CareCloud, Inc. 10-K

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following is a discussion of our consolidated financial condition and results of operations for the years ended December 31, 2022 and 2021 and other factors that are expected to affect our prospective financial condition. The following discussion and analysis should be read together with our Consolidated Financial Statements and related notes beginning on page F-1 of this Annual Report on Form 10-K. Some of the statements set forth in this section are forward-looking statements relating to our future results of operations. Our actual results may vary from the results anticipated by these statements. Please see “ Forward-Looking Statements ” on page 2 of this Annual Report on Form 10-K. Overview The Company is a healthcare information technology company that provides technology-enabled business solutions and Software-as-a-Service offerings (“SaaS”), which are often bundled, but are occasionally provided individually, together with related business services to healthcare providers and hospitals throughout the United States. Our integrated SaaS platform includes technology-assisted revenue cycle management (“RCM”), practice management (“PM”), electronic health records (“EHR”), business intelligence, telehealth, patient experience management (“PXM”) solutions and complementary software tools and business services for high-performance medical groups and health systems. At a high level, these solutions can be categorized as follows: ● Technology-enabled business solutions, which are sometimes provided as individual offerings and often provided in combination with each other, including: ○ RCM services including end-to-end medical billing, eligibility, analytics, and related services, all of which can be provided utilizing our technology platform or through a third-party system; ○ EHRs, which are easy to use and sometimes integrated with our business services, and enable our healthcare provider clients to deliver better patient care, streamline their clinical workflows, decrease documentation errors and potentially qualify for government incentives; ○ PM software and related capabilities, which support our clients’ day-to-day business operations and financial workflows, including automated insurance eligibility software, a robust billing and claims rules engine and other automated tools designed to maximize reimbursement; ○ PXM solutions designed to transform interactions between patients and their clinicians, including smartphone applications that assist patients and healthcare providers in the provision of healthcare services, including contactless digital check-in solutions, messaging and online appointment scheduling tools; 37 ○ CareCloud Wellness, a digital health solution which includes chronic care management interactions with certified care managers, remote patient monitoring which feeds patient data directly to the EHR and highlights exceptions, and telehealth solutions which allow healthcare providers to conduct remote patient visits; ○ Business intelligence and healthcare analytics platforms that allow our clients to derive actionable insights from their vast amount of data; ○ Healthcare claims clearinghouse which enables our clients to electronically scrub and submit claims and process payments from insurance companies; ○ Interoperability and data transformation software to support the complex realities of data exchange with healthcare trading partners, including labs, insurance companies, and other healthcare IT vendors; ○ Customized applications, interfaces and a variety of other technology solutions that support our healthcare clients; ○ Professional services consisting of application and advisory services, revenue cycle services, data analytic services and educational training services; and ○ Workforce augmentation and on-demand staffing to support our clients as they expand their businesses, seek highly trained personnel, or struggle with staffing shortages. ● Medical practice management services are provided to medical practices. In this service model, we provide the medical practice with appropriate facilities, equipment, supplies, support services, nurses and administrative support staff. We also provide management, bill-paying and financial advisory services. Our offshore operations in Pakistan and Sri Lanka together accounted for approximately 14% and 11% of total expenses for the years ended December 31, 2022 and 2021, respectively. A significant portion of those expenses were personnel-related costs (approximately 79% and 80% of foreign costs for the years ended December 31, 2022 and 2021, respectively). Because personnel-related costs are significantly lower in Pakistan and Sri Lanka than in the U.S. and many other offshore locations, we believe our offshore operations give us a competitive advantage over many industry participants. All of the medical billing companies that we have acquired used domestic labor or subcontractors from higher cost locations to provide all or a substantial portion of their services. We are able to achieve significant cost reductions as we shift these labor costs to our offshore operations. Key Performance Measures We consider numerous factors in assessing our performance. Key performance measures used by management include adjusted EBITDA, adjusted operating income, adjusted operating margin, adjusted net income and adjusted net income per share. These key performance measures are non-GAAP financial measures, which we believe better enable management and investors to analyze and compare the underlying business results from period to period. These non-GAAP financial measures should not be considered in isolation, or as a substitute for or superior to, financial measures calculated in accordance with accounting principles generally accepted in the United States of America (“GAAP”). Moreover, these non-GAAP financial measures have limitations in that they do not reflect all the items associated with the operations of our business as determined in accordance with GAAP. We compensate for these limitations by analyzing current and future results on a GAAP basis, as well as a non-GAAP basis, and we provide reconciliations from the most directly comparable GAAP financial measures to the non-GAAP financial measures. Our non-GAAP financial measures may not be comparable to similarly titled measures of other companies. Other companies, including companies in our industry, may calculate similarly titled non-GAAP financial measures differently than we do, limiting the usefulness of those measures for comparative purposes. Adjusted EBITDA, adjusted operating income, adjusted operating margin, adjusted net income and adjusted net income per share provide an alternative view of performance used by management and we believe that an investor’s understanding of our performance is enhanced by disclosing these adjusted performance measures. Adjusted EBITDA excludes the following elements which are included in GAAP net income: ● Income tax expense or the cash requirements to pay our taxes; ● Interest