What changed in this filing

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Item 2. Management’s Discussion and Analysis

2023-11-03 compared with 2023-08-04 · 135 added, 115 removed, 154 unchanged (62% of the section changed)

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Our customers include academic and governmental research institutions, commercial testing and service laboratories, genome centers, public health labs, hospitals and clinical research institutes, contract research organizations ("CROs"), pharmaceutical companies and agricultural companies.

As of June 30, 2023, our commercial team consisted of approximately 206 employees, including 62 quota-carrying representatives, many with advanced degrees in biology and significant experience in the genomics industry.

As of September 30, 2023, our commercial team consisted of approximately 208 employees, including 64 quota-carrying representatives, many with advanced degrees in biology and significant experience in the genomics industry.

Strategic Objectives

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• Expand partnerships across ecosystem and workflow to drive customer adoption of SBB short-read sequencing and HiFi long-read sequencing

We will continue to leverage our commercial organization and make significant improvements in the efficiency and usability of our products to seek to reach a broader customer base.

We will continue to leverage our commercial organization and significantly improve our products' efficiency and usability to seek to reach a broader customer base.

We believe the commercial investments we have recently made will further help drive growth in our business.

To increase the adoption of HiFi sequencing, we have various development programs in progress to expand our product portfolio as well as increase the throughput and improve the usability of our existing sequencing solutions.

To increase the adoption of HiFi sequencing, we have various development programs in progress to expand our product portfolio, increase the throughput, and improve the usability of our existing sequencing solutions.

We continue to focus on programs to accelerate new platform launches in the near to mid-term as well as increase applications for our technologies.

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To address the oncology research markets with a highly differentiated alternative to existing third-party short-read sequencing products already on the market, we also progressed development of and, subsequent to the quarter ended June 30, 2023, commercialized Onso TM , our SBB short-read platform.

We began taking orders in the first quarter of 2023, and in August 2023, we commenced customer shipments of the Onso short-read sequencing instrument, with shipments of related consumables expected to occur later in August 2023.

The milestone payment associated with PacBio’s acquisition of Omniome will be triggered once both the Onso instrument and related consumables have shipped to one customer.

We began taking orders in the first quarter of 2023, and in August 2023, we commenced customer shipments of the Onso short-read sequencing instrument.

We continue to believe that with the capabilities of our HiFi chemistry and SMRT TM technology, we can be a market leader in whole-genome clinical sequencing.

Leading institutions have adopted our products to study rare and inherited disease.

We believe the market opportunity for clinical sequencing is significant and could drive substantial revenue growth for the company.

We plan to continue to pursue partner collaborations where the technologies being developed or applications being considered extend beyond whole-genome clinical sequencing.

We believe the market opportunity for clinical sequencing is significant and could drive substantial revenue growth for us.

We plan to continue to pursue collaborations where the technologies being developed or applications being considered extend beyond whole-genome clinical sequencing.

Collaborative arrangements add to the awareness of our products and service offerings and may drive new applications for use of our technology.

Financial Overview

Key highlights of the six months ended June 30, 2023 consolidated financial results include the following:

• Revenue increased $17.8 million, or 26%, to $86.5 million for the six months ended June 30, 2023, as compared to $68.6 million for the six months ended June 30, 2022.

Revenue was comprised of $50.6 million in instrument revenue, $27.7 million in consumables revenue and $8.2 million in service and other revenue for the six months ended June 30, 2023.

The increase was primarily driven by the launch of Revio in the first quarter of 2023, which is sold at a higher average selling price than our previous Sequel II and IIe platform.

We ended the quarter with an installed base of 77 Revio systems, and we shipped 8 Sequel IIe systems during the six months ended June 30, 2023.

• Gross profit as a percentage of revenue (gross margin) was 29% for the six months ended June 30, 2023, compared to 44% for the six months ended June 30, 2022.

Gross margin declined due in part to instrument mix, as Revio instruments sold during the six months ended June 30, 2023 had a lower margin primarily due to loyalty discounts provided and higher initial manufacturing costs, as well as adjustments of approximately $3.5 million recognized in the first quarter of 2023 primarily relating to excess consumables inventory resulting from a faster-than-expected decline in demand of Sequel II/IIe consumables due to the product transition to Revio.

Key highlights of the nine months ended September 30, 2023 consolidated financial results include the following:

• Revenue increased $41.2 million, or 41%, to $142.2 million for the nine months ended September 30, 2023, as compared to $101.0 million for the nine months ended September 30, 2022.

Revenue was comprised of $85.3 million in instrument revenue, $44.6 million in consumables revenue and $12.3 million in service and other revenue for the nine months ended September 30, 2023.

The increase was primarily driven by the launch of Revio in the first quarter of 2023, which is sold at a higher average selling price than our previous Sequel II and IIe platforms.

We ended the quarter with an installed base of 129 Revio systems.

• Gross profit as a percentage of revenue (gross margin) was 30% for the nine months ended September 30, 2023, compared to 43% for the nine months ended September 30, 2022.

Gross margin declined due in part to instrument mix, as Revio instruments sold during the nine months ended September 30, 2023 had a lower margin primarily due to loyalty discounts provided and higher initial manufacturing costs, including warranty costs, as well as adjustments of approximately $3.5 million recognized in the first quarter of 2023 primarily relating to excess consumables inventory resulting from a faster-than-expected decline in demand of Sequel II/IIe consumables due to the product transition to Revio.

