# ORASURE TECHNOLOGIES INC (OSUR) FY 2021 MD&A

Verbatim Item 7 Management's Discussion and Analysis from ORASURE TECHNOLOGIES INC's 10-K for fiscal year 2021.

SEC filing source: https://www.sec.gov/Archives/edgar/data/1116463/000095017022002556/osur-20211231.htm
Accession: 0000950170-22-002556
Filing date: 2022-03-01
Report date: 2021-12-31
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary.
Confidence: high

Company profile: /company/OSUR/
All MD&A years: /company/OSUR/mda/
Next year: /company/OSUR/mda/fy2022/ (FY 2022)

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

Statements below regarding future events or performance are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Our actual results could be quite different from those expressed or implied by the forward-looking statements. Factors that could affect results are discussed more fully under the Item 1A, entitled “Risk Factors,” and elsewhere in this Annual Report. Although forward-looking statements help to provide complete information about us, readers should keep in mind that forward-looking statements may not be reliable. Readers are cautioned not to place undue reliance on the forward-looking statements. We undertake no duty to update any forward-looking statements made herein after the date of this Annual Report.

The following discussion should be read in conjunction with the consolidated financial statements contained herein and the notes thereto, along with the Section entitled “Critical Accounting Policies and Estimates,” set forth below. This section of this Annual Report on Form 10-K for the year ended December 31, 2021 (this "Annual Report") generally discusses 2021 and 2020 items and year-to-year comparisons between 2021 and 2020. Discussion of 2019 items and year-to-year comparisons between 2020 and 2019 that are not included in this Form 10-K can be found in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7 of the Company’s Annual Report on Form 10-K for the year ended December 31, 2020.

Overview and Business Segments

The overall goal of our Company is to empower the global community to improve health and wellness by providing access to accurate essential information. Our business consists of two segments: our “Diagnostics” segment and our “Molecular Collection Systems” segment.

Our Diagnostics business primarily consists of the development, manufacture, marketing and sale of oral fluid diagnostic products and specimen collection devices using our proprietary technologies, as well as other diagnostic products including immunoassays and other in vitro diagnostic tests that are used on other specimen types. The Diagnostics business includes tests for diseases including HIV and Hepatitis C that are performed on a rapid basis at the point of care and tests that are processed in a laboratory. These products are sold in the United States and internationally to various clinical laboratories, hospitals, clinics, community-based organizations, and other public health organizations, distributors, government agencies, physicians’ offices, and commercial and industrial entities. Our HIV product is also sold in a consumer-friendly format in the over-the-counter (“OTC”) market in the U.S. and as a self-test to individuals in a number of other countries. Our Diagnostics business includes the operations of UrSure, Inc. (“UrSure”), which was acquired and merged into OraSure in 2020. This part of the Diagnostics business develops and commercializes products that measure adherence to HIV medications including pre-exposure prophylaxis or PrEP, the daily medication to prevent HIV, and anti-retroviral medications to suppress HIV. These products include laboratory-based tests that can measure levels of the medications in a patient’s urine or blood, as well as point-of-care products currently in development. In 2020, we began developing a rapid antigen self-test for COVID-19 and a COVID-19 antibody enzyme-linked immunosorbent assay (“ELISA”) for use in laboratory settings. In June 2021, we received three Emergency Use Authorizations ("EUA") from the U.S. Food and Drug Administration ("FDA") for our InteliSwab® COVID-19 Rapid Tests for non-prescription OTC, professional point-of-care and prescription use. We began recording revenues on the sales of our InteliSwab® COVID-19 Rapid Tests during the third quarter of 2021. Following discussions with the FDA and their de-prioritization of antibody testing in the U.S., we decided to no longer pursue an EUA for the ELISA laboratory antibody test. We have, however, continued to offer the product for research use to labs and other parties interested in COVID antibody surveillance and research applications.

