Item 2. Management’s Discussion and Analysis
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the condensed consolidated financial statements and the accompanying notes thereto included elsewhere in this report.
Coronavirus (COVID-19)
The United States economy in general and our business specifically have been negatively affected by the COVID-19 pandemic. We have seen adverse impacts as it relates to the decline in the number of patients that healthcare facilities and clinics are able to treat due to enhanced safety protocols. There are no reliable estimates of how long the pandemic will last or how many people are likely to be affected by it. For that reason, we are unable to reasonably estimate the long-term impact of the pandemic on our business at this time. Since the onset of COVID-19, we have remained proactive to ensure we continue to adapt to the needs of our employees, clinicians and patients. These changes to our business include, but are not limited to:
● Initially modifying our operations with the primary focus on keeping our employees safe while continuing to serve our clinicians and patients. As an essential business under federal guidelines, we continued to manufacture product and implemented multiple, smaller rotational shifts and other best practices to help protect the health and safety of our workforce. More recently, however, we have migrated closer to our pre-COVID work shifts, implementing more stringent safety measures including mandatory use of face masks, social distancing and temperature checks for our employees.
● Incorporating remote and flexible work arrangements for employees whenever possible, including real-time, online training of our new sales representatives. In addition, with the increase in the rollout of vaccines and evolving CDC guidance, we have begun to develop our long-term in-office and remote work strategy with the goal of launching it in the second half of 2021.
● Loosening employee travel restrictions in alignment with the opening of healthcare facilities and clinics while also continuing to maintain social distancing contact restrictions to reduce exposure.
● Continuing to collaborate with payers to modify coverage requirements to allow us to serve patients virtually.
● Utilizing a mix of employee trainers and independent healthcare practitioners to educate patients on the proper use of our solutions virtually or in-person, as required. This is a transition from our initial response to the COVID-19 social distancing requirements and recommendations, which required we initially move to a “no contact” virtual patient training model to substantially reduce the need for in-person contact and visits to patients’ homes and clinics in order to protect the health and limit the exposure of both our trainers and patients.
● Continuing to host large virtual medical education programs, in place of formerly in-person meetings.
● Supporting clinicians and patients by using rigorous infection control practices when in-person visits are required.
We cannot assure you that these changes to our processes and practices will be successful in mitigating the impact of COVID-19 on our business. We continue to evaluate and, if appropriate, will adopt other measures in the future related to the ongoing safety of our employees, clinicians and patients. Additional information related to the COVID-19 pandemic is included in the MD&A sections below.
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Overview
We are a medical technology company that develops and provides innovative medical devices for the treatment of chronic diseases. Our mission is to help people suffering from chronic diseases live better and care for themselves at home. We focus our efforts on advancing the standard of care in treating chronic diseases in the home setting to improve patient outcomes and quality of life and help control rising healthcare expenditures. Our initial area of therapeutic focus is vascular disease, with a goal of advancing the standard of care in treating lymphedema and chronic venous insufficiency. We possess a unique, scalable platform to deliver at-home healthcare solutions throughout the United States. This evolving home care delivery model is recognized by policy-makers and insurance payers as a key for controlling rising healthcare costs. Our solutions deliver cost-effective, clinically proven, long-term treatment for people with these chronic diseases.
Our current products are the Flexitouch system and Entre system. A predecessor to our Flexitouch system received 510(k) clearance from the U.S. Food and Drug Administration (the “FDA”) in July 2002, and we introduced the system to address the many limitations of self-administered home-based manual lymphatic drainage therapy. We began selling our more advanced Flexitouch system after receiving 510(k) clearance from the FDA in October 2006. In September 2016, we received 510(k) clearance from the FDA for the Flexitouch system in treating lymphedema of the head and neck. In June 2017, we announced that we received 510(k) clearance from the FDA for the Flexitouch Plus, the third-generation version of our Flexitouch system. In December 2020, we received 510(k) clearance for two new indications for our Flexitouch Plus system: phlebolymphedema and lipedema. We derive the vast majority of our revenue from our Flexitouch system. Sales and rentals of our Flexitouch system represented 88% of our revenue in each of the three months ended March 31, 2021 and 2020.
