The accompanying notes are an integral part of these consolidated financial statements.
The accompanying notes are an integral part of these consolidated financial statements.
The accompanying notes are an integral part of these consolidated financial statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. ORGANIZATION
NovaBay Pharmaceuticals, Inc. (the “Company”) develops and sells scientifically-created and clinically-proven eyecare, skincare and wound care products. Our leading product, Avenova® Antimicrobial Lid and Lash Solution, or Avenova Spray, is proven in laboratory testing to have broad antimicrobial properties as it removes foreign material including microorganisms and debris from the skin around the eye, including the eyelid. Avenova Spray is formulated with our proprietary, stable and pure form of hypochlorous acid and is cleared by the FDA for sale in the United States. Avenova Spray is available direct to consumers primarily through online distribution channels and is also available by prescription and dispensed by eyecare professionals for blepharitis and dry-eye disease. Other eyecare products offered under the Avenova eyecare brand include Novawipes by Avenova, Avenova Lubricant Eye Drops, Avenova Moist Heating Eye Compress, and the i-Chek eyelid and eyelash mirror by Avenova.
Through our subsidiary DERMAdoctor, LLC, the Company offers over 30 dermatologist-developed products targeting common skin concerns, ranging from aging and blemishes to dry skin, perspiration and keratosis pilaris. DERMAdoctor branded products are marketed and sold through the DERMAdoctor website, well-known traditional and digital beauty retailers, and a network of international distributors.
The Company also manufactures and sells its proprietary form of hypochlorous acid for the wound care market through our NeutroPhase and PhaseOne branded products. NeutroPhase and PhaseOne are used for the cleansing and irrigation as part of surgical procedures, as well as treating certain wounds, burns, ulcers and other injuries. The Company currently sells these products through distributors.
The Company was incorporated under the laws of the State of California on January 19, 2000, as NovaCal Pharmaceuticals, Inc. It had no operations until July 1, 2002, on which date it acquired all of the operating assets of NovaCal Pharmaceuticals, LLC, a California limited liability company. In February 2007, it changed its name from NovaCal Pharmaceuticals, Inc. to NovaBay Pharmaceuticals, Inc. In June 2010, the Company changed the state in which it was incorporated (the “Reincorporation”) and is now incorporated under the laws of the State of Delaware. All references to “the Company” herein refer to the California corporation prior to the date of the Reincorporation and to the Delaware corporation on and after the date of the Reincorporation. The Company is managed as two reportable segments: (1) Optical and Wound Care and (2) Skin Care.
Effective November 15, 2022, the Company effected a 1-for-35 reverse split of our outstanding common stock (“Reverse Stock Split”) (See Note 14, “Stockholders’ Equity” for further details). Except as otherwise specifically noted, all share numbers, share prices, exercise/conversion prices and per share amounts have been adjusted, on a retroactive basis, to reflect this 1-for-35 reverse stock split.
Going Concern
The Company has sustained operating losses for the majority of its corporate history and expects that its 2023 expenses will exceed its 2023 revenues, as the Company continues to invest in both its Avenova and DERMAdoctor commercialization efforts. Additionally, the Company expects to continue incurring operating losses and negative cash flows until revenues reach a level sufficient to support ongoing growth and operations. Accordingly, the Company has determined that its planned operations raise substantial doubt about its ability to continue as a going concern. Additionally, changing circumstances may cause the Company to expend cash significantly faster than currently anticipated, and the Company may need to spend more cash than currently expected because of circumstances beyond its control that impact the broader economy such as periods of inflation, supply chain issues, the continuation of the COVID-19 pandemic and international conflicts (e.g., the conflict between Russia and Ukraine).
The Company’s long-term liquidity needs will be largely determined by the success of commercialization efforts. To address the Company’s current liquidity and capital needs, the Company has and continues to evaluate different plans and strategic transactions to fund operations, including: (1) raising additional capital through debt and equity financings or from other sources; (2) reducing spending on operations, including reducing spending on one or more of its sales and marketing programs or restructuring operations to change its overhead structure; (3) out-licensing rights to certain of its products or product candidates, pursuant to which the Company would receive cash milestones or an upfront fee; and/or (4) entering into license agreements to sell new products. The Company may issue securities, including common stock, preferred stock, convertible debt securities and warrants through additional private placement transactions or registered public offerings, which may require the filing of a Form S-1 or Form S-3 registration statement with the SEC. The accompanying consolidated financial statements have been prepared assuming the Company will continue to operate as a going concern, which contemplates the realization of assets and the settlement of liabilities in the normal course of business. These consolidated financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts of liabilities that may result from uncertainty related to its ability to continue as a going concern.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) and are expressed in U.S. dollars.
Use of Estimates
The preparation of financial statements in accordance with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. These estimates include contract liabilities related to product sales, useful lives for property and equipment and related depreciation calculations, assumptions for valuing options and warrants, the fair value of contingent consideration, intangible assets, goodwill, stock-based compensation, income taxes and other contingencies.
These estimates are based on management’s best estimates and judgment. Actual results may differ from these estimates. Estimates, judgments, and assumptions are continuously evaluated and are based on management’s experience and other factors, including expectations of future events that are believed to be reasonable under the circumstances. Uncertainty about these assumptions, judgments and estimates could result in outcomes that require a material adjustment to the carrying amount of assets or liabilities affected in future periods.
