UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

For the Quarterly Period Ended March 31, 2020

OR

For the Transition Period From              to

Commission file number: 001-38677

Ra Medical Systems, Inc.

(Exact name of Registrant as specified in its charter)

(760) 804-1648

(Registrant’s telephone number, including area code)

N/A

(Former name, former address and former fiscal year, if changed since last report)

Securities registered pursuant to Section 12(b) of the Act:

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  ☒  No  ☐

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  ☒    No  ☐

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.

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. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No  ☒

As of May 12, 2020, the registrant had 13,895,349 shares of common stock, par value $0.0001 per share, outstanding.

RA MEDICAL SYSTEMS, INC.

QUARTERLY REPORT ON FORM 10-Q

TABLE OF CONTENTS

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PART I — FINANCIAL INFORMATION

Ra Medical Systems, Inc.

Condensed Balance Sheets

(Unaudited)

(in thousands, except share and per share data)

See notes to condensed financial statements.

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Ra Medical Systems, Inc.

Condensed Statements of Operations

(Unaudited)

(in thousands, except per share data)

See notes to condensed financial statements.

4

Ra Medical Systems, Inc.

Condensed Statements of Comprehensive Loss

(Unaudited)

(in thousands, except per share data)

See notes to condensed financial statements.

5

Ra Medical Systems, Inc.

Condensed Statements of Cash Flows

(Unaudited)

(in thousands)

See notes to condensed financial statements.

6

Ra Medical Systems, Inc.

Condensed Statements of Stockholders’ Equity  

(Unaudited)

(in thousands)

See notes to condensed financial statements.

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Ra Medical Systems, Inc.

Notes to Condensed Financial Statements

(Unaudited)

Note 1—Organization and Nature of Operations

Ra Medical Systems, Inc. (the “Company”) was formed in September 4, 2002, in the state of California and reincorporated in Delaware on July 14, 2018. The Company is a medical device company that develops, manufactures and markets advanced excimer lasers for use in the treatment of vascular and dermatological diseases. The Company’s product development centers around proprietary applications of its advanced excimer laser technology for use as a tool in the treatment of peripheral artery disease (“PAD”) and psoriasis, vitiligo, atopic dermatitis and leukoderma.

In July 2018, the Company reincorporated in Delaware. In connection with the Company’s initial public offering (“IPO”), which closed on October 1, 2018, the Company filed an Amended and Restated Certificate of Incorporation which authorizes the issuance of 300,000,000 shares of common stock with a par value of $0.0001 and 10,000,000 shares of preferred stock with a par value of $0.0001.

COVID-19—The global spread of the novel coronavirus (COVID-19) has created significant volatility, uncertainty and economic disruption. The ultimate effects of the COVID-19 on the Company’s business, operations and financial condition are unknown at this time. In the near term, the Company expects that its revenue will be adversely impacted and enrollment in its atherectomy clinical trial will be delayed or slowed, as patients elect to postpone voluntary treatments and physicians’ offices are either closed or operating at a reduced capacity. In addition, some customers are requesting more flexible payment terms on a temporary basis. The Company’s manufacturing facility located in Carlsbad, California is currently operational. Employee travel is limited to essential travel only and many employees are working from home when feasible. Due to the Company’s reduced commercial footprint and volume, it is not currently experiencing any shortages in supplies that would impact its ability to manufacture products sufficient to meet current demand and to support its atherectomy indication trial. However, the extent to which COVID-19 impacts its business will depend on future developments, which are highly uncertain and cannot be predicted, including new information which may emerge concerning the severity of COVID-19 and the actions to contain it or treat its impact, among others. 

Going Concern — The condensed financial statements have been prepared on a going concern basis, which contemplates the realization of assets and settlement of liabilities in the normal course of business, and do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or amounts and classification of liabilities that may result from the outcome of this uncertainty.

The Company has experienced recurring net losses from operations and negative cash flows from operating activities, has a significant accumulated deficit and expects to continue to incur net losses into the foreseeable future. The Company had an accumulated deficit of $124.9 million at March 31, 2020. In 2019, the Company used $33.2 million for operating activities. As of March 31, 2020, the Company had cash, cash equivalents and short-term investments of $23.4 million. Management expects operating losses and negative cash flows to continue for the foreseeable future with the Company’s reduced commercial footprint, and as the Company continues to incur costs related to its atherectomy clinical trial, engineering efforts to improve the shelf-life of its catheters and develop next generation products and legal costs associated with ongoing litigation. The Company also expects the COVID-19 pandemic to have a negative impact on its revenue and timing of enrollment in its atherectomy clinical trial, as well as the Company’s ability to secure additional financing in a timely manner or on favorable terms, if at all.           

Management estimates that based on the Company’s liquidity resources, there is substantial doubt about the Company’s ability to continue as a going concern within 12 months from the date of issuance of the financial statements.

