# Cricut, Inc. (CRCT) FY 2022 MD&A

Verbatim Item 7 Management's Discussion and Analysis from Cricut, Inc.'s 10-K for fiscal year 2022.

SEC filing source: https://www.sec.gov/Archives/edgar/data/1828962/000182896223000011/crct-20221231.htm
Accession: 0001828962-23-000011
Filing date: 2023-03-13
Report date: 2022-12-31
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary.
Confidence: high

Company profile: /company/CRCT/
All MD&A years: /company/CRCT/mda/
Previous year: /company/CRCT/mda/fy2021/ (FY 2021)
Next year: /company/CRCT/mda/fy2023/ (FY 2023)

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis of our financial condition and results of operations should be read together with our consolidated financial statements and related notes and other financial information appearing elsewhere in this Annual Report. This discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results could differ materially from these forward-looking statements as a result of many factors, including those discussed in the sections titled “Risk Factors” and “Note Regarding Forward-Looking Statements.”

A discussion regarding our financial condition and results of operations for the year ended December 31, 2021 compared to the year ended December 31, 2020 can be found in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our annual report on Form 10-K filed on March 9, 2022, which is hereby incorporated by reference herein.

Overview of Our Business and History

At Cricut, our mission is to help people lead creative lives. We have designed and built a creativity platform that enables our engaged and loyal community of nearly 7.9 million users to turn ideas into professional-looking handmade goods. With our highly versatile connected machines, design apps and accessories and materials, our users create everything from personalized birthday cards, mugs and T-shirts to large-scale interior decorations.

Our users’ journeys typically begin with the purchase of a connected machine. We currently sell a portfolio of connected machines that cut, write, score and create other decorative effects using a wide variety of materials including paper, vinyl, iron-on vinyl, pens, and more. Our connected machines are designed for a wide range of uses and are available at a variety of price points (MSRP by machine family as of December 31, 2022):

•Cricut Joy for personalization, organization, and customization, $179.00 MSRP

•Cricut Explore family for cutting, writing and scoring, $249.00 - $319.00 MSRP

•Cricut Maker family for cutting, writing, scoring and adding decorative effects to a wider range of materials, $399.00 - $429.00 MSRP

Our software integrates our connected machines and design apps, allowing our users to create and share seamlessly. Our software is cloud-based, meaning that users can access and work on their projects anywhere, at any time, across desktops or mobile devices. We enable our users to be inspired, to create and share projects with the Cricut community and to follow others doing the same. On our apps, users can find inspiration, purchase or upload content like fonts and images, design a project from scratch or find a vast array of ready-to-make projects.

Users can leverage the full power of our platform by using our connected machines together with our free design apps, in-app purchases and subscription offerings to design and complete projects. All users can access a select number of free images, fonts and projects from our design apps or upload their own. In addition, we offer a wider selection of images, fonts and projects for purchase à la carte, including licensed content from partners with well-known brands and characters, like major motion picture studios. We also have two subscription offerings: Cricut Access and Cricut Access Premium. Cricut Access provides a subscription to images, fonts and projects as well as other member benefits, including exclusive software features and functionality, discounts, and priority Cricut Member Care. Cricut Access is billed monthly for $9.99 per month or annually for $95.88 per year. Cricut Access Premium includes all of the benefits of Cricut Access as well as additional discounts and preferred shipping and is billed annually for $119.88 per year. As of December 31, 2022, we had 2.6 million Paid Subscribers to Cricut Access and Cricut Access Premium.

We sell a broad range of accessories and materials that bring our users’ designs to life, from advanced tools like heat presses to Cricut-branded rulers, scoring tools, pens, paper and iron-on vinyl, all designed to work seamlessly with our connected machines. Designing and completing projects drives repeat purchases of Cricut-branded accessories and materials.

We design and develop our software and hardware products, and we work with third-party contract manufacturers to source components and finished goods and with third-party logistics companies to warehouse and distribute our products.

We sell our connected machines and accessories and materials through our brick-and-mortar and online retail partners, as well as through our website at cricut.com. Our partners include Amazon, Hobby Lobby, HSN, Jo-Ann,

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Michaels, Target, Walmart and many others. We also sell our products, including subscriptions to Cricut Access and Cricut Access Premium, on cricut.com. In 2020, 2021, and 2022, 52%, 50%, and 41% of our revenue was generated through brick-and-mortar sales, respectively. In 2020, 2021, and 2022, 48%, 50%, and 59% of our revenue was generated through online channels, respectively.

For the years ended December 31, 2020, 2021 and 2022, we generated:

•Total revenue of $959.0 million, $1,306.2 million and $886.3 million, respectively, representing 97%, 36% and (32)% year-over-year growth, respectively

•Net income of $154.6 million, $140.5 million and $60.7 million, respectively, representing 294%, (9)% and (57)% year-over-year growth, respectively

On March 29, 2021, we completed an initial public offering (“IPO”), in which we sold 13,250,000 shares of Class A common stock, and the selling stockholders sold an additional 2,064,903 shares of Class A common stock at a price to the public of $20.00 per share. We received aggregate net proceeds of $242.7 million after deducting offering costs, underwriting discounts and commissions of $22.3 million. On April 28, 2021, we sold an additional 968,815 shares of Class A common stock and the selling stockholders sold an additional 150,984 shares of Class A common stock pursuant to the partial exercise of the underwriters’ option to purchase additional shares which generated net proceeds of $18.0 million after deducting for underwriting discounts and commissions of $1.4 million.