expense or the cash requirements necessary to service interest on principal payments on our debt; ● Foreign currency gains and losses and other non-operating expenses; ● Stock-based compensation expense, which includes cash-settled awards and the related taxes, based on changes in the stock price; ● Depreciation and amortization charges; ● Integration costs, such as severance amounts paid to employees from acquired businesses and transaction costs, such as brokerage fees, pre-acquisition accounting costs and legal fees and exit costs related to contractual agreements; ● Net loss on lease termination, impairment and unoccupied lease charges; and ● Change in contingent consideration. Set forth below is a presentation of our adjusted EBITDA for the years ended December 31, 2022 and 2021: Year Ended December 31, 2022 2021 ($ in thousands) Net revenue $ 138,826 $ 139,599 GAAP net income 5,432 2,836 Provision for income taxes 177 157 Net interest expense 364 440 Foreign exchange loss / other expense 712 241 Stock-based compensation expense 4,914 5,396 Depreciation and amortization 11,725 12,195 Transaction and integration costs 876 1,364 Net loss on lease termination, impairment and unoccupied lease charges 1,138 2,005 Change in contingent consideration (3,090 ) (2,515 ) Adjusted EBITDA $ 22,248 $ 22,119 Adjusted operating income and adjusted operating margin exclude the following elements which are included in GAAP operating income: ● Stock-based compensation expense, which includes cash-settled awards and the related taxes, based on changes in the stock price; ● Amortization of purchased intangible assets; ● Integration costs, such as severance amounts paid to employees from acquired businesses and transaction costs, such as brokerage fees, pre-acquisition accounting costs and legal fees and exit costs related to contractual agreements; ● Net loss on lease termination, impairment and unoccupied lease charges; and ● Change in contingent consideration. 38 Set forth below is a presentation of our adjusted operating income and adjusted operating margin, which represents adjusted operating income as a percentage of net revenue, for the years ended December 31, 2022 and 2021: Year Ended December 31, 2022 2021 ($ in thousands) Net revenue $ 138,826 $ 139,599 GAAP net income 5,432 2,836 Provision for income taxes 177 157 Net interest expense 364 440 Other expense - net 637 96 GAAP operating income 6,610 3,529 GAAP operating margin 4.8 % 2.5 % Stock-based compensation expense 4,914 5,396 Amortization of purchased intangible assets 6,277 8,880 Transaction and integration costs 876 1,364 Net loss on lease termination, impairment and unoccupied lease charges 1,138 2,005 Change in contingent consideration (3,090 ) (2,515 ) Non-GAAP adjusted operating income $ 16,725 $ 18,659 Non-GAAP adjusted operating margin 12.0 % 13.4 % Adjusted net income and adjusted net income per share exclude the following elements which are included in GAAP net income: ● Foreign currency gains and losses and other non-operating expenses; ● Stock-based compensation expense, which includes cash-settled awards and the related taxes, based on changes in the stock price; ● Amortization of purchased intangible assets; ● Integration costs, such as severance amounts paid to employees from acquired businesses and transaction costs, such as brokerage fees, pre-acquisition accounting costs and legal fees and exit costs related to contractual agreements; ● Net loss on lease termination, impairment and unoccupied lease charges; ● Change in contingent consideration; and ● Income tax expense resulting from the amortization of goodwill related to our acquisitions. 39 No tax effect has been provided in computing non-GAAP adjusted net income and non-GAAP adjusted net income per share as the Company has sufficient carry forward net operating losses to offset the applicable income taxes. The following table shows our reconciliation of GAAP net income to non-GAAP adjusted net income for the years ended December 31, 2022 and 2021: Year Ended December 31, 2022 2021 ($ in thousands) GAAP net income $ 5,432 $ 2,836 Foreign exchange loss / other expense 712 241 Stock-based compensation expense 4,914 5,396 Amortization of purchased intangible assets 6,277 8,880 Transaction and integration costs 876 1,364 Net loss on lease termination, impairment and unoccupied lease charges 1,138 2,005 Change in contingent consideration (3,090 ) (2,515 ) Income tax expense related to goodwill 75 290 Non-GAAP adjusted net income $ 16,334 $ 18,497 Year Ended December 31, 2022 2021 GAAP net loss attributable to common shareholders, per share $ (0.67 ) $ (0.77 ) Impact of preferred stock dividend 1.03 0.96 Net income per end-of-period share 0.36 0.19 Foreign exchange loss / other expense 0.05 0.02 Stock-based compensation expense 0.32 0.36 Amortization of purchased intangible assets 0.41 0.60 Transaction and integration costs 0.06 0.09 Net loss on lease termination, impairment and unoccupied lease charges 0.07 0.13 Change in contingent consideration (0.20 ) (0.17 ) Income tax expense related to goodwill 0.00 0.02 Non-GAAP adjusted earnings per share $ 1.07 $ 1.24 End-of-period common shares 15,229,405 14,916,842 In-the-money warrants and outstanding unvested RSUs 598,245 684,528 Total fully diluted shares 15,827,650 15,601,370 Non-GAAP adjusted diluted earnings per share $ 1.03 $ 1.19 For purposes of determining non-GAAP adjusted earnings per share, the Company used the number of common shares outstanding at the end of December 31, 2022 and 2021. Non-GAAP adjusted diluted earnings per share was computed using an as-converted method and includes warrants that are in-the-money as of that date as well as outstanding unvested RSUs. Non-GAAP adjusted earnings per share and non-GAAP adjusted diluted earnings per share do not take into account dividends paid on Preferred Stock. No tax effect has been provided in computing non-GAAP adjusted earnings per share and non-GAAP adjusted diluted earnings per share as the Company has sufficient carry forward net operating losses to offset the applicable income taxes. 