PACIFIC BIOSCIENCES OF CALIFORNIA, INC. 10-K

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA PACIFIC BIOSCIENCES OF CALIFORNIA, INC. Index to Consolidated Financial Statements Page(s) Report of Independent Registered Public Accounting Firm 48 Consolidated Financial Statements Consolidated Balance Sheets 50 Consolidated Statements of Operations and Comprehensive I ncome (Loss) 51 Consolidated Statements of Stockholders’ Equity 52 Consolidated Statements of Cash Flows 53 Notes to Consolidated Financial Statements 54 47 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Stockholders and the Board of Directors of Pacific Biosciences of California, Inc. Opinion on the Financial Statements We have audited the accompanying consolidated balance sheets of Pacific Biosciences of California, Inc. (the Company) as of December 31, 2020 and 2019, the related consolidated statements of operations and comprehensive income (loss) , stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2020, and the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2020 and 2019, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2020, in conformity with U.S. generally accepted accounting principles. 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 in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. 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. Critical Audit Matter The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates. Revenue recognition – Non-standard revenue contracts Description of the Matter As described in Note 3 to the consolidated financial statements, the Company's instrument is generally sold in a bundled arrangement and commonly includes the instrument, instrument accessories, installation, one-year period of service, training, and consumables. The Company enters into non-standard sales arrangements for which significant discounts may be offered on the different components of the bundled arrangements and for which historical information for similar sales may not be available. As part of the Company's identification of performance obligations and the resulting determination of the allocation of contract consideration, the Company considers if these discounts represent a material right when compared to the estimated standalone selling prices, and therefore a performance obligation to be included in the allocation of the contract value. The Company also estimates the standalone selling price of each performance obligation to determine the allocation of consideration. To estimate the selling price of each performance obligation, the Company uses historical sales data, as well as management judgment. Auditing the Company's estimated standalone selling price, their determination of whether there are material rights that represent performance obligations and the resulting allocation of the contract value for non-standard sales arrangements is complex and required a higher level of judgment due to the level of estimation and subjectivity in establishing the standard selling price of each performance obligation. 48 How We Addressed the Matter in Our Audit We tested the completeness of the identified performance obligations and tested the accuracy of the allocation of the total contract consideration among the identified performance obligations. In order to do this, our audit procedures included, among others, evaluating the accuracy and completeness of the underlying data used in management's calculation of the standard selling price for each performance obligation by agreeing the data to historical transactions and contract pricing for backlog orders. We tested the identification of performance obligations and the allocation of contract consideration using the standard selling price of each performance obligation for a sample of arrangements by reading the contracts with the customers and evaluating whether terms of the contracts (including future purchase options) resulted in material rights. We also performed sensitivity analyses of significant assumptions to evaluate the changes in revenue recognized for the period under audit that would result from changes in the Company's estimated standard selling price for the performance obligations. /s/ Ernst & Young LLP We have served as the Company’s auditor since 2011. Redwood City, California February 26, 2021 ‎ 49 PACIFIC BIOSCIENCES OF CALIFORNIA, INC. Consolidated Balance Sheets December 31, December 31, (in thousands, except per share amounts) 2020 2019 Assets Current assets Cash and cash equivalents $ 81,611 $ 29,627 Investments 237,203 19,472 Accounts receivable 16,837 15,266 Inventory 14,230 13,312 Prepaid expenses and other current assets 4,870 3,069 Short-term restricted cash 836 300 Total current assets 355,587 81,046 Property and equipment, net 24,899 30,070 Operating lease right-of-use assets, net 29,951 32,827 Long-term restricted cash 3,500 4,000 Other long-term assets 43 42 Total assets $ 413,980 $ 147,985 Liabilities and Stockholders’ Equity Current liabilities Accounts payable $ 3,579 $ 8,368 Accrued expenses 17,350 13,242 Deferred revenue, current 8,722 7,610 Operating lease liabilities, current 4,332 3,837 Notes payable, current — 15,871 Other liabilities, current 4,519 225 Total current liabilities 38,502 49,153 Deferred revenue, non-current 1,568 1,951 Operating lease liabilities, non-current 37,667 41,964 Other liabilities, non-current 752 — Total liabilities 78,489 93,068 Commitments and contingencies Stockholders’ equity Preferred stock, $ 0.001 par value: Authorized 50,000 shares; No shares issued or outstanding — — Common stock, $ 0.001 par value: Authorized 1,000,000 shares; issued and outstanding 192,294 and 153,119 shares at December 31, 2020 and December 31, 2019, respectively 192 153 Additional paid-in capital 1,372,083 1,120,999 Accumulated other comprehensive income 85 5 Accumulated deficit ( 1,036,869 ) ( 1,066,240 ) Total stockholders’ equity 335,491 54,917 Total liabilities and stockholders’ equity $ 413,980 $ 147,985 See accompanying notes to the consolidated financial statements. ‎ 50 PACIFIC BIOSCIENCES OF CALIFORNIA, INC. Consolidated Statements of Operations and Comprehensive Income (Loss) Years Ended December 31, (in thousands, except per share amounts) 2020 2019 2018 Revenue: Product revenue $ 65,424 $ 77,742 $ 66,355 Service and other revenue 13,469 13,149 12,271 Total revenue 78,893 90,891 78,626 Cost of Revenue: Cost of product revenue 35,424 44,771 42,053 Cost of service and other revenue 10,903 11,544 11,477 Total cost of revenue 46,327 56,315 53,530 Gross profit 32,566 34,576 25,096 Operating Expense: Research and development 64,152 59,630 62,594 Sales, general and administrative 72,799 75,491 63,489 Total operating expense 136,951 135,121 126,083 Operating loss ( 104,385 ) ( 100,545 ) ( 100,987 ) Gain from Reverse Termination Fee from Illumina 98,000 — — Gain from Continuation Advances from Illumina 34,000 18,000 — Interest expense ( 267 ) ( 2,611 ) ( 2,423 ) Other income, net 2,055 1,022 848 Net income (loss) 29,403 ( 84,134 ) ( 102,562 ) Other comprehensive income (loss): Unrealized gain (loss) on investments 80 41 ( 4 ) Comprehensive income (loss) $ 29,483 $ ( 84,093 ) $ ( 102,566 ) Net income (loss) per share: Basic $ 0.18 $ ( 0.55 ) $ ( 0.76 ) Diluted $ 0.17 $ ( 0.55 ) $ ( 0.76 ) Weighted average shares outstanding used in calculating net income (loss) per share Basic 165,187 152,527 135,094 Diluted 174,970 152,527 135,094 See accompanying notes to the consolidated financial statements. ‎ 51 PACIFIC BIOSCIENCES OF CALIFORNIA, INC. Consolidated Statements of Stockholders ’ Equity Accumulated Additional Other Total Paid-in Comprehensive Accumulated Stockholders' (in thousands) Common Stock Capital Income (Loss) Deficit Equity Shares Amount Balance at December 31, 2017 116,277 $ 116 $ 965,752 $ ( 32 ) $ ( 879,733 ) $ 86,103 Net loss — — — — ( 102,562 ) ( 102,562 ) Other comprehensive income (loss) — — — ( 4 ) — ( 4 ) ASC606 adoption effect 189 189 Issuance of common stock in conjunction with equity plans 3,357 4 9,648 — — 9,652 Issuance of common stock from Underwritten Public Equity Offerings, net of issuance costs 30,610 30 97,500 — — 97,530 Stock-based compensation expense — — 23,153 — — 23,153 Balance at December 31, 2018 150,244 150 1,096,053 ( 36 ) ( 982,106 ) 114,061 Net loss — — — — ( 84,134 ) ( 84,134 ) Other comprehensive income (loss) — — — 41 — 41 Issuance of common stock in conjunction with equity plans 2,875 3 8,545 — — 8,548 Stock-based compensation expense — — 16,401 — — 16,401 Balance at December 31, 2019 153,119 $ 153 $ 1,120,999 $ 5 $ ( 1,066,240 ) $ 54,917 Net income — — — — 29,403 29,403 Other comprehensive income (loss) — — — 80 — 80 ASC326 adoption effect ( 32 ) ( 32 ) Issuance of common stock in conjunction with equity plans 9,819 10 46,350 — — 46,360 Issuance of common stock from Underwritten Public Equity Offerings, net of issuance costs 29,356 29 187,201 — — 187,230 Stock-based compensation expense — — 17,533 — — 17,533 Balance at December 31, 2020 192,294 $ 192 $ 1,372,083 $ 85 ( 1,036,869 ) $ 335,491 See accompanying notes to the consolidated financial statements. ‎ 52 PACIFIC BIOSCIENCES OF CALIFORNIA, INC. Consolidated Statements of Cash Flows Years Ended December 31, (in thousands) 2020 2019 2018 Cash flows from operating activities Net income (loss) $ 29,403 $ ( 84,134 ) $ ( 102,562 ) Adjustments to reconcile net loss to net cash used in operating activities Gain from Continuation Advances from Illumina ( 34,000 ) ( 18,000 ) — Depreciation 6,428 7,265 7,215 Amortization of right-of-use assets 2,876 2,683 — Amortization of debt discount and financing costs 129 1,212 1,024 Stock-based compensation 17,533 16,401 23,153 (Gain) loss from derivative — ( 16 ) ( 167 ) Amortization and accretion for investment premium (discount) ( 107 ) ( 913 ) ( 758 ) Loss on disposition of equipment — 194 — Changes in assets and liabilities Accounts receivable ( 1,603 ) ( 6,671 ) 4,838 Inventory ( 1,096 ) 3,915 3,623 Prepaid expenses and other assets ( 1,063 ) ( 523 ) ( 290 ) Accounts payable ( 5,072 ) 1,713 ( 2,239 ) Accrued expenses 4,102 2,333 183 Deferred revenue 729 2,134 33 Operating lease liabilities ( 3,802 ) ( 3,428 ) — Other liabilities 5,046 ( 2,477 ) ( 483 ) Net cash provided by (used in) operating activities 19,503 ( 78,312 ) ( 66,430 ) Cash flows from investing activities Purchase of property and equipment ( 1,039 ) ( 2,836 ) ( 1,854 ) Purchase of investments ( 373,283 ) ( 57,727 ) ( 122,183 ) Sales of investments 1,400 1,500 2,442 Maturities of investments 153,600 121,110 83,180 Net cash provided by (used in) in investing activities ( 219,322 ) 62,047 ( 38,415 ) Cash flows from financing activities Continuation Advances from Illumina 34,000 18,000 — Proceeds from issuance of common stock from equity plans 46,360 8,548 9,652 Notes payable principal payoff ( 16,000 ) — — Proceeds from issuance of common stock from underwritten public equity offerings, net of issuance costs 187,479 — 97,530 Net cash provided by financing activities 251,839 26,548 107,182 Net increase in cash and cash equivalents and restricted cash 52,020 10,283 2,337 Cash and cash equivalents and restricted cash at beginning of period 33,927 23,644 21,307 Cash and cash equivalents and restricted cash at end of period $ 85,947 $ 33,927 $ 23,644 Cash and cash equivalents at end of period 81,611 29,627 18,844 Restricted cash at end of period 4,336 4,300 4,800 Cash and cash equivalents and restricted cash at end of period $ 85,947 $ 33,927 $ 23,644 Supplemental disclosure of cash flow information Interest paid $ 491 $ 1,400 $ 1,400 Supplemental disclosure of non-cash investing and financing activities Inventory transferred to property and equipment 1,097 2,062 1,871 Property and equipment transferred to inventory ( 919 ) ( 1,536 ) ( 343 ) See accompanying notes to the consolidated financial statements. 