THOE HEAL You should read the following discussion and analysis of our financial condition and results of operations together with our audited consolidated financial statements and related notes included elsewhere in this Annual Report. This discussion contains forward-looking statements that involve risks and uncertainties, including those described in the section titled "Special Note Regarding Forward-Looking Statements." Our actual results and the timing of selected events could differ materially from those discussed below. Factors that could cause or contribute to such differences include, but are not limited to, those identified below and those set forth under the section titled "Risk Factors."
Overview
We are a science-driven wellness company pioneering innovative solutions and personalized approaches to health and well-being. We are building a new health category to deliver better health outcomes through a proactive, empowered approach. Our unique, vertically integrated brands, Thorne and Onegevity, provide actionable insights and personalized data, products and services that help individuals take a proactive approach to improve and maintain their health over their lifetime. By combining our proprietary multi-omics database, artificial intelligence (AI) and digital health content with our science-backed nutritional supplements, we deliver a total system for wellness. We believe our integrated solution will redefine the expectations for good health, peak performance and healthy aging.
Founded in 1984,
Key milestones in our growth history include:
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2011: Strategic ingredient and botanical agreement with
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2014: Clinical Study Agreement with
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2017: Launch of NSF Certified for Sport product line;
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2018: Onegevity founded; we expanded capacity by moving to a new,
state-of-the-art 272,000 square foot facility in
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2019-2020: Sponsorships of the
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2020-2021:
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2021: Completed the acquisition of the majority of the outstanding shares of
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On
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2022: Completed the acquisition of
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2022: Completed large-scale surveillance study confirming the reliability of the OneDraw™ blood collection device in remote blood sample collection at home;
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2022: Relaunched our Gut Health Test with first-to-market, user-friendly microbiome wipe technology that revolutionizes the testing experience;
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2023: Completed the acquisition of
Our revenue is generated primarily from the sale of our supplements and health tests. We have experienced significant sales growth of our supplements and health tests through the acquisition of new customers and strong customer retention.
For the years ended
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we generated net sales of
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we generated gross profit of
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we generated net income of
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our Adjusted EBITDA was
Our management's discussion and analysis of financial condition and results of
operations is based on our financial statements, which have been prepared in
accordance with generally accepted accounting principles in
Key Financial and Operating Data
Our financial profile is characterized by high growth, recurring revenue, improving gross margins, efficient customer acquisition, and free cash flow.
We measure our business using both financial and operational data and use the following metrics to assess the near-term and long-term performance of our brands and business. These metrics serve as guidance for identifying trends, formulating financial projections, making strategic decisions, assessing operational efficiencies, and monitoring our business.
We define net sales as sales of our goods and services and related shipping fees
less discounts and returns following the accounting guidelines in accordance
with
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Gross Profit
We define gross profit as net sales less cost of sales. Cost of sales consists of depreciation and amortization, product and packaging costs, including manufacturing costs, inventory freight, testing costs of all raw materials and finished goods, inventory shrinkage costs and inventory valuation adjustments, offset by reductions for promotions and percentage or volume rebates offered by our vendors.
Adjusted EBITDA and Adjusted EBITDA Margin
We calculate Adjusted EBITDA as net income adjusted to exclude: interest income (expense), net; other income (expense), net; provision for income taxes; depreciation and amortization expense; stock-based compensation expense; change in fair value of warrant liability; write-off of acquired Drawbridge in-process research and development; loss on the Drawbridge Transaction; guarantee fees; income/loss from equity interest in unconsolidated affiliates; and acquisition costs. Adjusted EBITDA Margin is calculated by dividing Adjusted EBITDA by total net sales.
We use Adjusted EBITDA and Adjusted EBITDA Margin as measures of operating performance and the operating leverage in our business. We believe that these non-GAAP financial measures are useful to investors for period-to-period comparisons of our business and in understanding and evaluating our operating results for the following reasons:
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Adjusted EBITDA and Adjusted EBITDA Margin are widely used by investors and securities analysts to measure a company's operating performance without regard to items such as stock-based compensation expense, depreciation and amortization expense, interest expense, net, other (income) expense, net, loss from non-controlling interest and provision for income taxes, each of which can vary substantially from company to company depending upon their financing, capital structures and the method by which assets are acquired;
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our management uses Adjusted EBITDA and Adjusted EBITDA Margin in conjunction with financial measures prepared in accordance with GAAP for planning purposes, including the preparation of our annual operating budget, as a measure of our core operating results and the effectiveness of our business strategy, and in evaluating our financial performance; and
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Adjusted EBITDA and Adjusted EBITDA Margin provide consistency and comparability with our past financial performance, facilitate period-to-period comparisons of our core operating results, and also facilitate comparisons with other peer companies, many of which use similar non-GAAP financial measures to supplement their GAAP results.