Our Business Model

Our business model thrives because our products unlock creativity, which then in turn drives the engagement of our users. Our nearly 7.9 million users’ journeys typically begin with the purchase of a connected machine and expand across our family of products as users harness the power of our platform. Our business model is characterized by strong engagement and diversified sales across product categories. This engagement has led to rapid growth and strong profitability.

Attracting and Engaging New Users through Connected Machine Sales

Since launching our first connected machine in 2014, we have built a loyal and growing community of users that has reached substantial scale. As of December 31, 2020, 2021 and 2022, we had 4.3 million, 6.4 million and 7.9 million users, respectively, representing 71%, 48% and 23% year-over-year growth, respectively. See the section titled “—Key Business Metrics” for the definition of users. We believe we are in the early stages of our growth and that we have a significant untapped opportunity in the United States and Canada, as well as globally. Our nearly 7.9 million users represent approximately 6% of our total SAM which includes the United States, Canada, and our four leading international markets of Australia, France, Germany and the United Kingdom.

We have been able to efficiently acquire new users and drive sales of our products because of the powerful network effects of our community. To date, word-of-mouth referrals, as well as effective use of low-cost marketing channels like social media, have driven our success. In 2022, over 40% of new users first heard about Cricut through friends and family. Sales and marketing expenses represented 7%, 10% and 15% of revenue in 2020, 2021 and 2022, respectively.

Once we acquire a user, we see strong engagement with them over time. We drive engagement through a highly interactive and fulfilling product experience and the strength of our community. We continuously innovate and improve our connected machines, design apps and accessories and materials, giving our users more to create. Once they have purchased connected machines, users inspire one another to create and use more of our digital content, subscriptions and accessories and materials. In turn, we learn from our users’ creativity, and launch new products to help expand their creative horizons. We measure engagement by the Percentage of Users Creating in Trailing 90 Days. See the section titled “—Key Business Metrics” for the definition of Percentage of Users Creating in Trailing 90 Days and for information regarding that metric over the last three years. As of December 31, 2022, 51% of our nearly 7.9 million users created on their connected machines in the last 90 days. User engagement has been relatively consistent over time, demonstrating how our platform becomes a regular part of the creative lives of our users.

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The table below shows the Percentage of Users Creating in Trailing 90 Days for the periods indicated.

[[GREPCENT_TABLE]]
[["","","2020","2021","2022"],["","","","Q1","Q2","Q3","Q4","Q1","Q2","Q3","Q4","Q1","Q2","Q3","Q4"],["Users (in Thousands)","","","2,803","3,274","3,681","4,323","4,939","5,373","5,732","6,409","6,904","7,192","7,457","7,893"],["Percentage of Users Creating in Trailing 90 Days","","","60%","63%","63%","65%","62%","59%","56%","60%","54%","51%","48%","51%"]]
[[/GREPCENT_TABLE]]

Many of our users choose to pay for our subscription offerings which include a subscription to images, fonts and projects as well as other member benefits, including exclusive software features and functionality, discounts, priority Cricut Member Care, and, in the case of Cricut Access Premium, preferred shipping. By subscribing to our offerings, users have access to a curated and growing design library of over 300,000 images, thousands of ready-to-make projects and hundreds of fonts. We believe that the number of Paid Subscribers is an indicator of the depth of our users’ engagement. See the section titled “—Key Business Metrics” for the definition of Paid Subscribers and for information regarding that metric over the last three years. As of December 31, 2022, we had 2.6 million Paid Subscribers, representing 28% year-over-year growth. As of December 31, 2022, approximately 33% of our users were also Paid Subscribers. We aim to increase the number of our users that are Paid Subscribers over time.

Growing With Users Over Time

The vast majority of the connected machines we sell are first-time Cricut purchases. We launch software enhancements and new tools for our connected machines, as well as new accessories and materials SKUs, to enhance the capabilities of our connected machines over time. We grow with our users as they continue to create on their connected machines, subscribe to Cricut Access and Cricut Access Premium and purchase à la carte items and our accessories and materials repeatedly.

The table below is a summary of our Users, Paid Subscribers, Subscription ARPU and Accessories and Materials ARPU since Q1 2020. In 2022, we generated, on average, approximately $89 combined from subscriptions and accessories and materials per user. Our users purchase subscriptions and accessories and materials, our higher gross margin categories, long after they first purchase a connected machine. In 2022, the gross margin of our subscriptions and accessories and materials categories was 90% and 26%, respectively, compared to 3% for our connected machines category.

