Item 2. Management’s Discussion and Analysis
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis should be read in conjunction with our unaudited condensed consolidated financial statements and the related notes included elsewhere in this Quarterly Report, as well as the audited financial statements and the related notes thereto, and the discussion under Part II, Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our Annual Report. This discussion contains forward-looking statements reflecting our current expectations, estimates, plans and assumptions concerning events and financial trends that involve risks and may affect our future operating results and financial position. Actual results and the timing of events may differ materially from those contained in these forward-looking statements due to a number of factors, including those discussed in the sections entitled “Forward-Looking Statements” and Part II, Item 1A. “Risk Factors” of this Quarterly Report and in the section entitled “Risk Factor Summary” and in Part I, Item IA. “Risk Factors” of our Annual Report.
Overview
We are a commercial-stage regenerative medicine company focused on creating the next generation of differentiated products and improving outcomes in patients undergoing surgery. We seek to leverage our unique understanding of biologics to improve the interaction between medical devices and patients, with the goal of reducing complications and improving healing. From our proprietary tissue processing platforms, we have developed a portfolio of advanced regenerative medical products that are designed to mimic the healing response of natural biological material. Our proprietary products are designed to address the device protection, women’s health, orthobiologics and cardiovascular markets, which represented a combined $3 billion market opportunity in the United States in 2019. To expand our commercial reach, we have commercial relationships with major medical device companies, such as Boston Scientific, Biotronik, Sientra and beginning in April 2023, LeMaitre Vascular, to promote and sell some of our products. We believe our focus on our unique regenerative medicine platforms will ultimately maximize our probability of continued clinical and commercial success and will create a long-term competitive advantage for us.
We estimate that, over the past two years, approximately two million patients per year in the United States were implanted with either medical devices, such as pacemakers, defibrillators, neuro-stimulators, spinal fusion and trauma fracture hardware or tissue expanders for breast reconstruction. This number has been driven by advances in medical device technologies, reimbursement models focused on patient outcomes, and an aging population with a growing incidence of comorbidities, including diabetes, obesity and cardiovascular and peripheral vascular diseases. These comorbidities can exacerbate various immune responses and contribute to other complications upon device implant.
Our products are targeted to address unmet clinical needs with the goal of promoting healthy tissue formation and avoiding complications associated with medical device implants, such as infection, scar-tissue formation, capsular contraction, erosion, migration, non-union of implants and implant rejection. We have leading products in each of our four priority markets: device protection, cardiovascular, orthobiologics and women’s health. In device protection, we sell the only biological envelope, protected by a global patent portfolio, that forms a natural, systemically vascularized pocket for holding implanted electronic devices. In cardiovascular, we sell our SIS ECM for use as an intracardiac and vascular patch. In orthobiologics, we have a proprietary processing technology for manufacturing a comprehensive portfolio of bone regenerative products designed to promote the body’s ability to regenerate healthy bone, osteogenesis, while decreasing cell apoptosis, or programmed cell death. In women’s health, we have a patented cell removal technology that produces undamaged extracellular dermal matrices with superior handling, designed to promote faster healing and reduce inflammation. In pre-clinical and clinical studies, our products have supported and, in some cases, accelerated tissue healing, and thereby improved patient outcomes.
We process all of our products at our two manufacturing facilities in Roswell, Georgia and Richmond, California, and stock inventory of raw materials, supplies and finished goods at those locations. We rely on a single or limited number of suppliers for certain raw materials and supplies. Except for the porcine tissue supplier of our raw materials for our CanGaroo and cardiovascular products, which is Cook Biotech, we generally have no long-term supply agreements with our suppliers, as we obtain supplies on a purchase order basis. Specifically, we acquire donated human tissue directly through tissue procurement firms engaged by us. Our products are shipped either directly to hospital customers or through distribution partners.
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Since inception, we have financed our operations primarily through private placements of our convertible preferred stock, amounts borrowed under our credit facilities, sales of our products and, more recently, with proceeds from our initial public offering (“IPO”) and a private placement of our common stock. We have devoted the majority of our resources to acquisitions and integration, manufacturing and administrative costs, general and administrative, research and development, clinical activity, purchase of property and equipment used in the production activities of our Richmond, California facility and investing in our commercial infrastructure through our direct sales force and our commercial partners in order to expand our presence and to promote awareness and adoption of our products. As of March 31, 2023, we had 144 employees.
