EARGO, INC. Management's Discussion and Analysis of Financial Condition and Results of Operations. (form 10-Q)

You should read the following discussion and analysis of our financial condition
and results of operations together with our unaudited condensed consolidated
financial statements and the related notes included in Part I, Item 1 of this
Quarterly Report on Form 10-Q, and for a full understanding of Eargo's results
of operations and financial condition, in conjunction with the consolidated
financial statements and notes for the fiscal year ended December 31, 2021
contained in the Company's Form 10-K filed on May 13, 2022. The following
discussion and analysis of our financial condition and results of operations
contains forward-looking statements about us and our industry that involve
substantial risks, uncertainties and assumptions. All statements other than
statements of historical facts contained in this item, including statements
regarding factors affecting our business, trends and uncertainties, are
forward-looking statements. As a result of many factors, including those factors
set forth in the "Risk Factors" section of this Quarterly Report on Form 10-Q,
our actual results could differ materially from the results described in or
implied by these forward-looking statements. You should carefully read the "Risk
Factors" to gain an understanding of the important factors that could cause
actual results to differ materially from our forward-looking statements.

Overview

We are a medical device company dedicated to improving the quality of life of
people with hearing loss. We developed the Eargo solution to create a hearing
aid that consumers actually want to use. Our innovative product and go-to-market
approach address the major challenges of traditional hearing aid adoption,
including social stigma, accessibility and cost.

We believe our Eargo hearing aids are the first ever virtually invisible,
rechargeable, completely-in-canal, United States Food and Drug Administration
("FDA") regulated, exempt Class I or Class II devices indicated to compensate
for mild to moderate hearing loss. Our rapid pace of innovation is enabled by
our deep industry and technical expertise across mechanical engineering, product
design, audio processing, clinical and hearing science, consumer electronics and
embedded software design, and is supported by our strategic intellectual
property portfolio.

We market and sell our hearing aids direct to consumers with a personalized,
consumer-centric approach. Our commercial organization consists of a talented
marketing team with deep experience in consumer-focused brand and performance
marketing, a team of inside sales consultants, and a dedicated customer support
team that includes audiologists and hearing professionals. We generate revenue
from orders processed primarily through our website and over the phone by our
sales consultants.

We believe that our differentiated hearing aids and consumer-oriented approach
have fueled the rapid adoption of our hearing aids and high customer
satisfaction, as evidenced by over 99 thousand Eargo hearing aid systems sold,
net of returns, as of June 30, 2022.

For the six months ended June 30, 2022, we generated net revenue of $16.4
million, a decrease of $28.5 million from the six months ended June 30, 2021.
The revenue decline was primarily due to a decrease in the volume of Eargo
hearing aid systems shipped that was primarily due to our selling our products
on a "cash-pay" basis only during the six months ended June 30, 2022 as compared
to our having accepted both cash pay and insurance as a method of direct payment
during the six months ended June 30, 2021. We previously accepted insurance as a
method of direct payment, but suspended all claims submission activities on
September 22, 2021 when we learned of the investigation by the DOJ related to
our role in customer reimbursement claim submissions to various federal employee
health plans under the FEHB program, as discussed in more detail below under
"-DOJ investigation and settlement and claims audits." We have sold our products
on a "cash-pay" basis only since December 8, 2021. To date, all our revenue has
been generated from customers in the United States.

Our net losses were $63.1 million and $32.9 million for the six months ended
June 30, 2022 and 2021, respectively. As of June 30, 2022, we had an accumulated
deficit of $419.9 million. We expect to continue to incur losses for the
foreseeable future.

Given our need for additional capital to fund our operations, our Board,
management team and financial advisors have devoted significant time and effort
into exploring our strategic alternatives, including potential financing
transactions to generate requisite capital to support our short- and long-term
business strategies and a potential sale of the Company. We have concurrently
undertaken significant measures to reduce operating expenses and preserve
capital, including the elimination of certain programs and reductions in
employee workforce. After reviewing all available alternatives, on June 24,
2022, we entered into a Note Purchase Agreement (the "Note Purchase Agreement")
with an affiliate of Patient Square Capital (together with any subsequent
holders of notes under the Note Purchase Agreement, the "Noteholders") and
Drivetrain Agency Services, LLC, as administrative agent and collateral agent,
pursuant to which we agreed to issue and sell up to $125 million in senior
secured convertible notes (the "Notes") convertible into shares ("Conversion
Shares") of our common stock. On June 28, 2022, we closed the initial issuance
of $100 million of Notes (the "First Tranche Closing"). We used approximately
$16.2 million of the net proceeds to repay all existing third-party indebtedness
and related pay-off expenses.

As of June 30, 2022, we had cash and cash equivalents of $106.6 million,
including the net proceeds received from the First Tranche Closing, which are
available to fund operations. Under the terms of the Note Purchase Agreement and
related documents, we are required to use the proceeds for working capital
purposes and to fund the Company's general business requirements. The Note
Purchase Agreement provides for our undertaking of a rights offering (the
"Rights Offering") by no later than December 24, 2022.

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Based on the results of the Rights Offering and conversion of the Notes, our
stockholders may experience substantial dilution of their holdings and the
Noteholders may obtain a substantial or controlling interest in us. In order for
us to complete the Rights Offering and issue the Conversion Shares, we will
require stockholder approval, which we intend to seek at our 2022 annual meeting
of stockholders that we intend to hold on October 12, 2022 (the "Annual
Meeting"). If we are unable to complete the Rights Offering by December 24,
2022, including as a result of a failure to obtain stockholder approval for the
Share Increase Amendment Proposal or the Nasdaq Proposal (both as defined
herein), the Notes will remain outstanding and we will be in default under the
Note Purchase Agreement. In such event, we will face immediate repayment
obligations to our Noteholders. Unless we are able to arrange alternative
financing or a sale of the Company, we expect that we would not have sufficient
funds to satisfy such repayment obligations, which would allow the Noteholders
to foreclose on the collateral, which consists of substantially all of our
assets, including our intellectual property. For additional information
regarding the Notes and the Rights Offering, see the section titled "-
Convertible Note Financing" below.

DOJ investigation and settlement and claims audits

As previously disclosed, on September 21, 2021, we were informed that we were
the target of a criminal investigation by the DOJ related to insurance
reimbursement claims we submitted on behalf of our customers covered by various
federal employee health plans under the Federal Employee Health Benefits
("FEHB") program, which is administered by the Office of Personnel Management
("OPM"). The investigation also pertained to our role in customer reimbursement
claim submissions to federal employee health plans (collectively, the "DOJ
investigation"). Also as previously disclosed, the third-party payor with whom
historically we had the largest volume, which is one of the carriers contracted
with the OPM under the FEHB program ("largest third-party payor"), conducted an
audit of insurance reimbursement claims ("claims") submitted by us (the "Primary
Audit"), which included a review of medical records. We were informed by the
third-party payor conducting the Primary Audit that the DOJ was the principal
contact related to the subject matter of the Primary Audit. In addition to the
Primary Audit, we have been subject to a number of other audits of insurance
reimbursement claims submitted to additional third-party payors (collectively
with the Primary Audit, the "claims audits"). One of these claims audits does
not relate to claims submitted under the FEHB program. On January 4, 2022, the
DOJ confirmed to us that the investigation had been referred to the Civil
Division of the DOJ and the U.S. Attorney's Office for the Northern District of
Texas and the criminal investigation was no longer active.

On April 29, 2022, we entered into a civil settlement agreement with the U.S.
government that resolved the previously disclosed DOJ investigation related to
our role in customer reimbursement claim submissions to various federal employee
health plans under the FEHB program. We cooperated fully with the DOJ
investigation. We deny the allegations in the settlement agreement, and the
settlement is not an admission of liability by us. The allegations did not
pertain to the quality or performance of our product. The settlement agreement
provided for our payment of approximately $34.4 million to the U.S. government
and resolved allegations that we submitted or caused the submission of claims
for payment to the FEHB program using unsupported hearing loss-related
diagnostic codes. On May 2, 2022, we paid the settlement amount.

The settlement with the U.S. government may not resolve all of the audits of
insurance reimbursement claims by the various third-party payors, and
additionally we remain subject to a prepayment review of claims by the payor who
conducted the Primary Audit.

From the time we learned of the DOJ investigation and until December 8, 2021, we
continued to process orders for customers with potential insurance benefits
(including FEHB program members) but suspended all claims submission activities
and offered affected customers (i.e., customers using insurance benefits as a
method of direct payment for transactions prior to December 8, 2021) the option
to return their hearing aids or purchase their hearing aids without the use of
their insurance benefits in case their claim is denied or ultimately not
submitted by us to their insurance plan for payment (the "extended right of
return").

Beginning on December 8, 2021, we made the decision to stop accepting insurance
benefits as a method of direct payment and it is uncertain when, if ever, we
will resume accepting insurance benefits as a method of direct payment. While we
intend to work with the government and third-party payors with the objective of
validating and establishing processes to support any future claims that we may
submit for reimbursement, we may not be able to arrive at acceptable processes
or submit any future claims.

