Item 7. Management’s Discussion and Analysis
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
You should read the following discussion and analysis of our financial condition and results of operations together with our financial statements and related notes thereto appearing at the end of this Annual Report on Form 10-K. Some of the information contained in this discussion and analysis or set forth elsewhere in this Annual Report on Form 10-K, including information with respect to our plans and strategy for our business and related financing, includes forward-looking statements that involve risks and uncertainties. See “Special Note Regarding Forward-Looking Statements and Industry Data.” Because of many factors, including those factors set forth in the “Risk Factors” section of this Annual Report on Form 10-K, our actual results could differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.
Overview
We are a biopharmaceutical company focused on the discovery, development and commercialization of innovative therapies for diseases of the eye. We have worldwide rights to a portfolio of innovative products and product candidates that include two marketed therapies utilizing our proprietary mucus penetrating particle, or MPP, drug delivery technology, which we refer to as our AMPPLIFY ® Technology, to address medical needs for the front of the eye, and a pipeline of proprietary new chemical entities, or NCEs, targeted to address front and back of the eye diseases.
Our two marketed products are EYSUVIS™ (loteprednol etabonate ophthalmic suspension) 0.25%, for the short-term (up to two weeks) treatment of the signs and symptoms of dry eye disease, and INVELTYS ® (loteprednol etabonate ophthalmic suspension) 1%, a topical twice-a-day ocular steroid for the treatment of post-operative inflammation and pain following ocular surgery. Both products apply our AMPPLIFY technology to loteprednol etabonate, or LE, a corticosteroid designed for ocular applications. The AMPPLIFY ® technology, uses selectively sized nanoparticles that each have a proprietary coating. We believe that these two key attributes enable even distribution of drug particles on mucosal surfaces and significantly increase drug delivery to target tissues by enhancing mobility of drug particles through mucus and preventing drug particles from becoming trapped and eliminated by mucus.
We have retained worldwide commercial rights for EYSUVIS, INVELTYS and our preclinical development programs. Starting with FDA approval of INVELTYS, we have built a commercial infrastructure with our own focused, specialty sales force which now includes 91 territory sales managers, or TSMs, 14 regional sales leaders, two area sales leaders and three directors of national accounts. In 2021, we plan to increase our sales force from 91 TSMs to approximately 125 TSMs, pending the status of the COVID-19 pandemic. Our sales representatives promote both EYSUVIS and INVELTYS. We expect to commercialize in the United States any of our product candidates that receive marketing approval as well. We also expect to explore commercialization of EYSUVIS for the treatment of dry eye disease in certain markets outside the United States, including the European Union, or EU, utilizing a variety of collaboration, distribution and other marketing arrangements with one or more third parties.
Since the initial public offering of our common stock, or IPO, we have financed our operations primarily through common stock offerings pursuant to a shelf registration statement on Form S-3 that was declared effective by the SEC on August 27, 2018, or the 2018 Shelf Registration, and sales of our common stock pursuant to a sales agreement, or the 2018 Sales Agreement, with Jefferies, LLC, or Jefferies, under which we were able to issue and sell, from time to time, common stock in at-the-market offerings, or the ATM Offering, through Jefferies, as a sales agent. On March 10, 2020 , we notified Jefferies that we were suspending and terminating the prospectus related to the 2018 Sales Agreement. Under the 2018 Shelf Registration, we have issued an aggregate of 30,549,976 shares of common stock, including under the ATM Offering , resulting in aggregate gross proceeds to us of $231.7 million.
On May 7, 2020, we filed a shelf registration statement on Form S-3 with the SEC, which was declared effective on May 19, 2020, or the 2020 Shelf Registration. Under the 2020 Shelf Registration, we may offer and sell up to $350.0 million of a variety of securities including common stock, preferred stock, warrants, depositary shares, debt securities or units during the three-year period that commenced upon the 2020 Shelf Registration becoming effective. In connection with the filing of the 2020 Shelf Registration, we entered into an amended and restated sales agreement with Jefferies pursuant to which we may issue and sell, from time to time, up to an aggregate of $75.0 million of our common stock under our ATM Offering through Jefferies, as a sales agent. During the fourth quarter of 2020, we issued an
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aggregate of 2,821,059 shares of our common stock under the ATM Offering, resulting in net proceeds to us of $20.6 million. In January 2021, we issued and sold an additional 2,552,457 shares of our common stock under our ATM Offering, resulting in net proceeds to us of $18.2 million. As of the date of this Annual Report on Form 10-K, there was $35.0 million of shares of common stock remaining under the ATM Offering that we may issue and sell in the future and, excluding the funds designated to be offered under our ATM Offering, there was $275.0 million of securities available to be issued under the 2020 Shelf Registration.
We also have an aggregate principal amount of $75.0 million of indebtedness outstanding under our credit facility, or the Athyrium Credit Facility, with Athyrium Opportunities III Acquisition LP, or Athyrium.
Since inception, we have incurred significant losses from operations and negative cash flows from operations. Our net losses were $104.3 million for the year ended December 31, 2020 and $94.3 million for the year ended December 31, 2019. As of December 31, 2020, we had an accumulated deficit of $399.8 million. As we commenced a full promotional launch of EYSUVIS in early January 2021 and commercially launched our first product, INVELTYS, in January 2019, we have had only limited revenues to date from product sales and have financed our operations primarily through proceeds from our IPO, follow-on public common stock offerings and sales of our common stock under our ATM Offerings, private placements of preferred stock, borrowings under credit facilities convertible promissory notes and warrants. We have devoted substantially all of our financial resources and efforts to research and development, including preclinical studies and clinical trials and engaging in activities to commercialize EYSUVIS and INVELTYS. Although we expect to continue to generate revenue from sales of EYSUVIS and INVELTYS, there can be no assurance as to the amount or timing of any such revenue, and we expect to continue to incur significant expenses and operating losses. Our net losses may fluctuate significantly from quarter-to-quarter and year-to-year.
