Purple Innovation, Inc. 10-Q

UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-Q ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED June 30, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM _____________ TO _____________ Commission File Number: 001-37523 PURPLE INNOVATION, INC. (Exact name of registrant as specified in its charter) Delaware 47-4078206 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.) 4100 NORTH CHAPEL RIDGE ROAD SUITE 200 LEHI , UTAH 84043 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area code: (801) 756-2600 Securities registered pursuant to Section 12(b) of the Act: Title of each class Trading Symbol(s) Name of each exchange on which registered Class A Common Stock, par value $0.0001 per share PRPL The NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Date File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☑ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule12b-2 of the Exchange Act. Large accelerated filer ☑ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☑ As of August 8, 2022, 82,763,884 shares of the registrant’s Class A common stock, $0.0001 par value per share, and 448,279 shares of the registrant’s Class B common stock, $0.0001 par value per share, were outstanding. PURPLE INNOVATION, INC. QUARTERLY REPORT ON FORM 10-Q TABLE OF CONTENTS Page Part I. Financial Information 1 Item 1. Financial Statements (Unaudited): 1 Condensed Consolidated Balance Sheets 1 Condensed Consolidated Statements of Operations 2 Condensed Consolidated Statements of Stockholders’ Equity 3 Condensed Consolidated Statements of Cash Flows 4 Notes to Condensed Consolidated Financial Statements 5 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 29 Item 3. Quantitative and Qualitative Disclosures about Market Risk 39 Item 4. Controls and Procedures 39 Part II. Other Information 41 Item 1. Legal Proceedings 41 Item 1A. Risk Factors 41 Item 6. Exhibits 45 Signatures 46 In this Quarterly Report on Form 10-Q, references to “dollars” and “$” are to United States (“U.S.”) dollars. We have several trademarks registered with the U.S. Patent and Trademark Office (USPTO), including EquaPressure ® , WonderGel ® and EquaGel ® (for cushions), and Purple ® , No Pressure ® , Hyper-Elastic Polymer ® , Somnigel ® , and Gel Matrix ® (for plasticized elastomeric gel and certain types of products including mattresses, seat cushions, bed linen, mattress foundation and others). Additional registered trademarks include Purple Grid ® , The Purple Mattress ® , Purple Hybrid ® , and Purple Hybrid Premier ® . Applications are pending for registration of additional trademarks and some of these listed trademarks for additional classes of goods both in the U.S. and internationally. Our Purple, No Pressure and Hyper-Elastic Polymer trademarks are also registered and have applications pending for various classes of goods in numerous foreign jurisdictions, some of which include Australia, Canada, China, Europe, United Kingdom, Japan and Korea. Certain international trademark applications previously resided with EdiZONE, LLC, which is an entity owned by our founders, and were licensed to Purple LLC and we have taken the necessary steps to have those trademarks assigned to Purple LLC upon registration. We also have a number of common law trademarks, including Harmony ™ , Purple Harmony Pillow ™ , Harmony Pillow ™ , Purple + ™ , Purple Plus ™ , Find Comfort ™ , Dreams On Dreams ™ , Reinventing Sleep™, Reinventing Comfort ™ , Gelflex ™ , Ascent ™ , Purple Ascent ™ , Comfort Reinvented ™ , Softstretch ™ , Purple Powerbase ™ , Purple Powerbase Premier ™ , Purple Powerbase Plus ™ , Purple Glove ™ , Eidertech ™ , Mattress Max ™ , WonderGel Original ™ , WonderGel Extreme ™ , DoubleGel ™ , DoubleGel Plus ™ , DoubleGel Ultra ™ , Roll n’ Go ™ , Fold N’ Go ™ , Purple Bed ™ , Purple Top ™ , Purple Pillow ™ , Portable Purple ™ , Everywhere Purple ™ , Simply Purple ™ , Lite Purple ™ , Royal Purple ™ , Double Purple ™ , Deep Purple ™ , Ultimate Purple ™ , Purple Back ™ , EquaGel Straight Comfort ™ , EquaGel General ™ , EquaGel Protector ™ , and EquaGel Adjustable ™ . Many of the common law marks have registrations pending with the USPTO and other international jurisdictions. Solely for convenience, we refer to our trademarks in this Quarterly Report without the ™ or ® symbol, but such references are not intended to indicate that we will not assert, to the fullest extent under applicable law, our rights to our trademarks. i PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS PURPLE INNOVATION, INC. Condensed Consolidated Balance Sheets (unaudited – in thousands, except for par value) June 30, 2022 December 31, 2021 Assets Current assets: Cash and cash equivalents $ 41,169 $ 91,616 Accounts receivable, net 31,578 25,430 Inventories, net 84,886 98,690 Prepaid expenses 5,111 8,064 Other current assets 5,369 5,702 Total current assets 168,113 229,502 Property and equipment, net 127,752 112,614 Operating lease right-of-use assets 88,986 68,037 Intangible assets, net 14,687 13,204 Deferred income taxes 223,952 217,791 Other long-term assets 1,617 1,322 Total assets $ 625,107 $ 642,470 Liabilities and Stockholders’ Equity Current liabilities: Accounts payable $ 39,986 $ 79,752 Accrued sales returns 5,111 7,116 Accrued compensation 9,370 8,928 Customer prepayments 5,132 10,854 Accrued sales tax 3,129 4,672 Accrued rebates and allowances 7,315 10,169 Operating lease obligations – current portion 9,882 7,053 Warrant liabilities 69 — Other current liabilities 8,047 13,470 Total current liabilities 88,041 142,014 Debt, net of current portion 37,198 94,113 Operating lease obligations, net of current portion 103,457 81,159 Warrant liabilities — 4,343 Tax receivable agreement liability, net of current portion 161,970 162,239 Other long-term liabilities, net of current portion 15,320 12,061 Total liabilities 405,986 495,929 Commitments and contingencies (Note 13) Stockholders’ equity: Class A common stock; $ 0.0001 par value, 210,000 shares authorized; 82,764 issued and outstanding at June 30, 2022 and 66,493 issued and outstanding at December 31, 2021 8 7 Class B common stock; $ 0.0001 par value, 90,000 shares authorized; 448 issued and outstanding at June 30, 2022 and at December 31, 2021 — — Additional paid-in capital 501,997 407,591 Accumulated deficit ( 283,667 ) ( 261,825 ) Total stockholders’ equity 218,338 145,773 Noncontrolling interest 783 768 Total stockholders’ equity 219,121 146,541 Total liabilities and stockholders’ equity $ 625,107 $ 642,470 The accompanying notes are an integral part of these unaudited condensed consolidated financial statements. 1 PURPLE INNOVATION, INC. Condensed Consolidated Statements of Operations (unaudited – in thousands, except per share amounts) Three Months Ended June 30, Six Months Ended June 30, 2022 2021 2022 2021 Revenues, net $ 144,109 $ 182,586 $ 287,288 $ 369,015 Cost of revenues 95,297 100,899 186,850 199,804 Gross profit 48,812 81,687 100,438 169,211 Operating expenses: Marketing and sales 40,373 59,844 90,332 114,212 General and administrative 18,779 22,461 36,667 36,987 Research and development 1,748 1,923 3,891 3,646 Total operating expenses 60,900 84,228 130,890 154,845 Operating income (loss) ( 12,088 ) ( 2,541 ) ( 30,452 ) 14,366 Other income (expense): Interest expense ( 707 ) ( 569 ) ( 1,730 ) ( 1,139 ) Other income (expense), net ( 136 ) 26 ( 119 ) ( 42 ) Change in fair value – warrant liabilities 346 4,860 4,274 14,007 Tax receivable agreement expense — ( 381 ) — ( 207 ) Total other income (expense), net ( 497 ) 3,936 2,425 12,619 Net income (loss) before income taxes ( 12,585 ) 1,395 ( 28,027 ) 26,985 Income tax benefit (expense) 4,175 1,167 5,986 ( 3,484 ) Net income (loss) ( 8,410 ) 2,562 ( 22,041 ) 23,501 Net income (loss) attributable to noncontrolling interest ( 70 ) ( 16 ) ( 199 ) 99 Net income (loss) attributable to Purple Innovation, Inc. $ ( 8,340 ) $ 2,578 $ ( 21,842 ) $ 23,402 Net income (loss) per share: Basic $ ( 0.10 ) $ 0.04 $ ( 0.29 ) $ 0.36 Diluted $ ( 0.10 ) $ ( 0.03 ) $ ( 0.29 ) $ 0.14 Weighted average common shares outstanding: Basic 82,703 66,277 74,924 65,439 Diluted 83,151 66,864 75,372 68,341 The accompanying notes are an integral part of these unaudited condensed consolidated financial statements. 2 PURPLE INNOVATION, INC. Condensed Consolidated Statements of Stockholders’ Equity (unaudited – in thousands) Class A Class B Additional Total Common Stock Common Stock Paid-in Accumulated Stockholders’ Noncontrolling Total Shares Par Value Shares Par Value Capital Deficit Equity Interest Equity Balance - December 31, 2021 66,493 $ 7 448 $ — $ 407,591 $ ( 261,825 ) $ 145,773 $ 768 $ 146,541 Net loss — — — — — ( 13,502 ) ( 13,502 ) ( 129 ) ( 13,631 ) Stock-based compensation — — — — 542 — 542 — 542 Exercise of stock options 20 — — — 166 — 166 — 166 Issuance of stock under equity compensation plans 25 — — — — — — — — Issuance of stock upon underwritten public offering, net of costs 16,100 1 — — 92,894 — 92,895 — 92,895 Accrued distributions — — — — ( 228 ) — ( 228 ) — ( 228 ) Impact of transactions affecting NCI — — — — ( 141 ) — ( 141 ) 141 — Balance – March 31, 2022 82,638 $ 8 448 $ — $ 500,824 $ ( 275,327 ) $ 225,505 $ 780 $ 226,285 Net loss — — — — — ( 8,340 ) ( 8,340 ) ( 70 ) ( 8,410 ) Stock-based compensation — — — — 1,275 — 1,275 — 1,275 Issuance of common stock under equity compensation plans 126 — — — — — — — — Additional costs associated with underwritten public stock offering — — — — ( 29 ) — ( 29 ) — ( 29 ) Impact of transactions affecting NCI — — — — ( 73 ) — ( 73 ) 73 — Balance – June 30, 2022 82,764 $ 8 448 $ — $ 501,997 $ ( 283,667 ) $ 218,338 $ 783 $ 219,121 Class A Class B Additional Accumulated Total Common Stock Common Stock Paid-in Equity Stockholders’ Noncontrolling Total Shares Par Value Shares Par Value Capital (Deficit) Equity Interest Equity Balance - December 31, 2020 63,914 $ 6 536 $ — $ 333,047 $ ( 265,856 ) $ 67,197 $ 344 $ 67,541 Net income — — — — — 20,824 20,824 115 20,939 Stock-based compensation — — — — 479 — 479 — 479 Exchange of stock 88 — ( 88 ) — — — — — — Exercise of warrants 2,291 1 — — 64,261 — 64,262 — 64,262 Exercise of stock options 10 — — — 83 — 83 — 83 Tax Receivable Agreement liability — — — — ( 777 ) — ( 777 ) — ( 777 ) Deferred income taxes — — — — 971 — 971 — 971 Accrued distributions — — — — ( 99 ) — ( 99 ) — ( 99 ) InnoHold indemnification payment — — — — 4,142 — 4,142 — 4,142 Impact of transactions affecting NCI — — — — ( 265 ) — ( 265 ) 265 — Balance – March 31, 2021 66,303 $ 7 448 $ — $ 401,842 $ ( 245,032 ) $ 156,817 $ 724 $ 157,541 Net income (loss) — — — — — 2,578 2,578 ( 16 ) 2,562 Stock-based compensation — — — — 1,113 — 1,113 — 1,113 Exercise of warrants 1 — — — 26 — 26 — 26 Exercise of stock options 45 — — — 369 — 369 — 369 Tax Receivable Agreement liability — — — — ( 3 ) — ( 3 ) — ( 3 ) Deferred income taxes — — — — 3 — 3 — 3 Accrued distributions — — — — ( 87 ) — ( 87 ) — ( 87 ) Issuance of common stock 22 — — — — — — — — Impact of transactions affecting NCI — — — — ( 192 ) — ( 192 ) 192 — Balance – June 30, 2021 66,371 $ 7 448 $ — $ 403,071 $ ( 242,454 ) $ 160,624 $ 900 $ 161,524 The accompanying notes are an integral part of these unaudited condensed consolidated financial statements. 3 PURPLE INNOVATION, INC. Condensed Consolidated Statements of Cash Flows (unaudited – in thousands) Six Months Ended June 30, 2022 2021 Cash flows from operating activities: Net income (loss) $ ( 22,041 ) $ 23,501 Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: Depreciation and amortization 7,583 3,544 Non-cash interest 360 257 Change in fair value – warrant liabilities ( 4,274 ) ( 14,007 ) Tax receivable agreement expense — 207 Stock-based compensation 1,817 1,592 Deferred income taxes ( 6,161 ) 3,170 Changes in operating assets and liabilities: Accounts receivable ( 6,148 ) 4,007 Inventories 13,804 931 Prepaid expenses and other assets 3,481 ( 2,263 ) Operating leases, net 4,178 785 Accounts payable ( 37,027 ) ( 11,783 ) Accrued sales returns ( 2,005 ) ( 1,466 ) Accrued compensation 354 ( 5,002 ) Customer prepayments ( 5,722 ) 11,081 Accrued rebates and allowances ( 2,854 ) ( 4,021 ) Other accrued liabilities 1,851 936 Net cash provided by (used in) operating activities ( 52,804 ) 11,469 Cash flows from investing activities: Purchase of property and equipment ( 24,233 ) ( 26,162 ) Investment in intangible assets ( 1,822 ) ( 285 ) Net cash used in investing activities ( 26,055 ) ( 26,447 ) Cash flows from financing activities: Payments on term loan ( 2,531 ) ( 1,125 ) Payments on revolving line of credit ( 55,000 ) — Payments for debt issuance costs ( 1,242 ) — Proceeds from stock offering 93,125 — Payments for public offering costs ( 259 ) — Proceeds from InnoHold indemnification payment — 4,142 Tax receivable agreement payments ( 5,847 ) ( 628 ) Distributions to members — ( 853 ) Proceeds from exercise of warrants — 116 Proceeds from exercise of stock options 166 452 Net cash provided by financing activities 28,412 2,104 Net decrease in cash ( 50,447 ) ( 12,874 ) Cash and cash equivalents, beginning of the year 91,616 122,955 Cash and cash equivalents, end of the period $ 41,169 $ 110,081 Supplemental disclosures of cash flow information: Cash paid during the period for interest, net of amounts capitalized $ 1,345 $ 858 Cash paid during the period for income taxes $ 219 $ 4,434 Supplemental schedule of non-cash investing and financing activities: Property and equipment included in accounts payable $ 3,648 $ 3,367 Non-cash leasehold improvements $ — $ 3,239 Accrued distributions $ 228 $ — Tax receivable agreement liability $ — $ 780 Deferred income taxes $ — $ 974 Exercise of liability warrants $ — $ 64,172 The accompanying notes are an integral part of these unaudited condensed consolidated financial statements. 4 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) 1. Organization The Company’s mission is to improve the lives of our consumers by delivering innovative better sleep solutions. Purple Innovation, Inc. collectively with its subsidiary (the “Company” or “Purple Inc.”) is a digitally-native vertical brand founded on comfort product innovation with premium offerings. The Company designs and manufactures a variety of innovative, branded and premium comfort products, including mattresses, pillows, cushions, bases, sheets, and other products. The Company markets and sells its products through its e-commerce online channels, retail brick-and-mortar wholesale partners, Purple retail showrooms, and third-party online retailers. The Company was incorporated in Delaware on May 19, 2015 as a special purpose acquisition company under the name of Global Partnership Acquisition Corp (“GPAC”). On February 2, 2018, the Company consummated a transaction structured similar to a reverse recapitalization (the “Business Combination”) pursuant to which the Company acquired a portion of the equity of Purple Innovation, LLC (“Purple LLC”). At the closing of the Business Combination (the “Closing”), the Company became the sole managing member of Purple LLC, and GPAC was renamed Purple Innovation, Inc. As the sole managing member of Purple LLC, Purple Inc. through its officers and directors is responsible for all operational and administrative decision making and control of the day-to-day business affairs of Purple LLC without the approval of any other member. 2. Summary of Significant Accounting Policies Basis of Presentation and Principles of Consolidation The condensed consolidated financial statements include the accounts of Purple Inc. and its controlled subsidiary Purple LLC. All intercompany balances and transactions have been eliminated in consolidation. As of June 30, 2022, Purple Inc. held 99.5 % of the common units of Purple LLC and Purple LLC Class B Unit holders held 0.5 % of the common units in Purple LLC. The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) and applicable rules and regulations of the Securities and Exchange Commission (“SEC”) regarding interim financial reporting and reflect the financial position, results of operations and cash flows of the Company. Certain information and note disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. As such, these unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and accompanying notes included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2021. The unaudited condensed consolidated financial statements were prepared on the same basis as the audited consolidated financial statements and, in the opinion of management, reflect all adjustments (all of which were considered of normal recurring nature) considered necessary to present fairly the Company’s financial results. The results of the three and six months ended June 30, 2022 are not necessarily indicative of the results to be expected for the fiscal year ending December 31, 2022 or for any other interim period or other future year. Variable Interest Entities Purple LLC is a variable interest entity. The Company determined that it is the primary beneficiary of Purple LLC as it is the sole managing member and has the power to direct the activities most significant to Purple LLC’s economic performance as well as the obligation to absorb losses and receive benefits that are potentially significant. At June 30, 2022, Purple Inc. had a 99.5 % economic interest in Purple LLC and consolidated 100 % of Purple LLC’s assets, liabilities and results of operations in the Company’s unaudited condensed consolidated financial statements contained herein. The holders of Purple LLC Class B Units (the “Class B Units”) held 0.5 % of the economic interest in Purple LLC as of June 30, 2022. For further discussion see Note 15 — Stockholders’ Equity. 5 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) Use of Estimates The preparation of the unaudited condensed consolidated financial statements in conformity with GAAP requires the Company to establish accounting policies and to make estimates and judgments that affect the reported amounts of assets and liabilities and disclose contingent assets and liabilities as of the date of the unaudited condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. The Company bases its estimates on historical experience and on various other assumptions believed to be reasonable, the results of which form the basis for making judgments about the carrying values of assets and liabilities. The Company regularly makes significant estimates and assumptions including, but not limited to, estimates that affect revenue recognition, accounts receivable and allowance for doubtful accounts, valuation of inventories, sales returns, warranty returns, warrant liabilities, stock based compensation, the recognition and measurement of loss contingencies, estimates of current and deferred income taxes, deferred income tax valuation allowances and amounts associated with the Company’s tax receivable agreement with InnoHold, LLC (“InnoHold”). Predicting future events is inherently an imprecise activity and, as such, requires the use of judgment. Actual results could differ materially from those estimates. Restructuring Charges In February and April 2022, because of lower-than-expected demand and higher labor and overhead costs that adversely affected our results of operations in the fourth quarter of 2021 which continued into the first quarter of 2022, the Company completed a restructuring of its workforce to balance production, improve efficiencies and realign the Company’s cost structure to focus on quality of earnings in our current core business. As a result of the realignment and restructuring, the Company reduced employee headcount and incurred severance charges of $ 2.0 million during the six months ended June 30, 2022. In June 2022, the Company incurred a one-time separation fee of $ 3.1 million with a professional services provider for not continuing with their services. The fee was recorded as general and administrative expense in the condensed consolidated statement of operations for the three months ended June 30, 2022. The Company has also initiated other cost reduction and efficiency efforts to improve costs, increase margins and ensure compliance with debt covenants. If the Company’s cash flow from operations or other sources of financing are less than anticipated, the Company believes it will be able to fund operating expenses and comply with debt covenants based on its ability to scale back operations, reduce marketing spend, use the liquidity available under its revolving line of credit and postpone or discontinue growth strategies. In addition, in order to continue satisfying the conditions of the debt agreement the Company may be required to scale back operations, reduce marketing spend, prepay debt and postpone or discontinue our growth strategies. Recent Accounting Pronouncements Reference Rate Reform In March 2020, the FASB issued ASU 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting (“ASU 2020-04”), which provides guidance to alleviate the burden in accounting for reference rate reform by allowing certain expedients and exceptions in applying generally accepted accounting principles to contracts, hedging relationships, and other transactions impacted by reference rate reform. The provisions of ASU 2020-04 apply only to those transactions that reference LIBOR or another reference rate expected to be discontinued due to reference rate reform. This standard is currently effective and upon adoption may be applied prospectively to contract modifications made on or before December 31, 2022, when the reference rate replacement activity is expected to be completed. The interest rates on the Company’s term loan and revolving line of credit were originally based on LIBOR. In February 2022, the Company entered into an amendment to the 2020 Credit Agreement that changed the interest reference rate from LIBOR to the Secured Overnight Financing Rate (“SOFR”). The change to SOFR did not have any impact on the Company’s condensed consolidated financial statements – see Note 10— Debt for discussion of the amendment to the 2020 Credit Agreement. 