ALIGN TECHNOLOGY INC 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations. Forward-Looking Statements In addition to historical information, this quarterly report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the “ Exchange Act ” ). These statements include, among other things, our expectations and intentions regarding our strategic objectives and the means to achieve them, our beliefs and expectations regarding macroeconomic conditions, including inflation, fluctuations in currency exchange rates, consumer confidence and demand, weakness in general economic conditions and recessions, our expectations regarding the near and long-term implications of the COVID-19 pandemic on the global and regional economies, our expectations regarding the impact of the military conflict in Ukraine generally and specifically regarding our operations and assets in Russia, including the potential ramifications of sanctions and regarding relations with other countries and impact on our workforce located in Russia, our marketing and efforts to build our brand awareness, our beliefs regarding digital dentistry and its potential to impact our business, our intentions regarding expanding our business, our expectations regarding the utilization rates for our products, including the impact of marketing on those rates and causes for periodic fluctuations of the rates, our expectation regarding customer and consumer purchasing behavior, including expectations related to consumer demand for digital solutions, our expectations for future investments in and benefits from sales and marketing activities, our preparedness and our customers' preparedness to react to changing circumstances and demand, results of operations and financial condition, our expectations for our expenses and capital obligations and expenditures in particular, our intentions to control spending and for investments, our intentions regarding the investment of our international earnings from operations, our belief regarding the sufficiency of our cash balances and borrowing capacity, our judgments regarding the estimates used in our revenue recognition and assessment of goodwill and intangible assets, our expectations regarding our tax positions and the judgments we make related to our tax obligations, our predicted level of operating expenses and gross margins and other factors beyond our control, our expectations regarding staying in compliance with laws and regulations currently applicable to, or which may become applicable to, our business both in the United States and internationally, as well as other statements regarding our future operations, financial condition and prospects and business strategies. These statements may contain words such as “expects,” “anticipates,” “intends,” “plans,” “believes,” “estimates,” or other words indicating future results. These forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those reflected in the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in Part I, Item 2 “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and in particular, the risks discussed below in Part II, Item 1A “Risk Factors.” We undertake no obligation to revise or update these forward-looking statements. Given these risks and uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements. The following discussion and analysis of our financial condition and results of operations should be read together with our condensed consolidated financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q and with our audited consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2021 as filed with the Securities and Exchange Commission (the “SEC”). Executive Overview of Results Trends and Uncertainties Our business strategic priorities remain focused on four principal pillars of growth: (i) international expansion; (ii) general practitioner dentists (“GPs”) adoption; (iii) patient demand and conversion; and (iv) orthodontic utilization. Below is a discussion of the significant trends and uncertainties that could impact to our operations: Macroeconomic Challenges and Military Conflict in Ukraine Our revenues and costs are susceptible to fluctuations in macroeconomic conditions, in line with inflation and slowing global and regional economic activity and contractions, changes in customer and consumer sentiment and demand, seasonality, increasing prices for commodities, services and transportation and disruptions in our manufacturing, supply and distribution operations and also those of our suppliers. These factors can be further exacerbated by the anticipation of, or actual, global and regional economic recessions which compound the impacts of existing macroeconomic challenges. Moreover, many of our international operations are denominated in currencies other than the U.S. dollar and the weakening of the foreign currencies against the U.S. dollar has caused a negative impact on our financial condition and results of operations which we expect to continue into the future. Specifically, during the first half of 2022, primarily due to the military conflict between Russia and Ukraine and the significant sanctions that followed, Russia’s currency, the ruble, weakened against the U.S. dollar. The nature and extent of the impact of these factors varies by time and region and remain uncertain and unpredictable. 