ALPHATEC HOLDINGS, INC. Under the 2019 Management Objective Strategic Incentive Plan, the Company is authorized to grant up to 500,000 shares of common stock to third-party individuals or entities that do not qualify under the Company's other existing equity plans, with a maximum grant of 50,000 shares per participant. As ofSeptember 30, 2020 , 130,000 restricted shares and a warrant to purchase up to 25,000 restricted common stock shares have been granted under the 2019 Management Objective Strategic Incentive Plan. Total expense for the plan was$0.1 for the three and nine months endedSeptember 30, 2020 .
10. Income Taxes
To calculate its interim tax provision, at the end of each interim period the
Company estimates the annual effective tax rate and applies that to its ordinary
quarterly earnings. In addition, the effect of changes in enacted tax laws or
rates or tax status is recognized in the interim period in which the change
occurs. The computation of the annual estimated effective tax rate at each
interim period requires certain estimates and significant judgment including,
but not limited to, the expected operating income for the year, projections of
the proportion of income earned and taxed in foreign jurisdictions, permanent
and temporary differences between book and tax amounts, and the likelihood of
recovering deferred tax assets generated in the current year. The accounting
estimates used to compute the provision for income taxes may change as new
events occur, additional information is obtained or the tax environment changes.
22
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Intraperiod tax allocation rules require the Company to allocate the provision
for income taxes between continuing operations and other categories of earnings,
such as discontinued operations. In periods in which the Company has a
year-to-date pre-tax loss from continuing operations and pre-tax income in other
categories of earnings, such as discontinued operations, the Company must
allocate the tax provision to the other categories of earnings, and then record
a related tax benefit in continuing operations.
The unrecognized tax benefits at September 30, 2020 and December 31, 2019 were
$2.5 million for both periods, with no changes occurring during the year-to-date
period. With the information currently available to the Company, it is
reasonably possible there will not be a reversal to the tax reserves over the
next twelve-month period. The Company recognizes interest and penalties related
to uncertain tax positions as a component of the income tax provision. The
Company is not currently under examination by the Internal Revenue Service,
foreign, or state or local tax authorities.
For the three months ended September 30, 2020 , the Company had an effective tax
rate of 0% and recognized an immaterial amount of income tax provision from
continuing operations. The Company's effective tax rate differs from the federal
statutory rate of 21% primarily due to the Company's net loss position.
At December 31, 2019 , the Company had federal and state net operating loss
carryforwards of $205.2 million and $128.2 million , respectively, expiring at
various dates beginning in 2019 and continuing through 2039. Net operating
losses generated in years ending after December 31, 2017 can be carried forward
indefinitely for federal and some state taxes. At December 31, 2019 , the Company
had state research and development tax credit carryforwards of $3.2 million . The
state research and development tax credits do not have an expiration date and
may be carried forward indefinitely.
Utilization of the net operating loss and tax credit carryforwards may become
subject to annual limitations due to ownership change limitations that could
occur in the future as provided by Section 382 and 383 of the Internal Revenue
Code of 1986, as amended, as well as similar state provisions. These ownership
changes may limit the amount of the net operating loss and tax credit
carryforwards that can be utilized annually to offset future taxable income, if
the Company experiences a cumulative change in ownership of more than 50% within
a three-year testing period.
11. Related Party Transactions
InJuly 2016 , the Company entered into a forbearance agreement withHealthpointCapital, LLC ,HealthpointCapital Partners, L.P. , andHealthpointCapital Partners II, L.P. (collectively, "HealthpointCapital"), pursuant to which HealthpointCapital, on behalf of the Company, paid$1.0 million of the$1.1 million payment due and payable by the Company to Orthotec onJuly 1, 2016 and agreed to not exercise its contractual rights to seek an immediate repayment of such amount. Pursuant to this forbearance agreement, the Company repaid this amount inSeptember 2016 . The Company and HealthpointCapital also entered into an agreement for joint payment of settlement whereby HealthpointCapital has agreed to contribute$5.0 million to the$49.0 million Orthotec settlement amount. InOctober 2020 , HealthpointCapital began its$5.0 million contribution, which will be in the form of five quarterly payments. During the second quarter of 2018,HealthpointCapital Partners, L.P. , andHealthpointCapital Partners II, L.P. distributed its holdings in the Company's common stock to its limited partners. As a result, the fund is no longer a shareholder of the Company as ofSeptember 30, 2020 . The$5.0 million receivable fromHealthpointCapital, LLC continues to be classified within stockholders' equity on the Company's condensed consolidated balance sheets due to the related party nature with HealthpointCapital affiliates. Payments made by HealthpointCapital will be recorded as a reduction to stockholder's equity. Included on the condensed consolidated balance sheet as ofSeptember 30, 2020 is a$0.9 million officer receivable for settlement of a tax liability related to the vesting of restricted common stock. A corresponding liability for the same amount is also included on the condensed consolidated balance sheet within the accrued expenses line item. Subsequent toSeptember 30, 2020 , a$0.6 million payment was remitted to settle the tax liability.
