Butterfly Network, Inc. (BFLY) FY 2022 MD&A
This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.
Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of the financial condition and results of operations should be read in conjunction with the financial statements and related notes included elsewhere in this Annual Report on Form 10-K. This discussion contains forward-looking statements reflecting our current expectations, estimates and assumptions concerning events and financial trends that may affect our future operating results or financial position. Actual results and the timing of events may differ materially from those contained in these forward-looking statements due to a number of factors, including those discussed in the sections entitled “Risk Factors” and “Cautionary Statement Regarding Forward-Looking Statements” appearing elsewhere in this Annual Report on Form 10-K.
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Overview
We are an innovative digital health business transforming care with handheld, whole-body ultrasound. Powered by our proprietary Ultrasound-on-Chip™ technology, our solution enables the acquisition of imaging information from an affordable, powerful device that fits in a healthcare professional’s pocket with a unique combination of cloud-connected software and hardware technology that is easily accessed through a mobile app.
Butterfly iQ+ is an ultrasound device that can perform whole-body imaging in a single handheld probe using semiconductor technology. Our Ultrasound-on-Chip™ makes ultrasound more accessible outside of large healthcare institutions, while our software is intended to make the product easy to use and fully integrated with the clinical workflow, accessible on a user’s smartphone, tablet and almost any hospital computer system connected to the Internet. We aim to enable the delivery of imaging information anywhere at point-of-care to drive earlier detection throughout the body and remote management of health conditions. We market and sell the Butterfly system, which includes probes and related accessories and software subscriptions, to healthcare systems, physicians and healthcare providers through a direct sales force, distributors and our eCommerce channel.
Business Combination
On February 12, 2021 we completed the Business Combination. The transaction resulted in the Company’s Class A common stock and warrants to purchase Class A common stock commencing trading on the New York Stock Exchange (“NYSE”) on February 16, 2021 under the symbol “BFLY” and “BFLY WS”, respectively. As a result of the Business Combination, we received gross proceeds of approximately $589 million.
COVID-19
The COVID-19 pandemic that began in 2020 has created significant global economic uncertainty regarding the extent, timing and duration of the pandemic. The uncertainty and potential economic volatility impact our customer base and supply chains. The pandemic has caused financial strain on our customer base due to decreased funding, revenue shortfalls, and new variants requiring immediate attention. As a result, we have experienced longer sales cycles and slower adoption in the near term. We have not experienced any significant constraints in the availability of inventory components within our supply chains, but we have been subject to increasing costs for some components. We continue to closely monitor the developments of COVID-19 for any material impact on our business.
Key Performance Measures
We review the key performance measures discussed below to evaluate the business and measure performance, identify trends, formulate plans and make strategic decisions. Our key performance measures may fluctuate over time as the adoption of our devices increases which may shift the revenue mix more toward software and other services. The quarterly measures may be impacted by the timing of device sales.
Units fulfilled
We define units fulfilled as the number of devices whereby control is transferred to a customer. We do not adjust this measure for returns as our volume of returns has historically been low. We view units fulfilled as a key indicator of the growth of our business. We believe that this measure is useful to investors because it presents our core growth and performance of our business period over period.
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Units fulfilled decreased by 955, or 14.2%, for the three months ended December 31, 2022 compared to the three months ended December 31, 2021, primarily due to decreased device sales volume from our direct sales and eCommerce channels. The decreases were partially offset by increased sales from our distributor channel.
Software and other services mix
We define software and other services mix as a percentage of our total revenue recognized in a reporting period that is based on software subscriptions and other related services, consisting primarily of our software as a service (“SaaS”) offering. We view software and other services mix as a key indicator of the profitability of our business, and thus we believe that this measure is useful to investors.
Software and other services mix increased by 9.2 percentage points, to 33.3% for the three months ended December 31, 2022 compared to the three months ended December 31, 2021. The increase was due to increases in software subscription renewals and an expansion of software subscription offerings. In addition, the increase is due to the timing of revenue
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recognition for our SaaS and other software subscription contracts as revenue from such contracts is deferred and recognized over the service period.
