Item 7. Management’s Discussion and Analysis
Item 7. Management’s Discussion and Analysis of the Results of Operations
Forward-Looking Statements
You should read the following discussion and analysis of our financial condition and results of operations in conjunction with our consolidated financial statements and the related notes included elsewhere in this Form 10-K. Our consolidated financial statements have been prepared in accordance with U.S. GAAP. The following discussion and analysis contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 (the “Exchange Act”), including, without limitation, statements regarding our expectations, beliefs, intentions or future strategies that are signified by the words “expect,” “anticipate,” “intend,” “believe,” “may,” “plan,” “seek” or similar language. All forward-looking statements included in this document are based on information available to us on the date hereof and we assume no obligation to update any such forward-looking statements. For such forward-looking statements, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. Our business and financial performance are subject to
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substantial risks and uncertainties. Actual results could differ materially from those projected in the forward-looking statements. In evaluating our business, you should carefully consider the information set forth under the heading “Risk Factors” herein and in our Annual Report on Form 10-K for the year ended December 31, 2020. As used below, the words “we,” “us” and “our” may refer to Journey Medical Corporation.
Overview
We are a commercial-stage pharmaceutical company founded in October 2014 that focuses on the development and commercialization of pharmaceutical products for the treatment of dermatological conditions. Our current portfolio includes seven branded and three authorized generic prescription drugs for dermatological conditions that are actively marketed in the U.S. We are managed by experienced life science executives with a track record of creating value for their stakeholders and bringing novel medicines to the market, enabling patients to experience increased quality of life and physicians and other licensed medical professionals to provide better care for their patients. We aim to acquire rights to future products by licensing or otherwise acquiring an ownership interest in, funding the research and development of, and eventually commercializing, the products through our exclusive field sales organization.
On November 16, 2021, we completed an IPO of our common stock, which resulted in net proceeds of approximately $30.6 million, after deducting underwriting discounts and other offering costs.
Prior to our IPO our operations were primarily financed through a working capital note from Fortress Biotech, Inc. (“Fortress”), referred to herein as the “Fortress Note,” cash generated by operations and cash raised in our private offering of our 8% Cumulative Convertible Class A Preferred Stock (“Class A Preferred Stock”). In connection with the closing of our IPO on November 16, 2021, we issued 2,231,346 shares of common stock resulting from the conversion of all of the Class A Preferred Stock. In addition, the Fortress Note was converted into 1,476,044 shares of Journey common stock at our IPO price of $10.00 per share.
We expect our expenses will increase substantially for the foreseeable future as we pursue business development opportunities, commercialize, and market new products and incur additional costs associated with operating as a public company. To date, our business has not been materially impacted by COVID-19; however, depending on the extent of the ongoing pandemic, it is possible that our business, financial condition and results of operations could be materially and adversely affected by COVID-19 in the future.
Our cash and cash equivalents balance was $49.1million at December 31, 2021.
Recent Subsequent Highlights (“VYNE Product Acquisition”)
In January 2022, we acquired AMZEEQ (minocycline) topical foam, 4%, and ZILXI (minocycline) topical foam, 1.5%, two FDA-Approved Topical Minocycline Products and Molecule Stabilizing Technology (MST)™ from VYNE Therapeutics, Inc., which expands our product portfolio to seven actively marketed branded dermatology products.
These proprietary foam-based products optimize the topical delivery of minocycline, an active pharmaceutical ingredient that was previously available only in oral form. Approved by FDA nearly 50 years ago, minocycline is a well-established molecule that has been prescribed, in oral formulation, over 30 million times in the past decade.
AMZEEQ (minocycline) topical foam, 4%, is the first and only topical formulation of minocycline to be approved by the FDA for the treatment of inflammatory lesions of non-nodular moderate to severe acne vulgaris in adults and children 9 years and older. According to the AAD, acne is the most common skin condition in the United States, affecting up to 50 million Americans annually.
Approved by the FDA in May 2020, ZILXI (minocycline) topical foam, 1.5%, is the first and only topical minocycline treatment for inflammatory lesions due to rosacea in adults. Rosacea is a common skin disease that affects 16 million Americans, according to AAD. Market research shows that over 70% of patients with rosacea are seeking better alternatives to current treatments.
