Paragon 28, Inc. - Quarter Report: 2022 September (Form 10-Q)

Balance, December 31, 2021

Acquisitions

Balance, September 30, 2022

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)


☒	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2022


☐	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission File Number: 001-40902

Paragon 28, Inc.

(Exact name of registrant as specified in its charter)


Delaware	27-3170186
( State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
14445 Grasslands Drive Englewood, CO	80112
(Address of principal executive offices)	(Zip Code)

Registrant’s telephone number, including area code: (720) 912-1332

Not Applicable

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

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

Title of each class

Trading

Symbol(s)

Name of each exchange on which registered

Common stock, $0.01 par value per share

FNA

The New York Stock Exchange

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.


Large accelerated filer	☐	Accelerated filer	☐
Non-accelerated filer	☒	Smaller reporting company	☐
Emerging growth company	☒

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

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

As of November 7, 2022, there were 77,126,895 shares of the registrant's common stock, $0.01 par value per share, outstanding.

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains forward-looking statements about us and our industry that involve substantial risks and uncertainties. All statements, other than statements of historical facts, contained in this Quarterly Report on Form 10-Q, including statements regarding our strategy, future financial condition, future operations, projected costs, prospects, plans, objectives of management and expected market growth, are forward-looking statements. In some cases, you can identify forward-looking statements by terminology such as “aim,” “anticipate,” “assume,” “believe,” “contemplate,” “continue,” “could,” “design,” “due,” “estimate,” “expect,” “goal,” “intend,” “may,” “objective,” “plan,” “positioned,” “potential,” “predict,” “seek,” “should,” “target,” “will,” “would” and other similar expressions that are predictions of or indicate future events and future trends, or the negative of these terms or other comparable terminology.

Although we believe that we have a reasonable basis for each forward-looking statement contained in this Quarterly Report on Form 10-Q, we cannot guarantee that the future results, levels of activity, performance or events and circumstances reflected in the forward-looking statements will be achieved or occur at all. Forward-looking statements are subject to risks and uncertainties that could cause actual results to be materially different from those indicated (both favorably and unfavorably). These risks and uncertainties include, but are not limited to, those described in Part I – Item 1A. Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2021, as well as our subsequent reports filed with the Securities and Exchange Commission. Caution should be taken not to place undue reliance on any such forward-looking statements. Except as required by law, we undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events or otherwise.

You should read this Quarterly Report on Form 10-Q and the documents that we reference in this Quarterly Report on Form 10-Q and have filed as exhibits completely and with the understanding that our actual future results may be materially different from what we expect. We qualify all of the forward-looking statements in this Quarterly Report on Form 10-Q by these cautionary statements.

Table of Contents


		Page

PART I.	FINANCIAL INFORMATION

Item 1.	Financial Statements (Unaudited)	1
	Condensed Consolidated Balance Sheets	1
	Condensed Consolidated Statements of Operations and Comprehensive Loss	2
	Condensed Consolidated Statements of Convertible Preferred Series Equity & Stockholders’ Equity	3
	Condensed Consolidated Statements of Cash Flows	5
	Notes to Unaudited Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	22
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	32
Item 4.	Controls and Procedures	33

PART II.	OTHER INFORMATION	34

Item 1.	Legal Proceedings	34
Item 1A.	Risk Factors	34
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	34
Item 3.	Defaults Upon Senior Securities	34
Item 4.	Mine Safety Disclosures	34
Item 5.	Other Information	35
Item 6.	Exhibits	36
	Signatures	37

PART I—FINANCIAL INFORMATION

Item 1. Financial Statements.

PARAGON 28, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share and per share data)

(unaudited)


	September 30, 2022			December 31, 2021
ASSETS
Current assets:
Cash	$	56,325		$	109,352
Trade receivables		35,960			25,939
Inventories, net		54,771			40,241
Income taxes receivable		705			920
Other current assets		1,947			3,078
Total current assets		149,708			179,530

Property and equipment, net		58,591			32,181

Intangible assets, net		20,850			16,505
Goodwill		26,975			6,329

Deferred income taxes		841			—

Total assets	$	256,965		$	234,545

LIABILITIES & STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable	$	13,979		$	13,028
Accrued expenses		19,507			18,232
Other current liabilities		6,889			1,929
Current maturities of long-term debt		735			153
Income taxes payable		497			615
Total current liabilities		41,607			33,957

Long-term liabilities:
Long-term debt net, less current maturities		42,492			7,476
Other long-term liabilities		907			840
Deferred income taxes		59			78
Income taxes payable		527			—
Total liabilities		85,592			42,351

Commitments and contingencies (Note 12)

Stockholders' equity:
Common stock, $0.01 par value, 300,000,000 shares authorized; 77,990,290 and 77,360,806 shares issued, and 77,076,771 and 76,447,287 shares outstanding as of September 30, 2022 and December 31, 2021, respectively		769			763
Additional paid in capital		207,109			197,868
Accumulated deficit		(29,026	)		(463	)
Accumulated other comprehensive (loss) income		(1,497	)		8
Treasury stock, at cost; 913,519 shares as of September 30, 2022 and December 31, 2021		(5,982	)		(5,982	)
Total stockholders' equity		171,373			192,194
Total liabilities & stockholders' equity	$	256,965		$	234,545

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

PARAGON 28, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS

(in thousands, except share and per share data)

(unaudited)


	Three Months Ended September 30,						Nine Months Ended September 30,
	2022			2021			2022			2021
Net revenue	$	46,006		$	35,851		$	129,875		$	104,689
Cost of goods sold		8,491			7,096			22,920			20,209
Gross profit		37,515			28,755			106,955			84,480

Operating expenses
Research and development costs		6,337			4,118			18,100			11,254
Selling, general, and administrative		39,667			28,968			114,857			79,009
Total operating expenses		46,004			33,086			132,957			90,263

Operating loss		(8,489	)		(4,331	)		(26,002	)		(5,783	)

Other income (expense)
Other income (expense)		59			(98	)		610			(124	)
Interest expense, net		(1,093	)		(573	)		(2,865	)		(1,174	)
Total other expense		(1,034	)		(671	)		(2,255	)		(1,298	)

Loss before income taxes		(9,523	)		(5,002	)		(28,257	)		(7,081	)
Income tax expense		201			105			306			437

Net loss	$	(9,724	)	$	(5,107	)	$	(28,563	)	$	(7,518	)
Less: cumulative dividends on Series B convertible preferred stock		—			(574	)		—			(1,516	)
Net loss attributable to common stockholders	$	(9,724	)	$	(5,681	)	$	(28,563	)	$	(9,034	)
Foreign currency translation adjustment		(588	)		(121	)		(1,505	)		(575	)
Comprehensive loss	$	(10,312	)	$	(5,802	)	$	(30,068	)	$	(9,609	)
Weighted average number of common stocks outstanding:
Basic		76,850,949			47,005,334			76,595,118			46,926,344
Diluted		76,850,949			47,005,334			76,595,118			46,926,344
Net loss per share attributable to common stockholders:
Basic	$	(0.13	)		(0.12	)	$	(0.37	)	$	(0.19	)
Diluted	$	(0.13	)		(0.12	)	$	(0.37	)	$	(0.19	)

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

PARAGON 28, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CONVERTIBLE PREFERRED SERIES EQUITY & STOCKHOLDERS’ EQUITY

(in thousands, except for number of shares)

(unaudited)


																			Accumulated
	Series A Convertible				Series B Convertible														Other						Total
	Preferred Stock				Preferred Stock				Common Stock				Additional			Accumulated			Comprehensive			Treasury			Stockholders'
For the Three Months Ended September 30, 2022	Shares		Amount		Shares		Amount		Shares		Amount		Paid-in-Capital			Deficit			Loss			Stock			Equity
Balance, June 30, 2022		—	$	—		—	$	—		76,537,568	$	764	$	202,367		$	(19,302	)	$	(909	)	$	(5,982	)	$	176,938
Net loss		—		—		—		—		—		—		—			(9,724	)		—			—			(9,724	)
Options exercised		—		—		—		—		539,203		5		2,055			—			—			—			2,060
Foreign currency translation		—		—		—		—		—		—		—			—			(588	)		—			(588	)
Employee stock purchase plan		—		—		—		—		—		—		100			—			—			—			100
Stock-based compensation		—		—		—		—		—		—		2,587			—			—			—			2,587
Balance, September 30, 2022		—	$	—		—	$	—		77,076,771	$	769	$	207,109		$	(29,026	)	$	(1,497	)	$	(5,982	)	$	171,373

For the Nine Months Ended September 30, 2022
Balance January 1, 2022		—	$	—		—	$	—		76,447,287	$	763	$	197,868		$	(463	)	$	8		$	(5,982	)	$	192,194
Net loss		—		—		—		—		—		—		—			(28,563	)		—			—			(28,563	)
Common stock repurchase		—		—		—		—		—		—		(266	)		—			—			—			(266	)
Options exercised		—		—		—		—		629,484		6		2,355			—			—			—			2,361
Foreign currency translation		—		—		—		—		—		—		—			—			(1,505	)		—			(1,505	)
Employee stock purchase plan		—		—		—				—		—		100			—			—			—			100
Stock-based compensation		—		—		—		—		—		—		7,052			—			—			—			7,052
Balance, September 30, 2022		—	$	—		—	$	—		77,076,771		769		207,109			(29,026	)		(1,497	)		(5,982	)	$	171,373

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

PARAGON 28, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CONVERTIBLE PREFERRED SERIES EQUITY & STOCKHOLDERS’ EQUITY

(in thousands, except for number of shares)

(unaudited)


																			Accumulated
	Series A Convertible				Series B Convertible														Other						Total
	Preferred Stock				Preferred Stock				Common Stock					Additional		Retained			Comprehensive			Treasury			Stockholders'
For the Three Months Ended September 30, 2021	Shares		Amount		Shares		Amount		Shares			Amount		Paid-in-Capital		Earnings			Income			Stock			Equity
Balance, June 30, 2021		13,812,500	$	4,250		6,608,700	$	37,784		46,969,305		$	470	$	25,171	$	9,065		$	369		$	(5,983	)	$	29,092
Net loss		—		—		—		—		—			—		—		(5,107	)		—			—			(5,107	)
Series B convertible preferred stock dividend		—		—		—		574		—			—		—		(574	)		—			—			(574	)
Options exercised		—		—		—		—		69,907			—		91		—			—			—			91
Foreign currency translation		—		—		—		—		—			—		—		—			(121	)		—			(121	)
Stock-based compensation		—		—		—		—		—			—		1,032		—			—			—			1,032
Balance, September 30, 2021		13,812,500	$	4,250		6,608,700	$	38,358		47,039,212		$	470	$	26,294	$	3,384		$	248		$	(5,983	)	$	24,413

For the Nine Months Ended September 30, 2021
Balance January 1, 2021		13,812,500	$	4,250		6,608,700	$	36,842		46,738,540		$	467	$	22,107	$	12,418		$	823		$	(5,422	)	$	30,393
Net loss		—		—		—		—		—			—		—		(7,518	)		—			—			(7,518	)
Issuance of common stock		—		—		—		—		151,515			1		999		—			—			-			1,000
Common stock repurchase		—		—		—		—		(85,049	)		—		—		—			—			(561	)		(561	)
Series B convertible preferred stock dividend		—		—		—		1,516		—			—		—		(1,516	)		—			—			(1,516	)
Options exercised		—		—		—		—		234,206			2		441		—			—			—			443
Foreign currency translation		—		—		—		—		—			—		—		—			(575	)		—			(575	)
Stock-based compensation		—		—		—		—		—			—		2,747		—			—			—			2,747
Balance, September 30, 2021		13,812,500	$	4,250		6,608,700	$	38,358		47,039,212		$	470	$	26,294	$	3,384		$	248		$	(5,983	)	$	24,413

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

PARAGON 28, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)


	Nine Months Ended September 30,
	2022			2021
Cash flows from operating activities
Net loss	$	(28,563	)	$	(7,518	)
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization		9,624			6,094
Provision for excess and obsolete inventories		(91	)		2,226
Stock-based compensation		7,052			2,747
Employee stock purchase program		100			—
Amortization of debt issuance costs		417			372
Change in fair value of earnout liabilities		(575	)		60
Deferred income taxes		(1,110	)		—
Loss on disposal of property and equipment		902			118
Other		(1,029	)		317
Changes in other assets and liabilities, net of acquisitions:
Accounts receivable		(10,227	)		(807	)
Inventories		(15,316	)		(7,860	)
Other current assets		1,442			(3,952	)
Accounts payable		951			3,404
Accrued expenses and other current liabilities		176			2,935
Income tax receivable/payable		297			668
Net cash used in operating activities		(35,950	)		(1,196	)

Cash flows from investing activities
Purchase of office building		(18,300	)		—
Purchases of property and equipment		(15,637	)		(10,270	)
Proceeds from sale of property and equipment		642			581
Purchases of intangible assets		(1,720	)		(1,196	)
Acquisition, net of cash received		(18,504	)		(15,000	)
Net cash used in investing activities		(53,519	)		(25,885	)

Cash flows from financing activities
Proceeds from draw on term loan		20,000			—
Proceeds from issuance of long-term debt		16,000			25,985
Payments on long-term debt		(367	)		(5,991	)
Payments of debt issuance costs		(420	)		(3,080	)
Proceeds from issuance of common stock		—			1,001
Payments on treasury stock repurchased		—			(561	)
Proceeds from exercise of stock options		2,224			442
Payments on earnout liability		(500	)		—
Net cash provided by financing activities		36,937			17,796

Effect of exchange rate changes on cash		(495	)		(340	)
Net decrease in cash		(53,027	)		(9,625	)
Cash at beginning of period		109,352			17,501
Cash at end of period	$	56,325		$	7,876

Supplemental disclosures of cash flow information:
Cash paid for taxes	$	788		$	381
Cash paid for interest		2,111			670
Purchase of property and equipment included in accounts payable		2,363			58
Series B convertible preferred stock dividend		—			1,516

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

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(in thousands, except share and per share data)

(unaudited)

NOTE 1. BUSINESS AND BASIS OF PRESENTATION

Business

Paragon 28, Inc. (collectively with its subsidiaries, “we”, “us”, “our”, “P28” or the “Company”) develops, distributes, and sells medical devices in the foot and ankle segment of the orthopedic implant marketplace. Our approach to product development is procedurally focused, resulting in a full range of procedure-specific foot and ankle products designed specifically for foot and ankle anatomy. Our products and product families include plates and plating systems, screws, staples, and nails aimed to address all major foot and ankle procedures including fracture fixation, hallux valgus - which includes bunion and hammertoe, ankle, progressive collapsing foot deformity (PCDF) or flatfoot, charcot foot and orthobiologics. P28 is a United States (“U.S.”) based company incorporated in the State of Colorado, with headquarters in Englewood, Colorado. Our sales representatives and distributors are located globally with the majority concentrated in the U.S., Australia, South Africa, and the United Kingdom.

