Zacks Small Cap Research – MDAI: Second Quarter Results – Technologist

By John Vandermosten, CFA

NASDAQ:MDAI

READ THE FULL MDAI RESEARCH REPORT

Spectral AI, Inc. (NASDAQ:MDAI) reported second quarter results on August 12th, 2024. Revenues totaled $7.5 million and the burn trial is now 85% enrolled. The company recently signed a collaboration agreement with Australia’s PolyNovo which may extend the use of DeepView down under. Management outlined the pathway forward expected for commercialization in the United Kingdom and for obtaining approval in the United States along with a summary of the role that DeepView can play for burn triage in both fixed and mobile settings.

Second Quarter Financial and Operational Results

Spectral reported second quarter 2024 results in a press release and Form 10-Q filing with the SEC on August 12th. A conference call was held to discuss results with investors following the release. For the quarter ending June 30, 2024 revenues of $7.5 million were recognized. Net loss for 2Q:24 totaled ($2.9) million or ($0.16) per share. For the second quarter of 2024 versus the same prior year period:

➢ Revenues were $7.5 million up 76% from $4.3 million due to an increase in activity-related BARDA and other US government grant revenues;

➢ Cost of revenue, which can be thought of as research and development expense, totaled $4.2 million, rising 69% from $2.5 million. Gross margin improved to 44.3% from 42.1% due to a higher reimbursement rate in the new BARDA contract;

➢ General & Administrative expenses were $5.8 million, up 20% from $4.8 million on higher compensation expense;

➢ Net interest expense was ($6,000) compared to $42,000;

➢ Other expense was ($359,000) vs. ($81,000) with the change due to greater borrowing related costs and change in fair value of notes payable offset by income from a change in fair value of the warrant liability and other income;

➢ Income tax was benefit was ($69,000) vs. $40,000;

➢ Net loss was ($2.8) million vs. ($3.1) million or ($0.16) and ($0.25) per share, respectively.

As of June 30, 2024, cash totaled $6.9 million. This amount compares to the $4.8 million cash balance held at the end of 2023. Several financing transactions took place in the first half including contributions from issuance of common stock and notes offset by repayment of other notes. Notes payable are carried on the balance sheet at $8.0 million. After the end of the quarter, Spectral received $2.3 million in convertible notes funding.

Burn Trial Progress

On January 11th, 2024, Spectral announced that it began enrollment of its pivotal study to validate DeepView for burn injuries. This study intends to enroll 160 patients in burn centers and 160 patients in emergency departments throughout the US. 25% of the total will be pediatric patients. The study was filed under clinicaltrials.gov under the designator NCT06131203 and is titled Burn Pivotal Study. Its purpose is to validate the algorithm for burn healing assessment for the DeepView device, which will provide burn healing assessment. 16 sites are enrolling patients.

The study is evaluating flame, scald or contact burns that have occurred 72 hours prior to first imaging. The minimum size for consideration is 0.5% of the total surface body area. On the upper end, subjects with burns over 50% of their body area will not be considered. The primary endpoint is to demonstrate that the DeepView AI device’s sensitivity is superior to burn center health care provider assessment, while maintaining non-inferior specificity to burn providers. It will also validate the standalone performance of the algorithm on an independent dataset.

Along with the report of second quarter earnings, Spectral announced that has exceeded 85% enrollment in the Burn Center pivotal study and reiterated its objective of seeking FDA approval in 2025. The pediatric portion of the trial recently achieved 100% enrollment and three additional sites are being added to accelerate enrollment of adult patients. The new sites include the University Medical Center (UMC) Burn Center at Texas Tech University Health Sciences Center, Tampa General Hospital Burn Center, and University of South Alabama (USA) Health Emergency Department. This brings the total number of sites to 16.

The anticipated regulatory pathway will include a de novo FDA submission for DeepView in the first half of 2025, which, if successfully approved, will allow for commercialization of the device in early 2026. After receiving the approval for use in burn centers, Spectral will pursue emergency department approval via the 510(k) pathway.

Ex-US Development

Spectral deployed five units to the U.K. after receiving UKCA authorization earlier this year. This has allowed the team to generate real world data which enhances the AI algorithm and allows it to work with stakeholders in order to more effectively commercialize and deploy the device. Additional devices are expected to be sold in the second half, generating a small amount of revenue. A foothold in the U.K. could provide a stepping stone to broader exposure to Europe.

In July, Spectral announced a collaboration with PolyNovo Limited to conduct a limited deployment for burn evaluation in Australia. PolyNovo develops and sells skin substitutes and distributes them globally. The goal of the deployment is to facilitate access to Australia’s Special Access Scheme, which allows certain health practitioners to use medical devices that are not included in the Australian Register of Therapeutic Goods to patients.