Total life-to-date payments we have received through June 30, 2022 from the
government in relation to claims submitted under the FEHB program, net of any
product returns and associated refunds, were approximately $44 million, which is
unchanged from December 31, 2021. As discussed further in Note 5 to the
Unaudited Condensed Consolidated Financial Statements included in this Quarterly
Report on Form 10-Q, based on the settlement agreement with the U.S. government,
we recorded a settlement liability of $34.4 million in the condensed
consolidated balance sheets as of December 31, 2021, respectively. The
settlement amount was recorded as a reduction of revenue in the third quarter of
2021.

We determined that customer transactions using insurance benefits as a method of
direct payment occurring subsequent to learning of the DOJ investigation on
September 21, 2021 did not meet the criteria for revenue recognition under ASC
606. As such, we did not recognize revenue for shipments to customers with
potential insurance benefits, substantially all of whom were covered under the
FEHB program, subsequent to that date.

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We estimated that a majority of customers with unsubmitted claims will choose to
return the hearing aid system if their insurance provider denies their claim or
the claim is ultimately not submitted by us for payment, resulting in an
increase in expected product returns from such transactions that occurred prior
to September 21, 2021 that was recorded during the year ended December 31, 2021.
Of the $12.7 million sales returns reserve recorded as of June 30, 2022, $11.3
million relates to unsubmitted claims that are included in accounts receivable,
net. Returns associated with unsubmitted claims will reduce the sales returns
reserve, with a corresponding reduction in the related accounts receivable at
the time the product is returned.

Further, we also estimated that, in addition to the customers who choose to
return their hearing aid systems, a significant number of customers whose claims
are denied by insurance providers or not submitted by us for payment may not pay
for or return the hearing aid system, resulting in bad debt expense that was
recorded during the year ended December 31, 2021.

Notwithstanding the settlement, we remain subject to prepayment review by our
largest third-party payor, which administers an FEHB plan, of any claims we
submit. We do not intend to submit claims through the FEHB program until we are
able to establish processes with applicable third-party payors and FEHB carriers
to support the submission of these claims, and we may be unable to do so. We
cannot provide any assurance as to the timing or costs associated with
establishing such processes, if we can do so at all, or the impact that such
processes may have on our business and results of operations. At the same time,
we are also taking steps to further strengthen and enhance our compliance
program. Although we are working to establish dialogues with third-party payors,
we expect any negotiations with payors to last for an extended period of time,
and we do not plan to provide an update until if and when we have reached an
understanding with payors.

Based on our correspondence to date with the OPM and the third-party payor with
whom historically we had the largest volume, we expect that any such processes
will require additional testing by a licensed healthcare provider to establish
medical necessity, with supporting clinical documentation. We are evaluating
alternatives for testing, including but not limited to accepting clinical
documentation and prescriptions from third-party healthcare professionals,
contracting with third parties or existing networks, and/or establishing a
management services organization, separate from our existing corporate
structure, that manages professional entities that employ licensed healthcare
providers. These alternatives involve significant time and related activities,
including, but not limited to, development of internal processes, training, and
compliance and quality control programs, coordination with external healthcare
providers and professional services organizations, and evaluation of and
compliance with state-by-state regulatory requirements. We cannot provide any
assurance as to the timing or costs associated with these alternatives, whether
we will be successful in implementing any of them, or the impact that such
changes may have on our business and operations. If we are unable to implement
at least one of these alternatives for testing, we expect that we will not be
able to obtain insurance coverage of our products going forward.

Effective November 1, 2022, we will not have contracts with any FEHB carriers,
third-party payors, or other insurance providers, meaning that our products will
be considered out-of-network for such payors and insurance providers. Based on
our research and correspondence to date with the FEHB carrier with whom we
historically had the largest volume, we do not anticipate the reimbursement
amounts, patient co-payment amounts, or the claims submission process, including
medical necessity requirements and documentation requirements, would change
based on whether we are in-network or out-of-network for that FEHB carrier or
other FEHB plans. To illustrate, the hearing aid benefit in this FEHB plan is a
set amount that covers the hearing aid itself and related fees and supplies,
regardless of the plan option and regardless of whether the hearing aid is
provided by a preferred, participating, or non-participating provider (i.e.,
regardless of if it is in-network or out-of-network), which is not always the
case for other benefit categories. However, depending on the FEHB carrier or
third-party payor, payment may be made directly to the patient rather than to
the Company if the Company is out-of-network.

Further, the pending over-the-counter ("OTC") hearing aid regulatory framework,
if finalized as currently proposed, may lead such payors to take additional
actions further limiting our ability to access insurance coverage, which may
have a material adverse effect on our financial condition, results of operations
or cash flows.

On January 5, 2022, the U.S. District Court for the Northern District of
California consolidated three purported securities class actions brought against
the Company (as consolidated, the "Securities Class Action"). On May 20, 2022,
the lead plaintiffs filed a consolidated amended complaint, which generally
alleges that certain of the Company's disclosures about its business, operations
and prospects, including reimbursements from third-party payors, violated
federal securities laws. Defendants filed a motion to dismiss the consolidated
amended complaint on July 29, 2022. On August 4, 2022, the U.S. District Court
for the Northern District of California consolidated two verified shareholder
derivative complaints brought against certain of our executive officers and
current and former members of our board of directors (as consolidated, the
"Derivative Action"). The court stayed the consolidated Derivative Action until
the resolution of the pending motion to dismiss the Securities Class Action. See
Note 5 of the Notes to Unaudited Condensed Consolidated Financial Statements
included in this Quarterly Report on Form 10-Q for more information.

As a result of the uncertainty created by the DOJ investigation and the claims audits, we took certain actions including, but not limited to:

• We temporarily restricted our employees from selling Company common stock,

ceased granting restricted stock unit ("RSUs") that settle solely in Company

common stock, suspended our 2020 Employee Stock Purchase Plan ("ESPP") and

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      paused the settlement of outstanding RSUs, in each case effective as of
      November 9, 2021 (collectively, the "employee equity actions"). RSUs that

vested on November 15, 2021 were settled for $0.1 million in cash during the

first quarter of 2022. RSUs that vested on February 15, 2022 and May 15,

2022, respectively, were settled in shares during the second quarter of

2022. All equity awards that are currently outstanding continue to vest in

accordance with their existing vesting schedules.

• Our Board of Directors suspended the non-employee director compensation

program with respect to the option awards that would otherwise have been

awarded to non-employee directors automatically on the date of our annual

meeting of stockholders held on November 9, 2021.

• On December 7, 2021, we announced a plan to reduce our employee workforce to

streamline our organization in response to declines in customer orders since

we announced the investigation of the Company by the DOJ. We substantially

      completed the employee workforce reduction during the fourth quarter of
      2021, resulting in a reduction of approximately 27% of our employee
      workforce, or approximately 90 people.

• On May 24, 2022, we announced a plan to reduce our employee workforce as

part of our cost-cutting measures to reduce operating expenses and preserve

capital. We substantially completed the employee workforce reduction during

the second quarter of 2022, resulting in a reduction of approximately 17% of

our employee workforce, or 44 people.

Convertible note financing

Note Purchase Agreement

On June 24, 2022, after reviewing all available alternatives to secure the
funding needed to support the Company's ongoing operations and pursuit of its
business strategies, and a potential sale of the Company, we entered into the
Note Purchase Agreement with Noteholders and Drivetrain Agency Services, LLC, as
administrative agent and collateral agent. Pursuant to the Note Purchase
Agreement, we agreed to issue and sell up to $125 million in Notes (the "Note
Transaction"). Our Board concluded that the Note Transaction represented the
best opportunity available to us to secure necessary capital and was in the best
interests of stockholders. In making such determination, the Board considered,
among other things, our significant cash burn for an extended period of time,
including cash burn due to the settlement of the DOJ investigation, the lack of
an alternative firm proposal for a financing transaction, our anticipated
continued losses and deteriorating financial position in the near term, the
substantial doubt as to our ability to continue as a going concern, our need for
additional financing both to continue operations and focus on our business
strategies, and the terms of the transaction with the Noteholders, including the
availability of the Rights Offering to allow existing stockholders to mitigate
the significant potential dilution to stockholders resulting from the Note
Transaction and our continued ability to pursue a sale or merger transaction
under the terms of the Note Transaction.

On June 28, 2022, we closed the initial issuance of $100 million of Notes, providing the Company with critical capital. We incurred $5.7 million in transaction costs related to the Note Transaction, which were recorded to general and administrative expenses. We used approximately $16.2 million of the net proceeds to repay all existing third-party indebtedness, including all amounts due under our existing term loan (the "2018 Loan Agreement"), and related pay-off expenses.

Rights Offering

In connection with the Note Transaction, we have agreed to consummate the Rights
Offering for an aggregate of 375 million shares of common stock to stockholders
as of a record date to be determined at an offering price of $0.50 per share of
common stock. The Rights Offering is subject to our stockholders approving
(i) an amendment to our certificate of incorporation to increase the number of
authorized shares of common stock under the Company's certificate of
incorporation to an amount necessary to consummate the Rights Offering (the
"Share Increase Amendment Proposal") and (ii) for purposes of complying with
Nasdaq Listing Rule 5635, the issuance of the full potential amount of
Conversion Shares upon conversion of the Notes (the "Nasdaq Proposal"). If we
are unable to complete the Rights Offering by December 24, 2022, the Notes will
remain outstanding and we will be in default under the Note Purchase Agreement.
We intend to commence the Rights Offering shortly after the Annual Meeting and
expect it to be completed prior to November 25, 2022 (the 150th day following
the First Tranche Closing), and in any event by December 24, 2022.