Our use of Adjusted EBITDA and Adjusted EBITDA Margin have limitations as analytical tools, and you should not consider these measures in isolation or as substitutes for analysis of our financial results as reported under GAAP. Some of these limitations are, or may in the future be, as follows:
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although depreciation and amortization expense are non-cash charges, the assets being depreciated and amortized may have to be replaced in the future, and Adjusted EBITDA and Adjusted EBITDA Margin do not reflect cash capital expenditure requirements for such replacements or for new capital expenditure requirements;
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Adjusted EBITDA and Adjusted EBITDA Margin exclude stock-based compensation expense, which is a recurring expense for our business and an important part of our compensation strategy;
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Adjusted EBITDA and Adjusted EBITDA Margin do not reflect: (1) changes in, or cash requirements for, our working capital needs; (2) interest expense, or the cash requirements necessary to service interest or principal payments on our debt, which reduces cash available to us; (3) tax payments that may represent a reduction in cash available to us; or (4) the use of net operating loss (NOL) carryforwards are non-cash items that can have an impact on GAAP performance, but may not reflect the continuing operating results of our business; and
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the expenses and other items that we exclude in our calculation of Adjusted EBITDA and Adjusted EBITDA Margin may differ from the expenses and other items, if any, that other companies may exclude from Adjusted EBITDA when they report their operating results and we may, in the future, exclude other significant, unusual or non-recurring expenses or other items from these financial measures.
Because of these limitations, Adjusted EBITDA and Adjusted EBITDA Margin should be considered along with other operating and financial performance measures presented in accordance with GAAP.
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The following table presents a reconciliation of Adjusted EBITDA to net income, the most directly comparable financial measure prepared in accordance with GAAP, for each of the periods indicated:
Year Ended December 31,
2021 2022
EBITDA Calculation and Reconciliation
Net income $ 6,844,798 $ 14,932,657
Depreciation and amortization 4,453,057 5,823,357
Interest expense, net 449,908 26,328
Income tax expense (benefit) 411,919 (7,309,658 )
EBITDA $ 12,159,682 $ 13,472,684
EBITDA margin 6.6 % 5.9 %
Adjustments
Stock-based compensation 4,554,024 11,335,299
Change in fair value of warrant liability (1,872,364 ) (999,223 )
Write-off of acquired Drawbridge in-process research and development
1,563,015 -
Loss on Drawbridge Transaction 165,998 -
Guarantee fees 336,915 -
Loss from equity interest in unconsolidated
affiliates 3,664,058 173,976
Acquisition Costs - 519,236
Adjusted EBITDA $ 20,571,328 $ 24,501,972
Adjusted EBITDA margin 11.2 % 10.7 %
Free Cash Flow
We define free cash flow as net cash provided by operating activities less capital expenditures, which consist of purchases of property and equipment as well as purchase of licensing agreements. Accordingly, we believe that free cash flow provides useful information to investors and others in understanding and evaluating our operating results in the same manner as our management and board of directors. Free cash flow may be affected in the near-to medium-term by the timing of capital investments, such as purchases of machinery, information technology and other equipment, the launch of new fulfillment centers, customer service centers and new products, fluctuations in our growth and the effect of such fluctuations on working capital and changes in our cash conversion cycle due to increases or decreases of customer and vendor payment terms as well as inventory turnover. We expect free cash flow to increase over the long term as investments made in prior years drive increased profitability. If we experience an unforeseen increase in demand, we may need to make additional capital investments in manufacturing facility expansion.
The following table presents a reconciliation of free cash flow to net cash provided by operating activities, the most directly comparable financial measure prepared in accordance with GAAP, for each of the periods indicated:
Year Ended December 31,
2021 2022
Free Cash flow Calculation
Net cash provided by operating activities
(4,311,015 ) (17,112,171 )
Purchase of licensing agreements (750,457 ) (750,000 )
Free cash flow $ 4,022,814 $ (12,640,267 )
Number of Subscriptions
We define subscriptions as orders resulting from direct-to-consumer (DTC) customers opting in to automatic refills or orders that are recurring on Thorne.com and on Amazon.com via our authorized reseller. Our subscription programs on both platforms offer automatic ordering, payment and delivery of our products to a customer's doorstep.
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Subscription Sales as a Percentage of Net DTC Sales
We define subscription sales as sales generated from retail subscription orders on Thorne.com and on Amazon.com via our authorized reseller within a given period. Subscription sales are taken as a percentage of net sales from all DTC orders in that same period. We view subscription sales as a percentage of net DTC sales as a key indicator of our recurring sales and customer retention.
Annual LTV to CAC
We define annual life-time value (LTV) to customer acquisition costs (CAC) as LTV from a specific calendar year divided by the CAC of that same year. Annual LTV is defined as the average gross contribution per purchasing DTC customer within a particular calendar year divided by one less the customer retention rate (Churn Rate) during the same period. Average gross contribution is defined as the cumulative revenue from our DTC customers during a calendar year less the cost of goods divided by the number of purchasing DTC customers in the same period. To arrive at the annual LTV for a particular calendar year, we divide the average gross contribution by that year's Churn Rate. Annual CAC is defined as the total advertising and marketing expenses, inclusive of cooperative advertising costs treated as a reduction of net sales, less headcount and associated benefit expenses as well as costs attributed to value-in-kind, product samples, and sponsorships for professional and B2B customers, divided by the number of DTC customers who placed their first order during that same calendar year. We view the annual LTV to CAC ratio as a key indicator for marketing efficiency.
