# TREACE MEDICAL CONCEPTS, INC. (TMCI) FY 2023 MD&A

Verbatim Item 7 Management's Discussion and Analysis from TREACE MEDICAL CONCEPTS, INC.'s 10-K for fiscal year 2023.

SEC filing source: https://www.sec.gov/Archives/edgar/data/1630627/000095017024021228/tmci-20231231.htm
Accession: 0000950170-24-021228
Filing date: 2024-02-27
Report date: 2023-12-31
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary.
Confidence: high

Company profile: /company/TMCI/
All MD&A years: /company/TMCI/mda/
Previous year: /company/TMCI/mda/fy2022/ (FY 2022)
Next year: /company/TMCI/mda/fy2024/ (FY 2024)

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

You should read the following discussion and analysis of our financial condition and results of operations together with our financial statements and related notes thereto included elsewhere in this Annual Report. This discussion and other parts of this Annual Report contain forward-looking statements that involve risks and uncertainties, such as statements of our plans, objectives, expectations and intentions that are based on the beliefs of our management, as well as assumptions made by, and information currently available to, our management. Our actual results could differ materially from those discussed in these forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in the section titled "Risk Factors." Please also see the section titled "Special Note Regarding Forward-Looking Statements."

Overview

We are a medical technology company with the goal of advancing the standard of care for the surgical management of bunion and related midfoot deformities. We have pioneered our proprietary Lapiplasty 3D Bunion Correction System—a combination of instruments, implants and surgical methods designed to surgically correct all three planes of the bunion deformity and secure the unstable joint, addressing the root cause of the bunion and helping patients get back to their active lifestyles. Although bunions are deformities typically caused by an unstable joint in the middle of the foot that leads to a three-dimensional ("3D") misalignment in the foot's anatomical structure, the majority of traditional surgical approaches focus on correcting the deformity from a two-dimensional ("2D") perspective and therefore fail to address the root cause of the disorder. To effectively restore the normal anatomy of bunion patients and improve clinical outcomes, we believe addressing the root cause of the bunion is critical and have developed the Lapiplasty System to correct the deformity across all three anatomic dimensions. Our other products often used in conjunction with bunion surgery include the Adductoplasty System, the Hammertoe PEEK Fixation System, the SpeedPlate Rapid Compression Implant System, and specialized osteotomes and release instruments.

We were formed in 2013, and since receiving 510(k) clearance for the Lapiplasty System in March 2015, we have sold more than 90,000 Lapiplasty Procedure kits in the United States. We market and sell our Lapiplasty Systems to physicians, surgeons, ambulatory surgery centers and hospitals. The Lapiplasty Procedure can be performed in either hospital outpatient or ambulatory surgery centers settings, and utilizes existing, well-established reimbursement codes. We currently market and sell the Lapiplasty System and other products through a combination of a direct employee sales force and independent sales agencies across 249 territories in the United States. As of December 31, 2023, we had 227 direct sales representatives and 22 independent sales agencies. In 2023, employee sales representatives generated approximately 81% of revenues while approximately 19% of revenues came through independent sales agencies.

On February 10, 2023, we completed a follow-on public offering of 5,476,190 shares of our common stock, which included the exercise in full of the underwriters' option to purchase additional shares, at a price to the public of $21.00 per share. This offering resulted in net proceeds of approximately $107.5 million after deducting underwriting discounts and commissions of $6.9 million and offering expenses payable by us of approximately $0.6 million.

On June 12, 2023, we acquired certain assets of RPM-3D used in providing pre-operative planning and patient-specific guides for the surgical correction of foot and ankle deformities for $20.0 million in cash. In addition, we are obligated to pay additional amounts of up to $10.0 million in cash upon completion of certain milestones. This acquisition adds FDA-cleared patient specific instrumentation ("PSI") technologies and capabilities to our portfolio, building upon our pioneering 3D bunion correction and related midfoot solutions, as well as 22 additional patent applications that further expand and reinforce our global intellectual property portfolio covering technologies for the correction of bunion and related deformities.

As of December 31, 2023, we had cash and cash equivalents of $13.0 million and marketable securities of $110.2 million available for sale to fund operations, an accumulated deficit of $134.2 million and $54.0 million of principal outstanding under our term loan and revolving loan agreements.

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Economic Environment

There is continuing uncertainty in the macro-economic environment. Inflationary pressures, interest rates, recession fears and reduced consumer confidence, and ongoing supply chain challenges have resulted, and may continue to result, in higher costs and longer lead times from suppliers and potentially reduced demand for our Lapiplasty Procedure kits and other products. General economic conditions may also negatively impact demand for elective surgeries. While we continuously work with suppliers to mitigate higher costs and longer lead times and continue to invest in our direct sales channel, patient education initiatives, clinical evidence and product innovations to build demand for our products, we expect these macro-economic challenges to continue for the foreseeable future, which likely will impact our results of operations.