Conversion

If the Rights Offering is consummated by November 25, 2022, then the Notes will
automatically convert into (i) a number of shares of common stock equal to 375
million less the number of shares actually subscribed for and purchased with the
Rights Offering, and (ii) cash in an amount equal to (x) the Repayment Value of
Notes outstanding less (y) the Rights Offering Shortfall Amount. The "Rights
Offering Shortfall Amount" represents an amount equal to the product of (a) 375
million less the number of shares of common stock subscribed for and actually
purchased in the Rights Offering, multiplied by (b) $0.50.

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If the Rights Offering is consummated after November 25, 2022 but on or prior to
December 24, 2022, then the Second Tranche Notes will be issued (subject to
certain conditions) and (a) the total gross proceeds of the Rights Offering will
be immediately used to repay in cash a portion of the Notes at the Repayment
Value, with the principal amount of the Notes redeemed being equal to the total
gross proceeds of the Rights Offering divided by 1.50, and (b) the remaining
amount of the Notes that are not redeemed will immediately convert into a number
of shares equal to 375 million less the number of shares actually subscribed for
and purchased in the Rights Offering. The Second Tranche Notes may not be issued
if the Rights Offering is not consummated by December 24, 2022.

Use of proceeds

We are permitted to use the proceeds from the sale of the Notes as working capital, to fund our general business requirements and to pay off existing indebtedness.

Interest, redemption, maturity and events of default

The Notes are senior, secured obligations of the Company, bearing interest at a
rate of 12.00% per annum, payable quarterly in arrears on the first calendar day
of each calendar quarter commencing on July 1, 2022. Immediately upon the
occurrence and during the continuance of an event of default, the interest rate
will be increased by an additional 12.00%. Other than on June 28, 2023 (the
"Maturity Date") or any optional redemption date, accrued interest shall be paid
in-kind.

We may, at our option, repay all (but not a portion) of the Notes outstanding
upon three business days' prior written notice at a price equal to the Repayment
Value of the Notes outstanding. The Repayment Value of any Note on any
applicable date means an amount payable such that the annualized return on the
initial principal amount of the Notes is no less than 12.00%, or, if greater, an
amount equal to 150% of the initial principal amount of such Note.

The Notes will mature and be due in cash at the Repayment Value on the Maturity
Date, subject to earlier conversion, redemption or repurchase in accordance with
their terms.

The Note Purchase Agreement contains certain "events of default," which, if triggered, would result in an increase in the amount of interest due on the Notes and may result in the acceleration of the maturity of the Notes (including the Repayment Value), among other things. Events of default under the Note Purchase Agreement include, among other things:

• Failure to make any payment of principal or interest on any Note when due or

satisfy other obligations under the Note Purchase Agreement;

• Failure to perform certain covenants or other required actions under the

      Note Purchase Agreement, subject to applicable cure periods;


   •  The occurrence of an event that reasonably would be expected to be a

material adverse effect upon our financial condition, assets or results of

operations;

• The seizure of or levy on any material portion of our assets, or the receipt

of a notice or service seeking to seize or attached over $100,000 in assets;

• A court order restraining us from conducting any material part of our

business;

• Our insolvency or the initiation of insolvency proceedings against us;

• Any third party becoming able to accelerate the maturity of outstanding debt

over $300,000, whether or not such right is exercised;

• Our incurrence of fines, penalties or final judgments of at least $300,000

(which are not covered by independent third-party insurance as to which

liability has not been rejected by such insurance carrier) rendered against

us by any governmental authority, and the same are not discharged,

satisfied, or paid, or after execution thereof, stayed or bonded pending

appeal, or such judgments are not discharged prior to the expiration of any

such stay;

• Any representation, warranty or other statement in the Note Transaction

documents being incorrect or misleading in any material respect;

• The Note Purchase Agreement or any collateral document ceasing to be in full

force and effect;

• The revocation, rescission, suspension or modification of any government

approval in an adverse manner or the non-renewal of such an approval in the

ordinary course for a full term;

• Our becoming enjoined, restrained or in any way prevented by the order of

any court or any governmental authority from conducting any material part of

our business for more than fifteen days;

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• Our conviction under any criminal statute that subjects us to forfeiture of

any material portion of property to any governmental authority;

• Receipt of a delisting notice from Nasdaq or if we otherwise fail to

maintain our listing;

• Our failure to consummate the Rights Offering by December 24, 2022; or

• Our undergoing a change of control and not concurrently repaying the Notes

and all other obligations under the Note Purchase Agreement.

Restrictions on certain activities

The Note Purchase Agreement contains various covenants that limit our ability to engage in specified types of transactions without the Noteholders' prior consent. These covenants limit our ability to, among other things:

• encumber or license the Company's intellectual property, subject to certain

exceptions;

• sell, transfer, lease or dispose of the Company's assets, subject to certain

      exclusions;


  • create, incur or assume additional indebtedness;

• encumber or permit liens on any of the Company's assets other than certain

permitted liens;

• make restricted payments, including paying dividends on, repurchasing or

making distributions with respect to any of the Company's capital stock;

  • make specified investments (including loans and advances);

• consolidate, merge with, or acquire any other entity, or sell or otherwise

      dispose of all or substantially all of the Company's assets; and


  • enter into certain transactions with the Company's affiliates.


Nothing in the Note Purchase Agreement prohibits us from refinancing the Notes
(at their Repayment Value) with a new equity or debt financing, or from selling
the Company (and repaying the Notes at the Repayment Value in connection with
such sale). We expect that in the event we enter into a sale transaction, then
we would not proceed with the Rights Offering.

Collateral

Pursuant to the Note Purchase Agreement, we granted a first-priority security
interest on substantially all of our assets, including intellectual property.
Any subsidiary we form or acquire is also required to become party to the Note
Purchase Agreement, subject to the same requirements. Upon the occurrence of an
event of default, the Administrative Agent, on behalf of the Noteholders, is
entitled to, among other things, foreclose on the collateral.

Stockholder approval

In connection with the Note Transaction, we agreed to hold a meeting of
stockholders within 120 days of the First Tranche Closing (i.e., by October 28,
2022) to obtain stockholder approval of the Share Increase Amendment Proposal
and the Nasdaq Proposal. We intend to seek stockholder approval of these matters
at the Annual Meeting.

Factors affecting our business

Our business priorities include: (i) potentially regaining insurance coverage of
Eargo hearing aids for government employees under the FEHB program; (ii)
refining and expanding our retail strategy; (iii) optimizing our cash pay
business; and (iv) continuing to invest in innovation. We believe that our
future performance will depend on many factors, including those described below
and in the section titled "Risk Factors" included elsewhere in this Quarterly
Report on Form 10-Q.

Efficient acquisition of new customers

We have spent significant amounts on sales and marketing designed to build a
strong brand, achieve broad awareness of our Eargo system, acquire new customers
and convert sales leads. Since our public disclosure of the DOJ investigation on
September 22, 2021 and our related decision to stop accepting insurance benefits
as a method of direct payment, we have experienced and may continue to
experience a material decline in gross systems shipped.

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Beginning on December 8, 2021, as a result of the DOJ investigation and claims
audits (as further described in "-DOJ investigation and settlement and claims
audits") we do not currently accept insurance as a direct method of payment, and
all sales from such date are considered by us to be "cash-pay," which includes
upfront payment, credit card, third-party financing, and distributor payment. We
have refocused our sales and marketing efforts and related spend to prioritize
conversion of cash-pay consumer leads into satisfied customers. While we intend
to work with third-party payors with the objective of validating and
establishing the process to support any future claims that we may submit for
reimbursement, we may not be able to arrive at an acceptable process or submit
any future claims. The shift to a model that excludes insurance as a direct
method of payment will likely result in a sustained increased cost of customer
acquisition and require significant sales and marketing investments, based on
the historically lower conversion rate for cash-pay customers as compared to
customers with potential insurance benefits. Further, the exclusion of insurance
as a direct payment method may also necessitate identifying commercial
partnerships, omni-channel, including retail, or other opportunities, as well as
the potential implementation of cost-savings measures, in order to drive
cost-efficient cash-pay customer acquisition and offset the significantly higher
return rates as well as the related negative impact on revenue and gross margin
historically applicable to cash-pay customers

Changes to the regulatory landscape

Hearing aids are considered medical devices subject to regulation by the FDA. We
currently market our products pursuant to the FDA regulatory framework for
air-conduction hearing aids, which are classified as Class I or Class II devices
exempt from premarket review procedures. In addition, while applicable FDA
regulations establish certain "conditions for sale" of all hearing aids,
including that prospective hearing aid users must have a medical evaluation by a
licensed physician within the six months prior to hearing aid dispensation or
sign a waiver of medical evaluation, the FDA has stated that it does not intend
to enforce these medical evaluation and waiver requirements prior to the
dispensing of Class I air-conduction and Class II wireless air-conduction
hearing aids to individuals 18 years of age and older. Accordingly, while we are
required to comply with other FDA requirements, including specific hearing aid
labelling requirements and provision of a User Instructional Brochure, our
products have not been reviewed by the FDA and we are not currently requiring a
medical evaluation by a licensed physician to dispense.