25 Table of Contents The military conflict between Russia and Ukraine has increased the unpredictability of the already uncertain macroeconomic conditions. We remain deeply concerned about the devastating events that have and continue to unfold in Ukraine and the significant humanitarian, economic and societal tragedy unfolding there. Our top priority remains the safety and security of our employees and their families, particularly those most directly impacted by the hostilities and the resulting sanctions and retaliatory sanctions. We continue to employ a significant number of research and development personnel in Russia as well as sales, marketing and administrative personnel. We do not have employees in Ukraine. We have taken extraordinary efforts to support our team members in the region, including helping them financially and working to maintain their safety and security. We furthermore accelerated programs underway before the conflict began aimed at maintaining and growing our research and development operations over the long run that includes diversifying the facilities at which our personnel are located. Our Board of Directors and its applicable committees receive regular updates from management and have and continue to provide oversight of the risks associated with the military conflict between Russia and Ukraine and other areas of strategic importance related to the conflict. Our management continues to closely monitor the situation and evaluate additional ways in which we can support our employees. Although immaterial to our consolidated financial statements, our commercial business operations in Russia have been significantly impacted by the conflict. In February 2022, after the military conflict commenced, our primary shipping vendor, UPS, ceased deliveries into Russia and shortly thereafter, we suspended all commercial activities. Our current focus is on providing continuity of care consistent with our values and ethical responsibility to patients, who are in treatment. In doing so, we are also focused on managing compliance with global sanctions applicable to our business, including significant restrictions imposed by countries on both sides of the conflict targeting business entities, persons and certain activities. The pace at which sanctions are being imposed and the expanding number and breadth of the sanctions enacted continue to create global and regional economic challenges that have caused and are expected to continue to cause significant uncertainty and unpredictability to our operations. COVID-19 Pandemic Update The COVID-19 pandemic continues to cause significant volatility and uncertainty in the global and regional economies, leading to changes in consumer and business behavior, market fluctuations, materials and product shortages and restrictions on business and individual activities, all of which are materially impacting supply and demand in broad sectors of the world markets. As new variants of the virus emerge, there has been a patchwork response to prevent its spread and, consequently, continuing fluctuations in the numbers of patients seeking treatment for dental services and the number of doctors providing services and treatments in other markets. The emergence of new variants, vaccinations and public health measures are driving the pace of economic recovery unevenly in various regions. These factors and ongoing consumer concerns regarding the virus have continued to impact our results of operations, sometimes materially, and may continue to impact our results in future periods. Therefore, comparing our financial results for the reporting periods of 2022 to the same reporting periods of 2021 or earlier may not be a useful means by which to evaluate the health of our business and our results of operations. Our top priority remains the health and safety of our employees and their families, our customers and their staff, and we are taking prudent measures to safeguard them while remaining flexible in our operational efforts. Concerns regarding the spread and impact of the virus have lessened in many countries in which we operate, including the U.S. Consequently, efforts to r eopen many of our offices in 2022 are continuing but remain in fluctuation as certain parts of the world at certain periods of time continue to respond to o utbreaks of COVID-19 and new variants of the virus . Where our offices have reopened, we have adopted a flexible hybrid schedule that will allow many of our employees the opportunity to collaborate and connect with others in our offices three days per week while having the option to work remotely other days. We believe that this added flexibility benefits employees and Align overall. Overall, we expect the challenges and risks discussed above to persist, creating uncertainty and unpredictability for consumers, global and regional economies as well as our business and the businesses of our customers