Ontrak(OTRK) - 2021 Q3 - Quarterly Report

PART I - FINANCIAL INFORMATION ITEM 1. Financial Statements This section presents Ontrak, Inc.'s unaudited condensed consolidated financial statements, including balance sheets, statements of operations, stockholders' equity, and cash flows, along with detailed notes explaining the company's organization, accounting policies, financial instruments, and significant transactions for the periods ended September 30, 2021, and December 31, 2020 Condensed Consolidated Balance Sheets Condensed Consolidated Balance Sheet Highlights (in thousands) | Metric | Sep 30, 2021 | Dec 31, 2020 | Change ($) | Change (%) | | :-------------------------------- | :----------- | :----------- | :--------- | :--------- | | Cash and cash equivalents | $75,303 | $86,907 | $(11,604) | -13.35% | | Total current assets | $98,661 | $123,638 | $(24,977) | -20.20% | | Total assets | $115,821 | $144,701 | $(28,880) | -19.96% | | Deferred revenue | $5,321 | $20,954 | $(15,633) | -74.61% | | Total current liabilities | $15,895 | $36,410 | $(20,515) | -56.34% | | Total liabilities | $63,522 | $83,950 | $(20,428) | -24.33% | | Total stockholders' equity | $52,299 | $60,751 | $(8,452) | -13.91% | Condensed Consolidated Statements of Operations Condensed Consolidated Statements of Operations Highlights (in thousands, except per share data) | Metric | 3 Months Ended Sep 30, 2021 | 3 Months Ended Sep 30, 2020 | Change ($) | Change (%) | 9 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2020 | Change ($) | Change (%) | | :--------------------------------- | :-------------------------- | :-------------------------- | :--------- | :--------- | :-------------------------- | :-------------------------- | :--------- | :--------- | | Revenue | $18,594 | $24,022 | $(5,428) | -22.60% | $73,801 | $53,586 | $20,215 | 37.72% | | Gross profit | $12,738 | $10,954 | $1,784 | 16.29% | $46,676 | $23,409 | $23,267 | 99.40% | | Operating loss | $(5,468) | $(3,008) | $(2,460) | 81.79% | $(9,999) | $(13,099) | $3,100 | -23.67% | | Net loss | $(7,883) | $(5,673) | $(2,210) | 38.96% | $(17,093) | $(19,481) | $2,388 | -12.26% | | Net loss per common share, basic and diluted | $(0.54) | $(0.36) | $(0.18) | 50.00% | $(1.31) | $(1.17) | $(0.14) | 11.97% | Condensed Consolidated Statements of Stockholders' Equity Changes in Stockholders' Equity (in thousands) | Item | 3 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2021 | | :-------------------------- | :-------------------------- | :-------------------------- | | Net loss | $(7,883) | $(17,093) | | Preferred dividends declared | $(2,274) | $(6,712) | | Stock-based compensation expense | $2,910 | $8,871 | | Warrants exercised | $0 | $58 | | Stock options exercised | $183 | $5,584 | | 401(k) employer match | $330 | $840 | | Balance at Sep 30, 2021 | $52,299 | $52,299 | Condensed Consolidated Statements of Cash Flows Condensed Consolidated Statements of Cash Flows Highlights (in thousands) | Cash Flow Activity | 9 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2020 | Change ($) | Change (%) | | :-------------------------------- | :-------------------------- | :-------------------------- | :--------- | :--------- | | Net cash used in operating activities | $(11,111) | $(6,084) | $(5,027) | 82.63% | | Net cash used in investing activities | $(3,865) | $(1,131) | $(2,734) | 241.73% | | Net cash (used in) provided by financing activities | $(3,467) | $60,594 | $(64,061) | -105.72% | | Net change in cash and restricted cash | $(18,443) | $53,379 | $(71,822) | -134.55% | | Cash and restricted cash at end of period | $84,767 | $67,397 | $17,370 | 25.77% | Notes to Condensed Consolidated Financial Statements Note 1. Organization Ontrak, Inc. is an AI-powered telehealth company focused on improving health outcomes and reducing costs for healthcare payors by engaging members with behavioral conditions - Ontrak, Inc. is an AI-powered and telehealth-enabled virtualized healthcare company, utilizing its PRE™ platform to predict, recommend, and engage individuals whose chronic diseases can improve with behavior change[16][17] Liquidity and Cash Burn (in millions) | Metric | As of Sep 30, 2021 | For 9 Months Ended Sep 30, 2021 | | :---------------------- | :----------------- | :------------------------------ | | Cash and restricted cash | $84.8 | N/A | | Working capital | $82.8 | N/A | | Average monthly cash burn rate | N/A | $1.2 | - Management plans to increase revenue and control expenses by adding new customers, expanding programs within existing health plans, increasing the effective outreach pool, and improving enrollment rates. The company will continue to invest in technology and