We have incurred significant operating losses since our inception. We incurred a net loss of $8.0 million for the three months ended March 31, 2023. Our accumulated deficit as of March 31, 2023 was $146.0 million. We expect our losses to continue for the foreseeable future and these losses will continue to have an adverse effect on our financial position. Because of the numerous risks and uncertainties associated with our commercialization and development efforts, including risks relating to our ability to obtain FDA clearance for the next generation of our flagship CanGaroo product, CanGaroo RM, and our ability to successfully commercialize this product, we are unable to predict when we will become profitable, and we may never become profitable. Our inability to achieve and then maintain profitability would negatively affect our business, financial condition, results of operations and cash flows.
In order to mitigate the current and potential future liquidity issues caused by the matters noted above, we may seek to raise capital through the issuance of common stock, restructure our Revenue Interest Obligation, or pursue asset sale or other transactions. However, such transactions may not be successful and we may not be able to raise additional equity, refinance our debt instruments, or sell assets on acceptable terms, or at all. As such, based on our current operating plans, we believe there is uncertainty as to whether our future cash flows along with our existing cash, availability under the SWK Loan Facility (described below under “—Credit Facilities”), issuances of additional equity and cash generated from expected future sales will be sufficient to meet our anticipated operating needs through twelve months from the financial statement issuance date. Due to these factors, there is substantial doubt about our ability to continue as going concern within one year after the issuance of the financial statements.
FiberCel Recall
In June 2021, we issued a voluntary recall pertaining to a single donor lot of our FiberCel, our bone repair product formerly distributed by Medtronic, after learning of postsurgical infections reported in several patients treated with the product, including some patients that tested positive for tuberculosis. For information about the FiberCel Litigation in which we are involved, the impact of such proceedings on our financial statements included in this Quarterly Report, and the possible future financial implications, see Note 8 to the condensed consolidated financial statements included elsewhere in this Quarterly Report. The impact of FiberCel Litigation on our results of operations for the periods covered by this Quarterly Report are discussed below under “ – Results of Operations.”
Recent Strategic Transactions
In March 2023, we entered into an agreement with Sientra, a medical aesthetics company uniquely focused on plastic surgery, to expand the distribution of our women’s health segment product line, SimpliDerm. Under the agreement terms, Aziyo will grant Sientra certain non-exclusive rights in the United States to market, sell and distribute SimpliDerm for select use in reconstruction surgery.
In April 2023, we entered into an agreement with LeMaitre Vascular, a provider of vascular devices, implants and services, granting LeMaitre Vascular the exclusive U.S. distribution rights for the products within its cardiovascular segment: ProxiCor® PC, ProxiCor® CTR, Tyke® and VasCure®. The term of the collaboration is three years, and LeMaitre Vascular will have the exclusive option to acquire the product line following the first year or under certain other circumstances.
We are also actively considering material strategic transactions in our device protection and orthobiologics business units. The types of transactions under consideration include exclusive supply agreements, co-promotion
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arrangements, exclusive distribution partnerships, and whole business unit divestitures. However, we intend to be selective and only execute agreements that we believe are in the best long-term interest of shareholders.
CanGaroo RM Status
We are currently developing a version of the CanGaroo Envelope, CanGaroo RM, that combines the envelope with antibiotics and is designed to reduce the risk of infection following surgical implantation of an electronic device. Based on feedback from the FDA, CanGaroo RM will require clearance of a 510(k) submission to be marketed in the United States. We submitted the required 510(k) in April 2022 and, in March 2023, received a Not Substantially Equivalent (“NSE”) letter from FDA requiring us to address questions relating to drug testing, primarily a request by FDA to modify an in vitro drug release assay employed as a manufacturing control. We intend to address the questions raised in the NSE letter and continue to work with FDA for potential clearance via the 510(k) pathway. We anticipate being able to complete our responses to outstanding questions from FDA in the 2023 calendar year.
Impact of Inflation
Inflationary factors, such as increases in our cost of goods sold or other operating expenses, may adversely affect our operating results. While it is difficult to accurately measure the impact of inflation due to the imprecise nature of the estimates required, we do not believe inflation had a material effect on our financial condition or results of operations during the three months ended March 31, 2023 and 2022. We cannot assure you, however, that we will be able to increase the selling prices of our products or reduce our operating expenses in an amount sufficient to offset the effects future inflationary pressures may have on our gross margin. Accordingly, we cannot assure you that our financial condition and results of operations will not be materially impacted by inflation in the future.
Components of Our Results of Operations
Net Sales
We recognize revenue on the sale of our products. During the three months ended March 31, 2023, our device protection and cardiovascular products were sold to hospitals and other healthcare facilities primarily through our direct sales force, commercial partners or independent sales agents; however, beginning in April 2023, our cardiovascular products will be sold domestically through our distribution agreement with LeMaitre Vascular and internationally through commercial partners. Our women’s health product, SimpliDerm, is sold directly to hospitals and other healthcare facilities through independent sales agents or through our distribution agreement with Sientra. Our orthobiologics products are sold through commercial partners. Our contract manufacturing products are sold directly to corporate customers. Gross to net sales adjustments include sales returns and prompt payment and volume discounts.