Orders per Customer per Year
We define orders per customers per year as the total number of sales orders placed by our DTC customers in a given year divided by the total number of DTC customers who purchased within that same period. We view orders per customer per year as a key indicator of our customers' purchasing patterns, including their initial and repeat purchase behavior, and as an indication of the desirability of our products to our customers. We expect orders per customer per year to remain steady or increase modestly over the long term as we continue to grow and acquire new customers and as our customers continue to demand our high-quality products.
Factors Affecting Our Performance
Ability to Increase Brand Awareness and Attract New Customers
Our long-term growth will depend on our continued ability to attract new customers. Our historical growth was largely driven by organic customer acquisition. We are still in the early stages of our growth and believe we can significantly expand our customer base as we increase brand awareness. Growing brand awareness through efficient, impactful communications and through building brand equity and loyalty is central to our marketing and growth strategy. We believe optimizing the message of our brand as one that defies expectations of good health differentiates us and is key to our ability to attract customers and retain them within our ecosystem. As our brand awareness grows, we intend to strengthen our reach across demographics and markets.
Growth in Our Subscriptions
We offer our customers the ability to opt in to recurring automatic refills on both our website and on Amazon.com via our authorized reseller. On both platforms, a customer can cancel or modify a subscription at any time at no cost to the customer. On our website, we allow customers to subscribe monthly, every 45 days, every two months, every three months, or every four months. For all these frequencies, we offer a 10% discount on retail refill orders when a customer is subscribed to 1 to 2 products, and a 20% discount when subscribed to 3 or more products, with an average discount of approximately 17%. On Amazon.com, the discount ranges from 5% to 10% to 15% depending on the product and the number of products to which a customer is subscribed, with an average discount of approximately 6%.
We view our growing subscription business on Thorne.com and on Amazon.com via
our authorized reseller as a key driver of future sales growth. Our
subscriptions grew from 257,070 as of
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Efficiency of Spending on Advertising and Marketing
We are disciplined in measuring and managing CAC and LTV of our customers. We are consistently looking for new ways to acquire customers more efficiently, grow revenue per customer, and retain our customers for longer periods of time. In 2022, we implemented a holistic, full funnel strategy that balanced long term brand objectives with performance marketing goals using a mix of paid, owned, and earned media. We take a data-driven approach to managing our marketing campaigns constantly optimizing and adjusting to improve performance.
At the end of
Despite reducing Marketing spend by
We experience high retention, repeat purchases and low CAC, as seen by our 2021 and 2022 LTV to CAC ratios of 4.5x and 4.6x, respectively.
Ability to Engage and Retain Our Existing Customers
Our success is impacted not only by efficient and profitable customer acquisition, but also by our ability to retain customers and encourage repeat purchases. In 2022, 42.7% of our DTC sales were generated from new, first-time purchasers versus 57.3% from existing customers on Thorne.com. We deepen our relationships with our customers and drive retention by engaging them with digital health content and educational resources. Out of our total 2022 DTC sales, we estimate 35% were generated from recurring subscriptions to end consumers on Thorne.com and on Amazon.com via our authorized reseller. We expect the growth in net sales each year to continue as we generate and grow sales from existing customers and from newly acquired customers.
Health Professionals
Our network of 47,000 health professionals helps serve two key purposes. First, it allows us to distinguish our brand by offering both credibility and validation to patients at times when the industry has struggled with trust. Secondly, health professionals carry, promote and distribute our products to consumers. Based on a 2018 survey conducted with 1,188 consumers, primary care physicians were identified as the most common entry point for supplement category consumers with nearly 60% of patients looking to their primary care providers when considering which supplements to buy. Therefore, retention and expansion of our professional network is important to our strategy.
Ability to Invest
We expect to continue to make investments across our business to drive growth and therefore we expect expenses to increase. We plan to continue to invest in sales and marketing to drive demand for our products and services. We expect to continue to invest in research and development to enhance our platform, develop new nutritional supplements, expand our testing portfolio, grow our multi-omics database and AI capabilities and improve our brand ecosystem's infrastructure.
Ability to Grow in New Geographies
Entering new geographic markets requires us to invest in distribution and marketing, infrastructure and personnel. Our international growth will depend on our ability to sell in international markets. In 2022, we shipped to 29 countries. We believe capital investment coupled with our regulatory expertise will lead to promising results. However, international sales are dependent upon local regulations and custom practices, which both change continuously.
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Components of our Operating Results
Our net sales consist of sales of our nutritional supplements, health tests and sales associated with our services leveraging our AI and multi-omics databases, such as product development services. We recognize net sales when control over the product has transferred to customers in accordance with our revenue recognition policy.
Cost of Sales
Cost of sales consists of depreciation and amortization, product and packaging costs, including manufacturing costs, inventory freight, testing costs of all raw materials and finished goods, inventory shrinkage costs and inventory valuation adjustments, offset by reductions for promotions and percentage or volume rebates offered by our vendors, which may depend on reaching minimum purchase thresholds. We expect cost of sales to increase on an absolute dollar basis and improve as a percentage of net sales over the long term.
Operating Expenses
Operating expenses consist of:
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sales and marketing;
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research and development;
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payroll and related expenses for employees involved in general corporate functions, including accounting, finance, tax, legal and human resources;
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costs associated with use by these functions, such as depreciation expense and rent relating to facilities and equipment;
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professional fees and other general corporate costs;
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stock-based compensation; and
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fulfillment costs.