Business Impact of COVID-19 Pandemic
The ongoing COVID-19 pandemic, which began in December 2019, has spread worldwide, causing federal, state and local governments to implement measures to slow the spread of the pandemic through quarantines, strict travel restrictions and bans, heightened border scrutiny and other measures. In order to safeguard the health of our employees, we follow, and will continue to follow, recommendations from the U.S. Centers for Disease Control and Prevention, as well as federal, state, and local governments, regarding working-from-home practices for non-essential employees. As a result, all office-based personnel have been instructed to work from home, and our laboratory facilities, that support our early-stage research activities, are being utilized as necessary. In addition, we previously suspended our sales force from substantially all in-person interactions with physicians and customers and were limited to conducting educational and promotional activities virtually. However, our sales force has resumed substantially all in-person interactions in the field. To the extent we restrict, or are restricted from, in-person interactions with physicians and customers in the future, we are limited to conducting educational and promotional activities virtually, which has hampered, and may continue to hamper, our ability to market INVELTYS. The effects of COVID-19 may also disrupt the full promotional launch and commercialization of EYSUVIS.
In addition, government restrictions have at times led to moratoria on elective ocular surgeries in many jurisdictions, which has significantly reduced, and may in the future continue to significantly reduce, the demand for INVELTYS, which is indicated for the treatment of post-operative inflammation and pain following ocular surgery. The extent of the impact of COVID-19 on our commercialization efforts of EYSUVIS and INVELTYS and our operational and financial performance will depend on certain developments, including the length and severity of this pandemic and the impact on our customers, employees, vendors, and government agencies, all of which are uncertain and cannot be predicted.
Management is actively monitoring the COVID-19 pandemic and its possible effects on our financial condition, liquidity, operations, customers, sales force, contractors, and workforce. For additional information on risks posed by the COVID-19 pandemic, please see Part I, Item 1A – “Risk Factors” of this Annual Report on Form 10-K, including the risk factor entitled “The ongoing novel coronavirus pandemic and the efforts to prevent its spread have adversely impacted our operations and the market for INVELTYS, could impact the launch and commercialization of EYSUVIS and may continue to adversely affect our business, results of operations and financial condition.”
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Financial Operations Overview
Product Revenues, Net
We commenced generating product revenues from sales of INVELTYS in January 2019, and commenced generating revenue from EYSUVIS upon the shipment to wholesalers in the United States in late December 2020. We commenced the full promotional launch of EYSUVIS in early January 2021. Our product revenues are recorded net of provisions relating to estimates for (i) trade discounts and allowances, such as discounts for prompt payment and other discounts and distributor fees, (ii) estimated rebates, chargebacks and co-pay assistance program, and (iii) reserves for expected product returns. These estimates reflect current contractual and statutory requirements, known market events and trends, industry data and forecasted customer buying and payment patterns. Actual amounts may ultimately differ from these estimates. If actual results vary, estimates may be adjusted in the period such change in estimate becomes known, which could have an impact on earnings in the period of adjustment. Beginning in March 2020 and continuing through most of the second quarter of 2020, prescriptions of INVELTYS and revenue had been adversely affected by the ongoing COVID-19 pandemic as federal, state and local governments implemented restrictions on elective procedures, which included most ocular surgeries. While many deferred ocular surgeries have been rescheduled as individual states have released restrictions on elective procedures, and INVELTYS prescriptions have returned to quarterly growth, we are unable to project the specific timing or potential impact on future revenues given the continued uncertainty around the impact and duration of the restrictions related to COVID-19. We also cannot project the potential impact that COVID-19 may have on the full promotional launch and commercialization of EYSUVIS.
Cost of Product Revenues
Cost of product revenues consists primarily of materials, third-party manufacturing costs, freight and distribution costs, royalty expense, allocation of labor, quality control and assurance, reserves for defective inventory, reserves for excess and obsolete inventory and other manufacturing overhead costs. We expensed cost of product revenues related to INVELTYS as research and development expenses prior to U.S. regulatory approval, which we received on August 22, 2018. We expensed cost of product revenues related to EYSUVIS as research and development expenses prior to the determination that FDA approval was probable and before the future economic benefit was expected to be realized. With respect to the ongoing COVID-19 pandemic, we expect that the cost of product revenues will be impacted consistent with the negative impact to product revenues, net. However, we are unable to predict the specific timing or specific impact on cost of product revenues given the continued uncertainty around the impact and duration of the restrictions related to COVID-19.
Selling, General and Administrative Expenses
Selling, general and administrative expenses consist primarily of salaries, benefits, commissions, stock-based compensation and travel expenses related to our commercial infrastructure and our executive, finance, human resources, legal, information technology and business development functions. Selling, general and administrative expenses also includes external costs related to marketing, costs to manufacture sample units and professional fees for auditing, tax, information technology, consultants, legal services and allocated facility-related costs not otherwise included in research and development expenses.
We anticipate that our selling, general and administrative expenses will increase in the future as we continue to build our commercial infrastructure to support the full promotional launch and commercialization of EYSUVIS and the commercialization of INVELTYS or of any product candidates for which we obtain marketing approval. We also anticipate that our selling, general and administrative expenses will increase if and as we increase our administrative headcount to support our continued research activities and development of our product candidates. With respect to the ongoing COVID-19 pandemic, certain selling, general and administrative expenses were favorably impacted during the year ended December 31, 2020 by the restrictions including those on the activities of our sales force, which had previously suspended substantially all in-person interactions with physicians and customers. Our sales force has resumed substantially all in-person interactions in the field. If we are forced to suspend all or some in-person sales force interactions again in the future as a result of the COVID-19 pandemic, selling, general and administrative expenses could again be favorably impacted by a reduction in certain expenses associated with the restriction in activities for our sales
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force and other employees. We are unable to predict the specific amount of this impact if we are forced to resume such restrictions.
