NeuroPace Inc 10-K

Item 8. Financial Statements and Supplementary Data. 120 INDEX TO FINANCIAL STATEMENTS Page(s) Report of Independent Registered Public Accounting Firm ( PricewaterhouseCoopers LLP, San Jose, CA, PricewaterhouseCoopers LLP, San Jose, CA, PCAOB ID 238 ) 122 Financial Statements: Balance Sheets 123 Statements of Operations and Comprehensive Loss 124 Statements of Redeemable Convertible Preferred Stock and Stockholders’ Equity (Deficit) 125 Statements of Cash Flows 126 Notes to Financial Statements 128 121 Report of Independent Registered Public Accounting Firm To the Board of Directors and Stockholders of NeuroPace, Inc. Opinion on the Financial Statements We have audited the accompanying balance sheets of NeuroPace, Inc. (the “Company”) as of December 31, 2021 and 2020, and the related statements of operations and comprehensive loss, of redeemable convertible preferred stock and stockholders' equity (deficit) and of cash flows for the years then ended, including the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2021 and 2020, and the results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America. Basis for Opinion These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits of these financial statements in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion. /s/ PricewaterhouseCoopers LLP San Jose, California March 10, 2022 We have served as the Company's auditor since 2003. 122 NeuroPace, Inc. Balance Sheets December 31, (in thousands, except share and per share amounts) 2021 2020 Assets Current assets Cash and cash equivalents $ 19,187 $ 26,390 Short-term investments 96,397 11,689 Accounts receivable 7,091 8,395 Inventory 7,822 6,909 Prepaid expenses and other current assets 2,319 1,179 Total current assets 132,816 54,562 Property and equipment, net 603 515 Restricted cash 122 366 Deferred offering costs — 484 Other assets 21 23 Total assets $ 133,562 $ 55,950 Liabilities and Stockholders’ Equity (Deficit) Current liabilities Accounts payable $ 1,378 $ 949 Accrued liabilities 7,923 6,603 Short-term debt — 2,043 Total current liabilities 9,301 9,595 Deferred rent, noncurrent 911 1,301 Long-term debt 49,847 50,821 Redeemable convertible preferred stock warrant liability — 369 Other liabilities — 274 Total liabilities 60,059 62,360 Commitments and contingencies (Note 5) Redeemable convertible preferred stock, $ 0.001 par value - no shares and 60,757,386 shares authorized as of December 31, 2021 and December 31, 2020, respectively; no shares and 16,614,178 shares issued and outstanding as of December 31, 2021 and December 31, 2020, respectively (Liquidation value $ 0 and $ 227,755 as of December 31, 2021 and December 31, 2020, respectively) — 141,422 Stockholders’ equity (deficit) Preferred stock, $ 0.001 par value, 10,000,000 shares authorized; no shares issued and outstanding as of December 31, 2021 and December 31, 2020 — — Common stock, $ 0.001 par value - 200,000,000 and 74,636,348 shares authorized as of December 31, 2021 and December 31, 2020, respectively; 24,452,999 and 314,096 shares issued and outstanding as of December 31, 2021 and December 31, 2020, respectively 24 — Additional paid-in-capital 497,522 239,826 Accumulated other comprehensive income (loss) ( 272 ) 33 Accumulated deficit ( 423,771 ) ( 387,691 ) Total stockholders’ equity (deficit) 73,503 ( 147,832 ) Total liabilities, redeemable convertible preferred stock and stockholders’ equity (deficit) $ 133,562 $ 55,950 The accompanying notes are an integral part of these financial statements. 123 NeuroPace, Inc. Statements of Operations and Comprehensive Loss Year Ended December 31, (in thousands, except share and per share amounts) 2021 2020 Revenue $ 45,183 $ 41,138 Cost of goods sold 11,748 10,866 Gross profit 33,435 30,272 Operating expenses Research and development 18,211 15,695 Selling, general and administrative 38,961 27,628 Total operating expenses 57,172 43,323 Loss from operations ( 23,737 ) ( 13,051 ) Interest income 448 41 Interest expense (includes $ 0 and $ 1,258 to related parties in 2021 and 2020, respectively) ( 7,410 ) ( 11,486 ) Other income (expense), net ( 5,381 ) 218 Net loss $ ( 36,080 ) $ ( 24,278 ) Unrealized (loss) gain on available-for-sale debt securities ( 305 ) 32 Comprehensive loss $ ( 36,385 ) $ ( 24,246 ) Net loss per share attributable to common stockholders, basic and diluted $ ( 2.17 ) $ ( 117.85 ) Weighted-average shares used in computing net loss per share attributable to common stockholders, basic and diluted 16,608,800 204,068 The accompanying notes are an integral part of these financial statements. 124 NeuroPace, Inc. Statements of Redeemable Convertible Preferred Stock and Stockholders’ Equity (Deficit) Redeemable Convertible Preferred Stock Common Stock Additional Paid-In Capital Accumulated Other Comprehensive Income (Loss) Accumulated Deficit Total Stockholders’ Equity (Deficit) (in thousands, except share amounts) Shares Amount Shares Amount Balances as of January 1, 2020 635,048 $ 73,568 202,121 $ — $ 234,290 $ 1 $ ( 363,641 ) $ ( 129,350 ) Net loss — — — — — — ( 24,278 ) ( 24,278 ) Unrealized gain on available-for-sale debt securities — — — — — 32 — 32 Issuance of Series B’ redeemable convertible preferred stock, net of issuance costs of $ 1,304 7,599,720 31,696 — — — — — — Issuance of common stock pursuant to stock option exercises — — 112,049 — 11 — — 11 Conversion of convertible notes into Series B' redeemable convertible preferred stock 8,379,410 36,386 — — 4,148 — — 4,148 Reduction of Series A' redeemable convertible preferred stock liquidation value — ( 228 ) — — — — 228 228 Repurchase of common stock — — ( 74 ) — — — — — Change in early exercise liability — — — — ( 2 ) — — ( 2 ) Stock-based compensation — — — — 1,379 — — 1,379 Balances at December 31, 2020 16,614,178 141,422 314,096 — 239,826 33 ( 387,691 ) ( 147,832 ) Net loss — — — — — — ( 36,080 ) ( 36,080 ) Unrealized loss on available-for-sale debt securities — — — — — ( 305 ) — ( 305 ) Net exercise of Series B’ redeemable convertible preferred stock warrants 213,941 5,606 — — — — — — Conversion of redeemable convertible preferred stock into common stock ( 16,828,119 ) ( 147,028 ) 16,828,119 17 147,011 — — 147,028 Net exercise of common stock warrants — — 185 — — — — — Issuance of common stock upon initial public offering, net of issuance costs and underwriting discount of $ 11,813 — — 6,900,000 7 105,480 — — 105,487 Issuance of common stock pursuant to stock option exercises — — 300,768 — 8 — — 8 Issuance of common stock pursuant to Employee Stock Purchase Plan — — 109,831 — 911 — — 911 Change in early exercise liability — — — — ( 2 ) — — ( 2 ) Stock-based compensation — — — — 4,288 — — 4,288 Balances at December 31, 2021 — $ — 24,452,999 $ 24 $ 497,522 $ ( 272 ) $ ( 423,771 ) $ 73,503 The accompanying notes are an integral part of these financial statements. 125 NeuroPace, Inc. Statements of Cash Flows Year Ended December 31, (in thousands) 2021 2020 Cash flows from operating activities Net loss $ ( 36,080 ) $ ( 24,278 ) Adjustments to reconcile net loss to net cash used in operating activities Stock-based compensation expense 4,288 1,379 Depreciation 296 312 Amortization of debt discount and issuance costs 267 3,492 Non-cash interest expense 806 3,447 PIK interest paid on repayment of term loan — ( 4,081 ) Inventory write-downs 242 320 Realized loss from sale of short-term investments — 15 Change in fair value of redeemable convertible preferred stock warrant liability 5,236 ( 181 ) Change in fair value of derivative instrument — ( 149 ) Loss on extinguishment of convertible notes — 182 Changes in operating assets and liabilities Accounts receivable 1,304 ( 2,378 ) Inventory ( 1,156 ) 672 Prepaid expenses and other assets ( 1,164 ) 120 Accounts payable 479 ( 5 ) Accrued liabilities 1,719 ( 712 ) Other liabilities ( 248 ) 248 Deferred rent ( 566 ) ( 12 ) Net cash used in operating activities ( 24,577 ) ( 21,609 ) Cash flows from investing activities Acquisition of property and equipment ( 384 ) ( 62 ) Proceeds from sale of short-term investments — 6,300 Purchase of short-term investments ( 85,012 ) ( 17,005 ) Net cash used in investing activities ( 85,396 ) ( 10,767 ) Cash flows from financing activities Proceeds from issuance of common stock under employee plans 919 11 Proceeds from issuance of common stock in initial public offering, net of underwriter discount and commissions 109,089 — Payment of deferred offering costs ( 3,392 ) ( 210 ) Proceeds from debt — 54,047 Payment of debt issuance costs — ( 950 ) Proceeds from issuance of redeemable convertible preferred stock, net of issuance costs — 31,696 Repayment of debt ( 4,090 ) ( 42,120 ) Issuance of convertible notes, net of issuance costs (includes $ 0 and $ 11,867 from related parties in the years 2021 and 2020, respectively) — 12,535 Net cash provided by financing activities 102,526 55,009 Net (decrease) increase in cash and cash equivalents ( 7,447 ) 22,633 Cash, cash equivalents and restricted cash Beginning of year 26,756 4,123 End of year $ 19,309 $ 26,756 The accompanying notes are an integral part of these financial statements. 126 NeuroPace, Inc. Statements of Cash Flows Reconciliation of cash, cash equivalents and restricted cash to balance sheets: Cash and cash equivalents $ 19,187 $ 26,390 Restricted cash 122 366 Total cash, cash equivalents and restricted cash $ 19,309 $ 26,756 Supplemental disclosure of cash flow information: Cash paid for interest $ 6,337 $ 4,411 Supplemental disclosures of non-cash investing and financing information: Net change in accrued liabilities from early exercise of options $ 2 $ 2 Conversion of convertible notes and accrued interest into preferred stock $ — $ 34,113 Extinguishment of derivative liability $ — $ 6,239 Issuance of redeemable convertible preferred stock warrants in connection with the New Term Loan $ — $ 550 Unpaid deferred offering costs included in accounts payable and accrued liabilities $ — $ 274 The accompanying notes are an integral part of these financial statements. 127 NeuroPace, Inc. Notes to Financial Statements 1. The Company NeuroPace, Inc., or the Company, was incorporated in the state of Delaware on November 19, 1997. The Company is a commercial-stage medical device company that has developed the RNS System, the only commercially available brain-responsive neuromodulation system designed for treating medically refractory focal epilepsy by delivering personalized, real-time treatment at the seizure source. The Company began commercializing its products in the United States in 2014. Initial Public Offering On April 21, 2021, the Company’s registration statement on Form S-1 (File No. 333-254663) relating to its initial public offering, or IPO, of common stock became effective. The IPO closed on April 26, 2021, at which time the Company issued 6,900,000 shares of its common stock at a price of $ 17.00 per share, which included the issuance of shares in connection with the exercise by the underwriters of their option to purchase up to 900,000 additional shares. The Company received an aggregate of $ 117.3 million in gross proceeds, before underwriting discounts and commissions and offering costs, and approximately $ 105.5 million in net proceeds after deducting $ 8.2 million in underwriting discounts and commissions and $ 3.6 million in offering costs. Upon the closing of the IPO, all outstanding shares of the Company’s redeemable convertible preferred stock converted into 16,614,178 shares of common stock, warrants to purchase 346,823 shares of Series B’ convertible preferred stock net exercised to 213,941 shares of Series B’ convertible preferred stock and subsequently converted into common stock on a one-to-one basis, and warrants to purchase 219 shares of common stock net exercised to 185 shares of common stock. In connection with the completion of its IPO, on April 26, 2021, the Company’s certificate of incorporation was amended and restated to provide for 200,000,000 authorized shares of common stock with a par value of $ 0.001 per share and 10,000,000 authorized shares of preferred stock with a par value of $ 0.001 per share. Liquidity and Capital Resources The Company has incurred operating losses and negative cash flows from operations since its inception and has an accumulated deficit of $ 423.8 million as of December 31, 2021. For the years ended December 31, 2021 and 2020, the Company used $ 24.6 million and $ 21.6 million of cash in its operating activities, respectively. As of December 31, 2021, the Company had cash, cash equivalents and short-term investments of $ 115.6 million. Historically, the Company has funded its operations principally through the sales of its products, issuance of redeemable convertible preferred stock and debt financing. On April 26, 2021, the Company completed its IPO and received approximately $ 105.5 million in net proceeds after deducting underwriting discounts and commissions and offering costs. The Company’s financial statements have been prepared on the basis of the Company continuing as a going concern for the next 12 months. Management believes that the Company’s cash, cash equivalents and short-term investments will allow the Company to continue its planned operations for at least the next 12 months from the date of the issuance of these financial statements. In connection with the New Term Loan described in Notes 6 and 15, the Company will need to be in compliance with a minimum annual net revenue covenant determined in accordance with generally accepted accounting principles of $ 43.0 million in each of the years ended December 31, 2021 and 2022, and maintain a minimum cash and cash equivalents balance of $ 5.0 million. If the Company cannot generate sufficient revenue in the future, the Company may not be in compliance with the annual net revenue covenant and the lender may call the debt resulting in the Company immediately needing additional funds, and resulting in a going concern. As of December 31, 2021, the Company was in compliance with all covenants of the New Term Loan. The COVID-19 pandemic is affecting business conditions in the industry in which the Company operates. Beginning in March 2020, the Company’s net sales were negatively impacted by the COVID-19 pandemic as hospitals delayed or canceled elective procedures. In response to the pandemic, many state and local governments in the U.S. issued orders that temporarily precluded elective procedures in order to conserve scarce health system resources. The decrease in hospital admission rates and elective surgeries reduced both the number of patients being 128 NeuroPace, Inc. Notes to Financial Statements evaluated for treatment with and demand for elective procedures using the Company's RNS System. A similar decrease occurred in the third and fourth quarters of 2021, as hospitals responded to new COVID-19 variants, including the Delta and Omicron variants. The Company has taken necessary precautions to safeguard its employees, patients, customers, and other stakeholders from the COVID-19 pandemic, while maintaining business continuity to support its patients, customers and employees. The timing, extent and continuation of any increase in procedures, and any corresponding increase in sales of the Company’s products, and whether there could be a future decrease in the current level of procedures as a result of the COVID-19 pandemic or otherwise, remain uncertain and are subject to a variety of factors. 