Our gross margin in future periods will depend on several factors, including new product transitions and offerings, strategic product pricing;

product mix as a result of higher-margin consumables;

supply chain constraints and inflation increasing costs of raw materials;

supply chain constraints and inflation increasing the costs of raw materials;

manufacturing capacity and production volumes impacting the cost of inventory;

warranty costs;

freight costs;

and excess or obsolete inventories.

• Loss from operations increased $18.9 million, or 13%, to $164.4 million for the six months ended June 30, 2023, as compared to $145.5 million for the six months ended June 30, 2022, driven primarily by an increase of $13.9 million of operating expenses, including a $8.2 million decrease in research and development expenses and a $20.7 million increase in the change in the fair value of the contingent consideration, and a decline in gross profit of $5.0 million.

We anticipate operating expenses to increase slightly during the remainder of the year as compared to the prior year, primarily driven by changes in the fair value of the contingent consideration relating to the Omniome acquisition and merger related costs attributable to Apton.

• Cash, cash equivalents, and short-term investments were $829.9 million at June 30, 2023, which represents a 7% increase compared to the balance at December 31, 2022.

• Loss from operations increased $26.8 million, or 12%, to $246.9 million for the nine months ended September 30, 2023, as compared to $220.1 million for the nine months ended September 30, 2022, driven primarily by an increase of $26.1 million of operating expenses, including a $8.0 million increase in sales, general and administrative expenses, a $9.0 million increase in merger-related expenses, a $0.7 million increase in amortization of acquired intangible assets, and a $16.2 million increase in the change in the fair value of the contingent consideration, partially offset by a $7.8 million decrease in research and development expenses, and a decline in gross profit of $0.7 million.

• Cash, cash equivalents, and short-term investments were $767.8 million at September 30, 2023, which represents a 1% decrease compared to the balance at December 31, 2022.

Macroeconomic dynamics including rising inflation, global supply chain constraints, volatile capital markets, competition, and fluctuating exchange rates have adversely impacted our customers and lengthened customer sales cycles.

These factors could impact our revenues and results of operations throughout 2023;

These factors could continue to impact our revenues and results of operations throughout the remainder of 2023;

however, the size and duration of these impacts is uncertain, and as a result, we cannot reasonably estimate the future impact to our operations and financial results.

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Recent Developments

Note Exchange Transaction

In June 2023, we entered into a privately negotiated exchange agreement with a holder of our outstanding 1.50% Convertible Senior Notes due 2028 (the "2028 Notes"), pursuant to which we issued $441.0 million in aggregate principal amount of our 1.375% Convertible Senior Notes due 2030 (the "2030 Notes" and, together with the 2028 Notes, the "Notes") in exchange for $441.0 million principal amount of the 2028 Notes (the "Exchange Transaction"), pursuant to exemptions from registration under the Securities Act of 1933, as amended, and the rules and regulations thereunder.

Following the Exchange Transaction, approximately $459.0 million in aggregate principal amount of the 2028 Notes remained outstanding.

Apton Merger Agreement

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The transaction closed on August 2, 2023.

Pursuant to the Merger Agreement, upon the closing of the acquisition, we will, among other things, issue to holders of Apton’s outstanding equity interests (“Apton Securityholders”) approximately 6.3 million shares of the Company’s common stock, par value $0.001 per share (“Common Stock”).

Additionally, subject to the terms and conditions of the Merger Agreement and the achievement of $50 million in revenue associated with a high throughput sequencer using Apton's technology, Apton Securityholders will also be entitled to receive $25.0 million, which we may elect to pay in cash, shares of Common Stock or a combination of cash and shares of Common Stock.

At this time, the number of shares, if any, to be issued in connection with the achievement of the specified milestone is not known, and will be calculated based on the daily volume-weighted average price of the Common Stock for the twenty trading days ending on and including the fifth trading day immediately prior to the occurrence of the specified milestone.

Under the terms of the Merger Agreement, we may pay cash in lieu of Common Stock to ensure that the issuance of Common Stock as contemplated by the Merger Agreement does not exceed 19.9% of the shares of Common Stock then outstanding.

Pursuant to the Merger Agreement, upon the closing of the acquisition, we, among other things, issued to holders of Apton’s outstanding equity interests approximately 6.3 million shares of our common stock.

Additionally, subject to the terms and conditions of the Merger Agreement and the achievement of $50.0 million in revenue associated with a high throughput sequencer using Apton's technology, former holders of Apton's outstanding equity interests will also be entitled to receive $25.0 million, which we may elect to pay in cash, shares of our common stock or a combination of cash and shares of our common stock.

At this time, the number of shares, if any, to be issued in connection with the achievement of the specified milestone is not known, and will be calculated based on the daily volume-weighted average price of shares of our common stock for the twenty trading days ending on and including the fifth trading day immediately prior to the occurrence of the specified milestone.

Under the terms of the Merger Agreement, we may pay cash in lieu of common stock to ensure that the issuance of common stock as contemplated by the Merger Agreement does not exceed 19.9% of the shares of our common stock then outstanding.