6 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) Measurement of Credit Losses In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments (“ASU 2016-13”), which was further updated and clarified by the FASB through issuance of additional related ASUs. This guidance replaces the existing incurred loss impairment guidance and establishes a single allowance framework for financial assets carried at amortized cost based on expected credit losses. The estimate of expected credit losses requires the incorporation of historical information, current conditions, and reasonable and supportable forecasts. These updates are effective for public companies, excluding Smaller Reporting Companies (“SRC”), for annual periods beginning after December 15, 2019, including interim periods therein. The standard is effective for all other entities for annual periods beginning after December 15, 2022, including interim periods therein. The standard is effective for the Company’s interim and annual financial periods beginning January 1, 2023. This standard is to be applied utilizing a modified retrospective approach. The Company is currently evaluating the impact of this standard on its accounts receivable, cash and cash equivalents, and any other financial assets measured at amortized cost. 3. Underwritten Offering In March 2022, the Company completed an underwritten offering of 16.1 million shares of Class A common stock, which included the underwriters exercising their over-allotment option in full to purchase an additional 2.1 million shares. The underwriter purchased the Class A common stock from the Company at a price of $ 5.65 per share, except that any shares sold by the underwriter to Coliseum Capital Partners, L.P. and Blackwell Partners LLC – Series A, up to an aggregate of 29.81 % of the shares of Class A common stock pursuant to the offering, were purchased from the Company by the underwriter at a price of $6.10 per share. The aggregate gross proceeds received by the Company from the offering, including the exercise of the over-allotment, was $ 93.1 million. After deducting offering expenses of $ 0.3 million, aggregate net proceeds totaled $ 92.9 million. 4. Fair Value Measurements The Company uses the fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date, essentially an exit price, based on the highest and best use of the asset or liability. The levels of the fair value hierarchy are: Level 1—Quoted market prices in active markets for identical assets or liabilities; Level 2—Significant other observable inputs (i.e., quoted prices for similar items in active markets, quoted prices for identical or similar items in markets that are not active, inputs other than quoted prices that are observable, such as interest rate and yield curves, and market-corroborated inputs); and Level 3—Unobservable inputs in which there is little or no market data, which require the reporting unit to develop its own assumptions. 7 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) The classification of fair value measurements within the established three-level hierarchy is based upon the lowest level of input that is significant to the measurements. Financial instruments, although not recorded at fair value on a recurring basis include cash and cash equivalents, receivables, accounts payable and the Company’s debt obligations. The carrying amounts of cash and cash equivalents, receivables, accounts payable and accrued expenses approximate fair value because of the short-term nature of these accounts. The fair value of the Company’s debt instruments is estimated to be face value based on the contractual terms of the debt arrangements and market-based expectations. The sponsor warrant liabilities (see Note 11 — Warrant Liabilities for more information) are Level 3 instruments and use internal models to estimate fair value using certain significant unobservable inputs which requires determination of relevant inputs and assumptions. Accordingly, changes in these unobservable inputs may have a significant impact on fair value. Such inputs include risk free interest rate, expected average life, expected dividend yield, and expected volatility. These Level 3 liabilities generally decrease (increase) in value based upon an increase (decrease) in risk free interest rate and expected dividend yield. Conversely, the fair value of these Level 3 liabilities generally increase (decrease) in value if the expected average life or expected volatility were to increase (decrease). The following table presents information about the Company’s liabilities that are measured at fair value on a recurring basis and indicates the fair value hierarchy of the valuation inputs the Company utilized to determine such fair value (dollars in thousands): Level June 30, 2022 December 31, 2021 Sponsor warrants 3 $ 69 $ 4,343 The following table summarizes the Company’s total Level 3 liability activity for the six months ended June 30, 2022 and 2021 (in thousands): Sponsor Warrants Fair value as of December 31, 2021 $ 4,343 Fair value of warrants exercised — Change in valuation inputs (1) ( 4,274 ) Fair value as of June 30, 2022 $ 69 Fair value as of December 31, 2020 $ 92,708 Fair value of warrants exercised ( 64,172 ) Change in valuation inputs (1) ( 14,007 ) Fair value as of June 30, 2021 $ 14,529 (1) Changes in valuation inputs are recognized as the change in fair value – warrant liabilities in the condensed consolidated statement of operations. 5. Revenue from Contracts with Customers The Company markets and sells its products through e-commerce online channels, retail brick-and-mortar wholesale partners, Purple retail showrooms, and third-party online retailers. Revenue is recognized when the Company satisfies its performance obligations. These performance obligations generally relate to delivering products to a customer, subject to the shipping terms of the contract. 8 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) Disaggregated Revenue The Company classifies revenue into two sales categories: Direct-to-Consumer (“DTC”) and wholesale. The DTC category is comprised of the Company’s e-commerce channel that sells directly to consumers who purchase online and through our contact center, and the Purple retail showrooms channel that sells directly to consumers who purchase at a Company showroom location. The wholesale category includes all product sales to our retail brick and mortar wholesale partners where consumers make purchases at their retail locations or through their online channels. The Company classifies products into two major types: sleep products and other. Sleep products include mattresses, platforms, adjustable bases, mattress protectors, pillows and sheets. Other products include cushions and various other products. The following tables present the Company’s net revenue disaggregated by sales category and product type (in thousands): Three Months Ended June 30, Six Months Ended June 30, Channel 2022 2021 2022 2021 DTC $ 81,628 $ 116,219 $ 167,164 $ 241,123 Wholesale 62,481 66,367 120,124 127,892 Revenues, net $ 144,109 $ 182,586 $ 287,288 $ 369,015 Three Months Ended June 30, Six Months Ended June 30, Product 2022 2021 2022 2021 Sleep products $ 131,738 $ 166,708 $ 260,704 $ 338,551 Other 12,371 15,878 26,584 30,464 Revenues, net $ 144,109 $ 182,586 $ 287,288 $ 369,015 Contract Balances Payment for sale of products through the e-commerce online channel, third-party online retailers, Purple retail showrooms and contact center is collected at point of sale in advance of shipping the products. Amounts received for unshipped products are recorded as customer prepayments. Customer prepayments totaled $ 5.1 million and $ 10.9 million at June 30, 2022 and December 31, 2021, respectively. During the three months ended June 30, 2022 and 2021, the Company recognized all revenue that was deferred in customer prepayments at March 31, 2022 and 2021, respectively. 6. Inventories, Net Inventories, net consisted of the following (in thousands): June 30, December 31, 2022 2021 Raw materials $ 31,621 $ 33,609 Work-in-process 2,041 4,023 Finished goods 52,870 63,419 Inventory obsolescence reserve ( 1,646 ) ( 2,361 ) Inventories, net $ 84,886 $ 98,690 9 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) 7. Property and Equipment, Net Property and equipment, net consisted of the following (in thousands): June 30, December 31, 2022 2021 Equipment $ 61,194 $ 58,094 Equipment in progress 20,181 19,840 Leasehold improvements 48,255 38,098 Furniture and fixtures 20,909 12,482 Office equipment 4,359 4,843 Total property and equipment 154,898 133,357 Accumulated depreciation ( 27,146 ) ( 20,743 ) Property and equipment, net $ 127,752 $ 112,614 Equipment in progress reflects equipment, primarily related to mattress manufacturing, which is being constructed and was not in service at June 30, 2022 or December 31, 2021. Interest capitalized on borrowings during the active construction period of major capital projects totaled $ 0.2 million and $ 0.4 million during the three and six months ended June 30, 2022, respectively. There was no interest capitalized during the three and six months ended June 30, 2021. Depreciation expense was $ 3.6 million and $ 7.1 million during the three and six months ended June 30, 2022, respectively, and totaled $ 1.9 million and $ 3.5 million during the three and six months ended June 30, 2021, respectively. 8. Leases The Company leases its manufacturing and distribution facilities, corporate offices, Purple retail showrooms and certain equipment under non-cancelable operating leases with various expiration dates through 2036. The Company’s office and manufacturing leases provide for initial lease terms up to 16 years, while Purple retail showrooms have initial lease terms of up to ten years . Certain leases may contain options to extend the term of the original lease. The exercise of lease renewal options is at the Company’s discretion. Any lease renewal options are included in the lease term if exercise is reasonably certain at lease commencement. The Company also leases vehicles and other equipment under both operating and finance leases with initial lease terms of three to five years . The right-of-use asset for finance leases was $ 0.6 million and $ 0.7 million at June 30, 2022 and December 31, 2021, respectively. The following table presents the Company’s lease costs (in thousands): Three Months Ended June 30, Six Months Ended June 30, 2022 2021 2022 2021 Operating lease costs $ 3,690 $ 2,064 $ 6,838 $ 3,871 Variable lease costs 409 482 1,123 577 Short-term lease costs — 68 11 124 Total lease costs $ 4,099 $ 2,614 $ 7,972 $ 4,572 10 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) The table below reconciles the undiscounted cash flows for each of the first five years and total remaining years to the operating lease liabilities recorded on the condensed consolidated balance sheet at June 30, 2022 (in thousands): 2022 (excluding the six months ended June 30, 2022) (1) $ 3,905 2023 16,076 2024 16,176 2025 16,192 2026 16,209 Thereafter 79,900 Total operating lease payments 148,458 Less – lease payments representing interest ( 35,119 ) Present value of operating lease payments $ 113,339 (1) Amount consists of $ 8.0 million of undiscounted cash flows offset by $ 4.1 million of tenant improvement allowances which are expected to be fully utilized in fiscal 2022. As of June 30, 2022 and December 31, 2021, the weighted-average remaining term of operating leases was 9.7 years and 10.7 years, respectively, and the weighted-average discount rate of operating leases was 5.33 % and 5.30 %, respectively. The following table provides supplemental information related to the Company’s condensed consolidated statement of cash flows for the six months ended June 30, 2022 and 2021 (in thousands): Six Months Ended June 30, 2022 2021 Cash paid for amounts included in present value of operating lease liabilities $ 3,425 $ 1,273 Right-of-use assets obtained in exchange for operating lease liabilities 25,029 14,984 9. Other Current Liabilities Other current liabilities consisted of the following (in thousands): June 30, December 31, 2022 2021 Warranty accrual – current portion $ 4,447 $ 3,914 Insurance financing 1,243 $ 1,043 Long-term debt, net of unamortized issuance costs – current portion 1,290 2,297 Tax receivable agreement liability – current portion 269 5,847 Other 798 369 Total other current liabilities $ 8,047 $ 13,470 11 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) 10. Debt Debt consisted of the following (in thousands): June 30, December 31, 2022 2021 Term loan $ 39,656 $ 42,188 Revolving line of credit — 55,000 Less: unamortized issuance costs ( 1,168 ) ( 778 ) Total debt 38,488 96,410 Less: current portion of debt, net of unamortized issuance costs ( 1,290 ) ( 2,297 ) Long-term debt, net $ 37,198 $ 94,113 Term Loan and Revolving Line of Credit On September 3, 2020, Purple LLC entered into a financing arrangement with KeyBank National Association and a group of financial institutions (the “2020 Credit Agreement”). The 2020 Credit Agreement provides for a $ 45.0 million term loan and a $ 55.0 million revolving line of credit. The term loan will be repaid in accordance with a five-year amortization schedule and may be prepaid in whole or in part at any time without premium or penalty, subject to reimbursement of certain costs. The revolving credit facility has a term of five years and carries the same interest provisions as the term debt. A commitment fee is due quarterly based on the applicable margin applied to the unused total revolving commitment. The initial borrowing rate of 3.50% was based on LIBOR plus 3.00%. Pursuant to a Pledge and Security Agreement between Purple LLC, KeyBank and the Company (the “Security Agreement”), the 2020 Credit Agreement is secured by a perfected first-priority security interest in the assets of Purple LLC and the Company, including a security interest in all intellectual property. Also, the Company agreed to an unconditional guaranty of the payment of all obligations and liabilities of Purple LLC under the 2020 Credit Agreement. The Security Agreement contains a pledge, as security for the Company’s guaranty, of all its ownership interest in Purple LLC. The 2020 Credit Agreement also provides for standard events of default, such as for non-payment and failure to perform or observe covenants, and contains standard indemnifications benefitting the lenders. The 2020 Credit Agreement includes representations, warranties and certain covenants of Purple LLC and the Company. While any amounts are outstanding under the 2020 Credit Agreement, Purple LLC is subject to several affirmative and negative covenants, including covenants regarding dispositions of property, investments, forming or acquiring subsidiaries, business combinations or acquisitions, incurrence of additional indebtedness, and transactions with affiliates, among other customary covenants, subject to certain exceptions. In particular, Purple LLC is (i) subject to annual capital expenditure limits that can be adjusted based on the Company achieving certain net leverage ratio thresholds as provided in the 2020 Credit Agreement, (ii) restricted from incurring additional debt up to certain amounts, subject to limited exceptions, as set forth in the 2020 Credit Agreement, and (iii) maintain minimum consolidated net leverage and fixed charge coverage ratio thresholds at certain measurement dates (as defined in the 2020 Credit Agreement). Purple LLC is also restricted from paying dividends or making other distributions or payments on its capital stock, subject to limited exceptions. If the Company or Purple LLC fail to perform their obligations under these and other covenants, or should any event of default occur, the revolving loan commitments under the 2020 Credit Agreement may be terminated and any outstanding borrowings, together with accrued interest, could be declared immediately due and payable. 12 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) The Company’s operating and financial results for the year ended December 31, 2021 did not satisfy the financial and performance covenants required under the 2020 Credit Agreement. On February 28, 2022, prior to the covenant compliance certification date, the Company entered into the first amendment of the 2020 Credit Agreement to avoid a breach of these covenants and potential default. This amendment contained a covenant waiver period such that the net leverage ratio and fixed charge coverage ratio would not be tested for the fiscal quarters ended December 31, 2021, March 31, 2022 and June 30, 2022. Other modifications in the amendment included revised leverage ratio and fixed charge coverage definitions and thresholds, the addition of minimum liquidity requirements with mandatory prepayments of the revolving loan if cash exceeded $ 25.0 million, new weekly and monthly reporting requirements, limits on the amount of capital expenditures, the addition of a lease incurrence test for opening additional showrooms, and additional negative covenants during a covenant amendment period that extends into 2023 until certain conditions are met. In addition, the interest rate on any outstanding borrowings under the 2020 Credit Agreement was changed from LIBOR with a floor of 0.5% plus an applicable margin (historically at 3.0%) to an initial rate of SOFR with a floor of 0.5% plus an applicable margin of 4.75%, for a total rate of 5.25% if the applicable liquidity threshold is met. If the Company does not meet this threshold, the interest rate would increase to SOFR with a floor of 0.5% plus 9.00%. Once the Company achieves a consolidated leverage ratio that is below 3.00 to 1.00, the interest rate will be based on SOFR with a floor of 0.5% plus a 3.00% to 3.75% margin depending on the consolidated leverage ratio. The interest rate on the term loan was 6.07 % as of June 30, 2022. Pursuant to the first amendment of the 2020 Credit Agreement, the Company incurred fees and expenses of $ 0.9 million that were recorded as debt issuance costs in the condensed consolidated balance sheet and made a $ 2.5 million payment on the term loan to cover the four quarterly principal payments due in 2022. The Company accounted for this amendment as a modification of existing debt in accordance with ASC 470 – Debt . On March 23, 2022, the Company entered into a second amendment to the 2020 Credit Agreement. This amendment modified the 2020 Credit Agreement to allow Coliseum Capital Management, LLC (“CCM”) and its investment affiliates to acquire 35 % or more of the combined voting power of all equity interests of the Company entitled to vote for the election of members of the Company’s board of directors without constituting an event of default. CCM is considered a related party of the Company in that Adam Gray, a member of our board of directors, serves as a managing partner of CCM. For further discussion see Note 14— Related Party Transactions — Coliseum Capital Management, LLC. Pursuant to the second amendment of the 2020 Credit Agreement, the Company incurred fees and expenses of $ 0.4 million that were recorded as debt issuance costs in the condensed consolidated balance sheet. The Company accounted for this amendment as a modification of existing debt in accordance with ASC 470 – Debt . In November 2021, the Company executed a $ 55.0 million draw on its revolving line of credit. On March 31, 2022, the Company used a portion of the net proceeds received from its March 2022 offering to repay in full the $ 55.0 million of principal outstanding on the revolving line of credit. 13 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) Interest expense under the 2020 Credit Agreement totaled $ 0.9 million and $ 2.0 million for the three and six months ended June 30, 2022, respectively, and totaled $ 0.6 million and $ 1.1 million for the three and six months ended June 30, 2021, respectively. 