Our Molecular Solutions business is operated by our wholly-owned subsidiaries, DNA Genotek Inc. (“DNAG”), Diversigen, Inc. (“Diversigen”), and Novosanis NV (“Novosanis”). In our Molecular Solutions business, we manufacture and sell kits that are used to collect, stabilize, transport and store a biological sample of genetic material for molecular testing. Our products are used for academic research and commercial applications, including ancestry, disease risk management, lifestyle and animal testing. Three of our collection devices are used in connection with COVID-19 molecular testing. We also sell research-use-only collection products into the microbiome market. We offer our customers a suite of genomics and microbiome services that range from package customization and study design optimization to extraction, analysis and reporting services. The microbiome laboratory and bioinformatics services are provided by Diversigen, which includes the operations of CoreBiome, Inc. (“CoreBiome”), a subsidiary we acquired in early 2019. CoreBiome and Diversigen were merged together in 2020. Novosanis manufactures and sells the Colli-Pee® collection device for the volumetric collection of first-void urine for use in research, screening and diagnostics in the liquid biopsy and sexually transmitted infection markets. Our Molecular Solutions business serves customers in many countries worldwide, including many leading research universities and hospitals.

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Recent Developments

Impact of COVID-19

The COVID-19 pandemic continues to impact our business operations and it is not possible for us to predict the duration or magnitude of the outbreak’s effects on our business or results of operations. During 2020, traditional HIV and HCV testing programs and drug testing in the workplace market were reduced or terminated as a result of the various “stay-at-home” orders and social distancing guidelines issued by federal, state and local governments to contain the spread of the COVID-19 pandemic and we continued to see this impact our business in early 2021. However, during the second and third quarters of 2021, we saw a resumption of HIV and HCV testing in the U.S. as domestic sales of our non-COVID diagnostic products began returning to pre-pandemic levels. On the international front, professional HIV and HCV testing in Europe and Asia also started to pick up. More recently we have experienced logistics and distribution delays, which have impacted our ability to provide our HIV self-tests in Southern and Eastern African countries due to the COVID-19 pandemic. In our Molecular Solutions segment, COVID-related disruption in clinical and research work, particularly in the academic market, had reduced demand for our products in 2020 and early 2021, but demand levels started to return to normal in the second and third quarters of 2021. Although the negative trends that materially impacted our results of operations during 2020 and early 2021 are starting to abate, it is impossible to predict if this improvement will continue and these negative trends may adversely impact certain parts of our business in future periods and for an indeterminate time period, depending on the duration and severity of the COVID-19 pandemic, the impact of COVID-19 variants and the scope and success of vaccination programs globally.

We also have experienced significant opportunities, and continue to believe there are potentially more significant opportunities, for increased revenues as a result of the COVID-19 pandemic. In 2020, we began selling our saliva collection devices for use in molecular COVID-19 testing. In 2021, we generated revenues of approximately $54.2 million from sales of our molecular collection devices related to COVID-19 testing. In the U.S., public health customers purchased increased quantities of our OraQuick® In-Home HIV Test in order to permit continued HIV testing while allowing clients and patients to adhere to “stay-at-home” and social distancing requirements. In addition, we saw increased demand for our molecular collection products from customers who conduct both saliva and blood-based testing. As it became more difficult to collect blood in clinics or healthcare settings, these customers increasingly relied on the saliva collection alternative. However, demand for molecular COVID-19 testing during 2021 began to decline primarily due to the availability of vaccines and other testing options. We believe this trend will continue in future periods.

In June 2021, we received three Emergency Use Authorizations ("EUAs") from the U.S. Food and Drug Administration ("FDA") for our InteliSwab® COVID-19 Rapid Tests for non-prescription OTC, professional point-of-care (Clinical Laboratory Improvements Amendment of 1988, "CLIA" waived) and prescription use. These lateral flow, rapid antigen diagnostic tests are designed to detect active COVID-19 infection with a simple, easy-to-use workflow, using samples self-collected from the lower nostrils. After users swab their lower nostrils, the test stick is swirled in a pre-measured buffer solution. No instrumentation, batteries, smart phone or laboratory analysis is needed to read the result, which appears on the test stick a short time later. During the second half of 2021, we recorded $22.4 million of InteliSwab® sales.

Following discussions with the FDA and their de-prioritization of antibody testing in the U.S., we decided to no longer pursue an EUA for a COVID-19 antibody enzyme-linked immunosorbent assay ("ELISA") for use in laboratory settings. We are, however, continuing to offer this product for research use only to labs and other parties interested in COVID antibody surveillance and research applications.