53 PACIFIC BIOSCIENCES OF CALIFORNIA, INC. Notes to Consolidated Financial Statements NOTE 1. OVERVIEW We design, develop and manufacture sequencing systems to help scientists resolve genetically complex problems. Based on our novel Single Molecule, Real-Time (SMRT®) sequencing technology, our products enable: de novo genome assembly to finish genomes in order to more fully identify, annotate and decipher genomic structures; full-length transcript analysis to improve annotations in reference genomes, characterize alternatively spliced isoforms in important gene families, and find novel genes; targeted sequencing to more comprehensively characterize genetic variations; and real-time kinetic information for epigenome characterization. Our technology provides high accuracy, ultra-long reads, uniform coverage and the ability to simultaneously detect epigenetic changes. PacBio® sequencing systems, including associated consumables and software, provide a simple and fast end-to-end workflow for SMRT sequencing. Our current products include the Sequel II and Sequel IIe instruments and SMRT Cell 8M, which when used together are capable of sequencing up to approximately eight million DNA molecules simultaneously, and the previous generation Sequel instrument and Sequel SMRT Cell 1M, which when used together are capable of sequencing up to approximately one million DNA molecules simultaneously. In October 2020, we launched the Sequel IIe System, which has increased computational capacity, and is designed to enable customers to generate PacBio HiFi reads more efficiently. Our research and development efforts are focused on developing new products and further improving our existing products including continuing chemistry and sample preparation improvements to increase throughput and expand our supported applications. By providing access to genetic information that was previously inaccessible, we enable scientists to confidently increase their understanding of biological systems. The names “Pacific Biosciences,” “PacBio,” “SMRT,” “SMRTbell,” “Sequel” and our logo are our trademarks. NOTE 2. TERMINATION OF MERGER WITH ILLUMINA On November 1, 2018, we entered into an Agreement and Plan of Merger (as amended, the “Merger Agreement”) with Illumina, Inc. (“Illumina”) and FC Ops Corp., a wholly owned subsidiary of Illumina (“Merger Subsidiary”). On January 2, 2020, we, Illumina and Merger Subsidiary, entered into an agreement to terminate the Merger Agreement (the “Termination Agreement”). Continuation Advances from Illumina As part of the Termination Agreement, Illumina paid us cash payments (“Continuation Advances”), of $ 18.0 million during the fourth quarter of 2019 and $ 34.0 million during the first quarter of 2020. We recorded the $ 34.0 million and $ 18.0 million as a part of other income in the consolidated statements of operations and comprehensive income (loss) for the year ended December 31, 2020 and 2019, respectively. Please refer to “Note 4. Financial Instruments” for the accounting treatment of the Continuation Advances. Up to the full $ 52.0 million of Continuation Advances paid to us are repayable without interest to Illumina if, within two years of March 31, 2020, we enter into, or consummate a Change of Control Transaction or raise at least $ 100 million in a single equity or debt financing (that may have multiple closings), with the amount repayable dependent on the amount raised by us. Resulting from the issuance and sale of $ 900 million of 1.50 % Convertible Senior Notes due February 15, 2028 , $ 52.0 million of Continuation Advances were paid without interest to Illumina in February 2021. Please see “Note 11. Subsequent Events” for additional information. Reverse Termination Fee from Illumina As part of the Termination Agreement, Illumina paid us a $ 98.0 million termination fee (“Reverse Termination Fee”), from which we paid our financial advisor associated fees of $ 6.0 million in April 2020. We recorded the $ 6.0 million of associated fees we paid to our financial advisor in the “Sales, general and administrative” expense line in the consolidated statements of operations and comprehensive income (loss) for the year ended December 31, 2020. Pursuant to the Termination Agreement, in the event that, on or prior to September 30, 2020, we entered into a definitive agreement providing for, or consummated, a Change of Control Transaction, then we may have been required to repay the Reverse Termination Fee (without interest) to Illumina in connection with the consummation of such Change of Control Transaction. If such Change of Control Transaction was not consummated by the two year anniversary of the execution of the definitive agreement for such Change of Control Transaction, then we would not have been required to repay the Reverse Termination Fee. As indicated in ASC 450, Contingencies , a gain contingency usually is not recognized in the financial statements until the period in which all contingencies are resolved and the gain is realizable. As such, we deferred the gain from the Reverse Termination Fee from Illumina until the date when the associated contingency lapsed. On October 1, 2020, the contingency clauses lapsed and we recorded the $ 98.0 million as a part of other income in the consolidated statements of operations and comprehensive income (loss) for the year ended December 31, 2020. 54 NOTE 3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Basis of Presentation and Consolidation Our consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States, or U.S. GAAP, as set forth in the Financial Accounting Standards Board, or FASB, Accounting Standards Codification, or ASC. The consolidated financial statements include the accounts of Pacific Biosciences and our wholly owned subsidiaries. All intercompany transactions and balances have been eliminated. Translation adjustments resulting from translating foreign subsidiaries’ results of operations and assets and liabilities into U.S. dollars are immaterial for all periods presented. COVID-19 We are subject to risks and uncertainties as a result of the novel coronavirus pandemic (COVID-19). The extent of the impact of the COVID-19 pandemic on our business is highly uncertain as responses to the pandemic can change quickly and information is rapidly evolving. We considered the impact of COVID-19 on the assumptions and estimates used to determine the results reported and asset valuations as of December 31, 2020. Use of Estimates The preparation of financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes to the financial statements. Our estimates include, but are not limited to, the valuation of inventory, the determination of stand-alone selling prices for revenue recognition, the valuation of a financing derivative and long-term notes, the probability of repaying the Continuation Advances and Reverse Termination Fee to Illumina, the valuation and recognition of share-based compensation, the expected renewal period for service contracts to derive the amortization period for capitalized commissions, the useful lives assigned to long-lived assets, the recognition and measurement of current and deferred income tax assets, along with the assessment of recoverability and the determination of the internal borrowing rate used in calculating the operating lease right-of-use assets and operating lease liabilities. Actual results could differ materially from these estimates. Reclassifications Certain prior year amounts in the consolidated financial statements have been reclassified to conform to the current year presentation with no effect on previously reported net loss, comprehensive loss, cash flows or stockholders’ equity. Accounting Changes In June 2016, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, 2016-13 Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments (“Topic 326”), which replaces existing incurred loss impairment guidance and establishes a single allowance framework for financial assets carried at amortized cost. We adopted Topic 326 on January 1, 2020, using a modified retrospective transition method, which requires a cumulative-effect adjustment to the opening balance of retained earnings/accumulated deficit to be recognized on the date of adoption with prior periods not restated. The adoption of Topic 326 did not have a material impact on our financial statements and our bad debt expense was immaterial as of December 31, 2020. Cash, Cash Equivalents and Investments We consider all highly liquid investments purchased with an original maturity of three months or less to be cash equivalents. We have designated all investments as available-for-sale and therefore, such investments are reported at fair value, with unrealized gains and losses recognized in accumulated other comprehensive income (loss) (“OCI”) in stockholders’ equity. The cost of marketable securities is adjusted for the amortization of premiums and discounts to expected maturity. Premium and discount amortization is included in other income, net. Realized gains and losses, as well as interest income, on available-for-sale securities are also included in other income, net. The cost of securities sold is based on the specific identification method. We include all of our available-for-sale securities in current assets. Our investment portfolio at any point in time contains investments in cash deposits, money market funds, commercial paper, corporate debt securities and US government and agency securities with high credit ratings. We have established guidelines regarding diversification of its investments and their maturities with the objectives of maintaining safety and liquidity, while maximizing yield. Concentration and Credit Risks Financial instruments that potentially subject us to credit risk consist principally of interest-bearing investments and trade receivables. We maintain cash, cash equivalents and investments with various major financial institutions. The counterparties to the agreements relating to our investment securities consist of various major corporations, financial institutions, municipalities and government agencies of high credit standing. 55 We perform periodic evaluations of the relative credit standing of these financial institutions. In addition, we perform periodic evaluations of the relative credit quality of its investments. All of our investments are subject to a periodic impairment review. We recognize an impairment charge when a decline in the fair value of our investments below the cost basis is judged to be other-than-temporary. Factors considered in determining whether a loss is temporary include the length of time and the extent to which an investment’s fair value has been less than its cost basis, the financial condition and near-term prospects of the investee, the extent of the loss related to credit of the issuer, the expected cash flows from the security, our intent to sell the security and whether or not we will be required to sell the security before the recovery of its amortized cost. For the years ended December 31, 2020, 2019 and 2018, we did no t have any impairment charges on our investments as it is more likely than not that we will recover their amortized cost basis upon sale or maturity. Our trade receivables are derived from net revenue to customers and distributors located in the United States and other countries. We perform credit evaluations of our customers’ financial condition and, generally, require no collateral from our customers. The allowance for doubtful accounts is based on our assessment of the collectability of customer accounts. We regularly review our trade receivable including consideration of factors such as historical experience, the age of the accounts receivable balances, customer creditworthiness, customer industry, and current and forecasted economic conditions that may affect a customer’s ability to pay. We have not experienced any significant credit losses to date. Although we have historically not experienced significant credit losses, our exposure to credit losses may increase if our customers are adversely affected by changes in economic pressures or uncertainty associated with local or global economic recessions, disruption associated with the current COVID-19 pandemic, or other customer-specific factors. For the years ended December 31, 2020, 2019 and 2018, one customer, Gene Company Limited, accounted for approximately 14 %, 17 % and 26 % our total revenue, respectively. As of December 31, 2020 and 2019, 43 % and 55 % of our accounts receivable were from domestic customers, respectively. As of December 31, 2020, two customers, Berry Genomics Co., Ltd and Gene Company Limited, represented approximately 15 % and 12 % of our net accounts receivable, respectively. As of December 31, 2019, customer, Gene Company Limited, represented approximately 11 % of our net accounts receivable. We currently purchase several key parts and components used in the manufacture of our products from a limited number of suppliers. Generally, we have been able to obtain an adequate supply of such parts and components. However, an extended interruption in the supply of parts and components currently obtained from our suppliers could adversely affect our business and consolidated financial statements. Inventory Inventories are stated at the lower of average cost or net realizable value. Cost is determined using the first-in, first-out (“FIFO”) method. Adjustments to reduce the cost of inventory to its net realizable value, if required, are made for estimated excess or obsolete balances. Cost includes depreciation, labor, material, and overhead costs, including product and process technology costs while determining net realizable value of inventories involves numerous judgements, including projecting future average selling prices, sales volumes, and costs to complete products in work in process inventories. We enter into inventory purchases and commitments so that we can meet future shipment schedules based on forecasted demand for our products. The business