Expenses
In recent years, we have incurred significant costs in the operation of our business. We expect that our recurring operating costs will largely stabilize, or increase at modest rates, in the near future through the identification of efficiencies as we grow. We may, however, still experience more significant expense increases as we expand our product development and clinical and research activities. As a result, we will need to generate significant net sales in order to achieve profitability. Below is a breakdown of our main expense categories and the related expenses incurred in each category:
Cost of Goods Sold
Our cost of goods sold relate to purchased raw materials and the processing and conversion costs of such raw materials consisting primarily of salaries and benefits, supplies, quality control testing and the manufacturing overhead incurred at our processing facilities in Richmond, California and Roswell, Georgia. Both facilities have additional capacity, which if utilized, would further leverage our fixed overhead. Cost of goods sold also includes the amortization of intangibles generated from the CorMatrix Acquisition in 2017.
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Sales and Marketing Expenses
Sales and marketing expenses are primarily related to our direct sales force, consisting of salaries, commission compensation, fringe benefits, meals and other expenses. Auto and travel costs have also historically contributed to sales and marketing expenses. Outside of our direct sales force, we incur significant expenses relating to commissions to our CanGaroo commercial partners and independent sales agents. Additionally, this expense category includes distribution costs as well as market research, trade show attendance, advertising and public relations related to our products, and customer service expenses.
General and Administrative Expenses
General and administrative (“G&A”) expenses consist primarily of compensation, consulting, legal, human resources, information technology, accounting, insurance and general business expenses. Our G&A expenses have increased as a result of operating as a public company, especially as a result of hiring additional personnel and incurring greater director and officer insurance premiums, greater investor relations costs, and additional costs associated with accounting, legal, tax-related and other services associated with maintaining compliance with exchange listing and SEC requirements.
Research and Development Expenses
Research and development (“R&D”) expenses consist primarily of salaries and fringe benefits, laboratory supplies, clinical studies and outside service costs. Our product development efforts primarily relate to new offerings in support of the orthobiologics market and activities associated with the development of CanGaroo RM, our CanGaroo Envelope with antibiotics. Our future R&D expenses may increase as a result of additional work required to address the FDA’s questions in the NSE letter we recently received regarding our CanGaroo RM. We also conduct clinical studies to validate the performance characteristics of our products and to capture patient data necessary to support our commercial efforts.
FiberCel Litigation Costs
FiberCel litigation costs consist primarily of legal fees and the estimated costs to resolve the outstanding FiberCel litigation cases offset by the estimated amounts recoverable under insurance, indemnity and contribution agreements for such costs.
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Results of Operations
Comparison of the Three Months Ended March 31, 2023 and 2022
Three Months Ended March 31,
2023
2022
Change 2022 / 2023
% of Net
% of Net
(in thousands, except percentages)
Amount
Sales
Amount
Sales
$
%
Net sales
$
13,050
100.0
%
$
11,495
100.0
%
$
1,555
13.5
%
Cost of goods sold
6,719
51.5
%
7,214
62.8
%
(495)
(6.9)
%
Gross profit
6,331
48.5
%
4,281
37.2
%
2,050
47.9
%
Sales and marketing
5,356
41.0
%
4,818
41.9
%
538
11.2
%
General and administrative
3,679
28.2
%
4,025
35.0
%
(346)
(8.6)
%
Research and development
1,803
13.8
%
2,272
19.8
%
(469)
(20.6)
%
FiberCel litigation costs
1,911
14.6
%
88
0.8
%
1,823
NM
Total operating expenses
12,749
97.7
%
11,203
97.5
%
1,546
13.8
%
Loss from operations
(6,418)
(49.2)
%
(6,922)
(60.2)
%
504
7.3
%
Interest expense
1,544
11.8
%
1,215
10.6
%
329
27.1
%
Loss before provision of income taxes
(7,962)
(61.0)
%
(8,137)
(70.8)
%
175
2.2
%
Income tax expense
12
0.1
%
12
0.1
%
—
—
%
Net loss
$
(7,974)
(61.1)
%
$
(8,149)
(70.9)
%
$
175
2.1
%
Net Sales
Net sales information for our products is summarized as follows:
Three Months Ended March 31,
2023
2022
% of Net
% of Net
Change 2022 / 2023
(in thousands, except percentages)
Amount
Sales
Amount
Sales
$
%
Products:
Device protection
$
2,350
18.0
%
$
2,053
17.9
%
$
297
14.5
%
Women's health
2,295
17.6
%
1,634
14.2
%
661
40.5
%
Orthobiologics
6,658
51.0
%
6,243
54.3
%
$
415
6.6
%
Cardiovascular
1,747
13.4
%
1,565
13.6
%
$
182
11.6
%
Total Net Sales
$
13,050
100.0
%
$
11,495
100.0
%
$
1,555
13.5
%
Total net sales increased $1.6 million, or 13.5%, to $13.1 million in the three months ended March 31, 2023 compared to $11.5 million in the three months ended March 31, 2022, with such increase primarily attributable to volume growth in all four product segments.