headcount to support anticipated growth[20][22][23] Note 2. Restricted Cash Restricted cash totaled $9.464 million as of September 30, 2021, primarily allocated for preferred stock dividend payments, a letter of credit for the headquarters lease, and cash required per the 2024 Note agreement Restricted Cash Breakdown (in thousands) | Category | Sep 30, 2021 | Dec 31, 2020 | | :-------------------------------- | :----------- | :----------- | | Cash and cash equivalents | $75,303 | $86,907 | | Restricted cash - current | $8,954 | $9,127 | | Restricted cash - long term | $510 | $7,176 | | Total Cash, cash equivalents and restricted cash | $84,767 | $103,210 | - Restricted cash includes funds for dividend payments on preferred stock, a letter of credit for the headquarters office lease, and cash required per the 2024 Note agreement[33][34] Note 3. Accounts Receivable and Revenue Concentration Ontrak experienced significant customer concentration, with five customers accounting for 94% of revenue, and received termination notices from two major customers effective December 31, 2021 Revenue Concentration by Customer | Customer | 3 Months Ended Sep 30, 2021 | 3 Months Ended Sep 30, 2020 | 9 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2020 | | :--------- | :-------------------------- | :-------------------------- | :-------------------------- | :-------------------------- | | Customer A | 50.8% | 13.6% | 46.5% | 15.1% | | Customer B | 17.7% | 63.9% | 31.3% | 58.0% | | Customer C | 12.3% | 7.8% | 10.3% | 8.4% | | Customer D | 7.4% | 2.7% | 4.0% | 3.1% | | Customer E | 6.2% | 9.6% | 4.3% | 11.9% | | Remaining customers | 5.6% | 2.4% | 3.6% | 3.5% | | Total | 100.0% | 100.0% | 100.0% | 100.0% | - Customer B issued a termination notice on February 26, 2021, with program participation ending December 31, 2021. This led to a 35% workforce reduction, incurring $1.3 million in severance costs for the nine months ended September 30, 2021[38] - Customer A issued a termination notice on August 18, 2021, indicating intent not to continue the program past December 31, 2021[39] Note 4. Property and Equipment Net property and equipment increased to $5.474 million as of September 30, 2021, from $2.273 million at December 31, 2020, driven by significant capitalization of internal use software development costs Property and Equipment, Net (in thousands) | Category | Sep 30, 2021 | Dec 31, 2020 | | :-------------------------------- | :----------- | :----------- | | Software | $4,206 | $2,441 | | Software development in progress | $2,248 | $5 | | Property and equipment, net | $5,474 | $2,273 | - Capitalized internal use software costs were $4.0 million for the nine months ended September 30, 2021, compared to $0.9 million for the same period in 2020, reflecting increased investment in technology development[42][43] Note 5. Goodwill and Intangible Assets Goodwill remained stable at $5.713 million as of September 30, 2021, with intangible assets having a net carrying value of $2.651 million and amortization expense of $0.9 million for the nine months ended September 30, 2021 Goodwill and Intangible Assets (in thousands) | Asset Category | Sep 30, 2021 | Dec 31, 2020 | | :----------------------- | :----------- | :----------- | | Goodwill | $5,713 | $5,727 | | Acquired software technology (net) | $2,431 | $3,306 | | Customer relationships (net) | $220 | $255 | | Total Intangible Assets, net | $2,651 | $3,561 | - Amortization expense for intangible assets was $0.9 million for the nine months ended September 30, 2021, compared to zero for the same period in 2020, reflecting recent acquisitions[48] Note 6. Common Stock and Preferred Stock Net loss attributable to common stockholders increased to $(23.809) million for the nine months ended September 30, 2021, resulting in a basic and diluted net loss per common share of $(1.31) Net Loss Attributable to Common Stockholders and EPS (in thousands, except per share amounts) | Metric | 3 Months Ended Sep 30, 2021 | 3 Months Ended Sep 30, 2020 | 9 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2020 | | :--------------------------------------- | :-------------------------- | :-------------------------- | :-------------------------- | :-------------------------- | | Net loss attributable to common stockholders | $(10,122) | $(6,137) | $(23,809) | $(19,945) | | Net loss per common share, basic and diluted | $(0.54) | $(0.36) | $(1.31) | $(1.17) | | Weighted-average common shares outstanding | 18,915 | 17,280 | 18,236 | 16,990 | - The company completed offerings of 9.50% Series A Cumulative Perpetual Preferred Stock in 2020, raising aggregate gross proceeds of $93.8 million ($48.9M + $44.9M)[53] - Quarterly