# Orthofix Medical Inc. (OFIX) FY 2022 MD&A

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

SEC filing source: https://www.sec.gov/Archives/edgar/data/884624/000095017023006242/ofix-20221231.htm
Accession: 0000950170-23-006242
Filing date: 2023-03-06
Report date: 2022-12-31
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary.
Confidence: high

Company profile: /company/OFIX/
All MD&A years: /company/OFIX/mda/
Previous year: /company/OFIX/mda/fy2021/ (FY 2021)
Next year: /company/OFIX/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 result of operations should be read in conjunction with “Forward-Looking Statements” and our consolidated financial statements and notes thereto appearing elsewhere in this Annual Report. The discussion and analysis below is focused on our 2022 and 2021 financial results, including comparisons of our year-over-year performance between these years. Discussion and analysis of our 2020 fiscal year specifically, as well as the year-over-year comparison of our 2021 financial performance to 2020, is located in Part II, Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, filed with the SEC on February 25, 2022, which is available on our website at www.orthofix.com and the SEC’s website at www.sec.gov.

Merger with SeaSpine

On October 10, 2022, we entered into an Agreement and Plan of Merger with SeaSpine Holdings Corporation ("SeaSpine"), a global medical technology company focused on surgical solutions for the treatment of spinal disorders. On January 5, 2023, the transaction was completed, with SeaSpine continuing as a wholly-owned subsidiary of Orthofix following the transaction. As the merger was completed in 2023, SeaSpine's historical financial results for the year ended December 31, 2022, are not included within results of operations. As such, the information presented under the title "Results of Operations" below speaks only to the financial results of Orthofix on a stand-alone basis. However, the merger will have a significant impact on our future results of operations and financial condition. For example, the merger is expected to result in significant costs to achieve ongoing synergies, which could be associated with product line rationalization, employee severance and retention costs, professional fees for integration of processes and information technology systems, and other expenses. Future filings, beginning with our Quarterly Report on Form 10-Q for the fiscal quarter ending March 31, 2023, will reflect the results of the combined Orthofix-SeaSpine organization. For additional discussion related to the merger, see Note 22 of the Notes to the Consolidated Financial Statements in Item 8 of this Annual Report.

Executive Summary

The newly merged Orthofix-SeaSpine organization is a leading global spine and orthopedics company with a comprehensive portfolio of biologics, innovative spinal hardware, bone growth therapies, specialized orthopedic solutions, and a leading surgical navigation system. Its products are distributed in approximately 68 countries worldwide.

We are headquartered in Lewisville, Texas and have primary offices in Carlsbad, CA, with a focus on spine and biologics product innovation and surgeon education, and Verona, Italy, with an emphasis on product innovation, production, and medical education for orthopedics. Our combined global R&D, commercial and manufacturing footprint also includes facilities and offices in Irvine, CA, Toronto, Canada, Sunnyvale, CA, Wayne, PA, Olive Branch, MS, Maidenhead, UK, Munich, Germany, Paris, France and Sao Paulo, Brazil.

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Notable financial results in 2022 include the following:

•
Net sales were $460.7 million, a decrease of 0.8% on a reported basis and 1.5% on a constant currency basis

•
Global Orthopedics net sales growth of 1.9% on a reported basis and 11.0% on a constant currency basis driven by strategic investments in our commercial channels and momentum from new product introductions

•
FDA granted PMA approval for AccelStim LIPUS bone growth stimulator, expanding our indications into fresh fracture care

•
Executed partnership with CGBio to commercialize Novosis rhBMP-2 growth factor in the U.S. and Canada

•
Orthofix and MTF Biologics recognized with the 2022 Spine Technology Award from Orthopedics This Week for Virtuos Lyograft

Results of Operations

The following table presents certain items in our consolidated statements of operations as a percent of net sales:

[[GREPCENT_TABLE]]
[["","","Year ended December 31,"],["","","2022 (%)","","","2021 (%)","","","2020 (%)"],["Net sales","","","100.0","","","","100.0","","","","100.0"],["Cost of sales","","","26.8","","","","24.7","","","","25.1"],["Gross profit","","","73.2","","","","75.3","","","","74.9"],["Sales and marketing","","","49.7","","","","47.6","","","","50.3"],["General and administrative","","","17.4","","","","14.9","","","","16.7"],["Research and development","","","10.6","","","","10.7","","","","9.6"],["Acquisition-related amortization and remeasurement","","","(1.6",")","","","3.9","","","","(0.2",")"],["Operating income (loss)","","","(2.9",")","","","(1.8",")","","","(1.5",")"],["Net income (loss)","","","(4.3",")","","","(8.3",")","","","0.6"]]
[[/GREPCENT_TABLE]]

Net Sales by Reporting Segment

The following table provides net sales by major product category by reporting segment:

[[GREPCENT_TABLE]]
[["","","","","","","","","","","","Percentage Change"],["","","","","","","","","","","","2022/2021","","","2022/2021","","","2021/2020","","","2021/2020"],["(U.S. Dollars, in thousands)","","2022","","","2021","","","2020","","","Reported","","","Constant Currency","","","Reported","","","Constant Currency"],["Bone Growth Therapies","","$","187,247","","","$","187,448","","","$","171,396","","","","-0.1","%","","","-0.1","%","","","9.4","%","","","9.4","%"],["Spinal Implants","","","109,546","","","","115,094","","","","94,857","","","","-4.8","%","","","-4.0","%","","","21.3","%","","","20.8","%"],["Biologics","","","56,381","","","","56,421","","","","55,482","","","","-0.1","%","","","-0.1","%","","","1.7","%","","","1.7","%"],["Global Spine","","","353,174","","","","358,963","","","","321,735","","","","-1.6","%","","","-1.4","%","","","11.6","%","","","11.4","%"],["Global Orthopedics","","","107,539","","","","105,516","","","","84,827","","","","1.9","%","","","11.0","%","","","24.4","%","","","21.3","%"],["Net sales","","$","460,713","","","$","464,479","","","$","406,562","","","","-0.8","%","","","1.5","%","","","14.2","%","","","13.5","%"]]
[[/GREPCENT_TABLE]]

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Global Spine

Global Spine offers the following products categories:

-
Bone Growth Therapies, which manufactures, distributes, sells, and provides support services for market leading devices that enhance bone fusion. Bone Growth Therapies uses distributors and sales representatives to sell its devices and provide associated services to hospitals, healthcare providers, and patients.

