Anika Therapeutics, Inc. - Quarter Report: 2022 March (Form 10-Q)

Anika Therapeutics, Inc. and Subsidiaries

Condensed Consolidated Balance Sheets

(in thousands, except per share data)

(unaudited)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

Anika Therapeutics, Inc. and Subsidiaries

Condensed Consolidated Statements of Operations and Comprehensive Income (Loss)

(in thousands, except per share data)

(unaudited)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

Anika Therapeutics, Inc. and Subsidiaries

Condensed Consolidated Statements of Stockholders' Equity

(in thousands)

(unaudited)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

Anika Therapeutics, Inc. and Subsidiaries

Condensed Consolidated Statements of Cash Flows

(in thousands)

(unaudited)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

Anika Therapeutics, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(amounts in thousands, except share and per share amounts or as otherwise noted)

(unaudited)

Anika Therapeutics, Inc. (the “Company”) is a global joint preservation company that creates and delivers meaningful advancements in early intervention orthopedic care, including in the areas of osteoarthritis (“OA”) pain management, regenerative solutions, soft tissue repair and bone preserving joint technologies.

In early 2020, the Company expanded its overall technology platform through its strategic acquisitions of Parcus Medical, LLC (“Parcus Medical”), a sports medicine implant and instrumentation solutions provider focused on sports medicine and soft tissue repair, and Arthrosurface, Inc. (“Arthrosurface”), a company specializing in less invasive, bone preserving partial and total joint replacement solutions. These acquisitions broadened the Company's product portfolio, developed over its 30 years of expertise in hyaluronic acid technology, into joint preservation and restoration space with higher market potential, added new revenue streams, increased and accelerated its commercial capabilities, diversified its revenue base, and expanded its product pipeline and research and development expertise.

The Company is subject to risks common to companies in the life sciences industry including, but not limited to, development by the Company or its competitors of new technological innovations, dependence on key personnel, protection of proprietary technology, commercialization of existing and new products, and compliance with U.S. Food and Drug Administration and foreign regulations and approval requirements, as well as the ability to grow the Company’s business through appropriate commercial strategies.

There continue to be uncertainties regarding the pandemic of the novel coronavirus (“COVID-19”), and the Company is closely monitoring the impact of COVID-19 on all aspects of its business, including how it will impact its customers, employees, suppliers, vendors, business partners and broader impact on elective surgeries. The Company is unable to predict the specific impact that COVID-19 may have on its financial position and operations moving forward due to the numerous uncertainties. Any estimates made herein may change as new events occur and additional information is obtained, and actual results could differ materially from any estimates made herein under different assumptions or conditions. The Company will continue to assess the evolving impact of COVID-19.

The accompanying unaudited condensed consolidated financial statements and related notes have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”) and in accordance with accounting principles generally accepted in the United States (“US GAAP”). The financial statements include the accounts of Anika Therapeutics, Inc. and its subsidiaries. Inter-company transactions and balances have been eliminated. Certain information and footnote disclosures normally included in annual financial statements prepared in accordance with US GAAP have been or omitted pursuant to SEC rules and regulations relating to interim financial statements. The December 31, 2021 balances reported herein were derived from the audited consolidated financial statements. In the opinion of management, these unaudited condensed consolidated financial statements contain all adjustments (consisting only of normal recurring adjustments) necessary to fairly state the condensed consolidated financial statements.

The accompanying unaudited condensed consolidated financial statements and related notes should be read in conjunction with the Company’s annual financial statements filed with its Annual Report on Form 10-K for the year ended December 31, 2021. The results of operations for the three-month period ended March 31, 2022 are not indicative of the results to be expected for the year ending December 31, 2022.

Segment Information

Operating segments are components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker, or decision-making group, in deciding how to allocate resources and in assessing performance. The Company’s chief operating decision maker as of March 31, 2022 was its President and Chief Executive Officer. Based on the criteria established by Accounting Standards Codification 280, Segment Reporting, the Company has one operating and reportable segment.

Parcus Medical, LLC

On January 24, 2020, the Company completed the acquisition of Parcus Medical pursuant to the terms of the Agreement and Plan of Merger, dated as of January 4, 2020 (the “Parcus Medical Merger Agreement”). Parcus Medical is a sports medicine implant and instrumentation solutions provider focused on surgical repair and reconstruction of soft tissue.

Consideration Transferred

Pursuant to the Parcus Medical Merger Agreement, the Company acquired all outstanding equity of Parcus Medical for estimated total purchase consideration of $75.1 million, as of January 24, 2020, which consisted of:

Pursuant to the Parcus Medical Merger Agreement, contingent consideration represents additional payments that the Company may be required to make in the future which could total up to $60.0 million depending on the level of net sales of Parcus Medical products generated in 2020 through 2022.

The fair value of contingent consideration related to net sales as of January 24, 2020, and at each reporting date, was determined based on a Monte Carlo simulation model in an option pricing framework, whereby a range of possible scenarios were simulated. The unobservable inputs used in the fair value determination are the net sales estimates, the weighted average cost of capital used for the Monte Carlo simulation, discount rate and the periods in which the milestones are expected to be achieved. The discount rates used as of March 31, 2022 ranged from 3.2% - 4.1%. The weighted average cost of capital was 11.5% as of March 31, 2022.

