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Item 7. Management’s Discussion and Analysis

2021-02-17 compared with 2020-03-02 · 217 added, 1085 removed, 270 unchanged (83% of the section changed)

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As a result of many factors, such as those set forth under “Risk Factors” and elsewhere in this report, our actual results may differ materially from those anticipated in these forward-looking statements.

Our vision is digital life for everyday items.

We are driving a future in which everyday physical items are wirelessly connected to digital counterparts, digital twins, in the cloud, and in which businesses and people engage with those everyday physical items via their digital twins.

Our mission is to deliver a platform that powers that item-to-cloud connectivity and to enable developers to innovate Internet-of-Things, or IoT, applications on our platform.

Our vision is a boundless Internet of Things, or IoT.

We are driving a future in which everyday physical items are wirelessly connected to digital counterparts, or digital twins, in the cloud, and in which businesses and people access information about an item from its digital twin.

Our mission is to connect every thing.

We deliver a platform that powers item-to-cloud connectivity, and on which enterprise solution providers innovate IoT whole products.

Today, we deliver the identity, location and authenticity of billions of physical items.

we believe our future is delivering the identity, location and authenticity of trillions of everyday items and enabling those cloud-based digital twins, each storing an individual item’s ownership, history and links, and enabling ubiquitous access to them.

We believe the item-to-cloud connectivity we will deliver will enhance businesses efficiencies and commerce and, ultimately, improve peoples’ lives.

Our platform connects individual items, capturing and delivering data about each item from manufacturing, through distribution to sale.

We and our channel partners connect those items via a miniature radio chip embedded in the item or in its packaging, reading and delivering the item’s unique identity, location and authenticity to business and consumer applications.

To date, we have enabled connectivity to more than 30 billion items, enabling retailers, hospitals, airlines, automotive manufacturers, logistics providers, shippers and business in many other industries to derive timely business value from those connected items.

We believe our opportunity is to ultimately connect trillions of everyday items, and to deliver valuable information about those items not just to businesses, but also to everyday people, extending and delivering an item’s digital life to the person that buys and owns the item.

Our platform comprises three layers:

(1) endpoint integrated circuits, or ICs, (2) connectivity and (3) software that together deliver item data to business and consumer applications.

We link the layers of our platform to deliver advanced capabilities and performance that surpasses mix-and-match solutions built from competitor products.

Within each layer we sell one or more product families.

We believe our future is extending that delivery to trillions of physical items and enabling ubiquitous access to cloud-based digital twins of those items, each storing an item’s ownership, history and links.

We believe the item-to-cloud connectivity that our platform will deliver will enhance businesses efficiencies and commerce and, ultimately, improve peoples’ lives.

Our platform, which comprises multiple product families wirelessly connects individual items and delivers data about the connected items to business and consumer applications enabled by our partner network.

We link the products within our platform to deliver capabilities and performance that surpasses mix-and-match solutions built from competitor products.

We and our partners connect the items via a miniature radio chip embedded in the item or in its packaging, reading and delivering each item’s identity, location and authenticity.

To date, we have enabled connectivity to nearly 50 billion items, enabling businesses and consumers to derive timely information from those connected items.

Our platform uses RAIN, a type of radio-frequency identification, or RFID, technology we pioneered.

We spearheaded development of the RAIN radio standard, lobbied governments to allocate frequency spectrum and cofounded the RAIN Alliance that today has more than 160 member companies.

Our industry uses free spectrum in 78 countries encompassing roughly 96.5% of the world’s GDP and has connected many tens of billions of items to date.

We believe RAIN’s capabilities – in particular, endpoint ICs with serialized identifiers, 30-foot range reading up to 1000 items per second without line-of-sight, radio-frequency energy harvesting for battery-free operation, essentially unlimited life and, in the future, cryptographic item authentication – position RAIN to be the leading item-to-cloud connectivity technology for the IoT.

Factors Affecting Our Performance

Investing in Growth

We have invested and plan to continue investing in research and development to enhance and extend our platform, including enhancing existing products, introducing new products and tightening the platform linkages between our product offerings.

We plan to enhance and expand our software, including its deployment models, functionalities, algorithms and cloud-service offerings.

We plan to enhance and expand our readers and gateways and how we leverage them for platform deployments in retail, supply chain and logistics and other industries.

We also plan to continue developing next-generation reader and endpoint ICs.

We have invested and plan to continue investing in sales and marketing to grow our sales reach, expand our market opportunities, deepen our integrations with our supply-chain partners and accelerate the development and adoption of solutions based on our platform.

Most of our investments precede any sales benefit from the investment, and in some instances, we may never see a sales benefit.

We are actively monitoring and mitigating the impacts of Covid-19 in all aspects of our business, including for our employees, suppliers, partners and end users.

For our endpoint IC business, forecasting was already difficult without Covid-19, because we sell our ICs to inlay partners and therefore have limited visibility to end-user demand.

The myriad uncertainties that Covid-19 has introduced, especially at retail end users contending with store closures and reduced customer traffic, have exacerbated that forecasting difficulty.

Covid-19’s impact has been further complicated by countries reopening at different rates, with some seemingly able to manage subsequent outbreaks and others not.

Covid-19 has also caused uncertain long-term shifts, mostly negative, in other industries important to us besides retail apparel, such as aviation and sports.

Even in supply chain and logistics, or SC&L, which has seen shipment volumes surge, end users have been reticent to deploy new technologies.

Consequently, Covid-19 negatively impacted our 2020 endpoint IC demand.

Additionally, a lthough we introduced our new Impinj M700 in 2020 and it was in full production by the end of 2020, we saw a slower demand ramp relative to our expectations.

Due to overall endpoint IC demand decline , we remain uncertain of its impact in 2021 or beyond.

For our systems business, Covid-19 delayed pilots and deployments.

These delays were due in some cases to businesses being closed by local regulations and in others by reduced or deferred capital expenditures.

The delays impacted our 2020 operating results and we expect those impacts will persist into 2021.

Some end users have accelerated their investments in business-process modernization technologies like RAIN during the pandemic, but even in those cases , Covid-19 can delay deployments for reasons of health and safety, product and labor availability, and store closures.

Consequently, although we see evidence of continued demand for RAIN systems, the extent to which adoption will rebound in 2021 and the degree to which it withstands the negative impacts of Covid-19, remain unclear.

From an operations standpoint, Covid-19 caused some of our suppliers to temporarily shut down, operate at reduced capacity, or both.

For the most part we navigated these closures and capacity shortfalls successfully.

We also navigated shipping challenges due to reduced transport capacity, albeit with higher shipping costs.

Most of our facilities and employees are in Seattle, where government restrictions to slow Covid-19’s spread have impacted our business, albeit modestly.

Almost all our employees, except for those essential few who must be in the office, are working from home.

We are striving to minimize Covid-19’s impact on our operations.

However, our first priority is, and will continue to be, our employees’ health and safety.

Covid-19’s travel restrictions have also adversely affected our business, again modestly, by slowing new-product launches and typical sales activities.

There can be no assurance that Covid-19’s impact on our employees or business activities in 2021 will remain modest.

We may experience issues due to necessary changes in our business practices, to governmental action, or to difficulties responding to unanticipated events like a natural disaster.

Increased remote working may result in privacy, data security and fraud risks.

Our understanding of the legal and regulatory requirements, as well as the guidance from authorities, related to Covid-19 may be subject to future challenge, particularly as guidance evolves in response to future Covid-19 developments.

Despite Covid-19, we have continued investing in research and development and the long-term opportunities RAIN offers.

Although we plan to continue making these investments in 2021, depending on the business impact from Covid-19, we may choose to slow or suspend our investments, for example in research and development, potentially impairing our ability to meet our long-term strategic objectives.

While the effects of Covid-19 and our responses to it negatively impacted our results of operations, cash flows and financial position for 2020, the uncertainty over its duration and the severity of its epidemiological, economic and operational impacts mean we cannot reasonably estimate the magnitude of its financial impact.

The extent to which Covid-19 impacts our results will depend on future developments that are unpredictable, including actions we and others need to take to contain its spread and reduce its impact on public health.

For more information on Covid-19’s impact on our business, please refer to Part I, Item 1A (Risk Factors) of this report.

Investing for Growth

We have invested in, and plan to continue investing in, research and development to enhance and extend our platform, including enhancing existing products, introducing new products and tightening the platform linkages between our products.

Although we sell our products into nearly all verticals, relying significantly on our partner channel, we are today focusing particular attention on retail self-checkout and loss prevention and SC&L portal and conveyor opportunities.

Most of our investments precede any sales benefit from the investment, and in some instances we may never see a benefit.

The potential causes of the latter are many, including the market not being receptive to our product or sales approach, late or failed product development, personnel departures or other causes.

We sometimes enter into arrangements with end users, vendors or channel partners for them to fund a portion of our investment, but even in those instances the results of our investments remain uncertain, and in some instances we may be required to refund the investment if the development is unsuccessful or the market opportunity fails to materialize.

We sometimes enter into arrangements with end users, suppliers or channel partners for them to fund a portion of our investment, but even in those instances the results of our investments remain uncertain, and in some cases we may be required to refund the investment if the development is unsuccessful or the market opportunity fails to materialize.

In some instances, we delay or cancel investments without or until we obtain such funding.

The outcome of any investment is almost always uncertain, and if our results don’t meet our or your expectations then our operating results, profitability and stock price may be adversely affected.

The outcome of an investment is almost always uncertain, and if our results do not meet expectations then our operating results, profitability and stock price may be adversely affected.

While our long-term plan to invest for growth remains unchanged, Covid-19 has introduced new uncertainty to our business.

We will continue to monitor the impacts of Covid-19 on our supply chain, market and opportunities and adjust our investment strategy as appropriate.

Market Adoption

Our financial performance depends on the pace, scope and depth of end-user adoption of our products in multiple industries, especially the retail industry which is our largest market.

That pace, scope and depth remains uncertain, potentially causing large fluctuations in our operating results.

For example, in 2015 and 2016 several major retailers and brand owners initiated deployments that significantly increased our endpoint IC sales, exceeding our expectations and those of our industry’s analysts and lengthening our lead times.

In 2017 we invested in internal endpoint IC inventory to reduce those lead times, meet forecasted demand and improve our ability to deliver in the event of continued demand growth.

However, in the second half of 2017 the endpoint IC growth rate slowed, which we believe was due to several factors including, but not limited to, delays in new deployments and in planned expansions at several large retailers.

Our financial performance depends on the pace and scope of end-user adoption of our products in multiple industries, but especially in retail which is our largest market.

Covid-19 has had, and we expect it to continue to have, a materially adverse impact on the retail industry.

Covid-19 may also accelerate an ongoing shift in consumer shopping away from physical stores, which could adversely impact demand for endpoint ICs by retailers.

T he extent to which Covid-19 materially impacts the retail industry is unclear, as is the extent to which it will impact our product sales.

Other industries that are potential future drivers of RAIN adoption have also been impacted by Covid-19, although the long-term impact on our business is unclear.

For example, the aviation industry, which had proposed widespread luggage tagging, has been negatively impacted by Covid-19.

By contrast, SC&L has experienced increased demand which could positively impact our financial performance if such industry further adopts RAIN technology.

See the section captioned “Covid-19” for additional information .

The pace and scope of end-user adoption, slowed by Covid-19, remains uncertain, potentially causing large fluctuations in our operating results.

For a historical example of the potential impact of those fluctuations, in 2015 and 2016 several major retailers commenced deployments that significantly increased our endpoint IC sales, lengthening our product lead times.

In 2017 we invested in endpoint IC inventory to reduce those lead times, but in second-half 2017 the endpoint IC growth rate slowed, we believe was due primarily to delays in new deployments at several large retailers.

That decelerating growth rate engendered an endpoint IC channel inventory correction that negatively impacted our operating results for several subsequent quarters.

In response, we reduced our internal endpoint IC inventory in the second half of 2018 and throughout 2019.

Given the uncertainties in our market, we cannot assure you that we have appropriate internal inventory levels or that we will not experience inventory shortfalls or overages in the future.

We also cannot assure you that we will be able to maintain or grow the market share of any of our products, whether as a result of insufficient inventory, competitors copying our products, competition generally or for a host of other reasons.

Regardless of the uneven pace of retail industry adoption, we believe the underlying, long-term trend is continued RAIN adoption by the retail industry.

Our new M700 endpoint IC product will offer customers significant performance and costs advantages.

However, delays in production or qualification may impact market share at these and other retail deployments in the near term.

We also believe that expanding retail deployments foster RAIN adoption in other markets.

For a non-retail example of growing RAIN adoption, our reader and gateway sales in the second half of 2017 and our gateway sales in 2019 exceeded our expectations, in this case due to supply-chain end users deploying shipment-verification and asset-tracking use cases that demand real-time fixed reading.

We also see growing RAIN adoption in the aviation industry, led by baggage tagging.

We believe growing adoption will increase the value of our platform.

Consequently, we intend to continue introducing new products to improve our market position and further grow both retail and overall market adoption.

However, as noted below, at the current stage of RAIN adoption our revenue could decline on a quarterly or annual basis due to fluctuations caused by large-scale deployments by a limited number of large end-users.

If RAIN market adoption, and adoption of our platform products specifically, does not meet our expectations then our growth prospects and operating results will be adversely affected.

For another historical example, in late 2018 and in 2019 a large north American logistics provider deployed significant quantities of our gateway products, positively impacting our operating results for several quarters, and then transitioning to an operational phase in first-half 2020.

Given the uncertainties in our market, we cannot be certain that RAIN adoption will continue;

that we will have appropriate product inventory;

that we will not experience future product inventory shortfalls or overages;

or that Covid-19 will not materially impact our business.

We also cannot be certain that we will be able to maintain or grow our market share for any of our products, whether because of insufficient inventory, Covid-19, competitors copying our products, competition generally or for a host of other reasons, many of which are outside our control.

Regardless of the uneven pace of retail, SC&L and other industry adoption, we believe the underlying, long-term trend is continued RAIN adoption and as a result we have continued to invest in new products.

In our endpoint IC business, in 2020 we introduced our new Impinj M700, which offers significant performance advantages and we believe will foster adoption.

In our systems business, in 2020 we introduced our new Impinj R700 reader, which likewise offers significant performance advantages, and we believe will also foster adoption.

Despite us being in full production with both products by the end of 2020, Covid-19 has impacted demand and the speed with which we were able ramp up production, and the pace of adoption has been slower than we had anticipated.

We sell our products through partners and distributors and have limited ability to determine end-user demand.

Consequently, we may incorrectly forecast that demand or not identify market shifts in a timely fashion, potentially affecting our business adversely.

If RAIN market adoption, and adoption of our products specifically, does not meet our expectations or if we are unable to meet partner or end-user volume or performance expectations, because of the impact of Covid-19 or otherwise, then our operating results and growth prospects will be adversely affected.

If we reduce prices to win opportunities, then our gross margins may be negatively affected.

If we are unable to meet end-user or customer volume or performance expectations, then our business prospects may be adversely affected.

Because we sell our products through our channel partners, we have limited ability to determine end-user demand and we may incorrectly predict that demand or be unable to identify market shifts in a timely fashion, potentially affecting our business adversely.

In contrast, if our endpoint IC, reader IC, module, reader, gateway or software sales exceed expectations, then our revenue and profitability may be positively affected.