Initial Public Offering

In October 2021, the Company completed its initial public offering (“IPO”), in which it issued and sold 8,984,375 shares of its common stock at the public offering price of $16.00 per share, including 1,171,875 shares of its common stock upon the exercise of the underwriters’ option to purchase additional shares. The Company received net proceeds after deducting underwriting discounts and commissions and offering expenses of $129,118. In connection with the IPO, all of the shares of the Company’s outstanding convertible preferred stock automatically converted into an aggregate of 20,421,200 shares of the common stock.

Basis of Presentation and Consolidation

The accompanying Condensed Consolidated Financial Statements include the accounts of Paragon 28, Inc. and its subsidiaries, all of which are wholly-owned. The accompanying Condensed Consolidated Financial Statements have been prepared in conformity with accounting principles generally accepted in the U.S. (“U.S. GAAP”) and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim financial information. Accordingly, they do not include all of the information required by U.S. GAAP for complete financial statements. The interim Condensed Consolidated Financial Statements reflect all adjustments that are of a normal recurring nature and that are considered necessary for a fair representation of the results for the periods presented and should be read in conjunction with the audited Consolidated Financial Statements and notes thereto for the year ended December 31, 2021, which include a complete set of footnote disclosures, including our significant accounting policies. The audited Consolidated Financial Statements and notes thereto for the year ended December 31, 2021 are included in the Company’s Annual filing on Form 10-K filed with the SEC on March 8, 2022. The results for interim periods are not necessarily indicative of the results that may be expected for a full fiscal year or for any other future period. All intercompany balances and transactions have been eliminated in consolidation.

NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Use of Estimates

The preparation of the financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Because future events and their effects cannot be determined with precision, actual results could differ significantly from these estimates. Any changes in these estimates will be reflected in the Company’s Condensed Consolidated Financial Statements. Significant items subject to such estimates and assumptions include the determination of the collectability of trade receivables, inventory obsolescence, impairment of long-lived assets, recoverability of goodwill and intangible assets, contingent earn-out liabilities, income taxes and stock-based compensation.

Foreign Currency Translation

The Condensed Consolidated Financial Statements are presented in U.S. dollars. The Company’s non-U.S. subsidiaries have a functional currency (i.e., the currency in which operational activities are primarily conducted) that is other than the U.S. dollar, generally the currency of the country in which such subsidiaries are domiciled. Such subsidiaries’ assets and liabilities are translated into U.S. dollars at quarter-end exchange rates, while revenue and expenses are translated at average exchange rates during the quarter based on the daily closing exchange rates. Adjustments that result from translating amounts from a subsidiary’s functional currency to U.S. dollars are reported in Accumulated Other Comprehensive (Loss) Income, net of tax.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

Business Combinations

We allocate the purchase consideration to the identifiable net assets acquired, including intangible assets and liabilities assumed, based on estimated fair values at the date of the acquisition. The excess of the fair value of the purchase consideration over the fair value of the identifiable assets and liabilities, if any, is recorded as goodwill. During the measurement period, which is up to one year from the acquisition date, we may adjust provisional amounts that were recognized at the acquisition date to reflect new information obtained about facts and circumstances that existed as of the acquisition date.

Determining the fair value of assets acquired and liabilities assumed requires significant judgment, including the selection of valuation methodologies including the income approach, the cost approach, and the market approach. Significant assumptions used in those methodologies include, but are not limited to, the expected values of the underlying metric, the systematic risk embedded in the underlying metric, the volatility of the underlying metric, the risk-free rate, and the counterparty risk. The use of different valuation methodologies and assumptions is highly subjective and inherently uncertain and, as a result, actual results may differ materially from estimates.

Trade Receivables, Less Allowance for Doubtful Accounts

The Company estimates an allowance for doubtful accounts based upon an evaluation of the current status of receivables, historical experience, and other factors as necessary. It is reasonably possible that the Company’s estimate of the allowance for doubtful accounts will change. As of September 30, 2022 and December 31, 2021 the balance for allowance for doubtful accounts was not material.

Inventories, Net

The Company estimates a reserve for obsolete and slow-moving inventory based on current inventory levels, historical sales and future projected demand. Charges (benefit) for excess and obsolete inventory are included in Cost of goods sold and were $366 and $1,004 for the three months ended September 30, 2022 and 2021, respectively and were $(62) and $2,229 for the nine months ended September 30, 2022 and 2021, respectively. The inventory reserve was $16,218 and $19,374 as of September 30, 2022 and December 31, 2021, respectively.

Intangibles

The costs associated with applying for patents and trademarks are capitalized. Patents are amortized on a straight-line basis over the lesser of the patent’s economic or legal life, which is seventeen years. Costs associated with capitalized patents include third-party attorney fees and other third-party fees as well as costs related to the following: the preparation of patent applications, government filings and registration fees, drawings, computer searches, and translations related to specific patents. Trademarks that are anticipated to be renewed every ten years have an indefinite life and are not amortized but tested for impairment annually. Once it is determined a trademark will no longer be renewed, the trademark is amortized over the remainder of the trademark’s registration period. Customer relationships are amortized over an estimated useful life of three to seven years on a straight-line basis. Other intangibles, which mainly consist of noncompete arrangements, are amortized over an estimated useful life of three years on a straight-line basis. Developed technology is amortized over an estimated useful life of twelve years on a straight-line basis.

Amortizable intangible assets are assessed for impairment upon triggering events that indicate that the carrying value of an asset may not be recoverable. Recoverability is measured by a comparison of the carrying amount to future net undiscounted cash flows expected to be generated by the associated asset. If the asset’s carrying value is determined to not be recoverable, the impairment to be recognized is measured by the amount by which the carrying amount exceeds the fair market value of the intangible assets. No impairment charges were recorded in any of the periods presented.

Indefinite-lived trademark assets are reviewed for impairment annually or whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. The Company can elect to first apply the optional qualitative impairment assessment to determine whether the indefinite-lived intangible asset is more-likely-than-not impaired. If, on the basis of the qualitative impairment assessment, an entity asserts that it is more likely than not that the indefinite-lived intangible asset is impaired, the Company would be required to calculate the fair value of the asset for an impairment test. Impairment loss is recognized if the carrying amount of the asset exceeds its fair value.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

A qualitative assessment considers macroeconomic and other industry-specific factors, such as trends in short-term and long-term interest rates and the ability to access capital, and company specific factors such as trends in revenue generating activities, and merger or acquisition activity. If the Company elects to bypass qualitatively assessing its indefinite-lived intangible assets, or it is not more likely than not that the fair value of the intangible asset exceeds its carrying value, management estimates the fair value of the intangible asset and compares it to the carrying value. The estimated fair value of the intangible asset is established using an income approach based on a discounted cash flow model that includes significant assumptions about the future operating results and cash flows of the intangible asset or assets.

Goodwill

Goodwill represents the excess of the purchase price as compared to the fair value of net assets acquired and liabilities assumed. Goodwill is not amortized, but is tested for impairment annually or when indications of impairment exist. We can elect to qualitatively assess goodwill for impairment if it is more likely than not that the fair value of a reporting unit exceeds its carrying value.

Impairment exists when the carrying amount, including goodwill, of the reporting unit exceeds its fair value, resulting in an impairment charge for this excess (not to exceed the carrying amount of the goodwill). Our annual impairment testing date is October 1. The impairment, if determined, is recorded within Operating expenses in the Condensed Consolidated Statements of Operations and Comprehensive Income (Loss) in the period the determination is made. There were no impairments recorded during the periods presented.

Contingent Earn-out Consideration

Business combinations may include contingent earn-out consideration as part of the purchase price under which the Company will make future payments to the seller upon the achievement of certain milestones. The fair value of the contingent earn-out consideration is estimated as of the acquisition date at the present value of the expected contingent payments and is subsequently remeasured at each balance sheet date. Two methodologies may be considered in the valuation: the scenario-based model (“SBM”) and Monte Carlo simulation. The SBM relies on multiple outcomes to estimate the likelihood of future payoff of the contingent consideration. The resulting earnout payoff is then probability-weighted and discounted at an appropriate risk adjusted rate in order to arrive at the present value of the expected earnout payment. The Monte Carlo simulation is used to value the non-linear contingent considerations based on projected financial metrics. Each trial of the Monte Carlo simulation draws a value from the assumed distribution for the underlying metric. The earnout payoff for each simulation trial is calculated based on that particular simulated path for the underlying metrics and then discounted to present value using the risk-free rate, adjusted for counterparty credit risk. The value of the earnout is estimated as the average value from all simulation trials. The fair value estimates use unobservable inputs that reflect our own assumptions as to the ability of the acquired business to meet the targeted benchmarks and discount rates used in the calculations. The unobservable inputs are defined in ASC Topic 820, “Fair Value Measurements and Disclosures,” as Level 3 inputs.

We review the probabilities of achievement of the earnout milestones to determine impact on the fair value of the earnout consideration on a quarterly basis over the earn-out period. Actual results are compared to the estimates and probabilities of achievement used in our forecasts. Should actual results of the acquired business increase or decrease as compared to our estimates and assumptions, the estimated fair value of the contingent earn-out consideration liability will increase or decrease, up to the contractual limit, as applicable. Changes in the estimated fair value of the contingent earn-out consideration are recorded in other (expense) income in the Consolidated Statements of Operations and Comprehensive (Loss) Income and are reflected in the period in which they are identified. Changes in the estimated fair value of the contingent earn-out consideration may materially impact or cause volatility in our operating results.

Revenue Recognition

Revenue is recorded, net of estimated losses for bad debts, when our performance obligation is satisfied which is when our customers take title of the product, and typically when the product is used in surgery. As such, the timing of revenue recognition may differ from the timing of invoicing to our customers. We have recorded unbilled accounts receivable related to this timing difference of $3,987 and $3,637 as of September 30, 2022 and December 31, 2021, respectively.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

Accounting Pronouncements Issued Not Yet Adopted

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842) (“ASU 2016-02”), which sets out the principles for the recognition, measurement, presentation and disclosure of leases for both parties to a contract (i.e., lessees and lessors). The new standard requires lessees to apply a dual approach, classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively a financed purchase by the lessee. This classification will determine whether lease expense is recognized based on an effective interest method or on a straight-line basis over the term of the lease, respectively. A lessee is also required to record a right-of-use asset and a lease liability for all leases with a term of greater than 12 months regardless of their classification. Leases with a term of 12 months or less will be accounted for similar to existing guidance for operating leases today. ASU 2016-02 supersedes the previous leases standard, ASC 840, Leases. ASU 2016-02, as subsequently amended for various technical issues, is effective for emerging growth companies following private company adoption dates in fiscal years beginning after December 15, 2021, and interim periods with fiscal years beginning after December 15, 2022. The Company is currently evaluating the new guidance, but does not believe it will have a material impact on the Consolidated Financial Statements.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments (“ASU 2016-13”), which requires entities to estimate all expected credit losses for certain types of financial instruments, including trade receivables, held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. The updated guidance also expands the disclosure requirements to enable users of financial statements to understand the entity’s assumptions, models and methods for estimating expected credit losses over the entire contractual term of the instrument from the date of initial recognition of that instrument. ASU 2016-13, as subsequently amended for various technical issues, is effective for emerging growth companies following private company adoption dates for fiscal years, and for interim periods within those fiscal years, beginning after December 15, 2022, with early adoption permitted. The Company is currently evaluating the new guidance to determine the impact it will have on the Consolidated Financial Statements.

In December 2019, the FASB issued ASU 2019-12, Income Taxes (Topic 740) (“ASU 2019-12”), which is part of the FASB’s overall simplification initiative to reduce the costs and complexity of applying accounting standards while maintaining or improving the usefulness of the information provided to users of financial statements. ASU 2019-12 simplifies accounting guidance for intra-period allocations, deferred tax liabilities, year-to-date losses in interim periods, franchise taxes, step-up in tax basis of goodwill, separate entity financial statements, and interim recognition of tax laws or rate changes. ASU 2019-12 is effective for emerging growth companies following private company adoption dates in fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022, with early adoption permitted. The adoption of this guidance is not expected to have a significant impact on the Company's Consolidated Financial Statements and related disclosures.

NOTE 3. BUSINESS COMBINATIONS

Disior

On January 10, 2022 ("Disior Acquisition Date"), the Company entered into a Securities Purchase Agreement (“SPA”) with Disior LTD. (“Disior”) and acquired 100% of the outstanding equity of Disior (the "Disior Acquisition"). Disior is a leading three-dimensional analytics pre-operative planning software company based in Helsinki, Finland, focused on the complex foot and ankle anatomy. The Disior Acquisition allowed the Company to broaden its capabilities within the pre-operative and intra-operative stages of the foot and ankle care and expand the Company's Smart 28 ecosystem.