Exploration of Strategic Alternatives

The COVID-19 pandemic has provided us an opportunity to fundamentally transform into a higher growth, more innovative and efficient organization with broader customer reach, both within and outside the United States. We believe we are well positioned to address current public health challenges and capitalize on diagnostic trends in the market and enhance its operational and competitive profile. Against this backdrop, our Board of Directors is exploring and evaluating a broad range of strategic alternatives with the goal of maximizing value for stockholders. There can be no assurance that the exploration of strategic alternatives will result in any agreements or transactions, or that, if completed, any agreements or transactions will be successful or on attractive terms.

DLA Procurement Contract

In September 2021, we entered into a contract with the Defense Logistics Agency ("DLA") for the procurement of our OTC InteliSwab® COVID-19 Rapid Test, which the DLA estimated to have a value of $205 million. Under the terms of the contract, the Company will provide its InteliSwab® COVID-19 Rapid Test to up to 25,000 sites throughout the United States. The contract will run from October 2021 through September 2022. We recognized revenue of $1.9 million during the fourth quarter of 2021 related to this arrangement.

BARDA 510(k) Funding

In September 2021, we entered into an agreement with the Biomedical Advanced Research Development Authority (“BARDA”), which is part of the office of the Assistant Secretary for Preparedness and Response at the U.S. Department of Health and Human Services

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(“HHS”), pursuant to which BARDA will provide up to $13.6 million in funding for us to obtain 510(k) clearance and CLIA waiver of our InteliSwab® COVID-19 rapid test from the U.S. Food and Drug Administration (“FDA”).

DOD Manufacturing Capacity Funding

In September 2021, we also entered into an agreement for $109 million in funding from the U.S. Department of Defense (the “DOD”), in coordination with the Department of Health and Human Services, to build additional manufacturing capacity in the United States for our InteliSwab® COVID-19 Rapid Tests as part of the nation’s pandemic preparedness plan. Under this agreement, the funding will be used to expand our production capacity by 100 million tests annually. Funding will be paid to the Company based on achievement of milestones through March 2024 for the design, acquisition, installation, qualification and acceptance of the manufacturing equipment, as set forth in the agreement. We began receiving funds from the DOD in January 2022 and had received $15.4 million as of the date of this report.

Current Consolidated Financial Results

During the year ended December 31, 2021, our consolidated net revenues increased 36% to $233.7 million, compared to $171.7 million for the year ended December 31, 2020. Net product and services revenues during the year ended December 31, 2021 also increased 36% when compared to the same period of 2020, largely due to increased revenues across all product lines, other than our international HIV self-test. Other revenues for the year ended December 31, 2021 were $6.8 million compared to $5.3 million in the same period of 2020. This increase was largely due to increased research and development funding for our COVID-19 tests and higher royalty income.

Our consolidated net loss for the year ended December 31, 2021 was $23.0 million, or $(0.32) per share on a fully diluted basis, compared to a consolidated net loss of $14.9 million, or $(0.22) per share on a fully diluted basis, for the year ended December 31, 2020. Results for the full-year 2021 reflect the negative impact of inefficiencies in our InteliSwab® manufacturing process as we worked through our tech transfer issues and scale up and increased spending on research and development of COVID-19 products as well as higher sales and marketing spend to get our new COVID-19 product to market.

Cash used by operating activities during the years ended December 31, 2021 was $35.4 million compared to cash provided by operating activities for the year ended December 31, 2020 of $5.8 million. The use of cash in 2021 reflected the significant investment in inventory purchases in anticipation of future demand of our COVID-19 testing products. As of December 31, 2021, we had $170.0 million in cash, cash equivalents, and available-for-sale securities, compared to $257.1 million at December 31, 2020.

Results of Operations

YEAR ENDED DECEMBER 31, 2021 COMPARED TO DECEMBER 31, 2020

CONSOLIDATED NET REVENUES

The table below shows a breakdown of total net revenues (dollars in thousands) generated by each of our business segments.