Management’s ability to continue as a going concern is dependent upon its ability to raise additional funding. Management’s plans to raise additional capital through public or private equity or debt financings to fulfill its operating and capital requirements for at least 12 months from the date of the issuance of the financial statements. However, the Company may not be able to secure such financing in a timely manner or on favorable terms, if at all. Furthermore, if the Company issues equity securities to raise additional funds, its existing stockholders may experience dilution, and the new equity securities may have rights, preferences and privileges senior to those of the Company’s existing stockholders.

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Note 2—Significant Accounting Policies

Interim condensed financial information—The unaudited interim condensed financial statements have been prepared on the same basis as the annual financial statements and reflect all adjustments of a normal and recurring nature that are necessary for the fair presentation of the Company’s condensed balance sheets, results of operations, cash flows and statement of stockholders’ equity for the periods presented. The results of operations for the three months ended March 31, 2020 are not necessarily indicative of the results to be expected for the year ending December 31, 2020 or for any other future annual or interim period. The balance sheet as of December 31, 2019 included herein was derived from the audited financial statements as of that date. These unaudited condensed financial statements should be read in conjunction with the Company’s audited financial statements included in the Company’s Annual Report on Form 10-K filed with the SEC on March 11, 2020.

Use of estimates—The financial statements of the Company have been prepared by management in accordance with accounting principles generally accepted in the United States of America. The preparation of the financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities and reported disclosures of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenue and expenses during the reporting periods. Actual results could differ from those estimates. The Company’s financial statements are based upon a number of estimates, including but not limited to, allowance for doubtful accounts, reserves for warranty costs including product recalls, evaluation of probable loss contingencies, fair value of stock option awards granted and revenue recognition for multiple performance obligations.  

Fair value measurements—Fair value represents the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants and is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or liability. A three-tier value hierarchy is used to identify inputs used in measuring fair value as follows:

Level 1—Observable inputs that reflect quoted market prices (unadjusted) for identical assets or liabilities in active markets.

Level 2—Inputs other than the quoted prices in active markets that are observable either directly or indirectly in the marketplace for identical or similar assets and liabilities; and

Level 3—Unobservable inputs that are supported by little or no market data, which require the Company to develop its own assumptions.

The hierarchy requires the Company to use observable market data, when available, and to minimize the use of unobservable inputs when determining fair value.

The Company measures its cash equivalents and short-term investments at fair value.

Product warranty—The Company records estimated product warranty costs at the time of sale. Products are warrantied against defects in material and workmanship when properly used for their intended purpose and appropriately maintained. Accordingly, the Company generally replaces catheters that kink or fail to calibrate. The product warranty liability is determined based on historical information such as past experience, product failure rates or number of units repaired, estimated cost of material and labor. The product warranty liability also includes the estimated costs of a product recall.

Product warranties are included for the first year after the sale for laser sales. For lasers, the customer may purchase an extended service contract, which is either negotiated in the contract or sold as a separate component for which revenue is recognized over the term of the agreement.

The warranty accrual is included in accrued expenses in the accompanying balance sheets. Warranty expenses are included in cost of revenue in the accompanying statements of operations. Changes in estimates to previously established warranty accruals result from current period updates to assumptions regarding repair and product recall costs and are included in current period warranty expense.

Inventories—Inventories are stated at the lower of cost (first-in, first-out method) or net realizable value. Cost includes materials, labor and manufacturing overhead related to the purchase and production of inventories. The Company reduces the carrying value of inventories for those items that are potentially excess, obsolete or slow-moving based on changes in customer demand, technological developments or other economic factors.

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Catheters are manufactured in-house and each catheter is tested at various stages of the manufacturing process for adherence to quality standards. Catheters that do not meet functionality specification at each test point are destroyed and immediately written off, with the expense recorded in cost of revenue in the statement of operations. Once manufactured, completed catheters that pass quality assurance, are sent to a third-party for sterilization and sealed in a sterile container. Upon return from the third-party sterilizer, a sample of catheters from each batch are re-tested. If the sample tests are successful, the batch is accepted into finished goods inventory and if the sample tests are unsuccessful, the entire batch is written off, with the expense recorded in cost of revenue in the statement of operations.

Revenue—The Company generates revenue from the sale of products and services. Product sales consist of the sale of DABRA and Pharos laser systems, the sale of catheters for use with the DABRA laser, and the sale of consumables and replacement parts. The Company’s sales agreements generally do not include right-of-return provisions for any form of consideration including partial refund or credit against amounts owed to the Company. Services and other revenue primarily consist of sales of extended warranty and billable services, including repair activity and income from rental of lasers.

Catheter Revenue

The Company enters into a DABRA laser commercial usage agreement or DABRA laser placement acknowledgement with each customer that is supplied a DABRA laser, collectively the “usage agreement”. The usage agreement provides for specific terms of continued use of DABRA laser, including a nominal periodic fee. The terms of a usage agreement typically allow the Company to place a DABRA laser at a customer’s specified location without a specified contract term. Under the usage agreement terms, the Company retains all ownership rights to the DABRA laser and is permitted to request the return of the equipment within 10 business days of notification. While the laser periodic fees are nominal, the laser usage agreements provide the Company the exclusive rights to supply related single-use catheters to the customer which aggregate the majority of the vascular segment revenue. There are no specified minimum purchase commitments for the catheters.