Marketing expenses consist of performance marketing media spend, asset creation, and other brand creation, as well as sales and marketing personnel-related expenses. We intend to continue to invest in our sales and marketing capabilities in the future and expect this increase in absolute dollars in future periods as we release new products and expand internationally. Sales and marketing expense as a percentage of net sales may fluctuate from period to period based on net sales and the timing of our investments in our sales and marketing functions as these investments may vary in scope and scale over future periods.
Our research and development expenses support our efforts to add new features to our existing solutions and to ensure the reliability and scalability of our product development and testing. Research and development expenses consist of personnel expenses, including salaries, bonuses, stock-based compensation expense and benefits for employees and contractors for our engineering, product, and design teams and allocated overhead costs. We have expensed our research and development costs as they were incurred, except those costs that have been capitalized as software development costs.
We plan to hire employees for our science and engineering team to support our research and development efforts. We expect that research and development expenses will increase on an absolute dollar basis in the foreseeable future as we continue to increase investments in our technology platform. However, our research and development expenses may fluctuate as a percentage of revenue from period to period due to the timing and amount of these expenses.
Fulfillment costs represent costs incurred in operating, manufacturing, staffing order fulfillment and customer service teams, including costs attributable to buying, receiving, inspecting and warehousing inventories, picking, packaging and preparing customer orders for shipment, payment processing and related transaction costs and responding to inquiries from customers. Included within fulfillment costs are merchant processing fees charged by third parties that provide merchant processing services for credit cards.
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We expect to incur additional expenses as a result of operating as a public
company, including expenses to comply with the rules and regulations applicable
to companies listed on the Nasdaq, expenses related to compliance and reporting
obligations pursuant to the rules and regulations of the
Interest expense, net
Interest expense, net consists primarily of interest earned on cash we hold, and interest incurred on borrowings.
Income Tax Provision
Our income tax provision consists of an estimate of federal and state income taxes based on enacted federal and state tax rates, as adjusted for allowable credits, deductions and uncertain tax positions. Our income tax provision consists of cash taxes paid during the year in review.
Results of Operations
The following table summarizes our results of operations for each of the periods
indicated:
Years Ended December 31,
2021 2022
Net sales $ 184,301,485 $ 228,731,362
Cost of sales 87,892,579 113,797,288
Gross profit 96,408,906 114,934,074
Gross margin 52.3 % 50.2 %
Operating expenses:
Research and development 5,935,514 7,423,884
Marketing 22,768,555 26,442,805
Selling, general and administrative 56,389,672 75,586,115
Write-off of acquired Drawbridge in-process research
and development 1,563,015 - Income from operations 9,752,150 5,481,270 Other income: Interest expense, net (449,908 ) (26,328 ) Guarantee fees (336,915 ) - Change in fair value of warrant liability 1,872,364 999,223 Loss on Drawbridge Transaction (165,998 ) - Other income, net 249,082 1,342,810 Total other income, net 1,168,625 2,315,705
Income before income taxes and loss from equity
interest in unconsolidated affiliates 10,920,775 7,796,975 Income tax expense (provision) 411,919 (7,309,658 ) Net income before loss from equity interest in unconsolidated affiliates 10,508,856 15,106,633 Loss from equity interest in unconsolidated affiliates (3,664,058 ) (173,976 ) Net income 6,844,798 14,932,657 Net loss-non-controlling interest (408,625 ) (741,383 ) Net income attributable to Thorne HealthTech, Inc 7,253,423 15,674,040 Undistributed earnings attributable to Series E convertible preferred stockholders (3,507,892 ) - Net income attributable to common stock-basic$ 3,745,531 $ 15,674,040 Net income attributable to common stockholders-diluted$ 3,349,308 $ 15,674,040 Earnings per share: Basic$ 0.14 $ 0.30 Diluted$ 0.10 $ 0.30 Weighted average common shares outstanding: Basic 27,478,411 52,757,834 Diluted 32,328,565 52,757,834 75
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Net sales
Net sales consist of sales of our products and services, net of discounts and
customer returns. We enter into transactions and makes payments to certain of
our customers related to advertising, some of which involve cooperative
relationships with customers. When no distinct good or service is received in
exchange for consideration, or if the fair value of the benefit cannot be
reasonably estimated, the Company records its share of the costs for these
transactions paid to customers as a reduction of the transaction price within
net sales. The Company recorded
Net sales for the year ended
The DTC channel continued to be a significant growth catalyst through efficient new customer acquisition, including an increasing base of active subscriptions, strong customer satisfaction metrics and stable retention. We believe our steady pace of innovation with the launch of new premium offerings and customer engagement tools has increased our value proposition to customers. Similarly, Professional/B2B channel sales benefited from heightened brand awareness and ongoing delivery of science-backed solutions that increase personalization and improve user experiences. As heightened awareness of the benefits of a healthy lifestyle and the consumerization of healthcare on a global scale have significantly increased the size of our end markets, we believe successful execution of our core strategies will continue to drive significant increases in net sales above industry growth rates.