and suppliers. We strive to manage the challenges by focusing on improving our operations, building flexibility and efficiencies in our processes, and adjusting our business models to changing circumstances. Specifically, we are managing cost impacts through pricing actions, implementing cost saving measures, and averting supply chain shortages and delays. We do this by proactively communicating with our suppliers and distributors and modifying our purchase order commitments to mitigate the risks of production interruptions and maintaining inventory levels as required. We have also increased our cybersecurity measures to detect, protect against potential incidents and recover from actual incidents and events. Further discussion of the impact of the unpredictable macroeconomic conditions, the military conflict in Ukraine, and the ramifications from the impacts of COVID-19 on our business may be found in Part II, Item 1A of this Quarterly Report on Form 10-Q under the heading “ Risk Factors .” Key Financial and Operating Metrics 26 Table of Contents We measure our performance against these strategic priorities by the achievement of key financial and operating metrics. For the three months ended June 30, 2022, our business operations reflect the following: • Revenues of $969.6 million, a decrease of 4.1% year-over-year; • Clear Aligner revenues of $798.4 million, a decrease of 5.1% year-over-year; ◦ Americas Clear Aligner revenues of $385.2 million, a decrease of 3.8% year-over-year; ◦ International Clear Aligner revenues of $346.2 million, a decrease of 11.2% year-over-year; ◦ Clear Aligner case volume decrease of 10.0% year-over-year and Clear Aligner case volume decrease for teenage patients of 2.1% year-over-year; • Imaging Systems and CAD/CAM Services revenues of $171.2 million, an increase of 0.8% year-over-year; • Income from operations of $188.2 million and operating margin of 19.4%; • Effective tax rate of 35.0%; • Net income of $112.8 million with diluted net income per share of $1.44; • Cash, cash equivalents and marketable securities of $977.2 million as of June 30, 2022; • Operating cash flow of $127.0 million; • Capital expenditures of $76.0 million, predominantly related to increases in our manufacturing capacity and facilities; and • Number of employees was 24,020 as of June 30, 2022, an increase of 17.8% year-over-year. Other Statistical Data and Trends • As of June 30, 2022, approximately 13.4 million people worldwide have been treated with our Invisalign system, approximately 77,000 iTero scanners have been sold and approximately 51,000 exocad software licenses have been installed. Management measures these results by comparing to the millions of people who can benefit from straighter teeth and dental practices that could use intraoral scanners and uses this data to target opportunities to expand the market for orthodontics by educating consumers about the benefits of straighter teeth using the Invisalign system, dental professionals and/or labs and service providers to use iTero intraoral scanners, and dental labs and practitioners to install exocad CAD/CAM software. • For the second quarter of 2022, total Invisalign cases submitted with a digital scanner in the Americas increased to 91.4%, up from 86.6% in the second quarter of 2021 and international scans increased to 84.4%, up from 76.2% in the second quarter of 2021. For the second quarter of 2022, 97.1% of Invisalign cases submitted by North American orthodontists were submitted digitally. • Total utilization rate in the second quarter of 2022 decreased to 7.3 cases per doctor compared to 8.0 cases per doctor in the second quarter of 2021. Utilization rates in North America and our International locations were as follows: ▪ North America: Utilization rate among our North American orthodontist customers decreased to 26.8 cases per doctor in the second quarter of 2022 compared to 29.4 cases per doctor in the second quarter of 2021 and the utilization rate among our North American GP customers decreased to 5.1 cases per doctor in the second quarter of 2022 compared to 5.3 cases per doctor in the second quarter of 2021. ▪ International: International doctor utilization rate was 6.4 cases per doctor in the second quarter of 2022 compared to 7.1 cases per doctor in the second quarter of 2021. 27 Table of Contents * Invisalign utilization rates are calculated by the number of cases shipped divided by the number of doctors to whom cases were shipped. Our International region includes Europe, Middle East and Africa ( “ EMEA ” ) and Asia Pacific ( “ APAC ” ). Latin America ( “ LATAM ” ) is excluded from the International region based on its immateriality to the quarter; however is included in the Total utilization. Results of Operations Net Revenues by Reportable Segment We group our operations into two reportable segments: Clear Aligner segment and Systems and Services segment. • Our Clear Aligner segment consists of Comprehensive Products, Non-Comprehensive Products and Non-Case revenues as defined below: ▪ Comprehensive Products include, but are not limited to, Invisalign Comprehensive and