SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2020
☐ 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: 001-38242
(Exact name of registrant as specified in its charter)
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification Number)
2850 Frontier Drive
Warsaw, IN 46582
(Address of principal executive offices, including zip code)
(Registrant’s telephone number, including area code)
|Title of Each Class||Trading Symbol(s)||Name of each exchange on which registered|
|Common Stock, $0.00025 par value per share||KIDS||Nasdaq Global Market|
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, a smaller reporting, 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
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 August 4, 2020, the registrant had 19,549,201 outstanding shares of common stock, $0.00025 par value per share.
For the Quarterly Period Ended June 30, 2020
TABLE OF CONTENTS
NOTE REGARDING FORWARD-LOOKING STATEMENTS
All statements, other than statements of historical facts, contained in this quarterly report, including statements regarding our business, operations and financial performance and condition, as well as our plans, objectives and expectations for our business, operations and financial performance and condition, are forward-looking statements. You can often identify forward-looking statements by words such as "anticipate," "believe," "continue," "could," "estimate," "expect," "intend," "may," "might," "target," "ongoing," "plan," "potential," "predict," "project," "should," "will" or "would," or the negative of these terms or other terms. Forward-looking statements involve known and unknown risks, uncertainties and other factors, such as the impact of the COVID-19 pandemic, that may cause our results, activity levels, performance or achievements to be materially different from the information expressed or implied by the forward-looking statements. Forward-looking statements may include, among other things, statements relating to:
•our ability to achieve or sustain profitability in the future;
•our ability to raise additional capital to fund our existing commercial operations, develop and commercialize new products and expand our operations;
•our ability to commercialize our products in development and to develop and commercialize additional products through our research and development efforts, and if we fail to do so we may be unable to compete effectively;
•our ability to generate sufficient revenue from the commercialization of our products to achieve and sustain profitability;
•our ability to comply with extensive government regulation and oversight both in the United States and abroad;
•our ability to maintain and expand our network of third-party independent sales agencies and distributors to market and distribute our products; and
•our ability to protect our intellectual property rights or if we are accused of infringing on the intellectual property rights of others;
We cannot assure you that forward-looking statements will prove to be accurate, and you are encouraged not to place undue reliance on forward-looking statements. Actual results or events could differ materially from the plans, intentions and expectations expressed or implied by the forward-looking statements. You are urged to carefully review and consider the various disclosures made by us in this quarterly report, in our Annual Report on Form 10-K filed with the Securities and Exchange Commission (the "SEC") on March 5, 2020 and in other reports filed with the SEC that discuss the risks and factors that may affect our business. Other than as required by law, we undertake no obligation to update or revise any forward-looking statements to reflect new information, events or circumstances occurring after the date of this quarterly report.
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONDENSED CONSOLIDATED BALANCE SHEETS
(In Thousands, Except Share Data)
|June 30, 2020||December 31, 2019|
|Cash||$||113,054 || ||$||70,777 || |
|Restricted Cash||1,361 || ||1,250 || |
Accounts receivable - trade, less allowance for doubtful accounts of $185 and $506, respectively
|14,897 || ||16,003 || |
|Inventories, net||48,875 || ||38,000 || |
|Notes receivable||656 || ||564 || |
|Prepaid expenses and other current assets||1,534 || ||1,464 || |
|Total current assets||180,377 || ||128,058 || |
|Property and equipment, net||24,131 || ||21,349 || |
|Amortizable intangible assets, net||42,206 || ||14,484 || |
|Goodwill||68,420 || ||13,773 || |
|Other intangible assets||13,357 || ||4,490 || |
|Total other assets||123,983 || ||32,747 || |
|Total assets||$||328,491 || ||$||182,154 || |
|LIABILITIES AND STOCKHOLDERS' EQUITY|
|Accounts payable - trade||$||6,003 || ||$||6,467 || |
|Accrued compensation and benefits||4,501 || ||4,349 || |
|Current portion of long-term debt with affiliate||128 || ||124 || |