Change in Accounting and Revision of Prior Period Financial Statements
During the third quarter of 2022, the Company made an accounting policy change election related to fulfillment fees paid to third-party online retailers such as Amazon. The Company began expensing these fees as incurred as product cost of goods sold in the Company’s consolidated statements of operations. The Company previously recorded revenue net of these fees. The Company believes that making this change is appropriate and preferable as it is more consistent with the practices of comparable companies as the Company increasingly focus on commercial growth in our direct to consumer on-line channels. Changes to prior period amounts presented in this report have been made to conform to the current period presentation. See additional information under “Revenue Recognition” below. The changes had no impact on operating loss, net loss or net loss per share in the Company’s consolidated statements of operations in the periods presented in this report or in previously issued annual and quarterly financial statements. The changes also did not impact cash or ending cash balances in the Company’s consolidated balance sheets in the periods presented in this report or in previously issued annual and quarterly financial statements.
While reviewing its accounting policy for fulfillment fees during the third quarter of 2022, the Company identified an error in its previously issued financial statements whereby the Company had been incorrectly presenting revenue net of selling commissions paid to third-party online retailers. For the year ended December 31, 2022, the Company concluded that these commissions relate to a sales activity and began expensing them as incurred as sales and marketing expenses within the Company’s consolidated statements of operations. The identified error impacted the Company’s previously issued 2022 first and second quarter financial statements, as well as the 2021 annual financial statements. Management believes that the impact of these adjustments to correct such error is immaterial to the previously issued consolidated financial statements, based on an evaluation of both quantitative and qualitative factors. However, revisions to prior period amounts presented in this report have been made to conform to the current period presentation. See additional information under “Revenue Recognition” below. The revisions had no impact on operating loss, net loss or net loss per share in the Company’s consolidated statements of operations in the periods presented in this report or in previously issued annual consolidated financial statements. The changes also did not impact cash or ending cash balances in the Company’s consolidated balance sheets in the periods presented in this report or in previously issued annual consolidated financial statements.
Cash, Cash Equivalents, and Restricted Cash
The Company considers all highly-liquid instruments with a stated maturity of three months or less at the date of purchase to be cash equivalents. Cash and cash equivalents are stated at cost, which approximates fair value. As of December 31, 2022 and December 31, 2021, the Company’s cash and cash equivalents were held in a major financial institution in the United States.
The following table provides a reconciliation of the cash, cash equivalents, and restricted cash reported in the consolidated balance sheets (in thousands):
| | December 31, | | | December 31, | |
| | 2022 | | | 2021 | |
Cash and cash equivalents | | $ | 5,362 | | | $ | 7,504 | |
Restricted cash included in other assets | | | 484 | | | | 475 | |
Total cash, cash equivalents, and restricted cash in the consolidated statements of cash flows | | $ | 5,846 | | | $ | 7,979 | |
The restricted cash amount included in other assets on the consolidated balance sheets represents amounts held as certificates of deposit for long-term financing and lease arrangements as contractually required by our financial institution and landlord.
Concentrations of Credit Risk and Major Partners
Financial instruments that potentially subject us to significant concentrations of credit risk consist primarily of cash, cash equivalents and restricted cash. The Company maintains deposits of cash, cash equivalents and restricted cash with a major financial institution in the United States.
The Company has significant cash balances at financial institutions which throughout the year regularly exceed the federally insured limit of $250,000. Any loss incurred or a lack of access to such funds could have a significant adverse impact on the Company's financial condition, results of operations, and cash flows.
During the years ended December 31, 2022 and 2021, revenues were derived primarily from sales of Avenova branded products, directly to consumers through Amazon.com, and Avenova.com. Revenues in the 2022 and 2021 fiscal years also included sales of DERMAdoctor branded products (with 2021 revenue only including revenue from DERMAdoctor branded products beginning at the closing of the DERMAdoctor Acquisition).
During the years ended December 31, 2022 and 2021, revenues from significant product categories were as follows (in thousands):
| | For the Years Ended December 31, | |
| | 2022 | | | 2021 | |
Avenova Spray | | $ | 7,651 | | | $ | 8,565 | |
DERMAdoctor | | | 4,155 | | | | 649 | |
NeutroPhase | | | 976 | | | | 368 | |
Other products | | | 1,592 | | | | 598 | |
Total product revenue, net | | | 14,374 | | | | 10,180 | |
Other revenue, net | | | 30 | | | | 24 | |
Total sales, net | | $ | 14,404 | | | $ | 10,204 | |
During the years ended December 31, 2022 and 2021, sales of Avenova Spray via Amazon comprised 73% and 67%, respectively, of total Avenova Spray net revenue. No other individual distributor comprised greater than 10% of total Avenova Spray net revenue during the years ended December 31, 2022 or 2021.
As of December 31, 2022 and 2021, accounts receivable from our major distribution partners and major retailers greater than 10% were as follows:
| | December 31, | | | December 31, | |
Major distribution partner | | 2022 | | | 2021 | |
Avenova Spray Pharmacy Distributor A | | | 30 | % | | | 11 | % |
Major U.S. Retailer A | | | 15 | % | | | * | % |
Avenova Spray Pharmacy Distributor B | | | 11 | % | | | * | % |
Major U.S. Retailer B | | | * | % | | | 33 | % |
Avenova Spray Pharmacy Distributor C | | | * | % | | | 13 | % |
* Less than 10%
The Company relies on seven contract manufacturers to produce its products. The Company does not own any manufacturing facilities and intends to continue to rely on third parties for the supply of finished goods. Contract manufacturers may or may not be able to meet the Company’s needs with respect to timing, quantity or quality. In particular, it is possible that the Company may suffer from unexpected delays in light of the global supply chain issues.