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[[/GREPCENT_TABLE]]

Consolidated net product and services revenues increased 36% to $226.9 million for the year ended December 31, 2021 from $166.4 million for 2020 due to increased revenues across all product lines, other than our international HIV self-test. Other revenues for the year ended December 31, 2021 were $6.8 million compared to $5.3 million in 2020. This increase was largely due to increased research and development funding for our COVID-19 tests and higher royalty income.

Consolidated net revenues derived from products sold to customers outside of the United States were $45.3 million and $40.9 million, or 19% and 24% of total net revenues, during the years ended December 31, 2021 and 2020, respectively. Because the majority of our international sales are denominated in U.S. dollars, the impact of fluctuating foreign currency exchange rates was not material to our total consolidated net revenues.

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Net Revenues by Segment

Diagnostics Segment

The table below shows the amount of total net revenues (dollars in thousands) generated by our Diagnostics segment.

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[[/GREPCENT_TABLE]]

Infectious Disease Testing Market

Sales to the infectious disease testing market remained largely flat at $54.6 million in 2021 compared to $54.4 million in 2020. What difference there was resulted from increased world-wide sales of our OraQuick® HCV products and higher domestic sales of our OraQuick® HIV products partially offset by lower international sales of our OraQuick® HIV products.

The table below shows a breakdown of our total net OraQuick® HIV and HCV product revenues (dollars in thousands) during 2021 and 2020.

[[GREPCENT_TABLE]]
[["","","Years ended December 31,"],["Market","","2021","","","2020","","","% Change"],["Domestic HIV","","$","16,641","","","$","15,184","","","","10","","%"],["International HIV","","","25,503","","","","29,040","","","","(12",")"],["Net HIV revenues","","","42,144","","","","44,224","","","","(5",")"],["Domestic HCV","","","6,881","","","","4,793","","","","44"],["International HCV","","","4,902","","","","3,655","","","","34"],["Net HCV revenues","","","11,783","","","","8,448","","","","39"],["Net OraQuick\u00ae revenues","","$","53,927","","","$","52,672","","","","2","","%"]]
[[/GREPCENT_TABLE]]

Domestic OraQuick® HIV sales increased 10% to $16.6 million for the year ended December 31, 2021 from $15.2 million for the year ended December 31, 2020. This increase was primarily the result higher sales of our OraQuick® In-Home HIV test used in a Centers for Disease Control and Prevention ("CDC") initiative to drive increased in-home testing and the increased number of stores from which this product is sold. Domestic HIV sales into the public health, hospital, and physicians markets also increased due to the recovery of these markets post the COVID-19 pandemic impact in 2020.

International sales of our OraQuick® HIV products during 2021 decreased 12% to $25.5 million from $29.0 million in 2020. This decrease was largely due to the expiration of the Gates Foundation subsidy for certain international tests and challenges presented by the COVID-19 pandemic causing shipping delays and staffing issues at our customers.

Domestic OraQuick® HCV sales increased 44% to $6.9 million in 2021 from $4.8 million in 2020 due to the re-opening of testing programs previously closed as a result of the COVID-19 pandemic and as resources used for COVID-19 testing and vaccinations were starting to be redirected back to HCV testing.

International OraQuick® HCV sales increased 34% to $4.9 million in 2021 from $3.7 million in 2020 as sales into certain international markets continued to return to pre-pandemic levels.

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COVID-19 Testing Market

During the year ended December 31, 2021, COVID-19 revenues were $22.7 million driven by the first time sales of our InteliSwab® COVID-19 Rapid Test which we began shipping to customers in August.

Risk Assessment Market

Sales to the risk assessment market increased 5% to $9.7 million for the year ended December 31, 2021 from $9.2 million for the year ended December 31, 2020 due to hiring increases driven by the economic recovery from the COVID-19 pandemic.

Other revenues

Other revenues for the year ended December 31, 2021 increased 84% to $3.0 million from $1.6 million for the year ended December 31, 2020 largely due to higher research and development funding for our COVID-19 tests and the inclusion of royalty income under the terms of a new licensing agreement related to our proprietary buffer solution used for the preservation and stabilization of oral fluid specimens.

Molecular Solutions Segment

The table below shows a breakdown of total net revenues (dollars in thousands) generated by our Molecular Solutions segment for the year ended December 31, 2021 and 2020.

