10x Genomics, Inc. 10-K

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations. You should read the following discussion of our financial condition and results of operations in conjunction with our audited consolidated financial statements and the related notes and other financial information included elsewhere in this Annual Report and our audited consolidated financial statements and notes thereto. As discussed in the section titled “Special Note Regarding Forward Looking Statements,” the following discussion and analysis, in addition to historical financial information, contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth in the section titled “Risk Factors” under Part I, Item 1A above. 69 Table of Contents We operate on a fiscal year that ends on December 31. Overview We are a life sciences technology company focused on building innovative products and solutions to interrogate, understand and master biological systems at resolution and scale that matches the complexity of biology. Our expanding suite of offerings leverages our cross-functional expertise across biology, chemistry, software and hardware to provide a comprehensive, dynamic and high-resolution view of complex biological systems. We have launched multiple products that enable researchers to understand and interrogate biological analytes in their full biological context. Our commercial product portfolio leverages our Chromium and Chromium Connect instruments, which we refer to as “Chromium instruments” or “instruments,” and our proprietary microfluidic chips, slides, reagents and other consumables for our Visium and Chromium solutions, which we refer to as “consumables.” We bundle our software with these products to guide customers through the workflow, from sample preparation through analysis and visualization. Since launching our first product in mid-2015, and as of December 31, 2020, we have sold 2,412 instruments to customers around the world, including all of the top 100 global research institutions as ranked by Nature in 2019 based on publications and all of the top 20 global biopharmaceutical companies by 2019 research and development spend. Our products cover a wide variety of applications and allow researchers to analyze biological systems at fundamental resolutions and on massive scales, such as at the single cell level for millions of cells. Our Chromium instruments and Chromium consumables are designed to work together exclusively. After buying a Chromium instrument, customers purchase consumables from us for use in their experiments. In addition to instrument and consumable sales, we derive revenue from post-warranty service contracts for our Chromium instruments. For the years ended December 31, 2020 and 2019, sales of our Chromium instruments accounted for 13% and 14% of our revenue, respectively, sales of our consumables accounted for 85% and 84% of our revenue, respectively, and sales of services accounted for 2% of our revenue in each year. We currently serve thousands of researchers in more than 45 countries. Our customers include a range of academic, government, biopharmaceutical, biotechnology and other leading institutions around the globe. In both the years ended December 31, 2020 and 2019, approximately 65% and 70%, respectively, of our direct sales revenue came from sales to academic institutions. As of December 31, 2020, we employed a commercial team of over 290 employees, including more than 100 commissioned sales representatives, many with Ph.D. degrees and many with significant industry experience. We follow a direct sales model in North America and certain regions of Europe, representing the majority of our revenue. We sell our products through third-party distributors in Asia, certain regions of Europe, Oceania, South America, the Middle East and Africa. We currently sell our products for research use only. For the years ended December 31, 2020 and 2019, sales within North America accounted for approximately 53% and 57% of our revenue, respectively. Revenue increased 22% to $298.8 million in the year ended December 31, 2020 as compared to $245.9 million in the year ended December 31, 2019, primarily due to the increase in adoption of our instruments by customers and the use of associated consumables on those instruments. We focus a substantial portion of our resources on developing new products and solutions. Our research and development efforts are centered around improving the performance of our existing assays and software, developing new Chromium solutions such as multi-omics solutions, developing our Visium platform, improving and developing new capabilities for our Chromium platform, developing combined software and workflows across multiple solutions and investigating new technologies including the development of our In Situ technology. We incurred research and development expenses of $123.4 million and $83.1 million for the years ended December 31, 2020 and 2019, respectively. We intend to make significant investments in this area for the foreseeable future. In addition, in 2020, we invested in asset acquisitions resulting in in-process research and development charges of approximately $447.5 million. There were no similar acquisitions in the year ended December 31, 2019. Our instrument manufacturing is contracted out to a third-party contract manufacturer in Asia and the United States and we manufacture the majority of our consumable products in-house, with a small amount of our components outsourced to key suppliers. We have designed our operating model to be capital efficient and to scale efficiently as our product volumes grow. Historically, we have financed our operations primarily from the sale of our instruments and consumable products, the issuance and sale of our convertible preferred stock and common stock and the issuances of debt. On September 16, 2019, we completed an initial public offering (“IPO”), in which we sold 11,500,000 shares of Class A common stock (which included 1,500,000 shares that were offered and sold pursuant to the full exercise of the IPO underwriters’ option to purchase additional 70 Table of Contents shares) at a price to the public of $39.00 per share. We received aggregate net proceeds of $410.8 million after deducting offering costs, underwriting discounts and commissions of $37.7 million. On September 15, 2020, we completed an underwritten follow-on public offering, in which we issued and sold 4,600,000 shares of Class A common stock (which included 600,000 shares that were offered and sold pursuant to the full exercise of the underwriters’ option to purchase additional shares) at a public offering price of $110.00 per share. We received aggregate net proceeds of $482.3 million, after deducting offering costs, underwriting discounts and commissions of $23.8 million. Since our inception in 2012, we have incurred net losses in each year. Our net losses were $542.7 million and $31.3 million for the years ended December 31, 2020 and 2019, respectively. As of December 31, 2020, we had an accumulated deficit of $805.1 million and cash and cash equivalents totaling $663.6 million. We expect to continue to incur significant expenses for the foreseeable future and to incur operating losses in the near term. We expect our expenses will increase substantially in connection with our ongoing activities, as we: • attract, hire and retain qualified personnel; • scale our technology platforms and introduce new products and services; • protect and defend our intellectual property; • acquire businesses or technologies; and • invest in processes, tools and infrastructure to support the growth of our business. Operational Effectiveness in the COVID-19 Pandemic Environment In March 2020, the World Health Organization declared the global outbreak of COVID-19 to be a pandemic. Since then, COVID-19 has continued to spread throughout much of the United States and the world causing uncertainty and disruption to business activities. We continue to closely monitor the recent developments surrounding the continued spread and potential resurgence of COVID-19. Despite the impacts of the global COVID-19 pandemic, we have endeavored to successfully maintain operational effectiveness and continue providing researchers with our solutions as described below: • During this pandemic, we moved quickly to place instruments and to provide reagents to clinicians and researchers around the world working to understand COVID-19 and develop cures for the disease. We were designated an essential business because our products are a critical tool for infectious disease research as they allow for a detailed understanding of how the virus causing COVID-19 impacts infected people, how the immune system is mobilized, which immune cells react to pathogens and many other aspects of the disease and potential therapies. Many of our customers have moved our Chromium Controller instruments into Biosafety Level 2 Plus (BSL2+) and 3 (BSL3) facilities, where they can be as close as possible to the front lines of this battle against COVID-19; • Beginning in March 2020, we required the majority of our personnel to work remotely while we designed and implemented measures to maintain a safe workplace. Given the importance of maintaining continuity of our business and continued access to instruments and consumables by our customers, including researchers engaged in the fight against COVID-19, we implemented protocols and safety measures at our facilities including social distancing, symptom screening, regular deep cleaning and 10x-provided personal protective equipment to support and safeguard the health and safety of the team which remained onsite in March 2020 to support essential operations. Among other efforts, as we looked to regain our pre-COVID-19 levels of manufacturing and research and development activities by bringing additional personnel back onsite, in April 2020 we created a testing site for SARS-CoV-2 (the virus which causes COVID-19) at our Pleasanton headquarters. On a weekly basis, we test all employees who access our facilities, and no employee is allowed to access our facilities without a negative test. After having completed thousands of tests to date, our testing program has uncovered only a few, isolated test results indicating the presence of SARS-CoV-2. We believe we have been able to successfully isolate these individuals and prevent the spread of the virus within our workforce, but we will continue to monitor and track these developments. As an additional safeguard against SARS-CoV-2 transmission among our onsite employee base, in the second quarter of 2020 we introduced the use of Controlled Air Purifying Respiratory Systems (“CAPRS”) by certain of our onsite employees who need to work in close proximity to each other. CAPRS work to protect 10x personnel by filtering out potentially harmful or infectious materials including SARS-CoV-2 particles. These and other safety measures have facilitated the safe return to work of most of our research and development, manufacturing and other operations personnel; • Our sales and marketing teams have leveraged increased digital marketing and sales activities since the broad emergence of social distancing measures globally, including virtual sales seminars, virtual market development 71 Table of Contents activities, online product training utilizing our library of on-demand tools and literature and an increase in one-on-one communications via emails, phone and video conferencing; • With the implementation of our protocols and safety measures, our production, shipping and customer service functions have been operational