Timing and Complexity of Customer Deployments

From 2010 to 2019, our endpoint IC unit sales volumes increased at a compounded annual growth rate of 28%, indicating growing adoption of RAIN-based solutions.

However, the pace at which end users adopt RAIN has been uneven and unpredictable in scope and timing.

For example, our endpoint IC unit sales volumes increased significantly in 2016, declined in the second half of 2017 and in the first half of 2018 and returned to growth in the second half of 2018 and in 2019 (the latter albeit not at the same pace as in 2016).

In contrast, if our endpoint IC, reader IC, reader or gateway sales exceed expectations, then our revenue and profitability may be positively affected.

Timing and Complexity of End User Deployments

From 2010 to 2020, our endpoint IC sales volumes increased at a compounded annual growth rate of 25%.

However, the pace and scope of RAIN adoption has been uneven and unpredictable.

For example, our endpoint IC unit sales volumes increased significantly in 2016, declined in second-half 2017 and in first-half 2018, returned to growth in second-half 2018 and in 2019 (the latter albeit not at the same pace as in 2016), and then declined again in second- and third-quarter 2020 due to Covid-19.

Short-term demand will remain unpredictable in scope and timing.

Longer term, we believe our opportunity and our market will continue to grow, but we cannot predict whether historical annual growth rates are indicative of the pace of that future growth.

Further, although we promote our platform as an integrated offering , we sell our products individually, and end users often use only certain of our products.

For any given end-user solution, whether an end user chooses to deploy our entire p latform or only a portion will also affect our operating results.

COVID-19 makes forecasting challenging.

Although as of the date of this report we have not experienced significant impact to our business, we anticipate it may impact our M700 endpoint product ramp as inlay partners prioritize producing existing products over a new-product ramp.

Until we know more, we are unable to predict the full effects of COVID-19 on customer demand and the extent of which our operating results may be materially adversely affected.

Longer term, we believe our endpoint IC opportunity will continue to grow, but we cannot predict whether historical annual growth rates are indicative of the pace of future growth.

Additionally, Covid-19 may cause end users to eliminate or significantly reduce or delay spending on RAIN-based solutions, impacting endpoint IC growth.

Our systems business relies disproportionally on large-scale deployments at discrete end users.

The timing of those large deployments causes large variability in our systems revenue.

For example, we generated 14% of 2019 total revenue from a North American Systems customer in connection with a project-based deployment of gateways, which we expect to complete in the first quarter of 2020 .

If we are unable to replace project-based revenue from these discrete projects with new revenue streams, or if end users with sizable projects change or delay them without giving us adequate notice, we may experience significant fluctuation in revenue on a quarterly or annual basis, and we anticipate that uncertainty to continue to characterize our business for the foreseeable future.

For example, we generated 14% of total 2019 revenue from a North American logistics provider in connection with a project-based gateway deployment and we did not have a comparable new project-base revenue in 2020 .

Notably, Covid-19 has caused delays in some of our pending global system deployments as SIs , VARs and their end users’ business locations are temporarily closed, impacting our ability to replace project-based revenue in a timely fashion .

Finally, although we promote our platform as an integrated offering, we sell our products individually, and end users often use only certain of our products.

For any given end-user solution, whether an end user chooses to deploy our entire platform or only a portion will also affect our operating results.

Average Selling Price

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We expect that trend to continue.

Historically, we have been able to implement manufacturing and quality improvements that effectively reduce the per-unit cost of most of our hardware products, as well as introduce newer and lower-cost products, but the timing of these cost reductions and product introductions fluctuates and may not materialize in any given quarter or year.

We typically renegotiate pricing with most of our endpoint IC customers with an effective date of the first quarter of the calendar year, reducing both revenue and gross margins in the first quarter when compared with prior periods.

Historically, we have been able to implement manufacturing and quality improvements that effectively reduce the per-unit cost of most of our products, as well as introduce newer and lower-cost products, but the timing of these cost reductions and product introductions fluctuates and may not materialize in any given quarter or year.

We typically renegotiate pricing with most of our endpoint IC OEMs with an effective date of the first quarter of the calendar year, reducing both revenue and gross margins in the first quarter compared to prior periods.

The impact tends to decline in subsequent quarters as we reduce costs and, to the extent we can migrate our customers to newer, lower-cost products, adjust product mix.

Endpoint IC volumes also tend to be lower in the fourth quarter than the third quarter.

Endpoint IC volumes also tend to be lower in the fourth quarter than in the third quarter.

System sales tend to be stronger in the fourth quarter of the calendar year, and less strong in the first quarter.

We believe this seasonality is due to the availability of residual funding for capital expenditures prior to the end of many customers’ fiscal years.

While we expect these seasonal trends to continue, quarter-to-quarter variability in our revenue can be caused by a number of factors (e.g., timing of large deployments, supply constraints, etc.) that can mask seasonality in any given year.

These risks and uncertainties, as well as other risks and uncertainties that could cause our actual results to differ significantly from management’s expectations, are described in greater detail in Item 1A of Part II, “Risk Factors.”

While, over the longer term, we expect these seasonal trends to continue, quarter-to-quarter variability in our revenue can be caused by a number of factors including uncertainty in demand and supply as a result of Covid-19, the timing of large deployments, competitor product availability as well as supply constraints, any or all of which can mask seasonality in any given year.

Inventory Supply

From time to time we experience inventory overages or shortages, either due to us mis-estimating customer or end-user demand, constrained supplier manufacturing capacity or product availability, fluctuations in our market or the global economy, changes in regulations or tariffs or for a host of other reasons.

These inventory dynamics can impact some or all of our hardware products.

From time to time we experience inventory overages or shortages, either due to us mis-estimating customer or end-user demand, constrained supplier manufacturing capacity or our product availability, fluctuations in our market, including competitor product availability, or the global economy, changes in regulations or tariffs or for a host of other reasons.

These inventory dynamics can impact some or all of our products.

High inventory levels can result in product obsolescence, increases in reserves or unexpected expenses that adversely affect our business.

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For example, in 2010 we experienced wafer shortages from TSMC relative to our submitted endpoint IC wafer purchase orders because of high worldwide demand for semiconductor foundry capacity.

These shortage s adversely affected our ability to meet our customers’ demand and, in some cases, caused customers to cancel orders, qualify alternative suppliers or purchase from our competitors.

Semiconductor industry analysts predict high wafer demand again in 2020.

As of the date of this report, we have not experienced significant impact to our inventory supply related to COVID-19.

We are monitoring the spread of the disease and the severity and duration of the outbreak;

until we know more, we are unable to predict t he full effects of COVID-19 on our ability to satisfy demand for our products in a cost-effective manner.

These shortages adversely affected our ability to meet our customers’ demand and, in some cases, caused customers to cancel orders, qualify alternative suppliers or purchase from our competitors.

Our existing ICs use 200mm and 300mm wafers, with most of our volume still at 200mm, and some semiconductor industry analysts predict 200mm wafer demand to remain high throughout at least 2021.

Results of Operations

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Year ended December 31, 2020 compared with year ended December 31, 2019

Revenue and gross profit decreased due primarily to lower systems revenue, partially offset by higher endpoint IC revenue.

Gross margin decreased due primarily to revenue mix with systems revenue comprising a smaller portion of our total revenue.

Loss from operations increased due primarily to increased operating expenses and decreased gross profit.

The increase in operating expenses was primarily due to increased stock-based compensation expense, litigation-settlement and related costs incurred in second-quarter 2020, and increased research and development personnel expenses, partially offset by decreased sales and marketing personnel expenses.

Year ended December 31, 2019 compared with year ended December 31, 2018

Revenue and gross profit increased from increased endpoint IC and systems revenue.

The increase in endpoint IC revenue was primarily due to increased shipment volume.

The increase in systems revenue was primarily due to the large-scale North American systems deployment.

Gross margin increased primarily due to product mix with higher margin systems revenue representing a larger portion of our total revenue, and also from leverage derived from comparable overhead costs on increased revenue, partially offset by higher excess and obsolescence charges.

Gross margin increased primarily due to revenue mix with systems revenue representing a larger portion of our total revenue, and from leverage derived from comparable overhead costs on increased revenue, partially offset by higher excess and obsolescence charges.

Loss from operations decreased due to increased gross profit, partially offset by increased operating expenses.

A net increase in operating expenses was due to increased stock-based compensation expense and higher product development costs, partially offset by decreased restructuring costs and decreased personnel expenses .

Year ended December 31, 2018 compared with year ended December 31, 2017

Revenue and gross profit decreased primarily due to decreased endpoint IC revenue from lower ASPs, partially offset by increased systems sales.

Gross margin decreased primarily due to lower ASPs on endpoint ICs, higher overhead costs and excess and obsolescence charges recorded in 2018.

Loss from operations increased due to increased operating expenses and decreased gross profit.

A net increase in operating expenses was due to increased stock-based compensation expense, restructuring costs and costs attributable to an independent investigation by the audit committee of our board of directors in connection with a complaint filed by a former employee.

The outcome of the independent investigation was the audit committee of our board of directors concluding no credible evidence supported the former employee’s claims.

The increase in operating expenses was due to increased stock-based compensation expense and higher product development costs, partially offset by decreased restructuring costs and decreased personnel expenses .

Year Ended December 31,

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Total revenue

We currently derive substantially all our revenue from sales of our endpoint ICs, reader ICs, reader modules, readers and gateways.

We currently derive substantially all our revenue from sales of endpoint ICs, reader ICs, readers and gateways.

We sell our endpoint ICs primarily to inlay manufacturers;

our reader ICs and modules primarily to OEMs and ODMs through distributors;

and our readers and gateways to VARs, and SIs, primarily through distributors.

We are beginning to sell software through these same VAR and SI partners.

We expect endpoint IC sales to represent a majority of our revenue for the foreseeable future.

our reader ICs primarily to OEMs and ODMs through distributors;

and our readers and gateways to value-added resellers, or VARs, and system integrators, or SIs, primarily through distributors.

We expect endpoint IC sales to represent the majority of our revenue for the foreseeable future.

Year ended December 31, 2020 compared with year ended December 31, 2019

Endpoint IC revenue increased $12.7 million.

Increased shipment volumes accounted for a $19.5 million increase, partially offset by a $3.6 million decrease due to declining ASPs and $3.2 million from the one-time product exchange we completed in the first quarter 2018 as described below.

The ASP decrease was primarily due to our annual price negotiation as discussed above under “—Factors Affecting Our Performance—Seasonality” and, to a lesser extent, product mix.

Systems revenue increased $17.5 million, primarily due to $16.5 million and $3.2 million increases in gateway and reader revenue, respectively.

These gateway and reader revenue increases were primarily due to increased shipment volumes, with gateway revenue favorably impacted by the large-scale North American systems deployment described above.

The systems revenue increases were offset by a $2.1 million decrease in reader IC and reader module revenue due to both lower shipment volumes and ASPs.

Endpoint IC revenue increased $4.7 million, due primarily to a $7.0 million increase in shipment volumes, partially offset by a $2.3 million decrease due to lower ASPs.

The ASP decrease was due primarily to our annual price negotiations as discussed above under “—Factors Affecting Our Performance—Seasonality”, partially offset by favorable product mix .

The increase in shipment volumes was due primarily to growth in our customers’ underlying business before Covid-19 negatively impacted global retail apparel sales starting second-quarter 2020 and subsequent demand recovery in fourth-quarter 2020.

Systems revenue decreased $18.6 million, due primarily to decreases of $14.8 million in gateway revenue and $5.2 million in reader revenue, partially offset by a $1.3 million increase in reader IC revenue.

Gateway revenue decreased due primarily to the North American logistics provider in connection with a project-based gateway deployment described above;

reader revenue decreased due primarily to lower shipment volumes, in part caused by Covid-19 related delays in systems deployments;

reader IC revenue increased primarily due to higher shipment volumes.

For more information, see the sections captioned “—Factors Affecting Our Performance—Covid-19” and “Risk Factors—Covid-19 has adversely affected our business, and the magnitude and duration of future Covid-19 effects on our financial position, results of operations, cash flows and business prospects are uncertain.”

Year ended December 31, 2019 compared with year ended December 31, 2018

Endpoint IC revenue decreased $6.7 million on similar volumes, primarily due to a $9.1 million decrease due to declining ASPs.

The ASP decrease was primarily associated with our annual price negotiation as discussed above under “—Factors Affecting Our Performance—Seasonality”.

Partially offsetting the decrease was revenue recognized related to a product exchange we completed in the first quarter of 2018.

In 2017, endpoint IC revenue was impacted by a sales returns reserve of $3.2 million related to the product exchange;

we recognized $3.2 million revenue upon completing the product exchange in the first quarter of 2018.

Systems revenue increased $4.1 million primarily due to increases of $5.7 million in reader IC and reader module revenue from higher shipment volumes and ASPs and $3.5 million in gateway revenue from the large-scale North American systems deployment described above.

These increases in systems revenue were partially offset by a $4.5 million decrease in reader revenue from lower shipment volumes.

Endpoint IC revenue increased $12.7 million, due primarily to a $19.5 million increase in shipment volumes, partially offset by a $3.6 million decrease due to lower ASPs and $3.2 million from the one-time product exchange we completed in the first quarter 2018.

The ASP decrease was due primarily to our annual price negotiation as discussed above and, to a lesser extent, product mix.

Systems revenue increased $17.5 million, due primarily to increases of $16.5 million in gateway revenue and $3.2 million in reader revenue.

These gateway and reader revenue increases were due primarily to increased shipment volumes, with gateway revenue favorably impacted by the North American logistics provider in connection with a project-based gateway deployment described above .

The systems revenue increases were partially offset by a $2.1 million decrease in reader IC revenue due to both lower shipment volumes and ASPs.

Gross Profit and Gross Margin

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Cost of revenue

Cost of revenue includes costs associated with manufacturing our endpoint ICs, reader ICs, reader modules, readers and gateways, including direct materials and outsourced manufacturing costs as well as associated overhead costs such as logistics, quality control, planning and procurement.

Cost of revenue includes costs associated with manufacturing our endpoint ICs, reader ICs, readers and gateways, including direct materials and outsourced manufacturing costs as well as associated overhead costs such as logistics, quality control, planning and procurement.

Cost of revenue also includes charges for excess and obsolescence and warranty costs.

Our gross margin varies from period to period based on mix of endpoint IC and systems revenue, underlying product margins driven by changes in ASPs or costs, as well as from charges for excess and obsolescence.

Our gross margin varies from period to period based on mix of endpoint IC and systems revenue, underlying product margins driven by changes in ASPs or costs, as well as from inventory excess and obsolescence charges.

Year ended December 31, 2020 compared with year ended December 31, 2019

Cost of revenue increased $14.5 million primarily due to increased shipment volume of both endpoint ICs and systems and to a lesser extent higher excess and obsolescence charges.

Gross margin increased 0.9% primarily due to product mix with higher margin systems revenue representing a larger portion of our total revenue, as well as from leverage derived from comparable overhead costs on increased revenue, partially offset by higher excess and obsolescence charges .

Cost of revenue decreased $5.1 million, due primarily to decreased systems revenue partially offset by increased endpoint IC revenue.

Gross margin decreased 1.5%, due primarily to revenue mix with systems revenue comprising a smaller portion of our total revenue.

Inventory excess and obsolescence charges had an unfavorable net gross-margin impact of 2.2% in 2020.