Key Business Metrics

We regularly review a number of operating and financial metrics, including the number of Lapiplasty Procedure kits sold, blended average revenue per Lapiplasty Procedure kit sold, the number of active surgeons using the Lapiplasty System and the surgeon utilization rate, to evaluate our business, measure our performance, identify trends affecting our business, formulate our business plans and make strategic decisions. The number of Lapiplasty Procedure kits sold during the twelve months ended December 31, 2023 increased by 5,019, or 20%, over the twelve months ended December 31, 2022. The blended average sales price per Lapiplasty Procedure kits sold was $6,306 during the twelve months ended December 31, 2023, a 10% increase over the same period in 2022. We define the blended average sales price as revenue divided by Lapiplasty Procedure kit sold that includes the revenue for all products sold from our expanding product line. The number of active surgeons as of December 31, 2023 was 2,855, an increase of 20% from the prior year. We define the number of active surgeons as the number of surgeons that performed at least one procedure using the Lapiplasty System in the trailing twelve-month period. The surgeon utilization rate for the twelve months ended December 31, 2023 increased 0.6% over the twelve months ended December 31, 2022 to an average of 10.4 Lapiplasty Procedure kits per active surgeon.

We believe that the number of Lapiplasty Procedure kits sold, blended average revenue per Lapiplasty Procedure kit sold, number of active surgeons using the Lapiplasty System and the surgeon utilization rate are useful indicators of our ability to drive adoption of the Lapiplasty System and generate revenue and are helpful in tracking the progress of our business. While we believe these metrics are representative of our current business, we anticipate these metrics may be substituted by additional or different metrics as our business grows.

Factors Affecting Our Business

We believe that our financial performance has been and in the foreseeable future, will continue to depend on many factors, including macro-economic conditions as described above, those described below, those noted in the section titled "Special Note Regarding Forward-Looking Statements" and in the section titled "Risk Factors".

Adoption of the Lapiplasty System

The growth of our business depends on our ability to gain broader acceptance of the Lapiplasty System by successfully marketing and distributing the Lapiplasty System and ancillary products. We currently have approval at over 2,200 facilities across the United States and plan to continue to increase access by marketing to more surgeons and facility administrators that our products are alternatives to traditional products used in bunion surgical procedures. While surgeon adoption of the Lapiplasty Procedure remains critical to supporting procedure growth, hospital and ambulatory surgery center facility approvals are necessary for both existing and future surgeon customers to access our products. To facilitate greater access to our products and support future sales growth, we intend to continue educating hospitals and facility administrators on the differentiated benefits associated with the Lapiplasty System, supported by our robust portfolio of clinical data. If we are unable to successfully continue to commercialize our Lapiplasty System, we may not be able to generate sufficient revenue to achieve or sustain profitability. In the near term, we expect we will continue to operate at a loss, and we anticipate we will finance our operations principally through the use of our cash and cash equivalents, marketable securities, and expected revenues. We may also raise funds by incurring debt and through offerings of our capital stock.

Investments in Innovation and Growth

We expect to continue to focus on long-term revenue growth through investments in our business. In sales and marketing, we are dedicating meaningful resources to continue to expand our sales force and management team in the United States, as well as our patient focused outreach and education campaigns. We have approximately 340 employee sales representatives, associate sales representatives, clinical specialists, and sales managers at December 31, 2023. We plan to grow this specialized team in 2024 to ensure strong surgeon support and continued market penetration.

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In research and development, our team and surgeon consultants are continually working on next-generation innovations for the surgical correction of bunions and other conditions that often present with bunions. In 2021, we launched (1) the Lapiplasty Mini-Incision System, which is designed to allow the Lapiplasty Procedure to be performed through a miniature, 3.5cm incision as compared to the current 6cm to 8cm incision, and (2) the Adductoplasty System, which brings together our implants and instrumentation to provide a comprehensive system designed for reproducible realignment, stabilization, and fusion of the midfoot to address midfoot deformities that can occur in up to 30% of bunion patients. In 2022, we introduced (1) the 3-n-1 Guide, which combines three separate instruments and three procedure steps into one instrument and step, (2) the S4A plating system, which features advanced 3D contours designed to accommodate variations in patient anatomy, and (3) the SpeedRelease Instrument, which is a single-use instrument designed to make a challenging soft tissue release performed in the majority of Lapiplasty cases easier to perform and more reproducible for the surgeon. In 2023, in addition to the acquisition of the assets of RPM-3D discussed above, we began the market release of (1) the SpeedPlate fixation platform, which can be used in the Lapiplasty and Adductoplasty Procedures, as well as other common bone fusion procedures of the foot, (2) the Hammertoe PEEK Fixation System designed to address hammertoe, claw toe and mallet toe deformities, which often present concomitantly with bunions, and (3) LapiTome and RazorTome Osteotomes, which are sterile, single-use instruments that are designed to facilitate more efficient removal and release of bone slices and soft tissue in Lapiplasty and Adductoplasty cases.

