What changed in this filing

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Item 2. Management’s Discussion and Analysis

2022-10-27 compared with 2022-07-28 · 61 added, 58 removed, 244 unchanged (33% of the section changed)

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Global Presence

We have built a direct sales organization in the North America, Asia Pacific, Europe and the Middle East to call on health care professionals, such as endocrinologists, physicians and diabetes educators, who can educate and influence patient adoption of continuous glucose monitoring.

We have built a direct sales organization in North America, Asia Pacific, Europe, and the Middle East to call on health care professionals, such as endocrinologists, physicians and diabetes educators, who can educate and influence patient adoption of continuous glucose monitoring.

To complement our direct sales efforts, we have entered into distribution arrangements in the United States, and certain countries in Africa, Asia, Europe, Latin America, and the Middle East, as well as Australia, Canada, and New Zealand that allow distributors to sell our products.

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The critical accounting estimates that are most critical to a full understanding and evaluation of our reported financial results are described in Management’s Discussion and Analysis of Financial Condition and Results of Operations in Item 7 of our Annual Report on Form 10-K for the fiscal year ended December 31, 2021.

There were no material changes to our critical accounting estimates during the six months ended June 30, 2022.

There were no material changes to our critical accounting estimates during the nine months ended September 30, 2022.

Overview of Financial Results

The most important financial indicators that we use to assess our business are revenue growth, gross profit, operating income, net income, and cash flow from operations.

Key Highlights for the Three Months Ended June 30, 2022 include the following:

Revenue Gross Profit Operating Income Net Income Operating Cash Flow

Key Highlights for the Three Months Ended September 30, 2022 include the following:

Revenue Gross Profit Operating Income Net Income Operating

$769.6 million $494.2 million $147.5 million $101.2 million $293.2 million

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up 11% from the same period 2021

down 24% from the same period 2021

down 35% from the same period 2021

up 25% from the same period 2021

We ended the second quarter of 2022 with cash, cash equivalents and short-term marketable securities totaling $2.75 billion.

up 16% from the same period 2021

up 19% from the same period 2021

We ended the third quarter of 2022 with cash, cash equivalents and short-term marketable securities totaling $2.37 billion.

Business Trends

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Financial Overview

Three Months Ended June 30, 2022 Compared to Three Months Ended June 30, 2021

Three Months Ended June 30, 2022 - 2021

Three Months Ended September 30, 2022 Compared to Three Months Ended September 30, 2021

Three Months Ended September 30, 2022 - 2021

(In millions, except per share amounts) 2022 % of Revenue (1)

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Interest expense (4.6) (1) % (4.6) (1) % — — %

Income from equity investments — — % — — % — **

Interest and other income, net 3.0 — % 0.9 — % 2.1 **

Interest and other income (expense), net 3.3 — % (1.7) — % 5.0 **

Income before income taxes 146.2 19 % 112.0 17 % 34.2 31 %

Income tax expense (benefit) 24.4 4 % 18.7 3 % 5.7 30 %

Income tax expense 45.0 6 % 24.7 4 % 20.3 82 %

Net income $ 101.2 13 % $ 87.3 13 % $ 13.9 16 %

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Income from equity investments

Income from equity investments is comprised of of realized gains from the sale of an equity investment.

Interest and other income, net

Interest and other income, net consists primarily of interest income on our marketable debt securities portfolio and foreign currency transaction gains and losses due to the effects of foreign currency fluctuations.

Three Months Ended June 30, 2022 Compared to

Three Months Ended June 30, 2021

Revenue The revenue increase was primarily due to increased sales volume of our disposable sensors due to the continued growth of our worldwide customer base, partially offset by mix shift and price associated with the evolution of our channel strategy.

Disposable sensor and other revenue comprised approximately 86% of total revenue and Reusable Hardware revenue comprised approximately 14% of total revenue for the three months ended June 30, 2022.

Disposable sensor and other revenue comprised approximately 83% of total revenue and Reusable Hardware revenue comprised approximately 17% of total revenue for the three months ended June 30, 2021.