environment in which we operate is subject to rapid changes in technology and customer demand. We perform a detailed assessment of inventory each period, which includes a review of, among other factors, demand requirements, product life cycle and development plans, component cost trends, product pricing, product expiration, and quality issues. Based on our analysis, we record adjustments to inventory for potentially excess, obsolete, or impaired goods, when appropriate, in order to report inventory at net realizable value. Inventory adjustments may be required if actual demand, component costs, supplier arrangements, or product life cycles differ from our estimates. Any such adjustments would result in a charge to our results of operations . Property and Equipment, Net Property and equipment are stated at cost, net of accumulated depreciation and any impairment charges. Depreciation is computed using the straight-line method over the estimated useful life of the asset, generally two years to three years for computer equipment, three years to five years for software, three years to seven years for furniture and fixtures and three years to five years for lab equipment. Leasehold improvements are depreciated over the shorter of the lease term or the estimated useful life of the related asset. Major improvements are capitalized, while maintenance and repairs are expensed as incurred. Impairment of Long-Lived Assets We periodically review property and equipment for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset is impaired or the estimated useful lives are no longer appropriate. Fair value is estimated based on discounted future cash flows. If indicators of impairment exist and the undiscounted projected cash flows associated with such assets are less than the carrying amount of the asset, an impairment loss is recorded to write the asset down to its estimated fair value. To date, we have no t recorded any impairment charges. Operating Leases 56 We lease administrative, manufacturing and laboratory facilities under operating leases. Lease agreements may include rent holidays, rent escalation clauses and tenant improvement allowances. We recognize scheduled rent increases on a straight-line basis over the lease term beginning with the date we take possession of the leased space. Leasehold improvements are capitalized at cost and depreciated over the shorter of their expected useful life or the life of the lease. On January 1, 2019, we adopted ASC 842, which requires the recognition of the right-of-use assets and related operating and finance lease liabilities on the consolidated balance sheet. Operating lease assets and liabilities are reflected within “Operating lease right-of-use assets, net”, “Operating lease liabilities, current” and “Operating lease liabilities, non-current” on the consolidated balance sheets. These assets and liabilities are recognized at the commencement date based on the present value of remaining minimum lease payments over the lease term using our estimated secured incremental borrowing rates at the effective date of January 1, 2019. Leases with terms of 12 months or less are expensed on a straight-line basis over the term and are not recorded in the consolidated balance sheets. Short-term Restricted Cash At December 31, 2020 the short-term restricted cash balance of $ 0.8 million was comprised of $ 0.5 million of a customer deposit and $ 0.3 million of the security deposit for the credit cards for employees. Long-term Restricted Cash Under the lease agreement for our corporate offices, we were required to establish a letter of credit for the benefits of the landlord and to submit $ 4.5 million as a deposit for the letter of credit in October 2015. Subsequently pursuant to the terms of the O’Brien Lease, on May 1, 2019 the $ 4.5 million in restricted cash was reduced to $ 4.0 million and on May 1, 2020 the $ 4.0 million in restricted cash was reduced to $ 3.5 million. Revenue Recognition Our revenue is generated primarily from the sale of products and services. Product revenue primarily consists of sales of our instruments and related consumables; service and other revenue primarily consists of revenue earned from product maintenance agreements. We account for a contract with a customer when there is a legally enforceable contract between us and the customer, the rights of the parties are identified, the contract has commercial substance, and collectability of the contract consideration is probable. Revenues are recognized when control of the promised goods or services is transferred to our customers or services are performed, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services. Taxes we collect concurrent with revenue-producing activities are excluded from revenue. Our instrument sales are generally sold in a bundled arrangement and commonly include the instrument, instrument accessories, installation, training, and consumables. Additionally, our instrument sale arrangements generally include a one year period of service. For such bundled arrangements, we account for individual products and services separately if they are distinct, that is, if a product or service is separately identifiable from other items in the bundled package and if a customer can benefit from it on its own or with other resources that are readily available to the customer. Our customers cannot benefit from our instrument systems without installation, and installation can only be performed by us or qualified distributors. As a result, the system and installation are considered to be a single performance obligation recognized after installation is completed except for sales to qualified distributors, in which case the system is distinct and recognized when control has transferred to the distributor which typically occurs upon shipment. The consideration for bundled arrangements is allocated between separate performance obligations based on their individual standalone selling price (“SSP”). The SSP is determined based on observable prices at which we separately sell the products and services. If a SSP is not directly observable, then we will estimate the SSP by considering multiple factors including, but not limited to, overall market conditions, including geographic or regional specific factors, internal costs, profit objectives, pricing practices and other observable inputs. We recognize revenues as performance obligations are satisfied by transferring control of the product or service to the customer or over the term of a product maintenance agreement with a customer. Our revenue arrangements generally do not provide a right of return. Contract liabilities and contract assets - Contract liabilities consist of deferred revenue. We record deferred revenues when cash payments are received or due in advance of our performance for product maintenance agreements. Deferred revenue is recognized over the related performance period, generally one year to three years , on a straight-line basis as we are standing ready to provide services and a time-based measure of progress best reflects the satisfaction of the performance obligation. Other practical expedients and exemptions - Customers generally are invoiced upon acceptance of the system, which is also the start of the one year service period. As such, there is typically not more than a one year difference between the receipt of cash and the provision of services. Therefore, we apply the practical expedient and do not account for any potential significant financing benefit. However, it is noted that some customers will pre-order extended service periods at the time of the initial system sale. These customers may choose to make quarterly or annual payments or prepay multiple years of service upfront but there is no pricing difference between these different payment options. As such, no significant financing component is believed to exist with any of our existing arrangements. Cost of Revenue 57 Cost of revenue reflects the direct cost of product components, third-party manufacturing services and our internal manufacturing overhead and customer service infrastructure costs incurred to produce, deliver, maintain and support our instruments, consumables, and services. There are no incremental costs associated with our contractual revenue; all product development costs are reflected in research and development expense. Manufacturing overhead is predominantly comprised of labor and facility costs. We determine and capitalize manufacturing overhead into inventory based on a standard cost model that approximates actual costs. Service costs include the direct costs of components used in support, repair and maintenance of customer instruments as well as the cost of personnel, materials, shipping and support infrastructure necessary to support our installed customer base. Research and Development Research and development expense consists primarily of expenses for personnel engaged in the development of our SMRT Sequencing technology, the design and development of our future products and current product enhancements. These expenses also include prototype-related expenditures, development equipment and supplies, facilities costs and other related overhead. We expense research and development costs during the period in which the costs are incurred. However, we defer and capitalize non-refundable advance payments made for research and development activities until the related goods are received or the related services are rendered. Credit Losses We adopted Topic 326 on January 1, 2020. The adoption of Topic 326 did not have a material impact on our financial statements and our bad debt expense was immaterial as of December 31, 2020. Trade accounts receivable - The allowance for doubtful accounts is based on our assessment of the collectability of customer accounts. We regularly review the allowance by considering factors such as the age of the accounts receivable balances, customer creditworthiness, customer industry, and current and forecasted economic conditions that may affect a customer’s ability to pay. Available-for-sale debt securities - Our investment portfolio at any point in time contains investments in cash deposits, money market funds, commercial paper, corporate debt securities and US government and agency securities. We regularly review the securities in an unrealized loss position and evaluate the current expected credit loss by considering factors such as significance of loss, historical experience, market data, issuer-specific factors, and current economic conditions and concluded that an allowance for credit losses was not required as of December 31, 2020. Although we have historically not experienced significant credit losses, our exposure to credit losses may increase if our customers are adversely affected by changes in economic pressures or uncertainty associated with local or global economic recessions, disruption associated with the current COVID-19 pandemic, or other customer-specific factors. Income Taxes We account for income taxes under the asset and liability method, which requires, among other things, that deferred income taxes be provided for temporary differences between the tax bases of our assets and liabilities and the amounts reported in the financial statements. In addition, deferred tax assets are recorded for the future benefit of utilizing net operating losses and research and development credit carryforwards. A full valuation allowance is provided against our net deferred tax assets as it is more likely than not that the deferred tax assets will not be fully realized. We review our positions taken relative to income taxes. To the extent our tax positions are more likely than not going to result in additional taxes, we would accrue the estimated amount of tax related to such uncertain positions. Stock-based Compensation We account for share-based payments using a fair-value based method for costs related to all share-based payments, including stock options, restricted stock units, and stock issued under our employee stock purchase plan (“ESPP”). We estimate the fair value of share-based payment awards on the date of grant using an option-pricing model. See Note 8 for further information regarding stock-based compensation. Other Comprehensive Income (loss) Other comprehensive income (loss) is comprised of unrealized gains (losses) on our investment securities. Shipping and Handling Costs related to shipping and handling are included in cost of revenues for all periods presented. Recent Accounting Pronouncements Recently Issued Accounting Standards 58 In August 2020, the FASB issued ASU No. 2020-06, Debt—Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging—Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity. This guidance simplifies the accounting for convertible instruments primarily by eliminating the existing cash conversion and beneficial conversion models within Subtopic 470-20, which