Description of Certain Components of Financial Data
Revenue
Revenue consists of revenue from the sale of products, such as medical devices and accessories, and the sale of software related services, classified as software and other services revenue on our consolidated statements of operations and comprehensive loss, which are SaaS subscriptions and product support and maintenance (“Support”). SaaS subscriptions include licenses for teams and individuals as well as enterprise-level subscriptions. For sales of products, revenue is recognized at a point in time upon transfer of control to the customer. SaaS subscriptions and Support are generally related to stand-ready obligations and are recognized ratably over time.
Over time as adoption of our devices increases through further market penetration and as practitioners in the Butterfly network continue to use our devices, we expect our annual revenue mix to shift more toward software and other services. The quarterly revenue mix may be impacted by the timing of device sales.
To date, we have invested heavily in building out our direct salesforce, with the ultimate goal of growing adoption at large-scale healthcare systems. As we expand our healthcare system software offerings and develop relationships with larger healthcare systems, we continue to expect a higher proportion of our sales in healthcare systems compared to eCommerce.
Cost of revenue
Cost of product revenue consists of product costs including manufacturing costs, personnel costs and benefits, inbound freight, packaging, warranty replacement costs, payment processing fees and inventory obsolescence and write-offs. We expect our cost of product revenue to fluctuate over time due to the level of units fulfilled in any given period and fluctuate as a percentage of product revenue over time as our focus on operational efficiencies in our supply chain may be offset by increased prices of certain inventory components.
Cost of software and other services revenue consists of personnel costs, cloud hosting costs and payment processing fees. Because the costs and associated expenses to deliver our SaaS offerings are less than the costs and associated expenses of manufacturing and selling our device, we anticipate an improvement in profitability and margin expansion over time as our revenue mix shifts increasingly towards software and other services. We plan to continue to invest additional resources to expand and further develop our SaaS and other service offerings.
Also included in cost of revenue are losses on product purchase commitments relating to inventory supply agreements where the expected losses exceed the benefits of the contracts. We consider a variety of factors and data points when determining the existence and scope of a loss for the minimum purchase commitment. The factors and data points include Company-specific forecasts which are reliant on our limited sales history, agreement-specific provisions, macroeconomic factors and market and industry trends. Determining the loss is subjective and requires significant management judgment and estimates.
Research and development
R&D expenses primarily consist of personnel costs and benefits, facilities-related expenses, depreciation expense, consulting and professional fees, fabrication services, software and other outsourcing expenses. Most of our R&D expenses are related to developing new products and services, which we define as not having reached the point of commercialization, and improving our products and services that have been commercialized. Consulting expenses are related to general development activities and clinical/regulatory research. Fabrication services include certain third-party engineering costs, product testing and test boards. Research and development expenses are expensed as incurred. We expect to continue to make substantial investments in our product development, clinical and regulatory capabilities.
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Sales and marketing
Sales and marketing expenses primarily consist of personnel costs and benefits, third party logistics, fulfillment and outbound shipping costs, advertising, promotional costs, conferences and events and related facilities and information technology costs. We expect to continue to make substantial investments in our sales capabilities.
General and administrative
General and administrative expenses primarily consist of personnel costs and benefits, insurance, patent fees, software costs, facilities costs and outside services. Outside services consist of professional services, legal fees and other professional fees.
Results of Operations
We operate as a single reportable segment to reflect the way our chief operating decision maker reviews and assesses the performance of the business. The accounting policies are described in Note 2 “Summary of Significant Accounting Policies” in our consolidated financial statements included in this Annual Report on Form 10-K.
