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Item 7. Management’s Discussion and Analysis

2023-02-28 compared with 2022-02-22 · 268 added, 203 removed, 220 unchanged (68% of the section changed)

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Please also see the section entitled “Special Note Regarding Forward-Looking Statements.”

We are a late-stage biopharmaceutical company focused on developing and commercializing treatments for dermatological diseases with high unmet medical needs.

Our current portfolio is comprised of highly differentiated topical treatments with significant potential to treat immune-mediated dermatological diseases and conditions.

We believe we have built the industry's leading platform for dermatologic product development.

Our strategy is to focus on validated biological targets, and to use our drug development platform and deep dermatology expertise to develop differentiated products that have the potential to address the major shortcomings of existing therapies in our targeted indications.

We believe this strategy uniquely positions us to rapidly progress towards our goal of bridging the treatment innovation gap in dermatology, while maximizing our probability of technical success and financial resources.

Our lead product candidate, roflumilast cream, has successfully completed pivotal Phase 3 clinical trials in plaque psoriasis, demonstrating symptomatic improvement and favorable tolerability in this population.

We have submitted a NDA to the FDA, and the FDA has set a PDUFA action date of July 29, 2022.

Roflumilast cream is a once-daily topical formulation of roflumilast, a highly potent and selective PDE4 inhibitor.

PDE4 is an established biological target in dermatology, with multiple PDE4 inhibitors approved by the FDA for the systematic treatment of dermatological conditions.

We are developing roflumilast cream for the treatment of plaque psoriasis, including psoriasis in intertriginous regions such as the groin, axillae, and inframammary areas, as well as atopic dermatitis.

We have also successfully completed a long-term safety study of roflumilast cream in plaque psoriasis subjects showing continued symptomatic improvement and favorable tolerability over a treatment period of 52 to 64 weeks.

In atopic dermatitis, we have initiated three pivotal Phase 3 clinical studies:

INTEGUMENT-1 and -2 are enrolling subjects six years of age or older and INTEGUMENT-PED is enrolling subjects between the ages of two and five years.

We expect to provide topline data from each of INTEGUMENT-1 and -2 by the end of 2022.

We intend to submit an sNDA for topical roflumilast cream for the treatment of atopic dermatitis patients aged six years or older in 2023 based on the results of INTEGUMENT-1 and -2.

We expect to provide topline data from INTEGUMENT-PED in 2023 and submit a subsequent sNDA for the younger age cohort following the potential initial atopic dermatitis approval in patients aged six years or older.

We are also developing a topical foam formulation of roflumilast, and have successfully completed Phase 2 clinical trials in both seborrheic dermatitis and scalp and body psoriasis.

In seborrheic dermatitis, we have initiated a single pivotal Phase 3 clinical trial, with topline data anticipated in mid-year 2022.

We also initiated a single pivotal Phase 3 clinical trial in scalp and body psoriasis indications, with topline data anticipated in the second half of 2022.

If these pivotal Phase 3 trials for roflumilast foam are positive, we expect the data to be sufficient basis for an NDA submission to the FDA for each indication.

Beyond topical roflumilast, we are developing ARQ-252, a potent and highly selective topical JAK1 inhibitor.

In May 2021, we announced that the Phase 2 study of ARQ-252 in chronic hand eczema did not meet its primary endpoint with further analyses of the study pointing to inadequate local drug delivery to the skin.

Given these analyses, we also elected to terminate the Phase 2a clinical trial evaluating ARQ-252 as a potential treatment in vitiligo, as we began reformulation efforts to develop an enhanced formulation of ARQ-252 that delivers more active drug to targets in the skin.

Additionally, we have formulation and nonclinical efforts continuing for ARQ-255, an alternative deep-penetrating topical formulation of ARQ-252 designed to reach deeper into the skin and hair follicle in order to potentially treat alopecia areata.The ARQ-255 formulation is separate and distinct from ARQ-252, and thus there are no implications to ARQ-255 from ARQ-252.

Index to Financial Statements

Since our inception in 2016, we have invested a significant portion of our efforts and financial resources in clinical development activities.

We have not generated any revenue from product sales and have funded our operations primarily with the net proceeds from equity and debt offerings.

Prior to our IPO, we received $162.5 million in net cash proceeds from private placements of our convertible preferred stock.

On February 4, 2020, we received $167.2 million in net proceeds in connection with our IPO.

On October 6, 2020, we closed a public offering and a concurrent private placement of our common stock and received an aggregate of $128.4 million in net proceeds.

Also, on February 5, 2021, we closed a public offering of our common stock and received an aggregate of $207.5 million in net proceeds.

On December 22, 2021, we entered into a loan and security agreement, or the Loan Agreement, with SLR Investment Corp.

(SLR) and the lenders party thereto for an aggregate principal amount of $225.0 million, of which $75.0 million has been funded and is outstanding, resulting in net proceeds of $72.4 million.

See Note 1 to the financial statements for additional information.

We have incurred net losses in each year since inception, including net losses of $206.4 million, $135.7 million and $42.0 million for the years ended December 31, 2021, 2020 and 2019, respectively.

As of December 31, 2021, we had an accumulated deficit of $408.3 million and cash, cash equivalents, restricted cash and marketable securities of $388.6 million.

As of December 31, 2021, we had $75.0 million outstanding under the Loan Agreement and an aggregate of up to $150.0 million in additional funding under the Loan Agreement that may become available subject to the satisfaction of specified conditions.

We expect to continue to incur losses for the foreseeable future and expect to incur increased expenses as we advance our product candidates through clinical trials and regulatory submissions.

We do not expect to generate revenue from product sales unless, and until, we obtain regulatory approval or clearance from the FDA or other foreign regulatory authorities for our product candidates.

If we obtain regulatory approval or clearance for our product candidates, we expect to incur significant commercialization expenses related to product sales, marketing, manufacturing, and distribution.

In addition, we expect that our expenses will increase substantially as we continue nonclinical studies and clinical trials for, and research and development of, our product candidates and maintain, expand, and protect our intellectual property portfolio.

As a result, we will need substantial additional funding to support our operating activities.

Adequate funding may not be available to us on acceptable terms, or at all.

We currently anticipate that we will seek to fund our operations through equity or debt financings or other sources, such as future potential collaboration agreements.

Our failure to obtain sufficient funds on acceptable terms as and when needed could have a material adverse effect on our business, results of operations, and financial condition.

See “Liquidity, Capital Resources, and Requirements” below and Note 1 to the financial statements for additional information.

Based on our current planned operations, we expect that our current cash, cash equivalents, and marketable securities, combined with committed funding under the Loan Agreement, will be sufficient to fund our operations into 2024.

We rely on third parties in the conduct of our nonclinical studies and clinical trials and for manufacturing and supply of our product candidates.

We have no internal manufacturing capabilities, and we will continue to rely on third parties, many of whom are single source suppliers, for our nonclinical and clinical trial materials, as well as the commercial supply of our products.

In addition, we do not yet have a sales organization or fully developed commercial infrastructure.

Accordingly, we expect to incur significant expenses to fully develop a sales organization or commercial infrastructure in advance of generating any product sales.

COVID-19 Update

In March 2020, the World Health Organization declared a pandemic related to the COVID-19 outbreak.

COVID-19 has placed strains on the providers of healthcare services, including the sites where we conduct our clinical trials.

These strains have resulted in some clinical sites slowing or halting enrollment in clinical trials and restricting the on-site monitoring of clinical trials.

We follow FDA guidance on clinical trial conduct during the COVID-19 pandemic, including the remote monitoring of clinical data.

We are monitoring the impact COVID-19 may have on the clinical development of our product candidates, including potential delays or modifications to ongoing and planned trials.

We believe that the rapid spread of the Omicron variant in late 2021 and early 2022 has likely had a minor impact on the enrollment of our clinical trials.

Because of this likely impact, along with the inherent challenges of enrolling young children in clinical trials, we have updated our expectation for providing topline data for the INTEGUMENT-PED trial, in atopic dermatitis subjects between two and five years of age, to 2023.

We cannot, at this time, predict the specific extent, duration, or full impact that the COVID-19 outbreak will have on our ongoing and planned clinical trials and other business operations, including our commercialization activities.

There have been no disruptions in our supply chain of drug manufacturers necessary to conduct our clinical trials and, given our drug inventories, we believe that we will be able to supply the drug needs of our ongoing clinical studies.

Index to Financial Statements

In alignment with public health guidance designed to slow the spread of COVID-19, we implemented a remote work plan for all employees as of mid-March 2020.

We may need to undertake additional actions that could impact our operations as required by applicable laws or regulations, or which we determine to be in the best interests of our employees.