12. Subsequent Event
OnOctober 16, 2020 , the Company closed an underwritten public offering (the "Offering") of a total of 13,142,855 shares of its common stock. The shares were sold pursuant to a underwriting agreement datedOctober 13, 2020 (the "Underwriting Agreement"), between the Company andMorgan Stanley & Co. LLC andCowen and Company, LLC , as representative of the several underwriters named therein, at a price to the public of$8.75 per share. The closing of the Offering included the issuance and sale of 1,714,285 shares of the Company's common stock, included within the total number of shares above, pursuant to the full exercise of the underwriters' option to purchase additional shares pursuant to the Underwriting Agreement. The net proceeds to the Company from the Offering were approximately$107.7 million , including the net proceeds from the overallotment shares and deducting underwriting discounts and commissions and estimated offering expenses payable by the Company. The Company intends to use the net proceeds of the Offering for general corporate purposes, including working capital, capital expenditures and continued research and development with respect to products and technologies. A portion of the net proceeds of the Offering may also be used to fund possible investments in or acquisitions of complementary businesses, products, or technologies. 23
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Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
You should read the following management's discussion and analysis of our
financial condition and results of operations in conjunction with our unaudited
condensed consolidated financial statements and the related notes thereto that
appear elsewhere in this Quarterly Report on Form 10-Q and the audited
consolidated financial statements and notes thereto and under the heading
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" in our Annual Report on Form 10-K filed with the Securities and
Exchange Commission ("SEC"), on March 17, 2020 . In addition to historical
information the following management's discussion and analysis of our financial
condition and results of operations includes forward-looking information that
involves risks, uncertainties, and assumptions. Our actual results and the
timing of events could differ materially from those anticipated by these
forward-looking statements as a result of many factors, such as those set forth
under "Risk Factors" in our Annual Report on Form 10-K for the year ended
December 31, 2019 and any updates to those risk factors filed from time to time
in our subsequent periodic and current reports filed with the SEC .
Overview
We are a medical technology company focused on the design, development, and advancement of technology for better surgical treatment of spinal disorders. We are dedicated to revolutionizing the approach to spine surgery. We have a broad product portfolio designed to address the majority of U.S. market for fusion-based spinal disorder solutions. We intend to drive growth by exploiting our collective spine experience and investing in the research and development to continually differentiate our solutions and improve spine surgery. We believe our future success will be fueled by introducing market-shifting innovation to the spine market, and that we are well-positioned to capitalize on current spine market dynamics. We market and sell our products in theU.S. through a network of independent distributors and direct sales representatives. An objective of our leadership team is to deliver increasingly consistent, predictable growth. To accomplish this, we have partnered more closely with new and existing distributors to create a more dedicated and loyal sales channel for the future. We have added, and intend to continue to add, new high-quality dedicated distributors to expand future growth. We believe this will allow us to reach an untapped market of surgeons, hospitals, and national accounts across theU.S. , as well as better penetrate existing accounts and territories. We have continued to make progress in the transition of our sales channel since early 2017, driving the percent of sales contributed by our strategic distribution channel from approximately 89% and 87% for the three and nine months endedSeptember 30, 2019 to 92% and 91% for the three and nine months endedSeptember 30, 2020 , respectively. We intend to continue to relentlessly drive toward a fully exclusive network of independent and direct sales agents. Consolidation within the industry is helping facilitate the process, as large, seasoned agents continue to seek opportunities to re-enter the spine market by partnering with spine-focused companies that have broad, growing product portfolios.
Recent Developments
Follow-On Registered Public Offering
OnOctober 16, 2020 , we closed an underwritten public offering (the "Offering") of a total of 13,142,855 shares of our common stock. The shares were sold pursuant to a underwriting agreement datedOctober 13, 2020 (the "Underwriting Agreement"), between the Company andMorgan Stanley & Co. LLC andCowen and Company, LLC , as representative of the several underwriters named therein, at a price to the public of$8.75 per share. The closing of the Offering included the issuance and sale of 1,714,285 shares of our common stock, included within the total number of shares above, pursuant to the full exercise of the underwriters' option to purchase additional shares pursuant to the Underwriting Agreement. The net proceeds from the Offering were approximately$107.7 million , including the net proceeds from the overallotment shares and deducting underwriting discounts and commissions and estimated offering expenses payable by us.
COVID-19 Pandemic
Prior to the spread of COVID-19, we experienced year-over-yearU.S. sales growth of over 30%, which was consistent with previously issued revenue guidance inJanuary 2020 . As the COVID-19 pandemic spread toWestern Europe and theU.S. , we experienced a significant decline in procedures from the last half ofMarch 2020 through the month of April. During May procedure volumes began to increase and in the month of June sales and procedure volumes returned to near pre-pandemic levels.