2. Summary of Significant Accounting Policies Basis of Presentation The financial statements have been prepared in conformity with generally accepted accounting principles in the United States, or GAAP, as defined by the Financial Accounting Standards Board, or the FASB. Reverse Stock Split On August 18, 2020, the Company effected a 1-for-100 reverse stock split of its common stock and redeemable convertible preferred stock. The par value of the authorized stock was not adjusted as a result of the reverse stock split. On April 9, 2021, the Company effected a 1-for-2.6 reverse stock split of its common stock and redeemable convertible preferred stock. The par value of the authorized stock was not adjusted as a result of the reverse stock split. All issued and outstanding shares of common stock and redeemable convertible preferred stock and related per share amounts contained in the accompanying financial statements have been retroactively revised to reflect the combined effect of these reverse stock splits for all periods presented. Use of Estimates The preparation of financial statements in conformity with GAAP requires the Company to make estimates and assumptions that affect the amounts and disclosures reported in the financial statements. The Company uses significant judgment when making estimates related to stock-based compensation, the valuation of deferred tax assets and related valuation allowances, provision for excess and obsolete inventories, the valuation of derivative financial instruments and redeemable convertible preferred stock warrant liability and, prior to the IPO, the valuation of its common stock. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Although these estimates are based on the Company’s knowledge of current events and actions it may undertake in the future, actual results may ultimately materially differ from these estimates and assumptions. Segment and Geographical Information The Company operates and manages its business as one reportable and operating segment. The Company’s chief executive officer, who is the chief operating decision maker, reviews financial information on an aggregate basis for purposes of allocating resources and evaluating financial performance. All of the Company’s long-lived assets, comprised of property and equipment, are based in the United States. All of the Company’s revenue was in the United States for the years ended December 31, 2021 and December 31, 2020, based on the shipping location of the external customer. Revenue Recognition The Company derives substantially all its revenue from sales of RNS Systems to hospitals facilities (typically comprehensive epilepsy centers, or Level 4 CECs) that implant its products. 129 NeuroPace, Inc. Notes to Financial Statements On January 1, 2019, the Company adopted Accounting Standards Codification, or ASC, Topic 606, “ Revenue from Contracts with Customers ,” using the modified retrospective method. Under ASC 606, revenue is recognized when a customer obtains control of promised goods or services, in an amount that reflects the consideration which the entity expects to receive in exchange for those goods or services. To determine revenue recognition for arrangements that an entity determines are within the scope of ASC 606, the Company performs the following five steps: 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. A contract with a customer exists when (i) the Company enters into a legally enforceable contract with a customer that defines each party’s rights regarding the products or services to be transferred and identifies the payment terms related to these products or services, (ii) the contract has commercial substance, and (iii) the Company determines that collection of substantially all consideration for products or services that are transferred is probable based on the customer’s intent and ability to pay the promised consideration. At contract inception, the Company assesses the products or services promised within each contract, determines those that are performance obligations and assesses whether each promised product or service is distinct. The Company’s contracts with customers often include a promise to transfer products, as well as an implied promise to provide a service to the customer, which is access to the Company’s Patient Data Management System, or PDMS, and nSight Platform. Determining whether products and services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment. The Company evaluates each product or service promised in a contract to determine whether it represents a distinct performance obligation. A performance obligation is distinct if (i) the customer can benefit from the product or service on its own or with other resources that are readily available to the customer, and (ii) the product or service is separately identifiable from other promises in the contract. The RNS System is a compilation of the Company’s products that includes its RNS neurostimulator, its cortical strip leads and depth leads, and its Patient Remote Monitor, as well as other implantable and non-implantable accessories. In addition, the Company’s products also include external components such as its Physician Tablet, which is used by clinicians to retrieve and review information from and program the implanted devices, as well as access to the Company’s PDMS, a secure online database that collects data transmitted from the Patient Remote Monitor and Physician Tablet, and nSight Platform, which provides physicians with summarized patient reports. The Company has determined that its RNS System and Physician Tablet are not capable of being distinct as they are not sold separately, the customer cannot benefit from the products individually, and there are no other resources readily available to the customer. The products are highly interdependent and the Company is not able to fulfill each promise in the contract independently of the others. Therefore, the Company has concluded that the RNS System and the Physician Tablet represent a single performance obligation. The Company has determined that access to the PDMS and the nSight Platform are capable of being distinct because clinicians can utilize them with other components of the RNS System that are readily available, and are separately identifiable from other promises in the contract. Therefore, the Company has concluded that access to the PDMS and nSight Platform represent separate performance obligations. In addition, training services generally occur prior to entering into a contract with the customer and therefore the training services are not considered to be a separate performance obligation. The Company determines the transaction price based on the amount it expects to be entitled to in exchange for transferring the promised product to the customer, which is based on the invoiced price for the products. All prices are at fixed amounts per the sales agreement with the customer and there are no discounts, rebates or other price concessions or a right of return. 130 NeuroPace, Inc. Notes to Financial Statements When a contract contains multiple performance obligations, the Company allocates the transaction price to each performance obligation based on its relative standalone selling price. Standalone selling prices are based on observable prices at which the Company separately sells its products or services. If a standalone selling price is not directly observable, the Company estimates the standalone selling price considering market data, cost, gross margin, and other available information. The Company delivers its products to a hospital on the date of the scheduled procedure. There is no commitment or contract until the delivery of the product and the procedure may be canceled at any time. Once the device has been implanted in or otherwise provided to a patient, the customer is considered to have accepted the delivery (i.e., has approved the contract) and both parties are committed to perform their respective obligations. Assuming all other revenue recognition criteria are met, the Company recognizes revenue from the sale of its products at a point in time when the procedure is completed and the device is implanted in a patient. The Company recognizes service revenue related to the PDMS and the nSight Platform on a ratable basis over the period in which the Company expects to provide access to clinicians. The Company has concluded that the service revenue is immaterial. The Company recognizes revenue for arrangements where it has satisfied its performance obligations but has not issued invoices. These amounts are recorded as unbilled receivables, which are included in accounts receivable on the balance sheet, as the Company has an unconditional right to payment at the end of the applicable period. Payment terms are typically 30 days from the fulfillment of the orders and fall within the one-year guidance for the practical expedient which allows the Company to forgo adjustment of the promised amount of consideration for the effects of a significant financing component. Sales taxes that are collected from customers and remitted to governmental authorities are accounted for on a net basis and therefore are excluded from net sales, however, most of the Company’s sales are tax exempt. The Company believes that collection is probable as it has no history of uncollectible accounts and the customers are large, creditworthy institutions. As allowed under the practical expedient, the Company does not disclose the value of unsatisfied performance obligations for contracts with an original expected length of one year or less. Costs associated with product sales include commissions, where the Company applies the practical expedient and recognizes commissions as expense when incurred because the expense is incurred over a period of time of less than one year. Commissions are reported in selling, general and administrative expense in the statements of operations and comprehensive loss. The Company’s only contract balances were accounts receivable of $ 7.1 million and $ 8.4 million as of December 31, 2021 and December 31, 2020, respectively. Fair Value of Financial Instruments Carrying amounts of certain of the Company’s financial instruments, including cash equivalents, accounts receivable, accounts payable and accrued liabilities, approximate fair value because of the short-term nature of these instruments. Short-term investments comprise available-for-sale debt securities, which are carried at fair value. The Company believes that its borrowings bear interest at the prevailing market rates for instruments with similar characteristics; accordingly, the carrying value of this instrument approximates its fair value. Derivative instruments and the redeemable convertible preferred stock warrant liability are carried at fair value based on unobservable market inputs. The Company determines the fair value of financial and non-financial assets and liabilities using the fair value hierarchy which establishes three levels of inputs that may be used to measure fair value (see Note 3). Cash and Cash Equivalents The Company considers all highly liquid investments with original maturities of three months or less at the time of purchase to be cash equivalents. Cash equivalents that are available-for-sale marketable debt securities are recorded at fair value, based on quoted market prices. As of December 31, 2021 and December 31, 2020, the Company’s cash equivalents are entirely comprised of investments in money market funds. Restricted Cash 131 NeuroPace, Inc. Notes to Financial Statements Restricted cash is comprised of cash that is restricted as to withdrawal or use under the terms of certain contractual agreements. Restricted cash for the years ended December 31, 2021 and December 31, 2020 consists of collateral for the letter of credit issued during the year in connection with the Company’s facility lease (see Note 5). Concentration of Credit Risk, and Other Risks and Uncertainties Financial instruments that potentially subject the Company to credit risk consist of cash and cash equivalents, short-term investments and accounts receivable to the extent of the amounts recorded on the balance sheet. The Company’s cash is invested in one major financial institution in the United States. Deposits in this financial institution may exceed federally insured limits. The