Year ended December 31, 2019 compared with year ended December 31, 2018

Cost of revenue increased $4.0 million primarily due to higher overhead costs and excess and obsolescence charges .

Gross margin decreased 4.3% primarily due to higher overhead costs and excess and obsolescence charges and the lower ASPs of our endpoint ICs as noted above.

Cost of revenue increased $14.5 million, due primarily to increased revenue of both endpoint ICs and systems and to a lesser extent higher excess and obsolescence charges.

Gross margin increased 0.9% due primarily to revenue mix w ith systems revenue comprising a larger portion of our total revenue, as well as from leverage derived from comparable overhead costs on increased revenue, partially offset by higher excess and obsolescence charges .

Inventory excess and obsolescence charges had an unfavorable net gross-margin impact of 1.7% in 2019.

The gross margin decrease was partially offset by product mix with higher margin systems revenue representing a larger portion of our total revenue .

Operating Expenses

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Research and development

Research and development expense consists primarily of personnel expenses (salaries, benefits and other employee related costs) and stock-based compensation expense for our product-development personnel;

external consulting and service costs;

Research and development expense comprises primarily personnel expenses (salaries, benefits and other employee related costs) and stock-based compensation expense for our product-development personnel;

prototype materials;

other new product development costs;

other new-product development costs, including external consulting and service costs;

and an allocated portion of infrastructure costs which include occupancy, depreciation and software costs.

We expect research and development expense to increase in absolute dollars in future periods as we focus on new product development and introductions;

however, we will continue to monitor the impacts of Covid-19 on our business and may adjust our research and development investment strategy as appropriate.

Year ended December 31, 2020 compared with year ended December 31, 2019

Research and development expense increased $4.7 million, comprised primarily of increases of $2.8 million in stock-based compensation expense from PSUs and an increased number of stock options and RSUs, $778,000 in product development costs as a result of fluctuations in the timing of development activities, $554,000 in personnel expenses from a change in headcount mix and $463,000 in infrastructure costs from higher depreciation expense.

Research and development expense increased $9.7 million, due primarily to increases of $4.2 million in personnel expenses from higher headcount, $3.9 million in stock-based compensation expense from PSUs and an increased number of stock options and RSUs and $1.2 million in product development costs as a result of fluctuations in the timing of development activities and $589,000 in infrastructure costs from increased software costs.

Year ended December 31, 2019 compared with year ended December 31, 2018

Research and development expense increased $1.9 million, comprised primarily of increases of $1.2 million in stock-based compensation expense from an increased number of stock options and $1.1 million in personnel expenses from a change in headcount mix, and, to a lesser extent, bonus expense we accrued in 2018 compared to non-achievement in 2017.

Research and development expense increased $4.7 million, due primarily to increases of $2.8 million in stock-based compensation expense from PSUs and an increased number of stock options and RSUs, $778,000 in product development costs as a result of fluctuations in the timing of development activities, $554,000 in personnel expenses from a change in headcount mix and $463,000 in infrastructure costs.

Sales and Marketing

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Sales and marketing

Sales and marketing expense consists primarily of personnel expenses (salaries, incentive sales compensation, or commission, benefits and other employee related costs) and stock-based compensation expense for our sales and marketing personnel;

Sales and marketing expense comprises primarily personnel expenses (salaries, incentive sales compensation, or commission, benefits and other employee related costs) and stock-based compensation expense for our sales and marketing personnel;

travel, advertising and promotional expenses;

and an allocated portion of infrastructure costs which include occupancy, depreciation and software costs.

We expect sales and marketing expense to remain approximately constant on an absolute dollar basis.

We expect incentive sales compensation to fluctuate as a function of revenue.

We expect sales and marketing expense to remain approximately constant on an absolute dollar basis, except for incentive sales compensation which fluctuates as a function of revenue and travel-related expense which depends on Covid-19’s travel restrictions.

In addition, we will continue to monitor the impacts of Covid-19 on our business and may adjust our sales and marketing expense as appropriate .

Year ended December 31, 2020 compared with year ended December 31, 2019

Sales and marketing expense decreased $4.0 million, due primarily to decreases of $3.3 million in personnel expenses from lower commission expense and, to a lesser extent, lower headcount, and $1.3 million from travel related expense due to Covid-19.

These decreases were partially offset by a $ 516,000 increase in infrastructure costs from increased software costs.

Year ended December 31, 2019 compared with year ended December 31, 2018

Sales and marketing expense in 2019 remained comparable to 2018;

we had decreases of $1.3 million in personnel expense due to lower headcount and bonus expense partially offset by higher commission expense, $354,000 in infrastructure costs and $312,000 in travel related expense.

we had a decrease of $1.3 million in personnel expense due to lower headcount and bonus expense partially offset by higher commission expense, and decreases of $354,000 in infrastructure costs and $312,000 in travel related expense.

These decreases were offset by a $1.8 million increase in stock-based compensation expense from PSUs and an increased number of stock options and RSUs.

Year ended December 31, 2018 compared with year ended December 31, 2017

Sales and marketing expense increased $1.4 million, comprised primarily of increases of $1.1 million in personnel expenses from higher commissions and bonus expense we accrued in 2018 compared to non-achievement in 2017 and $1.1 million in stock-based compensation expense from an increased number of stock options, partially offset by a decrease of $566,000 in marketing and advertising costs.

General and Administrative

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General and administrative

General and administrative expense consists primarily of personnel expenses (salaries, benefits, and other employee related costs) and stock-based compensation expense for our executive, finance, human resources and information technology personnel;

General and administrative expense comprises primarily personnel expenses (salaries, benefits, and other employee related costs) and stock-based compensation expense for our executive, finance, human resources and information technology personnel;

legal, accounting and other professional service fees;

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and an allocated portion of infrastructure costs which include, occupancy, depreciation and software costs.

We expect general and administrative expense to increase due to higher accounting and compliance costs as a result of being a public company and professional service fees related to our ongoing litigation.

We will continue to monitor the impacts of Covid-19 on our business and may adjust our general and administrative expense as appropriate .

Year ended December 31, 2020 compared with year ended December 31, 2019

General and administrative expense increased $1.8 million, comprised primarily of an increase of $2.3 million in stock-based compensation from PSUs and an increased number of stock options and RSUs, partially offset by a $455,000 decrease in personnel expenses from lower bonus expense.

Our professional service fees in 2019 remained comparable to 2018 with higher legal fees related to IP- and class-action litigation offset by no third-party investigation costs in 2019 in connection with the complaint filed by a former employee described below.

General and administrative expense increased $10.8 million due primarily to increases of $5.4 million in the litigation settlement and related costs described above, $3.1 million in stock-based compensation expense from PSUs and an increased number of stock options and RSUs , $1.3 million in non-settlement related legal fees and $723,000 in personnel expenses from higher headcount.

Year ended December 31, 2019 compared with year ended December 31, 2018

General and administrative expense increased $4.1 million, comprised primarily of increases of $1.5 million in personnel expenses from a change in headcount mix and bonus expense we accrued in 2018 compared to non-achievement in 2017, $1.4 million in stock-based compensation expense from an increased number of stock options and $1.4 million in third-party investigation costs incurred in 2018 in connection with a complaint filed by a former employee.

The outcome of the independent investigation was the audit committee of our board of directors concluding no credible evidence supported the former employee’s claims.

General and administrative expense increased $1.8 million, due primarily to an increase of $2.3 million in stock-based compensation from PSUs and an increased number of stock options and RSUs, partially offset by a $455,000 decrease in personnel expenses from lower bonus expense.

Our professional service fees in 2019 remained comparable to 2018 with higher non-settlement related legal fees offset by no third-party investigation costs in 2019 in connection with the complaint filed by a former employee .

Restructuring costs

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Restructuring costs

On February 13, 2018, we initiated a restructuring plan to align our strategic and financial objectives and optimize our resources fo r long-term growth, including a reduction-in-force affecting approximately 9% of our employees, subleasing unused office space and closing some remote offices.

On February 13, 2018, we initiated a restructuring plan to align our strategic and financial objectives and optimize our resources for long-term growth, including a reduction-in-force affecting approximately 9% of our employees, subleasing unused office space and closing some remote offices.

The restructuring was substantially complete as of June 30, 2018.

As a result of the restructuri ng, we recorded a restructuring charge of $3.7 million for the year ended December 31, 2019.

As a result of the restructuring, we recorded a $3.7 million restructuring charge in 2018.

Other Income, Net

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Other income, net

Other income, net consists of interest and accretion income earned on our cash, cash equivalents and short-term investments and remeasurement gains and losses on foreign currency.

Other income, net comprises primarily interest income on our short-term investments .

Year ended December 31, 2020 compared with year ended December 31, 2019

Other income, net increased $434,000 primarily due to increased interest income from higher average short-term-investments in 2019 compared to 2018.

Other income, net decreased $592,000, due primarily to a lower interest rate on our short-term investments.

Year ended December 31, 2019 compared with year ended December 31, 2018

Other income, net increased $300,000 primarily due to increased accretion income from our short-investments in 2018 compared to 2017.

Other income, net increased $434,000, due primarily to increased interest income from higher average short-term-investments in 2019 compared to 2018.

Interest Expense

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Interest expense

Interest expense consists primarily of cash interest, amortization of debt issuance costs and, to a lesser extent, amortization of debt discount on our long-term debt.

Interest expense comprises primarily cash interest, amortization of debt issuance costs and debt discount on our long-term debt.

Year ended December 31, 2020 compared with year ended December 31, 2019

Interest expense increased $391,000 primarily due to higher average outstanding borrowings under our senior credit facility in 2019 compared to 2018.

Interest expense increased $3.6 million, due primarily to an increase in amortization of debt discount related to our subordinated convertible notes, or the 2019 Notes.

For further information on the 2019 Notes, please refer to Note 7 to our consolidated financial statements included elsewhere in this report .

Year ended December 31, 2019 compared with year ended December 31, 2018

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In connection with this repayment, we recorded a $576,000 loss on debt extinguishment, comprising a $470,000 prepayment penalty fees and a $106,000 write-off of unamortized debt issuance costs.

Income Tax Benef it (Expense)

Income Tax Benefit (Expense)

Year Ended December 31,

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We are subject to federal and state income taxes in the United States and foreign jurisdictions.

Income tax benefit for both 2018 and 2017 was primarily due to the enactment-date effects of the Tax Cuts and Jobs Act of 2017 that included adjusting deferred tax assets and liabilities.

Year ended December 31, 2020 compared with year ended December 31, 2019

Income tax expense remained comparable to the prior period .

Year ended December 31, 2019 compared with year ended December 31, 2018

Income tax benefit for 2018 was primarily due to the enactment-date effects of the Tax Cuts and Jobs Act of 2017 that included adjusting deferred tax assets and liabilities.

Non-GAAP Financial Measures

Our key non-GAAP performance measures include adjusted EBITDA and non-GAAP net income (loss), as defined below.

We use adjusted EBITDA and non-GAAP net income (loss) as key measures to understand and evaluate our core operating performance and trends, to prepare and approve our annual budget a nd to develop short- and long-term operating plans.

We believe excluding those items provides useful information for period-to-period comparisons of our business to allow investors and others to understand and evaluate our operating results in the same manner as it does for our management and board of directors.

We use adjusted EBITDA and non-GAAP net income (loss) as key measures to understand and evaluate our core operating performance and trends, to prepare and approve our annual budget and to develop short- and long-term operating plans.

We believe these measures provide useful information for period-to-period comparisons of our business to allow investors and others to understand and evaluate our operating results in the same manner as our management and board of directors.

Our presentation of these non-GAAP financial measures is not meant to be considered in isolation or as a substitute for our financial results prepared in accordance with GAAP, and our non-GAAP measures may be different from similarly termed non-GAAP measures used by other companies.

Adjusted EBITDA

We define adjusted EBITDA differently in this report than we have in the past, due to loss on debt extinguishment incurred in connection with the December 2019 repayment of our senior credit facility.

We define adjusted EBITDA as net income (loss) determined in accordance with GAAP, excluding, if applicable for the periods presented, the effects of stock-based compensation;

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restructuring costs;

settlement and related costs;

other income, net;

interest expense;

loss on debt extinguishment and income tax benefit (expense).

We have excluded loss on debt extinguishment because we do not believe it reflects our core operations.

The exclusion of loss on debt extinguishment does not impact adjusted EBITDA previously reported for prior periods.

loss on debt extinguishment;

and income tax benefit (expense).

In fourth-quarter 2019, we revised our definition of adjusted EBITDA to exclude loss on debt extinguishment incurred in connection with the December 2019 repayment of our senior credit facility.

In second-quarter 2020, we revised our definition of adjusted EBITDA to exclude litigation settlement costs for the class-action and derivative lawsuits, including related costs.

We have excluded these costs and expenses because we do not believe they reflect our core operations and us excluding them enables more consistent evaluation of our operating performance.

Neither revision to the definition of adjusted EBITDA impacted adjusted EBITDA previously reported for prior periods preceding the revisions.

The following table presents a reconciliation of net loss to adjusted EBITDA :

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Loss on debt extinguishment

Income tax expense (benefit)

Income tax expense (benefits)

Stock-based compensation

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Investigation costs

Settlement and related costs

Adjusted EBITDA

Non-GAAP Net Income (Loss)

We define non-GAAP net income (loss) differently in this report than we have in the past due to the prepayment penalty on debt extinguishment incurred in connection with the December 2019 repayment of our senior credit facility and amortization of debt discount related to the equity component of the 2019 Notes.

Amortization of debt issuance costs and non-cash income tax benefit (expense) are no longer excluded from non-GAAP net income (loss).

We define non-GAAP net income (loss) as net income (loss) determined in accordance with GAAP, excluding, if applicable for the periods presented, the effects of stock-based compensation;

We define non-GAAP net income (loss) as net income (loss), excluding, if applicable for the periods presented, the effects of stock-based compensation;

depreciation;

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restructuring costs;

settlement and related costs;

amortization of debt discount related to the equity component of our convertible notes;

and prepayment penalty on debt extinguishment.

In fourth-quarter 2019, we revised our definition of non-GAAP net income (loss) to exclude the prepayment penalty on debt extinguishment incurred in connection with the December 2019 repayment of our senior credit facility and amortization of debt discount related to the equity component of the 2019 Notes.

We have revised the prior period non-GAAP net income (loss) to conform to our current period presentation.

Under GAAP, certain convertible debt instruments that may be settled in cash on conversion are required to be accounted for as separate liability and equity components in a manner that reflects our non-convertible debt borrowing rate.

This results in the debt component being treated as though it was issued at a discount, with the debt discount being accreted as additional non-cash interest expense over the term of the notes using the effective interest method.

In second-quarter 2020, we revised our definition of non-GAAP net income (loss) to exclude litigation settlement costs for the class-action and derivative lawsuits, including related costs.

Excluding settlement and related costs did not impact non-GAAP net income (loss) previously reported for prior periods preceding the revision.

GAAP requires that certain convertible debt instruments that may be settled in cash on conversion be accounted for as separate liability and equity components in a manner that reflects our non-convertible debt borrowing rate.

This accounting results in the debt component being treated as though it was issued at a discount, with the debt discount being amortized as additional non-cash interest expense over the debt instrument term using the effective interest method.