Income from equity investments is comprised of realized gains from the sale of an equity investment.

Interest and other income (expense), net

Interest and other income (expense), net consists primarily of interest income on our marketable debt securities portfolio and foreign currency transaction gains and losses due to the effects of foreign currency fluctuations.

Three Months Ended September 30, 2022 Compared to

Three Months Ended September 30, 2021

Disposable sensor and other revenue comprised approximately 87% of total revenue and Reusable Hardware revenue comprised approximately 13% of total revenue for the three months ended September 30, 2022.

Disposable sensor and other revenue comprised approximately 84% of total revenue and Reusable Hardware revenue comprised approximately 16% of total revenue for the three months ended September 30, 2021.

Cost of Sales & Gross Profit Cost of sales and gross profit increased primarily due to an increase in sales volume.

The decrease in gross profit margin in the second quarter of 2022 compared to the second quarter of 2021 was primarily driven by price and channel mix changes.

Research and Development Expense Research and development expense decreased primarily due to $10.3 million in lower third party and consulting fees related to software development for new products and significant enhancements and $6.0 million in lower losses from disposal of assets related to the automation of our production capabilities, partially offset by $4.6 million in compensation-related costs primarily due to higher headcount.

The decrease in gross profit margin in the third quarter of 2022 compared to the third quarter of 2021 was primarily driven by price, product, and channel mix changes and pressure on revenue due to sales in foreign currencies.

Research and Development Expense Research and development expense decreased primarily due to $13.5 million in lower third party and consulting fees related to software development for new products and significant enhancements,$3.8 million in lower costs related to set-up and validation costs for new CGM equipment, and $2.6 million in lower clinical trials costs.

We continue to believe that focused investments in research and development are critical to our future growth and competitive position in the marketplace, and to the development of new and updated products and services that are central to our core business strategy.

Selling, General and Administrative Expense Selling, general and administrative expense increased primarily due to $19.1 million in advertising and marketing costs due to an increase in worldwide marketing campaigns, $12.9 million in compensation-related costs primarily due to higher headcount, $6.1 million in depreciation expense primarily due to higher property and equipment balances and accelerated depreciation related to business transition activities, $5.9 million in legal expense related to litigation, $5.5 million in consulting fees, and $4.1 million in travel and entertainment expenses.

Income Tax Expense (Benefit) Our estimated annual effective tax rate from normal, recurring operations increased from 30.2% to 31.4% during the three months ended June 30, 2022 primarily due to impacts of foreign operations.

There were no significant discrete items recognized for the three months ended June 30, 2022.

The income tax expense recorded for the three months ended June 30, 2021 is primarily attributable to excess tax benefits recognized for employee share-based compensation and a one-time tax benefit related to the revaluation of our U.K.

net operating loss deferred tax asset resulting from the increase in the U.K.

corporate rate from 19% to 25%, effective April 2023, offset by income tax expense from normal, recurring operations.

Six Months Ended June 30, 2022 Compared to Six Months Ended June 30, 2021

Six Months Ended June 30, 2022 - 2021

Selling, General and Administrative Expense Selling, general and administrative expense increased primarily due to $12.3 million in compensation-related costs primarily due to higher headcount, $6.7 million in advertising and marketing costs due to an increase in worldwide marketing campaigns, $4.9 million in legal expense related to litigation, and $1.6 million in travel and entertainment expenses.

Income Tax Expense Our estimated annual effective tax rate from normal, recurring operations decreased from 31.4% to 31.1% during the three months ended September 30, 2022 primarily due to impacts of foreign operations.

There were no significant discrete items recognized for the three months ended September 30, 2022.

The income tax expense recorded for the three months ended September 30, 2021 is primarily attributable to excess tax benefits recognized for employee share-based compensation, offset by income tax expense from normal, recurring operations.