|Current portion of acquisition installment payable||11,485 || ||— || |
|Other current liabilities||2,654 || ||2,723 || |
|Total current liabilities||24,771 || ||13,663 || |
|Long-term debt with affiliate, net of current portion||21,017 || ||26,067 || |
|Acquisition installment payable, net of current portion||12,021 || ||— || |
|Contingent consideration||28,100 || ||— || |
|Other long-term liabilities||120 || ||63 || |
|Total long-term liabilities||61,258 || ||26,130 || |
|Total liabilities||86,029 || ||39,793 || |
Common stock, $0.00025 par value; 50,000,000 shares authorized; 19,544,008 shares and 16,723,128 shares issued as of June 30, 2020 (unaudited) and December 31, 2019, respectively
|5 || ||4 || |
|Additional paid-in capital||385,510 || ||271,182 || |
|Accumulated deficit||(143,214)|| ||(128,822)|| |
|Accumulated other comprehensive loss||161 || ||(3)|| |
|Total stockholders' equity||242,462 || ||142,361 || |
|Total liabilities and stockholders' equity||$||328,491 || ||$||182,154 || |
See notes to condensed consolidated financial statements.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In Thousands, Except Share and Per Share Data)
|Three Months Ended June 30,||Six Months Ended June 30,|
|Net revenue||$||13,593 || ||$||18,200 || ||$||29,949 || ||$||32,856 || |
|Cost of revenue||3,532 || ||4,581 || ||7,675 || ||8,582 || |
|Gross profit||10,061 || ||13,619 || ||22,274 || ||24,274 || |
|Sales and marketing||5,620 || ||7,606 || ||13,184 || ||14,153 || |
|General and administrative||10,577 || ||6,569 || ||18,458 || ||12,181 || |
|Research and development||881 || ||1,234 || ||2,146 || ||2,447 || |
|Total operating expenses||17,078 || ||15,409 || ||33,788 || ||28,781 || |
|Operating loss||(7,017)|| ||(1,790)|| ||(11,514)|| ||(4,507)|| |
|Interest expense, net||1,399 || ||632 || ||1,778 || ||935 || |
|Fair value adjustment of contingent consideration||910 || ||— || ||910 || ||— || |
|Other expense||121 || ||37 || ||190 || ||37 || |
|Total other expenses||2,430 || ||669 || ||2,878 || ||972 || |
|Net loss from continuing operations||(9,447)|| ||(2,459)|| ||(14,392)|| ||(5,479)|| |
|Net loss from discontinued operations||— || ||(159)|| ||— || ||(159)|| |
|Net loss||$||(9,447)|| ||$||(2,618)|| ||$||(14,392)|| ||$||(5,638)|| |
|Weighted average common stock - basic and diluted||17,549,118 || ||14,451,979 || ||16,986,485 || ||14,409,752 || |
|Net loss per share - basic and diluted||$||(0.54)|| ||$||(0.18)|| ||$||(0.85)|| ||$||(0.39)|| |
See notes to condensed consolidated financial statements.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
|Three Months Ended June 30,||Six Months Ended June 30,|
|Net loss||$||(9,447)|| ||$||(2,618)|| ||$||(14,392)|| ||$||(5,638)|| |
|Other comprehensive (loss) income:|
| Foreign currency translation adjustment||1,522 || ||(133)|| ||164 || ||168 || |
|Other comprehensive (loss) income||1,522 || ||(133)|| ||164 || ||168 || |
|Comprehensive loss||$||(7,925)|| ||$||(2,751)|| ||$||(14,228)|| ||$||(5,470)|| |
See notes to condensed consolidated financial statements.
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
(In Thousands, Except Share Data)
|Three and Six Months Ended June 30, 2020|
|Common Stock||Treasury Stock||Paid-in||Accumulated||Comprehensive||Stockholders'|
|Balance at January 1, 2020||16,723,128 || ||$||4 || ||— || ||$||— || ||$||271,182 || ||$||(128,822)|| ||$||(3)|| ||$||142,361 || |
|Net loss||— || ||— || ||— || ||— || ||— || ||(4,945)|| ||— || ||(4,945)|| |
|Other comprehensive income||— || ||— || ||— || ||— || ||— || ||— || ||(1,358)|| ||(1,358)|| |
|Stock option exercise||22,208 || ||— || ||— || ||— || ||688 || ||— || ||— || ||688 || |
|Restricted stock||105,710 || ||— || ||— || ||— || ||958 || ||— || ||— || ||958 || |
|Consideration for Telos Acquisition||36,628 || ||— || ||— || ||— || ||1,750 || ||— || ||— || ||1,750 || |
|Repurchase of common stock||— || ||— || ||(4,014)|| ||(187)|| ||— || ||— || ||— || ||(187)|| |
|Balance at March 31, 2020||16,887,674 || ||$||4 || ||(4,014)|| ||$||(187)|| ||$||274,578 || ||$||(133,767)|| ||$||(1,361)|| ||$||139,267 || |
|Net Loss||— || ||— || ||— || ||— || ||— || ||(9,447)|| ||— || ||(9,447)|| |
|Other comprehensive loss||— || ||— || ||— || ||— || ||— || ||— || ||1,522 || ||1,522 || |
|Stock option exercise||19,162 || ||— || ||— || ||— || ||593 || ||— || ||— || ||593 || |
|Restricted stock||52,032 || ||— || ||— || ||— || ||2,495 || ||— || ||— || ||2,495 || |
|Consideration for ApiFix acquisition and Band-Lok intellectual property purchase||989,154 || ||— || ||— || ||— || ||37,638 || ||— || ||— || ||37,638 || |
|Issuance of common stock, net of issuance cost||1,595,986 || ||1 || ||4,014 || ||187 || ||70,206 || ||— || ||— || ||70,394 || |
|Balance at June 30, 2020||19,544,008 || ||$||5 || ||— || ||$||— || ||$||385,510 || ||$||(143,214)|| ||$||161 || ||$||242,462 || |
|Three and Six Months Ended June 30, 2019|