-
Spinal Implants, which designs, develops, and markets a broad portfolio of motion preservation and fixation implant products used in surgical procedures of the spine. Spinal Implants distributes its products globally through a network of distributors and sales representatives to sell spine products to hospitals and healthcare providers.

-
Biologics, which provides a portfolio of regenerative products and tissue forms that allow physicians to successfully treat a variety of spinal and orthopedic conditions. Biologics markets its tissues to hospitals and healthcare providers, primarily in the U.S., through a network of employed and independent sales representatives.

2022 Compared to 2021

Net sales decreased $5.8 million or 1.6%

•
Bone Growth Therapies net sales were relatively flat, primarily driven by a continued slowdown in complex procedure volumes early in the year, which are typically paired with our CervicalStim and Spinalstim devices, largely offset by the successful commercial roll-out of our AccelStim Bone Healing Therapy in 2022 and growth in our PhysioStim product line from an expanding sales force and increased market share

•
Spinal Implants net sales decreased $5.5 million or 4.8%, primarily due to lower complex procedures case volumes in Spine Fixation as well as global competitive pressures in Motion Preservation

•
Biologics net sales were relatively flat, primarily driven by a decrease in volume from our cellular allograft offerings, which were largely offset by the impact of successful new product introductions, such as FiberFuse, FiberFuse Strip, Virtuos, and Legacy DBM

Global Orthopedics

Global Orthopedics offers products and solutions that allow physicians to successfully treat a variety of orthopedic conditions specifically related to limb reconstruction and deformity correction unrelated to the spine. Global Orthopedics distributes its products world-wide through a network of distributors and sales representatives to sell orthopedic products to hospitals and healthcare providers.

2022 Compared to 2021

Net sales increased $2.0 million, or 1.9% on a reported basis and 11.0% on a constant currency basis

•
Double-digit growth internationally on a constant currency basis paired with solid growth in the U.S. from strategic investments in our commercial channels and momentum from new product introductions

•
Partially offset by a decrease of $9.6 million due to movement in foreign currency exchange rates

Gross Profit

[[GREPCENT_TABLE]]
[["","","","","","","","","","","","Percentage Change"],["(U.S. Dollars, in thousands)","","2022","","","2021","","","2020","","","2022/2021","","","2021/2020"],["Net sales","","$","460,713","","","$","464,479","","","$","406,562","","","","-0.8","%","","","14.2","%"],["Cost of sales","","","123,544","","","","114,914","","","","101,889","","","","7.5","%","","","12.8","%"],["Gross profit","","$","337,169","","","$","349,565","","","$","304,673","","","","-3.5","%","","","14.7","%"],["Gross margin","","","73.2","%","","","75.3","%","","","74.9","%","","","-2.1","%","","","0.4","%"]]
[[/GREPCENT_TABLE]]

2022 Compared to 2021

Gross profit decreased $12.4 million, or 3.5%

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•
Decrease in gross profit driven primarily by changes in our sales mix as well as increased inventory reserves related to set builds for an expanding sales force and increased safety stock requirements early in the year driven by the risk of global supply chain disruption

•
Decrease also driven by unfavorable changes in shipping costs, increased manufacturing overhead costs, and unfavorable movements in foreign currency exchange rates

Sales and Marketing Expense

[[GREPCENT_TABLE]]
[["","","","","","","","","","","","Percentage Change"],["(U.S. Dollars, in thousands)","","2022","","","2021","","","2020","","","2022/2021","","","2021/2020"],["Sales and marketing","","$","228,810","","","$","221,318","","","$","204,434","","","","3.4","%","","","8.3","%"],["As a percentage of net sales","","","49.7","%","","","47.6","%","","","50.3","%","","","2.1","%","","","-2.7","%"]]
[[/GREPCENT_TABLE]]

2022 Compared to 2021

Sales and marketing expense increased $7.5 million

•
Increases in travel, sales events, and surgeon and sales education trainings as in-person events largely resumed in 2022

•
Increase also attributable to the hiring of additional sales and marketing headcount to support growth initiatives across both Spine and Orthopedics

•
Increase of $2.4 million related to our estimated Italian Medical Device Payback liability, largely as a result of temporary relief provided by the Italian National Healthcare System in 2021 in response to the COVID-19 pandemic

General and Administrative Expense

[[GREPCENT_TABLE]]
[["","","","","","","","","","","","Percentage Change"],["(U.S. Dollars, in thousands)","","2022","","","2021","","","2020","","","2022/2021","","","2021/2020"],["General and administrative","","$","79,966","","","$","69,353","","","$","67,948","","","","15.3","%","","","2.1","%"],["As a percentage of net sales","","","17.4","%","","","14.9","%","","","16.7","%","","","2.5","%","","","-1.8","%"]]
[[/GREPCENT_TABLE]]

2022 Compared to 2021

General and administrative expense increased $10.6 million

•
Increase of $12.0 million associated with due diligence, legal fees, and other acquisition-related costs incurred in order to close the merger with SeaSpine, and certain integration costs to prepare for the merging of activities on a combined company basis

•
Partially offset by a decrease in certain compensation costs, partly stemming from the departure of certain former executives and from macroeconomic pressures on certain variable compensation expenses

Research and Development Expense

[[GREPCENT_TABLE]]
[["","","","","","","","","","","","Percentage Change"],["(U.S. Dollars, in thousands)","","2022","","","2021","","","2020","","","2022/2021","","","2021/2020"],["Research and development","","$","49,065","","","$","49,621","","","$","39,056","","","","-1.1","%","","","27.1","%"],["As a percentage of net sales","","","10.6","%","","","10.7","%","","","9.6","%","","","-0.1","%","","","1.1","%"]]
[[/GREPCENT_TABLE]]