The aggregate purchase price of the Disior Acquisition was approximately $26,246 inclusive of an earn-out provision with a fair value of $6,550 and certain net working capital adjustments and deferred payments totaling a net payable of $222. The SPA provided for potential earn-out consideration to the seller in connection with the achievement of certain milestones with various expiration dates through the second anniversary of the Disior Acquisition Date. The earn-out has a maximum payment not to exceed $8,000 in the aggregate. If an individual milestone is not met by the specified milestone expiration date, the earn-out related to that specific milestone will not be paid. The acquisition was primarily funded by a $20,000 draw on the Company's term loan.

The Company has accounted for the acquisition of Disior under ASC Topic 805, Business Combinations (“ASC 805”). Disior’s results of operations are included in the Condensed Consolidated Financial Statements beginning after January 10, 2022, the Disior Acquisition Date.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

The following table summarizes the purchase price:


Consideration Paid
Cash consideration	$	19,696
Contingent consideration		6,550
Total consideration	$	26,246

Acquisition-related costs, which consisted of fees incurred for advisory, legal, and accounting services, were $0 and $761 for the three and nine months ended September 30, 2022, respectively, and were included in Selling, general and administrative expenses in the Company’s Condensed Consolidated Statements of Comprehensive Loss. No acquisition-related costs were incurred during the three and nine months ended September 30, 2021.

Certain amounts recorded in connection with the Disior Acquisition are still considered preliminary as we finalize our fair value estimates and provisional amounts. Provisional amounts include items related to working capital adjustments, identified intangibles, and earnout consideration.

During the measurement period, which is up to one year from the Disior Acquisition Date, we may adjust provisional amounts that were recognized at the Disior Acquisition Date to reflect new information obtained about facts and circumstances that existed as of the Disior Acquisition Date.

The following table summarizes the fair values of the assets acquired and liabilities assumed as of the Disior Acquisition Date:


			Measurement
	Preliminary allocation		period adjustments		Adjusted allocation
Assets acquired:
Cash and cash equivalents	$	1,192	$	—	$	1,192
Other current assets		410		—		410
Intangible assets		4,900		—		4,900
Goodwill		20,343		303		20,646
Total assets acquired	$	26,845	$	303	$	27,148

Liabilities assumed:
Accruals and other current liabilities	$	615	$	—	$	615
Deferred tax liabilities, net		287		—		287
Total liabilities assumed	$	902		—	$	902
Net assets acquired	$	25,943	$	303	$	26,246

Based on an adjustment to working capital as defined by the purchase agreement and included as part of the purchase price in the final settlement statement, we made one measurement period adjustment of $303 as of September 30, 2022.

Identified intangible assets consist of tradenames and developed technology. The fair value of each were determined with the assistance of an external valuation specialist using a combination of the income, market, cost approach, and relief from royalty rate method, in accordance with ASC 805. The purchase consideration was allocated to the identifiable net assets acquired based on estimated fair values at the date of the acquisition. The purchase consideration and its allocation are preliminary and may be adjusted to reflect new information obtained about facts and circumstances that existed as of the acquisition date. The excess of the fair value of the purchase consideration over the fair value of the identifiable assets and liabilities, if any, was recorded as goodwill. The goodwill is attributable to the expected synergies with the Company’s existing operations. The useful life on intangible assets was determined by management to be in line with the Company’s policy on intangible assets. Both determinations are outlined in the table below:


	Fair Value		Estimated Useful Life (in years)
Developed Technology	$	4,500	12
Tradenames		400	Indefinite
	$	4,900

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

The entire amount of the purchase price allocated to goodwill will not be deductible for income tax purposes under the Finnish Income Tax Act.

There is no supplemental proforma presentation of operating results of the acquisition of Disior due to the immaterial impact on the Company’s Consolidated operations for the three and nine months ended September 30, 2021.

Additive Orthopaedics

On May 28, 2021 (“Closing Date”), the Company entered into an Asset Purchase Agreement (“APA”) with Additive Orthopaedics, LLC (“Additive” or “Seller”) and completed an acquisition of substantially all of the operating and intangible assets of Additive, for total cash consideration of $15,000 at closing. The APA also provided for potential earn-out consideration to the Seller in connection with the achievement of certain milestones, including both project-based and revenue-based milestones, with various expiration dates through the fourth anniversary of the Closing Date. The earn-out has a maximum payment not to exceed $9,500, in the aggregate. If an individual milestone is not met by the specified milestone expiration date, the earn-out related to that specific milestone will not be paid. The contingent earn-out consideration had an estimated fair value of $2,870 as of the Closing Date. Acquisition related costs were approximately $524 during the nine months ended September 30, 2021 and were included in Selling, general, and administrative expenses in the Consolidated Statements of Operations and Comprehensive Loss. No acquisition related costs were incurred during the three and nine months ended September 30, 2022.

Additive’s 3D-printed Patient Specific Talus Spacer is the only U.S. Food and Drug Administration-approved patient-specific total talus replacement implant authorized in the U.S. for the treatment of avascular necrosis. The acquisition of Additive allowed the Company to further expand into the patient specific implant market.

The Company has accounted for the acquisition of Additive under ASC Topic 805, Business Combinations (“ASC 805”). Additive’s results of operations are included in the Condensed Consolidated Financial Statements beginning after May 28, 2021, the acquisition date.

The following table summarizes the purchase consideration transferred in connection with the acquisition of Additive and consists of the following:


Consideration Paid
Cash consideration	$	15,000
Contingent consideration		2,870
Total consideration	$	17,870

The following table summarizes the fair values of the assets acquired and liabilities assumed as of the Closing Date:


Assets acquired:
Accounts receivable	$	761
Inventory		113
Intangible assets		11,560
Goodwill		6,329
Total Assets Acquired		18,763

Liabilities assumed:
Accounts payable		796
Accrued expenses	$	97
Total Liabilities Assumed		893
Net assets acquired	$	17,870

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

Identified intangible assets consist of noncompete arrangements, customer relationships, and developed technology. The fair value of each were determined with the assistance of an external valuation specialist using a combination of the income, market, and asset approach, in accordance with ASC 805. The purchase consideration was allocated to the identifiable net assets acquired based on estimated fair values at the date of the acquisition. The excess of the fair value of the purchase consideration over the fair value of the identifiable assets and liabilities, if any, was recorded as goodwill. The goodwill is attributable to the expected synergies with the Company’s existing operations. The entire amount of the purchase price allocated to goodwill will be deductible for income tax purposes pursuant to Internal Revenue Code Section 197 over a 15-year period. The useful life determination was made by management in line with the Company’s policy on assets. Both determinations are outlined in the table below:


	Fair Value		Estimated Useful Life (in years)
Noncompete arrangements	$	30	3
Customer relationships		240	3
Developed technology		11,290	12
	$	11,560

There is no supplemental proforma presentation of operating results of the acquisition of Additive due to the immaterial impact on the Company’s Consolidated operations for the three and nine months ended September 30, 2021.

NOTE 4. GOODWILL AND INTANGIBLE ASSETS

Goodwill

As of September 30, 2022 and December 31, 2021, goodwill was $26,975 and $6,329, respectively; the activity is as follows:

Intangibles

Intangible assets as of September 30, 2022 are as follows:


	Estimated Useful Life (in years)	Gross Carrying Amount		Accumulated Amortization		Net Carrying Amount
Trademarks and tradenames, indefinite-lived	Indefinite	$	853	$	—	$	853
Patents, definite-lived	15.1		6,466		2,301		4,165
Customer relationships	3-7		1,733		201		1,532
Developed technology	12		15,790		1,507		14,283
Other intangibles	3		30		13		17
Total intangible assets, net		$	24,872	$	4,022	$	20,850

Intangible assets, excluding the Disior intangible assets, increased $1,720 during the nine months ended September 30, 2022 primarily due to the purchase of new patents and customer relationships.

Intangible assets as of December 31, 2021, are as follows:


	Estimated Useful Life (in years)	Gross Carrying Amount		Accumulated Amortization		Net Carrying Amount
Trademarks, indefinite-lived	Indefinite	$	413	$	—	$	413
Patents, definite-lived	13.2		5,335		1,133		4,202
Customer relationships	3-7		1,167		47		1,120
Developed technology	12		11,290		549		10,741
Other intangibles	3		35		6		29
Total intangible assets, net		$	18,240	$	1,735	$	16,505

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

Amortization expense is included in Selling, general, and administrative expenses and was $440 and $494 for the three months ended September 30, 2022 and 2021, respectively. Amortization expense for the nine months ended September 30, 2022 and 2021 totaled $2,290 and $635, respectively.

Expected future amortization expense is as follows:


2022 (Remaining)	$	424
2023		1,695
2024		1,643
2025		1,604
2026		1,604
2027		1,603

No impairment charges related to intangibles and goodwill were recorded for the three and nine months ended September 30, 2022 and 2021.

NOTE 5. CONTINGENT EARN-OUT CONSIDERATION

The following table provides a reconciliation of our Level 3 earn-out liabilities for the nine months ended September 30, 2022:


Balance, December 31, 2021	$	2,310
Acquisition date fair value of earn-out liabilities		6,550
Achieved milestone paid		(500	)
Change in fair value of earn-out liabilities		(575	)
Balance, September 30, 2022	$	7,785

The current portion of contingent earn-out liability is included in Other-current liabilities and the non-current portion is included in Other long-term liabilities on the Condensed Consolidated Balance Sheets. As of September 30, 2022, the current portion was $6,878. During the three and nine months ended September 30, 2022, we reassessed the estimate of the earn-out liabilities which resulted in a decrease of $35 and $575, respectively, classified as other income within the Condensed Consolidated Statement of Operations and Comprehensive Loss. In addition, we completed and paid our second project milestone for Additive Orthopaedics as of September 30, 2022.

NOTE 6. DEBT

Long-term debt as of September 30, 2022 and December 31, 2021 consists of the following:


	September 30, 2022			December 31, 2021
MidCap Term Loan	$	30,000		$	10,000
Bank of Ireland Note Payable		112			245
Vectra Term Loan Facility		15,733			—
	$	45,845		$	10,245
Less: deferred issuance costs		(2,618	)		(2,616	)
Total debt, net of issuance costs		43,227			7,629
Less: current portion		(735	)		(153	)
Long-term debt, net, less current maturities	$	42,492		$	7,476

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

MidCap Credit Agreements

On May 6, 2021, the Company entered into a new credit agreement with MidCap Financial Trust to provide a total of $70,000 including up to a $30,000 revolving loan (“MidCap Revolving Loan”) and up to a $40,000 term loan (“MidCap Term Loan”), secured by substantially all the Company’s assets, debt, and equity (“MidCap Credit Agreements”). The MidCap Term Loan is comprised of two tranches, the first of which provides a commitment amount of $10,000, and the second a commitment of $30,000. The MidCap Term Loan and Midcap Revolving Loan bear a variable interest rate of LIBOR plus 6% and LIBOR plus 3%, respectively, and mature on the earlier of May 1, 2026 or a change in control event (the "Termination Date"). The entire principal balances of the MidCap Revolving Loan and MidCap Term Loan are due on the Termination Date. Interest payments are payable monthly, with optional principal prepayments allowed under the MidCap Credit Agreements. The Midcap Loan Agreements require us to maintain certain financial covenants as defined in the Midcap Loan Agreements. Total debt issuance costs associated with the MidCap Credit Agreements was $3,288. Amortization expense associated with such debt issuance costs totaled $165 and $409 for the three and nine months ended September 30, 2022, respectively, and $192 and $318 for the three and nine months ended September 30, 2021, respectively, and is included in Interest expense on the Condensed Consolidated Statements of Operations and Comprehensive Loss.

Vectra Bank Colorado Loan Agreements

On March 27, 2020, the Company entered into an Amended and Restated Loan Agreement (the “Vectra Loan Agreement”) with Vectra Bank Colorado. The Vectra Loan Agreement refinanced the Company's existing Term Loan and existing Buyout Loan into a single term loan in the aggregate principal amount of $6,802 (the “2020 Term Loan”) and increased the maximum principal amount of the existing Revolving Loan to $15,000 (the 2020 Revolving Loan and together with the 2020 Term Loan, “2020 Loans”). The maturity date for both loans was September 30, 2020 and it was subsequently extended to October 5, 2023. The Vectra Loan Agreement was secured by substantially all the Company’s assets. The Vectra Loan Agreement contained financial and other customary covenants and bore an interest rate of 3%. The Company repaid the 2020 Loans in 2021 in connection with entering into the Midcap Term Loan Agreement described above.

On March 24, 2022 the Company entered into a secured term loan facility (the “Zions Facility”) with Zions Bancorporation, N.A. dba Vectra Bank Colorado in the principal amount of $16,000. The loans under the Zions Facility (i) bear interest at a variable rate per annum equal to the sum of (a) a one-month Term SOFR based rate, plus (b) 1.75%, adjusted on a monthly basis and (ii) mature on March 24, 2037. Principal and interest payments are payable monthly, with optional prepayments allowed without premium or penalty. Total debt issuance costs associated with the Zions Facility was $271. Amortization expense associated with such debt issuance costs totaled $4 and $9 for the three and nine months ended September 30, 2022, respectively.

Bank of Ireland Note Payable

On June 12, 2020, the Company entered a term loan with Bank of Ireland in a principal amount of $474 (the “Bank of Ireland Note Payable”). The Bank of Ireland Note Payable bears an annual interest rate of 4% and is due in equal monthly installments over a 36-month period, including interest. The Bank of Ireland Note Payable contains financial and other customary covenants.

NOTE 7. CONVERTIBLE PREFERRED SERIES EQUITY AND STOCKHOLDERS’ EQUITY

On October 8, 2021, the Company filed a certificate of amendment with the Secretary of State of the State of Delaware, pursuant to which, the Company effected a 5-for-1 forward stock split of the Company’s authorized, issued and outstanding common stock, the Company’s authorized, issued and outstanding Series A convertible preferred stock, and the Company’s authorized, issued and outstanding Series B convertible preferred stock (the “Stock Split”). All share amounts and per share data presented in the accompanying Consolidated Financial Statements have been retrospectively adjusted to reflect the forward stock split for all periods presented. Under its Amended and Restated Certificate of Incorporation, the Company has a total of 310,000,000 shares of capital stock authorized for issuance, consisting of 300,000,000 shares of common stock, par value of $0.01 per share, and 10,000,000 new shares of convertible preferred stock, par value of $0.0001 per share.