|Balance at January 1, 2019||14,538,202 || ||$||4 || ||$||197,442 || ||$||(115,091)|| ||$||(623)|| ||$||81,732 || |
|Net loss||— || ||— || ||— || ||(3,020)|| ||— || ||(3,020)|| |
|Other comprehensive income||— || ||— || ||— || ||— || ||301 || ||301 || |
|Stock option exercise||18,427 || ||— || ||565 || ||— || ||— || ||565 || |
|Restricted stock||125,769 || ||— || ||471 || ||— || ||— || ||471 || |
|Balance at March 31, 2019||14,682,398 || ||$||4 || ||$||198,478 || ||$||(118,111)|| ||$||(322)|| ||$||80,049 || |
|Net Loss||— || ||— || ||— || ||(2,618)|| ||— || ||(2,618)|| |
|Other comprehensive loss||— || ||— || ||— || ||— || ||(133)|| ||(133)|| |
|Acquisition consideration||245,352 || ||— || ||10,000 || ||— || ||— || ||10,000 || |
|Stock option exercise||2,983 || ||— || ||92 || ||— || ||— || ||92 || |
|Restricted stock||8,729 || ||— || ||692 || ||— || ||— || ||692 || |
|Balance at June 30, 2019||14,939,462 || ||$||4 || ||$||209,262 || ||$||(120,729)|| ||$||(455)|| ||$||88,082 || |
See notes to condensed consolidated financial statements.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
|Six Months Ended|
|Net loss||$||(14,392)|| ||$||(5,638)|| |
|Adjustments to reconcile net loss to net cash used in operating activities:|
|Depreciation and amortization||3,285 || ||1,912 || |
|Stock-based compensation||3,453 || ||1,163 || |
|Fair value adjustment of contingent consideration||910 || ||— || |
|Acquisition installment payable||886 || ||— || |
|Changes in certain current assets and liabilities:|
|Accounts receivable - trade||1,609 || ||(5,499)|| |
|Inventories||(9,599)|| ||(5,139)|| |
|Prepaid expenses and other current assets||66 || ||(14)|| |
|Accounts payable - trade||(746)|| ||1,934 || |
|Accrued expenses and other liabilities||(129)|| ||357 || |
|Other||(50)|| ||139 || |
|Net cash used in operating activities - continuing operations||(14,707)|| ||(10,785)|| |
|Net cash provided by operating activities - discontinued operations||— || ||371 || |
|Net cash used in operating activities||(14,707)|| ||(10,414)|| |
|Acquisition of Telos, net of cash acquired||(1,670)|| ||— || |
|Acquisition of ApiFix, net of cash acquired||(1,723)|| ||— || |
|Acquisition of Band-Lok intangible assets||(796)|| ||— || |
|Acquisition of Vilex and Orthex, net of cash acquired||— || ||(49,926)|| |
|Purchases of licenses||— || ||(170)|| |
|Purchases of property and equipment||(5,160)|| ||(8,514)|| |
|Net cash used in investing activities - continuing operations||(9,349)|| ||(58,610)|| |
|Net cash used in investing activities - discontinued operations||— || ||(47)|| |
|Net cash used in investing activities||(9,349)|| ||(58,657)|| |
|Proceeds from issuance of debt with affiliate||— || ||30,000 || |
|Payments on note with affiliate||(5,000)|| ||— || |
|Proceeds from issuance of common stock, net of issuance costs||70,207 || ||— || |
|Proceeds from exercise of stock options||1,281 || ||657 || |
|Payments on mortgage notes||(61)|| ||(59)|| |
|Net cash provided by financing activities||66,427 || ||30,598 || |
|Effect of exchange rate changes on cash||17 || ||— || |
|NET INCREASE (DECREASE) IN CASH||42,388 || ||(38,473)|| |
|Cash and restricted cash, beginning of year||$||72,027 || ||$||60,691 || |
|Cash and restricted cash, end of period||$||114,415 || ||$||22,218 || |
|Less cash of discontinued operations, end of period||$||— || ||$||360 || |
|Cash of continuing operations, end of period||$||114,415 || ||$||21,858 || |
|Cash paid for interest||$||513 || ||$||935 || |
|Transfer of instruments from property and equipment to inventory||$||229 || ||$||267 || |
|Issuance of common shares to acquire Vilex and Orthex||$||— || ||10,000 || |
|Issuance of common shares to acquire Telos||$||1,568 || ||$||— || |
|Issuance of common shares to acquire ApiFix||$||35,176 || ||$||— || |
|Issuance of common shares to acquire Band-Lok||$||2,644 || ||$||— || |
See notes to condensed consolidated financial statements.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Dollars In Thousands, Except Share and Per Share data)
NOTE 1 – BUSINESS
OrthoPediatrics Corp., a Delaware corporation, is a medical device company committed to designing, developing and marketing anatomically appropriate implants and devices for children with orthopedic conditions, giving pediatric orthopedic surgeons and caregivers the ability to treat children with technologies specifically designed to meet their needs. We sell our specialized products, including PediLoc®, PediPlates®, Cannulated Screws, PediFlexTM nail, PediNailTM, PediLoc® Tibia, ACL Reconstruction System, Locking Cannulated Blade, Locking Proximal Femur, Spica Tables, RESPONSE Spine, Bandloc, Pediguard, Pediatric Nailing Platform | Femur, Orthex, QuickPackTM and ApiFix to various hospitals and medical facilities throughout the United States and various international markets. We currently use a contract manufacturing model for the manufacturing of implants and related surgical instrumentation.