2022 Compared to 2021

Research and development expense decreased $0.6 million

•
Decrease of $0.8 million related to the attainment of a development milestone with MTF Biologics achieved in 2021 that did not recur in 2022

•
Decrease in integration activities attributable to certain recent asset acquisitions

•
Partially offset by an increase of $2.3 million related directly to our European Union medical device regulation implementation efforts

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Acquisition-related Amortization and Remeasurement

[[GREPCENT_TABLE]]
[["","","","","","","","","","","","Percentage Change"],["(U.S. Dollars, in thousands)","","2022","","","2021","","","2020","","","2022/2021","","","2021/2020"],["Acquisition-related amortization and remeasurement","","$","(7,404",")","","$","17,588","","","$","(499",")","","","-142.1","%","","","-3624.6","%"],["As a percentage of net sales","","","-1.6","%","","","3.9","%","","","-0.2","%","","","-5.5","%","","","4.1","%"]]
[[/GREPCENT_TABLE]]

2022 Compared to 2021

Acquisition-related amortization and remeasurement decreased $25.0 million

•
Decrease of $14.0 million related to the remeasurement of potential revenue-based milestone payments associated with the Spinal Kinetics acquisition, as we do not expect to achieve the remaining revenue-based milestone prior to April 30, 2023, based on current net sales trends

•
Decrease of $11.8 million attributable to the impairment of our Global Orthopedics goodwill in 2021

Non-operating Income (Expense)

[[GREPCENT_TABLE]]
[["","","","","","","","","","","","Percentage Change"],["(U.S. Dollars, in thousands)","","2022","","","2021","","","2020","","","2022/2021","","","2021/2020"],["Interest expense, net","","$","(1,288",")","","$","(1,837",")","","$","(2,483",")","","","-29.9","%","","","-26.0","%"],["Other income (expense)","","","(3,150",")","","","(3,343",")","","","8,381","","","","-5.8","%","","","-139.9","%"]]
[[/GREPCENT_TABLE]]

Non-operating income and expense largely consists of interest income and expense, transaction gains and losses from changes in foreign currency exchange rates, changes in fair value related to our equity holdings in certain privately-held companies, and credit losses recognized on certain convertible debt investments. Foreign exchange gains and losses are primarily a result of several of our foreign subsidiaries holding trade and intercompany payables or receivables in currencies (most notably the U.S. Dollar) other than their functional currency.

2022 Compared to 2021

Interest expense, net, decreased $0.5 million

•
Change primarily the result of increased interest income on money market funds as a result of increases in yield driven by domestic monetary policy

•
Change also a result of increased interest income earned on certain investment securities

Other income (expense), net, increased $0.2 million

•
Increase of $0.7 million associated with changes in foreign currency exchange rates, as we recorded a non-cash remeasurement loss of $3.3 million in 2022 compared to a loss of $4.0 million in 2021

•
Partially offset by gains recognized in 2021 in total of $0.6 million associated with our equity investments in Neo Medical and Bone Biologics

Income Tax Expense

[[GREPCENT_TABLE]]
[["","","","","","","","","","","","Percentage Change"],["(U.S. Dollars, in thousands)","","2022","","","2021","","","2020","","","2022/2021","","","2021/2020"],["Income tax expense (benefit)","","$","2,043","","","$","24,884","","","$","(2,885",")","","","-91.8","%","","","-962.5","%"],["Effective tax rate","","","-11.5","%","","","-184.4","%","","","784.0","%","","","172.9","%","","","-968.4","%"]]
[[/GREPCENT_TABLE]]

2022 Compared to 2021

Net income tax expense decreased by $22.8 million

•
Decrease of $20.2 million related to changes in valuation allowances recorded in 2021 versus 2022

•
Decrease of $2.7 million related to the change in fair value of contingent consideration

•
Partially offset by $1.0 million US tax expense on foreign income inclusion

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A reconciliation of the effective tax rate for each year is reported in Note 20 to the Notes to the Consolidated Financial Statements contained in Item 8 of this Annual Report.

Segment Review

Historically, our business was managed through two reporting segments: Global Spine and Global Orthopedics. The primary metric used in managing the business by segment is EBITDA (which is described further in Note 16 to the Notes to the Consolidated Financial Statements contained in Item 8 of this Annual Report).

Following the merger with SeaSpine, which was completed on January 5, 2023, we expect to reassess our reporting segments in the first quarter of 2023 based on how the operations of the newly combined company will be managed. We will also reassess our identified segment profitability metric at that time. Accordingly, the reporting segment information below has been prepared based on our two historical reporting segments, which were utilized in managing operations for the year ended December 31, 2022.

The following table reconciles EBITDA to loss before income taxes:

[[GREPCENT_TABLE]]
[["","","Year Ended December 31,"],["(U.S. Dollars, in thousands)","","2022","","","2021","","","2020"],["Global Spine","","$","60,649","","","$","58,014","","","$","63,036"],["Global Orthopedics","","","(4,037",")","","","3,374","","","","(4,993",")"],["Corporate","","","(44,011",")","","","(31,691",")","","","(25,382",")"],["Total EBITDA","","","12,601","","","","29,697","","","","32,661"],["Depreciation and amortization","","","(29,019",")","","","(29,599",")","","","(30,546",")"],["Goodwill impairment","","","\u2014","","","","(11,756",")","","","\u2014"],["Interest expense, net","","","(1,288",")","","","(1,837",")","","","(2,483",")"],["Loss before income taxes","","$","(17,706",")","","$","(13,495",")","","$","(368",")"]]
[[/GREPCENT_TABLE]]

Liquidity and Capital Resources

Cash, cash equivalents, and restricted cash at December 31, 2022, was $50.7 million compared to $87.8 million at December 31, 2021.