Common Stock

In October 2021, the Company completed its initial public offering ("IPO"), in which it issued and sold 8,984,375 shares of its common stock at the public offering price of $16.00 per share, including 1,171,875 shares of its common stock upon exercise of the underwriters' option to purchase additional shares.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

Series A Convertible Preferred Stock

In December 2011, the Company issued an aggregate of 3,250,005 shares of its Series A convertible preferred stock at a price of $0.30769 per share, resulting in total proceeds of approximately $1,000.

In February and November 2012, the Company issued an aggregate of 10,562,495 shares of its Series A convertible preferred stock at a price of $0.30769 per share, resulting in total proceeds of approximately $3,250.

In connection with the IPO, all of the shares of the Company’s outstanding Series A convertible preferred stock automatically converted into an aggregate of 13,812,500 shares of the common stock.

Convertible Series B Preferred Stock

In July 2020, the Company issued an aggregate of 6,608,700 shares of its Series B convertible preferred stock at a price of $5.75 per share, resulting in total net proceeds of approximately $36,030, net of issuance costs of $1,970.

In connection with the IPO, all of the shares of the Company’s outstanding Series B convertible preferred stock automatically converted into an aggregate of 6,608,700 shares of the common stock. Pursuant to the terms of the Series B convertible preferred stock offering, the $2,328 of cash dividends accrued as of October 19, 2021 were cancelled upon conversion of the Series B preferred stock into common stock.

Treasury Stock

The Company purchased a total of 0 and 85,050 shares of its common stock during the nine months ended September 30, 2022 and 2021, respectively, for $0 and $561, respectively. The Company did not purchase any shares of its common stock during the three months ended September 30, 2022 and 2021. All repurchased shares were recorded in Treasury stock at cost.

NOTE 8. EARNINGS (LOSS) PER SHARE

Basic net (loss) income per share is computed by dividing net (loss) income attributable to common stockholders (the numerator) by the weighted average number of common stock outstanding for the period (the denominator). Diluted net income per common stock attributable to common stockholders is computed by dividing net income by the weighted average number of common stocks outstanding during the period adjusted for the dilutive effects of common stock equivalents using the treasury stock method or the method based on the nature of such securities. In periods when losses from continuing operations are reported, the weighted-average number of common stock outstanding excludes common stock equivalents because their inclusion would be anti-dilutive. The computation of net loss per share for the three and nine months ended September 30, 2022 and 2021, respectively was as follows:


	Three Months Ended September 30,						Nine Months Ended September 30,
	2022			2021			2022			2021
Net loss attributable to common stockholders
Net loss attributable to Paragon 28, Inc.	$	(9,724	)	$	(5,107	)	$	(28,563	)	$	(7,518	)
Less: Dividends on Series B convertible preferred stock		—			(574	)		—			(1,516	)
Net loss attributable to common stockholders	$	(9,724	)	$	(5,681	)	$	(28,563	)	$	(9,034	)

Weighted-average common stock outstanding:
Basic		76,850,949			47,005,334			76,595,118			46,926,344
Diluted		76,850,949			47,005,334			76,595,118			46,926,344

Loss per share:
Basic	$	(0.13	)	$	(0.12	)	$	(0.37	)	$	(0.19	)
Diluted	$	(0.13	)	$	(0.12	)	$	(0.37	)	$	(0.19	)

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

The following outstanding potentially dilutive securities were excluded from the calculation of diluted net loss per share attributable to common stockholders because their impact would have been antidilutive for the period presented:


	As of September 30, 2022
	2022		2021
Stock options		7,304,770		5,307,200
Restricted stock units		144,547		—
Series A convertible preferred stock		—		13,812,500
Series B convertible preferred stock		—		6,608,700

NOTE 9. STOCK-BASED COMPENSATION

Employee Stock Purchase Plan

The Employee Stock Purchase Plan (“ESPP”) was adopted by the Company’s Board of Directors on October 8, 2021. The 2021 Plan was adopted by the Company’s stockholders on October 19, 2021 and became effective on the date prior to the first date of the effectiveness of the registration statement on Form S-1 filed by the Company. The ESPP initially provides participating employees with the opportunity to purchase up to an aggregate of 1,329,040 shares of the Company’s common stock at 85% of the market price at the lesser of the date the purchase right is granted or exercisable. The Company currently holds offerings consisting of six month periods commencing on January 1 and July 1 of each calendar year, with a single purchase date at the end of the purchase period on June 30 and December 31 of each calendar year. The ESPP provides that the number of shares reserved and available for issuance will automatically increase each January 1, beginning on January 1, 2022 and ending on January 1, 2031, by the lesser of 1% of all classes of the Company’s common stock outstanding on the immediately preceding December 31, or such smaller number of shares as determined by the Company’s Board or the committee. On January 1, 2022, the number of shares reserved and available for issuance for the ESPP was increased by 764,473 shares. As of September 30, 2022, 2,076,453 shares remained available for issuance.

Eligible employees can contribute up to 15% of their gross base earnings for purchases under the ESPP through regular payroll deductions. Purchase of shares under the ESPP is limited for each employee at $25,000 worth of the Company’s shares of common stock (determined using the lesser of (i) the market price of a share of common stock on the first day of an applicable purchase period and (ii) the market price of a share of common stock on the purchase date) for each calendar year in which a purchase right is outstanding.

During the nine months ended September 30, 2022 and 2021, the Company issued 17,060 and 0 shares, respectively, upon exercise of purchase rights. The Company recognizes compensation expense on a straight-line basis over the service period. During the three months ended September 30, 2022, and 2021, the Company recognized $100 and $0, respectively, of compensation expense related to the ESPP. During the nine months ended September 30, 2022 and 2021, the Company recognized $100 and $0, respectively, of compensation expense related to the ESPP.

Below are the assumptions used for the nine months ended September 30, 2022 in determining the fair value of shares under the ESPP. No shares were issued during the nine months ended September 30, 2021.


	Nine Months Ended September 30,
	2022
Expected volatility		70.3	%
Expected dividends		—
Expected term (in years)		0.50
Discount rate		10.0	%
Risk-free rate		2.79	%

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

2021 Incentive Award Plan

The 2021 Incentive Award Plan (“2021 Plan”) was adopted by the Company’s Board of Directors on October 8, 2021. The 2021 Plan was adopted by the Company’s stockholders on October 19, 2021 and became effective on the date prior to the first date of the effectiveness of the registration statement on Form S-1 filed by the Company. The 2021 Plan authorizes the Company to issue an initial aggregate maximum number of shares of common stock equal to (i) 7,641,979 shares plus (ii) the number of shares that are available for issuance under the 2011 Plan plus (iii) any shares that are subject to 2011 Plan that become available for issuance (via expiration, forfeitures, etc.) plus (iv) an increase commencing on January 1, 2022 and continuing annually on the anniversary thereof through January 1, 2031, equal to the lesser of (a) 5% of the shares of all classes of the Company’s common stock outstanding on the last day of the immediately preceding calendar year or (b) such smaller number of shares as determined by the Company’s Board or the committee. On January 1, 2022, the number of shares reserved and available for issuance for the 2021 Plan was increased by 3,822,364 shares. As of September 30, 2022, the Company had reserved 10,760,114 shares of common stock for future grants.

Stock Options

There were 359,054 and 816,250 options granted during the nine months ended September 30, 2022 and 2021, respectively.

During the three months ended September 30, 2022 and 2021, the Company recognized $2,254 and $1,032, respectively, of compensation expense related to stock options. During the nine months ended September 30, 2022 and 2021, the Company recognized $6,351 and $2,747, respectively, of compensation expense related to stock options. Stock-based compensation expenses are recorded in Selling, general and administrative expenses in the Condensed Consolidated Statements of Operations and Comprehensive Loss.

The Company received cash in the amount of $1,923 and $91 from the exercise of stock options for the three months ended September 30, 2022 and 2021, respectively. The Company received cash in the amount of $2,224 and $442 from the exercise of stock options for the nine months ended September 30, 2022 and 2021, respectively. The tax benefit from equity options exercised were $436 and $19 for the three months ended September 30, 2022 and 2021, respectively. The tax benefit from equity options exercised were $504 and $93 for the nine months ended September 30, 2022 and 2021, respectively.

During the first nine months of 2022, the Company granted certain officers and contractors of the Company an aggregate of 311,840 time-based options at a weighted average strike price of $16.08.

During the first nine months of 2021, the Company granted certain officers and contractors of the Company an aggregate of 816,250 time-based options at a weighted average strike price of $6.60.

Below are the assumptions used for the nine months ended September 30, 2022 and 2021 in determining the fair value of each option award:


	Nine Months Ended September 30,
	2022			2021
Expected volatility		52.0	%	52% - 54%
Expected dividends		—			—
Expected term (in years)		5.60		5.75 - 6.25
Risk-free rate		2.01	%	0.47% - 0.93%

The aggregate intrinsic value of the options outstanding as of September 30, 2022 is $59,651. The aggregate intrinsic value of vested and exercisable options as of September 30, 2022 is $43,280. The weighted average fair value of options granted during the nine months ended September 30, 2022 and 2021 was $9.26 and $5.04, respectively, on the dates of grant.

As of September 30, 2022, there was approximately $21,662 total unrecognized compensation cost related to non-vested stock option compensation arrangements, which is expected to be recognized over a weighted average period of 3.03 years.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

The following summarizes the Company’s stock option plan and the activity for the nine months ended September 30, 2022:


	Shares			Weighted-Average Exercise Price		Weighted-Average Remaining Contractual Term (Years)
Outstanding, December 31, 2021		7,953,018		$	9.02		8.16
Granted		359,054			16.08
Exercised or released		(617,578	)		3.89
Forfeited or expired		(389,724	)		11.84
Outstanding, September 30, 2022		7,304,770		$	9.66		7.64
Exercisable, September 30, 2022		3,324,831		$	4.80		6.17
Vested and expected to vest at September 30, 2022		7,304,770		$	9.66		7.64

Restricted Stock Units

The following summarizes the Company’s restricted stock units activity for the nine months ended September 30, 2022.


	Restricted Stock Units			Weighted-Average Fair Value
Outstanding, December 31, 2021		79,886		$	17.84
Granted		87,641			17.12
Vested		(14,062	)		16.00
Forfeited or expired		(8,918	)		16.82
Outstanding, September 30, 2022		144,547		$	17.64
Vested and expected to vest at September 30, 2022		144,547		$	17.64

During the three and nine months ended September 30, 2021, no Restricted Stock Units (“RSUs”) were granted, vested or forfeited.

The grant date fair value for RSUs is the market price of the common stock on the date of grant. The total fair value of RSUs vested during the three and nine months ended September 30, 2022 was $0 and $225, respectively. The total fair value of RSUs vested during the three and nine months ended September 30, 2021 was $0.

During the three and nine months ended September 30, 2022, the Company recognized $332 and $701, respectively, of compensation expense related to RSUs. There was no compensation expense related to RSUs recognized during the three and nine months ended September 30, 2021. Stock-based compensation expenses are recorded in Selling, general and administrative expenses in the Condensed Consolidated Statements of Operations and Comprehensive Loss.

As of September 30, 2022, there was approximately $1,997 total unrecognized compensation cost related to non-vested RSUs, which is expected to be recognized over a weighted average period of 1.90 years.

NOTE 10. EMPLOYEE BENEFIT PLAN

The Company sponsors a defined contribution plan for eligible employees who are 21 years of age with three months of service can voluntarily contribute up to 100% of their eligible compensation. The Company has elected a Safe Harbor plan in which the Company must contribute 3% of eligible compensation. In addition, the Company may make discretionary contributions which are determined and authorized by the Board of Directors each plan year. The Company made matching contributions to its employee benefit plan of $266 and $129 for the three months ended September 30, 2022 and 2021, respectively, and $734 and $425 for the nine months ended September 30, 2022 and 2021, respectively, which are recorded in Selling, general and administrative expenses in the Condensed Consolidated Statements of Operations and Comprehensive Loss.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

NOTE 11. INCOME TAXES

The effective tax rates for the nine months ended September 30, 2022 and 2021 are as follows:


	Nine Months Ended September 30,
	2022			2021
Effective tax rate		(1.057	%)		(6.300	%)

For the three months ended September 30, 2022 and 2021, the Company recorded tax expense of $201 and $105, respectively. For nine months ended September 30, 2022 and 2021, the Company recorded tax expense of $306 and $437, respectively.

The Company’s 2022 and 2021 income tax expense and rates differed from the amount of income tax determined by applying the U.S. Federal income tax rate to pre-tax income primarily as a result of the U.S., Finland, Germany and Italy jurisdictions that have a full valuation allowance recorded on deferred tax assets. In addition, the tax rate is lower than the U.S. statutory federal tax rate as a result of foreign earnings that are taxed at lower tax rates.

The Company continues to monitor the realization of its deferred tax assets and assesses the need for a valuation allowance. The Company analyzes available positive and negative evidence to determine if a valuation allowance is needed based on the weight of the evidence. This objectively verifiable evidence includes the current & prior two years' profit and loss positions after considering pre-tax book income plus or minus permanent adjustments as well as other positive & negative evidence available. This process requires management to make estimates, assumptions, and judgments that are uncertain in nature. The Company has established a valuation allowance with respect to deferred tax assets in the U.S., Finland, Germany, and Italy and continues to monitor and assess potential valuation allowances in all its jurisdictions.

The CHIPS and Science Act of 2022 (CHIPS) and the Inflation Reduction Act (IRA) of 2022 were recently signed into law by President Biden on August 9, 2022 and August 16, 2022, respectively. The legislation introduces new options for monetizing certain credits, a corporate alternative minimum tax, and a stock repurchase excise tax. The Company is currently evaluating the impact of the CHIPS and IRA Act(s), but at present does not expect that the any of the provisions included in the Act(s) would result in a material impact to the Company’s deferred tax assets, liabilities or income taxes payable.

