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Summary of Significant Accounting Policies (Policies)

9 Months Ended

Sep. 30, 2019

The accompanying condensed consolidated financial statements have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and reflect the accounts of the Company as of September 30, 2019 and for the three and nine months ended September 30, 2019 and 2018. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America (“US GAAP”) for complete financial statements. The accompanying condensed consolidated financial statements reflect all adjustments consisting of normal recurring adjustments which, in the opinion of management, are necessary for a fair statement of the Company’s financial position and the results of its operations and cash flows, as of and for the periods presented. The accompanying condensed consolidated balance sheets at December 31, 2018 have been derived from the audited consolidated financial statements at that date but do not include all of the information and disclosures required by US GAAP for annual financial statements. The results of operations for the interim periods are not necessarily indicative of the results to be expected for the full year. These condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements and notes thereto for the year ended December 31, 2018, included in the Company’s Annual Report on Form 10-K filed with the SEC on March 7, 2019.

Reclassifications

Certain prior year amounts have been reclassified for consistency with the current period presentation. These reclassifications had no effect on the reported results of operations.

Liquidity

In September 2019, the Company successfully completed an underwritten public offering of 29,298,537 shares of its common stock, including 3,821,548 shares sold pursuant to the full exercise of the underwriter’s option to purchase additional shares, at a price of $0.65 per share (see Note 13). The aggregate net proceeds from the offering were approximately $17.6 million, after deducting underwriting discounts and commissions and offering expenses. In addition, the Company sold, in a concurrent private placement transaction an aggregate of 5,411,687 pre-funded warrants, exercisable for up to an aggregate of 5,411,687 shares of common stock, for aggregate net proceeds of approximately $3.1 million, after deducting the placement agent fee and offering expenses.

The Company believes that its existing resources will be sufficient to fund its planned operations and expenditures for at least the next 12 months from the issuance of these condensed consolidated financial statements. However, the Company will need to raise additional capital to fund its operations and service its near and long-term debt obligations until its revenue reaches a level sufficient to provide for self-sustaining cash flows. There can be no assurance that additional capital will be available on acceptable terms, or at all, or that the Company’s revenue will reach a level sufficient to provide for self-sustaining cash flows. If sufficient additional capital is not available as and when needed, the Company may have to delay, scale back or discontinue one or more product development programs, curtail its commercialization activities, significantly reduce expenses, sell assets (potentially at a discount to their fair value or carrying value), enter into relationships with third parties to develop or commercialize products or technologies that the Company otherwise would have sought to develop or commercialize independently, cease operations altogether, pursue a sale of the Company at a price that may result in up to a total loss on investment for its stockholders, file for bankruptcy or seek other protection from creditors, or liquidate all assets. In addition, if the Company defaults under its term loan agreement, its lenders could foreclose on its assets, including substantially all of its cash and cash equivalents which are held in accounts with its lenders.

Principles of Consolidation

The Company formed a French subsidiary, HTG Molecular Diagnostics France SARL (“HTG France”), in November 2018. The accompanying condensed consolidated financial statements include the accounts of the Company and this wholly owned subsidiary after elimination of all intercompany transactions.

Concentration Risks

Financial instruments that potentially subject the Company to credit risk consist principally of cash and cash equivalents, restricted cash, available-for-sale debt securities and uncollateralized accounts receivable. The Company maintains the majority of its cash and restricted cash balances in the form of cash deposits in bank checking and money market accounts in amounts in excess of federally insured limits. Management believes, based upon the quality of the financial institution, that the credit risk with regard to these deposits is not significant.

The Company sells its instrument, related consumables, sample processing services, custom RUO assay design and collaborative development services primarily to biopharmaceutical companies, academic institutions and molecular labs. The Company routinely assesses the financial strength of its customers and credit losses have been minimal to date.

The Company’s top two customers accounted for 39% and 20% of the Company’s total revenue for the three months ended September 30, 2019, compared with the Company’s top two customers accounting for 72% and 10% of the Company’s total revenue for the three months ended September 30, 2018. The top three customers accounted for 23%, 22% and 21% of the Company’s total revenue for the nine months ended September 30, 2019 compared to the Company’s top two customers which accounted for 63% and 10% for the nine months ended September 30, 2018.

The Company’s top two customers accounted for approximately 43% and 30% of the Company’s accounts receivable as of September 30, 2019. The Company’s top four customers accounted for approximately 44%, 27% and two customers accounting for 11% each as of December 31, 2018.

The Company currently relies on a single supplier to supply a subcomponent used in the HTG EdgeSeq processors. A loss of this supplier could significantly delay the delivery of processors, which in turn could materially affect the Company’s ability to generate revenue.