Fair Value of Financial Assets and Liabilities
The Company’s financial instruments include cash and cash equivalents, restricted cash, accounts receivable, accounts payable, accrued liabilities, warrant liabilities, and contingent consideration. The Company’s cash and cash equivalents, accounts receivable, accounts payable, and accrued liabilities are carried at cost, which management believes approximates fair value due to the short-term nature of these instruments.
The Company follows ASC 820, Fair Value Measurements and Disclosures, with respect to assets and liabilities that are measured at fair value on a recurring basis and nonrecurring basis. Under this standard, fair value is defined as the exit price, or the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants as of the measurement date. The standard also establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs market participants would use in valuing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions about the factors market participants would use in valuing the asset or liability developed based upon the best information available in the circumstances. There are three levels of inputs that may be used to measure fair value:
Level 1 – quoted prices in active markets for identical assets or liabilities;
Level 2 – quoted prices for similar assets and liabilities in active markets or inputs that are observable; and
Level 3 – inputs that are unobservable (for example, cash flow modeling inputs based on assumptions).
Categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement.
Allowance for Doubtful Accounts
The Company charges bad debt expense and records an allowance for doubtful accounts when management believes it to be unlikely that specific invoices will be collected. Management identifies amounts due that are in dispute and believes are unlikely to be collected. As of December 31, 2022, management recorded a $19 thousand reserve for allowance for doubtful accounts, and no reserve for allowance for doubtful accounts as of December 31, 2021.
Inventory
Inventory is comprised of (1) raw materials and supplies, such as bottles, packaging materials, labels, boxes and pumps; (2) goods in progress, which are normally filled but unlabeled bottles; and (3) finished goods. The Company utilizes contract manufacturers to produce our products and the price paid to these manufacturers is included in inventory. Inventory is stated at the lower of cost or estimated net realizable value determined by the first-in, first-out method. At December 31, 2022 and 2021, management had recorded an allowance for excess and obsolete inventory at the lower of cost or estimated net realizable value of $499 thousand and $641 thousand, respectively.
Property and Equipment, net
Property and equipment are stated at cost, less accumulated depreciation. Depreciation is calculated using the straight-line method over the estimated useful lives of the related assets of five to seven years for office and laboratory equipment, three to five years for computer equipment and software, and five to seven years for furniture and fixtures. Leasehold improvements are amortized over the lease term.
The costs of normal maintenance, repairs, and minor replacements are expensed as incurred.
Business Combinations
We account for business combinations using the acquisition method of accounting, in accordance with ASC 805, Business Combinations. The acquisition method requires that identifiable assets acquired and liabilities assumed are recognized and measured at fair value on the acquisition date, which is the date that the acquirer obtains control of the acquired business. The amount by which the fair value of consideration transferred as the purchase price exceeds the net fair value of assets acquired and liabilities assumed is recorded as goodwill.
The determination of estimated fair value requires us to make significant estimates and assumptions. These fair value determinations require judgment and involve the use of significant estimates and assumptions, including assumptions with respect to future cash inflows and outflows, discount rates, and asset lives, among other items. As a result, the Company may record adjustments to the fair values of assets acquired and liabilities assumed within the measurement period (up to one year from the acquisition date) with the corresponding offset to goodwill.
Transaction costs associated with business combinations are expensed as they are incurred.
Goodwill and Indefinite-Lived Intangible Assets
Goodwill represents the excess of the consideration transferred over the estimated fair value of assets acquired and liabilities assumed in a business combination. Intangible assets are measured at their respective fair values as of the acquisition date and may be subject to adjustment within the measurement period, which may be up to one year from the acquisition date. Goodwill and indefinite-lived intangible assets are tested for impairment annually, or more frequently if events or changes in circumstances indicate that it is more likely than not that the assets are impaired.
Goodwill is evaluated for impairment by first performing a qualitative assessment to determine whether a quantitative goodwill test is necessary. If it is determined, based on qualitative factors, that the fair value of the reporting unit may more likely than not be less than carrying amount, or if significant adverse changes in the Company's future financial performance occur that could materially impact fair value, a quantitative goodwill impairment test would be required. Additionally, management can elect to forgo the qualitative assessment and perform the quantitative test. If the qualitative assessment indicates that the quantitative analysis should be performed, or if management elects to bypass a qualitative assessment, the Company then evaluates goodwill for impairment by comparing the fair value of the reporting unit to its carrying amount, including goodwill. The quantitative assessment for goodwill requires management to estimate the fair value of the Company's reporting units using either an income or market approach or a combination thereof.
Management makes critical assumptions and estimates in completing impairment assessments of goodwill and indefinite-lived intangible assets. The Company's cash flow projections look several years into the future and include assumptions on variables such as future sales and operating margin growth rates, economic conditions, probability of success, market competition, inflation and discount rates.