and we have been able to maintain a continuous supply of products to our customers. We are communicating regularly with our suppliers, our supply chain remains intact and we have not yet experienced significant supply issues. With respect to equipment and raw material supply, we continue to work to secure sufficient critical equipment and raw materials to meet anticipated future demand and we are carrying higher levels of inventory and monitoring closely whether there will be a material negative impact due to potential future shortages or price increases from suppliers. Our customer service teams around the world are operating remotely and remain available to assist our customers and partners as needed; • Due to the measures taken to ensure the safety of 10x personnel described above, we were able to materially increase our research and development capacity in the second, third and fourth quarters of 2020 relative to the height of the COVID-19 shutdown. In 2020, we launched four new products for our customers: (1) Our Targeted Gene Expression solution will allow researchers to target the genes most relevant for their research, validate their hypotheses faster and reduce sequencing costs; (2) Our Single Cell Multiome ATAC+Gene Expression solution is designed to allow researchers to read both gene expression and epigenetic programming in the same cells across thousands to tens of thousands of cells in a single experiment; (3) Our Visium Spatial Gene Expression solution with Immunofluorescence allows whole transcriptome spatial analysis and protein detection in the same tissue section; and (4) A new version of our Single Cell Immune Profiling solution offers increased sensitivity, reduced sequencing costs and access to rare gene signatures; • Despite the impacts of the COVID-19 pandemic, including that the majority of 10x personnel worldwide continue to work remotely, these arrangements have not materially affected our ability to maintain our business operations, including the operation of financial reporting systems, internal control over financial reporting and disclosure controls and procedures. We implemented a cloud-based enterprise resource planning (“ERP”) system, Oracle Cloud, to automate our business processes including our forecasting, accounts receivable, inventory and vendor management processes which went live during the third quarter of 2020. We were also able to complete the underwritten public follow-on offering and the acquisition of CartaNA during the third quarter of 2020, the acquisition of ReadCoor during the fourth quarter of 2020 and the acquisition of Tetramer Shop ApS in January 2021; and • We continue to actively review and manage costs to navigate the current environment and to allow 10x to remain in a strong financial and operating position until the pandemic is brought under control. While the disruption is currently expected to be temporary, there is considerable uncertainty around its duration. We expect these disruptions to continue to impact our operating results, however, the extent of the financial impact and duration cannot be reasonably estimated at this time. For further discussion of the risks relating to the impacts of the COVID-19 pandemic, see the section titled “ Risk Factors, ” generally, and “ Risk Factors—The impacts and potential impacts of the COVID-19 pandemic continues to create significant uncertainty for our business, financial condition and results of operations ,” specifically, under Part I, Item 1A. Acquisitions On August 21, 2020, we purchased all of the outstanding shares of CartaNA, a privately held company based in Stockholm, Sweden, for $41.8 million, inclusive of $0.6 million of transaction costs and net of cash acquired of $1.5 million. CartaNA is developing In Situ technology, consisting of a suite of proprietary reagents, which aims to enable researchers to visualize spatially resolved RNA expression profiles with sub-cellular resolution throughout fresh frozen or formalin-fixed, paraffin-embedded tissue sections. On October 13, 2020, we purchased all of the outstanding shares of ReadCoor, a privately held company based in Cambridge, Massachusetts, for $407.4 million, inclusive of $1.6 million of transaction costs and net of cash acquired of $9.2 million. The total purchase consideration comprised of $101.4 million in cash and $306.0 million in shares of the Company's common stock, The purchase agreement provided for the Company to issue 1,901,382 shares of the Company’s class A common stock which was based on a contractual value of $250.0 million divided by the ten-day weighted average price of the Company's common stock shortly prior to the acquisition. In determining the total purchase consideration paid for ReadCoor, these shares 72 Table of Contents were valued at $306.0 million based on the fair value of the Company’s class A common stock on the acquisition date. ReadCoor is also developing In Situ technology. Both these acquisitions were accounted for as asset acquisitions. See Note 3 to the consolidated financial statements for further details. On January 8, 2021, we acquired 100% of the outstanding shares of Tetramer Shop ApS, a privately held company based in Copenhagen, Denmark, for $10 million in cash. Tetramer Shop ApS develops and provides reagents for precise monitoring of antigen-specific T cells in research and development. Key business metrics We regularly review a number of operating and financial metrics, including the instrument installed base and consumable pull-through, to evaluate our business, measure our performance, identify trends affecting our business, formulate financial projections and make strategic decisions. We believe that these metrics are representative of our current business; however, we anticipate these may change or may be substituted for additional or different metrics as our business grows and as we introduce new products. Instrument installed base As of December 31, 2020 2019 Instrument installed base 2,412 1,666 Our products are sold to academic, government, biopharmaceutical, biotechnology and other leading institutions around the globe. Our Chromium Controller instrument is user installable and does not require in-person training. Our Chromium Connect instrument requires installation and we offer in-person training for its use. We believe the instrument installed base is one of the indicators of our ability to drive customer adoption of our products. We define the instrument installed base as the cumulative number of Chromium instruments sold since inception. Our quarterly instrument unit volumes can fluctuate due to a number of factors, including the procurement and budgeting cycles of many of our customers, especially government and academic institutions where unused funds may be forfeited or future budgets reduced if purchases are not made by their fiscal year end. Similarly, our biopharmaceutical customers typically have calendar year fiscal years which may result in a disproportionate amount of their purchasing activity occurring during our fourth quarter. We also believe the timing of unit sales has been impacted and will continue to be impacted by the timing of product introductions and transitions which can either accelerate or delay demand of existing and new products depending on the needs of individual researchers to conclude existing studies or to use new and improved product capabilities. Further, the growth of our market in certain geographic regions and our continued efforts to service these regions impact unit volumes quarter to quarter. Finally, our Chromium Connect instrument could create variability in our installed base since Chromium Connect instruments require installation and in-person training prior to being added to our instrument installed base. We therefore believe that an annual representation of our instrument installed base is most appropriate for assessing trends in our business. Chromium consumable pull-through per instrument Year ended December 31, (in thousands) 2020 2019 Chromium consumable pull-through per instrument $ 124 $ 158 Our consumables portfolio includes proprietary microfluidic chips, slides, reagents and other consumables for both our Visium and Chromium solutions. Our Chromium instruments and Chromium consumables are designed to work together exclusively. This Chromium closed-system model generates recurring revenue from each instrument we sell. Our growth in the instrument installed base has been the largest contributor to our growth in consumable sales. In addition, we believe that annual consumable pull-through per instrument is an indicator of our ability to generate future consumable revenue and the rate of customer adoption of our applications. We define consumable pull-through per instrument as the total consumables revenue in the given quarter divided by the average instrument installed base during that quarter. We calculate the average instrument installed base for a given quarter using the instrument installed base as of the last day of the prior quarter and the instrument installed base as of the last day of the given quarter. We calculate the annual consumable pull-through per instrument figure by summing the 73 Table of Contents quarterly pull-through for the quarters in a given year. The figures in the table above represent the annual consumable pull-through per instrument for the years ended December 31, 2020 and 2019. We do not believe the consumable pull-through per instrument in an individual quarter is an effective indicator of the current state of our business trends. Our quarterly consumable pull-through can fluctuate due to a number of factors. In addition to timing of product transitions such as the Next GEM consumable transition, other factors such as the budget and funding cycles of our customers and closures of some of our customers' facilities arising from the continued impact of the COVID-19 pandemic can cause our quarterly consumables pull-through fluctuate quarter to quarter. For example, a significant portion of our current customers are reliant on government funding and research grants. These funds and grants typically expire at year end, resulting in a higher consumable pull-through per instrument in the fourth quarter relative to the first three quarters of the year. Also, during the first half of 2020, as the impact of the global COVID-19 pandemic intensified, we saw a significant reduction in customer activity other than research related to the virus resulting in the vast majority of academic and government labs around the world suspending or severely reducing operations in compliance with stay-at-home, shelter-in-place and similar orders. These closures and reduced operations significantly impacted our business during this period. However, beginning in June 2020, we observed a modest re-opening of labs for general research which continued throughout the second half of 2020 resulting in an uptick in our sales activity during this period. Not all labs are able to operate at full capacity even if open and we may encounter delays before labs are able to fully resume their research and we cannot reliably estimate the extent to which the COVID-19 pandemic will impact our overall demand in the first quarter of 2021 and beyond. Once labs re-open and are able to resume normal levels of research activities, we expect to continue to see increased demand for our products. Finally, as we continue to expand into new markets globally as well as into new industries, our average pull-through could be adversely impacted in a particular period. We therefore believe that an annual, rather than