cash dividends of $0.593750 per share were declared and paid on Series A Preferred Stock, totaling $6.716 million for the nine months ended September 30, 2021. Undeclared dividends were $0.7 million as of September 30, 2021[56][57] Note 7. Stock-Based Compensation Stock-based compensation expense increased to $8.9 million for the nine months ended September 30, 2021, with 3,486,750 stock options and 141,500 restricted stock units (RSUs) outstanding Stock-Based Compensation Expense (in thousands) | Period | Stock-Based Compensation Expense | | :-------------------------- | :----------------------------- | | 3 Months Ended Sep 30, 2021 | $2,910 | | 3 Months Ended Sep 30, 2020 | $1,751 | | 9 Months Ended Sep 30, 2021 | $8,871 | | 9 Months Ended Sep 30, 2020 | $5,799 | Stock Option and RSU Activity | Metric | Stock Options Outstanding (Sep 30, 2021) | RSUs Non-vested (Sep 30, 2021) | | :-------------------------------- | :------------------------------------- | :----------------------------- | | Number of shares/units | 3,486,750 | 141,500 | | Weighted-average exercise/grant price | $16.77 | $34.24 | | Unrecognized compensation cost | $21.5 million | $4.3 million | | Weighted-average recognition period | 1.84 years | 3.96 years | - The company had 49,803 warrants outstanding as of September 30, 2021, with a weighted average exercise price of $13.51[64] Note 8. Leases Ontrak leases office space and computer equipment, with total lease assets of $2.172 million and total lease liabilities of $2.129 million as of September 30, 2021 Lease Assets and Liabilities (in thousands) | Category | Sep 30, 2021 | Dec 31, 2020 | | :-------------------------- | :----------- | :----------- | | Operating lease right-of-use assets | $1,692 | $1,959 | | Finance lease assets | $480 | $721 | | Total lease assets | $2,172 | $2,680 | | Current operating lease liabilities | $546 | $434 | | Current finance lease liabilities | $309 | $321 | | Long-term operating lease liabilities | $1,082 | $1,403 | | Long-term finance lease liabilities | $192 | $418 | | Total lease liabilities | $2,129 | $2,576 | Lease Expenses (in thousands) | Expense Type | 3 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2021 | | :-------------------------- | :-------------------------- | :-------------------------- | | Operating lease expense | $183 | $537 | | Short-term lease rent expense | $10 | $57 | | Variable lease expense | $13 | $31 | | Amortization of leased assets | $81 | $240 | | Interest on lease liabilities | $10 | $34 | Weighted-Average Lease Terms and Discount Rates | Lease Type | Remaining Lease Term (years) Sep 30, 2021 | Discount Rate Sep 30, 2021 | | :---------------- | :------------------------------------ | :------------------------- | | Operating leases | 2.7 | 10.39% | | Financing leases | 1.7 | 11.25% | Note 9. Debt Ontrak's 2024 Notes, with a principal amount of $50.001 million, bore an effective weighted average annual interest rate of 14.25% as of September 30, 2021, and the company was in compliance with all debt covenants - The 2024 Notes had a principal amount of $50.001 million as of September 30, 2021, with a net carrying amount of $46.353 million after debt discount[81] - The effective weighted average annual interest rate on the 2024 Notes was 14.25% at September 30, 2021[77] - The company was in compliance with all debt covenants as of September 30, 2021[78] - LifeDojo, Inc. received full forgiveness of its $0.2 million PPP loan in May 2021, recognized as a gain in 'Other expense, net'[83] Note 10. Fair Value Measurements Ontrak's fair value measurements primarily include a Level I letter of credit ($0.408 million) and a Level III contingent consideration liability ($1.790 million) as of September 30, 2021 Fair Value Measurements (in thousands) | Item | Level I | Level II | Level III | Total (Sep 30, 2021) | | :---------------------- | :------ | :------- | :-------- | :------------------- | | Letter of credit | $408 | $0 | $0 | $408 | | Contingent consideration | $0 | $0 | $1,790 | $1,790 | - The $1.8 million contingent consideration as of September 30, 2021, is related to a stock price guarantee from the LifeDojo, Inc. acquisition in October 2020, based on the common stock price falling below $60 during a specific measurement period[91] Note 11. Variable Interest Entities Ontrak consolidates two Variable Interest Entities (VIEs), TIH and CIH, as the primary beneficiary due to management services agreements granting significant control and economic exposure - Ontrak has determined that TIH and CIH are VIEs and consolidates them as the primary beneficiary, having the power to direct their activities and the right to receive