The Company acquired DERMAdoctor in November 2021, and since completing this transaction it has been working to integrate and expand the DERMAdoctor business in order to achieve strategic objectives that the Company expected by completing this acquisition, including revenue growth, cost reductions and achieving overall profitability. The Company has not been able to achieve these objectives in fiscal 2022, as DERMAdoctor’s product revenue declined in 2022 compared to 2021, while operating costs relating to these products increased. In addition, as a result of the performance of the DERMAdoctor business in fiscal 2022, management revised its forecast for the future performance of DERMAdoctor products.
During the fourth quarter of 2022, the Company performed its annual goodwill impairment analysis following the steps laid out in ASC 350-20-35-3C. The Company’s annual impairment analysis included a qualitative assessment to determine if it is necessary to perform the quantitative impairment test. In performing the qualitative assessment, the Company reviewed events and circumstances that could affect the significant inputs used to determine if the fair value is less than the carrying value of goodwill. The Company performed a Step 0 goodwill impairment analysis and determined that the fair value of the reporting unit may more likely than not be less than carrying amount, which necessitated the Company performing the quantitative impairment test. After performing the quantitative impairment test in accordance with ASC 350-20-35-3C, the Company determined that goodwill related to its DERMAdoctor reporting unit was impaired by $4.2 million, as of December 31, 2022, which is reflected in the goodwill, intangible and other asset impairment caption in the Company’s consolidated statements of operations. The impairment impact on the consolidated balance sheet as of December 31, 2022 was a $4.2 million reduction to the goodwill caption. The Company did not record any goodwill impairment charges for the year ended December 31, 2021.
The Company completed its indefinite-lived intangible asset impairment assessment during the fourth quarter of 2022. The Company evaluated, on the basis of the weight of the evidence, the significance of all identified events and circumstances that could affect the significant inputs used to determine the fair value of the Company’s indefinite-lived intangible assets for determining whether it is more likely than not that the Company’s indefinite-lived intangible assets are impaired. After assessing the totality of events and circumstances, and their potential effect on significant inputs to the fair value calculation, the Company determined that it is more likely than not that its indefinite-lived intangible assets related to its DERMAdoctor reporting unit were impaired. As such, the Company performed a quantitative impairment test on its indefinite-lived intangible assets. Based on the quantitative impairment test, the Company determined that its indefinite-lived trade name intangible asset should be impaired by $1.0 million as of December 31, 2022, which is reflected in the goodwill, intangible and other asset impairment caption in the Company’s consolidated statements of operations. The Company did not record any indefinite-lived intangible asset impairments during the year ended December 31, 2021.
Valuation of Contingent Consideration Resulting from a Business Combination
In connection with certain acquisitions, including the acquisition of DERMAdoctor, the Company may be required to pay future consideration that is contingent upon the achievement of specified milestone events. The Company records contingent consideration resulting from a business combination at its fair value on the acquisition date. Each quarter thereafter, the Company revalues these obligations and records increases or decreases in the fair value within the consolidated statement of operations until such time as the specified milestone achievement period is complete.
Increases or decreases in fair value of the contingent consideration liabilities can result from updates to assumptions such as the expected timing or probability of achieving the specified milestones. Significant judgment is employed in determining these assumptions as of the acquisition date and for each subsequent period. Updates to assumptions could have a significant impact on the Company’s results of operations in any given period. Actual results may differ from estimates.
As of December 31, 2022, the Company determined that the above-mentioned milestones related to the DERMAdoctor acquisition were not met for the first calendar year of the post-closing earn out and are not expected to be met in the second calendar year of the post-closing earn out, based on projections; therefore, the liability for the potential earn out payments was determined to be zero. As a result, the Company recognized a $0.6 million non-cash gain related to the change in fair value of the contingent consideration for the year then ended December 31, 2022, which is reflected in the Company’s consolidated statements of operations.
Long-Lived Assets
The Company’s intangible assets that do not have indefinite lives (primarily trade secrets / product formulations) are amortized over their estimated useful lives. All of the Company’s intangible assets subject to amortization and other long-lived assets, including operating lease right-of-use assets, are reviewed for impairment in accordance with ASC 360, Property, Plant and Equipment, which requires that companies consider whether events or changes in facts and circumstances, both internally and externally, may indicate that an impairment of long-lived assets held for use or right-of-use assets are present. The Company reviews long-lived assets and right-of-use assets for impairment at least annually or whenever events or changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable or that the useful lives of these assets are no longer appropriate. Determination of recoverability is based on an estimate of undiscounted future cash flows resulting from the use of the asset and its eventual disposition. In the event that such cash flows are not expected to be sufficient to recover the carrying amount of the asset, the assets are written down to their estimated fair values and the loss is recognized in the consolidated statements of operations.
In connection with the above-mentioned DERMAdoctor reporting unit impairment, discussed in the goodwill and indefinite-lived intangible assets caption above, the Company determined that certain of its DERMAdoctor business definite long-lived intangible assets and property and equipment were also impaired. As such, the Company has recorded an impairment charge in the year ended December 31, 2022 of $1.6 million for the impairment of long-lived intangible assets which is reflected in the caption goodwill, intangible and other asset impairment in the Company’s consolidated statements of operations, and of $66 thousand, net for property, plant and equipment which is reflected in the general and administrative caption in the Company’s consolidated statements of operations. There were no impairment charges during the year ended December 31, 2021.