Cost of Sales and Gross Profit
The following table summarizes our cost of sales and gross profit for the
periods indicated:
Years Ended December 31,
Percent
2021 2022 Change Change
Net Sales $ 184,301,485 $ 228,731,362 $ 44,429,877 24.1 %
Cost of sales 87,892,579 113,797,288 25,904,709 29.5 %
Percent of net sales 47.7 % 49.8 % 210 bps 4.4 %
Gross profit $ 96,408,906 $ 114,934,074 $ 18,525,168 19.2 %
Percent of net sales 52.3 % 50.2 % -210 bps (4.0 )%
We currently believe that the benefit of our anticipated net sales growth, product pricing strategies, sales mix shift towards the DTC channel and new product innovations will be partially offset by sustained higher costs in the near term. However, we also currently believe that gross profit as a percentage of net sales will increase over time primarily from (i) incremental improvements in macroeconomic conditions and (ii) as we begin realizing the benefits of greater scale and operational efficiencies expected to be achieved following completion of the construction of our new world-class production facility, which is currently in progress.
Cost of sales for the year ended
Gross profit for the year ended
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Operating Expenses
The following table summarizes our operating expenses for periods indicated:
Years Ended December 31,
Percent
2021 2022 Change Change
Net sales $ 184,301,485 $ 228,731,362 $ 44,429,877 24.1 %
Operating expenses:
Stock-based compensation 4,554,024 10,913,207 $ 6,359,183 139.6 %
Percent of net sales 2.5 % 4.8 % 230 bps 92.0 %
Depreciation and amortization 2,441,405 3,016,573 $ 575,168 23.6 %
Percent of net sales 1.3 % 1.3 % 0 bps -
Non-cash lease expense 1,590,062 883,105 $ (706,957 ) (44.5 )%
Percent of net sales 0.9 % 0.4 % -50 bps (55.6 )%
Change in receivables reserve (249,468 ) 266,667
-0.1 % 0.1 % 20 bps (200.0 )%
Other marketing 22,768,555 25,367,447 $ 2,598,892 11.4 %
Percent of net sales 12.4 % 11.1 % -130 bps (10.5 )%
Other research and development 5,486,126 6,065,297 $ 579,171 10.6 %
Percent of net sales 3.0 % 2.7 % -30 bps (10.0 )%
Other selling, general and
administrative expenses 48,503,037 62,940,508 $ 14,437,471 29.8 %
Percent of net sales 26.3 % 27.5 % 120 bps 4.6 %
Write-off of acquired
Drawbridge in-process research
and development 1,563,015 - $ (1,563,015 ) (100.0 )%
Percent of net sales 0.8 % 0.0 % -80 bps (100.0 )%
Total Operating expenses $ 86,656,756 $ 109,452,804 $ 22,796,048 26.3 %
Percent of net sales 47.0 % 47.9 % 90 bps 1.9 %
Total operating expenses for the year ended
Other selling, general and administrative expenses for the year ended
Other marketing expenses for the year ended
Other research and development expense for the year ended
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Interest Expense, Net
The following table summarizes our interest expense, net for the periods
indicated:
Years Ended December 31,
Percent
2021 2022 Change Change
Interest expense, net $ 449,908 $ 26,328 $ (423,580 ) (94.1 )%
Percent of net sales 0.2 % 0.0 % -20 bps (100.0 )%
Interest expense, net for the year ended
Liquidity and Capital Resources
Historically and through
Based on current conditions, we believe we have sufficient financial resources to fund our activities and execute our business plans. However, the cost of obtaining financing for our projects needs may increase significantly or such financing may be difficult to obtain.
As of
As of
Our estimated capital needs for 2023 include approximately
Our capital expenditures primarily relate to leasehold improvements and
footprint expansion for our manufacturing and distribution facility located in
In addition, we estimate approximately
We expect to finance these requirements with (i) the sources of liquidity described above; (ii) positive cash flows from our operations; and (iii) future project financings and re-financings. Management believes that, based on the current stage of implementation of our business plan, the sources of liquidity and capital resources described above will address our anticipated liquidity, capital expenditures, and other investment requirements.
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Sources and Uses of Our Cash and Cash Equivalents
Operating Activities
Cash provided by operating activities consisted of net income, adjusted for non-cash items, including depreciation and amortization, stock-based compensation, change in fair value of warrant liability and certain other non-cash items, as well as the effect of changes in working capital and other activities.
Net cash provided by operating activities was
Net cash provided by operating activities was
Investing Activities
Our primary investing activities consisted of purchases of property and equipment, mainly to increase our manufacturing and fulfillment capabilities to support our growth, as well as leasehold improvements. Use of cash for investing activities also includes payments to support agreements with non-consolidated subsidiaries and the purchase and use of certain license and research agreements.
Net cash used in investing activities was
Net cash used in investing activities was
Financing Activities
Net cash provided by financing activities was
Net cash provided by financing activities was
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Contractual Obligations and Commitments
We have contractual obligations in the form of noncancelable leases and
equipment loans. Future minimum payments due in the next 12 months under our
leases and outstanding equipment loans are
Considering recent market conditions, we have reevaluated our operating cash flows and cash requirements and continue to believe that current cash and future cash flows from operating activities will be sufficient to meet our anticipated cash needs, including working capital needs, capital expenditures, and contractual obligations for at least 12 months from the issuance date of the consolidated financial statements included herein.