Results of Operations

Comparison of the Three Months Ended June 30, 2023 and 2022

(in thousands, except percentages) Three Months Ended June 30,

Comparison of the Three Months Ended September 30, 2023 and 2022

(in thousands, except percentages) Three Months Ended September 30,

2023 2022 $ Change % Change

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Cost of service and other revenue 4,054 3,012 1,042 35 %

Amortization of intangible assets 183 183 — — %

Total cost of revenue 37,789 18,764 19,025 101 %

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Sales, general and administrative 43,431 36,795 6,636 18 %

Merger-related expenses 8,979 — 8,979 100 %

Amortization of acquired intangible assets 741 — 741 100 %

Change in fair value of contingent consideration (271) 4,280 (4,551) (106) %

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Operating loss (82,492) (74,620) (7,872) 11 %

Loss on extinguishment of debt (2,033) — (2,033) 100 %

Interest expense (3,588) (3,664) 76 (2) %

Other income (expense), net 8,929 256 8,673 3388 %

Other income, net 8,505 1,313 7,192 548 %

Loss before benefit from income taxes (77,575) (76,971) (604) 1 %

Benefit from income taxes (10,706) — (10,706) 100 %

Net loss $ (66,869) $ (76,971) $ 10,102 (13 %)

Revenue increased $12.1 million, or 34%, to $47.6 million for the three months ended June 30, 2023, as compared to $35.5 million for the three months ended June 30, 2022.

Instrument revenue increased $14.3 million, or 92%, to $29.9 million for the three months ended June 30, 2023, as compared to $15.6 million for the three months ended June 30, 2022, primarily due to the sale of 45 Revio systems that have a higher average selling price as compared to the Sequel IIe platform.

Revenue increased $23.4 million, or 72%, to $55.7 million for the three months ended September 30, 2023, as compared to $32.3 million for the three months ended September 30, 2022.

Instrument revenue increased $23.3 million, or 203%, to $34.7 million for the three months ended September 30, 2023, as compared to $11.4 million for the three months ended September 30, 2022, primarily due to the sale of 52 Revio systems during the three months ended September 30, 2023 compared to 34 Sequel IIe systems during the three months ended September 30, 2022, as well as Revio's higher average selling price as compared to the Sequel IIe platform.

We continue to expect the installed base of Revio instruments to grow, reflecting customer demand for the new product.

As a result of this new product launch, we anticipate installed base and sales volumes of Sequel II/IIe to continue to decline compared to prior periods.

Consumables revenue decreased $0.8 million, or 6%, to $13.7 million for the three months ended June 30, 2023, as compared to $14.6 million for the three months ended June 30, 2022.

The decrease in consumable sales was primarily due to lower Sequel consumable sales attributable to the product transition to Revio.

As a result of this product launch, we anticipate installed base and sales volumes of Sequel II/IIe to continue to decline compared to prior periods.

We commenced the shipment of Onso products during the three months ended September 30, 2023 and expect the installed base to continue to grow.

Consumables revenue increased $0.8 million, or 5%, to $16.9 million for the three months ended September 30, 2023, as compared to $16.1 million for the three months ended September 30, 2022.

The increase in consumable sales was primarily due to higher Revio consumables sales attributable to the growth in the Revio instrument installed base, partially offset by a decline in Sequel II and IIe consumables as customers transition to the new platform.

We expect Revio consumable sales to increase as the installed base grows.

While we expect to see a decline in Sequel consumable sales resulting from the product transition, there is uncertainty as to the rate at which these sales will decline.

Service and other revenue decreased $1.4 million, or 26%, to $3.9 million for the three months ended June 30, 2023, as compared to $5.3 million for the three months ended June 30, 2022, primarily due to the change in our terms of the warranty provided with the instrument during the first quarter of 2022 to remove the service component.

While we expect to see a decline in Sequel II and IIe consumable sales resulting from the product transition, there is uncertainty as to the rate at which these sales will decline.

Service and other revenue decreased $0.7 million, or 14%, to $4.1 million for the three months ended September 30, 2023, as compared to $4.8 million for the three months ended September 30, 2022, primarily due to the change in our terms of the warranty provided with the instrument during the first quarter of 2022 to remove the service component.

As a result, the warranty is no longer a separate performance obligation and, accordingly, we accrue for the cost of the assurance warranty when revenue of the instrument is recognized, and no longer recognize a component of the instrument revenue in service and other revenue over the warranty period.

Service revenue also declined as customers transition to the Revio, which includes a first-year warranty, and opt not to renew their Sequel II/IIe plans.

We expect service revenue to continue to decline during the remainder of the year as we anticipate customers transitioning their service contracts to Revio following the standard warranty period, with fewer customers renewing Sequel and Sequel II/IIe service contracts.

Cost of Revenue, Gross Profit and Gross Margin

Cost of product revenue increased $12.9 million, or 83%, for the three months ended June 30, 2023, compared to the three months ended June 30, 2022.

The cost of product revenue increased primarily due to an increase in system placements and higher overall product costs on the Revio platform.

Cost of revenue included share-based compensation expense of $1.2 million and $1.0 million during the three months ended June 30, 2023 and 2022, respectively.

Gross profit decreased $0.6 million, or 4%, to $15.5 million for the three months ended June 30, 2023, compared to $16.2 million for the three months ended June 30, 2022.

Gross margin was 33% for the three months ended June 30, 2023, compared to gross margin of 46% for the three months ended June 30, 2022.

While we expect gross margin to expand during the remainder of the year, gross margin could fluctuate depending on the pace at which Sequel II/IIe consumable revenue declines, Revio consumable revenue ramps, and manufacturing efficiencies improve, as well as fluctuations in average selling prices.

Cost of product revenue increased $18.0 million, or 114%, for the three months ended September 30, 2023, compared to the three months ended September 30, 2022.

The cost of product revenue increased primarily due to an increase in system placements and higher overall product costs on the Revio platform, including warranty costs, as compared to the Sequel II and IIe platforms.

Cost of revenue included share-based compensation expense of $1.1 million and $0.9 million during the three months ended September 30, 2023 and 2022, respectively.

