DELCATH SYSTEMS, INC. (DCTH) FY 2023 MD&A

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The following discussion of our financial condition and results of operations should be read in conjunction with our audited consolidated financial statements and notes thereto appearing elsewhere in this Annual Report on Form 10-K.

Overview

We are an interventional oncology company focused on the treatment of primary and cancers metastatic to the liver. Our lead product, the HEPZATO KIT (“HEPZATO” melphalan for Injection/Hepatic Delivery System), a drug/device combination product, was approved by the FDA on August 14, 2023 indicated as a liver-directed treatment for adult patients with uveal melanoma with unresectable hepatic metastases affecting less than 50% of the liver and no extrahepatic disease, or extrahepatic disease limited to the bone, lymph nodes, subcutaneous tissues, or lung that is amenable to resection or radiation. In Europe, the hepatic delivery system is a stand-alone medical device having the same device components as HEPZATO KIT, but without the melphalan hydrochloride and is approved for sale under the trade name CHEMOSAT Hepatic Delivery System for Melphalan, or CHEMOSAT, where it has been used at major medical centers to treat a wide range of cancers in the liver.

In the United States, HEPZATO is considered a combination drug and device product and is regulated as a drug by the FDA. Primary jurisdiction for regulation of HEPZATO has been assigned to the FDA’s Center for Drug Evaluation and Research. The FDA has granted us six orphan drug designations (five for melphalan in the treatment of patients with ocular (uveal) melanoma, cutaneous melanoma, intrahepatic cholangiocarcinoma, hepatocellular carcinoma, and neuroendocrine tumor indications and one for doxorubicin in the treatment of patients with hepatocellular carcinoma).

Our clinical development program for HEPZATO was comprised of the FOCUS Trial, a global registration clinical trial that investigated objective response rate in patients with mUM. We are currently reviewing the incidence, unmet medical need, and development requirements for a broad set of cancers of the liver in order to select a portfolio of follow-on indications that will maximize the value of the HEPZATO KIT. In addition to HEPZATO’s use to treat mUM, we believe that HEPZATO has the potential to treat other liver dominant cancers, such as metastatic colorectal cancer, metastatic neuroendocrine tumors, metastatic breast cancer and intrahepatic cholangiocarcinoma, and plan to begin the study of

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HEPZATO KIT to treat such conditions in the near future. We believe that those and similar disease states are areas of unmet medical needs that represent significant market opportunities.

We have sufficient raw material and component constituent parts of HEPZATO KIT to meet the first year of our anticipated demand and we intend to manage supply chain risk through stockpiled inventory and contracting with multiple suppliers for critical components.

On February 28, 2022, CHEMOSAT received Medical Device Regulation (MDR) certification under the European Medical Devices Regulation (EU) 2017/745, which may be considered by jurisdictions when evaluating reimbursement. As of March 1, 2022, we have assumed direct responsibility for sales, marketing and distribution of CHEMOSAT in Europe.

Liquidity and Capital Resources

On December 31, 2023, we had cash, cash equivalents and restricted cash totaling $12.7 million and short-term investments totaling $19.8 million, as compared to cash, cash equivalents and restricted cash totaling $11.8 million on December 31, 2022. During the years ended December 31, 2023 and 2022, we used $31.3 million and $25.0 million, respectively, of cash in our operating activities, and $6.3 million and $0.7 million, respectively, for principal payments of outstanding debt.

Our future results are subject to substantial risks and uncertainties. We have operated at a loss for our entire history and there can be no assurance that we will ever achieve or maintain profitability. We have historically funded our operations primarily with proceeds from sales of common stock, warrants and prefunded warrants for the purchase of common stock and from the exercise of such warrants, sales of preferred stock, proceeds from the issuance of convertible debt and borrowings under loan and security agreements.

Funding Requirements

If there is a substantial delay in the activation of sites approved to administer HEPZATO, we expect to need to raise additional capital under structures available to us, including debt and/or equity offerings, which may not be on terms favorable to us. In a substantially delayed site activation scenario, we will not have sufficient funds to meet our obligations within twelve months from the issuance date of these condensed consolidated financial statements. As such, there is uncertainty regarding our ability to maintain liquidity sufficient to operate our business effectively, which raises substantial doubt about our ability to continue as a going concern.

Debt financing and equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making capital expenditures or declaring dividends. If we raise funds through collaborations, or other similar arrangements with third parties, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or product candidates or grant licenses on terms that may not be favorable to us and/or may reduce the value of our common stock. If we are unable to raise additional funds through equity or debt financings when needed, we may be required to delay, limit, reduce or terminate our product development or future commercialization efforts or grant rights to develop and market our product candidates even if we would otherwise prefer to develop and market such product candidates ourselves.