benefits or absorb losses[94] - Under MSAs, Ontrak licenses proprietary treatment programs and provides comprehensive business management services to TIH and CIH, while clinical matters remain the sole responsibility of the VIEs' boards[95][97] VIE Assets and Liabilities (in thousands) | Category | Sep 30, 2021 | Dec 31, 2020 | | :-------------------- | :----------- | :----------- | | Total assets | $1,146 | $1,524 | | Total liabilities | $1,458 | $2,014 | Note 12. Commitments and Contingencies Ontrak is involved in a securities class action and two stockholder derivative complaints alleging false statements and breach of fiduciary duty, which the company intends to defend vigorously - A securities class action, Farhar v. Ontrak, Inc., alleges violations of the Securities Exchange Act of 1934 due to misrepresented data feed issues, undisclosed Corrective Action Plan (CAP) from Aetna, and inappropriate billing practices[104] - Two stockholder derivative complaints, Aptor v. Peizer and Anderson v. Peizer, allege breach of fiduciary duty, abuse of control, unjust enrichment, gross mismanagement, and waste of corporate assets against company officers and directors, mirroring allegations from the securities class action[105] - Defendants have filed a motion to dismiss the Consolidated Amended Complaint in the class action, with a hearing set for November 12, 2021. The company believes the allegations lack merit and plans a vigorous defense[104] ITEM 2. Management's Discussion and Analysis of Financial Condition and Results of Operations This section provides management's perspective on Ontrak's financial condition and operational results, highlighting the company's AI-powered telehealth model, recent customer terminations, and their impact on revenue and cash flow FORWARD-LOOKING STATEMENTS - The report contains forward-looking statements that are estimates reflecting management's best judgment, subject to risks, uncertainties, and assumptions detailed in the 'Risk Factors' section[108] - The company assumes no obligation to update these forward-looking statements, except as required by law[108] OVERVIEW - Ontrak utilizes proprietary big data predictive analytics, artificial intelligence, and telehealth, combined with human interaction, to identify, engage, and treat health plan members with unaddressed behavioral health conditions[110][111] - Customer A issued a termination notice on August 18, 2021, with the program not continuing past December 31, 2021, attributed to the customer's corporate strategic shift[112] - Customer B issued a termination notice on February 26, 2021, leading to a 35% workforce reduction and approximately $1.3 million in one-time termination benefits incurred for the nine months ended September 30, 2021[113][114] Metrics Key Business Metrics (in thousands, except percentages) | Metric | 3 Months Ended Sep 30, 2021 | 3 Months Ended Sep 30, 2020 | Change ($) | Change (%) | 9 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2020 | Change ($) | Change (%) | | :-------------------------- | :-------------------------- | :-------------------------- | :--------- | :--------- | :-------------------------- | :-------------------------- | :--------- | :--------- | | Revenue | $18,594 | $24,022 | $(5,428) | -23% | $73,801 | $53,586 | $20,215 | 38% | | Cash flow from operations | $(14,265) | $(2,534) | $(11,731) | -463% | $(11,111) | $(6,084) | $(5,027) | -83% | | Effective Outreach Pool (at Sep 30) | 14,165 | 143,664 | (129,499) | -90% | N/A | N/A | N/A | N/A | - The decrease in revenue for the three months ended September 30, 2021, was primarily due to the loss of a large customer and a decrease in total average enrolled members[116] - The 90% decrease in the effective outreach pool at September 30, 2021, was primarily due to the loss of two customers and budgetary constraints limiting enrollment with other customers[119] Key Components of Our Results of Operations - Revenue is primarily generated from fees charged to health plan customers, recognized over the enrollment period of the Ontrak program[120] - Cost of revenue includes salaries for care coaches and member engagement specialists, healthcare provider claims payments, and other direct costs[121] - Operating expenses comprise sales and marketing, research and development, and general and administrative expenses, including personnel costs, marketing initiatives, and technology development[122] - Interest expense primarily stems from note agreements, debt discount accretion, and finance leases, while other income (expense) includes gains/losses from fair value changes of contingent consideration and warrant liabilities[123] RESULTS OF OPERATIONS