Leases
At the inception of an arrangement, the Company determines whether the arrangement is or contains a lease based on the unique facts and circumstances present. Operating lease liabilities and their corresponding right-of-use assets are recorded based on the present value of lease payments over the expected lease term. The interest rate implicit in lease contracts is typically not readily determinable. As such, the Company utilizes its incremental borrowing rate, which is the rate incurred to borrow, on a collateralized basis over a similar term, an amount equal to the lease payments in a similar economic environment. Certain adjustments to the right-of-use assets may be required for items such as initial direct costs paid or incentives received.
The Company has elected to combine lease and non-lease components as a single component for all leases in which it is a lessee or a lessor. The lease expense is recognized over the expected term on a straight-line basis. Operating leases are recognized on the consolidated balance sheet as right-of-use assets, operating lease liabilities current and operating lease liabilities non-current.
Revenue Recognition
Revenue is recognized from the sale of goods in accordance with ASC 606, Revenue from Contracts with Customers. Under ASC 606, the Company recognizes revenue when or as the Company’s performance obligations are satisfied by transferring control of the promised goods to customers in an amount that reflects the consideration to which the Company expects to receive. To determine revenue recognition for arrangements that an entity determines are within the scope of ASC 606, the Company performs the following five steps as prescribed by ASC 606:
| i. | identify the contract(s) with a customer; |
| ii. | identify the performance obligations in the contract; |
| iii. | determine the transaction price; |
| iv. | allocate the transaction price to the performance obligations in the contract; and |
| v. | recognize revenue when (or as) the entity satisfies performance obligations. |
Revenue is generated through the Company’s webstores, Avenova.com and DERMAdoctor.com, for Avenova and DERMAdoctor products. Such direct to consumer sales are recognized upon fulfillment, which generally occurs upon delivery of the related products to a third-party carrier. Shipping and handling costs are expensed as incurred and included in product cost of goods sold in the consolidated statements of operations. The Company presents revenue net of sales taxes and refunds.
Revenue generated through third-party online retailers, including Amazon, is recognized when control of the goods is transferred to the customer, which generally occurs upon delivery of the products to a third-party carrier.
The Company pays third-party online retailers advertising & promotion fees, selling commissions and fulfillment fees. Advertising & promotion fees are expensed as incurred as sales and marketing expenses within operating expenses in the consolidated statements of operations. Prior to the third quarter of 2022, the Company recorded revenue net of selling commissions and fulfillment fees. Beginning in the third quarter of 2022, as further described below, the Company began expensing selling commissions as sales and marketing expenses in the consolidated statements of operations and fulfillment fees as product cost of goods sold in the consolidated statements of operations.
Prior to the third quarter of 2022, to determine its accounting for fulfillment fees, the Company evaluated principal versus agent considerations with respect to the obligation to ship its product to the customer. The Company assessed whether the nature of the Company’s obligation is as a principal in providing the fulfillment service or as an agent in promising to arrange for a third party to provide the fulfillment service. The Company concluded that it is an agent with respect to the shipping service as the Company does not control the service itself and, therefore, its obligation is that of a promise to arrange for the service. This determination involved significant judgement. In accordance with this conclusion, prior to the third quarter of 2022, the Company recorded revenue net of fulfillment fees. Beginning in the third quarter of 2022, the Company made an accounting policy change election, as a practical expedient, to account for the shipping fees as a fulfillment activity and began expensing them as incurred within product cost of goods sold in the Company’s consolidated statements of operations. Management believes the resulting accounting changes are preferable as they conform the Company’s practice to a majority of comparable filers and other similar sales channels. Changes to amounts presented for prior periods have been made to conform to these changes. These changes did not impact operating loss, net loss or loss per share in the Company’s consolidated statements of operations in the periods presented in this report or in previously issued annual consolidated financial statements. The changes also did not impact cash or ending cash balances in the Company’s consolidated balance sheets in the periods presented in this report or in previously issued annual consolidated financial statements.
Prior to the third quarter of 2022, the Company also recorded revenue net of selling commissions. During the third quarter of 2022, the Company concluded that these commissions relate to a sales activity and began expensing them as incurred as sales and marketing expenses within the Company’s consolidated statements of operations. The Company determined that its treatment prior to the third quarter of 2022 was an error. The identified error impacted the Company's previously issued 2022 and 2021 quarterly, and 2021 and 2020 annual financial statements. Management believes that the impact of this error is immaterial to the previously issued consolidated financial statements, based on an evaluation of both quantitative and qualitative factors. However, revisions to prior period amounts presented in this report have been made to conform to the current period presentation as outlined below. The revisions had no impact on operating loss, net loss or net loss per share in the Company’s consolidated statements of operations in the periods presented in this report or in previously issued annual consolidated financial statements. The changes also did not impact cash or ending cash balances in the Company’s consolidated balance sheets in the periods presented in this report or in previously issued annual consolidated financial statements.