[[GREPCENT_TABLE]]
[["","","Year Ended December, 31,"],["(U.S. Dollars, in thousands)","","2022","","","2021","","","Change"],["Net cash from operating activities","","$","(11,538",")","","$","18,475","","","$","(30,013",")"],["Net cash from investing activities","","","(24,534",")","","","(23,013",")","","","(1,521",")"],["Net cash from financing activities","","","(78",")","","","(3,621",")","","","3,543"],["Effect of exchange rate changes on cash and restricted cash","","","(997",")","","","(815",")","","","(182",")"],["Net change in cash, cash equivalents, and restricted cash","","$","(37,147",")","","$","(8,974",")","","$","(28,173",")"]]
[[/GREPCENT_TABLE]]

The following table presents free cash flow, a non-GAAP financial measure, which is calculated by subtracting capital expenditures from net cash from operating activities.

[[GREPCENT_TABLE]]
[["","","Year Ended December, 31,"],["(U.S. Dollars, in thousands)","","2022","","","2021","","","Change"],["Net cash from operating activities","","$","(11,538",")","","$","18,475","","","$","(30,013",")"],["Capital expenditures","","","(23,160",")","","","(19,592",")","","","(3,568",")"],["Free cash flow","","$","(34,698",")","","$","(1,117",")","","$","(33,581",")"]]
[[/GREPCENT_TABLE]]

Operating Activities

Cash flows from operating activities decreased $30.0 million

•
Decrease in net loss of $18.6 million

•
Net decrease of $44.1 million in non-cash gains and losses, largely related to our impairment of Global Orthopedics goodwill in 2021, changes in deferred income taxes, and changes in fair value of contingent consideration

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•
Net decrease of $4.5 million relating to changes in working capital accounts, primarily attributable to changes in inventory levels, our contract liability associated with the CMS Accelerated and Advance Payment Program, the payment of contingent consideration in 2021, and from changes in other long-term assets and liabilities

Two of our primary working capital accounts are accounts receivable and inventory. Day’s sales in receivables were 62 days at December 31, 2022, compared to 58 days at December 31, 2021 (calculated using fourth quarter net sales and ending accounts receivable). Inventory turns were 1.2 times as of December 31, 2022, compared to 1.4 times at December 31, 2021.

Investing Activities

Cash flows from investing activities decreased $1.5 million

•
Decrease of $3.6 million associated with capital expenditures compared to the prior year period

•
Partially offset by an increase of $2.2million due to cash paid for purchases of investment securities in 2021

Financing Activities

Cash flows from financing activities increased $3.5 million

•
Increase of $8.4 million associated with cash paid in 2021 for the achievement of a revenue-based milestone associated with the Spinal Kinetics acquisition; the milestone payment totaled $15.0 million with a portion of the payment reflected in both operating and financing activities

•
Decrease in net proceeds of $3.7 million from the issuance of common shares, primarily related to the exercise of stock options in the prior year period

•
Decrease of $2.0 million related to the conclusion of the FITBONE Contract Manufacturing and Supply Agreement with Wittenstein, resulting in a $2.0 million payment in 2022

•
Increase of $0.9 million attributable to other financing activities

Credit Facilities

On October 25, 2019, we entered into a Second Amended and Restated Credit Agreement (the “Amended Credit Agreement”), which provides for a five year $300 million secured revolving credit facility. The Amended Credit Agreement has a maturity date of October 25, 2024, and amends and restates the previous $125 million secured revolving credit facility.

Borrowings under the Amended Credit Agreement may be used for, among other things, working capital and other general corporate purposes (including share repurchases, permitted acquisitions and permitted payments of dividends and other distributions). Borrowings under the Amended Credit Agreement may be limited based on EBITDA levels recognized over the preceding 12 months.

As of December 31, 2022, we have no outstanding borrowings under the Amended Credit Agreement. However, on January 3, 2023, we borrowed $30.0 million under the $300.0 million secured revolving credit facility for working capital purposes, including to fund certain merger-related expenses. Further, an additional $15.0 million was borrowed on March 3, 2023. For additional information regarding the credit facility, see Note 11 of the Notes to the Consolidated Financial Statements in Item 8 of this Annual Report.

In addition, we have no outstanding borrowings on our Italian line of credit of €5.5 million ($6.3 million) as of December 31, 2022. This unsecured line of credit provides us the option to borrow amounts in Italy at rates which are determined at the time of borrowing.

As of December 31, 2022, SeaSpine had a $30.0 million credit facility with Wells Fargo Bank, National Association which was scheduled to mature in July 2025. Immediately prior to the closing date of the merger, SeaSpine had $27.0 million of outstanding borrowings under the credit facility. In connection with the merger, on January 5, 2023, all of the outstanding obligations in respect of principal, interest, and fees under the credit agreement were repaid and all applicable commitments under the credit agreement were terminated.

Other

For information regarding Contingencies, see Note 13 of the Notes to the Consolidated Financial Statements in Item 8 of this Annual Report.

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Legion Innovations, LLC Asset Acquisition

On December 29, 2022, we entered into a technology assignment and royalty agreement with Legion Innovations, LLC, a U.S.-based medical device technology company, whereby we acquired intellectual property rights to certain assets. As consideration, we paid $0.2 million in January 2023, with additional payments contingent upon reaching future commercialization and revenue-based milestones.

CGBio Co. Ltd. License and Distribution Agreement

On July 30, 2022, we entered into an exclusive License and Distribution Agreement with CGBio Co., Ltd. (“CGBio”), a developer of innovative, synthetic bone grafts. The agreement grants us the exclusive right to conduct pre-clinical and clinical studies, commercialize, promote, market, and sell the Novosis recombinant human bone morphogenetic protein-2 (rhBMP-2) bone growth materials and other future tissue regenerative solutions in the U.S. and Canada. As consideration, we paid CGBio an upfront payment of $1.4 million with additional payments contingent upon the achievement of specified development milestones.