40 Consolidated Statements of Operations Data Years Ended December 31, 2022 2021 2020 2019 2018 ($ in thousands, except per share data) Net revenue $ 138,826 $ 139,599 $ 105,122 $ 64,439 $ 50,546 Operating expenses: Direct operating costs 84,434 86,918 64,821 41,186 31,253 Selling and marketing 9,788 8,786 6,582 1,522 1,612 General and administrative 23,820 24,273 22,811 17,912 16,264 Research and development 4,401 4,408 9,311 871 1,029 Change in contingent consideration (3,090 ) (2,515 ) (1,000 ) (344 ) 73 Depreciation and amortization 11,725 12,195 9,905 3,006 2,854 Net loss on lease termination, impairment and unoccupied lease charges 1,138 2,005 963 219 - Total operating expenses 132,216 136,070 113,393 64,372 53,085 Operating income (loss) 6,610 3,529 (8,271 ) 67 (2,539 ) Interest expense - net (364 ) (440 ) (446 ) (121 ) (250 ) Other (expense) income - net (637 ) (96 ) 7 (625 ) 494 Income (loss) before provision (benefit) for income taxes 5,609 2,993 (8,710 ) (679 ) (2,295 ) Income tax provision (benefit) 177 157 103 193 (157 ) Net income (loss) $ 5,432 $ 2,836 $ (8,813 ) $ (872 ) $ (2,138 ) Preferred stock dividend 15,517 14,052 13,877 6,386 4,824 Net loss attributable to common shareholders $ (10,085 ) $ (11,216 ) $ (22,690 ) $ (7,258 ) $ (6,962 ) Weighted average common shares outstanding basic and diluted 15,109,587 14,541,061 12,678,845 12,087,947 11,721,232 Net loss per common share: basic and diluted $ (0.67 ) $ (0.77 ) $ (1.79 ) $ (0.60 ) $ (0.59 ) Consolidated Balance Sheet Data As of December 31, 2022 2021 2020 2019 2018 ($ in thousands) Cash $ 12,299 $ 10,340 $ 20,925 $ 19,994 $ 14,472 Working capital - net (1) 12,255 5,997 15,795 19,823 17,916 Total assets 136,174 140,848 137,999 56,402 47,623 Long-term debt 13 20 41 83 222 Shareholders’ equity 101,689 97,931 101,245 42,837 38,870 (1) Working capital-net is defined as current assets less current liabilities. Other Financial Data To provide investors with additional insight and allow for a more comprehensive understanding of the information used by management in its financial and operational decision-making, we supplement our consolidated financial statements presented on a basis consistent with U.S. generally accepted accounting principles, or GAAP, with adjusted EBITDA, (previously defined), a non-GAAP financial measure of earnings. Years Ended December 31, 2022 2021 2020 2019 2018 ($ in thousands) Adjusted EBITDA $ 22,248 $ 22,119 $ 10,871 $ 8,101 $ 4,802 41 Quarterly Results of Operations December 31, September 30, June 30, March 31, December 31, September 30, June 30, March 31, 2022 2022 2022 2022 2021 2021 2021 2021 ($ in thousands, except per share data) Net revenue $ 32,534 $ 33,723 $ 37,228 $ 35,341 $ 37,462 $ 38,304 $ 34,065 $ 29,768 Operating expenses: Direct operating costs 19,568 20,406 21,787 22,673 24,200 24,124 20,534 18,060 Selling and marketing 2,474 2,504 2,426 2,384 2,317 2,375 2,204 1,890 General and administrative 5,341 6,500 6,394 5,585 6,459 5,921 6,269 5,624 Research and development 1,150 1,168 1,098 985 81 488 1,813 2,026 Change in contingent consideration (200 ) (1,660 ) (630 ) (600 ) (2,515 ) - - - Depreciation and amortization 3,039 2,810 2,936 2,940 2,689 3,547 3,128 2,831 Net loss on lease termination, impairment and unoccupied lease charges 210 307 463 158 340 424 223 1,018 Total operating expenses 31,582 32,035 34,474 34,125 33,571 36,879 34,171 31,449 Operating income (loss) 952 1,688 2,754 1,216 3,891 1,425 (106 ) (1,681 ) Interest expense - net (83 ) (82 ) (104 ) (95 ) (176 ) (87 ) (113 ) (64 ) Other (expense) income - net (337 ) (495 ) 112 83 (16 ) (65 ) 205 (220 ) Income (loss) before provision (benefit) for income taxes 532 1,111 2,762 1,204 3,699 1,273 (14 ) (1,965 ) Income tax provision (benefit) 33 55 25 64 177 (232 ) 213 (1 ) Net income (loss) $ 499 $ 1,056 $ 2,737 $ 1,140 $ 3,522 $ 1,505 $ (227 ) $ (1,964 ) Preferred stock dividend 3,855 3,849 3,776 4,037 3,644 3,642 3,638 3,128 Net loss attributable to common shareholders $ (3,356 ) $ (2,793 ) $ (1,039 ) $ (2,897 ) $ (122 ) $ (2,137 ) $ (3,865 ) $ (5,092 ) Net loss per common share: Basic and diluted $ (0.22 ) $ (0.18 ) $ (0.07 ) $ (0.19 ) $ (0.01 ) $ (0.15 ) $ (0.27 ) $ (0.36 ) Adjusted EBITDA $ 5,684 $ 4,817 $ 7,017 $ 4,730 $ 6,098 $ 6,674 $ 5,656 $ 3,691 Reconciliation of net income (loss) to adjusted EBITDA The following table contains a reconciliation of net income (loss) to adjusted EBITDA by year. Years Ended December 31, 2022 2021 2020 2019 2018 ($ in thousands) Net income (loss) $ 5,432 $ 2,836 $ (8,813 ) $ (872 ) $ (2,138 ) Depreciation 1,952 1,927 1,354 909 689 Amortization 9,773 10,268 8,551 2,097 2,165 Foreign exchange loss (gain) / other expense 712 241 71 827 (435 ) Interest expense - net 364 440 446 121 250 Income tax provision (benefit) 177 157 103 193 (157 ) Stock-based compensation expense 4,914 5,396 6,502 3,216 2,464 Transaction and integration costs 876 1,364 2,694 1,735 1,891 Net loss on lease termination, impairment and unoccupied lease charges 1,138 2,005 963 219 - Change in contingent consideration (3,090 ) (2,515 ) (1,000 ) (344 ) 73 Adjusted EBITDA $ 22,248 $ 22,119 $ 10,871 $ 8,101 $ 4,802 42 The following table contains a reconciliation of net income (loss) to adjusted EBITDA by quarter. December 31, September 30, June 30, March 31, December 31, September 30, June 30, March 31, 2022 2022 2022 2022 2021 2021 2021 2021 ($ in thousands) Net income (loss) $ 499 $ 1,056 $ 2,737 $ 1,140 $ 3,522 $ 1,505 $ (227 ) $ (1,964 ) Depreciation 547 474 482 449 446 488 533 460 Amortization 2,492 2,336 2,454 2,491 2,243 3,059 2,595 2,371 Foreign exchange loss (gain) / other expense 353 523 (108 ) (56 ) 73 70 (146 ) 244 Net interest expense 83 82 104 95 176 87 113 64 Income tax provision (benefit) 33 55 25 64 177 (232 ) 213 (1 ) Stock-based compensation expense 1,515 1,328 1,184 887 1,390 1,004 1,735 1,267 Transaction and integration costs 152 316 306 102 246 269 617 232 Net loss on lease termination, impairment and unoccupied lease charges 210 307 463 158 340 424 223 1,018 Change in contingent consideration (200 ) (1,660 ) (630 ) (600 ) (2,515 ) - - - Adjusted EBITDA $ 5,684 $ 4,817 $ 7,017 $ 4,730 $ 6,098 $ 6,674 $ 5,656 $ 3,691 Key Metrics In addition to the line items in our consolidated financial statements, we regularly review the following key metrics to evaluate our business, measure our performance, identify trends in our business, prepare financial projections, make strategic business decisions, and assess market share trends and working capital needs. We believe information on these metrics is useful for investors to understand the underlying trends in our business. Providers and Practices Served: As of December 31, 2022 and December 31, 2021, we provided services to approximately 40,000 providers (which we define as physicians, nurses, nurse practitioners, physician assistants and other clinical staff that render bills for their services), representing approximately 2,600 practices. In addition, we served approximately 150 clients who were not medical practices, but are service organizations who serve the healthcare community. The foregoing numbers include clients leveraging any of our products or services and are based in part upon estimates in cases where the precise number of practices or providers is unknown. Customer Renewal Rate: Our customer renewal rate measures the percentage of our RCM clients who utilize our technology platform who were a party to a services agreement with us on January 1 of a particular year and continued to operate and be a client on December 31 of the same year. It also includes acquired accounts, if they are a party to a services agreement with the company we acquired and are generating revenue for us, so long as the risk of client loss under the respective purchase agreement has fully shifted to us by January 1 of the particular year. Our renewal rates for 2022 and 2021 were 98% and 91% of the practices, respectively. These renewal percentages are not indicative of the loss of revenue due to non-renewal. Sources of Revenue Revenue: We primarily derive our