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|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended December 31, | ||||||||||||||||
| | | 2022 | | | 2021 | | 2020 | |||||||||||
| | | | | | % of | | | | | | % of | | | | | % of | ||
| (in thousands) | | Dollars | | revenue | | | Dollars | | revenue | | Dollars | | revenue | |||||
| Revenue: | ||||||||||||||||||
| Product | | $ | 50,263 | 68.5 | % | | $ | 47,868 | 76.5 | % | | $ | 38,347 | 82.9 | % | |||
| Software and other services | | | 23,127 | 31.5 | | | | 14,697 | 23.5 | | | | 7,905 | 17.1 | | |||
| Total revenue | | | 73,390 | 100.0 | | | | 62,565 | 100.0 | | | | 46,252 | 100.0 | | |||
| Cost of revenue: | | | | | | | | | | |||||||||
| Product | | | 26,804 | 36.5 | | | | 29,308 | 46.8 | | | | 46,294 | 100.1 | | |||
| Software and other services | | | 7,126 | 9.7 | | | | 2,238 | 3.6 | | | | 1,068 | 2.3 | | |||
| Loss on product purchase commitments | | | — | | — | | | | 13,965 | | 22.3 | | | | 60,113 | | 130.0 | |
| Total cost of revenue | | | 33,930 | 46.2 | | | | 45,511 | 72.7 | | | | 107,475 | 232.4 | | |||
| Gross profit (loss) | | | 39,460 | 53.8 | | | | 17,054 | 27.3 | | | | (61,223) | (132.4) | | |||
| Operating expenses: | | | | | | | | | | |||||||||
| Research and development | | | 89,121 | 121.4 | | | | 74,461 | 119.0 | | | | 49,738 | 107.5 | | |||
| Sales and marketing | | | 59,888 | 81.6 | | | | 49,604 | 79.3 | | | | 26,263 | 56.8 | | |||
| General and administrative | | | 83,471 | 113.7 | | | | 85,717 | 137.0 | | | | 24,395 | 52.7 | | |||
| Total operating expenses | | | 232,480 | 316.8 | | | | 209,782 | 335.3 | | | | 100,396 | 217.1 | | |||
| Loss from operations | | | (193,020) | (263.0) | | | | (192,728) | (308.0) | | | | (161,619) | (349.4) | | |||
| Interest income | | | 3,384 | 4.6 | | | | 2,573 | 4.1 | | | | 285 | 0.6 | | |||
| Interest expense | | | (2) | (0.0) | | | | (651) | (1.0) | | | | (1,141) | (2.5) | | |||
| Change in fair value of warrant liabilities | | | 20,859 | | 28.4 | | | | 161,095 | | 257.5 | | | | — | | — | |
| Other income (expense), net | | | 98 | 0.1 | | | | (2,577) | (4.1) | | | | (231) | (0.5) | | |||
| Loss before provision for income taxes | | | (168,681) | (229.8) | | | | (32,288) | (51.6) | | | | (162,706) | (351.8) | | |||
| Provision for income taxes | | | 42 | 0.1 | | | | 121 | 0.2 | | | | 39 | 0.1 | | |||
| Net loss | | $ | (168,723) | (229.9) | % | | $ | (32,409) | (51.8) | % | | $ | (162,745) | (351.9) | % |
Comparison of the Years Ended December 31, 2022 and 2021
Revenue
| | | | | | | | | | | | | |
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended December 31, | | | | | | |||||
| (in thousands) | | 2022 | | 2021 | | Change | | % Change | ||||
| Revenue: | | | | | ||||||||
| Product | $ | 50,263 | | $ | 47,868 | | $ | 2,395 | 5.0 | % | ||
| Software and other services | | 23,127 | | | 14,697 | | | 8,430 | 57.4 | % | ||
| Total revenue: | | $ | 73,390 | | $ | 62,565 | | $ | 10,825 | 17.3 | % |
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Product revenue increased by $2.4 million, or 5.0%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. This increase was primarily driven by higher prices of products sold due to a price increase at the end of the third quarter of 2021. We also saw an increase in volume in our direct sales and distributor channels that was partially offset by lower volume in our eCommerce channel.
Software and other services revenue increased by $8.4 million, or 57.4%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. This increase was primarily driven by a higher volume of SaaS subscriptions sold in conjunction with new device sales, current year subscription renewals and expanded service offerings.
Cost of revenue
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|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended December 31, | | | | | | |||||
| (in thousands) | | 2022 | | 2021 | | Change | | % Change | ||||
| Cost of revenue: | | | | | ||||||||
| Product | $ | 26,804 | | $ | 29,308 | | $ | (2,504) | (8.5) | % | ||
| Software and other services | | 7,126 | | | 2,238 | | | 4,888 | 218.4 | % | ||
| Loss on product purchase commitments | | | — | | | 13,965 | | | (13,965) | | (100.0) | % |
| Total cost of revenue: | | $ | 33,930 | | $ | 45,511 | | $ | (11,581) | (25.4) | % | |
| Percentage of revenue | | 46.2 | % | 72.7 | % | |
Cost of product revenue decreased by $2.5 million, or 8.5%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. This decrease was primarily driven by our second-generation device, the Butterfly iQ+, being less costly to produce due to operational efficiencies, partially offset by increased prices of certain inventory components.
