Document
 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

 
FORM 10-Q

 
(Mark One)
x    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2019  
OR
o    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: 001-37792

 
NantHealth, Inc.
(Exact name of registrant as specified in its charter)

 
 
Delaware
 
27-3019889
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)

9920 Jefferson Blvd
Culver City, California
 
90232
(Address of principal executive offices)
 
(Zip Code)
(310) 883-1300
(Registrant’s telephone number, including area code)
 
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock, par value $0.0001 per share
NH
Nasdaq Global Select Market

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  x    No  o
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files).    Yes  x    No  o
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 the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company”, and "emerging growth company" in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer
o
Accelerated filer
x
 
 
 
 
Non-accelerated filer
o
Smaller reporting company
x
 
 
 
 
 
 
Emerging growth company
x

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.   x
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  o    No  x
As of November 7, 2019, the registrant had 110,619,906 shares of common stock, par value $0.0001 per share, outstanding.
 



NantHealth, Inc.
Form 10-Q
As of and for the quarterly period ended September 30, 2019
Table of contents


 
 
Page
PART I.
 
 
 
 
Item 1.
 
 
 
 
Consolidated Balance Sheets
 
 
 
 
Consolidated Statement of Operations
 
 
 
 
Consolidated Statements of Comprehensive Loss
 
 
 
 
Consolidated Statements of Stockholders' Equity (Deficit)
 
 
 
 
Consolidated Statements of Cash Flows
 
 
 
 
Notes to Consolidated Financial Statements
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
 
 
PART II.
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
Item 5.
 
 
 
Item 6.
 
 
 

We own or have rights to trademarks and service marks that we use in connection with the operation of our business. NantHealth, Inc. and our logo as well as other brands such as GPS Cancer, Liquid GPS, DCX, HBox, Vitality, VCX, NaviNet, NaviNet Open, Eviti, Eviti | Connect, and other marks relating to our product lines are used in this Quarterly Report on Form 10-Q. Solely for convenience, the trademarks and service marks referred to in this Quarterly Report on Form 10-Q are listed without the (sm) and (TM) symbols, but we will assert, to the fullest extent under applicable law, our rights or the rights of the applicable licensors to these trademarks, service marks and trade names. Additionally, we do not intend for our use or display of other companies’ trade names, trademarks, or service marks to imply a relationship with, or endorsement or sponsorship of us by, these other companies.

- 2 -


SPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS
This Quarterly Report on Form 10-Q, or this Quarterly Report, including, without limitation, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Item 1A, “Risk Factors,” contains "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. In some cases you can identify these statements by forward-looking words such as “believe,” “may,” “will,” “might,” “estimate,” “continue,” “anticipate,” “intend,” “could,” “should,” “would,” “project,” “plan,” “outlook,” “target,” “expect,” or similar expressions, or the negative or plural of these words or expressions. These forward-looking statements include, but are not limited to, statements concerning the following:
the structural change in the market for healthcare in the United States, including uncertainty in the healthcare regulatory framework and regulatory developments in the United States and foreign countries;
the evolving treatment paradigm for cancer, including physicians’ use of molecular information and targeted oncology therapeutics and the market size for molecular information products;
physicians’ need for precision medicine products and any perceived advantage of our solutions over those of our competitors, including the ability of our comprehensive platform to help physicians treat their patients’ cancers;
our ability to generate revenue from sales of products enabled by our molecular and biometric information platforms to physicians in clinical settings;
our ability to increase the commercial success and to accelerate commercial growth of our sequencing and molecular analysis solutions and our other products and services;
our plans or ability to obtain reimbursement for our sequencing and molecular analysis solutions, including expectations as to our ability or the amount of time it will take to achieve successful reimbursement from third-party payers, such as commercial insurance companies and health maintenance organizations, and government insurance programs, such as Medicare and Medicaid;
our ability to effectively manage our growth, including the rate and degree of market acceptance of our solutions;
our ability to offer new and innovative products and services, including new features and functionality for our existing products and services;
our ability to attract new partners and clients;
our ability to estimate the size of our target market;
our ability to maintain and enhance our reputation and brand recognition;
consolidation in the healthcare industry;
competition which could limit our ability to maintain or expand market share within our industry;
restrictions and penalties as a result of privacy and data protection laws;
our use of “open source” software;
our ability to use, disclose, de-identify or license data and to integrate third-party technologies;
data loss or corruption due to failures or errors in our systems and service disruptions at our data centers;
breaches or failures of our security measures;
our reliance on Internet infrastructure, bandwidth providers, data center providers, other third parties and our own systems for providing services to our users;
risks related to future acquisition opportunities;
the requirements of being a public company;
our ability to attract and retain key personnel;
our expectations regarding the period during which we qualify as an emerging growth company under the Jumpstart Our Business Startups Act, or the JOBS Act;
our ability to obtain and maintain intellectual property protection for our solutions and not infringe upon the intellectual property of others;
our ability to implement our comprehensive restructuring plan that includes a wide range of organizational efficiency initiatives and other cost reduction opportunities;
our financial performance expectations, including our expectations regarding our revenue, cost of revenue, gross profit or gross margin, operating expenses, including changes in research and development, sales and marketing and general and administrative expenses, and our ability to achieve and maintain future profitability; and
our expectations regarding our ability to comply with Nasdaq listing standards and effect a reverse stock split.
We caution you that the foregoing list does not contain all of the forward-looking statements made in this Quarterly Report.

- 3 -


These forward-looking statements are based on current expectations and assumptions that are subject to risks and uncertainties, which could cause our actual results to differ materially from those reflected in the forward-looking statements. These statements are within the meaning of the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. These statements appear throughout this Quarterly Report and are statements regarding our intent, belief, or current expectations, primarily based on our current assumptions, expectations and projections about future events and trends that may affect our business, financial conditions, operating results, cash flows or prospects, as well as related industry developments. You should not place undue reliance on these forward-looking statements, which apply only as of the date of this Quarterly Report. Our actual results could differ materially from those anticipated in these forward-looking statements for many reasons, including the risks faced by us and described in Part II, Item 1A, “Risk Factors,” and in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part I, Item 2 of this Quarterly Report. We undertake no obligation to update any forward-looking statements for any reason, or to conform these statements to actual results or to changes in our expectations, except as required by law.

- 4 -


PART I — FINANCIAL INFORMATION
Item 1. Financial Statements
NantHealth, Inc.
Consolidated Balance Sheets
(Dollars in thousands)
 
September 30,
2019
 
December 31,
2018
 
(Unaudited)
 
 
Assets
 
 
 
Current assets
 
 
 
Cash and cash equivalents
$
9,326

 
$
18,305

Accounts receivable, net
10,948

 
15,286

Inventories
202

 
496

Related party receivables, net
1,047

 
1,007

Prepaid expenses and other current assets
23,670

 
4,350

Total current assets
45,193

 
39,444

Property, plant, and equipment, net
16,351

 
22,978

Goodwill
115,930

 
115,930

Intangible assets, net
54,045

 
64,703

Investment in related party
33,612

 
40,000

Related party receivable, net of current
1,029

 
1,611

Operating lease right-of-use assets
10,353

 

Other assets
1,903

 
1,671

Total assets
$
278,416

 
$
286,337

 
 
 
 
Liabilities and Stockholders' Equity (Deficit)
 
 
 
Current liabilities
 
 
 
Accounts payable
$
2,912

 
$
1,650

Accrued and other current liabilities
35,044

 
13,832

Deferred revenue
17,792

 
16,263

Related party payables, net
3,771

 
4,791

Notes payable
946

 

Total current liabilities
60,465

 
36,536

Deferred revenue, net of current
2,764

 
6,704

Related party liabilities
22,583

 
17,708

Related party promissory note
112,666

 
112,666

Related party convertible note, net
8,736

 
8,378

Convertible notes, net
83,281

 
79,433

Deferred income taxes, net
1,892

 
2,437

Operating lease liabilities
11,418

 

Other liabilities
21,188

 
19,644

Total liabilities
324,993

 
283,506

 
 
 
 
Stockholders' equity (deficit)
 
 
 
Common stock, $0.0001 par value per share, 750,000,000 shares authorized; 110,619,906 and 109,491,277 shares issued and outstanding at September 30, 2019 and December 31, 2018, respectively
11

 
11

Additional paid-in capital
888,994

 
887,289

Accumulated deficit
(935,135
)
 
(884,122
)
Accumulated other comprehensive loss
(447
)
 
(347
)
Total stockholders' (deficit) equity
(46,577
)
 
2,831

Total liabilities and stockholders' equity (deficit)
$
278,416

 
$
286,337

The accompanying notes are an integral part of these Consolidated Financial Statements.

- 5 -



NantHealth, Inc.
Consolidated Statements of Operations
(Dollars in thousands, except per share amounts)
(Unaudited)
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2019
 
2018
 
2019
 
2018
Revenue:
 
 
 
 
 
 
 
Software-as-a-service related
$
18,328

 
$
15,937

 
$
54,421

 
$
48,323

Software and hardware related
1,009

 
1,450

 
5,135

 
3,790

Maintenance
2,743

 
2,522

 
7,771

 
7,357

Total software-related revenue
22,080

 
19,909

 
67,327

 
59,470

Sequencing and molecular analysis
276

 
742

 
1,581

 
2,506

Home health care services

 
1,641

 
2,863

 
4,627

Total net revenue
22,356

 
22,292

 
71,771

 
66,603

 
 
 
 
 
 
 
 
Cost of Revenue:
 
 
 
 
 
 
 
Software-as-a-service related
5,659

 
5,863

 
17,155

 
18,205

Software and hardware related
624

 
737

 
2,203

 
2,412

Maintenance
484

 
234

 
1,065

 
683

Amortization of developed technologies
1,143

 
1,233

 
3,519

 
3,700

Total software-related cost of revenue
7,910

 
8,067

 
23,942

 
25,000

Sequencing and molecular analysis
462

 
2,323

 
4,065

 
5,443

Home health care services

 
836

 
1,471

 
2,435

Total cost of revenue
8,372

 
11,226

 
29,478

 
32,878

 
 
 
 
 
 
 
 
Gross Profit
13,984

 
11,066

 
42,293

 
33,725

 
 
 
 
 
 
 
 
Operating Expenses:
 
 
 
 
 
 
 
Selling, general and administrative
15,136

 
17,001

 
47,101

 
56,123

Research and development
4,568

 
4,835

 
14,232

 
15,875

Amortization of acquisition-related assets
1,054

 
1,054

 
3,163

 
3,163

Impairment of intangible assets

 

 
3,977

 

Total operating expenses
20,758

 
22,890

 
68,473

 
75,161

 
 
 
 
 
 
 
 
Loss from operations
(6,774
)
 