Invisalign First. ▪ Non-Comprehensive Products include, but are not limited to, Invisalign Moderate, Lite and Express packages and Invisalign Go and Invisalign Go Plus. ▪ Non-Case products include, but are not limited to, retention products, Invisalign training, adjusting tools used by dental professionals during the course of treatment and, more recently, Consumer Products that are complementary to our doctor-prescribed principal products such as aligner cases (clamshells), teeth whitening products, cleaning solutions (crystals, foam and other material) and other oral health products available in certain e-commerce channels in select markets. We also offer in the U.S. and Canada, a Doctor Subscription Program which is a monthly subscription program based on the doctor’s monthly need for retention or limited treatment. The program allows doctors the flexibility to order both “touch-up” or retention aligners within their subscribed tier and is designed for a segment of experienced Invisalign doctors who are currently not regularly using our retainers or low-stage aligners. • Our Systems and Services segment consists of our iTero intraoral scanning systems, which includes a single hardware platform and restorative or orthodontic software options. Our services include subscription software, disposables, rentals, pay per scan services, as well as exocad ’ s CAD/CAM software solutions that integrate workflows to dental labs and dental practices. 28 Table of Contents Net revenues for our Clear Aligner and Systems and Services segments by region for the three and six months ended June 30, 2022 and 2021 are as follows (in millions): Three Months Ended June 30, Six Months Ended June 30, Net Revenues 2022 2021 Change 2022 2021 Change Clear Aligner net revenues: Americas $ 385.2 $ 400.5 $ (15.3) (3.8) % $ 761.4 $ 757.9 $ 3.5 0.5 % International 346.2 389.7 (43.5) (11.2) % 717.3 743.0 (25.7) (3.5) % Non-case 67.0 50.8 16.2 31.9 % 129.4 93.3 36.1 38.7 % Total Clear Aligner net revenues $ 798.4 $ 841.0 $ (42.6) (5.1) % $ 1,608.1 $ 1,594.2 $ 13.9 0.9 % Systems and Services net revenues 171.2 169.8 1.3 0.8 % 334.7 311.4 23.3 7.5 % Total net revenues $ 969.6 $ 1,010.8 $ (41.3) (4.1) % $ 1,942.8 $ 1,905.6 $ 37.2 2.0 % Changes and percentages are based on actual values. Certain tables may not sum or recalculate due to rounding. Case volume data which represents Clear Aligner case shipments for the three and six months ended June 30, 2022 and 2021 is as follows (in thousands): Three Months Ended June 30, Six Months Ended June 30, 2022 2021 Change 2022 2021 Change Total case volume 599.0 665.6 (66.6) (10.0) % 1,197.8 1,261.4 (63.6) (5.0) % Changes and percentages are based on actual values. Certain tables may not sum or recalculate due to rounding. For the three months ended June 30, 2022, total net revenues decreased $41.3 million as compared to the same period in 2021 primarily due to a decrease in Clear Aligner case volume partially offset by increases in Clear Aligner ASP, Clear Aligner non-case revenues and service revenues. For the six months ended June 30, 2022, total net revenues increased $37.2 million as compared to the same period in 2021 primarily due to increases in Clear Aligner ASP, Clear Aligner non-case revenues and service revenues partially offset by a decrease in Clear Aligner case volume. Clear Aligner - Americas For the three months ended June 30, 2022, Americas net revenues decreased by $15.3 million as compared to the same period in 2021 primarily due to a 9.9% decrease in case volume which reduced net revenues by $39.7 million which was partially offset by an increase in ASP which increased net revenues by $24.4 million. Higher ASP was mainly due to processing fees charged on most clear aligner shipments and price increases in certain markets which increased revenues by $12.7 million along with lower net deferrals which increased net revenues by $11.4 million. For the six months ended June 30, 2022, Americas net revenues increased by $3.5 million as compared to the same period in 2021 primarily due to an increase in ASP which increased net revenues by $48.5 million. Higher ASP was mainly due to processing fees charged on most clear aligner shipments and price increases in certain markets which increased revenues by $25.5 million along with lower net deferrals which increased net revenues by $20.2 million. Higher ASP was partially offset by a 5.9% decrease in case volume which reduced net revenues by $45.0 million. Clear Aligner - International For the three months ended June 30, 2022, International net revenues decreased by $43.5 million as compared to the same period in 2021 primarily due to a 10.1% decrease in case volume which reduced net revenues by $39.5 million. Lower ASP also decreased net revenues by $4.0 million largely due to unfavorable foreign exchange rates which decreased net revenues by $33.4 million and a product mix shift to lower priced products which decreased net revenues by $10.0 million. The decrease in ASP was partially offset by lower net deferrals which increased net revenues by $29.2 million and processing fees charged on most