What changed in this filing

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Item 7. Management’s Discussion and Analysis

2023-03-16 compared with 2022-03-28 · 178 added, 135 removed, 337 unchanged (48% of the section changed)

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You should review the disclosure under the heading “Risk Factors” in this Annual Report on Form 10-K for a discussion of important factors that could cause our actual results to differ materially from those anticipated in these forward-looking statements.

Unless the context otherwise requires, all references in this Annual Report on Form 10-K to “we,” “us,” “our,” “our company,” and “Honest” refer to The Honest Company, Inc.

Unless the context otherwise requires, all references in this Annual Report on Form 10-K to “we,” “us,” “our,” “our company,” "the Company" and “Honest” refer to The Honest Company, Inc.

and its consolidated subsidiaries.

A discussion regarding our financial condition and results of operations for the year ended December 31, 2022 compared to the year ended December 31, 2021 is presented below.

A discussion regarding our financial condition and results of operations for the year ended December 31, 2020 compared to the year ended December 31, 2019 can be found in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the final prospectus for our initial public offering (“IPO”) dated as of May 4, 2021 and filed with the Securities and Exchange Commission (“SEC”) pursuant to Rule 424(b)(4) on May 6, 2021.

A discussion regarding our financial condition and results of operations for the year ended December 31, 2021 compared to the year ended December 31, 2020 can be found in Item 7.

“Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the year ended December 31, 2021 filed with the Securities and Exchange Commission (“SEC”) on March 28, 2022.

The Honest Company, Inc.

(“Honest” and, together with its consolidated subsidiaries, the “Company,” “we,” “us” and “our”) is a digitally-native, mission-driven brand focused on leading the clean lifestyle movement, creating a community for conscious consumers and seeking to disrupt multiple consumer product categories.

(“Honest” and, together with its consolidated subsidiaries, the “Company,” “we,” “us” and “our”) is a digitally-native consumer products company born in the Gen Z era to make purpose-driven consumer products designed for all people.

Our commitment to our core values, continual innovation and engaging our community has differentiated and elevated our brand and our products.

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Our integrated multi-category product architecture is intentionally designed to serve our consumers every day, at every age and through every life stage, no matter where they are on their journey.

Our three categories are Diapers and Wipes, Skin and Personal Care, and Household and Wellness, which represented 63%, 32%, and 5%, respectively, of our revenue for the year ended December 31, 2021, compared to 63%, 26%, and 11%, respectively, of our revenue for the year ended December 31, 2020.

We refer to Diapers and Wipes and Skin and Personal Care as our "core" product categories.

Our three product categories are Diapers and Wipes, Skin and Personal Care, and Household and Wellness, which represented 64%, 28%, and 8%, respectively, of our revenue for the year ended December 31, 2022, compared to 63%, 32%, and 5%, respectively, of our revenue for the year ended December 31, 2021.

At the center of our product ecosystem are our diapers, which are a strategic consumer acquisition tool that acts as an entry point for our portfolio, as new parents often go on to purchase products from our other categories for their everyday family needs.

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Our direct connection with our community enables us to understand what consumers’ needs are and inspires our product innovation pipeline, generating a significant competitive advantage over more traditional consumer packaged goods, or CPG, peers.

Our omnichannel approach seeks to meet consumers however they want to shop, balancing deep consumer connection with broad convenience and accessibility.

Since our launch, we have built a well-integrated omnichannel presence by expanding our retail accessibility across both Digital and Retail channels, including the launch of strategic partnerships with Costco, Target and Amazon in 2013, 2014 and 2017, respectively.

Our omnichannel approach seeks to meet consumers wherever they want to shop, balancing deep consumer connection with broad convenience and accessibility.

Since our launch, we have built a well-integrated omnichannel presence by expanding our product availability across both Digital and Retail channels, including the launch of strategic partnerships with Target, Amazon and Walmart in 2014, 2017 and 2022, respectively.

For the year ended December 31, 2022, we generated 45% and 55% of our revenue from our Digital and Retail channels, respectively, compared to 49% and 51%, respectively, for the year ended December 31, 2021.

We maintain direct relationships with our consumers via our flagship digital platform, Honest.com, which allows us to influence brand experience and better understand consumer preferences and behavior.

We increase accessibility of our products to more consumers through both the third-party pureplay ecommerce sites that, with Honest.com, comprise the rest of our Digital channel, and our Retail channel, which includes leading retailers and their websites.

As of December 31, 2021, o ur

products can be found in approximately 43,000 retail locations across the United States, Canada and Europe.

We increase accessibility of our products to more consumers through both the third-party pureplay ecommerce sites that, with Honest.com, comprise our Digital channel, and our Retail channel, which includes leading retailers and their websites.

As of December 31, 2022, o ur products can be found in approximately 50,000 retail locations across the United States, Canada and Europe.

Our integrated omnichannel presence provides meaningful benefits to our consumers which we believe is not easily replicated by our

This distinctive business model has allowed us to efficiently scale our business while remaining agnostic as to the channel where consumers purchase our products.

Our integrated omnichannel presence provides meaningful benefits to our consumers which we believe is not easily replicated by our competitors.

Initial Public Offering

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Ability to Grow Our Brand Awareness

Our brand is integral to the growth of our business and is essential to our ability to engage and stay connected with the growing clean lifestyle consumer.

Honest is still unknown to many consumers, with unaided brand awareness of 29% among diaper buyers according to our consumer research as of January 2022.

In order to increase the wallet share of existing conscious consumers and attract new ones, our brand has to maintain its trustworthiness and authenticity.

Our brand is integral to the growth of our business and is essential to our ability to engage and stay connected with the growing clean products consumer.

Honest is still unknown to many consumers, with unaided brand awareness of 29% among diaper buyers according to our consumer research conducted in January 2022.

In order to increase share of wallet of existing conscious consumers and to attract new consumers, our brand has to maintain its trustworthiness and authenticity.

Our ability to attract new consumers will depend, among other things, on our ability to successfully produce products that are free of defects and communicate the value of those products as clean, sustainable and effective, the efficacy of our marketing efforts and the offerings of our competitors.

Beyond preserving the integrity of our brand, our performance will depend on our ability to augment our reach and increase the number of consumers aware of Honest and our product portfolio.

Given higher costs of digital marketing and increased retail distribution, we have and expect to continue to shift the focus of our marketing spend towards supporting retail marketing programs and to make changes in our domestic and global marketing initiatives to increase brand awareness.

We believe our brand strength will enable us to continue to expand across categories and channels, allowing us to deepen relationships with consumers and expand our access to global markets.

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Research, development and innovation are core elements underpinning our growth strategy.

Through our in-house research and development laboratories, we are able to access the latest advancements in clean ingredients and continue to innovate in the clean conscious lifestyle space.

Based in Los Angeles, California, our research and development team, including chemists and an in-house toxicologist, develops innovative clean products based on the latest green technology.

Through our in-house research and development laboratories, we are able to access the latest advancements in clean ingredients and continue to innovate in the clean conscious space.

Based in Los Angeles, California, our research and development team, including chemists, in-house toxicologists and an eco-toxicologist, develops innovative clean products based on the latest green technology.

At Honest, product innovation never stops.

The improvement of existing products and the introduction of new products have been, and continue to be, integral to our growth.

We have made significant investments in our product development capabilities and plan to do so in the future.

We have made significant investments in our product development capabilities and plan to continue to do so in the future.