Gross profit increased $4.4 million, or 32%, to $17.9 million for the three months ended September 30, 2023, compared to $13.5 million for the three months ended September 30, 2022.

Gross margin was 32% for the three months ended September 30, 2023, compared to gross margin of 42% for the three months ended September 30, 2022.

The decrease in gross margin was due in part to instrument mix, as Revio instruments sold during the quarter had higher initial manufacturing and warranty costs, in addition to charges for scrap inventory.

Gross margin could fluctuate depending on the pace at which Sequel II/IIe consumable revenue declines, Revio consumable revenue ramps, manufacturing efficiencies and warranty costs improve, as well as fluctuations in average selling prices.

Research and Development Expense

Research and development expense decreased by $4.2 million, or 8%, to $46.2 million for the three months ended June 30, 2023, compared to $50.3 million for the three months ended June 30, 2022.

The decrease was primarily driven by the transition of Revio from development to commercialization, in addition to lower headcount.

Research and development expense included share-based compensation expense of $5.4 million and $7.7 million during the three months ended June 30, 2023 and 2022, respectively.

Research and development expense increased by $0.4 million, or 1%, to $47.5 million for the three months ended September 30, 2023, compared to $47.1 million for the three months ended September 30, 2022.

The increase was primarily driven by an increase in personnel expenses, in part due to the Apton acquisition, offset by the transition of Revio from development to commercialization.

Research and development expense included share-based compensation expense of $6.2 million and $7.5 million during the three months ended September 30, 2023 and 2022, respectively.

Sales, General and Administrative Expense

Sales, general and administrative expense increased by $1.3 million, or 3%, to $40.6 million for the three months ended June 30, 2023, compared to $39.3 million for the three months ended June 30, 2022.

Sales, general, and administrative expense included share-based compensation expense of $11.3 million and $10.3 million during the three months ended June 30, 2023 and 2022, respectively.

Sales, general and administrative expense increased by $6.6 million, or 18%, to $43.4 million for the three months ended September 30, 2023, compared to $36.8 million for the three months ended September 30, 2022.

The increase was primarily driven by an increase in sales and marketing related personnel expenses in connection with the Revio and Onso product launches and as we continue to grow our commercial footprint.

Sales, general, and administrative expense included share-based compensation expense of $12.4 million and $10.5 million during the three months ended September 30, 2023 and 2022, respectively.

Merger-Related Expenses

Merger-related expenses of $9.0 million during the three months ended September 30, 2023 consist of $4.9 million of transaction costs arising from the acquisition of Apton, $2.8 million of compensation expense resulting from the liquidity event bonus plan in connection with the Apton acquisition, and $1.3 million of share-based compensation expense resulting from the acceleration of certain equity awards in connection with the Apton acquisition.

We recognized $1.3 million of share-based compensation expense for the acceleration that was not attributable to pre-combination services.

Amortization of Acquired Intangible Assets

Amortization of acquired intangible assets of $0.7 million during the three months ended September 30, 2023 consists of amortization expense attributable to acquired intangible assets that are not directly related to sales generating activities.

Change in Fair Value of Contingent Consideration

Change in fair value of contingent consideration of $2.0 million during the three months ended June 30, 2023, represents the remeasurement impact of the contingent consideration liability of $200 million (composed of $100 million in cash and $100 million in shares of our common stock) that is due upon the achievement of a milestone, defined as the first commercial shipment to a customer of both an instrument and related consumables, utilizing SBB technology.

The increase in contingent consideration liability was due to the passage of time and changes in the discount rates and probabilities of milestone achievement.

Loss on Extinguishment of Debt

Loss on extinguishment of debt of $2.0 million during the six months ended June 30, 2023, represents the loss resulting from the difference in the fair value of the 2030 Notes and the principal, in addition to the write-off of the unamortized debt issuance costs on the portion of the 2028 Notes that were exchanged as part of the debt modification during the six months ended June 30, 2023.

Change in fair value of contingent consideration of $0.3 million during the three months ended September 30, 2023, represents the final remeasurement impact of the contingent consideration liability that became due upon the achievement of the milestone resulting from the Omniome acquisition, defined as the first commercial shipment to a customer of both an instrument and related consumables, utilizing SBB technology.

As a result of the milestone achievement in September 2023, former Omniome securityholders were entitled to receive as milestone consideration, among other things, an aggregate of approximately $100.9 million in cash and approximately 9.0 million shares of our common stock.

Interest Expense

Interest expense for the three months ended June 30, 2023, was $3.6 million compared to $3.7 million for the three months ended June 30, 2022 and was primarily comprised of interest on the convertible senior notes.

Other Income (Expense), net

Other income (expense), net for the three months ended June 30, 2023, was $8.9 million compared to $0.3 million for the three months ended June 30, 2022.

The $8.7 million increase was primarily due to investment income.

Comparison of the Six Months Ended June 30, 2023 and 2022

(in thousands, except percentages) Six Months Ended June 30,

Interest expense for the three months ended September 30, 2023, was $3.6 million compared to $3.7 million for the three months ended September 30, 2022 and was primarily comprised of interest on the convertible senior notes.

Other Income, Net

Other income, net for the three months ended September 30, 2023, was $8.5 million compared to $1.3 million for the three months ended September 30, 2022.

The $7.2 million increase was primarily due to investment income due to higher yields on investments.

Benefit from Income Taxes

A deferred income tax benefit of $10.7 million for the three months ended September 30, 2023, is related to the release of the valuation allowance for deferred tax assets due to the recognition of deferred tax liabilities in connection with the Apton acquisition.