Research and Development Expenses
Research and development expenses consist of costs associated with our research activities, including compensation and benefits for full-time research and development employees, an allocation of facilities expenses, overhead expenses and other outside expenses. Our research and development expenses include:
● employee-related expenses, including salaries, related benefits, travel and stock-based compensation;
● expenses incurred for the preclinical and clinical development of our product candidates and under agreements with contract research organizations, or CROs, including costs of manufacturing product candidates prior to the determination that FDA approval of a drug candidate is probable and before the future economic benefit of the drug is expected to be realized; and
● facilities, depreciation and other expenses, which include direct and allocated expenses for rent and maintenance of facilities and supplies.
We expense research and development costs as they are incurred. We expense costs relating to the production of inventory for our product candidates, as research and development expenses within our consolidated statements of operations and comprehensive loss in the period incurred, unless we believe regulatory approval and subsequent commercialization of the product candidate is probable and we expect the future economic benefit from sales of the drug to be realized. Research and development costs that are paid in advance of performance are capitalized as a prepaid expense until incurred. We track outsourced development costs by development program but do not allocate personnel costs, payments made under our license agreements or other costs to specific product candidates or development programs. These costs are included in Employee-related costs and Other research and development costs in the line items in the tables under “Results of Operations”.
We expect that our total research and development costs will decrease in 2021 as compared to the year ended December 31, 2020 as a result of the completion of our Phase 3 clinical trial of EYSUVIS, or STRIDE 3, and as a result of the capitalization of EYSUVIS manufacturing costs as inventory beginning in the third quarter of 2020. We expect that research and development costs will increase if and as we continue to advance our preclinical development programs, identify product candidates and conduct preclinical studies and clinical trials. The process of conducting preclinical studies and clinical trials necessary to obtain regulatory approval is costly and time-consuming. We may never succeed in obtaining marketing approval for any of our product candidates. The probability of success for each product candidate may be affected by numerous factors, including preclinical data, clinical data, competition, manufacturing capability and commercial viability. With respect to the ongoing COVID-19 pandemic, we may incur reduced research and development costs resulting from any limitations that may be placed on our laboratory facilities that support our early-stage research. However, we are unable to predict the specific amount of this impact, nor are we able to predict the additional costs, if any, associated with personnel safely resuming their full activities.
Our research and development programs are at the early stage of development. Successful development and completion of preclinical studies and clinical trials is uncertain and may not result in approved products. Completion dates and completion costs can vary significantly for each product candidate and future product candidate and are difficult to predict. We will continue to make determinations as to which product candidates to pursue and how much funding to direct to each product candidate on an ongoing basis in response to the scientific and clinical success of each product candidate as well as ongoing assessments as to the commercial potential of product candidates and our ability to enter into collaborations with respect to each product candidate. We may need to raise additional capital and may seek collaborations in the future to advance our various product candidates. Additional private or public financings may not be available to us on acceptable terms, or at all. Our failure to raise capital as and when needed would have a material adverse effect on our financial condition and our ability to pursue our business strategy.
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Interest Income
Interest income consists of interest earned on our cash, cash equivalents and short-term investments.
Interest Expense
Interest expense primarily consists of contractual coupon interest, amortization of debt discounts and debt issuance costs recognized on our debt facility.
Critical Accounting Policies and Significant Judgments and Estimates
Our management’s discussion and analysis of our financial condition and results of operations is based on our financial statements, which we have prepared in accordance with U.S. generally accepted accounting principles. We believe that several accounting policies are important to understanding our historical and future performance. We refer to these policies as critical because these specific areas generally require us to make judgments and estimates about matters that are uncertain at the time we make the estimate, and different estimates—which also would have been reasonable—could have been used. On an ongoing basis, we evaluate our estimates and judgments, including those described in greater detail below. We base our estimates on historical experience and other market-specific or other relevant assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
While our significant accounting policies are described in more detail in the notes to our financial statements appearing at the end of this Annual Report on Form 10-K, we believe that the following accounting policies are those most critical to the judgments and estimates used in the preparation of our financial statements.
Revenue
We account for revenue in accordance with Accounting Standards Codification (“ASC”) Topic 606, Revenue from Contracts with Customers . Under ASC Topic 606, an entity recognizes revenue when its customer obtains control of promised goods or services, in an amount that reflects the consideration that the entity expects to be entitled in exchange for those goods or services. We perform the following five steps to recognize revenue under ASC Topic 606: (i) identify the contract(s) with a customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations in the contract; and (v) recognize revenue when (or as) the entity satisfies a performance obligation. We only recognize revenue when it is probable that we will collect the consideration to which we are entitled in exchange for the goods or services that will be transferred to the customer.
Product revenues, net
We sell EYSUVIS and INVELTYS primarily to wholesalers in the United States, or Customers. These Customers subsequently resell our products to specialty and other retail pharmacies. In addition to agreements with Customers, we enter into arrangements with third-party payors that provide for government-mandated and/or privately-negotiated rebates, chargebacks and discounts for the purchase of our products.
The goods promised in our product sales contracts represent a single performance obligation. We recognize revenue from product sales at the point the Customer obtains control of the product, which occurs upon delivery. The transaction price (“net sales price”) that is recognized as revenue for product sales includes the selling price to the Customer and an estimate of variable consideration. Components of variable consideration include prompt pay and other discounts, product returns, government rebates, third-party payor rebates, coverage gap rebates, incentives such as patient co-pay assistance, and other fees paid to Customers and other third-party payors where a distinct good or service is not received. Variable consideration is recorded on the consolidated balance sheet as either a reduction of accounts receivable, if payable to a Customer, or as a current liability, if payable to a third-party other than a Customer. We consider all relevant information when estimating variable consideration such as assessment of our current and
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anticipated sales and demand forecasts, actual payment history, information from third parties regarding the payor mix for products, information from third parties regarding the units remaining in the distribution channel, specific known market events and trends, industry data and current contractual and statutory requirements that are reasonably available. We include estimated amounts for such variable consideration in the net sales price to the extent it is determined probable that a significant reversal of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is resolved.
Payment terms with Customers do not exceed one year and, therefore, we do not account for a significant financing component in our arrangements. We expense the incremental cost of obtaining a contract with a Customer when incurred as the period of benefit is generally less than one year.