Cost of subscription revenue increased by $4.9 million, or 218.4%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. This increase was primarily driven by higher headcount that supports our software and other services and increases in cloud hosting costs and amortization expenses.
Loss on product purchase commitments decreased by $14.0 million, or 100.0%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. The loss on product purchase commitments is related to an inventory supply agreement expected to result in excess inventory due to a shift in our strategy and market conditions. The loss on product purchase commitments did not recur in 2022.
Research and development
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|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended December 31, | | | | | | |||||
| (in thousands) | | 2022 | | 2021 | | Change | | % Change | ||||
| Research and development | $ | 89,121 | $ | 74,461 | $ | 14,660 | 19.7 | % | ||||
| Percentage of revenue | | 121.4 | % | 119.0 | % | |
Research and development expenses increased by $14.7 million, or 19.7%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. This increase was primarily driven by our continued investment in improving our chip technology, enhancing our AI capabilities and advancing our software applications, resulting in increased spend on personnel, software and engineering to expand our overall product development capabilities and resources. Personnel costs increased by $9.2 million due to having a higher headcount in 2022 than 2021, primarily comprised of increases in salaries and bonuses of $4.5 million and stock-based compensation expenses of $3.8 million as well as reduction in force related severance and benefits costs of $1.0 million that were incurred only in 2022. Costs of software for use in R&D activities increased by $1.9 million due to new tools being implemented to enhance productivity and purchases of additional licenses to support the higher headcount. Engineering costs increased by $1.8 million, primarily due to increased spending on new product design and development.
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Sales and marketing
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|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended December 31, | | | | | | |||||
| (in thousands) | | 2022 | | 2021 | | Change | | % Change | ||||
| Sales and marketing | $ | 59,888 | $ | 49,604 | $ | 10,284 | 20.7 | % | ||||
| Percentage of revenue | | 81.6 | % | 79.3 | % | |
Sales and marketing expenses increased by $10.3 million, or 20.7%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. This increase was primarily driven by our continued focus on expanding adoption of our product and software solutions among healthcare systems while continuing to support our existing customers, resulting in increased spend on personnel and travel and entertainment. Personnel costs increased by $7.8 million due to having a higher headcount in 2022 than 2021, primarily comprised of increases in salaries and bonuses of $6.9 million. Travel and entertainment costs increased by $2.1 million as our salesforce increased its in-person engagement with our customers and attendance at sales conferences and events. These increases in sales and marketing expenses were partially offset by decreased digital and social marketing expenses of $1.5 million as we shifted our strategic focus from the eCommerce channel to our direct sales channel.
General and administrative
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|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended December 31, | | | | | | |||||
| (in thousands) | | 2022 | | 2021 | | Change | | % Change | ||||
| General and administrative | $ | 83,471 | $ | 85,717 | $ | (2,246) | (2.6) | % | ||||
| Percentage of revenue | | 113.7 | % | 137.0 | % | |
General and administrative expenses decreased by $2.2 million, or 2.6%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. This decrease was primarily due to certain unique events from 2021 not reoccurring in 2022. Stock-based compensation expense decreased by $6.9 million, primarily due to the expense recognized in 2021 for awards that vested alongside the closing of the Business Combination. Recruiting expenses decreased by $3.2 million, primarily due to the recruiting expenses incurred during our CEO transition in 2021. These decreases were partially offset by increases in other personnel costs of $5.1 million due to having a higher headcount in 2022 than 2021 and increases in software costs of $1.3 million to support our internal resources as we shifted our administrative functions away from external service providers.
Comparison of the Years Ended December 31, 2021 and 2020
Revenue
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|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended December 31, | | | | | | |||||
| (in thousands) | | 2021 | | 2020 | | Change | | % Change | ||||
| Revenue: | | | | | ||||||||
| Product | $ | 47,868 | | $ | 38,347 | | $ | 9,521 | 24.8 | % | ||
| Software and other services | | 14,697 | | | 7,905 | | | 6,792 | 85.9 | % | ||
| Total revenue: | | $ | 62,565 | | $ | 46,252 | | $ | 16,313 | 35.3 | % |
Product revenue increased by $9.5 million, or 24.8%, for the year ended December 31, 2021 compared to the year ended December 31, 2020. This increase was primarily driven by increased investment in our sales and marketing activities and higher prices of products sold due to a price increase at the end of the third quarter of 2021.