quarterly, representation of our consumable pull-through is most appropriate for assessing trends in our business. Our current customer base includes customers who purchase consumables for use on a shared or centralized instrument. We refer to customers who purchase consumables but do not own an instrument as “halo users.” Halo users, as well as the future introduction of consumables that may not use instruments, such as our Visium solution, or Chromium instruments that are expected to use a greater amount of consumables, such as our Chromium Connect instrument, could reduce the utility of this metric and make it difficult to compare consumable pull-through per instrument metrics over time. Key factors affecting our performance We believe that our financial performance has been and in the foreseeable future will continue to be primarily driven by the following factors. While each of these factors presents significant opportunities for our business, they also pose important challenges that we must successfully address in order to sustain our growth and improve our results of operations. Our ability to successfully address the factors below is subject to various risks and uncertainties, including those described under the heading “ Risk Factors ”. Instrument sales Our financial performance has largely been driven by, and in the future will continue to be impacted by, the rate of sales of our Chromium instruments. Management focuses on instrument sales as an indicator of current business success and a leading indicator of likely future sales of consumables. We expect our instrument sales to continue to grow as we increase penetration in our existing markets and expand into, or offer new features and solutions that appeal to new markets. We plan to grow our instrument sales in the coming years through multiple strategies including expanding our sales efforts globally and continuing to enhance the underlying technology and applications for life sciences research. As part of this strategy and in an effort to increase the rate of sales of our instruments, we increased our sales force by 32% from December 31, 2019 through December 31, 2020, with more than 100 commissionable sales representatives as of December 31, 2020. We regularly solicit feedback from our customers and focus our research and development efforts on enhancing the Chromium Controller instrument and enabling its ability to use additional applications that address their needs, which we believe in turn helps to drive additional sales of our instruments and consumables. We have developed and introduced our Chromium Connect instrument, which is an automated version of our current Chromium Controller instrument. We believe the automated features of the Chromium Connect will increase our addressable market by increasing utilization by biopharmaceutical customers. Our sales process varies considerably depending upon the type of customer to whom we are selling. Our sales process with small laboratories and individual researchers is often short, and in some cases, we receive purchase orders from these customers in under a month. Our sales process with other institutions can be longer with most customers submitting purchase orders within six 74 Table of Contents months. Given the variability of our sales cycle, we have in the past experienced, and likely will in the future experience, fluctuations in our instrument sales on a period-to-period basis. Recurring consumable revenue We regularly assess trends relating to recurring consumable revenue based on our product offerings, our customer base and our understanding of how our customers use our products. As our instrument installed base expands, consumables revenue on an absolute basis is expected to increase and over time should be an increasingly important contributor to our revenue. Although our annual consumable pull-through per instrument declined in 2020 as a result of the impact of COVID-19, we expect it to return to pre-COVID-19 levels of approximately $150,000 per instrument as our customers recover from this pandemic. Our expansion into new markets with less experienced users could adversely impact average pull-through, but we expect the sales of our Visium Spatial Gene Expression solution as well as the release of new products and applications for our Chromium instruments and Visium platform to increase consumable pull-through per instrument and offset these declines. We have reported our Visium product revenue as part of consumable revenue and included it in the average pull-through per instrument calculation. Even though Visium is not processed through a Chromium instrument, we will sell the product primarily to Chromium instrument users and view it as pull-through from a business perspective. Revenue mix and gross margin Our revenue is derived from sales of our instruments, consumables and services. There have been fluctuations in the mix between instruments and consumables and amongst our consumables. Each of our consumables solutions is designed to allow researchers to study a different aspect of biology, such as DNA, RNA, protein or epigenetics, at a resolution and scale that may be impractical or impossible using existing tools. As each of our solutions has been introduced, they have been initially purchased by a small number of early adopters. As these early adopters successfully perform experiments and publish scientific articles using our solutions, the utility of these solutions is more broadly understood and the solutions are then subsequently adopted by the larger research community. The revenue contribution from these and other consumable products has varied and is expected to vary on a quarterly basis due to several factors, including the publication of scientific papers demonstrating the value of the consumables, the availability of grants to fund research, budgetary timing and our introduction of new product features and new consumables offerings. For each of the years ended December 31, 2020 and 2019, our Single Cell Gene Expression consumables, which were introduced in 2016, accounted for the majority of our consumables revenue. For the year ended December 31, 2020, the remaining consumables revenue was substantially comprised of sales of our Single Cell Immune Profiling consumables, our Single Cell ATAC consumables, Visium and Single Cell Multiome ATAC+Gene Expression solution. The mix in variance between these periods was attributable to the introduction of Visium in the fourth quarter of 2019 and Single Cell Multiome ATAC+Gene Expression solution in the third quarter of 2020 which was met with significant initial demand. Revenue contribution from our Single Cell Gene Expression consumables decreased as a percentage of overall consumables revenue while revenue contribution from our Single Cell Immune Profiling, Visium and Single Cell Multiome ATAC+Gene Expression solution consumables increased as a percentage of overall consumables revenue for the year ended December 31, 2020. In 2020, we launched four new products for our customers: (1) Our Targeted Gene Expression solution will allow researchers to target the genes most relevant for their research, validate their hypotheses faster and reduce sequencing costs; (2) Our Single Cell Multiome ATAC+Gene Expression solution is designed to allow researchers to read both gene expression and epigenetic programming in the same cells across thousands to tens of thousands of cells in a single experiment; (3) Our Visium Spatial Gene Expression solution with Immunofluorescence allows whole transcriptome spatial analysis and protein detection in the same tissue section; and (4) A new version of our Single Cell Immune Profiling solution offers increased sensitivity, reduced sequencing costs and access to rare gene signatures. In addition, our margins are higher for those instruments and consumables that we sell directly to customers as compared to those that we sell through distributors. While we expect the mix of direct sales as compared to sales through distributors to remain relatively constant in the near term, we are currently evaluating increasing our direct sales capabilities in certain geographies. In the near term, we expect product mix changes between established products and lower margin new products, and investment in the expansion of manufacturing, warehousing and product distribution facilities to have the greatest impact on our margins. We expect accrued royalties related to the Bio-Rad litigation as described below under “Part I, Item 3–Legal Proceedings,” will be lower as compared to accrued royalties recognized in prior periods and which will have a modest favorable impact on our margins. We expect this favorable impact to be offset, by lower margin newly introduced products and expenses related to our planned increases in manufacturing and distribution capacity in our Pleasanton, California headquarters. In addition 75 Table of Contents to the impact of competing products entering the market, the future margin profiles of our instruments and consumables will depend upon the outcome of such litigation, any royalties we are required to pay and the royalty rates and products to which such royalties apply. Continued investment in growth Our significant revenue growth has been driven by rapid innovation towards novel solutions that command price premiums and quick adoption of our solutions by our customer base. In 2020, we introduced four new products and in 2019, we introduced four new products or updates to existing products. We intend to continue to make focused investments to increase revenue and scale operations to support the growth of our business and therefore expect expenses in this area to increase. We have invested, and will continue to invest, significantly in our manufacturing capabilities and commercial infrastructure. The expansion, in 2020, to our new Pleasanton global headquarters and research and development center, which we completed in 2019 will help us achieve these goals in the near term by providing additional manufacturing, research and development and general office space. We plan to further invest in research and development as we hire employees with the necessary scientific and technical backgrounds to enhance our existing products and help us bring new products to market, and we expect to incur additional research and development expenses and higher stock-based compensation expenses as a result. We also plan to invest in sales and marketing activities, and we expect to incur additional general and administrative expenses and to have higher stock-based compensation expenses as we support our growth. As cost of revenue, operating expenses and capital expenditures fluctuate over time, we may experience short-term, negative impacts to our results of operations and cash flows, but we are undertaking such investments in the belief that they will contribute to long-term growth. Acquisitions of key technologies We have made, and intend to continue to make, investments that meet management’s criteria to expand or add key technologies that we believe will facilitate the commercialization of new products in the future. Such investments could take the form of an asset acquisition, the acquisition of a business or the exclusive or non-exclusive license of patented technology. Any such acquisitions we make may affect our future financial results. For example, our 2020 acquisitions of CartaNA and ReadCoor were largely comprised of purchases of intellectual property which were expensed as in-process research and development in the quarter during which such acquisitions occurred. While