The deferred consideration related to certain purchase price holdbacks was resolved within one year of the acquisition date in accordance with the Parcus Merger. The liability for contingent consideration was included in current liabilities on the condensed consolidated balance sheets and will be remeasured at each reporting period until the contingency is resolved. As of March 31, 2022, the net sales related contingent consideration amounted to $4.3 million which was included in current liabilities. As of March 31, 2022 the Company did not expect any further milestones to be achieved.

Acquisition-related costs were not included as a component of consideration transferred but were expensed in the periods in which the costs are incurred. The Company incurred approximately $1.9 million in transaction costs related to the Parcus Medical acquisition during the three-month period ending March 31, 2020. The transaction costs subsequent to March 31, 2020 were immaterial.

Fair Value of Net Assets Acquired

The estimate of fair value as of the acquisition date required the use of significant assumptions and estimates. Critical estimates included, but were not limited to, future expected cash flows, including projected revenues and expenses, and the applicable discount rates. These estimates were based on assumptions that the Company believes to be reasonable, however, actual results may differ from these estimates.

The allocation of purchase price to the identifiable assets acquired and liabilities assumed was based on estimates of fair value as of January 24, 2020, and was as follows:

Subsequent to the acquisition date, during the three-month period ended September 30, 2020, the Company completed the identification and confirmation of Parcus Medical inventory in the possession of its direct and distributor sales force, which resulted in an increase to the fair value of inventory of $1.9 million as of the January 24, 2020 acquisition date. As a result, the Company recorded this addition to inventory with a corresponding reduction to goodwill as a measurement period adjustment which was reflected to the Goodwill amount included in the table above.

The acquired intangible assets based on estimates of fair value as of January 24, 2020 were as follows:

The fair value of developed technology will be amortized over a useful life of 15 years, the fair value of customer relationships over 10 years, and the fair value of the trade name over 5 years.

The excess of the purchase price over the fair value of the net assets acquired was recorded as goodwill and assigned to the newly established reporting unit for Parcus Medical and Arthrosurface. The goodwill was impaired in 2020 and there was no remaining goodwill as of December 31, 2020.

Arthrosurface, Inc.

On February 3, 2020, the Company completed the acquisition of Arthrosurface pursuant to the terms of the Agreement and Plan of Merger, dated as of January 4, 2020 (the “Arthrosurface Merger Agreement”). Arthrosurface is a joint preservation technology company specializing in less invasive, bone-preserving partial and total joint replacement solutions.

Consideration Transferred

Pursuant to the Arthrosurface Merger Agreement, the Company acquired all outstanding equity of Arthrosurface for estimated total purchase consideration of $90.3 million, as of February 3, 2020 which consisted of:

Pursuant to the Arthrosurface Merger Agreement, the Company could be required to make future payments of up to $40.0 million depending on the achievement of regulatory milestones and the level of net sales of Arthrosurface products from 2020 through 2021. The fair value of contingent consideration related to regulatory milestones as of February 3, 2020 was determined through a scenario-based discounted cash flow analysis using scenario probabilities and regulatory milestone dates. The fair value of contingent consideration related to net sales achievement as of February 3, 2020 was determined based upon a Monte Carlo simulation approach at acquisition date, whereby a range of possible scenarios were simulated. The Company paid $5.0 million in October 2020 and $10.0 million in July 2021 based upon the achievement of two distinct regulatory milestones. As of December 31, 2021, there were no milestones remaining.

Acquisition-related costs were not included as a component of consideration transferred but were expensed in the periods in which the costs are incurred. The Company incurred approximately $2.2 million in transaction costs related to the Arthrosurface acquisition during the three-month period ending March 31, 2020. The transaction costs subsequent to March 31, 2020 were immaterial.

Fair Value of Net Assets Acquired

The estimate of fair value required the use of significant assumptions and estimates. Critical estimates included, but were not limited to, future expected cash flows, including projected revenues and expenses, and the applicable discount rates. These estimates were based on assumptions that the Company believes to be reasonable. However, actual results may differ from these estimates.

The allocation of purchase price to the identifiable assets acquired and liabilities assumed was based on estimates of fair value as of February 3, 2020, as follows:

The fair value of developed technology will be amortized over an estimated useful life of 15 years, the fair value of customer relationships over 10 years, and the fair value of trade names over 5 years. A total of $0.6 million represents the fair value of IPR&D with an indefinite useful life which was impaired during the quarter ended December 31, 2021.

The excess of the purchase price over the fair value of the net assets acquired was recorded as goodwill and assigned to the newly established reporting unit for Parcus Medical and Arthrosurface. The Goodwill was impaired in 2020 and there was no remaining goodwill as of December 31, 2020.

The Company has certain cash equivalents in money market funds that are classified within Level 1 of the fair value hierarchy and are valued based on quoted prices in active markets. For cash, accounts receivables, accounts payable, and accrued interest, the carrying amounts approximate fair value, because of the short maturity of these instruments, and therefore fair value information is not included in the table below. Contingent consideration related to the previously described business combinations are classified within Level 3 of the fair value hierarchy as the determination of fair value uses considerable judgement and represents the Company’s best estimate of an amount that could be realized in a market exchange for the asset or liability. There were no transfers between fair value levels during the three-month periods ended March 31, 2022 or 2021. See Note 3, Business Combinations for additional discussion of contingent consideration as of March 31, 2022.

The classification of the Company’s cash equivalents and other current liabilities within the fair value hierarchy was as follows:

The following table provides a rollforward of the contingent consideration related to business acquisitions discussed in Note 3, Business Combinations.

Inventories consist of the following:

Inventories are stated net of inventory reserves of approximately $6.9 million and $9.1 million, as of March 31, 2022 and December 31, 2021, respectively.