[[GREPCENT_TABLE]]
[["","","2020","2021","2022"],["","","","","","Q1","Q2","Q3","Q4","Q1","Q2","Q3","Q4","Q1","Q2","Q3","Q4"],["Users (in Thousands)","","","","","2,803","3,274","3,681","4,323","4,939","5,373","5,732","6,409","6,904","7,192","7,457","7,893"],["Paid Subscribers (in Thousands)","","","","","740","996","1,164","1,303","1,614","1,765","1,814","2,037","2,311","2,367","2,438","2,609"],["Subscription ARPU","","","","","$7.20","$7.91","$8.97","$9.23","$9.96","$9.83","$9.60","$9.18","$9.73","$9.59","$9.40","$9.26"],["Accessories and Materials ARPU","","","","","$25.40","$32.23","$29.41","$40.76","$29.45","$26.67","$18.79","$28.66","$17.67","$11.45","$7.61","$13.99"]]
[[/GREPCENT_TABLE]]

The number of Paid Subscribers for the third quarter of 2022 has been updated since previous filings to reflect an immaterial correction.

We review Subscription ARPU and Accessories and Materials ARPU as an indicator of the monetization of the journey of our users. Connected Machine revenue fluctuates as we introduce new connected machines at various price points and as the mix of connected machines purchased changes.

We define Accessories and Materials ARPU as Accessories and Materials revenue divided by average users in a period. Accessories and Materials ARPU fluctuates seasonally as well as over time as we introduce new accessories and materials at various price points and as the volume and mix of accessories and materials purchased changes. We expect this metric to continue to fluctuate both seasonally and over time from shifts in volume and mix.

Factors Affecting Our Performance

Our financial condition and results of operations have been, and will continue to be, affected by a number of factors, including the following:

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Attracting New Users and Driving Connected Machine Sales

Our growth depends in part on our ability to drive continued growth in users and connected machine sales. We believe we are in the early stages of growth in our addressable market. We have been successful in attracting new users by delivering positive product experiences and due to the powerful network effects associated with our large and loyal user community. We plan to continue to grow our number of users through word-of-mouth referrals, by investing in sales and marketing initiatives and by broadening our partnerships with new and existing brick-and-mortar and online retail partners and distributors. Our efforts to attract new users outside of the United States and Canada will require us to spend additional resources, particularly in marketing. If we cannot attract new users, our results of operations would be adversely affected.

Engaging and Expanding With our Existing Users

An important part of our success is driven by engagement of our users, as well as our ability to sell additional products to our users after their first connected machine purchase. Our users are engaged when they create with connected machines, design apps and accessories and materials. It is therefore important that users find our products intuitive and easy to use. As users create on their connected machines, they are more likely to purchase subscriptions and accessories and materials. Historically we find that our users continue to be engaged over time. As of December 31, 2022, 74% of our nearly 7.9 million users created on their connected machines in the last 365 days. This durable relationship is motivated by new software and products that we launch to expand the capabilities of existing connected machines as well as through the inspiration derived from our large and passionate community. If our users engage with their connected machines less over time, the overall growth in our business may slow.

Scaling our Hardware and Software Product Offerings

We have historically enjoyed strong demand for our products, both physical and digital, driving methodical growth. Our growth depends in part on our ability to design and introduce new products and enhance existing products that meet the preferences of our users. We must also carefully manage any changes to our product offerings so that we do not harm our brand or our relationships with our users. To continue to grow, we must employ the right personnel to execute our product roadmap and effectively work with third-party suppliers and manufacturers. If we fail to expand our products or maintain high quality standards in our products, our brand, business and results of operations will be adversely affected.

Managing our Supply Chain

We rely on third-party suppliers, contract manufacturers and third-party logistics partners to produce and distribute our products. Our ability to grow depends largely on the ability of these third-party companies to scale with us, provide high quality services and deliver components and finished products on time and at reasonable costs. While we are working to diversify our supply chain, some of our third-party suppliers and manufacturers are sole-source suppliers, including one manufacturer for the majority of our connected machines. Our concentration of suppliers could lead to supply shortages, long lead times for components and supply changes. Much of our supply chain originates in Malaysia and China. We expect to pursue additional geographic diversification in our supply chain to mitigate tariffs and other supply chain challenges. We must continue to build relationships with strong third-party suppliers, contract manufacturers and third-party logistics companies and continue to diversify our supply chain to improve operational results. We manage our inventory levels to account for the complexity of our supply chain, resulting in a variety of risks.

Driving Innovation

We focus on understanding our users and their needs. We engage with our users through our customer service channels, as well as through regularly conducted surveys, ethnographies and focus groups. Social media serves as an additional conversational channel where we learn from our users. We then seek to methodically translate these insights into elegant solutions that serve the needs of our users, including through new products and enhancements to existing products. In particular, we are continually driving innovation in our software, connected machines, design apps, accessories and materials. While all of these offerings are designed to work seamlessly with each other, they each require significantly different strengths and talents, and so we have built our research and development teams with the unique needs of each offering in mind. Improving our software, expanding the capabilities of our connected machines and subscriptions and releasing new accessories and materials will require continued investment and expenses. As a result, our reported capital expenditures and research and development expenses should be viewed in tandem to understand our investments in innovation.