on-going revenues from technology-enabled business solutions, reported in our Healthcare IT segment, which typically includes revenue cycle management and is billed as a percentage of payments collected by our customers. This fee includes the ability to use our EHR, practice management systems and other software as part of the bundled fee. These solutions accounted for approximately 63% and 76% of our revenues during the years ended December 31, 2022 and 2021, respectively. This includes customers utilizing our proprietary product suites, as well as customers from acquisitions of RCM companies which we are servicing utilizing third-party software. Key drivers of our revenue include growth in the number of providers we are servicing, the number of patients served by those providers, and collections by those providers. It also includes Software-as-a-Service (“SaaS”) fees, for clients not utilizing revenue cycle management services. When clients utilize our revenue cycle management services, basic SaaS services are included at no additional charge. Revenue is also generated from coding, credentialing, indexing, transcription and other ancillary services. Our professional services include an extensive set of services including EHR vendor-agnostic optimization and activation, project management, IT transformation, consulting, process improvement, training, education and staffing for large healthcare organizations including health systems and hospitals. Revenue is recorded monthly on either a time and materials or a fixed rate basis for each contract. 43 We also generate revenue from our printing and mailing, group purchasing services and medical practice management services. We earned approximately 1% of our revenue from group purchasing services during both the years ended December 31, 2022 and 2021. We earned approximately 10% and 8% of our revenue from medical practice management services during the years ended December 31, 2022 and 2021, respectively. This revenue represents fees based on our actual costs plus a percentage of the operating profit and is reported in our Medical Practice Management segment. Operating Expenses Direct Operating Costs. Direct operating costs consist primarily of salaries and benefits related to personnel who provide services to our customers, claims processing costs, costs to operate the three managed practices, including facility lease costs, supplies, insurance and other direct costs related to our services. Costs associated with the implementation of new customers are expensed as incurred. The reported amounts of direct operating costs do not include depreciation and amortization, which are broken out separately in the consolidated statements of operations. Operations in our Offshore Offices together accounted for approximately 11% and 13% of direct operating costs for the years ended December 31, 2022 and 2021, respectively. As we grow, we expect to achieve further economies of scale and to see our direct operating costs decrease as a percentage of revenue. Selling and Marketing Expense. Selling and marketing expense consists primarily of compensation and benefits, commissions, travel and advertising expenses, which includes onshore and offshore personnel. General and Administrative Expense. General and administrative expense consists primarily of personnel-related expense for administrative employees, including compensation, benefits, travel, facility lease costs and insurance, software license fees and outside professional fees. Our Offshore Offices accounted for approximately 23% and 18% of general and administrative expenses for the years ended December 31, 2022 and 2021, respectively. Research and Development Expense. Research and development expense consists primarily of personnel-related costs, software expense and third-party contractor costs. Change in Contingent Consideration. Contingent consideration represents the portion of consideration payable to the sellers of some of our acquisitions, the amount of which is based on the achievement of defined performance measures contained in the purchase agreements. Contingent consideration is adjusted to fair value at the end of each reporting period. Depreciation and Amortization Expense. Depreciation expense is charged using the straight-line method over the estimated lives of the assets ranging from three to five years. Amortization expense is charged on either an accelerated or on a straight-line basis over a period of three or four years for most intangible assets acquired in connection with acquisitions including those intangibles related to the group purchasing services. Amortization expense related to the value of our medical practice management clients is amortized on a straight-line basis over a period of twelve years. Net Loss on Lease Termination, Impairment and Unoccupied Lease Charges. Net loss on lease termination represents the write-off of leasehold improvements and gains or losses as the result of lease terminations. Impairment charges represent charges recorded for a leased facility no longer being used by the Company and a non-cancellable vendor contract where the services are no longer being used. Unoccupied lease charges represent the portion of lease and related costs for vacant space not being utilized by the Company. The Company was able to turn back to the landlord one of the unused facilities effective January 1, 2022. Interest and Other Income (Expense). Interest expense consists primarily of interest costs related to our line of credit, term loans and amounts due in connection with acquisitions, offset by interest income. Other income (expense) results primarily from foreign currency transaction gains (losses) and income earned from temporary cash investments. Income Taxes. In preparing our consolidated financial statements, we estimate income taxes in each of the jurisdictions in which we operate. This process involves estimating actual current tax exposure together with assessing temporary differences resulting from differing treatment of items for tax and financial reporting purposes. These differences result in deferred income tax assets and liabilities. Although the Company reported GAAP earnings in 2022, it incurred losses historically and there is uncertainty regarding future U.S. taxable income, which make realization of a deferred tax asset difficult to support in accordance with ASC 740. Accordingly, a valuation allowance has been recorded against all deferred tax assets as of December 31, 2022 and December 31, 2021. Effective January 1, 2018, there is a global intangible low-taxed income (“GILTI”) tax. Companies can either account for the GILTI inclusion in the period in which they are incurred or establish deferred tax liabilities for the expected future taxes associated with GILTI. The Company elected to record the GILTI provisions as they are incurred each period. 