Software and other services revenue increased by $6.8 million, or 85.9%, for the year ended December 31, 2021 compared to the year ended December 31, 2020. This increase was primarily driven by a higher volume of SaaS subscriptions sold in conjunction with new device sales and current year subscription renewals.
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Cost of revenue
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|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended December 31, | | | | | | |||||
| (in thousands) | | 2021 | | 2020 | | Change | | % Change | ||||
| Cost of revenue: | | | | | ||||||||
| Product | $ | 29,308 | | $ | 46,294 | | $ | (16,986) | (36.7) | % | ||
| Software and other services | | 2,238 | | | 1,068 | | | 1,170 | 109.6 | % | ||
| Loss on product purchase commitments | | | 13,965 | | | 60,113 | | | (46,148) | | (76.8) | % |
| Total cost of revenue: | | $ | 45,511 | | $ | 107,475 | | $ | (61,964) | (57.7) | % | |
| Percentage of revenue | | 72.7 | % | 232.4 | % | |
Cost of product revenue decreased by $17.0 million, or 36.7%, for the year ended December 31, 2021 compared to the year ended December 31, 2020. This decrease was primarily driven by our second-generation device, the Butterfly iQ+, being less costly to produce due to operational efficiencies, partially offset by increased prices of certain inventory components.
Cost of subscription revenue increased by $1.2 million, or 109.6%, for the year ended December 31, 2021 compared to the year ended December 31, 2020. This increase was primarily driven by increases in cloud hosting costs and amortization expenses.
Loss on product purchase commitments decreased by $46.1 million, or 76.8%, for the year ended December 31, 2021 compared to the year ended December 31, 2020. The loss on product purchase commitments is related to an inventory supply agreement expected to result in excess inventory due to a shift in our strategy and market conditions. For the year ended December 31, 2021, we estimated a $39.1 million lower loss for future excess inventory compared to the year ended December 31, 2020. The decrease is also due to $7.0 million of losses on purchase commitments with other third-party vendors that did not recur in 2021.
Research and development
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|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended December 31, | | | | | | |||||
| (in thousands) | | 2021 | | 2020 | | Change | | % Change | ||||
| Research and development | $ | 74,461 | $ | 49,738 | $ | 24,723 | 49.7 | % | ||||
| Percentage of revenue | | 119.0 | % | 107.5 | % | |
Research and development expenses increased by $24.7 million, or 49.7%, for the year ended December 31, 2021 compared to the year ended December 31, 2020. This increase was primarily driven by our continued investment in improving our chip technology, enhancing our artificial intelligence capabilities, and advancing our software applications, resulting in increased spend on personnel, professional services and software to expand our overall product development capabilities and resources. Personnel costs increased by $19.8 million as we increased headcount, primarily comprised of increases in salaries and bonuses of $14.2 million and stock-based compensation expenses of $4.8 million. Additionally, professional service fees increased by $3.5 million, primarily due to increases in fees for product development consulting and outsourcing services, and costs of software for use in research and development activities increased by $1.2 million, due to new tools being implemented to enhance productivity and purchases of additional licenses to support the higher headcount.
Sales and marketing
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|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended December 31, | | | | | | |||||
| (in thousands) | | 2021 | | 2020 | | Change | | % Change | ||||
| Sales and marketing | $ | 49,604 | $ | 26,263 | $ | 23,341 | 88.9 | % | ||||
| Percentage of revenue | | 79.3 | % | 56.8 | % | |
Sales and marketing expenses increased by $23.3 million, or 88.9%, for the year ended December 31, 2021 compared to the year ended December 31, 2020. This increase was primarily driven by our investments in promoting sales growth for our product and software solutions among healthcare systems, resulting in increased spend on personnel, digital and social
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marketing, professional service fees, and travel and entertainment. Personnel costs increased by $14.8 million due to having a higher headcount in 2021 than 2020, primarily comprised of increases in salaries and bonuses of $5.0 million and stock-based compensation expense of $5.5 million. Digital and social marketing costs increased by $4.7 million as we invested more heavily in demand generation for our growing sales force. Professional service fees increased by $1.4 million, primarily due to increases in fees for marketing and sales consulting. Travel and entertainment costs also increased by $1.1 million as our salesforce increased its in-person engagement with our customers and attendance at sales conferences and events.