Company’s cash equivalents are invested in money market funds. The Company’s accounts receivable are due from a variety of health care organizations in the United States. For the years ended December 31, 2021 and December 31, 2020, there were no customers that represented 10% or more of revenue. As of December 31, 2021 and December 31, 2020, no customer represented 10% or more of the Company’s accounts receivable. The Company is subject to certain risks, including that its devices may not be approved or cleared or continue to be approved or cleared for marketing by governmental authorities or be successfully marketed for expanded indications. There can be no assurance that the Company’s products will achieve widespread adoption in the marketplace, nor can there be any assurance that existing devices or any future devices can be developed or manufactured at an acceptable cost and speed and with appropriate performance characteristics. The Company is also subject to risks common to companies in the medical device industry, including, but not limited to, new technological innovations, dependence on healthcare providers to prescribe initial implants and replacements, dependence upon third-party payors to provide adequate coverage and reimbursement, dependence on key personnel, single-source suppliers and vendors in connection with the manufacture of its products, concentration of Level 4 CECs and epileptologists, obtaining, maintaining, protecting, enforcing, and defending intellectual property rights and proprietary technology, product liability claims, legal proceedings, and compliance with government regulations. The Company’s medical devices require approvals or clearances from the U.S. Food and Drug Administration, or the FDA, or international regulatory agencies. In addition, in order to continue the Company’s operations, compliance with various federal and state laws is required. If approvals or clearances were withdrawn by the FDA for the Company’s current products or if such approvals or clearances were denied or delayed for future products, product updates, or expanded indications for use, it would have a material adverse impact on the Company. Accounts Receivable Accounts receivable are recorded at the invoiced amount and do not bear interest. The Company regularly reviews accounts for collectability and establishes an allowance for probable credit losses and writes off uncollectible accounts as necessary. The Company determined that no reserve was required as of December 31, 2021 and December 31, 2020. To date, the Company has not experienced any credit-related losses. Inventories Inventories are valued at the lower of cost or net realizable value. Cost is determined using the first-in, first-out method for all inventories. Net realizable value is determined as the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation. The Company regularly reviews inventory quantities in consideration of actual loss experiences, projected future demand, and remaining shelf life to record a provision for excess and obsolete inventory when appropriate. The Company’s policy is to write down inventory that has become obsolete, inventory that has a cost basis in excess of its expected lower of cost or net realizable value, and inventory in excess of expected requirements. The estimate of excess quantities is judgmental and primarily dependent on the Company’s estimates of future demand for a particular product. If the estimate of future demand is too high, the Company may have to increase the reserve for excess inventory for that product and record a charge to the cost of goods sold. 132 NeuroPace, Inc. Notes to Financial Statements Property and Equipment, net Property and equipment, net is stated at cost less accumulated depreciation. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets, generally three to five years . Leasehold improvements are amortized using the straight-line method over the shorter of the assets’ estimated useful lives or the remaining term of the lease. When assets are retired or otherwise disposed of, the cost and accumulated depreciation are removed from the balance sheet, and any resulting gain or loss is reflected in operations in the period realized. Maintenance and repairs are charged to operations as incurred. Impairment of Long-Lived Assets The Company reviews long-lived assets, including property and equipment, for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If indicators of impairment exist, an impairment loss would be recognized when estimated undiscounted future cash flows expected to result from the use of the assets and their eventual disposition are less than their carrying amount. Impairment, if any, is measured as the amount by which the carrying amount of the long-lived assets exceeds their fair value. The Company did no t record any impairment of long-lived assets for the years ended December 31, 2021 and December 31, 2020. Leases The Company accounts for leases in accordance with ASC Topic 840, Leases . The Company leases its facilities and meets the requirements to account for these leases as operating leases. For facility leases that contain rent escalations or rent concession provisions, the Company records its lease expense during the lease term on a straight line basis over the term of the lease. The Company records differences between the rent paid and the straight-line rent as a deferred rent liability. Leasehold improvements funded by landlord incentives or allowances are recorded as leasehold improvement assets and a corresponding deferred rent liability. The leasehold improvement asset is amortized over the lesser of the term of the lease or life of the asset. The deferred rent liability is amortized on a straight-line basis as a reduction to rent expense over the term of the lease agreement. Deferred Offering Costs The Company capitalizes, within other assets, certain legal, accounting and other third-party fees that are directly related to the Company’s in-process equity financings, including its IPO, until such financings are consummated. After consummation of the equity financing, these costs are recorded as a reduction of the proceeds received as a result of the offering. Should a planned equity financing be abandoned, terminated or significantly delayed, the deferred offering costs are immediately written off to operating expenses. As of December 31, 2020, $ 0.5 million of deferred offering costs were recorded on the balance sheet. Upon closing the IPO, all deferred offering costs were charged against the proceeds from the IPO and recorded in stockholders equity (deficit) as a reduction of additional paid-in capital. As of December 31, 2021, there were no deferred offering costs recorded on the balance sheet. Government Programs In May 2021, the Company was awarded a grant by the National Institutes of Health, or NIH, to support research of thalamocortical responsive neurostimulation for the treatment of Lennox-Gastaut Syndrome, a type of epilepsy. The award was issued for a five year period and has a total budget of over $ 9.3 million. Funding is approved for the first year beginning June 1, 2021 and provides for reimbursement of qualified direct and indirect expenses in the amount of $ 0.8 million. Approval of funds for years two through five is subject to the completion of certain milestones. For funds received under the NIH funding agreement, the Company recognizes a reduction in research and development expenses in an amount equal to the qualifying expenses incurred in each period up to the amount awarded by the NIH. Qualifying expenses incurred by the Company in advance of funding by the NIH are recorded 133 NeuroPace, Inc. Notes to Financial Statements within prepaid expenses and other current assets on the balance sheets. As of December 31, 2021, $ 0.1 million of qualifying expenses have been incurred and funded by the NIH. Derivative Instruments The Company issued convertible notes in March 2019 and September 2019, or the 2019 Convertible Notes, and in January 2020 and March 2020, or the 2020 Convertible Notes, which contained embedded features that provided the lenders with multiple settlement alternatives. Certain of these settlement features provided the lenders the right to receive cash or a variable number of shares upon the completion of a capital raising transaction, change of control or default by the Company, which are referred to as the “redemption features.” The redemption features of the convertible notes met the requirements for separate accounting and were accounted for as a single derivative instrument. The derivative instrument was recorded at fair value at inception and is subject to remeasurement to fair value at each balance sheet date, with any changes in fair value recognized in other income (expense), net in the statements of operations and comprehensive loss (see Note 3 and Note 6). Upon the issuance of Series B’ redeemable convertible preferred stock, the derivative instrument was remeasured to fair value, the change in fair value was recorded as a component of other income (expense), net in the statements of operations and comprehensive loss, and the derivative instrument was extinguished with the fair value recognized in additional paid-in capital in the statements of redeemable convertible preferred stock and stockholders’ equity (deficit) (see Note 3). Warranty Warranty costs are accrued based on the Company’s best estimates when management determines that it is probable a charge or liability has been incurred and the amount of loss can be reasonably estimated. While the Company believes that historical experience provides a reliable basis for estimating such warranty cost, unforeseen quality issues or component failure rates could result in future costs in excess of such estimates. The warranty liability as of December 31, 2021 and December 31, 2020 was immaterial. Redeemable Convertible Preferred Stock The Company recorded all shares of redeemable convertible preferred stock at their respective fair values on the dates of issuance, net of issuance costs. Redeemable convertible preferred stock was recorded outside of permanent equity because while it was not mandatorily redeemable, in certain events considered not solely within the Company’s control, such as a merger, acquisition, or sale of all or substantially all of the Company’s assets, each referred to as a “deemed liquidation event,” the redeemable convertible preferred stock would have become redeemable at the option of the holders of at least a majority of the then outstanding preferred shares. The Company did not adjust the carrying value of the redeemable convertible preferred stock to its liquidation preference because a deemed liquidation event obligating the Company to pay the liquidation preference to holders of shares of redeemable convertible preferred stock was not probable of occurring. Subsequent adjustments to the carrying values to the liquidation preference would have been made only if it became probable that such a deemed liquidation event would occur. All outstanding shares of the redeemable convertible preferred stock converted into common stock upon effectiveness of the IPO. Redeemable Convertible Preferred Stock Warrants The Company’s redeemable convertible preferred stock warrants required liability classification and accounting as the underlying redeemable convertible preferred stock was considered contingently redeemable and may have obligated the Company to transfer assets to the holders at a future date upon occurrence of a deemed liquidation event. The warrants were recorded at fair value upon issuance and were subject to remeasurement to fair value at each balance sheet date, with any changes in fair value recognized in other income (expense), net in the statements of operations and comprehensive loss. Upon the closing of the IPO, the redeemable convertible preferred stock warrants were net exercised to Series B’ convertible preferred stock and subsequently converted into common stock on a one-to-one basis, and the redeemable convertible preferred stock warrant liability was reclassified to additional paid-in capital. 134 NeuroPace, Inc. Notes to Financial Statements Cost of Goods Sold The Company manufactures its products at its facility. Cost of goods sold consists primarily of costs related to materials, components and subassemblies, manufacturing overhead, direct labor, and reserves for excess and obsolete inventories. A significant portion of the Company’s cost of goods sold currently consists of manufacturing overhead costs. These overhead costs include the cost of facilities, material procurement, inventory control, quality assurance, equipment and operating supervision and management. Cost of goods sold also includes depreciation expense for production equipment and certain direct costs such as shipping costs and royalties. Shipping and handling costs are considered a fulfillment activity and are included in cost of goods sold as incurred. The Company is obligated to pay a royalty of 1 % of net sales for specified products under the terms of a cross-license agreement, subject to an aggregate cap of $ 100 million. The Company recorded royalty expenses of $ 0.5 million and $ 0.4 million for the years ended December 31, 2021 and December 31, 2020, respectively. Research and Development Expenditures The Company expenses research and development costs as incurred. Research and development expenses consist primarily of engineering, product development, clinical studies to develop and support the Company’s products, regulatory expenses, medical affairs and other costs associated with products and technologies that are in development, including quality assurance. Research and development expenses include employee compensation, including stock-based compensation, supplies, consulting, prototyping, testing, materials, travel expenses, depreciation and an allocation of facility overhead expenses. Additionally, research and development expenses include costs associated with clinical studies including clinical trial design, clinical site reimbursement, data management, travel expenses, the cost of products used for clinical trials and costs associated with regulatory compliance and submitting and maintaining regulatory filings. Advertising Costs The Company expenses advertising costs as incurred. Advertising costs include design and production costs, including website development, physician and patient testimonial videos, written media campaigns, and other items. Advertising costs of $ 0.1 million were expensed during both the years ended December 31, 2021 and December 31, 2020. Stock-Based Compensation The Company accounts for stock-based employee compensation in accordance with ASC 718, Stock Compensation . ASC 718 requires the measurement of compensation based on the grant date fair value of the stock option or restricted stock unit (see Note 10). The Company amortizes the fair value of each award on a straight-line basis over the requisite service period of the award. Income Taxes The Company accounts for income taxes under the liability method. Under this method, deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to affect taxable income. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts expected to be realized. The Company assesses all material positions taken in any income tax return, including all significant uncertain positions, in all tax years that are still subject to assessment or challenge by relevant taxing authorities. Assessing an uncertain tax position begins with the initial determination of the position’s sustainability and is measured at the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement. As of each balance sheet date, unresolved uncertain tax positions must be reassessed, and the Company will determine whether (i) the factors underlying the sustainability assertion have changed and (ii) the amount of the recognized tax benefit is still appropriate. The recognition and measurement of tax benefits requires significant judgment. Judgments concerning the recognition and measurement of a tax benefit might change as new information becomes available. 135 NeuroPace, Inc. Notes to Financial Statements Net Loss per Share Attributable to Common Stockholders Basic net loss per common share is calculated by dividing the net loss attributable to common stockholders by the weighted-average number of shares of common stock outstanding during the period, without consideration of potentially dilutive securities. Diluted net loss per share is computed by dividing the net loss attributable to common stockholders by the weighted-average number of shares of common stock and potentially dilutive securities outstanding for the period. For purposes of the diluted net loss per share calculation, redeemable convertible preferred stock, stock options, common stock subject to repurchase related to early exercise of stock options, and convertible notes are considered to be potentially dilutive securities. Basic and diluted net loss attributable to common stockholders per share is presented in conformity with the two-class method required for participating securities, as the redeemable convertible preferred stock is considered a participating security because it participates in dividends with common stock. The Company also considers the shares issued upon the early exercise of stock options subject to repurchase to be participating securities, because holders of such shares have non-forfeitable dividend rights in the event a dividend is paid on common stock. The holders of redeemable convertible preferred stock and the holders of the shares issued upon early exercise of stock options subject to repurchase do not have a contractual obligation to share in the Company’s losses. As such, the net loss was attributed entirely to common stockholders. Because the Company has reported a net loss for all periods presented, diluted net loss per common share is the same as basic net loss per common share for those periods. Comprehensive Loss Comprehensive loss combines net loss and other comprehensive loss. Other comprehensive loss represents unrealized gains or losses on short-term investments that are reported as a component of stockholders’ equity (deficit) on the balance sheets. JOBS Act Accounting Election The Company is an emerging growth company, as defined in the Jumpstart Our Business Startups Act of 2012, or the JOBS Act. Under the JOBS Act, emerging growth companies can delay adopting new or revised accounting standards issued subsequent to the enactment of the JOBS Act until such time as those standards apply to private companies. The Company has elected to use this extended transition period for complying with new or revised accounting standards that have different effective dates for public and private companies until the earlier of the date the Company (i) is no longer an emerging growth company or (ii) affirmatively and irrevocably opts out of the extended transition period provided in the JOBS Act. As a result, these financial statements may not be comparable to companies that comply with new or revised accounting pronouncements as of public company effective dates. Recent Accounting Pronouncements Recent Accounting Pronouncements Not Yet Adopted In February 2016, the FASB issued ASU No. 2016-02 (Topic 842), Leases . ASU 2016-02 requires lessees to apply a dual approach, classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively a financed purchase by the lessee. This classification will determine whether lease expense is recognized based on an effective interest method or on a straight-line basis over the term of the lease, respectively. A lessee is also required to record a right-of-use asset, or ROU, and a lease liability for all leases with a term of greater than 12 months regardless of their classification. This ASU provides a lessee with an option to not account for leases with a term of 12 month or less as leases in the scope of this ASU. This ASU will also require new qualitative and quantitative disclosures to help investors and other financial statement users better understand the amount, timing, and uncertainty of cash flows arising from leases. This ASU should be applied through a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. In July 2018, the FASB issued ASU No. 2018-11, Leases (Topic 842): Targeted Improvements , which allows entities to elect an optional transition method where entities may continue to apply the existing lease guidance during the comparative periods and apply the new lease requirements through a cumulative effect adjustment in the period of adoption rather than in the earliest period presented. In June 2020, the FASB issued ASU 2020-05, Revenue from Contracts with Customers (Topic 606) and Leases (Topic 842): Effective Dates for Certain Entities , which delays the adoption dates for ASU 2016-02 for non-public entities to 136 NeuroPace, Inc. Notes to Financial Statements fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022. Early adoption is allowed. The Company will adopt Topic 842 effective January 1, 2022 using a modified retrospective method and will not restate comparative periods. Based on an analysis of its current portfolio of leases, the Company expects to recognize a ROU asset of approximately $ 6.1 million and corresponding lease liability of approximately $ 7.5 million for the Company’s facility lease upon adoption. In addition, the amount of the Company’s deferred rent as of December 31, 2021 of $ 1.4 million will be removed upon adoption. See Note 5 for more information related to the Company’s lease obligations, which are presented on an undiscounted basis therein. In June 2016, the FASB issued ASU 2016-13, Financial Instruments- Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments , which amends existing guidance on the impairment of financial assets and adds an impairment model that is based on expected losses rather than incurred losses and requires an entity to recognize as an allowance its estimate of expected credit losses for its financial assets. An entity will apply this guidance through a cumulative-effect adjustment to retained earnings upon adoption (a modified-retrospective approach) while a prospective transition approach is required for debt securities for which an other-than-temporary impairment had been recognized before the effective date. For public business entities that meet the definition of an SEC filer, excluding entities eligible to be smaller reporting companies as defined by the SEC, adoption is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. For SEC filers that are eligible to be smaller reporting companies and for all other entities, this ASU is effective for fiscal years beginning after December 15, 2022, and interim periods within those fiscal years. Early adoption is permitted. The Company is currently evaluating the impact of this standard on its financial statements, but does not expect the standard will have a material impact on the Company’s financial statements. 3. Fair Value Measurements The Company measures certain financial assets and liabilities at fair value on a recurring basis. Fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or a liability. A three-tier fair value hierarchy is established as a basis for considering such assumptions and for inputs used in the valuation methodologies in measuring fair value: Level 1 Quoted prices in active markets for identical assets or liabilities. Level 2 Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 3 Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. 137 NeuroPace, Inc. Notes to Financial Statements The Company utilizes the market approach to measure fair value for its financial assets and liabilities. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities. The following table summarizes the Company’s financial assets (cash equivalents, marketable securities and liabilities) at fair value as of December 31, 2021 (in thousands): Fair Value as of December 31, 2021 Basis for Fair Value Measurements (Level 1) (Level 2) (Level 3) Assets: Money market funds, included in cash and cash equivalents $ 16,498 $ 16,498 $ — $ — Fixed income mutual funds, included in short-term investments 96,397 96,397 — — Total $ 112,895 $ 112,895 $ — $ — There were no liabilities measured at fair value on a recurring and non-recurring basis as of December 31, 2021. The following table summarizes the Company’s financial assets (cash equivalents, marketable securities and liabilities) at fair value as of December 31, 2020 (in thousands): Fair Value as of December 31, 2020 Basis for Fair Value Measurements (Level 1) (Level 2) (Level 3) Assets: Money market funds, included in cash and cash equivalents $ 5,062 $ 5,062 $ — $ — Fixed income mutual funds, included in short-term investments 11,689 11,689 — — Total $ 16,751 $ 16,751 $ — $ — Liabilities: Redeemable convertible preferred stock warrant liability 369 — — 369 Total $ 369 $ — $ — $ 369 The money market funds are highly liquid and primarily invest in short-term fixed income securities issued by the U.S. government and U.S. government agencies. The Company’s available-for-sale investments comprise short- 138 NeuroPace, Inc. Notes to Financial Statements term investments in fixed income mutual funds, which primarily consist of debt securities issued by the U.S. government and U.S. government agencies and corporate bonds and notes. The following is a summary of the Company’s available-for-sale debt securities (in thousands): December 31, 2021 2020 Cost basis $ 96,702 $ 11,656 Unrealized gain (loss) ( 305 ) 33 Fair value $ 96,397 $ 11,689 The following table sets forth a summary of the changes in the fair value of the Company’s Level 3 financial instruments (in thousands): Derivative Instrument Redeemable Convertible Preferred Stock Warrant Liability Fair value as of January 1, 2020 $ 4,719 $ — Recognition of redeemable convertible preferred stock warrant liability — 550 Recognition of derivative instrument related to 2020 Convertible Notes 1,669 — Change in fair value included in other income (expense), net ( 149 ) ( 181 ) Extinguishment of derivative instrument ( 6,239 ) — Fair value as of December 31, 2020 $ — $ 369 Change in fair value included in other income (expense), net — 5,236 Net exercise of redeemable convertible preferred stock warrants — ( 5,605 ) Fair value as of December 31, 2021 $ — $ — The fair value of the derivative instrument was estimated at the date of inception and at the subsequent balance sheet date using a two-step approach to valuation, employing a probability-weighted scenario valuation method and then comparing the instrument’s value with-and-without the derivative features in order to estimate their combined fair value, using unobservable inputs, which are classified as Level 3 within the fair value hierarchy. In order to estimate the fair value of the 2019 Convertible Notes and 2020 Convertible Notes, the Company estimated the future payoff in each scenario, discounted them to a present value and then probability weighted them based upon the Company’s best estimate of the likelihood of each event occurring. The primary inputs for the valuation approach included the probability of achieving various settlement scenarios that provide the lenders the rights or the obligations to receive cash or a variable number of shares upon the completion of a capital transaction. The probability assumptions as of inception dates in 2019 included a 99 % probability of conversion into equity in a capital transaction, discount rates of 1.7 % - 11.5 % were applied, and the expected time to the occurrence of the respective scenarios ranged between 0.5 years and 1.8 years. The probability assumptions as of inception dates in 2020 included a 50 % probability of