44 Critical Accounting Policies and Estimates We prepare our consolidated financial statements in accordance with GAAP. The preparation of these financial statements requires us to make estimates and assumptions about future events, and apply judgments that affect the reported amounts of assets, liabilities, revenue, expense and related disclosures. We base our estimates, assumptions and judgments on historical experience, current trends and various other factors that we believe to be reasonable under the circumstances. The accounting estimates used in the preparation of our consolidated financial statements will change as new events occur, as more experience is acquired, as additional information is obtained and as our operating environment changes. On a regular basis, we review our accounting policies, estimates, assumptions and judgments to ensure that our financial statements are presented fairly and in accordance with GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material. The methods, estimates and judgments that we use in applying our accounting policies have a significant impact on our results of operations. Critical accounting policies are those policies used in the preparation of our consolidated financial statements that require management to make difficult, subjective, or complex adjustments, and to make estimates about the effect of matters that are inherently uncertain. Revenue from Contracts with Customers : We account for revenue in accordance with ASC 606, Revenue from Contracts with Customers . Our revenue recognition policies require us to make significant judgments and estimates, particularly as it relates to revenue cycle management. Under ASC 606, certain significant accounting estimates, such as payment-to-charge ratios, effective billing rates and the estimated contractual payment periods are required to measure the revenue cycle management revenue. We analyze various factors including, but not limited to, contractual terms and conditions, the credit-worthiness of our customers and our pricing policies. Changes in judgment on any of the above factors could materially impact the timing and amount of revenue recognized in a given period. Revenue is recognized as the performance obligations are satisfied. We derive revenue from five primary sources: technology-enabled business solutions, professional services, printing and mailing services, group purchasing services and medical practice management services. All of our revenue arrangements are based on contracts with customers. Most of our contracts with customers contain a single performance obligation. For contracts where we provide multiple services such as where we perform multiple ancillary services, each service represents its own performance obligation. Selling or transaction prices are based on the contractual price for the service, which is consistent with the stand-alone selling price. Technology-enabled business solutions: Our technology-enabled business solutions include our revenue cycle management and SaaS services. Revenue cycle management services are the recurring process of submitting and following up on claims with health insurance companies in order for the healthcare providers to receive payment for the services they rendered, assisted by our proprietary technology. CareCloud typically invoices customers on a monthly basis based on the actual collections received by its customers and the agreed-upon rate in the sales contract. The services include use of practice management software and related tools (on a software-as-a-service (“SaaS”) basis), electronic health records (on a SaaS basis), medical billing services and use of mobile health solutions. We consider the services to be one performance obligation since the promises are not distinct in the context of the contract. The performance obligation consists of a series of distinct services that are substantially the same and have the same periodic pattern of transfer to our customers. In many cases, our clients may terminate their agreements with 90 days’ notice without cause, thereby limiting the term in which we have enforceable rights and obligations, although this time period can vary between clients. Our payment terms are normally net 30 days. Although our contracts typically have stated terms of one or more years, under ASC 606 our contracts are considered month-to-month and accordingly, there is no financing component. 45 For the majority of our contracts which include revenue cycle management services, the total transaction price is variable because our obligation is to process an unknown quantity of claims, as and when requested by our customers over the contract period. When a contract includes variable consideration, we evaluate the estimate of the variable consideration to determine whether the estimate needs to be constrained; therefore, we include variable consideration in the transaction price only to the extent that it is probable that a significant reversal of the amount of cumulative revenue recognized will not occur when the uncertainty associated with variable consideration is subsequently resolved. Estimates to determine variable consideration such as payment to charge ratios, effective billing rates, and the estimated contractual payment periods are updated at each reporting date. Revenue is recognized over the performance period using the input method. Professional services: Revenues from professional services are recorded as the services are provided as the performance obligations are satisfied over time. Revenue is recorded based on the number of hours incurred and the agreed-upon hourly rate. Invoicing is primarily performed as of the end of each month. Practice management services: We estimate the amount that will be collected on claims submitted to insurance carriers which is used to determine the compensation to be paid to the owners of the managed practices. These compensation amounts reduce the revenue that the Company recognizes since they are deducted from gross billings. The estimate of the amounts to be received from the insurance claims are updated at each reporting period. Although we believe that our approach to estimates and judgments is reasonable, actual results could differ, and we may be exposed to increases or decreases in revenue that could be material. Our estimates of variable consideration may prove to be inaccurate, in which case we may have understated or overstated the revenue recognized in an accounting period. The amount of variable consideration recognized to date that remains subject to estimation is included within the contract asset in the consolidated balance sheets. Contingent Consideration: If a business combination provides for contingent consideration, the Company records the contingent consideration at fair value at the acquisition date. The Company adjusts the contingent consideration liability at the end of each reporting period based on fair value inputs representing changes in forecasted revenue of the acquired entities and the probability of an adjustment to the purchase price. Critical estimates include determining the forecasted revenue for certain acquisitions, probability and timing of cash collections and an appropriate discount rate. Changes in the fair value of the contingent consideration