11. Warrant Liabilities The Company issued 12.8 million sponsor warrants pursuant to a private placement conducted simultaneously with its initial public offering. Each of these warrants entitles the registered holder to purchase one-half of one share of the Company’s Class A common stock at a price of $5.75 per half share ($11.50 per full share), subject to adjustment pursuant to the terms of the warrant agreement. In accordance with the warrant agreement, a warrant holder may exercise its warrants only for a whole number of shares of the Class A common stock. In no event will the Company be required to net cash settle any warrant. The warrants have a five-year term which commenced on March 2, 2018, 30 days after the completion of the Business Combination, and will expire on February 2, 2023, or earlier upon redemption or liquidation. These sponsor warrants contain certain provisions that do not meet the criteria for equity classification and therefore must be recorded as liabilities. The liability for these warrants was recorded at fair value on the date of the Business Combination and are subsequently re-measured to fair value at each reporting date or exercise date with changes in the fair value included in earnings. During the six months ended June 30, 2021, 6.6 million sponsor warrants were exercised resulting in the issuance of 2.3 million shares of Class A common stock. There were no sponsor warrants exercised during the six months ended June 30, 2022. The 1.9 million sponsor warrants outstanding at June 30, 2022 and December 31, 2021 had fair values of $ 0.1 million and $ 4.3 million, respectively. The Company determined the fair value of the sponsor warrants using the Black Scholes model with the following assumptions: June 30, 2022 December 31, 2021 Trading price of common stock on measurement date $ 3.06 $ 13.27 Exercise price $ 5.75 $ 5.75 Risk free interest rate 2.51 % 0.39 % Warrant life in years 0.6 1.1 Expected volatility 98.78 % 73.78 % Expected dividend yield — — During the three and six months ended June 30, 2022, the Company recognized gains of $ 0.3 million and $ 4.3 million, respectively, and during the three and six months ended June 30, 2021, the Company recognized gains of $ 4.9 million and $ 14.0 million, respectively, in its condensed consolidated statements of operations related to decreases in the fair value of the sponsor warrants exercised during the respective periods or that were outstanding at the end of the respective period. 12. Other Long-Term Liabilities Other long-term liabilities consist of the following (in thousands): June 30, December 31, 2022 2021 Warranty accrual $ 17,709 $ 15,013 Other 2,058 962 Total 19,767 15,975 Less – current portion of warranty accrual ( 4,447 ) ( 3,914 ) Other long-term liabilities, net of current portion $ 15,320 $ 12,061 14 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) 13. Commitments and Contingencies Warranty Liabilities The Company provides a limited warranty on most of the products it sells. The estimated warranty costs, which are expensed at the time of sale and included in cost of revenues, are based on the results of product testing, industry and historical trends and warranty claim rates incurred, and are adjusted for any current or expected trends as appropriate. Actual warranty claim costs could differ from these estimates. The Company regularly assesses and adjusts the estimate of accrued warranty claims by updating claims rates for actual trends and projected claim costs. The Company classifies estimated warranty costs expected to be paid beyond a year as a long-term liability. The Company had the following activity for warranty liabilities (in thousands): Three Months Ended June 30, Six Months Ended June 30, 2022 2021 2022 2021 Balance at beginning of period $ 16,368 $ 9,375 $ 15,013 $ 8,397 Additions charged to expense for current period sales 2,173 2,526 4,336 4,198 Deduction from reserves for current period claims ( 832 ) ( 623 ) ( 1,640 ) ( 1,317 ) Balance at end of period $ 17,709 $ 11,278 $ 17,709 $ 11,278 Required Member Distributions Prior to the Business Combination and pursuant to the then applicable First Amended and Restated Limited Liability Company Agreement (the “First Purple LLC Agreement”), Purple LLC was required to distribute to its members an amount equal to 45 percent of Purple LLC’s net taxable income following the end of each fiscal year. The First Purple LLC Agreement was amended and replaced by the Second Amended and Restated Limited Liability Company Agreement (the “Second Purple LLC Agreement”) on February 2, 2018 as part of the Business Combination. The Second Purple LLC Agreement was amended and replaced by the Third Amended and Restated Limited Liability Company Agreement (the “Third Purple LLC Agreement”) on September 3, 2020. The Second Purple LLC Agreement and the Third Purple LLC Agreement do not include any mandatory distributions, other than tax distributions. During the six months ended June 30, 2021, the Company paid $ 0.9 million in tax distributions under the Third Purple LLC Agreement. There were no tax distributions paid during the six months ended June 30, 2022. At June 30, 2022, the Company’s condensed consolidated balance sheet had $ 0.1 million of accrued tax distributions included in other current liabilities. Subscription Agreement and Preemptive Rights In February 2018, in connection with the Business Combination, the Company entered into a subscription agreement with Coliseum Capital Partners (“CCP”) and Blackwell Partners LLC – Series A (“Blackwell”), pursuant to which CCP and Blackwell agreed to purchase from the Company an aggregate of 4.0 million shares of Class A Stock at a purchase price of $10.00 per share (the “Coliseum Private Placement”). In connection with the Coliseum Private Placement, the Sponsor assigned (i) an aggregate of 1.3 million additional shares of Class A common stock to CCP and Blackwell and (ii) an aggregate of 3.3 million warrants to purchase 1.6 million shares of Class A common stock to CCP, Blackwell, and Coliseum Co-Invest Debt Fund, L.P. (“CDF”). The subscription agreement provides CCP and Blackwell with preemptive rights with respect to future sales of the Company’s securities. It also provides them with a right of first refusal with respect to certain debt and preferred equity financings by the Company. The Company also entered into a registration rights agreement with CCP, Blackwell, and CDF, providing for the registration of the shares of Class A common stock issued and assigned to CCP and Blackwell in the Coliseum Private Placement, as well as the shares of Class A common stock underlying the warrants received by CCP, Blackwell and CDF. The Company has filed a registration statement with respect to such securities. Rights of Securities Holders The holders of certain warrants exercisable into Class A common stock, including CCP, Blackwell and CDF, were entitled to registration rights pursuant to certain registration rights agreements of the Company as of the Business Combination date. In March 2018, the Company filed a registration statement registering these warrants (and any shares of Class A common stock issuable upon the exercise of the warrants), and certain unregistered shares of Class A common stock. The registration statement was declared effective on April 3, 2018. Under the Registration Rights Agreement dated February 2, 2018 between the Company and CCP, Blackwell, and CDF (the “Coliseum Investors”), the Coliseum Investors have the right to make written demands for up to three registrations of certain warrants and shares of Class A common stock held by them, including in underwritten offerings. In an underwritten offering of such warrants and shares of Class A common stock by the Coliseum Investors, the Company will pay underwriting discounts and commissions and certain expenses incurred by the Coliseum Investors. On May 21, 2021, 7.3 million shares of Class A common stock were sold in a secondary offering by the Coliseum Investors at a price of $ 30.00 per share. The Company did not receive any of the proceeds from the secondary offering. The underwriting discount, commission and other related costs incurred by the Company for the secondary offering totaled $ 7.9 million and was recorded in May 2021 as general and administrative expense. 15 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) Purple LLC Class B Unit Exchange Right On February 2, 2018, in connection with the closing of the Business Combination, the Company entered into an exchange agreement with Purple LLC and InnoHold and Class B Unit holders who become a party thereto (the “Exchange Agreement”), which provides for the exchange of Purple LLC Class B Units (the “Class B Units”) and shares of Class B common stock (together with an equal number of Class B Units, the “Paired Securities”) for, at the Company’s option, either (A) shares of Class A common stock at an initial exchange ratio equal to one Paired Security for one share of Class A common stock or (B) a cash payment equal to the product of the average of the volume-weighted closing price of one share of Class A common stock for the ten trading days immediately prior to the date InnoHold or other Class B Unit holders deliver a notice of exchange multiplied by the number of Paired Securities being exchanged. In December 2018, InnoHold distributed Paired Securities to Terry Pearce and Tony Pearce who agreed to become parties to the Exchange Agreement. In June 2019, InnoHold distributed Paired Securities to certain current and former employees who also agreed to become parties to the exchange agreement. Holders of Class B Units may elect to exchange all or any portion of their Paired Securities as described above by delivering a notice to Purple LLC. In certain cases, adjustments to the exchange ratio will occur in case of a split, reclassification, recapitalization, subdivision or similar transaction of or relating to the Class B Units or the shares of Class A common stock and Class B common stock or a transaction in which the Class A common stock is exchanged or converted into other securities or property. The exchange ratio will also adjust in certain circumstances when the Company acquires Class B Units other than through an exchange for its shares of Class A common stock. The right of a holder of Paired Securities to exchange may be limited by the Company if it reasonably determines in good faith that such restrictions are required by applicable law (including securities laws), such exchange would not be permitted under other agreements of such holder with the Company or its subsidiaries, including the Third Purple LLC Agreement, or if such exchange would cause Purple LLC to be treated as a “publicly traded partnership” under applicable tax laws. The Company and each holder of Paired Securities shall bear its own expense regarding the exchange except that the Company shall be responsible for transfer taxes, stamp taxes and similar duties. There were no Paired Securities exchanged for Class A common stock during the six months ended June 30, 2022. During the six months ended June 30, 2021, 0.1 million of Paired Securities were exchanged for shares of Class A common stock. 16 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) Maintenance of One-to-One Ratios The Third Purple LLC Agreement includes provisions intended to ensure that the Company at all times maintains a one-to-one ratio between (a) (i) the number of outstanding shares of Class A common stock and (ii) the number of Class A Units owned by the Company (subject to certain exceptions for certain rights to purchase equity securities of the Company under a “poison pill” or similar stockholder rights plan, if any, certain convertible or exchangeable securities issued under the Company’s equity compensation plan and certain equity securities issued pursuant to the Company’s equity compensation plan (other than a stock option plan) that are restricted or have not vested thereunder) and (b) (i) the number of other outstanding equity securities of the Company (including the warrants exercisable for shares of Class A common stock) and (ii) the number of corresponding outstanding equity securities of Purple LLC. These provisions are intended to result in non-controlling interest holders having a voting interest in the Company that is identical to their economic interest in Purple LLC. Non-Income Related Taxes The U.S. Supreme Court ruling in South Dakota v. Wayfair, Inc. , No.17-494, reversed a longstanding precedent that remote sellers are not required to collect state and local sales taxes. The Company cannot predict the effect of these and other attempts to impose sales, income or other taxes on e-commerce. The Company currently collects and reports on sales tax in all states in which it does business. However, the application of existing, new or revised taxes on the Company’s business, in particular, sales taxes, VAT and similar taxes would likely increase the cost of doing business online and decrease the attractiveness of selling products over the internet. The application of these taxes on the Company’s business could also create significant increases in internal costs necessary to capture data and collect and remit taxes. There have been, and will continue to be, substantial ongoing costs associated with complying with the various indirect tax requirements in the numerous markets in which the Company conducts or will conduct business. Legal Proceedings On September 9, 2019, Purple LLC filed a Statement of Claim against PerfectSense Home Inc. and PerfectSense Trading Co. Ltd. (collectively, “PerfectSense”) in the Federal Court of Canada. PerfectSense is a manufacturer and supplier of mattresses and related products. PerfectSense owns the domain name www.purplesleep.ca, which used to, but no longer, redirects to its website at www.perfectsense.ca. In addition to this, Purple LLC has alleged that PerfectSense has designed their mattresses with the same look as the Purple mattresses (white mattress top, purple stripe, and grey bottom); used many of the marketing elements on Purple’s website (including a similar “exploded view” image of their mattress); and adopted the color purple as their dominant marketing color. Purple LLC is suing for a declaration that PerfectSense has infringed Purple LLC’s copyright and trademark rights and committed the tort of passing off. Purple LLC is asking for injunctive relief, damages, an accounting of profits, interest, costs, and delivery up or destruction of the infringing products (including delivery up of the www.purplesleep.ca domain). After filing the statement of claim, Purple LLC posted $ 15,000 CAD as security for PerfectSense’s costs. PerfectSense brought a motion to strike that was resolved on consent. Pleadings are now closed, and the action is proceeding under case management. Counsel for the defendant was removed from the record at their own request by Court Order. The Court further ordered the defendant to either appoint counsel or file a motion to permit an officer or director to represent the defendant in legal proceedings. On November 6, 2020, the defendant informally requested that the Court permit Mr. Henderson, the CEO and shareholder of the defendant, to represent the defendant in the action until such time as a lawyer could be appointed. Purple opposed this informal request, and it was denied by the Court. After granting PerfectSense a final extension of time to either appoint counsel or file a motion to permit Mr. Henderson to represent the defendant, PerfectSense appointed new counsel. The parties engaged in litigation discovery, exchanged affidavits of documents and scheduled examinations for discovery. Shortly thereafter, discovery adjourned and continues to be stayed while the parties negotiate formal terms of settlement. PerfectSense has not responded to Purple’s repeated attempts to finalize the settlement. Purple filed a motion to enforce a settlement agreement. The Court has directed the motion be heard before a Judge, which will likely take place in September of 2022. On September 20, 2020, Purple LLC filed a complaint in the U.S. Court of International Trade seeking to recover approximately $ 7.0 million of Section 301 duties paid at the time of importation on certain Chinese-origin goods. More than 4,000 other complaints have been filed by other companies seeking similar refunds. On March 12, 2021 the United States filed a master answer that applies to all the Section 301 cases, including Purple LLC’s. On July 6, 2021, the court granted a preliminary injunction against liquidation of any unliquidated entries. On April 1, 2022, the court issued an opinion that remanded the case back to the U.S. Trade Representative (“USTR”) to address certain procedural flaws in USTR’s process for determining whether certain products were subject to the Section 301 duties. On August 1, 2022, USTR issued its remand results. The court has not yet established a briefing schedule for comments on the remand results. If successful, this litigation could result in a refund of some or all of the Section 301 duties. 17 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) On October 13, 2020, Purple LLC filed a lawsuit against Responsive Surface Technology, LLC and its parent company, PatienTech, LLC (collectively referred to as “ReST”) in the United States District Court for the District of Utah. The lawsuit arises from ReST’s multiple breaches of its obligations to Purple LLC, including infringing upon Purple LLC’s trademarks, patents, and trade dress, among other claims. Purple seeks monetary damages, injunctive relief, and declaratory judgment based on certain conduct by ReST (“Case I”). On October 21, 2020, shortly after the complaint was filed in Case I, ReST filed a retaliatory lawsuit against Purple LLC, Gary DiCamillo, Adam Gray, Joseph Megibow, Terry Pearce, and Tony Pearce, also in the United States District Court for the District of Utah (“Case II”). Subsequently, the two cases were consolidated into one. Case II (now combined with Case I) involves many of the same facts and transactions as Case I. On January 19, 2021, ReST filed a motion to compel arbitration of the claims in Case I. Purple LLC opposed the motion to compel arbitration, arguing that ReST waived any rights they may have had to arbitration and that all the claims in both cases should stay in the courts. However, the Court granted ReST’s motion to compel arbitration, and stayed the proceedings in the United States District Court for the District of Utah. Additionally, the Court ruled that ReST’s claims against the Purple board members were not subject to arbitration, and the Court stayed ReST’s claims against those individuals. Pursuant to the Court’s order, Purple filed a demand for arbitration with the American Arbitration Association (the “AAA”) on September 1, 2021. ReST filed its counterclaim with the AAA on September 21, 2021.The parties have selected an arbitrator and they have agreed upon a scheduling order. Currently, the parties are in the fact discovery phase of the arbitration. The parties have scheduled several depositions and exchange documents and discovery requests. The arbitration hearing is set to begin on April 17, 2023, and it will continue through April 28, 2023. Purple LLC seeks over $ 4 million in damages from ReST, whereas ReST claims that Purple is liable to it for tens of millions of dollars. The outcome of this litigation cannot be predicted at this stage. However, Purple intends to vigorously pursue its claims and defend against the claims made by ReST. On November 19, 2020, Purple LLC sued Advanced Comfort Technologies, Inc., dba Intellibed (“Intellibed”) in the U.S. District Court for the District of Utah for patent infringement, trademark infringement, trade secret misappropriation, and a number of related state law based claims. The principal allegations are that Intellibed has manufactured and sold unauthorized, infringing products under the Sleepy’s brand name owned by third-party Mattress Firm. Purple LLC also requested declaratory relief related to certain assignment terms of a license agreement in which Purple LLC is the licensor and Intellibed is the licensee. On December 14, 2020, Intellibed filed a motion to dismiss Counts I through XI of Purple LLC’s Complaint on the ground that these Counts fail to state a claim upon which relief can be granted. On December 15, 2020, Intellibed filed an Answer to Purple LLC’s complaint and also asserted against Purple LLC a total of eight counterclaims, including a number of declaratory judgment claims, breach of contract, and tortious interference claims. Intellibed’s main allegations are that its use of Purple LLC’s patents, trademark, and trade secrets in connection with Mattress Firm’s Sleepy’s products is authorized under the license agreement. On January 19, 2021, Purple LLC filed a motion to dismiss Intellibed’s fifth, sixth, seventh, and eighth counterclaims on the ground that these counterclaims fail to state a claim upon which relief can be granted. Briefing on Purple LLC’s partial motion to dismiss was completed on March 2, 2021. On January 19, 2021, Purple LLC also filed an Answer to Intellibed’s counterclaims, which were not subject to Purple LLC’s motion to dismiss. On January 27, 2021, Purple LLC filed a First Amended Complaint in response to Intellibed’s initial motion to dismiss. On February 10, 2021, Intellibed filed a motion to dismiss Counts I through XI of Purple LLC’s First Amended Complaint. Briefing on Intellibed’s partial motion to dismiss was completed on March 24, 2021. On September 28, 2021, the District Court dismissed Purple’s complaint without prejudice, and also dismissed ACTI’s counterclaim without prejudice, while the parties pursued dispute-resolution procedures set out in the license agreement. Because the Court found that the license agreement required the parties to follow the contractual dispute-resolution procedures prior to filing a lawsuit, Purple initiated those procedures in accordance with the license agreement and intends to continue to vigorously pursue its claims. 