(11,824
)
 
(26,180
)
 
(41,436
)
Interest expense, net
(4,556
)
 
(4,306
)
 
(13,443
)
 
(12,766
)
Other (expense) income, net
(3,588
)
 
226

 
(5,039
)
 
(928
)
Loss from related party equity method investment
(1,983
)
 
(83,306
)
 
(6,401
)
 
(89,512
)
Loss from continuing operations before income taxes
(16,901
)
 
(99,210
)
 
(51,063
)
 
(144,642
)
Benefit from income taxes
(527
)
 
(1,778
)
 
(168
)
 
(3,429
)
Net loss from continuing operations
(16,374
)
 
(97,432
)
 
(50,895
)
 
(141,213
)
Loss from discontinued operations, net of tax
(3
)
 
(32
)
 
(118
)
 
(1,817
)
Net loss
$
(16,377
)
 
$
(97,464
)
 
$
(51,013
)
 
$
(143,030
)
 
 
 
 
 
 
 
 
Net loss per share:
 
 
 
 
 
 
 
Continuing operations
 
 
 
 
 
 
 
Basic and diluted - common stock
$
(0.15
)
 
$
(0.89
)
 
$
(0.46
)
 
$
(1.29
)
Discontinued operations
 
 
 
 
 
 
 
Basic and diluted - common stock
$

 
$

 
$

 
$
(0.02
)
Total net loss per share
 
 
 
 
 
 
 
Basic and diluted - common stock
$
(0.15
)
 
$
(0.89
)
 
$
(0.46
)
 
$
(1.31
)
 
 
 
 
 
 
 
 
Weighted average shares outstanding:
 
 
 
 
 
 
 
Basic and diluted - common stock
110,619,905

 
109,471,712

 
110,261,279

 
109,060,408


The accompanying notes are an integral part of these Consolidated Financial Statements.

- 6 -

NantHealth, Inc.
Consolidated Statements of Comprehensive Loss
(Dollars in thousands)
(Unaudited)


 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2019
 
2018
 
2019
 
2018
Net loss
$
(16,377
)
 
$
(97,464
)
 
$
(51,013
)
 
$
(143,030
)
Share in related party equity investment - other comprehensive (loss) income
(155
)

77


(7
)

77

Other comprehensive loss from foreign currency translation loss
(82
)
 
(15
)
 
(93
)
 
(113
)
Total other comprehensive income (loss)
(237
)
 
62

 
(100
)
 
(36
)
Comprehensive loss
$
(16,614
)
 
$
(97,402
)
 
$
(51,113
)
 
$
(143,066
)

The accompanying notes are an integral part of these Consolidated Financial Statements.

- 7 -

NantHealth, Inc.
Consolidated Statements of Stockholders’ Equity (Deficit)
(Dollars in thousands)
(Unaudited)

 
Common Stock
 
Additional
Paid-In Capital
 
Accumulated Deficit
 
Accumulated
Other
Comprehensive Loss
 
Total Stockholders' Equity (Deficit)
 
Shares
 
Amount
 
 
 
 
Balance at December 31, 2018
109,491,277

 
$
11

 
$
887,289

 
$
(884,122
)
 
$
(347
)
 
$
2,831

Stock-based compensation

 

 
707

 

 

 
707

Shares issued in connection with employee stock plans, net of shares withheld for employee taxes
430,370

 

 
(53
)
 

 

 
(53
)
Assignment of NantHealth Labs (see Note 20)

 

 
20

 

 

 
20

Other comprehensive income

 

 

 

 
55

 
55

Net loss

 

 

 
(19,923
)
 

 
(19,923
)
Balance at March 31, 2019
109,921,647

 
11

 
887,963

 
(904,045
)
 
(292
)
 
(16,363
)
Stock-based compensation

 

 
707

 

 

 
707

Shares issued in connection with employee stock plans, net of shares withheld for employee taxes
532,860

 

 
(209
)
 

 

 
(209
)
Other comprehensive income

 

 

 

 
82

 
82

Net loss

 

 

 
(14,713
)
 

 
(14,713
)
Balance at June 30, 2019
110,454,507

 
11

 
888,461

 
(918,758
)
 
(210
)
 
(30,496
)
Stock-based compensation

 

 
535

 

 

 
535

Shares issued in connection with employee stock plans, net of shares withheld for employee taxes
165,399

 

 
(2
)
 

 

 
(2
)
Other comprehensive income

 

 

 

 
(237
)
 
(237
)
Net loss

 

 

 
(16,377
)
 

 
(16,377
)
Balance at September 30, 2019
110,619,906

 
$
11

 
$
888,994

 
$
(935,135
)
 
$
(447
)
 
$
(46,577
)


- 8 -

NantHealth, Inc.
Consolidated Statements of Stockholders’ Equity (Deficit)
(Dollars in thousands)
(Unaudited)

 
Common Stock
 
Additional
Paid-In Capital
 
Accumulated Deficit
 
Accumulated
Other
Comprehensive Loss
 
Total Stockholders' Equity (Deficit)
 
Shares
 
Amount
 
 
 
 
Balance at December 31, 2017
108,383,602

 
$
10

 
$
886,669

 
$
(693,233
)
 
$
(144
)
 
$
193,302

Modified retrospective adjustment on adoption of ASC 606

 

 

 
1,263

 

 
1,263

Stock-based compensation

 

 
2,655

 

 

 
2,655

Shares issued in connection with employee stock plans, net of shares withheld for employee taxes
208,344

 

 
(339
)
 

 

 
(339
)
Assignment of NantHealth Labs (see Note 20)

 

 
(3,785
)
 

 

 
(3,785
)
Other comprehensive income

 

 

 

 
110

 
110

Net loss

 

 

 
(22,168
)
 

 
(22,168
)
Balance at March 31, 2018
108,591,946

 
10

 
885,200

 
(714,138
)
 
(34
)
 
171,038

Stock-based compensation

 

 
1,808

 

 

 
1,808

Shares issued in connection with employee stock plans, net of shares withheld for employee taxes
793,614

 
1

 
(1,657
)
 

 

 
(1,656
)
Assignment of NantHealth Labs (see Note 20)

 

 
536

 

 

 
536

Other comprehensive loss

 

 

 

 
(208
)
 
(208
)
Net loss

 

 

 
(23,397
)
 

 
(23,397
)
Balance at June 30, 2018
109,385,560

 
11

 
885,887

 
(737,535
)
 
(242
)
 
148,121

Stock-based compensation

 

 
485

 

 

 
485

Shares issued in connection with employee stock plans, net of shares withheld for employee taxes
105,717

 

 
(9
)
 

 

 
(9
)
Other comprehensive income

 

 

 

 
62

 
62

Other comprehensive loss

 

 

 
(97,464
)
 

 
(97,464
)
Balance at September 30, 2018
109,491,277

 
$
11

 
$
886,363

 
$
(834,999
)
 
$
(180
)
 
$
51,195

    
The accompanying notes are an integral part of these Consolidated Financial Statements.


- 9 -

 NantHealth, Inc.
Consolidated Statements of Cash Flows
(Dollars in thousands)
(Unaudited)

 
Nine Months Ended 
 September 30,
 
2019
 
2018
Cash flows from operating activities:
 
 
 
Net loss
$
(51,013
)
 
$
(143,030
)
Adjustments to reconcile net loss to net cash used in operating activities:
 
 
 
Loss on sale of business
582



Depreciation and amortization
17,543

 
16,486

Amortization of debt discounts and deferred financing offering cost
4,207

 
3,702

Impairment of goodwill and other intangible assets
3,977



Change in fair value of derivatives liability

 
(7
)
Change in fair value of Bookings Commitment
4,664

 

Stock-based compensation
1,849

 
4,805

Deferred income taxes, net
(549
)
 
(3,594
)
Provision for bad debt expense
17

 
141

Loss from related party equity method investment
6,401

 
89,512

Other noncash expense

 
219

Impairment of equity securities

 
1,750

Changes in operating assets and liabilities, net of business combinations and divestitures:
 
 
 
Accounts receivable, net
3,202

 
(1,644
)
Inventories
294

 
185

Related party receivables, net
542

 
(592
)
Prepaid expenses and other current assets
(19,986
)
 
1,678

Deferred implementation costs
14

 
33

Accounts payable
1,259

 
(988
)
Accrued and other current liabilities
20,096

 
(3,126
)
Deferred revenue
(2,411
)
 
530

Related party payables, net
3,766

 
5,014

Change in operating lease right-of-use assets and liabilities
(297
)
 

Other operating assets and liabilities
(605
)
 
2,579

Net cash used in operating activities
(6,448
)
 
(26,347
)
Cash flows from investing activities:
 
 
 
Proceeds from sale of business, net of cash disposed
300

 

Purchases of property and equipment including internal use software
(3,495
)
 
(9,394
)
Assignment of NantHealth Labs, net of cash assigned (see Note 20)

 
68

Net cash used in investing activities
(3,195
)
 
(9,326
)
Cash flows from financing activities:
 
 
 
Proceeds from insurance promissory note
1,647



Repayments of insurance promissory note
(701
)


Tax payments related to stock issued, net of stock withheld, for vested equity awards
(270
)
 
(2,005
)
Capital lease obligation payments

 
(93
)
Net cash provided by (used in) financing activities
676

 
(2,098
)
Effect of exchange rate changes on cash, cash equivalents and restricted cash
(12
)
 
(262
)
Net decrease in cash, cash equivalents and restricted cash
(8,979
)
 
(38,033
)
Cash, cash equivalents and restricted cash, beginning of period (1)
19,441

 
62,010

Cash, cash equivalents and restricted cash, end of period (1)
$
10,462

 
$
23,977


- 10 -

NantHealth, Inc.
Consolidated Statements of Cash Flows
(Dollars in thousands)
(Unaudited)

 
Nine Months Ended 
 September 30,
 
2019
 
2018
Supplemental disclosure of cash flow information:
 
 
 
Interest paid
$
2,958

 
$
2,943

Interest received

 
11

Noncash investing and financing activities:
 
 
 
Purchases of property and equipment including internal use software
105

 
285

The accompanying notes are an integral part of these Consolidated Financial Statements.
(1) Cash and cash equivalents included restricted cash of $1,136 and $1,136 at December 31, 2018 and September 30, 2019, respectively, included in Other assets and $350 and $1,136 at December 31, 2017 and September 30, 2018, respectively. Restricted cash consists of funds that are contractually restricted as to usage or withdrawal related to the Company's security deposits in the form of standby letters of credit for leased facilities. No amounts have been drawn upon the letters of credit as of September 30, 2019.