[[GREPCENT_TABLE]]
[["","","Years ended December 31,"],["Market","2021","","","2020","","","% Change"],["Genomics","","$","63,350","","","$","36,878","","","","72","","%"],["Microbiome","","","7,944","","","","5,474","","","","45"],["COVID-19","","","54,167","","","","50,747","","","","7"],["Laboratory services","","","11,840","","","","8,746","","","","35"],["Other product and service revenues","","","2,566","","","","935","","","","174"],["Net molecular product and services revenues","","$","139,867","","","","102,780","","","","36"],["Other","","","3,767","","","","3,701","","","","2"],["Net molecular product and services revenues","","$","143,634","","","$","106,481","","","","35","","%"]]
[[/GREPCENT_TABLE]]

Sales of our genomics products increased 72% to $63.4 million in 2021 compared to $36.9 million in 2020 as we continued to see our customers' businesses recover from the COVID-19 pandemic and strong organic growth from customers in the commercial animal markets.

Microbiome revenues increased 45% to $7.9 million in 2021 compared to $5.5 million in 2020 due to a recovery in the market from the COVID-19 pandemic.

Sales of our molecular sample collection kits for COVID-19 testing increased 7% to $54.2 million in 2021 compared to $50.7 million in 2020 due to increased demand as the COVID-19 pandemic began late in the first quarter of 2020 and testing ramped up in the second and third quarters of 2020 and continued into the first half of 2021 contributing to the revenue growth for the full year period. Demand for COVID-19 PCR testing, in which our product is used, has shown declines in the second half of 2021 as a result of the increased availability of rapid tests.

Laboratory services revenues increased 35% to $11.8 million in 2021 compared to $8.7 million in 2020, due to customers resuming activities delayed by the COVID-19 pandemic.

Other revenues in 2021 remained largely flat at $3.8 million in 2021 compared to $3.7 million in 2020 since it is largely made up of royalty income received under a litigation settlement agreement.

CONSOLIDATED OPERATING RESULTS

Consolidated gross profit percentage was 50% for the year ended December 31, 2021 compared to 59% for 2020. The decrease in gross profit percentage was primarily due to increased scrap expense, including adjustments to inventory due to excess inventory or

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obsolescence, lower labor utilization, lower subsidies for the international sale of our HIV Self-Test under the charitable support agreement with the Gates Foundation, and a less favorable product mix as a result of the decline in sales of higher gross profit percentage product, partially offset by lower payroll taxes as result of applying for an Employee Retention Credit under the Coronavirus Aid, Relief and Economic Security Act ("CARES Act"), which increased gross profit by $2.5 million.

Consolidated operating loss in 2021 was $10.2 million, which was a $5.0 million increase from the $5.2 million of operating loss reported in 2020. Results in 2021 were negatively impacted by the decline in gross margin described above coupled with increased operating expenses described below.

OPERATING INCOME BY SEGMENT

Diagnostic Segment

The gross profit percentage of the Diagnostics business was 29% in 2021 compared to 42% in 2020. This decrease was due to an increase in scrap costs associated with production and tech transfer issues associated with our InteliSwab® test and the recording of adjustments for COVID-19 antibody inventory which will not be sold, lower absorption of labor costs due to production inefficiencies, and the lower subsidies received from the Gates Foundation, partially offset by a more favorable product mix of higher gross profit percentage product sales, and lower payroll taxes resulting from the Employee Retention Credit under the CARES act.

Research and development expenses increased 13% to $24.1 million in 2021 from $21.3 million in 2020, due to higher staffing costs as a result of increased headcount and increased COVID-19 product development expenses.

Sales and marketing expenses increased 27% to $28.5 million in 2021 from $22.4 million in 2020, due to higher marketing spending associated with the introduction of our InteliSwab® test into the market, higher commissions directly related to the increase in revenues and increased consulting costs associated with business strategy planning. These increases were partially offset by a decline in our reserve for uncollectible accounts associated primarily with one of our distributors located in Africa who has paid its over-due balance.