we have not previously entered into material joint-development, partnership or joint- venture agreements, we may in the future decide to do so and any such arrangements may limit our rights and the commercial opportunities of any jointly developed technology. Components of Results of Operations Revenue We generate virtually all of our revenue through the sale of our instruments and consumables to customers. We also generate a small portion of our revenue from instrument service agreements which relate to extended warranties. Our revenue is subject to fluctuation based on the foreign currency in which our products are sold, principally for sales denominated in the euro. Revenue from consumables is largely driven by the size of our instrument installed base and the volume of consumables sold per instrument. Beginning in the fourth quarter of 2019, revenue from consumables also includes sales of our Visium products, which do not require the use of an instrument. Our instruments and consumables are generally sold without the right of return. Revenue is recognized as instruments and consumables are shipped. Revenue is recognized net of any sales incentive, distributor rebates and commissions and any taxes collected from customers. Some of our recently announced products, such as our Chromium Connect instrument, may result in our recognizing revenue with respect to such products upon installation rather than upon shipment. Instrument service agreements are typically entered into for a one-year term, with the coverage period beginning after the expiration of the standard one-year warranty period. Revenue from the sale of instrument service agreements are recognized ratably over the coverage period. Cost of revenue, gross profit and gross margin Cost of revenue. Cost of revenue primarily consists of manufacturing costs incurred in the production process including personnel and related costs, costs of component materials, manufacturing overhead, packaging and delivery costs and allocated costs including facilities and information technology. We plan to hire additional employees as well as expand our manufacturing, warehousing and product distribution facilities, including increasing manufacturing automation to support our growth. In addition, cost of revenue includes royalty costs for licensed technologies included in our products, warranty costs, provisions for slow-moving and obsolete inventory and personnel and related costs and component costs incurred in connection with our obligations under our instrument service agreements. Beginning with the three months ended December 31, 2018, we began recording royalty 76 Table of Contents accruals relating to sales of our GEM microfluidic chips and associated consumables, which are the subject of the Bio-Rad litigation discussed in Item I, Part 3 above, as cost of revenue. Gross profit/gross margin. Gross profit is calculated as revenue less cost of revenue. Gross margin is gross profit expressed as a percentage of revenue. Our gross profit and gross margins in future periods are expected to fluctuate from quarter to quarter and will depend on a variety of factors, including: market conditions that may impact our pricing; sales mix changes among consumables, instruments and services; product mix changes between established products and new products; excess and obsolete inventories; royalties; our cost structure for manufacturing operations relative to volume; and product warranty obligations. We currently anticipate that we will experience an increase in absolute dollars of both revenue and cost of revenue as we grow our business. Additionally, we expect gross margins to be favorably impacted in 2021 as a result of lower accrued royalties related to the Bio-Rad litigation due to the completed transition of our customers to our Next GEM microfluidic chips and associated consumables. We expect this favorable impact to be offset, at least partially, by expenses related to our planned increases in manufacturing and distribution capacity in our Pleasanton, California headquarters as well as in certain locations outside the United States and higher expenses from newly introduced products. As noted above, since Next GEM’s introduction in May 2019, we experienced improved gross profit for the year ended December 31, 2020, as we sold more Next GEM microfluidic chips and associated consumables because these products are not subject to the royalty payments to Bio-Rad. Consumables subject to the 15% royalty accrual related to the Bio-Rad litigation comprised a lower percentage of our consumable sales for year ended December 31, 2020. We expect our gross margins for 2021 to be favorably impacted by the completed transition of our customers to our Next GEM microfluidic chips and associated consumables since these microfluidic chips and associated consumables are not subject to the 15% royalty accrual (See “Part I, Item 3 – Legal Proceedings”) and have similar selling prices to the GEM products that they are replacing. We expect this favorable impact to be offset by lower margin newly introduced products and expenses related to our planned increases in manufacturing and distribution capacity in our Pleasanton, California headquarters. Further developments in our litigation with Bio-Rad could have a material impact on our gross margins, both in the near term and beyond. Beginning on August 28, 2019, our cost of revenue no longer includes a 15% royalty accrual related to the Bio-Rad litigation on our instruments, since all Chromium instruments that have been sold since that date operate exclusively with our Next GEM solutions. Because the Next GEM product selling prices and product manufacturing costs are similar to the GEM products they are replacing, we do not anticipate that Next GEM selling prices and product manufacturing costs will have a significant effect on our gross margins. Operating expenses Research and development. Research and development expense primarily consists of personnel and related costs, independent contractor costs, laboratory supplies, equipment maintenance prototype and materials expenses, amortization of developed technology and intangibles and allocated costs including facilities and information technology. We plan to continue to invest significantly in our research and development efforts, including hiring additional employees, to enhance existing products and develop new products. In addition to making investments in next generation products for single cell and spatial analysis, our ReadCoor and Cartana acquisitions will allow us to begin development of our In Situ platform. We also expect allocated facilities and information technology costs to increase in future periods as a result of higher costs associated with the expansion to our global headquarters and research and development center in Pleasanton, California. As a result of these and other initiatives, we expect research and development expense will increase in absolute dollars in future periods and vary from period to period as a percentage of revenue. In-process research and development. In-process research and development consists of costs incurred to acquire intellectual property for research and development. We expect these costs to be recognized only in periods during which we complete an acquisition of assets comprised in whole or part of intellectual property for research and development. While we periodically evaluate acquisitions of this nature from time to time, we have no definitive agreements currently in place to acquire additional intellectual property for research and development. Selling, general and administrative. Selling, general and administrative expense primarily consists of costs related to the selling and marketing of our products, including sales incentives and advertising expenses and costs associated with our finance, accounting, legal (excluding accrued contingent liabilities), human resources and administrative personnel. Related costs associated with these functions, such as attorney and accounting fees, recruiting services, administrative services, insurance, public relations and communication activities, marketing programs and trade show appearances, travel, customer service costs, 77 Table of Contents costs associated with COVID-19 screening, safety equipment purchases and cleaning and allocated costs including facilities and information technology, are also included in selling, general and administrative expenses. We expect to incur additional selling, general and administrative expenses due to continued investment in our sales, marketing and customer service efforts to support the anticipated growth of our business. We also expect increased infrastructure costs, as well as increased costs for accounting, human resources, legal including litigation-related fees and contingency payments, insurance and investor relations. We expect to continue our hiring, in the United States as well as internationally, in all these areas in line with the continued growth of our business. We also expect allocated facilities costs to increase in future periods as a result of higher costs associated with the expansion to our global headquarters and research and development center in Pleasanton, California. As a result of these and other initiatives, we expect selling, general and administrative expenses to vary from period to period as a percentage of revenue and increase in absolute dollars in future periods. We expect our stock-based compensation expense allocated to cost of revenue, research and development expenses and selling, general and administrative expenses to increase in absolute dollars. Accrued contingent liabilities Accrued contingent liabilities is comprised of changes in our litigation reserve, primarily relating to our litigation with Bio-Rad discussed above under “Part I, Item 3–Legal Proceedings.” The litigation reserve currently consists of accruals we make for our estimated losses in these pending legal proceedings. We record a liability when it is probable that a loss has been incurred and the amount is reasonably estimable, the determination of which requires significant judgment. Changes in the reserve are made as we change our estimates or make payments in damages or settlement. In the year ended December 31, 2018, we recorded a $30.6 million charge to reflect our best estimate of loss in resolving our ongoing disputes. In the year ended December 31, 2019, we recorded an additional $1.5 million charge related to additional pre- and post- judgment interest. Beginning in the fourth quarter of 2018, we began recording an accrual for estimated royalties as cost of revenue. For the years ended December 31, 2019 and 2018, we accrued royalties of $29.2 million and $7.4 million, respectively. As of December 31, 2019 and 2018, the total amount accrued was $68.7 million and $38.0 million, respectively, comprising of the original charge, the estimated royalties and the interest charges. In the year ended December 31, 2020, we recorded an additional $1.3 million charge related to additional post- judgment interest and $9.5 million for accrued royalties. Should we ultimately obtain a more favorable outcome in this litigation any reversal of the accrual related to the litigation would be reflected as a change to this item in the period in which it occurs. Any reversal for amounts recorded as estimated royalty accruals would be credited to our cost of revenue in such period. Interest income Interest income consists of interest earned on our cash and cash equivalents which are invested in bank deposit and in money market funds. Interest