- 11 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)


Note 1. Description of Business and Basis of Presentation
Nature of Business
Nant Health, LLC was formed on July 7, 2010, as a Delaware limited liability company. On June 1, 2016, Nant Health, LLC converted into a Delaware corporation (the “LLC Conversion”) and changed its name to NantHealth, Inc. (“NantHealth”). NantHealth, together with its subsidiaries (the “Company”), is a healthcare IT company converging science and technology. The Company works to transform clinical delivery with actionable clinical intelligence at the moment of decision, enabling clinical discovery through real-time machine learning systems. The Company markets certain of its solutions as a comprehensive integrated solution that includes its molecular sequencing and analysis services, clinical decision support, and payer engagement solutions. The Company also markets molecular sequencing and analysis services, clinical decision support, payer engagement and connected care solutions. NantHealth is a majority-owned subsidiary of NantWorks, LLC (“NantWorks”), which is a subsidiary of California Capital Equity, LLC (“Cal Cap”). The three companies were founded by and are led by Dr. Patrick Soon-Shiong.

On August 25, 2017, the Company sold substantially all of the assets of the Company’s provider/patient engagement solutions business (see Note 4). On June 7, 2019, the Company sold its home health care services business (see Note 4). The sale enabled the Company to focus on its core competencies of genomic sequencing, clinical decision support, connected care, and payer engagement.
As of September 30, 2019, the Company conducted the majority of its operations in the United States, the United Kingdom, Singapore and Canada.
Basis of Presentation and Principles of Consolidation
The accompanying unaudited Consolidated Financial Statements include the accounts of NantHealth and its subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation. These interim Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP") and, in the opinion of management, include all adjustments, which are normal and recurring in nature, necessary for a fair presentation of the Company's financial position and results of operations. In accordance with the instructions to Form 10-Q and Article 10 of Regulation S-X as issued by the Securities and Exchange Commission ("SEC"), these Consolidated Financial Statements do not include all of the information and disclosures required by GAAP for complete financial statements. These Consolidated Financial Statements should be read in conjunction with the audited Consolidated Financial Statements for the fiscal year ended December 31, 2018. The results of operations of the entities disposed of are included in the unaudited Consolidated Financial Statements up to the date of disposal and, where appropriate, these operations have been reflected as discontinued operations. The accompanying Consolidated Balance Sheet as of December 31, 2018 has been derived from the audited Consolidated Financial Statements at that date, without retrospective application of ASC 842, Leases. Operating results for interim periods are not necessarily indicative of the results that may be expected for a full fiscal year.
The Company believes its existing cash, cash equivalents and ability to borrow from affiliated entities will be sufficient to fund operations through at least 12 months following the issuance date of the financial statements based upon the Company’s Chairman and CEO’s intent and ability to support the Company’s operations with additional funds as required. The Company may also seek to sell additional equity, through one or more follow-on public offerings or in separate financings, or sell additional debt securities, or obtain a credit facility. However, the Company may not be able to secure such financing in a timely manner or on favorable terms. We may also consider selling off components of our business. Without additional funds, the Company may choose to delay or reduce its operating or investment expenditures. Further, because of the risk and uncertainties associated with the commercialization of the Company's existing products as well as products in development, the Company may need additional funds to meet its needs sooner than planned. To date, the Company's primary sources of capital have been the private placement of membership interests prior to its IPO, debt financing agreements, including the promissory note with Nant Capital, LLC (“NantCapital”), convertible notes, and its IPO.

Note 2. Summary of Significant Accounting Policies

There have been no significant changes to the accounting policies as disclosed in the Company's Annual Report on Form 10-K, apart from the application of the new lease reporting standard issued by FASB as Accounting Standards Codification ("ASC") 842, Leases, and the new accounting guidance applicable to non-employee stock compensation, released as Accounting Standards Update ("ASU") No. 2018-07, Compensation—Stock Compensation (Topic 718): Improvements to Nonemployee Share-based Payment Accounting, described below. The other accounting policies, including the accounting policy for leases and non-employee stock compensation, applied to periods before January 1, 2019, are described in the Company’s 2018 Annual Report on Form 10-K.

- 12 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

Use of Estimates
The preparation of Consolidated Financial Statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the Consolidated Financial Statements and accompanying notes. Actual results may differ from those estimates.
Segment Reporting

The chief operating decision maker for the Company is its Chief Executive Officer. The Chief Executive Officer reviews financial information presented on a consolidated basis for purposes of allocating resources and evaluating financial performance. The Company has one business activity and there are no segment managers who are held accountable for operations, operating results, or plans for levels or components below the Consolidated unit level. Accordingly, management has determined that the Company operates in one reportable segment.
Leases

The Company determines if an arrangement is a lease at inception. Operating leases are included in operating lease right-of-use (“ROU”) assets, other current liabilities, and operating lease liabilities on the consolidated balance sheets.

Operating lease ROU assets and operating lease liabilities are recognized based on the present value of the future minimum lease payments over the lease term at commencement date. The Company's leases do not provide an implicit rate; therefore, the Company uses the incremental borrowing rate based on the information available at commencement date, or at January 1, 2019 for the Company's leases on transition to ASC 842, in determining the present value of future payments. The operating lease ROU asset excludes lease incentives and initial direct costs incurred. Our lease terms may include options to extend or terminate the lease when it is reasonably certain that the Company will exercise that option. Lease expense for minimum lease payments is recognized on a straight-line basis over the lease term.

The Company has lease agreements with lease and non-lease components. For data center leases and real estate leases, the Company accounts for the lease and non-lease components as a single lease component.

The Company treats data center leases with lease terms of less than one year as short-term leases and recognizes the lease expense straight-line over the lease term.
Stock-Based Compensation

The Company accounts for stock-based compensation arrangements issued to nonemployees using the fair value approach prescribed by ASC 505-50, Equity-Based Payments to Non-Employees. Following the implementation of ASU No. 2018-07, Compensation—Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting, the value of nonemployee stock-based compensation is recorded by measuring the grant date fair value of the award and recognizing the resulting expense over the period during which the nonemployee provides the services.
Recently Adopted Accounting Pronouncements

Effective January 1, 2019, the Company adopted ASC 842, which is aimed at making leasing activities more transparent and comparable and requires substantially all leases be recognized by lessees on their balance sheet as a right-of-use asset and corresponding lease liability, including leases previously accounted for as operating leases. This led to the recognition upon adoption, of operating lease liabilities of $12,703, the short-term portion of which, $1,624 was recorded in accrued and other current liabilities. Operating lease right-of-use assets of $9,724 were recognized. The Company applied the new lease standard at the adoption date and did not restate comparative periods. There was no cumulative-effect adjustment recognized in accumulated deficit in the period of adoption. On adoption, the Company elected the package of transition practical expedients and therefore did not reassess: whether expired or existing contracts are or contain leases; the lease classification of expired or existing leases; initial direct costs for any existing leases (see Note 14).

Effective January 1, 2019, the Company adopted ASU No. 2018-07, Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting, to simplify accounting for non-employee stock-based compensation. The Company applied the new guidance to equity-classified nonemployee awards for which a measurement date had not been established, which were valued at adoption date fair value. There was no cumulative-effect adjustment to the Company's accumulated deficit.


- 13 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

Effective January 1, 2019, the Company adopted ASU 2018-02, Income Statement-Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income, which provides the option to reclassify stranded tax effects within accumulated other comprehensive income to retained earnings in each period in which the effect of the change in the U.S. federal corporate income tax rate in the Tax Cuts and Jobs Act (or portion thereof) is recorded. The Company adopted this standard on January 1, 2019 with no impact on the Consolidated Financial Statements.

The SEC issued Final Rule Release No. 33-10532, Disclosure Update and Simplification, effective for filings submitted on or after November 5, 2018. The guidance extended to interim periods the annual requirement in SEC Regulation S-X, Rule 3-04 to disclose changes in shareholders' equity. Under the requirements in SEC Regulation S-X, Rules 8-03(a)(5) and 10-01(a)(7), as amended by this new guidance, registrants must now analyze changes in shareholders' equity, in the form of a reconciliation, for the current and comparative year-to-date interim periods, with subtotals for each interim period. The Company has presented separate Consolidated Statements of Stockholders' Equity (Deficit) to satisfy this new disclosure requirement.
Upcoming Accounting Standard Pronouncements

In August 2018, the FASB issued ASU No. 2018-15, Intangibles—Goodwill and Other—Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract, to provide guidance on customer's accounting for implementation costs incurred in a cloud computing arrangement that is a service contract. The standard provides guidance on a customer's accounting for implementation, set-up, and other upfront costs incurred in a cloud computing arrangement that is hosted by the vendor, i.e. a service contract. Under the new guidance, customers will apply the same criteria for capitalizing implementation costs as they would for an arrangement that has a software license. This ASU will become effective for annual periods beginning January 1, 2020. Early adoption is permitted and should be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. The Company is still evaluating the impact of this ASU.

In January 2017, the FASB issued ASU No. 2017-04, Intangibles—Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment, to simplify the accounting for goodwill impairment. This guidance, among other things, removes step 2 of the goodwill impairment test thus eliminating the need to determine the fair value of individual assets and liabilities of the reporting unit. Upon adoption of ASU No. 2017-04, goodwill impairment will be the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. This may result in more or less impairment being recognized than under current guidance. This ASU will become effective for the Company's annual and interim goodwill impairment tests beginning in the first quarter of 2020, and early adoption is permitted. The Company is still evaluating the impact of this ASU.

In June 2016, the FASB issued ASU No. 2016-13, Measurement of Credit Losses on Financial Instruments, which changes how companies measure credit losses on most financial instruments measured at amortized cost, such as loans, receivables and held-to-maturity debt securities. Rather than generally recognizing credit losses when it is probable that the loss has been incurred, the revised guidance requires companies to recognize an allowance for credit losses for the difference between the amortized cost basis of a financial instrument and the amount of amortized cost that the company expects to collect over the instrument's contractual life. ASU No. 2016-13 is effective for fiscal periods beginning after December 15, 2019 and must be adopted as a cumulative effect adjustment to retained earnings. Early adoption is permitted. The Company is still evaluating the effects of this ASU.

Other recent accounting pronouncements issued by the FASB (including its Emerging Issues Task Force), the American Institute of Certified Public Accountants, and the SEC did not have, nor are believed by management to have, a material impact on the Company's present or future Consolidated Financial Statements.

Note 3. Revenue Recognition

Contract Balances

The Company records deferred revenue when cash payments are received, or payment is due, in advance of its fulfillment of performance obligations. During the three and nine months ended September 30, 2019, there were revenues of $9,777 and $22,301 recognized, respectively, that were included in the deferred revenue balance at the beginning of the period. During the three and nine months ended September 30, 2018, these revenues recognized were $4,559 and $12,524, respectively.