Intangible assets as of March 31, 2022 and December 31, 2021 consisted of the following:

The aggregate amortization expense related to intangible assets was $1.9 million for the three-month periods ended March 31, 2022 and 2021.

The Company assesses goodwill for impairment annually, or, under certain circumstances, more frequently, such as when events or changes in circumstances indicate there may be impairment.

Changes in the carrying value of goodwill for the three-month ended March 31, 2022 were as follows:

Accrued expenses consist of the following:

In certain of its contracts, the Company warrants to its customers that the products it manufactures conform to the product specifications as in effect at the time of delivery of the specific product. The Company may also warrant that the products it manufactures do not infringe, violate, or breach any U.S. or international patent or intellectual property right, trade secret, or other proprietary information of any third party. On occasion, the Company contractually indemnifies its customers against any and all losses arising out of, or in any way connected with, any claim or claims of breach of its warranties or any actual or alleged defect in any product caused by the negligent acts or omissions of the Company. The Company maintains a products liability insurance policy that limits its exposure to these risks. Based on the Company’s historical activity, in combination with its liability insurance coverage, the Company believes the estimated fair value of these indemnification agreements is immaterial. The Company had no accrued warranties as of March 31, 2022 or December 31, 2021 and has no history of claims paid.

The Company is also involved from time-to-time in various legal proceedings arising in the normal course of business. Although the outcomes of these legal proceedings are inherently difficult to predict, the Company does not expect the resolution of these occasional legal proceedings to have a material adverse effect on its financial position, results of operations, or cash flow.

On October 21, 2021, the Company received notice that the former unitholders of Parcus Medical had filed a request for arbitration regarding the earnout provisions agreed to in the Parcus Medical Merger Agreement. The Company has engaged in the arbitration process and does not anticipate a resolution during 2022. The Company is unable to estimate the potential liability with respect to this matter at this time. There are numerous factors that make it difficult to estimate reasonably possible loss or range of loss at this stage of the matter, including the significant number of legal and factual issues still to be resolved in the arbitration process. The Company intends to vigorously defend against the claims and believes it has strong defenses to the claims asserted.

Revenue by product family was as follows: 

Revenue from the Company’s sole significant customer, DePuy Synthes Mitek Sports Medicine, part of the Johnson & Johnson Medical Companies, as a percentage of the Company’s total revenue was 39% and 41% for the three months ended March 31, 2022 and 2021, respectively.

The Company receives payments from its customers based on billing schedules established in each contract. Up-front payments and fees are recorded as deferred revenue upon receipt or when due, and may require deferral of revenue recognition to a future period until the Company performs its obligations under these arrangements. Amounts are recorded as accounts receivable when the Company’s right to consideration is unconditional. Deferred revenue was $0.3 million and $1.0 million as of March 31, 2022 and December 31, 2021, respectively.

Total revenue by geographic location based on the location of the customer in total and as a percentage of total revenue were as follows: 

Equity Incentive Plan

The Anika Therapeutics, Inc. 2017 Omnibus Incentive Plan (the “2017 Plan”) was approved by the Company’s stockholders on June 13, 2017 and subsequently amended on June 18, 2019, June 16, 2020 and June 16, 2021. The 2017 Plan provides for the grant of incentive stock options, nonqualified stock options, stock appreciation rights (“SARs”), restricted stock awards, performance restricted stock units (“PSUs”), restricted stock units (“RSUs”), total shareholder return options (“TSRs”) and performance options that may be settled in cash, stock, or other property. In accordance with the 2017 Plan approved by the Company’s stockholders, including the amendments thereto, each share award other than stock options or SARs will reduce the number of total shares available for grant by two shares. Subject to adjustment for specified types of changes in the Company’s capitalization, no more than 4.6 million shares of common stock may be issued under the 2017 Plan. There were 0.9 million shares available for future grant at March 31, 2022 under the 2017 Plan.

The Anika Therapeutics, Inc. 2021 Inducement Plan (the “Inducement Plan”) was adopted by the Company’s board of directors on November 4, 2021. The Inducement Plan reserves 125,000 shares of common stock for issuance pursuant to equity-based awards granted under the Inducement Plan. Such awards may be granted only to an individual who was not previously the Company’s employee or director with the Company. The Inducement Plan provides for the grant of awards under terms substantially similar to the 2017 Plan (as amended). There were 70,591 shares available for future grant at March 31, 2022 under the Inducement Plan.

The Company may satisfy the awards upon exercise, or upon fulfillment of the vesting requirements for other equity-based awards, with either newly issued shares or shares reacquired by the Company. Stock-based awards are granted with an exercise price equal to or greater than the market price of the Company’s stock on the date of grant. Awards contain service conditions or service and performance conditions, and they generally become exercisable ratably over three years with a maximum contractual term of ten years.

The Company presents the expenses related to stock-based compensation awards in the same expense line items as cash compensation paid to each of its employees as follows (in thousands):

 Stock Options

Stock options are granted to purchase common shares at prices that are equal to the fair market value of the shares on the date the options are granted or, in the case of premium options, are granted with an exercise price at 110% of the market price of the Company’s common stock on the date of grant. Options generally vest in equal annual installments over a period of three years and expire 10 years after the date of grant. The grant-date fair value of options is recognized as expense on a straight-line basis over the requisite service period, which is generally the vesting period.

  The following summarizes the activity under the Company’s stock option plans:

The aggregate intrinsic value of options exercised for the three-month period ended March 31, 2021 was immaterial.