The depth and extent to which the COVID-19 pandemic will impact individual markets continues to vary. We expect procedure volumes to remain difficult to estimate as COVID-19 infections continue to spread and may cause additional strain on hospital resources and deferral of elective procedures.
24
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Capital markets and worldwide economies have also been significantly impacted by
the COVID-19 pandemic, and it is possible that this could cause a local and/or
global economic recession. Such economic recession could have a material adverse
effect on our long-term business as hospitals curtail and reduce capital and
overall spending. The COVID-19 pandemic and local actions, such as
"shelter-in-place" orders and restrictions on our ability to travel and access
our customers or temporary closures of the facilities of our suppliers and their
contract manufacturers, could further significantly impact our sales and our
ability to ship our products and supply our customers. Any of these events could
negatively impact the number of procedures performed and have a material adverse
effect on our business, financial condition, results of operations, or cash
flows.
Revenue and Expense Components
The following is a description of the primary components of our revenue and expenses:
Revenue. We derive our revenue primarily from the sale of spinal surgery implants used in the treatment of spine disorders. Spinal implant products include pedicle screws and complementary implants, interbody devices, plates, and tissue-based materials. Our revenue is generated by our direct sales force and independent distributors. Our products are requested directly by surgeons and shipped and billed to hospitals and surgical centers. Currently, most of our business is conducted with customers within markets in which we have experience and with payment terms that are customary to our business. We may defer revenue until the time of collection if circumstances related to payment terms, regional market risk or customer history indicate that collectability is not certain. Cost of revenue. Cost of revenue consists of direct product costs, royalties, milestones and the amortization of purchased intangibles. Our product costs consist primarily of direct labor, overhead, and raw materials and components. The product costs of certain of our biologics products include the cost of procuring and processing human tissue. We incur royalties related to the technologies that we license from others and the products that are developed in part by surgeons with whom we collaborate in the product development process. Amortization of purchased intangibles consists of amortization of developed product technology. Research and development expenses. Research and development expenses consist of costs associated with the design, development, testing, and enhancement of our products. Research and development expenses also include salaries and related employee benefits, research-related overhead expenses, fees paid to external service providers in both cash and equity, and costs associated with ourScientific Advisory Board and Executive Surgeon Panels. Sales, general and administrative expenses. Sales, general and administrative expenses consist primarily of salaries and related employee benefits, sales commissions and support costs, depreciation of our surgical instruments, regulatory affairs, quality assurance costs, professional service fees, travel, medical education, trade show and marketing costs, insurance and legal expenses.
Litigation-related expenses. Litigation-related expenses are costs incurred for our ongoing litigation, primarily with NuVasive, Inc.
Transaction-related (credits) expenses. Transaction-related (credits) expenses reflect the recognition of transaction expenses incurred as part of the terminated tender offer related to the EOS transaction.
Restructuring expenses. Restructuring expenses consist of severance, social plan benefits and related taxes in connection with our historical cost rationalization efforts.
Loss on debt extinguishment. Loss on debt extinguishment is comprised of all amounts previously recorded as debt issuance costs related to the MidCap facility that was repaid in full.
Total interest and other expense, net. Total interest and other expense, net includes interest income, interest expense, gains and losses from foreign currency exchanges and other non-operating gains and losses.
Income tax benefit. Income tax benefit from continuing operations primarily consists of release of the valuation allowance from the SafeOp acquisition, partially offset by state taxes.
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Critical Accounting Policies and Estimates
Our discussion and analysis of our financial condition and results of operations is based upon our unaudited condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in theU.S. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses and related disclosures. On an on-going basis, we evaluate our estimates and assumptions, including those related to revenue recognition, allowances for accounts receivable, inventories and intangible assets, stock-based compensation and income taxes. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumption conditions. Critical accounting policies are those that, in management's view, are most important in the portrayal of our financial condition and results of operations. Aside from the changes disclosed in Note 2 to the Notes to Condensed Consolidated Financial Statements included in Item 1, Part I of this Quarterly Report on Form 10-Q, management believes there have been no material changes during the three months endedSeptember 30, 2020 to the critical accounting policies discussed in the Management's Discussion and Analysis of Financial Condition and Results of Operations section of our Annual Report on Form 10-K for the year endedDecember 31, 2019 filed with theSEC onMarch 17, 2020 .
Results of Operations
The tables below set forth certain statements of operations data for the periods
indicated (in thousands). Our historical results are not necessarily indicative
of the operating results that may be expected in the future.
Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
Revenue:
Revenue from U.S. products $ 40,052 $ 28,051 $ 97,956 $ 77,099
Revenue from international supply
agreement 1,111 1,150 2,951 3,976
Total revenue 41,163 29,201 100,907 81,075
Cost of revenue 11,926 9,268 29,797 25,688
Gross profit 29,237 19,933 71,110 55,387
Operating expenses:
Research and development 4,379 3,800 11,800 10,413
Sales, general and administrative 35,985 26,954 91,021 72,738
Litigation-related 1,560 604 5,507 4,427
Amortization of acquired intangible
assets 172 172 516 526
Transaction-related 2 - 4,093 -
Restructuring - - - 60
Total operating expenses 42,098 31,530 112,937 88,164
Operating loss (12,861 ) (11,597 ) (41,827 ) (32,777 )
Interest and other expense, net:
Interest expense, net (2,762 ) (2,919 ) (8,668 ) (6,947 )
Loss on debt extinguishment - - (1,555 ) -
Other expense, net (6 ) (7 ) (6 ) (19 )
Total interest and other expense, net (2,768 ) (2,926 ) (10,229 ) (6,966 )
Loss from continuing operations before
taxes (15,629 ) (14,523 ) (52,056 ) (39,743 )
Income tax provision 40 20 140 122
Loss from continuing operations (15,669 ) (14,543 ) (52,196 ) (39,865 )
Loss from discontinued operations, net
of applicable taxes - (24 ) - (106 )
Net loss $ (15,669 ) $ (14,567 ) $ (52,196 ) $ (39,971 )
26
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Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
Revenue by source
Revenue from U.S. products $ 40,052 $ 28,051 $ 97,956 $ 77,099
Revenue from international supply agreement 1,111 1,150 2,951 3,976
Total revenue $ 41,163 $ 29,201 $ 100,907 $ 81,075
Gross profit by source
Revenue from U.S. products $ 29,178 $ 19,853 $ 70,966 $ 55,087
Revenue from international supply agreement 59 80 144 300
Total gross profit $ 29,237 $ 19,933 $ 71,110 $ 55,387
Gross profit margin by source
Revenue from U.S. products 72.9 % 70.8 % 72.4 % 71.4 %
Revenue from international supply agreement 5.3 % 7.0 % 4.9 % 7.5 %
Total gross profit margin 71.0 % 68.3 % 70.5 % 68.3 %
Three and Nine Months Ended
Total revenue. Total revenue was$41.2 million for the three months endedSeptember 30, 2020 compared to$29.2 million for the three months endedSeptember 30, 2019 , representing an increase of$12.0 million , or 41.1%. Total revenue was$100.9 million for the nine months endedSeptember 30, 2020 compared to$81.1 million for the nine months endedSeptember 30, 2019 , representing an increase of$19.8 million , or 24.4%. Revenue fromU.S. products was$40.1 million for the three months endedSeptember 30, 2020 compared to$28.1 million for the three months endedSeptember 30, 2019 , representing an increase of$12.0 million , or 42.7%, and was$98.0 million for the nine months endedSeptember 30, 2020 compared to$77.1 million for the nine months endedSeptember 30, 2019 , representing an increase of$20.9 million , or 27.1%. The increase in revenue fromU.S. products was primarily attributed to the continued expansion of our new product portfolio and progress related to the transformation of our sales network. For the three and nine months endedSeptember 30, 2020 , revenue related to new products represented approximately 72.0% and 64.0% of revenue fromU.S. products, respectively, and in addition, resulted in a higher number of average product categories sold per case as well as increased product pull-through per case, as compared to the three and nine months endedSeptember 30, 2019 . Contributions from our strategic distribution channel also continue to increase as we continue to build strategic partnerships with new surgeons and distribution partners, resulting in the growth of our sales network, distribution channel, and geographic footprint. As a result, revenue from strategic distribution forU.S. products for the three and nine months endedSeptember 30, 2020 increased by 47% and 32%, respectively, as compared to the three and nine months endedSeptember 30, 2019 , as detailed further below (in thousands): Three Months Ended Increase Nine Months Ended Increase September 30, (Decrease) September 30, (Decrease) 2020 2019 $ % 2020 2019 $ %U.S. revenue by distributor type: Strategic distribution$ 36,684 92 %$ 24,954 89 %$ 11,730 47 %$ 89,000 91 %$ 67,180 87 %$ 21,820 32 % Legacy and terminated distribution 3,368 8 % 3,097 11 % 271 9 % 8,956 9 % 9,919 13 % (963 ) -10 % Total U.S. revenue$ 40,052 100 %$ 28,051 100 %$ 12,001 43 %$ 97,956 100 %$ 77,099 100 %$ 20,857 27 % Revenue from the international supply agreement which is attributed to sales to Globus, under which we supply Globus certain of its implants and instruments at agreed-upon prices for a minimum term of three years, was$1.1 million for the three months endedSeptember 30, 2020 compared to$1.2 million for the three months endedSeptember 30, 2019 , representing a decrease of$0.1 million . Revenue from the international supply agreement was$3.0 million for the nine months endedSeptember 30, 2020 compared to$4.0 million for the nine months endedSeptember 30, 2019 , representing a decrease of$1.0 million . As part of the supply agreement, Globus had the option to extend the term for up to two additional twelve-month periods subject to Globus meeting specified purchase requirements. During the second quarter of 2020, Globus notified us that it would exercise the option to extend the agreement for the second additional twelve-month period throughAugust 2021 , at which time we expect that the international supply agreement will expire and revenue from Globus will discontinue. 