In our general and administrative functions, we expect to continue to hire personnel and expand our infrastructure to both drive and support our anticipated growth and operations as a public company. Accordingly, in the near term, we expect to have net losses from these activities, but in the longer term we anticipate they will positively impact our business and results of operations.

Seasonality

We have experienced and expect to continue to experience seasonality in our business, with higher sales volumes in the fourth calendar quarter, historically accounting for approximately 30 to 40% of full year revenues, and lower sales volumes in the subsequent first calendar quarter. Our sales volumes in the fourth quarter tend to be higher as many patients elect to have surgery after meeting their annual deductible and having time to recover over the winter holidays. Our sales volumes in subsequent first calendar quarters also tend to be lower as a result of adverse weather and by resetting annual patient healthcare insurance plan deductibles, both of which may cause patients to delay elective procedures; however, in some years the first quarter may benefit from additional sales volumes when high patient demand for surgeries in the fourth quarter cannot be fully accommodated and those surgical procedures are rolled over into the first quarter. Similar to the rest of the orthopaedic industry, we have experienced and expect to continue to experience lower sales volumes in the third quarter than throughout the rest of the year as elective procedures generally decline during the summer months.

Coverage and Reimbursement

Hospitals, ambulatory surgery centers and surgeons that purchase or use our products generally rely on third-party payors to reimburse for all or part of the costs and fees associated with procedures using our products. As a result, sales of our products depend, in part, on the extent to which the procedures using our products are covered by third-party payors, including government programs such as Medicare and Medicaid, private insurance plans and managed care programs. Based on historical claims data from 2017, approximately 63% of Lapidus cases and 60% of all bunion surgical cases were paid by private payors.

Medicare payment rates to hospital outpatient departments are set under the Medicare hospital outpatient prospective payment system, which groups clinically similar hospital outpatient procedures and services with similar costs to ambulatory payment classifications ("APCs"). Each APC is assigned a single lump sum payment rate, which includes payment for the primary procedure as well as any integral, ancillary, and adjunctive services. The primary CPT codes for the Lapiplasty Procedure, CPT 28297 and CPT 28740, are grouped together under APC 5114. For Lapiplasty Procedures in which fusion is performed on multiple TMT joints, CPT 28730 applies and is classified under APC 5115. For Adductoplasty Procedures in which fusion is performed on multiple TMT joints, either CPT 28730 or CPT 27835 applies and are classified under APC 5115.

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Components of Our Results of Operations

Revenue

We currently generate revenue from the sale of our proprietary Lapiplasty System and the minimally invasive variations, Adductoplasty System, Hammertoe PEEK Fixation System, SpeedPlate Implant Fixation Platform, single use osteotomes and release instruments, and other ancillary products. These systems bring together single-use implant kits, reusable instrument trays, and surgical techniques. We sell the kits and single use instruments and other products to physicians, surgeons, hospitals and ambulatory surgery centers in the United States through a network of employee sales representatives and independent sales agencies.

No single customer accounted for 10% or more of our revenue during 2023. We expect our revenue to increase in absolute dollars in the foreseeable future as we expand our product offerings, sales territories, new accounts and trained physician base and as existing physician customers perform more Lapiplasty Procedures, though it may fluctuate from quarter to quarter due to a variety of factors, including seasonality and the macro-economic environment.

Cost of Goods Sold

Cost of goods sold consists primarily of costs for the purchase of our products from third-party manufacturers. Direct costs from our third-party manufacturers include costs for raw materials plus the markup for the assembly of the components. Cost of goods sold also includes royalties, allocated overhead for indirect labor, certain direct costs such as those incurred for shipping our products, and personnel costs. We expense all inventory provisions for excess, obsolete and field losses as cost of goods sold. We record adjustments to our inventory valuation for estimated excess, obsolete and non-sellable inventories based on assumptions about future demand, past usage, changes to manufacturing processes and overall market conditions. We expect our cost of goods sold to increase in absolute dollars in the foreseeable future to the extent more of our products are sold, though it may fluctuate from quarter to quarter.