after the acquisition date are included in earnings if the contingent consideration is recorded as a liability. Goodwill Impairment: Goodwill is evaluated for impairment annually as of October 31 st , referred to as the annual test date. The Company will also test for impairment between annual test dates if an event occurs or circumstances change that would indicate the carrying amount may be impaired. Impairment testing for goodwill is performed at the reporting-unit level. The Company has determined that its business consists of two operating segments and two reporting units (Healthcare IT and Medical Practice Management). Application of the goodwill impairment test requires judgment including the use of a discounted cash flow and market approach methodology. These analyses require significant assumptions and judgments. These assumptions and judgments include estimation of future cash flows, which is dependent on internal forecasts, estimation of the long-term rate of growth for our business, estimation of the useful life over which cash flows will occur, determination of our weighted average cost of capital and the selection of comparable companies and the interpretation of their data. Future business and economic conditions, as well as differences in actual financial results related to any of the assumptions, could materially impact the consolidated financial statements through impairment of goodwill or intangible assets and acceleration of the amortization period of the purchased intangible assets which are finite-lived assets. No impairment charges were recorded during the years ended December 31, 2022 or 2021. Business Combinations: The Company accounts for business combinations under the provisions of ASC 805, Business Combinations , which requires that the acquisition method of accounting be used for all business combinations. Assets acquired and liabilities assumed are recorded at the date of acquisition at their respective fair values. The fair value amount assigned to intangible assets is based on an exit price from a market participant’s viewpoint, and utilizes data such as discounted cash flow analysis and replacement cost models. Critical estimates in valuing certain intangible assets include, but are not limited to, historical and projected client retention rates, expected future cash inflows and outflows, discount rates, and estimated useful lives of those intangible assets. ASC 805 also specifies criteria that intangible assets acquired in a business combination must meet to be recognized and reported apart from goodwill. Goodwill represents the excess purchase price over the fair value of the tangible net assets and intangible assets acquired in a business combination. Acquisition-related expenses are recognized separately from the business combinations and are expensed as incurred. 46 Results of Operations The following table sets forth our consolidated results of operations as a percentage of total revenue for the years shown. Year Ended December 31, 2022 2021 Net revenue 100.0 % 100.0 % Operating expenses: Direct operating costs 60.8 % 62.3 % Selling and marketing 7.0 % 6.3 % General and administrative 17.2 % 17.4 % Research and development 3.2 % 3.2 % Change in contingent consideration (2.2 )% (1.8 )% Depreciation and amortization 8.4 % 8.7 % Net loss on lease termination, impairment and unoccupied lease charges 0.8 % 1.4 % Total operating expenses 95.2 % 97.5 % Operating income 4.8 % 2.5 % Interest expense - net 0.3 % 0.3 % Other expense - net (0.5 )% (0.1 )% Income before provision for income taxes 4.0 % 2.1 % Income tax provision 0.1 % 0.1 % Net income 3.9 % 2.0 % Comparison of 2022 and 2021 Year Ended December 31, Change 2022 2021 Amount Percent ($ in thousands) Net revenue $ 138,826 $ 139,599 $ (773 ) (1 )% Net revenue. Net revenue of $138.8 million for the year ended December 31, 2022 decreased by $773,000 or 1% from revenue of $139.6 million for the year ended December 31, 2021. Total revenue for the year ended December 31, 2022 included approximately $29.7 million as a result of the medSR acquisition compared to $15.9 million in 2021. Revenue was negatively impacted by two large accounts from a 2020 acquisition that were winding down at the time of the acquisition. Revenue from these two customers for the years ended December 31, 2022 and 2021 was $12.1 million and $21.5 million, respectively, and is expected to be between $1 million and $2 million for the year 2023. 47 Year Ended December 31, Change 2022 2021 Amount Percent ($ in thousands) Direct operating costs $ 84,434 $ 86,918 $ (2,484 ) (3 )% Selling and marketing 9,788 8,786 1,002 11 % General and administrative 23,820 24,273 (453 ) (2 )% Research and development 4,401 4,408 (7 ) 0 % Change in contingent consideration (3,090 ) (2,515 ) (575 ) (23 )% Depreciation 1,952 1,927 25 1 % Amortization 9,773 10,268 (495 ) (5 )% Net loss on lease termination, impairment and unoccupied lease charges 1,138 2,005 (867 ) (43 )% Total operating expenses $ 132,216 $ 136,070 $ (3,854 ) (3 )% Direct Operating Costs. Direct operating costs of $84.4 million for the year ended December 31, 2022 decreased by $2.5 million or 3% from direct operating costs of $86.9 million for the year ended December 31, 2021. Salary costs decreased by $4.7 million due to the decrease in the Pakistan exchange rate, a decrease in the U.S. headcount and the redeployment of employees performing functions that were classified as direct operating costs to functions classified as research and development expense. Outsourcing and other customer processing costs increased by $1.9 million and an increase in the cost of vaccines by $514,000. Selling and Marketing Expense. Selling and marketing expense of $9.8 million for the year ended December 31, 2022 increased by $1.0 million or 11% from selling and marketing expense of $8.8 million for the year ended December 31, 2021. The increase was primarily related to additional emphasis on sales and marketing activities. General and Administrative Expense. General and administrative expense of $23.8 million for the year ended December 31, 2022 decreased by $453,000 or 2% from general and administrative expense of $24.3 million for the year ended December 31, 2021. Salary costs decreased by $1.1 million due to the decrease in the Pakistan exchange rate which was offset by the Company’s contributions to community based projects and to a new academic institution in the Bagh area, a community where the Company has a large employee base. Research and Development Expense. Research and development expense of $4.4 million remained consistent for the years ended December 31, 2022 and 2021. During the years ended December 31, 2022 and 2021, the Company capitalized approximately $9.2 million and $7.6 million of development costs in connection with its internal-use software, respectively. Change in Contingent Consideration. The change of $3.1 million and $2.5 million for the years ended December 31, 2022 and 2021, respectively, relates to changes in the fair value of the contingent consideration. Depreciation. Depreciation