NOTE 12. COMMITMENTS AND CONTIGENCIES

Legal Proceedings

We are involved in various lawsuits, claims, inquiries, and other regulatory and compliance matters, most of which are routine to the nature of our business. When it is probable that a loss will be incurred and where a range of the loss can be reasonably estimated, the best estimate within the range is accrued. When the best estimate within the range cannot be determined, the low end of the range is accrued. The ultimate resolution of these claims could affect future results of operations should our exposure be materially different from our estimates or should liabilities be incurred that were not previously accrued. Potential insurance reimbursements are not offset against potential liabilities.

During 2018 Wright Medical Technology, Inc. (“Wright Medical”) sued the Company, claiming patent infringement targeting essentially all of our patents. The case was subsequently updated to include trade secret misappropriations. We have filed motions to dismiss Wright's allegations and have a trial date set for June 2023. We currently believe that we have substantial and meritorious defenses to Wright Medical’s claims and intend to vigorously defend our position, including through the trial and appellate stages if necessary. As the case is ongoing, we are unable to determine the likelihood of an outcome or estimate a range of reasonably possible settlement, if any. Accordingly, we have not made an accrual for any possible loss. The outcome of any litigation, however, is inherently uncertain, and an adverse judgment or settlement in the Wright Medical proceeding, if any, could materially and adversely affect our business, financial position and results of operations or cash flows. In addition to Wright Medical’s claims set forth above, we received, in December 2021, an additional complaint from Wright Medical covering patents separate and apart from the Wright Asserted Patents. We do not at this time believe this complaint represents a material liability to our company. We have incurred, and expect that we will continue to incur, significant expense in defending against the allegations made by Wright Medical.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

NOTE 13. RELATED PARTY TRANSACTIONS

The Company has a license agreement dated July 1, 2017 for certain intellectual property with an entity that is affiliated with one of the directors of the Company, under which the Company pays a royalty of four percent (4%) of net revenue related to the licensed intellectual property for the 15 years following the date of first sale, including a minimum annual payment of $250. The term of the agreement is 20 years, and automatically renews for five-year periods thereafter. Payments to the entity under this license agreement totaled $28 and $29 for the three months ended September 30, 2022 and 2021, respectively. Payments to the entity under this license agreement totaled $221 and $236 for the nine months ended September 30, 2022 and 2021, respectively. Amounts payable to this entity as of September 30, 2022 and December 31, 2021 were $129 and $163, respectively.

The Company paid professional services fees to a related party totaling $0 and $148 for the three months ended September 30, 2022 and 2021, respectively, and such fees are included in Selling, general, and administrative expense in the Condensed Consolidated Statements of Operations and Comprehensive Loss. The Company paid professional services fees to a related party totaling $266 and $485 for the nine months ended September 30, 2022 and 2021, respectively. Amounts payable as of September 30, 2022 and December 31, 2021 to this related party were $184 and $66, respectively.

NOTE 14. SEGMENT AND GEOGRAPHIC INFORMATION

The following table represents total net revenue by geographic area, based on the location of the customer for the three and nine months ended September 30, 2022 and 2021, respectively.


	Three Months Ended September 30,				Nine Months Ended September 30,
	2022		2021		2022		2021
United States	$	39,960	$	31,882	$	112,781	$	92,014
International		6,046		3,969		17,094		12,675
Total net revenue	$	46,006	$	35,851	$	129,875	$	104,689

No individual country with net revenue originating outside of the United States accounted for more than 10% of consolidated net revenue for three and nine months ended September 30, 2022 and 2021.

The following table represents total non-current assets, excluding deferred taxes, by geographic area as of September 30, 2022 and December 31, 2021, respectively.


	September 30, 2022		December 31, 2021
United States	$	76,346	$	51,809
International		30,070		3,206
Total assets	$	106,416	$	55,015

With the acquisition of Disior, total non-current assets within both the United States and Finland exceed 10% of consolidated total assets as of September 30, 2022. No individual country with total non-current assets outside the United States accounted for more than 10% of the consolidated total assets as of December 31, 2021.

NOTE 15. SUBSEQUENT EVENTS

On October 21, 2022, the Company granted certain officers and management of the Company an aggregate of 852,556 Restricted Stock Units (RSUs) at a price of $17.77 based on the thirty day trailing average price under the 2021 Plan. All RSUs granted were time-based awards and vest over a four-year period.

On November 1, 2022, the Company filed a Registration Statement on Form S-3 (the “Shelf Registration Statement”). The Shelf Registration Statement covers the offering and sale of up to $100,000 of the Company’s securities, including common stock, preferred stock, debt securities, warrants, purchase contracts and units, as well as up to 10,000 shares of common stock by certain selling securityholders, in one or more transactions from time to time, including an “at-the-market” offering under the Securities Act of 1933. The SEC declared the Shelf Registration Statement effective on November 7, 2022.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in thousands, except share and per share data)

(unaudited)

On November 9, 2022, the Company entered into an amendment to the MidCap Revolving Loan with MidCap Funding IV Trust (the "Revolving Loan Agreement") and an amendment to the MidCap Term Loan with MidCap Financial Trust (the “Term Loan Agreement” and together with the "Revolving Loan Agreement", “MidCap Credit Agreements”). The amendment to the Midcap Revolving Loan provides up to $50,000 in total borrowing capacity compared to up to $30,000 available previously. The MidCap amendments modified the MidCap Credit Agreements to include provisions related to the transition from the LIBOR Interest Rate plus Applicable Margin to the SOFR Interest Rate plus Applicable Margin, maintaining the Applicable Margin of 6% under the MidCap Term Loan and increasing the Applicable Margin from 3% to 3.75% under the Midcap Revolving Loan. In addition, the MidCap amendments amended certain covenants, terms and provisions in the Midcap Credit Agreements to, among other things, modify the covenant levels for the Minimum Net Product Sales financial covenant and to remove the Minimum Consolidated EBITDA financial covenant.

On November 10, 2022, the Company entered into the First Amendment to the Zions Facility with Zions Bancorporation, N.A. dba Vectra Bank Colorado. The amendment to the Zions Facility amends the financial covenants to require the Company to maintain (i) the Liquidity Ratio, if the Cash Flow as of the last day of any quarter measured on a trailing three month basis is less than or equal to $0, and (ii) the Fixed Charge Coverage Ratio which will be calculated as of the last day of each quarter on a trailing four quarter basis, as well as a certain level of Liquidity, if the Cash Flow is greater than $0. In addition, a Net Revenue Growth covenant was added which will be calculated as of the last day of each quarter on a year-over-year basis.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

You should read the following discussion and analysis of our financial condition and results of operations together with our consolidated financial statements and related notes thereto included in Part I-Item 1 of this Quarterly Report on Form 10-Q. This discussion and other parts of this report contain forward-looking statements that involve risks and uncertainties, such as statements of our plans, objectives, expectations and intentions that are based on the beliefs of our management, as well as assumptions made by, and information currently available to, our management. Our actual results could differ materially from those discussed in these forward-looking statements. See “Special Note Regarding Forward-Looking Statements” in this Quarterly Report on Form 10-Q.

Overview

We are a leading medical device company exclusively focused on the foot and ankle orthopedic market and we are dedicated to improving patient lives. Our innovative orthopedic solutions, procedural approaches and instrumentation cover a wide range of foot and ankle ailments including fracture fixation, hallux valgus - which includes bunions and hammertoe, ankle, progressive collapsing foot deformity (PCFD) or flatfoot, charcot foot and orthobiologics. To treat these painful, debilitating or even life-threatening conditions, we provide a comprehensive portfolio of solutions that includes surgical implants and disposables, as well as surgical instrumentation. Our broad suite of surgical solutions comprises 75 product systems, including approximately 9,000 SKUs to help fit the specific needs of each patient. We design each of our products with both the patient and surgeon in mind, with the goal of improving outcomes, reducing ailment recurrence and complication rates, and making the procedures simpler, consistent and reproducible. We believe our passion, expertise, and exclusive focus in the foot and ankle market has allowed us to better understand the needs of our patients and physicians, which has enabled us to create innovations and enhanced solutions that disrupt and transform the foot and ankle market. As a result, we have experienced significant growth and momentum in our business.

We established Paragon 28 in 2010 as a company exclusively dedicated to the foot and ankle market. Since then, we have developed a comprehensive portfolio of foot and ankle surgical systems and procedural techniques designed to address the primary conditions requiring treatment in the foot and ankle, including fracture fixation; bunions; hammertoe; ankle; PCFD or flatfoot; charcot foot; and orthobiologics. Smart 28, the company’s ecosystem of enabling technologies for pre-operative planning, intra-operative support, and post-operative evaluation, was augmented by the Additive Orthopaedics acquisition in 2021 and the Disior acquisition in the first quarter of 2022. With the Additive acquisition, we acquired the only 3-D printed, patient specific total talus spacer authorized for marketing pursuant to an approved HDE application, plus a proprietary, pre-operative surgical planning platform. With Disior, we acquired a leading three-dimensional analytics pre-operative planning software company based in Helsinki, Finland. These transactions broadened our capabilities within the pre-operative and intra-operative stages of the foot and ankle continuum of care. We expect to continue to invest in Smart 28 to improve foot and ankle patient outcomes.

Our broad commercial footprint spans across all 50 states of the United States and 23 other countries. In the United States we primarily sell to hospitals and ambulatory surgery centers through a network of primarily independent sales representatives, the majority of whom are exclusive. Outside the United States we primarily sell to hospitals and ambulatory surgery centers through a network of sales representatives and stocking distributors. We plan to efficiently grow our sales organization and network to expand into new territories in the United States. We are also highly focused on expanding our global network by expanding our sales footprint in existing and select new international markets based on our assessment of size and opportunity.

We currently leverage multiple third-party manufacturing relationships to ensure low cost production while maintaining a capital efficient business model. We have multiple sources of supply for many of our surgical solutions’ critical components. Nearly all of our supply agreements do not have minimum manufacturing or purchase obligations. As such, we generally do not have any obligation to buy any given quantity of products, and our suppliers generally have no obligation to sell to us or to manufacture for us any given quantity of our products or components for our products. In most cases, we have redundant manufacturing capabilities for each of our products although we are starting to experience some inflationary pressure and extended lead times, primarily limited to raw materials and labor. Except during the height of the COVID-19 pandemic, we have not experienced any significant difficulty obtaining our products or components for our products necessary to meet demand, and we have only experienced limited instances where our suppliers had difficulty supplying products by the requested delivery date. We believe manufacturing capacity is sufficient to meet market demand for our products for the foreseeable future.

Net revenue increased from $104.7 million for the nine months ended September 30, 2021 to $129.9 million for the nine months ended September 30, 2022, an increase of 24%, and $35.9 million for three months ended September 30, 2021 to $46.0 million for the three months ended September 30, 2022, an increase of 28%.

Net loss increased from $7.5 million for the nine months ended September 30, 2021 to $28.6 million for the nine months ended September 30, 2022 and net loss increased from $5.1 million for the three months ended September 30, 2021 to a net loss of $9.7 million for the three months ended September 30, 2022.

Adjusted EBITDA decreased from $2.9 million for the nine months ended September 30, 2021 to negative $9.2 million for the nine months ended September 30, 2022 and negative $1.0 million for the three months ended September 30, 2021 to negative $2.7 million for the three months ended September 30, 2022. Adjusted EBITDA is not a financial measure under U.S. generally accepted accounting principles (GAAP). See “Non-GAAP Financial Measures” for an explanation of how we compute this non-GAAP financial measure and for the reconciliation to the most directly comparable GAAP financial measure.

As of December 31, 2021 and September 30, 2022, we had cash of $109.4 million and $56.3 million and an accumulated deficit of $(0.5) million and $(29.0) million, respectively. Our primary sources of capital from inception through September 30, 2022 have been from cash flows from operations, private placements of securities, proceeds from our public offering and the incurrence of indebtedness.

We believe that our existing cash and available debt borrowings will be sufficient to meet our capital requirements and fund our operations for at least the next 12 months.

We have made significant investments in both research and development and in the expansion of our sales force and marketing and medical education programs, and we expect to continue to make substantial investments in these areas. We have also made significant investments in general and administrative expense as a result of operating as a public company, including expenses related to compliance with the rules and regulations of the United States Securities and Exchange Commission (SEC) and the NYSE listing standards, additional insurance expenses, investor relations activities, and other administrative and professional services. We do not expect to make significant incremental investments in general administrative expense. As a result of these and other factors, although not anticipated at this time, we may require additional financing to fund our operations and planned growth. We may also seek additional financing opportunistically. We may seek to raise any additional capital by entering into partnerships or through public or private equity offerings or debt financings, credit or loan facilities or a combination of one or more of these funding sources. If we raise additional funds by issuing equity securities, our stockholders may experience dilution.

Factors Affecting Our Results of Operations

We believe our performance and continued success depend on several factors that present significant opportunities. These factors include:

Investments in Product Development and Innovation, including Smart 28

We expect to continue to focus on long-term revenue growth through investments in our business. In research and development, our team is continually working on new products and iterations of our existing products. Further, we anticipate we will continue to invest significantly in our Smart 28 initiatives in order to improve patient outcomes by augmenting existing products and creating new products and related services that employ advanced technologies. We are committed to continuously expanding our portfolio of foot and ankle solutions and to bring next-generation products to market. While research and development and clinical testing are time consuming and costly, we believe expanding into new indications, implementing product improvements and continuing to demonstrate the efficacy, safety and cost effectiveness of our products through clinical data are all critical to increasing the adoption of our solutions. We continue to invest in programs to educate physicians who treat foot and ankle about the advantage of products. Accordingly, in the near term, we expect these activities to increase our operating expenses, but in the longer term we anticipate they will positively impact our business and results of operations.