will result in fewer embedded conversion options being accounted for separately from the debt host. The guidance also amends and simplifies the calculation of earnings per share relating to convertible instruments. This guidance is effective for annual periods beginning after December 15, 2021, including interim periods within that reporting period, excluding smaller reporting companies. Early adoption is permitted, but no earlier than fiscal years beginning after December 15, 2020, including interim periods within that reporting period, using either a full or modified retrospective approach. We are currently evaluating the impact of the provisions of this guidance on our consolidated financial statements. In December 2019, the FASB issued ASU No. 2019 - 12, Income Taxes (Topic 740 ): Simplifying the Accounting for Income Taxes . This ASU simplifies the accounting for income taxes by clarifying and amending existing guidance related to the recognition of franchise tax, the evaluation of a step up in the tax basis of goodwill, and the effects of enacted changes in tax laws or rates in the effective tax rate computation, among other clarifications. The standard will be effective for our annual reporting periods beginning after December 15, 2020, including interim reporting periods within those fiscal years. We have evaluated the effect that this guidance will have on our Consolidated Financial Statements and determined it will not have a material impact. Recently Adopted Accounting Standards In June 2016, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, 2016-13 Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments (“Topic 326”), which replaces existing incurred loss impairment guidance and establishes a single allowance framework for financial assets carried at amortized cost. We adopted Topic 326 on January 1, 2020, using a modified retrospective transition method, which requires a cumulative-effect adjustment to the opening balance of retained earnings/accumulated deficit to be recognized on the date of adoption with prior periods not restated. The adoption of Topic 326 did not have a material impact on our financial statements and our bad debt expense was immaterial as of December 31, 2020. NOTE 4. FINANCIAL INSTRUMENTS Fair Value of Financial Instruments The fair value hierarchy established under U.S. GAAP requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The three levels of inputs that may be used to measure fair value are as follows:  Level 1: quoted prices in active markets for identical assets or liabilities;  Level 2: inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices in active markets for similar assets or liabilities, quoted prices for identical or similar assets or liabilities 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; and  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. We consider an active market as one in which transactions for the asset or liability occurs with sufficient frequency and volume to provide pricing information on an ongoing basis. Conversely, we view an inactive market as one in which there are few transactions for the asset or liability, the prices are not current, or price quotations vary substantially either over time or among market makers. Where appropriate, our non-performance risk, or that of our counterparty, is considered in determining the fair values of liabilities and assets, respectively. We classify our cash deposits and money market funds within Level 1 of the fair value hierarchy because they are valued using bank balances or quoted market prices. We classify our investments as Level 2 instruments based on market pricing and other observable inputs. We did not classify any of our investments within Level 3 of the fair value hierarchy. Assets and liabilities measured at fair value are classified in their entirety based on the lowest level input that is significant to the fair value measurement. Our assessment of the significance of a particular input to the entire fair value measurement requires management to make judgments and consider factors specific to the asset or liability. The carrying amount of our accounts receivable, prepaid expenses, other current assets, accounts payable, accrued expenses and other liabilities, current, approximate fair value due to their short maturities. Assets and Liabilities Measured at Fair Value on a Recurring Basis The following table sets forth the fair value of our financial assets and liabilities that were measured on a recurring basis as of December 31, 2020 and 2019, respectively (in thousands): 59 December 31, 2020 December 31, 2019 (in thousands) Level 1 Level 2 Level 3 Total Level 1 Level 2 Level 3 Total Assets Cash and cash equivalents: Cash and money market funds $ 43,040 $ — $ — $ 43,040 $ 18,644 $ — $ — $ 18,644 Commercial paper — 32,537 — 32,537 — 10,983 — 10,983 U.S. government & agency securities — 170 — 170 — — — — U.S. Treasury security — 5,864 — 5,864 — — — — Total cash and cash equivalents 43,040 38,571 — 81,611 18,644 10,983 — 29,627 Investments: Commercial paper — 112,644 — 112,644 — 16,971 — 16,971 Corporate debt securities — 17,456 — 17,456 — 2,501 — 2,501 U.S. government & agency securities — 107,103 — 107,103 — — — — Total investments — 237,203 — 237,203 — 19,472 — 19,472 Short-term restricted cash: Cash 836 — — 836 300 — — 300 Long-term restricted cash: Cash 3,500 — — 3,500 4,000 — — 4,000 Total assets measured at fair value $ 47,376 $ 275,774 $ — $ 323,150 $ 22,944 $ 30,455 $ — $ 53,399 Liabilities Financing Derivative $ — $ — $ — $ — $ — $ — $ — $ — Continuation Advances — — — — — — — — Total liabilities measured at fair value $ — $ — $ — $ — $ — $ — $ — $ — Estimated fair value of the Financing Derivative liability The estimated fair value of the Financing Derivative liability (as defined in the “Notes payable, current” section in “Note 5. Balance Sheet Components”) was determined using Level 3 inputs, or significant unobservable inputs. Changes to the estimated fair value of the Financing Derivative are recorded in “Other income, net” in the consolidated statements of operations and comprehensive loss. The estimated fair value of the Financing Derivative was determined by comparing the difference between the fair value of the promissory notes from the debt facility that we entered into during the first quarter of 2013 with and without the Financing Derivative by calculating the respective present values from future cash flows using a 6.5 % discount rate at December 31, 2019. The estimated fair value of the Financing Derivative as of December 31, 2019 was $ 0 . In February 2020, upon maturity of the promissory notes , the Financing Derivative was extinguished. Refer to the “Notes payable, current” section in “Note 5. Balance Sheet Components” for a detailed description and valuation approach. Estimated fair value of the Continuation Advances liability In accordance with the terms of the Merger Agreement, we received Continuation Advances of $ 34.0 million and $ 18.0 million from Illumina during the year ended December 31, 2020 and 2019, respectively. We determined that the Continuation Advances, which are subject to repayment under certain circumstances as discussed below, constitute a financial liability. The fair value option was elected for the financial liability because management believes that among all measurement methods allowed by Accounting Standards Codification, or ASC, 825, Financial Instruments , the fair value option would most fairly represent the value of such a financial liability. Management applied the income approach to estimate the fair value of this financial liability. The estimated fair value of the liability related to the Continuation Advances was determined using Level 3 inputs, or significant unobservable inputs. Management estimated that there would be no future cash outflows associated with this financial instrument because the probabilities of either of the following events occurring and requiring repayment to Illumina were evaluated as being remote as of December 31, 2020 and December 31, 2019:  we enter into a Change of Control Transaction within two years following March 31, 2020; or  we raise $ 100 million or more in a single equity or debt financing (that may have multiple closings) within two years following March 31, 2020. 60 As a result, the estimated fair value of the liability associated with the contingent repayment of the Continuation Advances received was assessed to be zero as of December 31, 2020 and 2019, respectively, with a resulting non-operating gain of $ 34.0 million and $ 18.0 million recorded as “Gain from Continuation Advances from Illumina” for the year ended December 31, 2020 and 2019, respectively. For the year ended December 31, 2020, there were no transfers between Level 1, Level 2, or Level 3 assets or liabilities reported at fair value on a recurring basis and our valuation techniques did not change compared to the prior year. Cash, Cash Equivalents and Investments The following table summarizes our cash, cash equivalents and investments as of December 31, 2020 and 2019 (in thousands): As of December 31, 2020 Gross Gross Amortized unrealized unrealized Fair Cost gains losses Value Cash and cash equivalents: Cash and money market funds $ 43,040 $ — $ — $ 43,040 Commercial paper 32,538 — ( 1 ) 32,537 U.S. government & agency securities 170 — — 170 U.S. Treasury security 5,864 — — 5,864 Total cash and cash equivalents 81,612 — ( 1 ) 81,611 Investments: Commercial paper 112,648 4 ( 8 ) 112,644 Corporate debt securities 17,360 96 — 17,456 U.S. government & agency securities 107,109 6 ( 12 ) 107,103 Total investments 237,117 106 ( 20 ) 237,203 Total cash, cash equivalents and investments $ 318,729 $ 106 $ ( 21 ) $ 318,814 Short-term restricted cash: Cash $ 836 $ — $ — $ 836 Long-term restricted cash: Cash $ 3,500 $ — $ — $ 3,500 As of December 31, 2019 Gross Gross Amortized unrealized unrealized Fair Cost gains losses Value Cash and cash equivalents: Cash and money market funds $ 18,644 $ — $ — $ 18,644 Commercial paper 10,983 — — 10,983 Total cash and cash equivalents 29,627 — — 29,627 Investments: Commercial paper 16,971 1 ( 1 ) 16,971 Corporate debt securities 2,496 5 — 2,501 Total investments 19,467 6 ( 1 ) 19,472 Total cash, cash equivalents and investments $ 49,094 $ 6 $ ( 1 ) $ 49,099 Short-term restricted cash: Cash $ 300 $ — $ — $ 300 Long-term restricted cash: Cash $ 4,000 $ — $ — $ 4,000 The following table summarizes the contractual maturities of our cash equivalents and available-for-sale investments, excluding money market funds, as of December 31, 2020: 61 Fair Value Due in one year or less $ 255,207 Due after one year through 5 years 20,567 Total investments $ 275,774 Our marketable debt investments are classified as current based on the nature of the investments and their availability for use in current operations. Actual maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations without call or prepayment penalties. 62 NOTE 5. BALANCE SHEET COMPONENTS Inventory As of December 31, 2020 and 2019, our inventory consisted of the following components: December 31, December 31, (in thousands) 2020 2019 Purchased materials $ 3,531 $ 3,966 Work in process 6,651 4,594 Finished goods 4,048 4,752 Inventory $ 14,230 $ 13,312 Property and Equipment, Net As of December 31, 2020 and 2019, our property and equipment, net, consisted of the following components: December 31, (in thousands) 2020 2019 Laboratory equipment and machinery $ 24,948 $ 25,173 Leasehold improvements 29,931 29,902 Computer equipment 12,400 11,851 Software 4,940 4,747 Furniture and fixtures 2,434 2,422 Construction in progress 137 193 74,790 74,288 Less: Accumulated depreciation ( 49,891 ) ( 44,218 ) Property and equipment, net $ 24,899 $ 30,070 Depreciation expense during the years ended December 31, 2020, 2019 and 2018 was $ 6.4 million, $ 7.3 million and $ 7.2 million, respectively. Accrued Expenses As of December 31, 2020 and 2019, our accrued expenses consisted of the following components: December 31, (in thousands) 2020 2019 Salaries and benefits $ 15,261 $ 9,748 Accrued product development costs 415 67 Accrued Tenant Improvements for Menlo Park building — 998 Inventory accrual 218 229 Accrued professional services and legal fees 726 943 Other 730 1,257 Accrued expenses $ 17,350 $ 13,242 Deferred Revenue As of December 31, 2020, we had a total of $ 10.3 million of deferred revenue from our service contracts, $ 8.7 million of which was recorded as “Deferred revenue, current” to be recognized over the next year and the remaining $ 1.6 million was recorded as “Deferred revenue, non-current” to be recognized in the next 3 years. Revenue recorded in the year ended December 31, 2020 includes $ 7.6 million, respectively, of previously deferred revenue that was included in “Deferred revenue, current” as of December 31, 2019. Contract assets as of December 31, 2020 and December 31, 2019 