Gross Profit and Gross Margin

We calculate gross profit as revenue less cost of goods sold, and gross margin as gross profit divided by revenue. Our gross margin has been and will continue to be affected by a variety of factors, primarily average selling prices, production and ordering volumes, change in mix of customers and products, third-party manufacturing costs and cost-reduction strategies. We expect our gross profit to increase in the foreseeable future as our revenue grows, though our gross margin may fluctuate from quarter to quarter due to changes in average selling prices as we introduce new products, and as we adopt new manufacturing processes and technologies.

Operating Expenses

Sales and Marketing

Sales and marketing expenses consist primarily of compensation for personnel, including salaries, bonuses, benefits, sales commissions and share-based compensation, related to selling and marketing functions, surgical instrument expense, physician education programs, training, shipping costs related to sending products to our sales representatives, travel expenses, marketing initiatives including our direct-to-patient outreach program and advertising, market research and analysis and conferences and trade shows. We expect sales and marketing expenses to continue to increase in absolute dollars in the foreseeable future as we continue to invest in our direct sales force and expand our marketing efforts, and as we continue to expand our sales and marketing infrastructure to both drive and support anticipated sales growth, though it may fluctuate from quarter to quarter.

Research and Development

Research and development ("R&D") expenses consist primarily of engineering, product development, clinical studies to develop and support our products, regulatory expenses, and other costs associated with products and technologies that are in development. These expenses include compensation for personnel, including salaries, bonuses, benefits and share-based compensation, supplies, consulting, prototyping, testing, materials, travel expenses, depreciation, and an allocation of facility overhead expenses. We expect R&D expenses to continue to increase in absolute dollars in the foreseeable future as we continue to hire personnel and invest in next-generation innovations of the Lapiplasty System and other products, though it may fluctuate from quarter to quarter due to a variety of factors, including the level and timing of our new product development efforts, as well as our clinical development, clinical studies, and other related activities.

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General and Administrative

General and administrative expenses consist primarily of compensation for personnel, including salaries, bonuses, benefits and share-based compensation, related to finance, information technology, legal and human resource functions, as well as professional services fees (including legal, audit and tax fees), insurance costs, general corporate expenses and allocated facilities-related expenses. We expect general and administrative expenses to continue to increase in absolute dollars in the foreseeable future as we hire personnel and expand our infrastructure to drive and support the anticipated growth in our organization.

Interest Income

Interest income consists of interest earned on our money market funds and marketable securities.

Interest Expense

Interest expense consists of interest incurred and amortization of debt discount and issuance costs related to outstanding borrowings.

Results of Operations

Comparison of the years ended December 31, 2023 and 2022

The following table summarizes our results of operations for the periods indicated ($ in thousands):

[[GREPCENT_TABLE]]
[["","","Year Ended December 31,","","","Change"],["","","2023","","","2022","","","Amount","","","%"],["Revenue","","$","187,118","","","$","141,838","","","$","45,280","","","31.9%"],["Cost of goods sold","","","35,181","","","","25,532","","","","9,649","","","37.8%"],["Gross profit","","","151,937","","","","116,306","","","","35,631","","","30.6%"],["Operating expenses"],["Sales and marketing","","","140,894","","","","104,567","","","","36,327","","","34.7%"],["Research and development","","","15,440","","","","13,584","","","","1,856","","","13.7%"],["General and administrative","","","47,031","","","","32,999","","","","14,032","","","42.5%"],["Total operating expenses","","","203,365","","","","151,150","","","","52,215","","","34.5%"],["Loss from operations","","","(51,428",")","","","(34,844",")","","","(16,584",")","","47.6%"],["Interest income","","","6,726","","","","1,313","","","","5,413","","","*"],["Interest expense","","","(5,167",")","","","(4,398",")","","","(769",")","","17.5%"],["Debt extinguishment loss","","","\u2014","","","","(4,483",")","","","4,483","","","*"],["Other income, net","","","342","","","","(403",")","","","745","","","*"],["Other non-operating income (expense), net","","","1,901","","","","(7,971",")","","","9,872","","","(123.8)%"],["Net loss","","$","(49,527",")","","$","(42,815",")","","$","(6,712",")","","15.7%"]]
[[/GREPCENT_TABLE]]

* Not meaningful

Revenue. Revenue increased by $45.3 million, or 31.9%, in the year ended December 31, 2023, as compared to 2022. The increase was partially driven by a 20% increase in the number of Lapiplasty Procedure kits sold in 2023 compared to 2022 as the result of an expanded surgeon customer base. The increase in the volume of Lapiplasty Procedure kits sold resulted in 50.9% of the revenue growth from 2022 to 2023. The remaining revenue growth was a result of increased adoption of our newer technologies and selling more products used in bunion cases resulting in a 10% increase in average blended revenue per Lapiplasty Procedure kit sold compared to the same period in 2022.