Contract assets are recognized when a contractual performance obligation has been satisfied, but payment is not due until the completion of additional performance obligations, or the right to receive payment becomes unconditional. Contract assets reduced to $428 at September 30, 2019 from $434 at December 31, 2018, due to payments from customers.


- 14 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

Assets Recognized from the Costs to Obtain a Contract with a Customer

The Company recognizes an asset for the incremental costs to obtain a contract with a customer, where the stated contract term, with expected renewals, is longer than one year. The Company amortizes these assets over the expected period of benefit. These costs are generally employee sales commissions, with amortization of the balance recorded in selling, general and administrative expenses. The value of these assets was $1,601 at September 30, 2019 and $1,163 at December 31, 2018. During the three and nine months ended September 30, 2019, the Company recorded amortization of $205 and $665, respectively. During the three and nine months ended September 30, 2018, amortization was $118 and $358, respectively.

Performance Obligations

As of September 30, 2019, the Company has allocated a total transaction price of $12,066 to unfulfilled performance obligations that are expected to be fulfilled within three years. Excluded from this amount are contracts of less than one year and variable consideration that relates to the value of services provided.
Note 4. Discontinued Operations and Divestitures
Discontinued Operations
Sale to Allscripts

On August 3, 2017, the Company entered into an asset purchase agreement (the “APA”) with Allscripts Healthcare Solutions, Inc. (“Allscripts”), pursuant to which the Company agreed to sell to Allscripts substantially all of the assets of the Company’s provider/patient engagement solutions business, including the Company’s FusionFX solution and components of its NantOS software connectivity solutions (the “Business”). On August 25, 2017, the Company and Allscripts completed the sale of the Business (the "Disposition") pursuant to the APA.

Allscripts conveyed to the Company 15,000,000 shares of Company's common stock at par value of $0.0001 per share that were previously owned by Allscripts as consideration for the acquired Business upon Disposition. Allscripts paid the Company $1,742 of cash consideration as an estimated working capital payment, and the Company recorded a receivable of $1,021 related to final working capital adjustments. The Company was also responsible for fulfilling certain customer service obligations of the Business post-closing. As of December 31, 2018, the Company accrued $1,372 in accrued and other current liabilities for these obligations, which included estimates for certain unresolved items. These and certain other outstanding amounts were settled by agreement on March 18, 2019 with a net payment to the Company from Allscripts of $435.

Concurrent with the closing of the Disposition and as contemplated by the APA, (a) the Company and Allscripts modified the amended and restated mutual license and reseller agreement dated June 26, 2015, which was further amended on December 30, 2017, such that, among other things, the Company committed to deliver a minimum of $95,000 of total bookings over a ten-year period (“Bookings Commitment”) from referral transactions and sales of certain Allscripts products; (b) the Company and Allscripts each licensed certain intellectual property to the other party pursuant to a cross license agreement; (c) the Company agreed to provide certain transition services to Allscripts pursuant to a transition services agreement; and (d) the Company licensed certain software and agreed to sell certain hardware to Allscripts pursuant to a software license and supply agreement. In the event of a Bookings Commitment shortfall at the end of the ten-year period, the Company may be obligated to pay 70% of the shortfall, subject to certain credits. The Company will earn 30% commission from Allscripts on each software referral transaction that results in a booking with Allscripts. The Company accounts for the Bookings Commitment at its estimated fair value over the life of the agreement. As of September 30, 2019 and December 31, 2018, the estimated fair value was $21,611 and $16,947, respectively.
Divestitures
Sale of Home Health Care Services Business

On June 7, 2019, the Company completed the divestiture of its home health care services business in exchange for cash proceeds of $300, which resulted in a loss on sale of business of $582. The home health care services business does not qualify as discontinued operations as its divestiture does not represent a strategic shift that has had a major impact on the Company's operations or financial results.

- 15 -



Note 5. Accounts Receivable, net
Accounts receivable are included on the Consolidated Balance Sheets, net of the allowance for doubtful accounts. The allowance for doubtful accounts at September 30, 2019 and December 31, 2018 was $158 and $163, respectively.
Note 6. Inventories
Inventories as of September 30, 2019 and December 31, 2018 consisted of $202 and $496 of finished goods, respectively.
Note 7. Prepaid Expenses and Other Current Assets and Accrued and Other Current Liabilities
Prepaid expenses and other current assets as of September 30, 2019 and December 31, 2018 consisted of the following:
 
September 30,
2019
 
December 31,
2018
Prepaid expenses
$
3,005

 
$
1,485

Securities litigation insurance receivable
19,282

 
306

Other current assets
1,383

 
2,559

Prepaid expenses and other current assets
$
23,670

 
$
4,350


Accrued and other current liabilities as of September 30, 2019 and December 31, 2018 consisted of the following:
 
September 30,
2019
 
December 31,
2018
Payroll and related costs
$
6,949

 
$
5,803

NaviNet acquisition accrued earnout

 
1,700

Securities litigation expense payable
19,782

 
306

Operating lease liabilities
1,875

 

Other accrued and other current liabilities
6,438

 
6,023

Accrued and other current liabilities
$
35,044

 
$
13,832


Note 8. Property, Plant, and Equipment, net
Property, plant and equipment, net as of September 30, 2019 and December 31, 2018 consisted of the following:
 
September 30,
2019
 
December 31,
2018
Computer equipment and software
$
13,950

 
$
14,058

Furniture and equipment
2,755

 
3,732

Leasehold and building improvements
7,173

 
7,450

Construction in progress - PPE
627

 

Property, plant, and equipment, excluding internal use software
24,505

 
25,240

Less: Accumulated depreciation and amortization
(19,557
)
 
(17,884
)
Property, plant and equipment, excluding internal use software, net
4,948

 
7,356

Internal use software
32,283

 
31,565

Construction in progress - Internal use software
2,386

 
903

Less: Accumulated depreciation and amortization, internal use software
(23,266
)
 
(16,846
)
Internal use software, net
11,403

 
15,622

Property, plant, and equipment, net
$
16,351

 
$
22,978

 

- 16 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

Depreciation and amortization expense from continuing operations was $3,198 and $10,198, respectively, for the three and nine months ended September 30, 2019, of which $2,174 and $7,122, respectively, related to internal use software costs. Depreciation and amortization expense from continuing operations was $3,200 and $9,307, respectively, for the three and nine months ended September 30, 2018, of which $2,351 and $6,694, respectively, related to internal use software costs.

Amounts capitalized to internal use software for the three and nine months ended September 30, 2019 were $1,011 and $2,907, respectively. Amounts capitalized to internal use software for the three and nine months ended September 30, 2018 were $2,140 and $5,484, respectively.
Note 9. Intangible Assets, net
The Company’s definite-lived intangible assets as of September 30, 2019 and December 31, 2018 consisted of the following:
 
September 30,
2019
 
December 31,
2018
Customer relationships
$
52,000

 
$
52,000

Developed technologies
32,000

 
36,700

Trade name
3,000

 
3,000

 
87,000

 
91,700

Less: Accumulated amortization
(32,955
)
 
(26,997
)
Intangible assets, net
$
54,045

 
$
64,703


Amortization of definite-lived intangible assets is provided over their estimated useful lives on a straight-line basis or the pattern in which economic benefits are consumed, if reliably determinable. The Company reviews its definite-lived intangible assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Amortization expense from continuing operations for the three and nine months ended September 30, 2019 was $2,197 and $6,681, respectively. Amortization expense from continuing operations for the three and nine months ended September 30, 2018 was $2,287 and $6,861, respectively.
At February 28, 2018, the Company recorded $4,700 of definite-lived intangible assets and accumulated amortization of $271 related to the assignment of NantHealth Labs (see Note 20). These intangibles are amortized over a period of thirteen years.

During the three months ended June 30, 2019, the Company identified an indicator of impairment with respect to the NantHealth Labs definite-lived intangible assets given the decline in sales and the Company's decision to cease commercial sales of its liquid biopsy test offering to focus on performing a study to measure the clinical utility of the AR-V7 analyte for informing treatment in patients with castration-resistant prostate cancer. Although the Company will continue this study while also pursuing other strategically aligned clinical studies that support its liquid biopsy platform, the Company determined that the assets were not recoverable given the significant amount of costs required to further build evidence of clinical utility while also ceasing commercial sales of the Liquid GPS product. Therefore, the Company fully impaired the intangible assets as of June 30, 2019 and recorded an impairment loss of $3,977 within operating expenses.
The estimated future amortization expense over the next five years and thereafter for the intangible assets that exist as of September 30, 2019 is as follows:
 
Amounts
Remainder of 2019
$
2,197

2020
8,038

2021
8,038

2022
8,038

2023
3,467

2024
3,467

Thereafter
20,800

Total future intangible amortization expense
$
54,045


- 17 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

Note 10. Goodwill
Goodwill as of September 30, 2019 and December 31, 2018 was $115,930.
On February 28, 2018, the Company recognized $1,305 of goodwill related to the assignment of NantHealth Labs (see Note 20).
Goodwill acquired in a business combination is tested for impairment annually as of October 1, or between annual tests when an impairment indicator exists.
Note 11. Investments
Equity method investment

Investment in NantOmics

In 2015, the Company purchased a total of 169,074,539 Series A-2 units of NantOmics, LLC (“NantOmics”), a related party of the Company, for an aggregate purchase price of $250,774. The Series A-2 units do not have any voting rights and, at the time of the purchase, represented approximately 14.28% of NantOmics’ issued and outstanding membership interests. NantOmics is majority owned by NantWorks and delivers molecular diagnostic capabilities with the intent of providing actionable intelligence and molecularly driven decision support for cancer patients and their providers at the point of care.

The Company applies the equity method to account for its investment in NantOmics as the interest in the equity is similar to a partnership interest. Further, the Company has the ability to exert significant influence over the operating and financial policies of the entity since NantWorks controls both NantHealth and NantOmics. The difference between the carrying amount of the investment in NantOmics and the Company’s underlying equity in NantOmics’ net assets relate to both definite and indefinite-lived intangible assets. At the date of purchase, the Company attributed $28,195 and $14,382 of these differences to NantOmics’ developed technologies and its reseller agreement with the Company, respectively, prior to the application of developed technology intangibles included in NantOmics net assets, and the remaining basis differences were attributed to goodwill. The Company amortizes the basis differences related to the definite-lived intangible assets over the assets’ estimated useful lives and records these amounts as a reduction in the carrying amount of its investment and an increase in its equity method loss.