We introduced our Entre system in the United States in February 2013. The Entre system is sold or rented to patients who need a simple pump or who do not yet qualify for insurance reimbursement for an advanced compression device such as our Flexitouch system. For each of the three months ended March 31, 2021 and 2020, sales and rentals of our Entre system represented 12% of our revenue.
In October 2018, we licensed, from Sun Scientific, Inc., the intellectual property rights related to the Airwear Gradient Compression Wrap, or the Airwear wrap, in the United States and Canada, for use in all medical applications, including but not limited to swelling/edema and ulcers (including lymphedema and chronic venous insufficiency conditions), but excluding the use of the intellectual property in the field of prophylaxis for deep vein thrombosis. In the second quarter of 2020, we reevaluated the Airwear wrap go-to market plan, and determined to focus our strategy on more advanced solutions within our core, long-standing Flexitouch and Entre franchises. Accordingly, we made the strategic decision to discontinue the Airwear wrap in the second quarter of 2020. Due to the planned discontinuation of the product line, we recorded a $4.0 million non-cash impairment charge to fully write-off the inventory and long-lived assets of the Airwear wrap in the quarter ended June 30, 2020. Further, effective July 31, 2020, Sun Scientific, Inc. terminated the license agreement with us related to the Airwear wrap. See Note 8 - “Intangible Assets” to the consolidated financial statements in our Annual Report on Form 10-K for the year ended December 31, 2020 for more information regarding this impairment charge and discontinuation.
To support the growth of our business, we invest heavily in our commercial infrastructure, consisting of our direct sales force, training resources, reimbursement capabilities and clinical expertise. We market our products in the United States using a direct-to-patient and -provider model. Our field commercial team consists of our direct sales force and a team of Field Support Specialists. Our collective field commercial team has grown to over 295 employees as of March 31, 2021, compared to 285 employees as of December 31, 2020. This model allows us to directly approach patients and clinicians, whereby we disintermediate the traditional durable medical equipment channel, allowing us to capture both the manufacturer and distributor margins.
In the first quarter of 2021, we began to utilize a mix of employee trainers and independent healthcare practitioners to educate patients on the proper use of our solutions virtually or in-person, as required. This is a transition from our initial response to the COVID-19 social distancing requirements and recommendations, which required we initially move to a “no contact” virtual patient training model to substantially reduce the need for in-person contact and visits to patients’ homes and clinics.
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As it relates to the impact of COVID-19 on our first quarter commercial processes, we continued to see a certain number of healthcare facilities and clinics with restricted access to their clinicians, reduced patient consultations and treatments, or temporary closures due to the pandemic. We also continued to see some of the restrictions loosen, in line with the applicable governmental regulations. As most of our clinician customers practice outside of a hospital, we can interact with clinicians and patients on a virtual basis, using video conferencing and other non-direct means. We expect these virtual interactions with clinicians and patients to continue into the future until the pandemic subsides, and perhaps as a best practice in the future. To that end, we plan to continue to work towards expanding our commercial organization throughout the first half of 2021 by adding to our direct sales force.
We invest substantial resources in our reimbursement function to improve operational efficiencies and enhance individual payer expertise, while continuing our strategic focus of payer development. Our payer relations function focuses on payer policy development, education, contract negotiations, and data analysis. Our reimbursement operations function is responsible for verifying patient insurance benefits, individual patient case development, prior authorization submissions, case follow-up, and appeals when necessary. Since the onset of COVID-19, our reimbursement function has been actively working with Medicare and a broad base of private payers to understand the ever-changing reimbursement criteria being introduced. We have seen increased flexibility in coverage criteria with select payers in which they now allow the use of virtual patient interactions in place of the previously required in-person interactions. However, as these circumstances are ever-changing, the extent to which these changes will remain in place and the impact on our business in the future are not determinable at this time.