In 2017, we expanded operations and established legal entities in the United Kingdom, Australia and New Zealand, permitting us to sell under an agency model direct to local hospitals in these countries. In September 2018, we further expanded operations in Canada selling direct to local hospitals, and in January 2019 we expanded to Belgium and the Netherlands. Additionally, in March 2019 we established a holding company and an operating company in the Netherlands and began selling direct to Italy in March 2020 enhancing our operations in Europe.
On June 4, 2019, we purchased all the issued and outstanding shares of stock of Vilex in Tennessee, Inc. ("Vilex") and all the issued and outstanding units of membership interests in Orthex, LLC ("Orthex") for $60,000 in total consideration. Vilex and Orthex (the "Vilex Companies") are primarily manufacturers of foot and ankle surgical implants, including cannulated screws, fusion devices, surgical staples and bone plates, as well as Orthex Hexapod technology which is used to treat pediatrics congenital deformities and limb length discrepancies.
On December 31, 2019, we divested substantially all of the assets relating to Vilex's adult product offerings to a wholly-owned subsidiary of Squadron Capital LLC ("Squadron") in exchange for a $25,000 reduction in a Term Note owed to Squadron in connection with the initial acquisition. As part of the sale, we also executed an exclusive license arrangement with Squadron providing for perpetual access to certain intellectual property and a mutual distribution agreement.
On March 9, 2020, we purchased all the issued and outstanding membership interest of Telos Partners, LLC ("Telos") for $3,300 in total consideration. Telos is a boutique regulatory consulting firm formed in Colorado.
On April 1, 2020, we purchased all the issued and outstanding membership interest of ApiFix, Ltd. ("ApiFix") for (a) $2,000 in cash, and (b) 934,783 shares of the Company's common stock, $0.00025 par value per share, representing approximately $35,000 (based on a closing share price of $37.63 on April 1, 2020. ApiFix, a corporation organized under the laws of Israel, has developed a minimally invasive deformity correction system for patients with Adolescent Idiopathic Scoliosis ("ApiFix System"). In addition, we have also agreed to pay as part of the purchase price the following anniversary payments: (i) $13,000 on the second anniversary of the closing date, provided that such payment will be paid earlier if 150 clinical procedures using the ApiFix System are completed in the United States before such anniversary date, (ii) $8,000 on the third anniversary of the closing date; and (iii) $9,000 on the fourth anniversary of the closing date. In addition, to the extent that the product of our revenues from the ApiFix System for the twelve months ended June 30, 2024 multiplied by 2.25 exceeds the anniversary payments
actually made for the third and fourth years, we have agreed to pay the selling shareholders a system sales payment in the amount of such excess. The anniversary payments and system sales payment may each be made in cash or cash and common stock.
On June 10, 2020, we purchased certain intellectual property assets from Band-Lok, LLC, a North Carolina limited liability company ("Band-Lok"), related to its Tether Clamp and Implantation System ("Tether Clamp System") for approximately $3,400 in total consideration. We use the Tether Clamp System in connection with our Bandloc 5.5/6.0 System. We were previously the sole licensee of the purchased assets under a license agreement with Band-Lok.
Our largest investor is Squadron, a private investment firm based in Granby, Connecticut.
NOTE 2 – SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying condensed consolidated financial statements include the accounts of OrthoPediatrics Corp. and its wholly-owned subsidiaries, OrthoPediatrics US Distribution Corp., OrthoPediatrics EU Limited, OrthoPediatrics AUS PTY LTD, OrthoPediatrics NZ Limited, OP EU B.V., OP Netherlands B.V., Vilex in Tennessee, Inc., Orthex, LLC, Telos Partners, LLC, ApiFix Ltd. and ApiFix Inc. (collectively, the “Company,” “we,” “our” or “us”). All intercompany balances and transactions have been eliminated.
Unaudited Interim Condensed Consolidated Financial Statements
We have prepared the accompanying condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”). The accompanying condensed consolidated balance sheets as of June 30, 2020 and December 31, 2019, the condensed consolidated statements of operations for the three and six months ended June 30, 2020 and 2019, the condensed consolidated statements of comprehensive loss for the three and six months ended June 30, 2020 and 2019, the condensed consolidated statements of stockholders’ equity for the three and six months ended June 30, 2020 and 2019 and the condensed consolidated statements of cash flows for the six months ended June 30, 2020 and 2019 are unaudited and should be read in conjunction with the annual consolidated financial statements as of and for the year ended December 31, 2019 and related notes thereto contained in our Annual Report on Form 10-K filed with the Securities and Exchange Commission ("SEC") on March 5, 2020. The financial data and other financial information disclosed in the notes to the accompanying condensed consolidated financial statements are also unaudited. As such, certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to applicable rules and regulations thereunder.