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Cost of Goods Sold
Cost of goods sold and gross margin percentage information for our products is summarized as follows:
Three Months Ended March 31,
2023
2022
Gross
Gross
Change 2022 / 2023
(in thousands, except percentages)
Amount
Margin %
Amount
Margin %
$
%
Products:
Device protection
$
554
76.4
%
$
734
64.2
%
$
(180)
12.2
%
Women's health
1,243
45.8
%
960
41.2
%
283
4.6
%
Orthobiologics
3,701
44.4
%
4,340
30.5
%
(639)
13.9
%
Cardiovascular
372
78.7
%
331
78.8
%
41
(0.1)
%
Cost of goods sold, excluding intangible asset amortization
5,870
55.0
%
6,365
44.6
%
(495)
10.4
%
Intangible asset amortization expense
849
(6.5)
%
849
(7.4)
%
—
0.9
%
Total Cost of Goods Sold
$
6,719
48.5
%
$
7,214
37.2
%
$
(495)
11.3
%
Total cost of goods sold decreased $0.5 million to $6.7 million in the three months ended March 31, 2023 compared to $7.2 million in the three months ended March 31, 2022. Gross margin was 48.5% in the three months ended March 31, 2023 compared to 37.2% in the three months ended March 31, 2022. Gross margin, excluding intangible asset amortization, was 55.0% in the three months ended March 31, 2023 compared to 44.6% in the three months ended March 31, 2022. With respect to the individual product segments, the gross margin of device protection, women’s health and orthobiologics improved in the three months ended March 31, 2023 compared to the three months ended March 31, 2022 due to operational efficiencies in the current year causing lower costs to manufacture the product. Also contributing to the improvement for the Orthobiologics segment in the three months ended March 31, 2023 was a larger percentage of segment sales from the higher margin viable bone matrix products versus contracted services. Gross margin on our cardiovascular products was relatively flat between years.
Operating Expenses
Sales and Marketing
Sales and marketing expenses increased $0.6 million, or 11.2%, to $5.4 million in the three months ended March 31, 2023 compared to $4.8 million in the three months ended March 31, 2022. As a percentage of sales, sales and marketing expenses decreased to 41.0% in the three months ended March 31, 2023 from 41.9% in the three months ended March 31, 2022. The increase in expense was largely attributable to approximately $0.5 million of severance costs on the previously announced reduction in force which occurred in the first quarter of 2023 and primarily impacted certain members of sales and marketing management.
General and Administrative
G&A expenses decreased $0.3 million, or 8.6%, to $3.7 million in the three months ended March 31, 2023 compared to $4.0 million in the three months ended March 31, 2022. As a percentage of net sales, G&A expenses decreased to 28.2% in the three months ended March 31, 2023 from 35.0% in the three months ended March 31, 2022. The decrease in expense was primarily due to lower stock-based compensation and corporate insurance costs.
Research and Development
R&D expenses decreased to $1.8 million in the three months ended March 31, 2023 compared to $2.3 million in the three months ended March 31, 2022. We continue to focus our R&D efforts primarily on the development of our CanGaroo RM Antibacterial Envelope. Such related costs were slightly less in the first quarter of 2023 versus the prior
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year’s comparable period due to the reduction of efforts needed and expenses incurred as the development progresses toward anticipated completion.
FiberCel Litigation Costs
FiberCel litigation costs increased to $1.9 million in the three months ended March 31, 2023 compared to $0.1 million in the three months ended March 31, 2022. The increase in expense was primarily due to the establishment of the Contingent Liability for FiberCel litigation in the third quarter of 2022 and the continued evaluation of such liability as the FiberCel cases progress. The FiberCel litigation costs in the three months ended March 31, 2022 were comprised only of legal fees incurred. See further discussion in Note 8 to condensed consolidated financial statements included elsewhere in this Quarterly Report.