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Balancing Operating Discipline and Investment for Growth

We seek to balance investments for long-term growth with operating discipline and the profitability of our business. We have been net income profitable every year since 2017. See the section titled “—Key Business Metrics” for information regarding our net income and net income margin over the last three years. We expect net income margin to fluctuate as a percentage of revenue in the near term and long term. We have a strong focus on the unit economics of each of our products and consistency in how we operate the business. Our investments to date have been critical to our success and have allowed us to reach nearly 7.9 million users as of December 31, 2022 and launch more than 6,000 SKUs since the launch of our first connected machine. We will continue to prioritize our investments in technology innovation including software and hardware development, content and accessories and materials. In addition, we are investing in sales and marketing and operations as appropriate to support our growth. Our expenses may also increase as we hire additional personnel and continue to attract technical talent. While we expect to continue or increase our investments on these items in the future, we cannot be certain they will result in the growth of our number of users or increase engagement with existing users.

Growing Internationally

Expanding internationally, including by entering new geographic markets and increasing our sales in markets that we have already entered, requires us to invest in sales and marketing, distribution partnerships, infrastructure and personnel. Our international growth will depend on our ability to create brand awareness, attract new users, develop retail and distribution partnerships and sell connected machines, subscriptions and accessories and materials. Our international expansion has resulted in, and will continue to result in, increased costs and is subject to a variety of risks, including content localization, multilingual customer support, potentially complex delivery logistics and compliance with foreign laws and regulations.

Seasonality

Historically, we have experienced the highest revenue levels in the fourth quarter of the year, coinciding with the holiday shopping season in the United States. For example, in 2020, 2021 and 2022, our fourth quarter represented 39%, 30% and 32% of total revenue for the year, respectively. Our promotional discounting activity is higher in the fourth quarter as well, which negatively impacts gross margin during this period. For example, gross margin in the fourth quarter of 2022 was 30%, compared to gross margin of 39% for all of 2022. Additionally, sales of accessories and materials typically rise and fall with seasonal holiday crafting periods. The yearly seasonality patterns experienced in 2020, 2021, and 2022 are not representative of our typical historical patterns due to the unique aspects of the pandemic and condition of the global economy. For example, we experienced unusually high demand in the first and second quarters of 2021, which is inconsistent with normal seasonality patterns. In 2022, we experienced a deceleration of sales post-Q1 due to the global economic slowdown which drove a deviation from our typically expected seasonality. As the impact of the pandemic and global economy challenges on behaviors abate, we expect to return to a more normal seasonality pattern. As we continue to grow internationally, we expect we may experience seasonality in additional markets, which may differ from the seasonality experienced in the United States.

Key Business Metrics

In addition to the measures presented in our consolidated financial statements, we use the following key metrics to evaluate our business, measure our performance, identify trends and make strategic decisions.

[[GREPCENT_TABLE]]
[["","Year Ended December 31,"],["","2022","","2021","","2020"],["Users (in thousands)","7,893","","","6,409","","","4,323"],["Percentage of Users Creating in Trailing 90 Days","51","%","","60","%","","65","%"],["Paid Subscribers (in thousands)","2,609","","","2,037","","","1,303"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["","Year Ended December 31,"],["","2022","","2021","","2020"],["Subscription ARPU","$","38.09","","","$","38.37","","","$","32.52"],["Accessories and Materials ARPU","$","50.54","","","$","102.91","","","$","125.88"]]
[[/GREPCENT_TABLE]]

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Users

We define a User as a registered user of at least one registered connected machine as of the end of a period. One user may own multiple registered connected machines but is only counted once if that user registers those connected machines by using the same email address. If possession of a connected machine is transferred to a new owner and registered by that new owner, the new owner is added to the total user count and the prior owner is removed from the total user count if the prior owner does not own any other registered connected machines. User count is a key indicator of the health of our business, because changes in the number of users reflects changes in connected machine sales and represents opportunities for us to drive additional sales of subscriptions and accessories and materials. There are certain limitations associated with this metric. For example, this metric does not capture whether a User is active in using a connected machine and does not indicate whether a User is purchasing subscriptions or accessories and materials. We compensate for these limitations by also reviewing other metrics that capture portions of this information, including the metrics below.

Percentage of Users Creating in Trailing 90 Days

We define the Percentage of Users Creating in Trailing 90 Days as the percentage of users who have used a connected machine for any activity, such as cutting, writing or any other activity enabled by our connected machines, in the past 90 days. This metric is a key indicator of our engagement with users, which helps drive sales of subscriptions and accessories and materials. There are certain limitations associated with this metric. For example, this metric does not capture how active a User is during the 90-day period, nor whether a User is purchasing subscriptions or accessories and materials. We compensate for some of these limitations by also reviewing other metrics that capture portions of this information, including the metrics below.

Paid Subscribers

We define Paid Subscribers as the number of users with a subscription to Cricut Access or Cricut Access Premium, excluding cancelled, unpaid or free trial subscriptions, as of the end of a period. Paid Subscribers is a key metric to track growth in our subscriptions revenue and potential leverage in our gross margin.

Subscription ARPU

We define Subscription ARPU as Subscriptions revenue divided by average users in a period. Subscription ARPU allows us to forecast Subscriptions revenue over time and is an indicator of our ability to expand with users and of user engagement with our subscription offerings.

Accessories and Materials ARPU

We define Accessories and Materials ARPU as Accessories and Materials revenue divided by average users in a period. Accessories and Materials ARPU allows us to forecast Accessories and Materials revenue over time and is an indicator of our ability to expand with users, particularly the volume of projects created by our users.