were not material. As of December 31, 2020, we had a total of $ 0.7 million of deferred commissions included in “Prepaid expenses and other current assets” which is recognized as the related revenue is recognized. Additionally, as a practical expedient, we expense costs to obtain a contract as incurred if the amortization period would have been a year or less. 63 Notes payable, current As of December 31, 2019, a balance of $ 16.0 million aggregate principal amount of debt remained outstanding under the debt agreement with Deerfield entered into in February 2013 and was presented as “Notes payable, current” on the consolidated balance sheet as of December 31, 2019. In February 2020, upon the maturity of the debt agreement, we repaid the remaining outstanding principal of $ 16.0 million and interest. Financing Derivative A number of features embedded in the promissory notes required accounting for them as a derivative, including the indemnification of certain withholding taxes and the acceleration of debt upon (i) a qualified financing, (ii) an event of default, (iii) a Major Transaction (as such term is defined in the Facility Agreement), and (iv) the exercise of the warrant via offset to the debt principal. These features represent a single derivative (the “Financing Derivative”) that was bifurcated from the debt instrument and accounted for as a liability at fair value, with changes in fair value between reporting periods recorded in other income (expense), net. The estimated fair value of the Financing Derivative was determined by comparing the difference between the fair value of the promissory notes with and without the Financing Derivative by calculating the respective present values from future cash flows using a 6.5 % discount rate at December 31, 2019. The estimated fair value of the Financing Derivative as of December 31, 2019 was $ 0 . In February 2020, after we repaid the remaining outstanding principal of $ 16.0 million and interest to Deerfield, the related Financing Derivative expired. Other liabilities, current As of December 31, 2020 and 2019, our Other liabilities, current consisted of the following components: December 31, (in thousands) 2020 2019 Accrued ESPP $ 2,037 $ — Other 2,482 225 Other liabilities, current $ 4,519 $ 225 Pursuant to the terms of the then-in-process Merger Agreement with Illumina, offerings under our 2010 ESPP were suspended after the completion of the purchase period ended March 1, 2019, resulting in the balance for “Accrued ESPP” being $ 0 as of December 31, 2019. After the merger with Illumina was terminated in January 2020, we began offerings under the ESPP again starting with the offering period beginning March 1, 2020. NOTE 6. COMMITMENTS AND CONTINGENCIES Lease In July 2015 we entered into a lease agreement with respect to our facility located at 1305 O’Brien Drive, Menlo Park, California. The term of the O’Brien Lease is one hundred thirty-two ( 132 ) months. In December 2016, we entered into an amendment to the O’Brien Lease which defined the commencement date of the lease to be October 25, 2016, notwithstanding that such substantial completion did not occur until the first quarter of 2017. Base monthly rent was abated for the first six (6) months of the lease term and thereafter was $ 540,000 per month during the first year of the lease term, with specified annual increases thereafter until reaching $ 711,000 per month during the last twelve (12) months of the lease term. If the rent is not received within five days of the due date, there will be an additional sum equal to 5 % of the amount overdue as a late charge. Any amount not paid within 10 days after receipt of landlord’s written notice will bear interest from the date due until paid, at the lesser rate of (1) the prime rate of interest as published in the Wall Street Journal, plus 2 % or (2) the maximum rate allowed by law, in addition to the late payment charge. We were required to establish a letter of credit for the benefits of the landlord and to submit $ 4.5 million as a deposit for the letter of credit in October 2015. Subsequently pursuant to the terms of the O’Brien Lease, on May 1, 2019 the $ 4.5 million in restricted cash was reduced to $ 4.0 million and on May 1, 2020 the $ 4.0 million in restricted cash was reduced to $ 3.5 million. All of our leases are operating leases. Lease payments comprise the base rent per the term of the Lease. Lease expense for these leases is recognized on a straight-line basis over the lease term, with variable lease payments, such as common area maintenance fees, recognized in the period those payments are incurred. We often have options to renew lease terms for buildings. For the O’Brien Lease, the renewal option is 5 years and the rent will be based on fair market value at the time of renewal and was not included in the lease term. In addition, certain lease arrangements may be terminated prior to their original expiration date at our discretion. We evaluate renewal and termination options at the lease commencement date to determine if we are reasonably certain to exercise the option on the basis of economic factors. The weighted average remaining lease term for our operating leases as of December 31, 2020 was 6.8 years. 64 The discount rate implicit within our leases is generally not determinable and therefore we determine the discount rate based on our incremental borrowing rate. The incremental borrowing rate for our leases is determined based on lease term and currency in which lease payments are made, adjusted for impacts of collateral. The weighted average discount rate used to measure our operating lease liabilities as of December 31, 2020 was 7.9 %. The following table presents information as to the amount and timing of cash flows arising from our operating leases as of December 31, 2020: Maturity of Lease Liabilities Amount Years ending December 31, (in thousands) 2021 $ 7,330 2022 7,502 2023 7,704 2024 7,920 2025 8,136 Thereafter 15,462 Total undiscounted operating lease payments 54,054 Less: imputed interest ( 12,055 ) Present value of operating lease liabilities 41,999 Balance Sheet Classification Operating lease liabilities, current 4,332 Operating lease liabilities, non-current 37,667 Total operating lease liabilities 41,999 Cash Flows Cash paid for amounts included in the present value of operating lease liabilities was $ 7.2 million and $ 7.0 million for the year ended December 31, 2020 and 2019, respectively and were included in operating cash flow. Operating Lease Costs Operating lease costs were $ 6.2 million and $ 6.2 million for the year ended December 31, 2020 and 2019, respectively. For both 2020 and 2019 the operating lease costs primarily related to our operating leases, but also included immaterial amounts for variable leases. Contingencies We may become involved in legal proceedings, claims and assessments from time to time in the ordinary course of business. We accrue liabilities for such matters when it is probable that future expenditures will be made and such expenditures can be reasonably estimated. Legal U.S. District Court Proceedings On March 15, 2017, we filed a complaint in the U.S. District Court for the District of Delaware against ONT Inc. for patent infringement (C.A. No. 17-cv-275 (“275 Action”)). The complaint is based on our U.S. Patent No. 9,546,400 (the “’400 Patent”) which covers novel methods for nanopore sequencing of nucleic acid molecules using the signals from multiple monomeric units. We are seeking remedies including injunctive relief, damages and costs. On August 23, 2018, we filed an amended complaint, adding allegations of willful infringement and adding ONT Ltd. as a defendant in the 275 Action, which was granted on August 15, 2019. On September 25, 2017, we filed a second complaint in the U.S. District Court for the District of Delaware against ONT Inc. for patent infringement (C.A. No. 17-cv-1353 (“1353 Action”)). The complaint is based on our U.S. Patent No. 9,678,056 (the “’056 Patent”) and U.S. Patent No. 9,738,929. We are seeking remedies including injunctive relief, damages and costs. On March 28, 2018, we added a claim for infringement of our U.S. Patent No. 9,772,323 (the “’323 Patent”). On August 23, 2018 we filed an amended complaint, adding allegations of willful infringement and adding ONT Ltd. as a defendant in the 1353 Action, which was granted on August 15, 2019. A trial for the U.S. District Court matters was held from March 9 through March 18, 2020. The jury determined that ONT Inc. and ONT Ltd. infringed the ‘056 Patent, the ‘400 Patent, and the ‘323 Patent, but the jury declined to find these patents valid based on enablement and, in the case of claim one of the ’056 Patent, written description and indefiniteness. The jury declined to find valid or infringed U.S. Patent No. 9,738,929. We are pursuing an appeal of the decision at the U.S. Court of Appeals for the Federal Circuit. 65 Unrelated to the preceding matters, on September 26, 2019, Personal Genomics of Taiwan, Inc. (“PGI”) filed a complaint in the U.S. District Court for the District of Delaware against us for patent infringement (C.A. No. 19-cv-1810). The matter from this complaint (the “PGI District Court matter”) is based on PGI’s U.S. Patent No. 7,767,441 (the “‘441 Patent”). We plan to vigorously defend in this matter. On November 20, 2019, we filed our answer to the complaint, denying infringement and seeking a declaratory judgement of invalidity of the ‘441 Patent. On June 22, 2020, we filed a petition requesting institution of an inter-partes review (IPR) to the Patent Trial and Appeals Board (the “Board”) at the United States Patent Office requesting the Board to find a set of claims in the ‘441 invalid. On June 27, 2020, we filed a second petition requesting institution of an IPR requesting the Board to find another set of claims in the ‘441 invalid. The two petitions (the “PacBio IPR Petitions”) requesting IPRs assert that all of the claims relevant to the PGI complaint are invalid. On January 19, 2021, the Board ordered that both PacBio IPR Petitions are instituted on all grounds presented. On August 19, 2020, the court ordered a stay of the PGI District Court matter based on a joint stipulation by the parties. With the institution of the PacBio IPR Petitions described above, pursuant to the joint stipulation, the matter is now stayed pending a final written decision on the IPRs. Proceedings in China On May 12, 2020, PGI filed a complaint in the Wuhan Intermediate People’s Court in China alleging infringement of one or more claims of China patent No. CN101743321B (the “CN321” Patent”), which is related to the ‘441 Patent. We were served on January 20, 2021 and plan to vigorously defend in this matter. On November 23, 2020 we filed an Invalidation Petition at the China National Intellectual Property Administration (CNIPA) demonstrating the invalidity of the claims in the CN321 Patent on grounds of insufficient disclosure, and the lack of support, essential technical features, clarity, novelty, and inventiveness. Other Proceedings From time to time, we may also be involved in a variety of other claims, lawsuits, investigations and proceedings relating to securities laws, product liability, patent infringement, contract disputes, employment and other matters that arise in the normal course of our business. In addition, third parties may, from time to time, assert claims against us in the form of letters and other communications. We record a provision for contingent losses when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. We currently do not believe that the ultimate outcome of any of the matters described above is probable or reasonably estimable, or that these matters will have a material adverse effect on our business; however, the results of litigation and claims are inherently unpredictable. Regardless of the outcome, litigation can have an adverse impact on us because of litigation and settlement costs, diversion of management resources and other factors. Indemnification Pursuant to Delaware law and agreements entered into with each of our directors and officers, we may have obligations, under certain circumstances, to hold harmless and indemnify each of our directors and officers against losses suffered or incurred by the indemnified party in connection with their service to us, and judgements, fines, settlements and expenses related to claims arising against such directors and officers to the fullest extent permitted under Delaware law, our bylaws and certificate of incorporation. We also enter and have entered into indemnification agreements with our directors and officers that may require us to indemnify them against liabilities that arise by reason of their status or service as directors or officers, except as prohibited by applicable law. In addition, we may have obligations to hold harmless and indemnify third parties involved with our fundraising efforts and their respective affiliates, directors, officers, employees, agents or other representatives against any and all losses, claims, damages and liabilities related to claims arising against such parties pursuant to the terms of agreements entered into between such third parties and us in connection with such fundraising efforts. To the extent that any such indemnification obligations apply to the lawsuits described above, any associated expenses incurred are included within the related accrued litigation expense amounts. No additional liability associated with such indemnification obligations has been recorded as of December 31, 2020. 