We believe our rigorous approach to product innovation has helped redefine and grow the clean and natural product categories in which we operate.

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Our ability to successfully develop, market and sell new products will depend on a variety of factors, including our continued investment in innovation, integrated business planning processes and capabilities.

We use connectivity to our community of consumers to provide lifestyle insights that power innovation across categories.

We use connectivity to our community of consumers to provide valuable insights that power innovation across categories.

We use innovation to support our growth objectives across our portfolio, as highlighted in the three core pillars of our Innovation Framework:

that we bring product innovation that 1) feeds and nurtures our core values, 2) expands within our existing product categories, and 3) grows into new potential product categories adjacent to existing categories that fit with our value proposition to the consumer.

We continue to innovate in each of our product categories in areas such as breakthrough new product formulations, innovative packaging, costovation (defined below) and marketing strategy, with a focus in the future of driving “big bets” across potential product adjacencies where we have;

1) permission to play with consumers, 2) relevant domain expertise, and 3) the opportunity to expand across a broader consumer demographic within an existing Honest home.

We are also focused on building a portfolio of products in complementary categories through our Innovation Strategy and the momentum created by our Digital Strategy.

We are building an Honest community with the goal of creating a more holistic clean, conscious home for consumers

and customers alike.

We strive for continuous improvement in our existing products’ safety, sustainability, efficacy and design profile, which we refer to as costovation.

We continue to innovate in each of our product categories in areas such as breakthrough new product formulations, innovative packaging, costovation (defined below) and marketing strategy, with a focus on driving “big bets” across potential product adjacencies where we have:

1) ability to build on our premium positioning, 2) ability to lead and win in a category, and 3) the opportunity to expand into more places within an existing Honest home while positioning ourselves as a premium brand.

We are also focused on building a portfolio of products in complementary categories through our Innovation Strategy and the investment in our Digital Strategy.

We are building an Honest community with the goal of creating a more holistic clean,

conscious home for consumers and customers alike.

We strive for continuous improvement in our existing products’ safety, sustainability, efficacy and design profile while achieving better performance often at lower cost, which we refer to as costovation.

Continued Product Category Growth

Our product mix is a driver of our financial performance given our focus on accretive product launches and innovation to increase product margins.

Even though our growth strategy aims to boost sales across all categories, we intend to prioritize growth in Skin and Personal Care given its attractive margin characteristics and leverage our brand equity and consumer insights to extend into new adjacent product categories.

Even though our growth strategy aims to boost sales across all product categories, we intend to prioritize growth in Skin and Personal Care given its attractive margin characteristics and leverage our brand equity and consumer insights to extend into new adjacent product categories.

Since we launched our Innovation Strategy, we have enhanced our product portfolio by strategically discontinuing certain products and making calculated extensions within our three product categories.

These product changes have contributed to our revenue and margin growth.

These product changes have contributed new revenue and brought higher margin products into our portfolio.

Continued Execution of Omnichannel Strategy

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Our partnerships with leading third-party retail platforms and national retailers have broadened our consumer reach, raised our brand awareness and enhanced our margins through operating leverage.

We will continue to pursue partnerships with a wide variety of retailers, including online retailers, big-box retailers, grocery stores, drugstores and specialty retailers.

Our ability to execute this strategy will depend on a number of factors, such as retailers’ satisfaction with the sales and profitability of our products, channel shifts of their customers, and their own supply chain, order timing, and inventory needs, which may fluctuate from period to period.

In the second quarter of 2021, we experienced volatility in orders from a key digital partner that reduced its inventory on-hand in consumables to free up space for other products ahead of a major promotional event.

In the third quarter of 2021, orders from this key digital partner came back in line with end-consumer consumption, although we have not seen inventory levels at this customer return to prior levels.

We have a new arrangement with this digital partner and beginning with the third quarter of 2021 this partner began to fulfill orders to their customers from a dedicated space within our warehouse, which allows them to free up space in their own warehouse and accelerate shipment time to the end consumer.

We will continue to pursue partnerships with a wide variety of retailers, including online retailers, club retailers, grocery stores, drugstores and specialty retailers.

Our ability to execute this strategy will depend on a number of factors, such as competitive dynamics and retailers’ satisfaction with the sales and profitability of our products, channel shifts of their customers, and their own supply chain, order timing, and inventory needs, which may fluctuate from period to period.

Operational and Marketing Efficienc y

To grow our business, we intend to continue to improve our operational and marketing efficiency, which includes attracting new consumers, increasing community engagement and improving fulfillment and distribution operations.

We invest significant resources in marketing and content generation, use a variety of brand and performance marketing channels and work continuously to improve brand exposure at our retail partners to acquire new consumers.

It is important we maintain reasonable costs for these marketing efforts relative to the revenue we expect to derive from our consumers.

It is important to maintain reasonable costs for these marketing efforts relative to the revenue we expect to derive from our consumers.

We leverage our proprietary Honest Omni-Analytics to generate valuable consumer insights that guide our omnichannel strategy and inform our marketing spend optimization.

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Our paid advertising includes search engine marketing, display, paid social media and product placement and traditional advertising, such as direct mail, television, radio and magazine advertising.

Our paid advertising significantly increased in 2021 compared to 2020, which impacted our ability to cost-effectively drive traffic to Honest.com and contributed to the decline in Digital revenue in 2021 compared to 2020.

Paid advertising costs significantly increased industry-wide in 2021 and 2022, which negatively impacted our ability to cost-effectively drive traffic to Honest.com and contributed to the decline in Digital revenue in 2021 and 2022 as a result of our reduced digital media spending in the face of such higher advertising costs .

We drive a significant amount of traffic to our website via search engines and, therefore, rely heavily on search engines.

We expect continued price increases in our paid advertising that may impact marketing efficiencies, costs and revenue in our Digital channel in the future.

These elevated advertising costs have in 2022 impacted and may in the future impact marketing efficiencies, costs and revenue in our Digital channel.

Overall Macro Trends

We have strategically positioned ourselves to benefit from several macro trends related to changes in consumer behavior.

We believe consumers’ increasing interest in a conscious lifestyle has contributed to significant demand for our products.

Further, the rise in digital shopping has complemented our flagship digital platform, Honest.com, our presence with third-party ecommerce players and our Retail partners’ websites.

In 2021, we saw a significant shift from Digital to Retail as more consumers became vaccinated and chose to return to in-store shopping.

Changes in macro-level consumer spending trends, including as a result of the COVID-19 pandemic, have resulted and could in the future result in fluctuations in our operating results.

Impact of COVID-19

The COVID-19 pandemic caused general business disruption worldwide beginning in January 2020.

The full extent to which the COVID-19 pandemic will directly or indirectly impact our cash flow, business, financial condition, results of operations and prospects will depend on future developments that are uncertain.

We believe consumers’ increasing interest in purpose-designed products has contributed to higher demand for our products.

At the same time, changes in macro-level consumer spending trends, including as a result of the COVID-19 pandemic or broader macroeconomic conditions, such as inflation, have resulted and could in the future result in fluctuations in our operating results.

The COVID-19 pandemic in particular has caused general business disruption worldwide since January 2020.

The full extent to which the COVID-19 pandemic and these broader macroeconomic conditions will directly or indirectly impact our cash flow, business, financial condition, results of operations and prospects will depend on future developments that are uncertain.

Business Operations

As a result of the COVID-19 pandemic, our headquarters was temporarily closed but has since reopened in a limited capacity.

We have also implemented travel restrictions.