We maintain a full valuation allowance on the net deferred tax assets of our U.S.

entities as we have concluded that it is more likely than not that we will not realize our deferred tax assets.

Accordingly, this benefit from income taxes is reflected on our Condensed Consolidated Statements of Operations and Comprehensive Loss for the three months ended September 30, 2023.

Comparison of the Nine Months Ended September 30, 2023 and 2022

(in thousands, except percentages) Nine Months Ended September 30,

2023 2022 $ Change % Change

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Cost of service and other revenue 11,258 10,619 639 6 %

Amortization of intangible assets 366 366 — — %

Total cost of revenue 98,955 57,056 41,899 73 %

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Sales, general and administrative 123,822 115,851 7,971 7 %

Merger-related expenses 8,979 — 8,979 100 %

Amortization of acquired intangible assets 741 — 741 100 %

Change in fair value of contingent consideration 13,960 (2,221) 16,181 (729) %

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Interest expense (10,772) (11,042) 270 (2) %

Other income (expense), net 15,796 (23) 15,819 (68778 %)

Other income, net 24,301 1,290 23,011 1784 %

Loss before benefit from income taxes (235,423) (229,864) (5,559) 2 %

Benefit from income taxes (10,706) — (10,706) 100 %

Net loss $ (224,717) $ (229,864) $ 5,147 (2 %)

Revenue increased $17.8 million, or 26%, to $86.5 million for the six months ended June 30, 2023, as compared to $68.6 million for the six months ended June 30, 2022.

Instrument revenue increased $19.5 million, or 62%, to $50.6 million for the six months ended June 30, 2023, as compared to $31.2 million for the six months ended June 30, 2022, primarily due to the sale of 77 Revio systems that have a higher average selling price as compared to the Sequel IIe platform.

Revenue increased $41.2 million, or 41%, to $142.2 million for the nine months ended September 30, 2023, as compared to $101.0 million for the nine months ended September 30, 2022.

Instrument revenue increased $42.7 million, or 100%, to $85.3 million for the nine months ended September 30, 2023, as compared to $42.6 million for the nine months ended September 30, 2022, primarily due to the sale of 129 Revio systems that have a higher average selling price as compared to the Sequel II/IIe platform.

We expect the installed base of Revio instruments to grow, reflecting customer demand for the new product.

As a result of this new product launch, we anticipate installed base and sales volumes of Sequel II/IIe to continue to decline compared to recent quarters.

Consumables revenue increased $0.4 million, or 2%, to $27.7 million for the six months ended June 30, 2023, as compared to $27.3 million for the six months ended June 30, 2022.

We commenced the shipment of Onso products during the nine months ended September 30, 2023 and expect the installed base to continue to grow.

Consumables revenue increased $1.3 million, or 3%, to $44.6 million for the nine months ended September 30, 2023, as compared to $43.3 million for the nine months ended September 30, 2022.

The increase in consumable sales was primarily due to higher Revio consumables sales attributable to the growth in the Revio instrument installed base, partially offset by a decline in Sequel consumables as customers transition to the new platform.

Service and other revenue decreased $2.1 million, or 20%, to $8.2 million for the six months ended June 30, 2023, as compared to $10.2 million for the six months ended June 30, 2022, primarily due to the change in our terms of the warranty provided with the instrument during the first quarter of 2022 to remove the service component.

Service and other revenue decreased $2.7 million, or 18%, to $12.3 million for the nine months ended September 30, 2023, as compared to $15.0 million for the nine months ended September 30, 2022, primarily due to the change in our terms of the warranty provided with the instrument during the first quarter of 2022 to remove the service component.

Service revenue also declined as customers transition to the Revio, which includes a first-year warranty, and opt not to renew their Sequel II/IIe plans.

Cost of Revenue, Gross Profit and Gross Margin

Cost of product revenue increased $22.9 million, or 60%, for the six months ended June 30, 2023, compared to the six months ended June 30, 2022.

The cost of product revenue increased primarily due to higher overall product costs on the Revio platform, as well as adjustments of approximately $3.5 million recognized during the first quarter of 2023 primarily relating to excess consumables inventory resulting from a faster-than-expected decline in demand of Sequel II/IIe consumables due to the product transition to Revio.

Cost of revenue included share-based compensation expense of $3.1 million and $2.7 million during the six months ended June 30, 2023 and 2022, respectively.

Gross profit decreased $5.0 million, or 17%, to $25.3 million for the six months ended June 30, 2023, compared to $30.3 million for the six months ended June 30, 2022.

Gross margin was 29% for the six months ended June 30, 2023, compared to gross margin of 44% for the six months ended June 30, 2022.

The decrease in gross margin was due in part to instrument mix, as Revio instruments sold during the quarter had a lower margin primarily due to loyalty discounts provided and higher initial manufacturing costs, as well as adjustments of approximately $3.5 million recognized during the first quarter of 2023 primarily relating to excess consumables inventory resulting from a faster-than-expected decline in demand of Sequel II/IIe consumables due to the product transition to Revio.

Cost of product revenue increased $41.3 million, or 89%, for the nine months ended September 30, 2023, compared to the nine months ended September 30, 2022.

The cost of product revenue increased primarily due to an increase in system placements and higher overall product costs on the Revio platform, including warranty costs, as well as adjustments of approximately $3.5 million recognized during the first quarter of 2023 primarily relating to excess consumables inventory resulting from a faster-than-expected decline in demand of Sequel II/IIe consumables due to the product transition to Revio.