18 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) On June 8, 2021, Serta Simmons Bedding, LLC (“SSB”) filed a Complaint against the Company in the Superior Court of Gwinnett County, Georgia, Case No. 21-A-04413-1 (the “Georgia Litigation”). SSB’s Complaint alleges that the Company intentionally interfered with SSB’s business and contractual relations and violated the Georgia Trade Secrets Act by hiring one of SSB’s former employees in the face of an allegedly valid 2015 noncompete agreement. SSB seeks compensatory damages, punitive damages, equitable relief, and attorneys’ fees as a result of the conduct alleged in the Complaint. SSB also initiated arbitration proceedings against its former employee who Purple LLC has agreed to indemnify, subject to certain conditions. On July 12, 2021, the Company filed an Answer to SSB’s Complaint in the Georgia Litigation, denying all allegations of unlawful conduct, and further moved to dismiss the Georgia Litigation on the grounds that Georgia is an inconvenient forum and the parties’ dispute should instead be litigated in Utah. On July 9, 2021, the Company filed its own Complaint in the Fourth Judicial District Court of Salt Lake County, Utah, Case No. 21040011 (the “Utah Litigation”), seeking: (1) a declaratory judgment that the arbitration clause in the former employee’s 2015 noncompete agreement is unenforceable, (2) a declaratory judgment that the restrictive covenants in the former employee’s 2015 noncompete agreement are unenforceable, and (3) an order enjoining arbitration proceedings initiated by SSB and currently pending against the former employee. The Company filed a motion for summary judgment on these claims on August 16, 2021. SSB filed an Answer on August 18, 2021. After attending a mediation, the parties entered in a settlement agreement on December 31, 2021 resolving all claims in the Georgia Litigation and Utah Litigation. The Company did not pay any monetary consideration to SSB in connection with the settlement agreement. On January 12, 2022, pursuant to the terms of the settlement agreement, SSB dismissed the Georgia Litigation without prejudice and the Company dismissed the Utah Litigation without prejudice. On May 3, 2022, the Company filed a Complaint against Photon Interactive UK Limited (“Photon”) in the U.S. District Court for the District of Delaware regarding a Master Professional Services Agreement with Photon dated on or around November 1, 2019. Pursuant to the agreement, Photon was required to rebuild Purple’s website architecture and checkout process. Purple paid Photon $ 0.9 million under the Agreement. However, Photon failed to deliver any of the required deliverables as specified in the agreement. Purple withheld payment of the final $ 0.1 million due pursuant to Photon’s invoices pending a resolution with Photon. Since resolution discussions with Photon have failed, Purple filed the aforementioned complaint for breach of contract against Photon seeking, among other damages, reimbursement for all amounts paid to under the agreement. It is anticipated that Photon will counter-sue for amounts they claim are owed. The Company is from time to time involved in various other claims, legal proceedings and complaints arising in the ordinary course of business. The Company does not believe that adverse decisions in any such pending or threatened proceedings, or any amount that the Company might be required to pay by reason thereof, would have a material adverse effect on the financial condition or future results of the Company. 14. Related Party Transactions The Company had various transactions with entities or individuals which are considered related parties. Coliseum Capital Management, LLC Immediately following the Business Combination, Adam Gray was appointed to the Company’s Board of Directors (the “Board”). Mr. Gray is a manager of Coliseum Capital, LLC, which is the general partner of CCP and CDF, and he is also a managing partner of Coliseum Capital Management, LLC (“CCM”), which is the investment manager of Blackwell. Mr. Gray has voting and dispositive control over securities held by CCP, CDF and Blackwell which were also Lenders under the Amended and Restated Credit Agreement. See Note 13— Commitments and Contingencies — Subscription Agreement and Preemptive Rights for further discussion . Purple Founder Entities TNT Holdings, LLC (herein “TNT Holdings”), EdiZONE, LLC, (herein EdiZONE an entity wholly owned by TNT Holdings) and InnoHold (collectively the “Purple Founder Entities”) were entities under common control with Purple LLC prior to the Business Combination. TNT Holdings and InnoHold are majority owned and controlled by Terry Pearce and Tony Pearce (the “Purple Founders”), who were appointed to the Company’s Board following the Business Combination. InnoHold was a majority shareholder of the Company until it sold a portion of its interests in a secondary public offering in May 2020 and the remainder of its interests in a secondary public offering in September 2020. The Purple Founders also resigned as employees of Purple LLC and retired from the Company’s Board in August 2020. 19 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) TNT Holdings owned the Alpine facility Purple LLC has been leasing since 2010, and the Purple Founders informed Purple LLC that TNT Holdings recently transferred ownership to 123E LLC, an entity controlled by the Purple Founders. Effective as of October 31, 2017, Purple LLC entered into an Amended and Restated Lease Agreement with TNT Holdings. The Company determined that neither TNT Holdings nor 123E LLC are a VIE as neither the Company nor Purple LLC hold any explicit or implicit variable interest in TNT Holdings or 123E LLC and do not have a controlling financial interest in TNT Holdings or 123E LLC. Purple LLC incurred $ 0.2 million and $ 0.4 million in rent expense to 123E LLC or TNT Holdings for the building lease of the Alpine facility for the three and six months ended June 30, 2022, respectively, and $ 0.2 million and $ 0.4 million for the three and six months ended June 30, 2021, respectively. Purple LLC continues to lease the Alpine facility that was formerly the Company headquarters, for use in production, research and development and video production. In accordance with the terms of that lease, on September 3, 2021, Purple LLC gave notice to 123E LLC that it intended to exercise its right to an early termination of the lease to occur on September 30, 2022. During the six months ended June 30, 2021, certain current and former employees of Purple LLC who received distributions of Paired Securities from InnoHold exchanged 0.1 million of Paired Securities for Class A common stock. There were no such exchanges during the six months ended June 30, 2022. In connection with the Business Combination, to secure payment of a certain portion of specified post-closing indemnification rights of the Company under the Merger Agreement, 0.5 million shares of Class B common stock and 0.5 million Class B Units otherwise issuable to InnoHold as equity consideration were deposited in an escrow account for up to three years from the date of the Business Combination pursuant to a contingency escrow agreement. In September 2020, an amendment to the escrow agreement was signed whereby the 0.5 million shares of Class B Stock and 0.5 million Class B Units held in escrow were exchanged for $5.0 million. On February 3, 2021, the Company received $4.1 million from InnoHold as reimbursement for amounts that qualified for indemnification from the $5.0 million being held in escrow. The remaining $0.9 million in escrow was returned to InnoHold. The amount received from InnoHold was recorded as additional paid-in capital in the condensed consolidated balance sheet. During the six months ended June 30, 2021, Purple LLC paid InnoHold through withholding payments directly to various states, an aggregate of $ 0.4 million in required tax distributions pursuant to the Third Purple LLC Agreement. There were no such payments made by Purple LLC during the six months ended June 30, 2022. 15. Stockholders’ Equity Class A Common Stock The Company has 210.0 million shares of Class A common stock authorized at a par value of $ 0.0001 per share. Holders of the Company’s Class A common stock are entitled to one vote for each share held on all matters to be voted on by the stockholders and participate in dividends, if declared by the Board, or receive any portion of any such assets in respect of their shares upon liquidation, dissolution, distribution of assets or winding-up of the Company in excess of the par value of such stock. Holders of Class A common stock and holders of Class B common stock voting together as a single class, have the exclusive right to vote for the election of directors and on all other matters properly submitted to a vote of the stockholders. Holders of Class A common stock and Class B common stock are entitled to one vote per share on matters to be voted on by stockholders. At June 30, 2022, 82.8 million shares of Class A common stock were outstanding. 20 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) Class B Common Stock The Company has 90.0 million shares of Class B common stock authorized at a par value of $ 0.0001 per share. Holders of the Company’s Class B common stock will vote together as a single class with holders of the Company’s Class A common stock on all matters properly submitted to a vote of the stockholders. Shares of Class B common stock may be issued only to InnoHold, their respective successors and assigns, as well as any permitted transferees of InnoHold. A holder may transfer their shares of Class B common stock to any transferee (other than the Company) only if such holder also simultaneously transfers an equal number of such holder’s Purple LLC Class B Units to such transferee in compliance with the Third Purple LLC Agreement. The Class B common stock is not entitled to receive dividends, if declared by the Board, or to receive any portion of any such assets in respect of their shares upon liquidation, dissolution, distribution of assets or winding-up of the Company in excess of the par value of such stock. In connection with the Business Combination, approximately 44.1 million shares of Class B common stock were issued to InnoHold as part of the equity consideration. InnoHold subsequently transferred a portion of its shares to permitted transfers and exchanged its remaining shares for Class A common stock that it sold. All of the 0.4 million shares of Class B common stock outstanding at June 30, 2022 were held by other parties. Preferred Stock The Company has 5.0 million shares of preferred stock authorized at a par value of $ 0.0001 per share. The preferred stock may be issued from time to time in one or more series. The directors are expressly authorized to provide for the issuance of shares of the preferred stock in one or more series and to establish from time to time the number of shares to be included in each such series and to fix the voting rights, designations and other special rights or restrictions. At June 30, 2022, there were no shares of preferred stock outstanding. Sponsor Warrants There were 12.8 million sponsor warrants issued pursuant to a private placement simultaneously with the Company’s IPO. The Company may call the warrants for redemption if the reported last sale price of the Class A common stock equals or exceeds $24.00 per share for any 20 trading days within a 30-trading day period ending on the third trading day prior to the date the Company sends the notice of redemption to the warrant holders; provided, however, that the sponsor warrants are not redeemable by the Company so long as they are held by the Sponsor or its permitted transferees. In addition, so long as such sponsor warrants are held by the Sponsor or its permitted transferee, the holder may elect to exercise the sponsor warrants on a cashless basis, by surrendering their sponsor warrants for that number of shares of Class A common stock equal to the quotient obtained by dividing (x) the product of the number of shares of Class A common stock underlying the sponsor warrants, multiplied by the difference between the exercise price of the sponsor warrants and the “fair market value” (defined below), by (y) the fair market value. The “fair market value” means the average reported last sale price of the Class A common stock for the 10 trading days ending on the third trading day prior to the date on which the notice of warrant exercise is sent to the warrant agent. 21 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) There were no sponsor warrants exercised during the six months ended June 30, 2022. During the six months ended June 30, 2021, 6.6 million sponsor warrants were exercised resulting in the issuance of 2.3 million shares of Class A common stock. There were 1.9 million sponsor warrants outstanding at June 30, 2022. Noncontrolling Interest Noncontrolling interest (“NCI”) is the membership interest in Purple LLC held by holders other than the Company. Upon the close of the Business Combination, and at December 31, 2018, InnoHold’s and other Class B Unit holders’ combined NCI percentage in Purple LLC was approximately 82 %. At June 30, 2022, the combined NCI percentage in Purple LLC was 0.5 %. The Company has consolidated the financial position and results of operations of Purple LLC and reflected the proportionate interest held by all such Purple LLC Class B Unit holders as NCI. 16. Income Taxes At each interim period, the Company estimates its forecasted full-year effective tax rate. That forecasted rate is applied to year-to-date ordinary income or loss to compute the year-to-date income tax provision. In order to compute the annual effective tax rate, the Company estimates its full year ordinary income and total tax provision, including both current and deferred taxes. For annual periods, the Company accounts for income taxes using the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. In assessing the realizability of deferred tax assets, management considers whether it is more-likely-than-not that the deferred tax assets will be realized. Deferred tax assets and liabilities are calculated by applying existing tax laws and the rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in the year of the enacted rate change. Our effective tax rate is primarily impacted by the allocation of income taxes to the noncontrolling interest and the non-taxable nature of the change in fair value of the warrant liability. The Company’s sole material asset is Purple LLC, which is treated as a partnership for U.S. federal income tax purposes and for purposes of certain state and local income taxes. Purple LLC’s net taxable income and any related tax credits are passed through to its members and are included in the members’ tax returns, even though such net taxable income or tax credits may not have actually been distributed. While the Company consolidates Purple LLC for financial reporting purposes, the Company will be taxed on its share of earnings of Purple LLC not attributed to the noncontrolling interest holders, which will continue to bear their share of income tax on its allocable earnings of Purple LLC. The income tax burden on the earnings taxed to the noncontrolling interest holders is not reported by the Company in its consolidated financial statements under GAAP. As a result, the Company’s effective tax rate differs from the statutory rate. The primary factors impacting expected tax are the change in fair value of the warrant liabilities and remeasurement of deferred taxes primarily as a result of the change in the estimated state tax rate. 22 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) Deferred tax assets at June 30, 2022 totaled $ 224.0 million, which is net of a $ 93.7 million valuation allowance that has been recorded against the residual outside partnership basis for the amount the Company believes is not more likely than not realizable. As a result, there was an overall increase of $ 23.8 million in the valuation allowance from December 31, 2021 to June 30, 2022, primarily as a result of an increase in the residual outside partnership basis. The Company currently estimates its annual effective income tax rate to be 21.6 %. The annualized effective tax rate for the Company differs from the federal rate of 21 % primarily due to the non-taxable nature of the change in fair value of the warrant liabilities and state and local income taxes. For the six months ended June 30, 2022, the Company has recorded an income benefit of $ 6.0 million. The effective tax rate for the six months ended June 30, 2022 was 21.4 %. This is less than the federal statutory rate due primarily to a reduction of deferred tax assets associated with adjustments for stock based compensation and the gain relating to the change in fair value of the warrant liability is excluded from taxable income for income tax purposes. In connection with the Business Combination, the Company entered into a tax receivable agreement with InnoHold, which provides for the payment by the Company to InnoHold of 80 % of the net cash savings, if any, in U.S. federal, state and local income tax that the Company actually realizes (or is deemed to realize in certain circumstances) in periods after the Closing as a result of (i) any tax basis increases in the assets of Purple LLC resulting from the distribution to InnoHold of the cash consideration, (ii) the tax basis increases in the assets of Purple LLC resulting from the redemption by Purple LLC or the exchange by the Company, as applicable, of Class B Paired Securities or cash, as applicable, and (iii) imputed interest deemed to be paid by the Company as a result of, and additional tax basis arising from, payments it makes under the agreement. As noncontrolling interest holders exercise their right to exchange or cause Purple LLC to redeem all or a portion of their Class B Units, a tax receivable agreement liability may be recorded based on 80 % of the estimated future cash tax savings that the Company may realize as a result of increases in the basis of the assets of Purple LLC attributed to the Company as a result of such exchange or redemption. The amount of the increase in asset basis, the related estimated cash tax savings and the attendant liability to be recorded will depend on the price of the Company’s Class A common stock at the time of the relevant redemption or exchange. The estimation of liability under the tax receivable agreement is by its nature imprecise and subject to significant assumptions regarding the amount and timing of future taxable income. As a result of the initial merger transaction, the subsequent exchanges of Class B Units for Class A common stock and changes in estimates relating to the expected tax benefits associated with the liability under the agreement, the potential future tax receivable agreement liability was $ 162.2 million and $ 168.1 million as of June 30, 2022 and December 31, 2021, respectively. The reduction in the June 30, 2022 tax receivable agreement liability reflected a payment of $ 5.8 million made in January 2022. As of December 31, 2021, the Company estimated $ 10.0 million of U.S. federal and $ 2.7 million of state net operating loss carryforwards available to reduce future taxable income. The federal net operating losses may be carried forward indefinitely for U.S. federal tax purposes, while some state carryforwards are subject to expiration beginning in 2026. It is possible that we will not generate taxable income in time to use all or a portion of these net operating loss carryforwards before their expiration or at all. Additionally, the Company may be subject to the NOL utilization provisions of Section 382 of the Internal Revenue Code of 1986, as amended due to ownership changes that may have occurred previously or that could occur in the future. The effect of an ownership change may be the imposition of an annual limitation on the use of NOL carryforwards attributable to periods before the change. The amount of the annual limitation depends upon the value of the Company immediately before the change, changes to the Company’s capital during a specified period prior to the change, and the federal published interest rate. As of June 30, 2022, the Company has not completed its analyses in respect of Section 382 to determine whether a change in ownership has occurred, the annual limitation, if any, or whether any of the tax attributes are subject to a permanent limitation. Until an analysis is completed, there can be no assurance that the existing net operating loss carry-forwards or credits are not subject to significant limitation. 