expense Interest expense consists primarily of interest on our accrued license fees and outstanding debt which was fully prepaid on February 20, 2020. See Note 5 to the consolidated financial statements for further details. Other income (expense), net Other income (expense), net primarily consists of realized and unrealized gains and losses related to foreign exchange rate remeasurements recorded from consolidating our foreign subsidiaries each period-end. Provision for income taxes Our provision for income taxes consists primarily of foreign taxes and state taxes in the United States. As we expand the scale and scope of our international business activities, any changes in the United States and foreign taxation of such activities may increase our overall provision for income taxes in the future. As of December 31, 2020, we had federal net operating loss carryforwards (“NOLs”) of approximately $373.7 million and federal tax credit carryforwards of approximately $27.6 million. Our federal NOLs generated after January 1, 2018, which total $258.8 million, are carried forward indefinitely, while all of our other federal NOLs and tax credit carryforwards expire beginning in 2032. As of December 31, 2020, we had state NOLs of approximately $188.5 million, which expire beginning in 2030. In 78 Table of Contents addition, we had state tax credit carryforwards of approximately $20.9 million, which do not expire. Our ability to utilize such carryforwards for income tax savings is subject to certain conditions and may be subject to certain limitations in the future due to ownership changes. As such, there can be no assurance that we will be able to utilize such carryforwards. We have experienced a history of losses and a lack of future taxable income would adversely affect our ability to utilize these NOLs and research and development credit carryforwards. We currently maintain a full valuation allowance against these tax assets. Under Sections 382 and 383 of the Internal Revenue Code of 1986, as amended (the “Code”), if a corporation undergoes an “ownership change,” the corporation’s ability to use its pre-change net operating loss carryforwards and other pre-change attributes, such as research tax credits, to offset its post-change income may be limited. In general, an “ownership change” will occur if there is a cumulative change in our ownership by “5% shareholders” that exceeds 50 percentage points over a rolling three-year period. Similar rules may apply under state tax laws. We completed a study through December 31, 2020 to determine whether an ownership change had occurred under Section 382 or 383 of the Code, and we determined that an ownership change occurred in 2013. As a result, our net operating losses generated through November 1, 2013 may be subject to limitation under Section 382 of the Code. The amount of pre-change loss carryforwards which may be subject to this limitation is $4.8 million. In addition, certain attributes are subject to annual limitations as a result of our acquisition of ReadCoor, which constitutes an ownership change. Such limitations may result in expiration of a portion of the carryforwards before utilization. Our ability to use net operating loss carryforwards, research and development credit carryforwards and other tax attributes to reduce future taxable income and liabilities may be further limited as a result of future changes in stock ownership. As a result, if we earn net taxable income, our ability to use our pre-change net operating loss carryforwards or other pre-change tax attributes to offset United States federal and state taxable income may still be subject to limitations, which could potentially result in increased future tax liability to us. Results of Operations In this section, we discuss the results of our operations for the year ended December 31, 2020 compared to the year ended December 31, 2019. For a discussion of the year ended December 31, 2019 compared to the year ended December 31, 2018, please refer to Part II, 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, 2019. Year Ended December 31, (in thousands) 2020 2019 2018 Revenue $ 298,845 $ 245,893 $ 146,313 Cost of revenue(1) 58,468 61,033 28,661 Gross profit 240,377 184,860 117,652 Operating expenses: Research and development(1) 123,375 83,097 47,537 In-process research and development 447,548 — 62,363 Selling, general and administrative(1) 202,326 130,834 87,936 Accrued contingent liabilities 1,270 1,502 30,580 Total operating expenses 774,519 215,433 228,416 Loss from operations (534,142) (30,573) (110,764) Other income (expense): Interest income 1,532 2,805 1,024 Interest expense (1,682) (3,079) (2,409) Other income (expense), net 1,337 (186) (249) Loss on extinguishment of debt (1,521) — — Total other expense (334) (460) (1,634) Loss before provision for income taxes (534,476) (31,033) (112,398) Provision for income taxes 8,255 218 87 Net loss $ (542,731) $ (31,251) $ (112,485) (1) Includes stock-based compensation expense as follows: 79 Table of Contents Year Ended December 31, (in thousands) 2020 2019 2018 Cost of revenue $ 1,551 $ 325 $ 85 Research and development 19,623 5,721 1,030 Selling, general and administrative 27,452 7,287 1,543 Total stock-based compensation expense $ 48,626 $ 13,333 $ 2,658 The following table sets forth our consolidated results of operations data as a percentage of revenue for the periods presented. Year Ended December 31, 2020 2019 2018 Revenue 100.0 % 100.0 % 100.0 % Cost of revenue(1) 19.6 24.8 19.6 Gross profit 80.4 75.2 80.4 Operating expenses: Research and development(1) 41.3 33.8 32.5 In-process research and development 149.7 — 42.6 Selling, general and administrative(1) 67.7 53.2 60.1 Accrued contingent liabilities 0.4 0.6 20.9 Total operating expenses 259.1 87.6 156.1 Loss from operations (178.7) (12.4) (75.7) Other income (expense): Interest income 0.6 1.2 0.7 Interest expense (0.6) (1.3) (1.6) Other income (expense), net 0.4 (0.1) (0.2) Loss on extinguishment of debt (0.5) — — Total other expense (0.1) (0.2) (1.1) Loss before provision for income taxes (178.8) (12.6) (76.8) Provision for income taxes 2.8 0.1 0.1 Net loss (181.6) % (12.7) % (76.9) % (1) Includes stock-based compensation expense as follows: Year Ended December 31, (in thousands) 2020 2019 2018 Cost of revenue 0.5 % 0.1 % 0.1 % Research and development 6.6 2.3 0.7 Selling, general and administrative 9.2 3.0 1.0 Total stock-based compensation expense 16.3 % 5.4 % 1.8 % Revenue Year Ended December 31, Change (dollars in thousands) 2020 2019 $ % Revenue $ 298,845 $ 245,893 $ 52,952 22 % Revenue increased $53.0 million, or 22%, for the year ended December 31, 2020 as compared to year ended December 31, 2019. The increase was driven primarily by an increase in consumables and instruments revenue. Consumables revenue increased $45.8 million, or 22%, to $252.7 million for the year ended December 31, 2020 as compared to the year ended December 31, 2019. The increase in consumables revenue was driven by the growth in the instrument installed base partially offset by decreased 80 Table of Contents demand due to closures of some of our customers' facilities arising from the continued impact of the COVID-19 pandemic. We experienced continued increases in revenue from our Single Cell Immune Profiling, Single Cell Multiome ATAC+Gene Expression, Single Cell ATAC, and Visium Spatial Gene Expression consumable products. Instrument revenue increased $5.2 million, or 15%, to $40.1 million for the year ended December 31, 2020 as compared to the year ended December 31, 2019 due to higher volume of instruments sold, partially offset by lower average selling prices. The number of instruments sold during the year ended December 31, 2020 was 746 units, an increase of 16% as compared to the prior year, resulting in an ending installed base of 2,412 instruments. Revenue for the year ended December 31, 2020 include sales of our newly introduced Chromium Connect which have substantially higher selling prices. We largely rely on research activities in both academic institutions and government laboratories for our revenue. During the first half of 2020, as the impact of the global COVID-19 pandemic intensified, we saw a significant reduction in customer activity other than research related to the virus resulting in the vast majority of academic and government labs around the world suspending or severely reducing operations in compliance with stay-at-home, shelter-in-place and similar orders. These closures and reduced operations significantly impacted our business during this period. However, beginning in June 2020, we observed a modest re-opening of labs for general research which continued throughout the second half of 2020 resulting in an uptick in our sales activity during this period. As of December 31, 2020, we estimated that approximately 93% of our customer labs were open for general research in some capacity. Not all labs are able to operate at full capacity even if open and we may encounter delays before labs are able to fully resume their research and we cannot reliably estimate the extent to which the COVID-19 pandemic will impact our overall demand in the first quarter of 2021 and beyond. Once labs re-open and are able to resume normal levels of research activities, we expect to continue to see increased demand for our products. Cost of revenue, Gross Profit and Gross Margin Year Ended December 31, Change (dollars in thousands) 2020 2019 $ % Cost of revenue $ 58,468 $ 61,033 $ (2,565) (4) % Gross profit $ 240,377 $ 184,860 $ 55,517 30 % Gross margin 80 % 75 % Cost of revenue decreased $2.6 million, or 4%, for the year ended December 31, 2020 as compared to the year ended December 31, 2019. The decrease was primarily due to lower accrued royalties of $19.6 million related to the 2015 Delaware Action, partially offset by an increase of $9.2 million from increased sales including newly introduced products, $3.5 million of costs related to our development of a second manufacturing facility, $1.3 million of freight and distribution costs, $1.3 million of license fee, inventory scrap and excess and obsolete inventory charges of $0.9 million and idle manufacturing capacity charges of $0.8 million. Gross profit increased $55.5 million, or 30% primarily due to higher revenue and lower accrued royalties related to the 2015 Delaware Action. Gross margin percentage increased by 5 points for the year ended December 31, 2020 as compared to the year ended December 31, 2019 due to the reasons described above and below. During the first half of 2020, the vast majority of academic and government labs around the world suspended or severely reduced operations in compliance with stay-at-home, shelter-in-place and similar orders resulting in a decrease in overall demand during this period and also resulting in our production facilities running at less than normal capacity which negatively impacted our gross margins. While we experienced higher demand for our products during the second half of 2020 due to partial reopening of our customer's businesses, until and unless demand for our solutions normalizes, our gross profits and gross margins will be negatively impacted. While we cannot reliably estimate the extent to which the COVID-19 pandemic will impact our overall gross profit and gross margins in the first quarter of 2021 and beyond, we plan to continue to invest in our manufacturing facilities and production efforts and manage our supply chain to ensure the delivery of products to our customers. 