As a result, we believe that excluding this non-cash interest expense attributable to the debt discount in calculating our non-GAAP net income (loss) is useful because this interest expense is not indicative of our ongoing operational performance.

We incurred a prepayment penalty on debt extinguishment in connection with the December 2019 repayment of our senior credit facility, which was included in loss on debt extinguishment in our consolidated statements of operations.

Because of the non-recurring nature of the prepayment fees, we believe this expense is not representative of ongoing operation costs.

The following table presents a reconciliation of net loss to non-GAAP net income (loss) :

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Prepayment penalty on debt extinguishment

Settlement and related costs

Non-GAAP net income (loss)

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As of December 31, 2020, we had cash, cash equivalents and short-term investments of $106.1 million, comprising cash deposits held at major financial institutions and short-term investments in a variety of securities, including U.S.

government agencies, corporate bonds and notes and money market funds.

government agencies, treasury bills, corporate notes and bonds, commercial paper and money market funds.

As of December 31, 2020, we had working capital of $143.8 million.

Historically, we have funded our operations primarily through cash generated from operations, the issuance of equity securities and the 2019 Notes or the borrowing of debt under our senior credit facility.

In 2019, 2018 and 2017, our principal uses of cash were funding operations, debt service payments, and capital expenditures.

Historically, we have funded our operations primarily through cash generated from operations and by issuing equity securities, convertible-debt offerings and/or borrowing under our prior senior credit facility.

In 2021, our principal use of cash is funding operations to capture our market opportunity and capital expenditures.

We believe, based on our current operating plan, that our existing cash, cash equivalents and short-term investments will be sufficient to meet our anticipated cash needs for at least the next 12 months.

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We can provide no assurance that any additional financing will be available to us on acceptable terms.

In December 2019, we issued the 2019 Notes in an a ggregate principal amount of $86.3 million.

In December 2019, we issued the 2019 Notes in an aggregate principal amount of $86.3 million.

The 2019 Notes are our senior unsecured obligations.

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The 2019 Notes will be convertible into cash, shares of our common stock or a combination thereof, at our election.

The 2019 Notes will mature on December 15, 2026, unless earlier repurchased, redeemed, or converted in accordance with the terms of t he indenture for the 2019 Notes.

The net proceeds from issuing the 2019 Notes were approximately $83.

5 million after deducting fees and expenses.

The 2019 Notes will mature on December 15, 2026, unless earlier repurchased, redeemed, or converted in accordance with the terms of the indenture for the 2019 Notes.

The net proceeds from issuing the 2019 Notes were approximately $83.5 million after deducting fees and expenses.

We used the net proceeds from issuing the 2019 Notes to pay the cost of the capped call transactions and repay our senior credit facility.

We intend to use the remainder of the net proceeds for general corporate purposes.

For information on our debt facilities, please refer to Note 7 to our consolidated financial statements included elsewhere in this report.

Our principal uses of cash are our operating expenses, inventory purchases, interest repayment and other working capital requirements.

For further information on the terms of this debt, please refer to Note 7 to our consolidated financial statements included elsewhere in this report.

Historical Cash Flow Trends

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Net cash provided by (used in) operating activities

Net cash provided by (used in) investing activities

Net cash used in investing activities

Net cash provided by financing activities

Operating Cash Flows

For the year ended December 31, 2019, net cash provided by operating activities was $4.7 million.

The cash proceeds comprised a working capital contribution of $4.1 million and a net loss adjusted for non-cash items of $584,000.

The w orking capital contribution was primarily due to lower cash usage in inventory purchases, partially offset by lower cash collections in accounts receivable due to the timing of when amounts came due.

For the year ended December 31, 2018, net cash used in operating activities was $11.8 million.

The cash usage comprised a net loss adjusted for non-cash items of $20.6 million, offset by a working capital contribution of $8.8 million.

The working capital contribution was primarily due to higher cash collection in accounts receivable due to the timing of when amounts came due and lower cash usage in inventory purchases.

For the year ended December 31, 2017, net cash used in operating activities was $35.9 million.

The cash usage comprised a working capital usage of $30.1 million and a net loss adjusted for non-cash items of $5.8 million.

The working capital usage was primarily due to higher cash usage in inventory purchases and lower cash collections in accounts receivable due to the timing of when amounts came due.

For the year ended December 31, 2020, we used $16.9 million of net cash from operating activities.

The net cash usage was driven primarily by $17.8 million of net loss adjusted for non-cash items, partially offset by $963,000 of working capital contribution.

For the year ended December 31, 2019, we generated $4.7 million of net cash from operating activities.

The net cash proceeds were driven primarily by $4.1 million of working capital contribution and $584,000 of a net loss adjusted for non-cash items.

The w orking capital contribution was primarily due to lower cash usage in inventory purchases, partially offset by lower cash collections in accounts receivable due to timing of when amounts became due.

For the year ended December 31, 2018, we used $11.8 million of net cash from operating activities.

The net cash usage was driven primarily by $20.6 million of net loss adjusted for non-cash items , offset by $8.8 million of working capital contribution.

The working capital contribution was primarily due to higher cash collection in accounts receivable due to timing of when amounts be came due and lower cash usage in inventory purchases.

Investing Cash Flows

For the year ended December 31, 2019, net cash used in investing activities was $13.1 million.

This cash usage comprised investments purchases of $72.4 million and equipment purchases of $2.4 million, partially offset by investment maturities of $61.7 million.

For the year ended December 31, 2018, net cash used in investing activities was $5.7 million.

This cash usage comprised investments purchases of $51.7 million and equipment purchases of $6.4 million, partially offset by investment maturities of $52.4 million.

For the year ended December 31, 2017, net cash provided by investing activities was $21.4 million.

The cash proceeds comprised investment maturities of $77.1 million, partially offset by investments purchases of $49.1 million and equipment purchases of $6.6 million.

For the year ended December 31, 2020, we used $36.3 million of net cash from investing activities.

The net cash usage was driven primarily by investments and equipment purchases of $82.7 million and $3.1 million, respectively, partially offset by investment maturities of $49.5 million.

For the year ended December 31, 2019, we used $13.1 million of net cash from investing activities.

The net cash usage was driven primarily by investments and equipment purchases of $72.4 million and $2.4 million, respectively, partially offset by investment maturities of $61.7 million.

For the year ended December 31, 2018, we used $5.7 million of net cash from investing activities.

The net cash usage was driven primarily by investments and equipment purchases of $51.7 million and $6.4 million, partially offset by investment maturities of $52.4 million.

Financing Cash Flows

For the year ended December 31, 2019, net cash provided by financing activities was $57.8 million.

The cash proceeds comprised primarily $83.5 million from issuance of the 2019 Notes, $9.1 million from exercised stock options and our employee stock purchase plan and $4.0 million in term loan borrowings, net of debt issuance costs.

These proceeds were partially offset by repayments of indebtedness of $28.2 million of principal under our senior credit facility and a $10.1 million of premium we paid for the capped call transactions.

For the year ended December 31, 2018, net cash provided by financing activities was $15.7 million.

The cash proceeds comprised primarily of $16.4 million in term loan borrowings, net of debt issuance costs and $2.7 million from exercised stock options and our employee stock purchase plan.

These proceeds were partially offset by repayments of indebtedness of $2.5 million of principal under our senior credit facility and payments of $0.9 million for capital-lease financing obligations.

For the year ended December 31, 2017, net cash provided by financing activities was $137,000.

The cash proceeds comprised primarily of $4.7 million from exercised stock options and our employee stock purchase plan.

These proceeds were partially offset by payments of $600,000 for offering costs, $1.1 million for capital lease financing obligations, and indebtedness repayments of $2.8 million of principal under our senior credit facility.

For the year ended December 31, 2020, we generated $9.9 million of net cash from financing activities.

The net cash proceeds were driven primarily by $10.2 million from exercised stock options and our employee stock purchase plan.

For the year ended December 31, 2019, we generated $57.8 million of net cash from financing activities.

The net cash proceeds were driven primarily by $83.5 million from issuance of the 2019 Notes, $9.1 million from exercised stock options and our employee stock purchase plan and $4.0 million in term loan borrowings, net of debt issuance costs.

These proceeds were partially offset by repayments of indebtedness of $28.2 million of principal under our senior credit facility and $10.1 million of premium we paid for the capped call transactions.

For the year ended December 31, 2018, we generated $15.7 million of net cash from financing activities.

The net cash proceeds were driven primarily by $16.4 million in term loan borrowings, net of debt issuance costs and $2.7 million from exercised stock options and our employee stock purchase plan.

These proceeds were partially offset by repayments of indebtedness of $2.5 million of principal under our senior credit facility and payments of $0.9 million for finance-lease obligations.

Contractual Obligations

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Convertible senior notes (1)

Finance lease obligations

Operating lease obligations

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Purchase commitments (2)

(1) Convertible senior notes include $12.1 million of interest payments.

(1) 2019 Notes include $10.4 million of interest payments.

(2) Purchase commitments comprise primarily non-cancelable commitments to purchase $9.9 million of inventory as of December 31, 2020, as well as non-cancelable software license agreements with vendors.

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Critical Accounting Policies and Significant Estimates

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements which have been prepared in accordance with GAAP.

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements which we have prepared in accordance with GAAP.

The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets and liabilities and related disclosure of contingent assets and liabilities, revenue and expenses at the date of the consolidated financial statements.

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Actual results may differ from these estimates under other assumptions or conditions.

Critical accounting policies and estimates are those that we consider the most important to the portrayal of our financial condition and results of operations because the y require our most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.

Critical accounting policies and estimates are those that we consider the most important to the portrayal of our financial condition and results of operations because they require our most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.

Our critical accounting policies and estimates include those related to:

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As such, we do not adjust our revenues for the effects of a significant financing component.

We recognize any variable consideration, which primarily comprises sales incentives, is recognized as a reduction of revenue at the time of revenue recognition.

We recognize any variable consideration, which primarily comprises sales incentives, as a reduction of revenue at the time of revenue recognition.

We estimate sales incentives based on our historical experience and current expectations at the time of revenue recognition and update them at the end of each reporting period as additional information becomes available.

Our reader and gateway products are highly dependent on, and interrelated with, embedded software and cannot function without this embedded software.

Our reader and gateway products are highly dependent on embedded software and cannot function without this embedded software.

In these cases, we account for the hardware and software license as a single performance obligation and recognize revenue at the point in time when control is transferred.

Additionally, we sell standalone system software that configures, manages and controls readers and gateways and other software that performs other functions.

This standalone software is not integrated directly in the functionality of the reader or gateway.

Our software licenses, both for embedded and standalone software, provide the customer with a right to use the software as it exists when we make it available to the customer.

Based on the software product, customers purchase either perpetual licenses or subscribe to licenses for a specified term, which differ mainly in the duration over which the customer benefits from the software.

Consequently, we recognize revenue for standalone software at a point in time when the software is made available to the customer.

Our contracts with customers with multiple performance obligations generally include a combination of hardware products, standalone software, extended warranty and enhanced maintenance and support services.

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We receive payments under these agreements based on a billing schedule.

Contract assets relate to our conditional right to co nsideration for our completed performance under these agreements.

Contract assets relate to our conditional right to consideration for our completed performance under these agreements.

Accounts receivable are recorded when the right to consideration becomes unconditional.

Contract liabilit ies , or deferred revenue relate to payments received in advance of performance under the contract.

Contract liabilities are recognized as revenue as we perform under the contract.

For the periods presented in this report, our contract assets, deferred revenue and the value of unsatisfied performance obligations for nonrecurring engineering development agreements are not material.

If our customer pays consideration before we transfer a good or service to the customer under the contract, those amounts are classified as contract liabilities, or deferred revenue.

Contract liabilities are recognized as revenue as we transfer control of the promised goods or services to our customers.

Payment terms typically range from 30 to 120 days.

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We recorded inventory excess and obsolescence charges, which had an unfavorable net impact of 2.2%, 1.7% and 1.2% on our gross margin for 2020, 2019 and 2018, respectively.

Inventory excess and obsolescence charges were not material for the year ended December 31, 2017.

We use the asset and liability approach for accounting, which requires recognizing deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the financial statement and tax bases.

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We have established a valuation allowance against the carrying value of our deferred tax assets, as it is currently more likely than not that we will not be able to realize these deferred tax assets.

In addition, using NOLs and credits to of fset future income subject to taxes may be subject to substantial annual limitations due to the “change in ownership” provisions of the Code and similar state provisions.

Events that cause limitations in the amount of NOLs that we may use in any one year i nclude, but are not limited to, a cumulative ownership change of more than 50%, as defined by Code Sections 382 and 383, over a three-year period.

Utilizing our NOLs and tax credit carryforwards could be significantly reduced if a cumulative ownership chan ge of more than 50% has occurred in our past or occurs in our future .

In addition, using NOLs and credits to offset future income subject to taxes may be subject to substantial annual limitations due to the “change in ownership” provisions of the Code and similar state provisions.

Events that cause limitations in the amount of NOLs that we may use in any one year include, but are not limited to, a cumulative ownership change of more than 50%, as defined by Code Sections 382 and 383, over a three-year period.

Utilizing our NOLs and tax credit carryforwards could be significantly reduced if a cumulative ownership change of more than 50% has occurred in our past or occurs in our future.

We do not anticipate that the amount of our existing unrecognized tax benefits will significantly increase or decrease within the next 12 months.

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These exemptions apply for a period of five years following the completion of our 2016 initial public offering or until we are no longer an “emerging growth company,” whichever is earlier.

Quantitative and Qualitati ve Disclosures About Market Risk

We are exposed to market risks in the ordinary course of our business.

Some of these risks are related to fluctuations in interest rates.

Interest Rate Risk

Under our current investment policy, we invest our excess cash in money market funds, U.S.

government agency securities, corporate bonds and notes and commercial paper .

Our current investment policy seeks first to preserve principal, second to provide liquidity for our operating and capital needs and third to maximize yield without putting our principal at risk.

We do not enter into investments for trading or speculative purposes.

We had cash, cash equivalents and short-term investments of $116.5 million and $56.1 million as of December 31, 2019 and 2018, respectively.

Our investments are exposed to market risk due to fluctuations in prevailing interest rates, which may reduce the yield on our investments or their fair value.

Because our investment portfolio is short-term in nature, we do not believe an immediate 10% increase in interest rates would have a material effect on the fair market value of our portfolio, and therefore we do not expect our results of operations or cash flows to be materially affected by a sudden change in market interest rates.

Our convertible notes have fixed interest rates, thus a hypothetical 100 basis point increase in interest rates would not impact interest expense.

Inflation Risk

We do not believe that inflation has had a material effect on our business, financial condition or results of operations.

If our costs were to become subject to significant inflationary pressures, we may not be able to fully offset such higher costs through price increases.

Our inability or failure to do so could adversely affect our business, financial condition and results of operations.

Foreign Currency Exchange Risk

Our foreign subsidiaries are considered to be extensions of the U.S.

The functional currency of our foreign subsidiaries is the U.S.

Accordingly, gains and losses resulting from remeasuring transactions denominated in currencies other than U.S.

dollars are included in other income, net on the consolidated statements of operations.

For any of the periods presented, we did not have material impact from exposure to foreign currency fluctuation.

As we grow operations, our exposure to foreign currency risk will likely become more significant.