Components of our Results of Operations

We operate and manage our business in three reportable segments: Connected Machines, Subscriptions and Accessories and Materials. We identify our reportable segments based on the information used by management to monitor performance and make operating decisions. See Note 18 to our audited consolidated financial statements included elsewhere in this filing for additional information regarding our reportable segments.

Revenue

Connected Machines

We generate Connected Machines revenue from sales of our portfolio of connected machines, currently consisting of machines in three product families, Cricut Maker, which includes Maker and Maker 3, Cricut Explore, which includes Explore Air 2 and Explore 3, and Cricut Joy, net of sales discounts, incentives and returns. Connected Machines revenue is recognized at the point in time when control is transferred, which is either upon shipment or delivery to the customer in accordance with the terms of each customer contract.

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Subscriptions

We generate Subscriptions revenue primarily from sales of subscriptions to Cricut Access and Cricut Access Premium and a minimal amount of revenue allocated to the unspecified future upgrades and enhancements related to the essential software and access to our cloud-based services. For a monthly or annual subscription fee, Cricut Access includes a subscription to images, fonts and projects as well as other member benefits, including exclusive software features and functionality, discounts, and priority Cricut Member Care. For an annual subscription fee, Cricut Access Premium includes all of the benefits of Cricut Access as well as additional discounts and preferred shipping. Subscriptions revenue excludes à la carte digital content purchases. Subscriptions revenue is recognized on a ratable basis over the subscription term.

Accessories and Materials

We generate Accessories and Materials revenue from sales of ancillary products, such as Cricut EasyPress, Cricut Mug Press, hand tools, machine replacement tools and blades, project materials such as vinyl and iron-on and sales of à la carte digital content purchases, including fonts, images and projects. Accessories and Materials revenue is recognized for sales of such items, net of sales discounts, incentives and returns and includes amounts allocated to the material right for discounts on materials and accessories available only to paid subscribers. Accessories and Materials revenue is recognized at the point in time when control is transferred, which is either upon shipment or delivery to the customer in accordance with the terms of each customer contract.

Cost of Revenue

Connected Machines

Cost of revenue related to Connected Machines consists of product costs, including costs of components, costs of contract manufacturers for production, inspecting and packaging, shipping, receiving, handling, warehousing and fulfillment, duties and other applicable importing costs, warranty replacement, excess and obsolete inventory write-downs, tooling and equipment depreciation and royalties. We expect our cost of revenue related to Connected Machines as a percentage of revenue to fluctuate in the near term as we continue selling though end of life machines, address global supply chain challenges and continue to invest in the growth of our business and decrease over the long term as we drive greater scale and efficiency in our business.

Subscriptions

Cost of revenue related to Subscriptions consists primarily of hosting fees, digital content costs, amortization of capitalized software development costs and software maintenance costs. We expect our cost of revenue related to Subscriptions as a percentage of revenue to fluctuate in the near term as we expand our content offerings, including localized content for international target markets, and decrease over time as we drive greater scale and efficiency in our business.

Accessories and Materials

Costs of revenue related to Accessories and Materials consists of product costs, including costs of components, costs of contract manufacturers for production, inspecting and packaging, shipping, receiving, handling, warehousing and fulfillment, duties and other applicable importing costs, warranty replacement, excess and obsolete inventory write-downs, tooling and equipment depreciation and royalties. We expect our cost of revenue related to Accessories and Materials as a percentage of revenue to fluctuate in the near term as we address global supply chain challenges and continue to invest in the growth of our business and decrease over the long term as we drive greater scale and efficiency in our business.

Operating Expenses

Research and Development

Research and development expenses consist primarily of costs associated with the development of our connected machines, software and accessories and materials, including personnel-related expenses for engineering, product development and quality assurance, as well as prototype costs, service fees incurred by contracting with vendors and allocated overhead. We expect our research and development expenses to fluctuate in the near term as we refine our product roadmaps. Longer term, we expect research and development expense to return to our long-term expected range of 7-8% as a percentage of revenue.

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Sales and Marketing

Sales and marketing expenses consist primarily of the advertising and marketing of our products, third-party payment processing fees, personnel-related expenses, including salaries and bonuses, benefits and stock-based compensation expense, as well as sales incentives, professional services, promotional items, and allocated overhead costs. We expect our sales and marketing expenses as a percentage of revenue to fluctuate in the near term. Longer term, we expect sales and marketing expense to return to our long-term expected range of 8-10% as a percentage of revenue.

General and Administrative

General and administrative expenses consist of personnel-related expenses for our finance, legal, human resources and administrative personnel, including salaries and bonuses, benefits and stock-based compensation expense, as well as the costs of professional services, any allocated overhead, information technology, impairment charges of unused equipment, and other administrative expenses. We expect our general and administrative expenses as a percentage of revenue to increase in the near term as we expand our operations, invest in systems enhancements, and incur expenses required of a public company. Longer term, we expect general and administrative expense to return to our long-term expected range of 3-4% as a percentage of revenue.

Other Income (Expense), Net

Other income (expense), net consists primarily of interest expense associated with our debt financing arrangements and amortization of debt issuance costs.