The Company recognizes revenue associated with the usage agreement and catheter supply arrangements in accordance with Topic 606 as the contract primarily includes variable payments, the catheters are priced at their standalone selling price and the laser equipment is insignificant in the context of the contract. Revenue is recognized when the performance obligation is satisfied, which is generally upon shipment of the catheter.  

Laser Sales

Laser sales consist of sales of DABRA and Pharos laser systems and are included in product sales in the statements of operations. The Company recognizes revenue on laser sales at the point in time that control transfers to the customer. Control of the product typically transfers upon shipment.

Warranty Service Revenue

The Company typically provides a 12-month warranty with the purchase of its laser systems. Customers can extend the warranty period through the purchase of extended warranty service contracts. Extended warranty service contracts are sold with contract terms ranging from 12 to 60 months and cover periods after the end of the initial 12-month warranty period. The warranty provides the customer with maintenance services in addition to the assurance that the laser product complies with agreed-upon specifications. Therefore, the warranty service is treated as a separate performance obligation from the laser system. Warranty services are a stand-ready obligation, and the Company recognizes revenue on a straight-line basis over the service contract term. Warranty service revenue is included in service and other revenue in the statements of operations. Deferred revenue at December 31, 2019 was $3.3 million. Revenue recognized in the three months ended March 31, 2020 relating to amounts previously included in deferred revenue was $0.7 million. The deferred revenue greater than one year will be recognized during the remaining service period through 2024.

Distributor Transactions

In certain markets outside the U.S., the Company sells products and provides services to customers through distributors that specialize in medical device products. The terms of sales transactions through distributors are generally consistent with the terms of direct sales to customers. The Company accounts for these transactions in accordance with the Company’s revenue recognition policy described herein.

Contract Costs

The Company capitalizes costs to obtain contracts that are considered incremental and recoverable, such as sales commissions. The capitalized costs are amortized to selling, general and administrative expense over the estimated period of benefit of the asset, which is the contract term. The Company elected to use the practical expedient to expense the costs to obtain a contract when the amortization period is less than one year. The Company has contract costs of $0.4 million and $0.3 million capitalized at December 31, 2019 and March 31, 2020, respectively.

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Rental Income

The Company also derives income pursuant to product lease agreements for its Pharos laser systems, as operating leases. Consequently, the Company retains title to the equipment and the equipment remains on Company’s balance sheet within property and equipment. Depreciation expense on these leased lasers is recorded to cost of revenues on a straight-line basis. The costs to maintain these leased lasers are charged to cost of revenues as incurred.

These lease arrangements contain one lease component (the laser) and one nonlease component (warranty service) for which the Company elected the practical expedient to not separate the nonlease component from the lease component. The Company accounts for the combined lease component as an operating lease and recognizes lease income on a straight-line basis over the lease term. Rental income from lease arrangements for each of the three months ended March 31, 2020 and March 31, 2019 was $0.2 million.   

Recently Adopted Accounting Pronouncements—In June 2018, the FASB issued ASU 2018-07, Improvements to Nonemployee Share-Based Payment Accounting. ASU 2018-07 expands the scope of Topic 718, Compensation—Stock Compensation, to include share-based payments issued to nonemployees for goods or services. Consequently, the accounting for share-based payments to nonemployees and employees will be substantially aligned. ASU 2018-07 supersedes Subtopic 505-50, Equity—Equity-Based Payments to Non-Employees. The amendments are effective for fiscal years beginning after December 15, 2019. Early adoption is permitted, but no earlier than a company’s adoption date of Topic 606, Revenue from Contracts with Customers. The Company adopted this guidance on January 1, 2020 and there was no impact on the financial statements and related disclosures.

In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820) - Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement, which is designed to improve the effectiveness of disclosures by removing, modifying and adding disclosures related to fair value measurements. ASU No. 2018-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years, and the ASU allows for early adoption in any interim period after issuance of the update. The Company adopted this guidance of January 1, 2020 and there was no impact on the financial statements and related disclosures.

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326), to require the measurement of expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions and reasonable forecasts and applies to all financial assets, including trade receivables. The main objective of this ASU is to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date. ASU No. 2016-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The Company adopted this guidance on January 1, 2020 and there was no material impact on the financial statements and related disclosures.   

Note 3—Short-term Investments

A summary of debt securities by major security type is as follows as of March 31, 2020 (in thousands):

All debt securities are due in less than one year.

A summary of debt securities by major security type is as follows as of December 31, 2019 (in thousands):

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The following table presents the hierarchy for assets measured at fair value on a recurring basis (in thousands):

Note 4—Inventories

Inventories consisted of the following (in thousands):

Note 5—Property and Equipment, net

Property and equipment consisted of the following (in thousands):

Depreciation expense was $0.5 million $0.3 million for the three months ended March 31, 2020 and 2019, respectively.    