Nine Months Ended September 30, 2022 Compared to Nine Months Ended September 30, 2021

Nine Months Ended September 30, 2022 - 2021

(In millions, except per share amounts) 2022 % of Revenue (1)

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Income from equity investments 0.2 — % — — % 0.2 **

Interest and other income, net 2.2 — % 1.0 — % 1.2 **

Interest and other income (expense), net 5.5 — % (0.7) — % 6.2 **

Income before income taxes 257.6 12 % 250.4 14 % 7.2 3 %

Income tax expense (benefit) (36.8) (3) % 3.5 — % (40.3) **

Income tax expense 8.2 — % 28.2 2 % (20.0) (71) %

Net income $ 249.4 12 % $ 222.2 13 % $ 27.2 12 %

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** Not meaningful

Six Months Ended June 30, 2022 Compared to

Six Months Ended June 30, 2021

Revenue The revenue increase was primarily driven by increased sales volume of our disposable sensors due to the continued growth of our worldwide customer base, partially offset by mix shift and price associated with the evolution of our channel strategy.

Disposable sensor and other revenue comprised approximately 86% of total revenue and Reusable Hardware revenue comprised approximately 14% of total revenue for the six months ended June 30, 2022.

Disposable sensor and other revenue comprised approximately 84% of total revenue and Reusable Hardware revenue comprised approximately 16% of total revenue for the six months ended June 30, 2021.

Nine Months Ended September 30, 2022 Compared to

Nine Months Ended September 30, 2021

Disposable sensor and other revenue comprised approximately 86% of total revenue and Reusable Hardware revenue comprised approximately 14% of total revenue for the nine months ended September 30, 2022.

Disposable sensor and other revenue comprised approximately 84% of total revenue and Reusable Hardware revenue comprised approximately 16% of total revenue for the nine months ended September 30, 2021.

Cost of Sales & Gross Profit Cost of sales and gross profit increased primarily due to an increase in sales volume.

The decrease in gross profit margin in 2022 compared to 2021 was primarily driven by price and channel mix changes and increases in excess and obsolescence reserves related to the phase out of older generation CGMs.

Research and Development Expense Research and development expense increased primarily due to $16.0 million in compensation-related costs primarily due to higher headcount, $5.0 million in costs related to set-up and validation costs for new CGM equipment, and $4.5 million in depreciation expense for equipment in service relating to new products prior to regulatory approval, partially offset by $7.3 million in lower third party and consulting fees primarily related to software development for new products and significant enhancements and $5.2 million in lower losses from disposal of assets related to the automation of our production facilities.

The decrease in gross profit margin in 2022 compared to 2021 was primarily driven by price, product, and channel mix changes and pressure on revenue due to sales in foreign currencies.

Research and Development Expense Research and development expense increased primarily due to $17.9 million in compensation-related costs primarily due to higher headcount and various increases to individually insignificant items, partially offset by $20.8 million in lower third party and consulting fees primarily related to software development for new products and significant enhancements.

Selling, General and Administrative Expense Selling, general and administrative expense increased primarily due to $23.4 million in advertising and marketing costs due to an increase in worldwide marketing campaigns, $22.7 million in compensation-related costs primarily due to higher headcount, $8.6 million in legal expense related to litigation, $8.0 million in depreciation expense primarily due to higher property and equipment balances and accelerated depreciation related to business transition activities, and $7.7 million in travel and entertainment expenses.

Income Tax Expense (Benefit) The income tax benefit we recorded for the six months ended June 30, 2022 is primarily attributable to income tax expense from normal, recurring operations offset by excess tax benefits recognized for share-based compensation for employees (net of disallowed executive compensation) and the Verily milestone payment, and generation of research and development tax credits.

The income tax expense we recorded for the six months ended June 30, 2021 is primarily attributable to normal, recurring operations partially offset by excess tax benefits recognized for employee share-based compensation (net of disallowed executive compensation) and a one-time tax benefit related to the revaluation of our U.K.

Selling, General and Administrative Expense Selling, general and administrative expense increased primarily due to $35.0 million in compensation-related costs primarily due to higher headcount, $30.1 million in advertising and marketing costs due to an increase in worldwide marketing campaigns, $13.5 million in legal expense related to litigation, $9.3 million in travel and entertainment expenses, and $9.1 million in depreciation expense primarily due to higher property and equipment balances and accelerated depreciation related to business transition activities.