Continued Commercial Expansion in the United States and International Markets

In sales and marketing, we are also dedicating meaningful resources to expand our commercial team in the United States and in international markets. Our top commercial priorities in the United States include sales force expansion, expansion of our surgeon customer base, sales force channel productivity and increasing surgeon utilization. Our top commercial priorities in the international markets include expanding our market share in existing countries and targeting new countries where we can maximize strong average selling price (ASP) and margins. Our current expansion targets include Brazil, Canada, Colombia, Germany, Italy and Japan. This process requires significant education and training for our commercial team to achieve the level of technical competency with our products that is expected by physicians and to gain experience building demand for our products. Upon completion of the training, our commercial team typically requires time in the field to grow their network of accounts and increase their productivity to the levels we expect. Successfully recruiting, training and retaining additional sales representatives will be required to achieve growth, which will require significant investments by us.

Continued and Expanded Access to Hospital Facilities

In the United States, in order for physicians to use our products, the hospital facilities where these physicians treat patients often require us to enter into purchasing contracts directly with the hospital facilities or with the GPOs of which the hospital facilities are members. This process can be lengthy and time-consuming and requires extensive negotiations and management time. In markets outside the United States, we may be required to engage in a contract bidding process in order to sell our products, where the bidding processes are only open at certain periods of time, and we may not be successful in the bidding process.

Inventory, Surgical Instrumentation and Supply Chain Management

Given the large variety and number of products we sell, in order to market and sell them effectively, we must maintain significant levels of inventory and surgical instrumentation. As a result, a significant amount of cash is expended for inventory and surgical instrumentation. There may also be times in which we determine that our inventory does not meet our product requirements. We may also over- or underestimate the quantities of required components, in which case we may expend extra resources or be constrained in the amount of end product that we can procure. These factors subject us to the risk of obsolescence and expiration, which may lead to impairment charges. Additionally, as we release later generations of products that contain advancements or additional features, the earlier generations may become obsolete.

Seasonality

We have experienced and expect to continue to experience seasonality in our business, with our highest sales volumes in the U.S. occurring in the fourth calendar quarter. Our U.S. sales volumes in the fourth calendar quarter tend to be higher as many patients elect to have surgery after meeting their annual deductible and having time to recover over the winter holidays.

Impact of COVID-19 Pandemic

In March 2020, the World Health Organization declared the outbreak of COVID-19 as a pandemic, and in response, certain states within the United States implemented shelter-in-place rules requiring elective surgical procedures to be delayed. As a result, our revenue growth was adversely impacted particularly from March 2020 through May 2020 until such shelter-in-place restrictions were eased. Early in the first quarter of 2022, the Omicron variant of COVID 19 led to a deferral of surgeries with those headwinds beginning to decrease in mid-February. Absent a resurgence in headwinds, we expect the elective procedure environment to continue to improve; however, the pandemic has led to severe disruptions in the market, supply chain and the global and United States economies that may continue. We cannot reasonably estimate the length or severity of these impacts on our business.

Non-GAAP Financial Measures

Use of Non-GAAP Financial Measures and Their Limitations

In addition to our results and measures of performance determined in accordance with U.S. GAAP, we believe that certain non-GAAP financial measures are useful in evaluating and comparing our financial and operational performance over multiple periods, identifying trends affecting our business, formulating business plans and making strategic decisions.

Adjusted EBITDA is a key performance measure that our management uses to assess our financial performance and is also used for internal planning and forecasting purposes.

We believe that Adjusted EBITDA, together with a reconciliation to net income, helps identify underlying trends in our business and helps investors make comparisons between our company and other companies that may have different capital structures, tax rates, or different forms of employee compensation. Accordingly, we believe that Adjusted EBITDA provides 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 a key financial metric used by our management in its financial and operational decision-making. Our use of Adjusted EBITDA has limitations as an analytical tool, and you should not consider these measures in isolation or as a substitute for analysis of our financial results as reported under U.S. GAAP. Some of these potential limitations include:

•

other companies, including companies in our industry which have similar business arrangements, may report Adjusted EBITDA, or similarly titled measures but calculate them differently, which reduces their usefulness as comparative measures;

•

although depreciation and amortization expenses are non-cash charges, the assets being depreciated and amortized may have to be replaced in the future, and Adjusted EBITDA does not reflect cash capital expenditures for such replacements or for new capital expenditure requirements;

•

Adjusted EBITDA also does not reflect changes in, or cash requirements for, our working capital needs or the potentially dilutive impact of stock based compensation; and

•

Adjusted EBITDA does not reflect the interest expense, or the cash requirements necessary to service interest or principal payments, on our debt that we may incur.

Because of these and other limitations, you should consider our non-GAAP measures only as supplemental to other GAAP-based financial measures. For a full reconciliation of Adjusted EBITDA to the most comparable GAAP financial measure, please see “-Reconciliation Between GAAP and Non-GAAP Measure."

Reconciliation Between GAAP and Non-GAAP Measure

We define Adjusted EBITDA as earnings before interest expense, income tax expense (benefit), depreciation and amortization, stock-based compensation expense, employee stock purchase plan expense, non-recurring expenses and certain other non-cash expenses. For a full reconciliation of Adjusted EBITDA for the three and nine months ended September 30, 2022 and 2021 to net income (loss) as the most comparable GAAP financial measure, please see the following table.


	Three Months Ended September 30,						Nine Months Ended September 30,
	2022			2021			2022			2021
	(in thousands)
Net loss	$	(9,724	)	$	(5,107	)	$	(28,563	)	$	(7,518	)
Interest expense		1,093			573			2,865			1,174
Income tax expense		201			105			306			437
Depreciation and amortization expense		3,058			2,424			9,624			6,103
Stock based compensation expense		2,587			1,032			7,052			2,747
Employee stock purchase plan expense		100			—			100			—
Change in fair value of earnout liability (1)		(35	)		—			(575	)		—
Adjusted EBITDA	$	(2,720	)	$	(973	)	$	(9,191	)	$	2,943

------------------------------------------

(1) Represents non-cash change in the fair value of earnout liability for the three and nine months ended September 30, 2022

Components of Our Results of Operations

Net Revenue

We derive our revenue from the sale of our foot and ankle orthopedic solutions, primarily implants. We also record as revenue any amounts billed to customers for shipping costs and record as cost of goods sold the actual shipping costs. We have elected to exclude from the measurement of the transaction price all taxes, such as sales, use, value-added, assessed by government authorities and collected from a customer. Therefore, revenue is recognized net of such taxes. In addition, we record revenue net of estimated losses for bad debt. No single customer accounted for 10% or more of our net revenue in the three and nine months ended September 30, 2022 and 2021. We expect our net revenue to increase in the foreseeable future as we expand our sales territories, add new customers, launch new products and increase the utilization of our products by our existing customers, though net revenue may fluctuate from quarter to quarter due to a variety of factors, including availability of reimbursement, the size and success of our sales force, the number of hospitals and physicians who are aware of and use our products and seasonality.

Cost of Goods Sold

Cost of goods sold consists primarily of finished products purchased from third-party suppliers, shipping costs, excess and obsolete inventory adjustments and royalties. Implants are manufactured to our specifications primarily by third-party suppliers in the United States. Cost of goods sold is recognized at the time the implant is used in surgery and the related revenue is recognized. Prior to use in surgery, the cost of our implants is recorded as inventories, net in our consolidated balance sheets. Cost of goods sold is expected to increase due primarily to increased sales volume.

We calculate gross profit as net revenue less cost of goods sold, and gross margin as gross profit divided by net revenue. We expect our gross profit to increase in the foreseeable future as our net revenue grows, though our gross profit and gross margin have been and will continue to be affected by a variety of factors, primarily average selling prices, third-party manufacturing costs, change in mix of customers, excess and obsolete inventory adjustments, royalties and seasonality of our business. Our gross margin is higher for products we sell in the United States versus internationally due to higher average selling prices. We expect our gross margin to fluctuate from period to period, however, based upon the factors described above and seasonality.

Operating Expenses

Research and Development

Research and development expense is comprised of engineering costs and research programs related to new product and sustaining product development activities, clinical studies and trials expenses, quality and regulatory expenses, and salaries, bonuses and benefits related to research and development functions. We maintain a procedurally focused approach to product development and have projects underway to add new systems across multiple foot and ankle indications and to add additional functionality to our existing systems. We expect our research and development expenses to increase as we hire additional personnel to develop new product offerings and product enhancements, including Smart 28 initiatives.

Selling, General, and Administrative

Selling, general, and administrative expenses consist primarily of commissions paid to U.S. sales representatives, salaries, bonuses, and benefits related to selling, marketing, and general and administrative functions, and stock-based compensation. In addition, selling, general, and administrative expenses consist of the costs associated with marketing initiatives, physician and sales force medical education programs, surgical instrument depreciation, travel expenses, professional services fees (including legal, finance, audit and tax fees), insurance costs, facility expenses and other general corporate expenses.

We expect selling, general, and administrative expenses to continue to increase in the foreseeable future as we continue to grow our business, though it may fluctuate from quarter to quarter. We also expect our administrative expenses, including stock-based compensation expense, to increase as we increase our headcount and expand our facilities and business processes to support our operations as a public company. In addition, we expect to continue to incur significant legal expenses related to the Wright Medical Litigation. Our selling, general and administrative expenses may fluctuate from period to period due to the seasonality of our business.

Interest Expense

Interest expense consists of interest incurred and amortization of financing costs during the reported periods.

Results of Operations

For the Three Months Ended September 30, 2022 and 2021

The following table summarizes our results of operations for the period presented below:


	Three Months Ended September 30,						Change
	2022			2021			Amount			%
	(in thousands)
Net revenue	$	46,006		$	35,851		$	10,155			28	%
Cost of goods sold		8,491			7,096			1,395			20	%
Gross profit		37,515			28,755			8,760			30	%
Operating expenses
Research and development		6,337			4,118			2,219			54	%
Selling, general, administrative		39,667			28,968			10,699			37	%
Total operating expenses		46,004			33,086			12,918			39	%
Operating loss		(8,489	)		(4,331	)		(4,158	)	*
Other expense		59			(98	)		157		*
Interest expense		(1,093	)		(573	)		(520	)		91	%
Loss before income taxes		(9,523	)		(5,002	)		(4,521	)	*
Income tax expense		201			105			96			91	%
Net loss	$	(9,724	)	$	(5,107	)	$	(4,617	)	*

------------------------------------------

* Not meaningful

The following table represents total net revenue by geographic area, based on the location of the customer for the three months ended September 30, 2022 and 2021, respectively.


	Three Months Ended September 30,
	2022		2021
	(in thousands)
United States	$	39,960	$	31,882
International		6,046		3,969
Total net revenue	$	46,006	$	35,851

Net Revenue. Net revenue was $46.0 million for the three months ended September 30, 2022, representing growth of 28% compared to the prior year period. Strengthening of the U.S. dollar reduced net revenue growth for the three months ended September 30, 2022 by 2.1 percentage points as compared to the prior year period. U.S. net revenue was $40.0 million for the three months ended September 30, 2022, representing growth of 25% compared to the prior year period. U.S. net revenue growth was primarily the result of sales force productivity gains driven largely by new product launches and the benefits from medical education and training and sales force expansion. International revenue was $6.0 million for the three months ended September 30, 2022, representing growth of 52% compared to the prior year period. Strengthening of the U.S. dollar reduced international revenue growth for the three months ended September 30, 2022 by 19 percentage points as compared to the prior year period. International revenue growth was driven by our three largest international markets of Australia, South Africa and the United Kingdom, with Spain also a top driver of growth due to increased distribution capabilities.

Cost of Goods Sold and Gross Profit Margin. Cost of goods sold increased $1.4 million, or 20%, from $7.1 million in the three months ended September 30, 2021 to $8.5 million in the same period in 2022. Gross profit margin for the three months ended September 30, 2022 increased to 81.5%, compared to 80.2% in the same period of 2021, primarily due to lower inventory excess and obsolescence expense.

Research and Development Expenses. Research and development expenses increased $2.2 million, or 54%, from $4.1 million in the three months ended September 30, 2021 to $6.3 million in the same period in 2022. The increase in research and development expenses was primarily due to further investments in product development, clinical studies, quality and the acquisitions of Additive Orthopedics in May 2021 and Disior Oy in January 2022.

Selling, General, and Administrative Expenses. Selling, general and administrative expenses increased $10.7 million, or 37%, from $29.0 million in the three months ended September 30, 2021 to $39.7 million in the same period in 2022. The increase in selling, general, and administrative expenses as compared to prior year period was driven by investments in sales and marketing, including in-person U.S. marketing and medical education events, commercial team expansion both in the U.S. and in our international markets, increased variable sales representative commission expense related to revenue growth, increased general and administrative expenses due to the costs of becoming a publicly traded company in the fourth quarter of 2021, and one-time SAP implementation costs.

Interest Expense. Interest expense increased to $1.1 million for the three months ended September 30, 2022 from $0.6 million for the three months ended September 30, 2021 primarily due to higher levels of outstanding debt.

For the Nine Months Ended September 30, 2022 and 2021

The following table summarizes our results of operations for the period presented below:


	Nine Months Ended September 30,						Change
	2022			2021			Amount			%
	(in thousands)
Net revenue	$	129,875		$	104,689		$	25,186			24	%
Cost of goods sold		22,920			20,209			2,711			13	%
Gross profit		106,955			84,480			22,475			27	%
Operating expenses
Research and development		18,100			11,254			6,846			61	%
Selling, general, administrative		114,857			79,009			35,848			45	%
Total operating expenses		132,957			90,263			42,694			47	%
Operating loss		(26,002	)		(5,783	)		(20,219	)	*
Other income (expense)		610			(124	)		734		*
Interest expense		(2,865	)		(1,174	)		(1,691	)	*
Loss before income taxes		(28,257	)		(7,081	)		(21,176	)	*
Income tax expense		306			437			(131	)		(30	)%
Net loss	$	(28,563	)	$	(7,518	)	$	(21,045	)	*

------------------------------------------

* Not meaningful

The following table represents total net revenue by geographic area, based on the location of the customer for the nine months ended September 30, 2022 and 2021, respectively.