Provision for Income Taxes

Provision for income taxes consists of income taxes in the United States and certain state and foreign jurisdictions in which we conduct business. We have not recorded a valuation allowance against our deferred tax assets as we have concluded that it is more likely than not that the deferred tax assets will be realized.

Results of Operations

The following table is presented in thousands:

[[GREPCENT_TABLE]]
[["","Year Ended December 31,"],["","2022","","2021","","2020"],["(in thousands)"],["Revenue:"],["Connected machines","$","252,563","","","$","548,205","","","$","416,714"],["Subscriptions","272,344","","","205,858","","","111,337"],["Accessories and materials","361,389","","","552,164","","","430,979"],["Total revenue","886,296","","","1,306,227","","","959,030"],["Cost of revenue:"],["Connected machines(1)","244,260","","","484,025","","","351,898"],["Subscriptions(1)","26,375","","","21,961","","","13,125"],["Accessories and materials(1)","265,768","","","342,791","","","261,633"],["Total cost of revenue","536,403","","","848,777","","","626,656"],["Gross profit","349,893","","","457,450","","","332,374"],["Operating expenses:"],["Research and development(1)","76,914","","","79,814","","","38,930"],["Sales and marketing(1)","130,379","","","133,963","","","63,329"],["General and administrative(1)","62,647","","","51,268","","","29,602"],["Total operating expenses","269,940","","","265,045","","","131,861"],["Income from operations","79,953","","","192,405","","","200,513"],["Other income (expense), net","2,028","","","(32)","","","(1,320)"],["Income before provision for income taxes","81,981","","","192,373","","","199,193"],["Provision for income taxes","21,315","","","51,900","","","44,615"],["Net income","$","60,666","","","$","140,473","","","$","154,578"]]
[[/GREPCENT_TABLE]]

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(1)    Includes stock-based compensation expense as follows:

[[GREPCENT_TABLE]]
[["","Year Ended December 31,"],["","2022","","2021","","2020"],["(in thousands)"],["Cost of revenue"],["Connected machines","$","288","","","$","34","","","$","7"],["Subscriptions","443","","","219","","","31"],["Accessories and materials","199","","","\u2014","","","\u2014"],["Total cost of revenue","930","","","253","","","38"],["Research and development","17,713","","","15,782","","","3,332"],["Sales and marketing","12,603","","","13,814","","","4,794"],["General and administrative","9,875","","","8,225","","","1,320"],["Total stock-based compensation expense","$","41,121","","","$","38,074","","","$","9,484"]]
[[/GREPCENT_TABLE]]

Comparison of the years ended December 31, 2022 and 2021

Revenue

[[GREPCENT_TABLE]]
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[[/GREPCENT_TABLE]]

Connected Machines revenue decreased by $295.6 million, or 54%, to $252.6 million for the year ended December 31, 2022 from $548.2 million for the year ended December 31, 2021. The decrease was primarily driven by a decline in the number of Connected Machines sold during the period, across all product families, due to higher channel inventory entering the year which resulted in lower retail demand as well as reduced direct-to-consumer demand.

Subscriptions revenue increased by $66.5 million, or 32%, to $272.3 million for the year ended December 31, 2022 from $205.9 million for the year ended December 31, 2021. The increase was primarily driven by growth of 28% in the number of Paid Subscribers from 2.0 million as of December 31, 2021 to 2.6 million as of December 31, 2022.

Accessories and Materials revenue decreased by $190.8 million, or 35%, to $361.4 million for the year ended December 31, 2022 from $552.2 million for the year ended December 31, 2021. The decrease was primarily driven by a decline in unit sales of Project Materials, due in part to increased competition, a decline in unit sales of EasyPress and Mug Press, as well as an increase in sales incentives. The decrease was partially offset by increased revenue from Autopress and Hat Press which launched in 2022.

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Cost of Revenue, Gross Profit and Gross Margin

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[[/GREPCENT_TABLE]]

Connected Machines cost of revenue decreased by $239.8 million, or 50%, to $244.3 million for the year ended December 31, 2022 from $484.0 million for the year ended December 31, 2021. The decrease was primarily driven by a decline in the gross margin percentage, and the number of Connected Machines sold across all product families during the year ended December 31, 2022 compared to the year ended December 31, 2021.

Gross margin for Connected Machines decreased to 3% for the year ended December 31, 2022 from 12% for the year ended December 31, 2021. Gross margin decreased due to higher handling and inventoriable costs, inventory procurement costs, and warranty expense as a percentage of revenue.

Subscriptions cost of revenue increased by $4.4 million, or 20%, to $26.4 million for the year ended December 31, 2022 from $22.0 million for the year ended December 31, 2021. The increase was primarily driven by an increase in amortization of capitalized software development costs.

Gross margin for Subscriptions increased to 90% for the year ended December 31, 2022 from 89% for the year ended December 31, 2021. Gross margin increased due to lower hosting costs as a percentage of subscriptions revenue partially offset by increased discounts offered with subscriptions which slightly decreased overall subscription revenue.

Accessories and Materials cost of revenue decreased by $77.0 million, or 22%, to $265.8 million for the year ended December 31, 2022 from $342.8 million for the year ended December 31, 2021. The decrease was primarily driven by a decline in unit sales of Accessories and Materials during the period, particularly for units of Project Materials, EasyPress, and Mug Press. The decrease was partially offset by an increase in units sold of Autopress and Hat Press which launched in 2022.