General and administrative expenses increased 16% to $32.6 million in 2021 from $28.1 million in 2020 largely due to higher staffing costs associated with increased headcount and higher consulting costs. These increases were partially offset by lower legal fees, lower employee bonuses, a lower allocation of building costs as administrative space was repurposed for manufacturing, and increased intercompany services fees allocated to the Molecular Solutions segment.

All of the above contributed to the Diagnostics segment’s operating loss of $57.2 million for the year ended December 31, 2021, which included non-cash charges of $4.3 million for depreciation and amortization and $4.7 million for stock-based compensation. The Diagnostics segment operating loss also included a non-cash pre-tax benefit of $1.5 million associated with the change in the fair value of acquisition-related contingent consideration.

Molecular Solutions Segment

The gross profit percentage of the Molecular Solutions segment was 63% in 2021 compared to 70% in 2020. This decrease is due to a less favorable product mix associated with increased sales of lower gross profit percentage products, increased costs at our third party contract manufacturers and an increase in inventory adjustments associated with expiring or excess inventory levels.

Research and development expenses increased 4% to $10.1 million in 2021 from $9.8 million in 2020 due to increased staffing and consulting costs.

Sales and marketing expenses increased 35% to $16.3 million in 2021 compared to $12.0 million in 2020 largely due to higher staffing costs, increased consulting costs associated with business strategy planning, and an increase in our reserve for uncollectible accounts.

General and administrative expenses increased 22% to $17.7 million in 2021 compared to $14.6 million in 2020, due higher legal fees, increased intercompany service fees allocated from the Diagnostics segment, increased sales tax costs, and higher staffing costs.

All of the above contributed to operating income of $47.0 million for 2021, which included non-cash charges of $7.3 million for depreciation and amortization and $673,000 for stock-based compensation.

CONSOLIDATED INCOME TAXES

We continue to believe the full valuation allowance established in 2008 against our total U.S. deferred tax asset is appropriate as the facts and circumstances necessitating the allowance have not changed. For the year ended December 31, 2021 and 2020, we recorded income tax expense of $13.7 million and $11.4 million, respectively. Our overall tax expense recorded in both periods is largely comprised of foreign tax expense associated with our Canadian subsidiary.

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Liquidity and Capital Resources

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[[/GREPCENT_TABLE]]

Our cash and cash equivalents and available-for-sale securities decreased to $170.0 million at December 31, 2021 from $257.1 million at December 31, 2020. Our working capital decreased to $220.4 million at December 31, 2021 from $242.4 million at December 31, 2020.

During the year ended December 31, 2021, net cash used in operating activities was $35.4 million. Our net loss of $23.0 million included non-cash charges for depreciation and amortization expense of $11.7 million, stock-based compensation expense of $7.8 million, an inventory reserve of $6.7 million, deferred income tax expense of $1.0 million and other non-cash expense of $456,000. Operating activities also included a benefit for the change in the estimated fair value of acquisition-related contingent consideration of $1.5 million and a $142,000 contingent consideration payment representing the excess of the total contingent consideration payment made during the year ended December 31, 2021 over the fair value of the liability estimated at the time of acquisition. Cash used to fund our working capital accounts included an increase in inventory of $27.9 million to meet anticipated demand to support COVID-19 testing programs, an increase in prepaid expenses and other assets of $8.7 million due to an asset recorded to reflect the future receipt of an Employee Retention Credit filed with the U.S. Government under the CARES Act in 2021 and prepayments made on a manufacturing contract, an increase in accounts receivable of $6.5 million due to orders placed late in the quarter and a decrease in deferred revenue of $1.9 million due to the recognition of revenue from customer prepayments. Offsetting these uses of cash were an $3.2 million increase in accounts payable due to the timing of invoices received and payments made and an increase in accrued expenses and other liabilities of $3.3 million.

Net cash used in investing activities was $5.5 million for the year ended December 31, 2021, which reflects proceeds from the maturities and redemptions of investments of $67.9 million, offset by $25.8 million used to purchase investments. Investing activities also include $36.6 million to acquire property and equipment largely to increase our manufacturing capacity and $10.9 million used to build additional manufacturing capacity as required by the $109 million agreement with the DOD. This cash outlay will be reimbursed in 2022 and represents the timing of cash used in the fourth quarter of 2021 and submitted for reimbursement.