66 NOTE 7. INCOME TAXES We are subject to income taxes in the United States and certain states in which we operate, and we use estimates in determining our provisions for income taxes. Significant management judgement is required in determining our provision for income taxes, deferred tax assets and liabilities and valuation allowances recorded against net deferred tax assets in accordance with U.S. GAAP. These estimates and judgements occur in the calculation of tax credits, benefits, and deductions, and in the calculation of certain tax assets and liabilities, which arise from differences in the timing of recognition of revenue and expense for tax and financial statement purposes, as well as the interest and penalties related to uncertain tax positions. Significant changes to these estimates may result in an increase or decrease to our tax provision in the current or subsequent period. We assess 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% likely of being realized upon ultimate settlement. As of each balance sheet date, unresolved uncertain tax positions must be reassessed, and we will determine whether the factors underlying the sustainability assertion have changed and the amount of the recognized tax benefit is still appropriate. We account for Global Intangible Low-taxed Income as a period cost. During the years ended December 31, 2020, 2019 and 2018 income (loss) before taxes from U.S. operations were $ 28.9 million, ($ 84.8 ) million and ($ 103.1 ) million, respectively, and income before taxes from foreign operations was $ 0.6 million, $ 0.9 million and $ 0.8 million, respectively. Income tax provision (benefit) related to continuing operations differ from the amounts computed by applying the statutory income tax rate of 21 % to pretax income or loss as follows: Years ended December 31, 2020 2019 2018 Statutory tax rate 21.0 % 21.0 % 21.0 % State tax rate, net of federal benefit ( 8.3 ) 4.9 3.5 Stock-based compensation ( 15.2 ) ( 0.8 ) ( 1.6 ) Tax credits ( 3.6 ) 2.2 2.0 Other ( 0.2 ) 0.2 ( 0.1 ) Change in valuation allowance 6.3 ( 27.5 ) ( 24.8 ) Total - % - % - % Deferred income taxes reflect the net tax effects of loss and credit carry forwards and temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of our deferred tax assets for federal and state income taxes are as follows (in thousands): December 31, Deferred tax assets: 2020 2019 Net operating loss carryforwards $ 233,225 $ 226,911 Research and development credits 49,179 45,853 Accruals and reserves 6,337 8,024 Stock-based compensation 9,717 16,219 ASC842 Operating lease liability 9,870 10,837 Total deferred tax assets 308,328 307,844 Less: Valuation allowance ( 300,505 ) ( 298,658 ) Total deferred tax assets: 7,823 9,186 Fixed assets ( 786 ) ( 1,425 ) ASC842 Operating lease right-of-use assets ( 7,037 ) ( 7,761 ) Total deferred tax liabilities ( 7,823 ) ( 9,186 ) Net deferred tax assets $ — $ — At December 31, 2020, we maintained a full valuation allowance against all of our deferred tax assets which totaled $ 300.5 million, including net operating loss carryforwards and research and development credits of $ 233.2 million and $ 49.2 million, respectively. 67 Due to uncertainties surrounding the realization of deferred tax assets through future taxable income, we have provided a full valuation allowance and, therefore, have not recognized any benefits from net operating losses and other deferred tax assets. A valuation allowance is recorded when it is more likely than not that all or some portion of the deferred income tax assets will not be realized. We regularly assess the need for a valuation allowance against our deferred income tax assets by considering both positive and negative evidence related to whether it is more likely than not that our deferred income tax assets will be realized. In evaluating our ability to recover our deferred income tax assets within the jurisdiction from which they arise, we consider all available positive and negative evidence, including scheduled reversals of deferred income tax liabilities, projected future taxable income, tax-planning strategies, and results of recent operations. Accordingly, we have provided a full valuation allowance against our net deferred tax assets as of December 31, 2020 and 2019, respectively. For the year ended December 31, 2020, our valuation allowance increased to $ 300.5 million, primarily because of an increase in our net operating losses and tax credits offset by a decrease to our stock-based compensation deferred tax asset. For the year ended December 31, 2019, our valuation allowance increased to $ 298.7 million, primarily because of an increase to our net operating losses, tax credits and changes in book to tax timing differences. As of December 31, 2020, we had a net operating loss carryforward for federal income tax purposes of approximately $ 913.9 million, $ 755.9 million of which will begin to expire after 2024 and through 2037 , and $ 158.0 million of which do not expire. We had a total state net operating loss carryforward of approximately $ 634.3 million, which have expiration dates of 2025 and beyond. Utilization of some of the federal and state net operating loss and credit carryforwards are subject to annual limitations due to the “change of ownership” provisions of the Internal Revenue Code of 1986 and similar state provisions. The annual limitations may result in the expiration of net operating losses and credits before utilization. We have federal credits of approximately $ 30.7 million, which will begin to expire in 2024 if not utilized and state research credits of approximately $ 30.1 million which have no expiration date. These tax credits are subject to the same limitations discussed above. As of December 31, 2020, our total unrecognized tax benefit was $ 6.0 million. A reconciliation of the beginning and ending unrecognized tax benefit balance is as follows (in thousands): Balance as of December 31, 2017 $ 18,786 Decrease in balance related to tax positions taken in prior year — Increase in balance related to tax positions taken during current year 1,661 Balance as of December 31, 2018 $ 20,447 Decrease in balance related to tax positions taken in prior year — Increase in balance related to tax positions taken during current year 1,532 Balance as of December 31, 2019 $ 21,979 Decrease in balance related to tax positions taken in prior year ( 17,255 ) Increase in balance related to tax positions taken during current year 1,230 Balance as of December 31, 2020 $ 5,954 Decrease in balance related to tax positions taken in prior years of $ 17.3 million in 2020 relates to the fact that we completed a research and development credit study in 2020 and adjusted our associated uncertain tax position accordingly for the 2004-2019 tax years. Our practice is to recognize interest and/or penalties related to income tax matters in income tax expense. As of both December 31, 2020 and 2019, we had no accrued interest or penalties due to our net operating losses available to offset any tax adjustment. If total unrecognized tax benefits were realized in the future, it would not result in any tax benefit as we currently have a full valuation allowance. We file U.S. federal and various state income tax returns. For U.S. federal and state income tax purposes, the statute of limitations currently remains open for the years ending December 31, 2017 to present and December 31, 2016 to present, respectively. In addition, all of the net operating losses and research and development credit carryforwards that may be utilized in future years may be subject to examination. We are not currently under examination by income tax authorities in any jurisdiction. In response to the COVID-19 pandemic, the Coronavirus Aid, Relief and Economic Securities Act (CARES Act) was signed into law in the US in March 2020. The CARES Act adjusted a number of provisions in the tax code, including the calculation and eligibility of certain deductions and the treatment of net operating losses and tax credits. The enactment of the CARES Act did not result in any material adjustments to our income tax provision for the year ended December 31, 2020, or to our net deferred tax assets as of December 31, 2020. California Assembly Bill 85 (AB 85) was signed into law in June 2020. The legislation suspends the use of California Net Operating Loss deductions for 2020, 2021, and 2022 for certain taxpayers and imposes a limitation on the use of certain California Tax Credits for 2020, 2021, and 2022. The carryover periods for Net Operating Loss deductions disallowed by this provision will be extended. Given the Company’s net operating loss position in the current year, the new legislation will not impact the current year provision. The Company will continue to monitor possible California net operating loss and credit limitations in future periods. 68 NOTE 8. STOCKHOLDERS’ EQUITY Preferred Stock Our Certificate of Incorporation, as amended and restated in October 2010 in connection with the closing of our initial public offering, authorizes us to issue 1,000,000,000 shares of $ 0.001 par value common stock and 50,000,000 shares of $ 0.001 par value preferred stock. As of December 31, 2020 and 2019, there were no shares of preferred stock issued or outstanding. Common Stock Common stockholders are entitled to dividends when and if declared by our board of directors. There have been no dividends declared to date. The holder of each share of common stock is entitled to one vote. Underwritten Public Equity Offerings In August 2020, we entered into an underwriting agreement, relating to the public offering of 19,430,000 shares of our common stock, $ 0.001 par value per share, at a price to the public of $ 4.47 per share. Under the terms of the underwriting agreement, we also granted the underwriters a 30 -day option to purchase up to an additional 2,914,500 shares of our common stock, which was subsequently exercised in full, and the offering including the sale of shares of common stock subject to the underwriters’ option, closed in August 2020. In total, we sold 22.3 million shares of our common stock. We paid a commission equal to 6 % of the gross proceeds from the sale of shares of our common stock. The total net proceeds to us from the offering after deducting the underwriting discount were approximately $ 93.9 million, excluding approximately $ 0.3 million of offering expenses. In November 2020, we entered into an underwriting agreement, relating to the public offering of 6,096,112 shares of our common stock, $ 0.001 par value per share, at a price to the public of $ 14.25 per share. Under the terms of the underwriting agreement, we also granted the underwriters a 30 -day option to purchase up to an additional 914,416 shares of our common stock, which was subsequently exercised in full, and the offering including the sale of shares of common stock subject to the underwriters’ option, closed in November 2020. In total, we sold 7.0 million shares of our common stock. We paid a commission equal to 6 % of the gross proceeds from the sale of shares of our common stock. The total net proceeds to us from the offering after deducting the underwriting discount were approximately $ 93.9 million, excluding approximately $ 0.3 million of offering expenses. In total, for the year ended December 31, 2020, we issued 29.4 million shares of our common stock through our two underwritten public offerings with an average offering price of $ 6.40 . The total net proceeds to us from the two offerings, after deducting the underwriting commission and offering expenses, were approximately $ 187.2 million. For the year ended December 31, 2018, we issued 30.6 million shares of our common stock through our two underwritten public offerings with an average offering price of $ 3.38 per share. The total net proceeds to us from the two offerings, after deducting the underwriting commissions and offering expenses, were approximately $ 97.5 million. Equity Plans As of December 31, 2019, we had two active equity plans: 1) the 2010 Equity Incentive Plan (the “2010 Plan”) and 2) the 2010 Outside Director Equity Incentive Plan (the “2010 Director Plan”), both of which we adopted upon the effectiveness of our initial public offering in October 2010. Pursuant to the terms of the