Gross margin for Accessories and Materials decreased to 26% for the year ended December 31, 2022 from 38% for the year ended December 31, 2021. Gross margin decreased primarily due to higher promotions, handling and inventoriable costs, and freight cost as a percentage of revenue.

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Operating Expenses

Research and Development

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[[/GREPCENT_TABLE]]

Research and development expenses decreased by $2.9 million, or 4%, to $76.9 million for the year ended December 31, 2022 from $79.8 million for the year ended December 31, 2021. The decrease was primarily due to a $7.4 million decrease in product development expenses for future products, partially offset by increases in personnel-related expenses and stock-based compensation expense.

Sales and Marketing

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[[/GREPCENT_TABLE]]

Sales and marketing expenses decreased by $3.6 million, or 3%, to $130.4 million for the year ended December 31, 2022 from $134.0 million for the year ended December 31, 2021. The decrease was primarily due to a $15.5 million decrease in advertising and other marketing costs, partially offset by increases in payment processing fees, personnel-related expenses, and software subscriptions.

General and Administrative

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[[/GREPCENT_TABLE]]

General and administrative expenses increased by $11.4 million, or 22%, to $62.6 million for the year ended December 31, 2022 from $51.3 million for the year ended December 31, 2021. The increase was primarily due to a $3.1 million increase in personnel-related expenses, a $2.6 million impairment of unused equipment (see Note 2), and increases in stock-based compensation, software subscriptions, and professional services.

Other Income (Expense), Net

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[[/GREPCENT_TABLE]]

Other income (expense), net changed by $2.1 million, or 6,438%, to income of $2.0 million for the year ended December 31, 2022 from a net expense of $32.0 thousand for the year ended December 31, 2021. The change was primarily due to interest and other income from marketable securities we invested in during 2022.

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Provision for Income Taxes

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[[/GREPCENT_TABLE]]

Provision for income taxes decreased by $30.6 million, or 59%, to $21.3 million for the year ended December 31, 2022 from $51.9 million for the year ended December 31, 2021. This represents an effective tax rate of 26.0% and 27.0% for the years ended December 31, 2022 and 2021, respectively. The decrease in the tax rate is due mainly to an increase in tax credits specifically related to Research and Development.

Liquidity and Capital Resources

Our operations during the periods presented have been financed primarily through cash flows from operating activities and the net proceeds from our initial public offering in March of 2021. We believe our balances of cash and cash equivalents, which totaled $224.9 million as of December 31, 2022, along with forecasted cash expected to be generated by ongoing operations and $300.0 million in available borrowings on our credit facility (see Note 9) will be sufficient to satisfy our cash requirements over the next 12 months and beyond.

Our future capital requirements may vary materially from those currently planned and will depend on many factors, including our rate of revenue growth, the timing and extent of spending on research and development efforts and other growth initiatives, the expansion of sales and marketing activities, the timing of new product introductions, market acceptance of our products and overall economic conditions. To the extent that current and anticipated future sources of liquidity are insufficient to fund our future business activities and requirements, we may be required to seek additional equity or debt financing. The sale of additional equity would result in additional dilution to our stockholders. The incurrence of debt financing would result in debt service obligations, and the instruments governing such debt could provide for operating and financing covenants that would restrict our operations. There can be no assurances that we will be able to raise additional capital. The inability to raise capital would adversely affect our ability to achieve our business objectives.

Our material cash requirements include the following contractual and other obligations:

Employee Compensation

Compensation for employees include fixed (salaried and hourly) and variable (commissions, bonuses, etc.) elements as well as the cost of benefits and many fluctuate with sales, financial results, hiring and retention activity and payment of withholding taxes on vested stock-based awards.

Inventory and Supply Chain

We utilize third-party contract manufacturers to source components and finished goods and third-party logistics companies to warehouse and distribute our products. As of December 31, 2022, we had component purchase obligations of $30.3 million, with $24.2 million payable within 12 months in addition to ongoing inventory purchases of finished goods from our contract manufacturers. These manufacturing purchase obligations are primarily noncancellable. Actual inventory purchases will vary based on current and forecasted demand for our products. Payments to third-party logistics companies are largely variable and are primarily driven by inventory levels and receiving and shipping activity levels.

Leases

As of December 31, 2022, we had fixed lease payment obligations of $20.5 million, with $6.0 million payable within 12 months primarily for corporate and other office space. See Note 14 of the notes to our consolidated financial statements for additional information.

Stock Repurchase Program

On July 19, 2022, our Board of Directors authorized a share repurchase program to repurchase up to $50 million of its outstanding Class A common stock.

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During the twelve months ended December 31, 2022, we repurchased and retired 2,349,581 shares of our Class A common stock for $18.5 million under this authorization.

Dividends

On December 21, 2022, we declared a special dividend of $0.35 per share payable on February 15, 2023 to shareholder of record as of February 1, 2023. As part of the dividend, and pursuant to the underlying award agreements, holders of restricted stock units (“RSUs”) will receive a dividend equivalent of $0.35 per RSU in the form of additional RSUs. As a result, we expect to pay a total of $76.9 million in cash dividends, of which $75.3 million was paid on February 15, 2023 while the remainder will be paid upon vesting of the restricted shares.