of $2.0 million for the year ended December 31, 2022 increased by $25,000 or 1% from depreciation of $1.9 million for the year ended December 31, 2021, primarily as a result of additional property and equipment purchases and the property and equipment obtained from the medSR acquisition. Amortization Expense. Amortization expense of $9.8 million for the year ended December 31, 2022 decreased by $495,000 or 5% from amortization expense of $10.3 million for the year ended December 31, 2021. The decrease in amortization expense was due to intangibles which were previously capitalized becoming fully amortized. Net Loss on Lease Termination, Impairment and Unoccupied Lease Charges. Net loss on lease termination represents the write-off of leasehold improvements and gains or losses as the result of lease terminations. Impairment charges represent charges recorded for a leased facility no longer being used by the Company and a non-cancellable vendor contract where the services are no longer being used. Unoccupied lease charges represent the portion of lease and related costs for that portion of the space that is vacant and not being utilized by the Company. The Company was able to turn back to the landlord one of the unused facilities effective January 1, 2022. The change was primarily due to $842,000 of impairments being recorded in 2021, whereas in 2022, there were no impairments. 48 Year Ended December 31, Change 2022 2021 Amount Percent ($ in thousands) Interest income $ 41 $ 15 $ 26 173 % Interest expense (405 ) (455 ) 50 11 % Other expense - net (637 ) (96 ) (541 ) (564 )% Income tax provision 177 157 (20 ) (13 )% Interest Income. Interest income of $41,000 for the year ended December 31, 2022 increased by $26,000 or 173% from interest income of $15,000 for the year ended December 31, 2021. Interest income primarily represents interest earned on temporary cash investments and late fees from customers. Interest Expense. Interest expense of $405,000 for the year ended December 31, 2022 decreased by $50,000 or 11% from interest expense of $455,000 for the year ended December 31, 2021. Interest expense includes the amortization of deferred financing costs which was approximately $124,000 and $200,000 during the years ended December 31, 2022 and 2021, respectively. Other Expense - net. Other expense - net was $637,000 for the year ended December 31, 2022 compared to other expense - net of $96,000 for the year ended December 31, 2021. Other expense primarily represents foreign currency transaction gains and losses. There were foreign exchange losses of $610,000 and gains of $16,000 for the years ended December 31, 2022 and 2021, respectively. These transaction gains and losses result from revaluing intercompany accounts which are denominated in U.S. dollars that represent amounts receivable/payable between the entities. Whenever the exchange rate varies, the gains and losses are recorded in the consolidated statements of operations. Income Tax Provision. There was a $177,000 provision for income taxes for the year ended December 31, 2022, compared to the provision for income taxes of $157,000 for the year ended December 31, 2021. The current income tax expense for the year ended December 31, 2022 was approximately $101,000 compared to an income tax benefit of $132,000 for the year ended December 31, 2021. In 2021, there was a net operating loss carryback of $285,000 recorded as a result of pre-acquisition losses of Meridian. The provision for 2022 and the balance for 2021 primarily relates to state and foreign income taxes. The pre-tax income was $5.6 million and $3.0 million for the years ended December 31, 2022 and 2021, respectively. The Company has incurred losses historically and there is uncertainty regarding future U.S. taxable income, which make realization of a deferred tax asset difficult to support in accordance with ASC 740. Accordingly, a valuation allowance was recorded against all deferred tax assets at December 31, 2022 and 2021. The Company has recorded goodwill as a result of its acquisitions. Goodwill is generally not amortized for financial reporting purposes. However, goodwill from asset acquisitions is tax deductible and amortized over 15 years for tax purposes. As such, deferred income tax expense and a deferred tax liability arise as a result of the tax-deductibility of this indefinitely lived asset. The resulting deferred tax liability, which is expected to continue to be recorded over the amortization period, will have an indefinite life. As a result of the Company incurring tax losses for 2022 and 2021 which have an indefinite life under the recent tax reform legislation, the federal deferred tax liability resulting from the amortization of goodwill was offset against these indefinite federal operating net loss deferred tax assets to the extent allowable. The remaining deferred tax liability could remain on the Company’s consolidated balance sheet indefinitely unless there is an impairment of goodwill (for financial reporting purposes) or a portion of the related business is sold. The Company will maintain a full valuation allowance on deferred tax assets until there is sufficient evidence to support the reversal of all or some portion of these allowances. While the Company had GAAP earnings in 2022 and plans to be profitable in the future and begin utilizing these deferred tax assets, the Company currently lacks sufficient evidence to allow it to release the valuation allowance in 2022 and 2021. Release of the valuation allowance would result in the recognition of certain deferred tax assets and an income tax benefit in the period of release. As of December 31, 2022, the Company has a total federal NOL carry forward of approximately $273 million of which approximately $199 million will expire between 2034 and 2037, and the balance of approximately $74 million has an indefinite life. Out of the total federal NOL carry forward, approximately $238 million is from the CareCloud and Meridian acquisitions and is subject to the federal Section 382 NOL annual usage limitations. The Company has state NOL carry forwards of approximately $211 million, of which $86 million relates to the State of New Jersey. These NOLs expire between 2034 and 2041. 