Revenue Total revenue decreased by 23% to $18.6 million for the three months and 38% to $73.8 million for the nine months ended September 30, 2021, driven by higher average enrolled members and increased revenue per member Revenue by Source (in thousands, except percentages) | Revenue Source | 3 Months Ended Sep 30, 2021 | 3 Months Ended Sep 30, 2020 | Change ($) | Change (%) | 9 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2020 | Change ($) | Change (%) | | :--------------- | :-------------------------- | :-------------------------- | :--------- | :--------- | :-------------------------- | :-------------------------- | :--------- | :--------- | | Commercial revenue | $7,093 | $15,332 | $(8,239) | -54% | $28,902 | $32,778 | $(3,876) | -12% | | Government revenue | $11,501 | $8,690 | $2,811 | 32% | $44,899 | $20,808 | $24,091 | 116% | | Total revenue | $18,594 | $24,022 | $(5,428) | -23% | $73,801 | $53,586 | $20,215 | 38% | - The increase in government revenue mix (to 62% and 61% for 3M and 9M ended Sep 30, 2021, respectively) was due to expansion with health plan customers having Medicare and Medicaid members[127] - Revenue in Q4 2021 is expected to decline year-over-year due to lost customers and budgetary constraints affecting enrollment and pricing[128] Cost of Revenue, Gross Profit and Gross Profit Margin Cost of revenue decreased by 55% for the three months and 10% for the nine months ended September 30, 2021, leading to significant increases in gross profit and gross profit margin due to headcount efficiencies and cost optimization Cost of Revenue, Gross Profit, and Margin (in thousands, except percentages) | Metric | 3 Months Ended Sep 30, 2021 | 3 Months Ended Sep 30, 2020 | Change ($) | Change (%) | 9 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2020 | Change ($) | Change (%) | | :---------------- | :-------------------------- | :-------------------------- | :--------- | :--------- | :-------------------------- | :-------------------------- | :--------- | :--------- | | Cost of revenue | $5,856 | $13,068 | $(7,212) | -55% | $27,125 | $30,177 | $(3,052) | -10% | | Gross profit | $12,738 | $10,954 | $1,784 | 16% | $46,676 | $23,409 | $23,267 | 99% | | Gross profit margin | 69% | 46% | 23% | N/A | 63% | 44% | 19% | N/A | - The increase in gross profit and gross profit margin was primarily due to increased revenue on a per member enrolled basis, coupled with headcount efficiencies and cost optimization initiatives[129][130] - Cost of revenue is expected to decline year-over-year for the remainder of 2021[131] Operating Expenses Total operating expenses increased by 30% to $18.2 million for the three months and 55% to $56.7 million for the nine months ended September 30, 2021, driven by investments in R&D, sales, marketing, and G&A functions Operating Expenses (in thousands, except percentages) | Expense Category | 3 Months Ended Sep 30, 2021 | 3 Months Ended Sep 30, 2020 | Change ($) | Change (%) | 9 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2020 | Change ($) | Change (%) | | :------------------------ | :-------------------------- | :-------------------------- | :--------- | :--------- | :-------------------------- | :-------------------------- | :--------- | :--------- | | Research and development | $4,563 | $3,697 | $866 | 23% | $13,531 | $8,015 | $5,516 | 69% | | Sales and marketing | $2,269 | $1,165 | $1,104 | 95% | $7,839 | $3,102 | $4,737 | 153% | | General and administrative | $11,374 | $9,100 | $2,274 | 25% | $35,305 | $25,391 | $9,914 | 39% | | Total operating expenses | $18,206 | $13,962 | $4,244 | 30% | $56,675 | $36,508 | $20,167 | 55% | - Increases in operating expenses were primarily due to higher employee-related costs, professional services, marketing initiatives, and insurance costs, reflecting continued investment in business growth[133][134] - Operating expenses are expected to increase in the foreseeable future but decrease as a percentage of revenue over time[134] Other Expense, net Other expense, net, decreased for both the three and nine months ended September 30, 2021, primarily due to a smaller loss on contingent liability fair value and a $0.2 million gain from the LifeDojo PPP loan forgiveness Other Expense, Net (in thousands, except percentages) | Metric | 3 Months Ended Sep 30, 2021 | 3 Months Ended Sep 30, 2020 | Change ($) | Change (%) | 9 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2020 | Change ($) | Change (%) | | :--------------- | :-------------------------- | :-------------------------- | :--------- | :--------- | :-------------------------- | :-------------------------- | :--------- | :--------- | | Other expense, net | $(361) | $(847) | $486 | 57% | $(1,004) | $(1,226) | $222 | 18% | - The decrease in other expense, net for the nine months ended September 30, 2021, was primarily due to a $0.2 million gain on the forgiveness of the LifeDojo PPP loan, partially offset by a $1.3 million loss on the change in fair value of contingent liability[136] Interest Expense, net Interest expense, net, increased by 13% for the three months and 18% for the nine months ended September 30, 2021, primarily due to a higher average total outstanding loan balance Interest Expense, Net (in thousands, except percentages) | Metric | 3 Months Ended Sep 30, 2021 | 3 Months Ended Sep 30, 2020 | Change ($) | Change (%) | 9 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2020 | Change ($) | Change (%) | | :------------------ | :-------------------------- | :-------------------------- | :--------- | :--------- | :-------------------------- | :-------------------------- | :--------- | :--------- | | Interest expense, net | $(2,054) | $(1,818) | $(236) | -13% | $(6,090) | $(5,156) | $(934) | -18% | - The increase in interest expense was primarily due to a higher average total outstanding loan balance during the periods[137] LIQUIDITY AND CAPITAL RESOURCES - As of September 30, 2021, cash and restricted cash totaled $84.8 million, with working capital of $82.8 million[138] - The company expects current cash resources to cover expenses for at least the next twelve months, but delays in cash collections, revenue, or unforeseen expenditures could impact this estimate[138] - Management plans to increase member enrollment, add new customers, and improve operational efficiencies to generate positive cash flow, considering debt or equity financing for additional growth opportunities or extended losses[140][141] Cash Flows Summary of Cash Flows (in thousands) | Cash Flow Activity | 9 Months Ended Sep 30, 2021 | 9 Months Ended Sep 30, 2020 | | :-------------------------------- | :-------------------------- | :-------------------------- | | Net cash used in operating activities | $(11,111) | $(6,084) | | Net cash used in investing activities | $(3,865) | $(1,131) | | Net cash (used in) provided by financing activities | $(3,467) | $60,594 | | Net (decrease) increase in cash and restricted cash | $(18,443) | $53,379 | - The $5.0 million increase in net cash used in operating activities was due to increased revenue from deferred revenue recognition and higher cash interest payments, partially offset by an increase in members with upfront case rate billing terms[142] - Net cash used in financing activities shifted from a $60.6 million inflow in 2020 to a $3.5 million outflow in 2021, primarily due to $6.7 million in preferred stock dividend payments and $2.2 million in financed insurance premium payments, partially offset by $5.6 million from stock option exercises[145] Debt - Refer to Note 9 of the Notes to Condensed Consolidated Financial Statements for a detailed discussion about the company's debt[147] Preferred Stock Dividend - Holders of 9.50% Series A Cumulative Perpetual Preferred Stock are entitled to cumulative cash dividends of $2.375 per annum per share, payable quarterly[148] - The Board of Directors declared and paid three quarterly dividends of $0.593750 per share in 2021, totaling $2.2 million each, with $0.7 million in undeclared dividends as of September 30, 2021[149] CONTRACTUAL OBLIGATIONS AND OTHER COMMITMENTS - There were no material changes in contractual obligations and commitments outside the ordinary course of business during the nine months ended September 30, 2021, compared to the 2020 Annual Report on Form 10-K[150] OFF BALANCE SHEET ARRANGEMENTS - The company did not have any relationships with unconsolidated entities or financial partnerships for off-balance sheet arrangements during the periods presented[151] CRITICAL ACCOUNTING POLICIES AND ESTIMATES - There have been no material changes to the company's critical accounting policies and estimates since the 2020 Form 10-K[153] ITEM 3. Quantitative and Qualitative Disclosures About Market Risk This section states that there are no quantitative and qualitative disclosures about market risk applicable to the company for the reported period - This section is not applicable[154] ITEM 4. Controls and Procedures Ontrak's management, including the CEO and CFO, concluded that the company's disclosure controls and procedures were effective as of September 30, 2021, with no material changes in internal control over financial reporting during the three months ended September 30, 2021 Evaluation of Disclosure Controls and Procedures - The principal executive officer and principal financial officer concluded that Ontrak's