Reserves for Variable Consideration :
Trade Discounts and Allowances
We provide our Customers with certain trade discounts and allowances including discounts for prompt payments and other discounts and fees paid for distribution, data and administrative services. These discounts and fees are based on contractually-determined percentages and are recorded as a reduction of revenue and accounts receivable in the period in which the related product revenue is recognized.
Chargebacks
Chargebacks for fees and discounts to providers represent the estimated obligations resulting from contractual commitments to sell products to qualified healthcare providers at prices lower than the list prices charged to Customers who directly purchase the product from us. Customers charge us for the difference between what they pay for the product and the ultimate selling price to the qualified healthcare providers. These components of variable consideration are established in the same period that the related revenue is recognized, resulting in a reduction of product revenue and accounts receivable. Reserves for chargebacks consist of credits we expect to issue for units that remain in the distribution channel at the end of each reporting period and that we expect will be sold to qualified healthcare providers, as well as chargebacks that Customers have claimed, but for which we have not yet issued a credit.
Product Returns
Consistent with industry practice, we have a product returns policy that provides Customers right of return for product purchased within a specified period prior to and subsequent to the product’s expiration date. We estimate the amount of products that may be returned and present this amount as a reduction of revenue in the period the related product revenue is recognized, in addition to establishing a liability. Our estimates for product returns are based upon available industry data and our own sales information, including our visibility into the inventory remaining in the distribution channel as well as historical returns, which develop over time.
Commercial Payor and Medicare Part D Rebates
We contract with certain third-party payors, primarily pharmacy benefit managers, or PBM’s, and health plans, or Plans, for the payment of rebates with respect to utilization of our product. These rebates are based on contractual percentages applied to the amount of product prescribed to patients who are covered by the PBMs or the Plans with which it contracts. We estimate rebates for commercial and Medicare Part D payors based on the contractual discount percentage, the various payor mix for EYSUVIS and INVELTYS as well as future rebates that will be made for product that has been recognized as revenue but remains in the distribution channel at the end of each reporting period. We also estimate the number of patients in the prescription drug coverage gap for whom we will owe an additional liability under the Medicare Part D program. Such estimates are recorded in the same period the related revenue is recognized, resulting in a reduction of product revenue and the establishment of a current liability.
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Government Rebates
We are subject to discount obligations under Medicaid and other government programs. For Medicaid, reserves are based on actual payment history, and estimates of future Medicaid beneficiary utilization applied to the Medicaid unit rebate formula established by the Centers for Medicaid and Medicare Services. Our liability for these rebates consists of estimates of claims for the current period and estimated future claims that will be made for product that has been recognized as revenue but remains in the distribution channel at the end of each reporting period. These reserves are recorded in the same period the related revenue is recognized, resulting in a reduction of product revenue and the establishment of a current liability.
Co-pay Assistance Program
We offer a co-pay assistance program (the “co-pay program”), which is intended to provide financial assistance to patients who may or may not be covered by commercial insurance or who opt out of Medicare Part D programs. The calculation of accruals for the co-pay program is based on actual claims processed during the period as well as an estimate of the number and cost per claim that we expect to receive associated with product that has been recognized as revenue but remains in the distribution channel at the end of each reporting period. Allowances for estimated co-pay claims are recorded in the same period the related revenue is recognized, resulting in a reduction of product revenue and the establishment of a current liability.
Inventory
Inventory is stated at the lower of cost or net realizable value, on a first-in, first-out method. Costs include amounts related to third party manufacturing, transportation, internal labor and overhead. We capitalize pre-launch inventory when we believe regulatory approval and subsequent commercialization of the product candidate is probable and expect the future economic benefit of the drug to be realized. In doing so, we consider a number of factors in order to determine the amount of inventory to be capitalized, including the historical experience of achieving regulatory approvals for our similar products, the amount of inventory that is likely to be used in commercial production, receipt and analysis of positive Phase 3 clinical trial results for the underlying product candidate, results from meetings with the relevant regulatory authorities prior to the filing of regulatory applications and the compilation of the regulatory application. We also monitor the status of the product within the regulatory review and approval process, including all relevant communication with regulatory authorities. For inventories capitalized in preparation for product launch, anticipated future sales, expected shelf life and expected approval date are taken into account when evaluating realizability. The shelf life of a product is determined as part of the regulatory approval process; however, in assessing whether to capitalize pre-launch inventory, we consider the product stability data of all of the pre-launch inventory procured or produced to date to determine whether there is adequate shelf life. If management is aware of any specific material risks or contingencies other than the normal regulatory review and approval process, or if the criteria for capitalizing inventory produced prior to regulatory approval are otherwise not met, we would not capitalize such inventory costs, choosing instead to recognize such costs as a research and development expense in the period incurred. For INVELTYS, capitalization of costs as inventory began upon U.S. regulatory approval. For EYSUVIS, capitalization of costs as inventory began in the third quarter of 2020 when we believed regulatory approval and subsequent commercialization of the product candidate was probable and expected the future economic benefit of the drug to be realized.
We perform an assessment of the recoverability of capitalized inventory during each reporting period, including quality control and assurance reserves for defective inventories, and we also write-down any excess and obsolete inventories to their estimated realizable value in the period in which the impairment is first identified. Such impairment charges, should they occur, are recorded within cost of product revenues, unless associated with our samples inventory, in which case the charges are recorded to selling, general and administrative expense. The determination of whether inventory costs will be realizable requires estimates by management. If actual market conditions are less favorable than projected by management, additional write-downs of inventory may be required which would be recorded as a cost of product revenues in the consolidated statements of operations and comprehensive loss.
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Shipping and handling costs for product shipments are recorded as incurred in costs of revenues along with costs associated with manufacturing the product, and any inventory write-downs. Inventory produced that will be used in a promotional sample program is expensed to selling, general and administrative expense when it is designated as a sample. Long-term inventory includes raw materials, work-in-progress and/or finished goods inventory with an anticipated consumption or sale beyond one year from the balance sheet date based on our forecasted expectations.