DeepView SnapShot M

Spectral is developing a portable handheld version of its device called DeepView SnapShot M. It may incorporate wireless or satellite communications capability. This effort has been supported by funding from multiple government agencies to produce a device that can be used in combat situations for battlefield burn evaluation. The portable device will also be appropriate in other settings including forward deployed military units and mobile emergency units such as ambulances and in home health settings. Other uses for the device may include wound size measurement, with both area and volume parameters generated from a single capture.

The FDA granted DeepView Breakthrough Device Designation (BDD) status in 2018. This classification allows for prioritized reviews and a dedicated line of communication with reviewing members of the FDA. DeepView received the United Kingdom Conformity Assessed (UKCA) mark for use in the UK for burn indications in February 2024. Spectral expects to receive the required UKCA certificates later this year and should recognize first sales there in 2H:24. The company is further pursuing the CE Mark in the EU but it will also require clearance from the EMA before marketing approval.

Spectral is planning to update stakeholders on progress with the SnapShot M at the 2024 Military Health System Research Symposium (MHSRS) being held in Florida from August 26-29, 2024.

Milestones

➢ Enrollment begins for DeepView burn pivotal validation study – January 2024

➢ Defense Health Agency contract awarded for development of handheld DeepView system – March 2024

➢ MDAI to join Russell Microcap Index – July 2024

➢ Pediatric enrollment target achieved in burn pivotal study and trial site expansion – July 2024

➢ Collaboration with PolyNovo for DeepView in Australia – July 2024

➢ Pivotal burn study over 85% enrolled – June 2024

➢ Participation in Military Health System Research Symposium – August 2024

➢ Burn Center Enrollment Completion – September 2024

➢ Deployment of DeepView System in UK – 2H:24

➢ FDA 510(k) submission of DeepView for clearance in burn – 1H:25

➢ Emergency Department Enrollment Completion – April 2025

➢ Launch of DeepView in US Burn Centers – 2026

➢ Launch of DeepView in US Emergency Departments (Burn) – 2026/2027

➢ Launch of DeepView for Diabetic Foot Ulcer – 2026/2027

➢ DeepView SnapShot M Launch for Military Use – 2027

Spectral AI Initiation

We recently launched coverage of Spectral AI with a valuation of $5.00 per share based on the company’s opportunities in burn diagnosis. Spectral is in the last stages of its burn clinical trial prior to submitting a de novo application to the FDA. We believe that regulatory approval can arrive in time for deployment of DeepView in early 2026. With funding, regulatory and sales support from BARDA and other government agencies, we see Spectral’s risk profile as much lower than other device development companies. The addressable market for DeepView consists of about 125 burn centers and almost 5,000 emergency departments in the United States. There are also opportunities overseas and we expect to see sales in the UK before year end and initial deployment of devices in Australia for regulatory consideration in the near term. There are further opportunities for the DeepView in other indications such as diabetic foot ulcer and for a mobile version of the device which has military applications and could be used in a mobile setting such as in home health. We discuss these components of our thesis in our recent initiation which can be found here.

Key reasons to own Spectral AI shares:

➢ DeepView System pursuing large indications with unmet need in diagnosis

o Burn

▪ Cleared for sale in the UK with UKFC classification award

▪ Seeking FDA approval following pivotal trial completion

o Diabetic Foot Ulcer (DFU)

➢ DeepView SnapShot M Expands Use into New Applications

o Military & Combat

o Forward Deployed and Mobile Emergency

o Home Health

➢ BARDA, DoD and other government agency grant funding support

o Committed ~$300 million to date and $28 million expected in 2024

➢ Provides only diagnostic tool that translates raw image into wound healing assessment

o 340 billion pixels of proprietary burn and diabetic foot ulcer data driving AI algorithm

➢ High degree of diagnosis accuracy vs. human practitioner

o Day 1 prediction vs. 21 – 30 days for specialist time to decision

o Healing prediction accuracy of 92% vs. 50-75%

o Reduce unnecessary patient transfers. time to surgery and associated costs¹

➢ International growth opportunities

o United Kingdom – approved, reimbursement in process

o European Union

o Other developed economies including Australia

➢ Nine families of active patents

o Imaging

o Wound assessment

Summary

Spectral reported second quarter earnings with financial results meeting expectations. For the year, management has reiterated their revenue guidance for $28 million of research and development revenues this year. We also expect to see a small amount of DeepView product revenue from sales in the UK. During the earnings call, CEO Pete Carlson outlined the timeline expected for burn trial completion and regulatory submission for both burn centers and for emergency departments. Other themes were also addressed including international opportunities in Australia, product line extensions with SnapShot M and the pursuit ofther indications such as DFU. We have a favorable view of Spectral AI based on the data generated to date which suggests improved diagnosis, better and faster treatment for burn patients and cost savings for health systems which can avoid misdiagnosis to a greater degree. We maintain our valuation of $5.00 per share.

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^{1. Huson, H.B. et al. If Seeing Was Believing – A Retrospective Analysis of Potential Reduced Treatment Delays with a Novel Burn Wound Assessment Device. Journal of Burn Care & Research. April, 2021.}