	Nine Months Ended September 30,
	2022		2021
	(in thousands)
United States	$	112,781	$	92,014
International		17,094		12,675
Total net revenue	$	129,875	$	104,689

Net Revenue. Net revenue was $129.9 million for the nine months ended September 30, 2022, representing growth of 24% compared to prior year period. Strengthening of the U.S. dollar reduced net revenue growth for the nine months ended September 30, 2022 by 1.4 percentage points as compared to the prior year period. U.S. net revenue was $112.8 million for the nine months ended September 30, 2022, representing growth of 23% compared to the prior year period. U.S. net revenue growth was primarily the result of sales force productivity gains driven largely by new product launches and the benefits from medical education and training and sales force expansion, offset partially by modest COVID disruptions. International revenue was $17.1 million for the nine months ended September 30, 2022, representing growth of 35% compared to the prior year period. Strengthening of the U.S. dollar reduced international net revenue growth for the nine months ended September 30, 2022 by approximately 11.4 percentage points as compared to the prior year period. International revenue growth was driven primarily by our three largest international markets of Australia, South Africa and the United Kingdom.

Cost of Goods Sold and Gross Profit Margin. Cost of goods sold increased $2.7 million, or 13%, from $20.2 million in the nine months ended September 30, 2021 to $22.9 million in the same period in 2022. Gross profit margin for the nine months ended September 30, 2022 increased to 82.4%, compared to 80.7% in the same period of 2021, primarily due to lower inventory excess and obsolescence expense.

Research and Development Expenses. Research and development expenses increased $6.8 million, or 61%, from $11.3 million in the nine months ended September 30, 2021 to $18.1 million in the same period in 2022. The increase in research and development expenses as compared to the prior year period was primarily due to further investments in product development, clinical studies, quality and the acquisitions of Additive Orthopeadics in May 2021 and Disior Oy in January 2022.

Selling, General, and Administrative Expenses. Selling, general and administrative expenses increased $35.8 million, or 45%, from $79.0 million in the nine months ended September 30, 2021 to $115.0 million in the same period in 2022. The increase in selling, general, and administrative expenses as compared to the prior year period was driven primarily by investments in sales and marketing, including in-person U.S. marketing and medical education events, commercial team expansion both in the U.S. and in our international markets, increased variable sales representative commission expense related to U.S. net revenue growth, increased general and administrative expenses due to costs of becoming a publicly traded company in the fourth quarter of 2021, mergers and acquisitions related expenses, and one-time SAP implementation costs.

Interest Expense. Interest expense increased to $2.9 million for the nine months ended September 30, 2022 from $1.2 million for the nine months ended September 30, 2021 primarily due to higher levels of outstanding debt.

Liquidity and Capital Resources

As of December 31, 2021 and September 30, 2022, we had cash of $109.4 million and $56.3 million, and an accumulated deficit of $(0.5) million and $(29.0) million, respectively. Our primary sources of capital from inception through September 30, 2022 have been from cash flows from operations, private placements of securities, proceeds from our public offering and the incurrence of indebtedness.

On March 24, 2022, we entered into a secured term loan facility to finance the purchase of our Denver, Colorado headquarters, with Vectra Bank Colorado in the principal amount of $16.0 million.

On October 19, 2021, we completed our initial public offering of 8,984,375 shares of our common stock, at a price to the public of $16.00 per share. The gross proceeds from the initial public offering were approximately $143.8 million, before deducting underwriting discounts and commissions and estimated offering expenses payable by us. The net proceeds after deducting all expenses were $129.1 million.

On May 6, 2021, we entered into a new credit agreement with Midcap Financial Trust (Midcap) to provide up to $70.0 million in total borrowings, including a $30.0 million revolving loan and a $40.0 million deferred draw term loan, secured by our intellectual property and other assets. At September 30, 2022, we had $0 of Midcap debt outstanding under the Midcap Revolving Loan (defined below) and $30.0 million under the Midcap Term Loans (defined below). In addition, on November 9, 2022 we entered into an amendment to the Midcap Revolving Loan Agreement (defined below) providing up to $50.0 million in total borrowing capacity. We believe that our $56.3 million of cash as of September 30, 2022, the additional $60.0 million of available borrowings under our amended Midcap credit facility and our expected future revenues will be sufficient to meet our capital requirements and fund our operations for the next 12 months. However, we may decide to raise additional financing to support further growth of our operations.

Long-Term Obligations

Vectra Bank Colorado Loan Agreements

On March 27, 2020, we entered into an Amended and Restated Loan Agreement (the “Vectra Loan Agreement”) with Vectra Bank Colorado. The Vectra Loan Agreement refinanced our existing Term Loan and existing Buyout Loan into a single term loan in the aggregate principal amount of $6.8 million (the “2020 Term Loan”) and increased the maximum principal amount of the existing Revolving Loan to $15.0 million (the 2020 Revolving Loan and together with the 2020 Term Loan, “2020 Loans”). The maturity date for both loans was September 30, 2020 and it was subsequently extended to October 5, 2023. We repaid the 2020 Loans in 2021 in connection with entering into the Midcap Term Loan Agreement described below.

On March 24, 2022, we entered into a secured term loan facility (the “Zions Facility”) with Zions Bancorporation, N.A. dba Vectra Bank Colorado in the principal amount of $16.0 million. The loans under the Zions Facility (i) bear interest at a variable rate per annum equal to the sum of (a) a one-month Term SOFR based rate, plus (b) 1.75%, adjusted on a monthly basis and (ii) mature on March 24, 2037. Principal and interest payments are payable monthly, with optional prepayments allowed without premium or penalty.

Midcap Loan Agreement

On May 6, 2021, we entered into a term loan agreement (the “Midcap Term Loan Agreement”) with Midcap Financial Trust (“Midcap”) as agent and lenders named therein. The Midcap Term Loan Agreement includes two tranches, with the first being for a total of $10.0 million (the “First Tranche”) and the second being for a total of $30.0 million (the “Second Tranche”, and together with the “First Tranche”, the “Midcap Term Loans”). The First Tranche was fully funded on May 6, 2021. The Second Tranche was partially funded $20.0 million on January 10, 2022. The Midcap Term Loans mature on May 1, 2026. The Midcap Term Loans accrue interest at the LIBOR Rate plus 6.00% per annum.

On May 6, 2021, we also entered into a revolving loan agreement (the “Midcap Revolving Loan Agreement”, and together with the “Midcap Term Loan Agreement”, the “Midcap Loan Agreements”) with Midcap as an agent and the lenders named therein. Pursuant to the terms of the Midcap Revolving Loan Agreement, as of May 6, 2021 we had access to a $20.0 million revolving line of

credit (the “Midcap Revolving Loan”), that can increase by an additional $10.0 million upon our written request and the consent of the agent and lenders. The Midcap Revolving Loan Agreement matures on May 1, 2026. The Midcap Revolving Loan accrues interest at the LIBOR Rate plus 3.00% per annum.

On November 9, 2022, the Company entered an amendment to the MidCap Revolving Loan with MidCap Funding IV Trust (the "Revolving Loan Agreement") and an amendment to the MidCap Term Loan with MidCap Financial Trust (the “Term Loan Agreement” and together with the "Revolving Loan Agreement", “MidCap Credit Agreements”). The amendment to the Midcap Revolving Loan provides up to $50.0 million in total borrowing capacity compared to up to $30.0 million available previously. The MidCap amendments modified the MidCap Credit Agreements to include provisions related to the transition from the LIBOR Interest Rate plus Applicable Margin to the SOFR Interest Rate plus Applicable Margin, maintaining the Applicable Margin of 6% under the MidCap Term Loan and increasing the Applicable Margin from 3% to 3.75% under the Midcap Revolving Loan. In addition, the MidCap amendments amended certain covenants, terms and provisions in the Midcap Credit Agreements to, among other things, modify the covenant levels for the Minimum Net Product Sales financial covenant and to remove the Minimum Consolidated EBITDA financial covenant.

The Midcap Loan Agreements are secured by all of our assets and personal property, including all goods, equipment, inventory, cash, intellectual property, and certificates of deposit. The Midcap Loan Agreements include customary conditions to borrowing, events of default, and covenants, including affirmative covenants and negative covenants that restrict our and our subsidiaries’ ability to, among other things, incur additional indebtedness, create or incur liens, merge or consolidate with other companies, liquidate or dissolve, sell or transfer assets, pay dividends or make distributions, subject to certain exceptions. The Midcap Loan Agreements require us to maintain minimum net product sales (as defined in the Midcap Loan Agreements), for the preceding twelve month period.

Contractual Obligations

In January 2022, the Company purchased its' headquarters and terminated the existing lease agreement; therefore, there were no remaining significant future lease payment obligations as of September 30, 2022.

Funding Requirements

We use our cash to fund our operations, which primarily include the costs of purchasing our foot and ankle orthopedic implants and disposables and associated instrumentation, as well as our operating expenses, including research and development and selling, general and administrative. We expect our operating expenses to increase for the foreseeable future as we continue to invest in expanding our research and development initiatives and as we continue to expand our sales and marketing infrastructure and programs to both drive and support anticipated sales growth. The timing and amount of our operating expenditures will depend on many factors, including:

•

the research and development activities we intend to undertake in order to improve our existing products and development new products and solutions;

•

the costs of our ongoing commercialization activities in the United States and elsewhere, including expanding territories, increasing sales and marketing personnel, actual and anticipated product sales, marketing, manufacturing and distribution;

•

whether or not we pursue acquisitions or investments in businesses, products or technologies that are complementary to our current business;

•

the degree and rate of market acceptance of our products;

•

the costs of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights;

•

our need to implement additional infrastructure and internal systems;

•

the emergence of competing technologies or other adverse market developments;

•

any product liability or other lawsuits;

•

the expenses needed to attract and retain skilled personnel;

•

changes or fluctuations in our inventory and surgical instrumentation;

•

our implementation of various computerized information systems;

•

the costs associated with being a public company; and

•

the impact of the COVID-19 pandemic on our operations and business.

Although not anticipated, we may seek to raise any necessary additional capital through public or private equity offerings or debt financings, credit or loan facilities or a combination of one or more of these or other funding sources. Additional funds may not be available to us on acceptable terms or at all. If we fail to obtain necessary capital when needed on acceptable terms, or at all, we could be forced to delay, limit, reduce or terminate our product development programs, commercialization efforts or other operations. If we raise additional funds by issuing equity securities, our stockholders will suffer dilution and the terms of any financing may adversely affect the rights of our stockholders. In addition, as a condition to providing additional funds to us, future investors may demand, and may be granted, rights superior to those of existing stockholders. If we raise additional capital through collaborations agreements, licensing arrangements or marketing and distribution arrangements, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or product or grant licenses that may not be favorable to us. Debt financing, if available, is likely to involve restrictive covenants limiting our flexibility in conducting future business activities, and, in the event of insolvency, debt holders would be repaid before holders of our equity securities received any distribution of our corporate assets.

Cash Flows

The following table sets forth the primary sources and uses of cash for the periods presented below:


	Nine Months Ended September 30,						Change
	2022			2021			Amount			%
	(in thousands)
Net cash (used in) provided by:
Operating activities	$	(35,950	)	$	(1,196	)	$	(34,754	)	*
Investing activities		(53,519	)		(25,885	)		(27,634	)		(107	)%
Financing activities		36,937			17,796		$	19,141			108	%
Effect of exchange rate changes of cash		(495	)		(340	)		(155	)		46	%
Net decrease in cash	$	(53,027	)	$	(9,625	)	$	(43,402	)	*

------------------------------------------

* Not meaningful

Net Cash Used in Operating Activities

Net cash used in operating activities for the nine months ended September 30, 2022 was $36.0 million, consisting primarily of net loss of $28.6 million plus non-cash expenses of $15.3 million, which primarily consisted of $9.6 million of depreciation and amortization and $7.1 million of stock-based compensation expense, and increased working capital of $22.7 million, including $15.3 million of inventory purchases, a $10.2 million increase in accounts receivable and other working capital decreases of $2.9 million.

Net cash used in operating activities for the nine months ended September 30, 2021 was $1.2 million, consisting primarily of net loss of $7.5 million plus non-cash expenses of $11.9 million, which primarily consisted of $6.1 million of depreciation and amortization, $2.2 million provision for excess and obsolete inventory and $2.7 million of stock-based compensation expense, and negative changes in working capital of $5.6 million, including $7.9 million of inventory purchases and $2.9 million in deferred IPO expenses offset partially by a $3.4 million increase in accounts payable and an increase in accrued expenses and other current liabilities of $2.9 million. The Company paid $2.5 million of IPO expenses during the nine months ended September 30, 2021.

Net Cash Used in Investing Activities

Net cash used in investing activities for the nine months ended September 30, 2022 was $53.5 million, consisting primarily of our purchase of Disior for $18.5 million (financed by a $20.0 million draw on the Company's term loan), the purchase of our Denver headquarters building for $18.3 million (financed in part by a $16.0 million mortgage loan), surgical instrumentation purchases for $8.4 million, capital spend associated with the launch of SAP of $3.4 million and capitalization of certain patent costs.

Net cash used in investing activities for the nine months ended September 30, 2021 was $25.9 million, consisting primarily of our purchase of the assets of Additive Orthopedics for $15.0 million, surgical instrumentation purchases of $7.9 million, and capitalization of certain patent costs.

Net Cash Provided by Financing Activities

Net cash provided by financing activities for the nine months ended September 30, 2022 was $36.9 million, consisting of $36.0 million proceeds from long-term debt, including a $20.0 million draw on the Company's Midcap Term Loan to finance the Disior acquisition and a $16.0 million loan to finance the purchase of the Company's Denver headquarters.

Net cash provided by financing activities for the nine months ended September 30, 2021 was $17.8 million, consisting of $26.0 million of proceeds from the Midcap Revolving Loan and the Midcap Term Loan, which was partially offset by the long-term debt repayments of $6.0 million and the payment of $3.0 million in debt issuance costs.