Interest Expense
Interest expense was approximately $1.5 million in the three months ended March 31, 2023 compared to $1.2 million in the three months ended March 31, 2022. The increase was due to the higher principal outstanding and interest rates incurred by us on our existing debt, the SWK Loan Facility, as compared to the debt outstanding in the three months ending March 31, 2022, which consisted primarily of the MidCap Loan Facility and MidCap Credit Facility. See “ - Liquidity and Capital Resources - Credit Facilities” below for a further discussion of these debt agreements and Note 6 to the condensed consolidated financial statements included elsewhere in this Quarterly Report.
Non-GAAP Financial Measures
This Quarterly Report presents our gross margin, excluding intangible asset amortization, for the three months ended March 31, 2023 and 2022. We calculate gross margin, excluding intangible asset amortization, as gross profit, excluding amortization expense relating to intangible assets we acquired in the CorMatrix Acquisition, divided by net sales. Gross margin, excluding intangible asset amortization, is a supplemental measure of our performance, is not defined by or presented in accordance with U.S. generally accepted accounting principles (“GAAP”), has limitations as an analytical tool and should not be considered in isolation or as an alternative to our GAAP gross margin, gross profit or any other financial performance measure presented in accordance with GAAP. We present gross margin, excluding intangible asset amortization, because we believe that it provides meaningful supplemental information regarding our operating performance by removing the impact of amortization expense, which is not indicative of our overall operating performance. We believe this provides our management and investors with useful information to facilitate period-to-period comparisons of our operating results. Our management uses this metric in assessing the health of our business and our operating performance, and we believe investors’ understanding of our operating performance is similarly enhanced by our presentation of this metric. In addition, other companies, including companies in our industry, may use other measures to evaluate their performance, which could reduce the usefulness of this non-GAAP financial measure as a tool for comparison.
The following table presents a reconciliation of our gross margin, excluding intangible asset amortization, for the three months ended March 31, 2023 and 2022 to the most directly comparable GAAP financial measure, which is our GAAP gross margin (in thousands).
Three Months Ended
March 31,
2023
2022
Net sales
$
13,050
$
11,495
Cost of goods sold
6,719
7,214
Gross profit
6,331
4,281
Intangible asset amortization expense
849
849
Gross profit, excluding intangible asset amortization
$
7,180
$
5,130
Gross margin
48.5
%
37.2
%
Gross margin, excluding intangible asset amortization
55.0
%
44.6
%
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Seasonality
Historically, we have experienced seasonality, with lower sales in our first and second quarters and higher sales in our fourth quarter, and we expect this trend to continue. We have experienced and may in the future experience, higher sales in the fourth quarter as a result of hospitals in the United States increasing their purchases of our products to coincide with the end of their budget cycles. Satisfaction of patient deductibles throughout the course of the year also results in increased sales later in the year, once patients have paid their annual insurance deductibles in full, which reduces their out-of-pocket costs. Conversely, our first quarter generally has lower sales than the preceding fourth quarter as patient deductibles are re-established with the new year, which increases their out-of-pocket costs.
Liquidity and Capital Resources
As of March 31, 2023, we had cash of approximately $11.8 million. In August 2022, we refinanced our debt as described below under “— Credit Facilities.” Since inception, we have financed our operations primarily through private placements of our convertible preferred stock, amounts borrowed under our credit facilities, sales of our products and more recently, proceeds from our IPO and a private placement of our common stock. Our historical cash outflows have primarily been associated with acquisitions and integration, manufacturing and administrative costs, general and marketing, research and development, clinical activity, purchase of property and equipment used in the production activities of our Richmond, California facility and investing in our commercial infrastructure through our direct sales force and our commercial partners in order to expand our presence and to promote awareness and adoption of our products. As of March 31, 2023, our accumulated deficit was $146.0 million.
We expect our losses to continue for the foreseeable future and these losses will continue to have an adverse effect on our financial position. Because of the numerous risks and uncertainties associated with our commercialization and development efforts, we are unable to predict when we will become profitable, and we may never become profitable. Our inability to achieve and then maintain profitability would negatively affect our business, financial condition, results of operations and cash flows.
In order to mitigate the current and potential future liquidity issues caused by the matters noted above, we may seek to raise capital through the issuance of common stock, restructure our Revenue Interest Obligation, or pursue asset sale or licensing transactions. However, such transactions may not be successful and we may not be able to raise additional equity, refinance our debt instruments, or sell assets on acceptable terms, or at all. As such, based on our current operating plans, we believe there is uncertainty as to whether our future cash flows along with our existing cash, availability under the SWK Loan Facility (described below under “—Credit Facilities”), issuances of additional equity and cash generated from expected future sales will be sufficient to meet our anticipated operating needs through twelve months from the financial statement issuance date. Due to these factors, there is substantial doubt about our ability to continue as going concern within one year after the issuance of the financial statements.