The Company granted 416,197 stock options during the three-month ended March 31, 2022, of which 382,201 shares were premium-priced options.

The Company uses the Black-Scholes pricing model to determine the fair value of options granted. The calculation of the fair value of stock options is affected by the stock price on the grant date, the expected volatility of the Company’s common stock over the expected term of the award, the expected life of the award, the risk-free interest rate and the dividend yield. The Company estimates the fair value of TSRs using Monte-Carlo simulation model where the expected volatility assumption is evaluated over 6.3 years. The actual number of TSR options that may be earned ranges from 0% to 150% of the target number, depending on the total shareholder return of the Company relative to the peer group over the vesting period of 2.7 years. There were 104,638 TSRs as of March 31, 2022.

 The assumptions used in the Black-Scholes pricing model for options granted during the three months ended March 31, 2022 and 2021, along with the weighted-average grant-date fair values, were as follows:

As of March 31, 2022, there was $11.8 million of unrecognized compensation cost related to unvested stock options. This expense is expected to be recognized over a weighted average period of 2.1 years.

Restricted Stock Units

RSUs generally vest in equal annual installments over a three-year period. The grant-date fair value of RSUs is recognized as expense on a straight-line basis over the requisite service period, which is generally the vesting period. The Company determines the fair value of RSUs based on the closing price of its common stock on the date of grant.

RSU activity for the three-month period ended March 31, 2022 was as follows:

The weighted-average grant-date fair value per share of RSUs granted was $34.07 for the three-month ended March 31, 2021. The total fair value of RSUs vested was $3.3 million and $2.1 million for the three months period ended March 31, 2022 and 2021, respectively.

As of March 31, 2022, there was $18.4 million of unrecognized compensation cost related to time-based RSUs, which was expected to be recognized over a weighted-average period of 2.4 years.

Performance Stock Units

PSU activity for the three-month ended March 31, 2022 was as follows:

The total fair value of PSUs vested was $0.6 million for the three-month period ended March 31, 2022. As of March 31, 2022, none of the milestones related to the outstanding PSUs were expected to be achieved.

Employee Stock Purchase Plan

On March 17, 2021, the Company adopted the 2021 Employee Stock Purchase Plan (“ESPP”). The ESPP is authorized to issue up to 200,000 shares of common stock to participating employees. Employees that participate in the Company’s ESPP may purchase up to a maximum of 800 shares per six-month offering period or $25,000 worth of common stock per calendar year by authorizing payroll deductions of up to 10% of their base salary. The purchase price for each share purchased is 85% of the lower of the fair market value of the common stock on the first or last day of the offering period. The Company uses the Black-Scholes pricing model to determine the fair value of shares purchased under the ESPP. The calculation of the fair value of shares purchased is affected by the stock price on the grant date, the expected volatility of the Company’s stock over the expected term and the risk-free interest rate. The estimated fair value of shares purchased under the ESPP were based on the following assumptions:

The Company recorded an income tax benefit of $0.8 million for the three-month period ended March 31, 2022, resulting in an effective tax rate of 20.9%. The income tax benefit was $1.6 million for the three-month period ended March 31, 2021, based on an effective tax rate of (133.6%). The net change in the effective tax rate for the three-month period ended March 31, 2022, as compared to the same period in 2021, was primarily due to the discrete tax benefit on the decrease in the fair value of contingent consideration that occurred in the first quarter of 2021. The Company’s effective tax rate for the first quarter of 2022 primarily reflects statutory rates, offset partially by a reduction of stock compensation related tax deductions.

The Company files income tax returns in the United States on a federal basis, in certain U.S. states, and in certain foreign jurisdictions. The associated tax filings remain subject to examination by applicable tax authorities for a certain length of time following the tax year to which those filings relate, which varies by jurisdiction.

In connection with the preparation of the financial statements, the Company assessed whether it is more likely than not that it will be able to utilize, in future periods, the Company’s deferred income tax assets to offset future taxable income and tax liabilities. The Company concluded that it is more likely than not that its deferred tax assets will be realized, after evaluation and consideration of both the positive and negative evidence. On December 31, 2021, the Company released a valuation allowance that had been previously recorded related to its net deferred tax assets in Italy in the amount of $0.9 million. The Company did not record a valuation allowance on its deferred tax balances as of March 31, 2022.

Basic EPS is calculated by dividing net income (loss) by the weighted average number of shares outstanding during the period. Unvested restricted shares, although legally issued and outstanding, are not considered outstanding for purposes of calculating basic EPS. Diluted EPS is calculated by dividing net income by the weighted average number of shares outstanding plus the dilutive effect, if any, of outstanding share-based awards using the treasury stock method

The following table provides share information used in the calculation of the Company's basic and diluted earnings per share (in thousands):

The Company had a net loss during the three-month ended March 31, 2022, and therefore all potential common shares would have been anti-dilutive and accordingly were excluded from the computation of diluted EPS. Stock options of 1.2 million shares were outstanding for the three-month periods ended March 31, 2021 and were not included in the computation of diluted EPS because the awards’ impact on EPS would have been anti-dilutive.