23 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) The effects of uncertain tax positions are recognized in the consolidated financial statements if these positions meet a “more-likely-than-not” threshold. For those uncertain tax positions that are recognized in the consolidated financial statements, liabilities are established to reflect the portion of those positions it cannot conclude “more-likely-than-not” to be realized upon ultimate settlement. The Company’s policy is to recognize interest and penalties related to unrecognized tax benefits on the income tax expense line in the accompanying consolidated statement of income. Accrued interest and penalties would be included on the related tax liability line in the consolidated balance sheet. As of June 30, 2022, no uncertain tax positions were recognized as liabilities in the condensed consolidated financial statements. 17. Net Income (Loss) Per Common Share Basic net income (loss) per common share is calculated by dividing net income (loss) attributable to common stockholders by the weighted average number of shares of Class A stock outstanding during each period. Diluted net income (loss) per share reflects the weighted-average number of common shares outstanding during the period used in the basic net income (loss) computation plus the effect of common stock equivalents that are dilutive. The following table sets forth the calculation of basic and diluted weighted average shares outstanding and earnings (loss) per share for the periods presented (in thousands, except per share amounts): Three Months Ended June 30, Six Months Ended June 30, 2022 2021 2022 2021 Numerator: Net income (loss) attributable to Purple Innovation, Inc.-basic $ ( 8,340 ) $ 2,578 $ ( 21,842 ) $ 23,402 Less – dilutive effect of change in fair value of warrant liabilities — ( 4,860 ) — ( 14,007 ) Less – net loss attributed to noncontrolling interest ( 70 ) — ( 199 ) — Net income (loss) attributable to Purple Innovation, Inc.-diluted $ ( 8,410 ) $ ( 2,282 ) $ ( 22,041 ) $ 9,395 Denominator Weighted average shares—basic 82,703 66,277 74,924 65,439 Add – dilutive effect of equity awards — — — 1,499 Add – dilutive effect of warrants — 587 — 1,403 Add – dilutive effect of Class B shares 448 — 448 — Weighted average shares—diluted 83,151 66,864 75,372 68,341 Net income (loss) per common share: Basic $ ( 0.10 ) $ 0.04 $ ( 0.29 ) $ 0.36 Diluted $ ( 0.10 ) $ ( 0.03 ) $ ( 0.29 ) $ 0.14 24 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) For the three and six months ended June 30, 2022, the Company excluded 3.3 million and 3.5 million, respectively, of Class A common shares issuable upon conversion of certain warrants, stock options, restricted stock and Class A shares subject to vesting as the effect was anti-dilutive. For the three and six months ended June 30, 2021, the Company excluded 0.4 million and 0.5 million, respectively, of Paired Securities convertible into shares of Class A Stock as the effect was anti-dilutive. 18. Equity Compensation Plans 2017 Equity Incentive Plan The Purple Innovation, Inc. 2017 Equity Incentive Plan (the “2017 Incentive Plan”) provides for grants of stock options, stock appreciation rights, restricted stock units and other stock-based awards. Directors, officers and other employees and subsidiaries and affiliates, as well as others performing consulting or advisory services for the Company and its subsidiaries, will be eligible for grants under the 2017 Incentive Plan. As of June 30, 2022, an aggregate of 1.0 million shares are available for issuance or use under the 2017 Incentive Plan. Class A Stock Awards In May 2022, the Company granted stock awards under the 2017 Incentive Plan to independent directors on the Board. The stock awards vested immediately and the Company issued 0.1 million shares of Class A common stock and recognized $ 0.6 million in expense during the three months ended June 30, 2022, which represented the fair value of the stock awards on the grant date. Employee Stock Options In March and June 2022, the Company granted 0.5 million and 0.1 million stock options, respectively, under the 2017 Incentive Plan to its chief executive officer at an exercise price of $ 6.82 per option. The stock options expire in five years and vest over a three-year period. In April 2022, with the chief executive officer’s consent, the Company rescinded and cancelled 0.4 million of the stock options granted in March 2022 because of annual limits set forth in the 2017 Incentive Plan. The Company determined the fair value of the net award of 0.2 million stock options to be $ 0.4 million which will be expensed on a straight-line basis over the vesting period. The Company determined the fair value of the options granted during the six months ended June 30, 2022 using the Black Scholes method with the following weighted average assumptions: Fair market value $ 2.02 Exercise price $ 6.82 Risk free interest rate 2.67 % Expected term in years 3.45 Expected volatility 54.22 % Expected dividend yield — The following table summarizes the Company’s total stock option activity for the six months ended June 30, 2022: Options (in thousands) Weighted Average Exercise Price Weighted Average Remaining Contractual Term in Years Intrinsic Value (in thousands) Options outstanding as of January 1, 2022 1,552 $ 8.65 1.9 $ 8,667 Granted 594 6.82 — — Exercised ( 20 ) 8.32 — — Forfeited/cancelled ( 545 ) 8.11 — — Options outstanding as of June 30, 2022 1,581 $ 8.15 1.7 $ — 25 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) Outstanding and exercisable stock options as of June 30, 2022 are as follows: Options Outstanding Options Exercisable Exercise Prices Number of Options Outstanding (in thousands) Weighted Average Remaining Life (Years) Number of Options Exercisable (in thousands) Weighted Average Remaining Life (Years) Intrinsic Value (in thousands) $ 5.75 158 0.3 158 0.3 $ — 5.95 426 0.4 426 0.4 — 6.51 196 1.9 152 1.9 — 6.65 173 1.9 127 1.9 — 6.82 205 4.8 — — — 7.99 19 2.4 13 2.4 — 8.32 108 2.0 68 2.0 — 8.55 97 0.4 97 0.7 — 13.12 110 2.4 72 2.1 — 15.12 2 0.2 2 0.2 — 21.70 52 0.4 52 0.4 — 32.28 35 3.7 12 3.7 — The following table summarizes the Company’s unvested stock option activity for the six months ended June 30, 2022: Options (in thousands) Weighted Average Grant Date Fair Value Nonvested options as of January 1, 2022 416 $ 3.60 Granted 594 3.41 Vested ( 125 ) 3.30 Forfeited ( 482 ) 2.73 Nonvested options as of June 30, 2022 403 $ 2.84 The estimated fair value of Company stock options is amortized over the options vesting period on a straight-line basis. For the three and six months ended June 30, 2022, the Company recognized stock option expense of $ 0.2 million and $ 0.3 million, respectively. The Company recorded stock option expense of $ 0.5 million and $ 0.9 million during the three and six months ended June 30, 2021, respectively. As of June 30, 2022, outstanding stock options had $ 1.1 million of unrecognized stock compensation cost with a remaining recognition period of 2.0 years. 26 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) Employee Restricted Stock Units In March and June 2022, the Company granted 0.5 million and 0.1 million restricted stock units, respectively, under the 2017 Incentive Plan to the Company’s chief executive officer. These restricted stock awards had a grant date fair value of $ 6.32 and $ 4.81 per share, respectively. In April 2022, with the chief executive officer’s consent, the Company rescinded and cancelled 0.4 million of the restricted stock units granted in March 2022 because of annual limits set forth in the 2017 Incentive Plan. The estimated fair value of the net award of 0.2 million restricted stock units is being recognized on a straight-line basis over the three-year vesting period. During the second quarter of 2022, the Company granted 1.1 million restricted stock units under the 2017 Incentive Plan to certain management of the Company. Approximately one-half of the restricted stock units granted included a market vesting condition. The restricted stock awards that did not have a market vesting condition had a weighted average grant date fair value of $ 5.53 per share. The estimated fair value of these awards is recognized on a straight-line basis over the vesting period. For those awards that include a market vesting condition, the estimated fair value of the restricted stock was measured on the grant date and incorporated the probability of vesting occurring. The estimated fair value is recognized over the derived service period (as determined by the valuation model), with such recognition occurring regardless of whether the market condition is met. The Company determined the weighted average grant date fair value of the awards with the market vesting condition to be $ 3.68 per share using a Monte Carlo Simulation of a Geometric Brownian Motion stock path model with the following weighted average assumptions: Trading price of common stock on measurement date $ 5.34 Risk free interest rate 2.64 % Expected life in years 2.9 Expected volatility 84.3 % Expected dividend yield — The following table summarizes the Company’s restricted stock unit activity for the six months ended June 30, 2022: Number Outstanding (in thousands) Weighted Average Grant Date Fair Value Nonvested restricted stock units as of January 1, 2022 165 $ 17.84 Granted 1,181 4.77 Vested ( 31 ) 18.52 Forfeited ( 68 ) 12.19 Nonvested restricted stock units as of June 30, 2022 1,247 $ 5.75 The Company recorded restricted stock unit expense of $ 0.5 million and $ 0.9 million during the three and six months ended June 30, 2022, respectively. There were no restricted stock units outstanding and no expense recorded during the six months ended June 30, 2021. As of June 30, 2022, outstanding restricted stock units had $ 6.4 million of unrecognized stock compensation cost with a remaining recognition period of 2.6 years. 27 PURPLE INNOVATION, INC. Notes to Condensed Consolidated Financial Statements (unaudited) Aggregate Non-Cash Stock-Based Compensation The Company has accounted for all stock-based compensation under the provisions of ASC 718 Compensation—Stock Compensation . This standard requires the Company to record a non-cash expense associated with the fair value of stock-based compensation over the requisite service period. The following table summarizes the aggregate non-cash stock-based compensation recognized in the statement of operations for stock awards, employee stock options and employee restricted stock units (in thousands): Three Months Ended June 30, Six Months Ended June 30, 2022 2021 2022 2021 Cost of revenues $ 104 $ 44 $ 170 $ 89 Marketing and sales 266 114 403 218 General and administrative 861 951 1,184 1,275 Research and development 44 4 60 10 Total non-cash stock-based compensation $ 1,275 $ 1,113 $ 1,817 $ 1,592 19. Employee Retirement Plan In July 2018 the Company established a 401(k) plan that qualifies as a deferred compensation arrangement under Section 401 of the IRS Code. All eligible employees over the age of 18 and with 4 months’ service are eligible to participate in the plan. The plan provides for Company matching of employee contributions up to 5% of eligible earnings. Company contributions immediately vest. The Company’s matching contribution expense was $ 0.9 million and $ 1.9 million for the three and six months ended June 30, 2022, respectively, and $ 0.8 million and $ 1.6 million for the three and six months ended June 30, 2021, respectively. 20. Subsequent Events On July 20, 2022, the Company entered into an amendment to its Alpine facility lease agreement with 123E LLC. The amendment rescinded the Company’s previous notice of termination that was scheduled to be effective September 30, 2022 and extended the term such that the lease will remain in effect until September 30, 2023. On August 5, 2022, the Company filed a Complaint with the United States International Trade Commission (“ITC”) against numerous entities and individuals from the People’s Republic of China and South Korea (“Respondents”) that have been violating Purple’s intellectual property rights related to pillow and seat cushion products. The Complaint alleges that the proposed Respondents are violating 19 U.S.C. § 1337 (“Section 337”) by importing into the United States, selling for importation into the United States, and/or selling in the United States after importation pillow and seat cushion products that infringe Purple’s trade dress rights or otherwise constitute unfair competition, infringe a certain Purple design patent, infringe Purple trademarks, and/or infringe Purple utility patents. The Complaint requests that the ITC issue at least the following relief: (i) a General Exclusion Order excluding from entry into the United States all pillow and seat cushion products that infringe any asserted Purple intellectual property right; (ii) Limited Exclusion Orders excluding from entry into the United States all pillow and cushion products of the proposed Respondents named in the Complaint that infringe any asserted Purple intellectual property right; and (iii) Cease and Desist Orders against the proposed Respondents named in the Complaint barring them from marketing, selling, advertising, or distributing infringing products in the United States, including via on-line retailers. The ITC is currently determining whether to institute an unfair import investigation under Section 337 in connection with Purple’s Complaint. 28 ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion is intended to provide a more comprehensive review of the operating results and financial condition of Purple Innovation, Inc. than can be obtained from reading the Unaudited Condensed Consolidated Financial Statements alone. The discussion should be read in conjunction with the Unaudited Condensed Consolidated Financial Statements and the notes thereto included in “Part I. Item 1. Financial Statements.” FORWARD-LOOKING STATEMENTS This quarterly report on Form 10-Q (this “Quarterly Report”) contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, that represent our current expectations and beliefs. All statements other than statements of historical fact are “forward-looking statements” for purposes of federal and state securities laws. In some cases, you can identify these statements by forward-looking words such as “believe,” “expect,” “project,” “anticipate,” “estimate,” “intend,” “plan,” “targets,” “likely,” “will,” “would,” “could,” “may,” “might,” the negative of these words and other similar words. All forward-looking statements included in this Quarterly Report are made only as of the date thereof. It is routine for our internal projections and expectations to change throughout the year, and any forward-looking statements based upon these projections or expectations may change prior to the end of the next quarter or year. In addition, any statements that refer to projections of our future financial performance, our anticipated growth and trends in our businesses (including the discussion under the heading “Outlook for Growth”), and other characterizations of future events or circumstances are forward-looking statements. We caution and advise readers that these statements are only predictions and are subject to risks, uncertainties, and assumptions that are difficult to predict, including those included in the “Risk Factors” section of this Quarterly Report and in our Annual Report on Form 10-K filed with the Securities and Exchange Commission on March 1, 2022. Therefore, actual results may differ materially and adversely from those expressed in any forward-looking statements and investors are cautioned not to place undue reliance on any such statements. We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise, except as required by law. Overview of Our Business Our mission is to improve the lives of our consumers by delivering innovative better sleep solutions. We are a digitally-native vertical brand founded on comfort product innovation with premium offerings. We design and manufacture a variety of innovative, branded and premium comfort products, including mattresses, pillows, cushions, frames, sheets, and other products. Our products are the result of over 30 years of innovation and investment in proprietary and patented comfort technologies and the development of our own manufacturing processes. Our proprietary gel technology, Hyper-Elastic Polymer, underpins many of our comfort products and provides a range of benefits that differentiate our offerings from other competitors’ products. We market and sell our products directly to consumers through our e-commerce and Purple retail showroom channels and through our retail brick-and-mortar wholesale partner channel. Organization Our business consists of Purple Inc. and its consolidated subsidiary, Purple LLC. Purple Inc. was incorporated in Delaware on May 19, 2015 as a special purpose acquisition company under the name of GPAC. On February 2, 2018, Purple Inc. consummated a transaction structured similar to a reverse recapitalization pursuant to which Purple Inc. acquired an equity interest in Purple LLC and became its sole managing member. As the sole managing member of Purple LLC, Purple Inc., through its officers and directors, is responsible for all operational and administrative decision making and control of the day-to-day business affairs of Purple LLC without the approval of any other member. At June 30, 2022, Purple Inc. had a 99.5% economic interest in Purple LLC while other Class B Unit holders had the remaining 0.5% 29 Executive Summary – Results of Operations Net revenues decreased 21.1% to $144.1 million and 22.1% to $287.3 million for the three and six months ended June 30, 2022, respectively, when compared to the corresponding periods in the prior year. These decreases were primarily due to softening demand for home related products, inflationary pressures on consumer discretionary spending, management’s decision to reduce advertising spending, and the prior year pull forward of demand driven by the effects of COVID and economic stimulus experienced in the first half of 2021. Gross profit decreased 40.2% to $48.8 million and 40.6% to $100.4 million for the three and six months ended June 30, 2022, respectively, when compared to the corresponding periods in the prior year. These decreases reflected the impact of lower sales and channel mix combined with unfavorable cost absorption and elevated levels of materials, labor and overhead costs, partially offset by benefits realized from our workforce restructuring. Operating expenses decreased 27.7% to $60.9 million and 15.5% to $130.9 million for the three and six months ended June 30, 2022, respectively, when compared to the corresponding periods in the prior year. These decreases primarily reflected the impact of management’s decisions to reduce advertising spend, execute two workforce reductions and implement other cost saving measures. Net loss was $8.3 million and $21.8 million for the three and six months ended June 30, 2022, respectively, compared to net income of $2.6 million and $23.4 million for the three and six months ended June 30, 2021, respectively. Recent Developments in Our Business Equity Financing In March 2022, the Company completed an underwritten public offering of 16.1 million shares of Class A common stock, which included the additional 2.1 million shares of the over-allotment option that the underwriters exercised in full. The aggregate net proceeds received by the Company from the offering, after deducting offering expenses of $0.3 million, totaled $92.9 million. Debt Financing On September 3, 2020, Purple LLC entered into the 2020 Credit Agreement that provided for a $45.0 million term loan and a $55.0 million revolving line of credit. In November 2021, the Company executed a $55.0 million draw on its revolving line of credit, which represented the full amount available under the line. On March 31, 2022, the Company used a portion of the net proceeds from its underwritten public offering, described above, to repay in full the $55.0 million of principal outstanding on the revolving line of credit. The Company’s operating and financial results for the year ended December 31, 2021 did not satisfy the financial and performance covenants required under the 2020 Credit Agreement. On February 28, 2022, prior to the covenant compliance certification date, the Company entered into the first amendment of the 2020 Credit Agreement to avoid a breach of these covenants and potential default. This amendment contained a covenant waiver period such that the net leverage ratio and fixed charge coverage ratio would not be tested for the fiscal quarters ended December 31, 2021, March 31, 2022 and June 30, 2022. Other modifications in the amendment included revised leverage ratio and fixed charge coverage definitions and thresholds, the addition of minimum liquidity requirements with mandatory prepayments of the revolving loan if cash exceeded $25.0 million, new weekly and monthly reporting requirements, limits on the amount of capital expenditures, the addition of a lease incurrence test for opening additional showrooms, additional negative covenants during a covenant amendment period that extends into 2023 until certain conditions are met, and the interest rate was changed from LIBOR plus 3.00% to SOFR plus 4.75%. Pursuant to this amendment, the Company made a $2.5 million payment on the term loan to cover the four quarterly principal payments due in 2022 and incurred fees and expenses of $0.8 million that were recorded as debt issuance costs in the condensed consolidated balance sheet. On March 23, 2022, the Company entered into a second amendment to the 2020 Credit Agreement. This amendment modified the 2020 Credit Agreement to allow CCM and its investment affiliates to acquire 35% or more of the combined voting power of all equity interests of the Company entitled to vote for the election of members of the Company’s board of directors without constituting an event of default. CCM is considered a related party of the Company in that Adam Gray, a member of our board of directors, serves as a managing partner of CCM. Pursuant to this amendment, the Company incurred fees and expenses of $0.4 million that were recorded as debt issuance costs in the condensed consolidated balance sheet. 