Stock-based Compensation
We measure stock options and other stock-based awards granted to employees and directors based on the fair value of the award on the date of the grant and recognize the corresponding compensation expense of those awards using the straight-line method, over the requisite service period, which is generally the vesting period of the respective award, and account for the effect of forfeitures as they occur. For performance awards whose vesting is contingent upon a specified event, we recognize stock-based compensation expense over the derived service period, based on the probability of achievement of the specified event.
We estimate the fair value of each stock option grant using the Black-Scholes option-pricing model, which uses as inputs the fair value of our common stock and assumptions we make for the volatility of our common stock, the expected term of our stock options, the risk-free interest rate for a period that approximates the expected term of our stock options and our expected dividend yield.
Emerging Growth Company Status
In April 2012, the Jumpstart Our Business Startup Act, or JOBS Act, was enacted by the federal government. Section 107 of the JOBS Act provides that an emerging growth company can take advantage of the extended transition period for complying with new or revised accounting standards. Thus, an emerging growth company can delay the adoption of certain accounting standards until those standards would otherwise apply to private companies. We have irrevocably elected not to avail ourselves of this extended transition period and, as a result, we will adopt new or revised accounting standards on the relevant dates on which adoption of such standards is required for other public companies.
Results of Operations
Comparison of the Years ended December 31, 2020 and 2019
The following table summarizes the results of our operations for the years ended December 31, 2020 and 2019:
Year Ended
December 31,
2020
2019
Change
(in thousands)
Product revenues, net
$
6,362
$
6,074
$
288
Costs and expenses:
Cost of product revenues
3,173
2,008
1,165
Selling, general and administrative
81,068
65,015
16,053
Research and development
18,352
27,275
(8,923)
Total costs and expenses
102,593
94,298
8,295
Loss from operations
(96,231)
(88,224)
(8,007)
Other income (expense)
Interest income
493
2,357
(1,864)
Interest expense
(8,589)
(8,480)
(109)
Net loss
$
(104,327)
$
(94,347)
$
(9,980)
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Product revenues, net
Product revenues, net was $6.4 million for the year ended December 31, 2020 compared to $6.1 million for the year ended December 31, 2019. The increase in product revenues, net of $0.3 million is primarily the result of the first sales of EYSUVIS, which we began shipping to wholesalers in the United States in late December 2020, as well as a higher per unit gross selling price of INVELTYS. These increases were partially offset by higher estimated reserves per unit related to the year ended December 31, 2020 as compared to those estimated during the year ended December 31, 2019 and a decrease in the total units of INVELTYS sold in the year ended December 31, 2020 as compared to those sold during the year ended December 31, 2019, which we attribute to the reductions in elective surgeries as a result of the restrictions related to COVID-19. We expect product revenues to increase if and as we increase our market share and obtain and maintain coverage and adequate reimbursement for EYSUVIS and INVELTYS from third-party payors; however, revenues could continue to be negatively impacted in 2021 as a result of the COVID-19 pandemic.
Cost of product revenues
Cost of product revenues was $3.2 million for the year ended December 31, 2020, a $1.2 million increase compared to $2.0 million for the year ended December 31, 2019. The primary drivers of this increase were a reserve for excess INVELTYS inventory of $1.0 million during the year ended December 31, 2020 due to COVID-19 and the cost of product revenues attributable to EYSUVIS of $0.3 million which included $0.1 million related to the write-off of certain units that did not pass quality inspection. The cost per unit for INVELTYS increased as a result of the units sold during the year ended December 31, 2019 being further manufactured prior to FDA approval and previously expensed as research and development expenses as compared to those units sold during the year ended December 31, 2020, but the increase was more than offset by a decrease in total INVELTYS units sold compared to the year ended December 31, 2019, for a net decrease of $0.1 million. We expect cost of product revenues to increase as we continue to commercialize INVELTYS and as a result of the launch of EYSUVIS, which we began shipping to wholesalers in the United States in late December 2020 and for which we commenced a full promotional launch in early January 2021.
Selling, General and Administrative Expenses
Selling, general and administrative expenses were $81.1 million for the year ended December 31, 2020 compared to $65.0 million for the year ended December 31, 2019, an increase of $16.1 million. Selling, general and administrative expenses for the year ended December 31, 2020 include a $7.5 million increase in external sales and marketing costs related to preparation for the launch of EYSUVIS. External sales and marketing costs incurred during the year ended December 31, 2019 primarily related to the commercial launch of INVELTYS. Also contributing to the increase in selling, general and administrative expenses for the year ended December 31, 2020 was a $3.4 million increase in costs for administrative and professional service fees, a $3.3 million increase in stock-based compensation costs, of which $2.9 million was a result of the issuance of restricted stock units and performance-based restricted stock units in June 2020, a $1.1 million increase in employee-related expenses primarily due to increased incentive compensation and increased recruiting costs related to hiring efforts as we prepared for the launch of EYSUVIS, partially offset by reduced travel due to COVID-19, and a $0.8 million increase in other selling, general and administrative costs, which includes facility related costs and certain medical affairs costs. We anticipate that our selling, general and administrative expenses will increase in the future as we continue to commercialize EYSUVIS and INVELTYS and if and as we increase our administrative headcount to support our continued research and development activities and seek marketing approval for our product candidates.
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Research and Development Expenses
The following table summarizes the research and development expenses incurred during the years ended December 31, 2020 and 2019:
Year Ended
December 31,
2020
2019
Change
(in thousands)
KPI-121 development costs
$
4,686
$
12,323
$
(7,637)
Employee‑related costs
10,607
11,333
(726)
Other research and development costs
3,059
3,619
(560)
Total research and development
$
18,352
$
27,275
$
(8,923)
Research and development expenses were $18.4 million for the year ended December 31, 2020 compared to $27.3 million for the year ended December 31, 2019, a decrease of $8.9 million. The decrease was primarily the result of a $7.6 million decrease in EYSUVIS development costs related to a decrease in external spend on STRIDE 3, our Phase 3 clinical trial of EYSUVIS, a $0.7 million decrease in employee-related costs largely due to reduced travel due to COVID-19 and the decrease in the allocation of employee time dedicated to research and development and a $0.6 million decrease in other research and development costs, which include other facility related costs, preclinical studies, certain medical affairs and associated regulatory costs. We expect research and development costs to increase if and as we advance our development programs and conduct any necessary preclinical studies and clinical trials and other development activities for product candidates.