These actions represent a significant change in how we operate our business, but we believe that we successfully navigated this transition.

In an effort to provide a safe work environment for our employees, we have implemented various social distancing measures, including replacing many in-person meetings with virtual interactions.

We will continue to take actions as may be required or recommended by government or health authorities or as we determine are in the best interests of our employees and other business partners in light of the pandemic.

The operations of our retail partners, manufacturers and suppliers have also been impacted by the COVID-19 pandemic.

As a result of the COVID-19 pandemic, our headquarters were temporarily closed but have since reopened in a hybrid capacity.

During the pandemic we implemented travel restrictions and social distancing measures, including replacing many in-person meetings with virtual interactions, as well as other precautions for the safety of our employees, many of which we have continued.

These actions represented a significant change in how we operate our business, but we believe that we successfully

navigated this transition.

We will continue to take actions as may be required or recommended by government or health authorities or as we determine are in the best interests of our employees and business partners in light of the pandemic.

The operations of our retail customers, manufacturers and suppliers have also been impacted by the COVID-19 pandemic.

While the duration and extent of the COVID-19 pandemic depends on future developments that cannot be accurately predicted at this time, it has already had an adverse effect on the global economy and the ultimate societal and economic impact of the COVID-19 pandemic remains unknown.

In particular, the conditions caused by this pandemic may negatively impact collections of accounts receivable and reduce expected spending from new consumers, all of which could adversely affect our business, financial condition, results of operations and prospects in the future, and has led to tighter inventory management by retailers, which has negatively impacted our revenue and fulfillment operations, and may continue in the future.

Prolonged unfavorable economic conditions, including as a result of COVID-19 or similar outbreaks, and any resulting recession or slowed economic growth, have had and may continue to have an adverse effect on our sales and profitability.

Supply Chain Disruptions

We have experienced some impacts on our inventory availability and delivery capacity since the outbreak, which to date has not materially impacted our ability to service our consumers and retail and third-party ecommerce customers.

In the fourth quarter of 2021, we experienced lower than expected inventory receipts due largely to global supply chain delays, including a delay in receiving shipments from overseas.

W e have taken measures to bolster key aspects of our supply chain, such as ensuring sufficient inventory to support our continued growth in the face of the pandemic.

As a result of the COVID-19 pandemic and other macroeconomic trends, we and our distribution partners have experienced some disruptions to the operations of our fulfillment centers, including a nationwide truck driver shortage.

For example, during the fourth quarter of 2021, some employees at two of our warehouse facilities were ill with COVID-19 and/or following quarantine protocols, which coupled with the nationwide truck driver shortage, negatively impacted our and our distribution partner's ability to fulfill orders in a timely manner and had a negative impact on our results of operations.

We experienced impacts on our inventory availability and delivery capacity during the COVID-19 outbreak.

The out-of-stock inventory due to supply chain disruptions was significant on several key items, particularly in our Skin and Personal Care and Diapers and Wipes product categories.

In the fourth quarter of 2021, we experienced lower than expected inventory receipts due largely to global supply chain delays, including a delay in receiving shipments from overseas, which we also experienced in the second quarter of 2022.

For example, due to new COVID-19 lockdown restrictions in China in the second quarter of 2022, many of the ports shut down which has negatively impacted and may in the future negatively impact our ability to timely receive shipments of our products.

To the extent that additional prevention and mitigation measures are implemented in the future, or there is uncertainty about the effectiveness of these or any other measures to contain the spread of COVID-19, there has been and continues to be an adverse impact on global economic conditions and consumer confidence and spending, which has adversely affected our supply chain as well as the demand for our products and has impacted our revenue and ability to service our customer orders.

During 2022, we took measures to bolster key aspects of our supply chain, such as increasing inventory levels to support retail distribution growth and longer lead times.

In addition, as a result of the COVID-19 pandemic and other macroeconomic trends, we and our distribution partners have experienced disruptions to the operations of our fulfillment centers, including a nationwide truck driver shortage during the fourth quarter of 2021.

For example, an international freight forwarder partner experienced a cybersecurity attack during the first quarter of 2022 resulting in a delay in the shipment and launch of our Beauty Restage products in Europe.

Also, in the third quarter of 2022, some of our digital and retail customers began to reduce inventory on hand and have changed fulfillment schedules, which has negatively impacted our fulfillment operations and our revenue and is expected to continue to do so in the future.

We continue to work with our existing manufacturing, logistics and other supply chain partners to ensure our ability to service our consumers and retail and third-party ecommerce customers.

We have experienced and anticipate to see an increase in commodity prices, labor costs, input costs and transportation costs that has continued into 2022.

We have experienced and anticipate continued increases in commodity prices, labor costs, input costs and transportation costs.

For example, some of our contracts with third-party manufacturers have clauses that trigger good faith renegotiation of purchase costs in the case of significant raw material cost escalation.

In the fourth quarter of 2021, we were informed by two third-party manufacturers in our Diapers and Wipes and Skin and Personal Care categories that those hurdles had been met.

As a result, we negotiated and agreed to higher purchase prices which will negatively impact our cost of goods in 2022.

We implemented price increases in 2021 and plan to pursue productivity initiatives to offset these price increases, but we experienced forward buys by a number of customers in the fourth quarter of 2021 in response to our announced price increases and also expect continued input cost inflation in 2022 that will hamper our ability to drive margin expansion.

In the fourth quarter of 2021, we were informed by two third-party manufacturers in our Diapers and Wipes and Skin and Personal Care categories, respectively, that those hurdles had been met.

In addition, in the third quarter of 2022, we received requests from the same two third-party manufacturers to renegotiate purchase costs due to continued increases in raw material costs.

As a result, we negotiated and agreed to higher purchase prices which has negatively impacted our cost of revenue during the year ended December 31, 2022 and will continue to have a negative impact on our results of operations.

Due to continued elevated input costs such as fluff pulp, we experienced further escalation of purchase costs and cost of revenue in the fourth quarter of 2022 and anticipate the same in 2023.

Additionally, one of our fulfillment partners passed on increased service and inflation related costs to us, including warehouse labor cost, which negatively impacted our cost of revenue.

If we are not successful negotiating future renewals, our business, financial condition, results of operations and prospects could be adversely affected.

Moreover, the demand for sustainable packaging and ingredients is outpacing the supply and increasing the cost of these raw materials.

For example, there is a supplier shortage or significant demand for and cost impacts to various raw materials used in manufacturing and distributing our products, including post-consumer recycled plastic resin, post-consumer recycled cardboard shipping cartons for our Honest.com shipments, surfactants, fluff pulp and other diaper raw materials.

We implemented price increases that took effect in the first half of 2022 and in December 2022 and plan to take additional price increases in 2023 and in the future as needed to offset current and future input cost inflation and to pursue productivity initiatives to offset inflation.

However, we may not be able to increase our prices or productivity sufficiently enough

to offset these costs.

We continue to experience significant increasing input cost levels that have and could continue to hamper our ability to drive margin expansion.

Customer demand for our products may change based on price increases.

Consumer Preferences

We believe that during 2020, COVID-19 drove a demand shift towards our Digital channel as consumers shifted to online shopping amid the pandemic.

Additionally, in 2020 our Household and Wellness product category benefited from increasing demand for sanitization and disinfecting products.

In response, we accelerated our development timeline for certain product launches, launching our disinfecting spray and alcohol wipes in 2020.