Cost of Goods Sold, Gross Profit and Gross Margin. Cost of goods sold increased by $9.6 million, or 37.8%, in the year ended December 31, 2023, as compared to 2022. The increase in cost of goods sold was primarily due to a $6.7 million increase in direct costs of goods sold and a $0.5 million increase in royalty expense both resulting from increased sales, $1.8 million increase in overhead expenses resulting from an increase in our headcount to support our growing business, and a $0.7 million increase in inventory provisions. Gross profit increased $35.6 million from the year ended December 31, 2023 as compared to 2022, primarily due to sales growth. Gross profit margin for the year end December 31, 2023 decreased from 82.0% to 81.2%, as compared to the same period in 2022, primarily due to changes in product mix, an increase in overhead, and an increase in inventory provisions, partially offset by lower royalty rates on newer products.

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Sales and Marketing Expenses. Sales and marketing expenses increased by $36.3 million, or 34.7%, in the year ended December 31, 2023, as compared to 2022. The increase in sales and marketing expenses was due to growth in our overall business. Sales and marketing expenses increased due to an increase of $15.7 million in payroll and related expenses from increased headcount of sales and marketing personnel, an increase of $11.6 million for higher commissions from increased sales by our employee sales representatives and independent sales agencies, $2.5 million in surgeon training and clinical-related expenses, an increase of $2.2 million in surgical instrument expense, an increase of $1.9 million primarily due to higher advertising fees for direct to consumer campaigns and sales meeting costs, an increase of $1.2 million in professional services related to marketing, an increase of $0.5 million in shipping costs due to increased sales, and an increase of $0.3 million in rent expense and occupancy costs related to moving into our new headquarters building in third quarter of 2022.

Research and Development Expenses. Research and development expenses increased by $1.9 million, or 13.7%, in the year ended December 31, 2023, as compared to 2022. The increase in research and development expenses was due to increases of $0.9 million in payroll and payroll-related costs resulting from increased headcount of research and development personnel, an increase of $0.6 million in product testing and validation, and an increase of $0.3 million in rent expense and occupancy costs related to moving into our new headquarters building in third quarter of 2022.

General and Administrative Expenses. General and administrative expenses increased by $14.0 million, or 42.5%, in the year ended December 31, 2023, as compared to 2022. The increase in general and administrative expenses was primarily due to an increase of $8.9 million in payroll and payroll-related costs from increased headcount to support our growing business, an increase of $4.2 million in professional services, primarily consisting of a $3.3 million increase in accrued compensation expense related to the milestone payments for our acquisition of RPM-3D in second quarter of 2023 and a $0.9 million increase in legal expenses, an increase of $0.7 million in rent expense and occupancy costs related to moving into our new headquarters building in third quarter of 2022, and a $0.5 million increase in amortization of finite-lived intangible assets from our acquisition of RPM-3D.

Interest Income. Interest income increased by $5.4 million in 2023 as compared to 2022. The increase in interest income was due to higher cash balances invested in marketable securities during 2023 due to our equity offering in the first quarter of 2023 and higher interest rates compared to 2022.

Interest Expense. Interest expense increased by $0.8 million, or 17.5%, from the year ended December 31, 2023 as compared to 2022. The increase in interest expense was due to a higher average debt balance in 2023 compared to 2022 and slightly higher interest rates on our outstanding debt in 2023 compared to 2022.

Debt Extinguishment Loss. Debt extinguishment loss decreased by $4.5 million, for the year ended December 31, 2023 as compared to the same period of 2022 due to our debt refinancing in 2022.

For the comparison of the results of operations for the years ended December 31, 2022 and 2021, refer to our Annual Report on Form 10-K, for the year ended December 31, 2022, as filed with the U.S Securities and Exchange Commission on March 8, 2023, in Part II Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations."

Liquidity and Capital Resources

Overview

Before our IPO, our primary sources of capital were private placements of common stock and convertible preferred stock, debt financing agreements and revenue from the sale of our products. In April 2021, we received net proceeds of $107.6 million from our IPO. On February 10, 2023, we completed a follow-on public offering of 5,476,190 shares of our common stock, which included the exercise in full of the underwriters' option to purchase additional shares, at a price to the public of $21.00 per share. This offering resulted in net proceeds of approximately $107.5 million after deducting underwriting discounts and commissions of $6.9 million and offering expenses payable by us of approximately $0.6 million.