then-in-process Merger Agreement with Illumina, offerings under our 2010 ESPP were suspended after the completion of the purchase period ended March 1, 2019. After the merger with Illumina was terminated in January 2020, we began offerings under the ESPP again starting with the offering period beginning March 1, 2020. As of June 30, 2020, in total, we had three active equity compensation plans: the 2010 Plan, the 2010 Director Plan and the 2010 ESPP. On July 29, 2020 our 2010 Plan and 2010 Director Plan expired. On August 4, 2020, stockholders approved our new 2020 Equity Incentive Plan (the “2020 plan”) and reserved 11,000,000 shares of the Company’s common stock for issuance pursuant to equity awards granted under the 2020 plan. On December 2, 2020, the Board of Directors (the “Board”) adopted the 2020 Inducement Equity Incentive Plan (the “Inducement Plan”) and reserved 2,500,000 shares of the Company’s common stock for issuance pursuant to equity awards granted under the Inducement Plan. 2020 Equity Incentive Plan 69 Under the 2020 Plan, with the approval of the Compensation Committee of the Board of Directors, we may grant equity-based awards, including non-statutory stock options, restricted stock units (“RSUs”), restricted stock, stock appreciation rights, performance shares and performance units. Stock options granted under the 2020 Plan may be either incentive stock options (“ I SOs”) within the meaning of Internal Revenue code Section 422 or non-qualified stock options (“NSOs”). Stock options under the 2020 Plan may be granted with a term of up to ten years and at prices no less than the fair market value of our common stock on the date of grant. To date, stock options granted to existing employees generally vest over four years on a monthly basis and stock options granted to new employee vest at a rate of 25 % upon the first anniversary of the vesting commencement date and 1/48th per month thereafter, in each case, subject to continued service with us through the applicable vesting dates. Inducement Plan Under the Inducement Plan, with the approval of the Compensation Committee of the Board of Directors, we may grant equity-based awards, including non-statutory stock options, restricted stock units, restricted stock, stock appreciation rights, performance shares and performance units, and its terms are substantially similar to the 2020 Plan, including with respect to treatment of equity awards in the event of a “merger” or “change in control” as defined under the Inducement Plan, but with such other terms and conditions intended to comply with the NASDAQ Inducement Award exception. In accordance with Rule 5635(c)(4) of the NASDAQ Listing Rules, awards under the Inducement Plan may only be made to individuals not previously employees or non-employee directors of the Company (or following such individuals’ bona fide period of non-employment with the Company), as an inducement material to the individuals’ entry into employment with the Company or in connection with a merger or acquisition, to the extent permitted by Rule 5635(c)(3) of the NASDAQ Listing Rules. As of December 31, 2020, we had an aggregate of 10.3 million shares remained available for future issuance under the 2020 Plan and Inducement Plan. Stock Options The following table summarizes stock option activity for all of our stock option plans for the year ended December 31, 2020 (in thousands, except per share amounts): Stock Options Outstanding Weighted Number average of shares Exercise price exercise price Balances, December 31, 2019 22,697 $ 1.16 – 16.00 $ 5.57 Options granted 2,852 2.45 – 20.9 7.20 Options exercised ( 8,078 ) 1.16 – 15.98 5.44 Options canceled ( 2,833 ) 1.16 – 16 7.82 Balances, December 31, 2020 14,638 $ 1.16 – 20.90 $ 5.53 The expired options during the year ended December 31, 2020 totaled 2.4 million with exercise prices ranging from $ 1.16 to $ 16.00 and a weighted average exercise price per share of $ 8.49 . The following table summarizes information with respect to stock options outstanding and exercisable under the plans at December 31, 2020: 70 Options Outstanding Options Exercisable Weighted average Number remaining contractual Weighted average Number Weighted average Exercise price outstanding life (Years) exercise price vested exercise price $ 0.00 – 3.67 4,254,183 5.45 $ 2.53 3,253,267 $ 2.51 $ 3.67 – 7.34 7,560,966 6.18 $ 5.68 5,396,883 $ 5.42 $ 7.34 – 11.01 2,591,433 5.78 $ 9.05 2,191,433 $ 8.95 $ 11.01 – 14.68 131,375 2.99 $ 12.49 96,375 $ 11.82 $ 14.68 – 18.35 500 0.13 $ 15.98 500 $ 15.98 $ 18.35 – 22.02 100,000 9.95 $ 20.90 — $ — $ 22.02 – 25.69 — — $ — — $ — $ 25.69 – 29.36 — — $ — — $ — $ 29.36 – 33.03 — — $ — — $ — $ 33.03 – 36.70 — — $ — — $ — 14,638,457 5.90 $ 5.53 10,938,458 $ 5.32 The aggregate intrinsic value of the outstanding and exercisable options presented in the table above totaled $ 298.8 million and $ 225.6 million, respectively. The aggregate intrinsic value represents the total pretax intrinsic value (i.e., the difference between $ 25.94 , our closing stock price on the last trading day of our fourth quarter of 2020 and the exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders had all option holders exercised their options on December 31, 2020. The aggregate intrinsic value changes at each reporting date based on the fair market value of our common stock. The weighted average remaining contractual life for exercisable options is 4.89 years. The vested and expected to vest options as of December 31, 2020 totaled 13,677,000 , with aggregate intrinsic value of $ 279.0 million, weighted average exercise price per share of $ 5.54 and weighted average remaining contractual life of 5.73 years. The total intrinsic value of stock options exercised during the years ended December 31, 2020, 2019 and 2018 was $ 63.1 million, $ 2.6 million and $ 5.3 million, respectively. The weighted-average grant-date fair value of all options granted with exercise prices equal to fair market value was $ 4.14 in 2020, $ 0 in 2019, $ 1.50 in 2018 determined by the Black-Scholes option valuation method. There were no options granted with exercise prices lower than fair market value in 2020, 2019 and 2018. Time-based RSUs Each RSU represents one equivalent share of our common stock to be awarded after satisfying the applicable continued service-based vesting criteria over a specified period. These RSUs vest over four years at a rate of 25 % annually. The fair value for these RSUs is based on the closing price of our common stock on the date of grant. We measure compensation expense for these RSUs at fair value on the date of grant and recognize the expense over the expected vesting period on a straight-line basis. The RSUs do not entitle participants to the rights of holders of common stock, such as voting rights, until the shares are issued. RSUs that are expected to vest are net of estimated future forfeitures. The following table summarizes the time-based RSUs activity for the year ended December 31, 2020 (in thousands, except per share amounts): Weighted average Number grant date of shares fair value RSUs outstanding at December 31, 2019 1,086 $ 6.12 RSUs granted 6,556 5.18 RSUs released ( 1,000 ) 6.33 RSUs forfeited ( 723 ) 4.40 Unvested RSUs outstanding at December 31, 2020 5,919 $ 5.25 For the years ended December 31, 2020, 2019 and 2018, we recognized compensation expense of $ 7.7 million, $ 4.9 and $ 0.2 million, respectively, related to time-based RSUs. Performance-based RSUs 71 Starting 2018 the Compensation Committee of the Board of Directors approved awards of RSUs with performance-based vesting under the 2010 Plan to certain employees. Each RSU represents one equivalent share of our common stock to be awarded upon vesting at the end of the performance periods, if specific performance goals set by the Compensation Committee of the Board of Directors are achieved. No RSUs with performance-based vesting will vest if the performance goals are not met. The fair value of these RSUs is based on the closing price of our common stock on the date of grant. We make a quarterly probability assessment as to whether the performance goals will be achieved. Changes in our assessment of the probability of vesting results in adjustments to stock-based compensation, which may include either a cumulative catch-up of expense or a reduction of expense depending on whether the likelihood of vesting has increased or decreased, that is recognized in the period such determination is made. The RSUs do not entitle participants to the rights of holders of common stock, such as voting rights, until the shares are issued. RSUs that are expected to vest are net of estimated future forfeitures. The following table summarizes the performance-based RSUs activity for the year ended December 31, 2020 (in thousands, except per share amounts): Weighted average Number grant date of shares fair value PSUs outstanding at December 31, 2019 138 $ 2.63 PSUs granted — — PSUs released — — PSUs forfeited ( 44 ) 2.63 Unvested PSUs outstanding at December 31, 2020 94 $ 2.63 2010 Employee Stock Purchase Plan We adopted the ESPP in October 2010. Our ESPP permits eligible employees to purchase common stock at a discount through payroll deductions during defined offering periods. Each offering period will generally consist of four purchase periods, each purchase period being approximately six months . The price at which the stock is purchased is equal to the lower of 85 % of the fair market value of the common stock at the beginning of an offering period or at the end of a purchase period. Each offering period will generally end and the shares will be purchased twice yearly on March 1 and September 1. If the stock price at the end of the purchase period is lower than the stock price at the beginning of the offering period, that offering period will then be terminated and new offering period comes to place. The ESPP provides for an annual increase to the shares available for issuance at the beginning of each calendar year equal to 2 % of the common shares then outstanding. Pursuant to the terms of the then-in-process Merger Agreement with Illumina, offerings under our 2010 ESPP were suspended after the completion of the purchase period ended March 1, 2019. After the merger with Illumina was terminated in January 2020, we began offerings under the ESPP again starting with the offering period beginning March 1, 2020. For the years ended December 31, 2020, 2019 and 2018, 834,677 shares, 1,306,329 shares and 1,674,960 shares of common stock were purchased under the ESPP, respectively. As of December 31, 2020, 5,878,770 shares of our common stock remain available for issuance under our ESPP. Stock-based Compensation Total stock-based compensation expense consists of the following (in thousands): Years Ended December 31, 2020 2019 2018 Cost of revenue $ 2,236 $ 1,857 $ 3,124 Research and development 7,061 7,699 10,076 Sales, general and administrative 8,236 6,845 9,953 Total stock-based compensation expense $ 17,533 $ 16,401 $ 23,153 As of both December 31, 2020 and 2019, $ 0.3 million of stock-based compensation cost was capitalized in inventory on our consolidated balance sheets, respectively. The tax benefit of stock-based compensation expense was immaterial for the years ended December 31, 2020, 2019 and 2018. Stock Options 72 We estimated the fair value of employee 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. For the year ended December 31, 2019, we did no t grant any stock option. For the years ended December 31, 2020, 2019 and 2018, the fair value of employee stock options was estimated using the following weighted average assumptions: Years Ended December 31, 2020 2019 2018 Expected term (years) 5.0 years — 5.2 years Expected volatility 70.7 % — 66.8 % Risk-free interest rate 0.3 % — 2.6 % Dividend yield — — — We recorded stock-based compensation expense for stock options of $ 6.2 million, $ 11.0 million and $ 15.5 million for the years ended December 31, 2020, 2019 and 2018, respectively. As of December 31, 2020, $ 9.9 million of total unrecognized compensation expense related to stock options was expected to be recognized over a weighted-average period of 3 years. Cash received from option exercises for the years ended December 31, 2020, 2019 and 2018 was $ 43.9 million, $ 5.9 million and $ 6.3 million, respectively. ESPP We estimated the fair value of shares to be issued under the ESPP using the Black-Scholes option pricing model. For the years ended December 31, 2020, 2019 and 2018, weighted average fair value at grant date for shares to be issued under the ESPP was $ 1.68 , $ 0 and $ 1.47 , respectively. For the years ended December 31, 2020, 2019 and 2018, the fair value of shares to be issued under the ESPP was estimated using the following assumptions: Years Ended December 31, 2020 2019 2018 Expected term (years) 0.5 - 2.0 — 0.5 - 2.0 Expected volatility 57 % - 71 % — 65 % - 67 % Risk-free