Interest Income
Interest income was $0.5 million for the year ended December 31, 2020, compared to $2.4 million for the year ended December 31, 2019, a decrease of $1.9 million. Interest income consists of interest earned on our cash, cash equivalents and short-term investments. The decrease was attributable to lower interest rates during the year ended December 31, 2020.
Interest Expense
Interest expense was $8.6 million for the year ended December 31, 2020, compared to $8.5 million for the year ended December 31, 2019, an increase of $0.1 million. Interest expense was comprised of the contractual coupon interest expense and the amortization of the debt discount associated with our Athyrium Credit Facility during the year ended December 31, 2020 and 2019. During the years ended December 31, 2020 and 2019, $75.0 million of indebtedness was outstanding under the Athyrium Credit Facility.
Liquidity and Capital Resources
Since our inception, we have incurred significant operating losses. As we commercially launched our first product, INVELTYS, in January 2019, and commenced a full promotional launch of our second product, EYSUVIS, in early January 2021, we have had limited revenues to date from product sales and have financed our operations primarily through proceeds from our IPO, follow-on public common stock offerings and sales of our common stock under our ATM Offerings, private placements of preferred stock, borrowings under credit facilities, convertible promissory notes and warrants.
In July 2017, we completed an IPO pursuant to which we issued and sold 6,900,000 shares of our common stock, which included 900,000 shares sold pursuant to the exercise of the underwriters’ option to purchase additional shares, at a price of $15.00 per share. We received net proceeds of $94.0 million after deducting underwriting discounts and commission of $7.3 million and offering costs of $2.2 million.
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On August 9, 2018, we filed our 2018 Shelf Registration under which we could initially offer and sell up to $250.0 million of a variety of securities including common stock, preferred stock, warrants, depositary shares, debt securities, purchase contracts, purchase units or any combination of such securities during the three-year period that commenced upon the 2018 Shelf Registration becoming effective. Under the 2018 Shelf Registration, we may periodically offer one or more types of securities in amounts, at prices and on terms announced, if and when the securities are ever offered.
On October 1, 2018, we entered into the Athyrium Credit Facility with Athyrium for up to $110.0 million. The Athyrium Credit Facility provided for a Term Loan A in the aggregate principal amount of $75.0 million, and a Term Loan B in the aggregate principal amount of $35.0 million. On October 1, 2018, we borrowed the entire principal amount of the Term Loan A. We did not satisfy the conditions to draw down any of the Athyrium Term Loan B funds, and as a result, the Term Loan B funds are no longer available. The maturity date of the Athyrium Credit Facility is October 1, 2024, the six-year anniversary of the close. The Term Loan A bears interest at a rate of 9.875% per annum, with quarterly, interest-only payments until the fourth anniversary of the Term Loan A. The unpaid principal amount of the Term Loan A is due and payable in quarterly installments starting at the end of the fourth anniversary of the loan.
On October 5, 2018, we sold 7,500,000 shares of common stock in an underwritten offering pursuant to the 2018 Shelf Registration at a public offering price of $8.25 per share, before underwriting discounts and commissions. In addition, the underwriters were granted an overallotment option to purchase an additional 1,125,000 shares of the common stock at the same public offering price, less underwriting discounts and commissions. On October 11, 2018, the underwriters exercised in full their option to purchase the overallotment shares. The total number of shares sold by us in the offering was 8,625,000 shares, resulting in net proceeds to us, after underwriting discounts and offering expenses, of $66.1 million. In connection with the filing of the 2018 Shelf Registration, we entered into a sales agreement with Jefferies, pursuant to which we could issue and sell, from time to time, up to an aggregate of $50.0 million of our common stock in an ATM Offering, through Jefferies, as sales agent. As of December 31, 2019, we had issued an aggregate of 2,592,934 shares of our common stock under the ATM Offering, resulting in net proceeds to us of $13.1 million. During the first quarter of 2020, we issued an aggregate of 2,352,671 shares of our common stock under the ATM Offering, resulting in net proceeds to us of $12.5 million. On March 10, 2020, we suspended and terminated the prospectus related to the ATM Offering.
On March 11, 2020, we sold 16,000,000 shares of our common stock in an underwritten offering pursuant to the 2018 Shelf Registration at a public offering price of $7.89 per share, resulting in net proceeds of $118.2 million, after underwriting discounts, commissions, and offering expenses. In addition, the underwriters of the offering were granted the option for a period of 30 days to purchase up to an additional 2,400,000 shares of common stock offered in the public offering at the public offering price, less underwriting discounts, commissions, and offering expenses. On April 3, 2020, the underwriters exercised their option and purchased an additional 979,371 shares of common stock at $7.89 per share, resulting in net proceeds to us of $7.2 million, after underwriting discounts, commissions, and offering expenses. The total number of shares sold by us in the offering was 16,979,371, resulting in total net proceeds to us, after underwriting discounts and offering expenses, of $125.4 million.
Under the 2018 Shelf Registration, we have issued an aggregate of 30,549,976 shares of common stock, including under the ATM Offering , resulting in aggregate gross proceeds to us of $231.7 million. There was $18.3 million of securities available to be issued under the 2018 Shelf Registration as of December 31, 2020.
On May 7, 2020, we filed our 2020 Shelf Registration, under which we may offer and sell up to $350.0 million of a variety of securities including common stock, preferred stock, warrants, depositary shares, debt securities or units during the three-year period that commenced upon the 2020 Shelf Registration becoming effective. In connection with the filing of the 2020 Shelf Registration, we entered into an amended and restated sales agreement with Jefferies, pursuant to which we may issue and sell, from time to time, up to an aggregate of $75.0 million of our common stock under our ATM Offering. During the fourth quarter of 2020, we issued an aggregate of 2,821,059 shares of our common stock under the ATM Offering, resulting in net proceeds to us of $20.6 million. In January 2021, we issued and sold an additional 2,552,457 shares of our common stock under our ATM Offering, resulting in net proceeds to us of $18.2 million. As of the date of this Annual Report on Form 10-K, there was $35.0 million of shares of common stock remaining under the ATM Offering that we may issue and sell in the future and, excluding the funds designated to be
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offered under our ATM Offering, there was approximately $275.0 million of securities available to be issued under the 2020 Shelf Registration.