We also have a clinical team, consisting of a scientific advisory board, in-house therapists and nurses, and a medical director (part-time), that serves as a resource to clinicians and patients and guides the development of clinical evidence in support of our products. Most clinical studies require observation and interaction with clinicians and patients to monitor results and progress. Given the impact of COVID-19, patient recruitment for our clinical studies involving our products and clinical outcomes had previously been suspended in 2020. However, in the first quarter of 2021, approximately half of our clinical trial sites had resumed research activities as the healthcare provider staff are being reallocated from COVID-19 response teams or furloughs back to research activities. Study visits and new patient enrollments are gradually resuming, albeit more slowly than targeted enrollment rates.
We rely on third party contract manufacturers for the sourcing of parts, the assembly of our controllers and the manufacturing of the garments used with our systems. We conduct final assembly of the garments used with our Flexitouch system, perform quality assurance and ship our products from our facility in Minneapolis, Minnesota.
To date, our supply chain has not been materially impacted by COVID-19. We continue to receive our product on time and believe that we have enough safety stock to meet our short and mid-term demand. However, we cannot assure you that our supply chain will not be materially impacted in the future.
For the three months ended March 31, 2021, we generated revenue of $42.8 million and had a net loss of $2.3 million, compared to revenue of $43.7 million and a net loss of $1.3 million for the three months ended March 31, 2020. Our primary sources of capital to date have been from operating income, private placements of our capital stock and capital raised in our initial public offering, which closed on August 2, 2016.
We operate in one segment for financial reporting purposes.
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Results of Operations
Comparison of the Three Months Ended March 31, 2021 and 2020
The following table presents our results of operations for the periods indicated:
Three Months Ended
March 31,
Change
(In thousands)
2021
2020
$
%
Condensed Consolidated Statement
% of
% of
of Operations Data:
revenue
revenue
Revenue
Sales revenue
$
36,125
84
%
$
37,623
86
%
$
(1,498)
(4)
%
Rental revenue
6,647
16
%
6,052
14
%
595
10
%
Total revenue
42,772
100
%
43,675
100
%
(903)
(2)
%
Cost of revenue
Cost of sales revenue
10,691
25
%
10,922
25
%
(231)
(2)
%
Cost of rental revenue
1,851
4
%
1,680
4
%
171
10
%
Total cost of revenue
12,542
29
%
12,602
29
%
(60)
(0.5)
%
Gross profit
Gross profit - sales revenue
25,434
59
%
26,701
61
%
(1,267)
(5)
%
Gross profit - rental revenue
4,796
12
%
4,372
10
%
424
10
%
Gross profit
30,230
71
%
31,073
71
%
(843)
(3)
%
Operating expenses
Sales and marketing
18,785
44
%
22,970
53
%
(4,185)
(18)
%
Research and development
1,270
3
%
1,684
4
%
(414)
(25)
%
Reimbursement, general and administrative
14,259
33
%
10,870
25
%
3,389
31
%
Total operating expenses
34,314
80
%
35,524
82
%
(1,210)
(3)
%
Loss from operations
(4,084)
(9)
%
(4,451)
(11)
%
367
(8)
%
Other (expense) income
(10)
—
%
266
1
%
(276)
(104)
%
Loss before income taxes
(4,094)
(9)
%
(4,185)
(10)
%
91
(2)
%
Income tax benefit
(1,828)
(4)
%
(2,878)
(7)
%
1,050
(36)
%
Net loss
$
(2,266)
(5)
%
$
(1,307)
(3)
%
$
(959)
73
%
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Revenue
Revenue decreased $0.9 million, or 2%, to $42.8 million in the three months ended March 31, 2021, compared to $43.7 million in the three months ended March 31, 2020. The decrease in total revenue was attributable to a decrease of $1.1 million, or 3%, in sales and rentals of the Flexitouch system, offset partially by an increase of $0.2 million, or 5%, in sales and rentals of the Entre system in the quarter ended March 31, 2021. First quarter revenue continued to be negatively impacted by COVID-19, primarily from social distancing requirements and safety protocols imposed within clinics. The decrease in first quarter revenue was partially offset by the continued expansion of our field commercial team, effective virtual educational events and an increase in the number of Medicare patients served.
Revenue from the Veterans Administration represented 14% and 16% of total revenue in the three months ended March 31, 2021 and 2020, respectively. Revenue from Medicare represented 20% and 15% of total revenue in the three months ended March 31, 2021 and 2020, respectively.