The unaudited condensed consolidated financial statements have been prepared on the same basis as the audited consolidated financial statements as of and for the year ended December 31, 2019 and, in management’s opinion, include all adjustments, consisting of only normal recurring adjustments, necessary for the fair presentation of the financial statements for the interim periods. The results of operations for the three and six months ended June 30, 2020 are not necessarily indicative of the results to be expected for the full fiscal year or for any other period.
The accompanying condensed consolidated financial statements have been prepared assuming our Company will continue as a going concern. We have experienced recurring losses from operations since our inception and had an accumulated deficit of $143,214 and $128,822 as of June 30, 2020 and December 31, 2019, respectively. Management continues to monitor cash flows and liquidity on a regular basis. We believe that our cash balance at June 30, 2020 and expected cash flows from operations for the next twelve months subsequent to the issuance of the accompanying condensed consolidated
financial statements, are sufficient to enable us to maintain current and essential planned operations for more than the next twelve months.
On June 22, 2020, we completed a follow-on offering of our common stock, in which we issued and sold 1.6 million shares of common stock at a public offering price of $47.00 per share for aggregate gross proceeds of $75,200. We received $70,207 in net proceeds after deducting $4,512 of underwriting discounts and commissions and paying $481 in offering costs.
Use of Estimates
Preparation of the condensed consolidated financial statements requires the use of estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, as of the date of the condensed consolidated financial statements. By their nature, these judgments are subject to an inherent degree of uncertainty. The impact of the coronavirus disease ("COVID-19") has significantly increased economic and demand uncertainty. We use historical experience and other assumptions as the basis for our judgments and estimates. 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 condensed consolidated financial statements.
Foreign Currency Transactions
We currently bill our international distributors in United States ("U.S.") dollars, resulting in minimal foreign exchange transaction expense.
Beginning in the second quarter of 2017, we began selling direct within the United Kingdom, Ireland, Australia and New Zealand and billing using the local currency for each country. In September 2018, we began selling direct in Canada, in January 2019 in Belgium and the Netherlands, in March 2020 in Italy and in April 2020 in Israel. The financial statements of our foreign subsidiaries are accounted for and have been translated into U.S. dollars using end-of-period exchange rates for assets and liabilities and average exchange rates during each reporting period for results of operations. Foreign currency translation adjustments have been recorded as a separate component of the condensed consolidated statements of comprehensive loss.
Revenue from Contracts with Customers
In accordance with ASC 606, "Revenue From Contracts With Customers (ASC 606)", revenue is recognized when a customer obtains control of promised goods or services. The amount of revenue recognized reflects the consideration to which the Company expects to be entitled to receive in exchange for these goods or services, and excludes any sales incentives or taxes collected from a customer which are subsequently remitted to government authorities.
Revenue Recognition – United States
Revenue in the United States is generated primarily from the sale of our implants and, to a much lesser extent, from the sale of our instruments. Sales in the United States are primarily to hospital accounts through independent sales agencies. We recognize revenue when our performance obligations under the terms of a contract with our customer are satisfied. This typically occurs when we transfer control of our products to the customers, generally upon implantation or when title passes upon shipment. The products are generally consigned to our independent sales agencies, and revenue is recognized when the products are used by or shipped to the hospital for surgeries on a case by case basis. On rare occasions, hospitals purchase products for their own inventory, and revenue is recognized when the products are shipped and the title and risk of loss passes to the customer. Pricing for each customer is dictated by a unique pricing agreement, which does not generally include rebates or discounts.
Revenue Recognition – International
Outside of the United States, we primarily sell our products through independent stocking distributors. Generally, the distributors are allowed to return products, and some are thinly capitalized. Based on our history of collections and returns from international customers, prior to 2019, we concluded that collectability was not reasonably assured at the time of delivery for certain customers who had not evidenced a consistent pattern of timely payment. Accordingly, in the past we did not recognize international revenue and associated cost of revenue at the time title transfers for these customers for whom collectability had not been deemed probable based on the customer’s history and ability to pay, but rather when cash had been received.
Following a review of our collection history, we deemed collectability was probable for all international stocking distributors effective January 1, 2019. Based on a history of reliable collections, we have concluded that a contract exists and revenue should be recognized when our performance obligations under the terms of the contract with our customer are satisfied. This typically occurs when we transfer control of our products to the customer, generally upon implantation or when title passes upon shipment.
In the countries where we sell under an agency model direct to local hospitals, the products are generally consigned to our independent sales agencies, and revenue is recognized when the products are used by or shipped to the hospital for surgeries on a case by case basis. On rare occasions, hospitals purchase products for their own inventory, and revenue is recognized when the products are shipped and the title and risk of loss passes to the customer. Pricing for each customer is dictated by a unique pricing agreement, which does not generally include rebates or discounts.
Cash and Cash Equivalents
We maintain cash in bank deposit accounts which, at times, may exceed federally insured limits. To date, we have not experienced any loss in such accounts. We consider all highly liquid investments with original maturity of three months or less at inception to be cash equivalents. The carrying amounts reported in the balance sheet for cash are valued at cost, which approximates fair value.