Financial Statemen ts and Supplementary Data

Report of Independent Registered Public Accounting Firm

Consolidated Balance Sheets

Consolidated Statements of Operations

Consolidated Statements of Comprehensive Loss

Consolidated Statements of Changes in Stockholders’ Equity

Consolidated Statements of Cash Flows

Notes to Consolidated Financial Statements

The supplementary financial information required by this Item 8 is included in Item 7 under the caption “Quarterly Results of Operations.”

Report of Independent Regist ered Public Accounting Firm

To the Board of Directors and Stockholders of Impinj, Inc.

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of Impinj, Inc.

and its subsidiaries (the “Company”) as of December 31, 2019 and 2018, and the related consolidated statements of operations, of comprehensive loss, of changes in stockholders’ equity (deficit) and of cash flows for each of the three years in the period ended December 31, 2019, including 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 as of December 31, 2019 and 2018, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2019 in conformity with accounting principles generally accepted in the United States of America.

Change in Accounting Principle

As discussed in Note 2 to the consolidated financial statements, the Company changed the manner in which it accounts for leases in 2019.

Basis for Opinion

These consolidated financial statements are the responsibility of the Company’s management.

Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audits.

We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S.

federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits of these consolidated financial statements in accordance with the standards of the PCAOB.

Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated 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 consolidated 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 consolidated 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 consolidated financial statements.

We believe that our audits provide a reasonable basis for our opinion.

/s/ PricewaterhouseCoopers LLP

Seattle, Washington

March 2, 2020

We have served as the Company’s auditor since 2003.

Consolidated Balance Sheets

(in thousands, except par value)

December 31, 2019

December 31, 2018

Current assets:

Cash and cash equivalents

Short-term investments

Accounts receivable, net of allowances of $1,281 and $551 at December 31, 2019 and 2018, respectively

Prepaid expenses and other current assets

Total current assets

Property and equipment, net

Operating lease right-of-use assets

Other non-current assets

Liabilities and stockholders' equity:

Current liabilities:

Accounts payable

Accrued compensation and employee related benefits

Accrued liabilities

Current portion of operating lease liabilities

Current portion of restructuring liabilities

Current portion of long-term debt

Current portion of finance lease liabilities

Current portion of deferred rent

Current portion of deferred revenue

Total current liabilities

Long-term debt, net of current portion

Operating lease liabilities, net of current portion

Finance lease liabilities, net of current portion

Long-term liabilities — other

Long-term restructuring liabilities

Deferred rent, net of current portion

Deferred revenue, net of current portion

Total liabilities

Commitments and contingencies (Note 11)

Stockholders' equity:

Preferred stock, $0.001 par value — 5,000 shares authorized, no shares issued and outstanding at December 31, 2019 and 2018

Common stock, $0.001 par value — 495,000 shares authorized, 22,217 and 21,492 shares issued and outstanding at December 31, 2019 and 2018, respectively

Additional paid-in capital

Accumulated other comprehensive income (loss)

Accumulated deficit

Total stockholders' equity

Total liabilities and stockholders' equity

The accompanying notes are an integral part of these consolidated financial statements .

Consolidated Statements of Operations

(in thousands, except per share data)

Year Ended December 31,

Cost of revenue

Operating expenses:

Research and development

Sales and marketing

General and administrative

Restructuring costs

Total operating expenses

Loss from operations

Other income, net

Interest expense

Loss on debt extinguishment

Loss before income taxes

Income tax benefit (expense)

Net loss per share — basic and diluted

Weighted-average shares outstanding — basic and diluted

The accompanying notes are an integral part of these consolidated financial statements.

Consolidated Statements of Comprehensive Loss

(in thousands)

Year Ended December 31,

Other comprehensive income (loss), net of tax:

Unrealized gain (loss) on investments

Total other comprehensive income (loss)

Comprehensive loss

The accompanying notes are an integral part of these consolidated financial statements.

Consolidated Statements of Changes in Stockholders’ Equity

(in thousands)

Comprehensive

Stockholders'

Income (loss)

Balance at December 31, 2016

Issuance of common stock

Stock-based compensation

Other comprehensive loss

Balance at December 31, 2017

Issuance of common stock

Stock-based compensation

Other comprehensive income

Balance at December 31, 2018

Issuance of common stock

Stock-based compensation

Other comprehensive income

Equity component of issuance of 2019 Notes, net of issuance costs of $1,089 (Note 7)

Premiums paid for Capped Call Transactions (Note 7)

Balance at December 31, 2019

The accompanying notes are an integral part of these consolidated financial statements.

Consolidated Statements of Cash Flows

(in thousands)

Year Ended December 31,

Operating activities:

Adjustments to reconcile net loss to net cash provided by (used in) operating activities:

Stock-based compensation

Non-cash restructuring benefit

Accretion of discount or amortization of premium on short-term investments

Amortization of debt issuance costs and debt discount

Loss on debt extinguishment

Deferred income taxes

Changes in operating assets and liabilities:

Accounts receivable

Prepaid expenses and other assets

Deferred revenue

Deferred rent

Accounts payable

Accrued compensation and employee related benefits

Operating lease right-of-use assets

Operating lease liabilities

Accrued liabilities and other liabilities

Restructuring liabilities

Net cash provided by (used in) operating activities

Investing activities:

Purchases of investments

Proceeds from maturities of investments

Purchases of property and equipment

Net cash provided by (used in) investing activities

Financing activities:

Proceeds from issuance of 2019 Notes, net of issuance costs

Premiums paid for Capped Call Transactions

Principal payments on finance lease obligations

Payments on term and equipment loans

Proceeds from term loans, net of debt issuance costs

Proceeds from exercise of stock options and employee stock purchase plan

Payments of deferred offering costs

Net cash provided by financing activities

Net increase (decrease) in cash and cash equivalents

Cash and cash equivalents

Beginning of period

End of period

Supplemental disclosure of cash flow information:

Cash paid for interest

Supplemental disclosure of non-cash financing and investing activities:

Purchases of property and equipment not yet paid

Disposal of fully depreciated property and equipment

The accompanying notes are an integral part of these consolidated financial statements.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Description of Business

Impinj, Inc., a Delaware corporation, is headquartered in Seattle, Washington.

Impinj enables wireless connectivity for everyday items, delivering each item’s unique identity, location and authenticity to business and consumer applications.

Impinj’s platform spans endpoints, connectivity and software and provides wireless item connectivity and information delivery.

Impinj derives revenue from selling endpoint ICs, reader ICs, reader modules, readers, gateways and software as well as from development, service and license agreements.

Our integrated platform connects billions of everyday items to applications, delivering real-time information to businesses about items they create, manage, transport and sell.

Summary of Significant Accounting Policies

Basis of Presentation and Principles of Consolidation

The accompanying consolidated financial statements include Impinj, Inc.

and its wholly owned subsidiaries.

Intercompany balances and transactions have been eliminated in consolidation.

These consolidated financial statements have been prepared in conformity with U.S.

generally accepted accounting principles, or GAAP .

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make certain estimates, judgments and assumptions that affect the reported amounts of assets and liabilities and the related disclosures as of the date of the financial statements, as well as the reported amounts of revenue and expenses during the periods presented.

On an ongoing basis, we evaluate our estimates, including those related to revenue recognition, sales incentives, estimated costs to complete development contracts, deferred revenue, inventory excess and obsolescence, income taxes, the determination of the fair value of stock awards and compensation and employee related benefits.

To the extent there are material differences between these estimates, judgments, or assumptions and actual results, our financial statements will be affected.

Concentrations of Credit Risk

Financial instruments , which potentially subject us to concentrations of credit risk, consist primarily of cash equivalents, investments and accounts receivable.

We place cash and cash equivalents and investments with major financial institutions, which management assesses to be of high credit quality, to limit our investments exposure.

We extend credit to customers based upon our evaluation of the customer’s financial condition and generally collateral is not required.

The following table presents total revenue and accounts receivable concentration for the periods presented or as of the dates presented:

Year Ended December 31,

Avery Dennison

North American Systems customer

* Less than 10%

As of December 31,

Accounts Receivable:

Avery Dennison

* Less than 10%

Concentration of Supplier Risk

We outsource the manufacturing and production of our hardware products to a small number of suppliers.

Although there are a limited number of manufacturers for hardware products, we believe that other suppliers could provide similar products on comparable terms.

A change in suppliers, however, could cause a delay in manufacturing and a possible loss of sales, which would adversely affect our operating results.

Cash and Cash Equivalents

Cash includes demand deposits with banks or financial institutions.

Cash equivalents include short-term, highly liquid investments that are both readily convertible to known amounts of cash and so near their maturity that they present minimal risk of changes in value because of changes in interest rates.

Our cash equivalents include only investments with an original or remaining maturity of three months or less at the date of purchase.

We regularly maintain cash in excess of federally insured limits at financial institutions.

Our investments consist of fixed income securities, which include U.S.

government agency securities, corporate notes and bonds and commercial paper.

Because we use the investments to support current operations, the contractual maturities of our available-for-sale securities are due in one year or less and are classified as short-term investments .

Available-for-sale securities are carried at fair value with unrealized gains and losses reported as a component of accumulated other comprehensive income (loss) in stockholders’ equity, while realized gains and losses and other-than-temporary impairments are reported as a component of net income (loss) based on specific identification.

An impairment charge is recorded in the consolidated statements of operations for declines in fair value below the cost of an individual investment that are deemed to be other than temporary.

We assess whether a decline in value is temporary based on the length of time that the fair market value has been below cost, the severity of the decline and the intent and ability to hold or sell the investment.

The gross unrealized gains or losses on short-term investments as of December 31, 2019 and 2018 were not material.

We did not identify any investments as other-than-temporarily impaired as of December 31, 2019 or 2018.

Fair Value Measurement

Accounting standards define fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market in an orderly transaction between market participants on the measurement date.

The standards also establish a fair value hierarchy, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.

There are three levels of inputs that may be used to measure fair value:

Level 1 — Quoted prices in active markets for identical assets or liabilities.

Level 2 — Assets and liabilities valued based on observable market data for similar instruments, such as quoted prices for similar assets or liabilities.

Level 3 — Unobservable inputs that are supported by little or no market activity;

instruments valued based on the best available data, some of which is internally developed, and considers risk premiums that a market participant would require.

We applied the following methods and assumptions in estimating our fair value measurements:

Cash equivalents — Cash equivalents comprise highly liquid investments, including money market funds and certificates of deposit, with an original or remaining maturity of three months or less at the date of purchase .

The fair value measurement of these assets is based on quoted market prices in active markets.

Investments — Our investments comprise fixed income securities, which include U.S.

government agency securities, corporate notes and bonds, commercial paper and treasury bills.

The fair value measurement of these assets is based on observable market-based inputs or inputs that are derived principally from or corroborated by observable market data by correlation or other means.

Long-term debt — The fair values of our senior credit facility included in long-term debt in our consolidated balance sheets approximated carrying value based on the borrowing rates currently available to us for loans with similar terms using Level 2 inputs as of December 31, 2018.

See Note 7 for the carrying amount and estimated fair value of our convertible senior notes due in 2026.

Accounts Receivable and Allowances

Accounts receivable comprises amounts billed currently due from customers, net of an allowance for doubtful accounts, an allowance for sales returns and price exceptions.

The allowance for doubtful accounts is our best estimate of the amount of probable credit losses in existing accounts receivable and is determined based on our historical collections experience, age of the receivable, knowledge of the customer and the condition of the general economy and industry as a whole .

We record changes in our estimate to the allowance for doubtful accounts through bad debt expense and write off the receivable and corresponding allowance when accounts are ultimately determined to be uncollectible.

Bad debt expense is included in general and administrative expenses.

For the periods presented in this report, bad debt expense was not material.

The allowance for sales returns and price exceptions is our best estimate based on our historical experience and currently available evidence.

We record changes in our estimate to the allowance for sales returns and price exceptions through revenue and relieve the allowance when product returns are received for sales returns and when claims are processed for price exceptions.

In 2017, we reserved for $3.2 million related to a product exchange that we completed in the first quarter of 2018 .

The following table summarizes our allowance for sales returns (in thousands):

Balance at Beginning of Year

Additional Reserve

Applied Sales Return and Price Exceptions

Balance at End of Year

Allowance for sales returns and price exceptions:

During year ended December 31, 2019

During year ended December 31, 2018

During year ended December 31, 2017

Inventories are stated at the lower of cost or estimated net realizable value using the average costing method, which approximates the first-in, first-out method.

Inventories comprise raw materials, work-in-process and finished goods.

We continuously assess the value of our inventory and write down its value for estimated excess and obsolete inventory.

This evaluation includes an analysis of inventory on hand, current and forecasted demand, product development plans, and market conditions.

If future demand or market conditions are less favorable than our projections, or our product development plans change from current expectations, a write-down of excess or obsolete inventory may be required, and would be reflected in cost of goods sold in the period the updated information is known.

We recorded inventory excess and obsolescence charges, which had an unfavorable net impact of 1.7 % and 1.

2 % on our gross margin for 2019 and 2018, respectively.

Inventory excess and obsolescence charges were not material for the year ended December 31, 2017.

Property and Equipment

We record p roperty and equipment at cost and depreciate it using the straight-line method over the estimated useful lives of the related assets.

The useful lives are as follows:

Laboratory equipment

3 to 10 years

Computer equipment and software

Furniture and fixtures

Equipment acquired under finance leases

Leasehold improvements

Shorter of remaining lease term or expected useful life

Maintenance and repair costs are charged to expense as incurred.

Major improvements, which extend the useful life of the related asset, are capitalized.

Upon disposal of a fixed asset, we record a gain or loss based on the differences between the proceeds received and the net book value of the disposed asset.

Goodwill is measured as the excess of the cost of acquisition over the sum of the amounts assigned to identifiable tangible and intangible assets acquired less liabilities assumed.

We perform an annual impairment assessment of goodwill at the reporting unit level as of September 30, or more frequently if indicators of potential impairment exist.

Our annual impairment assessment requires a comparison of the fair value of our reporting unit to the carrying value.

If the fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is considered not impaired.

If the carrying value of a reporting unit is greater than its fair value, an impairment loss will be recognized in an amount equal to that excess, limited to the total amount of goodwill allocated to that reporting unit.

Additionally, we will consider the income tax effect from any tax deductible goodwill on the carrying amount of the reporting unit when measuring the goodwill impairment loss.

Revenue Recognition

We generate revenue primarily from sales of hardware products.

We also generate revenue from software, extended warranties, enhanced maintenance, support services, and nonrecurring engineering development services, all of which are not material.

We recognize revenue when control of the promised goods or services is transferred to our customers, which for hardware sales is generally at the time of product shipment as determined by the agreed-upon shipping terms.

We measure revenue based on the amount of consideration we expect to be entitled-to in exchange for those goods or services.

The period between when we transfer control of promised goods or services and when we receive payment is expected to be one year or less, and that expectation is consistent with our historical experience.

As such, we do not adjust our revenues for the effects of a significant financing component.

We record any variable consideration, which primarily comprises sales incentives, as a reduction of revenue at the time of initial revenue recognition.

Our reader and ga teway products are highly dependent on, and interrelated with, embedded software and cannot function without this embedded software.

In these cases, we account for the hardware and software license as a single performance obligation and recognize revenue a t the point in time when control is transferred.

Additionally, we sell standalone system software that configures, manages and controls readers and gateways and other software that performs other functions.

This standalone software is not integrated direct ly in the functionality of the reader or gateway.