27 -------------------------------------------------------------------------------- Cost of revenue. Cost of revenue was$11.9 million for the three months endedSeptember 30, 2020 compared to$9.3 million for the three months endedSeptember 30, 2019 , representing an increase of$2.6 million , or 28.0%, and$29.8 million for the nine months endedSeptember 30, 2020 compared to$25.7 million for the nine months endedSeptember 30, 2019 , representing an increase of$4.1 million or 16.0%. Cost of revenue fromU.S. products for the three months endedSeptember 30, 2020 was$10.9 million compared to$8.2 million for the three months endedSeptember 30, 2019 , representing an increase of$2.7 million , or 32.9%. The increase is consistent with our revenue growth. Non-cash excess and obsolescence expense primarily related to the phase out of older legacy products was$2.0 million for the three months endedSeptember 30, 2020 compared to$2.3 million for the three months endedSeptember 30, 2019 , representing a decrease of$0.3 million , or 13.0%, and$5.4 million for the nine months endedSeptember 30, 2020 compared to$6.7 million for the nine months endedSeptember 30, 2019 , representing a decrease of$1.3 million , or 19.4%. Cost of revenue from international supply agreement was$1.0 million for the three months endedSeptember 30, 2020 compared to$1.1 million for the three months endedSeptember 30, 2019 , representing a decrease of$0.1 million , or 9.1%, and$2.8 million for the nine months endedSeptember 30, 2020 compared to$3.7 million for the nine months endedSeptember 30, 2019 , representing a decrease of$0.9 million , or 24.3%. The decreases were attributed to a reduction in sales volumes and related costs under the supply agreement with Globus. Gross profit. Gross profit was$29.2 million for the three months endedSeptember 30, 2020 compared to$19.9 million for the three months endedSeptember 30, 2019 , representing an increase of$9.3 million , or 46.7% and$71.1 million for the nine months endedSeptember 30, 2020 compared to$55.4 million for the nine months endedSeptember 30, 2019 , representing an increase of$15.7 million , or 28.3%. Gross profit margin fromU.S. product revenue increased by 2.1% and 1.0% for the three and nine months endedSeptember 30, 2020 , respectively, as compared to three and nine months endedSeptember 30, 2019 . The changes in gross margin fromU.S. product revenue were primarily attributed to a reduction in non-cash excess and obsolescence expense, partially offset by increases in amortization expense related to our SafeOp neuromonitoring system and product mix. Gross profit margin from international supply agreement decreased by 1.7% and 2.6% for the three and nine months endedSeptember 30, 2020 , respectively, as compared to three and nine months endedSeptember 30, 2019 . The changes in gross margin from international supply agreement were primarily related to the impact of fixed minimum royalty costs, product mix, and to a lesser extent, changes in average selling price for certain products. Research and development expenses. Research and development expenses increased$0.6 million , or 15.8% during the three months endedSeptember 30, 2020 compared to the three months endedSeptember 30, 2019 and increased$1.4 million , or 13.5% for the nine months endedSeptember 30, 2020 . The increase was primarily related to personnel and new project costs, partially offset by decreases in other various research and development initiatives. We expect research and development expenses to increase in future periods as we continue to hire additional engineering and development talent and invest in our product pipeline. Sales, general and administrative expenses. Sales, general and administrative expenses increased$9.0 million , or 33.3% during the three months endedSeptember 30, 2020 compared to the three months endedSeptember 30, 2019 and increased$18.3 million , or 25.2% for the nine months endedSeptember 30, 2020 compared to the nine months endedSeptember 30, 2019 . The increase was primarily related to commissions, sales compensation, stock-based compensation, and variable selling expenses associated with the increase inU.S. product revenue, and in addition to our continued investment in building our strategic distribution channel. Additionally, we have also increased our investment in our sales and marketing functions by increasing headcount to support the growth of our business. We expect our sales, general and administrative expenses to increase in absolute dollars and for variable selling expenses to increase in relation to expected increases in ourU.S. product revenue. As we experience future revenue growth, we expect to achieve increased operating leverage on the fixed costs associated with our sales, general and administrative expenses. Litigation expenses. Litigation expenses increased by$1.0 million , or 166.7% for the three months endedSeptember 30, 2020 as compared to the three months endedSeptember 30, 2019 and increased by$1.1 million , or 25.0% for the nine months endedSeptember 30, 2020 as compared to the nine months endedSeptember 30, 2019 . The expense is primarily related to our ongoing litigation with NuVasive, Inc. and fluctuations related to the timing of related legal activities. Amortization of acquired intangible assets. Amortization of acquired intangible assets remained consistent for the three and nine months endedSeptember 30, 2020 compared to the three and nine months endedSeptember 30, 2019 . The expense represents amortization in the period associated with general business assets, intellectual property, licenses and other assets obtained in acquisitions and licensing agreements. 28
-------------------------------------------------------------------------------- Transaction-related (credits) expenses. Transaction-related (credits) expenses of$4.1 million for the nine months endedSeptember 30, 2020 are attributed to advisory fees, legal fees, transaction financing commitment fees and other transaction-related costs incurred in connection with the terminated EOS tender offer. Total interest and other expense, net. Total interest and other expense, net decreased$0.1 million during the three months endedSeptember 30, 2020 as compared to the three months endedSeptember 30, 2019 , primarily due to lower interest expense on maturing debt arrangements and decreases in amortization of debt issuance costs. Total interest and other expense, net increased$3.2 million during the nine months endedSeptember 30, 2020 as compared to the nine months endedSeptember 30, 2019 , primarily due to interest expense on new debt arrangements, additional draws on existing agreements and a loss on debt extinguishment related to the payoff of the MidCap facility in the second quarter of 2020. Income tax provision. Income tax provision for the three and nine months endedSeptember 30, 2020 , was negligible and remained consistent as compared to the three and nine months endedSeptember 30, 2019 . For the three and nine months endedSeptember 30, 2020 , we had an effective income tax rate of 0%, primarily due to our net loss position.