Net cash used in financing activities was $2.8 million for the year ended December 31, 2021, which reflects $2.1 million used for the repurchase of common stock to satisfy withholding taxes related to the vesting of restricted shares awarded to our employees, payments of lease liabilities of $686,000 and payment of our contingent consideration obligation of $264,000, partially offset by proceeds from stock option exercises of $246,000.

We expect current balances of cash and cash equivalents and available-for-sale securities to be sufficient to fund our current and foreseeable operating and capital needs. Our cash requirements, however, may vary materially from those now planned due to many factors, including, but not limited to, the timing of reimbursement under our $109 million DOD contract, the scope and timing of future strategic acquisitions, the progress of our research and development programs, the scope and results of clinical testing, the cost of any future litigation, the magnitude of capital expenditures including continued investment to expand our capacity to manufacture products for COVID-19 testing, changes in existing and potential relationships with business partners, the timing and cost of obtaining regulatory approvals, the timing and cost of future stock purchases, the costs involved in obtaining and enforcing patents, proprietary rights and any necessary licenses, the cost and timing of expansion of sales and marketing activities, market acceptance of new products, competing technological and market developments, the impact of the current economic environment and other factors. In addition, $135.8 million, or 80%, of our $170.0 million in cash, cash equivalents and available-for-sale securities belongs to our Canadian subsidiary. In 2022, we repatriated $65 million of such cash into the United States and will be required to pay withholding taxes to the Canada Revenue Agency. It is still our intention going forward to continue to permanently reinvest the historical undistributed earnings of our foreign subsidiaries.

Critical Accounting Policies and Estimates

This Management’s Discussion and Analysis of Financial Condition and Results of Operations discusses our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires that we make judgements and estimates that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. We base our judgments and estimates on historical experience and on various other factors

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that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

Our significant accounting policies are described in Note 2 of the Notes to the consolidated financial statements included in Item 15 of this Annual Report. We consider the following accounting policies, which have been discussed with our Audit Committee, to be most critical in understanding the more complex judgments that are involved in preparing our financial statements and the uncertainties that could impact our results of operations, financial condition and cash flows.

Revenue Recognition.

Product sales. Revenue from product sales is recognized upon transfer of control of a product to a customer based on an amount that reflects the consideration we are entitled to, net of allowances for any discounts or rebates.

We generally do not grant product return rights to our customers, except for (i) warranty returns, (ii) return rights on sales of our OraQuick® In-Home HIV test and (iii) return rights on some of the sales of our InteliSwab®COVID-19 Rapid Test to the retail trade.

Historically, returns arising from warranty issues have been infrequent and immaterial. Accordingly, we expense warranty returns as incurred.

We record shipping and handling charges billed to our customers as product revenue and the related expense as cost of products sold.

Service Revenues. Service revenues represent microbiome laboratory testing and analytical services. We recognize revenues when we satisfy our performance obligation for services rendered.

Arrangements with multiple-performance obligations. In arrangements involving more than one performance obligation, which largely applies to our service revenue stream, each required performance obligation is evaluated to determine whether it qualifies as a distinct performance obligation based on whether (i) the customer can benefit from the good or service either on its own or together with other resources that are readily available and (ii) the good or service is separately identifiable from other promises in the contract. The consideration under the arrangement is then allocated to each separate distinct performance obligation based on each respective relative stand-alone selling price. The estimated selling price of each deliverable is determined using an observable cost plus margin approach. The consideration allocated to each distinct performance obligation is recognized as revenue when control is transferred for the related goods or services or when the performance obligation has been satisfied.

Other revenues. Other revenues consist primarily of royalty income, funding of research and development efforts and cost reimbursements under a charitable support agreement. Royalties from licensees are based on third-party sales of licensed products and are recorded when the related third-party product sale occurs. Funding and charitable support reimbursements are recorded as the activities are being performed in accordance with the respective agreements.

Inventories.