In 2021, we saw a decline in consumer demand for sanitization and disinfecting products, coupled with retailers managing heavy inventories of these products in stores.

Toward the end of 2021, we began to see increased consumer willingness to return to in-store shopping as the economy reopens and more of the population is vaccinated, driving revenue growth within our Retail channel, specifically within our Diapers and Wipes and Skin and Personal Care product categories in 2021.

The appropriate level of our inventory reserve is based on current and forecasted demand.

For example, based on macro Household & Wellness trends, consumer demand for sanitizing and disinfecting products has decelerated at a more rapid than expected rate as more consumers have become vaccinated and retailers continue to manage heavy inventories of sanitization and disinfecting products in stores.

We recorded an inventory write-off of $5.6 million throughout the year relating to certain sanitization and disinfecting products as the amount of inventory was significantly in excess of existing demand.

Management is implementing various strategies to address this reduction in demand and the related impact on gross margin, including higher markdowns and promotions to clear through inventory, liquidation efforts, investing in new product ideas and developing new creative advertising.

There is no guarantee that customer demand will increase in our favor or that we will be able to successfully

implement these strategies.

Depending on future consumer behavior in relation to changes in the COVID-19 pandemic and related aging of inventory, among other factors, we may incur additional inventory write-downs and customer returns.

Given our digitally-native brand and strong digital penetration, we believe we benefited from this trend.

Additionally, in 2020 we benefited from increasing consumer and customer demand for sanitization and disinfecting products, which drove revenue growth in our Household and Wellness product category.

In 2021 and 2022, we saw a significant decline in consumer demand for sanitization and disinfecting products as consumers returned to pre-COVID routines.

In addition, retailers continue to manage heavy inventories of these products in stores and warehouse facilities.

In 2021, we began to see increased consumer willingness to return to in-store shopping as the economy reopened and more of the population became vaccinated, driving revenue growth within our Retail channel, specifically within our Diapers and Wipes and Skin and Personal Care product categories.

During the year ended December 31, 2022, the Retail channel revenue continued to increase compared to our Digital channel due to this trend as well as expanded and new distribution, marketing efforts and strong retail consumption across product categories.

Inventory is reflected at net realizable value which includes a reserve for excess inventory.

We estimate reserve requirements based on current and forecasted demand, including the ability to liquidate excess inventory and estimated liquidation value.

Given the significant decline in consumer demand for sanitizing and disinfecting products, we recorded an inventory write-down, inclusive of overhead costs and tariffs, of $4.3 million and $5.6 million, during the year ended December 31, 2022 and 2021, respectively, relating to certain sanitization and disinfecting products as the amount of inventory was significantly in excess of existing and projected demand, and we may record inventory write-downs in the future.

Included in these inventory write-downs is $1.0 million and $0.7 million of Company earmarked donations of excess sanitization products during the year ended December 31, 2022 and 2021, respectively, which is included in selling, general and administrative expense on the consolidated statements of comprehensive loss.

The amount of excess sanitization products donated in future periods may differ from those earmarked for donations.

Depending on future consumer behavior in relation to changes in the COVID-19 pandemic, the macroeconomic environment or otherwise and related aging of inventory, among other factors, we may incur additional inventory write-downs, customer returns or incur additional donation expense or disposal costs as we reduce excess inventory.

Due to increasing supply chain lead times, new retail distribution and expectation of supplier price increases that took effect in early 2023, we have increased our inventory levels to ensure in-stock position to service customers and consumers.

In addition, inflation in input costs, including higher product costs, inbound shipping and warehouse labor, has resulted in a higher dollar value of inventory.

As a result of these factors, during the year ended December 31, 2022, inventory has increased by $40.0 million compared to the year ended December 31, 2021, which mainly represents an increase in quantities on-hand, as well as higher cost per unit due to input cost inflation and higher capitalized costs associated with in-bound freight and warehouse costs.

Inflation Reduction Act of 2022

On August 16, 2022, President Biden signed into law the Inflation Reduction Act of 2022 (the “Act”), which contains provisions that became effective on January 1, 2023, including a 15% corporate minimum tax and a 1% excise tax on stock buybacks.

While we are still evaluating the impact of the Act, we do not currently expect any material changes on our consolidated financial position, results of operations and cash flows.

Components of Results of Operations

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The Digital channel includes direct sales to the consumer through our website and sales to third-party ecommerce customers, who resell our products through their own online platforms.

The Retail channel includes sales to traditional brick and mortar retailers, who may also resell our products through their own online platforms.

The Retail channel includes sales to traditional brick and mortar retailers and their respective websites, who may also resell our products through their own online platforms.

Our revenue is recognized net of allowances for returns, discounts, credits and any taxes collected from consumers.

In 2019, we entered into a license agreement with Butterblu, LLC, or Butterblu, pursuant to which we license certain of our trademarks to Butterblu for the manufacture and distribution of certain baby apparel products in exchange for royalties.

In 2019, we entered into a license agreement with Butterblu, LLC, or Butterblu, pursuant to which we licensed certain of our trademarks to Butterblu for the manufacture and distribution of certain baby apparel products in exchange for royalties.

Butterblu operates and maintains our baby apparel offerings independently through the honestbabyclothing.com website.

Our baby apparel offerings and our agreement with Butterblu are not currently material to our business and not expected to be material in the future.

For the year ended December 31, 2021, we collected $0.9 million in royalty revenue.

For the year ended December 31, 2022 and 2021, we collected $1.0 million and $0.9 million, respectively, in royalty revenue related to this license agreement.

For the year ended December 31, 2020, we did not collect any royalty revenue under this agreement due in part because we granted Butterblu temporary payment relief.

In August 2022, we terminated the license agreement in advance of its expiration date and entered into a supplier services agreement with Butterblu, pursuant to which Butterblu provides certain design, manufacturing, sales and marketing services to us.

As part of the supplier services agreement, we acquired all of Butterblu's existing inventory of Honest baby apparel products for $5.5 million, and have agreed to purchase and own inventory for the term of the supplier service agreement which is until December 31, 2026, unless terminated sooner.

We entered into this supplier services agreement to create growth opportunities and synergies between our portfolio of products.

Butterblu continues to operate and maintain our baby apparel offerings independently through the honestbabyclothing.com website under our supplier services agreement.

Honest Baby Clothing® sales are now reflected as revenue in our consolidated statements of operations.

For the year ended December 31, 2022, we recognized $10.0 million in revenue, excluding royalty revenue, which was included in our Household and Wellness product category, and $7.7 million of associated cost of revenue.

Cost of Revenue

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These include personnel-related expenses, including salaries, bonuses, benefits and stock-based compensation expense.

Selling, general and administrative expenses also include technology expenses, professional fees, facility costs, including insurance, utilities and rent relating to our headquarters, depreciation and amortization and overhead costs.

We expect our general and administrative expenses to increase in absolute dollars as we continue to grow our business and organizational capabilities.

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Marketing expenses include costs related to our branding initiatives, retail customer marketing activities, point of purchase displays, targeted online advertising through sponsored search, display advertising, email and influencer marketing campaigns, market research, content production and other public relations and promotional initiatives.

We expect marketing expenses to continue to increase in absolute dollars as we continue to expand brand awareness, introduce new product innovation across multiple product categories and implement new marketing strategies.

Given higher costs in digital marketing and increased retail distribution, we have shifted the focus of our marketing spend towards supporting retail marketing programs and top of funnel marketing activities.