Note 6—Accrued Expenses

Accrued expenses consisted of the following (in thousands):

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Note 7—Accrued Warranty

Activity in the product warranty accrual is included in accrued expenses above and consists of the following (in thousands):

Warranty expense was $32,000 and $0.3 million for the three months ended March 31, 2020 and 2019, respectively. The accrued warranty balances at March 31, 2020 and December 31, 2019 each include $0.2 million relating to the voluntary recall of catheters, which occurred in September 2019. Warranty expense is included in cost of revenue in the accompanying condensed statements of operations.

Note 8—Leases

The Company has two operating leases for office and manufacturing space which requires it to pay base rent and certain utilities. Monthly rent expense is recognized on a straight-line basis over the terms of the leases, which expire in 2027 and 2021.

At March 31, 2020 the weighted average remaining lease term was eight years. The operating leases are included in the balance sheet at the present value of the lease payments at a 7% discount rate using the rate of interest that the Company would have to pay to borrow on a collateralized basis over a similar term and amount equal to the lease payments in a similar economic environment as the leases do not provide an implicit rate.

For each of the three months ended March 30, 2020 and 2019, operating lease expense and cash paid for leases were $0.1 million. Operating lease right-of-use assets amortization was $0.1 million for each the three months ended March 31, 2020 and 2019. Variable costs are de minimis.

The following table presents the lease liabilities within the condensed balance sheet, related to the Company’s operating leases as of March 31, 2020 (in thousands):

Note 9—Loss per Share

The Company calculates basic loss per share by dividing net loss by the weighted average number of common shares outstanding during the reporting period. Diluted loss per share would reflect the effects of potentially dilutive securities, if any.

Anti-dilutive common share equivalents excluded from the computation of diluted net loss per share at March 31, 2020 consisted of stock options of 3,722,397, restricted stock units of 297,626, restricted stock awards of 125,000 and Employee Stock Purchase Plan shares of 61,840.

Anti-dilutive common share equivalents excluded from the computation of diluted net loss per share at March 31, 2019 consisted of stock options of 1,908,100 and restricted stock units of 1,369,147.

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Note 10—Stock-Based Compensation

In March 2020 the Company adopted the 2020 Inducement Equity Incentive Plan (the “2020 Plan”) with the purpose of attracting, retaining and incentivizing employees in furtherance of the Company’s success. The 2020 Plan was adopted without stockholder approval pursuant to Rule 303A.08 of the New York Stock Exchange rules. In accordance with New York Stock Exchange rules, this plan is used to offer equity awards as material inducements for new employees to join Ra Medical. On adoption, 800,000 shares of common stock were reserved solely for the granting of inducement stock options, restricted stock, restricted stock units and other awards. The 2020 Plan provides for the granting of stock options with exercise prices equal to the fair market value of our common stock on the date of grant. During the quarter ended March 31, 2020 there were 450,000 stock options granted with a weighted average exercise price of $1.02 and 125,000 restricted stock awards granted with a grant date fair value of $0.1 million under the 2020 Plan. The intrinsic value of all outstanding stock options was $31,000 at March 31, 2020.

A summary of the activity and related information of the stock options issued under the 2018 Equity Incentive Plan and the 2018 Stock Compensation Plan is presented below:

A summary of the activity and related information of the restricted stock units issued under the 2018 Plan is presented below:

Stock-based compensation expense recorded in operating expenses was as follows (in thousands):

Stock-based compensation amounts of $0.1 million and $0.5 million were capitalized to inventory and property and equipment during the three months ended March 31, 2020 and 2019, respectively.   

Unrecognized compensation expense for stock options issued as of March 31, 2020 was $4.4 million and is expected to be recognized over a weighted-average period of 1.6 years. Unrecognized compensation expense for the restricted stock units and restricted stock awards as of March 31, 2020 was $2.0 million and is expected to be recognized over a weighted-average period of 0.9 years.

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Note 11—Commitments and Contingencies

Legal—In the normal course of business, the Company is at times subject to pending and threatened legal actions. In management’s opinion, any potential loss resulting from the resolution of these matters will not have a material effect on the results of operations, financial position or cash flows of the Company.      

Securities Litigation

On June 7, 2019, a putative securities class action complaint captioned Derr v. Ra Medical Systems, Inc., et. al., (Civil Action no. 19CV1079 LAB NLS) was filed in the United States District Court for the Southern District of California against the Company, certain current and former officers and directors, and certain underwriters of the Company’s IPO. The complaint alleged that the defendants made material misstatements or omissions in the Company’s registration statement in violation of Sections 11 and 15 of the Securities Act of 1933. On September 5, 2019, the court appointed Lead Plaintiffs. On January 13, 2020, the Lead Plaintiffs filed an amended complaint. In addition to the Securities Act violations alleged in the original complaint, the amended complaint alleges that the defendants made material misstatements or omissions between September 27, 2018 and November 27, 2019, inclusive, in violation of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. On March 13, 2020, defendants filed a motion to dismiss the amended complaint. A hearing on the motion to dismiss is scheduled for July 20, 2020. Management intends to vigorously defend the Company against this lawsuit. At this time, the Company cannot predict how a court or jury will rule on the merits of the claims and/or the scope of the potential loss in the event of an adverse outcome. Should the Company ultimately be found liable, the liability could have a material adverse effect on the Company’s financial condition and its results of operations for the period or periods in which it is incurred. The Company is unable to predict the ultimate outcome and is unable to make a meaningful estimate of the amount or range of loss, if any, that could result from any unfavorable outcome.  