Cash Flows for the Three Months Ended March 31, 2023 and 2022
Three Months Ended
March 31,
2023
2022
(in thousands)
Net cash used in:
Operating activities
$
(5,166)
$
(7,350)
Investing activities
(182)
(34)
Financing activities
148
(869)
Net decrease in cash
$
(5,200)
$
(8,253)
Net Cash Used in Operating Activities
Net cash used in operating activities for the three months ended March 31, 2023 was $5.2 million compared to $7.4 million for the three months ended March 31, 2022. The year-over-year decrease was primarily due to a higher net
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loss (after adjustment for non-cash charges and gains) as well as the timing of certain annual insurance prepayments offset by inventory builds.
Net Cash Used in Investing Activities
Net cash used in investing activities for the three months ended March 31, 2023 was $0.2 million compared to $0.03 million for the three months ended March 31, 2022. In both periods, the use of cash related to the purchase of property and equipment, the majority of which were used in the production activities of our Richmond, California facility.
Net Cash Used in Financing Activities
Net cash provided by financing activities for the three months ended March 31, 2023 was $0.1 million compared to net cash used in financing activities of $0.9 million for the three months ended March 31, 2022. The year-over-year net decrease was caused primarily by payments made in the 2022 period related to our Revenue Interest Obligation with no such payments having been made in the 2023 period due to ongoing restructuring discussions with Ligand (as defined below).
Credit Facilities
General
O n August 10, 2022 (the “Closing Date”), we entered into a senior secured term loan facility with SWK Funding LLC (“SWK”), as agent, and other lenders party thereto (as amended and modified subsequent to the Closing Date, the “SWK Loan Facility”) for an aggregate principal amount of $25 million. An initial draw of $21 million drawn was made on the Closing Date with the additional $4 million drawn on December 14, 2022 upon satisfaction of the amended terms enabling such receipt. The SWK Loan Facility also allows for the establishment of a separate, new asset-based revolving loan facility of up to $8 million, which had not been entered into to date. We used $16 million of the proceeds of the SWK Loan Facility to pay all outstanding obligations on the formerly outstanding MidCap Loan Facility and MidCap Credit Facility. Such payment included (i) $12.8 million to repay all outstanding principal and accrued interest on the MidCap Loan Facility, (ii) $1.7 million to pay the prepayment and exit fees on the MidCap Loan Facility and (iii) $1.5 million to repay the outstanding balance, accrued interest and exit fees on the MidCap Credit Facility. As of March 31, 2023, we had $24.6 million of indebtedness outstanding under our SWK Loan Facility, with such balance being net of $0.9 million of unamortized discount and deferred financing costs, but increased by capitalized PIK Interest (as defined below) of $0.6 million since November 2022.
Interest Rates
All of the SWK Loan Facility borrowings take the form of Secured Overnight Financing Rate (“SOFR”) loans and will bear interest at a rate per annum equal to the sum of an applicable margin of (i) 7.75% and the “Term SOFR Rate” (based upon an interest period of 3 months), or (ii) if we have elected the PIK Interest option (as defined below), 3.75% and the “Term SOFR Rate.” We may elect a portion of the interest due, to be paid in-kind at a rate per annum of 4.5% (“PIK Interest”), and such election may be made (x) until November 15, 2024 if certain profitability and regulatory conditions (“Extension Conditions”) have not been met, or until November 17, 2025 if such conditions have been satisfied. The “Term SOFR Rate” is subject to a floor of 2.75%.
Mandatory Prepayments
The SWK Loan Facility Agreement requires certain mandatory prepayments, subject to certain exceptions, with: (1) 100% of any net casualty proceeds in excess of $250,000 and (2) for non-ordinary course asset sales, an amount equal to the difference between (x) the proportion of divested gross profit (as defined in the SWK Loan Facility Agreement) to the Company’s total gross profit (as defined in the SWK Loan Facility Agreement) multiplied by the outstanding loans under the SWK Loan Facility, and (y) the difference between $1,000,000 and the aggregate sale proceeds of any assets previously sold during the fiscal year. No such mandatory prepayments were required during the three months ended March 31, 2023.
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Optional Prepayment
The SWK Loan Facility Agreement also includes an exit fee equal to 6.5% of the aggregate principal amount funded prior to termination, and prepayment penalties that are equal to: (i) 2% of the aggregate principal amount funded prior to the termination plus remaining unpaid interest payments scheduled to be paid during the first year of the loan if such prepayment occurs prior to the first anniversary of the Closing Date, or (ii) 2% of the aggregate principal amount funded prior to termination if such prepayment occurs after the first anniversary of the Closing Date but prior to the second anniversary of the Closing Date.