interest rate 0.1 %- 1.0 % — 1.3 %- 2.7 % Dividend yield — — — We recorded stock-based compensation expense for ESPP of $ 3.4 million, $ 0.5 million and $ 6.8 million for the years ended December 31, 2020, 2019 and 2018, respectively. Cash received through the ESPP for the years ended December 31, 2020, 2019 and 2018 was $ 2.4 million, $ 2.7 million and $ 3.4 million, respectively. NOTE 9. NET INCOME (LOSS) PER SHARE Basic net income (loss) per share and diluted net income (loss) per share are presented for the three years presented. Basic net income (loss) per share is computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding during the period. Diluted net income (loss) per share is computed using the weighted average number of shares of common stock outstanding and potential shares assuming the dilutive effect of outstanding stock options, restricted stock units and common stock issuable pursuant to our ESPP, using the treasury stock method. The following table presents the calculation of weighted average shares of common stock used in the computations of basic and diluted net income (loss) per share amounts presented in the accompanying consolidated statements of operations and comprehensive income (loss) (in thousands, except per share amounts): 73 Years Ended December 31, 2020 2019 2018 Numerator: Net income (Loss) $ 29,403 $ ( 84,134 ) $ ( 102,562 ) Denominator: Basic Weighted average shares used in computing basic net income (loss) per share 165,187 152,527 135,094 Basic net income (loss) per share $ 0.18 $ ( 0.55 ) $ ( 0.76 ) Diluted Weighted average shares used in computing basic net income (loss) per share 165,187 152,527 135,094 Add: weighted average stock options 6,092 — — Add: weighted average restricted stock units 2,324 — — Add: weighted average common stock issuable pursuant to our ESPP 1,367 — — Weighted average shares used in computing diluted net income (loss) per share 174,970 152,527 135,094 Diluted net income (loss) per share $ 0.17 $ ( 0.55 ) $ ( 0.76 ) The following options outstanding, time-based RSUs, performance-based RSUs and ESPP shares to purchase common stock were excluded from the computation of diluted net loss per share for the periods presented because the effect of including such shares would have been antidilutive: Years Ended December 31, (in thousands) 2020 2019 2018 Options to purchase common stock 4,908 22,697 25,176 RSUs with time-based vesting 100 1,086 371 RSUs with performance-based vesting 94 138 586 Common stock issuable pursuant to our ESPP 2,890 — — NOTE 10. SEGMENT AND GEOGRAPHIC INFORMATION We are organized as, and operate in, one reportable segment: the development, manufacturing and marketing of an integrated platform for genetic analysis. Our chief operating decision-maker is our Chief Executive Officer. The Chief Executive Officer reviews financial information presented on a consolidated basis for purposes of evaluating financial performance and allocating resources, accompanied by information about revenue by geographic regions. Our assets are primarily located in the United States of America and not allocated to any specific region and we do not measure the performance of geographic regions based upon asset-based metrics. Therefore, geographic information is presented only for revenue. Revenue by geographic region is based on the ship to address on the customer order. A summary of our revenue by geographic location for the years ended December 31, 2020, 2019 and 2018 is as follows: Years Ended December 31, (in thousands) 2020 2019 2018 North America $ 37,277 $ 44,681 $ 35,598 Europe (including the Middle East and Africa) 19,065 19,600 13,958 Asia Pacific 22,551 26,610 29,070 Total $ 78,893 $ 90,891 $ 78,626 A summary of our revenue by category for the years ended December 31, 2020, 2019 and 2018 is as follows: Year Ended December 31, (in thousands) 2020 2019 2018 Instrument revenue $ 34,282 $ 45,126 $ 28,492 Consumable revenue 31,142 32,616 37,863 Product revenue 65,424 77,742 66,355 Service and other revenue 13,469 13,149 12,271 Total revenue $ 78,893 $ 90,891 $ 78,626 74 NOTE 11. SUBSEQUENT EVENTS Invitae Collaboration On January 12, 2021 we entered into a multi-year Development and Commercialization Agreement (the “Development Agreement”) with Invitae Corporation (“Invitae”), to begin development of a production-scale high-throughput sequencing platform, leveraging the power of PacBio’s highly accurate HiFi sequencing to expand Invitae’s whole genome testing capabilities. In connection with the development of the Program Products, Invitae will provide to the Company amounts equal to certain development costs incurred by the Company. Under the Development Agreement, we will be primarily responsible for conducting a development program to develop the Program Products pursuant to a schedule and budget. We will make decisions regarding the development program jointly with Invitae. The development program is expected to last approximately sixty months , but may be shorter or longer. The Program Products will be sold to Invitae as they are developed and we have the right to broadly commercialize Program Products with other customers. As a benefit of its contribution, Invitae will be entitled to preferred pricing on the Program Products if and when they are available for commercial sale. Each Program Product will have a preferential pricing period. During the initial period of preferred pricing for each Program Product, Invitae may purchase the Program Product at a substantially reduced margin until it has recouped a mutually agreed multiple of its contribution. Subsequently, for up to three years after the initial period of preferred pricing, Invitae has the right to purchase the Program Product at a higher price within a specified price range. We and Invitae may terminate the Development Agreement if the other party remains in material breach of the Development Agreement following a cure period to remedy the material breach. In addition, the Development Agreement includes certain other circumstances for termination by each party, including circumstances where Invitae may terminate for delays, IP concerns, change in control, or without cause. In certain termination circumstances, (i) we will be obligated to refund all or a portion of the development costs advanced by Invitae and/or (ii) we will owe Invitae a share of the revenue generated from the sale of the Program Products if and when they are commercialized until such time as Invitae has recouped the amounts reimbursed to us, and in certain circumstances, a mutually agreed return. We expect to incur significant development costs over the duration of the collaboration agreement in 2021. We are still evaluating the accounting impact of the agreement, including whether the funding received by the Company from Invitae represents discounts toward future supplies, funding of development efforts, or a combination of both. There can be no assurances that the development program will be successful or that the Program Platform will become ready for commercial sale. Issuance and Sale of 1.50% Convertible Senior Notes due February 15, 2028 On February 9, 2021, we entered into an investment agreement (the “Investment Agreement”) with SB Northstar LP (the “Purchaser”), a subsidiary of SoftBank Group Corp., relating to the issuance and sale to the Purchaser of $ 900 million in aggregate principal amount of the Company’s 1.50 % Convertible Senior Notes due February 15, 2028 (the “Notes”). The Notes were issued on February 16, 2021. Issuance of Convertible Notes The Notes are expected to be governed by an indenture (the “Indenture”) between the Company and U.S. Bank National Association, as trustee (the “Trustee”). The Notes will bear interest at a rate of 1.50 % per annum. Interest on the Notes is payable semi-annually in arrears on February 15 and August 15 commencing on August 15, 2021. The Notes will mature on February 15, 2028 , subject to earlier conversion, redemption or repurchase. The Notes are convertible at the option of the holder at any time until the second scheduled trading day prior to the maturity date, including in connection with a redemption by the Company. The Notes will be convertible into shares of the Company’s common stock based on an initial conversion rate of 22.9885 shares of common stock per $ 1,000 principal amount of the Notes (which is equal to an initial conversion price of $ 43.50 per share), in each case subject to customary anti-dilution and other adjustments as a result of certain extraordinary transactions. On or after February 20, 2026, the Notes will be redeemable by the Company in the event that the closing sale price of the Company’s common stock has been at least 150 % of the conversion price then in effect for at least 20 trading days (whether or not consecutive) during any 30 consecutive trading day period (including the last trading day of such period) ending on, and including, the trading day immediately preceding the date on which the Company provides the redemption notice at a redemption price of 100 % of the principal amount of such Notes, plus accrued and unpaid interest to, but excluding, the redemption date. With certain exceptions, upon a change of control of the Company or the failure of the Company’s common stock to be listed on certain stock exchanges (a “Fundamental Change”), the holders of the Notes may require that the Company repurchase all or part of the principal amount of the Notes at a purchase price of par plus unpaid interest to, but excluding, the maturity date. The Indenture will include customary “events of default,” which may result in the acceleration of the maturity of the Notes under the Indenture. The Indenture will also include customary covenants for convertible notes of this type. Standstill Obligations 75 Pursuant to the Investment Agreement, the Purchaser has agreed, subject to certain exceptions, that from the Closing and until the earliest of (i) the three year anniversary of the Closing, (ii) the effective date of a change of control of the Company and (iii) 90 days after the date on which none of the members of the Purchaser or its affiliates beneficially own any Notes or shares of the Company’s common stock received upon conversion of the Notes (the “Standstill Period”), the Purchaser will not, among other things: (i) make, or in any way participate in any “proxy contest” or other solicitation of proxies, (ii) form, join, influence or in any way participate in a voting trust or similar arrangement, (iii) acquire any securities of the Company if, immediately after such acquisition, the Purchaser or its affiliates would collectively own in the aggregate more than 19.99 % of the then outstanding voting securities of the Company, (iv) sell, transfer or otherwise dispose of any voting securities of the Company to any person who is (or will become upon consummation of such sale, transfer or other disposition) a beneficial owner of 10 % or more of the outstanding voting securities of the Company, (v) propose or seek to effect any tender or exchange offer, merger or other business combination involving the Company, or make any public statement with respect to such transaction, (vi) call or seek to call any meeting of stockholders or other referendum or consent solicitation, or (vii) take action to control or influence the Board of Directors or management of the Company. Transfer Restrictions; Registration Rights The Investment Agreement restricts the Purchaser’s ability to transfer the Notes and the Company’s common stock issuable or issued upon conversion of the Notes and enter into any hedging or other agreement that transfers the economic consequences of ownership of the Notes or the Company’s common stock issuable or issued upon conversion of the Notes, subject to certain exceptions specified in the Investment Agreement and summarized below. Except as described below, prior to the earlier of (i) the one year anniversary of the Closing or (ii) immediately prior to the consummation of a change of control of the Company, the Purchaser will be restricted from transferring or entering into any hedging or other agreement that transfers the economic consequences of ownership of the Notes or the Company’s common stock issuable or issued upon conversion of the Notes. Exceptions include: (A) transfers to affiliates, (B) transfers to the Company or any of its subsidiaries, (C) transfers to a third party where the net proceeds of such sale are solely used to satisfy a margin call or repay a permitted loan or (D) transfers in connection with certain merger and acquisition events. Subject to certain limitations, the Investment Agreement provides the Purchaser and any lender of a permitted loan to the Purchaser or its affiliates with certain registration rights for the shares of the Company’s common stock issuable or issued upon conversion of the Notes. 76 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None