The regulatory landscape for hearing aid devices has been subject to recent
changes that may alter or increase our requirements for regulatory compliance.
The FDA Reauthorization Act of 2017 ("FDARA") set forth a process to create a
new category of OTC hearing aids that are intended to be available without
supervision, prescription, or other order, involvement or intervention of a
licensed practitioner. The language in FDARA is not self-implementing, and on
October 20, 2021, the FDA published the Proposed Rule to establish new
regulatory categories for OTC and prescription hearing aids.

The Proposed Rule also includes revised requirements for labelling, conditions
for sale, performance standards and other provisions applicable to either OTC or
prescription hearing aids, or both. Under the Proposed Rule, devices that
require 510(k) clearance to come into compliance with the new requirements would
need to be cleared by the effective date of the Final Rule to continue
marketing. For all other currently marketed devices, the proposed compliance
date is 180 days after the effective date of the Final Rule (240 days after the
publication of the Final Rule).

We market the Eargo system devices as Class I air-conduction hearing aids or
Class II wireless air-conduction hearing aids, both of which are exempt from
510(k) premarket review. Our hearing aids may be marketed under the current FDA
framework during the FDA's rulemaking proceeding. However, we cannot know to
what extent the Final Rule may differ from the Proposed Rule. Once the FDA
issues a Final Rule, we will need to expend time and resources evaluating the
Final Rule and ensuring that our devices and processes come into compliance with
the new requirements in order to market our products in line with our primary
direct-to-consumer business and omni-channel models in the future. It is
possible that a finalized regulatory framework for OTC hearing aids may lead to
additional commercial partnership, omni-channel, including retail, or other
opportunities, although there are no assurances that it will do so. The Final
Rule and the responses thereto by leading insurance providers could also
materially impact our efforts to resume submitting claims for customers with
potential insurance benefits or have other unforeseen impacts on our business
and results of operations.

Please see the Risk Factor titled, "Changes in the regulatory landscape for hearing aid devices could materially impact our direct-to-consumer business model and lead to increased regulatory requirements, and we may be required to seek additional clearance or approval for our products" for more information.

Omni-channel marketing and distribution activities through commercial partnerships

Eargo's self-administered hearing screeners are intended to be part of our
retail customer experience and are expected to be located in physical retail
settings so customers can obtain general information regarding their hearing and
see Eargo hearing aids in person. We also have a select number of commercial
partnerships to, among other things, facilitate the retail experience, and we
intend to continue to pursue additional opportunities for in-person customer
engagement. For example, we have entered into an agreement with an authorized
vendor to facilitate access to our hearing screeners at certain Verizon store
locations. While customers can learn about Eargo hearing aids and obtain general
information about their hearing through our current hearing screeners, they
cannot purchase or

                                       26
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order Eargo hearing aids in retail settings. We believe that if the Proposed
Rule by the FDA regarding an OTC regulation of hearing aids is finalized in
substantially the same form as proposed, the Final Rule will facilitate
negotiation and execution of additional retail opportunities in the future,
including the potential ability to purchase or order our products directly at
retail locations.

Third-party payors

A significant portion of our revenue has historically been dependent on payments
from third-party payors; for example, in the year ended December 31, 2021, 44%
of total gross systems shipped were to customers with potential insurance
coverage. Historically, we submitted claims on behalf of our customers to a
concentrated number of third-party payors under certain benefit plans, and
substantially all such claims related to the FEHB program.

As described in Note 2 of the Notes to Unaudited Condensed Consolidated
Financial Statements included in this Quarterly Report on Form 10-Q,
approximately 95% and 93% of our gross accounts receivable as of June 30, 2022
and December 31, 2021, respectively, were for customers with potential insurance
benefits, substantially all of whom were covered under the FEHB program.
Furthermore, approximately 92% and 90% of our gross accounts receivable as of
June 30, 2022 and December 31, 2021, respectively, were related to shipments of
Eargo hearing aids to customers insured under a single insurance plan whose
claims are processed through our largest third-party payor, which conducted the
Primary Audit. We remain subject to a prepayment review of claims by the payor
who conducted the Primary Audit. In addition to the Primary Audit, we are
currently subject to a number of other ongoing audits of insurance reimbursement
claims. One of these claims audits does not relate to claims submitted under the
FEHB program. During the claims audits, the third-party payors (including our
largest third-party payor) conducting such claims audits have generally
suspended payments for, and in some cases denied, claims we submitted on behalf
of customers, other than one third-party payor that has continued to process
claims for payment throughout its ongoing audit.

We recorded a sales returns reserve of $12.7 million and $13.8 million as of
June 30, 2022 and December 31, 2021, respectively, largely related to our
estimate that a majority of customers with unsubmitted claims will choose to
return the hearing aid system if their insurance provider denies their claim or
the claim is ultimately not submitted by us for payment. We recorded an
allowance for credit losses of $4.7 million and $4.8 million as of June 30, 2022
and December 31, 2021, respectively, primarily related to insurance claims
receivable due from third-party payors and end-users as we estimate that, in
addition to the customers who choose to return their hearing aid systems, a
significant number of customers with an extended right of return and claims that
have not yet and may never be submitted by us for payment may not pay for or
return the hearing aid system.

While we intend to work with third-party payors with the objective of validating
and establishing processes to support any future claims that we may submit for
reimbursement, we may not be able to arrive at acceptable processes or submit
any future claims. At the same time, we are also taking steps to further
strengthen and enhance our compliance program. Although we are working to
establish dialogues with third-party payors, we expect any negotiations with
payors to last for an extended period of time, and we do not plan to provide an
update until if and when we have reached an understanding with payors.

Based on our correspondence to date with the OPM and the third-party payor with
whom historically we had the largest volume, we expect that any such processes
to support claims for reimbursement will require additional testing by a
licensed healthcare provider to establish medical necessity, with supporting
clinical documentation. We are evaluating alternatives for testing, including
but not limited to accepting clinical documentation and prescriptions from
third-party healthcare professionals, contracting with third parties or existing
networks, and/or establishing a management services organization separate from
our existing corporate structure that manages professional entities that employ
licensed healthcare providers. These alternatives involve significant time and
related activities, including, but not limited to, development of internal
processes, training, and compliance and quality control programs, coordination
with external healthcare providers and professional services organizations, and
evaluation of and compliance with state-by-state regulatory requirements. We
cannot provide any assurance as to the timing or costs associated with these
alternatives, whether we will be successful in implementing any of them, or the
impact that such changes may have on our business and operations. In addition,
it is possible that such testing would be required to be conducted in-person,
representing a significant change from our past processes and customer
experience that may adversely impact the attractiveness of our offerings to
customers, and we may not be able to efficiently or effectively integrate such
tests into our operating model.

Effective November 1, 2022, we will not have contracts with any FEHB carriers,
third-party payors, or other insurance providers, meaning that our products will
be considered out-of-network for such payors and insurance providers. Based on
our research and correspondence to date with the FEHB carrier with whom we
historically had the largest volume, we do not anticipate the reimbursement
amounts, patient co-payment amounts, or the claims submission process, including
medical necessity requirements and documentation requirements, would change
based on whether we are in-network or out-of-network for that FEHB carrier or
other FEHB plans. To illustrate, the hearing aid benefit in this FEHB plan is a
set amount that covers the hearing aid itself and related fees and supplies,
regardless of the plan option and regardless of whether the hearing aid is
provided by a preferred, participating, or non-participating provider (i.e.,
regardless of if it is in-network or out-of-network), which is not always the
case for other benefit categories. However, depending on the FEHB carrier or
third-party payor, payment may be made directly to the patient rather than to
the Company if the Company is out-of-network.

                                       27
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In light of the DOJ investigation, claims audits and pending OTC hearing aids
regulatory framework, we may need to make significant changes to our business
and operating model, including a potential long-term shift to a model that
excludes insurance as a direct method of payment, which would likely result in a
sustained increased cost of customer acquisition and require identification of
commercial partnership, omni-channel, including retail, or other opportunities,
to drive cost efficient acquisition of cash-pay customers.

See "-DOJ investigation and settlement and claims audits" for more information.
Please see the Risk Factors titled, "We are subject to risks from legal
proceedings, investigations, and inquiries, including a number of recent legal
proceedings and investigations, which have had and could continue to have a
material adverse effect on our reputation, business, financial condition, cash
flows and results of operations, and could result in additional claims and
material liabilities," and "We face considerable uncertainty in our business
prospects, as a significant portion of our revenue has historically been
dependent upon reimbursement from third-party payors participating in the FEHB
program but we have operated on a "cash pay" only basis since December 8, 2021.
Following the civil settlement with the U.S. government on April 29, 2022, we
may be unsuccessful in validating and establishing processes to support the
submission of claims for reimbursement from third-party payors participating in
the FEHB program in the future. As a result, we have faced a significant
reduction in revenue and any failure to establish processes to support
reimbursement from third-party payors in the future may significantly and
adversely impact our business and growth prospects and our ability to sell our
products."