We also expect to use cash and cash equivalents to fund activities relating to commercial support for HEPZATO, CHEMOSAT and any future clinical research trials and operating activities. Our future liquidity and capital requirements will depend on numerous factors, including our ability to successfully commercialize HEPZATO and CHEMOSAT; the cost of and our ability to obtain additional regulatory approvals for HEPZATO and CHEMOSAT in additional jurisdictions and for additional indications; our ability to build a commercial infrastructure for HEPZATO for the treatment of mUM in the United States; obtaining regulatory approvals and complying with applicable laws and regulations; the timing and effectiveness of product commercialization activities, including marketing arrangements; our headcount growth and associated costs as we expand our research and development and establish a commercial infrastructure; the timing and costs involved in preparing, filing, prosecuting, defending and enforcing intellectual property rights; and the effect of competing technological and market developments.

Capital Commitments

Our capital commitments over the next twelve months include (a) $6.3 million to satisfy accounts payable, accrued expenses, current lease liabilities and current medac settlement and (b) $10.6 million of loan and convertible note principal payments, if the holders do not elect to convert up to $5.0 million of the notes into equity. Additional capital commitments beyond the next twelve months include (a) $0.8 million for settlement of litigation with medac and (b) less than $0.1 million of lease liabilities.

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Sources of Liquidity

ATM Sales Agreement

We entered into a Controlled Equity OfferingSM Sales Agreement (“ATM Sales Agreement”), with Cantor Fitzgerald & Co. (the “Sales Agent”), pursuant to which we may offer and sell, at our sole discretion through the Sales Agent, shares of common stock having an aggregate offering price of up to $17.0 million. To date, we have sold approximately $4.0 million of our common stock, prior to issuance costs, under the ATM Sales Agreement. No sales were made during the year ending December 31, 2023.

Avenue Loan Agreement

On August 6, 2021, we entered into the Avenue Loan Agreement with Avenue Venture Opportunities Fund, L.P. (the “Lender,” or “Avenue”), as amended on March 31, 2023, for a term loan in an aggregate principal amount of up to $20.0 million (the “Avenue Loan”). The Avenue Loan bears interest at an annual rate equal to the greater of (a) the sum of 7.7% plus the prime rate as reported in The Wall Street Journal and (b) 10.95%. The interest rate pursuant to the Avenue Loan on December 31, 2023 was 16.20%. The Avenue Loan is secured by all of our assets globally, including intellectual property. The Avenue Loan matures on August 1, 2024. On March 15, 2023, we returned to Avenue $4.0 million held in the restricted cash to pay down a portion of the outstanding loan balance, principal payments of $2.1 million and an incremental 4.25% of the final payment of $0.2 million. On March 31, 2023, we reached an agreement to amend the existing loan agreement with Avenue to defer the interest only period to September 30, 2023 with an additional extension option upon the FDA approval for the HEPZATO KIT and subsequent receipt of at least $10 million from the sale and issuance of equity securities. In exchange for this extension, the Company agreed to provide Avenue with 34,072 warrants to purchase shares of common stock. The exercise price of the warrants is $0.01. On August 14, 2023, the Company received the FDA approval for the HEPZATO KIT and subsequently received over $10 million from the exercise of warrants. At our option, we elected to extend the interest only period to December 31, 2023. Principal payments of approximately $1.0 million began in January 2024.

Private Placements, Common Offering and Warrants

On March 27, 2023, we entered into a securities purchase agreement with certain accredited investors (the “Preferred Purchase Agreement”), pursuant to which we agreed to issue and sell, in a private placement (the “Series F Preferred Offering”), (i) 24,900 shares of our Series F-1 Convertible Preferred Stock, par value $0.01 per share (the “Series F-1 Preferred Stock”), (ii) tranche A warrants (the “Preferred Tranche A Warrant”) to acquire 34,859 shares of Series F-3 Convertible Preferred Stock, par value $0.01 per share (the “Series F-3 Preferred Stock”) and (iii) tranche B warrants (the “Preferred Tranche B Warrant,” together with the Preferred Tranche A Warrant, the “Preferred Warrants”) to acquire 24,900 shares of Series F-4 Convertible Preferred Stock, par value $0.01 per share (the “Series F-4 Preferred Stock”) for an aggregate offering price of $24.9 million before deducting the fees paid to the placement agent and the financial advisors and other financing expenses payable by us.

Also on March 27, 2023, we entered into a securities purchase agreement with the our Chief Executive Officer, Gerard Michel, pursuant to which we agreed to issue and sell, in a private placement (the “Common Offering”, and together with the Series F Preferred Offering, the “Private Placements”), (i) 19,646 shares of common stock, (ii) tranche A warrants to acquire 31,110 shares of common stock (the “Common Tranche A Warrants”, and together with the Preferred Tranche A Warrants, the “Tranche A Warrants”) and (iii) tranche B warrants to acquire 16,666 shares of common stock (the “Common Tranche B Warrants”, and together with the Preferred Tranche B Warrants, the “Tranche B Warrants”) for an approximate aggregate offering price of $0.1 million.

On June 12, 2023, the stockholders approved the Private Placements at the annual general meeting of stockholders and therefore, the Preferred Warrants and Common Warrants issued in the Private Placements are exercisable. The exercise of all such Preferred Warrants and Common Warrants would generate approximately $60.0 million in proceeds. There can be no guarantee that all such Warrants are ever exercised, and if so, there is no guarantee that we will ever receive the full $60.0 million in proceeds. During the twelve months ended December 31, 2023, all of the Preferred Tranche A Warrants were exercised for an aggregate exercise price of $34.9 million into 34,859 shares of Series F-3 Preferred Stock and all of the Common Tranche A Warrants were exercised for an aggregate exercise price of $0.1 million into 31,110 shares of common stock.