Spinal Kinetics Acquisition and Contingent Consideration

As part of the consideration for the Spinal Kinetics acquisition, we agreed to make contingent milestone payments of up to $60.0 million. One milestone payment, which was for $15.0 million, became due upon FDA approval of Spinal Kinetics’ M6-C artificial cervical disc, which was achieved and paid in 2019. A revenue-based milestone payment, totaling $15.0 million, was achieved and paid in 2021 upon meeting certain net sales targets.

The remaining milestone payment is a revenue-based milestone payment of $30.0 million in connection with future sales of the acquired artificial discs. The fair value of this contingent consideration liability was concluded to be zero as of December 31, 2022, as we do not expect to achieve the milestone prior to the deadline of April 30, 2023. For additional discussion of this matter, see Note 12 of the Notes to the Consolidated Financial Statements in Item 8 of this Annual Report.

IGEA S.p.A Exclusive License and Distribution Agreement

In April 2021, we entered into an Exclusive License and Distribution Agreement (the “License Agreement”) with IGEA S.p.A (“IGEA”), an Italian manufacturer and distributor of bone and cartilage stimulation systems. Per the terms of the License Agreement, we have the exclusive right to sell IGEA products in the U.S. and Canada. As consideration for the License Agreement, we agreed to pay up to $4.0 million, of which $0.5 million was paid in 2021, with certain payments contingent upon achieving an FDA milestone.

In May 2022, the Company achieved FDA approval pertaining to the acquired technology, triggering a contingent consideration milestone obligation of $3.5 million. Of this amount, $1.5 million was paid in 2022, $1.0 million was accrued within other current liabilities, and $1.0 million was accrued within other long-term liabilities as of December 31, 2022.

Related Party Transaction

In February 2021, we entered into a technology assignment and royalty agreement with a medical device technology company partially owned and controlled by the wife of our Executive Chairman, and former President and Chief Executive Officer, Jon Serbousek, whereby we acquired the intellectual property rights to certain assets for consideration of up to $10.0 million. Consideration was comprised of $1.0 million, which was paid at signing, and $9.0 million in contingent consideration, dependent upon multiple milestones, such as receipt of 510(k) clearance or the attainment of certain net sales targets. For additional discussion of this transaction, see Note 17 of the Notes to the Consolidated Financial Statements in Item 8 of this Annual Report.

Neo Medical Investment and Convertible Loan

In October 2020, we entered into a Convertible Loan Agreement (the “Convertible Loan”) with Neo Medical SA, a privately held Swiss-based Medtech company (“Neo Medical”), whereby we loaned CHF 4.6 million to Neo Medical ($5.0 million as of the issuance date). The loan bears interest at 8.0%, with interest due semi-annually. The Convertible Loan matures in October 2024; however, if a change in control of Neo Medical occurs prior to maturity, the Convertible Loan shall become immediately due upon such event.

Impact of COVID-19 and the Coronavirus Aid, Relief, and Economic Security Act ("CARES Act") on Liquidity and Capital Resources

In April 2020, we received $13.9 million in funds from the CMS Accelerated and Advance Payment Program as part of the CARES Act to increase cash flow to providers of services and suppliers impacted by the COVID-19 pandemic. In April 2021, Medicare began to recoup 25% of Medicare payments otherwise owed to the provider or supplier for submitted claims. Recoupment then increased to 50% of Medicare payments in March 2022. Thus, during these time periods, rather than receiving the full amount of payment for

68

newly submitted claims, our outstanding balance under the Accelerated and Advance Payment Program was reduced by the recoupment amount until the full balance had been repaid, which was completed in 2022.

Disclosures Relating to Potential Obligations Resulting from our Merger with SeaSpine

On December 1, 2022, SeaSpine entered into an exclusive license and distribution agreement with Lattus Spine LLC. (“Lattus”) to acquire a perpetual license to certain surgical instrumentation. As consideration, SeaSpine paid an upfront licensing fee and purchased initial sets of instrumentation. Additional payments are contingent upon the subsequent net sales of the acquired assets, most of which are based upon future net sales of the acquired assets, with the company having the option to fund a portion of these payments via the issuance of common stock.

Pursuant to a distributor agreement between SeaSpine and one of its distributors, the Company could be obligated to purchase certain assets of the distributor, at the option of the distributor, as a result of the merger. If this were to occur, the purchase price of the transaction would be the greater of (i) $4.2 million or (ii) 100% of the commissions earned by the distributor over a specified period prior to the change in control, with such purchase price paid in stock.

Unremitted Foreign Earnings

Unremitted foreign earnings were $27.0 million as of December 31, 2022. The Company’s investment in foreign subsidiaries continues to be indefinite in nature; however, the Company may periodically repatriate a portion of these earnings to the extent that it does not incur significant additional tax liability.

Contractual Obligations

As a result of our operations, we are subject to certain contractual obligations with material cash requirements. Our material contractual obligations include, but are not limited to i) our contingent consideration arrangement associated with the Spinal Kinetics acquisition, ii) contingent consideration arrangements associated with certain asset acquisitions, of which material obligations are described above, iii) operating lease and finance lease obligations, and iv) uncertain tax positions.

Refer to the Notes to the Consolidated Financial Statements in Item 8 of this Annual Report for a further description of our contingent consideration arrangements (Notes 12 and 17), lease obligations (Note 9), and uncertain tax positions (Note 20).

Off-balance Sheet Arrangements

As of December 31, 2022, we did not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, cash flows, liquidity, capital expenditures, or capital resources that are material to investors. In addition, we do not consider the backlog of firm orders to be material.

Critical Accounting Estimates

Our discussion of operating results is based upon the consolidated financial statements and accompanying notes. The preparation of these statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amount of revenues and expenses during the reporting period. On an ongoing basis, we evaluate these estimates, which are based on historical experience and various other assumptions that management believe to be reasonable under the circumstances at that point in time. Actual results may differ, significantly at times, from these estimates.

We believe the estimates described below are the most critical in preparing our consolidated financial statements. We have reviewed these critical accounting estimates with the Audit Committee of the Board of Directors.