License Agreements

License Agreements & Acquisition

AstraZeneca License Agreement

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We subsequently paid AstraZeneca the first milestone cash payment of $2.0 million upon the completion of a Phase 2b study of roflumilast cream in plaque psoriasis in August 2019 for the achievement of positive Phase 2 data for an AZ-Licensed Product.

We have agreed to make additional cash payments to AstraZeneca of up to an aggregate of $12.5 million upon the achievement of specific regulatory approval milestones with respect to the AZ-Licensed Products, which includes $7.5 million upon FDA approval of our first product, and payments up to an additional aggregate amount of $15.0 million upon the achievement of certain aggregate worldwide net sales milestones.

We also paid AstraZeneca $7.5 million upon ZORYVE's FDA approval in plaque psoriasis.

We have agreed to make additional cash payments to AstraZeneca of up to an aggregate of $5.0 million upon the achievement of specific regulatory approval milestones with respect to the AZ-Licensed Products, and payments up to an additional aggregate amount of $15.0 million upon the achievement of certain aggregate worldwide net sales milestones, of which $5.0 million will become payable when we achieve $100.0 million in worldwide sales.

With respect to any AZ-Licensed Products we commercialize under the AstraZeneca License Agreement, we will pay AstraZeneca a low to high single-digit percentage royalty rate on our, our affiliates’ and our sublicensees’ net sales of such AZ-Licensed Products, until, as determined on an AZ-Licensed Product-by-AZ-Licensed Product and country-by-country basis, the later of the date of the expiration of the last-to-expire AstraZeneca-licensed patent right containing a valid claim in such country and ten years from the first commercial sale of such AZ-Licensed Product in such country.

See Note 6 to the financial statements for additional information.

Index to Financial Statements

We began making quarterly royalty payments in 2022.

See Note 6 to the consolidated financial statements for additional information.

Hengrui Exclusive Option and License Agreement

In January 2018, we entered into the Hengrui License Agreement, with Hengrui, whereby Hengrui granted us an exclusive option to obtain certain exclusive rights to research, develop, and commercialize products containing the compound designated by Hengrui as SHR0302, a JAK 1 inhibitor, in topical formulations for the treatment of skin diseases, disorders, and conditions in the United States, Canada, Japan, and the European Union (including for clarity the United Kingdom).

In January 2018, we entered into the Hengrui License Agreement, with Hengrui, whereby Hengrui granted us an exclusive option to obtain certain exclusive rights to research, develop, and commercialize products containing the compound designated by Hengrui as ivarmacitinib, a JAK 1 inhibitor, in topical formulations for the treatment of skin diseases, disorders, and conditions in the United States, Canada, Japan, and the European Union (including for clarity the United Kingdom).

We made a $0.4 million upfront non-refundable cash payment to Hengrui upon execution of the Hengrui Option and License Agreement.

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In addition, we have agreed to make cash payments of up to an aggregate of $20.5 million upon our achievement of specified clinical development and regulatory approval milestones with respect to the licensed products and cash payments of up to an additional aggregate of $200.0 million in sales-based milestones based on achieving certain aggregate annual net sales volumes with respect to a licensed product.

With respect to any products we commercialize under the Hengrui License Agreement, we will pay tiered royalties to Hengrui on net sales of each licensed product by us, or our affiliates, or our sublicensees, ranging from mid single-digit to sub-teen percentage rates based on tiered annual net sales bands subject to specified reductions.

Index to Financial Statements

sales bands subject to specified reductions.

We are obligated to pay royalties until the later of (1) expiration of the last valid claim of the licensed patent rights covering such licensed product in such country and (2) the expiration of regulatory exclusivity for the relevant licensed product in the relevant country, on a licensed product-by-licensed product and country-by-country basis.

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and (2) by us for convenience upon 90 days prior written notice to Hengrui and having discussed and consulted any potential cause or concern with Hengrui in good faith.

See Note 6 to the financial statements for additional information.

In June 2022, we entered into a side letter agreement with Hengrui and one of its subsidiaries to extend certain rights and obligations under the Hengrui License Agreement to the subsidiary under specified circumstances, including a change of control of such subsidiary.

See Note 6 to the consolidated financial statements for additional information.

Ducentis Acquisition

On September 7, 2022, the Company entered into a Share Purchase Agreement with Ducentis, pursuant to which the Company acquired all of the outstanding equity interests in Ducentis for (i) 610,258 shares of the Company common stock valued at approximately $12.5 million and $15.9 million in cash, inclusive of liabilities acquired, and (ii) contingent payments, the amount of which is indeterminable until achieved, which may become payable upon the achievement of certain development, regulatory, and commercial milestones.

The Company currently estimates that these contingent payments may be up to an aggregate of approximately $400 million (although the actual amount may differ depending on whether the applicable milestones are achieved).

In addition, if applicable, the Company will make payments amounting to a mid-single-digit percentage of any annual net sales of Ducentis’s products exceeding $1.5 billion.

As of December 31, 2022, none of the milestones were probable of achievement and, accordingly, no amounts have been recognized in the accompanying consolidated financial statements with respect to these contingent payments.

Under the terms of the Share Purchase Agreement, the Company will develop and seek FDA approval of a therapeutic product containing Ducentis’s DS-234 product candidate, now ARQ-234, for an atopic dermatitis indication, and if FDA approval of ARQ-234 is obtained by the Company, to launch it in the United States.

Index to Financial Statements

Components of Our Results of Operations

In August 2022, in conjunction with the launch of our first FDA approved product, ZORYVE, we began to recognize revenue from product sales, net of rebates, chargebacks, discounts, and other adjustments.

We will continue to evaluate trends related to revenue momentum for ZORYVE.

Additionally, if our development efforts for our other product candidates and ZORYVE label extensions are successful and result in regulatory approval, we may generate additional revenue in the future from product sales.

Cost of Sales

Cost of sales includes direct and indirect costs related to the manufacturing and distribution of ZORYVE, including raw materials, third-party manufacturing costs, packaging services, and freight-in, as well as third-party royalties payable on our net product sales and amortization of intangible assets associated with ZORYVE.

Operating Expenses

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We expect to continue to incur substantial research and development expenses in the future as we develop our product candidates.

In particular, we expect to incur substantial research and development expenses for the Phase 3 trials of roflumilast cream for atopic dermatitis, the Phase 3 trials of roflumilast foam for seborrheic dermatitis and scalp and body psoriasis, ARQ-252 for chronic hand eczema and vitiligo, and ARQ-255 for alopecia areata.

Index to Financial Statements

In particular, we expect to incur substantial research and development expenses for the ongoing pediatric and open label extension Phase 3 trials of roflumilast cream for atopic dermatitis, ARQ-255 for alopecia areata, and development of ARQ-234 for atopic dermatitis.

We have entered, and may continue to enter, into license agreements to access and utilize certain molecules for the treatment of dermatological diseases and disorders.

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To date, none of our license agreements have been considered to be an acquisition of a business.

For asset acquisitions, the upfront payments to acquire such licenses, as well as any future milestone payments made before product approval, are immediately recognized as research and development expense when due, provided there is no alternative future use of the rights in other research and development projects.

For asset acquisitions, the upfront payments, as well as any future milestone payments made before product approval, are immediately recognized as research and development expense when due, provided there is no alternative future use of the rights in other research and development projects.

The successful development of our product candidates is highly uncertain.

At this time, we cannot reasonably estimate the nature, timing, or costs required to complete the remaining development of roflumilast cream, roflumilast foam, ARQ-252, and ARQ-255, or any future product candidates.

At this time, we cannot reasonably estimate the nature, timing, or costs required to complete the remaining development of roflumilast cream, roflumilast foam, ARQ-255, and ARQ-234 or any other product candidates.

This is due to the numerous risks and uncertainties associated with the development of product candidates.

See “Risk Factors” for a discussion of the risks and uncertainties associated with the development of our product candidates.

General and Administrative Expenses

Our general and administrative expenses consist primarily of salaries and related costs, including payroll taxes, benefits, stock-based compensation, and travel.

Other general and administrative expenses include costs related to sales support as we prepare for commercialization, legal costs of pursuing patent protection of our intellectual property, insurance, and professional services fees for marketing, auditing, tax, and general legal services.

We expect our general and administrative expenses to continue to increase in the future as we expand our operating activities and prepare for potential commercialization of our product candidates, increase our headcount, and support our operations as a public company;

Selling, General and Administrative Expenses

Our selling, general and administrative expenses consist primarily of salaries and related costs, including payroll taxes, benefits, stock-based compensation, and travel.