Sales returns rate

Our return policy generally allows our customers to return hearing aids for any
reason within the first 45 days of delivery for a full refund, subject to a
handling fee in certain states, and can be extended under certain circumstances,
including the extended right of return offered for shipments involving insurance
payors. Historically, the most commonly cited reason for returning our hearing
aids is unsatisfactory fit, which we believe is a byproduct of our
direct-to-consumer model and online distribution that results in nearly all of
our customers ordering our product without trying it first. In addition to
unsatisfactory fit, the next most cited reason for returns is that our hearing
aids do not provide sufficient audio amplification.

We report revenue net of expected returns, which is an estimate informed in part
by historical return rates. As such, our returns rate impacts our reported net
revenue and gross profit or loss. Sales returns rates, as defined under "-Key
business metrics," were 32% for the year ended December 31, 2021 and 34% for the
six months ended June 30, 2022.

New product introductions

Our technical capabilities and commitment to innovation have allowed us to
deliver product enhancements on a rapid development timeline and support a
compelling new product roadmap that we believe will continue to differentiate
our competitive position over the next several years. With the full commercial
launch of the Eargo 5 in July 2021 and the launch of Eargo 6 in January 2022, we
have now launched six generations of our hearing aids since 2017, with each
iteration having increased functionality and improved sound quality,
amplification, noise reduction, physical fit, comfort, water resistance and
ease-of-use, as well as reduced costs of goods and better connectivity. We are
focused on continuing to launch new versions of the Eargo hearing aid devices
that further improve these attributes. We believe that the continued
introduction of new products is critical to maintaining existing customers,
attracting new customers, achieving market acceptance of our products and
maintaining or increasing our competitive position in the market.

We expect to continue refining and improving Eargo hearing aids, and we have the
intention of an approximate annual cadence of new product launches. To this end,
we are working on the development of a cost-conscious offering as well as the
next Eargo hearing aid model with improved functionality. Accordingly, we expect
to continue to invest in research and development to support new product
introductions. In connection with our product innovation and iteration, we also
need to successfully manage our product transitions to avoid delays in customer
purchases, excess or obsolete inventory and increased returns as customers wait
for our new products to become available. Our development priorities are
focused, in part, on expanding refurbishment capability for returned hearing
aids. Our refurbishment capabilities include full refurbishment, conversion, and
components, and allow us to refurbish and resell or reuse certain returned
devices.

Recruitment and retention of personnel

Our success depends in part upon our continued ability to recruit, retain and
motivate high-quality employees, including management, administrative, our
clinical and scientific personnel and our direct sales force (among others), and
competition for qualified personnel can be intense due to the limited number of
individuals possessing the requisite training, skill and experience we require.
As a result of uncertainty created by the DOJ investigation and the claims
audits, we suspended our practice of granting equity awards (except for new
restricted stock unit grants that we have the option to settle in cash at the
time of vesting), suspended our employee stock purchase plan and deferred the
settlement of outstanding restricted stock units, in each case effective as of
November 9, 2021.

In addition, on December 7, 2021, we announced a plan to reduce our employee
workforce to streamline our organization in response to declines in customer
orders since we announced the DOJ investigation. We substantially completed the
employee workforce

                                       28
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reduction during the fourth quarter of 2021, resulting in a reduction of
approximately 27% of our employee workforce, or approximately 90 people. On May
24, 2022, we announced a plan to reduce our employee workforce as part of our
cost-cutting measures to reduce operating expenses and preserve capital. We
substantially completed the employee workforce reduction during the second
quarter of 2022, resulting in a reduction of approximately 17% of our employee
workforce, or 44 people

The suspension of equity awards and reductions in workforce, in addition to any
negative perceptions of employment with us as a result of the DOJ investigation,
the settlement with the U.S. government, and the claims audits, could continue
to adversely affect employee morale and have a material adverse impact on our
ability to recruit, retain and motivate the high-quality employees critical to
our operations, which in turn could have a material adverse effect on our
business, results of operations and financial condition.

COVID-19 pandemic

We believe the COVID-19 pandemic has accelerated the pace of consumer awareness
of our vertically integrated telecare model and has facilitated customer
adoption of the same. Shelter-in-place restrictions and increased reluctance of
consumers to conduct in-person activities, particularly among older individuals
that comprise a majority of the population needing hearing aids has resulted in
increased knowledge of our business and sales. We cannot be sure this trend will
continue.

Although we believe the COVID-19 pandemic has largely resulted in favorable
trends for our business, we have experienced business disruptions, particularly
at our California headquarters, where a majority of our employees have been
working remotely (which we permitted as an accommodation to our employees
despite the fact that we were never required to close our facilities because we
were deemed to have an essential workforce under the relevant California
COVID-19 measures). Moreover, travel restrictions, factory closures and
disruptions in global supply chains have resulted in industry-wide component
supply shortages (such as in semiconductors), and we may not be able to obtain
adequate inventory on a timely basis or at all. To date, increases in component
pricing have occurred but have not had a material impact on supply continuity or
gross margin. We have taken steps to monitor our supply chain and actions to
address limited supply and increasing lead times, including outreach to critical
suppliers and spot market purchases. While we have not been impacted by any
significant disruptions to our supply chain that have impacted our ability to
service customers or access to necessary raw materials and component parts for
the manufacture of our products to date, disruptions have occurred across a
number of industries and we cannot provide any assurance that future disruptions
will not emerge as a result of the ongoing supply chain issues, inflation, the
COVID-19 pandemic or other extrinsic factors. Future disruptions in our supply
chain, including the sourcing of certain components and raw materials, such as
semiconductor and memory chips, as well as increased logistics costs, could
impact our sales and gross margins.

Key business metrics

To analyze our business performance, determine financial forecasts and help develop long-term strategic plans, we review the following key business metrics, each of which is an important measure that represents the state of our business:

• Gross systems shipped. We define our gross systems shipped as the number of

hearing aid systems shipped during the period. However, we have not recorded

revenue and related sales returns reserve for approximately 670 shipments of

Eargo hearing aid systems to customers with potential insurance benefits

during the three months ended September 30, 2021 but subsequent to learning

of the DOJ investigation, and approximately 1,560 of such shipments during

the three months ended December 31, 2021. Since our public disclosure of the

DOJ investigation on September 22, 2021 and our related decision to stop

accepting insurance benefits as a method of direct payment, we have

experienced and may continue to experience a material decline in gross

systems shipped. Continued negative publicity, including in relation to the

DOJ investigation, the claims audits, and other legal proceedings could

further harm our reputation and lead to a further decline in gross systems

      shipped. See "-DOJ investigation and settlement and claims audits" and
      "-Factors affecting our business."

• Sales returns rates. Sales returns rates are determined by management at the

end of each reporting period to estimate the percentage of products for

which we have recorded revenue during that period that are expected to be

returned. This determination is informed in part by historical actual return

rates. Sales returns rates do not represent actual returns during a period

as customers may return the product for a period of time that can extend

beyond the period end, which can result in a hearing aid being returned

after the period in which the revenue from its sale was recognized. If

actual returns differ from the sales returns rate determined at period end

or new factors arise, indicating a rate of return that is different from the

original estimated sales returns rate, revenue is adjusted in subsequent

periods to reflect the actual returns made. Such an adjustment to revenue is

not included in the sales returns rates disclosed in the table below.

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The following table details the number of gross systems shipped and sales returns rates for the periods presented below:

                                                              Three months ended
                         March 31,      June 30,       September 30,      December 31,       March 31,       June 30,
                           2021           2021             2021               2021             2022            2022
Gross systems shipped        11,704        12,548              13,117             7,767           5,773          4,455
Sales returns rate             23.2 %        24.1 %              46.4 %            34.0 %          33.9 %         33.3 %


We believe these key business metrics provide useful information to help
investors understand and evaluate our business performance. Gross systems
shipped is a key measure of sales volume, which drives potential revenue, while
sales returns rates are an indicator of expected reductions to revenue and an
indicator of change in customer mix and factors affecting the returns rates by
customer type. However, as discussed elsewhere in this report, our sales volume,
sales returns rate and revenue during the current period were not consistent
with the prior periods as a result of the DOJ investigation and settlement and
claims audits. See "-DOJ investigation and settlement and claims audits."

Due to the historically higher return rate for cash-pay customers as compared to
insurance customers, we expect that revenue, gross profit and gross margin may
remain depressed as compared to prior periods for so long as we are unable to
accept insurance benefits as a direct method of payment.

Components of our results of operations

See the discussion under "-DOJ investigation and settlement and claims audits,"
which describes a variety of circumstances currently affecting our business and
results of operations, and which require that we continually evaluate and adapt
our business model and expenditures as new information becomes available.

Revenue, net

We generate revenue from the sale of Eargo hearing aid systems, accessories and,
to a lesser extent, sales of extended warranties, with the majority of our
revenue coming from sales of our Eargo hearing aid systems. Following the launch
of Eargo 6 in January 2022, we currently offer four versions of our hearing aid
systems, the Eargo Max, the Eargo Neo HiFi, the Eargo 5, and the Eargo 6, each
at different price points, and we periodically offer discounts and promotions,
including holiday promotions. For product sales, control is transferred upon
shipment to the customer. We report revenue net of expected returns, which is an
estimate informed in part by historical return rates.