Revenue Recognition

The process for recognizing revenue involves significant assumptions and judgments for certain of our revenue streams. Revenue recognition policies are “critical accounting estimates” because changes in the assumptions used to develop the estimates could materially affect key financial measures, including net sales, gross margin, operating income, EBITDA, and net income.

Bone Growth Therapies revenue is largely attributable to the U.S. and is comprised of third-party payor transactions and wholesale revenue.

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For revenue derived from third-party payors, including commercial insurance carriers, health maintenance organizations, preferred provider organizations, and governmental payors, such as Medicare, in connection with the sale of our stimulation products, we recognize revenue when the stimulation product is fitted to and accepted by the patient and all applicable documents that are required by the third-party payor have been obtained. Amounts paid by these third-party payors are generally based on fixed or allowable reimbursement rates. These revenues are recorded at the expected or preauthorized reimbursement rates, net of any contractual allowances or adjustments. Certain billings are subject to review by the third-party payors and may be subject to adjustment.

Wholesale revenue is related to the sale of our bone growth stimulators directly to physicians and other healthcare providers. Wholesale revenues are recognized upon shipment and receipt of a confirming purchase order, which is when the customer obtains control of the promised goods.

Biologics revenue is largely attributable to the U.S. and is primarily related to a collaborative arrangement with MTF. We have exclusive global marketing rights and receive marketing fees from MTF based on products distributed by MTF. MTF is considered the principal in these arrangements; therefore, we recognize these marketing service fees on a net basis upon shipment of the product to the customer and receipt of a confirming purchase order.

Spinal Implants and Global Orthopedics products are distributed world-wide, with U.S. sales largely comprised of commercial revenue and international sales derived from commercial sales and through stocking distributor arrangements.

Commercial revenue is largely related to the sale of our Spinal Implants and Global Orthopedics products to hospital customers. Commercial revenues are recognized when these products have been utilized and a confirming purchase order has been received from the hospital.

Stocking distributors purchase our products and then re-sell them directly to customers, such as hospitals. Revenue derived from stocking distributor arrangements is recognized upon shipment and receipt of a confirming purchase order, which is when the distributor obtains control of the promised goods. The transaction price is estimated based upon our historical collection experience with the stocking distributor. This percentage, which is specific to each stocking distributor, is then used to calculate the transaction price. Cost of sales is also recorded upon transfer of control of the product to the customer, which is when our performance obligation has been satisfied.

Allowance for Expected Credit Losses and Contractual Allowances

The process for estimating the ultimate collection of accounts receivable involves significant assumptions and judgments. The determination of the contractual life of accounts receivable, the aging of outstanding receivables, as well as the historical collections, write-offs, and payor reimbursement experience over the estimated contractual lives of such receivables, are integral parts of the estimation process related to reserves for expected credit losses and the establishment of contractual allowances. Accounts receivable are analyzed on a quarterly basis to assess the adequacy of both reserves for expected credit losses and contractual allowances. Revisions in allowances for expected credit loss estimates are recorded as an adjustment to bad debt expense within sales and marketing expenses. Revisions to contractual allowances are recorded as an adjustment to net sales. These estimates are periodically tested against actual collection experience. In addition, we analyze our receivables by geography and by customer type, where appropriate, in developing estimates for expected credit losses.

We believe our allowance for credit losses is sufficient to cover customer credit risks; however, a 10% change in our allowance for credit losses as of December 31, 2022, would result in an increase or decrease to sales and marketing expense of $0.6 million. Additionally, we believe our estimate to establish contractual allowances is sufficient to cover customer credit risks; however, a 10% change in our reserve for contractual allowances as of December 31, 2022, would result in an increase or decrease to net sales of $0.3 million. Our allowance for credit losses and estimation of contractual allowances are “critical accounting estimates” because changes in the assumptions used to develop the estimates could materially affect key financial measures, including net sales, gross margin, operating income, EBITDA, net income, and accounts receivable.

Inventory Allowances

Reserves for excess, slow moving, and obsolete inventory are calculated as the difference between the cost of inventory and market value, and are based on assumptions and judgments about new product launch periods, overall product life cycles, forecasted demand, and market conditions. In the event of a decrease in demand for our products, excess product production, or a higher

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incidence of inventory obsolescence, we could be required to increase our inventory reserves, which would increase cost of sales and decrease gross profit. We regularly evaluate our exposure for inventory write-downs. If conditions or assumptions used in determining the market value or forecasted demand change, additional inventory adjustments in the future may be necessary. Our inventory allowance is a “critical accounting estimate” because changes in the assumptions used to develop the estimate could materially affect key financial measures, including gross profit, operating income, EBITDA, net income, and inventory.

Valuation of Intangible Assets

Our intangible assets are comprised primarily of patents, acquired or developed technology, in-process research and development (“IPR&D”), customer relationships, trade names, trademarks, and licensing arrangements. We make significant judgments in relation to the valuation of intangible assets resulting from business combinations or asset acquisitions. Intangible assets acquired in a business combination that are used for IPR&D activities are considered to have indefinite lives until the completion or abandonment of the associated project. Upon reaching the end of the relevant project, we will either amortize the acquired IPR&D over its estimated useful life or expense the acquired IPR&D should the project be unsuccessful with no future alternative use.

Significant judgment is required related to the forecasting of future operating results within our discounted cash flow valuation models to determine the valuation of intangible assets. Key assumptions include the anticipated useful lives of acquired intangibles, the projected cash flows associated with each intangible asset, the estimated probability of success for acquired IPR&D projects, and projected growth rates and discount rates. It is possible that significant changes in plans or assumptions may affect the recoverability of these assets and could potentially result in impairment. Our valuation of intangible assets is a “critical accounting estimate” because changes in the assumptions used to develop these estimates could materially affect key financial measures, including operating income, EBITDA, and net income.

Goodwill

Our goodwill represents the excess of cost over fair value of net assets acquired from business combinations. The determination of the value of goodwill and intangible assets arising from business combinations requires extensive use of accounting estimates and judgments to allocate the purchase price to the fair value of the net tangible and intangible assets acquired.