Other selling, general and administrative expenses include costs related to sales and marketing of ZORYVE, legal costs of pursuing patent protection of our intellectual property, insurance, and professional services fees for marketing, auditing, tax, and general legal services.

We expect our selling, general and administrative expenses to continue to increase in the future as we continue to commercialize ZORYVE and potentially other product candidates, increase our headcount, and support our operations;

including increased expenses related to legal, accounting, insurance, regulatory, and tax-related services associated with maintaining compliance with exchange listing and SEC requirements, directors and officers liability insurance premiums, and investor relations activities.

Index to Financial Statements

Other Income, Net

Other income, net primarily consists of interest income earned on our cash, cash equivalents, and marketable securities.

Interest Expense

Interest expense is related to interest incurred on our long term debt.

Index to Financial Statements

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(in thousands)

Product revenue, net $ 3,686 $ — $ 3,686 *

Total revenues 3,686 — 3,686 *

Operating expenses:

Cost of sales 754 — 754 *

Research and development

182,435 145,558 36,877 25 %

General and administrative

60,971 21,337 39,634 186 %

Selling, general and administrative 122,124 60,971 61,153 100 %

Total operating expenses

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(301,627) (206,529) (95,098) 46 %

Other income (expense):

Other income, net 5,821 173 5,648 3265 %

173 967 (794) (82) %

Interest expense (15,652) — (15,652) *

Total other income (expense) (9,831) 173 (10,004) (5783) %

Net loss $ (311,458) $ (206,356) $ (105,102) 51 %

______________

*Not applicable

Product revenue, net

We began recognizing product revenues in the third quarter of 2022 following the FDA approval of ZORYVE and our subsequent commercial launch in the United States in August 2022.

During the year ended December 31, 2022, we recognized $3.7 million of net product revenues related to sales of ZORYVE.

Revenues were primarily driven by end customer demand as well as an initial build up of inventories by our wholesaler customers.

Sales discounts consisted primarily of co-pay card discounts and distribution fees.

Cost of Sales

Cost of sales of $0.8 million for the year ended December 31, 2022 is related primarily to amortization of intangible assets as a result of the milestone payment to AstraZeneca in connection with the FDA approval of ZORYVE.

Cost of sales also included product costs incurred after FDA approval as well as royalties on net sales payable to AstraZeneca under a license agreement.

Prior to the initial date regulatory approval was received, costs of raw materials were recorded as research and development expense.

Therefore, cost of sales will reflect a lower average per unit cost until the related inventory is sold, which is expected to be over the next two years.

Index to Financial Statements

Research and Development Expenses

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Other early stage programs 1,128 548 580 106 %

In-process research and development 29,720 — 29,720 *

Indirect costs:

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Total research and development expense $ 182,435 $ 145,558 $ 36,877 25 %

______________

*Not applicable

Research and development expenses increased by $36.9 million, or 25%, for the year ended December 31, 2022 compared to the year ended December 31, 2021.

The increase was primarily due to an increase in compensation and personnel-related costs of $15.0 million, an increase in other indirect costs of $9.8 million, and an increase in direct costs related to the topical roflumilast program of $8.2 million.

These increases were partially offset by a decrease in direct costs related to the topical JAK inhibitor program (ARQ-252 and ARQ-255) of $3.0 million.

The increase in compensation and personnel-related expenses, which includes stock-based compensation, was primarily due to an increase in headcount to manage our growing clinical programs.

The increase was primarily due to In-process research and development (IPR&D) expense as a result of the acquisition of Ducentis of $29.7 million, an increase in compensation and personnel-related costs of $12.7 million, and an increase in other indirect costs of $7.3 million.

These increases were partially offset by decreases in direct costs related to the topical roflumilast program of $6.2 million and the topical JAK inhibitor program (ARQ-252 and ARQ-255) of $7.2 million.

The increase in compensation and personnel-related expenses, which includes stock-based compensation, was primarily due to an increase in headcount to sustain the development of our ongoing programs.

The increase in other indirect costs was primarily due to an increase in medical affairs spending and consulting activity.

The increase in topical roflumilast program costs was primarily due to increased manufacturing costs partially offset by a decrease in clinical trial costs.

Clinical trial costs declined due to the completion of Phase 3 studies of roflumilast cream in plaque psoriasis, partially offset by the initiation of Phase 3 studies of roflumilast cream in atopic dermatitis and Phase 3 studies of roflumilast foam in seborrheic dermatitis and scalp psoriasis.

The decrease in topical JAK inhibitor program costs was primarily due to the completion of our Phase 2 study of ARQ-252 in chronic hand eczema.

General and Administrative Expenses

General and administrative expenses increased by $39.6 million, or 186%, for the year ended December 31, 2021 compared to the year ended December 31, 2020.

The increase was primarily due to an increase in compensation and personnel related expenses of $25.3 million, and an increase in professional services of $13.1 million.

The increase in compensation and personnel related expenses, which includes stock-based compensation, was primarily due to an increase in headcount as we prepare for commercialization.

The increase in professional services was due to an increase in sales and marketing expenses and consulting activity.

The decrease in topical roflumilast program costs was primarily due to the completion of Phase 3 studies of roflumilast cream in plaque psoriasis and roflumilast foam in seborrehic dermatitis and scalp psoriasis, partially offset by the Phase 3 studies of roflumilast cream in atopic dermatitis.

The decrease in topical JAK inhibitor program costs was primarily due to the conclusion of our Phase 2 studies of ARQ-252 in vitiligo and chronic hand eczema.

Selling, General and Administrative Expenses

Selling, general and administrative expenses increased by $61.2 million, or 100%, for the year ended December 31, 2022 compared to the year ended December 31, 2021.

The increase was primarily due to an increase in compensation and personnel related expenses of $31.3 million, an increase in sales and marketing expenses of $19.4 million and an increase in professional services of $6.5 million.

The increase in compensation and personnel related expenses, which includes stock-based compensation, was primarily due to an increase in headcount related to commercialization efforts for ZORYVE.

The increase in sales and marketing expenses, as well as professional services, was primarily related to commercialization efforts for ZORYVE.

Index to Financial Statements

Other Income, Net

Other income, net decreased by $0.8 million, or 82%, for the year ended December 31, 2021 compared to the year ended December 31, 2020.

The decrease was primarily due to a lower yield on our investment portfolio.

Other income, net increased by $5.6 million for the year ended December 31, 2022 compared to the year ended December 31, 2021, primarily due to the impact of rising interest rates and a larger marketable securities balance for the year ended December 31, 2022.

Interest Expense

Interest expense increased by $15.7 million for the year ended December 31, 2022 compared to the year ended December 31, 2021, due to interest expense related to our long-term debt.

Comparison of the Years Ended December 31, 2021 and 2020

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$ 145,558 $ 115,308 $ 30,250 26 %

General and administrative

21,337 6,610 14,727 223 %

Selling, general and administrative 60,971 21,337 39,634 186 %

Total operating expenses

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Total research and development expense $ 145,558 $ 115,308 $ 30,250 26 %

Research and development expenses increased by $78.8 million, or 216%, for the year ended December 31, 2020 compared to the year ended December 31, 2019.

The increase was due to an increase in direct costs related to the topical roflumilast program of $54.3 million, an increase in direct costs related to the topical JAK inhibitor program of $11.3 million, an increase in compensation and personnel-related expenses of $9.2 million, and an increase of $3.8 million in other indirect costs which includes regulatory, research and clinical consulting costs.

The increase in topical roflumilast program costs was primarily due to new and ongoing studies, including Phase 3 studies of roflumilast cream for plaque psoriasis, Phase 2 studies of roflumilast foam in scalp psoriasis and seborrheic dermatitis, as well as an increase in manufacturing costs.

The increase in compensation and personnel-related expenses, which includes stock compensation, was primarily due to an increase in headcount.

General and Administrative Expenses

General and administrative expenses increased by $14.7 million, or 223%, for the year ended December 31, 2020 compared to the year ended December 31, 2019.

The increase was primarily due to an increase in compensation and personnel-related expenses of $7.6 million, an increase in professional services of $3.8 million, and an increase in insurance costs of $2.6 million.

The increase in compensation and personnel-related expenses, which includes stock compensation, was primarily due to an increase in headcount.

The increases in professional services and insurance costs were mainly due to overall Company growth and the costs associated with being a public company.

Index to Financial Statements

Research and development expenses increased by $30.3 million, or 26%, for the year ended December 31, 2021 compared to the year ended December 31, 2020.

These increases were partially offset by a decrease in direct costs related to the topical JAK inhibitor program (ARQ-252 and ARQ-255) of $3.0 million.

The increase in compensation and personnel-related expenses, which includes stock-based compensation, was primarily due to an increase in headcount to manage our growing clinical programs.