disclosure controls and procedures were effective as of September 30, 2021[155] Changes in Internal Control over Financial Reporting - There were no changes in internal controls over financial reporting during the three months ended September 30, 2021, that materially affected or are reasonably likely to materially affect them[156] PART II - OTHER INFORMATION ITEM 1. Legal Proceedings Ontrak is currently involved in a securities class action lawsuit and two stockholder derivative complaints, both alleging misrepresentations and breaches of fiduciary duty related to customer data and billing practices Loss Contingency - A consolidated securities class action (Farhar v. Ontrak, Inc.) alleges violations of federal securities laws, claiming the company made false and misleading statements regarding inappropriate billing of its largest customer, Aetna, and undisclosed data feed issues and a Corrective Action Plan[159] - Two stockholder derivative complaints (Aptor v. Peizer and Anderson v. Peizer) allege breach of fiduciary duty, abuse of control, and gross mismanagement against company executives and directors, based on similar allegations as the securities class action[161] - Defendants have filed a motion to dismiss the Consolidated Amended Complaint in the class action, with a hearing scheduled for November 12, 2021. The company believes the allegations are without merit and intends to defend vigorously[160] ITEM 1A. Risk Factors This section outlines significant risks that could materially and adversely affect Ontrak's operations and financial condition, including those related to its limited operating history, dependence on key customers, and need for additional funding Summary of Risk Factors - Key risks include a limited operating history with significant losses, potential inability to obtain additional funding, challenges in managing growth and integrating acquisitions, and the possibility that programs may not achieve broad market acceptance or expected efficacy[167] - The company faces substantial risks from its dependence on a few large customers, the restrictive covenants of its senior secured indebtedness, and the need to attract and retain highly skilled personnel[167] - Additional risks involve intellectual property protection, compliance with complex healthcare regulations (licensure, privacy, anti-kickback, false claims), and the specific characteristics of its Series A Preferred Stock and common stock, including limited voting rights and price volatility[167] Risks related to our business - Ontrak has a limited operating history, has incurred significant losses since inception, and expects continued operating losses and negative cash flow for at least the next twelve months, with an accumulated deficit of $371.1 million as of September 30, 2021[167] - The business is highly dependent on a few large customers, with five customers accounting for 94% of total revenue for the three months ended September 30, 2021. Termination notices from Customer A and Customer B, effective December 31, 2021, will materially adversely affect the company[185][186] - The company may need additional funding beyond its current capital to support growth or cover extended losses, with no assurance that such financing will be available on acceptable terms[169][170][172] - The efficacy of Ontrak's programs is based on limited experience, and failure to demonstrate expected clinical and financial outcomes or achieve widespread market acceptance could limit revenue growth[178][179] Risks related to our intellectual property - Confidentiality agreements may not adequately prevent disclosure of trade secrets, and costly litigation may be necessary to enforce proprietary rights[205] - The company may face claims of infringing intellectual property rights of others, which could lead to injunctions, significant damages, and harm to its business and operations[206] Risks related to our healthcare industry - Uncertainty from healthcare legislative and regulatory reforms, including the Health Care Reform Law, could materially adversely affect the business[208] - The company is subject to extensive federal and state healthcare laws and regulations, including anti-kickback, physician self-referral (Stark Law), and false claims laws, with potential for severe civil and criminal penalties for non-compliance[210][214][215][217][218] - Use and disclosure of patient information is subject to privacy and security regulations (HIPAA, HITECH, CCPA, CPRA, GDPR), with non-compliance potentially leading to increased costs, penalties, and reputational damage[225][226][227][228][229][230][231] - Security breaches, data loss, or system disruptions could