Our inventories are stated at the lower of cost or net realizable value, with cost determined on a first-in, first-out basis, and include the cost of raw materials, labor and overhead. The majority of our inventories are subject to expiration dating, which can be extended in certain circumstances. We continually evaluate quantities on hand and the carrying value of our inventories to determine the need for reserves for excess and obsolete inventories, based on prior experience as well as estimated forecasts of product sales. We reserve for unidentified scrap or spoilage based on historical write-off rates. We also consider items identified through specific identification procedures in assessing the adequacy of our reserve. When factors indicate that impairment has occurred, either a reserve is established against the inventories’ carrying value or the inventories are completely written off, as in the case of lapsing expiration dates. Although we make every effort to ensure the accuracy of our forecasts of future product demand, any significant unanticipated changes in demand could have a significant impact on the carrying value of our inventories and reported operating results.

Deferred Tax Assets and Liabilities.

At December 31, 2021, we had federal Net Operating Loss (“NOL”) carryforwards of $188.0 million. The net deferred tax assets, before the valuation allowance, associated with these NOLs and other temporary differences were $46.8 million at December 31, 2021. Net operating losses will begin to expire in 2022. In assessing the realizability of deferred tax assets, we consider whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the period in which those temporary differences become deductible or the NOLs

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and credit carryforwards can be utilized. We consider the scheduled reversal of deferred tax liabilities, projected future taxable income and tax planning strategies in making this assessment.

We currently have a full valuation allowance recorded against our total U.S. deferred tax asset as we had determined in 2008 that it was more likely than not that we would not realize the benefits associated with our deferred tax assets. Each year, we continue to reevaluate our valuation allowance position and believe that it is more likely than not that our U.S. deferred income tax asset will not be realized. As such, we maintain a full valuation allowance as of December 31, 2021 and 2020 against our deferred tax assets associated with the operations subject to income tax in the U.S.

The Tax Reform Act of 1986 contains provisions under Internal Revenue Code (“IRC”) Section 382 that limit the annual amount of federal and state NOLs available to be used in any given year in the event of a significant change in ownership. Our ability to use our federal and state NOL carryforwards to offset future federal income tax obligations could be limited by changes in the ownership of our stock. The Company does not believe, however, that there is a Section 382 limitation that will impair our future ability to utilize NOLs to offset our future taxable income and the Company continues to review ownership changes on an annual basis.

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Business Combinations and Contingent Consideration.

Acquired businesses are accounted for using the acquisition method of accounting, which requires that the purchase price be allocated to the net assets acquired at their respective fair values. Any excess of the purchase price over the estimated fair values of the net assets acquired is recorded as goodwill. Amounts allocated to contingent consideration are recorded to the balance sheet at the date of acquisition based on their relative fair values. The purchase price allocation requires us to make significant estimates and assumptions, especially at the acquisition date, with respect to intangible assets. Although we believe the assumptions and estimates we have made are reasonable, they are based in part on historical experience and information obtained from the management of the acquired companies and are inherently uncertain.

We account for contingent consideration in accordance with applicable guidance provided within the business combination accounting guidance. As part of our consideration for our recent acquisitions, we are contractually obligated to pay certain consideration resulting from the outcome of future events. Therefore, we are required to update our underlying assumptions each reporting period, based on new developments, and record such contingent consideration liabilities at fair value until the contingency is resolved. Changes in the fair value of the contingent consideration liabilities are recognized each reporting period and included in our consolidated statements of operations. Our estimates of fair value are based on assumptions we believe to be reasonable, but the assumptions are uncertain and involve significant judgment by management. Updates to these assumptions could have a significant impact on our results of operations in any given period and any updates to the fair value of the contingent consideration could differ materially from the previous estimates.

Examples of critical estimates used in valuing certain intangible assets and contingent consideration include:

•
future expected cash flows from sales and acquired developed technologies;

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the acquired company's trade name and customer relationships as well as assumptions about the period of time the acquired trade name and customer relationships will continue to be used in the combined company's portfolio;

•
the probability of meeting the future events; and

•
discount rates used to determine the present value of estimated future cash flows.

These estimates are inherently uncertain and unpredictable, and if different estimates were used the purchase price for the acquisition could be allocated to the acquired assets and liabilities differently from the allocation that we have made. In addition, unanticipated events and circumstances may occur, which may affect the accuracy or validity of such estimates, and if such events occur, we may be required to record a charge against the value ascribed to an acquired asset or an increase in the amounts recorded for assumed liabilities.