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2021 Highlights and Events
● On November 16, 2021, we completed an IPO of our common stock, which resulted in net proceeds of approximately $30.6 million, after deducting underwriting discounts and other offering costs.
● In September 2021, we were the victim of a cybersecurity incident that affected our accounts payable function and led to approximately $9.5 million in wire transfers being misdirected to fraudulent accounts. The details of the incident and its origin are under investigation with the assistance of third-party cybersecurity experts working at the direction of legal counsel. The matter was reported to the Federal Bureau of Investigation and does not appear to have compromised any personally identifiable information or protected health information. Fortress, as our controlling stockholder and supporting partner in our back-office functions, provided us with $9.5 million to ensure our accounts payable operations continued to function smoothly. The $9.5 million of support was initially in the form of a related party note, which the boards of both companies have agreed and converted into 1,476,044 shares of our common stock upon the consummation of our IPO at the IPO price. See “ Risk Factors — Risk s Related to our Platform and Data — Our business and operations would suffer in the event of computer system failures, cyber-attacks, or deficiencies in our or third parties’ cybersecurity .”
● As of July 18, 2021, we privately offered and issued 750,680 shares of our Class A Preferred Stock at a price of $25.00 per share, for gross proceeds of $19.0 million (the “Class A Preferred Offering”). In connection with the closing of our IPO on November 16, 2021, we issued 2,231,346 shares of common stock resulting from the conversion of all of the Class A Preferred Stock.
● In June 2021, we entered into an agreement with DRL for the development of DFD-29, a modified release oral minocycline that is being evaluated for the treatment of inflammatory lesions of rosacea. We and DRL intend to conduct two Phase 3 clinical trials to assess the efficacy, safety and tolerability of DFD-29 as a treatment for rosacea for regulatory approval. In connection with the DFD-29 Agreement, we agreed to pay DRL additional consideration of $5.0 million in our common stock upon our IPO. In connection with the closing of our IPO on November 16, 2021, we issued 545,131 unregistered shares of common stock in the Company to DRL. The restrictions on the unregistered shares of common stock are governed by the terms set forth in the DFD-29 Agreement and applicable securities laws.
● In May 2021, we acquired Qbrexza from Dermira.
● In March 2021, we launched Accutane® (isotretinoin) for the treatment of recalcitrant nodular acne.
● On March 31, 2021, we entered into an agreement with East West Bank (“EWB”) to provide us with a $7.5 million working capital line of credit.
Other Subsequent Highlights
On January 12, 2022, we entered into a third amendment (the “Amendment”) of our loan and security agreement with EWB noted above, which increased the borrowing capacity of our revolving line of credit to $10.0 million, from $7.5 million, and added a term loan not to exceed $20.0 million. Both the revolving line of credit and the term loan mature on January 12, 2026. The term loan includes two tranches, the first of which is a $15.0 million term loan and the second of which is a $5.0 million term loan. On January 12, 2022, we borrowed $15.0 million against the first tranche of the term loan to facilitate the VYNE Product Acquisition. The term loan bears interest on its outstanding daily balance at a floating rate equal to 1.73% above the prime rate and is payable monthly, on the first calendar day each month. The term loans contain an interest only payment period through January 12, 2024, with an extension through July 12, 2024 if certain covenants are met, after which the outstanding balance of each term loan is payable in equal monthly installments of principal, plus all accrued interest, through the term loan maturity date. We may prepay all or any part of the term loan without penalty or premium, but may not re-borrow any amount, once repaid. Any outstanding borrowing against the revolving line of credit bears interest at a floating rate equal to 0.70% above the prime rate. The Amendment includes customary financial covenants such as collateral ratios and minimum liquidity provisions as well aa audit provisions.
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On February 11, 2022, we announced that our exclusive out-licensing partner in Japan, received manufacturing and marketing approval in Japan for Rapifort® Wipes 2.5% (Japanese equivalent to U.S. FDA approved QBREXZA®) for the treatment of primary axillary hyperhidrosis, triggering a net $2.5 million milestone payment to us. The net payment reflects a milestone payment of $10.0 million to us from our exclusive licensing partner in Japan, Maruho Co., Ltd. (“Maruho”), offset by a $7.5 million payment to Dermira, Inc., pursuant to the terms of the Asset Purchase Agreement between us and Dermira. In conjunction with the terms list above both trsactions were completed in March of 2021. We acquired global rights to QBREXZA® from Dermira in 2021.