We test goodwill at least annually for impairment, and between annual tests if indicators of potential impairment exist. These indicators include, among others, significant declines in sales, earnings, or cash flows, or the development of a material adverse change in the business climate. Assessing goodwill impairment involves a high degree of judgment due to the estimates and assumptions used. We believe the estimates and assumptions involved in the impairment assessment to be critical because significant changes in such estimates and assumptions could materially affect key financial measures, including operating income, EBITDA, and net income.

In the fourth quarter of 2021, we performed a quantitative assessment of goodwill as part of our annual goodwill impairment analysis. Upon estimating the fair value of each of its reporting units, we determined the Global Orthopedics reporting unit’s fair value was less than its carrying value of net assets. This resulted in recording a full impairment of the Global Orthopedics goodwill of $11.8 million, which is reflected within Acquisition-related amortization and remeasurement. The assessment concluded there were no indicators of impairment for the Global Spine goodwill.

In the fourth quarter of 2022, we performed a qualitative assessment for our annual goodwill impairment analysis, which did not result in an impairment charge. This qualitative analysis considered all relevant factors specific to the reporting units, including macroeconomic conditions, industry and market considerations, overall financial performance, and relevant entity-specific events. As part of our qualitative assessment, we included quantitative factors to assess the likelihood of an impairment and concluded it more likely that not that an impairment has not occurred.

We estimate the fair value of each reporting unit using a weighted average of fair value derived from both an income approach and a market approach. The fair value measurements are based on significant inputs that are unobservable in the market, with key assumptions including, but not limited to, our forecasted future net sales and expenses, terminal growth rates, discount rates applied, and allocation of corporate-level expenses to each reporting unit. Significant changes in these assumptions could result in a significantly higher or lower fair value, which in turn can affect the ultimate conclusion regarding if goodwill is impaired.

Fair Value Measurements

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Fair value is defined as the price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The two most significant items that are or were recorded at fair value as of December 31, 2022, and 2021, include (i) contingent consideration attributable to the Spinal Kinetics acquisition and (ii) our convertible loan agreements with Neo Medical.

The contingent consideration consists of potential future milestone payments of up to $60.0 million in cash associated with the Spinal Kinetics acquisition, which must be achieved before April 30, 2023, to be paid. The milestone payments include (i) up to $15.0 million for meeting the FDA Milestone and (ii) revenue-based milestone payments of up to $45.0 million in connection with future sales of the M6-C artificial cervical disc and the M6-L artificial lumbar disc. The FDA milestone was achieved and paid in 2019 and one of the revenue-based milestones, resulting in a payment of $15.0 million, was achieved and paid in 2021.

As of December 31, 2022, we estimated the fair value of the remaining revenue-based milestone based on a probability-weighted cash flow analysis, based upon a combination of our historical net sales of artificial cervical discs and projected net sales of such discs through April 30, 2023. The estimated fair value of the remaining milestone was concluded to be zero as of December 31, 2022, as we considered the probability of achieving the milestone by April 30, 2023, to be remote.

In previous periods, we estimated the fair value of the remaining revenue-based milestone payment using a Monte Carlo simulation. This fair value measurement was based on significant inputs that were unobservable in the market, with key assumptions including our forecasted future net sales of Motion Preservation products, discount rates applied, and assumptions for potential volatility of the forecasted revenue. Significant changes in these assumptions could have resulted in a significantly higher or lower fair value as of each period.

We estimate the fair value of our convertible loan agreements with Neo Medical using option-pricing models and a probability-weighted discounted cash flow model. The fair value measurement is based on significant inputs that are unobservable in the market, with significant unobservable inputs including applicable discount rates, implied volatility, the likelihood and projected timing of repayment or conversion, and projected cash flows in support of the estimated enterprise value of Neo Medical. Significant changes in these assumptions could result in a significantly higher or lower fair value. Holding other inputs constant, an increase in the assumed cost of equity discount rate by 2% would have resulted in a decrease in the fair value of the convertible loan of $0.1 million, whereas a decrease the cost of equity discount rate by 2% would have resulted in an increase in the fair value of the convertible loan by $0.2 million.

Our fair value measurements are a “critical accounting estimate” because changes in the assumptions used to develop the estimate could materially affect key financial measures, including operating income, EBITDA, and net income.

Litigation and Contingent Liabilities

From time to time, we are parties to or targets of lawsuits, investigations, and proceedings, including product liability, personal injury, patent and intellectual property, health and safety, and employment and healthcare regulatory matters, which are handled and defended in the ordinary course of business. These lawsuits, investigations, or proceedings could involve a substantial number of claims and could also have an adverse impact on our reputation and customer base. Although we maintain various liability insurance programs for liabilities that could result from such lawsuits, investigations, or proceedings, we are self-insured for a significant portion of such liabilities.

We accrue for such claims when it is probable that a liability has been incurred and the amount can be reasonably estimated. The assessments of whether a loss is probable or a reasonable possibility, and whether the loss or range of loss is reasonably estimable, often involve a series of complex judgments about future events. Among the factors that we consider in this assessment are the nature of existing legal proceedings, investigations, and claims, the asserted or possible damages or loss contingency (if reasonably estimable), the progress of the matter, existing law and precedent, the opinions or views of legal counsel and other advisers, the involvement of the U.S. Government and its agencies in such proceedings, our experience in similar matters and the experience of other companies, the facts available to us at the time of assessment, and how we intend to respond, or have responded, to the proceeding, investigation or claim. Our assessment of these factors may change over time as individual proceedings, investigations or claims progress. For matters where we are not currently able to reasonably estimate the range of reasonably possible loss, the factors that have contributed to this determination include the following: (i) the damages sought are indeterminate, or an investigation has not manifested itself in a filed civil or criminal complaint, (ii) the matters are in the early stages, (iii) the matters involve novel or unsettled legal theories or a large or uncertain number of actual or potential cases or parties, and/or (iv) discussions with the government or other parties in matters that may be expected ultimately to be resolved through negotiation and settlement have not reached the point where we believe a reasonable estimate of loss, or range of loss, can be made. In such instances, we

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believe that there is considerable uncertainty regarding the timing or ultimate resolution of such matters, including a possible eventual loss, fine, penalty or business impact, if any.