30 Operational Developments The COVID-19 pandemic has impacted many aspects of our operations, directly and indirectly, including disruption of our employees, consumer behavior, distribution and logistics, our suppliers, and the market overall. The scope and nature of these impacts continue to evolve. Because of the COVID-19 pandemic, we took precautionary measures recommended by the appropriate national and state health agencies to manage our resources and mitigate the adverse impact of the pandemic, which was intended to help minimize the risk to our Company, employees, customers, and the communities in which we operate. Soon after the pandemic began, we also experienced an increase in demand in our e-commerce channel, and in 2020 and 2021 the Company increased its production capacity to match actual and anticipated demand growth. In 2022, after two years of the pandemic, we are experiencing a pull-back in growth that left us with excess operational capacity in facilities, equipment, and personnel. Beginning in the first quarter of 2022 and continuing into the second quarter, we have rebalanced production and fulfillment operations in our different facilities, reduced employee headcount and taken other actions to lower costs. We are closely monitoring the impacts of COVID-19 and general economic conditions on global supply chain, manufacturing, and logistics operations. As inflationary pressures increase, we anticipate that our production and operating costs will similarly increase. In addition, COVID-19 and other events, including port closures or labor shortages, have resulted in the continuation or worsening of manufacturing and shipping costs, delays and constraints. While most of our domestic suppliers have been able to continue operations and provide necessary materials when needed, we have experienced some constraints from certain suppliers, with respect to both the availability and cost of materials. In addition, as experienced in other industries, in order to remain competitive in hiring and retaining the labor necessary to maintain our production levels, we have increased wages and other compensation. These increases in materials, labor and freight costs have resulted in higher cost of goods sold and lower margins. We believe that materials, labor and freight costs will continue to remain at elevated levels or increase further in the foreseeable future. In the fourth quarter of 2021 and continuing into 2022, our gross margins and results of operations have been, and we expect will continue to be adversely affected by elevated levels of materials, labor and freight costs and lower-than-expected demand levels. In early 2022, to offset the impact of higher costs on our gross margins, we increased prices and initiated several other projects to improve efficiencies and reduce costs. Also, we have continued to invest in showroom expansion and growing wholesale partner door count and productivity in response to a return to more normalized consumption patterns where consumer demand has shifted away from e-commerce and back to brick and mortar buying. We ended the second quarter with 40 showrooms after opening 6 net new locations during the quarter and we plan to add 14 more showrooms over the remainder of the year. In addition, at the end of the second quarter, our products are being sold through approximately 3,200 wholesale doors, having added approximately 700 net new doors during the first six months of 2022. Improving the sales productivity of our wholesale doors remains a primary focus and a critical component of our strategy to combat shifting demand patterns. After several years of hyper growth and increased investments to support current and future expansion, we are now building the framework for strong operational maturity and accountability after focusing on right-sizing our operations, improving our execution, and refining our strategies to drive profitable growth in the current market environment. We have also intentionally reduced our advertising spending in 2022 to improve marketing efficiency and stabilize profitability in a challenging macroeconomic environment. Outlook for Growth To support our plans for future growth, we are focusing on the following opportunities: ● Develop and execute on strategies to meaningfully expand our wholesale presence. ● Build premium brand position to grow market share of the premium mattress category. ● Refine and enhance marketing strategies to reach a broader audience, increase customer engagement and reduce dependency on price promotions as a means of driving sales. ● Strengthen research and development disciplines and go-to-market processes to further develop our current product categories and position our business to eventually expand to adjacent categories. ● Manage production labor and capacity utilization to promote efficient use of our manufacturing facilities as we grow into our production footprint. ● Manage input costs, operating efficiencies, and pricing to offset gross margin erosion and exit the year with gross margins close to 40%. There is no guarantee that we will be able to effectively execute on these opportunities, which are subject to risks, uncertainties, and assumptions that are difficult to predict, including the risks described under “Risk Factors” and elsewhere herein. Therefore, actual results may differ materially and adversely from those described above. In addition, we may, in the future, adapt these focuses in response to changes in the market or our business. 31 Operating Results for the Three Months Ended June 30, 2022 and 2021 The following table sets forth for the periods indicated, our results of operations and the percentage of total revenue represented in our condensed consolidated statements of operations: Three Months Ended June 30, 2022 % of Net Revenues 2021 % of Net Revenues Revenues, net $ 144,109 100.0 % $ 182,586 100.0 % Cost of revenues 95,297 66.1 100,899 55.3 Gross profit 48,812 33.9 81,687 44.7 Operating expenses: Marketing and sales 40,373 28.0 59,844 32.8 General and administrative 18,779 13.0 22,461 12.3 Research and development 1,748 1.2 1,923 1.1 Total operating expenses 60,900 42.3 84,228 46.1 Operating income (loss) (12,088 ) (8.4 ) (2,541 ) (1.4 ) Other income (expense): Interest expense (707 ) (0.5 ) (569 ) (0.3 ) Other income (expense), net (136 ) (0.1 ) 26 — Change in fair value – warrant liabilities 346 0.2 4,860 2.7 Tax receivable agreement expense — — (381 ) (0.2 ) Total other income (expense), net (497 ) (0.3 ) 3,936 2.2 Net income (loss) before income taxes (12,585 ) (8.7 ) 1,395 0.8 Income tax benefit 4,175 2.9 1,167 0.6 Net income (loss) (8,410 ) (5.8 ) 2,562 1.4 Net loss attributable to noncontrolling interest (70 ) — (16 ) — Net income (loss) attributable to Purple Innovation, Inc. $ (8,340 ) (5.8 ) $ 2,578 1.4 Revenues, Net Net revenues decreased $38.5 million, or 21.1%, to $144.1 million for the three months ended June 30, 2022 compared to $182.6 million for the three months ended June 30, 2021. The decline in net revenues reflected a $32.3 million decrease in mattress sales, a $2.7 million decrease in other sleep product sales and a $3.5 million decrease in other product sales. The decrease in net revenues for all three product types was primarily due to softening demand for home related products, inflationary pressures on consumer discretionary spending, management’s decision to reduce advertising spend, and the prior year pull forward of demand driven by the effects of COVID and economic stimulus in the first half of 2021. The decline in net revenues from a sales channel perspective consisted of DTC net revenues decreasing $34.6 million, or 29.8% and wholesale net revenues decreasing $3.9 million, or 5.9%. In addition to the factors discussed above, the decrease in DTC net revenues was impacted by a return to more normalized consumption patterns after two years of COVID-driven demand coupled with customers shifting back to brick and mortar buying. The decrease in wholesale net revenues reflected reduced purchases by our existing wholesale partners, offset in part by the impact of adding approximately 700 net new wholesale partner doors during the first six months of 2022. Cost of Revenues Cost of revenues decreased $5.6 million, or 5.6%, to $95.3 million for the three months ended June 30, 2022 compared to $100.9 million for the three months ended June 30, 2021. This decrease was primarily due to the corresponding decrease in sales volume, offset in part by increases in materials, freight and overhead costs. Our gross profit percentage, which decreased to 33.9% of net revenues in the second quarter of 2022 from 44.7% in the second quarter of 2021, was adversely impacted by lower sales with an increased proportion of wholesale channel revenue which carries a lower average selling price than sales from our DTC channel and unfavorable cost absorption from lower than planned production volumes in prior months. Additionally, our gross profit percentage reflects the impact of elevated levels of materials, labor and overhead costs, partially offset by benefits realized from our workforce restructuring. 32 Marketing and Sales Marketing and sales expense decreased $19.5 million, or 32.5%, to $40.4 million for the three months ended June 30, 2022 compared to $59.8 million for the three months ended June 30, 2021. This decrease reflected a $24.1 million decline in advertising spending and a $2.7 million decrease in other marketing costs due in part to workforce reductions. The intentional reduction in advertising spending was due to management’s efforts to improve marketing efficiency and stabilize profitability in a challenging macroeconomic environment. These decreases were offset in part by a $2.0 million increase in wholesale-related marketing and sales costs as we continue to focus on improving the sales productivity of our wholesale doors and a $5.3 million increase in marketing and sales costs associated with our continued showroom expansion. Marketing and sales expense as a percentage of net revenues was 28.0% in the second quarter of 2022 compared to 32.8% in the second quarter of 2021. This decrease was primarily due to the reduction we made in advertising spending. General and Administrative General and administrative expense decreased $3.7 million, or 16.4%, to $18.8 million for the three months ended June 30, 2022 compared to $22.5 million for the three months ended June 30, 2021. This decrease was primarily due to a $5.3 million decrease in legal and professional fees, offset in part by a $1.4 million increase in payroll costs related to planned increases in general and administrative personnel over the past twelve months and a $0.2 million increase in other expenses. The decrease in legal and professional fees was primarily due to $7.9 million of underwriting commissions and other related costs we paid in the prior year second quarter for shares sold by Coliseum Capital Partners. This decrease was partially offset by a one-time $3.1 million separation fee incurred by the Company during the second quarter of 2022 for not continuing with the services of a professional services provider. Research and Development Research and development costs decreased $0.2 million, or 9.1%, to $1.7 million for the three months ended June 30, 2022 from $1.9 million for the three months ended June 30, 2021. This decrease was primarily due to lower professional services costs as product development priorities were being refocused. This decrease was offset in part by an increase in payroll costs related to planned increases in our research and development workforce including the addition of a chief innovation officer. Operating Income (Loss) Operating loss increased $9.5 million to $12.1 million for the three months ended June 30, 2022 compared to $2.5 million for the three months ended June 30, 2021. This increase was primarily due to the decrease in gross profit, offset in part by lower operating expenses. Interest Expense Interest expense totaled $0.7 million for the three months ended June 30, 2022 compared to $0.6 million for the three months ended June 30, 2021. The $0.1 million increase was primarily due to the term loan interest rate increasing from 3.50% during the second quarter of 2021 to 6.07% during the second quarter of 2022. In February 2022, the Company entered into the first amendment to the 2020 Credit Agreement which, among other things, changed the reference interest rate from LIBOR to SOFR and increased the applicable margins. The impact of this increase was offset in part by $0.2 million of interest capitalized during the second quarter of 2022. There was no interest capitalized during the three months ended June 30, 2021. Change in Fair Value – Warrant Liabilities The 1.9 million sponsor warrants outstanding at both June 30, 2022 and 2021 had fair values of $0.1 million and $14.5 million, respectively. The decrease in fair value was primarily due to the Company’s Class A stock price, one of the primary assumptions used to re-measure the warrant liability, declining from $26.41 at June 30, 2021 to $3.06 at June 30, 2022. During the three months ended June 30, 2022 and 2021, we recognized gains of $0.3 million and $4.9 million, respectively, in our condensed consolidated statements of operations related to decreases in the fair value of the warrants outstanding at the end of the respective periods. Income Tax (Expense) Benefit We had an income tax benefit of $4.2 million for the three months ended June 30, 2022 compared to an income tax benefit of $1.2 million for the three months ended June 30, 2021. The income tax benefit in the second quarter of 2022 was primarily the result of the Company having a net loss before income taxes of $12.6 million. Noncontrolling Interest The Company calculates net income or loss attributable to noncontrolling interests on a quarterly basis using their weighted average ownership percentage. Net loss attributed to noncontrolling interests was $0.1 million in the second quarter of 2022 while net loss attributed to noncontrolling interests was negligible for the three months ended June 30, 2021. 33 Operating Results for the Six Months Ended June 30, 2022 and 2021 The following table sets forth for the periods indicated, our results of operations and the percentage of total revenue represented in our statements of operations: Six Months Ended June 30, 2022 % of Net Revenues 2021 % of Net Revenues Revenues, net $ 287,288 100.0 % $ 369,015 100.0 % Cost of revenues 186,850 65.0 199,804 54.1 Gross profit 100,438 35.0 169,211 45.9 Operating expenses: Marketing and sales 90,332 31.4 114,212 31.0 General and administrative 36,667 12.8 36,987 10.0 Research and development 3,891 1.4 3,646 1.0 Total operating expenses 130,890 45.6 154,845 42.0 Operating income (loss) (30,452 ) (10.6 ) 14,366 3.9 Other income (expense): Interest expense (1,730 ) (0.6 ) (1,139 ) (0.3 ) Other expense, net (119 ) — (42 ) — Change in fair value – warrant liabilities 4,274 1.5 14,007 3.8 Tax receivable agreement expense — — (207 ) (0.1 ) Total other income, net 2,425 0.8 12,619 3.4 Net income (loss) before income taxes (28,027 ) (9.8 ) 26,985 7.3 Income tax benefit (expense) 5,986 2.1 (3,484 ) (0.9 ) Net income (loss) (22,041 ) (7.7 ) 23,501 6.4 Net income (loss) attributable to noncontrolling interest (199 ) (0.1 ) 99 — Net income (loss) attributable to Purple Innovation, Inc. $ (21,842 ) (7.6 ) $ 23,402 6.3 Revenues, Net Net revenues decreased $81.7 million, or 22.1%, to $287.3 million for the six months ended June 30, 2022 compared to $369.0 million for the six months ended June 30, 2021. The decline in net revenues reflected a $69.8 million decrease in mattress sales, an $8.0 million decrease in other sleep product sales and a $3.9 million decrease in other product sales. The decrease in net revenues for all three product types was primarily due to softening demand for home related products, inflationary pressures on consumer discretionary spending, management’s decision to reduce advertising spend, and the prior year pull forward of demand driven by the effects of COVID and economic stimulus in the first half of 2021. The decline in net revenues from a sales channel perspective consisted of DTC net revenues decreasing $74.0 million, or 30.7% and wholesale net revenues decreasing $7.8 million, or 6.1%. In addition to the factors discussed above, the decrease in DTC net revenues was impacted by a return to more normalized consumption patterns after two years of COVID-driven demand coupled with customers shifting back to brick and mortar buying. The decrease in wholesale net revenues reflected reduced purchases by our existing wholesale partners during the first six months of 2022, offset in part by the impact of adding approximately 700 net new wholesale partner doors during the same time frame. Cost of Revenues Cost of revenues decreased $13.0 million, or 6.5%, to $186.9 million for the six months ended June 30, 2022 compared to $199.9 million for the six months ended June 30, 2021. This decrease was primarily due to the corresponding decrease in sales volume, offset in part by an increase in materials, freight overhead costs. Our gross profit percentage, which decreased to 35.0% of net revenues during the first six months of 2022 from 45.9% for the first six months of 2021, was adversely impacted by lower sales with an increased proportion of wholesale channel revenue which carries a lower average selling price than sales from our DTC channel and unfavorable cost absorption from lower than planned production volumes in prior months. Additionally, our gross profit percentage reflects the impact of elevated levels of materials, labor and overhead costs, partially offset by benefits realized from our workforce restructuring. 34 Marketing and Sales Marketing and sales expense decreased $23.9 million, or 20.9%, to $90.3 million for the six months ended June 30, 2022 compared to $114.2 million for the six months ended June 30, 2021. This decrease reflected a $39.7 million decline in advertising spending and a $1.3 million decrease in other marketing costs due in part to workforce reductions. The intentional reduction in advertising spending was due to management’s efforts to improve marketing efficiency and stabilize profitability in a challenging macroeconomic environment. These decreases were offset in part by a $7.0 million increase in wholesale-related marketing and sales costs as we continue to focus on improving the sales productivity of our wholesale doors and a $10.1 million increase in marketing and sales costs associated with our continued showroom expansion. Marketing and sales expense as a percentage of net revenues was 31.4% during the first six months of 2022 compared to 31.0% for the first six months of 2021. General and Administrative General and administrative expense decreased to $36.7 million for the six months ended June 30, 2022 compared to $37.0 million for the six months ended June 30, 2021. This decrease was primarily due to a $4.6 million decrease in legal and professional fees, offset in part by a $3.6 million increase in payroll costs related to planned increases in general and administrative personnel over the past twelve months and a $0.7 million increase in other expenses. The decrease in legal and professional fees was primarily due to $7.9 million of underwriting commissions and other costs we paid in the prior year second quarter for shares sold by Coliseum Capital Partners. This decrease was partially offset by a one-time $3.1 million separation fee incurred by the Company during the second quarter of 2022 for not continuing with the services of a professional services provider. Research and Development Research and development costs increased $0.2 million, or 6.7%, to $3.9 million for the six months ended June 30, 2022 from $3.6 million for the six months ended June 30, 2021. This increase was primarily due to an increase in payroll costs related to planned increases in our research and development workforce including the addition of a chief innovation officer, offset in part by a decrease in professional services costs as product development priorities were being refocused. Operating Income (Loss) Operating income decreased $44.8 million to an operating loss of $30.5 million for the six months ended June 30, 2022 compared to operating income of $14.4 million for the six months ended June 30, 2021. This decrease was primarily due to the decrease in gross profit, offset in part by lower operating expenses. Interest Expense Interest expense totaled $1.7 million for the six months ended June 30, 2022 compared to $1.1 million for the six months ended June 30, 2021. The $0.6 million increase was primarily due to interest expense of $0.6 million incurred on the $55.0 million revolving line of credit that was drawn down by the Company in November 2021 and repaid in full on March 31, 2022. The increase was also impacted by the term loan average interest rate increasing from 3.50% during the first six months of 2021 to 5.10% during the first six months of 2022. In February 2022, the Company entered into the first amendment to the 2020 Credit Agreement which, among other things, changed the reference interest rate from LIBOR to SOFR and increased the applicable margins. The impact of these increases was offset in part by $0.4 million of interest capitalized during the first six months of 2022. There was no interest capitalized during the six months ended June 30, 2021. 