On March 17, 2022, we dosed the first patient in our Phase 3 clinical trial evaluating DFD-29 (Minocycline Modified Release Capsules 40 mg) for the Treatment of Rosacea. In addition, the published phase 2 clinical data showed that DFD-29 had approximately double the efficacy compared to Doxycycline capsules 40 mg on reducing total inflammatory lesions and IGA treatment success. The trial will encompass two multicenter, randomized, double-blind, parallel-group, active and placebo-controlled Phase 3 clinical trials will each enroll up to 320 adult patients with moderate to severe papulopustular rosacea (“PPR”). One trial is enrolling patients in the United States and the other is enrolling in the United States and Europe. The studies will be randomized in a 3:3:2 ratio to DFD-29 (Minocycline Hydrochloride Modified Release Capsules, 40 mg), Oracea® (Doxycycline capsules 40 mg) or placebo once daily for 16 weeks. The primary objective of the studies is to evaluate the safety, efficacy and tolerability of DFD-29 compared to placebo for the treatment of PPR. The secondary objective is to evaluate the safety, efficacy and tolerability of DFD-29 compared to Oracea® (Doxycycline capsules 40 mg).
Critical Accounting Polices and Uses of Estimates
Our consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles, or U.S. GAAP. 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 financial statements, as well as the reported expenses incurred during the reporting periods. Our estimates are based on our historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates under different assumptions or conditions. We believe that the accounting policies discussed below are critical to understanding our historical and future performance, as these policies relate to the more significant areas involving management’s judgments and estimates.
While our significant accounting policies are described in the notes to our consolidated financial statements included elsewhere in this Report, we believe that the following critical accounting policies are most important to understanding and evaluating our reported financial results.
Revenue Recognition
Our gross product revenues are subject to a variety of deductions, which generally are estimated and recorded in the same period that the revenues are recognized. Such variable consideration represents chargebacks, coupons, discounts, other sales allowances, governmenatal rebate programs and sales returns. These deductions represent estimates of the related obligations and, as such, knowledge and judgment are required when estimating the impact of these revenue deductions on gross sales for a reporting period. Historically, adjustments to these estimates to reflect actual results or updated expectations have not been material to our overall business. Coupons , however, can have a significant impact on year-over-year individual product revenue growth trends. If any of our ratios, factors, assessments, experiences, or judgments are not indicative or accurate estimates of our future experience, our results could be materially affected. The potential of our estimates to vary differs by program, product, type of customer and geographic location. In addition, estimates associated with U.S. Medicare and Medicaid governmental rebate programs are at risk for material adjustment because of the extensive time delay.
Stock-based Compensation
We utilize stock-based compensation in the form of stock options, restricted stock units, or RSUs, and at times performance-based restricted stock units, or PSU’s. We expense stock-based compensation to employees, non-employees and Directors over the requisite service period based on the estimated grant-date fair value of the awards and actual forfeitures. All stock-based compensation costs are recorded as a component of selling, general and administrative expense in the consolidated statements of operations.
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Service based stock options and RSU’s
Compensation expense for service-based stock options is charged against operations on a straight-line basis between the grant date for the option and the vesting period, which is generally four years. We estimate the fair value of all service-based stock option awards as of the grant date by applying the Black-Scholes option pricing valuation model. The application of this valuation model involves assumptions that are highly subjective, judgmental, and sensitive in the determination of compensation cost, including expected volatility, risk-free interest rate, expected dividends and the expected term of the option. The assumptions used in calculating the fair value of stock-based awards represent management’s best estimates and involve inherent uncertainties and the application of management’s judgment.
Prior to our IPO, which closed on November 16, 2021, the fair value of our common stock underlying stock options was an input to the Black-Scholes option pricing model. We engaged an independent third-party valuation firm to provide an estimate of the fair value of its common stock annually, utilizing input from management. The fair value of our common stock was determined considering a number of objective and subjective factors, including valuations of guideline public companies, transactions of guideline public companies, discounts for lack of control transactions, lack of liquidity of our common stock and the general and industry-specific economic outlook.