Amortization and Final Maturity
The SWK Loan Facility matures on August 10, 2027 and accrues interest, payable quarterly in arrears. Principal amortization of the SWK Loan Facility starts on November 15, 2024, which amortization may be extended to November 17, 2025 if the Extension Conditions (as defined in the SWK Loan Facility Agreement) have been satisfied. Principal payments during the amortization period will be limited based on revenue-based caps. As of March 31, 2023, quarterly principal payments are scheduled to begin on November 15, 2024, in an amount equal to 5% of the outstanding principal on such principal payment commencement date with the balance paid at maturity.
Security
All obligations under the SWK Loan Facility are, and any future guarantees of those obligations will be, secured by, among other things, and in each case subject to certain exceptions, a first priority lien on and security interest in, upon, and to all of our assets, whether now owned or hereafter acquired, wherever located.
Covenants and Other Matters
The SWK Loan Facility Agreement that governs the SWK Loan Facility contains a number of covenants that, among other things and subject to certain exceptions, restrict our ability to:
● incur additional indebtedness;
● incur certain liens;
● pay dividends or make other distributions on equity interests;
● redeem, repurchase or refinance subordinated indebtedness;
● consolidate, merge or sell or otherwise dispose of their assets;
● make investments, loans, advances, guarantees and acquisitions;
● enter into transactions with affiliates;
● amend or modify their governing documents;
● amend or modify certain material agreements; and
● alter the business conducted by them and their subsidiaries.
In addition, the SWK Loan Facility Agreement contains two financial covenants. The first covenant, which is measured quarterly, requires us to achieve a specified Minimum Aggregate Revenue (as defined in the SWK Loan Facility Agreement) for the preceding 12-month period. The second covenant requires us to maintain a minimum liquidity (as defined in the SWK Loan Facility Agreement) of $5.0 million until December 16, 2022 and thereafter, the greater of (a)
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$5.0 million and (b) the sum of the operating cash burn (as defined in the SWK Loan Facility Agreement) for the two prior consecutive fiscal quarters then ended (the “Liquidity Covenant”).
The SWK Loan Facility Agreement contains events of default, including, most significantly, a failure to timely pay interest or principal, insolvency, or an action by the FDA or such other material adverse event impacting the operations of Aziyo. As of March 31, 2023, we were in compliance with the financial covenant and all other covenants.
On May 12, 2023, we entered into a first amendment to the SWK Loan Facility Agreement with SWK and the other lenders party thereto . The amendment is described in further detail in Note 11 to the condensed consolidated financial statements included elsewhere in this Quarterly Report, and in Part II, Item 5 of this Quarterly Report.
Supplier Promissory Note
During 2017, we restructured certain of our liabilities with a tissue supplier and entered into an unsecured promissory note bearing interest at 5%. As of March 31, 2022, the balance of this promissory note totaled $1.4 million plus accrued interest. In connection with the August 2022 debt refinancing, we used $1.4 million of the proceeds from the SWK Loan Facility to repay the remaining balance on the promissory note, and as of March 31, 2023, we had no balance remaining on the promissory note.
Funding Requirements
We expect to continue to incur significant expenses and operating losses for the foreseeable future as we expand our product development and clinical and research activities. In addition, we expect to continue to incur significant costs and expenses associated with operating as a public company.
As of March 31, 2023, we had $24.6 million of indebtedness outstanding, consisting of $25.5 million outstanding under our SWK Loan Facility (net of $0.9 million of unamortized discount and deferred financing costs). In addition, as further described in Note 7 to these condensed consolidated financial statements included elsewhere in this Quarterly Report, we are party to a royalty agreement with Ligand Pharmaceuticals Incorporated (“Ligand”) pursuant to which we assumed a restructured, long-term obligation to Ligand (the “Revenue Interest Obligation”), that requires us to pay Ligand 5.0% of future sales of the products we acquired from CorMatrix (as well as products substantially similar to those products), subject to annual minimum payments of $2.75 million. Furthermore, a $5.0 million payment will be due to Ligand if cumulative sales of these products exceed $100 million and a second $5.0 million will be due if cumulative sales exceed $300 million during the ten-year term of the agreement which expires on May 31, 2027. We are currently forecasting that the initial $5.0 million milestone payment will become payable in mid-2023.