Cash Flows

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[[/GREPCENT_TABLE]]

Operating Activities

The change in net cash flows from operating activities for the year ended December 31, 2022 compared to year ended December 31, 2021 is primarily due to more cash used in 2021 to fund higher inventory levels to mitigate global supply chain challenges. This resulted in higher inventory balances as the Company entered 2022, resulting in a reduction of inventory purchases during 2022. A reduction in accounts receivable in 2022 compared to 2021 due to the collection of 2021 accounts receivable balances resulted in higher cash flows. These cash increases were partially offset by a larger decrease in payable balances with inventory vendors in 2022 compared to 2021, due to repayment of 2021 payable balances with inventory vendors.

Investing Activities

The change in net cash flows from investing activities for the year ended December 31, 2022 compared to year ended December 31, 2021 was due to investments in marketable securities.

Financing Activities

The change in net cash flows from financing activities for the year ended December 31, 2022 compared to year ended December 31, 2021 was primarily due to proceeds of $262.0 million received from our IPO during 2021 partially offset by repurchases of common stock during 2022.

Critical Accounting Estimates

Our management’s discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with United States generally accepted accounting principles (“GAAP”). The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported revenues and expenses incurred during the reporting periods. Our estimates are based on our historical experience and on various other factors that we believe are reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions. The critical accounting policies that reflect our more significant judgments and estimates used in the preparation of our consolidated financial statements include those described in Note 2 of the notes to our consolidated financial statements in the section titled “—Summary of Significant Accounting Policies” in Item 8 of this Annual Report on Form 10-K.

During the past three fiscal years, we have not made any material changes to the accounting methodologies used to assess the areas discussed below, unless noted otherwise. We believe that our significant accounting estimates involve a higher degree of judgment and/or complexity for the reasons discussed below.

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Customer rebates

We recognize revenue at the net sales price, which includes certain estimates for variable consideration related to customer rebates with our key brick-and-mortar and online retail partners. These promotional programs are designed to enhance the sale of our products and consist of incentives to our customers. The promotional programs include advertising allowances, volume and growth incentives, business development, product damage allowances and point-of-sale support. Sales incentives are considered to be variable consideration, which we estimate using the expected value method or most likely amount, based upon the nature of the incentive. Sales are reduced by the cost of these promotional and rebate programs and we record a related customer rebate liability in our consolidated balance sheets at the date of the transaction. Certain customer rebate programs are estimates at period end due to the nature of the incentives or expected and yet-to-be announced incentive programs that apply to current period revenue transactions. These estimates are based on our incentive program experience, historical and projected sales data and current contractual terms. The remaining portion of this liability is based on contractual amounts and does not require estimation.

In limited cases where the customer rebate is specifically for co-operative marketing or advertising campaigns, we classify these expenditures as selling and marketing expenses only if they meet the criteria of being a distinct good or service, are distinct within the context of the contract and the fair value is readily estimable. While management believes estimated amounts are reasonable, actual results may vary from our estimates due to uncertainty regarding forecasted volume, product damage claims, or qualifying activities by our customers.

Stock-based compensation

Stock-based compensation is based on the grant date fair value of equity classified awards and is based on the fair value of liability classified awards at each reporting date through settlement.

Through the date of our corporate reorganization in March 2021 (“Corporate Reorganization”), Cricut Holdings had granted to certain of our employees common incentive units (“CIUs”), options to purchase zero-strike price incentive units, and incentive unit equivalents (phantom units). The grant date fair value of CIUs and options to purchase zero-strike price incentive units was determined using the Black-Scholes option-pricing model. The fair value of incentive unit equivalents which also had a market condition, was estimated using a Geometric Brownian Motion Stock Path Monte Carlo Simulation, or Monte Carlo Simulation.

The determination of the grant date fair value of awards issued is affected by a number of variables, including the fair value of the underlying share, the expected term of each award and the expected price volatility over the expected term of each award. Prior to our Corporate Reorganization and IPO, significant estimation was required for these inputs. We performed valuations of the underlying units of Cricut Holdings using various valuation methods including combinations of income and market approaches with input from management. We derived our volatility from the average historical stock volatilities of peer public companies over a period equivalent to the expected term of the awards. We estimated the expected term based on the expected time to a liquidation event or other transaction that would result in settlement of the award.

At the time of our Corporate Reorganization in 2021, all outstanding awards were settled or modified as described in Note 12 of the notes to our consolidated financial statements. After our Corporate Reorganization and initial public offering in March 2021, we estimate the fair value of stock-based awards based on the observable fair value of our common stock, the risk-free interest rate, volatility based upon the historical volatility of the Company's stock price or a blended average of historical stock volatilities of peer companies and historical volatility of our stock price over a period equal to the expected term of the awards, and our expected dividend yield.

The recognition of stock-based compensation for awards with performance based vesting conditions, including our performance-based restricted stock units (“PRSU”) awards, is dependent on whether it is probable that the performance based vesting conditions will be met. As of December 31, 2022, we determined it is not probable that the performance conditions will be met. Unrecognized stock-based compensation associated with unvested PRSU awards was $146.8 million as of December 31, 2022.