The increase in other indirect costs was primarily due to an increase in medical affairs spending and consulting activity.

The increase in topical roflumilast program costs was primarily due to increased manufacturing costs partially offset by a decrease in clinical trial costs.

The decrease in topical JAK inhibitor program costs was primarily due to the completion of our Phase 2 study of ARQ-252 in chronic hand eczema.

Selling, General and Administrative Expenses

Selling, general and administrative expenses increased by $39.6 million, or 186%, for the year ended December 31, 2021 compared to the year ended December 31, 2020.

The increase was primarily due to an increase in compensation and personnel related expenses of $25.3 million, and an increase in professional services of $13.1 million.

The increase in compensation and personnel related expenses, which includes stock-based compensation, was primarily due to an increase in headcount as we prepare for commercialization.

The increase in professional services was due to an increase in sales and marketing expenses and consulting activity.

Other Income, Net

Other income, net decreased by $0.2 million, or 15%, for the year ended December 31, 2020 compared to

the year ended December 31, 2019.

Other income, net decreased by $0.8 million, or 82%, for the year ended December 31, 2021 compared to the year ended December 31, 2020.

The decrease was primarily due to a lower yield on our investment portfolio.

partially offset by higher balances.

Liquidity, Capital Resources and Requirements

Sources of Liquidity

We have incurred operating losses since our inception and have an accumulated deficit as a result of ongoing efforts to develop our product candidates, including conducting nonclinical and clinical trials and providing general and administrative support for these operations.

To date, our primary sources of capital have been private placements of preferred stock, our IPO completed in January 2020, our follow-on financings in October 2020, February 2021, and August 2022, our Loan Agreement, our ATM, and revenue from the sale of our approved product.

We have incurred operating losses since our inception and have an accumulated deficit as a result of ongoing efforts to develop and commercialize our products and product candidates, including conducting nonclinical and clinical trials and providing selling, general and administrative support for these operations.

As of December 31, 2022 and 2021, we had cash, cash equivalents, restricted cash, and marketable securities of $410.8 million and $388.6 million, respectively, and an accumulated deficit of $719.8 million and $408.3 million, respectively.

As of December 31, 2021, we had $75.0 million outstanding under our loan and security agreement, or the Loan Agreement, with SLR Investment Corp., or SLR, and the lenders party thereto.

We have historically financed our operations primarily through private placements of preferred stock, as well as our IPO completed in January 2020 and our follow-on equity offerings in October 2020 and February 2021.

During the year ended December 31, 2021, we expanded our financing sources to include our ATM program and our Loan Agreement.

On May 6, 2021, we entered into a Sales Agreement with Cowen, to sell shares of our common stock, from time to time, with aggregate gross sales proceeds of up to $100.0 million through an ATM equity offering program.

During the year ended December 31, 2021, we did not issue or sell any shares of our common stock through our ATM program.

On December 22, 2021 we entered into a Loan Agreement with SLR and the lenders party thereto.

Pursuant to the Loan Agreement, the lenders agreed to extend term loans to the us in an aggregate principal amount of up to $225.0 million, comprised of four tranches that become available subject to the satisfaction of specified conditions.

We received gross proceeds of $75.0 million from the first tranche on December 22, 2021.

We will continue to be dependent upon equity, debt financing, collaborations, or other forms of capital at least until we are able to generate positive cash flows from our operations.

Funding Requirements

We have historically incurred significant losses and negative cash flows from operations since our inception and had an accumulated deficit of $408.3 million and $202.0 million as of December 31, 2021 and 2020, respectively.

We had cash, cash equivalents, and marketable securities of $387.1 million and $284.4 million as of December 31, 2021 and 2020, respectively.

As of December 31, 2021, we had $75.0 million outstanding under our Loan Agreement and an aggregate of up to $150.0 million in additional funding that may become available subject to the satisfaction of specified conditions.

Our ability to continue as a going concern is dependent upon our ability to successfully secure sources of financing and ultimately achieve profitable operations.

We will need to raise substantial additional capital to fund our operations through the sale of our equity securities, accessing or incurring additional debt, entering into licensing or collaboration agreements with partners, grants, or other sources of financing.

Upon FDA approval of ZORYVE, we drew down an additional $125.0 million under the Loan Agreement and, as of December 31, 2022, had $200.0 million outstanding, with an additional $25.0 million in funding that may become available subject to the satisfaction of specified conditions.

We received $161.6 million in aggregate net proceeds from the closing of the public offering of our common stock in August 2022 and $14.5 million from the sale of stock under our ATM facility in March 2022.

See Notes 1 and 8 to the consolidated financial statements for additional information.

We believe that our existing capital resources will be sufficient to meet the projected operating requirements for at least 12 months from the date of issuance of our financial statements.

If our capital resources are insufficient to satisfy our requirements, we may need to fund our operations through the sale of our equity securities, accessing or incurring additional debt, entering into licensing or collaboration agreements with partners, grants, or other sources of financing.

There can be no assurance that sufficient funds will be available to us at all or on attractive terms when needed from these sources.

If we are unable to obtain additional funding from these or other sources when needed it may be necessary to significantly reduce our current rate of spending through reductions in staff and delaying, scaling back, or stopping certain research and development programs.

If we are unable to obtain additional funding from these or other sources when needed it may be necessary to significantly reduce our current rate of spending through, among other things, reductions in staff and delaying, scaling back, or stopping certain research and development programs, nonclinical studies, clinical trials or other development activities, and commercialization efforts.

Insufficient liquidity may also require us to relinquish rights to product candidates at an earlier stage of development or on less favorable terms than we would otherwise choose.

Index to Financial Statements

We have based our projections of operating capital requirements on assumptions that may prove to be incorrect and we may use all our available capital resources sooner than we expect.

We have based our projected operating requirements on assumptions that may prove to be incorrect and we may use all our available capital resources sooner than we expect.

Because of the numerous risks and uncertainties associated with research, development, and commercialization of pharmaceutical products, we are unable to estimate the exact amount of our operating capital requirements.

Our future funding requirements will depend on many factors, including, but not limited to:

• the scope, progress, results, and costs of researching and developing our lead product candidates or any future product candidates, and conducting nonclinical studies and clinical trials, in particular our planned or ongoing clinical studies of roflumilast cream in plaque psoriasis and atopic dermatitis, roflumilast foam in seborrheic dermatitis and scalp psoriasis, ARQ-252 in hand eczema and vitiligo, and our formulation and nonclinical efforts for ARQ-255 in alopecia areata;

Any future funding requirements will depend on many factors, including, but not limited to:

• the timing, receipt, and amount of sales of any current and future products;

• the scope, progress, results, and costs of researching and developing our lead product candidates or any future product candidates, and conducting nonclinical studies and clinical trials, in particular our planned or ongoing clinical studies of roflumilast cream in plaque psoriasis and atopic dermatitis, roflumilast foam in seborrheic dermatitis and scalp psoriasis, ARQ-255 in alopecia areata, and our formulation and nonclinical efforts for ARQ-234;

• suspensions or delays in the enrollment or changes to the number of subjects we decide to enroll in our ongoing clinical trials as a result of the COVID-19 pandemic;

• the timing of, and the costs involved in, obtaining regulatory approvals for our lead product candidate or our other product candidates;

• the number and scope of clinical programs we decide to pursue, and the number and characteristics of any product candidates we develop or acquire;

• the timing of, and the costs involved in, obtaining regulatory approvals for any future product candidates;

• the number and characteristics of any additional product candidates we develop or acquire;

• the cost of manufacturing our lead product candidates or any future product candidates and any products we successfully commercialize, including costs associated with building out our supply chain;

• the cost of commercialization activities if our lead product candidates or any future product candidates are approved for sale, including marketing, sales and distribution costs;

• the cost of building a sales force in anticipation of product commercialization;

• the cost of manufacturing ZORYVE or any future product candidates and any products we successfully commercialize, including costs associated with building out our supply chain;

• the cost of commercialization activities for ZORYVE or any future product candidates are approved for sale, including marketing, sales and distribution costs, and any discounts or rebates to obtain access;

• our ability to establish and maintain strategic collaborations, licensing or other arrangements and the financial terms of any such agreements that we may enter into;

• the costs related to milestone payments to AstraZeneca or Hengrui, upon the achievement of predetermined milestones;

• the costs related to milestone payments to AstraZeneca, Hengrui, or any future collaborator or licensing partner, upon the achievement of predetermined milestones;

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

• the expenses needed to attract and retain skilled personnel;

• the costs associated with being a public company;

• the costs involved in preparing, filing, prosecuting, maintaining, defending, and enforcing patent claims, and the outcome of this and any other future patent litigation we may be involved in;

• the timing, receipt and amount of sales of any future approved products, if any.