The following table summarizes our revenue by product for the three months ended March 31, 2021 and 2020, both in dollars and percentage of total revenue:
Three Months Ended
March 31,
Change
(In thousands)
2021
2020
$
%
Revenue
Flexitouch system
$
37,437
$
38,586
$
(1,149)
(3)%
Other products (1)
5,335
5,089
246
5%
Total
$
42,772
$
43,675
$
(903)
(2)%
Percentage of total revenue
Flexitouch system
88%
88%
Other products (1)
12%
12%
Total
100%
100%
(1) The “other products” line primarily includes revenue from our Entre system. The Actitouch system and the Airwear wrap contributed immaterial amounts of revenue for each of the three months ended March 31, 2021 and 2020.
Our business is affected by seasonality. In the first quarter of each year, when most patients have started a new insurance year and have not yet met their annual out-of-pocket payment obligations, we experience substantially reduced demand for our products. We typically experience higher revenue in the third and fourth quarters of the year when patients have met their annual insurance deductibles, thereby reducing their out-of-pocket costs for our products, and because patients desire to exhaust their flexible spending accounts at year end. This seasonality applies only to purchases and rentals of our products by patients covered by commercial insurance and is not relevant to Medicare, Medicaid or the Veterans Administration, as those payers either do not have plans that have declining deductibles over the course of the plan year and/or do not have plans that include patient deductibles for purchases or rentals of our products. Further, seasonality trends in 2021 may be significantly different than in prior years as a result of the COVID-19 pandemic and related impacts.
Cost of Revenue and Gross Margin
Cost of revenue decreased $0.1 million, or 0.5%, to $12.5 million in the three months ended March 31, 2021, compared to $12.6 million in the three months ended March 31, 2020. The decrease in cost of revenue was primarily attributable to a decrease in the number of Flexitouch systems sold and rented, slightly offset by an increase in Entre system sales and rentals.
Total gross margin was 71% of revenue in each of the three months ended March 31, 2021 and 2020.
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Sales and Marketing Expenses
Sales and marketing expenses decreased $4.2 million, or 18%, to $18.8 million in the three months ended March 31, 2021, compared to $23.0 million in the three months ended March 31, 2020. The decrease was primarily attributable to a $1.9 million decrease from reduced sales meetings, tradeshows and professional services, a $1.3 million reduction of our external patient training expense as a result of pivoting to more virtual patient trainings, $0.8 million of reduced travel and entertainment expense due to decreased travel activities and a $0.2 million reduction in personnel-related compensation expense.
Research and Development Expenses
Research and development (“R&D”) expenses decreased $0.4 million, or 25%, to $1.3 million in the three months ended March 31, 2021, compared to $1.7 million in the three months ended March 31, 2020, which decrease was primarily attributable to comparably lower clinical studies activity as a result of COVID-19.
Reimbursement, General and Administrative Expenses
Reimbursement, general and administrative expenses increased $3.4 million, or 31%, to $14.3 million in the three months ended March 31, 2021, compared to $10.9 million in the three months ended March 31, 2020. This increase was primarily attributable to a $2.4 million increase in occupancy costs, depreciation expense, legal and professional fees, and a $1.0 million increase in personnel-related compensation expense as a result of increased headcount in our reimbursement operations, payer relations and corporate functions.
Other Income (Expense), Net
Other income (expense), net was an expense of $10 thousand and income of $0.3 million for the three months ended March 31, 2021 and 2020, respectively. Other income (expense) was primarily impacted by interest income realized on marketable securities and the gain and loss on cost method investments .
Income Taxes
We recorded an income tax benefit of $1.8 million and $2.9 million for the three months ended March 31, 2021 and 2020, respectively. The primary driver of this change was related to the net operating loss carryback claim refund recognized in the first quarter of 2020, which did not impact the benefit in the current year’s comparable period, slightly offset by an increase in the tax deductibility of meals and entertainment related expenses.
Liquidity and Capital Resources
Cash Flows
At March 31, 2021, our principal sources of liquidity were cash and cash equivalents of $ 46.9 million and net accounts receivable of $ 40.0 million, as well as the borrowing capacity available under our 2018 Credit Agreement.