RSU’s that are service based are amortized into compensation expense on a straight-line basis over the vesting period, which generally ranges from three to four years in duration. Compensation cost for service based RSU’s is based on the grant date fair value of the award, which is the closing market price of our common stock on the grant date multiplied by the number of shares awarded.
RSU’s that contain performance conditions
We recorded approximately $2.4 million of stock-based compensation expense in the fourth quarter of 2021, associated with performance-based RSU’s granted to key employees that fully vested upon the closing of our IPO.
For the years ended December 31, 2021 and 2020, stock-based compensation expense was $2.5 million and $0.2 million, respectively. As of December 31, 2021, we expect to continue to grant options and other stock-based awards in the future, and to the extent that we do, our stock-based compensation expense recognized in future periods will likely increase.
Pre-IPO Common Stock Valuations
Prior to our IPO, given the absence of a public trading market of our common stock prior to the IPO, and in accordance with the American Institute of Certified Public Accountants Practice Guide, Valuation of Privately Held Company Equity Securities Issued as Compensation , or the Practice Aid, our board of directors exercised reasonable judgment and considered numerous and subjective factors to determine the best estimate of fair value of our common stock prior to the IPO, including, but not limited to:
● relevant precedent transactions involving our capital stock;
● contemporaneous valuations performed by third-party specialists;
● rights, preferences, and privileges of our redeemable convertible preferred stock relative to those of our common stock;
● actual operating and financial performance;
● current business conditions and financial projections;
● likelihood of achieving a liquidity event, such as an initial public offering or a sale of our business;
● the lack of marketability of our common stock, and the illiquidity of stock-based awards involving securities in a private company;
● market multiples of comparable publicly-traded companies;
● stage of development;
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● industry information such as market size and growth; and
● U.S. and global capital and macroeconomic conditions.
The Practice Aid identifies various available methods for allocating enterprise value across classes and series of capital stock to determine the estimated fair value of common stock at each valuation date. In accordance with the Practice Aid, we considered the following methods:
● Option Pricing Method, or OPM. Under the OPM, shares are valued by creating a series of call options with exercise prices based on the liquidation preferences and conversion terms of each equity class. The estimated fair values of the preferred and common stock are inferred by analyzing these options. This method is appropriate to use when the range of possible future outcomes is so difficult to predict that estimates would be highly speculative, and dissolution or liquidation is not imminent.
● Probability-Weighted Expected Return Method, or PWERM. The PWERM is a scenario-based analysis that estimates value per share based on the probability-weighted present value of expected future investment returns, considering each of the possible outcomes available to us, as well as the economic and control rights of each share class.
For valuations performed beginning in 2021, prior to the initial public offering, in accordance with the Practice Aid, we used a hybrid approach of the OPM and the PWERM methods to determine the estimated fair value of our common stock as a result of the increasing likelihood of the occurrence of certain discrete events, such as a potential initial public offering, improving market conditions and receptivity of the market to initial public offerings. The enterprise value determined under the OPM and PWERM methods was weighted according to our board of directors’ estimate of the probability of the occurrence of a certain discrete event as of the valuation date. The resulting equity value for the common stock was then divided by the number of shares of common stock outstanding at the date of the valuation to derive a per share value on a non-marketable basis. In order to determine the fair value of our common stock on a marketable basis, we then applied a discount for lack of marketability which we derived based on inputs including a company-specific volatility rate, a term equal to the expected time to a future liquidity event and a risk-free rate equal to the yield on treasuries of similar duration.
Application of these approaches involves the use of estimates, judgment and assumptions that are highly complex and subjective, such as those regarding our expected future revenue, expenses, cash flows, discount rates, market multiples, the selection of comparable companies and the probability of future events. Changes in any or all of these estimates and assumptions, or the relationships between those assumptions, impact our valuations as of each valuation date and may have a material impact on the valuation of common stock. The assumptions underlying these valuations represent our management’s best estimate, which involve inherent uncertainties and the application of management judgment. As a result, if factors or expected outcomes change and we use significantly different assumptions or estimates, our stock-based compensation expense could be materially different.