On October 1, 2019, a shareholder derivative complaint captioned Noel Borg v. Dean Irwin, et. al (Civil Action no. 1:99-cm-09999) was filed in the United States District Court for the District of Delaware against certain current and former officers and directors, purportedly on behalf of the Company, which is named as a nominal defendant in the action. The complaint alleges breaches of fiduciary duty, unjust enrichment, waste, and violations of Section 14(a) of the Securities Exchange Act of 1934. On October 21, 2019, pursuant to the parties’ stipulation, the court stayed the derivative lawsuit until the related class action is resolved. While the Company has obligations to indemnify and/or advance the defendants’ legal fees and costs in connection with this lawsuit, any monetary recovery from the defendants would be to the benefit of the Company.

The Company is unable to predict the ultimate outcome and is unable to make a meaningful estimate of the amount or range of loss, if any, that could result from any unfavorable outcome.

Governmental Investigations

As previously announced in the Form 8-K filed on August 12, 2019, the Audit Committee of Ra Medical’s Board of Directors (the “Audit Committee”) conducted an investigation of certain allegations raised by a former employee. The Company announced the Audit Committee’s findings in the Form 8-K filed on October 31, 2019. The primary investigative findings were: (i) the DABRA catheter frequently failed to calibrate and occasionally overheated, posing a risk of injury to physicians and patients; (ii) the Company’s explanations regarding its fourth quarter 2018 and first quarter 2019 sales created a risk of confusion because they did not explicitly reference inconsistent DABRA catheter performance and catheter failures; (iii) the Company failed to timely make at least two Medical Device Reports, or MDRs, to the FDA; (iv) the Company, out of a concern for the DABRA catheters’ performance, engaged in systematic efforts to replace product held by customers, which constituted product recalls, but were not documented as such, (v) the Company lack documentation of sufficient detail and specificity to support certain payments to physicians, ostensibly for training and consulting services, and as to three physicians did not accurately reflect the purpose and nature of approximately $300,000 of payments, which could be perceived as an improper attempt to obtain business or to gain special advantage, (vi) while the indication for use in the 510(k) clearance the Company obtained for the DABRA system is not for atherectomy, the Company’s salespeople were instructed to characterize DABRA as performing atherectomy and to encourage doctors to seek reimbursement using atherectomy codes, (vii) the Company’s determinations to direct potentially valuable benefits and opportunities to doctors were informed in part by sales prospects, and (viii) the Company received complaints regarding regulatory or compliance concerns that, because they implicated executive officers, should have been brought to the attention of the Board or the Audit Committee, but were not. The Audit Committee, in reviewing the allegations, identified certain behavior inconsistent with the Company’s Code of Ethics and Conduct and related policies.

As also previously announced, the Company voluntarily contacted the Securities and Exchange Commission’s (the “SEC”) Enforcement Division regarding the Audit Committee’s investigation. On November 13, 2019, the SEC notified the Company that it is conducting an investigation. The Company has been, and intends to continue, cooperating with the SEC in this active and ongoing investigation. The Company is unable to predict the ultimate outcome and is unable to make a meaningful estimate of the amount or range of loss, if any, that could result from any unfavorable outcome.

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In October 2019, the Department of Justice, or DOJ, served the Company with a Civil Investigative Demand (“CID”) seeking information with respect to a False Claims Act investigation concerning whether the Company fraudulently obtained 510(k) marketing clearance for the Company’s devices marketed under the trade name DABRA, whether the Company marketed and promoted DABRA devices for unapproved uses that were not covered by federal healthcare programs, and whether the Company paid improper remuneration to physicians and other healthcare providers in violation of the Anti-Kickback Statute, 42 U.S.C. §1320a-7b. In response to the DOJ’s CID, the Company reviewed the facts and circumstances of the clinical study used to support its 510(k) marketing clearance and has now completed such review. Following this review, the Company believes there is (i) adequate evidence to support the safety and efficacy reported in the study submitted with the 510(k) application, and (ii) no observations that would have a major impact on the reported results of the study. The Company has been, and intends to continue, cooperating with the DOJ in its active and ongoing investigation. The Company is unable to predict the ultimate outcome and has accrued $0.5 million to at March 31, 2020 related to this contingency. It is reasonably possible that the estimated amount will change.