Cost of revenue included share-based compensation expense of $4.3 million and $3.7 million during the nine months ended September 30, 2023 and 2022, respectively.

Gross profit decreased $0.7 million, or 2%, to $43.2 million for the nine months ended September 30, 2023, compared to $43.9 million for the nine months ended September 30, 2022.

Gross margin was 30% for the nine months ended September 30, 2023, compared to gross margin of 43% for the nine months ended September 30, 2022.

The decrease in gross margin was due in part to instrument mix, as Revio instruments sold during the period had a lower margin primarily due to loyalty discounts provided and higher initial manufacturing costs, including warranty costs, in addition to charges for scrap inventory, as well as adjustments of approximately $3.5 million recognized during the first quarter of 2023 primarily relating to excess consumables inventory resulting from a faster-than-expected decline in demand of Sequel II/IIe consumables due to the product transition to Revio.

Research and Development Expense

Research and development expense decreased by $8.2 million, or 8%, to $95.1 million for the six months ended June 30, 2023, compared to $103.3 million for the six months ended June 30, 2022.

The decrease was primarily driven by the transition of Revio from development to commercialization, in addition to lower headcount.

Research and development expense included share-based compensation expense of $12.1 million and $16.7 million during the six months ended June 30, 2023 and 2022, respectively.

Research and development expense decreased by $7.8 million, or 5%, to $142.6 million for the nine months ended September 30, 2023, compared to $150.4 million for the nine months ended September 30, 2022.

The decrease was primarily driven by the transition of Revio from development to commercialization.

Research and development expense included share-based compensation expense of $18.3 million and $24.2 million during the nine months ended September 30, 2023 and 2022, respectively.

Sales, General and Administrative Expense

Sales, general and administrative expense increased by $1.3 million, or 2%, to $80.4 million for the six months ended June 30, 2023, compared to $79.1 million for the six months ended June 30, 2022.

The increase in sales, general, and administrative expense was primarily driven by an increase in marketing expenses in connection with the Revio launch and increased sales and marketing headcount as we continue to grow our commercial footprint.

Sales, general, and administrative expense included share-based compensation expense of $20.6 million and $22.3 million during the six months ended June 30, 2023 and 2022, respectively.

Sales, general and administrative expense increased by $8.0 million, or 7%, to $123.8 million for the nine months ended September 30, 2023, compared to $115.9 million for the nine months ended September 30, 2022.

The increase in sales, general, and administrative expense was primarily driven by an increase in marketing expenses in connection with product launches and increased sales and marketing headcount as we continue to grow our commercial footprint.

Sales, general, and administrative expense included share-based compensation expense of $33.0 million and $32.7 million during the nine months ended September 30, 2023 and September 30, 2022, respectively.

Merger-Related Expenses

Merger-related expenses of $9.0 million during the nine months ended September 30, 2023 consist of $4.9 million of transaction costs arising from the acquisition of Apton, $2.8 million of compensation expense resulting from the liquidity event bonus plan in connection with the Apton acquisition, and $1.3 million of share-based compensation expense resulting from the acceleration of certain equity awards in connection with the Apton acquisition.

We recognized $1.3 million of share-based compensation expense for the acceleration that was not attributable to pre-combination services.

Amortization of Acquired Intangible Assets

Amortization of acquired intangible assets of $0.7 million during the nine months ended September 30, 2023 consists of amortization expense attributable to acquired intangible assets that are not directly related to sales generating activities.

Change in Fair Value of Contingent Consideration

Change in fair value of contingent consideration of $14.2 million during the six months ended June 30, 2023, represents the remeasurement impact of the contingent consideration liability of $200 million (composed of $100 million in cash and $100 million in shares of our common stock) that is due upon the achievement of a milestone, defined as the first commercial shipment to a customer of both an instrument and related consumables, utilizing SBB technology.

Change in fair value of contingent consideration of $14.0 million during the nine months ended September 30, 2023, represents the remeasurement impact of the contingent consideration liability that was due upon the achievement of a milestone, defined as the first commercial shipment to a customer of both an instrument and related consumables, utilizing SBB technology.

The increase in contingent consideration liability was primarily due to the passage of time and changes in the discount rates and probabilities of milestone achievement.

Loss on Extinguishment of Debt

Loss on extinguishment of debt of $2.0 million during the nine months ended September 30, 2023, represents the loss resulting from the difference in the fair value of the 2030 Notes and the principal, in addition to the write-off of the unamortized debt issuance costs on the portion of the 2028 Notes that were exchanged as part of the debt modification during the nine months ended September 30, 2023.

Interest Expense

Interest expense for the six months ended June 30, 2023, was $7.2 million compared to $7.4 million for the six months ended June 30, 2022 and was primarily comprised of interest on the convertible senior notes.

Other Income (Expense), net

Other income (expense), net for the six months ended June 30, 2023, was $15.8 million compared to $23.0 thousand for the six months ended June 30, 2022.

Interest expense for the nine months ended September 30, 2023, was $10.8 million compared to $11.0 million for the nine months ended September 30, 2022 and was primarily comprised of interest on the convertible senior notes.

Other Income, Net

Other income, net for the nine months ended September 30, 2023, was $24.3 million compared to $1.3 million for the nine months ended September 30, 2022.

The $23.0 million increase was primarily due to investment income.

Benefit from Income Taxes

A deferred income tax benefit of $10.7 million for the nine months ended September 30, 2023, is related to the release of the valuation allowance for deferred tax assets due to the recognition of deferred tax liabilities in connection with the Apton acquisition.