Financial statement line items included in the consolidated statements of operations for the year ended December 31, 2021 were adjusted for the above changes as follows (in thousands):
| | For the Year Ended December 31, 2021 | |
| | As Previously Reported | | | Selling Commissions | | | Fulfillment Fees | | | As Revised | |
Sales | | | | | | | | | | | | | | | | |
Product revenue, net | | $ | 8,397 | | | $ | 870 | | | $ | 913 | | | $ | 10,180 | |
Cost of goods sold | | | | | | | | | | | | | | | | |
Cost of goods sold | | | 2,776 | | | | - | | | | 913 | | | | 3,689 | |
Operating expenses | | | | | | | | | | | | | | | | |
Sales and marketing | | | 7,223 | | | | 870 | | | | - | | | | 8,093 | |
| | | | | | | | | | | | | | | | |
Net loss | | | (5,824 | ) | | | - | | | | - | | | | (5,824 | ) |
| | | | | | | | | | | | | | | | |
Net loss per share attributable to common stockholders (basic and diluted) | | | (5.26 | ) | | | - | | | | - | | | | (5.26 | ) |
The Company also generates Avenova Spray revenue through major pharmacy distribution partners. Product supply of Avenova Spray is the only performance obligation contained in these arrangements, and the Company recognizes product revenue upon transfer of control to its major distribution partners at the amount of consideration that the Company expects to be entitled to, generally upon delivery to the distributor on a “sell-in” basis. Upon recognition of product sales, contract liabilities are recorded for invoiced amounts that are subject to reversal, including product revenue allowances for cash consideration paid to customers for services, discounts, rebate programs, and product returns. The Company derives its rate of return and other contract liabilities from historical data and updates its assumptions quarterly. Payment for product supply is typically due 30 days after control transfers to the distributor.
Revenue for products sales to Costco is recognized upon transfer of control at the amount of consideration that the Company expects to be entitled to, generally upon delivery to Costco. Upon recognition of product sales, contract liabilities are recorded for invoiced amounts that are subject to reversal, including discounts and product returns. The Company derives its rate of return from historical data and updates its return rate assumption quarterly. Payment for product supply is typically due 30 days after control transfers to Costco.
Revenue generated through the Company’s partner pharmacies is recognized when control of the product transfers to the end customer.
Revenue for product sales to other retailers, such as CVS, is generally recognized upon transfer of control to the retailer, which generally occurs upon delivery of the products to a third-party carrier, net of estimated future product returns.
The Company’s accounts receivable, net of allowance for doubtful accounts, on December 31, 2020 was $1.1 million.
Cost of Goods Sold
Cost of goods sold includes third-party manufacturing costs, shipping and handling costs, third-party fulfillment fees, and other costs associated with products sold. Cost of goods sold also includes any necessary allowance for excess and obsolete inventory along with lower of cost and estimated net realizable value.
Research and Development Costs
The Company charges research and development costs to expense as incurred. These costs include all costs associated with research, development and regulatory activities, including submissions to the Food and Drug Administration (the “FDA”).
Patent Costs
Patent costs, including legal expenses, are expensed in the period in which they are incurred. Patent expenses are included in general and administrative expenses in the consolidated statements of operations.
Advertising Costs
Advertising costs are expensed in the period in which the costs are incurred. Advertising costs are included in sales and marketing expenses in the consolidated statements of operations. Advertising expenses were $2.0 million and $3.2 million, respectively, for the years ended December 31, 2022 and 2021.
Stock-Based Compensation
The Company’s stock-based compensation includes grants of stock options and RSUs to employees, consultants and non-employee directors. The expense associated with these grants is recognized in the Company’s consolidated statements of stockholders’ equity based on their fair values as they are earned under the applicable vesting terms. For stock options granted, the fair value of the stock options is estimated using a Black-Scholes option pricing model. See Note 15, “Equity-Based Compensation” for further information regarding stock-based compensation expense and the assumptions used in estimating that expense. The Company accounts for RSUs issued to employees and non-employees (directors, consultants and advisory board members) based on the fair market value of the Company’s common stock as of the date of issuance.
Income Taxes
The Company accounts for income taxes under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is recognized if it is more likely than not that some portion or the entire deferred tax asset will not be recognized.
Common Stock Warrants
The Company accounts for common stock purchase warrants issued in connection with its equity offerings in accordance with the provisions of ASC 480, Distinguishing Liabilities from Equity, and ASC 815, Derivatives and Hedging.
The Company accounts for common stock purchase warrants issued in connection with share-based compensation arrangements in accordance with the provisions of ASC 718, Stock Compensation, which encompasses the provisions of ASC 480, Distinguishing Liabilities from Equity.
The Company classifies as equity any contracts that (i) require physical settlement or net-share settlement or (ii) give the Company a choice of net-cash settlement or settlement in its own shares (physical settlement or net-share settlement). The Company classifies as assets or liabilities any contracts that (i) require net-cash settlement (including a requirement to net-cash settle the contract if an event occurs and if that event is outside the control of the Company), (ii) give the counterparty a choice of net-cash settlement or settlement in shares (physical settlement or net-share settlement) or (iii) do not become exercisable until the occurrence of a contingent event. Additionally, for common stock purchase warrants accounted for in accordance with ASC 718, Stock Compensation, the Company classifies as liabilities any contracts where it believes the warrants are deemed to be probable of issuance.
For warrants that are classified as liabilities, the Company records the fair value of the warrants at each balance sheet date and records changes in the estimated fair value as a non-cash gain or loss in the consolidated statements of operations. The fair values of these warrants are determined using the Black-Scholes option pricing model, the Binomial Lattice (“Lattice”) valuation model, or the Monte Carlo simulation model where deemed appropriate. These values are subject to a significant degree of management’s judgment.