conversion into equity in a capital transaction, discount rates of 0.07 % - 12.2 % were applied, and the expected time to the occurrence of the respective scenarios ranged between 0.3 years and 0.8 years. In August 2020, the derivative instrument was extinguished in connection with the issuance of Series B’ redeemable convertible preferred stock and conversion of all outstanding convertible notes and accrued unpaid interest into shares of Series B’ redeemable convertible preferred stock. In determining the fair value of the redeemable convertible preferred stock warrant liability, the Company used the Black-Scholes option pricing model to estimate the fair value using unobservable inputs including the expected term, expected volatility, risk-free interest rate and dividend yield (see Note 8). There were no warrants outstanding 139 NeuroPace, Inc. Notes to Financial Statements for the purchase of redeemable convertible preferred stock as of December 31, 2021, as all such warrants were net exercised to shares of common stock upon the closing of the IPO. 4. Balance Sheet Components Inventory Inventories consist of the following (in thousands): December 31, 2021 2020 Raw materials $ 2,232 $ 1,721 Work-in-process 879 1,487 Finished goods 4,711 3,701 Total $ 7,822 $ 6,909 Property and Equipment, net Property and equipment, net consists of the following (in thousands): December 31, 2021 2020 Machinery, equipment, furniture and fixtures $ 3,742 $ 3,544 Computer equipment and software 2,916 2,730 Leasehold improvements 2,402 2,402 9,060 8,676 Less: Accumulated depreciation ( 8,457 ) ( 8,161 ) Property and equipment, net $ 603 $ 515 Depreciation expense for the years ended December 31, 2021 and December 31, 2020 was $ 0.3 million and $ 0.3 million, respectively. Accrued Liabilities Accrued liabilities consist of the following (in thousands): December 31, 2021 2020 Payroll and related expenses $ 6,547 $ 4,565 Inventory-raw materials 251 636 Professional fees 109 279 Deferred rent, current 490 666 Other 526 457 $ 7,923 $ 6,603 5. Commitments and Contingencies Facility Lease In August 2011, the Company entered into a non-cancelable operating lease for combined office and manufacturing facilities in Mountain View, California. The lease was scheduled to expire in April 2019 and was amended in May 2018 to extend it through June 2024. The terms of the facility lease provide for rental payments on a graduated scale; however, rent expense is recognized on a straight-line basis over the lease term. The Company has 140 NeuroPace, Inc. Notes to Financial Statements an option to extend the lease for a period of 5 years, commencing on July 1, 2024 and expiring on June 30, 2029. In conjunction with the original lease agreement, the Company obtained a letter of credit for $ 0.9 million in lieu of a security deposit. In May 2019, the letter of credit was amended and reduced to $ 0.7 million. In June 2021, the letter of credit was amended and further reduced to $ 0.2 million. Rental payments range from $ 2.9 million to $ 3.3 million per year over the extended term of the lease. In April 2020, the Company amended the lease agreement to defer 50 % of the rental payment for May and June 2020 of $ 0.3 million. The deferred rental payments accrued interest at an annual rate of 8.0 % starting from October 1, 2020 and were paid in three equal monthly installments commencing on April 1, 2021. Rent expense for the years ended December 31, 2021 and December 31, 2020 was $ 2.8 million and $ 2.7 million, respectively. As of December 31, 2021 and December 31, 2020, $ 1.4 million and $ 2.0 million was recorded as deferred rent expense, respectively. The Company’s future payments under the non-cancellable operating lease (in thousands) are as follows: December 31, 2021 2022 $ 3,172 2023 3,267 2024 1,666 Total $ 8,105 Indemnifications In the normal course of business, the Company enters into contracts and agreements that contain a variety of representations and warranties and may provide for indemnification of the counterparty. The Company’s exposure under these agreements is unknown because it involves claims that may be made against it in the future but have not yet been made. The Company may, from time to time, be subject to claims or be required to defend actions related to its indemnification obligations. The Company indemnifies each of its directors and officers for certain events or occurrences, subject to certain limits, while the director or officer is or was serving at the Company’s request in such capacity, as permitted under Delaware law and in accordance with its certificate of incorporation and bylaws. The term of the indemnification period lasts as long as the director or officer may be subject to any proceeding arising out of acts or omissions of such individual in such capacity. The maximum amount of potential future indemnification is unlimited. The Company believes that the fair value of these indemnification obligations is minimal. Accordingly, the Company has no t recognized any liabilities relating to these obligations as of December 31, 2021 and December 31, 2020. Contingencies From time to time, the Company may have certain contingent liabilities that arise in the ordinary course of business activities. The Company accrues a liability for such matters when it is probable that future expenditures will be made and such expenditures can be reasonably estimated. The Company determined that no accrual related to contingencies was required as of December 31, 2021 and December 31, 2020. Legal Proceedings The Company is, and from time to time may become, involved in legal proceedings. The Company may also pursue litigation to assert its legal rights and such litigation may be costly and divert the efforts and attention of its management and technical personnel which could adversely affect its business. Due to the uncertainty of litigation and depending on the amount and the timing, an unfavorable resolution of some or all of such matters may materially affect our business, results of operations, financial position, or cash flows. The nature of the loss contingencies relating to claims that have been asserted against us are described below. 141 NeuroPace, Inc. Notes to Financial Statements For example, on April 20, 2021, the Company received correspondence from the United States Department of Treasury regarding an inquiry into a matter that may fall under the jurisdiction of the Committee on Foreign Investment in the United States, or CFIUS. While the Company believes that its RNS System is not a critical technology for which CFIUS would have jurisdiction and does not pose a national security risk, the Company is cooperating fully with CFIUS on the matter. Additionally, on October 18, 2021, three stockholders of the Company, James Jacoby, George Vachtsevanos, and Javier Echauz, filed a complaint in the United States District Court for the Northern District of California, entitled James Jacoby et al. v. NeuroPace, Inc., et al. , Case No. 3:21-cv-8136, against the Company and its board of directors. The complaint alleges various claims related to the Company’s reverse stock splits and seeks, among other relief, damages and attorney’s fees. The complaint was amended on December 28, 2021 to name additional defendants. No estimates of possible losses or range of losses with respect to this action can be made at this time. The Company believes there is no merit to these allegations and intends to vigorously defend itself against this action. 6. Debt 2014 Term Loan In November 2014, the Company entered into a Term Loan Agreement, as amended, with Capital Royalty Partners II L.P. and its affiliates for total borrowings of up to $ 40.0 million. As of December 31, 2019, $ 40.0 million had been funded under this Term Loan Agreement, or the Term Loan. The Term Loan bore interest at a rate of 12.5 % per year and had a maturity date of September 30, 2020. The Term Loan was interest-only through December 31, 2019. Following the interest-only period, principal payments were to be made in equal installments at the end of the next three calendar quarters along with a fee upon repayment of the loan equal to 5 % of the aggregate principal amount being repaid. The Company ratably accreted the fee over the life of the loan. In connection with the Term Loan, the Company paid total closing fees of $ 0.8 million and issued warrants to purchase 219 shares of its Series I redeemable convertible preferred stock at $ 1,866.80 per share. The initial fair value of the warrants was $ 0.3 million and resulted in a discount to the Term Loan, which was amortized to interest expense over the life of the loan using the effective interest method. Prior to 2020, these warrants were modified to be exercisable for 219 shares of common stock at $ 2.60 per share. Upon the closing of the IPO, warrants to purchase 219 shares of common stock net exercised to 185 shares of common stock. In February through June 2020, the Term Loan Agreement was amended to extend the interest-only period through June 30, 2020 and to allow the Company to pay interest entirely in kind by adding it to the aggregate principal of the loan. The Company paid $ 1.4 million in interest due on March 31, 2020 in kind and paid $ 1.4 million in interest due on June 30, 2020 in cash. The amendments were accounted as a debt modification and the Term Loan’s effective interest rate was changed within 14.7 % to 14.2 % with each amendment. In September 2020, the Company repaid its entire obligation under the Term Loan amounting to $ 47.6 million, including principal of $ 44.1 million, interest of $ 1.3 million and fees of $ 2.2 million, using the proceeds from New Term Loan (as defined below). The repayment of the Term Loan was accounted for as a debt extinguishment, which resulted in an immaterial extinguishment loss. 2020 Term Loan In September 2020, the Company entered into a new Term Loan Agreement with CRG Partners IV L.P. and its affiliates for total borrowings of up to $ 60 million, or the New Term Loan, and borrowed $ 50 million. The remaining $ 10.0 million of the New Term Loan was available to the Company for borrowing until March 31, 2022 if the Company achieved a revenue-based milestone in 2021. The revenue-based milestone was not met, and the remaining $ 10.0 million of the New Term Loan expired without being drawn. 142 NeuroPace, Inc. Notes to Financial Statements The New Term Loan bears interest at a rate of 12.5 % per year. Payments under the New Term Loan are made quarterly with payment dates fixed at the end of each calendar quarter. The New Term Loan was interest-only through September 30, 2023, which could be extended through September 30, 2025 at the Company’s option if the Company completed its IPO on or prior September 30, 2023. In connection with closing the IPO, the Company extended the interest-only period to September 30, 2025. Following the interest-only period, principal payment is due in one installment on September 30, 2025. The New Term Loan includes a fee upon repayment of the loan equal to 10 % of the aggregate principal amount being prepaid or repaid, or the backend fee. As of December 31, 2021, the New Term Loan had an annual effective interest rate of 15.66 % per year. The New Term Loan is collateralized by substantially all of the Company’s assets. The New Term Loan Agreement contains customary representations and warranties, covenants, events of default and termination provisions. The financial covenants require that the Company achieve minimum annual revenue thresholds commencing in 2021 and maintain a minimum balance of cash and cash equivalents (see Note 1). The Company paid $ 1.0 million in fees to the lender and third parties which is reflected as a discount on the loan and is being accreted over the life of the loan using the effective interest method. Also, the Company issued warrants to the lender for a total of 346,823 shares of Series B’ redeemable convertible preferred stock. The warrants had a fair value of $ 0.6 million as of the issuance date, which was accounted for as debt issuance costs (see Note 8). During the years ended December 31, 2021 and December 31, 2020, the Company recorded interest expense related to deferred financing and debt issuance costs of the New Term Loan of $ 0.3 million and $ 0.1 million, respectively. Interest expense on the New Term Loan was $ 7.4 million and $ 2.0 million during the years ended December 31, 2021 and December 31, 2020, respectively. As of December 31, 2021, future minimum payments for the New Term Loan are as follows (in thousands): New Term Loan 2022 $ 6,337 2023 6,337 2024 6,354 2025 59,740 Total 78,768 Less: Unamortized debt discount and issuance cost ( 1,162 ) Less: Unaccreted backend fee ( 3,991 ) Less: Interest ( 23,768 ) New Term Loan $ 49,847 Paycheck Protection Program In April 2020, the Company received $ 4.0 million from a federal Small Business Administration loan under the Paycheck Protection Program, or the PPP Loan. The note bore interest at 1.0 % per year on the outstanding principal amount and had a maturity date 24 months from the date of the note. No payments were due for the six-month period beginning on the date of the note. Payments of principal and interest were due over the following 18 months. The Small Business Administration modified the PPP Loan such that monthly payments of principal and interest were due from September 2021 through April 2022. In April 2021, the Company repaid its entire obligation under the PPP Loan amounting to $ 4.1 million, including principal of $ 4.0 million and interest of less than $ 0.1 million, using the proceeds from its IPO. 143 NeuroPace, Inc. Notes to Financial Statements 2019 and 2020 Convertible Notes In March and September 2019, Company issued the 2019 Convertible Notes to certain investors for aggregate proceeds of $ 21.3 million. In January and March 2020, the Company raised $ 7.1 