49 Liquidity and Capital Resources During the year ended December 31, 2022, there was positive cash flow from operations of $21.2 million and at year-end, the Company had $12.3 million in cash and positive working capital of $12.3 million. During the year ended December 31, 2021, there was positive cash flow from operations of $13.3 million and at year-end, the Company had $10.3 million in cash and restricted cash and positive working capital of $6.0 million. The Company has a revolving line of credit with SVB, and as of December 31, 2022, there was $8 million outstanding. This was repaid in early January 2023. During the year ended December 31, 2022, the Company sold 1,324,858 shares of Series B Preferred Stock and raised $30.9 million in net proceeds after fees and expenses. During the year ended December 31, 2021, the Company sold 346,389 shares of common stock and raised $2.7 million in net proceeds after fees and expenses. The exercise of 858,000 warrants resulted in net proceeds of $6.4 million. The following table summarizes our cash flows for the years presented. Year Ended December 31, Change 2022 2021 Amount Percent ($ in thousands) Net cash provided by operating activities $ 21,151 $ 13,334 $ 7,817 59 % Net cash used in investing activities (11,767 ) (23,146 ) 11,379 49 % Net cash used in financing activities (7,650 ) (519 ) (7,131 ) (1,374 )% Effect of exchange rate changes on cash 225 (254 ) 479 189 % Net increase (decrease) in cash and restricted cash $ 1,959 $ (10,585 ) $ 12,544 119 % The income before income taxes was $5.6 million for the year ended December 31, 2022, of which $11.7 million was non-cash depreciation and amortization. The income before income taxes for the year ended December 31, 2021 was $3.0 million, of which $12.2 million was non-cash depreciation and amortization. Management continues to focus on the Company’s overall profitability, including growing revenue and managing expenses, and expects that these efforts will continue to enhance our liquidity and financial position. Based on management’s forecasts, the Company will have sufficient liquidity to meet its obligations as they become due for the next twelve months from the date of financial statements issuance. We have not been adversely affected by inflation as typically we receive a percentage of the fees our clients collect from our revenue cycle management services. Additionally, our medical practice management contracts are based on our costs plus a percentage of the medical practice’s operating income. We continue to monitor the impact of inflation in order to minimize its effects through pricing strategies, productivity improvements and cost reductions. In the event of inflation, we believe that we will be able to pass on any price increases for fixed rate contracts to our customers, as the prices that we charge are not governed by long-term contracts. Additionally, we have not been significantly impacted by the increase in worldwide interest rates as most of our financing has been through preferred stock, which carries a fixed interest rate, and we have not maintained significant balances outstanding on our line of credit. The Company did not have any significant employee terminations or furloughs as a result of COVID-19. Patient volumes are at or near normal levels. Operating Activities Cash provided by operating activities was $21.2 million and $ 13.3 million during the years ended December 31, 2022 and 2021, respectively. The increase in the net income of $2.6 million included the following changes in non-cash items: decrease in depreciation and amortization of $358,000, a decrease in stock-based compensation of $482,000 , and an increase in the change in contingent consideration of $575,000. Revenue decreased by $773,000 for the year ended December 31, 2022 compared to the year ended December 31, 2021, and operating expenses decreased by $3.9 million for the same period primarily due to a decrease in salary costs. 50 Accounts receivable decreased by $1.5 million and increased by $620,000 for the years ended December 31, 2022 and 2021, respectively. This excludes the acquired accounts receivable as part of the medSR acquisition. Accounts payable, accrued compensation and accrued expenses increased by $6.6 million during the year ended December 31, 2022, compared with an increase o f $10.4 million for the year ended December 31, 2021. While the cash used to pay pre-acquisition accounts payable, accrued compensation and accrued expenses was anticipated at the time of the medSR acquisition in 2021, and was considered as part of the purchase price of this transaction, it is shown as cash used by operations to conform with GAAP. Investing Activities Cash used in investing activities during the year ended December 31, 2022 was $11.8 million , a decrease of $11.4 million compared to $23.1 million during the year ended December 31, 2021. The change is due to the Company acquiring medSR for a cash consideration of $12.6 million during 2021. Capitalized software was $9.2 million and $7.6 million during the years ended December 31, 2022 and 2021, respectively. Financing Activities Cash used by financing activities during the year ended December 31, 2022 was $7.7 million, compared to $519,000 of cash used for the year ended December 31, 2021. Cash provided by financing activities during 2022 includes $30.9 million of net proceeds from issuing 1,324,858 shares of Series B Preferred Stock of which $20.0 million was used to redeem 800,000 shares of Series A Preferred Stock, offset by $1.0 million of repayments for debt obligations, and $15.3 million of preferred stock dividends. Cash provided by financing activities during 2021 includes $6.4 million of net proceeds from issuing 858,000 shares from the exercise of common stock warrants and $2.7 million of net proceeds after fees and expenses from issuing 346,389 shares of common stock via an “at-the-market” offering, offset by $1.0 million of repayments for debt obligations, and $14.4 million of preferred stock dividends. There was also $1.2 million of payments to settle the tax withholding obligations in 2022 compared to $2.1 million in 2021. The net proceeds from the line of credit were $8.0 million during the year ended December 31, 2021. There were no net proceeds from the line of credit during the year ended December 31, 2022. Contractual Obligations and Commitments We have contractual obligations under our line of credit. We also maintain operating leases for property and certain office equipment. We were in compliance with all SVB covenants in 2022. Off-Balance Sheet Arrangements As of December 31, 2022, and 2021, we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special-purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. During the first quarter of 2020, a New Jersey corporation, talkMD Clinicians, PA (“talkMD”), was formed by the wife of the Executive Chairman, who is a licensed physician, to provide telehealth services. talkMD was determined to be a variable interest entity (“VIE”) for financial reporting purposes because the entity will be controlled by the Company. As of December 31, 2022, talkMD had not yet commenced operations. The Company has made arrangements to have the income tax returns prepared for talkMD and will advance the funds for the required taxes. Cumulatively, the Company has paid approximately $4,000 on behalf of talkMD for income taxes. We do not engage in off-balance sheet financing arrangements. Item 7A. Quantitative and Qualitative Disclosures about Market Risk We are a smaller reporting company as defined by 17 C.F.R. 229.10(f)(1) and are not required to provide information under this item, pursuant to Item 305(e) of Regulation S-K. Item 8. Financial Statements and Supplementary Data See “Index to Consolidated Financial Statements” which appears on page F-1 of this Annual Report on Form 10-K. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure None. 51