On November 21, 2019, the Company became aware that the Criminal Division, Fraud Section of the U.S. Department of Justice has an open investigation related to the Company. At this time, it is unclear if the Company is a target in this investigation. The Company has been, and intends to continue, cooperating with the DOJ in its active and ongoing investigation. The Company is unable to predict the ultimate outcome and is unable to make a meaningful estimate of the amount or range of loss, if any, that could result from any unfavorable outcome.

Other Litigation

On August 30, 2018, Strata Skin Sciences, Inc. (“Strata”) and Uri Geiger, a member of the board of directors of Strata Skin Sciences, Inc. (collectively “Strata”) filed an action against the Company in Court of Common Pleas of, Montgomery County, Pennsylvania (Civil Action No. 18-21421) (the “Pennsylvania Case”), requesting declaratory relief that: (1) Strata and Mr. Geiger are not liable for tortious interference, defamation, libel, or unfair competition based on an e-mail by Mr. Geiger to an investment bank (the “Geiger Email”); (2) Strata and Mr. Geiger made no actionable statements about the Company to such investment bank; (3) the Company cannot enforce the 2011 settlement and release agreement between the Company and PhotoMedex, Inc. (“Settlement Agreement”) against Strata; and (4) that any dispute regarding the Geiger Email does not relate to the Settlement Agreement. The action filed by Strata and Mr. Geiger does not request any monetary damages. The Company believes that the action by Strata and Mr. Geiger was filed as a response to a letter that the Company sent to Strata on August 22, 2018 demanding that Strata and Mr. Geiger cease and desist from making statements about alleged patent infringement and affirmatively retract the statements made in the Geiger Email. The Company was served with the action on August 31, 2018, and responded with preliminary objections to the action on September 19, 2018. The court overruled the Company’s preliminary arguments on April 29, 2019. The Company filed a motion for partial summary judgment on December 9, 2019 for the court to rule that Strata is bound by the Settlement Agreement. Strata filed a motion on February 4, 2020 asking the court to enforce a settlement agreement to which Strata believes the Company agreed, despite such agreement never having been signed. A hearing on the motion for partial summary judgment and the motion to enforce a settlement was scheduled for March 20, 2020 but has been delayed due to the COVID-19 outbreak and has not yet been rescheduled. The Company believes that Strata’s action in the Pennsylvania Case lacks merit, and plans to vigorously oppose the action on procedural and substantive grounds within the prescribed time limits. No loss is probable or reasonably possible as of March 31, 2020.

On May 16, 2019, the Company filed an action against Strata, Mr. Geiger and Accelmed Growth Partners, L.P. (collectively, the “Strata Parties”) in the United States District Court for the Southern District of California (Civil Action No. 19-cv-0920-AJB-MSB (the “California Case”)) alleging (1) breach of the Settlement Agreement, (2) intentional interference in contractual relations, (3) intentional interference in prospective economic relations, and (4) trade libel. In the California Case, the Company alleges, among other things, that the statements in the Geiger Email regarding alleged patent infringement constitute a breach of the Settlement Agreement, that the Strata Parties employed deceptive practices designed to delay the Company’s initial public offering and reduce the amount of capital raised by the Company, and that statements in the Geiger Email regarding patent infringement, off label promotion and reimbursement constitute trade libel. The Company seeks an injunction barring the Strata Parties from continuing the alleged conduct, monetary damages, and other available legal and equitable relief. The Company amended its complaint on July 25, 2019 to allege violations of the Lanham Act’s prohibition on false advertising. The Strata Parties filed motions to dismiss on August 25, 2019, and the Company responded with its oppositions to the motions to dismiss on September 27, 2019. On February 27, 2020, the Company filed a Motion to Supplement the Second Amended Complaint to include additional allegations of violations of the Lanham Act. The Company and the Strata Parties then filed a Joint Motion to File Supplemental Second Amended Complaint and Treat Pending Motions to Dismiss as if Directed. On March 6, 2020, the court denied the motion but indicated that the Company may file a new amended complaint with these additional allegations, rather than a Supplemental Second Amended Complaint. On March 13, 2020, the Company filed a Third Amended Complaint, and on March 27, 2020 Strata and Mr. Geiger filed a motion to dismiss the Third Amended Complaint, which Accelmed joined. On March 30, 2020, Accelmed filed a motion to dismiss the Third Amended Complaint. A hearing on the motion to dismiss is scheduled for May 28, 2020.

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On February 12, 2020, Dean Irwin, the Company’s former Chief Executive Officer, filed a Demand for Arbitration, alleging that the Company attempted to coerce him into signing a non-standard separation agreement and release of claims, contrary to the terms of his Severance Agreement. Mr. Irwin claims that he was willing to sign the Company’s standard separation agreement and release of claims. Based on this allegation, Mr. Irwin is claiming nonpayment of wages, penalties for nonpayment of wages, failure to provide wage statements, breach of contract, and breach of implied covenant of good faith and fair dealing. The Company believes that Mr. Irwin’s allegations lack merit, and plans to vigorously defend the action.