Income Tax Expense The income tax expense recorded for the nine months ended September 30, 2022 is primarily attributable to income tax expense from normal, recurring operations offset by excess tax benefits recognized for share-based compensation for employees (net of disallowed executive compensation) and the Verily milestone payment, and generation of research and development tax credits.

The income tax expense recorded for the nine months ended September 30, 2021 is primarily attributable to normal, recurring operations, partially offset by excess tax benefits recognized for share-based compensation for employees (net of disallowed executive compensation) and a one-time tax benefit related to the revaluation of our U.K.

net operating loss deferred tax asset resulting from the increase in the U.K.

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Cash, cash equivalents and short-term marketable securities

Our cash, cash equivalents and short-term marketable securities totaled $2.75 billion as of June 30, 2022.

Our cash, cash equivalents and short-term marketable securities totaled $2.37 billion as of September 30, 2022.

None of those funds were restricted and approximately 96% of those funds were located in the United States.

Cash flow from Operations

For the six months ended June 30, 2022, we had positive cash inflows of $243.8 million from operating activities.

For the nine months ended September 30, 2022, we had positive cash inflows of $537.0 million from operating activities.

We anticipate that we will continue to generate positive cash inflows for the foreseeable future.

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Revolving Credit Agreement

As of June 30, 2022, we had no outstanding borrowings, $7.3 million in outstanding letters of credit, and a total available balance of $192.7 million under the Amended Credit Agreement.

As of September 30, 2022, we had no outstanding borrowings, $7.3 million in outstanding letters of credit, and a total available balance of $192.7 million under the Amended Credit Agreement.

We monitor counterparty risk associated with the institutional lenders that are providing the Credit Facility.

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Our short-term liquidity requirements primarily consist of regular operating costs, interest payments related to our senior convertible notes, capital expenditures for the development of our manufacturing facilities and office spaces, and short-term material cash requirements as described below.

As of June 30, 2022, we had a working capital ratio of 4.72 and a quick ratio of 4.11, which indicates that our current assets are more than enough to cover our short-term liabilities.

As of September 30, 2022, we had a working capital ratio of 3.77 and a quick ratio of 3.26, which indicates that our current assets are more than enough to cover our short-term liabilities.

We expect to have significant capital expenditures for the next year to drive our strategic initiative of building out our manufacturing facility and equipment in Malaysia and the capacity scale-up in Mesa, Arizona.

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On July 26, 2022, a duly authorized committee of our Board of Directors authorized a share repurchase program of up to $700.0 million of our outstanding common stock, with a repurchase period ending no later than June 30, 2023.

See Note 10 “Subsequent Events” to the consolidated financial statements in Part I, Item 1 of this Quarterly Report for more details.

For the nine months ended September 30, 2022, we have repurchased $557.7 million of our outstanding common stock.

See Note 8 “Stockholders’ Equity” to the consolidated financial statements in Part I, Item 1 of this Quarterly Report for more details.

Long-term Liquidity Requirements

Our long-term liquidity requirements primarily consist of interest and principal payments related to our senior convertible notes, capital expenditures for the development of our manufacturing facilities and office spaces, and long-term material cash requirements as described below.

As of June 30, 2022, we had a debt-to-assets ratio of 0.38, which indicates that our total assets are more than enough to cover our short-term and long-term debts.

As of September 30, 2022, we had a debt-to-assets ratio of 0.40, which indicates that our total assets are more than enough to cover our short-term and long-term debts.

As demand grows for our products, we will continue to expand global operations to meet demand through investments in manufacturing and operations.

We expect to meet our long-term liquidity requirements from our main sources of liquidity as described above to support our future operations, capital expenditures, acquisitions, and other liquidity requirements associated with our operations beyond the next 12 months.

As of June 30, 2022, we have outstanding senior convertible notes that will mature in December 2023 for the 2023 Notes and November 2025 for the 2025 Notes.