clear aligner shipments which increased net revenues by $12.1 million. For the six months ended June 30, 2022, International net revenues decreased by $25.7 million as compared to the same period in 2021 primarily due to a 3.9% decrease in case volume which resulted in lower net revenues of $29.3 million. Higher 29 Table of Contents ASP increased net revenues by $3.6 million largely due to lower net deferrals which increased net revenues by $47.4 million and processing fees charged on most clear aligner shipments which increased net revenues by $36.9 million. The increase in ASP was mostly offset by unfavorable foreign exchange rates which decreased net revenues by $56.3 million, unfavorable promotional discounts which decreased net revenues $14.6 million, and a product mix shift to lower priced products which decreased net revenues by $11.5 million. Clear Aligner - Non-Case For the three and six months ended June 30, 2022, non-case net revenues increased by $16.2 million and $36.1 million as compared to the same periods in 2021 due to increased volume for retention products across all regions primarily driven by Vivera retainers. Systems and Services For the three months ended June 30, 2022, Systems and Services net revenues increased by $1.3 million as compared to the same period in 2021 primarily due to higher service and other revenues which increased $18.7 million mostly due to a larger installed base. These increases were mostly offset by a lower number of scanners sold which decreased net revenues $13.1 million in addition to a lower scanner ASP. For the six months ended June 30, 2022, Systems and Services net revenues increased by $23.3 million as compared to the same period in 2021 primarily due to higher service and other revenues which increased $36.4 million mostly due to a larger installed base partially offset by a lower number of scanners sold which decreased net revenues by $9.5 million and lower scanner ASP. Cost of net revenues and gross profit (in millions): Three Months Ended June 30, Six Months Ended June 30, 2022 2021 Change 2022 2021 Change Clear Aligner Cost of net revenues $ 213.2 $ 194.3 $ 18.9 $ 417.2 $ 363.0 $ 54.1 % of net segment revenues 26.7 % 23.1 % 25.9 % 22.8 % Gross profit $ 585.2 $ 646.7 $ (61.4) $ 1,190.9 $ 1,231.2 $ (40.3) Gross margin % 73.3 % 76.9 % 74.1 % 77.2 % Systems and Services Cost of net revenues $ 68.8 $ 58.0 $ 10.9 $ 128.7 $ 106.9 $ 21.8 % of net segment revenues 40.2 % 34.1 % 38.5 % 34.3 % Gross profit $ 102.3 $ 111.9 $ (9.6) $ 206.0 $ 204.4 $ 1.5 Gross margin % 59.8 % 65.9 % 61.5 % 65.7 % Total cost of net revenues $ 282.0 $ 252.3 $ 29.7 $ 545.9 $ 469.9 $ 75.9 % of net revenues 29.1 % 25.0 % 28.1 % 24.7 % Gross profit $ 687.6 $ 758.5 $ (71.0) $ 1,396.9 $ 1,435.6 $ (38.7) Gross margin % 70.9 % 75.0 % 71.9 % 75.3 % Changes and percentages are based on actual values. Certain tables may not sum or recalculate due to rounding. Cost of net revenues includes personnel-related costs including payroll and stock-based compensation for staff involved in the production process, the cost of materials, packaging, freight and shipping related costs, depreciation on capital equipment and facilities used in the production process, amortization of acquired intangible assets and training costs. Clear Aligner For the three and six months ended June 30, 2022, our gross margin percentage decreased as compared to the same periods in 2021 primarily due to a higher mix of additional aligners along with increased costs from freight and manufacturing spend. These factors were offset in part by higher ASP. Systems and Services 30 Table of Contents For the three and six months ended June 30, 2022, our gross margin percentage decreased as compared to the same period in 2021 primarily due to lower ASP, manufacturing inefficiencies from lower production volumes and higher component costs partially offset by higher service revenues. Selling, general and administrative (in millions): Three Months Ended June 30, Six Months Ended June 30, 2022 2021 Change 2022 2021 Change Selling, general and administrative $ 426.4 $ 431.9 $ (5.5) $ 865.9 $ 829.0 $ 36.8 % of net revenues 44.0 % 42.7 % 44.6 % 43.5 % Changes and percentages are based on actual values. Certain tables may not sum or recalculate due to rounding. Selling, general and administrative expense generally includes personnel-related costs, including payroll, stock-based compensation and commissions for our sales force, marketing and advertising expenses including media, market research, marketing materials, clinical education, trade shows and industry events, legal and outside service costs, equipment, software and maintenance costs, depreciation and amortization expense and allocations of corporate overhead expenses including facilities and Information Technology (“IT”). For the three months ended June 30, 2022, selling, general and administrative expense decreased compared to the same period in 2021 primarily due to lower advertising and marketing costs, and lower incentive compensation. These decreases were partially offset by higher salaries expense, fringe benefits and stock-based