The investment in related party is assessed for possible impairment when events indicate that the fair value of the investment may be below the carrying value. When such a condition is deemed to be other than temporary, the carrying value of the investment is written down to its fair value, and the amount of the write-down is included in net loss. In making the determination as to whether a decline is other than temporary, the Company considers such factors as the duration and extent of the decline, the investee’s financial performance, and the Company's ability and intention to retain the investment for a period that will be sufficient to allow for any anticipated recovery in the investment’s market value. The new cost basis of the investment is not changed for subsequent recoveries in fair value.

The fair value of the Company's equity method investment is determined using the income approach. The income approach utilizes a discounted cash flow model incorporating management’s expectations for future revenue, operating expenses, and earnings before interest, taxes, depreciation and amortization, capital expenditures and an anticipated tax rate. The related cash flow forecasts are discounted using an estimated weighted-average cost of capital at the date of valuation.  Differences between the carrying value of an equity investment and its underlying equity in the net assets of the related party are assigned to the extent practicable to specific assets and liabilities based on our analysis of the various factors giving rise to the difference. When appropriate, the Company's share of the related party’s reported earnings is adjusted quarterly to reflect the difference between these allocated values and the related party’s historical book values.


- 18 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

At December 31, 2018 and September 30, 2018, the Company determined that other than temporary impairments of $14,768 and $80,444, respectively, in the value of the investment in NantOmics had occurred, predominantly attributed to declines in the value of goodwill. The decline in fair value at December 31, 2018 was primarily caused by altered pricing assumptions for the reseller agreement between the Company and NantOmics. The decline in fair value at September 30, 2018, was primarily caused by changes in projected GPS Cancer revenue, due to delays in the Company’s GPS Cancer revenue growth and changes in the risk profile of the financial projections for NantOmics. The Company based its financial projections on information that the Company believed was reasonable; however, actual results may differ materially from those projections. The other than temporary impairments were based on judgments and estimates that were forward looking in nature and it is reasonably possible that the estimate of the impairments of the equity method investment in NantOmics will change in the near term due to the following: actual NantOmics cash distribution is materially lower than expected, significant adverse changes in NantOmics' operating environment, increase in the discount rate, and changes in other key assumptions. Risks and uncertainties are related to assumptions regarding future financial performance, commercial acceptance of product and service offerings, risk of reimbursement for the Company’s sequencing and molecular analysis solution, developments in the healthcare and molecular diagnostics industry, NantOmics' ability to integrate its business acquisitions, regulatory risks, and other general business risks including unanticipated adverse changes in NantOmics' operating environment.

At February 28, 2018, the Company transferred 9,088,362 of the Series A-2 units to NantOmics as consideration for the assignment of NantHealth Labs, Inc. (see Note 20). An additional 564,779 units were transferred by May 31, 2018. This reduced NantHealth's ownership of NantOmics to approximately 13.58%.

Pertaining to the Company's share of NantOmics' income or loss, amortization of basis differences, and other than temporary impairments, for the three months ended September 30, 2019 and 2018, the Company recognized losses of $1,983 and $83,306, respectively, and for the nine months ended September 30, 2019 and 2018, the Company recognized losses of $6,401 and $89,512, respectively.

The Company reports its share of NantOmics’ income or loss and the amortization of basis differences using a one quarter lag. The Company used the following summarized financial information for NantOmics for the three and nine months ended June 30, 2019 and 2018, to record its equity method losses for the three and nine months ended September 30, 2019 and 2018:
 
Three Months Ended
June 30
 
Nine Months Ended
June 30
 
2019
 
2018
 
2019
 
2018
Revenues
$
847

 
$
1,265

 
$
3,913

 
$
4,231

Gross loss
(1,239
)
 
(1,328
)
 
(2,573
)
 
(7,615
)
Loss from operations
(4,436
)
 
(11,594
)
 
(17,541
)
 
(38,278
)
Impairment on equity investments

 

 
(12,265
)
 
(19,976
)
Net loss
(3,333
)
 
(10,444
)
 
(26,263
)
 
(54,482
)
Net loss attributable to NantOmics
(3,296
)
 
(10,078
)
 
(26,005
)
 
(53,120
)
Investment in equity securities without readily determinable fair values

Investment in IOBS

On June 16, 2015, the Company invested $1,750 in Innovative Oncology Business Solutions, Inc. (“IOBS”) in exchange for 1,750,000 shares of IOBS’ Series A preferred stock. IOBS offers community oncology practices an alternative medical home model for oncology patients that improves health outcomes, enhances patient care experiences and significantly reduces costs of care. The shares of preferred stock represent 35.0% of the outstanding equity of IOBS on an as-converted basis. The Company applied the cost method to account for its investment because the preferred stock is not considered in-substance common stock, is not considered a debt instrument, as the Company cannot unilaterally demand redemption of the preferred stock and the preferred stock does not have a readily determinable fair value.

As of September 30, 2019 and December 31, 2018, IOBS was considered a variable interest entity. The Company is not the primary beneficiary of IOBS because it only has the right to elect two of five directors. All major decisions of IOBS require the majority vote by the members of the board of directors, including decisions made to manage the business including hiring and firing of officers and other critical management functions. Therefore, the Company does not consolidate IOBS.


- 19 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

During July 2018, the management of IOBS informed their board of directors that a transition plan had been agreed to migrate all current customers of the company to a business partner, as IOBS was unable to profitably serve those customers. The management of IOBS continues to seek ways to monetize the intellectual property held by the company, but future cash flows are uncertain. Therefore, the Company concluded that the investment in IOBS was impaired as of June 30, 2018. Given the level of uncertainty on future cash flows and the limited assets of IOBS available for distribution, the Company concluded the fair value of the investment was $0 as of June 30, 2018 and recognized an impairment charge of $1,750 in other expenses. No other arrangements exist that could require the Company to provide additional financial support or otherwise expose the Company to a loss.
Note 12. Convertible Notes
In December 2016, the Company entered into the Purchase Agreement with J.P. Morgan Securities LLC and Jefferies LLC, as representatives of the several initial purchasers named therein (collectively, the “Initial Purchasers”), to issue and sell $90,000 in aggregate principal amount of its 5.50% senior convertible notes due 2021 ("Convertible Notes") in a private placement to qualified institutional buyers pursuant to Rule 144A under the Securities Act of 1933, as amended (the “Securities Act”) and to non-U.S. persons pursuant to Regulation S under the Securities Act. In December 2016, the Company entered into a purchase agreement (the “Cambridge Purchase Agreement”) with Cambridge Equities, L.P., an entity affiliated with Dr. Patrick Soon-Shiong, the Company’s Chairman and Chief Executive Officer (“Cambridge”), to issue and sell $10,000 in aggregate principal amount of the Convertible Notes in a private placement pursuant to an exemption from the registration requirements of the Securities Act afforded by Section 4(a)(2) of the Securities Act. In December 2016, pursuant to the exercise of the overallotment by the Initial Purchasers, the Company issued an additional $7,000 principal amount of the Convertible Notes. The total net proceeds from this offering were approximately $102,714, $9,917 from Cambridge and $92,797 from the Initial Purchasers, after deducting the Initial Purchasers’ discount and debt issuance costs of $4,286 in connection with the Convertible Notes offering.
On December 21, 2016, the Company entered into an Indenture, relating to the issuance of the Convertible Notes (the “Indenture”), by and between the Company and U.S. Bank National Association, as trustee (the “Trustee”). The interest rates are fixed at 5.50% per year, payable semi-annually on June 15 and December 15 of each year, beginning on June 15, 2017. The Convertible Notes will mature on December 15, 2021, unless earlier repurchased by the Company or converted pursuant to their terms.
In connection with the offering of the Convertible Notes, on December 15, 2016, the Company entered into a Second Amended and Restated Promissory Note which amended and restated the Amended and Restated Promissory Note, dated May 9, 2016, between the Company and NantCapital, to, among other things, extend the maturity date of the promissory note to June 30, 2022 and to subordinate such promissory note in right of payment to the Convertible Notes (see Note 20).
The initial conversion rate of the Convertible Notes is 82.3893 shares of common stock per $1 principal amount of Convertible Notes (which is equivalent to an initial conversion price of approximately $12.14 per share). Prior to the close of business on the business day immediately preceding September 15, 2021, the Convertible Notes will be convertible only under the following circumstances:
(1) during any calendar quarter commencing after March 31, 2017 (and only during such calendar quarter), if, for at least 20 trading days (whether or not consecutive) during the 30 consecutive trading day period ending on the last trading day of the immediately preceding calendar quarter, the last reported sale price of the Company’s common stock on such trading day is greater than or equal to 120% of the conversion price on such trading day;
(2) during the five-business day period after any five consecutive trading day period in which, for each day of that period, the trading price per $1 principal amount of the Convertible Notes for such trading day was less than 98% of the product of the last reported sale price of the Company’s common stock and the conversion rate on such trading day; or
(3) upon the occurrence of specified corporate transactions as described in the Indenture agreement.
Upon conversion, the Convertible Notes will be settled in cash, shares of the Company’s common stock or any combination thereof at the Company’s option.
Upon the occurrence of a fundamental change (as defined in the Indenture), holders may require the Company to purchase all or a portion of the Convertible Notes in principal amounts of $1 or an integral multiple thereof, for cash at a price equal to 100% of the principal amount of the Convertible Notes to be purchased plus any accrued and unpaid interest to, but excluding, the fundamental change purchase date. The conversion rate will be subject to adjustment upon the occurrence of certain specified events.

- 20 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

On or after the date that is one year after the last date of original issuance of the Convertible Notes, if the last reported sale price of the Company’s common stock for at least 20 trading days (whether or not consecutive) during the period of 30 consecutive trading days ending within the five trading days immediately preceding a conversion date is greater than or equal to 120% of the conversion price on each applicable trading day, the Company will make an interest make-whole payment to a converting holder (other than a conversion in connection with a make-whole fundamental change in which the conversion rate is adjusted) equal to the sum of the present values of the scheduled payments of interest that would have been made on the Convertible Notes to be converted had such Convertible Notes remained outstanding from the conversion date through the earlier of (i) the date that is three years after the conversion date and (ii) the maturity date if the Convertible Notes had not been so converted. The present values of the remaining interest payments will be computed using a discount rate equal to 2.0%. The Company may pay any interest make-whole payment either in cash or in shares of its common stock, at the Company’s election as described in the Indenture.