We will continue to invest in marketing initiatives in our product categories and hero products with key retailers, as well as expand brand awareness, introduce new product innovation across multiple product categories and implement new marketing strategies in the United States.

As we launch new products, we expect to make marketing investments to build brand awareness, drive trial and set the foundation for future revenue growth.

Research and Development

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IPO-Related Expenses

In December 2020, we paid bonuses totaling $9.5 million to certain employees, including members of management, relating to preparation of our IPO, and after the closing of the IPO, we paid an additional $9.5 million in bonuses to certain employees, including members of management, which we collectively refer to as the IPO Bonuses, excluding in each case payroll taxes and expenses.

The IPO Bonuses were recognized in selling, general and administrative and research and development expense.

After the closing of the IPO, we paid $9.5 million in bonuses to certain employees, including members of management, excluding in each case payroll taxes and expenses.

The bonus was recognized in selling, general and administrative and research and development expense.

In addition, upon the effective date of the registration statement for our IPO in May 2021, we recognized stock-based compensation expense in selling, general and administrative and research and development expenses of $3.1 million related to certain performance and market-based stock options and $0.2 million related to certain restricted stock units that vested upon this liquidity event.

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Interest income consists primarily of interest income earned on our short-term investments and our cash and cash equivalents balances.

Interest expense consists primarily of the portion of rent payments recognized as imputed interest expense under build-to-suit accounting associated with our leasing arrangements.

Other income (expense), net consists primarily of our foreign currency exchange gains and losses relating to transactions denominated in currencies other than the U.S.

Prior to the adoption of Financial Accounting Standards Board Accounting Standard Update No 2016-02, Leases (ASC 842) on January 1, 2022, interest expense consisted primarily of the portion of rent payments recognized as imputed interest expense under build-to-suit accounting associated with our leasing arrangements.

Other income (expense), net consists of our foreign currency exchange gains, losses relating to transactions denominated in currencies other than the U.S.

dollar and contingent gains.

We expect our foreign currency gains and losses to continue to fluctuate in the future due to changes in both the volume of foreign currency transactions and foreign currency exchange rates.

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Revenue was $313.7 million for the year ended December 31, 2022, as compared to $318.6 million for the year ended December 31, 2021.

The increase of $18.1 million, or 6.0%, was primarily due to a $22.2 million increase in revenue from Skin and Personal Care products and a $12.5 million increase in revenue from Diapers and Wipes, offset by a $16.5 million decrease in revenue from Household and Wellness products.

The revenue increase from Skin and Personal Care was primarily driven by increased sales volume on our products across the Retail channel as a result of continued investment in marketing innovation, our Content, Community, Commerce marketing strategy, expanded distribution and merchandising programs with our retail partners and improved retail unit volume, including $4.2 million through the non-monetary sale of our legacy beauty inventory in exchange for future marketing and transportation credits.

The revenue increase in Diapers and Wipes was primarily driven by the increase in sales volume of our diaper business, especially in the Retail Channel, driven by our new Clean Conscious Diaper product offering launched in the first quarter of 2021, offset by a decline in wipes revenue largely due to out-of-stocks driven by supply chain challenges.

The revenue decrease in Household and Wellness during the year ended December 31, 2021 was primarily due to a decrease in overall consumer demand for sanitization and disinfecting products as more consumers became vaccinated against COVID-19, as well as the discontinuation of non-recurring retail rotational program that occurred during the fourth quarter of 2020.

Revenue growth increased in our Retail channel for the year ended December 31, 2021, compared to the year ended December 31, 2020, primarily due to the continued channel shift to Retail as sales across products saw higher volumes with our retail partners as more consumers became vaccinated against COVID-19 and returned to in-store shopping.

In addition to this shift, we also saw continued retail distribution expansion, additional merchandising programs and overall increases in retail unit volume with our retail partners.

The reduction in revenue in our Digital channel was primarily due to the Retail channel shift, lower traffic to our Digital platforms including Honest.com, in the year ended December 31, 2021, and a reduction in inventory on-hand by a key digital partner who reduced inventory in consumables in the second quarter of 2021 to free up space for other products ahead of a major promotional event.

The decrease of $5.0 million, or 1.6%, was primarily due to a $12.4 million decrease in revenue from Skin and Personal Care products and a $0.5 million decrease in revenue from Diapers and Wipes, offset by a $7.9 million increase in revenue from Household and Wellness products.

The revenue decrease from Skin and Personal Care was primarily driven by a decrease of $8.5 million in revenue related to a rotational program with a key club retailer that occurred during the year ended December 31, 2021 and did not occur during the year ended December 31, 2022 and a $4.7 million in liquidation sales in advance of our Beauty Restage to clear out legacy inventory, partially offset by higher consumption, price increases and distribution gains.

The revenue decrease in Diapers and Wipes was primarily driven by a decrease in diaper revenue due to lower traffic, lower bundle subscribers and decreased revenue in our Digital channel as the price of digital marketing escalated and impacted our ability to cost-effectively drive traffic to our Honest.com and digital customers and led us to shift our advertising budget toward our Retail channel , partially offset by an increase in our wipes revenue, price increases in both Diapers and Wipes and distribution gains.

The revenue increase in Household and Wellness was primarily driven by $10.0 million in revenue from Honest Baby

Clothing as a result of our transition from a license agreement to a supplier services agreement with Butterblu, partially offset by a $2.3 million decrease in sanitization and disinfecting products revenue.

We estimate that pricing increases taken in the first half of 2022 contributed $10.3 million to revenue for the year ended December 31, 2022.

Revenue increased in our Retail channel for the year ended December 31, 2022, compared to the year ended December 31, 2021, primarily due to an increase in revenue across product categories related to new retail distribution gains and strong consumption growth at existing and new retail customers, partially offset by two rotational programs (sanitization and disinfecting and baby and personal care) with a key club customer during the year ended December 31, 2021, that did not occur during the year ended December 31, 2022.

The decrease in revenue in our Digital channel for the year ended December 31, 2022, compared to the year ended December 31, 2021, was primarily due to higher digital marketing costs which impacted the ability to cost-effectively drive traffic to Honest.com and our digital customers, as well as a key digital customer that reduced its weeks of supply of inventory and experienced lower diaper and wipes bundle subscribers.

Cost of Revenue and Gross Profit

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Cost of revenue was $221.3 million for the year ended December 31, 2022, as compared to $209.5 million for the year ended December 31, 2021.

The increase of $16.8 million, or 8.7%, was primarily due to increased product costs and fulfillment expenses associated with the increased sales of our products, in part related to overall inflationary pressures which has resulted in an increase in the price of raw materials, a $5.6 million increase in inventory write-down related to certain household products for which demand significantly declined subsequent to the demand we saw in 2020 due to the COVID-19 pandemic.

Cost of revenue as a percentage of revenue increased by 164 basis points primarily due to the inventory write-down on sanitization, disinfecting and other COVID-19 driven products which reflected 174 basis points of the increase, offset by costovation initiatives.

Higher input costs in transportation, freight and warehouse labor were mostly offset by productivity initiatives, including our Clean Conscious Diaper and Beauty Restage, a shift in mix towards sales of Skin and Personal Care products which are higher margin products and leveraging fixed fulfillment costs over a larger revenue base as compared to the year ended December 31, 2020.

The increase of $11.9 million, or 5.7%, was primarily due to higher fulfillment costs, especially in transportation, freight and warehouse labor costs, higher product costs, driven by increased product costs for our diapers and personal care products, higher revenue from Honest Baby Clothing, as well as rent expense related to our warehouse facility due to the derecognition of our built-to-suit lease as a result of the adoption of ASC 842 (previously recognized in interest expense).