Accounts receivable are uncollateralized customer obligations due under normal trade terms, generally requiring payment within 30 days from the invoice date. Account balances with invoices over 30 days past due are considered delinquent. No interest is charged on past due accounts. Payments of accounts receivable are applied to the specific invoices identified on the customer's remittance advice or, if unspecified, to the customer's account as an unapplied credit.
The carrying amount of accounts receivable is reduced by an allowance that reflects management's best estimate of the amounts that will not be collected, determined principally on the basis of historical experience, management's assessment of the collectability of specific customer accounts and the aging of the accounts receivable. All accounts or portions thereof deemed to be uncollectible or to require an excessive collection cost are written off to the allowance for doubtful accounts.
Inventories are stated at the lower of cost or net realizable value, with cost determined using the first-in-first-out method. Inventories, which consist of implants and instruments held in our warehouse or with third-party independent sales agencies or distributors, are considered finished goods and are purchased from third parties.
We evaluate the carrying value of our inventories in relation to the estimated forecast of product demand, which takes into consideration the life cycle of the product. A significant decrease in demand could result
in an increase in the amount of excess inventory on hand, which could lead to additional charges for excess and obsolete inventory.
The need to maintain substantial levels of inventory impacts our estimates for excess and obsolete inventory. Each of our implant systems are designed to include implantable products that come in different sizes and shapes to accommodate the surgeon’s needs. Typically, a small number of the set components are used in each surgical procedure. Certain components within each set may become obsolete before other components based on the usage patterns. We adjust inventory values, as needed, to reflect these usage patterns and life cycle.
In addition, we continue to introduce new products, which may require us to take additional charges for excess and obsolete inventory in the future.
Property and Equipment, net
Property and equipment are carried at cost less accumulated depreciation. Depreciation is computed using the straight-line method over the estimated useful life of the assets. When assets are retired or otherwise disposed of, costs and related accumulated depreciation are removed from the accounts, and any resulting gain or loss is recognized in operations for the period. Maintenance and repairs that prolong or extend the useful life are capitalized, whereas standard maintenance, replacements, and repair costs are expensed as incurred.
Instruments are hand-held devices, specifically designed for use with our implants and are used by surgeons during surgery. Instruments deployed within the United States, United Kingdom, Australia, New Zealand, Canada, Belgium, the Netherlands and Italy are carried at cost less accumulated depreciation and are recorded in property and equipment, net on the condensed consolidated balance sheets.
Sample inventory consists of our implants and instruments, and is maintained to market and promote our products. Sample inventory is carried at cost less accumulated depreciation.
Depreciable lives are generally as follows:
|Building and building improvements|
25 to 30 years
|Furniture and fixtures|
5 to 7 years
3 to 5 years
|Office and other equipment|
5 to 7 years
Amortizable Intangible Assets, net
Amortizable intangible assets include fees necessary to secure various patents and licenses, including Band-Lok, the value of internally developed software, customer relationships, and non-competition agreements related to the acquisition of Orthex, and customer relationships and non-competition agreements related to the acquisitions of Telos and ApiFix. Amortization is calculated on a straight-line basis over the estimated useful life of the asset. Amortization for patents and licenses commences at the time of patent approval and market launch, respectively. Amortization for assets acquired commences upon acquisition. Intangible assets are amortized over a 3 to 20 year period.
Amortizable intangible assets are assessed for impairment annually or whenever events or changes in circumstances 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 such assets are determined to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount exceeds the fair market value of the assets. No impairment charges were recorded in any of the periods presented.
Goodwill and Other Intangible Assets
Our goodwill represents the excess of the cost over the fair value of net assets acquired. The determination of the value of goodwill and intangible assets arising from acquisitions requires extensive use of accounting estimates and judgments to allocate the purchase price to the fair value of net tangible and intangible assets acquired. Goodwill is not amortized and is assessed for impairment using fair value measurement techniques on an annual basis or more frequently if facts and circumstances warrant such a review. The goodwill is considered to be impaired if we determine that the carrying value of the reporting unit exceeds its respective fair value.
We have indefinite lived tradename assets that are reviewed for impairment by performing a quantitative analysis, which occurs annually in the fourth quarter or whenever events or changes in circumstances 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 such assets are determined to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount exceeds the fair market value of the assets. No impairment charges were recorded in any of the periods presented.
Cost of Revenue
Cost of revenue consists primarily of products purchased from third-party suppliers, excess and obsolete inventory adjustments, inbound freight, and royalties. Our implants and instruments are manufactured to our specifications by third-party suppliers who meet our manufacturer qualifications standards. Our third-party manufacturers are required to meet the standards of the Food and Drug Administration (the “FDA”), and the International Organization for Standardization, as well as other country-specific quality standards. The majority of our implants and instruments are produced in the United States.
Sales and Marketing Expenses
Sales and marketing expenses primarily consist of commissions to our domestic and select international independent sales agencies and consignment distributors, as well as compensation, commissions, benefits and other related costs for personnel we employ. Commissions and bonuses are generally based on a percentage of sales. Our international independent stocking distributors purchase instrument sets and replenishment stock for resale, and we do not pay commissions or any other sales related costs for international sales to distributors.