As of December 31, 2023, 46,197 shares of our Series F-1, F-2 and F-3 Preferred Stock were converted into 12,073,145 shares of common stock.

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Results of Operations

Revenue

We recorded approximately $2.1 million in product revenue during the year ended December 31, 2023. During the same period in 2022, we recorded $2.5 million in product revenue and $0.2 million in other revenue. Our product revenues decreased $0.6 million primarily due to transitioning to direct selling of CHEMOSAT beginning in March 2022. Other revenues decreased as a result of the amortization of our license agreement with medac, pursuant to which medac had served as our exclusive distributor of CHEMOSAT in the United Kingdom and European Union.

Cost of Goods Sold

During the year ended December 31, 2023, cost of goods sold was relatively flat between $0.6 million and $0.7 million for both 2023 and 2022.

Research and Development Expenses

For the year ended December 31, 2023, research and development expenses decreased to $17.5 million from $18.6 million for the year ended December 31, 2022, a decrease of $1.1 million or 6%. The decrease is primarily due to higher expenses for preparation of the pre-NDA meeting in April 2022 and increased third party expenses throughout 2022 related to the NDA resubmission which occurred on February 14, 2023.

Selling, General and Administrative Expenses

For the year ended December 31, 2023, selling, general and administrative expenses increased to $22.1 million from $17.3 million for the year ended December 31, 2022, an increase of $4.8 million or 28%. The increase is primarily due to increased headcount and higher costs incurred to prepare for the commercialization of HEPZATO in the United States in 2023.

Interest Expense, Net

For the year ended December 31, 2023, we recognized $1.4 million of interest expense, as compared to $2.7 million in the prior year, a decrease of $1.3 million. The decrease primarily relates to a reduction in interest expense after we returned $6.3 million to Avenue in the first quarter of 2023. The net interest was further positively affected in 2023 due to investing cash received from the Private Placements in March 2023 and the subsequent warrant exercises in August 2023.

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Critical Accounting Estimates

Our consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”). Certain critical accounting estimates have a significant impact on amounts reported in the consolidated financial statements. A summary of those critical accounting estimates is below. Additional details can be found in Note 3 to our audited consolidated financial statements contained in this Annual Report on Form 10-K.

Fair Value Measurements

GAAP emphasizes that fair value is a market-based measurement, not an entity-specific measurement. Therefore, a fair value measurement should be determined based on the assumptions that market participants would use in pricing the asset or liability. As a basis for considering market participant assumptions in fair value measurements, GAAP establishes a fair value hierarchy that distinguishes between market participant assumptions based on market data obtained from sources independent of the reporting entity (observable inputs that are classified within Levels 1 and 2 of the hierarchy) and the reporting entity’s own assumptions about market participant assumptions (unobservable inputs classified within Level 3 of the hierarchy).

Our fair value measurements are generally related to a contingent liability, warrant liability, a preferred stock offering, investments, and stock-based compensation.

Contingent Liabilities

Contingent liabilities are re-measured to fair value each reporting period using projected financial targets, discount rates, probabilities of payment, and projected payment dates. Projected contingent payment amounts are discounted back to the current period using a discounted cash flow model. Projected financial targets are based on our most recent internal operational budgets and may take into consideration alternate scenarios that could result in more or less profitability for the respective service line. Increases or decreases in projected financial targets and probabilities of payment may result in significant changes in the fair value measurements. Increases in discount rates and the time to payment may result in lower fair value measurements. Increases or decreases in any of those inputs in isolation may result in a significantly lower or higher fair value measurement.

Warrant Liability

The valuation of the warrant liability was determined using option pricing models. These models use inputs such as the underlying price of the shares issued at the measurement date, volatility, risk free interest rate and expected life of the instrument. In addition, we used probabilities of recording at least $10 million in quarterly U.S. revenue from the commercialization of HEPZATO as inputs in the model to determine the fair value of warrants liability. We adjust the fair value of the warranty liability at the end of each reporting period.

Stock Based Compensation

Valuation of stock options generally requires certain assumptions, including the fair market value of our common stock (generally an observable market price, as our common stock is publicly traded), the expected term of the financial instrument (judgment is required), the expected volatility of our common stock over the expected term (generally estimated by reference to the historical volatility of our common stock), our expected dividend rate over the expected term (currently estimated as zero, given that we are not projecting profits over the intermediate term) and the expected risk-free rate over the expected term (generally estimated by reference to U.S. treasury instruments with similar remaining terms).

Accrued Expenses

We utilize contract research organizations in order to perform research and development and conduct clinical trials. In some cases, these organizations do not bill on a timely basis. Management monitors certain key drivers of these costs and estimates accruals in an attempt to properly match expenses incurred with the appropriate reporting period. However, there is judgment involved and the actual billings could be more or less than the estimated accrual.