In April 2022, we entered into a five-year $150.0 million loan arrangement, initially consisting of up to $120.0 million in term loans over four tranches and up to $30.0 million in a revolving loan facility with entities affiliated with MidCap. As of December 31, 2023, we have $50.0 million under the term loan and $4.0 million under the revolving loan facility outstanding. As of December 31, 2023, tranche two ($30.0 million) of the term loan expired and is no longer available. Tranches three and four provide up to an additional $40.0 million in borrowing capacity in the aggregate, subject to the achievement of certain revenue targets.

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As of December 31, 2023, we had cash and cash equivalents of $13.0 million and marketable securities of $110.2 million available for sale, an accumulated deficit of $134.2 million and $54.0 million of principal outstanding under our term loan and revolving loan agreements. We believe that our existing cash and cash equivalents, marketable securities, available debt borrowings, and expected revenues will be sufficient to meet our capital requirements and fund our operations for at least the next 12 months from the date of the issuance of these financial statements. We may be required or decide to raise additional financing to support further growth of our operations.

Funding Requirements

We use our cash to fund our operations, which primarily includes product costs as well as our sales and marketing and R&D expenses and related personnel costs. We expect our sales and marketing expenses to increase for the foreseeable future as we continue to invest in our direct sales force and expand our marketing efforts, and as we continue to expand our sales and marketing infrastructure to both drive and support anticipated sales growth. We also expect R&D expenses to increase for the foreseeable future as we continue to hire personnel and invest in next-generation innovations of our products. In addition, we expect our general and administrative expenses to increase for the foreseeable future as we hire personnel and expand our infrastructure to both drive and support the anticipated growth in our organization. We also incur and will continue to incur additional expenses as a result of operating as a public company. In the second quarter of 2023, funds were used for the acquisition of RPM-3D, and from time to time in the future, we may also consider additional investments in technologies, assets and businesses to expand or enhance our product offerings. The timing and amount of our operating and capital expenditures will depend on many factors, including:

•
the scope and timing of our investment in our commercial infrastructure and sales force;

•
the costs of our ongoing commercialization activities including product sales, marketing, manufacturing and distribution;

•
the scope of our marketing efforts, including the degree to which we utilize direct to consumer campaigns;

•
the degree and rate of market acceptance of the Lapiplasty System and our other products;

•
the costs of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights, including enforcing our intellectual property rights against infringing products or technologies or enforcing contractual rights against parties breaching agreements with us;

•
our need to implement additional infrastructure and internal systems;

•
the research and development activities we intend to undertake in order to improve the Lapiplasty System and other products, to commercialize PSI technologies, and to develop or acquire additional products;

•
the investments we make in acquiring other technologies, assets or businesses to expand our product portfolio;

•
the success or emergence of new competing technologies or other adverse market developments;

•
the effect of inflation, interest rate changes, and other general economic conditions on our operations and business;

•
any product liability or other lawsuits related to our products;

•
the expenses needed to attract and retain skilled personnel;

•
the costs associated with being a public company; and

•
the impact of any infectious disease outbreak on our business.

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Based upon our current operating plan, we believe that our existing cash, cash equivalents, marketable securities, and available debt borrowings will enable us to fund our operating expenses and capital expenditure requirements for at least the next twelve months. We have based this estimate on assumptions that may prove to be wrong or that may change in the future, and we could utilize our available capital resources sooner than we expect. We may seek to raise any necessary additional capital through public or private equity offerings or debt financings, credit or loan facilities or a combination of one or more of these or other funding sources. Additional funds may not be available to us on acceptable terms or at all. If we fail to obtain necessary capital when needed on acceptable terms, or at all, we could be forced to delay, limit, reduce or terminate our product development programs, commercialization efforts, sales and marketing initiatives, or other operations. If we raise additional funds by issuing equity securities, our stockholders will suffer dilution and the terms of any financing may adversely affect the rights of our stockholders. In addition, as a condition to providing additional funds to us, future investors may demand, and may be granted, rights superior to those of existing stockholders. Debt financing, if available, is likely to involve restrictive covenants limiting our flexibility in conducting future business activities, and, in the event of insolvency, debt holders would be repaid before holders of our equity securities received any distribution of our corporate assets.