Cost of revenue as a percentage of revenue increased by 483 basis points primarily due to higher input costs, along with higher trade promotion levels as compared to the year ended December 31, 2021, partially offset by pricing increases implemented in the first half of 2022 and cost reduction projects.

Gross profit was $92.3 million for the year ended December 31, 2022, as compared to $109.2 million for the year ended December 31, 2021.

The increase of $1.3 million, or 1.2%, was primarily due to the higher level of sales, particularly in Skin and Personal Care and Diapers and Wipes products.

The decrease of $16.9 million, or 15.4%, was primarily due to the decrease in revenue in our Skin and Personal Care product category, higher input costs, including higher fluff pulp costs and higher raw material prices from manufacturers, and higher fulfillment costs, higher levels of promotional spending and fixed cost deleverage, partially offset by the increase in revenue in our Household and Wellness product category, pricing increases implemented in the first half of 2022 and cost savings.

Operating Expenses

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Selling, general and administrative expenses were $87.3 million for the year ended December 31, 2022, as compared to $84.1 million for the year ended December 31, 2021.

The increase of $12.8 million, or 18.0%, was primarily due to increased costs associated with both preparing to be and operating as a public company.

These incremental expenses included a $10.5 million increase in salary and stock compensation, as well as an increase of $2.5 million in public company insurance expense,

$1.8 million in audit fees and $1.4 million in legal expenses, offset by a $3.3 million decrease in bonus payments compared to the year ended December 31, 2020.

The increase of $3.3 million, or 3.9%, was primarily due to $5.8 million in CEO transition expenses, a $3.9 million increase in legal fees, a $2.0 million increase in service fees related to the Honest Baby Clothing servicing agreement, a $1.3 million in advanced shipping vendor violation charges related to implementation of our new order management system and a $1.1 million increase in donation expense, partially offset by non-recurring IPO related expenses for the year ended December 31, 2021 that did not occur during the year ended December 31, 2022.

The IPO-related expenses during the year ended December 31, 2021 included $9.1 million in bonus payments made to certain employees, including members of management, excluding payroll taxes and expenses, $1.9 million in stock-based compensation expense related to the vesting of performance based awards and $1.0 million in accounting expenses related to the IPO during the year ended December 31, 2021.

Marketing Expenses

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Marketing expenses were $47.8 million for the year ended December 31, 2022, as compared to $54.3 million for the year ended December 31, 2021.

The increase of $9.8 million, or 22.0%, was primarily due to an increase of $4.5 million in retail marketing expenses, $3.2 million in digital advertising expenses and $1.0 million in video and photo production costs.

The increase in retail marketing expense was driven in part by the launch of our Clean Conscious Diaper in January 2021, as well as by marketing for a key digital partner’s promotional event.

The increase in digital advertising expenses drove our Content, Community, Commerce marketing strategy within Skin and Personal Care and Diapers and Wipes.

The increase in video and production costs were primarily related to our product innovations and promotional events launched in the first nine months of 2021, including our new Clean Conscious Diaper product offering and our new sustainable package initiative and new line of skin care products, which we refer to as our "Beauty Restage".

The decrease of $6.5 million, or 11.9%, was primarily due to a strategic shift in digital marketing spend in the face of higher advertising costs to our Retail channel reflecting lower marketing spend of $4.8 million at Honest.com and $2.5 million with a key digital customer, offset by an increase in marketing expenses in our Retail channel.

Research and Development Expenses

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Research and development expenses were $7.0 million for the year ended December 31, 2022, as compared to $7.7 million for the year ended December 31, 2021.

The increase of $2.0 million, or 34.6%, was primarily due to an increase of $1.0 million in salary and stock-based compensation, a $0.5 million increase in clinical and claims testing expenses and a $0.3 million increase in pilot trials to support product innovation.

The decrease of $0.7 million, or 8.9%, was primarily related to a $0.5 million decrease in stock-based compensation expense.

Interest and Other Income (Expense), Net

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(In thousands, except percentages)

Interest income (expense), net $ 494 $ (1,754) $ 2,248 (128.2) %

Other income (expense), net 377 (22) 399 (1,813.6)

Interest and other income (expense), net $ 871 $ (1,776) $ 2,647 (149.0) %

Interest and other income (expense), net was net expense of $1.8 million for the year ended December 31, 2021, as compared to net expense of $0.8 million for the year ended December 31, 2020.

Interest expense consists primarily of the portion of rent payments recognized as imputed interest expense under build-to-suit accounting associated with our leasing arrangements.

The increase of $0.9 million, or 112.2%, was primarily due to a decrease in interest income on our short-term investments due to a lower average investment balance and lower average interest rates.

Interest and other income, net were $0.9 million for the year ended December 31, 2022, as compared to interest and other expense, net of $1.8 million for the year ended December 31, 2021.

The increase of $2.6 million, or 149.0%, was primarily due to a decrease in interest expense related to the derecognition of our built-to-suit lease as a result of the adoption of ASC 842, as well as an increase in interest earned on investments.

Under the new lease accounting, all lease expenses related to the built-to-suit lease are included in cost of revenue.

Additionally, during the year ended December 31, 2022, $0.7 million of other income was related to the recognition of taxes and interest to be refunded from the Nevada Department of Taxation legal settlement.

Refer to Note 11, “Commitments and Contingencies,” to the consolidated financial statements included elsewhere in this Annual Report on Form 10-K for more information on the legal settlement.

Liquidity and Capital Resources

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As of December 31, 2022, we had $9.5 million of cash and cash equivalents and $5.7 million of short-term investments.

Although we are dependent on our ability to raise capital or generate sufficient cash flow from operations to achieve our business objectives, we believe our existing cash, cash equivalents, and short-term investments will be sufficient to meet our short-term and long-term working capital and capital expenditure needs.

Although we are dependent on our ability to generate sufficient cash flow from operations or raise capital to achieve our business objectives, we believe our existing cash, cash equivalents and short-term investments will be sufficient to meet our short-term and long-term working capital and capital expenditure needs, given our plan to generate positive cash flow from reducing our inventory and the availability under our 2023 Credit Facility.

Refer to 17, "Subsequent Events" included in the consolidated financial statements for more information on the 2023 Credit Facility.

Future capital requirements will depend on many factors, including our rate of revenue growth, gross margin and the level of expenditures in all areas of the Company.

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2021 Credit Facility

In April 2021, we entered into a first lien credit agreement (the “2021 Credit Facility”), with JPMorgan Chase Bank, N.A., as administrative agent and lender, and the other lenders party thereto, which provides for a $35.0 million revolving credit facility that matures on April 30, 2026.

The 2021 Credit Facility includes a subfacility that provides for the issuance of letters of credit in an amount of up to $10.0 million at any time outstanding, which reduces the amount available under the 2021 Credit Facility.

The 2021 Credit Facility is subject to customary fees for loan facilities of this type, including a commitment fee based on the average daily undrawn portion of the revolving credit facility.

The interest rate applicable to the 2021 Credit Facility is, at our option, either (a) the LIBOR (or a replacement rate established in accordance with the terms of the 2021 Credit Facility) (subject to a 0.00% LIBOR floor), plus a margin of 1.50% or (b) the CB floating rate minus a margin of 0.50%.