compensation from increased headcount along with higher equipment, software and material costs. For the six months ended June 30, 2022, selling, general and administrative expense increased compared to the same period in 2021 primarily due to higher salaries expense, fringe benefits and stock-based compensation from increased headcount, higher expense related to advertising and marketing, equipment, software and maintenance in addition to increased travel and expense related costs. These increases were partially offset by lower incentive compensation. Research and development (in millions): Three Months Ended June 30, Six Months Ended June 30, 2022 2021 Change 2022 2021 Change Research and development $ 73.0 $ 57.7 $ 15.3 $ 144.8 $ 112.3 $ 32.5 % of net revenues 7.5 % 5.7 % 7.5 % 5.9 % Changes and percentages are based on actual values. Certain tables may not sum or recalculate due to rounding. Research and development expense generally includes personnel-related costs, including payroll and stock-based compensation, outside service costs associated with the research and development of new products and enhancements to existing products, software, equipment, material and maintenance costs, depreciation and amortization expense and allocations of corporate overhead expenses including facilities and IT. For the three and six months ended June 30, 2022, research and development expense increased compared to the same periods in 2021 primarily due to higher compensation costs from higher salaries and fringe benefits driven mainly by increased headcount as we continue to focus our investments in innovation and research. 31 Table of Contents Income from operations (in millions): Three Months Ended June 30, Six Months Ended June 30, 2022 2021 Change 2022 2021 Change Clear Aligner Income from operations $ 307.2 $ 347.6 $ (40.4) $ 619.9 $ 675.1 $ (55.2) Operating margin % 38.5 % 41.3 % 38.6 % 42.3 % Systems and Services Income from operations $ 45.6 $ 64.7 $ (19.1) $ 96.4 $ 111.9 $ (15.5) Operating margin % 26.6 % 38.1 % 28.8 % 35.9 % Total income from operations 1 $ 188.2 $ 268.9 $ (80.7) $ 386.3 $ 494.3 $ (108.1) Operating margin % 19.4 % 26.6 % 19.9 % 25.9 % Changes and percentages are based on actual values. Certain tables may not sum or recalculate due to rounding. 1 Refer to Note 13 “Segments and Geographical Information” of the Notes to Condensed Consolidated Financial Statements for details on unallocated corporate expenses and the reconciliation to Condensed Consolidated Income from Operations. Clear Aligner For the three months ended June 30, 2022, our operating margin percentage decreased compared to the same period in 2021 primarily due to lower gross margin which was partially offset by lower operating expenses as a percentage of net revenues. For the six months ended June 30, 2022, our operating margin percentage decreased compared to the same period in 2021 primarily due to lower gross margin as well as higher operating expenses as a percentage of net revenues. Systems and Services For the three and six months ended June 30, 2022, our operating margin percentage decreased compared to the same periods in 2021 primarily due to lower gross margin as well as higher operating expenses as a percentage of net revenues. Interest income (in millions): Three Months Ended June 30, Six Months Ended June 30, 2022 2021 Change 2022 2021 Change Interest income $ 0.2 $ 0.4 $ (0.1) $ 0.9 $ 2.0 $ (1.1) % of net revenues — % — % — % 0.1 % Changes and percentages are based on actual values. Certain tables may not sum or recalculate due to rounding. Interest income generally includes interest earned on cash, cash equivalents and investment balances. For the three months ended June 30, 2022, there was no significant change to interest income compared to the same period in 2021. For the six months ended June 30, 2022, interest income decreased compared to the same period in 2021 mainly due to interest earned from the arbitration award related to our investment in SmileDirectClub in the first quarter of 2021. 32 Table of Contents Other income (expense), net (in millions): Three Months Ended June 30, Six Months Ended June 30, 2022 2021 Change 2022 2021 Change Other income (expense), net $ (14.8) $ (0.5) $ (14.3) $ (26.1) $ 34.0 $ (60.2) % of net revenues (1.5) % — % (1.3) % 1.8 % Changes and percentages are based on actual values. Certain tables may not sum or recalculate due to rounding. Other income (expense), net, generally includes foreign exchange gains and losses, gains and losses on foreign currency forward contracts, interest expense, gains and losses on equity investments and other miscellaneous charges. For the three months ended June 30, 2022, other income (expense), net decreased compared to the same period in 2021 primarily due to larger net foreign exchange losses in the three months ended June 30, 2022 as compared to the same period in 2021. For the six months ended June 30, 2022, other income (expense), net decreased compared to the same period in 2021 primarily due to a $43.4 million gain related to the arbitration award related to our investment in SmileDirectClub