If our available cash balances and cash flow from operations, if any, are insufficient to satisfy our liquidity requirements, we may seek to raise additional capital through equity offerings, debt financings, or asset sale or other transactions. However, such transactions may not be successful and we may not be able to raise additional equity or debt, or sell or license assets on acceptable terms, or at all. We may also consider raising additional capital in the future to expand our business, pursue strategic investments or take advantage of financing opportunities. Our present and future funding requirements will depend on many factors, including, among other things:
● continued patient, physician and market acceptance of our products;
● the scope, rate of progress and cost of our current and future pre-clinical and clinical studies;
● the cost of our research and development activities and the cost and timing of commercializing new products or technologies;
● the cost and timing of expanding our sales and marketing capabilities;
● the cost of filing and prosecuting patent applications and maintaining, defending and enforcing our patent or other intellectual property rights;
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● the cost of defending, in litigation or otherwise, any claims that we infringe, misappropriate or otherwise violate third-party patents or other intellectual property rights;
● the costs of defending against or the damages payable in connection with the FiberCel Litigation and any future litigation that we may be subject to (to the extent above the applicable insurance coverage);
● the cost and timing of additional regulatory approvals;
● costs associated with any product recall that may occur;
● the effect of competing technological and market developments;
● the expenses we incur in manufacturing and selling our products;
● the extent to which we acquire or invest in products, technologies and businesses in the future, although we may currently have no commitments or agreements relating to any of these types of transactions;
● the costs of operating as a public company;
● unanticipated general, legal and administrative expenses; and
● the effects on any of the above of the current COVID-19 pandemic or any other pandemic, epidemic or outbreak of infectious disease.
In addition, our operating plans may change as a result of any number of factors, including those set forth above and other factors currently unknown to us, and we may need additional funds sooner than anticipated. To the extent that we raise additional capital through the sale of equity or convertible debt securities, your ownership interest may be materially diluted, and the terms of such securities could include liquidation or other preferences that adversely affect your rights as a common stockholder. Debt financing, if available, may involve agreements that include restrictive covenants that limit our ability to take specific actions, such as incurring additional debt, making capital expenditures, creating liens, redeeming shares of our common stock and/or declaring dividends. If we raise funds through collaborations, licensing agreements or other strategic alliances, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or product candidates, or grant licenses on terms that may not be favorable to us. If we are unable to raise additional funds through equity or debt financings or other arrangements when needed, we may be required to delay the development or commercialization of our products, license to third parties the rights to commercialize products or technologies that we would otherwise seek to commercialize and reduce marketing, customer support or other resources devoted to our products or cease operations. See our Annual Report, Part I, Item 1A. “Risk Factors — Risks Related to Our Business — Our future capital needs are uncertain and we may need to raise funds in the future, and such funds may not be available on acceptable terms or at all .”
Based on our current operating plans, we believe there is uncertainty as to whether our future cash flows along with our existing cash, issuances of additional equity and cash generated from expected future sales will be sufficient to meet our anticipated operating needs through twelve months from the financial statement issuance date. Due to these factors, there is substantial doubt about our ability to continue as going concern within one year after the issuance of the financial statements.
Critical Accounting Policies and Estimates
The preparation of our unaudited condensed consolidated financial statements in accordance with GAAP requires us to make estimates and assumptions that affect reported amounts and related disclosures. We have discussed the policies and estimates that we believe are critical and require the use of complex judgment in their application in our Annual Report, and, during the three months ended March 31, 2023, there were no material changes to those previously disclosed.
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Refer to Note 2, “Summary of Significant Accounting Policies,” to our condensed consolidated financial statements included elsewhere in this Quarterly Report for information regarding our critical accounting estimates and policies.
Recent Accounting Pronouncements
Refer to Note 3, “Recently Issued Accounting Standards,” to our condensed consolidated financial statements included elsewhere in this Quarterly Report for information regarding recently issued accounting pronouncements.
JOBS Act
Section 107 of the JOBS Act permits us, as an “emerging growth company,” to take advantage of an extended transition period for adopting new or revised accounting standards until those standards would otherwise apply to private companies. We have elected to avail ourselves of this exemption and, as a result, for so long as we remain an emerging growth company, unless we subsequently choose to affirmatively and irrevocably opt out of the extended transition period, our financial statements may not be comparable to the financial statements of issuers who are required to comply with the effective dates for new or revised accounting standards that are applicable to public companies. Section 107 of the JOBS Act provides that we can elect to opt out of the extended transition period at any time, which election is irrevocable.
We will remain an emerging growth company until the earliest of: (i) the last day of the first fiscal year in which our annual gross revenues are $1.235 billion or more; (ii) the last day of 2025; (iii) the date that we become a “large accelerated filer” as defined in Rule 12b-2 under the Exchange Act, which would occur if the market value of our common equity held by non-affiliates is $700 million or more as of the last business day of our most recently completed second fiscal quarter; or (iv) the date on which we have issued more than $1.0 billion in non-convertible debt securities during the previous three years.
Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.