We maintain a full valuation allowance on the net deferred tax assets of our U.S.

entities as we have concluded that it is more likely than not that we will not realize our deferred tax assets.

Accordingly, this benefit from income taxes is reflected on our Condensed Consolidated Statements of Operations and Comprehensive Loss for the nine months ended September 30, 2023.

Liquidity and Capital Resources

As of September 30, 2023, we had cash, cash equivalents and investments of $767.8 million compared to $772.3 million as of December 31, 2022.

We believe that our existing cash, cash equivalents and investments will be sufficient to fund our projected operating requirements beyond the next 12 months from the date of filing of this Quarterly Report on Form 10-Q for the quarter ended September 30, 2023.

Our primary sources of liquidity, other than our holdings of cash, cash equivalents, and investments, has primarily been through the issuance of debt or equity securities, together with cash flow from operating activities.

We have historically incurred, and expect to continue to incur, operating losses and generate negative cash flows from operations on an annual basis, and as a result, we may require additional capital resources to execute our strategic initiatives to grow our business.

January 2023 Public Offering

On January 27, 2023, we issued and sold an aggregate of 20,125,000 shares of our common stock at a purchase price of $10.00 per share pursuant to an automatic shelf registration statement filed on Form S-3 with the Securities and Exchange Commission, resulting in aggregate gross proceeds of approximately $201.3 million.

After deducting underwriting discounts and commissions and offering costs paid or payable by us of approximately $12.1 million, the net proceeds from the offering were approximately $189.2 million.

June 2023 Note Exchange

As discussed above under Recent Developments , in June 2023, we entered into a privately negotiated exchange with a holder of our 2028 Notes, pursuant to which we issued $441.0 million in aggregate principal amount of our 2030 Notes.

Following the Exchange Transaction, approximately $459.0 million in aggregate principal amount of the 2028 Notes remained outstanding.

Contingent Consideration

In connection with the acquisition of Omniome in the third quarter of 2021, we entered into an arrangement where we are obligated to pay approximately $200.0 million in cash and equity dependent upon the achievement of a milestone event upon the first commercial shipment of products developed from our acquired sequencing solution.

See Note 2 – Business Acquisitions in Part II, Item 8 of the Annual Report on Form 10-K for the year ended December 31, 2022 for further information.

In August 2023, we commenced customer shipments of the Onso short-read sequencing instrument, with shipments of related consumables expected to occur later in August 2023.

The milestone payment associated with PacBio’s acquisition of Omniome will be triggered once both the Onso instrument and related consumables have shipped to one customer.

In connection with the acquisition of Apton, we entered into an arrangement where we are obligated to pay holders of Apton's outstanding equity interests $25.0 million upon the achievement of $50 million in revenue associated with a high throughput sequencer using Apton's technology, which the Company may elect to pay in cash, shares of Company common stock or a combination of cash and shares of Company common stock.

S ubsequent Events in Part I, Item 1 of this Quarterly Report on Form 10-Q for further information.

As of June 30, 2023, we had cash, cash equivalents and investments of $829.9 million compared to $772.3 million as of December 31, 2022.

Factors that may affect our capital needs include, but are not limited to, the pace of adoption of our products, which affects the sales of our products and services;

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There can be no assurance that funds will be available on favorable terms, or at all.

Contingent Consideration

See Note 2 – Business Acquisitions, in Part II, Item 8 of the Annual Report on Form 10-K for the year ended December 31, 2022 for further information.

In August 2023, we commenced customer shipments of the Onso short-read sequencing instrument.

The milestone payment associated with PacBio’s acquisition of Omniome was triggered in September 2023 once both the Onso instrument and related consumables had been shipped to one customer.

Consequently, we paid the former Omniome securityholders milestone consideration of an aggregate of approximately $100.9 million in cash and approximately 9.0 million shares of our common stock in October 2023.

In connection with the acquisition of Apton, we entered into an arrangement where we are obligated to pay former holders of Apton's outstanding equity interests $25.0 million upon the achievement of $50 million in revenue associated with a high throughput sequencer using Apton's technology, provided that the milestone event occurs prior to the 5-year anniversary of the closing date of the acquisition, which we may elect to pay in cash, shares of our common stock or a combination of cash and shares of our common stock.

Business Acquisitions in Part I, Item 1 of this Quarterly Report on Form 10-Q for further information.

Summary of Cash Flows

Six Months Ended June 30,

Nine Months Ended September 30,

(in thousands) 2023 2022

Cash used in operating activities $ (201,613) $ (202,645)

Cash used in investing activities (171,144) (18,228)

Cash provided by investing activities 71,179 35,680

Cash provided by financing activities 190,493 8,803

Net decrease in cash, cash equivalents and restricted cash $ (116,302) $ (152,150)

Net increase (decrease) in cash, cash equivalents and restricted cash $ 60,059 $ (158,162)

Operating Activities

Our primary uses of cash in operating activities include the development of future products and product enhancements, manufacturing, and support functions related to our sales, general and administrative activities.

Cash used in operating activities for the six months ended June 30, 2023 of $136.4 million was due primarily to a $157.8 million net loss that included non-cash items such as share-based compensation of $35.8 million, change in estimated fair value of contingent consideration of $14.2 million, depreciation expense of $5.6 million, inventory provisions of $4.3 million, amortization of right-of-use assets of $3.3 million, and loss on extinguishment of debt of $2.0 million.

This was offset by the accretion of discount and amortization of premium on marketable securities, net of $6.1 million and $38.6 million in net changes to operating assets and liabilities.