Following the closing of the initial public offering, the fair value of our common stock has been determined based on the quoted market price of our common stock.
Income Taxes
As of December 31, 2021, we were 58.39% owned by Fortress Biotech, Inc. (“Fortress”) and were filing consolidated federal tax return and consolidated or combined state tax returns in multiple jurisdictions with Fortress for tax years prior to 2021. As we completed our initial public offering on November 12, 2021, we deconsolidated from Fortress consolidated group for federal income tax purpose. Our financial statements recognize the current and deferred income tax consequences that result from our activities during the current and preceding periods pursuant to the provisions of Accounting Standards Codification Topic 740, Income Taxes (ASC 740), as if we were a separate taxpayer rather than a member of the Fortress consolidated income tax return group. Fortress has agreed that we do not have to make payments to Fortress for our use of net operation losses (“NOLs”) of Fortress (including other Fortress group members). Since Fortress does not require us to pay in any form for the utilization of the consolidated group’s NOLs, the tax benefit we realize have been recorded as a capital contribution.
We record income taxes using the asset and liability method. Deferred income tax assets and liabilities are recognized for the future tax effects attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective income tax bases, and operating loss and tax credit carryforwards. We establish a valuation allowance if management believes it is more likely than not that the deferred tax assets will not be recovered based on an evaluation of objective verifiable evidence. Management has considered our history of cumulative tax and book income/loss incurred since inception, and the other positive and
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negative evidence, and has concluded that it is not more likely than not that we will realize the benefits of the net deferred tax assets as of December 31, 2021 and therefore a full valuation allowance on all of our deferred tax assets is required. We did not record any valuation allowance as of December 31, 2020.
For tax positions that are more likely than not of being sustained upon audit, we recognize the largest amount of the benefit that is greater than 50% likely of being realized. For tax positions that are not more likely than not of being sustained upon audit, we do not recognize any portion of the benefit. As of December 31, 2021, we had no unrecognized tax benefits and do not anticipate any significant change to the unrecognized tax benefit balance. We classify interest and penalties related to uncertain tax positions as income tax expense, if applicable. There was no interest expense or penalties related to unrecognized tax benefits recorded through December 31, 2021.
Recent Accounting Pronouncements
See Note 2 to our consolidated financial statements included elsewhere in this report on Form 10-K for information about recent accounting pronouncements, the timing of their adoption, if applicable, and our assessment, if any, of their potential impact on our financial condition and results of operations.
Smaller Reporting Company Status
We are a “smaller reporting company,” meaning that the market value of our shares held by non-affiliates is less than $700 million and our annual revenue was less than $100 million during the most recently completed fiscal year. We may continue to be a smaller reporting company if either (i) the market value of our shares held by non-affiliates is less than $250 million or (ii) our annual revenue was less than $100 million during the most recently completed fiscal year and the market value of our shares held by non-affiliates is less than $700 million. As a smaller reporting company, we may choose to present only the two most recent fiscal years of audited financial statements in our Annual Report on Form 10-K, have reduced disclosure obligations regarding executive compensation, and smaller reporting companies are permitted to delay adoption of certain recent accounting pronouncements discussed in Note 2 to our consolidated financial statements in this report on Form 10-K.