million and $ 5.4 million, respectively, through the sale and issuance of the 2020 Convertible Notes. The 2019 and 2020 Convertible Notes were subordinated to the Term Loan, bore interest on the outstanding principal amount at the rate of 8.0 % per year, and had a maturity date of December 31, 2020. Upon the consummation of an equity financing with aggregate proceeds to the Company of not less than $ 18.0 million, or the Qualified Financing, the outstanding principal balance of the 2019 and 2020 Convertible Notes and accrued but unpaid interest would convert into shares of capital stock issued in such Qualified Financing at a conversion price equal to 85 % of the issuance price per share of such capital stock in such Qualified Financing. In the event the Company consummated, while the 2019 and 2020 Convertible Notes remained outstanding, an equity financing that did not constitute a Qualified Financing, then the majority holders had the option to treat such equity financing as a Qualified Financing. If the Company did not complete a Qualified Financing prior to the maturity date while the 2019 and 2020 Convertible Notes remained outstanding, the holders of the notes could elect to convert the outstanding principal and unpaid accrued interest into the Company’s Series A’ redeemable convertible preferred stock at a conversion price of $ 116.35 per share. Upon the occurrence of a change of control, the 2019 and 2020 Convertible Notes would upon the election of the majority holders either (i) become due and payable upon the closing of such change of control in cash in an amount equal to (a) the outstanding principal amount plus any unpaid accrued interest, plus (b) a repayment premium equal to 100 % of the outstanding principal amount, or (ii) be converted such that the outstanding principal balance of the notes and any unpaid accrued interest would convert into shares of the Company’s Series A’ redeemable convertible preferred stock at a conversion price equal to $ 116.35 per share. The 2019 and 2020 Convertible Notes contained embedded derivative instruments, including automatic conversion into equity securities upon completion of a Qualified Financing, that were required to be bifurcated and accounted for separately as a single derivative instrument initially and subsequently measured at fair value with the change in fair value recorded in other income (expense), net in the statements of operations and comprehensive loss. The issuance date estimated fair values of the derivative instruments issued with the March and September 2019 notes were $ 4.1 million and $ 1.9 million, respectively, which were recorded as debt discounts. The issuance date estimated fair values of the derivative instruments issued with the January and March 2020 notes were $ 1.0 million and $ 0.7 million, respectively, which were recorded as debt discounts. In August 2020, the derivative instrument was extinguished in connection with the issuance of Series B’ redeemable convertible preferred stock. The discount on the 2019 and 2020 Convertible Notes was amortized over the contractual term ending on December 31, 2020, using the effective interest method. The annual effective interest rate was estimated from 10.8 % to 12.2 % per year. The interest expense for the year ended December 31, 2020 was $ 4.6 million, consisting of $ 1.4 million of contractual interest expense and $ 3.2 million amortization of debt discount arising from separation of the embedded derivative instrument. For the year ended December 31, 2020, $ 10.3 million of convertible notes were issued to related parties, resulting in interest expense of $ 1.3 million. In connection with the sale and issuance of Series B’ redeemable convertible preferred stock all outstanding convertible notes were modified to remove the 15 % discount on conversion. All outstanding convertible notes of $ 33.9 million and accrued unpaid interest of $ 2.5 million were converted into 8,379,410 shares of Series B’ redeemable convertible preferred stock at 100 % of the preferred stock issuance price of $ 4.3423 per share. The conversion of the 2019 Convertible Notes and 2020 Convertible Notes into shares of Series B' redeemable convertible preferred stock was accounted for as a debt extinguishment with $ 4.1 million extinguishment gain recognized as a deemed capital contribution to additional paid-in capital in the quarter ended September 30, 2020, as the holders of the notes were existing stockholders of the Company. 144 NeuroPace, Inc. Notes to Financial Statements 7. Redeemable Convertible Preferred Stock In August 2020, the Company amended its Certificate of Incorporation, pursuant to which the Company had two series of redeemable convertible preferred stock, designated as Series A’ and Series B’. In August 2020, the Company issued 7,599,720 shares of Series B’ redeemable convertible preferred stock at $ 4.3423 per share for gross proceeds of $ 33.0 million. In connection with the issuance of Series B’ redeemable convertible preferred stock, all outstanding convertible notes of $ 33.9 million and accrued unpaid interest of $ 2.5 million were converted into 8,379,410 shares of Series B’ redeemable convertible preferred stock at such price. As of December 31, 2020, the redeemable convertible preferred stock comprised (in thousands, except per share and share amounts): Number of Shares Authorized Number of Shares Issued and Outstanding Carrying Amount Liquidation Value Original Issue Price Series A’ 1,651,154 635,048 $ 73,340 $ 36,945 $ 58.1750 Series B’ 59,106,232 15,979,130 $ 68,082 $ 190,810 $ 4.3423 60,757,386 16,614,178 $ 141,422 $ 227,755 On April 26, 2021, upon the closing of the Company’s IPO, all outstanding redeemable convertible preferred stock automatically converted into 16,614,178 shares of common stock. Prior to the closing of the Company’s IPO, the holders of redeemable convertible preferred stock had the following various rights and preferences: Dividends The holders of redeemable convertible preferred stock were entitled to receive dividends, out of any assets legally available therefore, prior and in preference to any declaration or payment of any dividend to the common stockholders, at the rate of $ 4.6540 per share per annum on each outstanding share of Series A’ redeemable convertible preferred stock and $ 0.3474 per share per annum on each outstanding share of Series B’ redeemable convertible preferred stock, payable when, as and if declared by the board of directors. Such dividends would not have been cumulative and if less than the full amount of dividends payable on the redeemable convertible preferred stock had been declared and paid, any such payments would have been made ratably among the holders of the redeemable convertible preferred stock in proportion to the total amount each holder would be entitled to receive if the full amount of dividends payable on the redeemable convertible preferred stock had been declared. No dividends have been declared to date. Liquidation In the event of any liquidation, dissolution or winding up of the Company, the holders of the Company’s Series B’ redeemable convertible preferred stock would have been entitled to receive, prior to any distribution of the Company’s assets to the holders of Series A’ redeemable convertible preferred stock and common stock, an amount per share equal to (i) as of and following August 19, 2020 (the “Initial Closing” of Series B’ redeemable convertible preferred stock), and prior to, at the Company’s election, the earlier of (a) the date the Company’s cash balance fell below $ 4.0 million and (b) March 31, 2022, or Deferred Closing, 2.75 times $ 4.3423 per share for each share of Series B’ redeemable convertible preferred stock, and (ii) as of and following the date of the Deferred Closing, either (x) 2.75 times $ 4.3423 per share if the Company’s actual cash-burn between the Initial Closing and December 31, 2021 had been 110 % or less of the Company’s business plan cash-burn for such time period as approved by the board of directors, or (y) otherwise 3 times $ 4.3423 , for each share of Series B’ redeemable convertible preferred stock, plus declared but unpaid dividends. If, upon the occurrence of such event, the assets and funds thus distributed among the holders of redeemable convertible preferred stock would have been insufficient to permit the payment to such holders of the full amounts, then the entire assets and funds of the Company legally available for distribution would have been distributed ratably among the holders of redeemable convertible preferred stock in proportion to the preferential amount each such holder was otherwise entitled to receive. 145 NeuroPace, Inc. Notes to Financial Statements After full payment to the holders of Series B’ redeemable convertible preferred stock, the holders of Series A’ redeemable convertible preferred stock would have been entitled to receive, prior to any distribution of the Company’s assets to the holders of common stock, an amount per share equal to $ 58.1750 per share for each share of redeemable convertible preferred stock plus declared but unpaid dividends. If, upon the occurrence of such event, the assets and funds thus distributed among the holders of redeemable convertible preferred stock would have been insufficient to permit the payment to such holders of the full amounts, then the entire assets and funds of the Company legally available for distribution would have been distributed ratably among the holders of redeemable convertible preferred stock in proportion to the preferential amount each such holder was otherwise entitled to receive. After the payment to the holders of redeemable convertible preferred stock of the full preferential amounts specified above, all of the remaining assets of the Company available for distribution to stockholders would have been distributed among the holders of Series B’ redeemable convertible preferred stock, Series A’ redeemable convertible preferred stock and common stock pro rata based on the number of shares of common stock held by each such holder, treating for this purpose all shares of redeemable convertible preferred stock as if converted to common stock prior to such liquidation, dissolution or winding up of the Company. Conversion The Company’s redeemable convertible preferred stock was convertible into shares of common stock at the option of a holder on a one-for-one basis with the conversion ratio subject to standard antidilutive adjustments, such as stock splits, stock dividends, combinations, subdivisions, recapitalizations or the like. The initial conversion price was $ 4.3423 and $ 58.1750 per share of Series B’ and Series A’ redeemable convertible preferred stock, respectively. Each share of Series A’ redeemable convertible preferred stock was convertible into shares of common stock immediately upon the date specified by written consent or written agreement of the holders of a majority of the outstanding shares of Series A’ redeemable convertible preferred stock. Each share of Series B’ redeemable convertible preferred stock was convertible into shares of common stock immediately upon (A) the date specified by written consent or written agreement of the holders of a majority of the outstanding shares of Series B’ redeemable convertible preferred stock and the Requisite Significant New Holders (as defined below) and (B) any firm commitment underwritten public offering approved by two new investors that had committed to the investment of an aggregate of $ 7,499,900 or more (each, a “Significant Investor”) in the Initial Closing and the Deferred Closing combined (such two Significant Investors, together, the “Requisite Significant New Holders”). Voting Rights The holders of redeemable convertible preferred stock had the right to one vote for each share of common stock into which such redeemable convertible preferred stock could then have been converted. With respect to such vote, the holder had full voting rights and powers equal to the voting rights and powers of the holders of common stock, would have been entitled to notice of any stockholders’ meeting in accordance with the bylaws of the Company, and would have been entitled to vote, together with holders of common stock, with respect to any question upon which holders of common stock have the right to vote. Redemption and Balance Sheet Classification The redeemable convertible preferred stock was recorded within mezzanine equity because, while it was not mandatorily redeemable, it would have become redeemable at the option of the holders upon the occurrence of certain deemed liquidation events that were considered not solely within the Company’s control. 8. Redeemable Convertible Preferred Stock Warrant Liability On September 24, 2020, in connection with entering into the New Term Loan Agreement, the Company issued CRG Partners IV L.P. and its affiliates warrants to purchase 346,823 shares of Series B’ redeemable convertible preferred stock at an exercise price of $ 6.51339 per share, or the Series B’ Warrants, which was accounted as debt issuance costs. 