The Company accounts for convertible debt instruments that may be settled in cash upon conversion (including partial cash settlement) by recording the liability and equity components of the convertible debt separately. The liability component is computed based on the fair value of a similar liability that does not include the conversion option. The liability component includes both the value of the embedded interest make-whole derivative and the carrying value of the Convertible Notes. The equity component is computed based on the total debt proceeds less the fair value of the liability component. The equity component is also recorded as debt discount and amortized as interest expense over the expected term of the Convertible Notes.
The liability component of the Convertible Notes on the date of issuance was computed as $83,079, consisting of the value of the embedded interest make-whole derivative of $1,499 and the carrying value of the Convertible Notes of $81,580. Accordingly, the equity component on the date of issuance was $23,921. If the debt is considered current at the balance sheet date, the liability component of the convertible notes will be classified as current liabilities and presented in current portion of convertible notes debt and the equity component of the convertible debt will be considered a redeemable security and presented as redeemable equity on the Company's Consolidated Balance Sheet.
Offering costs of $4,286 related to the issuance of the Convertible Notes were allocated to the liability and equity components in proportion to the allocation of the proceeds and accounted for as deferred financing offering costs and equity issuance costs, respectively. Approximately $972 of this amount was allocated to equity and the remaining $3,314 was capitalized as deferred financing offering costs.
The debt discounts and deferred financing offering costs on the Convertible Notes are being amortized to interest expense over the contractual terms of the Convertible Notes, using the effective interest method at an effective interest rate of 12.82%.
As of September 30, 2019, the remaining life of the Convertible Notes is approximately 27 months.

The following table summarizes how the issuance of the Convertible Notes is reflected in the Company's Consolidated Balance Sheets as of September 30, 2019 and December 31, 2018.
 
Related Party
 
Others
 
Total
Balance as of September 30, 2019
 
 
 
 
 
Gross proceeds
$
10,000

 
$
97,000

 
$
107,000

Unamortized debt discounts and deferred financing offering costs
(1,264
)
 
(13,719
)
 
(14,983
)
Net carrying amount
$
8,736

 
$
83,281

 
$
92,017

 
 
 
 
 
 
Balance as of December 31, 2018
 
 
 
 
 
Gross proceeds
$
10,000

 
$
97,000

 
$
107,000

Unamortized debt discounts and deferred financing offering costs
(1,622
)
 
(17,567
)
 
(19,189
)
Net carrying amount
$
8,378

 
$
79,433

 
$
87,811

 

- 21 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

The following tables set forth the Company's interest expense recognized in the Company's Consolidated Statements of Operations:
 
Three Months Ended September 30, 2019
 
Nine Months Ended September 30, 2019
 
Related Party
 
Others
 
Total
 
Related Party
 
Others
 
Total
Accrued coupon interest expense
$
137

 
$
1,334

 
$
1,471

 
$
411

 
$
4,002

 
$
4,413

Amortization of debt discounts
120

 
1,160

 
1,280

 
350

 
3,372

 
3,722

Amortization of deferred financing offering costs
3

 
163

 
166

 
9

 
476

 
485

Total convertible notes interest expense
$
260

 
$
2,657

 
$
2,917

 
$
770

 
$
7,850

 
$
8,620

 
Three Months Ended September 30, 2018
 
Nine Months Ended September 30, 2018
 
Related Party
 
Others
 
Total
 
Related Party
 
Others
 
Total
Accrued coupon interest expense
$
137

 
$
1,334

 
$
1,471

 
$
411

 
$
4,002

 
$
4,413

Amortization of debt discounts
106

 
1,020

 
1,126

 
309

 
2,966

 
3,275

Amortization of deferred financing offering costs
3

 
144

 
147

 
8

 
419

 
427

Total convertible notes interest expense
$
246

 
$
2,498

 
$
2,744

 
$
728

 
$
7,387

 
$
8,115


Note 13. Fair Value Measurements
Assets and liabilities measured at fair value on a recurring basis as of September 30, 2019 and December 31, 2018 consisted of the following:
 
September 30, 2019
 
Total
 fair value
 
Quoted price in active markets for identical assets
 (Level 1)
 
Significant other observable inputs
(Level 2)
 
Significant unobservable inputs
 (Level 3)
Liabilities
 
 
 
 
 
 
 
Bookings Commitment
$
21,611

 
$

 
$

 
$
21,611

 
December 31, 2018
 
Total
 fair value
 
Quoted price in active markets for identical assets
 (Level 1)
 
Significant other observable inputs
(Level 2)
 
Significant unobservable inputs
 (Level 3)
Liabilities
 
 
 
 
 
 
 
Bookings Commitment
$
16,947

 
$

 
$

 
$
16,947


The Company’s intangible assets and goodwill are initially measured at fair value and any subsequent adjustment to the initial fair value occurs only if an impairment charge is recognized. Cash is valued at nominal value. The fair values of the Company’s marketable securities and cash equivalents (consisting of mainly money market accounts) are based on quoted market prices in active markets with no valuation adjustment.

- 22 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

Level 3 Inputs
Bookings Commitment
The Company values the Bookings Commitment, assumed upon the disposal of the provider/patient engagement solutions business (see Note 4), using a Monte Carlo Simulation model to calculate average payments due under the Bookings Commitment, based on management's estimate of its performance in securing bookings and resulting annual payments, discounted at the cost of debt based on a yield curve. The cost of debt used for discounting was between 15% and 17% at September 30, 2019 and between 17% and 20% at December 31, 2018. The change in fair value is recorded as an unrealized gain or loss through earnings within other (expense) income, net in the Company's Consolidated Statements of Operations.

The fair value of the Bookings Commitment is dependent on management's estimate of the probability of success on individual opportunities and the cost of debt applied in discounting the liability. The higher the probability of success on each opportunity, the lower the fair value of the Bookings Commitment liability. The lower the cost of debt applied, the higher the value of the liability.

The fair market value for level 3 securities may be highly sensitive to the use of unobservable inputs and subjective assumptions. Generally, changes in significant unobservable inputs may result in significantly lower or higher fair value measurements.

The following tables set forth a summary of changes in the fair value of Level 3 liabilities for the three and nine months ended September 30, 2019:
 
June 30, 2019
 
Additions
 
Change in Fair Value
 
September 30, 2019
Bookings Commitment
$
18,452

    
$

    
$
3,159

 
$
21,611

 
December 31, 2018
 
Additions
 
Change in Fair Value
 
September 30, 2019
Bookings Commitment
$
16,947

    
$

    
$
4,664

 
$
21,611

Fair Value of Convertible Notes held at amortized cost
As of September 30, 2019 and December 31, 2018, the fair value and carrying value of the Company's Convertible Notes were:
 
 
Fair Value
 
Carrying Value
 
Face Value
5.5% convertible senior notes due December 15, 2021:
 
 
 
 
 
Balance as of September 30, 2019
 
 
 
 
 
Related party
$
6,277

    
$
8,736

    
$
10,000

Others
60,885

 
83,281

 
97,000

 
$
67,162

 
$
92,017

 
$
107,000

Balance as of December 31, 2018
 
 
 
 
 
Related party
$
5,879

    
$
8,378

    
$
10,000

Others
57,031

 
79,433

 
97,000

 
$
62,910

 
$
87,811

 
$
107,000


The fair value shown above represents the fair value of the debt instrument, inclusive of both the debt and equity components, but excluding the derivative liability. The carrying value represents only the carrying value of the debt component.

The fair value of the Convertible Notes was determined using unobservable inputs that are supported by minimal non-active market activity and that are significant to determining the fair value of the debt instrument. The fair value is level 3 in the fair value hierarchy.

- 23 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

14. Leases
The Company has operating leases for corporate offices, data centers, and certain equipment. The Company's leases have lease terms of one year to eleven years, some of which include options to extend the leases for up to 5 years, and some of which include options to terminate the leases within 1 year. NantWorks, a related party, subleases one of the Company's data centers on the same terms the Company agreed with the lessor. Options to extend are included in the lease term where the Company is reasonably certain to exercise the options. Variable payments on the Company's leases are expensed as incurred, as they do not depend on an index, or rate. The Company concluded certain leases for data centers had a term of less than 1 year at inception, as arrangements are only renewed following marketplace assessments and negotiations with vendors.

The Company's leases do not indicate the rate implicit in the lease. As such, the Company has used its incremental borrowing rate, determined based on market indications of the rate at which the Company could borrow, adjusted for the term, value and payment schedule of individual leases, at the effective date for ASC 842 or at the lease commencement date for leases entered into after January 1, 2019.

Lease expense, charged to selling, general and administrative expense, for the three and nine months ended September 30, 2019 consisted of:
 
Three Months Ended 
 September 30,
 
Nine Months Ended September 30,
 
2019
 
2019
Operating lease cost
$
709

 
$
2,056

Short-term lease cost
252

 
804

Variable cost
98

 
248

Sublease income
(52
)
 
(156
)
Total lease cost
$
1,007

 
$
2,952


For the three and nine months ended September 30, 2018, rental expense was charged to selling, general and administrative expense in the amount of $841 and $3,217, respectively.

Other information regarding the Company's leases:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2019
 
2019
Operating cash flows for operating leases
$
(772
)
 
$
(2,112
)
Right-of-use assets obtained in exchange for new operating lease liabilities
$

 
$
1,837

Operating lease liabilities arising from obtaining right-of-use assets
$

 
$
1,837

Weighted average remaining lease term - operating leases
 
 
6.0 years

Weighted average discount rate - operating leases
 
 
11
%

As of September 30, 2019 and December 31, 2018, the Company had no material capital leases and the remaining lives of its operating leases ranged from one to ten years as of September 30, 2019.


- 24 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

Future minimum lease payments under the Company's operating leases at September 30, 2019 were:
Maturity Analysis
Amounts
2019
$
793

2020
3,174

2021
3,025

2022
3,066

2023
3,107

Thereafter
4,994

Total future minimum lease payments
18,159

Less imputed interest
(4,866
)
Total
$
13,293

As reported in the Consolidated Balance Sheet
 
Accrued and other current liabilities
$
1,875

Operating lease liabilities
11,418

 
$
13,293

Note 15. Commitments and Contingencies
The Company's principal commitments consist of obligations under its outstanding debt obligations, non-cancelable leases for its office space, data centers and certain equipment and vendor contracts to provide research services, and purchase obligations under license agreements and reseller agreements.
Regulatory Matters
The Company is subject to regulatory oversight by the U.S. Food and Drug Administration and other regulatory authorities with respect to the development, manufacturing, and sale of some of the solutions. In addition, the Company is subject to the Health Insurance Portability and Accountability Act (“HIPAA”), the Health Information Technology for Economic and Clinical Health Act and related patient confidentiality laws and regulations with respect to patient information. The Company reviews the applicable laws and regulations regarding effects of such laws and regulations on its operations on an on-going basis and modifies operations as appropriate. The Company believes it is in substantial compliance with all applicable laws and regulations. Failure to comply with regulatory requirements could have a significant adverse effect on the Company’s business and operations.
Legal Matters
The Company is, from time to time, subject to claims and litigation that arise in the ordinary course of its business. The Company intends to defend vigorously any such litigation that may arise under all defenses that would be available to it. Except as discussed below, in the opinion of management, the ultimate outcome of proceedings of which management is aware, even if adverse to the Company, would not have a material adverse effect on the Company’s Consolidated Financial Condition or Results of Operations. Regardless of the outcome, litigation can have an adverse impact on the Company because of defense and settlement costs, diversion of management resources and other factors.