Note 12—Segment Information

The Company has organized its business into two operating segments based on the product specialties: the vascular segment and the dermatology segment.

In deciding how to allocate resources and assess performance, the Company’s chief operating decision maker regularly evaluates the sales and gross profit of these segments. Amounts included within selling, general and administrative expense and research and development expense are general to the Company and not specific to a particular segment; therefore, these amounts are not evaluated by the Company’s chief operating decision maker on a segmented basis.

The following tables summarize segment performance (in thousands):

Generally, all assets are common assets, except for lasers placed with customers, which are a subset of property and equipment. The net book value of the lasers in the vascular segment was $2.4 million and $2.6 million as of March 31, 2020 and December 31, 2019, respectively. The net book value of the lasers in the dermatology segment was $0.9 million as of March 31, 2020 and December 31, 2019.

No sales to an individual customer or country other than the United States accounted for more than 10% of revenue for the three months ended March 31, 2020 and 2019. Net revenue, classified by the major geographic areas in which our customers are located, was as follows (in thousands):

Note 13—Subsequent Event

In May 2020, the Company entered into a $2.0 million Paycheck Protection Program Promissory Note and Agreement (“Promissory Note”) with a commercial bank under the Corona Virus Aid Relief Economic Security Act. The Promissory Note bears interest at 1.0% per annum. Payments are due monthly beginning November 1, 2020. The principal amount of the Promissory Note along with any unpaid interest is due on May 3, 2022. The principal and interest may be forgiven if the proceeds are used for forgivable purposes as defined by the terms in the Promissory Note.

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Special Note Regarding Forward Looking Statements

This Quarterly Report on Form 10-Q contains forward-looking statements that are based on our management’s beliefs and assumptions and on information currently available. This section should be read in conjunction with our unaudited condensed financial statements and related notes included in Part I, Item 1 of this report. The statements contained in this Quarterly Report on Form 10-Q that are not historical facts are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended.

Forward-looking statements can be identified by words such as “believe,” “anticipate,” “may,” “might,” “can,” “could,” “continue,” “depends,” “expect,” “expand,” “forecast,” “intend,” “predict,” “plan,” “rely,” “should,” “will,” “may,” “seek,” or the negative of these terms or and other similar expressions, although not all forward-looking statements contain these words. You should read these statements carefully because they discuss future expectations, contain projections of future results of operations or financial condition, or state other “forward-looking” information. These statements relate to our future plans, objectives, expectations, intentions and financial performance and the assumptions that underlie these statements.

These forward-looking statements are subject to a number of risks, uncertainties, and assumptions, including, but not limited to, those described in “Risk Factors”. These forward-looking statements reflect our beliefs and views with respect to future events and are based on estimates and assumptions as of the date of this Quarterly Report on Form 10-Q and are subject to risks and uncertainties. We discuss many of these risks in greater detail in the section entitled “Risk Factors” included in Part II, Item 1A and elsewhere in this Quarterly Report on Form 10-Q. Given these uncertainties, you should not place undue reliance on these forward-looking statements. We qualify all of the forward-looking statements in this Quarterly Report on Form 10-Q by these cautionary statements. Except as required by law, we assume no obligation to update these forward-looking statements publicly, or to update the reasons actual results could differ materially from those anticipated in any forward-looking statements, whether as a result of new information, future events or otherwise.

This Quarterly Report on Form 10-Q also contains estimates, projections and other information concerning our industry, our business, and the markets for certain diseases, including data regarding the estimated size of those markets. Information that is based on estimates, forecasts, projections, market research or similar methodologies is inherently subject to uncertainties and actual events or circumstances may differ materially from events and circumstances reflected in this information. Unless otherwise expressly stated, we obtained this industry, business, market, and other data from reports, research surveys, studies, and similar data prepared by market research firms and other third parties, industry, medical and general publications, government data, and similar sources.

Overview

Ra Medical Systems, Inc. is a commercial-stage medical device company leveraging our advanced excimer laser-based platform for use in the treatment of vascular and dermatological immune-mediated inflammatory diseases. We believe our products enhance patients’ quality of life by restoring blood-flow in arteries and clearing chronic skin conditions. The DABRA laser and single-use catheter, together referred to as DABRA, is cleared by the U.S. Food and Drug Administration, or FDA, as a device for crossing chronic total occlusions, or CTOs, in patients with symptomatic infrainguinal lower extremity vascular disease and with an intended use for ablating a channel in occlusive peripheral vascular disease. DABRA is used as a tool in the treatment of peripheral artery disease, or PAD, a form of peripheral vascular disease, which commonly occurs in the legs. We currently are pursuing an atherectomy indication for use, which the FDA currently defines to include a prespecified improvement in luminal patency, or a prespecified increase in the openness of the artery at a pre-defined time point. To satisfy the FDA’s data requirements to support an atherectomy indication, we are performing a pivotal study designed to allow the FDA to evaluate the use of DABRA in atherectomy procedures. We received Investigational Device Exemption, or IDE, approval in January 2020 and enrolled the first patient in the study in February 2020. DABRA was also granted CE mark approval in Europe in September 2016 for the endovascular treatment of infrainguinal arteries via atherectomy and for crossing total occlusions.