Since learning of the DOJ investigation, we have suspended all insurance claims
submissions and, beginning on December 8, 2021, do not currently accept
insurance as a direct method of payment. Instead, we are currently focused on
"cash-pay" customers, which includes upfront payment, credit card, third-party
financing and distributor payment. Historically, cash-pay customers have had
significantly higher return rates than customers with potential insurance
benefits, and therefore the current shift to cash-pay only sales may adversely
impact revenue, net.

Cost of revenue and gross margin

Cost of revenue consists of expenses associated with the cost of finished goods,
freight, personnel costs, consumables, product warranty costs, transaction fees,
reserves for excess and obsolete inventory, depreciation and amortization, and
related overhead.

Our gross margin has been and will continue to be affected by a variety of
factors, including sales volumes, product mix, channel mix, pricing strategies,
sales returns rates, costs of finished goods, product warranty claim rates and
refurbishment strategies, and our ability to service insurance customers in the
future and any potential actions insurance providers may take following the
anticipated implementation of a pending OTC hearing aid regulatory framework
that may limit our ability to access insurance coverage (which OTC framework may
also generally result in additional compliance or other regulatory requirements
for Eargo).

We expect our gross margin to remain depressed for so long as we are unable to accept insurance benefits as a direct method of payment unless we can successfully target and convert new customers with a similarly low rate of return.

Research and development expenses

Research and development ("R&D") expenses, consist primarily of engineering and
product development costs to develop and support our products, regulatory
expenses, non-recurring engineering and other costs associated with products and
technologies that are in development, as well as related overhead costs. These
expenses include personnel-related costs, including salaries and stock-based
compensation, supplies, consulting fees, prototyping, testing, materials, travel
expenses, depreciation and allocated facility overhead costs. Additionally, R&D
expenses include internal and external costs associated with our regulatory
compliance and quality

                                       30
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assurance functions, and related overhead costs. The uncertainty regarding the
anticipated implementation of a pending OTC hearing aid regulatory framework
will require that we evaluate our R&D expenses as new information becomes
available.

Sales and marketing expenses

Our sales and marketing expenses have generally been the largest component of
our operating expenses and consist primarily of personnel-related costs,
including salaries and stock-based compensation, direct and channel marketing,
advertising and promotional expenses, consulting fees, public relations costs
and allocated facility overhead costs. Sales and marketing personnel include our
direct sales force consisting of inside sales consultants, hearing
professionals, marketing professionals and related support personnel. We expect
our sales and marketing expenses to fluctuate over time as a percentage of
revenue. In response to the factors discussed in "-DOJ investigation and
settlement and claims audits," we have reduced sales and marketing resources
that were previously focused on insurance customers to prioritize the conversion
of cash-pay consumers into satisfied customers, including as part of the
reduction in force announced on December 8, 2021.

General and administrative expenses

Our general and administrative expenses consist primarily of compensation for
executive, finance, legal, information technology and administrative personnel,
including stock-based compensation. Other significant expenses include
professional fees for legal and accounting services, transaction fees,
consulting fees, recruiting fees, information technology costs, corporate
insurance, bad debt expense, general corporate expenses and allocated facility
overhead costs.

Excluding the costs associated with the DOJ investigation, we expect our general
and administrative expenses will increase in absolute dollars in future periods
as a result of operating as a public company, including expenses related to
compliance with the rules and regulations of the SEC, and those of the Nasdaq
Stock Market, additional insurance costs, investor relations activities and
other administrative and professional services, as well as professional service
and legal fees and expenses related to shareholder litigation that has been
filed and that may be filed in the future.

Interest income

Interest income consists of interest earned on cash and cash equivalents.

Interest expense

Interest expense consists of interest related to borrowings under our debt obligations.

Loss on extinguishment of debt

The loss on extinguishment of debt arose from the early repayment of our 2018 Loan Agreement in June 2022.

Income tax provision

We use the asset and liability method to account for income taxes. Under this
method, deferred tax assets and liabilities are determined based on differences
between the financial statement carrying amounts of existing assets and
liabilities and their tax bases. Deferred tax assets and liabilities are
measured using enacted tax rates applied to taxable income in the years in which
those temporary differences are expected to be recovered or settled. A valuation
allowance is established when necessary to reduce deferred tax assets to the
amount expected to be realized. Due to our historical operating performance and
our recorded cumulative net losses in prior fiscal periods, our net deferred tax
assets have been fully offset by a valuation allowance.

Financial statement effects of uncertain tax positions are recognized when it is
more-likely-than-not, based on the technical merits of the position, that it
will be sustained upon examination. Interest and penalties related to
unrecognized tax benefits are included within the provision for income tax.

                                       31
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Results of operations

Comparison of the three months ended June 30, 2022 and 2021

                                      Three months ended
                                           June 30,                    Change
(dollars in thousands)                2022          2021         Amount          %
Revenue, net                        $   7,247     $  22,883     $ (15,636 )     (68.3 )%
Cost of revenue                         4,733         6,462        (1,729 )     (26.8 )
Gross profit                            2,514        16,421       (13,907 )     (84.7 )
Operating expenses:
Research and development                3,879         5,148        (1,269 )     (24.7 )
Sales and marketing                    12,734        21,903        (9,169 )     (41.9 )
General and administrative             17,344         8,432         8,912       105.7
Total operating expenses               33,957        35,483        (1,526 )      (4.3 )
Loss from operations                  (31,443 )     (19,062 )     (12,381 )      65.0
Other income (expense), net:
Interest income                            56             6            50       833.3
Interest expense                         (285 )        (266 )         (19 )       7.1
Loss on extinguishment of debt           (772 )           -          (772 ) 

*

Total other income (expense), net (1,001 ) (260 ) (741 )

    285.0
Loss before income taxes              (32,444 )     (19,322 )     (13,122 )      67.9
Income tax provision                        -             -             -           -

Net loss and comprehensive loss $ (32,444 ) $ (19,322 ) $ (13,122 )

     67.9 %



* Not meaningful

Revenue, net
                           Three months ended
                                June 30,                    Change
(dollars in thousands)     2022           2021        Amount          %
Revenue, net             $   7,247      $ 22,883     $ (15,636 )     (68.3 )%


Revenue decreased by $15.6 million, or 68.3%, from $22.9 million during the
three months ended June 30, 2021, to $7.2 million during the three months ended
June 30, 2022, primarily due to a decrease in the volume of Eargo hearing aid
systems shipped from 12,548 gross systems shipped during the three months ended
June 30, 2021 to 4,455 during the three months ended June 30, 2022 as we no
longer accepted insurance as a method of direct payment as of December 8, 2021.
The decrease in revenue was also attributable to an increase in sales returns
rate as we operated on a cash-pay basis only during the three months ended June
30, 2022, whereas we accepted both cash pay and insurance as a direct method of
payment in the comparable period. We have experienced a historically higher
return rate for cash-pay customers as compared to insurance customers.

Cost of revenue, gross profit, and gross margin

                           Three months ended
                                June 30,                    Change
(dollars in thousands)     2022           2021        Amount          %
Cost of revenue          $   4,733      $  6,462     $  (1,729 )     (26.8 )%
Gross profit                 2,514        16,421       (13,907 )     (84.7 )%
Gross margin                  34.7 %        71.8 %


Cost of revenue decreased by $1.7 million, or 26.8%, from $6.5 million during
the three months ended June 30, 2021 to $4.7 million during the three months
ended June 30, 2022. The change was primarily due to the decrease in the volume
of Eargo hearing aid systems shipped.

Gross margin decreased to 34.7% during the three months ended June 30, 2022,
compared to 71.8% during the three months ended June 30, 2021. The change in
gross margin percentage was primarily due to an increase in sales returns rates,
an increase in cost of goods per product sold due to a change in product mix,
and an increase in amortization of capitalized software costs subsequent to the
commercial launch of Eargo 5 in July 2021 and Eargo 6 in January 2022.

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Research and development (R&D)

                             Three months ended
                                  June 30,                    Change

(dollars in thousands) 2022 2021 Amount % Research and development $ 3,879 $ 5,148 $ (1,269 ) (24.7 )%

R&D expenses decreased by $1.3 million, or 24.7%, from $5.1 million during the
three months ended June 30, 2021 to $3.9 million during the three months ended
June 30, 2022. The change was primarily due to a net decrease of $1.3 million in
personnel and personnel-related costs due in part to a decrease of $1.7 million
in stock-based compensation, partially offset by a decrease in the amount of
internal use software development costs being capitalized subsequent to the
commercial launch of Eargo 5 in July 2021 and Eargo 6 in January 2022. The
decrease in stock-based compensation is primarily due to our estimate as of June
30, 2022 that certain vesting conditions associated with performance-based
restricted stock units were no longer deemed probable of being met, which
resulted in a $1.1 million decrease in cumulative compensation cost associated
with the awards, and the suspension of our ESPP in November 2021.