- 25 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

Securities Litigation
In March 2017, a number of putative class action securities complaints were filed in U.S. District Court for the Central District of California, naming as defendants the Company and certain of our current or former executive officers and directors. These complaints have been consolidated with the lead case captioned Deora v. NantHealth, Inc., 2:17-cv-01825. ("Deora") In June 2017, the lead plaintiffs filed an amended consolidated complaint, which generally alleges that defendants violated federal securities laws by making material misrepresentations in NantHealth’s IPO registration statement and in subsequent public statements. In particular, the complaint refers to various third-party articles in alleging that defendants misrepresented NantHealth’s business with the University of Utah, donations to the university by non-profit entities associated with the Company's founder Dr. Soon-Shiong, and orders for GPS Cancer. The lead plaintiffs seek unspecified damages and other relief on behalf of putative classes of persons who purchased or acquired NantHealth securities in the IPO or on the open market from June 1, 2016 through May 1, 2017. In March 2018, the court largely denied Defendants’ motion to dismiss the consolidated amended complaint. On July 30, 2019, the court certified the case as a class action. On October 23, 2019, the parties notified the court that they had reached a settlement in principle to resolve the action on a classwide basis in the amount of $16,500, which is included in accrued and other current liabilities on the Consolidated Balance Sheet at September 30, 2019. The settlement is subject to several conditions, including the execution of a stipulation of settlement that is satisfactory to all parties, and preliminary and final approval from the court, among other things. If the settlement is finalized and approved by the court, the majority of the settlement amount will be funded by the Company’s insurance carriers, and a portion will be funded by the Company.

In May 2017, a putative class action complaint was filed in California Superior Court, Los Angeles County, asserting claims for violations of the Securities Act based on allegations similar to those in Deora. That case is captioned Bucks County Employees Retirement Fund v. NantHealth, Inc., BC 662330. The parties have agreed to stay the case until the next case management conference, scheduled for December 3, 2019. The Company believes that the claims lack merit and intends to vigorously defend the litigation.

In April 2018, two putative shareholder derivative actions-captioned Engleman v. Soon-Shiong, Case No. 2018-0282-AGB, and Petersen v. Soon-Shiong, Case No. 2018-0302-AGB were filed in the Delaware Court of Chancery. The plaintiff in the Engleman action previously filed a similar complaint in California Superior Court, Los Angeles County, which was dismissed based on a provision in the Company’s charter requiring derivative actions to be brought in Delaware. The Engleman and Petersen complaints contain allegations similar to those in Deora but assert causes of action on behalf of NantHealth against various of the Company’s current or former executive officers and directors for alleged breaches of fiduciary duty, abuse of control, gross mismanagement, and unjust enrichment. The Company is named solely as a nominal defendant. In July 2018, the court issued an order consolidating the Engleman and Petersen actions as in re NantHealth, Inc. Stockholder Litigation, Lead C.A. No. 2018-0302-AGB, appointing Petersen as lead plaintiff, and designating the Petersen complaint as the operative complaint. On September 20, 2018, the defendants moved to dismiss the complaint. In October 2018, in response to the motion to dismiss, Petersen filed an amended complaint. In November 2018, the defendants moved to dismiss the amended complaint. A hearing on the defendants’ motion was held on September 25, 2019.

In April 2018, a putative shareholder derivative action captioned Shen v. Soon-Shiong was filed in U.S. District Court for the District of Delaware. The complaint contains allegations similar to those in Deora but asserts causes of action on behalf of NantHealth against various of the Company’s current or former executive officers and directors for alleged breaches of fiduciary duty and unjust enrichment, as well as alleged violations of the federal securities laws based on alleged misstatements or omissions in the Company’s 2017 proxy statement. The parties have agreed to stay the case pending a decision on defendants’ motion to dismiss in the derivative action in the Delaware Court of Chancery.
Real Estate Litigation
On March 9, 2018, PayPal, Inc. (“PayPal”) commenced an action against the Company in the Superior Court Department of the Trial Court of the Commonwealth of Massachusetts, for Suffolk County. The action was originally captioned PayPal, Inc. v. NantHealth, Inc., Civil Action No. 18-0780-E. On April 10, 2018, the Superior Court transferred the case to its Business Litigation Section, where it is currently pending and captioned as PayPal, Inc. v. NantHealth, Inc., Civil Action No. 18-0780-BLS1. This action arises out of a Sublease Agreement that PayPal and the Company entered into on or about November 30, 2017. The Sublease Agreement pertained to commercial real estate that PayPal leased at One International Place in Boston, Massachusetts. On January 25, 2018, the Company notified PayPal that we were electing to terminate the Sublease Agreement.
 

- 26 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

In its Verified Complaint, and a contemporaneous notice of default that the Company disputed, PayPal alleges that the Company breached the Sublease Agreement. In addition, PayPal asserts claims for breach of the covenant of good faith and fair dealing, and violations of Massachusetts General Laws, Chapter 93A, sections 2 and 11, and seeks a declaratory judgment recognizing and enforcing the terms of the Sublease Agreement. Among other relief, PayPal seeks damages, treble damages, interest, costs, and attorneys’ fees. PayPal has asserted that its damages are $2,349, which it has requested that the Court treble pursuant to the provisions of Massachusetts General Laws, Chapter 93A.
 
On April 12, 2018, the Company filed its answer and jury demand in the action. On August 2, 2018, PayPal requested a status conference with the Court in order to discuss PayPal’s potential filing of a motion for partial judgment on the pleadings pursuant to Mass. R. Civ. P. 12(c). A Rule 16 Litigation Control Conference (“Rule 16 Conference”) was held on August 22, 2018. During the Rule 16 Conference, the Court denied PayPal’s request for leave to file a motion for partial judgment on the pleadings. Following the Rule 16 Conference, the Court issued a tracking order setting deadlines and other procedures that would apply to this action.
 
On September 26, 2018, the Company filed its Assented to Motion for Leave to Amend Its Answer. The Court granted the Company's motion on October 3, 2018. On October 9, 2018, the Company filed and served its amended answer and jury demand.
 
On January 8, 2019, the parties filed a joint motion to extend certain of the tracking order deadlines, which motion the Court granted by endorsed order dated January 9, 2019.

On April 4, 2019, PayPal filed a motion to add NantWorks, LLC as a defendant in the litigation, which motion was filed together with the Company's opposition. The Court denied PayPal's motion on April 16, 2019.
 
PayPal served a motion for summary judgment on June 5, 2019 and the Company served its opposition on July 12, 2019. PayPal responded with a reply to the Company’s opposition on July 18, 2019 and filed the fully briefed motion that same day.

The parties completed fact discovery on March 15, 2019 and completed expert discovery on August 22, 2019.

A hearing on PayPal’s motion for summary judgment was held on October 17, 2019. At the hearing, the Court indicated its intention to issue a written decision (1) granting PayPal’s motion for summary judgment regarding its claim for breach of the Sublease Agreement, as to liability only and not as to damages; (2) denying PayPal’s motion for summary judgment regarding its claim for unfair and deceptive trade practices in violation of Massachusetts General Laws, Chapter 93A, sections 2 and 11; and (3) finding PayPal’s claim for breach of the covenant of good faith and fair dealing to be irrelevant or moot and denying its motion for summary judgment as to that claim.

At the October 17, 2019 hearing, PayPal orally withdrew its claim for attorneys’ fees on its breach of the Sublease Agreement claim only and left uncertain whether it intends to pursue its claim for a declaratory judgment.
Based on the Court’s statements at the October 17, 2019 hearing, the issue of damages on PayPal’s claim for breach of the Sublease Agreement remains to be determined. The Company has asserted that PayPal failed to mitigate any damages that PayPal claims the Company owes. PayPal’s claim for unfair and deceptive practices in violation of Massachusetts General Laws, Chapter 93A, sections 2 and 11, and its requests for treble damages and attorneys’ fees, as well as its requests for interest and costs on the claims it is pursuing, also remain to be determined. The precise contours of the Court’s rulings on PayPal’s summary judgment motion will not be known until the Court issues its written decision.
The Company denies any liability to PayPal and intends to continue vigorously defending the action.
Insurance Recoveries
The Company has reflected its right to insurance recoveries, limited to the extent of incurred or probable losses, as a receivable when such recoveries have been agreed to with the Company’s third-party insurers and receipt is deemed probable. This includes instances where the Company’s third-party insurers have agreed to pay, on the Company’s behalf, certain legal defense costs and settlement amounts directly to applicable law firms and a settlement fund. The amount of such receivable related to the securities litigation recorded at September 30, 2019 and December 31, 2018 was $19,282 and $306, respectively, and is included in prepaid expenses and other current assets on the Consolidated Balance Sheets.

- 27 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)


Note 16. Income Taxes

For the three and nine months ended September 30, 2019, the benefit from income taxes was $527 and $168, respectively. For the three and nine months ended September 30, 2018, the benefit from income taxes was $1,778 and $3,429, respectively. The benefit from income taxes for the three and nine months ended September 30, 2019 and the benefit from income taxes for the three and nine months ended September 30, 2018 included an income tax benefit for the consolidated group based on an estimated annual effective tax rate.

The effective tax rate for the three and nine months ended September 30, 2019 was a benefit of 3.12% and 0.33%, respectively. The effective tax rate for the three and nine months ended September 30, 2018 was a benefit of 1.79% and 2.37%, respectively. The effective tax rates for the three and nine months ended September 30, 2019 and September 30, 2018 differed from the U.S. federal statutory rates of 21% primarily as a result of a reduction to the deferred tax liability related to an indefinite lived intangible asset, an increase of purchase accounting deferred tax liabilities that cannot be absorbed by the deferred tax assets, nondeductible expenses, state income taxes, foreign income tax rate differential and the impact of valuation allowance on the Company's deferred tax assets.