• the costs involved in preparing, filing, prosecuting, maintaining, defending, and enforcing our intellectual property portfolio.

On December 22, 2021 we entered into a Loan Agreement with SLR and the lenders party thereto.

Pursuant to the Loan Agreement, the lenders agreed to extend term loans to the us in an aggregate principal amount of up to $225.0 million, comprised of:

Pursuant to the Loan Agreement, the lenders agreed to extend term loans to us in an aggregate principal amount of up to $225.0 million, comprised of:

(i) a tranche A term loan of $75.0 million, (ii) a tranche B-1 term loan of $50.0 million, (iii) a tranche B-2 term loan of up to $75.0 million, available in minimum increments of $15.0 million, and (iv) a tranche C term loan of up to $25.0 million.

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The tranche A term loan was funded on December 22, 2021.

Each tranche B term loan is available following delivery to SLR of satisfactory evidence that we have received FDA approval of roflumilast cream for an indication relating to the treatment of patients with plaque psoriasis, which we refer to as the FDA Approval.

The tranche B-1 term loan will remain available for funding until the earlier of (i) 15 days after we have received FDA Approval and (ii) June 30, 2023.

The tranche B-2 term loan will remain available for funding until June 30, 2023.

Following the approval of ZORYVE, we drew down $125.0 million on the tranche B term loans, which we received in August 2022.

See Notes 1 and 8 to the consolidated financial statements for additional information.

The tranche C term loan is available following the achievement of a net product revenue milestone of $110.0 million, calculated on a trailing six month basis.

The tranche C term loan will remain available for funding until September 30, 2024.

Index to Financial Statements

Principal amounts outstanding under the Term Loans will accrue interest at a floating rate equal to the applicable rate in effect from time to time, as determined by SLR on the third business day prior to the funding date of the applicable Term Loan and on the first business day of the month prior to each payment date of each Term Loan.

The applicable rate is a per annum interest rate equal to 7.45% plus the greater of (a) 0.10% and (b) the per annum rate published by the Intercontinental Exchange Benchmark Administration Ltd.

The applicable rate is a per annum interest rate equal to 7.45% plus the greater of (a) 0.10% and (b) the per

Index to Financial Statements

annum rate published by the Intercontinental Exchange Benchmark Administration Ltd.

(or on any successor or substitute published rate) for a term of one month, subject to a replacement with an alternate benchmark rate and spread in certain circumstances.

On December 31, 2022, the rate was 11.62%.

Commencing on February 1, 2022, interest payments are payable monthly following the funding of any Term Loan.

Interest payments are payable monthly following the funding of any Term Loan.

Any principal amounts outstanding under the Term Loans, if not repaid sooner, are due and payable on January 1, 2027, or the Maturity Date.

We may voluntarily prepay principal amounts outstanding under the Term Loans in minimum increments of $5.0 million, subject to a prepayment premium of (i) 3.0% of the principal amount of such Term Loan so prepaid prior to December 22, 2022, (ii) 2.0% of the principal amount of such Term Loan so prepaid after December 22, 2022 and prior to December 22, 2023, or (iii) 1.0% of the principal amount of such Term Loan so prepaid after December 22, 2023 and prior to December 22, 2025.

If the Term Loans are accelerated due to, among others, the occurrence of a bankruptcy or insolvency event, we are required to make mandatory prepayments of (i) all principal amounts outstanding under the Term Loans, plus accrued and unpaid interest thereon through the prepayment date, (ii) any fees applicable by reason of such prepayment, (iii) the prepayment premiums set forth in the paragraph above, plus (iv) all other obligations that are due and payable, including expenses and interest at the Default Rate (as defined below) with respect to any past due amounts.

The Loan Agreement contains customary representations and warranties and customary affirmative and negative covenants, including, among others, requirements as to financial reporting and insurance and restrictions on our ability to dispose of our business or property, to change our line of business, to liquidate or dissolve, to enter into any change in control transaction, to merge or consolidate with any other entity or to acquire all or substantially all the capital stock or property of another entity, to incur additional indebtedness, to incur liens on its property, to pay any dividends or other distributions on capital stock other than dividends payable solely in capital stock or to redeem capital stock.

If the Term Loans are accelerated due to, among others, the occurrence of a bankruptcy or insolvency event, we are required to make certain mandatory prepayments, including fees applicable by reason of such prepayment.

The Loan Agreement contains customary representations and warranties and customary affirmative and negative covenants, including, among others, restrictions on our ability to merge or consolidate with any other entity, to incur additional indebtedness, or to pay any dividends or other distributions on capital stock.

We have also agreed to a financial covenant whereby, beginning with the month ending December 31, 2023, we must generate net product revenue in excess of specified amounts for applicable measuring periods;

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In addition, the Loan Agreement contains customary events of default that entitle the lenders to cause any indebtedness under the Loan Agreement to become immediately due and payable, and to exercise remedies against us and the collateral securing the Term Loans.

Under the Loan Agreement, an event of default will occur if, among other things, we fail to make payments under the Loan Agreement, we breach any of our covenants under the Loan Agreement, subject to specified cure periods with respect to certain breaches, the lenders determine that a material adverse change has occurred, or we or our assets become subject to certain legal proceedings, such as bankruptcy proceedings.

Upon the occurrence and for the duration of an event of default, an additional default interest rate, or the Default Rate, equal to 4.0% per annum will apply to all obligations owed under the Loan Agreement.

In connection with the Loan Agreement, we paid a closing fee of $1.0 million on December 22, 2021, and we are further obligated to pay (i) a final fee equal to 6.95% of the aggregate original principal amount of the Term Loans funded upon the earliest to occur of the Maturity Date, the acceleration of any Term Loan and the prepayment, refinancing, substitution or replacement of any Term Loan and (ii) a certain amount of lenders’ expenses incurred in connection with the execution of the Loan Agreement.

Additionally, in connection with the Loan Agreement, we entered into an Exit Fee Agreement, whereby we agreed to pay an exit fee in the amount 3.0% of each Term Loan funded upon (i) any change of control transaction or (ii) a revenue milestone, calculated on a trailing six month basis.

In connection with the Loan Agreement, we are obligated to pay (i) a final fee equal to 6.95% of the aggregate original principal amount of the Term Loans funded upon the earliest to occur of the Maturity Date, the acceleration of any Term Loan and the prepayment, refinancing, substitution or replacement of any Term Loan and (ii) a certain amount of lenders’ expenses incurred in connection with the execution of the Loan Agreement.

Additionally, in connection with the Loan Agreement, we entered into an Exit Fee Agreement, whereby we agreed to pay an exit fee in the amount of 3.0% of each Term Loan funded upon (i) any change of control transaction or (ii) a revenue milestone, calculated on a trailing six month basis.

Notwithstanding the prepayment or termination of the Term Loan, the exit fee will expire 10 years from the date of the Loan Agreement.

Index to Financial Statements

The following table sets forth our cash flows for the periods indicated:

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Cash provided by financing activities 301,798 281,947 298,145

Net increase in cash, cash equivalents and restricted cash $ 31,367 $ 3,288 $ 23,942

Net (decrease) increase in cash, cash equivalents and restricted cash $ (43,116) $ 31,367 $ 3,288

Net Cash Used in Operating Activities

During the year ended December 31, 2022, net cash used in operating activities was $257.7 million, which consisted of a net loss of $311.5 million and a change in net operating assets and liabilities of $10.2 million, partially offset by net non-cash and other charges of $63.9 million.

The change in net operating assets and liabilities was primarily due to an increase in accounts receivable of $8.5 million and an increase in inventories of $7.5 million, partially offset by a decrease of prepaid expenses and other current assets of $3.5 million.

The net non-cash and

Index to Financial Statements

other charges were primarily related to stock-based compensation expense of $32.7 million and acquired in-process research and development of $29.6 million.

During the year ended December 31, 2021, net cash used in operating activities was $174.6 million, which consisted of a net loss of $206.4 million, partially offset by net non-cash charges of $28.1 million and a change in net operating assets and liabilities of $3.6 million.

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The net non-cash charges were primarily related to stock-based compensation expense of $7.9 million.

During the year ended December 31, 2019, net cash used in operating activities was $42.8 million, which consisted of a net loss of $42.0 million, a change in net operating assets and liabilities of $1.5 million, partially offset by net non-cash charges of $0.7 million.

The change in net operating assets and liabilities was due to an increase of $3.3 million in prepaid expenses and other current assets for advances made for clinical trial costs, partially offset by an increase of $1.9 million in accounts payable and accrued liabilities due to our overall growth, increased research and development spending and timing of payments.