In April 2021, we entered into a first lien credit agreement (the “2021 Credit Facility”), with JPMorgan Chase Bank, N.A., as administrative agent and lender, and the other lenders party thereto, which provided for a $35.0 million revolving credit facility that matures on April 30, 2026.

The 2021 Credit Facility included a subfacility that provided for the issuance of letters of credit in an amount of up to $10.0 million at any time outstanding, which reduced the amount available under the 2021 Credit Facility.

As of December 31, 2022, there were outstanding standby letters of credit of $4.8 million related to lease obligations with $30.2 million available to be drawn upon.

The 2021 Credit Facility was subject to customary fees for loan facilities of this type, including a commitment fee based on the average daily undrawn portion of the revolving credit facility.

We recognized the commitment fee as incurred in interest and other income (expense), net in the consolidated statements of comprehensive loss.

For the year ended December 31, 2022 and 2021, the commitment fee incurred was immaterial.

The interest rate applicable to the 2021 Credit Facility was, at our option, either (a) the LIBOR (or a replacement rate established in accordance with the terms of the 2021 Credit Facility) (subject to a 0.00% LIBOR floor), plus a margin of 1.50% or (b) the CB floating rate minus a margin of 0.50%.

The CB floating rate is the higher of (a) the Wall Street Journal prime rate and (b)(i) 2.50% plus (ii) the adjusted LIBOR rate for a one-month interest period.

The 2021 Credit Facility will terminate and borrowings thereunder, if any, will be due on April 30, 2026.

As of December 31, 2021, there was no outstanding balance under the 2021 Credit Facility.

We are required to follow certain covenants.

As of March 22, 2022, we were in compliance with all covenants under the 2021 Credit Facility.

Refer to Note 8 included in the consolidated financial statements for more information on the 2021 Credit Facility.

As of December 31, 2022, there was no outstanding balance under the 2021 Credit Facility we were in compliance with the covenants under this facility.

In January 2023, u pon entry into the 2023 Credit Facility, the Company’s 2021 Credit Facility was terminated.

Refer to Note 8, "Credit Facilities" and 17, "Subsequent Events" included in the consolidated financial statements for more information on the termination of the 2021 Credit Facility.

2023 Credit Facility

In January 2023, we entered into a first lien credit agreement (the “2023 Credit Facility”), with JPMorgan Chase Bank, N.A., as administrative agent and lender, and the other lenders party thereto, which provides for a $35.0 million revolving credit facility that matures on April 30, 2026.

The 2023 Credit Facility includes a subfacility that provides for the issuance of letters of credit in an amount of up to $15.0 million at any time outstanding, which reduced the amount available under the 2021 Credit Facility.

Availability of the 2023 Credit Facility will be based upon a borrowing base formula and periodic borrowing base certifications valuing certain of the Company’s accounts receivable and inventory as reduced by an availability block and certain reserves, if any.

The 2023 Credit Facility includes an uncommitted accordion feature that allows for increases in the revolving commitment to as much as an additional $35.0 million, for up to $70.0 million in potential revolving commitment.

The 2023 Credit Facility is subject to customary fees for loan facilities of this type, including a commitment fee based on the average daily undrawn portion of the 2023 Credit Facility.

The interest rate applicable to the 2023 Credit Facility will be, at the Company’s option, either (a) the Adjusted Term SOFR rate (subject to a 0.00% floor), plus a margin ranging from 1.50% to 2.25% or (b) the CB floating rate, (i) plus a margin of 0.25% or (ii) minus a margin ranging from 0.25% to 0.50%.

The margin will be based upon the Company’s fixed charge coverage ratio.

The CB floating rate is the highest of (a) the Wall Street Journal prime rate and (b) 2.50%.

The 2023 Credit Facility will terminate and borrowings thereunder, if any, will be due in full on April 30, 2026.

Debt under the 2023 Credit Facility will be guaranteed by substantially all of the Company’s material domestic subsidiaries and will be secured by substantially all of the Company’s and such subsidiaries’ assets.

The Company is subject to certain affirmative and negative covenants including the requirement that it maintains a minimum total fixed charge coverage ratio during the periods set forth in the 2023 Credit Facility and also includes customary events of default.

The 2023 Credit Facility contains covenants that restrict, among other things, the Company's ability to sell assets, make investments and acquisitions, grant liens, change the Company’s lines of business, pay dividends and make certain other restricted payments.

Failure to do so, unless waived by the lenders under the 2023 Credit Facility pursuant to its terms, as amended, would result in an event of default under the 2023 Credit Facility.

The following table summarizes our cash flows for the periods presented:

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Net cash (used in) operating activities $ (76,275) $ (38,154)

Net cash (used in) provided by investing activities $ (8,623) $ 36,696

Net cash provided by (used in) financing activities $ 60,368 $ (973)

Net cash provided by (used in) investing activities $ 34,963 $ (8,623)

Net cash provided by financing activities $ 38 $ 60,368

Operating Activities

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Net cash used in operating activities of $76.3 million for the year ended December 31, 2022 was primarily due to net loss of $49.0 million, non-cash adjustments of $24.2 million and a net decrease in cash related to changes in operating assets and liabilities of $51.4 million.

Non-cash adjustments primarily consisted of stock-based compensation of $16.8 million and depreciation and amortization of $4.1 million.

Changes in cash flows related to operating assets and liabilities primarily consisted of a $9.0 million increase in accounts receivable due to higher revenue from retail customers, $6.7 million use of cash due to the timing of payments associated with our accounts payable and operating leasing obligations, a $6.1 million increase in prepaid expenses and other assets due to timing of payments, as well as the non-monetary sale of our legacy beauty inventory for future marketing and transportation credits and a $1.0 million decrease in inventory due to timing of inventory purchases.

Non-cash adjustments primarily consisted of stock-based compensation of $15.1 million, amortization of operating ROU assets of $6.2 million and depreciation and amortization of $2.8 million.

Changes in cash flows related to operating assets and liabilities primarily consisted of a $40.0 million increase in inventory reflecting cost inflation (inclusive of the purchase of $5.5 million of Honest Baby Clothing inventory from Butterblu), an increase in weeks of supply due to longer lead times, as well as in advance of new distribution and an additional investment in advance of supplier price increases that took effect in early 2023, a $10.6 million increase in accounts receivable due to growth in Retail channel revenue, a $4.4 million increase in prepaid expenses and other assets due to timing of payments, offset by a $10.4 million use of cash due to the timing of payments associated with our accounts payable, accrued expenses and a $7.0 million use of cash due to operating lease obligations.

Net cash used in operating activities of $38.2 million for the year ended December 31, 2021 was primarily due to net loss of $38.7 million, non-cash adjustments of $21.3 million and a net decrease in cash related to changes in operating assets and liabilities of $20.8 million.

Non-cash adjustments primarily consisted of stock-based compensation of $16.8 million and depreciation and amortization of $4.1 million.

Changes in cash flows related to operating assets and liabilities primarily consisted of a $24.1 million use of cash to increase investment in inventory to support our growth across our business, including on wipes, sanitization products and our new innovation products in 2020, and a $1.5 million use of cash due to timing of payments on prepaid expenses and other assets.

These uses of cash were partially offset by a $13.7 million increase in accounts payable and accrued expenses driven by the aforementioned investment in inventory to support growth across the business and a $1.5 million reduction in accounts receivable due to timing of cash collection from retail customers.

Investing Activities

Our primary source of investing cash is the sale and maturity of short-term investments and our primary use of investing cash is the purchase of short-term investments and property and equipment.

