. Given our technological position, in addition to the historical market acceptance of our APIs for use in skin health products and sunscreens, rapidly growing sales for our suite of Solésence® finished products, and the expanded use of our diagnostic materials in aiding the fight to curb the spread of COVID-19 and other viruses, in 2021 we announced that we reoriented our Company strategy. We continue to see unprecedented demand in both beauty science and life science areas. The markets for both have shown an appetite for what we are producing, and management believes that this growth is happening now due to a confluence of our technology, market conditions that favor what we produce, and our expanded expertise in these areas.Nanophase , and Solésence, is now focusing our combined business-, ingredient-, and product-development capabilities on products with unique performance that enhance consumers' wellbeing through beauty science and life science applications - in skin health and medical diagnostics, respectively. While we will continue to produce and sell materials to our other advanced materials customers, it is not our strategic focus. We may develop additional technologies, or find unique applications outside of our core markets in the future, but to maximize the use of our resources today, we plan on expanding efforts in areas where we have proven we can deliver innovation and growth.
Results of Operations Total revenue increased to$8,156 for the three months endedMarch 31, 2022 , compared to$7,072 for the same period in 2021. A substantial majority of our revenue was from our four- and five largest customers for the three months endedMarch 31, 2022 , and 2021, respectively. This reflects sales of APIs to our largest customer in skin care and sunscreen applications, our three largest customers for our finished skin health products marketed through our Solésence subsidiary, and, during the three months endedMarch 31, 2021 , a medical diagnostics customer. This is the revenue breakdown, as a percentage of total revenue, from the five customers referenced: For the three months ended March 31 Customer # Product Category 2022
2021
1 Personal Care Ingredients 29 % 20 %
2 Solésence® 18 % 17 %
3 Solésence® 13 % 10 %
4 Solésence® 9 % 24 %
5 Medical Diagnostics 0 % 15 %
Total 69 % 86 %
Product revenue, the primary component of our total revenue, increased to $8,046
for the three months ended March 31, 2022 , compared to $7,050 during the same
period of 2021. This increase was due to continued growth in the adoption of our
Solésence® products, along with an increase in API sales to our largest customer
in our personal care ingredients business. We saw a significant three-month
decrease in our medical diagnostics materials.
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Other income went to
Cost of revenue generally includes costs associated with commercial production and customer development arrangements. Cost of revenue increased to$5,988 for the three months ended three months endedMarch 31, 2022 , compared to$5,042 for the same period in 2021. The increase in cost of revenue was primarily driven by increased volume and price inflation on materials and manufacturing inefficiencies related to Solésence® product launches. Additionally, during the second half of 2021, we added personnel in the supply chain function and incurred costs to rent temporary warehouse space. While we typically pass-through costs to our customers, we sometimes cannot pass through 100% of pricing increases on raw materials, and even with pass throughs, our gross margin percentage is negatively impacted by higher material costs. Our business has a certain cyclicality of demand, often based upon seasonal demands, industry launch cycles, or a confluence of both. Our lack of burst capacity has created strains, in terms of people and costs, when new product launches occur at the same time that we are experiencing demand from previously launched products. Since late 2020, the Company has found itself in a situation where our ability to produce and ship materials has been exceeded by customer demand. It is a key area of focus to increase throughput first, followed quickly by increased cost efficiency once we can achieve greater scale. Our planning has had us adding to our current fixed manufacturing cost structure in early 2022 to accommodate additional growth, and to build a better base for further growth beyond that level. The extent to which margins grow, as a percentage of total revenue, will be dependent upon revenue mix, revenue volume, our ability to cut costs and pass commodity market-driven raw materials increases on to customers, and the speed and efficiency with which we are able to scale up production for our Solésence products. We expect that, as product revenue volume increases, our fixed manufacturing costs will be more efficiently absorbed, which should lead to increased margins as we grow. While additional production capacity is our most critical operational issue today, we expect to continue to focus on reducing controllable variable product manufacturing costs, with potential variability related to the commodity metals markets, but may or may not realize significant percentage growth in our gross margins through 2022, depending upon the factors discussed above. Research and development expense, which includes all expenses relating to the technology and advanced engineering groups, primarily consists of costs associated with the development or acquisition of new finished product