35 Change in Fair Value – Warrant Liabilities The 1.9 million sponsor warrants outstanding at both June 30, 2022 and 2021 had fair values of $0.1 million and $14.5 million, respectively. The decrease in fair value was primarily due to the Company’s Class A stock price, one of the primary assumptions used to re-measure the warrant liability, declining from $26.41 at June 30, 2021 to $3.06 at June 30, 2022. During the six months ended June 30, 2022 and 2021, we recognized gains of $4.3 million and $14.0 million, respectively, in our condensed consolidated statements of operations related to decreases in the fair value of the warrants outstanding at the end of the respective periods. Income Tax (Expense) Benefit We had an income tax benefit of $6.0 million for the six months ended June 30, 2022 compared to income tax expense of $3.5 million for the six months ended June 30, 2021. The income tax benefit in the first six months of 2022 was primarily the result of the Company having a net loss before income taxes of $28.0 million. Noncontrolling Interest The Company calculates net income or loss attributable to noncontrolling interests on a quarterly basis using their weighted average ownership percentage. Net loss attributed to noncontrolling interests was $0.2 million for the six months ended June 30, 2022 compared to net income of $0.1 million for the six months ended June 30, 2021. Liquidity and Capital Resources Our principal sources of funds are cash flows from operations and cash and cash equivalents on hand, supplemented with borrowings made pursuant to our credit facilities and proceeds received from offerings of our equity capital. Principal uses of funds consist of payments of principal and interest on our debt facilities, capital expenditures and working capital needs as well as other contractual obligations described below. Our working capital needs depend largely upon the timing of cash receipts from product sales, payments to vendors and others, changes in inventories, and operating lease payment obligations. Our cash and working capital positions were $41.2 million and $80.1 million, respectively, as of June 30, 2022 compared to $91.6 million and $87.5 million, respectively, as of December 31, 2021. Cash used for capital expenditures decreased from $26.4 million in the first six months of 2021 to $26.1 million during the first six months of 2022. Our capital expenditures in the first six months of 2022 primarily consisted of leasehold improvements and furniture and fixtures associated with the opening of new Purple retail showrooms. In the event our cash flow from operations or other sources of financing are less than anticipated, we believe we will be able to fund operating expenses and comply with debt covenants based on our ability to scale back operations, reduce marketing spend, use the liquidity we have available under our revolving line of credit and postpone or discontinue our growth strategies. Our 2020 Credit Agreement, as amended, includes various covenants and obligations that may make it difficult to obtain additional capital on terms that are favorable to us and to execute on our growth strategies. In addition, in order to continue satisfying the conditions of the debt agreement we may be required to scale back operations, reduce marketing spend, prepay debt and postpone or discontinue our growth strategies. We may also be forced to restructure our obligations to current creditors, pursue work-out options or seek additional funding sources including new debt or equity capital . Based on our current projections, we believe our cash on hand, amounts available under our revolving line of credit, and expected cash to be generated from e-commerce, wholesale, and Purple retail store channels will be sufficient to meet our working capital requirements, comply with debt covenants and cover anticipated capital expenditures for the next 12 months and beyond. 36 Underwritten Offering In March 2022, the Company completed an underwritten public offering of 16.1 million shares of Class A common stock, which included the additional 2.1 million shares of the over-allotment option that the underwriters exercised in full. The aggregate net proceeds received by the Company from the offering, after deducting offering expenses of $0.3 million, totaled $92.9 million. Debt On September 3, 2020, Purple LLC entered into the 2020 Credit Agreement that provided for a $45.0 million term loan and a $55.0 million revolving line of credit. The term loan is being repaid in accordance with a five-year amortization schedule and may be prepaid in whole or in part at any time without premium or penalty, subject to reimbursement of certain costs. The revolving credit facility has a term of five years and carries the same interest provisions as the term debt. A commitment fee is due quarterly based on the applicable margin applied to the unused total revolving commitment. In November 2021, the Company executed a $55.0 million draw on its revolving line of credit, which represented the full amount available under the line. On March 31, 2022, the Company used a portion of the net proceeds from the offering to repay in full the $55.0 million of principal outstanding on the revolving line of credit. The Company’s operating and financial results for the year ended December 31, 2021 did not satisfy the financial and performance covenants required under the 2020 Credit Agreement. On February 28, 2022, prior to the covenant compliance certification date, the Company entered into the first amendment of the 2020 Credit Agreement to avoid a breach of these covenants and potential default. This amendment contained a covenant waiver period such that the net leverage ratio and fixed charge coverage ratio would not be tested for the fiscal quarters ended December 31, 2021, March 31, 2022 and June 30, 2022. Other modifications in the amendment included revised leverage ratio and fixed charge coverage definitions and thresholds, the addition of minimum liquidity requirements with mandatory prepayments of the revolving loan if cash exceeded $25.0 million, new weekly and monthly reporting requirements, limits on the amount of capital expenditures, the addition of a lease incurrence test for opening additional showrooms, and additional negative covenants during a covenant amendment period that extends into 2023 until certain conditions are met. In addition, the interest rate on any outstanding borrowings under the 2020 Credit Agreement was changed from LIBOR with a floor of 0.5% plus an applicable margin (historically at 3.0%) to an initial rate of SOFR with a floor of 0.5% plus 4.75%, for a total rate of 5.25% if the applicable liquidity threshold is met. If the Company does not meet this threshold, the interest rate would increase to SOFR with a floor of 0.5% plus 9.00%. Once the Company achieves a consolidated leverage ratio that is below 3.00 to 1.00, the interest rate will be based on SOFR with a floor of 0.5% plus a 3.00% to 3.75% margin depending on the consolidated leverage ratio. The interest rate on the term loan was 6.07% as of June 30, 2022. Pursuant to the first amendment of the 2020 Credit Agreement, the Company incurred fees and expenses of $0.9 million that were recorded as debt issuance costs in the condensed consolidated balance sheet and made a $2.5 million payment on the term loan to cover the four quarterly principal payments due in 2022. The Company accounted for this amendment as a modification of existing debt in accordance with ASC 470 – Debt . On March 23, 2022, the Company entered into a second amendment to the 2020 Credit Agreement. This amendment modified the 2020 Credit Agreement to allow CCM and its investment affiliates to acquire 35% or more of the combined voting power of all equity interests of the Company entitled to vote for the election of members of the Company’s board of directors without constituting an event of default. CCM is considered a related party of the Company in that Adam Gray, a member of our board of directors, serves as a managing partner of CCM. Pursuant to the second amendment of the 2020 Credit Agreement, the Company incurred fees and expenses of $0.4 million that were recorded as debt issuance costs in the condensed consolidated balance sheet. The Company accounted for this amendment as a modification of existing debt in accordance with ASC 470 – Debt . Tax Receivable Agreement We are required to make certain payments to InnoHold under a tax receivable agreement, which may have a material adverse effect on our liquidity and capital resources. We are currently unable to determine the total future amount of these payments due to the unpredictable nature of several factors, including the timing of future exchanges, the market price of shares of Class A common stock at the time of the exchanges, the extent to which such exchanges are taxable and the amount and timing of future taxable income sufficient to utilize tax attributes that give rise to the payments under the agreement. As of June 30, 2022 and December 31, 2021, the tax receivable agreement liability reflected in the Company’s consolidated balance sheet was $162.2 million and $168.1 million, respectively. This decrease was due to a $5.8 million payment that was made during the first quarter of 2022. Other Contractual Obligations In addition to the material contractual obligations discussed above, other material contractual obligations primarily include operating lease payments obligations. See Note 8 of the condensed consolidated financial statements for additional information. 37 Cash Flows for the Six Months Ended June 30, 2022 Compared to the Six Months Ended June 30, 2021 The following summarizes our cash flows for the six months ended June 30, 2022 and 2021 as reported in our condensed consolidated statements of cash flows (in thousands): Six Months Ended June 30, 2022 2021 Net cash provided by (used in) operating activities $ (52,804 ) $ 11,469 Net cash used in investing activities (26,055 ) (26,447 ) Net cash provided by financing activities 28,412 2,104 Net decrease in cash (50,447 ) (12,874 ) Cash, beginning of the period 91,616 122,955 Cash, end of the period $ 41,169 $ 110,081 Cash used in operating activities of $52.8 million for the six months ended June 30, 2022 primarily resulted from a $22.0 million net loss combined with a $30.1 million decrease in operating cash flow related to net changes of operating assets and liabilities. These decreases related mostly to a $6.1 million increase in accounts receivable and a $37.0 million decrease in accounts payable, offset in part by a $13.8 million decrease in inventories. The increase in accounts receivable was primarily due to the timing of wholesale partner payments. The decline in accounts payable was mainly due to the balance at prior year-end being higher than normal because of payment timing coupled with the impact of larger advertising spend in the fourth quarter of 2021. The decrease in inventory was primarily due to management’s efforts to rebalance production and fulfillment operations during the first half of 2022. Cash used in investing activities reflected capital expenditures of $26.1 million during the six months ended June 30, 2022 compared to $26.4 million for the six months ended June 30, 2021. Capital expenditures during the first six months of 2022 primarily consisted of investments in leasehold improvements and furniture and fixtures related to the opening of new Purple retail showrooms. Cash provided by financing activities was $28.4 million during the six months ended June 30, 2022 compared to $2.1 million during the six months ended June 30, 2021. Financing activities during the first six months of 2022 included $92.9 million of net proceeds received from the underwritten stock offering, offset in part by a $55.0 million revolving line of credit payment, a $5.8 million payment on the tax receivable agreement, and $3.8 million in other debt related payments. Critical Accounting Policies We discuss our critical accounting policies and estimates in Management’s Discussion and Analysis of Financial Condition and Results of Operations in our 2021 Annual Report on Form 10-K filed March 1, 2022. There were no significant changes in our critical accounting policies since the end of fiscal 2021. Available Information Our website address is www.purple.com. We make available free of charge on the Investor Relations portion of our website, investors.purple.com, our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as reasonably practicable after we electronically file such material with, or furnish it to, the SEC. We also use the Investor Relations portion of our website, investors.purple.com, as a channel of distribution of additional Company information that may be deemed material. Accordingly, investors should monitor this channel, in addition to following our press releases, SEC filings and public conference calls and webcasts. The contents of our website shall not be deemed to be incorporated herein by reference. 38 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest Rate Risk Our operating results are subject to risk from interest rate fluctuations on the outstanding borrowings under our 2020 Credit Agreement. Our term loan and revolving line of credit both bear interest at variable rates, which exposes us to market risks relating to changes in interest rates. Interest rate risk is highly sensitive due to many factors, including U.S. monetary and tax policies, U.S. and international economic factors and other factors beyond our control. As of June 30, 2022, we had $39.7 million of variable rate debt outstanding under our term loan. We had no borrowings outstanding under our revolving line of credit as of June 30, 2022. An increase of 100 basis points in the effective interest rate on our outstanding debt at June 30, 2022 would result in an increase in interest expense of approximately $0.4 million over the next 12 months. We do not use derivative financial instruments for speculative or trading purposes, but this does not preclude our adoption of specific hedging strategies in the future. ITEM 4. CONTROLS AND PROCEDURES (a) Evaluation of Disclosure Controls and Procedures As of the end of the period covered by this report, under the supervision and with the participation of our management, including our Chief Executive Officer (“CEO”) and Interim Chief Financial Officer (“CFO” and together with the CEO, the “Certifying Officers”), we evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as such term is defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)). Disclosure controls and procedures are controls and other procedures designed to ensure that information required to be disclosed in our reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in our reports filed or submitted under the Exchange Act is accumulated and communicated to management, including our Certifying Officers, or persons performing similar functions, as appropriate, to allow timely decisions regarding required disclosure. 39 Based upon this evaluation, and the above criteria, our CEO and CFO concluded that due to the previously reported material weakness described below, the Company’s disclosure controls and procedures were not effective as of June 30, 2022. Previously Reported Material Weakness in Internal Control A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our annual or interim consolidated financial statements will not be prevented or detected on a timely basis. As previously reported, we determined a material weakness existed relating to ineffective information technology general controls (“ITGCs”) in the areas of user access and segregation of duties related to certain information technology (“IT”) systems that support the Company’s financial reporting processes. We believe that these control deficiencies were a result of turnover of critical IT leadership; insufficient training of IT personnel; and inadequate risk-assessment processes to identify and assess user access in certain IT systems that could impact internal controls over financial reporting. As a result, we determined that we did not have effective controls to prevent or detect a material financial statement misstatement on a timely basis. In response to this material weakness, management, with oversight of the Audit Committee of the Board of Directors, has identified and is in the process of implementing steps to remediate the material weakness. The Company has allocated resources to remediate user access related control and segregation of duties deficiencies. Our remediation efforts also include providing training to personnel associated with reviewing IT user access. In addition, we continue to engage consultants to advise us on making further improvements to our ITGCs. Although we intend to complete the remediation process as promptly as possible, we cannot at this time estimate how long it will take to remediate this material weakness. Until this material weakness is remediated, we plan to continue to perform additional analyses and other procedures to ensure that our consolidated financial statements are prepared in accordance with GAAP. The material weakness did not result in any identified misstatements in our condensed consolidated financial statements, and there were no changes to previously issued financial results. However, because the material weakness creates a reasonable possibility that a material misstatement to our condensed consolidated financial statements would not be prevented or detected on a timely basis, the Company’s management concluded that at June 30, 2022, the Company’s internal control over financial reporting was ineffective. (b) Changes in Internal Controls Over Financial Reporting. Other than the remediation efforts related to the design and implementation of sufficient controls and processes around ITGCs, there were no changes in our internal control over financial reporting during the quarter ended June 30, 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 40 PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The Company is from time to time involved in various claims, legal proceedings and complaints arising in the ordinary course of business. Please refer to Note 13 — Commitments and Contingencies and Note 20 – Subsequent Events to the condensed consolidated financial statements contained in this report for certain information regarding our legal proceedings. ITEM 1A. RISK FACTORS Except as described below, there have been no material changes from the risk factors previously disclosed in our Annual Report on Form 10-K filed with the SEC on March 1, 2022.The disclosure of risks identified below does not imply that the risk has not already materialized. Changes in economic conditions, including inflationary trends in the price of our input costs, such as raw materials and labor, and impacts on our consumers, could adversely affect our business and financial results. The bedding industry is subject to volatility in the price of petroleum-based and steel products, which affects the cost of certain raw materials. The price and availability of these raw materials are subject to market conditions affecting supply and demand. Given the significance of the cost of these materials to our products, volatility in the prices of the underlying commodities can significantly affect profitability. We have experienced and may continue to experience, volatility and increases in the price of certain of these raw materials as a result of a global market and supply chain disruptions, continuing impacts of the COVID-19 pandemic, and the broader inflationary environment. In addition, persistent inflation has and may continue to erode consumer discretionary spending. Reductions in consumer discretionary spending have and we anticipate will continue to adversely affect demand for our products. We may not be able to successfully anticipate consumer trends and demand and our failure to do so may lead to loss of consumer acceptance of the products we sell, resulting in reduced net sales. Our success depends in part on our ability to anticipate and respond to changing trends and consumer demands in a timely manner. Changes in consumers’ tastes and trends and the resulting change in our product mix, as well as failure to offer our consumers multiple avenues for purchasing our products, could adversely affect our business and operating results. For example, as retail stores began to reopen following the elimination or easing of restrictions in connection with the COVID-19 pandemic, consumers began to shift away from online retail purchases towards brick-and-mortar shopping. Our gross margins for sales through wholesale customers are lower than those in our DTC channel and, as a result, this shift in customer preference has and we anticipate will continue to adversely impact our gross margins. Further, general macroeconomic conditions, including persistent inflation, has and may continue to adversely affect consumer demand for our products, which are generally priced at a premium. Any reductions in consumer demand for our products has and may continue to adversely affect our sales and financial position. If we fail to identify and respond to emerging trends, consumer acceptance of the products we manufacture and sell and our image with current or potential customers may be harmed, which could reduce our net sales. If we misjudge market trends, we may significantly overstock inventory and be forced to take significant inventory markdowns, which would have a negative impact on our gross profit and cash flow. Conversely, shortages of inventory or time to fulfillment of our products that prove popular could also reduce our sales. The previous growth of our business placed significant strain on our resources and if we are unable to manage future growth, we may not have profitable operations or sufficient capital resources. Historically, we have expanded our operations, including expanding our workforce, increasing our product offerings and scaling our infrastructure to support expansion of our manufacturing capacity, our wholesale channel expansion and the opening of Purple retail showrooms. Our planned growth includes increasing our manufacturing efficiencies, developing and introducing new products and developing new and broader distribution channels, including wholesale and Purple retail showrooms, and extending our global reach to other countries. This expansion increases the complexity of our business and places significant strain on our management, personnel, operations, systems, technical performance, financial resources, and internal financial control and reporting functions. 