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Results of Operations
Comparison of the Years Ended December 31, 2021 and 2020
The following table summarizes our results of operations for the years ended December 31, 2021 and 2020:
Year Ended December 31,
Change
($ in thousands, except per share data)
2021
2020
$
%
Product revenue, net
$
63,134
$
44,531
$
18,603
42
%
Operating expenses
Cost of goods sold - product revenue
32,084
14,594
17,490
120
%
Research and development
2,739
—
2,739
100
%
Research and development - licenses acquired
13,819
—
13,819
100
%
Selling, general and administrative
39,833
22,086
17,747
80
%
Wire transfer fraud loss
9,540
—
9,540
100
%
Total operating expenses
98,015
36,680
61,335
167
%
(Loss) income from operations
(34,881)
7,851
(42,732)
(544)
%
Other expense
Interest income
(2)
—
(2)
100
%
Interest expense
7,034
698
6,336
908
%
Change in fair value of derivative liability
447
—
447
100
%
Total other expense
7,479
698
6,781
971
%
Net (Loss) income before income taxes
(42,360)
7,153
(49,513)
(692)
%
Income tax expense
1,634
1,870
(236)
(13)
%
Net (loss) income
$
(43,994)
$
5,283
$
(49,277)
(933)
%
Revenues
The following table reflects our net product revenue by product:
Year Ended December 31,
Change
($ in thousands)
2021
2020
$
%
Targadox ®
$
22,378
$
30,708
$
(8,330)
(27)
%
Ximino ®
8,247
9,518
(1,271)
(13)
%
Exelderm ®
5,363
4,453
910
20
%
Accutane ®
10,053
—
10,053
100
%
Qbrexa ®
17,056
—
17,056
100
%
Other branded revenue
37
(148)
185
(125)
%
Total product revenues, net
$
63,134
$
44,531
$
18,603
42
%
Total net product revenues increased $18.6 million, or 42%, to $63.1 million for the year ended December 31, 2021, from $44.5 million for the year ended December 31, 2020. The increase is primarily due to incremental revenues from our newly launched products, Accutane, launched in the first quarter of 2021, and Qbrexza, launched during the second quarter of 2021. Offsetting the increase is a decrease in our legacy product, Ximino primarily driven by increased promotional emphasis from our salesforce to Accutane, and increased pressure from generic competition.
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Gross-to-net sales accruals and the balance in the related allowance accounts for the years ended December 31, 2021, 2020 and 2019 were as follows:
Chargebacks
and
Managed
Distributor
Care
Gov’t
($’s in thousands)
Service Fees
Returns
Coupons
Rebates
Rebates
Total
Balance at December 31, 2019
$
—
$
4,516
$
7,306
$
1,985
$
—
$
13,807
Current provision related to sales in the current period
—
1,294
100,168
(537)
—
100,925
Checks/Credits issued to third parties
—
(2,130)
(95,805)
(1,348)
—
(99,283)
Reclassifications between liability accounts
—
(1,100)
1,100
—
—
—
Balance at December 31, 2020
$
—
$
2,580
$
12,769
$
100
$
—
$
15,449
Current provision related to sales in the current period
1,610
3,564
140,871
9,025
690
155,760
Checks/Credits issued to third parties
—
(2,589)
(148,963)
(5,633)
—
(157,185)
Reclassifications between liability accounts
—
(315)
315
—
—
—
Balance at December 31, 2021
$
1,610
$
3,240
$
4,992
$
3,492
$
690
$
14,024
We have established provisions for chargebacks resulting from the launch of our new products noted above. Included in the reserve for chargebacks and distributor service fees are provisions for prompt pay discounts.
Provisions for sales returns increased by $0.7 million in 2021 compared to 2020 mainly due to incremental provisions resulting from our newly launched products, Accutane, launched in the first quarter of 2021, and Qbrexza, acquired during the second quarter of 2021.
The provision for coupons decreased by $7.8 million in 2021 compared to 2020 mainly due to the timing of payments in 2020.
Managed care and Government rebate provisions increased by $3.4 million for 2021 compared to 2020 due to by higher sales volumes and a greater portion of sales qualifying for managed care rebates.
Cost of Goods Sold
Cost of goods sold for increased $17.5 million, to $32.1 million for the year ended December 31, 2021, from $14.6 million for the year ended December 31, 2020. Cost of goods sold was 50.8% and 32.8% of net product revenues for the years ended December 31, 2021 and 2020, respectively. The increase primarily reflects the step-up to fair value charge of approximately $6.5 million for the Qbrexza inventory from the asset purchase in the second quarter of 2021 as well as the increase in royalty expense related to Qbrexza.
Research and Development
Research and Deelopment expense increased to $2.7 million for the year ended December 31, 2021, from zero for the year ended December 31, 2020. The increase is related to clinical trial expenses to develop our DFS-29 product. We expect these expenses to increase as patients are fully enrolled in the trials.
Research and Development – Licenses Acquired
Research and development - licenses acquired expenses are incremental from period-to-period and reflect current year expenses of $13.8 million for in-process R&D as a result of the upfront payment of $10.0 million and a $3.8 million non-cash contingent payment related to the DFD-29 Agreement.