Critical Accounting Estimates

Management’s discussion and analysis of our financial condition and results of operations is based on our financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and assumptions for the reported amounts of assets, liabilities, revenue, expenses and related disclosures. Our estimates are based on our historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions and any such differences may be material.

During the nine months ended September 30, 2022, there were no material changes to our critical accounting policies or in the methodology used for estimates from those described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in the Company's Annual Report on Form 10-K for the year ended December 31, 2021.

Recently Issued Accounting Pronouncements

See Note 2 to our consolidated financial statements included elsewhere in this quarterly report for new accounting pronouncements not yet adopted as of the date of this report.

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

Interest Rate Risk

The primary objectives of our investment activities are to preserve principal and provide liquidity. Since our results of operations are not dependent on investments, the risk associated with fluctuating interest rates is limited to our investment portfolio, and we believe that a hypothetical 10% change in interest rates would not have a significant impact on our financial statements included elsewhere in this quarterly report. We do not currently use or plan to use financial derivatives in our investment portfolio. We do not currently engage in hedging transactions to manage our exposure to interest rate risk but we do not believe the changing interest rates on our variable interest rate facilities would have a significant impact on our results of operations.

Foreign Currency Risk

Our business is primarily conducted in U.S. dollars. Any transactions that may be conducted in foreign currencies are not expected to have a material effect on our results of operations, financial position or cash flows. As we expand internationally our results of operations and cash flows may become increasingly subject to fluctuations due to changes in foreign currency exchange rates.

Emerging Growth Company

As an emerging growth company under the JOBS Act we are eligible to take advantage of certain exemptions from various reporting requirements that are applicable to other public companies that are not emerging growth companies. We have elected to avail ourselves of this exemption from new or revised accounting standards and, therefore, while we are an emerging growth company, we will not be subject to new or revised accounting standards at the same time that they become applicable to other public companies that are not emerging growth companies. As a result, our financial statements and interim financial statements may not be comparable to companies that comply with new or revised accounting pronouncements as of public company effective dates.

We will remain an emerging growth company until the earliest of (i) the last day of our first fiscal year in which we have total annual gross revenues of $1.07 billion or more, (ii) the last day of the first fiscal year in which we become a “large accelerated filer” as defined in Rule 12b-2 under the Securities Exchange Act of 1934, as amended, with at least $700.0 million of equity securities held by non-affiliates as of the end of the last business day of the second quarter of that fiscal year, (iii) the date on which we have issued, in any three-year period, more than $1.0 billion in non-convertible debt securities, or (iv) the last day of our fiscal year after the fifth anniversary of the date of the completion of our initial offering.

Item 4. Controls and Procedures.

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Chief Executive Officer and our Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on that evaluation, our Chief Executive Officer and our Chief Financial Officer have concluded that, as of the end of the period covered by this Quarterly Report on Form 10-Q, our disclosure controls and procedures were not effective at the reasonable assurance level because of a material weakness in our internal control over financial reporting as described below.

Changes in Internal Control Over Financial Reporting

Except as set forth below, no change in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) occurred during our most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

Our Management's Annual Report on Internal Control Over Financial Reporting included in our Annual Report on Form 10-K for the year ended December 31, 2021 described material weaknesses in our internal control over financial reporting related to the fact that we did not design or maintain an effective control environment, with the primary contributing factor being lack of adequate staffing with the appropriate technical accounting competency, training and experience to account for more complex accounting matters. We have been in the process of designing, implementing, and testing the operating effectiveness of measures to remediate the material weakness in our internal control over financial reporting. During the nine months ended September 30, 2022, we continued to:

•

hire additional and qualified technical accounting and reporting personnel with significant knowledge and experience with U.S. GAAP and SEC financial reporting requirements;

•

establish and design internal financial reporting processes;

•

work on designing a control framework to ensure effective segregation of duties; and

•

work on designing and implementing controls over our recently implemented enterprise resource planning system to, among other things, automate certain controls, enforce segregation of duties and facilitate the review of journal entries.

The material weaknesses will not be considered remediated until management completes the design and implementation of the measures described above and the controls operate for a sufficient period of time and management has concluded, through testing, that these controls are effective.

Limitations on Effectiveness of Disclosure Controls and Procedures

In designing and evaluating our disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints and that management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs.

PART II—OTHER INFORMATION

Item 1. Legal Proceedings.

On March 23, 2018, Wright Medical, which was subsequently acquired by Stryker Corporation, filed the Wright Complaint against us in the United States District Court for the District of Colorado, Case No. 18-cv-00691-STV. The Wright Complaint, as amended, asserts that we (i) have infringed and continue to infringe nine Wright Medical patents (the Wright Asserted Patents), (ii) have misappropriated and continue to misappropriate Wright Medical trade secrets and confidential material, (iii) have and are unfairly competing with Wright Medical, and (iv) have intentionally interfered with Wright Medical contracts. The Wright Complaint, as amended, requests customary remedies for the claims raised, including (a) a judgment that we have infringed the Wright Medical patents and misappropriated, used and disclosed Wright Medical’s trade secrets, (b) a permanent injunction preventing us from further engaging in the alleged misconduct, including infringing the Wright Medical patents, from manufacturing, selling or distributing products that allegedly infringe such Wright Medical patents and from misappropriating Wright Medical’s trade secrets and confidential information, (c) damages, including punitive and statutory enhanced damages, (d) attorneys’ fees, (e) interest on any foregoing sums, and (f) any relief as the court deems just and equitable, which could include future royalty payments. We filed a motion to dismiss certain of Wright Medical’s claims, which the Court granted-in-part on September 30, 2019. The parties have completed fact discovery and expert discovery for Wright’s claims. On August 28, 2021, the Court granted our motion for leave to file counterclaims against Wright for abuse of process and tortious interference with contracts and reopened discovery. The parties completed discovery on our counterclaims in April, 2022 and finished briefing summary judgement motions on June 15, 2022. A trial has been set for June 2023.

We currently believe that we have substantial and meritorious defenses to Wright Medical’s claims and intend to vigorously defend our position, including through the trial and appellate stages if necessary. The outcome of any litigation, however, is inherently uncertain and there can be no assurance that the outcome of the case or the costs of litigation, regardless of outcome, will not have a material adverse effect on our business. In addition to Wright Medical’s claims set forth above, we received, in December 2021, an additional complaint from Wright Medical covering patents different than the Wright Asserted Patents. We do not at this time believe they represent a material liability to our company.

In addition to the above, we may in the ordinary course of business face various claims brought by third parties and we may, from time to time, make claims or take legal actions to assert our rights, including intellectual property rights as well as claims relating to employment matters and the safety or efficacy of our products. Any of these claims could cause us to incur substantial costs and, while we generally believe that we have adequate insurance to cover many different types of liabilities, our insurance carriers may deny coverage, may be inadequately capitalized to pay on valid claims, or our policy limits may be inadequate to fully satisfy any associated costs, damage awards or settlements. If this were to happen, the payment of any such awards could have a material adverse effect on our operations, cash flows and financial position. Additionally, any such claims, whether or not successful, could damage our reputation and business.

Item 1A. Risk Factors.

As of the date of this Quarterly Report on Form 10-Q, there have been no material changes to the risk factors disclosed in our Annual Report on Form 10-K for the year ended December 31, 2021. Additional risk factors not presently known to us or that we currently deem immaterial may also impair our business or results of operations. We may disclose changes to such factors or disclose additional factors from time to time in our future filings with the SEC.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

None

Item 3. Defaults Upon Senior Securities.

None

Item 4. Mine Safety Disclosures.

Not applicable

Item 5. Other Information.

Item 1.01 Entry into a Material Definitive Agreement.

Amendments to Midcap and Vectra Agreements

On November 9, 2022, the Company and its wholly-owned subsidiary, Paragon Advanced Technologies, Inc., a Delaware corporation (“Paragon Advanced Technologies”, and together with the Company, each a “Borrower” and collectively, the “Borrowers”), entered into: (i) an amendment (the “Third Amendment”) to the Credit and Security Agreement (Term Loan), dated as of May 6, 2021, as amended (the “Term Loan Agreement”), with MidCap Financial Trust, a Delaware statutory trust, as Agent and the Lenders party thereto, and (ii) an amendment (the "Fourth Amendment” and together with the Third Amendment, the “MidCap Amendments”) to the Credit and Security Agreement (Revolving Loan), dated as of May 6, 2021, as amended (the “Revolving Loan Agreement” and together with the Term Loan Agreement, “MidCap Credit Agreements”), with MidCap Funding IV Trust, a Delaware statutory trust, as agent and the lenders party thereto. Capitalized terms which are used, but not defined, herein shall have the meanings assigned to such terms in the MidCap Amendments, as applicable.

The Fourth Amendment increased the commitment amount available under the Revolving Loan Agreement from $30.0 million to $50.0 million. The MidCap Amendments modified the MidCap Credit Agreements to include provisions related to the transition from the LIBOR Interest Rate plus Applicable Margin to the SOFR Interest Rate plus Applicable Margin, maintaining the existing Applicable Margin of 6% under the Term Loan Agreement and increasing the Applicable Margin from 3% to 3.75% under the Revolving Loan Agreement. In addition, the MidCap Amendments amended certain covenants, terms and provisions in the MidCap Credit Agreements to, among other things, modify the covenant levels for the Minimum Net Product Sales financial covenant and to remove the Minimum Consolidated EBITDA financial covenant.

In addition, on November 10, 2022, the Company entered into the First Amendment (the “First Amendment” and together with the MidCap Amendments, the “Amendments”) to Business Loan Agreement, dated as of March 24, 2022 (the “Loan Agreement”), with Zions Bancorporation, N.A. dba Vectra Bank Colorado. Capitalized terms which are used, but not defined, herein shall have the meanings assigned to such terms in the First Amendment or the Loan Agreement, as applicable.

The First Amendment amended financial covenants set forth in the Loan Agreement to require the Company to maintain (i) the Liquidity Ratio, if the Cash Flow as of the last day of any quarter measured on a trailing three month basis is less than or equal to $0, and (ii) the Fixed Charge Coverage Ratio which will be calculated as of the last day of each quarter on a trailing four quarter basis, as well as a certain level of Liquidity, if the Cash Flow is greater than $0. The First Amendment also added the requirement to maintain the Net Revenue Growth greater than 0%, which will be calculated as of the last day of each quarter on a year-over-year basis.

The foregoing summary of the Amendments is not intended to be complete and is qualified in its entirety by reference to the Amendments, copies of which are attached hereto as Exhibits 10.1, 10.2 and 10.3 and are incorporated by reference herein.

Item 2.03 Creation of a Direct Financial Obligation or an Obligation under an Off-Balance Sheet Arrangement of a Registrant.

On November 9, 2022 and November 10, 2022, the Company entered into the Amendments. The summary of the terms of Amendments is set forth in Item 1.01 above, which is incorporated in its entirety by reference herein.

Item 6. Exhibits.

The following exhibits are included within or incorporated herein by reference.


Exhibit Number		Description
3.1		Amended and Restated Certificate of Incorporation of Paragon 28, Inc. (incorporated by reference from Exhibit 3.1 of the registrants Current Report on Form 8-K filed October 19, 2021).
3.2		Amended and Restated Bylaws (incorporated by reference from Exhibit 3.2 of the registrant's Current Report on Form 8-K filed October 19, 2021).
4.1		Form of Common Stock Certificate (incorporated by reference from Exhibit 4.2 of the registrant's registration statement Form S-1/A filed on October 8, 2021).
4.2		Amended and Restated Investors’ Rights Agreement, by and between Paragon 28, Inc. and the investors party thereto, dated as of July 28, 2020 (incorporated by reference from Exhibit 4.3 of registrant's registration statement Form S-1 filed on September 24, 2021).
10.1*		Third Amendment to Credit and Security Agreement (Term Loan), dated as of November 9, 2022, by and among Midcap Financial Trust, the lenders party thereto, Paragon 28, Inc and Paragon Advanced Technologies Inc.
10.2*		Fourth Amendment to Credit and Security Agreement (Revolving Loan), dated as of November 9, 2022, by and among Midcap Funding IV Trust, the lenders party thereto, Paragon 28, Inc. and Paragon Advanced Technologies Inc.
10.3*		First Amendment to Business Loan Agreement, effective as of November 10, 2022, by and between Zions Bancorporation, N.A. dba Vectra Bank Colorado and Paragon 28, Inc.
31.1*		Certification of Principal Executive Officer Pursuant to Rules 13a-14(a) and 15d-14(a) under the Securities Exchange Act of 1934, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2*		Certification of Principal Financial Officer Pursuant to Rules 13a-14(a) and 15d-14(a) under the Securities Exchange Act of 1934, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 200 2.
32.1*†		Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2*†		Certification of Principal Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS		Inline XBRL Instance Document – the instance document does not appear in the Interactive Data File because XBRL tags are embedded within the Inline XBRL document.
101.SCH		Inline XBRL Taxonomy Extension Schema Document
101.CAL		Inline XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF		Inline XBRL Taxonomy Extension Definition Linkbase Document
101.LAB		Inline XBRL Taxonomy Extension Label Linkbase Document
101.PRE		Inline XBRL Taxonomy Extension Presentation Linkbase Document
104		Cover Page Interactive Data File (embedded within the Inline XBRL document)

* Filed herewith.

† The certifications attached as Exhibit 32.1 and 32.2 that accompany this Quarterly Report are deemed furnished and not filed with the U.S. Securities and Exchange Commission and are not to be incorporated by reference into any filing of Paragon 28, Inc. under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date of this Quarterly Report, irrespective of any general incorporation language contained in such filing.

SIGNATURES

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


	PARAGON 28, INC.

Date: November 10, 2022	By:	/s/ Albert DaCosta
	Name:	Albert DaCosta
	Title:	Chief Executive Officer



Date: November 10, 2022	By:	/s/ Stephen M. Deitsch
	Name:	Stephen M. Deitsch
	Title:	Chief Financial Officer