compromise sensitive information, leading to legal claims, regulatory penalties, operational interruptions, and damage to reputation[232][233][234] Risks related to our Note Agreement - The Note Agreement for the $45.0 million senior secured 2024 Notes contains restrictive covenants that limit operational flexibility, including incurring debt, selling assets, paying dividends, and maintaining specific financial ratios[237][238][239][241] - Failure to comply with covenants could result in acceleration of repayment obligations, potentially leading to insolvency or bankruptcy if sufficient funds are unavailable for payment or refinancing[242][243] - The 2024 Notes bear a floating interest rate, meaning increases in prevailing interest rates would adversely affect cash flow and the ability to service indebtedness[244][245] Risks related to our preferred stock - The Series A Preferred Stock ranks junior to all of Ontrak's indebtedness and other liabilities, meaning assets would first pay creditors in bankruptcy or liquidation[247] - Payment of dividends on Series A Preferred Stock is restricted by the Note Agreement and dependent on sufficient cash flow and available 'surplus' under Delaware law, with no assurance of continued payments once pre-funded amounts are exhausted[249][250][251] - The Series A Preferred Stock is subject to transferability and conversion limitations under the Protective Amendment, designed to protect the company's net operating losses (NOLs)[253] - The market for Series A Preferred Stock may lack adequate liquidity, and its value could be adversely affected by market interest rates, future issuances of preferred stock, and limited voting rights[254][255][256][264] Risks related to our common stock - Failure to maintain effective internal controls could adversely affect operating results and investor confidence[266] - The Executive Chairman beneficially owns approximately 48% of outstanding common stock, giving him significant influence over director elections and other stockholder matters, which may not always align with other stockholders' interests[267] - The common stock price may be highly volatile due to various factors, including operating results, customer contracts, regulatory actions, and market conditions, potentially leading to substantial declines[268][269] - Future sales of common stock by existing stockholders, or the perception thereof, and future issuances of equity securities (including from options and warrants) could depress the stock price and dilute existing stockholders' interests[270][271][272][276] - The company does not expect to pay cash dividends on its common stock in the foreseeable future, intending to retain earnings for business development and growth[275] ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds Ontrak, Inc. reported no unregistered sales or issuances of equity securities during the period covered by this report that have not been previously disclosed - No unregistered securities were sold or issued by Ontrak during the period covered by this report that have not been previously included in a Current Report on Form 8-K[277] ITEM 3. Defaults Upon Senior Securities Ontrak, Inc. reported no defaults upon senior securities during the period - There were no defaults upon senior securities[278] ITEM 4. Mine Safety Disclosures This section states that mine safety disclosures are not applicable to Ontrak, Inc - Mine safety disclosures are not applicable[279] ITEM 5. Other Information Ontrak, Inc. reported no other information required to be disclosed in this section - No other information to report[280] ITEM 6. Exhibits This section lists all exhibits filed as part of the Form 10-Q, including employment agreements, certifications by executive officers, and XBRL-related documents - Exhibits include employment agreements for Mary Louise Osborne, Arik Hill, and Dr. Robert Accordino, dated August and September 2021[281] - Certifications by the Chief Executive Officer and Chief Financial Officer (pursuant to Rule 13a-14(a) and 18 U.S.C. Section 1350) are filed/furnished with the report[281] - XBRL Instance Document and Taxonomy Extension Documents (Schema, Calculation, Definition, Label, Presentation) are filed, along with the Cover Page Interactive Data File[281] Signatures The report is duly signed on November 5, 2021, by Jonathan Mayhew (Chief Executive Officer), Brandon H. LaVerne (Chief Financial Officer), and James J. Park (Chief Accounting Officer) on behalf of Ontrak, Inc - The report was signed by Jonathan Mayhew (Chief Executive Officer), Brandon H. LaVerne (Chief Financial Officer), and James J. Park (Chief Accounting Officer) on November 5, 2021[286]