Changes in the facts and circumstances associated with a claim could have a material impact on our results of operations and cash flows in the period that reserve estimates are recorded or revised. We believe our insurance coverage and reserves are sufficient to cover currently estimated exposures, but we cannot give any assurance that we will not incur liabilities in excess of recorded reserves or our present insurance coverage. Litigation and contingent liabilities are “critical accounting estimates” because changes in the assumptions used to develop the estimates could materially affect key financial measures, including operating income, EBITDA, and net income.

Tax Matters

We and each of our subsidiaries are taxed at the rates applicable within each of their respective jurisdictions. Our income tax expense, effective tax rate, deferred tax assets, and deferred tax liabilities will vary according to the jurisdiction in which profits arise. Further, certain of our subsidiaries sell products directly to our other subsidiaries or provide administrative, marketing, and support services to our other subsidiaries. These intercompany sales and support services involve subsidiaries operating in jurisdictions with differing tax rates. The tax authorities in such jurisdictions may challenge our treatment under residency criteria, transfer pricing provisions, or other aspects of their respective tax laws, which could affect our composite tax rate and provisions.

We sometimes engage in transactions in which tax consequences may be subject to uncertainty. We account for these uncertain tax positions in accordance with applicable accounting guidance, which requires significant judgment in assessing the estimated tax consequences of a transaction. We evaluate the tax position taken or expected to be taken in a tax return by determining if the weight of available evidence indicates that it is more likely than not that, on an evaluation of the technical merits, the tax position will be sustained on audit, including resolution of any related appeals or litigation processes. We measure the tax benefit as the largest amount that is more than 50% likely to be realized upon ultimate settlement. We re-evaluate our income tax positions periodically to consider factors such as changes in facts or circumstances, changes in or interpretations of tax law, effectively settled issues under audit, and new audit activity. Such a change in recognition or measurement would result in recognition of a tax benefit or an additional charge to the tax provision, which could have a material impact to the financial statements.

We establish a valuation allowance when measuring deferred tax assets if it is more likely than not that certain deferred tax assets will not be realized in the foreseeable future. This process requires significant judgment as we must project the current tax liability and estimate the deferred tax assets and liabilities into future periods, including net operating loss and tax credit carry forwards. In assessing the need for a valuation allowance, we consider recent operating results, availability of taxable income in carryback years, future reversals of taxable temporary differences, future taxable income projections (exclusive of reversing temporary differences), and all prudent and feasible tax planning strategies.

Tax matters are “critical accounting estimates” because changes in the assumptions used to develop the estimates could materially affect key financial measures, including net income.

Share-based compensation

We use the Black-Scholes valuation model to calculate the fair value of service-based stock options. The value is recognized as expense over the service period net of actual forfeitures. The expected term of options granted is estimated based on a number of factors, including the vesting and expiration terms of the award, historical employee exercise behavior for both options that are currently outstanding and options that have been exercised or are expired, the historical volatility of our common stock, and an employee’s average length of service. The risk-free interest rate is determined based upon a constant U.S. Treasury security rate with a contractual life that approximates the expected term of the option award. We estimate expected volatility based on the historical volatility of our stock.

We use the Monte Carlo valuation methodology to calculate the fair value of market-based restricted stock units. The value is recognized as expense over the requisite service period and adjusted for forfeitures as they occur. The Monte Carlo methodology that we use to estimate the fair value of the awards incorporates the possibility that the market condition may not be satisfied.

The fair value of performance-based restricted stock units is calculated based upon (i) the closing stock price at the date of grant and (ii) the number of stock units expected to vest at the conclusion of the performance period. The value is recognized as expense over

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the derived requisite service period beginning in the period in which the grants are deemed probable to vest. Vesting probability is assessed based upon forecasted financial results and requires significant judgment.

Determining the appropriate fair value model and calculating the fair value of employee stock awards requires estimates and judgments. Our share-based compensation is a “critical accounting estimate” because changes in the assumptions used to develop estimates of fair value or the requisite service period could materially affect key financial measures, including gross profit, operating income, EBITDA, and net income.

Non-GAAP Financial Measures

We believe that providing non-GAAP financial measures that exclude certain items provides investors with greater transparency to the information used by senior management in its financial and operational decision-making. We believe it is important to provide investors with the same non-GAAP metrics that senior management uses to supplement information regarding the performance and underlying trends of our business operations in order to facilitate comparisons to historical operating results and internally evaluate the effectiveness of our operating strategies. Disclosure of these non-GAAP financial measures also facilitates comparisons of our underlying operating performance with other companies in the industry that also supplement their GAAP results with non-GAAP financial measures.

The non-GAAP financial measures used in this Annual Report may have limitations as analytical tools and should not be considered in isolation or as a replacement for GAAP financial measures. Some of the limitations associated with the use of these non-GAAP financial measures are that they exclude items that reflect an economic cost that can have a material effect on cash flows. Similarly, certain non-cash expenses, such as equity compensation expense, do not directly impact cash flows, but are part of total compensation costs accounted for under GAAP.

Constant Currency

Constant currency is a non-GAAP measure, which is calculated by using foreign currency rates from the comparable, prior-year period, to present net sales at comparable rates. Constant currency can be presented for numerous GAAP measures, but is most commonly used by management to analyze net sales without the impact of changes in foreign currency rates.

EBITDA

EBITDA is defined as earnings before interest income (expense), net, income taxes, depreciation, and amortization (including the impacts of any goodwill impairment). EBITDA is the primary metric used by our Chief Operating Decision Maker in managing the business.

Free Cash Flow

Free cash flow is a non-GAAP financial measure, which is calculated by subtracting capital expenditures from net cash from operating activities. Free cash flow is an important indicator of how much cash is generated or used by our normal business operations, including capital expenditures. Management uses free cash flow as a measure of progress on its capital efficiency and cash flow initiatives.