Advertising costs consist primarily of print advertising, trade shows, and other related expenses. Advertising costs are expensed as incurred and are recorded as a component of sales and marketing expense.
Research and Development Costs
Research and development costs are expensed as incurred. Our research and development expenses primarily consist of costs associated with engineering, product development, consulting services, outside prototyping services, outside research activities, materials, development and protection of our intellectual property portfolio, as well as other costs associated with development of our products. Research and development costs also include related personnel and consultants’ compensation expense.
Prior to our Initial Public Offering ("IPO") in October 2017, we maintained an Amended and Restated 2007 Equity Incentive Plan (the “2007 Plan”) that provided for grants of options and restricted stock to employees, directors and associated third-party representatives of the Company as determined by the Board of Directors. The 2007 Plan had authorized 1,585,000 shares for award.
Immediately prior to our IPO, we adopted our 2017 Incentive Award Plan (the "2017 Plan") which replaced the 2007 Plan. The 2017 Plan provides for grants of options and restricted stock to officers, employees, consultants or directors of our Company. The 2017 Plan has authorized 1,789,647 shares for award.
Options holders, upon vesting, may purchase common stock at the exercise price, which is the estimated fair value of our common stock on the date of grant. Option grants generally vest immediately or over three years. No stock options were granted in any of the periods presented.
Restricted stock may not be transferred prior to the expiration of the restricted period, which is typically three years. The restricted stock that had been granted under the 2007 Plan had restriction periods that generally lasted until the earlier of six years from the date of grant, or an IPO or change in control, as defined in the 2007 Plan. All restricted stock granted prior to May 2014 vested upon our IPO and the remaining grants under the 2007 Plan vested six months after the IPO. We recognize the reversal of stock compensation expense when a restricted stock forfeiture occurs as opposed to estimating future forfeitures.
We record the fair value of restricted stock at the grant date. Stock-based compensation is recognized ratably over the requisite service period, which is generally the restriction period for restricted stock.
Comprehensive Income (Loss)
Comprehensive income (loss) is defined as the change in equity during a period from transactions and other events and circumstances from non-owner sources. Comprehensive income (loss) includes foreign currency translation adjustments.
We account for income taxes under the asset and liability method, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the condensed consolidated financial statements. Under this method, we determine deferred tax assets and liabilities on the basis of the differences between the financial statement and tax bases of assets and liabilities by using enacted tax rates in effect for the year in which the differences are expected to reverse. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in income in the period that includes the enactment date.
We recognize deferred tax assets to the extent that we believe that these assets are more likely than not to be realized. In making such a determination, we consider all available positive and negative evidence. If we determine that we would be able to realize our deferred tax assets in the future in excess of their net recorded amount, we would make an adjustment to the valuation allowance.
We record uncertain tax positions on the bases of a two-step process in which (i) we determine whether it is more likely than not that the tax positions will be sustained on the basis of the technical merits of the positions and (ii) for those tax positions that meet the more-likely-than-not recognition threshold, we recognize the largest amount of tax benefit that is more than 50% likely to be realized upon ultimate settlement with the related tax authority.
“Emerging Growth Company” Reporting Requirements
We qualify as an “emerging growth company” as defined in the JOBS Act. For as long as a company is deemed to be an emerging growth company, it may take advantage of specified reduced reporting and other regulatory requirements that are generally unavailable to other public companies. Among other things, we are not required to provide an auditor attestation report on the assessment of the internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act of 2002.
Section 107 of the JOBS Act also provides that an emerging growth company can delay the adoption of certain accounting standards until those standards would otherwise apply to private companies. We have irrevocably elected not to avail ourselves of this exemption from new or revised accounting standards and, therefore, we will be subject to the same new or revised accounting standards as other public companies that are not emerging growth companies.
In April 2017, the SEC adopted new rules that included an inflation-adjusted threshold in the definition of an emerging growth company. Under the new inflation-adjusted threshold, we would cease to be an emerging growth company on the last day of the fiscal year in which our annual gross revenues exceed $1.07 billion. This is an increase of $70 million from the previous $1 billion threshold.
Recent Accounting Pronouncements
In June 2016, the FASB issued ASU No. 2016-13 "Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments". The ASU is intended to improve financial reporting by requiring timelier recording of credit losses on loans and other financial instruments held by financial institutions and other organizations. The ASU requires the measurement of all expected credit losses for financials assets including trade receivables held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better inform their credit loss estimates. Based on ASU 2019-10 and our status as a Smaller Reporting Company, the Company will adopt ASU 2016-13 effective January 1, 2023. The adoption of this guidance is not expected to have a significant impact on the Company's consolidated financial statements and related disclosures.
In January 2017, the FASB issued ASU 2017-04, "Intangibles-Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment". This pronouncement eliminates Step 2 from the goodwill impairment test and requires an entity to perform its goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. Under this guidance, an entity should recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value. It is effective for reporting periods beginning after December 15, 2020, although earlier adoption is permitted. The Company adopted this standard on January 1, 2020 and it did not have a significant impact on the Company's consolidated financial statements and related disclosures.