Cash flow impact from changes in net operating assets and liabilities was primarily driven by increases in inventory, accounts receivable and prepaid and other assets, as well as decreases in accrued expenses, operating lease liabilities and deferred revenue.

These uses of cash were partially offset by an increase in accounts payable.

Cash used in operating activities for the six months ended June 30, 2022, of $139.6 million was due primarily to a $152.9 million net loss that included non-cash items such as stock-based compensation of $41.7 million, depreciation expense of $4.6 million, amortization of right-of-use assets of $3.4 million, amortization of investment premium of $1.1 million, partially offset by a $6.5 million decrease in liability due to the change in estimated fair value of contingent consideration, and a net cash outflow due to $31.9 million in net changes to operating assets and liabilities.

The change in net operating assets and liabilities was primarily attributable to increases in inventory and accounts receivable, as well as decreases in accrued expenses, operating lease liabilities and deferred revenue.

These uses of cash were partially offset by an increase in accounts payable.

Cash used in operating activities for the nine months ended September 30, 2023 of $201.6 million was due primarily to a $224.7 million net loss that included non-cash items such as share-based compensation of $55.5 million, change in estimated fair value of contingent consideration of $14.0 million, depreciation expense of $8.5 million, amortization of right-of-use assets of $4.9 million, inventory provisions of $4.7 million, merger-related compensation expense of $3.4 million, and loss on extinguishment of debt of $2.0 million.

This was offset by deferred income taxes of $10.7 million, the accretion of discount and amortization of premium on marketable securities, net of $10.1 million, and $51.2 million in net changes to operating assets and liabilities.

Cash flow impact from changes in net operating assets and liabilities was primarily driven by increases in inventory, accounts receivable and prepaid and other assets, as well as decreases in operating lease liabilities, deferred revenue, other liabilities and the contingent consideration liability.

These uses of cash were partially offset by an increase in accrued expenses and accounts payable.

Cash used in operating activities for the nine months ended September 30, 2022, of $202.6 million was due primarily to a $229.9 million net loss that included non-cash items such as share-based compensation of $60.7 million, depreciation expense of $6.9 million, amortization of right-of-use assets of $5.2 million, inventory provisions of $2.7 million, amortization of premium and accretion of discount on marketable securities, net of $1.1 million, partially offset by a $2.2 million decrease in liability due to the change in estimated fair value of contingent consideration, and a net cash outflow due to $48.3 million in net changes to operating assets and liabilities.

Cash flow impact from changes in net operating assets and liabilities was primarily driven by increases in inventory and prepaid and other assets, as well as decreases in accrued expenses, operating lease liabilities, deferred revenue and other liabilities.

These uses of cash were partially offset by a decrease in accounts receivable and an increase in accounts payable.

Investing Activities

Our investing activities consist primarily of capital expenditures and investment purchases, sales, and maturities.

Cash used in investing activities for the six months ended June 30, 2023, was due to $311.7 million of maturities and sales of investments offset by $476.9 million in purchases of investments, and $6.0 million in purchases of property and equipment.

Cash provided by investing activities for the nine months ended September 30, 2023, was due to $631.8 million of maturities and sales of investments offset by $553.7 million in purchases of investments, $6.8 million in purchases of property and equipment, and $0.1 million of cash paid for the Apton acquisition, net of cash acquired.

Our investing activities consist primarily of capital expenditures and investment purchases, sales and maturities.

Cash used in investing activities for the six months ended June 30, 2022, was due to $241.1 million in purchases of investments offset by $230.5 million in maturities of investments, and $7.7 million in purchases of property and equipment.

Cash provided by investing activities for the nine months ended September 30, 2022, was due to $355.4 million of maturities and sales of investments offset by $307.9 million in purchases of investments, and $11.8 million in purchases of property and equipment.

Financing Activities

Cash provided by financing activities during the six months ended June 30, 2023 primarily resulted from $189.2 million in net proceeds related to the issuance of common stock from the underwritten public equity offering and $9.8 million from the issuance of common stock through our equity compensation plans offset by $6.8 million from the payment of debt issuance costs.

Cash provided by financing activities during the six months ended June 30, 2022 primarily resulted from proceeds of $6.4 million from the issuance of common stock through our equity compensation plans.

Cash provided by financing activities during the nine months ended September 30, 2023 primarily resulted from $189.2 million in net proceeds related to the issuance of common stock from the underwritten public equity offering and $14.4 million from the issuance of common stock through our equity compensation plans partially offset by $7.3 million from the payment of debt issuance costs and $4.4 million from the payment of contingent consideration.

Cash provided by financing activities during the nine months ended September 30, 2022 primarily resulted from proceeds of $10.0 million from the issuance of common stock through our equity compensation plans partially offset by $1.2 million of principal payoff of notes.

Critical Accounting Policies and Estimates

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Off-Balance Sheet Arrangements

As of June 30, 2023, we did not have any off-balance sheet arrangements.

As of September 30, 2023, we did not have any off-balance sheet arrangements.

In the ordinary course of business, we enter into standard indemnification arrangements.

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Commitments and Contingencies in Part I, Item 1 of this Quarterly Report on Form 10-Q, any associated expenses incurred are included within the related accrued litigation expense amounts.

No additional liability associated with such indemnification agreements has been recorded as of June 30, 2023.

No additional liability associated with such indemnification agreements has been recorded as of September 30, 2023.

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

What changed 10-Q

Item 2. Management’s Discussion and Analysis