recognized in the first quarter of 2021 as well as larger net foreign exchange losses in the six months ended June 30, 2022 as compared to the same period in 2021. Provision for income taxes (in millions): Three Months Ended June 30, Six Months Ended June 30, 2022 2021 Change 2022 2021 Change Provision for income taxes $ 60.8 $ 69.1 $ (8.3) $ 114.0 $ 130.3 $ (16.3) Effective tax rates 35.0 % 25.7 % 31.6 % 24.6 % Changes and percentages are based on actual values. Certain tables may not sum or recalculate due to rounding. Our effective tax rate differs from the statutory federal income tax rate of 21% for both the three and six months ended June 30, 2022 and 2021 primarily due to the recognition of additional tax expense resulting from foreign income taxed at different rates, state income taxes, and non-deductible expenses in the U.S. partially offset by the recognition of excess tax benefits related to stock-based compensation. Additionally, a change in U.S. tax laws effective January 1, 2022 which requires capitalization and amortization of research and development expenses incurred after December 31, 2021 increased our effective tax rate for the three and six months ended June 30, 2022. The increase in our effective tax rate for the three and six months ended June 30, 2022 compared to the same periods in 2021 is primarily attributable to foreign income taxed at different rates, capitalization and amortization of research and development expenses in 2022 and lower excess tax benefits from stock-based compensation. Liquidity and Capital Resources Liquidity and Trends As of June 30, 2022 and December 31, 2021, we had the following cash and cash equivalents and short-term and long-term marketable securities (in thousands): June 30, 2022 December 31, 2021 Cash and cash equivalents $ 877,501 $ 1,099,370 Marketable securities, short-term 22,138 71,972 Marketable securities, long-term 77,551 125,320 Total $ 977,190 $ 1,296,662 As of June 30, 2022 and December 31, 2021, approximately $725.8 million and $713.8 million, respectively, of cash, cash equivalents and marketable securities held by our foreign subsidiaries. Our intent is to permanently reinvest our earnings from our international operations going forward, and our current plans do not require us to repatriate them to fund our U.S. 33 Table of Contents operations as we generate sufficient domestic operating cash flow and have access to external funding under our $300.0 million revolving line of credit. We believe that our current cash balances and the borrowing capacity under our credit facility, if necessary, will be sufficient to fund our business for at least the next 12 months. The sanctions against Russian banks or international bank messaging systems due to the military conflict between Ukraine and Russia could impact our ability to access our cash in Russia but would not materially impact our liquidity position. As of June 30, 2022, cash and cash equivalents domiciled in Russia represent approximately 7.0% of our total cash, cash equivalents and marketable securities which is required to fund their current operating requirements. Our material cash requirements are as follows: • For 2022, we expect our investments in capital expenditures to exceed $300.0 million. Capital expenditures primarily relate to building construction and improvements as well as additional manufacturing capacity to support our international expansion. This includes our investment in an aligner fabrication facility in Wroclaw, Poland which began serving doctors during the second quarter of 2022 as a part of our strategy to bring operational facilities closer to customers. As we continue growing, we intend to expand our investments in research and development, manufacturing, treatment planning, sales and marketing operations to meet actual and anticipated local and regional demands. • As of June 30, 2022, we have $449.9 million available for repurchase under the stock repurchase program authorized by our Board of Directors in May 2021. Refer to Note 9 “Common Stock Repurchase Program” of the Notes to Condensed Consolidated Financial Statements for details on our stock repurchase programs. • There have been no material changes to our purchase commitments for goods and services and future operating lease payments during the periods covered by this 10-Q outside the normal course of business compared to the disclosure s in Part II, Item 7 of our Annual Report on Form 10-K for th e year ended December 31, 2021. Sources and Uses of Cash The following table summarizes our condensed consolidated cash flows for the six months ended June 30, 2022 and 2021 (in thousands): Six Months Ended June 30, 2022 2021 Net cash flow provided by (used in): Operating activities $ 157,543 $ 544,691 Investing activities (72,078) (123,920) Financing activities (312,396) (291,756) Effect of exchange rate changes on cash, cash equivalents, and restricted cash 4,978 (3,511) Net (decrease) increase in cash, cash equivalents, and restricted cash $ (221,953) $ 125,504 Operating Activities For the six months ended June 30, 2022, cash flows from operations of $157.5 million resulted primarily from our net income of approximately $247.1 million, as well as the following: Significant adjustments to net income • Stock-based compensation of $65.8 million related to equity awards granted to employees and directors; • Depreciation and amortization of $59.9 million related to our investments in property, plant and equipment and intangible assets; • Non-cash operating lease costs of $15.1 million; and • Changes in deferred taxes of $14.7 million primarily related to amortization and adjustments to our deferred tax assets of our Swiss entity. Significant changes in working capital 34 Table of Contents • Decrease of $212.9 million in accrued and other long-term liabilities primarily due to payment of our 2021 corporate bonus and the timing of payment of other activities; • Increase of $136.0 million in deferred revenues due to the deferral of revenue on shipments over the period as well as timing of revenue recognition; • Increase of $91.1 million in inventories primarily due to lower shipment volumes over the period in addition to higher safety stock requirements to secure materials with long lead times to support our demand; and • Increase of $53.5 million in accounts receivable primarily related to timing of shipments and collections. Investing Activities Net cash used in investing activities was $72.1 million for the six months ended June 30, 2022 which primarily consisted of purchases of property, plant and equipment of $163.3 million and purchases of marketable securities of $20.5 million. These outflows were partially offset by sales and maturities of our marketable securities of $113.9 million. Financing Activities Net cash used in financing activities was $312.4 million for the six months ended June 30, 2022 which consisted of common stock repurchases of $275.0 million and payroll taxes paid for equity awards through share withholdings of $52.2 million which were partially offset by $14.8 million of proceeds from the issuance of common stock under our employee stock purchase plan. Critical Accounting Policies and Estimates Management’s discussion and analysis of our financial condition and results of operations is based upon our Condensed Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses and disclosures at the date of the financial statements. We evaluate our estimates on an on-going basis, including those related to revenue recognition, goodwill and finite-lived acquired intangible assets, income taxes, legal proceedings and litigations. We use authoritative pronouncements, historical experience and other assumptions as the basis for making the estimates. Actual results could differ from those estimates. Revenue Recognition Our revenues are derived primarily from the sale of aligners, scanners, and services from our Clear Aligner and Systems and Services segments. We enter into sales contracts that may consist of multiple distinct performance obligations where certain performance obligations of the sales contract are not delivered in one reporting period. We measure and allocate revenues according to ASC 606-10, “Revenues from Contracts with Customers.” Determining the standalone selling price (“SSP”) in order to allocate consideration from the contract to the individual performance obligations is the result of various factors, such as changing trends and market conditions, historical prices, costs, and gross margins. While changes in the allocation of the SSP between performance obligations will not affect the amount of total revenues recognized for a particular contract, any material changes could impact the timing of revenue recognition, which would have a material effect on our financial position and result of operations. This is because the contract consideration is allocated to each performance obligation, delivered or undelivered, at the inception of the contract based on the SSP of each distinct performance obligation. We allocate revenues for each clear aligner treatment plan based on each unit’s SSP. Management considers a variety of factors such as same or similar product historical sales, costs, and gross margin, which may vary over time depending upon the unique facts and circumstances related to each performance obligation in making these estimates. In addition to historical data, we take into consideration changing trends and market conditions. For treatment plans with multiple future performance obligations, we also consider usage rates, which is the number of times a customer is expected to order more aligners after the initial shipment. Our process for estimating usage rates requires significant judgment and evaluation of inputs, including historical usage data by region, country and channel. We estimate the SSP of each element in a scanner system and services sale taking into consideration same or similar product historical prices as well as our discounting strategies. 35 Table of Contents Recent Accounting Pronouncements See Note 1 “ Summary of Significant Accounting Policies ” of the Notes to Condensed Consolidated Financial Statements for a discussion of recent accounting pronouncements.