Our future capital requirements will depend on many factors, including our revenue growth rate, our working capital needs primarily for inventory build, our global footprint, the expansion of our marketing activities, the timing and extent of spending to support product development efforts, the introduction of new and enhanced products and the continued market consumption of our products. We may seek additional equity or debt financing in the future in order to acquire or invest in complementary businesses, products and/or new supportive infrastructures. In the event that we require additional financing, we may not be able to raise such financing on terms acceptable to us or at all. If we are unable to raise additional capital or general cash flows necessary to expand our operations and invest in continued product innovation, we may not be able to compete successfully, which would harm our business, operations, and financial condition.
Off Balance Sheet Arrangements
We currently do not have, and did not have during the periods presented, any off-balance sheet arrangements.
Critical Accounting Estimates
Our management's discussion and analysis of financial condition and results of
operations is based on our financial statements, which have been prepared in
accordance with generally accepted accounting principles in
While our significant accounting policies are described in more detail in the notes to our consolidated financial statements, we believe that the following accounting policies are those most critical to the judgments and estimates used in the preparation of our consolidated financial statements.
Revenue Recognition
Under ASC 606, we account for revenue using the following steps:
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identify the contract, or contracts, with a customer;
•
identify the performance obligations in the contract;
•
determine the transaction price
•
allocate the transaction price to the identified performance obligations; and
•
recognize revenue when, or as, we satisfy the performance obligations.
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We recognize revenues when control of the promised goods or services is transferred to its customers in an amount that reflects the consideration we expect to be entitled in exchange for those goods or services. We consider several factors in determining that control transfers to the customer upon shipment. These factors include that legal title transfers to the customer, we have a present right to payment, and the customer has assumed the risks and rewards of ownership at the time of shipment. Shipping and handling costs are considered a fulfillment activity and are expensed as incurred. Our standard business practice is to collect upfront payment for its products for direct-to-consumer sales and to recognize a receivable for sales to distributors when the performance obligation is satisfied.
Certain distributors resell our products in online marketplaces, however no
inventories are held on consignment; revenue is recognized when control of the
goods is transferred to these distributors, whom are ultimately our customers,
which is typically at the time of shipment. The terms of payment over the
recognized receivables from distributors are less than one year and therefore
these sales do not have any significant financing components. We use standard
business practices and standard price lists in determining the transaction
price. Any discounts stated or implied are allocated entirely to the sole
performance obligation. We primarily sell to customers throughout
We have elected to exclude sales tax for non-exempt customers from the transaction price and is therefore excluded from revenue. For certain sales, we incur incremental costs of obtaining the contract through the form of sales commissions. The sales commissions incurred are directly correlated to the sales generated and are therefore expensed as incurred as the amortization period of the asset that otherwise would have been recognized is one year or less.
The Company sells direct to consumers online through a Company owned and operated website. Revenue from online sales is recognized at time of shipment of the product. In addition, the Company sells testing services and test kits. Testing services and testing kits are recorded as revenue when the testing results are provided to the customer. Shipping and handling costs are considered a fulfillment activity and are expensed as incurred. Further, the Company sells its products to a distributor for sales direct to consumers on Amazon.com. Revenue from sales to the distributor is recognized at the time of shipment of the product to the distributor.
The Company offers its customers the ability to opt in to recurring automatic refills. Revenue is recognized under the subscription program when product is shipped to the consumer. No funds are collected at the time a consumer signs up for a subscription and the customer can cancel or modify a subscription at any time at no cost to the customer. On the Company website, customers are allowed to subscribe at a frequency of monthly, every 45 days, every 2 months, every 3 months, or every 4 months. For all frequencies, a 10% discount is offered on retail refill orders when a customer is subscribed to 1 to 2 products and a 20% discount when subscribed to 3 or more products, the discount ranges from 5% to 10% to 15% depending on the number of products to which a customer is subscribed. The Company records revenues, net of estimated discounts.
If a customer is not satisfied for any reason with a product purchased, the customer can return it to the place of purchase to receive a refund, a credit, or a replacement product. The return or refund request must be submitted within 60 days of the date of purchase. The Company estimates returns and accrues for potential returns based on historical data.
There are no material differences in our revenue recognition policy between one-time purchases and subscription purchases of our products.
Stock-Based Compensation
We account for stock-based compensation by measuring and recognizing compensation expense for all share-based awards made to employees and non-employees based on estimated grant-date fair values. We use the straight-line method to allocate compensation cost to reporting periods over the requisite service period, which is generally the vesting period. We recognize actual forfeitures by reducing the stock-based compensation in the same period as the forfeitures occur. We estimate the fair value of share-based awards to employees and non-employees using the Black-Scholes option-pricing valuation model. The Black-Scholes model requires the input of subjective assumptions, including fair value of common stock, expected term, expected volatility, risk-free interest rate, and expected dividend yield, which are described in greater detail below.