Liquidity and Capital Resources
The accompanying condensed consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business At each reporting period, we evaluate whether there are conditions or events that raise substantial doubt about our ability to continue as a going concern within twelve months after the date the condensed consolidated financial statements are issued. Our evaluation entails analyzing prospective operating budgets and forecasts for expectations of our cash needs and comparing those needs to the current cash and cash equivalent balances, and availability under existing credit facilities. Our capital requirements over the next twelve months will depend on many factors, including the ability to achieve anticipated revenue, manage operating expense and the timing of required investments in inventory and instrument sets to support our customers. OnOctober 16, 2020 , we closed the Offering in which we issued and sold a total 13,142,855 shares of our common stock, including overallotment shares, at a price to the public of$8.75 per share. The net proceeds to us from the Offering were approximately$107.7 million . Our working capital atSeptember 30, 2020 was$38.5 million (including cash of$15.7 million ) which, along with proceeds from the Offering, we expect to be able to fund our operations through at least one year subsequent to the date the condensed consolidated financial statements are issued.
Squadron Credit Agreement, Paycheck Protection Loan and Other Debt and Commitments
OnNovember 6, 2018 , we closed a$35.0 million Term Loan with Squadron, a provider of debt financing to growing companies in the orthopedic industry. The debt bears interest at LIBOR plus 8% (10.0% as ofSeptember 30, 2020 ) per annum. The credit agreement specifies a minimum interest rate of 10.0% and a maximum of 13.0% per year. InMarch 2019 , we expanded the credit facility with Squadron for up to an additional$30.0 million in secured financing. We took a draw of$10.0 million of the expanded credit facility inJune 2019 and, subsequently, took a draw of the remaining$20.0 million inApril 2020 . OnMay 29, 2020 , we entered into a second amendment to the Term Loan to expand the credit facility by an additional$35.0 million and remove all financial covenant requirements. It is at our sole discretion to make draws on the additional$35.0 million Term Loan. InJune 2020 , we took a draw of$10.0 million used to retire the existing working capital revolver with MidCap. All future draws must be made byDecember 31, 2021 . The total principal outstanding under the Term Loan as ofSeptember 30, 2020 is$75.0 million with an additional$25.0 million in available borrowings. Under the terms of the amended facility, the maturity date on the entire term loan was extended toJune 2025 with interest-only payments due monthly throughNovember 2022 , followed by monthly principal payments of$1.0 million beginningDecember 2022 and a lump-sum payment payable at maturity inJune 2025 . As collateral for the Term Loan, Squadron has a first lien security interest in substantially all assets except for accounts receivable. OnApril 23, 2020 , we received the proceeds from a loan in the amount of approximately$4.3 million (the "PPP Loan") fromSilicon Valley Bank , as lender, pursuant to the Paycheck Protection Program ("PPP") of the Coronavirus Aid, Relief, and Economic Security Act (the "CARES Act"). The PPP Loan matures onApril 21, 2022 and bears interest at a rate of 1.0% per annum. CommencingAugust 21, 2021 , we are required to pay the lender equal monthly payments of principal and interest as required to fully amortize byApril 21, 2022 the principal amount outstanding on the PPP Loan as of the date prescribed by guidance issued by theU.S. Small Business Administration ("SBA"). The PPP Loan is evidenced by a promissory note datedApril 21, 2020 , which contains customary events of default relating to, among other things, payment defaults and breaches of representations and warranties. We may prepay the PPP Loan at any time prior to maturity with no prepayment penalties. All or a portion of the PPP Loan may be forgiven by the SBA upon application. We submitted our application for forgiveness of the loan inNovember 2020 . Under the CARES Act, loan forgiveness is available for the sum of documented payroll costs, covered 29
-------------------------------------------------------------------------------- rent payments, covered mortgage interest and covered utilities during the twenty-four-week period, beginning on the date of loan approval. For purposes of the CARES Act, payroll costs exclude compensation of an individual employee in excess of$100,000 , prorated annually. Not more than 25% of the forgiven amount may be for non-payroll costs. Forgiveness is reduced if full-time headcount declines, or if salaries and wages for employees with salaries of$100,000 or less annually are reduced by more than 25%. In the event the PPP Loan, or any portion thereof, is forgiven pursuant to the PPP, the amount forgiven is applied to outstanding principal. We used all of the proceeds from the PPP Loan to retain employees and maintain payroll. Although we have applied for loan forgiveness as afforded by the PPP, we cannot provide assurance that such loan forgiveness will be granted in whole or in part. We entered into an Inventory Financing Agreement whereby we may draw up to$3.0 million for the purchase of inventory to accrue interest at a rate of LIBOR plus 8% and also includes a 10% floor and 13% ceiling. All principal will become due and payable upon maturity onNovember 6, 2023 and all interest will be paid monthly. Should we elect to prepay the Squadron credit agreement, all amounts due under the Inventory Financing Agreement will become mandatorily due. Our obligation outstanding under the Inventory Financing Agreement as ofSeptember 30, 2020 was$3.0 million .