Selling, General and Administrative Expenses (“SG&A”)
Selling, general and administrative expenses increased $17.7 million to $39.8 million for the year ended December 31, 2021, from $22.1 million for the year ended December 31, 2020. The increase is primarily attributable to the expansion of our salesforce and marketing expense related to our expanded product portfolio. In addition, SG&A for the year ended December 31, 2021 includes incremental non-cash stock-based compensation expense of $2.4 million related to the vesting of restricted performance units in connection with the closing of our IPO on November 16, 2021. Finally, the company expanded its finance and accounting staff in the fourth quarter of 2021. Along with other supporting services related to being a public company.
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Wire Transfer Fraud Loss
In September 2021, wire fraud related costs totaled approximately $9.5 million. These costs were attributable to funds erroneously wired to fraudulent accounts as a result of a sophisticated business email compromise fraud scheme.
Interest Expense and Financing Fees
Interest expense and financing fees increased $6.3 million to $7.0 million for the year ended December 31, 2021, from $0.7 million for year ended December 31, 2020. The increase is primarily attributable to interest, fees and dividends payable related to our liability classified convertible preferred shares and interest expense related to our installment payment licensees. In addition, we recorded incremental interest expense for our preferred shares and debt fees due to the settlement and conversion to common stock as a result of the closing of our IPO on November 16, 2021.
Change in Fair Value of Derivative Liabilities
The change in fair value of derivative liabilities reflects the derivative mark-to-market accounting to mark to fair value the contingent payment liability to Dr. Reddy and liability classified warrants and the placement agent warrants as a result of the settlement and conversion of these warrant liabilities to our common stock. In connection with the our IPO we issued 111,567 shares of common stock for settlement of all of the placement agent warrants. In addition, we issued 545,131 unregistered shares of common stock to Dr. Reddy in settlement of the contingent payment. We have no derivative liabilities outstanding at December 31, 2021.
Income tax expense
Our effective tax rate for 2021 and 2020 was (3.86)% and 26.18%, respectively. The negative effective tax rate of 3.86% for the year ended December 31, 2021 was principally due to our full valuation allowance position. Our tax rate is affected by recurring items, such as the U.S. federal and state statutory tax rates and the relative amounts of income we earn in those jurisdictions. It is also affected by discrete items that may occur in any given year but are not consistent from year to year. The effective tax rate for the for year ended December 31, 2021 varied significantly from the effective tax rate from the prior year primarily due to unfavorable permanent book tax differences and our full valuation allowance position.
Liquidity and Capital Resources
At December 31, 2021, we had $49.1 million in cash and cash equivalents as compared to $8.2 million at December 31, 2020.
On November 16, 2021, we completed an IPO of our common stock, which resulted in net proceeds of approximately $30.6 million, after deducting underwriting discounts and other offering costs.
Prior to our IPO, our operations were primarily financed through a working capital note from Fortress, referred to herein as the “Fortress Note,” cash generated by operations and cash raised in our private offering of our 8% Cumulative Convertible Class A Preferred Stock (“Class A Preferred Stock”). In connection with the closing of our IPO on November 16, 2021, we issued 2,231,346 shares of common stock resulting from the conversion of all of the preferred stock. In addition, the Fortress Note was converted into 1,476,044 shares of Journey common stock at our IPO price of $10.00 per share. In addition, we have access to a working capital line of credit as discussed below. For the next twelve months from the issuance of these audited consolidated financial statements, we will be able to fund our operations through a combination of operating activities and the East West Bank Working Line of Credit.
We expect our expenses will increase substantially for the foreseeable future as we pursue business development opportunities, commercialize and market new products and incur additional costs associated with operating as a public company. To date, our business has not been materially impacted by COVID-19; however, depending on the extent of the ongoing pandemic, it is possible that our business, financial condition and results of operations could be materially and adversely affected by COVID-19 in the future.