146 NeuroPace, Inc. Notes to Financial Statements The Series B’ Warrants would terminate at the earlier of the ten year anniversary from the issuance date, the closing of the Company’s IPO or Liquidation of the Company. These warrants had a net exercise provision under which their holders could, in lieu of payment of the exercise price in cash, surrender the warrant and receive a net amount of shares based on the fair market value of the Company’s stock at the time of exercise of the warrants after deduction of the aggregate exercise price. The Series B’ Warrants contained provisions for adjustment of the exercise price and number of shares issuable upon the exercise of warrants in the event of certain stock dividends, stock splits, reorganizations, reclassifications, and consolidations. The fair value of the Series B’ Warrants on the date of issuance of $ 0.6 million was recorded as a debt discount. The Series B’ Warrants had a fair value of $ 0.4 million as of December 31, 2020. Upon the closing of the IPO, the Series B’ Warrants were net exercised to 213,941 shares of Series B’ redeemable convertible preferred stock and subsequently converted into common stock on a one-to-one basis. Upon the closing of the IPO, the Company remeasured the Series B’ Warrants to fair value of $ 5.6 million, which was the intrinsic value of net exercised common stock, as according to the Series B’ Warrants agreements the Series B’ Warrants were to be automatically exercised upon the IPO and the expected term of the Series B’ Warrants was zero immediately before the closing of the IPO. Upon the closing of the IPO, the redeemable convertible preferred stock warrant liability was reclassified to additional paid-in capital. The change in fair value of $( 5.2 ) million and $ 0.2 million during the years ended December 31, 2021 and 2020, respectively, was recorded as a component of other income (expense), net in the statements of operations and comprehensive loss. The redeemable convertible preferred stock warrant liability was valued using the following assumptions under the Black-Scholes option pricing model: December 31, Issuance 2020 Date Stock price $ 3.43 $ 4.34 Expected term (in years) 9.7 10.0 Expected volatility 39.0 % 38.4 % Weighted average risk-free interest rate 0.91 % 0.67 % Dividend yield — % — % 9. Common Stock The Company’s Certificate of Incorporation, as amended in April 2021, authorizes the Company to issue 200,000,000 shares of $ 0.001 par value common stock. The holders of common stock are entitled to receive dividends whenever funds and assets are legally available and when declared by the board of directors. As of December 31, 2021 and December 31, 2020, no dividends had been declared. 147 NeuroPace, Inc. Notes to Financial Statements As of December 31, 2021 and December 31, 2020, the Company had reserved common stock for future issuance as follows: Year Ended December 31, 2021 2020 Conversion of Series A’ redeemable convertible preferred stock — 635,048 Conversion of Series B’ redeemable convertible preferred stock — 15,979,130 Outstanding options under the 2009 Plan — 6 Outstanding options under the 2020 Plan — 2,835,265 Options available for future grant under the 2020 Plan — 818,889 Outstanding options under the 2021 Plan 3,038,970 — Options available for future grant under the 2021 Plan 2,132,750 — Outstanding restricted stock units under the 2021 Plan 596,085 — Common stock available for ESPP 470,169 — Redeemable convertible preferred stock warrants issued and outstanding — 346,823 Common stock warrants issued and outstanding — 219 Total 6,237,974 20,615,380 10. Stock Plans 2020 Stock Plan In August 2020, the Company adopted the 2020 Stock Plan, or the 2020 Plan, which provides for the granting of stock options to employees, directors and consultants of the Company. Stock options granted under the 2020 Plan may be either incentive stock options, or ISOs, nonqualified stock options, or NSOs, stock appreciation rights, restricted stock awards, restricted stock unit awards or other stock awards. ISOs may only be granted to Company employees (including officers and directors who are also employees). Stock awards other than ISOs may be granted to company employees, directors and consultants. The maximum term of each stock option grant is ten years . The exercise price of ISOs and NSOs granted to a 10% stockholder shall not be less than 110 % of the estimated fair value of the shares on the date of grant as determined by the Company’s board of directors. Prior to the adoption of 2020 Plan, the Company granted options under the 2009 Plan. The 2009 Plan expired in September 2019; as a result, 2,039 shares that were available for issuance were retired. The 2009 Plan will continue to govern the terms and conditions of the outstanding awards granted under it. 2021 Equity Incentive Plan In April 2021, prior to the IPO closing, the Company’s board of directors and stockholders approved the 2021 Equity Incentive Plan, or the 2021 Plan, which became effective upon the IPO closing. The Company initially reserved 2,900,000 shares of common stock for issuance of share-based compensation awards, including ISOs, NSOs, stock appreciation rights, restricted stock units and other stock-based awards. ISOs may be granted only to Company employees (including officers and directors who are also employees). Shares of common stock subject to awards granted under the 2020 Plan that are forfeited or lapse unexercised will be available for issuance under the 2021 Plan. Once the 2021 Plan became effective, no further grants were made under the 2020 Plan. Options under the 2021 Plan may be granted for periods of up to 10 years at exercise prices no less than the fair market value of the Company’s common stock on the date of grant; provided, however, that the exercise price of an ISO granted to a 10% stockholder may not be less than 110 % of the fair market value of the shares on the date of grant and such option may not be exercisable after the expiration of five years from the date of grant. Vesting conditions determined by the plan administrator may apply to stock options and may include continued service, performance and/or other conditions. Generally, options and restricted stock units vest over a four-year period. 148 NeuroPace, Inc. Notes to Financial Statements Upon the closing of the IPO, 485,581 shares available under the 2020 Plan were cancelled. In January 2022, the number of shares of common stock available for issuance under the 2021 Plan was increased by 1,222,649 shares as a result of the automatic increase provision in the 2021 Plan. A summary of shares available for grant under the 2021 Plan is as follows: Shares Available for Grant Shares available for grant as of January 1, 2020 — Shares authorized 3,591,888 Granted ( 2,951,534 ) Canceled 178,535 Shares available for grant as of December 31, 2020 818,889 Authorized 2,900,000 Retired ( 485,581 ) Granted/Awarded ( 1,218,021 ) Canceled 117,463 Shares available for grant as of December 31, 2021 2,132,750 A summary of stock option activity for the years ended December 31, 2021 and 2020 is set forth below: Options Outstanding Number of Shares Weighted-Average Exercise Price Weighted Average Remaining Contractual Term (in Years) Balances as of January 1, 2020 178,787 $ 47.97 7.89 Granted 2,951,534 $ 0.03 Exercised ( 112,049 ) $ 0.10 Cancelled ( 183,007 ) $ 46.82 Balances as of December 31, 2020 2,835,265 $ 0.03 9.57 Granted 588,980 $ 13.40 Exercised ( 300,768 ) $ 0.03 Cancelled ( 84,507 ) $ 0.48 Balances at December 31, 2021 3,038,970 $ 2.61 8.83 Vested and exercisable at December 31, 2021 1,034,861 $ 0.64 8.62 Vested and expected to vest at December 31, 2021 3,038,970 $ 2.61 8.83 The aggregate intrinsic value is calculated as the difference between the exercise price of the underlying stock options and the fair value of the Company’s common stock for stock options that were in-the-money at period end. The total intrinsic value of stock options exercised was $ 2.3 million and $ 0.1 million during the years ended December 31, 2021 and December 31, 2020, respectively, determined at the date of each stock option exercise. Early Exercise of Stock Options The terms of the Company’s 2020 Plan permit the exercise of options granted under the plans prior to vesting, subject to required approvals. Shares of common stock issued from the early exercise of unvested stock options are restricted and continue to vest over the original implied service period. The Company has the option to repurchase any unvested shares at the original purchase price upon any voluntary or involuntary termination. Shares purchased by employees and non-employees pursuant to the early exercise of stock options are not deemed, for accounting purposes, to be outstanding until those shares vest. The cash received in exchange for exercised and unvested shares 149 NeuroPace, Inc. Notes to Financial Statements related to stock options granted is recorded as a liability for the early exercise of stock options in accrued liabilities on the accompanying balance sheet and will be transferred into common stock and additional paid-in capital as the shares vest. As of December 31, 2021 and December 31, 2020 there were 174,171 and 30,802 early exercised options subject to repurchase, respectively. Employee Stock Purchase Plan In April 2021, the Company adopted the 2021 Employee Stock Purchase Plan, or ESPP. The Company allows eligible employees to purchase shares of the Company's common stock through payroll deductions at a price equal to 85 % of the lesser of the fair market value of the stock as of the first date or the ending date of each offering period, which is typically six months. There were 580,000 shares of common stock initially reserved for issuance under the ESPP. In January 2022, the number of shares of common stock available for issuance under the ESPP was increased by 244,529 shares as a result of the automatic increase provision in the ESPP. The first offering period was for 6.6 months beginning May 20, 2021 through December 6, 2021. The Company issued 109,831 shares under the ESPP for the year ended December 31, 2021. As of December 31, 2021, 470,169 shares under the ESPP remain available for purchase. The offering period and purchase period is determined by the board of directors. A new offering period of six months has been authorized beginning December 7, 2021 through June 6, 2022. Restricted Stock Units Activity with respect to restricted stock units, or RSUs, was as follows: Number of Shares Underlying Outstanding Restricted Stock Units Weighted Average Grant Date Fair Value Unvested, January 1, 2021 — $ — Granted 629,041 $ 22.14 Cancelled ( 32,956 ) $ 23.58 Unvested, December 31, 2021 596,085 $ 22.06 The fair value of RSUs is based on the Company’s closing stock price on the date of grant. Stock-Based Compensation The Company recognized stock-based compensation as follows (in thousands): Year Ended December 31, 2021 2020 Cost of goods sold $ 270 $ 21 Research and development 1,227 454 Selling, general and administrative 2,791 904 Total stock-based compensation $ 4,288 $ 1,379 The above stock-based compensation expense related to the following equity-based awards (in thousands): 150 NeuroPace, Inc. Notes to Financial Statements Year Ended December 31, 2021 2020 Stock options and restricted stock units $ 3,128 $ 1,379 ESPP 1,160 — Total stock-based compensation $ 4,288 $ 1,379 As of December 31, 2021, the total unrecognized stock-based compensation expense related to unvested stock options and restricted stock units was $ 16.0 million, which will be amortized on a straight-line basis over a weighted average remaining period of 3.2 years. As of December 31, 2021, the Company had unrecognized stock-based compensation expense relating to the ESPP awards of approximately $ 0.3 million, which is expected to be recognized over a weighted-average period of 0.4 years. The total fair value of options that vested during the years ended December 31, 2021 and December 31, 2020 was $ 0.4 million and $ 1.1 million, respectively. The options granted during the years ended December 31, 2021 and December 31, 2020 had a weighted average grant date fair value of $ 7.78 per share and $ 0.46 per share, respectively. The Company estimated the fair value of stock options using the Black-Scholes option pricing model. The fair value of employee stock options is being amortized on a straight-line basis over the requisite service period of the awards. The fair value of employee stock options was estimated using the following assumptions for the years ended December 31, 2021 and December 31, 2020: Year Ended December 31, 2021 2020 Expected term (in years) 6.00 - 6.25 6.25 Expected volatility 50 % - 53 % 51 % Weighted average risk-free interest rate 0.59 % - 1.33 % 0.53 % Fair value of common stock $ 0.40 - $ 21.67 $ 0.03 - $ 0.52 Dividend yield — % — % The expected term of stock options represents the weighted-average period the stock options are expected to remain outstanding. The Company does not have sufficient historical exercise and post-vesting termination activity to provide accurate data for estimating the expected term of options and has opted to use the “simplified method,” whereby the expected term equals the arithmetic average of the vesting term and the original contractual term of the option. The expected stock price volatility assumption was determined by examining the historical volatilities for publicly-traded industry peers, as the Company does not have sufficient trading history for its common stock. The Company will continue to analyze the historical stock price volatility and expected term assumptions as more historical data for the Company’s common stock becomes available. The risk-free interest rate assumption is based on the U.S. Treasury instruments whose term was consistent with the expected term of the Company’s stock options. The expected dividend assumption is based on the Company’s history and expectation of not to declare and pay dividends. Prior to the IPO the fair value of the Company’s common stock was determined by the board of directors with assistance from management and, in part, on input from an independent third-party valuation firm. The board of directors determined the fair value of common stock by considering a number of objective and subjective factors, including valuations of comparable companies, sales of convertible preferred stock, operating and financial performance, the lack of liquidity of the Company’s common stock and the general and industry-specific economic outlook. Subsequent to the Company’s IPO, the fair value of the Company’s common stock is determined based on its closing market price. The Company accounts for forfeitures as they occur. 