81 Table of Contents Operating Expenses Year Ended December 31, Change (dollars in thousands) 2020 2019 $ % Research and development $ 123,375 $ 83,097 $ 40,278 48 % In-process research and development 447,548 — 447,548 100 % Selling, general and administrative 202,326 130,834 71,492 55 % Accrued contingent liabilities 1,270 1,502 (232) (15) % Total operating expenses $ 774,519 $ 215,433 $ 559,086 260 % Research and development expense increased $40.3 million, or 48%, for the year ended December 31, 2020 as compared to the year ended December 31, 2019. The increase was primarily driven by increased personnel expenses of $28.3 million including $13.9 million in stock-based compensation expense, laboratory materials, supplies and expensed equipment of $6.1 million used to support our research and development efforts, $4.6 million of higher allocated costs for facilities and information technology to support the general expansion of our operations and $0.9 million of consulting and professional services for product development. In-process research and development expense for the year ended December 31, 2020 relates to intellectual property we purchased in connection with our acquisition of ReadCoor and CartaNA. In connection with these asset acquisitions, we recognized in-process research and development intangible assets of $406.9 million and $40.6 million, respectively, which did not have alternative future use and therefore was recognized as an expense during this period. See Note 3 to the consolidated financial statements for further details. There were no similar purchases in the year ended December 31, 2019. During the first half of 2020, the COVID-19 pandemic resulted in a decrease in certain research laboratory activities, and as a result we incurred lower materials spending during this period. While our research and development activities have increased during the second half of 2020 relative to the height of the COVID-19 shutdown earlier in 2020, we cannot reliably estimate the extent to which the COVID-19 pandemic will impact our overall research activities or expenditures in the first quarter of 2021 and beyond. Selling, general and administrative expenses increased $71.5 million, or 55%, for the year ended December 31, 2020 as compared to the year ended December 31, 2019. The increase in expenses was primarily driven by increased personnel expenses of $39.3 million, including $20.2 million in stock-based compensation expense, outside legal expenses of $23.7 million, $2.7 million of higher allocated costs for facilities and information technology to support the general expansion of our operations, $2.6 million of costs related to COVID-19 screening, safety equipment purchases and cleaning, $2.0 million of professional services and $1.5 million of insurance costs. Accrued contingent liabilities decreased by $0.2 million, or 15%, for the year ended December 31, 2020 as compared to the year ended December 31, 2019. The decrease is due to the decrease in expenses relating to the litigation with Bio-Rad. See Note 7 to the consolidated financial statements for further details. Other Income (Expense), Net Year Ended December 31, Change (dollars in thousands) 2020 2019 $ % Interest income $ 1,532 $ 2,805 $ (1,273) (45) % Interest expense (1,682) (3,079) 1,397 (45) % Other income (expense), net 1,337 (186) 1,523 N/M Loss on extinguishment of debt (1,521) — (1,521) N/M Total other expense $ (334) $ (460) $ 126 (27) % N/M: result not meaningful. Interest income decreased by $1.3 million, or 45%, for the year ended December 31, 2020 as compared to the year ended December 31, 2019. While we earned interest on the net proceeds from the IPO completed in September 2019 as well as from the follow-on public offering completed in September 2020, interest income was lower primarily due to lower interest rates in 2020 as compared to the prior year. 82 Table of Contents Interest expense decreased by $1.4 million, or 45%, for the year ended December 31, 2020 as compared to the year ended December 31, 2019. The decrease was driven primarily by the voluntary prepayment of our term loan on February 20, 2020 and lower interest rates partially offset by additional interest expense recognized on accrued license fees. Other income (expense) is comprised of realized and unrealized losses from foreign currency rate measurement fluctuations for the year December 31, 2020 as compared to the year ended December 31, 2019. Loss on extinguishment of debt was $1.5 million for the year ended December 31, 2020. In February 2020, we prepaid the remaining balance on our term loan, an end-of-term payment and prepayment fees. Provision for Income Taxes The Company’s provision for income taxes was $8.3 million and $0.2 million, respectively, for the year ended December 31, 2020 as compared to the year ended December 31, 2019. The provision for income taxes consists primarily of foreign taxes and the increase in tax provision was attributable to the Company's acquisition of CartaNA. Deferred tax assets generated from the Company’s domestic net operating losses have been fully reserved, as the Company believes it is not more likely than not that the benefit will be realized. On March 27, 2020, the Coronavirus Aid, Relief and Economic Security Act (the “CARES Act”) was signed into law. The CARES Act includes provisions relating to net operating loss carryback periods, alternative minimum tax credit refunds, modifications to the net interest deduction limitations and technical corrections to tax depreciation methods for qualified improvement property. These provisions are not expected to have a material impact on the Company’s consolidated financial statements. Liquidity and Capital Resources As of December 31, 2020, we had approximately $663.6 million in cash and cash equivalents which were primarily held in U.S. bank deposit accounts and money market funds, $51.2 million in accounts receivable and an accumulated deficit of $805.1 million. Our cash and cash equivalents as of December 31, 2020 include net proceeds of $482.3 million after deducting offering costs, underwriting discounts and commissions arising from the sale of 4,600,000 shares of the Company's Class A common stock on September 10, 2020. Restricted cash of $16.0 million, classified within current assets in our consolidated balance sheets, serves as collateral for a bond and royalties in connection with the Bio-Rad litigation. Restricted cash of $8.5 million, classified within noncurrent assets in our consolidated balance sheets, serves as collateral for outstanding letters of credit for facilities. We have generated negative cumulative cash flows from operations since inception through the year ended December 31, 2020, and we have generated losses from operations since inception as reflected in our accumulated deficit of $805.1 million. We expect to continue to incur operating losses for the foreseeable future due to decreased revenue arising from closures of our customers' facilities as a result of the COVID-19 pandemic and investments we intend to make and as a result we may require additional capital resources to execute strategic initiatives to grow our business. On October 13, 2020, we completed our acquisition of ReadCoor Inc. for a total consideration of $407.4 million, inclusive of $1.6 million of transaction costs and net of cash acquired of $9.2 million. The total purchase consideration comprised of $101.4 million in cash and $306.0 million in shares of the Company's common stock. See Note 3 to the consolidated financial statements for further details. In August 2020, the Federal Circuit issued its opinion in our appeal of the 2015 Delaware Action. The Federal Circuit (1) affirmed the judgment of the lower Court with respect to infringement of the '083 patent by our legacy GEM products and (2) vacated the judgment with respect to infringement of the '193 and '407 patents, which are remanded to the lower Court for a new trial on infringement. The Federal Circuit affirmed the damage award including the 15% royalty with respect to our legacy GEM products. The Federal Circuit vacated the injunction with respect to our Single Cell CNV and Linked-Read products but affirmed the injunction with respect to our other legacy GEM products. In October 2020, we filed a petition for en banc rehearing with the Federal Circuit. The Federal Circuit denied our petition for en banc rehearing on November 4, 2020. We paid the $34.5 million judgment, plus approximately $0.8 million in post-judgment interest, to Bio-Rad in December 2020. The case was remanded to the Delaware Court for a determination of post-judgment royalties or other amounts, which we expect to be made in the first half of 2021. We have accrued $44.2 million as of December 31, 2020 related to this matter which is classified within current liabilities in our consolidated balance sheets as of this date. The restricted cash of $16.0 million would be used to partially satisfy this payment. We currently anticipate making aggregate capital expenditures of between approximately $90 million and $100 million during the next 12 months, which includes the $29.4 million real estate acquisition completed in January 2021 (see Note 7, “Purchase of Land” in our Notes to consolidated financial statements for further details), the construction costs of our global 83 Table of Contents expansion and equipment to be used for manufacturing and research and development. Our future capital requirements will depend on many factors including our revenue growth rate, research and development efforts, the impacts of the COVID-19 pandemic, the timing and extent of additional capital expenditures to invest in existing and new facilities, the expansion of sales and marketing and international activities, and the introduction of new products. We take a long term view in growing and scaling our business and we regularly review acquisition and investment opportunities, and we may in the future enter into arrangements to acquire or invest in businesses, real estate, services and technologies, including intellectual property rights, and any such acquisitions or investments could significantly increase our capital needs. We are continuing to review opportunities that meet our long-term growth objectives. We believe that our existing cash and cash equivalents and cash generated from sales of our products will be sufficient to meet our anticipated cash needs for at least the next 12 months, and this assessment of our liquidity position is informed by our evaluation of a wide range of COVID-19 pandemic recovery scenarios. However, our liquidity assumptions may prove to be incorrect, and we could exhaust our available financial resources sooner than we currently expect. We intend to continue to evaluate market conditions and may in the future pursue various funding alternatives to further enhance our financial position and to help fund our strategic initiatives. In addition, should prevailing economic, financial, business or other factors adversely affect our ability to meet our operating cash requirements, we could be required to obtain funding though traditional or alternative sources of financing. We cannot be certain that additional funds would be available to us on favorable terms when required, or at all. The COVID-19 pandemic has negatively impacted the global economy, resulted in the closure of many of our customers’ facilities, disrupted global supply chains and created significant volatility and disruption of financial markets. While certain of our customers' labs began to re-open in June 2020 and continued to re-open during the second half of 2020, many of those labs are not yet fully operational and