As of
We entered into a distribution agreement with a third-party provider inJanuary 2020 in which we are obligated to certain minimum purchase requirements related to inventory and equipment leases. As ofSeptember 30, 2020 , the minimum purchase commitment required by us under the agreement was$3.5 million to be paid over a three-year period. Our various debt agreements include several event of default provisions, such as payment default, insolvency conditions and a material adverse effect clause, which could cause interest to be charged at a rate which is up to five percentage points above the rate effective immediately before the event of default or result in our lenders' rights to declare all outstanding obligations immediately due and payable We were in compliance with the covenants under the credit agreements atSeptember 30, 2020 .
Operating Activities
We used net cash of$39.7 million from operating activities for the nine months endedSeptember 30, 2020 . During this period, net cash used in operating activities consisted of our net loss adjusted for$31.8 million of non-cash adjustments including amortization, depreciation, stock-based compensation, provision for excess and obsolete inventory, interest expense related to amortization of debt discount and issuance costs, debt extinguishment charges, loss on disposal of instruments, and$19.3 million use of cash related to working capital and other assets.
Investing Activities
We used cash of$12.8 million in investing activities for the nine months endedSeptember 30, 2020 primarily for the purchase of surgical instruments to support the commercial launch of new products.
Financing Activities
Financing activities provided$21.0 million of cash for the nine months endedSeptember 30, 2020 , primarily related to$77.7 million of proceeds from the exercise of stock options or warrants, and borrowings under new and existing lines of credit, partially offset by payments of$56.7 million related to repayments of lines of credit.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements.
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Contractual obligations and commercial commitments
Total contractual obligations and commercial commitments as of
Payment Due by Year
2020
Total (remainder) 2021
2022 2023 2024 Thereafter
Paycheck Protection Program
- $ 2,344 $ 1,926 $ - $ - $ -
Inventory financing 2,978 - - - 2,978 - -
Squadron Term Loan 75,000 - - 1,000 12,000 12,000 50,000
Interest expense 32,901 2,002 7,985 7,912 7,221 5,743 2,038
Note payable for software
agreements and
insurance premiums 714 235 479 - - - -
Capital lease obligations 175 14 59 60 24 18 -
Facility lease obligations (1) 31,684 551 1,741 2,977 3,025 3,116 20,274
Other purchase commitments and
operating
lease obligations 3,534 331 3,203 - - - -
Litigation settlement
obligations, gross (2) 13,933 1,100 4,000 4,400 4,400 33 -
Guaranteed minimum royalty
obligations 4,541 113 918 918 918 918 756
License agreement milestones
(3) 2,450 10 530 690 490 490 240
Total $ 172,180 $ 4,356 $ 21,259 $ 19,883 $ 31,056 $ 22,318 $ 73,308 (1) Includes our new headquarters building lease commitment anticipated to
commence in
(2) Represents gross payments due to
Release Agreement, dated as of
and its direct subsidiaries, including
Holdings International C.V., Scient'x S.A.S. and Surgiview S.A.S.;
III; and
Company and HealthpointCapital entered into an agreement for joint payment
of settlement whereby HealthpointCapital is obligated to pay
of the settlement amount, with payments beginning in the fourth quarter of
2020 and continuing through 2021. See Note 11 to the Notes to Condensed
Consolidated Financial Statements included in Item 1, Part I of this
Quarterly Report on Form 10-Q for further information.
(3) These commitments represent payments in cash and are subject to attaining
certain sales milestones which we believe are reasonably likely to be
achieved beginning in 2020.