41 Our continued success depends, in part, upon our ability to manage and expand our operations and facilities and production capacity. The growth in our operations has placed, and may continue to place, significant demands on our management and operational and financial infrastructure. If we do not manage growth effectively, the quality of our products and fulfillment capabilities may suffer which could adversely affect our operating results. Our revenue growth may not be sustainable, and our percentage growth rates may decrease. If we are unable to satisfy our liquidity and capital resource requirements, we may have to scale back, postpone or discontinue our growth strategies, which could result in slower growth, no growth, or shrinking, and we may run the risk of losing key suppliers, we may not be able to timely satisfy customer orders, and we may not be able to retain our employees. In addition, we may be forced to restructure our obligations to creditors or pursue work-out options. Our growth depends in part on our ability to manage the opening and operating of new production facilities and Purple retail showrooms, which will require our entering into leases and other obligations. To be successful, we will need to continue developing retail expertise and we will need to hire new employees in states that may have employment laws that could increase our expenses. In general, operating new facilities and opening Purple retail showrooms in new locations exposes us to laws in other states, including California, that may not be as employer-friendly as those in which we currently operate, and may expose us to new liabilities. If we are not able to successfully manage the process of expanding operations geographically, opening Purple retail showrooms and maintaining operations in an expanding number of facilities and Purple retail showrooms, we may have to close Purple retail showrooms or operations facilities and incur sunk costs and continuing obligations that could put a strain upon our resources, damage our brand and reputation and limit our growth. To manage growth effectively, we would need to continue to implement operational, financial and management controls and reporting systems and procedures and improve the systems and procedures that are currently in place. There is no assurance that we will be able to fulfill our staffing requirements for our business, successfully train and assimilate new employees, or expand our management base and enhance our operating and financial systems. Failure to achieve any of these goals will prevent us from managing our growth in an effective manner and could have a material adverse effect on our business, financial condition or results of operations. In addition, a softening of demand, whether caused by changes in customer preferences or a weakening of the U.S. or global economies, may result and has resulted in decreased revenue or growth. For example, we are experiencing weaker demand in part as a result of current inflationary trends. Further, we may not be able to accurately forecast our growth rate. We base our expense levels and investment plans on sales estimates. A significant portion of our expenses and investments is fixed, and we may not be able to adjust our spending quickly enough if our sales are less than expected. We have identified the need for improved processes and procedures to avoid delays in the timely delivery of our mattress products and to improve the customer’s experience. Also, we have experienced rapid growth in our employee base, and the need to implement processes and procedures for improving employee training and retention. Competition for employees where our production facilities are located also has increased the costs for employee retention. We have implemented improved processes and procedures in an environment of continuous change, but our use of resources may not be as effective as intended or we may need to apply more resources than expected to continue to make changes to improve our employee retention and effectiveness and the quality of our products and services over time. If we are unable to make continuous improvement, achieve greater efficiencies in our operating expenses and improve our products and services, our business could be adversely affected. Our expansion into new products, market segments and geographic regions subjects us to additional business, legal, financial, and competitive risks. The majority of our sales are made directly to consumers through our DTC channels. We have been expanding our business into the wholesale distribution channel through relationships with our wholesale partners but there can be no assurance that we will continue to experience success with our wholesale partners or that anticipated new locations will be successful. We may be unsuccessful in generating additional sales through wholesale channels. We may extend credit terms in connection with such relationships and such relationships may expose us to the risk of unpaid or late paid invoices. In addition, we may provide fixtures to such partners that may be difficult to recover or re-use. Our wholesale customers may not purchase our products in the volume we expect. Profitability, if any, from sales to wholesale customers and new product offerings may be lower than from our DTC model and current products, and we may not be successful enough in these newer activities to recoup our investments in them. If any of these issues were to arise, they could damage our reputation, limit our growth, and negatively affect our operating results. We may be unsuccessful in opening any Purple retail showrooms beyond those already opened in cities across the U.S. Operating Purple retail showrooms includes additional risks. For example, we will incur expenses and accept obligations related to additional leases, insurance, distribution and delivery challenges, increased employee management, and new marketing challenges. If we are not successful in our efforts to profitably operate these new stores, our reputation and brand could be damaged, growth could be limited, and our business may be harmed. 42 In addition, offerings of new products through our e-commerce, wholesale distribution channel and Purple retail showrooms may present new and difficult challenges, and we may be subject to claims if customers of these offerings experience service disruptions or failures or other quality issues. Expansion of sales channels may require the development of additional, differentiated products to avoid price and distribution conflicts between and within sales channels. Wholesale expansion increases our risk as our wholesale partners will require delaying payments to us on net terms ranging from a few days to 60 or more days, or they may delay paying us beyond the agreed-upon net terms or fail to pay. Our Company showroom expansion increases our risk for inventory shrinkage from destruction, theft, obsolescence and other factors that render such inventory unusable or unsellable. New products may come with unknown warranty and return risks. New product offerings or expansion into new market channels or geographic regions may subject us to new or additional regulation, which would impose potentially significant compliance and distribution costs. Our future growth and profitability depend upon the strength of our Purple brand and the effectiveness and efficiency of our marketing programs and our ability to attract and retain customers. We are highly dependent on the effectiveness of our marketing messages and the efficiency of our advertising expenditures in generating consumer awareness and sales of our products. We continue to evolve our marketing strategies, adjusting our messages, the amount we spend on advertising and where we spend it. We may not always be successful in developing effective messages and new marketing channels, as consumer preferences and competition change, and in achieving efficiency in our advertising expenditures. We depend heavily on internet-based advertising to market our products through internet-based media and e-commerce platforms. If we are unable to continue utilizing such platforms, if those media and platforms diminish in efficacy, importance or size, if consumer usage of the platform decreases, or if we are unable to direct our advertising to our target consumer groups, our advertising efforts may be ineffective, and our business could be adversely affected. The costs of advertising through these platforms have increased significantly, which has resulted in decreased efficiency in the use of our advertising expenditures, and we expect these costs may continue to increase in the future. We have relationships with traditional and digital media partners, online services, search engines, affiliate marketing websites, directories and other website and e-commerce businesses to provide content, advertising and other links that direct customers to our website. We rely on these relationships as significant sources of traffic to our website and to generate new customers. If we are unable to develop or maintain these relationships or develop and maintain new relationships for newly developed and necessary marketing services on acceptable terms, our ability to attract new customers and our financial condition would suffer. In addition, current or future relationships or agreements may fail to produce the sales that we anticipate. The cost of advertising for web-based platforms, such as Facebook, are increasing. Increasing advertising costs erode the efficiency of our advertising efforts. If we are unable to effectively manage our advertising costs or if our advertising efforts fail to produce the sales that we anticipate, our business could be adversely affected. On October 20, 2020, the United States Department of Justice brought an antitrust lawsuit against Google claiming that Google improperly uses its monopoly over Internet search to impede competition and harm consumers. Our cost of advertising on Google may remain high if Google’s monopoly over internet searches is not prevented and competitive search engines are not allowed to compete. Alternatively, if Google is required because of this lawsuit to split up the company or sell assets, there is no assurance this will decrease advertising costs and it may lead to increased costs due to an increased number of service providers who obtain oligopoly power to control advertising costs or inefficiencies from a reduction in scale. Although this lawsuit may lower our advertising costs, there is risk that it may not and would lead to increased costs which would reduce our profitability and harm our business. Consumers are increasingly using digital tools as a part of their shopping experience. As a result, our future growth and profitability will depend in part on (i) the effectiveness and efficiency of our online experience for disparate worldwide audiences, including advertising and search optimization programs in generating consumer awareness and sales of our products, (ii) our ability to prevent confusion among consumers that can result from search engines that allow competitors to use or bid on our trademarks to direct consumers to competitors’ websites, (iii) our ability to prevent internet publication or television broadcast of false or misleading information regarding our products or our competitors’ products, (iv) the nature and tone of consumer sentiment published on various social media sites, and (v) the stability of our website. In recent years, a number of direct to consumer, internet-based retailers, like us, have emerged and have driven up the cost of basic search terms, which has and may continue to increase the cost of our internet-based marketing programs. More recently, the large traditional mattress manufacturers have been increasing their efforts to increase their direct to consumer sales which also is increasing the cost of our internet-based marketing programs and cost of customer conversion. 43 In the past, we have been the target of publications by purported consumer reviewers who claim to have identified health and safety concerns with our products. While we believe such claims to be baseless, refuting such claims requires us to expend significant resources to educate current and potential customers on the safety of our products. Even if we are able to broadly disseminate factual information to refute such claims and reinforce the safety of our products, such claims and attendant adverse publicity could persist and damage our reputation and brand value and result in lower sales. The number of third-party review websites is increasing and customers have many platforms on which they can review our products, and such reviews are becoming increasingly influential with consumers. Negative reviews from such sources may receive widespread attention from consumers, which could damage our reputation and brand value and result in lower sales. If we are unable to effectively manage relationships with such reviewers to promote accurate reviews of our products, reviewers may decline to review our products or may post reviews with misleading information, which could damage our reputation and make it more difficult for us to improve our brand value. If our marketing messages are ineffective or our advertising expenditures, geographic price-points, and other marketing programs, including digital programs, are inefficient in creating awareness and consideration of our products and brand name and in driving consumer traffic to our website, our sales, profitability, cash flows and financial condition may be adversely impacted. In addition, if we are not effective in preventing the publication of confusing, false or misleading information regarding our brand or our products, or if there arises significant negative consumer sentiment on social media regarding our brand or our products, our sales, profitability, cash flows and financial condition may be adversely impacted. We are required to make certain prepayments to any revolving loans and thereafter may not be able to draw upon our revolving line of credit. Under the 2020 Credit Agreement, as amended, if the aggregate amount of cash and cash equivalents we hold exceeds $25.0 million, we are required to prepay an amount equal to the lesser of (i) the outstanding revolving loans and (ii) the amount of cash and cash equivalents in excess of $25.0 million. In addition, we are prohibited from making additional borrowings under the revolver if after giving effect to any borrowing, and any transactions to be consummated therewith, the aggregate amount of cash and cash equivalents exceeds $25.0 million. As a result of these two restrictions, our ability to accumulate cash in excess of $25.0 million is limited. If for any reason we are unable to borrow on our revolving credit facility, we would be limited in available cash to pay expenses and meet our obligations, which lack of liquidity could impair our relationships with suppliers and vendors, delay our growth plans or prevent us from taking actions in our best interest or even continue in business. We may issue debt and equity securities or securities convertible into equity securities, any of which may be senior to our Class A Stock as to distributions and in liquidation, which could negatively affect the value of our Class A Stock. In the future, we may attempt to increase our capital resources by entering into additional debt or debt-like financing that is unsecured or secured by up to all of our assets, or by issuing additional debt or equity securities, which could include issuances of secured or unsecured notes, preferred stock, hybrid securities or securities convertible into or exchangeable for equity securities. For example, in March 2022 we completed a public offering of shares of Class A Stock. In the event of our liquidation, our lenders and holders of our debt would receive distributions of our available assets before distributions to holders of our Class A Stock, and holders of securities senior to the Class A Stock would receive distributions of our available assets before distributions to the holders of our Class A Stock. Because our decision to incur debt and issue securities in future offerings may be influenced by market conditions and other factors beyond our control, we cannot predict or estimate the amount, timing or nature of our future offerings or debt financings. Further, market conditions could require us to accept less favorable terms for the issuance of our securities in the future. 44 ITEM 5. OTHER INFORMATION ITEM 6. EXHIBITS to be updated Number Description 10.1+ Separation Agreement entered into between Purple Innovation, LLC and John A. Legg dated April 13, 2022 (incorporated by reference to Exhibit 99.1 to the Current Report on Form 8-K (File No. 001-37523) filed with the SEC on April 14, 2022). 10.2+ Offer letter dated as of April 29, 2022, signed by Eric Haynor (incorporated by reference to Exhibit 10.1 to the Current Report on Form 8-K (File No. 001-37523) filed with the SEC on May 3, 2022). 10.3+ Purple Innovation, Inc. 2022 Short-Term Cash Incentive Plan, dated as of May 26, 2022 (incorporated by reference to Exhibit 99.1 to the Current Report on Form 8-K (File No. 001-37523) filed with the SEC on June 1, 2022. 10.4+ Second Amendment to Purple Innovation, Inc. 2017 Equity Incentive Plan dated June 2, 2022 (incorporated by reference to Exhibit 99.1 to the Current Report on Form 8-K (File No. 001-37523) filed with the SEC on June 3, 2022. 31.1* Certification by Robert T. DeMartini, Chief Executive Officer, pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2* Certification by Bennett L. Nussbaum, Interim Chief Financial Officer, pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1* Certification by Robert T. DeMartini, Chief Executive Officer, pursuant to Section 1350, Chapter 63 of Title 18, United States Code, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2* Certification by Bennett L. Nussbaum, Interim Chief Financial Officer, pursuant to Section 1350, Chapter 63 of Title 18, United States Code, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 101.INS XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document 101.SCH Inline XBRL Taxonomy Extension Schema Document 101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase Document 101.DEF Inline XBRL Taxonomy Extension Definition Linkbase Document 101.LAB Inline XBRL Taxonomy Extension Label Linkbase Document 101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase Document 104 Cover Page Interactive Data File––the cover page interactive data file does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document. * Filed herewith. + Indicates management contract or compensatory plan. 45 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. PURPLE INNOVATION, INC. Date: August 9, 2022 By: /s/ Robert T. DeMartini Robert T. DeMartini Chief Executive Officer (Principal Executive Officer) Date: August 9, 2022 By: /s/ Bennett L. Nussbaum Bennett L. Nussbaum Interim Chief Financial Officer (Principal Financial Officer) Date: August 9, 2022 By: /s/ George T. Ulrich George T. Ulrich VP Accounting and Financial Reporting (Principal Accounting Officer) 46