Our software licenses, both for embedded and standalone software, provide the customer with a right to use the software as it exists when we make it available to the customer.

Consequently, we recognize revenue for standalone software at a point in ti me when the software is made available to the customer .

For these contracts, we account for individual performance obligations separately if they are distinct.

The transaction price is allocated to the separate performance obligations on a relative standalone selling-price basis.

In instances where the standalone selling price is not directly observable, such as when we do not sell the product or service separately, we determine the standalone selling price using one, or a combination of, the adjusted market assessment or expected cost-plus margin.

Amounts allocated to extended warranty and enhanced maintenance sold with our reader and gateway products are deferred and recognized on a straight-line basis over the term of the arrangement, which is typically from one to three years.

Amounts allocated to support services sold with our reader and gateway products are deferred and recognized when control of the promised services is transferred to our customers.

For nonrecurring engineering development agreements that involve significant production, modification or customization of our products, we generally recognize revenue over the performance period using the cost-input method because it best depicts the transfer of services to the customer.

We receive payments under these agreements based on a billing schedule.

Contract assets relate to our conditional right to consideration for our completed performance under these agreements.

Accounts receivable are recorded when the right to consideration becomes unconditional.

Contract liabilities, or deferred revenue, relate to payments received in advance of performance under the contract.

Contract liabilities are recognized as revenue as we perform under the contract.

Payment terms typically range from 30 to 120 days.

We present revenue net of sales tax in our consolidated statements of operations.

Shipping charges billed to customers are included in revenue and the related shipping costs are included in cost of revenue.

Practical Expedients and Exemptions:

We expense sales commissions when incurred because the amortization period is expected to be one year or less.

We record these costs within sales and marketing expenses.

We do not disclose the value of unsatisfied performance obligations for (1) contracts with an original expected length of one year or less and (2) contracts for which we recognize revenue at the amount to which we have the right to invoice for services performed.

Product Warranties

We provide limited warranty coverage for most products, generally ranging from a period of 90 days to one year from the date of shipment.

We record a liability for the estimated cost of product warranties based on historical claims, product failure rates and other factors when the related revenue is recognized.

We review these estimates periodically and adjust the warranty reserves as actual experience differs from historical estimates or other information becomes available.

The warranty liability primarily includes the anticipated cost of materials, labor and shipping necessary to repair or replace the product.

Accrued warranty costs in 2019 and 2018 were not material.

We determine whether an arrangement is or contains a lease at inception.

Right-of-use, or ROU, assets represent our right to use an identified asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease.

Operating lease ROU assets and liabilities are recognized at commencement date based on the present value of future lease payments over the lease term.

We use an incremental borrowing rate in determining the present value of future lease payments as our operating leases do not provide an implicit rate.

Our incremental borrowing rate is based on a credit-adjusted risk-free rate, which best approximates a secured rate over a similar term of lease.

Lease expense for lease payments is reco gnized on a straight-line basis over the lease term.

Our lease agreements may contain variable costs such as common area maintenance, insurance, real estate taxes or other costs.

Variable lease costs are expensed as incurred on the consolidated statements of operations.

Our lease agreements generally do not contain any residual value guarantees or restrictive covenants.

Finance lease ROU assets are included in property and equipment, net in our consolidated balance sheets.

We have various non-cancellable operating lease agreements for office, warehouse and research and development space in the U.S., China, Thailand and Malaysia, with expiration dates from 2020 to 2026.

Certain of these arrangements have free or escalating rent payment provisions and optional renewal and termination clauses that are factored into the classification and measurement of the lease when appropriate.

These lease agreements typically include lease and non-lease components and are generally accounted for as a single lease component.

Leases with an initial term of 12 months or less are not recorded on our consolidated balance sheet;

we recognize lease expense for these leases on a straight-line basis over the lease term.

Research and Development Costs

external consulting and service costs;

prototype materials;

other new product development costs;

and an allocated portion of infrastructure costs, which include occupancy, depreciation and software costs.

Foreign Currency

Our foreign subsidiaries are considered to be extensions of the U.S.

The functional currency of the foreign subsidiaries is the U.S.

Accordingly, gains and losses resulting from remeasuring transactions denominated in currencies other than U.S.

dollars are included in other income, net on the consolidated statements of operations.

We measure deferred tax assets and liabilities using enacted tax rates expected to be in effect when such assets and liabilities are recovered or settled.

The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the year that includes the enactment date.

We determine deferred tax assets, including historical net operating losses, and deferred tax liabilities, based on temporary differences between the book and tax bases of assets and liabilities.

We believe that it is currently more likely than not that our deferred tax assets will not be realized and as such, we have recorded a full valuation allowance for these assets.

We evaluate the likelihood of our ability to realize deferred tax assets in future periods on a quarterly basis, and when appropriate evidence indicates we would revise our valuation allowance accordingly.

We utilize a two-step approach for evaluating uncertain tax positions.

First, we evaluate recognition, which requires us to determine if the weight of available evidence indicates that a tax position is more likely than not to be sustained upon audit, including resolution of related appeals or litigation processes.

If a tax position is not considered more likely than not to be sustained, no benefits of the position are recognized.

Second, we measure the uncertain tax position based on the largest amount of benefit which is more likely than not to be realized on effective settlement.

This process involves estimating our actual current tax exposure, including assessing the risks associated with tax audits, together with assessing temporary differences resulting from the different treatment of items for tax and financial reporting purposes.

If actual results differ from our estimates, our net operating loss and credit carryforwards could be materially impacted.

Our realization of the benefits of the NOLs and credit carryforwards depends on sufficient taxable income in future years.

We have established a v aluation allowance against the carrying value of our deferred tax assets, as it is currently more likely than not that we will not be able to realize these deferred tax assets.

In addition, using NOLs and credits to offset future income subject to taxes ma y be subject to substantial annual limitations due to the “change in ownership” provisions of the Code and similar state provisions.

Events that cause limitations in the amount of NOLs that we may use in any one year include, but are not limited to, a cumu lative ownership change of more than 50%, as defined by Code Sections 382 and 383, over a three-year period.

Utilizing our NOLs and tax credit carryforwards could be significantly reduced if a cumulative ownership change of more than 50% has occurred in ou r past or occurs in our future .

We do not anticipate that the amount of our existing unrecognized tax benefits will significantly increase or decrease within the next 12 months.

Due to the presence of NOLs in most jurisdictions, our tax years remain open for examination by taxing authorities back to 2000.

Stock-Based Compensation

We have equity incentive plans that are more fully described in “ Note 9 Stock-Based Awards ”.

We measure stock-based compensation costs for all share-based awards at fair value on the grant date and recognize compensation expense on a straight-line basis over the requisite service period, which typically vest over four years.

We account for forfeitures as they occur.

We determine the fair value of RSUs based on the closing price of our common stock at the date of grant.

We determine the fair value of stock options at the date of grant by using the Black-Scholes option-pricing model.

We also use the Black-Scholes option-pricing model to determine the fair value of each common share issued under the ESPP.

We determine the fair value of the ESPP grants on the first day of each offering period.

In 2019, we began granting RSUs with performance conditions, or PSUs, replacing what has historically been our annual cash-bonus program for our senior executives and other bonus-eligible employees.

The number of PSUs that ultimately vest will depend on the extent to which we achieve specified fiscal year financial performance metrics.

We record compensation expense each period on a straight-line basis based on our estimate of the most probable number of PSUs that will vest and recognize that expense over the requisite service period.

Net Loss per Share

Net loss per share is computed by dividing net loss by the weighted-average number of shares of common stock outstanding.

We have outstanding stock options, restricted stock units and ESPPs and unvested common stock subject to repurchase which we include in the calculation of diluted net loss per share if their effect would be dilutive.

The diluted net loss per share is computed by giving effect to all potential dilutive common stock equivalents outstanding for the period.

We use the treasury stock method for calculating any potential dilutive effect of the conversion spread on diluted net loss per share, if applicable since we expect to settle the principal amount of the outstanding 2019 Notes in cash.

For more information about the 2019 Notes, please refer to Note 7 to our consolidated financial statements .

Recently Adopted Accounting S tandards

In February 2016, the Financial Accounting Standards Board, or FASB, issued guidance on leases.

This standard requires recognizing a right-of-use asset and lease liability on the balance sheet for all leases.

It also requires more detailed disclosures to enable users of financial statements to understand the amount, timing, and uncertainty of cash flows arising from leases.

This standard is effective for interim and annual reporting periods beginning after December 15, 2018.

We adopted this standard on January 1, 2019 using the effective-date modified retrospective transition method and elected the available practical expedients permitted under the transition method, allowing us to carryforward our historical assessments of (1) whether contracts are or contain leases, (2) lease classification, and (3) initial direct costs.

Upon adopting this standard, we recorded net operating lease ROU assets and lease liabilities of $18.7 million and $25.3 million, respectively, as of January 1, 2019.

Net restructuring liabilities of $1.0 million related to cease-use costs and net deferred rent of $5.6 million were netted against the operating lease ROU assets upon adoption of this guidance.

Our accounting for finance leases remained substantially unchanged.

Our consolidated financial statements for the year ended and as of December 31, 2019 are presented under the new standard, while comparative prior periods presented are not adjusted and continue to be reported in accordance with our historical accounting policy.

The adoption of this guidance did not impact our results of operations.

In June 2018, the FASB issued guidance to improve nonemployee share-based payment accounting that requires companies to account for share-based payments granted to nonemployees similar to share-based payments granted to employees.

This guidance is effective for fiscal years beginning after December 15, 2018, including the interim periods within those fiscal years.

We adopted this standard on January 1, 2019 and the adoption of this guidance did not impact our financial positions, results of operations or cash flows.

In August 2018, the FASB issued guidance to align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software.

This guidance is effective for fiscal years beginning after December 15, 2019, including the interim periods within those fiscal years.

Early adoption of this guidance is permitted.

We early adopted this guidance prospectively on January 1, 2019 and the adoption of this guidance did not impact our financial positions, results of operations or cash flows.

In December 2019, the FASB issued guidance to improve areas of GAAP by removing certain exceptions permitted by Topic 740 - Income Taxes and clarifying existing guidance to facilitate consistent application.

Early adoption of the new standard is permitted.

We early adopted this guidance prospectively on January 1, 2019.

Since we have incurred net losses since our inception and maintained a full valuation allowance on our net deferred tax assets, the adoption did not have a material impact on our financial positions, results of operations and cash flows, or financial statement disclosures.

Recently Issued Accounting Standards Not Yet Adopted

In June 2016, the FASB issued guidance on measuring credit losses on financial instruments.

This guidance requires measuring and recognizing expected credit losses for financial assets held at amortized cost.

This guidance is effective for interim and annual reporting periods beginning after December 15, 2019, and early adoption is permitted.

We will adopt this guidance on January 1, 2020.

The adoption of this guidance requires a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective.

While we continue to assess all potential impacts of this new standard, we do not expect the adoption of this guidance to have a material impact on our financial position, results of operations or cash flows.

Other recent accounting pronouncements issued by the FASB (including its Emerging Issues Task Force), the American Institute of Certified Public Accountants, and the Securities and Exchange Commission did not have, or are not expected to have, a material impact on our present or future consolidated financial statements.

Fair Value Measurements

The following table presents the balances of assets measured at fair value on a recurring basis, by level within the fair value hierarchy, as of the dates presented (in thousands):

December 31, 2019

December 31, 2018

Cash equivalents:

Money market funds

Total cash equivalents

Short-term investments:

government agency securities

Corporate notes and bonds

Commercial paper

Treasury bills

Total short-term investments

We did not have any Level 3 assets as of December 31, 2019 or 2018.

There were no liabilities measured at fair value as of December 31, 2019 or 2018.

See Note 7 for the carrying amount and estimated fair value of our convertible senior notes due in 2026.

The following table presents the detail of inventories as of the dates presented (in thousands):

December 31, 2019

December 31, 2018

Raw materials

Work-in-process

Finished goods

Total inventory

Property and Equipment

The following table presents the detail of property and equipment as of the dates presented (in thousands):

December 31, 2019

December 31, 2018

Laboratory equipment

Computer equipment and software

Furniture and fixtures

Equipment acquired under finance leases

Leasehold improvements

Total property and equipment, gross

Accumulated depreciation

Total property and equipment, net

Depreciation expense, which includes amortization of finance lease ROU assets, was $4.8 million, $4.5 million and $4.0 million for the years ended December 31, 2019, 2018 and 2017, respectively.

The net book value of property and equipment acquired under finance leases was $0.7 million and $1.1 million at December 31, 2019 and 2018, respectively.

We are subject to federal and state income taxes in the United States and foreign jurisdictions.

The following table presents U.S.

and foreign components of income (loss) before incomes taxes:

Year Ended December 31,

Loss before income taxes

The following table presents the detail of income tax benefit (expense) for the periods presented (in thousands):

Year Ended December 31,

Total income tax benefit (expense)

We have not recorded a liability for U.S.

income taxes and foreign withholding taxes on the undistributed earnings of foreign subsidiaries as of December 31, 2019 as we intend to permanently reinvest future such earnings outside the United States.

The amount of the unrecognized deferred tax liability, if incurred, is expected to be immaterial.

The following table presents a reconciliation of the federal statutory rate and our effective tax rate for the periods presented:

Year Ended December 31,

Statutory Rate

Change in valuation allowance

State taxes (net of federal benefit)

Federal research and development credit

Incentive stock options

Unrecognized tax benefits

Impact of Tax Cuts and Jobs Act of 2017

Return to provision - deductible transaction costs

Effective income tax rate

We continue to maintain a full valuation allowance against our net deferred tax assets in the U.S.

but recognize deferred income tax expense in the U.S.

based solely on the amortization of goodwill.

Our net deferred tax liability attributable to the amortization of goodwill for tax purposes decreased during the year due to the creation of indefinite net operating loss carryforwards in the current year, which can be partially realized as a result of the deferred tax liability associated with the tax amortization of goodwill.

Deferred federal, state and foreign income taxes reflect the net tax impact of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and such amounts for tax purposes.

The following table presents the significant components of our deferred tax assets and liabilities as of the dates presented (in thousands) :

December 31, 2019

December 31, 2018

Net operating loss carryforwards

Credit carryforwards

Capitalized research and development

Deferred rent

Operating lease liabilities

Deferred compensation

Deferred revenue

Stock-based compensation

Deferred tax assets

Valuation allowance

Net deferred tax assets

Deferred tax liability:

Depreciation and amortization

Operating lease ROU assets

Deferred tax liabilities

Net deferred tax liability

Realization of deferred tax assets is dependent upon the generation of future taxable income, if any, the timing and amount of which are uncertain.

We have provided a full valuation allowance against the net deferred tax assets as of December 31, 2019 and 2018 because, based on the weight of available evidence, it is more likely than not that the deferred tax assets will not be realized.

We have accumulated federal tax losses of approximately $179.1 million and $159.5 million, respectively, as of December 31, 2019 and 2018, which are available to reduce future taxable income.

The Tax Cuts and Jobs Act , or TCJA, enacted on December 22, 2017 altered the carryforward period for federal net operating losses and as a result, all net operating losses generated in 2018 and forward have an indefinite life.

Of the net operating losses reported, we have accumulated $50.4 million with an indefinite life as of December 31, 2019.