You should read the following discussion in conjunction with our financial statements and related notes appearing elsewhere in this report and our audited consolidated financial statements and related notes contained in our Annual Report on Form 10-K for the year ended December 31, 2021, or our 2021 Form 10-K. In addition to historical information, this report contains "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 concerning our business, consolidated financial condition, and results of operations. The Securities and Exchange Commission, or the SEC, encourages companies to disclose forward-looking statements so that investors can better understand a company’s prospects and make informed investment decisions. Forward-looking statements are subject to risks and uncertainties, many of which are outside our control, which could cause actual results to differ materially from these statements. Therefore, you should not rely on any of these forward-looking statements. Forward-looking statements can be identified by such words as "will," "likely," "may," "believe," "expect," "anticipate," "intend," "seek," "designed," "develop," "would," "future," "can," "could," “estimate,” “potential,” and other expressions that are predictions of or indicate future events and trends and that do not relate to historical matters. All statements other than statements of historical facts included in this report regarding our strategies, prospects, financial condition, operations, costs, plans, and objectives are forward-looking statements. Examples of forward-looking statements include, among others, statements regarding the effect of COVID-19 and related impacts on our business, operations, and financial results, expected future operating results, expectations regarding the timing and receipt of regulatory results, anticipated levels of capital expenditures, and expectations of the effect on our financial condition of claims, litigation, and governmental and regulatory proceedings.

Please also refer to those factors described in “Part I, Item 1A. Risk Factors” of our 2021 Form 10-K for important factors that we believe could cause actual results to differ materially from those in our forward-looking statements. Any forward-looking statement made by us in this report is based only on information currently available to us and speaks only as of the date on which it is made. We undertake no obligation to publicly update any forward-looking statement, whether written or oral, that may be made from time to time, whether as a result of new information, future developments or otherwise.

Management Overview

We are a global joint preservation company that creates and delivers meaningful advancements in early intervention orthopedic care. Based on our collaborations with clinicians to understand what they need most to treat their patients, we develop minimally invasive products that restore active living for people around the world. We are committed to leading in high opportunity spaces within orthopedics, including osteoarthritis, or OA, pain management, regenerative solutions, sports medicine soft tissue repair and bone preserving joint technologies.

We have thirty years of global expertise developing, manufacturing and commercializing products based on and/or enhanced with our hyaluronic acid, or HA, technology platform. HA is a naturally occurring polymer found throughout the body that is vital for proper joint health and tissue function. Our proprietary technologies for modifying the HA molecule allow product properties to be tailored specifically to multiple uses, including enabling longer residence time to support OA pain management and creating a solid form of HA called Hyaff, which is a platform utilized in our regenerative solutions portfolio.

In early 2020, we expanded our overall technology platform, product portfolio, and significantly enhanced and accelerated our commercial infrastructure, especially in the United States, through our strategic acquisitions of Parcus Medical, a sports medicine and instrumentation solutions provider focused on soft tissue repair, and Arthrosurface, a company specializing in bone preserving partial and total joint replacement solutions. Through these acquisitions, we have transformed our company. We expanded our addressable market from the over $1 billion global OA pain management market to the over $8 billion global joint preservation market (which includes the faster growing sports medicine soft tissue repair and extremities segments), advanced our commercial capabilities, instituted systems and processes to support our transformation, and expanded our product pipeline and research and development expertise in our target markets.

As we look towards the future, our business is positioned to capture value within our target market of joint preservation. We believe our success will be driven by our:

COVID-19 Pandemic

In March 2020, the World Health Organization declared the spread of the COVID-19 virus a pandemic. This pandemic has caused an economic downturn on a global scale, as well as significant volatility in the financial markets. There has been significant volatility in our results on a quarterly basis due to the worldwide cancellation or delay of elective procedures, staffing shortages and supply chain disruptions, as well as the impact on timelines associated with certain clinical studies. Resurgence of COVID-19 as a result of emerging variants or other factors could result in additional staffing shortages or supply chain disruptions that could impact our business and operations. We have had some disruption in our ability to supply products to our customers due to supply chain disruptions and staffing shortages which has caused back orders or delays in certain shipments to our customers. Our commercial day-to-day operations have been impacted due to the worldwide cancellations and/or delays of elective procedures and restrictions on travel for both our employees and our clinician customers, and timelines associated with certain clinical studies and research and development programs have been delayed. While the impact has been limited to these items to date, we caution that there continues to be a possibility for potential future implementation of certain additional restrictions or other challenges associated with infections, staffing shortages, volatility in elective surgical procedures or supply chain disruptions due to COVID-19 and its current or new variants in certain jurisdictions. The impact of these challenges are currently unknown, but could be significant.

Products

OA Pain Management

Our OA Pain Management product family consists of:

Joint Preservation and Restoration

Our Joint Preservation and Restoration product family consists of: 

We currently commercialize Bone Preserving Joint Technologies, Soft Tissue Repair products, and Tactoset (from our Regenerative Solutions portfolio) in the United States by selling to hospitals and ambulatory surgery centers, through an independent network of sales representatives and distributors, and utilize our distributor network for sales in certain international markets.

Non-Orthopedic

Our Non-Orthopedic product family consists of legacy HA-based products that are marketed principally for non-orthopedic applications. These products include Hyalobarrier, an anti-adhesion barrier indicated for use after abdomino-pelvic surgeries, Hyalomatrix, used for the treatment of complex wounds such as burns and ulcers, as well as products used in connection with the treatment of ears, nose and throat disorders, and ophthalmic products, including injectable, high molecular weight HA products such as Anikavisc and Nuvisc, used as viscoelastic agents in ophthalmic surgical procedures such as cataract extraction and intraocular lens implantation. These Non-Orthopedic products are sold through commercial sales and marketing partners around the world.