Cash Flows
As of December 31, 2020 and 2019, we had $153.5 million and $85.4 million, respectively, in cash, cash equivalents and short-term investments and $75.0 million in indebtedness. The indebtedness in 2020 and 2019 represented the aggregate principal amount that was outstanding under the Athyrium Credit Facility.
The following table summarizes our sources and uses of cash for each of the periods presented:
Year Ended
December 31,
2020
2019
(in thousands)
Net cash used in operating activities
$
(90,694)
$
(92,720)
Net cash used in investing activities
(78,209)
(1,335)
Net cash provided by financing activities
160,628
8,982
Decrease in cash and restricted cash
$
(8,275)
$
(85,073)
Operating Activities
Net cash used in operating activities for the year ended December 31, 2020 was $90.7 million compared to $92.7 million for the year ended December 31, 2019, a decrease of $2.0 million, primarily due to the timing of working capital fluctuations which accounted for $8.3 million of the decrease and partially offset by a $6.3 million increase in the net loss adjusted for non-cash charges. Notable working capital fluctuations include a decrease to accounts receivable in the year ended December 31, 2020 by $2.0 million driven by improved days sales outstanding in the year ended December 31, 2020, whereas accounts receivable had increased by $11.6 million in the year ended December 31, 2019 driven by the launch of INVELTYS. Inventory increased by a greater amount during the year ended December 31, 2019 due to an increase in manufacturing activity for INVELTYS. Offsetting these increases was a decrease in accrued expenses and other current liabilities during the year ended December 31, 2020 by $1.8 million, as compared to an increase in accrued expenses and other current liabilities in the year ended December 31, 2019 of $9.6 million.
Investing Activities
Net cash used in investing activities for the year ended December 31, 2020 was $78.2 million compared to $1.3 million for the year ended December 31, 2019, an increase of $76.9 million, largely due to purchases of short-term investments in 2020 of $113.6 million and partially offset by $37.3 million of sales or maturities of short-term investments, respectively. Additionally, we used an additional $0.6 million in cash for capital expenditures and other assets in the year ended December 31 , 2020 compared to the year ended December 31 , 2019.
Financing Activities
Net cash provided by financing activities for the year ended December 31, 2020 was $160.6 million, an increase of $151.6 million compared to $9.0 million in the year ended December 31, 2019. This increase is due to $125.4 million of net proceeds from the sale of shares of our common stock in an underwritten offering under the 2018 Shelf Registration, $33.1 million of net proceeds from the sale of shares of our common stock under the ATM Offering, and $2.1 million of proceeds from the exercise of stock options and the issuance of common stock under our employee stock purchase plan in 2020. Net cash provided by financing activities for the year ended December 31, 2019 consisted of $8.4 million of net proceeds from the sale of shares of our common stock under the ATM Offering and $0.6 million of proceeds from the exercise of stock options and the issuance of common stock under our employee stock purchase plan.
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Funding Requirements
We anticipate that our expenses will increase substantially as compared to prior periods as we continue to commercialize INVELTYS in the United States and execute our commercial launch plans for EYSUVIS, as a result of increased headcount, including management personnel to support our clinical, manufacturing and commercialization activities, expanded infrastructure, increased legal, compliance, accounting and investor and public relations expenses associated with being a public company and increased insurance premiums, among other factors. The anticipated increase in expenses from an increase in headcount includes the expansion of our sales force from 56 TSMs to 91 TSMs, which occurred in the fourth quarter of 2020, and our plan to further increase our sales force from 91 TSMs to approximately 125 TSMs, pending the status of the COVID-19 pandemic, in 2021.
Our expenses will also increase if and as we:
● continue to grow our sales, marketing and distribution capabilities in connection with the commercialization of EYSUVIS, INVELTYS and any product candidates, for which we may submit for and obtain marketing approval;
● continue to scale-up our manufacturing processes and capabilities to support commercialization of EYSUVIS and INVELTYS;
● seek regulatory approval for EYSUVIS and INVELTYS outside of the United States;
● progress our current and any future preclinical development programs;
● in license or acquire the rights to other products, product candidates or technologies;
● conduct clinical trials and other development activities and/or seek marketing approval for future product candidates;
● leverage our proprietary AMPPLIFY technology to seek to advance additional therapeutics into preclinical and clinical development ;
● maintain, expand and protect our intellectual property portfolio;
● hire additional clinical, quality control, scientific, manufacturing, commercial and management personnel ;
● expand our operational, financial and management systems ; and
● increase our product liability insurance coverage as we expand our commercialization efforts for EYSUVIS and INVELTYS.
We expect to continue to incur significant expenses and operating losses. Net losses may fluctuate significantly from quarter-to-quarter and year-to-year. We anticipate that our cash, cash equivalents and short-term investments as of December 31, 2020, along with anticipated revenue from INVELTYS and the $18.2 million net proceeds raised under the ATM Offering program in January 2021, will enable us to fund our operations, lease and debt service obligations, and capital expenditure requirements into at least the fourth quarter of 2022. We expect anticipated revenue generated from sales of EYSUVIS to provide additional cash runway. We have based this estimate on assumptions that may prove to be wrong, and our operating plan may change as a result of many factors currently unknown to us. As a result, we could deplete our available capital resources sooner or later than we currently expect.