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Estimating the fair value of equity-settled awards as of the grant date using the Black-Scholes option pricing model is affected by assumptions regarding a number of complex variables. Changes in the assumptions can materially affect the fair value and ultimately how much stock-based compensation is recognized. These inputs are subjective and generally require significant analysis and judgment to develop. These inputs are as follows:
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Fair value of common stock - Prior to our IPO, there was no public market for
our common stock. As such, the estimated fair value of our common stock and
underlying stock options has been determined at each grant date by our board of
directors, with input from management, based on the information known to us on
the grant date and upon a review of any recent events and their potential impact
on the estimated per share fair value of our common stock. As part of these fair
value determinations, our board of directors obtained and considered valuation
reports prepared by a third-party valuation firm in accordance with the guidance
outlined in the
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Expected term - The expected term for options granted to employees and directors represents the average period that our options granted are expected to be outstanding and is determined using the simplified method (based on the mid-point between the weighted-average vesting date and the end of the contractual term). We have very limited historical information to develop reasonable expectations about future exercise patterns and post-vesting employment termination behavior for our stock option grants. The expected term for options granted to non-employees is the contractual term.
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Expected volatility - As we had no publicly available stock price information prior to our IPO and limited publicly available stock price information subsequent to our IPO, the expected volatility was estimated based on the historical average volatility for comparable publicly traded life sciences technology companies over a period equal to the expected term of the stock option grants. The comparable companies were chosen based on their similar size, life cycle stage, or area of specialty. We will continue to apply this process until enough historical information regarding the volatility of our own stock price becomes available.
•
Risk-free interest rate - The risk-free interest rate is based on the
•
Expected dividend yield - We have never paid dividends on our common stock and have no plans to pay dividends on our common stock. Therefore, we used an expected dividend yield of zero.
We will continue to use judgment in evaluating the expected volatility, expected terms, and interest rates utilized for our stock-based compensation calculations on a prospective basis. Assumptions we used in applying the Black-Scholes option-pricing model to determine the estimated fair value of our stock options granted involve inherent uncertainties and the application of significant judgment. As a result, if factors or expected outcomes change and we use significantly different assumptions or estimates, our equity-based compensation could be materially different.
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Warrant Liability
We determine the accounting classification of a warrant, as either liability or equity, by first assessing whether the warrant meets liability classification in accordance with ASC 480, Distinguishing Liabilities from Equity (ASC 480), and then in accordance with ASC 815-40, Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company's Own Stock (ASC 815-40). If the warrant does not meet liability classification under ASC 480, we assess the requirements under ASC 815-40, including whether the warrant is indexed to our common stock and whether the warrant meets the other requirements to be classified as equity under ASC 815-40. After all relevant assessments are made, we conclude whether the warrant should be classified as liability or equity.
We have warrants that are classified as a liability on our consolidated balance sheet. The warrants classified as a liability are measured at fair value using the Black-Scholes pricing model which takes into account, as of the valuation date, factors including the current exercise price, the contractual life of the warrant, the current fair value of the underlying stock, its expected volatility, and the risk-free interest rate for the term of the warrant. The warrant liability is revalued at each reporting period and changes in fair value are recognized in the consolidated statements of operations. The selection of the appropriate valuation model and the inputs and assumptions that are required to determine the valuation requires significant judgment and requires management to make estimates and assumptions that affect the reported amount of the related liability and reported amounts of the change in fair value. Actual results could differ from those estimates, and changes in these estimates are recorded when known. As the warrant liability is required to be measured at fair value at each reporting date, it is reasonably possible that these estimates and assumptions could change in the near term.
Common Stock Valuations
The fair value of our equity instruments has historically been determined based
on information available at the time of granting. Given the absence of a public
trading market for our equity, and in accordance with the
These factors included:
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our operating and financial performance;
•
current business conditions and projections;
•
the lack of marketability of our shares;
•
using third-party experts to support the valuation of the shares; and
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the market performance of comparable publicly-traded companies.
In valuing our equity instruments, we determined the equity value of our business using a weighted blend of the income and market approaches. The income approach estimates the fair value of a company based on the present value of such company's future estimated cash flows and the residual value of such company beyond the forecast period. These future values are discounted to their present values to reflect the risks inherent in such company achieving these estimated cash flows.
Significant inputs of the income approach, in addition to our estimated future cash flows themselves, include the long-term growth rate assumed in the residual value, discount rate and normalized long-term operating margin. The terminal value was calculated to estimate our value beyond the forecast period by applying valuation metrics to the final year of our forecasted net sales and discounting that value to the present value using the same weighted average cost of capital applied to the forecasted periods.
Application of these approaches involves the use of estimates, judgment and assumptions that are highly complex and subjective, such as those regarding our expected future revenue, expenses and future cash flows, discount rates, market multiples, the selection of comparable companies and the probability of possible future events. Changes in any or all of these estimates and assumptions or the relationships between those assumptions impact our valuations as of each valuation date and may have a material impact on the valuation of our common stock.
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Income Taxes
Income taxes are accounted for using an asset and liability approach that
requires the recognition of deferred tax assets and liabilities for the expected
future tax consequences of events that have been included in the consolidated
financial statements. Under this method, deferred tax assets and liabilities are
determined based on the differences between the financial statement and tax
basis of assets and liabilities using enacted tax rates in effect for the year
in which the differences are expected to reverse. The effect of a change in tax
rates on deferred tax assets and liabilities is recognized in income in the
period that includes the enactment date. A valuation allowance is provided when
it is more likely than not that some portion or all of the net deferred tax
assets will not be realized. We recognize the tax benefit from uncertain tax
positions if it is more likely than not the tax positions will be sustained on
examination by the tax authorities, based on the technical merits of the
position. The tax benefit is measured based on the largest benefit that has a
greater than 50% likelihood of being realized upon ultimate settlement. We
recognize interest and penalties related to income tax matters in income tax
expense.