formulations for skin care, new product applications for our skin care ingredients, advancement of our medical diagnostics ingredient knowledge, and the cost of enhancing our manufacturing processes. As an example, we are currently focusing the bulk of our resources on developing new product formulations, and related new technologies, as we expand marketing and sales efforts relating to our Solésence products. This work has led to several new products and additional potential new products. Our efforts in research and development, cosmetic formulating, process engineering and advanced engineering groups are focused in three major areas: 1) application development for our products; 2) creating or obtaining additional core materials technologies and/or materials that have the capability to serve multiple skin health-related markets; and 3) continuing to improve our core technologies to improve manufacturing operations and reduce costs. Research and development expense increased to$666 for the three months ended three monthsMarch 31, 2022 , compared to$499 for the same period in 2021. Most of this increase was due to expanded staffing to aid in supporting new product development for current and future customers. Management expects research and development expense to increase at a slower rate during the balance of 2022 to support continued revenue- and customer-expansion. Selling, general and administrative expense increased to$1,397 for the three months endedMarch 31, 2022 , compared to$1,034 for the same period in 2021. We have added to our Sales, Marketing, and Business Development team during 2021, and during the first quarter of 2022. This was done to ready the Company to support expanded, and expected expanding, sales with a higher degree of customer service. We have also augmented our sales operations function, marketing, and new business development to stimulate additional growth. Additionally, compensation expense has also increased generally, beginning in the second half of 2021 through the current period due to wage inflation. We expect this trend to moderate to an extent in 2022. Inflation We believe inflation has not had a material effect on our operations or financial position to date. However, supplier price increases and wage and benefit inflation, both of which represent a significant component of our costs of operations, will likely have a material effect on our operations and financial position in 2022 and beyond if we are unable to pass through any applicable increases under our present contracts or through to our markets in general. We are in the process of adjusting our pricing to the extent supported by the markets we are in and under the contracts we may have.
Cash and capital resources
Cash, cash products and use of cash for the three months ended
Three months ended Three months ended Year ended
March 31, 2022 March 31, 2021 December 31, 2021
Total cash $ 897 $ 1,819 $ 657
Cash provided by (used in) operating
activities (1,775 ) (137 ) 2,321
Net cash used in investing activities (378 ) (166 ) (1,874 )
Net cash provided by (used in) financing
activities (2,393 ) 1,165 (747 )
The net cash used during the three months ended March 31, 2022 was primarily a
due to the expansion of inventories. Management continues to follow a strategy
in 2022 to ameliorate supply chain risk to a degree by ordering raw materials
and components further in advance than we typically have in the lessen the
impact of delays and shortages brought on by competition for limited resources
as the global economy responds both to additional demand and shipping
difficulties created by several factors, including a shortage of labor in the
United States . It is our expectation that this will not continue indefinitely,
and that our cash position will benefit when a more "normal" supply chain
situation returns. Net cash used in investing activities was attributable to
expenditures on capital equipment for all periods presented above.
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On January 28, 2022 , the Company and Beachcorp, LLC , and Strandler, LLC entered
in to an Amended and Restated Master Agreement ("Agreement"). Both entities are
managed by Bradford T. Whitmore , who is a significant shareholder in Nanophase
and, as such, these loans are classified as related party transactions. Under
this Agreement, and amended agreements governed by this Agreement, the Company
now has a $1,000 term loan with Strandler, LLC , which was fully drawn in January
2022 , with the proceeds used to retire the previously existing $1,000 term loan
with Beachcorp. The new term loan expires on March 31, 2024 , and has a fixed
interest rate of 4.00%, representing the Prime rate plus 0.75% as of the new
Agreement date. Under this Agreement, the Company amended its existing accounts
receivable-based revolving loan ("A/R Revolver") to carry a floating interest
rate of Prime plus 0.75%, with an increased borrowing cap of $8,000 , and an
expiration of March 31, 2024 . The Company drew funds from the A/R Facility in
January of 2022. Further under this Agreement, the Company entered into an
additional revolving loan agreement based on the Company's inventory balances
(the "Inventory Facility"). No funds were drawn on this facility prior to March
31, 2022 . The Company will have access of up to $4,000 of additional funding,
borrowed at a floating rate of Prime plus 0.75%, with a March 31, 2024
expiration. These loans are more fully described in Note 6 to our Financial
Statements in Part I, Item 1 of this Form 10-Q.