The following table summarizes our cash flows for the periods indicated:
Three Months Ended
March 31,
(In thousands)
2021
2020
Net cash (used in) provided by:
Operating activities
$
(800)
$
909
Investing activities
(311)
9,606
Financing activities
181
(988)
Net (decrease) increase in cash and cash equivalents
$
(930)
$
9,527
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Operating Activities
Net cash used in operating activities during the three months ended March 31, 2021, was $0.8 million, resulting from a net loss of $2.3 million which was offset by non-cash net income (loss) adjustments of $1.4 million and a net decrease in operating assets and liabilities of $0.1 million. The non-cash net income (loss) adjustments consisted primarily of $2.5 million of stock-based compensation expense, $1.8 million in deferred taxes and $0.7 million of depreciation and amortization expense. The uses of cash related to changes in operating assets primarily consisted of increases in inventories of $3.5 million and net investment in leases of $0.5 million, partially offset by decreases in accounts receivable of $2.5 million and prepaid expenses and other assets of $0.4 million. The changes in operating liabilities consisted of an increase in accounts payable of $5.0 million, partially offset by decreases in accrued payroll and related taxes of $3.0 million and accrued expenses of $0.8 million.
Net cash provided by operating activities during the three months ended March 31, 2020, was $0.9 million, resulting from a net loss of $1.3 million and non-cash net income (loss) adjustments of $4.4 million, which were offset by a net increase in operating assets and liabilities of $2.2 million. The non-cash net income adjustments consisted primarily of $2.7 million of stock-based compensation expense, a $0.9 million decrease in deferred taxes and $0.7 million of depreciation and amortization expense. The uses of cash related to changes in operating assets primarily consisted of increases in the income taxes receivable of $4.2 million, inventories of $3.3 million and net investment in leases of $0.7 million, partially offset by a decrease in accounts receivable of $1.7 million. The changes in operating liabilities consisted of increases in accounts payable of $4.7 million and accrued expenses of $1.0 million, partially offset by a decrease in accrued payroll and related taxes of $1.8 million.
Investing Activities
Net cash used in investing activities during the three months ended March 31, 2021, was $0.3 million consisting of purchases of property and equipment, and patent costs.
Net cash provided by investing activities during the three months ended March 31, 2020, was $9.6 million, primarily consisting of $10.0 million in proceeds from maturities of marketable securities partially offset by $0.4 million in purchases of property and equipment.
Financing Activities
Net cash provided by financing activities during the three months ended March 31, 2021, was $0.2 million, consisting of $1.3 million in proceeds from exercise of common stock options, partially offset by $1.1 million in taxes paid for the net share settlement of performance and restricted stock units.
Net cash used in financing activities during the three months ended March 31, 2020, was $1.0 million, consisting of $1.2 million in taxes paid for the net share settlement of performance and restricted stock units, partially offset by $0.2 million in proceeds from exercise of common stock options.
Credit Agreement
On August 3, 2018, we entered into a credit agreement with Wells Fargo Bank, National Association, which was amended by a First Amendment dated February 12, 2019, a Waiver and Second Amendment dated March 25, 2019, and a Third Amendment dated August 2, 2019 (collectively, the “2018 Credit Agreement”). On April 30, 2021, we entered into an Amended and Restated Credit Agreement with the lenders from time to time party thereto, and Wells Fargo Bank, National Association, as Administrative Agent (the “Restated Credit Agreement”), which expires on April 30, 2024. The Restated Credit Agreement amends and restates in its entirety the 2018 Credit Agreement. As of March 31, 2021, and the date on which we filed this report, we did not have any outstanding borrowings under either Credit Agreement.
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The Restated Credit Agreement provides for a $25 million revolving credit facility, with the ability to increase the amount of the revolving loans available and/or add one or more term loan facilities not to exceed an incremental $30 million, subject to satisfaction of certain conditions.