We have accumulated state tax losses of approximately $23.8 million and $23.8 million, respectively, as of December 31, 2019 and 2018.

Additionally, we have net research and development credit carryforwards of $12.0 million and $10.6 million, respectively, as of December 31, 2019 and 2018, which are available to reduce future tax liabilities.

The pre-2018 federal tax losses and research and development credit carryforwards begin expiring in 2020.

Under Sections 382 and 383 of the Internal Revenue Code, if a corporation undergoes an ownership change, the corporation’s ability to use its pre-change net operating loss carryforwards and other pre-change tax attributes, such as research tax credits, to offset its post-change income or income tax liability may be limited.

We are currently not under audit in any tax jurisdiction.

Tax years from 2000 through 2019 are currently open for audit by federal and state taxing authorities.

We establish reserves for tax positions based on estimates of whether, and the extent to which, additional taxes will be due.

The reserves are established when we believe that positions might be challenged by taxing authorities despite our belief that our tax return positions are fully supportable.

The following table presents the total balance of unrecognized tax benefits as of the dates presented (in thou sands):

Year Ended December 31,

Balance at beginning of period

Gross increase to tax positions in prior periods

Gross increase to tax positions in current periods

Balance at end of period

At December 31, 2019, the total amount of unrecognized tax benefits of $3.4 million is recorded as a reduction to the deferred tax asset.

If recognized, it would have no impact to our effective tax rate as we have a full valuation allowance.

We do not anticipate that the amount of existing unrecognized tax benefits will significantly increase or decrease within the next 12 months.

Accrued interest and penalties related to unrecognized tax benefits are recorded as income tax expense and are zero.

Long-term debt

Convertible Senior Notes

In December 2019, we issued convertible senior notes due 2026, or the 2019 Notes, in an aggregate principal amount of $86.3 million .

The 2019 Notes are our senior unsecured obligations and are governed by the indenture for the 2019 Notes.

The 2019 Notes bear interest at a fixed rate of 2.00% per year, payable semi-annually in arrears on June 15 and December 15 of each year, beginning on June 15, 2020.

Upon conversion, the 2019 Notes will be convertible into cash, shares of our common stock or a combination thereof, at our election.

The 2019 Notes will mature on December 15, 2026, unless earlier repurchased, redeemed, or converted in accordance with the terms of the indenture.

The net proceeds from issuing the 2019 Notes were approximately $83.5 million after deducting fees and expenses.

We used the net proceeds from issuing the 2019 Notes to pay the cost of the capped call transactions and repay our senior credit facility, both of which are described further below.

The 2019 Notes are convertible at an initial conversion rate of 28.9415 shares of our common stock per $1,000 principal amount of the 2019 Notes, which is equal to an initial conversion price of approximately $34.55 per share of our common stock, subject to adjustment under certain circumstances in accordance with the indenture.

Prior to the close of business on the business day immediately preceding September 15, 2026, holders of the 2019 Notes may convert all or a portion of their 2019 Notes under the following circumstances:

during any fiscal quarter commencing after the fiscal quarter ending on March 31, 2020 (and only during such fiscal quarter), if the last reported sale price of our common stock, for at least 20 trading days (whether or not consecutive) during a period of 30 consecutive trading days ending on, and including, the last trading day of the immediately preceding fiscal quarter is greater than or equal to 130% of the conversion price on each applicable trading day;

during the five business day period after any five consecutive trading day period in which the trading price per $1,000 principal amount of the 2019 Notes for each trading day was less than 98% of the product of the last reported sale price of our common stock and the conversion rate on each such trading day;

prior to the close of business on the second scheduled trading day immediately preceding the redemption date if we call the 2019 Notes for redemption;

upon the occurrence of specified corporate events, as described in the Indenture.

On or after September 15, 2026, until the close of business on the second scheduled trading day immediately preceding the maturity date, holders may convert all or any portion of the 2019 Notes, in multiples of $1,000 principal amount, at the option of the holder regardless of the foregoing circumstances.

We may redeem the 2019 Notes for cash, at our option, on or after December 20, 2023, if the last reported sale price of our common stock has been at least 130% of the conversion price at least 20 trading days (whe ther or not consecutive) during any 30 consecutive trading day period at a redemption price equal to 100% of the principal amount of the 2019 Notes being redeemed, plus any accrued and unpaid interest to, but excluding, the redemption date.

Holders of the 2019 Notes who convert their 2019 Notes in connection with certain corporate events that constitute a make-whole fundamental change (as defined in the indenture) are, under certain circumstances, entitled to an increase in the conversion rate.

Additionall y in the event of a corporate event constituting a fundamental change (as defined in the indenture ), holders of the 2019 Notes may require us to repurchase all or a portion of their 2019 Notes at a repurchase price equal to 100% of the principal amount of the 2019 Notes being repurchased, plus any accrued and unpaid interest to, but excluding, the repurchase date.

Certain convertible debt instruments that may be settled in cash on conversion are required to be separated into a liability and an equity component.

The total proceeds are first allocated to the liability component based on the fair value of a similar debt instrument without the conversion option.

The total proceeds that remain are allocated to the equity component and recognized in additional paid-in capital.

Accordingly, we separated the 2019 Notes into a liability and an equity component.

We determined the fair value of the liability component to be $52.5 million calculated as the present value of future cash flows discounted at the borrowing rate for a similar nonconvertible debt instrument based on the expected term.

The borrowing rate was determined to be 9.90% based on the market rates for nonconvertible debt instruments issued by other companies with publicly available credit ratings considered to be comparable to us.

The excess of the principal amount of the 2019 Notes over the initial carrying amount of the liability component was recognized as a debt discount of $33.8 million and is being amortized to interest expense over the expected term of the 2019 Notes using the effective interest rate method.

The equity component of $33.8 million, calculated as the difference between the total proceeds of $86.3 million and the initial carrying amount of the liability component, was recorded in additional paid-in capital.

The equity component is not remeasured as long as it continues to meet the conditions for equity classification.

As of December 31, 2019, the 2019 Notes were not yet convertible and the “if-converted value” did not exceed the remaining principal amount of the 2019 Notes.

Total issuance costs of $2.8 million related to the 2019 Notes were allocated between liability and equity in the same proportion as the allocation of the total proceeds to the liability and equity components.

Issuance costs attributable to the liability component of $1.7 million are being amortized to interest expense over the respective term of the 2019 Notes using the effective interest rate method.

The issuance costs attributable to the equity component of $1.1 million were netted against the respective equity component in additional paid-in capital.

The effective interest rate on the liability component of the 2019 Notes for the year ended December 31, 2019 is 10.21%.

Accrued interest related to the 2019 Notes as of December 31, 2019 was not material.

Accrued interest is recorded in accrued liabilities in our consolidated balance sheet.

Interest expense related to the 2019 Notes for the year ended December 31, 2019 was not material.

The estimated fair value of the 2019 Notes was $87.0 million as of December 31, 2019, which was determined through consideration of quoted market prices.

The fair value is classified as Level 2, as defined in Note 2.

The following table presents the outstanding principal amount and carrying value of the 2019 Notes as of the date presented (in thousands):

December 31, 2019

Outstanding principal amount

Unamortized debt discount and debt issuance costs

Carrying value

In connection with the issuance of the 2019 Notes, we entered into privately negotiated capped call transactions with certain financial counterparties.

The capped call transactions are generally designed to reduce potential dilution to our common stock upon any conversion or settlement of the 2019 Notes or offset any cas h payments we are required to make in excess of the principal amount upon conversion of the 2019 Notes, as the case may be, with such reduction or offset subject to a cap based on the cap price.

If, however, the market price per share of our common stock e xceeds the cap price of the capped call transactions , there would be dilution and/or there would not be an offset of such potential cash payments, in each case, to the extent that the then-market price per share of our common stock exceeds the cap price.

T he cap price of the capped call transactions is initially $54.20 per share, which represents a premium of 100% over the last reported sale price of our common stock of $27.10 per share on December 11, 2019, and is subject to certain adjustments under the t erms of the capped call transactions.

The capped call transactions expire over 40 consecutive scheduled trading days ending on December 11, 2026.

The capped call transactions meet the criteria for classification in equity, are not accounted for as derivatives, and are not remeasured each reporting period.

We paid $ 10.1 million for the capped call transactions , which is included as a reduction to additional paid-in-capital within shareholders’ equity.

Senior Credit Facility

On April 26, 2019, we amended our senior credit facility to, among other things, extend the maturity date of the $25.0 million revolving credit facility, with a $5.0 million letter of credit sub-facility, to May 1, 2021 and refinance the existing term loan and equipment advance with a new $23.5 million term loan.

The term loan will amortize over 36 months, beginning on May 1, 2020, following an initial 12-month interest-only period, and mature on April 1, 2023.

We may prepay the term loan at any time, subject to a prepayment fee equal to 2.0% of the outstanding principal amount if prepaid on or before April 26, 2020, or 1.0% of the outstanding principal amount if prepaid after April 26, 2020, but on or before April 26, 2021.

There were no changes to the term loan interest rates or financial covenants as a result of this amendment.

On December 16, 2019, we used $24.0 million of the net proceeds from the 2019 Notes to repay in full our senior credit facility, which was terminated pursuant to its terms.

In connection with this repayment, we recorded $576,000 of loss on debt extinguishment, comprised of $470,000 prepayment penalty and $106,000 write-off of unamortized debt issuance costs.

We also paid accrued interest on our senior credit facility, which was not material.

Stockholders’ Equity

Preferred Stock

Our board of directors has the authority to fix the designations, powers, preferences and rights, and the qualifications, limitations or restrictions thereof, of any wholly unissued series of preferred stock, and to increase or decrease the number of shares in any series of preferred stock, subject to limitations prescribed by law or by our certificate of incorporation.

There was no preferred stock issued and outstanding as of December 31, 2019 or 2018.

As of December 31, 2019, we had authorized 495,000,000 shares of voting $0.001 par value common stock.

Each holder of the common stock is entitled to one vote per common share.

At its discretion, the board of directors may declare dividends on shares of common stock, subject to the prior rights of our preferred stockholders.

Upon liquidation or dissolution, holders of common stock will receive distributions only after preferred stock preferences have been satisfied.

The following shares of common stock have been reserved for future issuance as of the date presented (in thousands):

December 31, 2019

Option awards outstanding

Restricted stock units outstanding

Common stock reserved under equity incentive plans

Common stock reserved under employee stock purchase plan

Stock-Based Awards

2016 Equity Incentive Plan

In June 2016, our board of directors adopted and our stockholders approved the 2016 Equity Incentive Plan, or the 2016 Plan, which became effective in July 2016 at which time the 2010 Equity Incentive Plan, or the 2010 Plan, was terminated.

Our 2000 Stock Plan was terminated in March 2010.

The number of shares of common stock reserved for issuance under the 2016 Plan may increase on January 1 of each year, beginning on January 1, 2017 and ending on and including January 1, 2026, by the lower of (1) 1,825,000 shares;

(2) 5% of the total number of shares of common stock outstanding on December 31 of the preceding calendar year;

and (3) a lesser number of shares determined by our board of directors.

The 2016 Plan provides for the grant of incentive or non-qualified stock options, restricted stock, restricted stock units, stock appreciation rights and performance shares or performance units to employees, non-employee directors, and consultants.

All options granted under the 2000 Stock Plan, the 2010 Plan and the 2016 Plan have a maximum 10-year term and generally vest and become exercisable over four years of continued employment or service as defined in each option agreement.

We generally grant stock options with exercise prices that equal the fair value of the common stock on the date of grant.

As allowed under the 2016 Plan, there are a few exceptions to this vesting schedule, which provide for vesting at different rates or based on achievement of performance targets.

We utilize newly issued shares to satisfy option exercises.

Stock Options

On April 18, 2018, we commenced a voluntary stock option exchange program, designed to provide eligible employees an opportunity to exchange certain outstanding underwater stock options for a lesser amount of new options to be granted with lower exercise prices.

Stock options eligible for exchange were those with an exercise price per share equal to or greater than $21.72, whether vested or unvested.

All employees (including executive officers but excluding the chief executive officer) who held options and remain employed through the date of grant for new options were eligible to participate in the offer.

Members of the board of directors were not eligible to participate.

The option exchange program expired on May 16, 2018.

Options for an aggregate of approximately 1.0 million shares were tendered by employees, representing 73% of the total shares underlying stock options eligible for exchange.

On May 16, 2018, we granted options for an aggregate of 0.7 million shares in exchange for the eligible options surrendered.

The new options were granted under, and subject to, the terms and conditions of the 2016 Plan.

The exercise price of the new stock options is $17.33, which was the closing price of our common stock on May 16, 2018.

No incremental stock option expense was recognized for the exchange, because the fair value of the surrendered options, as determined based on the Black-Scholes option-pricing model, was equal to or greater than the fair value of the new stock options issued in the exchange.

The following table summarizes option award activity for the year ended December 31, 2019 (in thousands, except per share data and years):

Weighted-Average

Exercise Price

Weighted-Average

Total Intrinsic

Outstanding at December 31, 2018

Forfeited or expired

Outstanding at December 31, 2019

Vested and exercisable at December 31, 2019

We estimate t he fair value of options granted at the date of grant using the Black-Scholes option-pricing model with the following assumptions for the periods presented:

Year Ended December 31,

Risk-free interest rate

Expected dividends yield

Expected volatility

60.8% - 64.3%

57.7% - 66.1%

52.2% – 59.1%

Weighted-average expected term

Weighted-average fair value of options granted

We determined that it was not practicable to calculate the volatility of our share price since we do not have an extensive public trading history for shares of our common stock .

Therefore, we estimated our volatility based on a combination of our historical volatility since becoming a publicly traded company and reported market value data for a group of publicly-traded entities that we believe are relatively comparable after consideration of their size, stage of lifecycle, profitability, growth and risk and return on investment.

To determine the expected term, we generally apply and have historically applied the simplified approach in which the expected term of an award is presumed to be the mid-point between the vesting date and the expiration date of the options as we do not have sufficient historical exercise data to provide a reasonable basis for an estimate of expected term.

The total intrinsic value of options exercised during 2019, 2018 and 2017 was $10.0 million, $4.3 million and $14.9 million, respectively.

The total grant date fair value of options vested was $14.8 million, $6.0 million and $3.1 million during 2019, 2018 and 2017 , respectively.

As of December 31, 2019, our total unrecognized stock-based compensation cost related to unvested stock options was $26.2 million, which we will recognize over the weighted-average remaining requisite service period of 2.6 years.

Restricted Stock Units

The following table summarizes activity for restricted stock units, RSUs, including RSUs with performance conditions, or PSUs, for the year ended December 31, 2019 (in thousands, except per share data):

Number of Shares

Weighted-Average Grant Date Fair Value

Outstanding at December 31, 2018

Outstanding at December 31, 2019

PSUs granted during the year ended December 31, 2019 were primarily related to a PSU bonus program that replaces what has historically been our annual cash-bonus program for our senior executives and other bonus-eligible employees.

The number of PSUs that ultimately vest depend on attainment of a financial metric for the fiscal year and continued employment through the vest date.

Based upon attainment of the financial metric we expect approximately 239,000 shares to vest in the first quarter of 2020.

We record compensation expense for each period based on our estimate of the most probable number of PSUs that will vest, and we recognize the expense over the related service period.