General and administrative
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|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended December 31, | | | | | | |||||
| (in thousands) | | 2021 | | 2020 | | Change | | % Change | ||||
| General and administrative | $ | 85,717 | $ | 24,395 | $ | 61,322 | 251.4 | % | ||||
| Percentage of revenue | | 137.0 | % | 52.7 | % | |
General and administrative expenses increased by $61.3 million, or 251.4%, for the year ended December 31, 2021 compared to the year ended December 31, 2020. This increase was driven by costs related to the Business Combination and transition to becoming a public company as well as our investments in scaling up our executive and back-office support functions. Stock-based compensation expense increased by $26.8 million as a result of certain equity awards that vested alongside the closing of the Business Combination as well as new awards that were granted throughout 2021. Other personnel costs also increased by $18.6 million as we grew our headcount in 2021, and software costs increased by $1.7 million to support both the higher headcount and scaled-up functions. Recruiting expenses increased by $3.5 million, professional service fees increased by $6.6 million and other costs related to becoming a public company of $3.3 million also contributed to the overall increase as we completed the Business Combination and a CEO transition in 2021.
Liquidity and Capital Resources
Since our inception, our primary sources of liquidity are cash flows from operations, proceeds from the Business Combination and issuances of preferred stock and convertible notes. Our primary uses of liquidity are operating expenses, working capital requirements and capital expenditures. Cash flows from operations have been historically negative as we continue to develop new products and services and increase our sales and marketing efforts. We expect to be cash flow negative on an annual basis, although we may have quarterly results where cash flows from operations are positive.
We expect that our existing cash and cash flows from operations will be sufficient to meet our liquidity, capital expenditure, and anticipated working capital requirements and fund our operations for at least the next 12 months.
Our cash and cash equivalents and investments in marketable securities balance as of December 31, 2022 was $237.8 million. Our future spending on capital resources may vary from those currently planned and will depend on various factors, including our rate of revenue growth and the timing and extent of spending on strategic business initiatives.
We have restricted cash of $4.0 million as of December 31, 2022 to secure a letter of credit for one of our leases, which is expected to be maintained as a security deposit for the duration of the lease. In addition, we have restricted cash of $0.3 million as of December 31, 2022 for a grant issued by the Bill & Melinda Gates Foundation (“BMGF”). The restriction is expected to lapse as we fulfill our obligations in the grant agreement with BMGF.
Our material cash requirements include contractual obligations with third parties for facility lease arrangements for office space and inventory supply agreements. As of December 31, 2022, we had fixed lease payment obligations of $40.6 million, with $3.5 million payable within 12 months. As of December 31, 2022, we had fixed inventory purchase obligations of $56.5 million, all of which is payable within 12 months. We expect to pay for approximately 40% of these purchase obligations payable within the next 12 months using vendor advances.
As of December 31, 2022, we had no obligations, assets or liabilities, which would be considered off-balance sheet arrangements.
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Cash Flows
The following table summarizes our sources and uses of cash for the years ended December 31, 2022, 2021 and 2020:
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|---|---|---|---|---|---|---|---|---|---|
| | | Year ended December 31, | |||||||
| (in thousands) | | 2022 | | 2021 | | 2020 | |||
| Net cash used in operating activities | $ | (169,115) | $ | (189,187) | $ | (81,700) | |||
| Net cash used in investing activities | | (93,779) | | (9,870) | | (2,376) | |||
| Net cash provided by financing activities | | 2,881 | | 565,692 | | 54,280 | |||
| Net (decrease) increase in cash, cash equivalents and restricted cash | $ | (260,013) | $ | 366,635 | $ | (29,796) |
Comparison of the period for the years ended December 31, 2022 and 2021
Cash flows used in operating activities
Net cash used in operating activities represents the cash receipts and disbursements related to our activities other than investing and financing activities. We expect cash provided by historical financing activities will continue to be our primary source of funds to support operating needs and capital expenditures for the foreseeable future.