Sales and marketing
                           Three months ended
                                June 30,                    Change
(dollars in thousands)      2022          2021        Amount         %
Sales and marketing      $   12,734     $ 21,903     $ (9,169 )     (41.9 )%


Sales and marketing expenses decreased by $9.2 million, or 41.9%, from $21.9
million during the three months ended June 30, 2021 to $12.7 million during the
three months ended June 30, 2022. The change was primarily due to decreases in
direct marketing, advertising and promotional expenses of $6.8 million due to a
reduction in media following our decision to stop accepting insurance benefits
as a method of direct payment on December 8, 2021 and decreases in personnel and
personnel-related costs of $2.4 million, which includes a $1.2 million decrease
in stock-based compensation primarily related to the suspension of our ESPP in
November 2021.

General and administrative

                               Three months ended
                                    June 30,                   Change

(dollars in thousands) 2022 2021 Amount % General and administrative $ 17,344 $ 8,432 $ 8,912 105.7 %

General and administrative expenses increased by $8.9 million, or 105.7%, from
$8.4 million during the three months ended June 30, 2021 to $17.3 million during
the three months ended June 30, 2022. This change was primarily due to $5.7
million in transaction costs related to the Note Purchase Agreement and a net
increase in general corporate costs of $3.8 million primarily related to legal,
accounting, consulting and other professional fees driven by activities related
to the DOJ investigation.

Comparison of the six months ended June 30, 2022 and 2021

                                       Six months ended
                                           June 30,                    Change
(dollars in thousands)                2022          2021         Amount          %
Revenue, net                        $  16,423     $  44,931     $ (28,508 )     (63.4 )%
Cost of revenue                        10,224        12,759        (2,535 )     (19.9 )
Gross profit                            6,199        32,172       (25,973 )     (80.7 )
Operating expenses:
Research and development                9,726         9,926          (200 )      (2.0 )
Sales and marketing                    26,024        38,758       (12,734 )     (32.9 )
General and administrative             32,278        15,919        16,359       102.8
Total operating expenses               68,028        64,603         3,425         5.3
Loss from operations                  (61,829 )     (32,431 )     (29,398 )      90.6
Other income (expense), net:
Interest income                            61            17            44   

258.8

Interest expense                         (549 )        (529 )         (20 ) 

3.8

Loss on extinguishment of debt           (772 )           -          (772 ) 

*

Total other income (expense), net (1,260 ) (512 ) (748 )

    146.1
Loss before income taxes              (63,089 )     (32,943 )     (30,146 )      91.5
Income tax provision                        -             -             -           -

Net loss and comprehensive loss $ (63,089 ) $ (32,943 ) $ (30,146 )

91.5 %

                                       33
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* Not meaningful

Revenue, net
                           Six months ended
                               June 30,                   Change
(dollars in thousands)     2022         2021        Amount          %
Revenue, net             $ 16,423     $ 44,931     $ (28,508 )     (63.4 )%


Revenue decreased by $28.5 million, or 63.4%, from $44.9 million during the six
months ended June 30, 2021, to $16.4 million during the six months ended June
30, 2022, primarily due to a decrease in the volume of Eargo hearing aid systems
shipped from 24,252 gross systems shipped during the six months ended June 30,
2021 to 10,228 during the six months ended June 30, 2022 as we no longer
accepted insurance as a method of direct payment as of December 8, 2021. The
decrease in revenue was also attributable to an increase in sales returns rate
as we operated on a cash-pay basis only during the six months ended June 30,
2022, whereas we accepted both cash pay and insurance as a direct method of
payment in the comparable period. We have experienced a historically higher
return rate for cash-pay customers as compared to insurance customers.

Cost of revenue, gross profit, and gross margin

                           Six months ended
                               June 30,                   Change
(dollars in thousands)     2022         2021        Amount          %
Cost of revenue          $ 10,224     $ 12,759     $  (2,535 )     (19.9 )%
Gross profit                6,199       32,172       (25,973 )     (80.7 )%
Gross margin                 37.7 %       71.6 %


Cost of revenue decreased by $2.5 million, or 19.9%, from $12.8 million during
the six months ended June 30, 2021 to $10.2 million
during the six months ended June 30, 2022. The change was primarily due to the
decrease in the volume of Eargo hearing aid systems
shipped.

Gross margin decreased to 37.7% during the six months ended June 30, 2022,
compared to 71.6% for the comparable period in 2021. The change in gross margin
percentage was primarily due to an increase in sales returns rates, an increase
in cost of goods per product sold due to a change in product mix, and an
increase in amortization of capitalized software costs subsequent to the
commercial launch of Eargo 5 in July 2021 and Eargo 6 in January 2022.

Research and development (R&D)

                             Six months ended
                                 June 30,                  Change

(dollars in thousands) 2022 2021 Amount % Research and development $ 9,726 $ 9,926 $ (200 ) (2.0 )%

R&D expenses decreased by $0.2 million, or 2.0%, from $9.9 million during the
six months ended June 30, 2021 to $9.7 million during the six months ended June
30, 2022. The change was primarily due to a net decrease of $0.5 million in
personnel and personnel-related costs due in part to a decrease of $1.7 million
in stock-based compensation, partially offset by a decrease in the amount of
internal use software development costs being capitalized subsequent to the
commercial launch of Eargo 5 in July 2021 and Eargo 6 in January 2022. The
decrease in stock-based compensation is primarily due to our estimate as of June
30, 2022 that certain vesting conditions associated with performance-based
restricted stock units were no longer deemed probable of being met, as well as
the suspension of our ESPP in November 2021.

Sales and marketing
                           Six months ended
                               June 30,                   Change
(dollars in thousands)     2022         2021        Amount          %
Sales and marketing      $ 26,024     $ 38,758     $ (12,734 )     (32.9 )%


Sales and marketing expenses decreased by $12.7 million, or 32.9%, from $38.8
million during the six months ended June 30, 2021 to $26.0 million during the
six months ended June 30, 2022. The change was primarily due to decreases in
direct marketing, advertising and promotional expenses of $8.6 million due to a
reduction in media following our decision to stop accepting insurance benefits
as a method of direct payment on December 8, 2021 and decreases in personnel and
personnel-related costs of $4.2 million, which includes a $2.4 million decrease
in stock-based compensation primarily related to the suspension of our ESPP in
November 2021.

                                       34
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General and administrative
                               Six months ended
                                   June 30,                   Change
(dollars in thousands)         2022         2021        Amount         %
General and administrative   $ 32,278     $ 15,919     $ 16,359       102.8 %


General and administrative expenses increased by $16.4 million, or 102.8%, from
$15.9 million during the six months ended June 30, 2021 to $32.3 million during
the six months ended June 30, 2022. This change was primarily due to a net
increase in general corporate costs of $11.1 million primarily related to legal,
accounting, consulting and other professional fees driven by activities related
to the DOJ investigation and $5.7 million in transaction costs related to the
Note Purchase Agreement.

Liquidity and capital resources

Sources of liquidity and operating capital requirements

Since our inception, we have incurred net losses and negative cash flows from
operations. We have funded our operations primarily from the net proceeds
received from the sale of our equity securities, indebtedness and revenue from
the sale of our products.

On June 28, 2022, we completed the First Tranche Closing of the Note
Transaction, generating $100.0 million in gross proceeds. We incurred $5.7
million in transaction costs related to the Note Transaction, of which $2.4
million has been paid as of June 30, 2022. Concurrently with the First Tranche
Closing, we used approximately $16.2 million of the proceeds to repay all
existing third-party indebtedness and related pay-off expenses, including all
principal outstanding under the 2018 Loan Agreement. As of June 30, 2022, we had
cash and cash equivalents of $106.6 million, including the net proceeds received
from the First Tranche Closing, and an accumulated deficit of $419.9 million.
Under the terms of the Note Transaction documents, we are required to use the
proceeds for working capital purposes and to fund our general business
requirements. For additional information regarding the Notes and the Note
Transaction, refer to the section titled "-Convertible Note Financing."

We expect to incur additional substantial losses in the foreseeable future. We
believe that, without completing the Rights Offering or an alternative future
financing, our current resources are insufficient to satisfy our obligations as
they become due within one year after the date that the financial statements are
issued. Our negative cash flows and current lack of financial resources raise
substantial doubt as to our ability to continue as a going concern. If we are
unable to complete the Rights Offering and all of the Notes remain outstanding,
we will have insufficient funds to repay the Notes without additional capital.

We anticipate our future operating requirements will be substantial and that we
will need to raise significant additional resources to fund our operations, even
after the completion of the Note Transaction, through equity or debt financing,
or some combination thereof. If we are unable to complete the Rights Offering or
raise additional funding to meet our operational needs, we will be forced to
limit or cease our operations.

In addition to our current capital needs, we regularly consider fundraising
opportunities and may decide, from time to time, to raise capital based on
various factors, including market conditions and our plans of operation. We may
seek funds through borrowings or through additional rounds of financing,
including private or public equity or debt offerings. Additional capital may not
be available to us on acceptable terms on a timely basis, or at all. If adequate
funds are not available, or if the terms of potential funding sources are
unfavorable, our business and our ability to develop our technology and our
products would be harmed. Furthermore, any new equity or convertible debt
securities we issue may result in the dilution of our stockholders, and any debt
financing may include covenants that restrict our business.