In December 2019, the FASB issued ASU No. 2019-12 "Income Taxes: Simplifying the Accounting for Income Taxes" intended to simplify the accounting for income taxes by eliminating certain exceptions related to the approach for intraperiod tax allocation, the methodology for calculating income taxes in an interim period and the recognition of deferred tax liabilities for outside cost basis differences. The new guidance also simplifies aspects of the accounting for franchise taxes and enacted changes in tax laws or rates and clarifies the accounting for transactions that result in a step-up in the tax basis of goodwill. The standard is effective for annual periods beginning after December 15, 2020 and interim periods within, with early adoption permitted. Adoption of the standard requires certain changes to be made prospectively, with some changes to be made retrospectively. The Company adopted this standard on January 1, 2020 and it did not have a significant impact on the Company's consolidated financial statements and related disclosures.
NOTE 3 – BUSINESS COMBINATION
On April 1, 2020, the Company purchased all the issued and outstanding membership interest of ApiFix for $2,000 in cash, including $343 of cash acquired, 934,783 shares of the Company's common stock, $0.00025 par value per share, representing approximately $35,176 (based on a closing share price of $37.63 on April 1, 2020), $30,000 in anniversary payments, and approximately $41,741 in a system sales payment. The total consideration transferred of $87,379 is preliminary and subject to certain limitations and adjustments. ApiFix, a corporation organized under the laws of Israel, has developed a minimally invasive deformity correction system for patients with Adolescent Idiopathic Scoliosis ("ApiFix System").
The Company incurred $310 of acquisition-related costs that are included in general and administrative expenses on the consolidated statements of operations. The purchase price allocation set forth herein is preliminary.
The following table summarizes the total consideration paid for ApiFix and allocation of purchase price to the estimated fair value of the assets acquired and liabilities assumed at the acquisition date (in thousands):
|Preliminary fair value of estimated total acquisition consideration||$||87,379 || |
|Cash||344 || |
|Accounts receivable-trade||245 || |
|Inventories||685 || |
|Prepaid expenses and other current assets||77 || |
|Property and equipment||153 || |
|Intangible assets||24,330 || |
|Other intangible assets||8,620 || |
|Operating lease right-of-use asset||104 || |
|Total assets||34,558 || |
|Accounts payable and accrued liabilities||226 || |
|Operating lease liabilities||106 || |
|Other long-term liabilities||270 || |
|Total liabilities||602 || |
|Less: total net assets||33,956 || |
|Goodwill||$||53,423 || |
The fair value of identifiable intangible assets were based on valuations using a combination of the income and cost approach. The estimated fair value and useful life of identifiable intangible assets are as follows:
|Amount||Remaining Economic Useful Life|
|Trademarks / Names||$||8,620 || ||Indefinite|
|Patents||23,790 || ||15 years|
|Customer Relationships||340 || ||10 years|
|Non-competition Agreements||200 || ||4 years|
|$||32,950 || |
The Company is obligated to make anniversary payments of: (i) $13,000 on the second anniversary of the closing date, provided that such payment will be paid earlier if 150 clinical procedures using the ApiFix System are completed in the United States before such anniversary date, (ii) $8,000 on the third anniversary of the closing date; and (iii) $9,000 on the fourth anniversary of the closing date, subject to adjustments. The Company anticipates making the second anniversary payment of $13,000 during the first half of 2021. In addition, to the extent that the product of our revenues from the ApiFix System for the twelve months ended June 30, 2024 multiplied by 2.25 exceeds the anniversary payments actually made for the third and fourth years, we have agreed to pay the selling shareholders a system sales payment in the amount of such excess. The anniversary payments and system sales payment may each be made in cash or cash and common stock, subject to certain limitations; provided that the Company makes the determination with respect to anniversary payments and a representative of the former ApiFix shareholders may make the determination with respect to the system sales payment, if any.
The fair value of the contingent consideration payments is considered a Level 3 investment and were determined by an independent valuation specialist at the original issuance date using an option pricing model and a Monte Carlo simulation based on forecast annual revenue, expected volatility and an implied probability of achieving revenue forecasts. The fair value of the payments will continue to be adjusted as additional information becomes available regarding the progress toward achievement of the revenue forecast. The adjustment in the fair value of the contingent consideration payments of $910 was recognized as an expense for the six month period ended June 30, 2020 in other expenses on the condensed consolidated statements of operations. An additional $886 was recognized as interest expense for the six month period ended June 30, 2020 on the condensed consolidated statements of operations for the adjustment in the fair value of the acquisition installment payable.
Presented below is a summary of the present value of the anniversary payments and system sales payment related to the ApiFix acquisition:
|April 1, 2020||June 30, 2020|
|Anniversary Payments: |
|Second Year Payment||$||10,980 || ||$||11,485 || |
|Third Year Payment||5,780 || ||5,965 || |
|Fourth Year Payment||5,860 || ||6,|