Results of Operations

Three Months Ended March 31, 2022 Compared to Three Months Ended March 31, 2021

Revenue

Revenue for the three-month period ended March 31, 2022 was $36.7 million, an increase of $2.4 million as compared to $34.3 million for the three-month period ended March 31, 2021. The increase in revenue was primarily driven by continued recovery from the impact of the COVID-19 pandemic on sales volumes and ordering patterns.

Revenue from our OA Pain Management product family increased 18% for the three-month period ended March 31, 2022, as compared to the same period in 2021, due primarily to continued recovery from the impact of the COVID-19 pandemic on global sales volumes and strategic partner and distributor ordering patterns which can vary significantly on a quarterly basis.

Revenue from our Joint Preservation and Restoration product family decreased 1% for the three-month period ended March 31, 2022, as compared to the same period in 2021, due primarily to the impact of limitations on access to customers during the early part of the quarter due to a surge in COVID-19 cases caused by a new variant.

Revenue from our Non-Orthopedic product family decreased 34% for the three-month ended March 31, 2022, as compared to the same period in 2021, primarily due to timing of distributor sales as well as due to higher revenues from certain legacy products related to end-of-life purchases during the first quarter of 2021.

Gross Profit and Margin

Gross profit for the three-month period ended March 31, 2022 increased $0.8 million to $21.8 million, representing a 59% gross margin for the period as compared to 61% in the prior year. The increase in gross profit for the three-month period ended March 31, 2022, as compared to the same period in 2021, was primarily resulted from increased revenue. Gross margin for the three-month period ended March 31, 2022, decreased compared to the same period of prior year due primarily to unfavorable production volumes caused partially by supply chain and staffing challenges, due largely to the impact of the COVID-19 pandemic, and increased inventory reserves. The gross margin included the impact of inventory step-up associated with the Arthrosurface and Parcus Medical acquisitions, as well as acquisition-related amortization expenses, which together increased cost of revenue by $1.6 million, or 5 points of gross margin, for the three-month period ended March 31, 2022, as compared to increased cost of revenue of $4.1 million, or 12 points of gross margin, for the same period in 2021.

Research and Development

Research and development expenses for the three-month period ended March 31, 2022 were $6.2 million, a decrease of $0.2 million as compared to the same period in 2021. This decrease was primarily due to lower clinical trial activity.

Selling, General and Administrative

Selling, general and administrative expenses for the three-month period ended March 31, 2022 were $19.2 million, an increase of $1.0 million, as compared to the same period in 2021. This increase for the three-month period ended March 31, 2022 was due to expansion of our commercial capabilities in the United States and expanded marketing activities and other operational capabilities to support the growing business needs. Certain marketing and medical education activities also were more limited in 2021 due to the COVID-19 pandemic.

Contingent Consideration Fair Value Change

The fair value of contingent consideration as of March 31, 2022 did not change compared to December 31, 2021. In the three-month period ended March 31, 2021, the fair value of our contingent consideration liabilities decreased by $4.8 million resulting in a non-cash benefit to net income recorded in that period.

Income Taxes

The benefit from income taxes was $0.8 million for the three-month period ended March 31, 2022, resulting in an effective tax rate of 20.9%. The benefit from income taxes was $1.6 million for the three-month period ended March 31, 2021, resulting in an effective tax rate of (133.6%). The net change in the effective tax rate for the three-month period ended March 31, 2022, as compared to the same period in 2021, was primarily due to the discrete tax benefit on the decrease in the fair value of contingent consideration that occurred in the first quarter of 2021. Our effective tax rate for the first quarter of 2022 primarily reflects statutory rates, offset partially by a reduction of stock compensation related tax deductions.

Net (Loss) Income

For the three-month period ended March 31, 2022, net loss was $2.9 million, or $0.20 per diluted share, compared to net income of $2.8 million, or $0.20 per diluted share, for the same period in prior year. The decrease in net income and diluted earnings per share was primarily due to the nonrecurring gain recorded in the first quarter of 2021 related to the change in fair value of contingent consideration, as well as increased spending to expand our commercial capability in the United States, partially offset by increased revenue.

Non-GAAP Financial Measures

We present certain information with respect to adjusted gross profit and adjusted gross margin, adjusted Earnings Before Interest, Tax, Depreciation and Amortization, or EBITDA, adjusted net income, adjusted diluted earnings per share or adjusted EPS, which are financial measures not based on any standardized methodology prescribed by accounting principles generally accepted in the United States, or GAAP, and is not necessarily comparable to similarly titled measures presented by other companies.

We have presented adjusted gross profit and adjusted gross margin, adjusted EBITDA, adjusted net income, adjusted EPS, because they are key measures used by our management and board of directors to understand and evaluate our operating performance and to develop operational goals for managing our business. We believe these financial measures help identify underlying trends in our business that could otherwise be masked by the effect of the expenses that we exclude. In particular, we believe that the exclusion of these items in calculating these measures can provide a useful tool for period-to-period comparisons of our core operating performance. Accordingly, we believe that these measures provide useful information to investors and others in understanding and evaluating our operating results, enhancing the overall understanding of our past performance and future prospects and allowing for greater transparency with respect to key financial metrics used by our management in their financial and operational decision-making.

Adjusted Gross Profit and Adjusted Gross Margin

We define adjusted gross profit as our gross profit excluding amortization of certain acquired intangible assets, the impact of inventory fair-value step up associated with our recent acquisitions and certain product rationalization charges. The amortized assets contribute to revenue generation, and the amortization of such assets will likely continue in future periods until such assets are fully amortized. These assets include the fair value of certain identified assets acquired in acquisitions, including developed technology and acquired tradenames. We define adjusted gross margin as adjusted gross profit divided by total revenue.