Cash Flows

The following table sets forth the primary sources and uses of cash and cash equivalents for the periods presented below (in thousands):

[[GREPCENT_TABLE]]
[["","","Year Ended December 31,"],["","","2023","","","2022","","","2021"],["Net cash (used in) provided by:"],["Operating activities","","$","(34,575",")","","$","(30,648",")","","$","(17,193",")"],["Investing activities","","","(81,299",")","","","(76,518",")","","","(2,705",")"],["Financing activities","","","109,383","","","","20,806","","","","107,652"],["Net increase (decrease) in cash and cash equivalents","","$","(6,491",")","","$","(86,360",")","","$","87,754"]]
[[/GREPCENT_TABLE]]

Net Cash Used in Operating Activities

Net cash used in operating activities for the year ended December 31, 2023 was $34.6 million, consisting primarily of a net loss of $49.5 million and an increase in net operating assets of $9.7 million, which were partially offset by non-cash charges of $24.7 million. The non-cash charges consist primarily of share-based compensation expense of $17.4 million, depreciation and amortization expense of $5.4 million and non-cash lease expense of $2.5 million, offset by amortization and accretion of marketable securities of $1.4 million. The increase in net operating assets was primarily due to an increase of $9.8 million in inventories to meet demand for new products and safety stock, an increase of $9.3 million in accounts receivable due to sales growth in 2023, and an increase of $1.2 million in prepaid expenses and other assets (excluding unsettled securities transactions), which were partially offset by a $7.5 million increase to accrued liabilities and a $3.2 million increase to accounts payable due to timing of payments and growth of our operations. The increase of $7.5 million in accrued liabilities consisted of an increase of $4.2 million due to timing of payments, and an increase of $3.3 million due to increased accrued compensation expense related to our acquisition of RPM-3D in the second quarter 2023.

Net cash used in operating activities for the year ended December 31, 2022 was $30.6 million, consisting primarily of a net loss of $42.8 million and an increase in net operating assets of $5.8 million, which were partially offset by non-cash charges of $18.0 million. The increase in net operating assets was primarily due to an increase in accounts receivable resulting from higher sales revenue in 2022, higher inventories resulting from higher purchases in anticipation of growing demand in 2023 and to guard against supply chain risks, and an increase in prepaid expenses and other assets due to timing of payments, which were offset by increases in accounts payable and accrued liabilities due to timing of payments and growth of our operations. The non-cash charges primarily consisted of share-based compensation expense of $8.1 million, a loss on extinguishment of debt of $4.5 million, non-cash lease amortization of $2.5 million, depreciation and amortization expense of $2.1 million, and $0.4 million in provision for doubtful accounts primarily driven by higher account receivable balances at year end.

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Net cash used in operating activities for the year ended December 31, 2021 was $17.2 million, consisting primarily of a net loss of $20.6 million and an increase in net operating assets of $1.0 million, which were partially offset by non-cash charges of $4.3 million. The increase in net operating assets was primarily due to an increase in accounts receivable resulting from higher revenues in 2021, higher inventories resulting from higher purchases in anticipation of growing demand in 2022, and an increase in prepaid expenses and other assets due to timing of payments and growth of our operations, which were offset by increases in accounts payable and accrued liabilities due to timing of payments and growth of our operations. The non-cash charges primarily consisted of depreciation and amortization expense of $0.7 million, share-based compensation expense of $3.4 million, and amortization of debt issuance costs of $0.2 million.

Net Cash Used in Investing Activities

Net cash used in investing activities for the year ended December 31, 2023 was $81.3 million consisting of $169.9 million in purchases of marketable securities available for sale, $20.0 million for the acquisition of the RPM-3D assets, and $11.5 million in purchases of property and equipment, partially offset by $120.0 million in sales and maturities of marketable securities available for sale. The purchases of marketable securities were the result of cash invested from our public offering of common stock during the first quarter of 2023. The purchases of property and equipment consist of $5.0 million in purchases of capitalized surgical instruments for our reusable instrument trays driven by higher numbers of employee sales representatives and sales growth and $6.5 million of purchases of fixed assets and leasehold improvements primarily for our new corporate headquarters building.

Net cash used in investing activities for the year ended December 31, 2022 was $76.5 million consisting of $63.4 million in purchases of marketable securities available for sale, partially offset by $1.7 million in sales and maturities of marketable securities available for sale, and $14.8 million in purchases of property and equipment. The purchases of property and equipment consist of $5.1 million in purchases of capitalized surgical instruments for our reusable instrument trays driven by higher numbers of employee sales representatives and sales growth and $8.0 million of purchases of fixed assets and leasehold improvements primarily for our new corporate headquarters building.

Net cash used in investing activities for the year ended December 31, 2021 was $2.7 million, consisting of purchases of capitalized surgical instruments for our reusable instrument trays.

