Cash Burning Nanosphere Promises High Margins

When the use of the word “nano” became an attractive addition to a company’s name in 2004, many companies chose to capitalize on this. The word “Nano” started to crop up everywhere, mostly in over-the-counter (OTC) company names and products, few of which survived almost ten years later. One company that had an IPO in 2007 with “nano in the name” was Nanosphere.

About Nanosphere

Founded in 1999, Nanosphere’s (NASDAQ:NSPH) core technology was based on the discoveries of Chad Mirkin from Northwestern, a notable figure in the nanotechnology community and a recent departure from the Nanosphere Board of Directors in April 2013. Nanosphere’s technology uses gold nanoparticles to develop clinical diagnostic tests that are two to three times as sensitive as those commonly used in hospital today, and that just take hours rather than days or weeks to complete.  Backed by venture capitalists such as Bain Capital, the company had an IPO in 2007 that struggled over time losing nearly 90% of its value:

Source: Google Finance
Source: Google Finance

While 2012 revenues of around $5 million exceeded the previous year by 100%, these increases were dwarfed by large losses of at least $30 million per year over the past four years leaving the company with a deficit of nearly $350 million. With the recent announcement of a $26 million public offering, shares of Nanosphere flirted with the 52-week low of $1.72 to settle at $1.92 giving the company a current market cap of around $110 million.

Technology

Nanosphere’s benchtop Verigene System allows for simple, low cost, and highly sensitive genomic and protein testing on a single platform with the ability to run multiple tests simultaneously on the same sample. As of June 2013, they had FDA clearance for 7 assays. The primary value add is a reduction in the length of stay for patients and reduced mortality rates due to the speed at which the system operates.

Economies of Scale

While the Company does not anticipate positive cash flows for the next 24 months, this is expected to occur when annual revenues reach around $75 million at which point this the margins are estimated to be very large. To help drive these margins, Nanosphere anticipates that through economies of scale, the cost of producing their cartridge consumables will decrease dramatically with increased placements of their system as seen below:

Nanosphere_EOS

Source: Nanosphere Investor PresentationIn the latest 10-Q, no breakdown is provided for the number of system placements nor the revenue in cartridge consumables except to say that the 38% revenue increase for Q2 2013 relative to Q2 2012 was primarily a result of test cartridge sales to US customers.

While Nanosphere has burned through a great deal of cash since inception and continues to do so, the economies of scale proposition is appealing. Reaching positive cash flows will enable the company to avoid being penalized by investors whenever an equity offering is announced, and allow them to create shareholder value through high margins.

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