As of
In general, under Section 382 of the Internal Revenue Code of 1986, as amended (the Code), a corporation that undergoes a defined "ownership change" is subject to limitations on its ability to utilize its NOLs carryforwards to offset future taxable income. The annual limitation is based on the Company's stock value prior to the ownership change, multiplied by the applicable federal long-term, tax-exempt interest rate.
During 2022, we completed a Section 382 study and concluded that an ownership
change under Section 382 occurred as a result of an equity event in 2018,
resulting in a Section 382 limitation that applies to all Health Elements, LLC
NOLs prior to the 2018 equity event. We have adjusted our NOL carryforwards to
address the impact of the Section 382 ownership changes. This resulted in a
reduction of available federal and state NOLs of
Future changes in our stock ownership, the causes of which may be outside of our
control, could result in ownership change under Section 382 of the Code. If we
undergo a deemed ownership change in the future, our NOLs arising before such an
ownership change may be subject to one or more Section 382 limitations that
materially limit the use of such NOLs to offset our taxable income. Our ability
to utilize NOLs of companies that we have acquired or may acquire in the future
may also be subject to limitations. Further, our NOLs may be impaired under
state laws. In addition, under the 2017 Tax Cuts and Jobs Act (Tax Act), as
modified by the Coronavirus Aid, Relief, and Economic Security Act (CARES Act),
NOLs arising in taxable years beginning after
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Recent Accounting Pronouncements
See Note 2 to our consolidated financial statements included elsewhere in this Annual Report for more information about recent accounting pronouncements, the timing of their adoption, and our assessment, to the extent we have made one yet, of their potential impact on our financial condition of results of operations.
Emerging Growth Company Status
We are an emerging growth company, as defined in the JOBS Act. Under the JOBS
Act, emerging growth companies can delay adopting new or revised accounting
standards issued subsequent to the enactment of the JOBS Act until such time as
those standards apply to private companies. Other exemptions and reduced
reporting requirements under the JOBS Act for emerging growth companies include
presentation of only two years audited financial statements in a registration
statement for an initial public offering, an exemption from the requirement to
provide an auditor's report on internal controls over financial reporting
pursuant to the Sarbanes-Oxley Act, an exemption from any requirement that may
be adopted by the
We will remain an emerging growth company under the JOBS Act until the earliest
of (i) the last day of our first fiscal year in which we have total annual gross
revenue of
Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements in accordance with GAAP. As a result of becoming a public company, we will be required, pursuant to Section 404 of the Sarbanes-Oxley Act, as amended, to furnish a report by our management on, among other things, the effectiveness of our internal control over financial reporting for the first fiscal year beginning after our IPO. This assessment will need to include disclosures of any material weaknesses identified by our management in our internal control over financial reporting.
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In connection with the audits of our financial statements, we identified the material weaknesses described as follows:
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We did not properly design or maintain effective controls over the financial reporting process to enable timely reporting of complete and accurate financial information. Specifically, we did not design and implement review controls with a sufficient precision to prevent or detect a material misstatement and to validate the completeness and accuracy of underlying data used in certain review controls, did not consistently perform independent reviews of journal entries or consistently retain adequate supporting documentation of the preparation and review of financial information supporting financial statement balances and the related footnote disclosures.
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We did not design and maintain sufficient information technology general controls ("ITGCs") in the areas of logical security access and change management in certain financially relevant systems, including adequate segregation of duties, and reinforcing independent journal entry review. Due to the pervasive impact of the ineffective ITGCs, certain control activities including manual controls that rely on data produced by and maintained within these IT system applications such as the management review control deficiencies described above, were also considered ineffective, potentially impacting all financial statement accounts.
•
We did not properly design or maintain effective formal processes and controls related to the accounting for and disclosure of complex, non-routine, and significant and unusual transactions, including accounting for non-routine or unusual contracts with customers in accordance with ASC 606 and accounting for business combinations in accordance with ASC 805.
•
We did not design and maintain effective controls related to the preparation and review of the annual income tax provision and related footnote disclosures in accordance with ASC 740.
•
We did not design and maintain effective formal processes and controls to ensure the completeness and accuracy of our disclosures regarding related party transactions
Under standards established by the
We are working to remediate the material weaknesses and are taking steps to
strengthen our internal control over financial reporting through the hiring of
additional finance and accounting personnel. With the additional personnel, we
intend to take appropriate and reasonable steps to remediate these material
weaknesses through the implementation of appropriate segregation of duties,
formalization of accounting policies and controls and retention of appropriate
expertise for complex accounting transactions. However, we cannot assure you
that these measures will significantly improve or remediate the material
weaknesses described above. As of
The actions that we are taking are subject to ongoing executive management review and will also be subject to audit committee oversight. If we are unable to successfully remediate the material weakness, or if in the future, we identify further material weaknesses in our internal control over financial reporting, we may not detect errors on a timely basis and our financial statements may be materially misstated.
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