The net non-cash charges were primarily related to stock-based compensation expense of $0.8 million, and depreciation and right-of-use asset amortization of $0.2 million, partially offset by net amortization/accretion on marketable securities of $0.4 million.

Net Cash Used in Investing Activities

During the year ended December 31, 2022, net cash used in investing activities was $87.2 million, which was comprised primarily of purchases of marketable securities of $415.4 million, cash paid for IPR&D related to the acquisition of Ducentis of $15.5 million and a milestone payment made to AstraZeneca of $7.5 million, partially offset by the proceeds from the maturities of marketable securities of $351.5 million.

During the year ended December 31, 2021, net cash used in investing activities was $76.0 million, which was comprised primarily of purchases of marketable securities of $292.5 million, partially offset by the proceeds from the maturities of marketable securities of $217.6 million.

During the year ended December 31, 2020, net cash used in investing activities was $181.8 million, which was comprised primarily of purchases of marketable securities of $279.1 million, partially offset by proceeds from the maturities of marketable securities of $97.6 million.

During the year ended December 31, 2019, net cash used in investing activities was $26.3 million, which was comprised of purchases of marketable securities of $60.8 million and property and equipment of $0.3 million, partially offset by proceeds from the maturities of marketable securities of $34.8 million.

Net Cash Provided by Financing Activities

During the year ended December 31, 2022, net cash provided by financing activities was $301.8 million, which was comprised primarily of the net cash proceeds received from our August 2022 public stock offering of $161.6 million, our August 2022 debt facility draw down of $125.0 million, and our March 2022 sale of stock under our ATM facility of $14.5 million.

During the year ended December 31, 2021, net cash provided by financing activities was $281.9 million, which was comprised primarily of the net cash proceeds received from the follow-on financing in February 2021 of $207.5 million as well as from our debt financing in December 2021 of $72.4 million.

During the year ended December 31, 2020, net cash provided by financing activities was $298.1 million, which was comprised primarily of the net cash proceeds received from the IPO of $168.6 million and follow-on financing in October 2020 of $128.4 million.

Index to Financial Statements

During the year ended December 31, 2019, net cash provided by financing activities was $93.1 million, which was comprised of the net proceeds received from the issuance of Series C convertible preferred stock of $94.2 million as well as the proceeds from the exercise of stock options of $0.3 million, offset by deferred financing costs of $1.4 million paid in connection with the IPO.

Contractual Obligations and Contingent Liabilities

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The amended lease agreement required that we deliver a letter of credit to the landlord of $1.5 million upon occupying the space, which is allowed to be reduced throughout the lease period as rent obligations are met.

Accordingly, in November 2020, we entered into a letter of credit for $1.5 million, which is secured with a restricted cash account in the same amount.

The total commitment under the operating lease agreement is $6.6 million, including $0.8 million for the year 2022, $1.0 million for each of the years 2023 through 2027, and $0.6 million for the year 2028.

See Note 7 to the financial statements for additional information.

Manufacturing Agreements

We have entered into manufacturing supply agreements for the commercial supply of roflumilast cream that include certain minimum purchase commitments.

Firm future purchase commitments under these agreements are approximately $8.2 million for 2022 and $0.6 million per year for 2023, 2024 and 2025.

This amount does not represent all of our anticipated purchases, but instead represents only the contractually obligated minimum purchases or firm commitments of non-cancelable minimum amounts.

Accordingly, as of December 31, 2022, we have a letter of credit and related restricted cash account of $1.2 million.

The total commitment under the operating lease agreement is $5.8 million, including $1.0 million for each of the years 2023 through 2025, $1.1 million for each of the

Index to Financial Statements

years 2026 and 2027, and $0.6 million for the year 2028.

See Note 7 to the consolidated financial statements for additional information.

Long-Term Debt Obligations

As of December 31, 2021, we had $75.0 million outstanding under our Loan Agreement and an aggregate of up to $150.0 million in additional funding under the Loan Agreement that may become available subject to the satisfaction of specified conditions.

The total commitment under the Loan Agreement is $108.9 million, including $5.7 million for each of the years 2022 through 2026, and $80.2 million for 2027.

These amounts do not represent or include any future draw downs, but instead represent only the contractually obligated minimum payments of interest, principal, and loan fees related to the funding of the $75.0 million tranche A term loan on December 22, 2021.

License Agreements

The terms of certain of our license agreements require us to pay potential future milestone payments based on product development and commercial success.

As of December 31, 2022, we had $200.0 million outstanding under our Loan Agreement.

Upon FDA approval of ZORYVE, we drew down an additional $125.0 million under the Loan Agreement which we received on August 2, 2022.

After this draw down, we have $25.0 million in additional funding remaining that may become available subject to the satisfaction of specified conditions.

See Notes 1 and 8 to the consolidated financial statements for additional information.

The total commitment under the Loan Agreement as of December 31, 2022 is $309.7 million, including $23.9 million for each of the years 2023 through 2026, and $213.9 million for 2027.

License Agreements & Acquisition

The terms of certain of our license agreements and our acquisition of Ducentis require us to pay potential future milestone payments based on product development and commercial success.

The amount and timing of such obligations are unknown or uncertain.

These potential obligations are further described in Note 6 to the financial statements.

These potential obligations are further described in Note 6 to the consolidated financial statements.

Manufacturing Agreements

We have entered into manufacturing supply agreements for the commercial supply of ZORYVE, which include certain minimum purchase commitments.

Firm future purchase commitments under these agreements are approximately $3.5 million for 2023, and approximately $0.7 million per year for 2024 and 2025.

This amount does not represent all of our anticipated purchases, but instead represents only the contractually obligated minimum purchases or firm commitments of non-cancelable minimum amounts.

Indemnification

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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 accounting principles generally accepted in the United States, or U.S.

The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported expenses during the reporting periods.

The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements, as well as the reported expenses during the reporting periods.

These items are monitored and analyzed by us for changes in facts and circumstances, and material changes in these estimates could occur in the future.

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Actual results may differ materially from these estimates under different assumptions or conditions.

While our significant accounting policies are more fully described in the notes to our financial statements included elsewhere in this Annual Report on Form 10-K, we believe that the following accounting policies are critical to the process of making significant judgments and estimates in the preparation of our financial statements and understanding and evaluating our reported financial results.

While our significant accounting policies are more fully described in the notes to our consolidated financial statements included elsewhere in this Annual Report on Form 10-K, we believe that the following accounting policies are critical to the process of making significant judgments and estimates in the preparation of our consolidated financial statements and understanding and evaluating our reported financial results.

Nonclinical and Clinical Accruals and Costs

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Additionally, if expectations change such that we do not expect goods to be delivered or services to be rendered, such prepayments are charged to expense.

Our objective is to reflect the appropriate expense in our financial statements by matching those expenses with the period in which the services and efforts are expended.

Our objective is to reflect the appropriate expense in our consolidated financial statements by matching those expenses with the period in which the services and efforts are expended.

We account for these expenses according to the progress of the trial as measured by patient progression and the timing of various aspects of the trial utilizing financial models taking into consideration discussions with applicable personnel and outside service providers.

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We have not experienced any material differences between accrued costs as of December 31, 2022 and 2021 and actual costs incurred.

Index to Financial Statements

Pursuant to Accounting Standards Codification (“ASC”) 606, Revenue from Contracts with Customers (“ASC 606”), we recognize revenue when a customer obtains control of promised goods or services.

We record the amount of revenue that reflects the consideration that we expect to receive in exchange for those goods or services.

We apply the following five-step model in order to determine this amount:

(i) identification of the promised goods or services in the contract;

(ii) determination of whether the promised goods or services are performance obligations, including whether they are distinct in the context of the contract;

(iii) measurement of the transaction price, including the constraint on variable consideration;

(iv) allocation of the transaction price to the performance obligations;

and (v) recognition of revenue when (or as) we satisfy each performance obligation.

We only apply the five-step model to contracts when it is probable that it will collect the consideration to which we are entitled in exchange for the goods or services that we transfer to the customer.

Once a contract is determined to be within the scope of ASC 606 at contract inception, we review the contract to determine which performance obligations we must deliver and which of these performance obligations are distinct.

We recognize as revenue the amount of the transaction price that is allocated to each performance obligation when that performance obligation is satisfied or as it is satisfied.

Product Revenue, Net

We sell our product to our Customers in the United States.

Our Customers subsequently resell the products to pharmacies, health care providers, and patients.

In accordance with ASC 606, we recognize net product revenues from sales when the Customers obtain control of our products, which typically occurs upon delivery to the Customer.

Our payment terms are generally between 31 - 65 days.