Net cash provided by investing activities of $35.0 million for the year ended December 31, 2022 was due to purchases of short-term investments of $12.8 million, offset by proceeds from the maturities of short-term investments of $49.4 million.

Net cash used in investing activities of $8.6 million for the year ended December 31, 2021 was due to purchases of short-term investments of $65.3 million, offset by proceeds from the sales and maturities of short-term investments of $27.4 million and $29.5 million, respectively.

Net cash provided by investing activities of $36.7 million for the year ended December 31, 2020 was due to proceeds from the sales and maturities of short-term investments of $5.8 million and $53.5 million, respectively, net of purchases of short-term investments of $22.5 million and purchases of property and equipment of $0.2 million.

Financing Activities

Our financing activities primarily consisted of proceeds from sales of securities, payment of dividends, payment of offering costs, proceeds from stock option award exercises and principal payments of financing lease obligations.

Our financing activities primarily consisted of proceeds from sales of securities, payment of offering costs, proceeds from stock option award exercises and principal payments of financing lease obligations.

Net cash provided by financing activities of $38.4 thousand for the year ended December 31, 2022 primarily consisted of proceeds from stock option exercises and the 2021 ESPP, partially offset by principal payments of financing lease obligations.

Net cash provided by financing activities of $60.4 million for the year ended December 31, 2021 primarily consisted of proceeds from our IPO of $96.5 million, net of underwriting discounts and commissions and proceeds from the exercise of stock options of $5.7 million, offset by dividend payments of $35.0 million and payments of offering costs in connection with our IPO of $5.5 million.

Net cash used in financing activities of $1.0 million for the year ended year ended December 31, 2020 primarily consisted of principal payments of financing lease obligations of $1.0 million.

In April 2021, our board of directors declared a cash dividend of $35.0 million to the holders of record of our common stock and our redeemable convertible preferred stock as of May 3, 2021, which we paid on June 29, 2021 (the “2021 Dividend”).

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The 2023 Credit Facility contains restrictions on our ability to pay dividends.

Refer to Note 17, "Subsequent Events" included in these consolidated financial statements for more information on the 2023 Credit Facility.

Non-GAAP Financial Measure

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(4) stock-based compensation expense, including payroll tax;

(5) professional fees and expenses and executive termination expenses related to our Innovation Strategy;

(6) the IPO Bonuses, including associated payroll taxes and expenses, and third-party costs associated with our IPO in 2021;

and (7) in certain periods, litigation and settlement fees associated with certain non-ordinary course litigation.

(5) the IPO bonus in the second quarter of 2021, including associated payroll taxes and expenses, and third-party costs associated with our IPO in 2021;

(6) litigation and settlement fees associated with certain non-ordinary course securities litigation claims;

and (7) CEO transition expenses.

Adjusted EBITDA is a financial measure that is not required by, or presented in accordance with GAAP.

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Some of the limitations of adjusted EBITDA include that (1) it does not reflect capital commitments to be paid in the future;

depreciation and amortization are non-cash charges, the underlying assets may need to be replaced and adjusted EBITDA does not reflect these capital expenditures;

(2) although depreciation and amortization are non-cash charges, the underlying assets may need to be replaced and adjusted EBITDA does not reflect these capital expenditures;

(3) it does not consider the impact of stock-based compensation expense;

(4) it does not reflect other non-operating expenses, including interest expense;

(5) it does not include the IPO Bonuses, including associated payroll taxes and expenses, or third-party costs associated with the preparation of the IPO;

(5) it does not include the IPO bonus, including associated payroll taxes and expenses, or third-party costs associated with the preparation of the IPO;

(6) it does not reflect tax payments that may represent a reduction in cash available to us;

and (7) does not include certain non-ordinary cash expenses that we do not believe are representative of our business on a steady-state basis.

and (7) does not include certain non-ordinary cash expenses that we do not believe are representative of our business on a steady-state basis, such as CEO transition expenses.

In addition, our use of adjusted EBITDA may not be comparable to similarly titled measures of other companies because they may not calculate adjusted EBITDA in the same manner, limiting its usefulness as a comparative measure.

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Stock-based compensation 15,078 16,847

Innovation Strategy expenses (1)

Related IPO and other transaction-related expenses (1)

12,160 10,459

Securities litigation expense 3,583 —

CEO transition expense (2)

Payroll tax expense related to stock-based compensation 89 211

Adjusted EBITDA $ (22,511) $ (3,462)

(1) Includes professional fees and expenses and executive severance and termination expenses related to our Innovation Strategy.

(2) Includes IPO-related expenses, including IPO Bonuses, and other transaction-related third-party expenses, which are generally incremental costs incurred associated with the preparation of the IPO.

( 1) Includes IPO-related costs, including IPO bonus and transaction-related third-party expenses, which are generally incremental costs incurred associated with the preparation of the IPO.

(2) Includes consulting fee, severance, and legal fees related to our former CEO, as well as recruiting fees, among other related costs.

Material Cash Requirements

We lease warehouse and office facilities under operating lease agreements and a built-to-suit lease under a financing arrangement.

We lease warehouse and office facilities under operating and finance lease agreements.

We have unconditional purchase commitments for software service subscriptions, advertising services and certain other services.

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Recent Accounting Pronouncements

Refer to Note 2 to our consolidated financial statements included in this Annual Report on Form 10-K for a discussion of recently issued accounting pronouncements not yet adopted and recently adopted accounting pronouncements.

Refer to Note 2, "Summary of Significant Accounting Policies," to the consolidated financial statements included elsewhere in this Annual Report on Form 10-K for a discussion of recently issued accounting pronouncements not yet adopted and recently adopted accounting pronouncements.

Critical Accounting Policies and Estimates

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Accordingly, these are the policies we believe are the most critical to aid in fully understanding and evaluating our consolidated financial condition and results of our operations.

See Note 2 to our consolidated financial statements included elsewhere in this Annual Report on Form 10-K for a description of our other significant accounting policies.

See Note 2, "Summary of Significant Accounting Policies," to the consolidated financial statements included elsewhere in this Annual Report on Form 10-K for a description of our other significant accounting policies.

The preparation of our consolidated financial statements in conformity with GAAP requires us to make estimates and judgments that affect the amounts reported in those financial statements and accompanying notes.

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The carrying value of inventories is reduced for any excess and obsolete inventory.

Excess and obsolete inventory reductions are determined based on assumptions about future demand and sales prices, estimates of the impact of competition, and the age of inventory.

Excess and obsolete inventory

reductions are determined based on assumptions about future demand and sales prices, estimates of the impact of competition, and the age of inventory.

If actual conditions are less favorable than those previously estimated by management, additional inventory write-downs could be required.

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We have elected to take advantage of the extended transition period to comply with new or revised accounting standards and to adopt certain of the reduced disclosure requirements available to emerging growth companies.

As a result of the accounting standards election, we will not be subject to the same implementation timing for new or revised accounting standards as other public companies that are not emerging growth companies which may make comparison of our financials to those of other public companies more difficult.

As a result of the accounting standards election, we are not subject to the same implementation timing for new or revised accounting standards as other public companies that are not emerging growth companies which may make comparison of our financials to those of other public companies more difficult.

Quantitative and Qualitative Disclosures about Market Risk

Under SEC rules and regulations, as a smaller reporting company, we are not required to provide the information required by this item.

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

What changed 10-K

Item 7. Management’s Discussion and Analysis