The stock-based compensation expense we recognized for the PSUs was $3.4 million for the year ended December 31, 2019

The total fair value of RSUs vested was $1.5 million during both 2019 and 2018 and not material during 2017.

The fair value of the outstanding restricted stock units will be recorded as stock-based compensation expense over the vesting period.

As of December 31, 2019, there was $15.3 million of total unrecognized compensation cost related to unvested restricted stock units, which is expected to be recognized over a weighted average period of 3.4 years.

As of December 31, 2019, there was $0.9 million of total unrecognized compensation cost related to PSUs, which is expected to be recognized in less than one year.

Employee Stock Purchase Plan

In 2016, we adopted the 2016 Employee Stock Purchase Plan, or the ESPP, which became effective in July 2016.

Under the ESPP, eligible employees can authorize payroll deductions for amounts up to 15% of their eligible compensation.

A participant may purchase a maximum of 4,000 shares each six-month period or some lesser number of shares as determined by the IRS rules.

The offering periods generally start on the first trading day on or after February 20 and August 20 of each year.

Participants in an offering period will be granted the right to purchase common shares at a price per share that is 85% of the least of the fair market value of the shares at (1) the first day of the offering period and (2) the end of each purchase period within the offering period.

The number of shares reserved for the ESPP may increase each year, beginning on January 1, 2017 and continuing through and including January 1, 2036, by the least of:

(1) 1% of the total number of shares of common stock outstanding on the first day of such year;

(2) 365,411 shares of common stock;

and (3) such amount as determined by our board of directors.

As of December 31, 2019, the total unrecognized stock-based compensation related to the ESPP was $0.2 million and will be recognized on a straight-line basis over the weighted-average remaining service period of less than one year.

We estimate t he fair value of the ESPP granted at the start of the offering period using the Black-Scholes option-pricing model with the following assumptions for the periods presented:

Year Ended December 31,

Risk-free interest rate

Expected term

Expected volatility

66.5% – 72.3%

66.5% – 71.2%

Stock-Based Compensation Expense

The following table presents the detail of stock-based compensation expense amounts included in our consolidated statements of operations for the periods indicated (in thousands):

Year Ended December 31,

Cost of revenue

Research and development expense

Sales and marketing expense

General and administrative expense

Total stock-based compensation expense

The following table presents the components of lease expense in our consolidated statements of operations for the periods presented (in thousands):

December 31, 2019

Operating lease costs (a)

Single lease costs

Variable lease costs

Sublease income (b)

Total operating lease costs

Finance lease costs:

Amortization of right-of-use assets

Interest on lease liabilities

Total finance lease costs

(a) Includes short-term lease costs, which are immaterial.

(b) Sublease income is related to unused office space that was sublet as part of the restructuring in fiscal 2018 where we continue to be the primary obligor for the lease.

The following table presents supplemental cash flow information related to leases for the periods presented (in thousands):

December 31, 2019

Cash paid for amounts included in the measurement of lease liabilities

Operating cash flows used in operating leases

Operating cash flows used in finance leases

Financing cash flows used in finance leases

The following table presents weighted-average remaining lease term and weighted-average discount rate related to leases as of:

December 31, 2019

Weighted-average remaining lease term (years)

Operating leases

Finance leases

Weighted-average discount rate

Operating leases

Finance leases

The following table presents future lease payments under operating and finance leases as of December 31, 2019 (in thousands):

Operating Leases

Finance Leases

Lease Payments

Sublease Income

Lease Payments

Total lease payments

Imputed interest

Present value of lease liabilities

Current portion of lease liabilities

Lease liabilities, net of current portion

The following table presents future minimum lease payments under operating and capital leases in accordance with Topic 840 as of December 31, 2018 (in thousands):

Operating Leases

Capital Leases

Total minimum lease payments

Imputed interest

Present value of capital lease obligations

Current portion of capital lease obligations

Capital lease obligations net of current portion

Commitments and Contingencies

Indemnifications

In the normal course of business, we may enter into agreements that require us to indemnify either customers or suppliers for specific risks.

While we cannot estimate our maximum exposure under these indemnification provisions, to date they have not had a material impact on our consolidated results of operations or financial condition.

From time to time, we are subject to various legal proceedings or claims that arise in the ordinary course of business.

We accrue a liability when management believes that it is both probable that a liability has been incurred and the amount of loss can be reasonably estimated.

As of December 31, 2019.

and 2018 , we have not recorded any such liabilities.

The following is a brief description of the more significant legal proceedings.

Although we believe that resolving such claims, individually or in aggregate, will not have a material adverse impact on our financial statements, these matters are subject to inherent uncertainties.

Federal Securities Class Actions

On August 7, 2018, a class action complaint for violation of the federal securities laws was filed in the U.S.

District Court for the Central District of California against us, our chief executive officer and chief operating officer.

Captioned Schultz v.

Impinj, Inc., et al , the complaint, purportedly brought on behalf of all purchasers of our common stock from May 7, 2018 through and including August 2, 2018, asserted claims that our quarterly statement filed on Form 10-Q for the first quarter of 2018 and a concurrent press release made false or misleading statements about our business prospects and financial condition.

The complaint sought monetary damages, costs and expenses.

On October 3, 2018, the plaintiff voluntarily dismissed this complaint.

On August 27, 2018, a second-class action complaint for violation of the federal securities laws was filed in the U.S.

District Court for the Western District of Washington against us, our chief executive officer, chief operating officer and former chief financial officer.

Captioned Montemarano v.

Impinj, Inc., et al ., the complaint, purportedly brought on behalf of all purchasers of our common stock from May 4, 2017 through and including August 2, 2018, asserts claims that we made false or misleading statements in our financial statements, press releases and conference calls during the purported class period in violation of Section 10(b) of the Securities Exchange Act of 1934, as amended, or the Securities Exchange Act.

The complaint seeks monetary damages, costs and expenses.

On October 2, 2018, a third-class action complaint for violation of the federal securities laws was filed in the U.S.

District Court for the Western District of Washington against us, our chief executive officer, chief operating officer and former chief financial officer.

Captioned Employees’ Retirement System of the City of Baton Rouge and Parish of East Baton Rouge v.

Impinj, Inc., et al ., the complaint, purportedly brought on behalf of all purchasers of our common stock from November 3, 2016 through and including February 15, 2018, asserts claims that we made false or misleading statements about customer demand for our products and inventory in SEC filings, press releases and conference calls in violation of Section 10(b) of the Securities Exchange Act.

The complaint seeks monetary damages, costs and expenses.

On January 14, 2019, the U.S.

District Court for the Western District of Washington consolidated the Montemarano and Baton Rouge actions and appointed the Employees’ Retirement System of the City of Baton Rouge and Parish of East Baton Rouge as lead plaintiff.

On February 13, 2019, lead plaintiff filed a consolidated amended complaint.

The consolidated amended complaint alleges that from July 21, 2016 through February 15, 2018, we made false or misleading statements about customer demand and the capability of our products and platform in violation of Section 10(b) of the Securities Exchange Act.

On March 19, 2019, we filed a motion to dismiss the consolidated amended complaint, and on October 4, 2019, the court entered an order granting in part and denying in part the motion.

The court dismissed the Section 10(b) claim against our President and chief operating officer, dismissed product capability-related allegations against our former chief financial officer, and dismissed allegations that defendants made false or misleading statements concerning increasing demand prior to the first quarter of 2017.

The court denied the motion as to all other claims and defendants.

A trial date has been set for February 1, 2021.

New York State Securities Class Action

On January 31, 2019, a fourth-class action complaint for violation of the federal securities laws was filed in the Supreme Court of the State of New York for the County of New York against us, our chief executive officer, chief operating officer, former chief financial officer, members of our board of directors and the underwriters of our July 2016 initial public stock offering, or IPO, and December 2016 secondary public offering, or SPO.

Captioned Plymouth County Retirement System v.

Impinj, Inc., et al.

, the complaint, purportedly brought on behalf of purchasers of our stock pursuant to or traceable to our IPO and SPO, alleges that we made false or misleading statements in the registration statements and prospectuses in those offerings concerning demand for our products and inventory in violation of Section 11 of the Securities Act of 1933.

On April 9, 2019, the New York Supreme Court entered an order staying the action and requiring the parties to update the court every 90 days as to the status of the pending federal securities class actions discussed above.

Shareholder Derivative Actions

On October 26, 2018, two shareholder derivative actions were filed in the U.S.

District Court for the District of Delaware against our chief executive officer, chief operating officer, former chief financial officer and certain of our directors.

We are a nominal defendant.

On November 8, 2018, a third shareholder derivative action was filed in this same court against the same defendants.

Captioned Weiss v.

Diorio, et al ., Fotouhi v.

Diorio, et al ., and De la Fuente v.

Diorio, et al.

, the derivative complaints, purportedly brought on behalf of us, allege that the defendants breached their fiduciary duties to us and allegedly made false or misleading statements and omissions of material fact in violation of Section 14(a) of the Securities Exchange Act regarding our business and operations.

The derivative actions include claims for, among other things, unspecified damages in favor of us, corporate actions to purportedly improve our corporate governance, and an award of costs and expenses to the derivative plaintiffs, including attorneys’ fees.

On January 28, 2019, the Delaware federal court entered a stipulated order that stayed these derivative actions until resolution of the pending federal securities class actions described above.

Patent Infringement Claims and Counterclaims

On June 6, 2019, we filed a patent infringement lawsuit against NXP USA, Inc., a Delaware corporation and subsidiary of NXP Semiconductors N.V., or NXP, in the U.S.

District Court for the Northern District of California.

Our complaint alleges that certain NXP integrated circuit products infringed and continue to infringe numerous U.S.

patents owned by us.

We are seeking, among other things, past damages, including lost profits, and no less than a reasonable royalty;

enhanced damages for willful infringement;

and reasonable attorneys’ fees and costs for infringement of each of the asserted patents.

We are also seeking an injunction against NXP making, selling, using, offering for sale or importing the RAIN RFID integrated circuit product NXP introduced in 2017.

Defendants responded to our complaint on September 30, 2019 citing numerous defenses including denying infringement, claiming our asserted patents are invalid, and that the infringed patents were licensed on a royalty-free basis under Impinj’s commitments to GS1 EPCglobal.

On October 4, 2019, NXP USA, Inc.

and NXP, filed a patent infringement lawsuit against us in the U.S.

District Court for the District of Delaware.

The complaint alleges that certain of our products infringed and continue to infringe numerous U.S.

patents owned by NXP or NXP USA, Inc.

The plaintiffs are seeking, among other things, past damages adequate to compensate them for our alleged infringement of each of the patents-in-suit, and reasonable attorneys’ fees and costs.

They are also seeking an injunction against us, enjoining continuing acts of infringement of the patents-in-suit.

As of the date of this report, there is no court date set.

Obligations with Third-Party Manufacturers

We manufacture products with third-party manufacturers.

We are committed to purchase $17.3 million of inventory as of December 31, 2019.

Restructuring

On February 13, 2018, we initiated a restructuring plan to align our strategic and financial objectives and optimize our resources for long-term growth, including a reduction-in-force affecting approximately 9% of our employees, subleasing unused office space and closing some remote offices.

The restructuring was substantially complete as of June 30, 2018.

As a result of the restructuring, we recorded a restructuring charge of $3.7 million for the year ended December 31, 2018.

The following table summarizes the activity associated with the restructuring (in thousands):

Employee Termination Benefits

Cease-Use Costs

Balance at December 31, 2018

Effect of the new lease standard adoption (1)

Balance at December 31, 2019

(1) Upon adoption of the new lease standard on January 1, 2019, restructuring liabilities related to cease-use costs were netted against the operating lease right-of-use assets.

Deferred Revenue

Deferred revenue, comprising individually immaterial amounts for extended warranty, enhanced maintenance and advanced payments on nonrecurring engineering services contracts, represents contracted revenue that has not yet been recognized.

The following table presents the changes in deferred revenue for the periods presented (in thousands):

Year Ended December 31,

Balance at beginning of period

Deferral of revenue

Recognition of deferred revenue

Balance at end of period

During 2019, we recognized as revenue a total of $ 0.6 million related to amounts that were recorded in deferred revenue as of December 31, 2018.

During 2018, we recognized as revenue a total of $ 0.9 million related to amounts that were recorded in deferred revenue as of December 31, 2017.

Segment Reporting

We have one reportable and operating segment:

the development and sale of our products and services.

Our reportable segment has been identified based on how our chief operating decision-maker manages our business, makes operating decisions and evaluates our operating performance.

Our chief executive officer acts as the chief operating decision-maker and reviews financial and operational information on an entity-wide basis.

We have one business activity and there are no segment managers who are held accountable for operations, operating results or plans for levels or components.

Accordingly, we have determined that we have a single reporting segment and operating unit structure.

Our chief executive officer reviews information about revenue categories, including endpoint ICs and systems.

We define systems as reader ICs, reader modules, readers, gateways and software The following table presents our revenue categories for the periods presented (in thousands):

Year Ended December 31,

Total revenue

Our assets are primarily located in the United States and not allocated to any specific geographic region.

Therefore, geographic information is presented only for total revenue.

Substantially all our long-lived assets are located in the United States.

Revenue presented in the following table is based on the location of the value-added resellers, inlay manufacturers, reader OEMs, distributors or end users who purchased products and services directly from us.

For sales to our resellers and distributors, their location may be different from the locations of the ultimate end users.

The following table presents our sales by geography for the periods presented (in thousands):

Year Ended December 31,

Europe, Middle East and Africa

Total revenue

Total revenue in the United States , included in Americas, was $ 50.2 million, $ 29 .

5 million and $2 8 .

8 million for the years ended December 31, 2019 , 2018 and 2017 , respectively.

Total revenue in China (including Hong Kong), included in Asia Pacific, was $ 70 .

8 million, $ 64.3 million and $ 68.0 million for the years ended December 31, 2019 , 2018 and 2017 , respectively.

No sales to countries other than the United States and China accounted for more than 10% of revenue for the yea rs ended December 31, 2019 , 2018 and 2017 .

Net Loss per Share

For the periods presented, the following table provides a reconciliation of the numerator and denominator used in computing basic and diluted net loss per share (in thousands, expect per share amounts):

Year Ended December 31,

Weighted-average shares outstanding — basic and diluted

Net loss per share — basic and diluted

The following outstanding options and restricted stock units and unvested shares excluded from the computation of diluted net loss per share for the periods presented because their effect would have been antidilutive (in thousands):

Year Ended December 31,

Stock options and restricted stock units

Unvested shares of common stock subject to repurchase

Since we expect to settle the principal amount of the outstanding 2019 Notes in cash, we use the treasury stock method for calculating any potential dilutive effect of the conversion spread on diluted net income per share, if applicable.

For the 2019 Notes, the conversion spread for the notes has a dilutive impact on diluted net income per share when the average market price of our common stock during each reporting period exceeds $34.55 per share.

There was no conversion spread for the 2019 Notes during 2019.

Retirement Plans

In 2001, we adopted a salary deferral 401(k) plan for our employees.

The plan allows employees to contribute a percentage of their pretax earnings annually, subject to limitations imposed by the Internal Revenue Service.

The plan also allows us to make a matching contribution, subject to certain limitations.

To date, we have not made any contributions to the plan.

Changes in and Disagreements with Acco untants on Accounting and Financial Disclosure

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

What changed 10-K

Item 7. Management’s Discussion and Analysis