As of September 30, 2022, we have outstanding senior convertible notes that will mature in December 2023 for the 2023 Notes and November 2025 for the 2025 Notes.

However, the outstanding principal of our senior convertible notes could be converted into cash and/or shares of our common stock prior to maturity once certain conditions are met.

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Any conversion prior to maturity can result in repayment of the principal amounts sooner than the scheduled repayment.

As of June 30, 2022, we had outstanding letters of credit of $7.3 million for which we cannot forecast with certainty the amount and timing of repayments.

As of September 30, 2022, we had outstanding letters of credit of $7.3 million for which we cannot forecast with certainty the amount and timing of repayments.

See Note 5 “Debt” to the consolidated financial statements in Part I, Item 1 of this Quarterly Report for further discussion of the terms of our senior convertible notes.

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We intend to pay these milestones in shares of our common stock and as such we do not expect to have a material cash requirement for this agreement.

See Note 1 “Organization and Significant Accounting Policies” to the consolidated financial statements in Part I, Item 1 of this Quarterly Report for further discussion of the Collaboration Agreement with Verily.

See Note 1 “Organization and Significant Accounting Policies” and Note 2 “Collaboration with Verily Life Sciences” to the consolidated financial statements in Part I, Item 1 of this Quarterly Report for further discussion of the Collaboration Agreement with Verily.

See Note 5 “Debt” to the consolidated financial statements in Part I, Item 1 of this Quarterly Report for more information about the terms of the Credit Agreement, our senior convertible notes, the 2023 Note Hedge, and the 2023 Warrants.

As of June 30, 2022, we had $2.75 billion in cash, cash equivalents and short-term marketable securities, which is an increase of $23.6 million compared to $2.73 billion as of December 31, 2021.

The primary cash flows during the six months ended June 30, 2022 and June 30, 2021 are described below.

As of September 30, 2022, we had $2.37 billion in cash, cash equivalents and short-term marketable securities, which is a decrease of $359.3 million compared to $2.73 billion as of December 31, 2021.

The primary cash flows during the nine months ended September 30, 2022 and September 30, 2021 are described below.

See the consolidated financial statements in Part I, Item 1 of this Quarterly Report for complete consolidated statements of cash flows for these periods.

Six Months Ended

June 30, 2022 June 30, 2021

Operating Cash Flows + $148.2 million of net income and $141.3 million of net non-cash adjustments, partially offset by $45.7 million of net changes in working capital balances

Nine Months Ended

September 30, 2022 September 30, 2021

Operating Cash Flows + $249.4 million of net income, $194.9 million of net non-cash adjustments, and a net increase of $92.7 million in changes of working capital balances

+ $222.2 million of net income and $193.5 million of net non-cash adjustments, partially offset by $79.0 million of net changes in working capital balances

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- $309.0 million capital expenditures

- $3.9 million in acquisitions, net of cash acquired

- $31.6 million in acquisitions, net of cash acquired

- $12.5 million in purchases of equity investments

- $4.0 million in purchases of equity investments

Financing Cash Flows + $22.5 million in proceeds from the issuance of common stock under our employee stock plans

2 unchanged sentences

- $9.1 million in payments for financing leases

- $557.7 million in purchases of treasury stock

Contractual Obligations

We presented our contractual obligations as of December 31, 2021 in Note 6, “Leases And Other Commitments,” in our Annual Report on Form 10-K for the twelve months then ended.

There were no significant changes to our lease obligations during the six months ended June 30, 2022.

As of June 30, 2022, we had approximately $461.2 million of open purchase orders and contractual obligations in the ordinary course of business, the majority of which are due within one year.

There were no significant changes to our lease obligations during the nine months ended September 30, 2022.

As of September 30, 2022, we had approximately $394.5 million of open purchase orders and contractual obligations in the ordinary course of business, the majority of which are due within one year.

See Note 5 “Debt” to the consolidated financial statements in Part I, Item 1 of this Quarterly Report for conversion activity related to our senior convertible notes.

2 unchanged sentences

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

What changed 10-Q

Item 2. Management’s Discussion and Analysis