an extended period of economic disruption and closure, on-going limitations on operations at customer facilities or re-closure of our customers’ labs could materially affect our business, results of operations, financial condition and access to sources of liquidity. We will continue to monitor the development and control of the COVID-19 pandemic and we believe there will be an increase in business activity upon the loosening of pandemic-related restrictions, including a resurgence in activity levels at laboratories which were temporarily closed, barring a renewed increase in COVID-19 cases which may lead to further business closures. Although we are currently uncertain as to when this resurgence will occur, we intend to invest in research and development activities and other initiatives while the COVID-19 pandemic is brought under control including accelerated investments in product development and intellectual property to launch new products and continue improving existing 10x solutions. Additionally, we plan to continue to build our commercial organization across key geographies around the world and invest in capabilities to address the interest we are seeing from the pharmaceutical and translational markets. Sources of liquidity Since our inception, we have financed our operations and capital expenditures primarily through sales of convertible preferred stock and common stock, revenue from sales and issuances of debt. In September 2019, we completed our IPO for aggregate proceeds of $410.8 million, net of offering costs, underwriter discounts and commissions of $37.7 million. In September 2020, we completed our follow-on public offering for aggregate proceeds of $482.3 million, after deducting offering costs, underwriting discounts and commissions of $23.8 million. Silicon Valley Bank Loan and Security Agreement We were a party to the Loan and Security Agreement, under which (i) borrowings under the term loan were prepaid on February 20, 2020 and (ii) the revolving line of credit was terminated, at our election, on June 18, 2020 and which, prior to its termination, provided us with a revolving line of credit of up to $25.0 million through December 2022. The amount available on the revolving line of credit was based on 80% of eligible receivables and was subject to a borrowing base calculation. Principal amounts outstanding under the revolving line of credit accrued interest at a floating per annum rate equal to the greater of The Wall Street Journal prime rate plus 0.25% or 4.5% and were repayable monthly. Additionally, the revolving line of credit had a nonrefundable annual commitment fee of $62.5 thousand payable on each anniversary date. Upon termination of the revolving line of credit and the Loan and Security Agreement on June 18, 2020, we incurred termination fees of $0.3 million. We terminated the Loan and Security Agreement, which we entered into while we were a private company with more limited access to financing alternatives, as it was not in line with our current business strategy. As of June 18, 2020 and December 31, 2019, there were no balances outstanding under the revolving line of credit and we were in compliance with all covenants under the Loan and Security Agreement through its termination on June 18, 2020. 84 Table of Contents Cash flow summary The following table summarizes our cash flows for the periods indicated: Year Ended December 31, 2020 2019 2018 (in thousands) Net cash (used in) provided by: Operating activities $ (217,898) $ 34,627 $ (76,409) Investing activities (38,394) (42,767) (6,709) Financing activities 468,906 414,590 105,367 Effect of exchange rates on changes in cash, cash equivalents, and restricted cash (463) (45) (18) Net increase in cash, cash equivalents, and restricted cash $ 212,151 $ 406,405 $ 22,231 Operating activities The net cash used in operating activities of $217.9 million for the year ended December 31, 2020 was due primarily to a net loss of $542.7 million, net cash outflow from changes in operating assets and liabilities of $50.4 million, partially offset by adjustments for Class A common stock issued for in-process research and development related to the ReadCoor asset acquisition of $306.0 million, stock-based compensation expense of $48.6 million, depreciation and amortization of $14.0 million, amortization of leased right-of-use assets of $5.0 million and loss on extinguishment of debt of $1.5 million. The net cash outflow from operating assets and liabilities was primarily due to a decrease in accrued contingent liabilities of $24.5 million as a result of a payment of $34.5 million in December 2020 relating to the Bio-Rad judgement (see Note 7 for details), an increase in accounts receivable of $17.8 million due to timing of collections, an increase in inventory of $14.6 million due to the timing of inventory purchases including advance purchases of inventory due to anticipated demand, a decrease in other noncurrent liabilities of $3.8 million, an increase in prepaid expenses and other current assets of $5.3 million, a decrease of $4.8 million in payment of operating lease expenses, an increase in other assets of $2.7 million and a decrease in accounts payable of $7.8 million due to timing of vendor payments. The net cash outflow from operating assets and liabilities was partially offset by an increase in accrued expenses and other current liabilities of $25.9 million consistent with the growth of our business and an increase in accrued compensation and other related benefits of $2.9 million. The net cash provided by operating activities of $34.6 million in the year ended December 31, 2019 was due primarily to a net loss of $31.3 million, net cash inflow from changes in operating assets and liabilities of $44.8 million, and adjustments for stock-based compensation expense of $13.3 million and depreciation and amortization of $7.1 million. The net cash inflow from operating assets and liabilities was primarily due to an increase in accrued contingent liabilities of $30.7 million, an increase in noncurrent deferred rent of $12.7 million, an increase in accrued expenses and other current liabilities of $5.8 million, an increase in accrued compensation and other related benefits of $5.3 million, and an increase in accounts payable of $4.9 million, partially offset by an increase in inventory of $6.7 million, an increase in accounts receivable of $5.3 million and an increase in prepaid expenses and other current assets of $3.5 million. The net cash used in operating activities of $76.4 million in the year ended December 31, 2018 was due primarily to a net loss of $112.5 million with adjustments for depreciation and amortization of $3.9 million and stock-based compensation expense of $2.7 million and an increase from the net change in operating assets and liabilities of $28.0 million. The inflow from operating assets and liabilities was primarily due to the establishment of an accrual for contingent liabilities of $38.0 million, an increase in noncurrent deferred rent of $3.3 million, an increase in accounts payable of $2.6 million, an increase in accrued compensation and other related benefits of $2.6 million, an increase in accrued expenses and other current liabilities of $1.7 million and an increase in deferred revenue of $1.7 million, partially offset by an increase in accounts receivable of $14.7 million, an increase in inventory of $3.7 million and an increase in prepaid expenses and other current assets of $2.4 million. Investing activities The net cash used in investing activities of $38.4 million in the year ended December 31, 2020 was due to purchases of property and equipment of $36.7 million and purchases of intangible assets of $1.7 million. The net cash used in investing activities of $42.8 million in the year ended December 31, 2019 was due to purchases of property and equipment of $42.7 million. 85 Table of Contents The net cash used in investing activities of $6.7 million in the year ended December 31, 2018 was due to purchases of property and equipment of $6.3 million and the purchase of intangible assets of $0.4 million. Financing activities The net cash provided by financing activities of $468.9 million in the year ended December 31, 2020 was primarily from proceeds of $482.3 million from the issuance of Class A common stock after deducting offering costs, underwriting discounts and commissions, and proceeds of $23.7 million from the issuance of common stock from the exercise of stock options and employee stock purchase plan purchases, partially offset by the use of $31.3 million in connection with loan principal payments including the early repayment of the term loan under the Loan and Security Agreement (including fees in connection with the early repayment of the term loan) and payments on financing arrangements of $5.8 million. The net cash provided by financing activities of $414.6 million in the year ended December 31, 2019 was primarily from proceeds of $410.8 million from issuance of Class A common stock in our IPO, net of issuance costs, and proceeds of $3.8 from the issuance of common stock from the exercise of stock options. The net cash provided by financing activities of $105.4 million in the year ended December 31, 2018 was primarily from proceeds from the issuance of convertible preferred stock, net of issuance costs, of $84.8 million, net proceeds from additional borrowings of $19.5 million, and proceeds of $1.8 million from the issuance of common stock from the exercise of stock options, partially offset by payments on debt obligations of $0.7 million. Concentrations of credit risk As of December 31, 2020 and 2019, no single customer represented 10% or more of our accounts receivable balance. There was no single customer, including distributors, that individually exceeded 10% of our revenue during the years ended December 31, 2020, 2019 and 2018. Critical Accounting Policies and Estimates Our consolidated financial statements and the related notes thereto included elsewhere in this Annual Report are prepared in accordance with GAAP. The preparation of consolidated financial statements also requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, costs and expenses and related disclosures. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. Actual results could differ significantly from our estimates. To the extent that there are differences between our estimates and actual results, our future financial statement presentation, financial condition, results of operations and cash flows will be affected. We believe that the accounting policies described below involve a significant degree of judgment and complexity. Accordingly, we believe these are the most critical to aid in fully understanding and evaluating our consolidated financial condition and results of operations. For further information, see Note 2 of the Notes to Consolidated Financial Statements included in Part II, Item 8 of this Annual Report. Revenue recognition We generate revenue from sales of our products and services. Our products consist of instruments and consumables, including proprietary microfluidic chips, slides, reagents and other consumables. Our commercial product portfolio leverages our Chromium and Chromium Connect instruments, which we refer to as “Chromium instruments” or “instruments,” and our proprietary microfluidic chips, slides, reagents and other consumables for both our Visium and Chromium solutions, which we refer to as “consumables.” We began shipping our Chromium Connect instrument during the first quarter of 2020. We also generate a small portion of our revenue from instrument service agreements which relate to extended warranties. Commencing on January 1, 2019, we recognized revenues in accordance with Accounting Standards Codification (“ASC”) Topic 606 – Revenue from Contracts with Customers. We recognize revenue when control of the products and services is transferred to our customers in an amount that reflects the consideration we expect to receive from our customers in exchange for those products and services. This process involves identifying the contract with a customer, determining the performance obligations in the contract, determining the contract price, allocating the contract price to the distinct performance obligations in the contract and recognizing revenue when the performance obligations have been satisfied. A performance obligation is considered distinct from other obligations in a contract when it provides a benefit to the customer either on its own or together with other resources that are readily available to the customer and 86 Table of Contents is separately identified in the contract. We consider a performance obligation satisfied once we have transferred control of a good or service to the customer, meaning the customer has the ability to use and obtain the benefit of the good or service. Revenue from product sales is recognized when control of the product is transferred, which is generally upon shipment to the customer. In instances where right of payment or transfer of title is contingent upon the customer’s acceptance of the product, revenue is deferred until all acceptance criteria have been met. Instrument service agreements, which relate to extended warranties, are typically entered into for one-year terms, following the expiration of the standard one-year warranty period. Revenue for extended warranties is recognized ratably over the term of the extended warranty period as a stand ready performance obligation. Revenue is recorded net of discounts, distributor commissions and sales taxes collected on behalf of governmental authorities. Customers are invoiced generally upon shipment, or upon order for services, and payment is typically due within 45 days. Cash received from customers in advance of product shipment or providing services is recorded as a contract liability. Our contracts with our customers generally do not include rights of return or a significant financing component. We regularly enter into contracts that include various combinations of products and services which are generally distinct and accounted for as separate performance obligations. The transaction price is allocated to each performance obligation in proportion to its standalone selling price. We determine standalone selling price using average selling prices with consideration of current market conditions. If the product or service has no history of sales or if the sales volume is not sufficient, we rely upon prices set by management, adjusted for applicable discounts. Inventory Inventory is recorded at the lower of cost, determined on a first-in, first-out basis, or net realizable value. We use judgment to analyze and determine if the composition of our inventory is obsolete, slow-moving or unsalable and frequently review such determinations. We write down specifically identified unusable, obsolete, slow-moving or known unsalable inventory in the period that it is first recognized by using a number of factors including product expiration dates, open and unfulfilled orders and sales forecasts. Any write-down of inventory to net realizable value establishes a new cost basis and will be maintained even if certain circumstances suggest that the inventory is recoverable in subsequent periods. Costs associated with the write-down of inventory are recorded to cost of revenue on our consolidated statements of operations. We make assumptions about future demand, market conditions and the release of new products that may supersede old ones. However, if actual market conditions are less favorable than anticipated, additional inventory write-downs could be required. Stock-based compensation Our stock-based compensation relates to stock options, restricted stock units (“RSUs”) and stock purchase rights under an Employee Stock Purchase Plan (“ESPP”). Stock-based compensation expense for stock-based awards are based on their grant date fair value. We determine the fair value of RSUs based on the closing price of our stock price, which is listed on Nasdaq, at the date of the grant. We estimate the fair value of stock option awards granted to employees and directors on the grant date using the Black-Scholes option-pricing model. The fair value of stock option awards is recognized as compensation expense on a straight-line basis over the requisite service period in which the awards are expected to vest and forfeitures are recognized as they occur. Stock option awards that include a service condition and a performance condition are considered expected to vest when the performance condition is probable of being met. The Black-Scholes model considers several variables and assumptions in estimating the fair value of stock-based awards. These variables include the per share fair value of the underlying common stock, exercise price, expected term, risk-free interest rate, expected annual dividend yield and the expected stock price volatility over the expected term. For all stock options granted, we calculate the expected term using the simplified method for “plain vanilla” stock option awards. We determine expected volatility using the historical volatility of the stock price of similar publicly traded peer companies. The risk-free interest rate is based on the yield available on U.S. Treasury zero-coupon issues similar in duration to the expected term of the equity-settled award. Stock-based compensation expense for nonemployee stock options is measured based on fair market value using the Black-Scholes option pricing model and is recorded as the options vest. Prior to January 1, 2019, nonemployee stock options subject to vesting were revalued periodically over the requisite service period, which was generally the same as the vesting term of the award. From January 1, 2019, the grant date fair market value of nonemployee stock options is recognized in the consolidated statements of operations on a straight-line basis over the requisite service period and forfeitures are recognized as they occur. 87 Table of Contents Accrued contingent liabilities We have been and are currently involved in various legal proceedings which arise in the ordinary course of business. The outcomes of these legal proceedings are not within our complete control or may not be known for prolonged periods of time. Management is required to assess the probability of loss and amount of such loss, if any, in preparing our consolidated financial statements. We evaluate the likelihood of a potential loss from legal proceedings to which we are a party. We record a liability for such claims when a loss is deemed probable and the amount can be reasonably estimated. Significant judgment may be required in the determination of both probability and whether an exposure is reasonably estimable. Our judgments are subjective based on the status of the legal proceedings, the merits of our defenses and consultation with in-house and outside legal counsel. As additional information becomes available, we reassess the potential liability related to pending claims and may revise our estimates. Due to the inherent uncertainties of the legal processes in the multiple jurisdictions in which we operate, our judgments may be materially different than the actual outcomes, which could have material adverse effects on our business, financial conditions and results of operations. Acquisitions of intellectual property We evaluate acquisitions of assets and other similar transactions to assess whether or not the transaction should be accounted for as a business combination or asset acquisition by first applying a screen to determine if substantially all of the fair value of the gross assets acquired is concentrated in a single identifiable asset or group of similar identifiable assets. If the screen is met, the transaction is accounted for as an asset acquisition. If the screen is not met, further determination is required as to whether or not we have acquired inputs and processes that have the ability to create outputs, which would meet the requirements of a business. We account for an asset acquisition under Accounting Standards Codification, Business Combinations Topic 805, Subtopic 50 , which requires the acquiring entity in an asset acquisition to recognize net assets based on the cost to the acquiring entity on a relative fair value basis, which includes transaction costs in addition to consideration given. Goodwill is not recognized in an asset acquisition and any excess consideration transferred over the fair value of the net assets acquired is allocated to the non-monetary identifiable assets based on relative fair values. In-process research and development expenses are expensed as incurred provided there is no alternative future use. Contingent consideration payments in asset acquisitions are recognized when the contingency is resolved and the consideration is paid or becomes payable (unless the contingent consideration meets the definition of a derivative, in which case the amount becomes part of the basis in the asset acquired). Upon recognition of the contingent consideration payment, the amount is included in the cost of the acquired asset or group of assets. Leases We determine if an arrangement is or contains a lease at inception by assessing whether the arrangement contains an identified asset and whether it has the right to control the identified asset. Right-of-use (“ROU”) assets represents our right to use an underlying asset for the lease term and lease liabilities represents our obligation to make lease payments arising from the lease. Lease liabilities are recognized at the lease commencement date based on the present value of future lease payments over the lease term. ROU assets are based on the measurement of the lease liability and also include any lease payments made prior to or on lease commencement and exclude lease incentives and initial direct costs incurred, as applicable. As the implicit rate in our leases are generally unknown, we use our incremental borrowing rate based on the information available at the lease commencement date in determining the present value of future lease payments. We give consideration to our credit risk, term of the lease and total lease payments and adjust for the impacts of collateral, as necessary, when calculating our incremental borrowing rates. The lease terms may include options to extend or terminate the lease when we are reasonably certain that we will exercise such options. Lease costs for our operating leases are recognized on a straight-line basis within operating expenses and costs of goods sold over the reasonably assured lease term. We have elected to not separate lease and non-lease components for any leases within our existing classes of assets and, as a result, we account for any lease and non-lease components as a single lease component. We have also elected to not apply the recognition requirement to any leases within our existing classes of assets with a term of 12 months or less. Recent Accounting Pronouncements See Note 2, “Summary of Significant Accounting Policies” in our Notes to Consolidated Financial Statements included in Part II, Item 8 of this Annual Report for a discussion of recent accounting pronouncements. 88 Table of Contents