The Company has evaluated all available evidence supporting the realization of its deferred tax assets, including the amount and timing of future taxable income, and has determined that it is more likely than not that its net deferred tax assets will not be realized in the U.S. Due to uncertainties surrounding the realization of the deferred tax assets, the Company maintains a full valuation allowance against substantially all deferred tax assets. If/when the Company determines that it will be able to realize some portion or all of its deferred tax assets, an adjustment to its valuation allowance on its deferred tax assets would have the effect of increasing net income in the period(s) such determination is made. The Company files income tax returns in the U.S. Federal jurisdiction, various U.S. state jurisdictions and certain foreign jurisdictions. The Company is no longer subject to income tax examination by the U.S. federal, state or local tax authorities for years ended December 31, 2013 or prior, however, its tax attributes, such as net operating loss (“NOL”) carryforwards and tax credits, are still subject to examination in the year they are used.
Note 17. Stockholders’ Equity (Deficit)
Amended Certificate of Incorporation
In accordance with the Company’s amended and restated certificate of incorporation, which was filed immediately following the closing of its IPO, the Company is authorized to issue 750,000,000 shares of common stock, with a par value of $0.0001 per share, and 20,000,000 shares of undesignated preferred stock, with a par value of $0.0001 per share. Holders of the Company’s common stock are entitled to one vote for each share held on all matters submitted to a vote of its stockholders. Holders of the Company’s common stock have no cumulative voting rights. Further, as of September 30, 2019 and December 31, 2018, holders of the Company’s common stock have no preemptive, conversion, redemption or subscription rights and there are no sinking fund provisions applicable to the Company’s common stock. Upon liquidation, dissolution or winding-up of the Company, holders of the Company’s common stock are entitled to share ratably in all assets remaining after payment of all liabilities and the liquidation preferences of any outstanding shares of preferred stock. Subject to preferences that may be applicable to any outstanding shares of preferred stock, holders of the Company’s common stock are entitled to receive dividends, if any, as may be declared from time to time by the Company’s board of directors. As of September 30, 2019, and December 31, 2018, there were no outstanding shares of preferred stock.

- 28 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

Note 18. Stock-Based Compensation
The following table reflects the components of stock-based compensation expense recognized in the Company's Consolidated Statements of Operations:
 
Three Months Ended 
 September 30,
 
Nine Months Ended September 30,
 
2019
 
2018
 
2019
 
2018
Restricted Stock:
 
 
 
 
 
 
 
Research and development
$

 
$
28

 
$

 
$
79

Phantom units:
 
 
 
 
 
 
 
Cost of revenue
(3
)
 
52

 
18

 
302

Selling, general and administrative
16

 
(484
)
 
53

 
(69
)
Research and development
18

 
(13
)
 
14

 
313

Total phantom units stock-based compensation expense
31

 
(445
)
 
85

 
546

Stock options:
 
 
 
 
 
 
 
Selling, general and administrative
75

 

 
90

 

Restricted Stock Units:
 
 
 
 
 
 
 
Cost of revenue
6

 
4

 
11

 
22

Selling, general and administrative
390

 
759

 
1,622

 
3,983

Research and development
24

 
27

 
41

 
175

Total restricted stock units stock-based compensation expense
420

 
790

 
1,674

 
4,180

Total stock-based compensation expense
526

 
373

 
1,849

 
4,805

Amount capitalized to internal-use software
14

 
149

 
105

 
410

Total stock-based compensation cost
$
540

 
$
522

 
$
1,954

 
$
5,215

Retired Profits Interests Plan
On December 3, 2013, the Company adopted the Profits Interests Plan under which it had reserved an aggregate of 63,750,000 Series C units for issuance to associates, consultants and contractors of the Company in consideration for bona fide services provided to the Company.
The Series C units were considered profits interests of the Company and did not entitle their holders (the “Series C Members”) to receive distributions if the Company were liquidated immediately after the grant. Instead, the Series C Members were entitled to receive an allocation of a portion of the profit and loss of the Company arising after the date of the grant and, subject to vesting conditions, distributions made out of a portion of the profits of the Company arising after the grant date of the Series C units. Grants of the Series C units were either fully vested, partially vested, or entirely unvested at the time of the grant as determined by the Board.
Series C Members were not entitled to receive any distributions until the aggregate distributions made by the Company exceeded a hurdle amount applicable to those Series C units. The hurdle amount for each grant was determined by the Board at the date of issuance of such units. After all other members received their applicable hurdle amount, the Series C Members were entitled to receive their percentage interest of such excess distributions.
As of December 31, 2015, and through the date of the LLC Conversion, the Company had 3,470,254 Series C units outstanding.
Upon the LLC Conversion on June 1, 2016, the Company issued 28,973 shares of common stock to holders of vested Series C units and 10,462 shares of restricted stock to holders of unvested Series C units. The shares of restricted stock issued to holders of unvested profits interests are subject to forfeiture until becoming fully vested in accordance with the terms of the original Series C unit grant agreements (see Restricted Stock below).

- 29 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

Phantom Unit Plan
On March 31, 2015, the Company approved the Nant Health, LLC Phantom Unit Plan (the “Phantom Unit Plan”). The maximum number of phantom units that may be issued under the Phantom Plan is equal to 11,590,909 minus the number of issued and outstanding Series C units of the Company. As of September 30, 2019, there were 121,244 phantom units outstanding under the Phantom Unit Plan. Each grant of phantom units made to a participant under the Phantom Unit Plan vests over a defined service period, subject to completion of a liquidity event. The Company’s IPO satisfied the liquidity event condition and the phantom units now entitle their holders to cash or non-cash payments in an amount equal to the number of vested units held by that participant multiplied by the fair market value of one share of the Company’s common stock on the date each phantom unit vests. After the Company’s IPO, the Company will no longer issue any units under the Phantom Unit Plan.

The Company intends to settle all vested phantom unit payments held by United States-based participants in shares of the Company’s common stock and classifies these awards as equity awards in its Consolidated Balance Sheet. Awards held by participants who are based outside of the United States will be settled in cash and are classified within accrued and other current liabilities on the Consolidated Balance Sheets as of September 30, 2019 and December 31, 2018.

The following table summarizes the activity related to the unvested phantom units during the three and nine months ended September 30, 2019:
 
Number of Units
 
Weighted-
Average Grant
Date Value Per
Phantom Unit
Unvested phantom units outstanding - December 31, 2018
588,852

 
$
14.95

   Vested
(287,500
)
 
$
15.79

   Forfeited
(17,500
)
 
$
14.05

Unvested phantom units outstanding - March 31, 2019
283,852

 
$
14.16

Vested
(129,881
)
 
$
14.10

Forfeited
(19,773
)
 
$
14.10

Unvested phantom units outstanding - June 30, 2019
134,198

 
$
14.22

Vested
(10,227
)
 
$
15.84

Forfeited
(2,727
)
 
$
14.00

Unvested phantom units outstanding - September 30, 2019
121,244

 
$
14.11


The Company has previously granted phantom units to employees of related companies who are providing services to the Company under the shared services agreement with NantWorks (see Note 20) as well as certain consultants of the Company. No phantom units were granted during the three and nine months ending September 30, 2019 or 2018. All other grants of phantom units have been made to employees of the Company. Stock-based compensation expense for the phantom units issued to participants who are based outside of the United States is re-measured at the end of each reporting period until the awards vest. The Company uses the accelerated attribution method to recognize expense for all phantom units since the awards’ vesting was subject to the completion of a liquidity event. The grant date fair value of the phantom units granted prior to LLC Conversion was estimated using both an option pricing method and a probability weighted expected return method.
 
As of September 30, 2019, the Company had $189 of unrecognized stock-based compensation expense related to phantom units which will be recognized over a weighted-average period of 0.7 years. Of that amount, $187 of unrecognized expense is related to employee grants with a weighted-average period of 0.7 years and $2 of unrecognized expense is related to non-employee grants with a weighted-average period of 0.6 years.

During the three and nine months ended September 30, 2019, the Company issued 6,917 and 270,554 shares, respectively, of common stock to participants of the Phantom Unit Plan based in the United States.
2016 Equity Incentive Plan
In May and June of 2016, the Company’s Board of Directors adopted, and the Company’s stockholders approved the 2016 Equity Incentive Plan (the "2016 Plan”) in connection with the Company’s IPO. The 2016 Plan provides for the grant of incentive stock options, non-statutory stock options, restricted stock, restricted stock units, stock appreciation rights, performance units and performance shares to employees, directors and consultants.


- 30 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

In April 2018, the Company’s Board of Directors adopted, and, in June 2018, the Company’s stockholders approved an amendment to the 2016 Plan, to reserve a further 6,800,000 shares of common stock for issuance pursuant to the 2016 Plan. Following the approval of the amendment, a total of 12,800,000 shares of common stock were reserved for issuance pursuant to the 2016 Plan.
Restricted Stock
The Company issued 10,462 shares of restricted stock under the 2016 Plan on June 1, 2016, in connection with the conversion of the Series C units. No units were vested and converted into unrestricted common stock during the three and nine months ending September 30, 2019 or 2018. As of September 30, 2019, there were no shares of restricted stock outstanding under the 2016 Plan. As of December 31, 2018, there were no shares of restricted stock outstanding under the 2016 Plan.
Stock Options
Stock-based compensation expense is calculated based on the grant date fair value of the award and the attribution of that cost is being recognized ratably over the vesting period. The Company has utilized the Black-Scholes option-pricing model to determine the fair value of the stock options.
The following table summarizes the activity related to the unvested stock options during the three and nine months ended September 30, 2019:
 
Number of 
Shares
 
Weighted-Average 
Exercise Price
Stock options outstanding - December 31, 2018

 
$

Stock options outstanding - March 31, 2019

 
$

   Granted
905,724

 
$
0.61

Stock options outstanding - June 30, 2019
905,724

 
$
0.61

   Granted
1,100,000

 
$
0.55

   Vested
(137,500
)
 
$
0.55

Stock options outstanding - September 30, 2019
1,868,224

 
$
0.58

As of September 30, 2019, the Company had $564 of unrecognized stock-based compensation expense related to the stock options. This cost is expected to be recognized over a weighted-average period of 2.1 years.
Restricted Stock Units

The Company intends to settle all vested restricted stock unit payments held by United States-based participants in shares of the Company’s common stock and classifies these awards as equity awards in its Consolidated Balance Sheets. Awards held by participants who are based outside of the United States will be settled in cash and are classified within accrued and other current liabilities on the Consolidated Balance Sheets as of September 30, 2019 and December 31, 2018.


- 31 -

NantHealth, Inc.
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)
(Unaudited)

The following table summarizes the activity related to the unvested restricted stock units during the three and nine months ended September 30, 2019:
 
Number of Units
 
Weighted-Average Grant Date
Fair Value
Unvested restricted stock units outstanding - December 31, 2018
1,812,961

 
$
2.74

Granted
60,000

 
$
0.98

Vested
(38,967
)
 
$
1.65

Forfeited
(43,812
)
 
$
3.39

Unvested restricted stock units outstanding - March 31, 2019
1,790,182

 
$
2.66

   Vested
(865,129
)
 
$
2.70

   Forfeited
(129,530
)
 
$
3.06

Unvested restricted stock units outstanding - June 30, 2019
795,523

 
$
2.59

   Forfeited
(84,631
)