The following is a reconciliation of adjusted gross profit to gross profit for the three-month periods ended March 31, 2022 and 2021, respectively:

Adjusted gross profit for the three-month period ended March 31, 2022 decreased $1.8 million to $23.4 million representing adjusted gross margin of 64%. Adjusted gross profit for the three-month period ended March 31, 2021 was $25.1 million, or adjusted gross margin of 73%. This decrease in adjusted gross profit and adjusted gross margin for the three-month period ended March 31, 2022 as compared to 2021, is due primarily to unfavorable production volumes and increased inventory reserves caused in part by supply chain and staffing challenges, due largely to the impact of the COVID-19 pandemic.

Adjusted EBITDA

We present information below with respect to adjusted EBITDA, which we define as our net income (loss) excluding interest and other expense, net, income tax benefit, depreciation and amortization, stock-based compensation, and acquisition-related expenses. We have also excluded the impact of changes in the fair value of contingent consideration associated with our acquisition transactions in early 2020.

Adjusted EBITDA is not prepared in accordance with US GAAP, and should not be considered in isolation of, or as an alternative to, measures prepared in accordance with US GAAP. There are a number of limitations related to the use of adjusted EBITDA rather than net (loss) income, which is the nearest US GAAP equivalent. Some of these limitations are:

The following is a reconciliation of adjusted EBITDA to net (loss) income for the three-month periods ended March 31, 2022 and 2021, respectively:

Adjusted EBITDA in the three-month period ended March 31, 2022 decreased $2.2 million as compared with the same period in 2021. The decrease in adjusted EBITDA for the period was primarily due to lower adjusted gross profit, from unfavorable production volumes and increased inventory reserves caused in part by supply chain and staffing challenges due largely to the impact of the COVID-19 pandemic, as well as increased commercial spending to support future growth as certain marketing and medical education activities were more limited in 2021.

Adjusted Net (Loss) Income and Adjusted EPS

We present information below with respect to adjusted net (loss) income and adjusted EPS. We define adjusted net (loss) income as our net (loss) income excluding amortization and depreciation of acquired assets, the impact of inventory fair-value step up on cost of revenue and changes in the fair value of contingent consideration, on a tax effected basis. The amortized assets contribute to revenue generation, and the amortization of such assets will recur in future periods until such assets are fully amortized. These assets include the estimated fair value of certain identified assets acquired in acquisitions, including in-process research and development, developed technology, customer relationships and acquired tradenames. We define adjusted EPS as GAAP diluted earnings per share excluding the above adjustments to net (loss) income used in calculating adjusted net (loss) income, each on a per share and tax effected basis.

 The following is a reconciliation of adjusted net (loss) income to net (loss) income for the three-month periods ended March 31, 2022 and 2021, respectively:

The following is a reconciliation of adjusted diluted EPS to diluted EPS for the three-month periods ended March 31, 2022 and 2021, respectively:

Adjusted net (loss) income and adjusted diluted (loss) earnings per share in the three-month period ended March 31, 2022 decreased $2.3 million and $0.17, respectively, as compared with the same period in 2021. The decrease for the period was primarily due to a lower adjusted gross profit, from unfavorable production volumes and increased inventory reserves caused in part by supply chain and staffing challenges due largely to the impact of the COVID-19 pandemic, as well as increased commercial spending to support future growth as certain marketing and medical education activities were more limited in 2021.

Liquidity and Capital Resources

We require cash to fund our operating activities and to make capital expenditures and other investments in the business. We expect that our requirements for cash to fund these uses will increase as our operations expand. We continue to generate cash from operating activities and believe that our operating cash flows, cash currently on our condensed consolidated balance sheet and availability under our credit facility will be sufficient to allow us to continue to invest in our existing business, to manage our capital structure on a short and long-term basis, and to meet our anticipated operating cash needs. Cash, cash equivalents, and investments aggregated $90.3 million and $94.4 million, and working capital totaled $138.3 million and $138.7 million, at March 31, 2022 and December 31, 2021, respectively. We are closely monitoring our liquidity and capital resources for any potential impact that the COVID-19 pandemic may have on our operations.

On November 12, 2021, we entered into a Third Amendment to Credit Agreement with Bank of America N.A. as administrative agent, amended and restated our existing revolving line of credit agreement dated October 24, 2017 which provides up to $75.0 million in the form of a senior revolving line of credit. Subject to certain conditions, we may request up to an additional $75.0 million for a maximum aggregate commitment of $150.0 million. As of March 31, 2022, and December 31, 2021, there were no outstanding borrowings, and we are in compliance with the terms of the credit facility.

Summary of Cash Flows (in thousands):

The following changes contributed to the net change in cash and cash equivalents in the three-month period ended March 31, 2022 as compared to the same period in 2021.

Operating Activities

Cash used in operating activities was $1.9 million for the three-month period ended March 31, 2022, as compared to cash used in operating activities of $2.4 million for the same period in 2021. The decrease in cash used in operating activities in 2021 was primarily due to an improvement in working capital attributable to timing of collections, decrease in inventories and lower income tax payments.

For the foreseeable future, we expect to continue to invest substantial resources in research and development for new products and clinical trials as well as continued investment in our commercial infrastructure to support our growth strategy. These costs will be funded with a combination of cash on hand and cash expected to be generated from future operations. 