Use of Estimates

The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. The Company’s significant estimates include revenue recognition, stock-based compensation expense, bonus accrual, income tax valuation allowances and reserves, recovery of long‑lived assets, inventory obsolescence and inventory valuation. Actual results could materially differ from those estimates.

Significant Accounting Policies

There have been no material changes in the Company’s significant accounting policies from those previously disclosed in the Company’s Annual Report on Form 10-K, filed with the SEC on March 7, 2019, other than the adoption of the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Codification (“ASC”) Topic 842, Leases (“ASC 842”) and its related amendments as of January 1, 2019.

Restricted Cash

The following table provides a reconciliation of cash, cash equivalents and restricted cash that sum to the ending total of the same such amounts shown in the accompanying condensed consolidated statements of cash flows.

	September 30,
	2019		2018
Cash and cash equivalents	$	34,847,086	$	6,164,005
Restricted cash - non-current		3,270,247		3,270,247
Total cash, cash equivalents and restricted cash shown in the condensed consolidated statements of cash flows	$	38,117,333	$	9,434,252

Amounts included in restricted cash represent those required to be set aside in escrow under the terms of the MidCap Term Loan to collateralize the payment that will be due upon maturity of the QNAH Convertible Note (see Note 8). The amounts will be released to the Company upon subsequent delivery of subordination documents for the QNAH Convertible Note to MidCap or conversion of the QNAH Convertible Note into the Company’s common stock. If neither occurs, the amount will be applied by the escrow agent to repay in full the QNAH Convertible Note at maturity (or in connection with a prepayment at the direction of the Company) subject to the terms of the MidCap Term Loan.

Fair Value of Financial Instruments

The carrying value of financial instruments classified as current assets and current liabilities approximate fair value due to their liquidity and short-term nature. Investments that are classified as available-for-sale are recorded at fair value, which was determined using quoted market prices, broker or dealer quotations or alternative pricing sources with reasonable levels of price transparency. The carrying value of the MidCap Term Loan is estimated to approximate its fair value as the interest rate approximates the market rate for debt with similar terms and risk characteristics.

In October 2017, the Company received $3.0 million in gross proceeds from and issued the QNAH Convertible Note in that principal amount to, QNAH. As of September 30, 2019, the estimated aggregate fair value of the QNAH Convertible Note is approximately $2.9 million, based on a discounted cash flow approach and utilizing an option pricing model to value the conversion feature, with key assumptions including expected volatility, discount rates, term and risk-free rates.

The NuvoGen obligation is an obligation relating to an asset purchase transaction with a then-common stockholder of the Company. As of September 30, 2019, the estimated aggregate fair value of the NuvoGen obligation is approximately $5.5 million, determined using a Monte Carlo simulation with key assumptions including future revenue, volatility, discount and risk-free rates.

The estimated fair values of the QNAH Convertible Note and the NuvoGen obligation represent Level 3 measurements.

Leases

Effective January 1, 2019, the Company accounts for its leases under ASC 842. Under this guidance, arrangements meeting the definition of a lease are classified as operating or financing leases and are recorded on the consolidated balance sheet as both a right-of-use asset and lease liability, calculated by discounting fixed lease payments over the lease term at the rate implicit in the lease or the Company’s incremental borrowing rate. Lease liabilities are increased by interest and reduced by payments each period, and the right-of-use asset is amortized over the lease term. For operating leases, interest on the lease liability and the amortization of the right-of-use asset result in straight-line rent expense over the lease term. For financing leases, interest on the lease liability and the amortization of the right-of-use asset results in front-loaded expense over the lease term. Variable lease expenses are recorded to rent expense as incurred.

Certain leasehold improvements constructed by the landlord of the Company’s Tucson, AZ facilities as an incentive for the Company to extend its leases are included in leasehold improvements in the consolidated balance sheets as of December 31, 2018. The total cost of the improvements constructed by the landlord of $710,000 was capitalized when construction was completed in February 2016 and is being amortized over the remaining term of the lease agreement. The incentive of $710,000 has been recognized as an offset to operating lease right-of-use asset in the accompanying condensed consolidated balance sheets as of January 1, 2019 as a result of the implementation of ASC 842 and was recognized as deferred rent within other current liabilities and other liabilities on the consolidated balance sheets as of December 31, 2018, in accordance with ASC Topic 840, Leases (“ASC 840”) prior to the Company’s adoption of ASC 842 on January 1, 2019.

In calculating the right-of-use asset and lease liability, the Company elects to combine lease and non-lease components for all classes of assets currently under lease, including facilities and computer equipment. The Company excludes short-term leases having initial terms of 12 months or less from the new guidance as an accounting policy election and recognizes rent expense on a straight-line basis over the lease term for these leases.