Net cash used in operating activities decreased by $20.1 million, or 10.6%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. The decrease was driven by a $21.8 million decrease in net working capital cash usage partially offset by a $1.7 million increase in net loss adjusted for certain noncash items, primarily driven by the change in fair value of warrant liabilities and stock-based compensation expense. The decrease in net working capital cash usage was mainly due to a $14.5 million decrease in cash used by prepaid expenses and other assets, $7.7 million decrease in cash used by vendor advances and $8.6 million decrease in cash used by accounts payable and accrued expenses, partially offset by a $13.2 million increase in cash used by inventories.
Cash flows used in investing activities
Net cash used in investing activities increased by $83.9 million, or 850.1%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. The increase was primarily due to an increase of $73.5 million in purchases and sales of marketable securities and an increase in purchases of property and equipment of $10.4 million related to the Company’s new office space and additional investments into our software platform.
Cash flows provided by financing activities
Net cash provided by financing activities decreased by $562.8 million, or 99.5%, for the year ended December 31, 2022 compared to the year ended December 31, 2021. The decrease was primarily due to the non-recurrence of net proceeds from the Business Combination of $548.4 million and an $18.7 million decrease in option exercises, partially offset by the non-recurrence of the $4.4 million repayment of the Paycheck Protection Program loan.
Comparison of the period for the years ended December 31, 2021 and 2020
Cash flows used in operating activities
Net cash used in operating activities represents the cash receipts and disbursements related to our activities other than investing and financing activities. We expect cash provided by historical financing activities will continue to be our primary source of funds to support operating needs and capital expenditures for the foreseeable future.
Net cash used in operating activities increased by $107.5 million, or 131.6%, for the year ended December 31, 2021 compared to the year ended December 31, 2020. The decrease was driven by a $99.1 million increase in net working capital cash usage and an $8.5 million increase in net loss adjusted for certain noncash items, primarily driven by the change in fair value of warrant liabilities and stock-based compensation expense. The increase in net working capital cash
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usage was mainly due to a $65.6 million increase in cash used by accrued purchase commitments, a $30.8 million increase in cash used by accounts payable and accrued expenses and a $10.6 million increase in cash used by prepaid expenses and other assets, partially offset by a $12.2 million decrease in cash used by inventories.
Cash flows used in investing activities
Net cash used in investing activities increased by $7.5 million, or 315.4%, for the year ended December 31, 2021 compared to year ended December 31, 2020. The increase was primarily due to an increase of $5.5 million in purchases of property and equipment to support the growth and scaling of the business. The increase was also due to the investment activity for the funds received from the Business Combination.
Cash flows provided by financing activities
Net cash provided by financing activities increased by $511.4 million or 942.2%, for the year ended December 31, 2021 compared to year ended December 31, 2020. The increase was primarily due to net proceeds from the Business Combination of $548.4 million. Additionally, the proceeds from the exercise of stock options increased by $19.7 million, which was partially offset by a $4.4 million repayment of a loan under the Paycheck Protection Program that was issued in fiscal 2020, the non-recurrence of $50.0 million of proceeds from the issuance of convertible debt in fiscal 2020 and $4.4 million of proceeds from the loan payable issued in fiscal 2020.
Critical Accounting Policies and Estimates
Our consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”). The process of preparing financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions that affect the reported amounts of certain assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expense during the period. We base our assumptions, judgments and estimates on historical experience and various other factors that we believe to be reasonable under the circumstances. Actual results could differ materially from these estimates under different assumptions or conditions. We evaluate our assumptions, judgments and estimates on a regular basis. Historically, our assumptions, judgments and estimates relative to our critical accounting policies have not differed materially from actual results.
While our significant accounting policies are described in more detail in Note 2 “Summary of Significant Accounting Policies” in our consolidated financial statements, we believe that the following accounting policies are those most critical to the judgments and estimates used in the preparation of our financial statements.
Revenue recognition
We generate revenue from the sale of products and software and other services. Our contracts with customers often include multiple performance obligations. Generally, we have identified the following performance obligations can be promised in our contracts with customers:
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| ● | Hardware devices and accessories; |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| ● | Software subscriptions, including renewal subscriptions, which represent an obligation to provide the customer with ongoing access to our cloud-hosted software applications on a continuous basis throughout the subscription period; |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| ● | Implementation and integration services; and |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| ● | Extended warranties. |
Transaction price is allocated to all identified performance obligations based on relative standalone selling prices of the underlying goods or services. Each sale of a hardware device or accessory is a performance obligation satisfied at a point in time when control of the good transfers from us to the customer. Our software subscriptions and extended warranties are stand-ready obligations that are satisfied over time, and we use the time-elapsed (i.e., straight-line) measure of progress
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to recognize revenue for these services. Our implementation and integration services are a performance obligation satisfied over time, and we use costs incurred as inputs into the measure of progress to recognize revenue for these services.