We may require additional financing to pursue both development stage and commercial opportunities. In addition, we anticipate increased commercialization expenses related to the launch of new products, as well as increased costs related to development and regulatory approval of potential development stage product acquisitions, including DFD-29. As we continue to expand our product portfolio, we may need to fund possible future operating losses, and, if deemed appropriate, establish or secure through additional third-party manufacturing for our products, and expanded sales and marketing capabilities related to recent product acquisitions. We believe
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that our current cash and cash equivalents is sufficient to fund operations for at least the next twelve months. Our failure to raise capital as and when needed would have a material adverse impact on our financial condition and our ability to pursue our business strategies.
Line of Credit
On March 31, 2021, we entered into a Loan and Security Agreement with East West Bank (“EWB Loan”) for $7.5 million, that was amended to $10.0 million in January 2022 as part of a loan expansion, which also included a $20.0 million term loan totaling $30.0 million in borrowing capacity. In January 2022, we borrowed $20.0 million against the term loan portion of the amended EWB loan to facilitate the purchase of the VYNE products.
Class A Preferred Stock Offering
As of July 18, 2021, we completed five closings in connection with the Class A Preferred Offering (“Closings”). As a result of the Closings, we issued an aggregate of 758,680 Class A Preferred shares at a price of $25.00 per share, for gross proceeds of $19.0 million. Following the payment of placement agent fees of $1.9 million, and other expenses of $0.1 million, we received $17.0 million of net proceeds. As noted above, in connection with the closing of our IPO on November 16, 2021, we issued 2,231,346 shares of common stock resulting from the conversion of all of the preferred stock. Pursuant to its terms the Class A Preferred Stock automatically converted into our common stock at the IPO date at a discount of 15% to the per share qualified stock price.
Dividends on the Class A Preferred Stock of 8% annually are paid on a quarterly basis by Fortress in the form of shares of Fortress’ common stock based upon a 7.5% discount to the average trading price over the 10-day period preceding the dividend payment date. Furthermore, Fortress is obligated to file one or more registration statements covering the issuance of shares that result from such dividends/exchange. As consideration for the foregoing issuances by Fortress of its securities, we will issue to Fortress additional shares of our common stock, debt securities, or a combination of the foregoing.
Although our Class A Preferred Stock is in the form of preferred stock, in substance this instrument was accounted for as a liability on our consolidated balance sheet as it converted into a variable number of shares at settlement related to the original amount invested and as such it did not contain a true conversion feature.
Cash Flows for the Years Ended December 31, 2021 and 2020
For the Years Ended December 31,
($ in thousands)
2021
2020
Change
Net cash (used in) provided by operating activities
$
(2,181)
$
5,132
$
(7,313)
Net cash used in investing activities
(10,000)
(1,200)
(8,800)
Net cash provided by (used in) financing activities
53,016
(487)
53,503
Net change in cash and cash equivalents
$
40,835
$
3,445
$
37,390
Operating Activities
Net cash used in operating activities increased to $2.2 million for the year ended December 31, 2021 from net cash provided by operating activities of $5.1 million for the year ended December 31, 2020. The decrease is primarily attributable to our net loss of $44.0 million, offset by increases in accounts payable, and expense for development-licenses acquired. The increases reflect costs related to the continued commercialization and expansion of our product portfolio, including the purchases of licenses and sales and marketing related costs as well as costs associated with being a new public company.
Investing Activities
Net cash used in investing activities was $10.0 million and $1.2 million for the years ended December 31, 2021 and 2020, respectively. The increase is related to the purchase of research and development licenses.
Financing Activities
Net cash provided by financing activities was $53.0 million for the year ended December 31, 2021. Net cash used in financing activities was $0.5 million for the year ended December 31, 2020. The increase is substantially related to $31.0 million in net proceeds received
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from the closing of our IPO and $9.5 million and net proceeds of $17.0 million received from the Fortress Note, and net proceeds from the Class A Preferred Offering, respectively, offset by $5.3 million payment of our license note payable.
Off-Balance Sheet Arrangements
We did not have during the periods presented, nor do we currently have, any off-balance sheet arrangements, as defined in the rules and regulations of the SEC.
Item 7A. Quantitative and Qualitative Disclosures About Market Risks
We are a smaller reporting company as defined by Rule 12b-2 of the Exchange Act and are not required to provide the information otherwise required under this item.
Item 8. Financial Statements and Supplementary Data.
The information required by this Item is set forth in the financial statements and notes thereto beginning at 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.