Investing Activities

Cash used in investing activities was $1.3 million for the three-month period ended March 31, 2022, as compared to cash provided by investing activities of $1.7 million for the same period in 2021. The change was primarily due to an increase in capital expenditures to support commercial growth of the business in the three-month period ended March 31, 2022 and proceeds from maturities of investments that occurred in 2021.

Financing Activities

Cash used in financing activities was $0.9 million for the three-month period ended March 31, 2022, as compared to cash used in financing activities of $0.5 million for the same period in 2021. In both periods, the cash used in financing activities was primarily attributable to utilization of cash for employee tax withholding in exchange for shares surrendered by equity award holders.

Critical Accounting Policies and Estimates

The preparation of our condensed consolidated financial statements in conformity with GAAP requires management to use judgment in making estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. We believe that our accounting policies for revenue recognition, accounts receivable and allowance for credit losses, goodwill, acquired in-process research and development, inventory and contingencies are based on, among other things, judgments and assumptions made by management that include inherent risks and uncertainties. There have been no significant changes to the above critical accounting policies or in the underlying accounting assumptions and estimates used in such policies from those disclosed in our annual consolidated financial statements and accompanying notes included in our 2021 Form 10-K for the year ended December 31, 2021. We monitor our estimates on an ongoing basis for changes in facts and circumstances, and material changes in these estimates could occur in the future. Changes in estimates are recorded in the period in which they become known. We base our estimates on historical experience and other assumptions that we believe to be reasonable under the circumstances. Actual results may differ from our estimates if past experience or other assumptions do not turn out to be substantially accurate.

Recent Accounting Pronouncements

A discussion of Recent Accounting Pronouncements is included in our 2021 Form 10-K for the fiscal year ended December 31, 2021 and is updated in the Notes to the condensed consolidated financial statements included in this report.

Contractual Obligations and Other Commercial Commitments

Our contractual obligations and other commercial commitments are summarized in the section captioned “Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Contractual Obligations and Other Commercial Commitments” in our 2021 Form 10-K for the year ended December 31, 2021. There were no material changes to our contractual obligations reported in our 2021 Form 10-K during the three months ended March 31, 2022. For additional discussion, see Note 9 to the condensed consolidated financial statements included in this report.

To the extent that funds generated from our operations, together with our existing capital resources, are insufficient to meet future requirements, we will be required to obtain additional funds through equity or debt financings, strategic alliances with corporate partners and others, or through other sources. No assurance can be given that any additional financing will be made available to us or will be available on acceptable terms should such a need arise.

Off-balance Sheet Arrangements

We do not use special purpose entities or other off-balance sheet financing techniques that we believe have, or are reasonably likely to have, a current or future material effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, or capital resources.

Our market risks and the ways we manage them are summarized in the section captioned “Part II, Item 7A. Quantitative and Qualitative Disclosures About Market Risk” in our Annual Report on Form 10-K for the year ended December 31, 2021. There have been no material changes in the first three months of 2022 to our market risks or to our management of such risks.

As required by Rule 13a-15 under the Securities Exchange Act of 1934, as amended, or the Exchange Act, we carried out an evaluation under the supervision and with the participation of our management, including our chief executive officer and chief financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by this report. Based upon that evaluation, the chief executive officer and chief financial officer have concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed by us in reports we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in SEC rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by our company in the reports we file or submit under the Exchange Act is accumulated and communicated to our management, including our chief executive officer and chief financial officer, as appropriate to allow timely decisions regarding required disclosure. On an on-going basis, we review and document our disclosure controls and procedures, and our internal control over financial reporting, and may from time to time make changes aimed at enhancing their effectiveness and to ensure that our systems evolve with our business.

There were no material changes in our internal control over financial reporting during the quarter ended March 31, 2022, that have materially affected, or were reasonably likely to materially affect, our internal control over financial reporting.

We are involved from time-to-time in various legal proceedings arising in the normal course of business. Although the outcomes of these legal proceedings are inherently difficult to predict, we do not expect the resolution of these occasional legal proceedings to have a material adverse effect on our financial position, results of operations, or cash flow. There have been no material changes to the information provided in the section captioned “Part I, Item 3. Legal Proceedings” in our Annual Report on Form 10-K for the year ended December 31, 2021.

Except as set forth below, there have been no material changes to the risk factors described in the section captioned “Part I, Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2021. In addition to the other information set forth in this report, you should carefully consider the factors discussed in the section captioned “Part I, Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2021, which could materially affect our business, financial condition, or future results. The risks described in our Annual Report on Form 10-K are not the only risks we face. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may have a material adverse effect on our business, financial condition, and/or operating results.

Inflation could adversely affect our business, financial condition or results of operations.

Inflation has the potential to adversely affect our business, financial condition and results of operations by increasing our overall costs. The existence of inflation in the economy has resulted in, and may continue to result in, higher shipping costs, supply shortages, increased costs of labor and other similar effects. As a result of inflation, we have experienced and may continue to experience, cost increases. Although we may take measures to mitigate the impact of inflation, if these measures are not effective our business, financial condition and results of operations could be adversely affected.

Issuer Purchases of Equity Securities

On May 2, 2019, we announced that our Board of Directors approved a $50.0 million share repurchase program with $30.0 million to be utilized for an accelerated share repurchase program, which was completed in January 2020, and $20.0 million reserved for open market repurchases which represents the maximum value of shares that may yet be purchased. No open market repurchases were made during the three-month period ended March 31, 2022.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.