151 NeuroPace, Inc. Notes to Financial Statements In November 2020, the Company’s board of directors approved the repricing of all outstanding stock options for employees, officers and consultants. The Company has treated the repricing as a modification of terms of the options outstanding. The fair value of the modification was determined as the difference in the fair value of each option immediately before and after the repricing using the Black-Scholes option pricing model with a dividend rate of 0 %, a risk free rate of 0.53 %, a volatility of 51 %, an expected term of 6.25 years, and a market price of $ 0.78 per share. The repricing resulted in an incremental compensation cost of $ 0.1 million for the year ended December 31, 2020. 11. Income Taxes The Company’s operations and income tax components are solely in the United States. From inception through 2021, the Company has only generated pretax losses in the United States and has not generated any pretax income or loss outside of the United States. The Company did not record a provision (benefit) for income taxes for the years ended December 31, 2021 and 2020. The Company accounts for income taxes in accordance with ASC 740, which requires that the tax benefit of net operating losses, temporary differences and credit carryforwards be recorded as an asset to the extent that management assesses that realization is "more likely than not." Realization of the future tax benefits is dependent on the Company's ability to generate sufficient taxable income within the carryforward period. Because of the Company's recent history of operating losses, management believes that recognition of the deferred tax assets arising from the above-mentioned future tax benefits is currently not likely to be realized and, accordingly, has provided a full valuation allowance. A reconciliation of the statutory U.S. federal rate to the Company’s effective tax rate is as follows: December 31, 2021 2020 Tax at federal statutory rate 21.0 % 21.0 % State taxes, net of federal benefit 4.0 % 7.6 % Research and development tax credit 1.3 % 2.4 % Stock-based compensation ( 1.1 ) % ( 0.6 ) % Nondeductible interest expense ( 0.6 ) % ( 5.5 ) % Warrant mark-to-market adjustment ( 3.0 ) % 0.2 % FIN 48 reserve ( 0.2 ) % ( 0.4 ) % Change in valuation allowance ( 21.5 ) % ( 21.8 ) % Other 0.1 % ( 2.9 ) % Total — % — % The tax effects of temporary differences that give rise to significant components of the deferred tax asset are as follows (in thousands): December 31, 2021 2020 Net operating loss carryforwards $ 35,754 $ 30,367 Research and development credits 11,121 10,327 Fixed assets and inventory 120 743 Accruals and reserves 1,600 1,409 Interest expense carryforward 2,616 1,228 Other 781 146 51,992 44,220 Valuation allowance ( 51,992 ) ( 44,220 ) Net deferred tax assets $ — $ — We recognize deferred income taxes for temporary differences between the basis of assets and liabilities for financial statement and income tax purposes, as well as for tax attribute carryforwards. We regularly evaluate the positive and negative evidence in determining the realizability of our deferred tax assets. Based upon the weight of 152 NeuroPace, Inc. Notes to Financial Statements available evidence, which includes our historical operating performance and reported cumulative net losses since inception, we maintained a full valuation allowance on the net deferred tax assets as of December 31, 2021 and 2020. We intend to maintain a full valuation allowance on our deferred tax assets until sufficient positive evidence exists to support reversal of the valuation allowance. The valuation allowance increased by $ 7.8 million and $ 5.3 million during the years ended December 31, 2021 and 2020, respectively. As of December 31, 2021, the Company had net operating loss, or NOL, carryforwards of $ 136.3 million and $ 115.2 million available to reduce future taxable income, if any, for federal and state income tax purposes, respectively. The federal and state NOL carryforwards begin expiring in 2022 and 2028, for federal and state purposes, respectively. As of December 31, 2021, the amount of federal NOL carryforwards that does not expire is $ 83.1 million (subject to certain utilization limitations). As of December 31, 2021, the Company had research and development credit carryforwards of $ 2.8 million and $ 12.1 million available to reduce future taxable income, if any, for federal and state income tax purposes, respectively. The federal credit carryforwards begin expiring in 2036 and the state credits carryforward indefinitely. Utilization of the Company’s NOL and tax credit carryforwards may be subject to a substantial annual limitation due to the ownership change provisions included in the Internal Revenue Code, or Section 382, and similar state provisions. An annual limitation may result in the expiration of NOL and credit carryforwards before utilization. The Company conducted Section 382 studies as of 2016 and 2021 and has determined that it experienced Section 382 ownership changes in 2016 and in 2021. The 2016 ownership change resulted in permanent limitations of its NOL and credit carryforwards. The 2021 ownership change did not result in permanent limitations of its NOL or credit carryforwards. It has been determined that $ 226.8 million and $ 150.7 million of federal and state NOL carryforwards, respectively, have been permanently limited and will expire unutilized. It has also been determined that $ 10.4 million of federal research and development credits have been permanently limited and will expire unutilized. The gross deferred tax assets disclosed above exclude NOL and credit carryforwards that are expected to expire due to the Section 382 limitation. On March 27, 2020, the President signed into law the Coronavirus Aid, Relief, and Economic Security Act, or the CARES Act, an economic stimulus package in response to the COVID-19 global pandemic and the Families First Coronavirus Response Act, or FFCR Act, which permits employees of certain organizations paid sick time stemming from COVID-19-related issues. The CARES Act contains several corporate income tax provisions, including making remaining alternative minimum tax credits immediately refundable; providing a 5-year carryback of NOLs generated in tax years 2018, 2019, and 2020, and removing the 80% taxable income limitation on utilization of those NOLs if carried back to prior tax years or utilized in tax years beginning before 2021; temporarily liberalizing the interest deductibility rules under Section 163(j) of the CARES Act, by raising the adjusted taxable income limitation from 30% to 50% for tax years 2019 and 2020 and giving taxpayers the election of using 2019 adjusted taxable income for purposes of computing 2020 interest deductibility. The CARES Act did not have a material impact on the Company’s tax provision for the years ended December 31, 2020 or 2021. The Consolidated Appropriations Act, 2021, which was enacted on December 27, 2020, has expanded, extended, and clarified selected CARES Act provisions, specifically on Paycheck Protection Program loans and Employee Retention Tax Credits, 100% deductibility of business meals as well as other tax extenders. The Consolidated Appropriations Act did not have a material impact on the Company’s tax provision for the years ended December 31, 2020 or 2021. The American Rescue Plan Act of 2021 was signed into law on March 11, 2021 expanding the definition of covered employees as defined under Section 162(m). The provisions under the expanded definition of covered employees did not have a material impact on the Company’s tax positions for the year ended December 31, 2021 California Assembly Bill 85 (AB 85) was signed into law by Governor Gavin Newsom on June 29, 2020. The legislation suspends the California NOL deductions for 2020, 2021, and 2022 for certain taxpayers and imposes a limitation on certain California tax credits for 2020, 2021, and 2022. The legislation disallows the use of California NOL deductions if the taxpayer recognizes business income and its adjusted gross income is greater than $1,000,000. The carryover periods for NOL deductions disallowed by this provision will be extended. Additionally, 153 NeuroPace, Inc. Notes to Financial Statements any business credit will only offset a maximum of $5,000,000 of California tax. Given the Company’s taxable loss position, this legislation did not impact the tax provision for the years ended December 31, 2020 or 2021. California Senate Bill 113 (SB 113), was signed into law by Governor Newsom on February 9, 2022. The legislation contains important California tax law changes, including reinstatement of business tax credits and net NOL deductions limited by AB 85 mentioned above. The new tax law should be accounted for under ASC 740 in the period of enactment (2022) but is not expected to have a material impact on the Company’s tax provision due to its taxable loss position. As of December 31, 2021, the Company had unrecognized tax benefits of $ 1.5 million related to $ 0.3 million and $ 1.2 million of federal and state research and development tax credit carryforwards, respectively. The unrecognized tax benefits, if recognized, would not have an impact on the Company's effective tax rate, due to the valuation allowance. It is unlikely that the amount of unrecognized tax benefits will significantly change over the next twelve months. No liability related to uncertain tax positions is recorded in the financial statements. A reconciliation of the beginning and ending unrecognized tax benefit amount is as follows (in thousands): Year Ended December 31, 2021 2020 Beginning balance $ 1,390 $ 1,280 Increase in balance related to tax positions taken during the current year 99 109 Increase in balance related to tax positions taken during prior years — 1 Ending balance $ 1,489 $ 1,390 It is the Company’s policy to include penalties and interest expense related to income taxes as a component of other expense and interest expense, respectively, as necessary. The Company determined that no accrual for interest and penalties related to unrecognized tax benefits was required as of December 31, 2021 and December 31, 2020. All of the Company’s tax years will remain open for examination by the federal and state authorities for 3 and 4 years, respectively, from the date of utilization of its tax attributes. 12. Net Loss per Share Attributable to Common Stockholders The following table sets forth the computation of basic and diluted net loss per share attributable to common stockholders (in thousands, except for share and per share amounts): Year Ended December 31, 2021 2020 Numerator: Net loss $ ( 36,080 ) $ ( 24,278 ) Reduction of Series A' redeemable convertible preferred stock liquidation value — 228 Net loss attributable to common stockholders $ ( 36,080 ) $ ( 24,050 ) Denominator: Weighted-average common stock outstanding used to compute basic and diluted net loss per share 16,608,800 204,068 Net loss per share attributable to common stockholders, basic and diluted $ ( 2.17 ) $ ( 117.85 ) In connection with issuance of Series B’ redeemable convertible preferred stock, the Company amended the terms of the existing Series A’ redeemable convertible preferred stock and reduced the liquidation preference of Series A’ redeemable convertible preferred stock from $ 116.350 to $ 58.175 . The reduction of Series A’ redeemable convertible preferred stock liquidation preference was accounted for as an extinguishment with $ 0.2 million recognized as extinguishment gain in accumulated deficit in the quarter ended September 30, 2020. The 154 NeuroPace, Inc. Notes to Financial Statements extinguishment gain reduced the net loss attributable to common stockholders for the year ended December 31, 2020. The following potentially dilutive securities outstanding have been excluded from the computation of diluted weighted average shares outstanding because such securities have an antidilutive impact due to the Company’s net loss, in common stock equivalent shares: December 31, 2021 2020 Redeemable convertible preferred shares — 16,614,178 Options to purchase common stock 3,038,970 2,835,265 Unvested early exercised common stock options 174,171 30,802 Unvested restricted stock units 596,085 — Shares committed under ESPP 114,736 — Redeemable convertible preferred stock warrants — 346,823 Total Shares 3,923,962 19,827,068 13. 401(k) Savings Plan On January 1, 2000, the Company established a defined contribution savings plan under Section 401(k) of the Internal Revenue Code. This plan covers substantially all employees who meet minimum age and service requirements and allows participants to defer a portion of their annual compensation on a pre-tax basis. To date, the Company has made no contributions to the 401(k) plan. 14. Related Parties Covidien Group S.a.r.l., an indirect wholly-owned subsidiary of Medtronic, plc, became a holder of more than five percent of the Company’s capital stock in August 2020. Pursuant to the terms of a cross-license with Medtronic, the Company made royalty payments of approximately $ 0.4 million during both the years ended December 31, 2021 and 2020 (Note 2). As of December 31, 2021, Covidien Group S.a.r.l. held less than five percent of the Company’s capital stock. In August 2020, the Company reimbursed KCK Ltd., a greater than five percent stockholder, a total of approximately $ 0.3 million for executive recruitment services that had been paid by KCK to the service providers on behalf of the Company. Also see Note 6 for additional related party transactions related to the 2019 and 2020 Convertible Notes. 15. Subsequent Events In March 2022, the New Term Loan was amended to reduce the minimum annual net revenue covenant to $ 43.0 million for the year ended December 31, 2022 . 155 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. None.