Net Cash Provided by Financing Activities

Net cash provided by financing activities for the year ended December 31, 2023 was $109.4 million, consisting of $107.5 million of net cash proceeds from our public offering of common stock in the first quarter of 2023 and $1.9 million from the exercise of stock options.

Net cash provided by financing activities for the year ended December 31, 2022 was $20.8 million, consisting of $53.5 million of net cash proceeds from the term loan agreement and revolving loan facility with MidCap and $2.2 million from the exercise of stock options, partially offset by the $33.9 million repayment of the CRG Group L.P. term loan and $1.0 million of third party debt issuance costs paid to related to the new MidCap borrowings.

Net cash provided by financing activities for the year ended December 31, 2021 was $107.7 million, consisting primarily of net proceeds from our IPO of $107.6 million and $1.8 million proceeds from exercise of stock options, partially offset by repayment of our Paycheck Protection Program loan of $1.8 million.

Surgeon Advisory Board Royalty Agreements

We recognized royalties expense of $6.9 million and $6.5 million for the years ended December 31, 2023 and 2022, respectively. For the years ended December 31, 2023 and 2022, the aggregate royalty rate was 3.7% and 4.6%, respectively. Each of the royalty agreements with our surgeon consultants prohibits the payment of royalties on products sold to entities and/or individuals with whom any of the surgeon advisors is affiliated.

Operating Lease

We have commitments for future payments related to our new corporate headquarters office located in Ponte Vedra, Florida. We entered into a 10-year lease in February 2022 for our new location which expires in July 2032. Lease payments comprise the base rent plus operating costs which includes taxes, insurance, and common area maintenance. We also have commitments for future payments related to our former headquarters which expire in April 2026. We have obtained subleases for this space. The remaining lease obligations are $25.7 million under these leases.

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Critical Accounting Policies and Estimates

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

While our significant accounting policies are more fully described in Note 2, "Summary of Significant Accounting Policies," of the Notes to the Financial Statements included in this Annual Report, we believe the following discussion addresses our most critical accounting policies, which are those that are most important to our financial condition and our results of operations and require our most difficult, subjective and complex judgments.

Stock-Based Compensation

We account for stock-based compensation arrangements at fair value. We determine the fair value on the grant date for stock options using the Black-Scholes model and performance-based restricted stock unit ("PSU") awards using a Monte Carlo valuation model.

The fair value of these awards is recognized over the period during which an award holder is required to provide services in exchange for the award, known as the requisite service period, which is typically the vesting period using the straight-line method. Stock-based compensation expense is recorded net of estimated forfeitures in our Statements of Operations and are adjusted to actuals as they occur. The estimated forfeiture rate is based on historical analysis of actual forfeiture rates of similar awards.

The fair value of the stock options and PSUs are locked at grant date and will not fluctuate after grant date. However, the underlying inputs to the Black-Scholes option model and the Monte Carlo valuation model may change in the future for new grants which could impact the fair value of stock-based awards granted each year and could cause compensation expense to vary in future periods.

Goodwill and Other Intangible Assets

Our goodwill represents the excess of the cost over the fair value of net assets acquired. The determination of the value of goodwill and intangibles assets arising from acquisitions requires extensive use of accounting estimates and judgments to allocate the purchase price to the fair value of net tangible and intangible assets acquired. Goodwill is not amortized and is assessed for impairment using fair value measurement techniques on an annual basis or more frequently if facts and circumstances warrant such a review. Goodwill is considered to be impaired if we determine that the carrying value of our reporting unit exceeds its respective fair value.

We have a definite lived intangible technology asset that is reviewed for impairment upon triggering events that indicate the carrying value of the asset may not be recoverable. Recoverability is measured by a comparison of the carrying amount to future net undiscounted cash flows expected to be generated by the associated asset. If the asset's carrying value is determined to not be recoverable, the impairment to be recognized is measured by the amount by which the carry amount exceeds the fair market value of the intangible asset. Calculating cash flows for this measurement requires us to make significant estimates and assumptions related to forecasts of future revenues, expenses and discount rates. Changes in these assumptions could have a significant impact on the fair value of the technology intangible. If such assets are determined to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount exceeds the fair market value of the assets. The calculation of the fair value of the intangible assets involves Level 3 fair value measurements. Any impairment recognized could significantly impact our results of operations in the period of impairment.

Recently Issued Accounting Pronouncements

For information regarding recent accounting pronouncements and their expected impact on our future results of operations and financial condition, refer to Note 3, "Recent Accounting Pronouncements," of the Notes to the Financial Statements.

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