Revenues from product sales are recorded at the net sales price, or “transaction price,” which includes estimates of variable consideration that result from (a) invoice discounts for prompt payment and distribution service fees, (b) government and private payer rebates, chargebacks, discounts and fees, (c) product returns and (d) costs of co-pay assistance programs for patients, as well as other incentives.

Reserves are established for the estimates of variable consideration based on the amounts earned or to be claimed on the related sales.

The reserves are classified as reductions to trade receivables, net if payable to a Customer or accrued liabilities if payable to a third-party.

Where appropriate, we utilize the expected value method to determine the appropriate amount for estimates of variable consideration based on factors such as our historical experience, current contractual and statutory requirements, specific known market events and trends, industry data and forecasted customer buying and payment patterns.

The amount of variable consideration that is included in the transaction price may be constrained and is included in net product revenues only to the extent that it is probable that a significant reversal in the amount of the cumulative revenue recognized will not occur in a future period.

Actual amounts of consideration ultimately received may differ from our estimates.

If actual results vary from our estimates, we adjust these estimates, which would affect net product revenue and earnings in the period such variances become known.

Distribution Service Fees :

We engage with wholesalers to distribute our products to end customers.

We pay the wholesalers a fee for services such as:

data reporting, inventory management, chargeback administration, and service level commitment.

We estimate the amount of distribution services fees to be paid to the Customers and adjust the transaction price with the amount of such estimate at the time of sale to the Customer.

Prompt Pay Discounts :

We provide our Customers with a percentage discount on their invoice if the Customers pay within the agreed upon timeframe.

We estimate the probability of Customers paying promptly based on the percentage of discount outlined in the agreement, and deduct the full amount of these discounts from its gross product revenues and accounts receivable at the time such revenues are recognized.

Product Returns :

We provide Customers a return credit in the amount of the purchase price paid by Customers for all products returned in accordance with our returned goods policy.

In the initial sales period, we estimate our provision for sales returns based on industry data and adjust the transaction price with such estimate at the time of sale to the Customer.

Once sufficient history has been collected for product returns, we will utilize that history to inform our returns estimate.

Once the product is returned, it is destroyed.

We do not record a right-of-return asset.

Index to Financial Statements

A chargeback is the difference between the manufacturer's invoice price to the wholesaler and the wholesaler’s customer's contract price.

The wholesaler tracks these sales and "charges back" the manufacturer for the difference between the negotiated prices paid between the wholesaler's customers and wholesaler's acquisition cost.

We estimate the percentage of goods sold that are eligible for chargeback and adjust the transaction price for such discount at the time of sale to the Customer.

Co-payment Assistance :

Patients who meet certain eligibility requirements may receive co-payment assistance.

The Company recognizes contra-revenue expense, and adjusts the transaction price for, co-payment assistance based on actual program participation and estimates of program redemption using data provided by third-party administrators.

Cost of Sales

Cost of sales includes direct and indirect costs related to the manufacturing and distribution of ZORYVE, including raw materials, third-party manufacturing costs, packaging services, freight-in, third-party royalties payable on our net product revenues, and amortization of certain intangible assets associated with ZORYVE.

Cost of sales may also include period costs related to certain inventory warehouse and distribution operations and inventory adjustment charges.

We began capitalizing inventory costs upon FDA approval of ZORYVE on July 29, 2022.

As a result, manufacturing and other inventory costs incurred prior to FDA approval of ZORYVE were expensed and, therefore, are not included in cost of sales.

Stock-Based Compensation

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We account for forfeitures as they occur.

Index to Financial Statements

We calculate the fair value measurement of stock options using the Black-Scholes option pricing model and assumptions discussed below.

Each of these inputs is subjective and generally requires significant judgement.

Fair value of common stock —see the subsection titled “Common Stock Valuation” below.

Fair value of common stock — Prior to our IPO in 2020, fair values of the shares of common stock underlying our share-based awards were estimated on each grant date in good faith by our board of directors using significant assumptions an estimates.

If we had made different assumptions, the fair value of the underlying common stock and amount of our stock-based compensation expense, net loss and net loss per share amounts would have differed.

Following the closing of our IPO, the fair value per share of our common stock for purposes of determining stock-based compensation will be the closing price of our common stock as reported on the applicable grant date.

Expected Term —The expected term represents the period that we expect our stock-based awards to be outstanding.

We used the simplified method (based on the mid-point between the vesting date and the end of the contractual term) to determine the expected term.

Expected Volatility —Since we do not yet have sufficient trading history for our common stock to use it solely for our historical volatility, the expected volatility was estimated based a combination of our own historical common stock volatility as well as the average historical volatilities for comparable publicly traded pharmaceutical companies over a period equal to the expected term of the stock option grants.

Expected Volatility —Prior to 2022, we did not yet have sufficient trading history for our common stock to use it solely for our historical volatility, the expected volatility was estimated based a combination of our own historical common stock volatility as well as the average historical volatilities for comparable publicly traded pharmaceutical companies over a period equal to the expected term of the stock option grants.

The comparable companies were chosen based on their similar size, stage in the life cycle and area of specialty.

We will continue to apply this process until a sufficient amount of historical information regarding the volatility of our stock price becomes available.

We applied that process until a sufficient amount of historical information regarding the volatility of our stock price became available.

Beginning in 2022, having over two years of trading history, we began using solely our own historical stock price for expected volatility.

Risk-Free Interest Rate —The risk-free interest rate is based on the U.S.

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Therefore, we used an expected dividend yield of zero.

See Note 10 to our audited financial statements included elsewhere in this Annual Report on Form 10-K for more information concerning certain of the specific assumptions we used in applying the Black-Scholes option pricing model to determine the estimated fair value of our stock options.

Index to Financial Statements

See Note 10 to our consolidated financial statements included elsewhere in this Annual Report on Form 10-K for more information concerning certain of the specific assumptions we used in applying the Black-Scholes option pricing model to determine the estimated fair value of our stock options.

Certain of such assumptions involve inherent uncertainties and the application of significant judgment.

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We expect to continue to grant stock options, restricted stock, and other equity-based awards in the future, and to the extent that we do, our stock-based compensation expense recognized in future periods will likely increase.

Common Stock Valuation

Prior to the completion of our public offering, there were significant assumptions and estimates required in determining the fair value of our common stock.

Due to the absence of an active market for our common stock prior to our IPO, the fair value of our common stock for grants during that time period was determined in good faith by our board of directors, with the assistance and upon the recommendation of management and valuations of our common stock prepared by an unrelated third-party valuation firm, based on a number of objective and subjective factors consistent with the methodologies outlined in the American Institute of Certified Public Accountants Practice Aid, Valuation of Privately-Held-Company Equity Securities Issued as Compensation , referred to as the AICPA Practice Aid, including:

• contemporaneous valuations of our shares of common stock;

• the prices of each of our series of preferred stock sold by us to outside investors in arm’s length transactions, and the rights, preferences and privileges of each of these series of preferred stock relative to our common stock;

• our results of operations, financial position and the status of our research and development efforts;

• the composition of our management team and board of directors;

• the material risks related to our business;

• the market performance of publicly traded companies in the life sciences and biotechnology sectors;

Index to Financial Statements

• the likelihood of achieving a liquidity event for the holders of our shares of common stock, such as a sale of the company or an IPO, given prevailing market conditions;

• the lack of marketability of our common stock;

• external market conditions affecting the life sciences and biotechnology industry sectors.

If we had made different assumptions than those described below, the fair value of the underlying common stock and amount of our stock-based compensation expense, net loss and net loss per share amounts would have differed.

Historically, prior to our IPO, fair values of the shares of common stock underlying our share-based awards were estimated on each grant date by our board of directors.

Our board of directors considered, among other things, valuations of our common stock which were prepared by an unrelated third-party valuation firm in accordance with the guidance provided by the AICPA Practice Aid, Valuation of Privately-Held-Company Equity Securities Issued as Compensation .

In 2019, we reassessed the determination of the fair value of the common shares underlying the grants made prior to August 2018 in connection with a valuation of the convertible preferred stock liability.

This analysis revised our implied equity value, which was then allocated to each equity class using an option pricing method and the implied value of common stock was then reduced by a discount for lack of marketability.

As a result of this reassessment, we determined that fair value of common stock increased to $0.46, $1.12 and $1.18 per share as of April 2017, December 2017 and March 2018, respectively.

The increase to both recognized and unrecognized share-based compensation expense due to these higher share prices was approximately $0.1 million and $0.4 million, respectively, as of December 31, 2018.

As of December 31, 2022, we had net deferred tax assets of $162.7 million.