In connection with the Note Transaction, we agreed not to incur any
indebtedness, with certain exceptions. Such restrictions could impair our
ability to raise additional capital in the future. Nothing in the Note Purchase
Agreement prohibits us from refinancing the Notes (at their repayment value)
with a new equity or debt financing, or from selling the Company (and repaying
the Notes at the repayment value in connection with such sale).

Our longer term future capital requirements and ability to raise additional capital will depend on many forward-looking factors and are not limited to the following:

• our obtaining shareholder approval for the Share Increase Amendment Proposal

and the Nasdaq Proposal at the Annual Meeting and our being able to

successfully complete the Rights Offering by December 24, 2022 such that the

Notes are converted to shares of our common stock upon the completion of the

Rights Offering and we do not trigger an event of default under the Note

      Purchase Agreement and face repayment obligations to the Noteholders on
      December 24, 2022;


  • investor confidence in our ability to continue as a going concern;

• the timing, receipt and amount of sales from our current and future products;

• the costs involved in resolving the third-party claims audits and potential

recoupment of previous claims paid, as well as other legal proceedings

      (including the shareholder class action and derivative suits discussed in
      Note 5 to the Unaudited


                                       35

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

Condensed Consolidated Financial Statements included in this Quarterly

      Report on Form 10-Q), and their duration and impact on our business
      generally (particularly with respect to our ability in future periods to
      accept insurance as a direct method of payment);

• the availability of insurance coverage for our hearing aid devices, and any

costs associated with reimbursement and compliance, including the

anticipated implementation of a pending OTC regulatory framework (which may

lead insurance providers to take actions limiting our ability to access

insurance coverage and may also generally result in additional compliance or

other regulatory requirements for us), and any resulting changes to our

business model, including a potential long-term shift to a model that

excludes insurance benefits as a method of direct payment to Eargo, which

would likely result in a sustained increased cost of customer acquisition;

• the cost and timing of expanding our sales, marketing and distribution

capabilities and our continued success in reducing our customer acquisition

costs;

• any expenses, as well as the impact to our business and operating model, as

a result of changes in the regulatory landscape for hearing aid devices;

   •  the cost of manufacturing, either ourselves or through third-party
      manufacturers, our products;


   •  the terms, timing and success of any other licensing, partnership,

omni-channel, including retail, or other arrangements that we may establish;

• any product liability or other lawsuits related to our current or future

      products;


  • the expenses needed to attract, hire and retain skilled personnel;

• the extent of our spending to support research and development activities

      and the expansion of our product offerings;


  • the costs associated with being a public company;

• the costs involved in preparing, filing, prosecuting, maintaining, defending

      and enforcing our intellectual property portfolio; and


  • the extent to which we acquire or invest in businesses.


Our liquidity is subject to various risks, including the risks identified in the
section titled "Risk Factors" in Item 1A of Part II. While the extent to which
we are able to validate and establish processes to support the submission of
claims for reimbursement to health plans, including those under the FEHB
program, if at all, in the future, and the future impacts of the anticipated
implementation of a pending OTC hearing aid regulatory framework (which may lead
insurance providers to take actions limiting our ability to access insurance
coverage and may also generally result in additional compliance or other
regulatory requirements for Eargo) are difficult to assess or predict at this
time, since the announcement of the DOJ investigation and our related decision
to stop accepting insurance benefits as a method of direct payment, there has
been and may continue to be a significant reduction in shipments, revenue and
gross margin which could in the future negatively impact our liquidity and
working capital, including by impacting our ability to access any additional
capital.

Contractual obligations and commitments

There have been no changes to our contractual obligations and commitments included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, except for the following:

On June 24, 2022, we entered into the Note Purchase Agreement, pursuant to which
we agreed to issue and sell up to $125 million in Notes. On June 28, 2022, we
closed the initial issuance of $100 million of Notes. We used approximately
$16.2 million of the net proceeds to repay all existing third-party
indebtedness, including all principal outstanding under the 2018 Loan Agreement,
and related pay-off expenses. Refer to the section titled "-Convertible Note
Financing" and Note 6 of the Notes to Unaudited Condensed Consolidated Financial
Statements included in this Quarterly Report on Form 10-Q for more information
regarding the Note Transaction and the Note Purchase Agreement.

                                       36
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Cash flows

The following table summarizes our cash flows for the periods indicated:

                                               Six months ended
                                                   June 30,
(in thousands)                                2022          2021

Net cash used in operating activities $ (82,882 ) $ (31,406 ) Net cash used in investing activities (2,352 ) (5,398 ) Net cash provided by financing activities 81,364 3,973 Net decrease in cash

$  (3,870 )   $ (32,831 )




Operating activities

During the six months ended June 30, 2022, cash used in operating activities was
$82.9 million, attributable to a net loss of $63.1 million and a net change in
our net operating assets and liabilities of $34.7 million, partially offset by
non-cash charges of $14.9 million. Non-cash charges primarily consisted of $5.7
million in debt issuance costs from convertible notes, the payments of which are
classified as cash used in financing activities, $4.5 million in stock-based
compensation, $2.7 million in depreciation and amortization expense, $0.8
million loss on extinguishment of debt, $0.6 million in non-cash operating lease
expense and $0.4 million in bad debt expense. The change in our net operating
assets and liabilities was primarily due to a $34.4 million decrease in the
settlement liability which was paid in accordance with the terms of the DOJ
settlement agreement, $3.3 million decrease in accounts payable, $1.1 million
decrease in sales returns reserve, $1.1 million increase in inventories, and
$0.3 million decrease in operating lease liabilities, partially offset by a $4.8
million decrease in prepaid expenses and other current assets and $1.0 million
decrease in other assets.

During the six months ended June 30, 2021, cash used in operating activities was
$31.4 million, attributable to a net loss of $32.9 million and a net change in
our net operating assets and liabilities of $11.6 million, partially offset by
non-cash charges of $13.2 million. Non-cash charges primarily consisted of $10.4
million in stock-based compensation, $1.4 million in depreciation and
amortization expense, $0.6 million in non-cash operating lease expense and $0.6
million in bad debt expense. The change in our net operating assets and
liabilities was primarily due to a $12.2 million increase in accounts
receivable, net, $0.6 million decrease in operating lease liabilities, $0.5
million decrease in sales returns reserve, and $0.5 million increase in
inventories. These changes were partially offset by a $0.9 million increase in
accounts payable, $0.8 million decrease in prepaid expenses and other current
assets and $0.7 million increase in accrued expenses.

Investing activities

During the six months ended June 30, 2022, cash used in investing activities was $2.4 million, which consisted of $2.1 million related to the purchase of property and equipment and $0.3 million in capitalized costs related to the development of internal use software.

During the six months ended June 30, 2021, cash used in investing activities was
$5.4 million, which consisted of $2.4 million in cash paid for acquisition of a
business, $2.4 million in capitalized costs related to the development of
internal use software and $0.5 million related to the purchase of property and
equipment.

Financing activities

During the six months ended June 30, 2022, cash provided by financing activities
was $81.4 million, which primarily consisted of $99.9 million in proceeds from
issuance of convertible notes net of issuance costs paid to lender and $0.1
million in proceeds from the exercise of stock options, partially offset by
$16.2 million in debt repayments, $2.3 million in payments of convertible notes
issuance costs to third parties and $0.1 million in cash paid to settle
restricted stock units.

On June 24, 2022, we entered into the Note Purchase Agreement, pursuant to which
we agreed to issue and sell up to $125 million in Notes. On June 28, 2022, we
closed the initial issuance of $100 million of Notes. We used approximately
$16.2 million of the net proceeds to repay all existing third-party indebtedness
and related pay-off expenses. We incurred $5.7 million in transaction costs
related to the Note Transaction, of which $2.4 million has been paid as of June
30, 2022. See Note 6 of the Notes to Unaudited Condensed Consolidated Financial
Statements included in this Quarterly Report on Form 10-Q for more information
regarding the Note Transaction and the Note Purchase Agreement.

During the six months ended June 30, 2021, cash provided by financing activities was $4.0 million. This was attributable to $2.7 million from employee stock purchase plan purchases and $1.3 million from the exercise of stock options.

                                       37
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Critical accounting estimates

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

There have been no significant changes in our critical accounting estimates as
compared to the critical accounting estimates disclosed in the section titled
"Management's Discussion and Analysis of Financial Condition and Operations"
included in our Annual Report on Form 10-K for the fiscal year ended December
31, 2021, except as follows.

Fair value of convertible notes

The fair value of the Notes is estimated as a combination of the Company's
equity and an option on the Company's equity valued using the Black-Scholes
option pricing model. As of the issuance date of the Notes, the fair value of
the Notes was determined to be equal to the proceeds received. Estimates and
assumptions impacting the fair value measurement include the timing of the
Rights Offering and the related risk-free interest rate for the expected timing,
the closing price of our common stock prior to the announcement of the Notes,
and the expected volatility of our common stock.

Recent accounting pronouncements

See Note 2 of the Notes to Unaudited Condensed Consolidated Financial Statements
included in this Quarterly Report on Form 10-Q for more information about recent
accounting pronouncements, the timing of their adoption, and our assessment.

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