Real Property Leases
In January 2016 , we entered into a lease agreement, or the Building Lease , for
office, engineering, and research and development space in Carlsbad, California
with the lease term through July 31, 2021 . Under the Building Lease our monthly
rent payable is approximately $105,000 per month during the first year and
increases by approximately $3,000 each year thereafter.
On December 4, 2019 , we entered into a new lease agreement, or new Building
Lease , for a new headquarters location which will consist of 121,541 square feet
of office, engineering, and research and development space in Carlsbad,
California . The term of the new Building Lease is currently anticipated to
commence November 15, 2020 and terminate November 30, 2030 , subject to two sixty
month options to renew. Base rent under the Building Lease for the first twelve
months of the term will be $195,000 per month subject to full abatement during
months two through ten. Base rent for the second year of the term will be
$244,115 per month and thereafter will increase annually by 3%. At the beginning
of each exercised option period, base rent will be adjusted to the market rental
value, and thereafter will increase annually by 3% through the end of such
option period.
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Recent Accounting Pronouncements
Aside from newly implemented accounting policies related to leases discussed above under "Critical Accounting Policies and Estimates" and for the changes disclosed in Note 2 to the Notes to Condensed Consolidated Financial Statements (Unaudited) under the heading "Recent Accounting Pronouncements," there have been no new accounting pronouncements or changes to accounting pronouncements during the three months endedSeptember 30, 2020 , as compared to the recent accounting pronouncements described in the Company's Annual Report on Form 10-K for the year endedDecember 31, 2019 , that was filed with theSEC onMarch 17, 2020 .
Forward Looking Statements
This Quarterly Report on Form 10-Q incorporates a number of forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act") and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), including statements regarding:
• our estimates regarding anticipated operating losses, future revenue,
expenses, capital requirements, uses and sources of cash and liquidity,
including our anticipated revenue growth and cost savings;
• our ability to meet the affirmative and negative covenants under our credit
facilities;
• our ability to ensure that we have effective disclosure controls and
procedures;
• our ability to meet our obligations under the Supply Agreement with Globus;
• our ability to meet, and potential liability from not meeting, the paymentobligations under the Orthotec settlement agreement;
• our ability to maintain compliance with the quality requirements of the FDA;
• our ability to market, improve, grow, commercialize and achieve market
acceptance of any of our products or any product candidates that we are
developing or may develop in the future;
• our beliefs about the features, strengths and benefits of our products;
• our ability to continue to enhance our product offerings, outsource our
manufacturing operations and expand the commercialization of our products,
and the effect of our strategy;
• our ability to successfully integrate, and realize benefits from licenses
and acquisitions;
• the effect of any existing or future federal, state or international
regulations on our ability to effectively conduct our business;
• our estimates of market sizes and anticipated uses of our products;
• our business strategy and our underlying assumptions about market data,
demographic trends, reimbursement trends and pricing trends;
• our ability to achieve profitability, and the potential need to raise
additional funding;
• our ability to maintain an adequate sales network for our products,
including to attract and retain independent distributors;
• our ability to enhance our U.S. distribution network;
• our ability to increase the use and promotion of our products by training
and educating spine surgeons and our sales network;
• our ability to attract and retain a qualified management team, as well as
other qualified personnel and advisors;
• our ability to enter into licensing and business combination agreements
with third parties and to successfully integrate the acquired technology
and/or businesses;
Any or all of our forward-looking statements in this Quarterly Report on Form
10-Q may turn out to be wrong. They can be affected by inaccurate assumptions
and/or by known or unknown risks and uncertainties. Many factors mentioned in
our discussion in this Quarterly Report on Form 10-Q will be important in
determining future results. Consequently, no forward-looking statement can be
guaranteed. Actual future results may vary materially from expected results.
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We also provide a cautionary discussion of risks and uncertainties under "Risk Factors" in our Annual Report on Form 10-K for the year endedDecember 31, 2019 and any updates to those risk factors filed from time to time in our subsequent periodic and current reports filed with theSEC . These are factors that we think could cause our actual results to differ materially from expected results. Other factors besides those listed there could also adversely affect us. Without limiting the foregoing, the words "believe," "anticipate," "plan," "expect," "estimate," "may," "will," "should," "could," "would," "seek," "intend," "continue," "project," and similar expressions are intended to identify forward-looking statements. There are a number of factors and uncertainties that could cause actual events or results to differ materially from those indicated by such forward-looking statements, many of which are beyond our control, including the factors set forth under "Risk Factors" in our Annual Report on Form 10-K for the year endedDecember 31, 2019 and any updates to those risk factors filed from time to time in our subsequent periodic and current reports filed with theSEC . In addition, the forward-looking statements contained herein represent our estimate only as of the date of this filing and should not be relied upon as representing our estimate as of any subsequent date. While we may elect to update these forward-looking statements at some point in the future, we specifically disclaim any obligation to do so to reflect actual results, changes in assumptions or changes in other factors affecting such forward-looking statements.
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