We account for the warranty as an assurance-type warranty. When product revenue is recognized, an estimate of future warranty costs is recognized as cost of product revenue and accrued expenses. Factors that affect the estimate of future warranty costs include historical and current product failure rates, service delivery costs incurred in correcting product failures, warranty policies and business practices.
Our contracts with customers include variable consideration in the form of refunds and credits for product returns and price concessions. We estimate variable consideration using the expected value method based on a portfolio of data from similar contracts.
Stock-based compensation
Our stock-based compensation program includes restricted stock units and stock option grants to our employees, directors and consultants. Stock options are granted at exercise prices not less than the fair market value of our common stock at the dates of grant. For purposes of restricted stock unit grants, the grant date fair value is calculated as the fair market value of the stock on the date of grant. Stock-based compensation expense is recognized over the requisite service periods of awards, which is typically three to four years. We do not apply a forfeiture rate assumption to our awards.
The fair values of stock option grants are estimated using a Black-Scholes option-pricing model. Key inputs and assumptions include the expected term of the option, stock price volatility, risk-free interest rate, dividend yield, stock price and exercise price. Many of the assumptions require significant judgment and changes in assumptions could have a significant impact in the determination of stock-based compensation expense.
No related tax benefits of the stock-based compensation expense have been recognized and no related tax benefits have been realized from the exercise of stock options due to our net operating loss carryforwards.
Inventory and inventory valuation
Inventories are stated at the lower of actual cost, determined using the average cost method, or net realizable value (“NRV”). We routinely evaluate quantities and value of our inventories in light of current market conditions and market trends and record a write-down against the cost of inventories for NRV below cost. NRV is based upon an estimated average selling price reduced by the estimated costs of completion, disposal, and transportation. The determination of NRV involves numerous judgments including estimating selling prices, existing customer orders, and estimated costs of completion, disposal, and transportation. If actual market conditions differ from our estimates, future results of operations could be materially affected. We reduce the value of our inventory for estimated obsolescence or lack of marketability by the difference between the cost of the affected inventory and the estimated market value.
The valuation of inventory also requires us to estimate excess and obsolete inventory. We periodically review the age, condition and turnover of our inventory to determine whether any inventory has become obsolete or has declined in value and incur a charge to operations for known and anticipated inventory obsolescence. We also consider the rate at which new products will be accepted in the marketplace and how quickly customers will transition from older products to newer products, including whether older products can be re-manufactured into new products. The evaluation also takes into consideration new product development schedules, the effect that new products might have on the sale of existing products, product obsolescence, product merchantability and other factors. Market conditions are subject to change and if actual market conditions are less favorable than those projected by management, additional inventory write-downs may be required, which would have a negative impact on gross margin.
Losses expected to arise from firm, non-cancelable and unhedged commitments for the future purchase of inventory items are recognized unless the losses are recoverable through firm sales contracts or other means. We consider a variety of factors and data points when determining the existence and scope of a loss for the minimum purchase commitment. The factors and data points include Company-specific forecasts which are reliant on our limited sales history, agreement-specific provisions, macroeconomic factors and market and industry trends. Determining the loss is subjective and requires
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significant management judgment and estimates. Future events may differ from those assumed in our assessment, and therefore the loss may change in the future.
We capitalize manufacturing overhead expenditures as part of inventory costs. Capitalized costs primarily include management’s best estimate and allocation of the direct labor, materials costs and other overhead costs incurred related to inventory acquired or produced but not sold during the respective period. Manufacturing overhead costs are capitalized to inventory and are recognized as cost of revenues in future periods based on our rate of inventory turnover.
Recently Adopted Accounting Pronouncements
A description of recently issued accounting pronouncements that may potentially impact our financial position and results of operations is disclosed in Note 2 “Summary of Significant Accounting Policies – Recent Accounting Pronouncements Adopted” to our consolidated financial statements contained in this Annual Report on Form 10-K.