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Because of the numerous risks and uncertainties associated with pharmaceutical product development, we are unable to accurately predict the timing or amount of increased expenses or when, or if, we will be able to achieve profitability. Our expenses will increase from what we anticipate if:
● we elect or are required by the FDA or non-U.S. regulatory agencies to perform clinical trials or studies in addition to those expected;
● there are any delays in enrollment of patients in or completing our clinical trials or the development of our product candidates;
● we in-license or acquire rights to other products, product candidates or technologies; or
● there are any third-party challenges to our intellectual property portfolio, or the need arises to defend against intellectual property-related claims or enforce our intellectual property rights.
Our ability to become and remain profitable depends on our ability to generate revenue. While we began to generate revenue from the sales of EYSUVIS and INVELTYS in late December 2020 and January 2019, respectively, there can be no assurance as to the amount or timing of any future revenue from EYSUVIS and INVELTYS, and we may not achieve profitability. Achieving and maintaining profitability will require us to be successful in a range of challenging activities, including:
● successfully launching EYSUVIS and growing EYSUVIS revenues;
● successfully growing INVELTYS revenues;
● achieving an adequate level of market acceptance and obtaining and maintaining coverage and adequate reimbursement from third-party payors for EYSUVIS, INVELTYS and any other products we commercialize ;
● manufacturing at commercial scale, marketing, selling and distributing EYSUVIS and INVELTYS;
● maintaining regulatory and marketing approvals for EYSUVIS and INVELTYS;
● discovering, developing and successfully seeking marketing approval and commercialization of additional product candidates;
● hiring and building a full commercial organization required for marketing, selling and distributing those products for which we obtain marketing approval;
● obtaining, maintaining and protecting our intellectual property rights; and
● adapting our business in response to the current pandemic health event resulting from COVID-19 and its collateral consequences.
EYSUVIS and INVELTYS are our only products that have been approved for sale, and they have only been approved in the United States. We plan to seek approval in other jurisdictions, but may not do so successfully, or at all. Further, the successful commercialization of EYSUVIS and INVELTYS in the United States is subject to many risks. As a company, we have limited experience commercializing products, and we may not be able to do so successfully. There are numerous examples of unsuccessful product launches and failures to meet expectations of market potential, including by pharmaceutical companies with more experience and resources than us. Our revenue from sales of EYSUVIS and INVELTYS alone may not be sufficient for us to become profitable in the near future, if at all.
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In addition, our recent commercialization efforts have been hampered by the operational restrictions on our sales force from quarantines, travel restrictions and bans and other governmental restrictions related to COVID-19. As a result of these restrictions, we previously suspended our sales force from substantially all in-person interactions with physicians and customers and were limited to conducting educational and promotional activities virtually. However, our sales force has resumed substantially all in-person interactions in the field. To the extent we restrict, or are restricted from, in-person interactions with physicians and customers, we are limited to conducting educational and promotional activities virtually, which has hampered, and may continue to hamper, our ability to market INVELTYS and could adversely affect our ability to launch and market EYSUVIS. In addition, government restrictions have at times led to moratoria on elective ocular surgeries in many jurisdictions, which has significantly reduced, and may in the future continue to significantly reduce, the demand for INVELTYS, which is indicated for the treatment of inflammation and pain following ocular surgery. The extent of the impact of COVID-19 on our commercialization efforts will depend on the length and severity of this pandemic, including the extent any resurgence of the COVID-19 virus and any variant strains of the virus, the availability and effectiveness of vaccines, and the impact of the foregoing on our customers, employees, vendors, and government agencies, which is uncertain and cannot be predicted.
We may never succeed in these activities and may never generate revenue that is sufficient to achieve profitability. Even if we do achieve profitability, we may not be able to sustain or increase profitability on a quarterly or annual basis. Our failure to become and remain profitable would decrease the value of our company and could impair our ability to raise capital, expand our business, maintain our research and development efforts, diversify our product offerings or even continue our operations. A decline in the value of our company could also cause you to lose all or part of your investment.
Until such time, if ever, as we can generate substantial product revenues, we expect to finance our cash needs through a combination of equity offerings, debt financings, collaborations, strategic alliances, licensing arrangements, royalty agreements, and marketing and distribution arrangements. To the extent that we raise additional capital through the sale of equity or convertible debt securities, your ownership interest will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect your rights as a common stockholder. Debt financing and preferred equity financing, if available, may involve agreements that include pledging of assets as collateral, covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making capital expenditures or declaring dividends. Our pledge of our assets as collateral to secure our obligations under our Athyrium Credit Facility may limit our ability to obtain additional debt financing. Under our Athyrium Credit Facility, we are also restricted from paying dividends on our common stock and limited with respect to certain other uses of our cash without the lenders’ consent.
We may need to raise additional capital in the future to advance our business. Additional private or public financings may not be available to us on acceptable terms, or at all. Additionally, the COVID-19 pandemic has already caused significant disruptions in the financial markets, and may continue to cause such disruptions, which could impact our ability to raise additional funds. The COVID-19 pandemic has also impacted, and may continue to impact, the volatility of our stock price and trading in our stock. Even after the COVID-19 pandemic has subsided, we may continue to experience adverse impacts to our business as a result of any economic recession or depression that has occurred or may occur in the future.
Our failure to raise capital as and when needed would have a material adverse effect on our financial condition and our ability to pursue our business strategy. If we raise additional funds through collaborations, strategic alliances, licensing arrangements, royalty agreements, or marketing and distribution arrangements, 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 when needed, we may be required to delay, limit, reduce or terminate our product development or current or future commercialization efforts or grant rights to develop and market products or product candidates that we would otherwise prefer to develop and market ourselves.
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Off-Balance Sheet Arrangements
We did not have during the periods presented, and we do not currently have, any off-balance sheet arrangements, as defined in the rules and regulations of the Securities and Exchange Commission.
Recently Issued Accounting Pronouncements
From time to time the Financial Accounting Standards Board, or FASB, or other standard-setting bodies, issue new accounting pronouncements. Where applicable, we adopt these new standards according to the specified effective dates. Unless otherwise disclosed in Note 2 to the financial statements appearing at the end of this Annual Report on Form 10-K, we believe that the impact of any recently issued standard(s) that are not yet effective will not have a material impact on our financial position or results of operation upon adoption.