The comparative information in these condensed consolidated financial statements has not been restated and continues to be reported under ASC Topic 840, Leases.

Recently Adopted and New Accounting Pronouncements

Recently Adopted Accounting Pronouncements

In February 2016, the FASB issued Accounting Standards Update (“ASU”) No. 2016-02, Leases, which was subsequently amended by ASU No. 2018-01, ASU No. 2018-10 and ASU No. 2018-11, collectively ASC 842. Under this standard, which applies to both lessors and lessees, lessees will be required to recognize all leases (except for short-term leases) as a lease liability, which is a lessee’s obligation to make lease payments arising from a lease measured on a discounted basis, and as a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. Leases will be classified as either financing or operating, with classification affecting the pattern of expense recognition in the statements of operations. The Company adopted ASC 842 on January 1, 2019 using the additional (optional) approach, with certain available practical expedients. The adoption of ASC 842 resulted in the recording of a right-of-use asset of $694,352 and a lease liability of $1,033,107, and there was no effect on opening retained earnings. The difference between the operating lease asset and the operating lease liability primarily represents our straight-line rent liability of $0.3 million recorded under previous accounting guidance. Under ASC 842, this liability is considered a reduction of the operating lease asset. The Company continues to account for leases in the prior period consolidated financial statements under ASC 840. The Company has presented additional qualitative and quantitative disclosures regarding the Company’s lease obligations as required upon implementation of ASC 842 and has identified and implemented changes to its business processes and internal controls relating to implementation of the new standard. In adopting the new standard, the Company elected to apply the practical expedients regarding the identification of leases, lease classification, indirect costs, and the combination of lease and non-lease components.

In June 2018, the FASB issued ASU No. 2018-07, Compensation – Stock Compensation (Topic 718): Improvements to Nonemployee Share-based Payment Accounting. The standard expanded the scope of Topic 718 to include share-based payments issued to nonemployees for goods or services, simplifying the accounting for share-based payments to nonemployees by aligning it with the accounting for share-based payments to employees, with certain exceptions and was effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years with early adoption permitted, including adoption in an interim period. The Company’s adoption of this standard on January 1, 2019 did not have a material impact on its consolidated financial statements given the limited number of nonemployee stock-based awards outstanding.

In July 2017, the FASB issued ASU 2017-11, Accounting for Certain Financial Instruments with Down Round Features. This new standard makes limited changes to previous guidance on classifying certain financial instruments as either liabilities or equity. The new standard was effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years with early adoption permitted, including adoption in an interim period. Adoption of this standard as of January 1, 2019 did not have an effect on the Company’s consolidated financial statements as the Company’s existing financial instruments did not have down round features.

New Accounting Pronouncements

The following are new FASB ASUs that have not been adopted by the Company as of September 30, 2019:

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses, which was subsequently amended by ASU 2018-19, which requires the measurement of expected credit losses for financial instruments carried at amortized cost held at the reporting date based on historical experience, current conditions and reasonable forecasts. The updated guidance also amends the current other-than-temporary impairment model for available-for-sale debt securities by requiring the recognition of impairments relating to credit losses through an allowance account and limits the amount of credit loss to the difference between a security’s amortized cost basis and its fair value. In addition, the length of time a security has been in an unrealized loss position will no longer impact the determination of whether a credit loss exists. 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. The standard is effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2019. Early adoption is permitted. The Company does not believe the adoption of this standard will have a material impact on its consolidated financial statements, given the high credit quality of the obligors to its available-for-sale debt securities and its limited history of bad debt expense relating to trade accounts receivable.

In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement – Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement, which makes a number of changes meant to add, modify or remove certain disclosure requirements associated with the movement against or hierarchy associated with Level 1, Level 2 and Level 3 fair value measurements. The standard is effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2019. Early adoption is permitted upon issuance of the update. The Company does not expect the adoption of this guidance to have a material impact on its consolidated financial statements.

In November 2018, the FASB issued ASU No. 2018-18, which amended ASC 808, Collaborative Arrangements and ASC 606, Revenue from Contracts with Customers (“ASU 2018-18”), to require that transactions in collaborative arrangements be accounted for under ASC 606 if the counterparty is a customer for a good or service (or bundle of goods and services) that is a distinct unit of account. The amendments also preclude entities from presenting consideration from transactions with a collaborator that is not a customer together with revenue recognized from contracts with customers. The standard is effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2019. Early adoption is permitted, including in any interim period, provided an entity has already adopted ASC 606 or does so concurrently with the adoption of this guidance. The Company is currently evaluating the impact of its pending adoption of ASU 2018-18 on its consolidated financial statements.