Net Loss per Share
The Company computes net loss per share by presenting both basic and diluted earnings (loss) per share (“EPS”).
Basic EPS is computed by dividing net loss available to common stockholders by the weighted average number of common shares outstanding during the period. Diluted EPS gives effect to all dilutive potential common shares outstanding during the period, including stock options and warrants, using the treasury stock method. In computing diluted EPS, the average stock price for the period is used to determine the number of shares assumed to be purchased from the exercise of stock options or warrants. Potentially dilutive common share equivalents are excluded from the diluted EPS computation in net loss periods if their effect would be anti-dilutive.
For the years ended December 31, 2022 and 2021, the Preferred Stock was excluded from the computation of diluted net loss per share as their inclusion on an “if converted” basis would have been anti-dilutive. For the years ended December 31, 2022 and 2021, the Preferred Stock was considered anti-dilutive as a result of such securities not having a contractual obligation to participate in losses of the Company.
The following table sets forth the calculation of basic EPS and diluted EPS (in thousands, except per share amounts):
| | For the Years Ended December 31, | |
| | 2022 | | | 2021 | |
Numerator | | | | | | | | |
Net loss | | $ | (10,608 | ) | | $ | (5,824 | ) |
Less: Preferred deemed dividend | | | — | | | | 735 | |
Less: Retained earnings reduction related to preferred stock down round feature triggered | | | 5,657 | | | | — | |
Net loss attributable to common stockholders, basic and diluted | | $ | (16,265 | ) | | $ | (6,559 | ) |
| | | | | | | | |
Denominator | | | | | | | | |
Weighted average shares of common stock outstanding, basic and diluted | | | 1,610 | | | | 1,247 | |
Net loss per share attributable to common stockholders, basic and diluted | | $ | (10.10 | ) | | $ | (5.26 | ) |
The following outstanding stock options and stock warrants were excluded from the diluted EPS computation as their effect would have been anti-dilutive (in thousands):
| | For the Years Ended December 31, | |
| | 2022 | | | 2021 | |
Stock options | | | 132 | | | | 127 | |
Stock warrants | | | 2,306 | | | | 202 | |
| | | 2,438 | | | | 329 | |
Recent Accounting Pronouncements
In August 2020, the FASB issued ASU 2020-06, Debt—Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging—Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity (“ASU 2020-06”). ASU 2020-06 simplifies the accounting for convertible instruments by removing the separation models for (1) convertible debt with a cash conversion feature and (2) convertible instruments with a beneficial conversion feature. As a result, a convertible debt instrument will be accounted for as a single liability measured at its amortized cost. ASU 2020-06 also requires the application of the if-converted method for calculating diluted earnings per share and the treasury stock method will be no longer available. The new guidance is effective for fiscal years beginning after December 15, 2021, with early adoption permitted no earlier than fiscal years beginning after December 15, 2020. The Company adopted the new standard effective January 1, 2022, and the adoption of this guidance did not have a material impact on our consolidated financial statements.
In June 2016, the FASB issued ASU 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments (“ASU 2016-13”). The amendments in ASU 2016-13 require a financial asset (or a group of financial assets) measured at amortized cost basis to be presented at the net amount expected to be collected. ASU 2016-13 is effective for the Company for annual and interim reporting periods beginning January 1, 2023. The Company will adopt the new standard effective January 1, 2023. The Company is currently evaluating the impact of the new guidance on its consolidated financial statements.
NOTE 3. BUSINESS COMBINATION
On November 5, 2021, the Company completed the DERMAdoctor Acquisition in which NovaBay acquired 100% of the membership units of DERMAdoctor from the sellers for a closing purchase price of $12.0 million and potential future earnout payments of up to an aggregate of $3.0 million over a period of two calendar years post-closing.
The Company funded the closing purchase price in part through the 2021 Private Placement (see Note 14, “Stockholders’ Equity”).
The DERMAdoctor Acquisition is accounted for as a business combination in accordance with ASC 805, Business Combinations, which requires that the assets acquired and liabilities assumed be recognized at their estimated fair values as of the Acquisition Closing. Goodwill represents the excess of the consideration transferred over the estimated fair value of assets acquired and liabilities assumed in a business combination.
The following table sets forth the final allocation of the purchase price for the DERMAdoctor Acquisition to the fair value of the identifiable tangible and intangible assets acquired and liabilities assumed from DERMAdoctor (in thousands):
| | Fair Value | |
Tangible net assets and liabilities: | | | | |
Cash and cash equivalents | | $ | 12 | |
Accounts receivable, net of allowance for doubtful accounts | | | 1,015 | |
Inventory, net of allowance | | | 2,369 | |
Prepaid expenses and other current assets | | | 150 | |
Property and equipment, net | | | 62 | |
Other intangible assets | | | 54 | |
Accounts payable | | | (200 | ) |
Accrued liabilities | | | (683 | ) |
Total net assets | | | 2,779 | |
Intangible Assets: | | | | |
Customer relationships | | | 290 | |
Trade secrets / product formulations | | | 2,890 | |
Trade names | | | 2,080 | |
Total intangible assets | | | 5,260 | |
Net assets acquired | | | 8,039 | |
Purchased consideration | | | 12,561 | |
Goodwill | | $ | 4,528 | |
Goodwill was primarily attributable to assembled workforce, expected synergies and other factors.