Our obligations under the Restated Credit Agreement are secured by a security interest in substantially all of our and our subsidiaries’ assets and are also guaranteed by our subsidiaries. The Restated Credit Agreement contains a number of restrictions and covenants, including that we maintain compliance with a maximum leverage ratio and a minimum liquidity covenant. As of March 31, 2021, we were in compliance with all financial covenants under the 2018 Credit Agreement. For additional information on the 2018 Credit Agreement, see Note 9 – “Credit Agreement” to the condensed consolidated financial statements in this report . For additional information on the Restated Credit Agreement, see Note 16 – “Subsequent Event” to the condensed consolidated financial statements in this report .
Adequacy of Capital Resources
Our future capital requirements may vary significantly from those now planned and will depend on many factors, including:
● the impact of the COVID-19 pandemic on our business;
● sales and marketing resources needed to further penetrate our market;
● expansion of our operations domestically and/or internationally;
● response of competitors to our solutions and applications;
● costs associated with clinical research activities;
● costs to develop and implement new products; and
● use of capital for acquisitions or licenses, if any.
Historically, we have experienced increases in our expenditures consistent with the growth in our revenue, operations and personnel, and we anticipate that our expenditures will continue to increase as we expand our business.
Although the impact of the COVID-19 pandemic is difficult to predict, we believe our cash, cash equivalents and cash flows from operations together with the Restated Credit Agreement will be sufficient to meet our working capital and capital expenditure requirements for at least the next twelve months.
Inflation and changing prices did not have a material effect on our business during the three months ended March 31, 2021, and we do not expect that inflation or changing prices will materially affect our business for at least the next twelve months.
In August 2017, we filed a shelf registration statement on Form S-3 with the SEC. Under the shelf registration statement, we may offer and sell from time to time up to $200 million of common stock, preferred stock, debt securities, warrants, rights or units. The shelf registration statement also registered for resale from time to time up to 5,703,534 shares of our common stock held by the selling stockholders named therein. In September 2017, certain of the selling stockholders completed a secondary offering of 3,795,000 shares of our common stock at a public offering price of $33.00 per share. We did not receive any proceeds from the sale of the shares by the selling stockholders.
Coronavirus Aid, Relief, and Economic Security (CARES) Act
On March 27, 2020 the CARES Act was signed into law. The CARES Act is a tax-and-spending package intended to provide economic relief to address the impact of the COVID-19 pandemic. The CARES
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Act includes several tax provisions that, among other things, allow businesses to carry back net operating losses (“NOLs”) arising in 2018, 2019, and 2020 to the prior five tax years. In the third quarter of 2020, we collected $2.9 million related to the carry back of our NOLs arising from these prior tax years.
In addition, the CARES Act provided $100 billion in relief funds to hospitals and other healthcare providers on the front lines of the COVID-19 pandemic. An initial $30 billion of the funds were released for immediate infusion and were distributed to all facilities and providers that received Medicare fee-for-service (“FFS”) reimbursements in 2019. On April 10, 2020, we received $1.2 million of the initial allotment to all facilities and providers which was determined to be our proportionate share. Within 45 days of each reporting period end, we are required to comply with reporting requirements confirming funds were utilized in a manner described within the terms and conditions outlined by the U.S. Department of Health & Human Services. As of December 31, 2020, we recognized all of the funds received in the initial allotment as other income.
Contractual and Commercial Commitments Summary
For a discussion on our contractual and commercial commitments, see “Contractual and Commercial Commitments Summary,” included in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2020. There have been no material changes since December 31, 2020.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements, investments in special purpose entities or undisclosed borrowings or debt. Additionally, we are not a party to any derivative contracts or synthetic leases.
Recent Accounting Pronouncements
Refer to Note 3 – “Summary of Significant Accounting Policies” of the condensed consolidated financial statements contained in this report for a description of recently issued accounting pronouncements that are applicable to our business.
Critical Accounting Policies and Estimates
A “critical accounting policy” is one that is both important to the portrayal of our financial condition and results and requires management’s most subjective or complex judgments, often as a result of the need to make estimates about the effect of items that are inherently uncertain. For additional information, please see the discussion of our significant accounting policies under “Critical Accounting Policies and Significant Estimates ” in Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2020.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
For a discussion on our market risks, see Item 7A, “Quantitative and Qualitative Disclosures About Market Risk,” included in our Annual Report on Form 10-K for the year ended December 31, 2020. There have been no material changes since December 31, 2020.
Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.