Our vascular business strategy is focused on continuing to service our core U.S. accounts while we complete initiatives that are key to relaunching DABRA for crossing chronic total occlusions in patients with symptomatic infrainguinal lower extremity vascular disease to the broader market. Key components of our DABRA relaunch strategy include:

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We are also exploring the development of a larger diameter catheter to facilitate treatment of larger vessels more commonly seen in above-the-knee procedures.

Each of these initiatives will require FDA clearance. We currently expect to complete enrollment in the atherectomy indication clinical study in the first half of 2021. We also currently expect that our engineering efforts to develop a strategy for extending the shelf life of the catheter will be completed by the end of 2020. With that strategy in place, we expect to complete the engineering work and obtain FDA clearance for the braided overjacket and the rapid exchange platform during 2021. We intend to begin expanding our vascular sales force to prepare for a commercial relaunch as some or all of these initiatives are completed.   

Pharos is a medical device that we have marketed as a tool for the treatment of proliferative skin conditions since October 2004. Pharos is designed for use in the treatment of inflammatory skin conditions and is FDA cleared as a tool used in the treatment of psoriasis, vitiligo, atopic dermatitis, and leukoderma. Our dermatology business strategy is focused on continuing to service our existing accounts while we evaluate opportunities to grow revenue by expanding our sales footprint in the US as well as by adding international distribution partners.

The DABRA laser is based on the same core technology and utilizes a similar excimer laser as Pharos. Because of the shared technology platform and similar mechanisms of action, we benefit from economies of scale in product development, manufacturing, quality assurance and distribution.

Recent Developments

COVID-19

The global spread of the novel coronavirus (COVID-19) has created significant volatility, uncertainty and economic disruption. The ultimate effects of the COVID-19 on our business, operations and financial condition are unknown at this time. In the near term, we expect that our revenue will be adversely impacted and enrollment in our atherectomy clinical trial will be delayed or slowed, as patients elect to postpone voluntary treatments and physicians’ offices are either closed or operating at a reduced capacity. In addition, some customers are requesting more flexible payment terms on a temporary basis. We also may not be able to secure additional financing in a timely manner or on favorable terms, if at all. Our manufacturing facility located in Carlsbad, California is currently operational. Employee travel is limited to essential travel only and many employees are working from home when feasible. Due to our reduced commercial footprint and volume, we are not currently experiencing any shortages in supplies that would impact our ability to manufacture products sufficient to meet current demand and to support our atherectomy indication trial. However, the extent to which COVID-19 impacts our business will depend on future developments, which are highly uncertain and cannot be predicted, including new information which may emerge concerning the severity of COVID-19 and the actions to contain it or treat its impact, among others.

In May 2020, we entered into a $2.0 million Paycheck Protection Program Promissory Note and Agreement (“Promissory Note”) with a commercial bank under the Corona Virus Aid Relief Economic Security Act. The Promissory Note bears interest at 1.0% per annum. Payments are due monthly beginning November 1, 2020. The principal amount of the Promissory Note along with any unpaid interest is due on May 3, 2022. The principal and interest may be forgiven if the proceeds are used for forgivable purposes as defined by the terms in the Promissory Note.

Components of our Results of Operations

Net revenue

Product sales consist of the sale of DABRA and Pharos lasers, the sale of catheters for use with the DABRA laser and the sale of consumables and replacement parts.

Service and other revenue consists primarily of sales of extended warranties, which we recognize over the contract period and billable services, including repair activity, which is recognized when the service is provided. It also includes income from the rental of our lasers.

We currently use our commercial team to service the U.S. market, and we utilize distributors outside the U.S. in markets where we have received regulatory approval. We expect to continue to seek regulatory approvals for our products in additional strategic markets.

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Cost of revenue and gross profit (loss)

Cost of revenue for product sales consists primarily of costs of components for use in our products, the labor that are used to produce our products, and the manufacturing overhead that support production.

Cost of revenue for service and other includes the cost of maintaining and servicing the warranties on our products, including the depreciation on lasers we own.

We expect cost of revenue to increase to the extent our total revenue grows.

We calculate gross profit (loss) as revenue less cost of revenue. Our gross profit (loss) has been and will continue to be affected by a variety of factors, primarily production volumes, the cost of direct materials, discounting practices, manufacturing costs, product yields, headcount and cost-reduction strategies. We expect our gross loss to reduce and become gross profit over the long term as our production volume increases and certain costs remain fixed or increase at a slower rate. We intend to use our design, engineering and manufacturing capabilities to further advance and improve the efficiency of our manufacturing processes, which we believe will reduce costs. While we expect gross profit (loss) to improve over the long term as our production volume increases, it will likely fluctuate from quarter to quarter as we continue to introduce new products and adopt new manufacturing processes and technologies.

Research and development expenses