Our actual future capital requirements in 2022 and beyond will depend on many
factors, including customer acceptance of our current and potential finished
Solésence products, APIs sold as ingredients in to the skin health markets,
medical diagnostics ingredients, and other engineered materials, applications,
and products, continued progress in research and development activities and
product testing programs, the magnitude of these activities and programs, and
the costs necessary to increase and expand our manufacturing capabilities and to
market and sell these products and ingredients. Other important issues that will
drive future capital requirements will be the development of new markets and new
customers as well as the potential for significant unplanned growth with
existing customers. Depending on the success of certain projects, and conditions
within the markets supplying labor and materials for capital equipment, we
expect that capital spending relating to currently known capital needs for 2022
will be between $3.5 million and $7 million , to be funded by profit from
operations, our existing loans and lines of credit, and possible new debt
financing. If those projects are delayed or ultimately prove unsuccessful, or if
we fail to be able to support the additional cost of funding them in the near
term, we expect our capital expenditures may fall below the lower end of the
range. Similarly, substantial success in business development projects may cause
the actual 2022 capital investment to exceed the top of this range.
We have federal net operating loss carryforwards for tax purposes of
approximately $62 million on December 31, 2021 . Because the Company may
experience "ownership changes" within the meaning of the U.S. Internal Revenue
Code ("IRC") in connection with any future equity offerings, future utilization
of this carryforward may be subject to certain limitations as defined by the
IRC. If not utilized, $57 million of this loss carryforward will expire between
2022 and 2037. Given changes to the IRC, net operating loss carryforwards
generated after January 1, 2018 do not expire, therefore, $5 million in net
operating losses generated since January 1, 2018 do not expire. We have Illinois
net loss deduction carryforwards for tax purposes of approximately $21 million
on December 31, 2021 . Due to the provisions of Illinois Public Act 102-0669
signed November 16, 2021 , Illinois net loss deductions expire between 2029
and 2039.
Off-balance sheet arrangements
We have not created, and are not party to, any special-purpose or off-balance sheet entities for the purposes of raising capital, incurring debt or operating our business. We do not have any off-balance sheet arrangements or relationships with entities that are not consolidated into our financial statements that are reasonably likely to materially affect our liquidity or the availability of
capital resources.
Safe Harbor Provision
We want to provide investors with more meaningful and useful information. As a
result, this Quarterly Report on Form 10-Q (the "Form 10-Q") contains and
incorporates by reference certain "forward-looking statements", as defined in
Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange
Act"). These statements reflect our current expectations of the future results
of our operations, performance, and achievements. Forward-looking statements are
covered under the safe harbor provisions of the Private Securities Litigation
Reform Act of 1995. We have tried, wherever possible, to identify these
statements by using words such as "anticipates", "believes", "estimates",
"expects", "plans", "intends" and similar expressions. These statements reflect
management's current beliefs and are based on information now available to it.
Accordingly, these statements are subject to certain risks, uncertainties and
contingencies that could cause our actual results, performance, or achievements
in 2022 and beyond to differ materially from those expressed in, or implied by,
such statements. These risks, uncertainties and factors include, without
limitation: our ability to be consistently profitable despite the losses we have
incurred since our incorporation; a decision by a customer to cancel a purchase
order or supply agreement in light of our dependence on a limited number of key
customers; the terms of our supply agreements with BASF which could trigger a
requirement to transfer technology and/or sell equipment to that customer; our
potential inability to obtain working capital when needed on acceptable terms or
at all; our ability to obtain materials at costs we can pass through to our
customers, including Rare Earth elements, specifically cerium oxide, as well as
high purity zinc; uncertain demand for, and acceptance of, our Solésence
products, and our advanced materials; our manufacturing capacity and product mix
flexibility in light of customer demand; our limited marketing experience,
including with our suite of Solésence products; changes in development and
distribution relationships; the impact of competitive products and technologies;
our dependence on patents and protection of proprietary information; our ability
to maintain an appropriate electronic trading venue for our securities; the
impact of any potential new governmental regulations, especially any new
governmental regulations focusing on the processing, handling, storage or sale
of nanomaterials, that could be difficult to respond to or costly to comply
with; business interruptions due to unexpected events or public health crises,
including viral pandemics such as COVID-19; and the resolution of litigation or
other legal proceedings in which we may become involved. In addition, our
forward-looking statements could be affected by general industry and market
conditions and growth rates. Readers of this Quarterly Report on Form 10-Q
should not place undue reliance on any forward-looking statements. Except as
required by federal securities laws, we undertake no obligation to update or
revise these forward-looking statements to reflect new events or uncertainties.
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