6 unchanged sentences

Federal and California tax law impose significant restrictions on the utilization of NOL carryforwards in the event of a change in ownership, as defined by Internal Revenue Code Section 382 and 383.

We have not completed a formal study to determine any limitations on our tax attributes due to changes in ownership and may have limitations on the utilization of NOL carryforwards, credit carryforwards, or other tax attributes due to ownership changes.

We believe the Company has had one or more such ownership changes in the past, and we may have additional ownership changes in the future.

These ownership changes could limit our ability to use all the Company's NOL carryforwards, credit carryforwards, or other tax attributes.

Recent Accounting Pronouncements

See Note 2 to our financial statements.

See Note 2 to our consolidated financial statements.

Index to Financial Statements

We are an early commercial-stage biopharmaceutical company focused on developing and commercializing treatments for dermatological diseases with high unmet medical needs.

Our current portfolio is comprised of highly differentiated topical and systemic treatments with significant potential to treat immune-mediated dermatological diseases and conditions.

We believe we have built the industry's leading platform for dermatologic product development and commercialization.

We believe this strategy uniquely positions us to rapidly advance our goal of bridging the treatment innovation gap in dermatology, while maximizing our probability of technical success and financial resources.

We launched our lead product, ZORYVE ® (roflumilast) cream 0.3%, in August 2022 after obtaining Food and Drug Administration (FDA) approval for the treatment of plaque psoriasis, including psoriasis in the intertriginous areas (e.g.

groin or axillae), in individuals 12 years of age or older.

ZORYVE is approved for once-daily treatment of mild, moderate, and severe plaque psoriasis with no limitations on location or duration of use.

In December 2022, we submitted a supplemental New Drug Application (sNDA) for ZORYVE for an expanded indication in plaque psoriasis down to the age of two, with potential FDA approval in the fourth quarter of 2023.

In addition, we submitted and Health Canada has accepted a New Drug Submission (NDS) for roflumilast cream for plaque psoriasis in Canada with a target action date of April 30, 2023.

ZORYVE is a once-daily topical formulation of roflumilast, a highly potent and selective phosphodiesterase-4 (PDE4) inhibitor.

PDE4 is an established biological target in dermatology, with multiple PDE4 inhibitors approved by the FDA for the treatment of dermatological conditions.

In addition to the recent approval of ZORYVE for plaque psoriasis, we are also developing roflumilast cream for the treatment of atopic dermatitis.

In atopic dermatitis, we are conducting or have completed three pivotal Phase 3 clinical studies:

INTEGUMENT-1 and -2 enrolled subjects six years of age or older and INTEGUMENT-PED is enrolling subjects between the ages of two and five years.

In the fourth quarter of 2022, we announced positive topline data from both INTEGUMENT-1 and -2 in atopic dermatitis.

We intend to submit an sNDA for topical roflumilast cream for the treatment of atopic dermatitis in patients aged six years or older in the second half of 2023 based on the results of INTEGUMENT-1 and -2.

We expect to provide topline data from INTEGUMENT-PED in the second half of 2023 and submit a subsequent sNDA for the younger age cohort following the potential initial approval of roflumilast cream for treatment of atopic dermatitis in patients aged six years or older.

We are also developing a topical foam formulation of roflumilast and have successfully completed pivotal Phase 3 clinical trials in both seborrheic dermatitis and scalp and body psoriasis.

In seborrheic dermatitis, we submitted a New Drug Application (NDA) for the treatment of moderate-to-severe seborrheic dermatitis to the FDA in February 2023, supported by the positive results from the pivotal Phase 3 STRATUM trial, with potential FDA approval in late 2023.

In scalp and body psoriasis, we announced positive topline data in September 2022 and we expect the data to be a sufficient basis for an sNDA submission in the first quarter of 2024, following the potential approval of roflumilast foam for treatment of seborrheic dermatitis.

Beyond topical roflumilast, we are developing ARQ-255, a deep-penetrating topical formulation of ivarmacitinib, a potent and highly selective topical Janus kinase type 1 (JAK1) inhibitor, designed to preferentially deliver the drug deep into the hair follicle, the site of inflammation in alopecia areata, in order to potentially develop the first topical treatment for this disease.

In December 2022, we announced that the first subject had been enrolled in a Phase 1b study evaluating ARQ-255 for the treatment of alopecia areata.

We are also developing ARQ-252, an alternative cream formulation of ivarmacitinib for chronic hand eczema, vitiligo, and other inflammatory dermatoses.

In September 2022, we acquired Ducentis BioTherapeutics LTD (Ducentis) and its lead asset, DS-234 (now ARQ-234), a fusion protein that is a potent and highly selective checkpoint agonist of the CD200 Receptor (CD200R).

Currently in the preclinical stage, we plan to develop ARQ-234 in atopic dermatitis, where we believe it could be a potentially highly complementary biologic treatment option to roflumilast cream in that indication, if approved.

ARQ-234 could potentially be used to treat other inflammatory conditions as well.

Index to Financial Statements

Since our inception in 2016, we have invested a significant portion of our efforts and financial resources in clinical development activities.

We only recently started generating revenue from product sales and have historically funded our operations primarily with the net proceeds from equity and debt offerings.

Prior to our IPO, we received $162.5 million in net cash proceeds from private placements of our convertible preferred stock.

On February 4, 2020, we received $167.2 million in net proceeds in connection with our IPO.

On October 6, 2020, we closed a public offering and a concurrent private placement of our common stock and received an aggregate of $128.4 million in net proceeds.

Also, on February 5, 2021, we closed a public offering of our common stock and received an aggregate of $207.5 million in net proceeds.

In December 2021, we received $72.4 million in net proceeds under the Loan Agreement with SLR.

In March 2022, we received $14.5 million in net proceeds related to shares issued under our ATM.

In August 2022, we received an additional $125 million in proceeds (excluding debt issuance costs) under the Loan Agreement with SLR and closed a public offering of our common stock, receiving an additional $161.6 million of aggregate net proceeds.

See Notes 1 and 8 to the consolidated financial statements for additional information.

We have incurred net losses in each year since inception, including net losses of $311.5 million, $206.4 million and $135.7 million for the years ended December 31, 2022, 2021 and 2020, respectively.

As of December 31, 2022, we had an accumulated deficit of $719.8 million and cash, cash equivalents, restricted cash and marketable securities of $410.8 million.

As of December 31, 2022, we had $200.0 million outstanding under the Loan Agreement and an aggregate of up to $25.0 million in additional funding under the Loan Agreement that may become available subject to the satisfaction of specified conditions.

We expect to continue to incur losses and significant expenses as we commercialize ZORYVE in psoriasis and as we advance our product candidates and label extensions through clinical trials, regulatory submissions, and commercialization.

We expect to incur significant commercialization expenses related to sales, marketing, manufacturing, and distribution of ZORYVE, and our product candidates and ZORYVE label extensions, if we obtain regulatory approval for them.

If our available cash and marketable securities balances, amounts available under the Loan Agreement, and anticipated future cash flows from operations are insufficient to cover these expenses, we may need to fund our operations through equity or debt financings or other sources, such as future potential collaboration agreements.

Adequate funding may not be available to us on acceptable terms, or at all.

Any failure to obtain sufficient funds on acceptable terms as and when needed could have a material adverse effect on our business, results of operations, and financial condition.

See “Liquidity, Capital Resources, and Requirements” below and Note 1 to the consolidated financial statements for additional information.

We rely on third parties in the conduct of our nonclinical studies and clinical trials and for manufacturing and supply of our product candidates.

COVID-19 Update

In March 2020, the World Health Organization declared a pandemic related to the COVID-19 outbreak.

COVID-19 has placed strains on the providers of healthcare services, including the sites where we conduct our clinical trials.

These strains have resulted in some clinical sites slowing or halting enrollment in clinical trials and restricting the on-site monitoring of clinical trials.

We follow FDA guidance on clinical trial conduct during the COVID-19 pandemic, including the remote monitoring of clinical data.

We are monitoring the impact COVID-19 may have on the clinical development of our product candidates, including potential delays or modifications to ongoing and planned trials.

We believe that the rapid spread of the Omicron variant in late 2021 and early 2022 has likely had a minor impact on the enrollment of our clinical trials.

In alignment with public health guidance designed to slow the spread of COVID-19, we implemented a remote work plan for all employees as of mid-March 2020.

With COVID-19 moving to an endemic phase, we have formally returned to our previously existing hybrid work environment consisting of both local and remote employees.

Index to Financial Statements

We may need to undertake additional actions that could impact our operations as required by applicable laws or regulations, or which we determine to be in the best interests of our employees.

Index to Financial Statements

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-K

Item 7. Management’s Discussion and Analysis