The fair values of the identifiable intangible assets acquired at the date of the DERMAdoctor Acquisition are as follows (in thousands):
Intangible Asset | | Fair Value | | | Useful Life (in years) | | | Amortization Method | |
Customer relationships | | $ | 290 | | | | 7 | | | Straight line | |
Trade secrets / product formulations | | | 2,890 | | | | 9 | | | Straight line | |
Trade names | | | 2,080 | | | Indefinite | | | | N/A | |
Goodwill | | | 4,528 | | | Indefinite | | | | N/A | |
| | $ | 9,788 | | | | | | | | | |
The valuations of intangible assets incorporate significant unobservable inputs and require significant judgment and estimates, including the amount and timing of future cash flows.
The Company recognized approximately $1.2 million of transaction costs in the year ended December 31, 2021. These costs were recorded as general and administrative expense in the consolidated statements of operations.
The Company’s management reviews financial results and manages the business on an aggregate basis in accordance with ASC 280, Segment Reporting. Therefore, financial results are reported in two operating segments: (1) Optical & Wound Care and (2) Skin Care (see Note 20, Segment Reporting, for further details).
NOTE 4. FAIR VALUE MEASUREMENTS
The Company’s cash equivalents are classified within Level 1 of the fair value hierarchy because they are valued using quoted market prices in active markets, broker or dealer quotations, or alternative pricing sources with reasonable levels of price transparency. The types of investments that are generally classified within Level 1 of the fair value hierarchy include money market securities and certificates of deposit.
As of December 31, 2021, the November 2021 Warrants (as described in Note 14, Stockholders’ Equity) were classified within Level 3 of the fair value hierarchy as liabilities (see Note 13, “Warrant Liability” and Note 14, “Stockholders’ Equity”). As of December 31, 2022, the Company no longer had a warrant liability as the amount was reclassed to equity.
The following table presents the Company’s cash equivalent assets measured at fair value on a recurring basis as of December 31, 2022 (in thousands):
| | | | | | Fair Value Measurements Using | |
| | | | | | Quoted | | | | | | | |
| | | | | | Prices in | | | | | | | |
| | | | | | Active | | | Significant | | | | |
| | | | | | Markets | | | Other | | | Significant | |
| | | Balance at | | | for Identical | | | Observable | | | Unobservable | |
| | | December 31, | | | Items | | | Inputs | | | Inputs | |
| | | 2022 | | | (Level 1) | | | (Level 2) | | | (Level 3) | |
Assets | | | | | | | | | | | | | | | | |
Restricted cash held as a certificate of deposit | | $ | 332 | | | $ | 332 | | | $ | — | | | $ | — | |
Deposit held as a certificate of deposit | | | 152 | | | | 152 | | | | — | | | | — | |
Total assets | | $ | 484 | | | $ | 484 | | | $ | — | | | $ | — | |
The following is a reconciliation of the beginning and ending balances for the liabilities and assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) as of December 31, 2022 (in thousands):
Fair value of warrant liability at December 31, 2021 | | $ | 9,558 | |
Decrease in fair value of November 2021 Warrants | | | (2,056 | ) |
Reclassification of November 2021 Warrants liability to equity | | | (7,502 | ) |
Fair value of warrants issued in connection with the 2022 Warrant Reprice Transaction (see Note 14) | | | 5,241 | |
Decrease in fair value of warrants issued in connection with the 2022 Warrant Reprice Transaction (see Note 14) | | | (3,390 | ) |
Reclassification of September 2022 Warrants liability to equity | | | (1,851 | ) |
Fair value of warrant liability at December 31, 2022 | | $ | — | |
| | | | |
Fair value of contingent liability at December 31, 2021 | | $ | 561 | |
Decrease in fair value of contingent liability | | | (561 | ) |
Fair value of contingent liability at December 31, 2022 | | $ | — | |
46
The following table presents the Company’s cash equivalent assets measured at fair value on a recurring basis as of December 31, 2021 (in thousands):
| | | | | | Fair Value Measurements Using | |
| | | Balance at | | | Quoted | | | Significant | | | Significant | |
| | | December 31, | | | Prices in | | | Other | | | Unobservable | |
| | | 2021 | | | Active | | | Observable | | | Inputs | |
| | | | | | Markets | | | Inputs | | | (Level 3) | |
| | | | | | for Identical | | | (Level 2) | | | | |
| | | | | | Items | | | | | | | |
| | | | | | (Level 1) | | | | | | | | |
Assets | | | | | | | | | | | | | | | | |
Restricted cash held as a certificate of deposit | | $ | 324 | | | $ | 324 | | | $ | — | | | $ | — | |
Deposit held as a certificate of deposit | | | 151 | | | | 151 | | | | — | | | | — | |
Total assets | | $ | 475 | | | $ | 475 | | | $ | — | | | $ | — | |
| | | | | | | | | | | | | | | | |
Liabilities | | | | | | | | | | | | | | | | |
Warrant liability | | $ | 9,558 | | | $ | — | | | $ | — | | | $ | 9,558 | |
Contingent earnout liability | | | 561 | | | | — | | | | — | | | | 561 | |
Total liabilities | | $ | 10,119 | | | $ | — | | | $ | — | | | $ | 10,119 | |
The following is a reconciliation of the beginning and ending balances for the liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) as of December 31, 2021 (in thousands):
Fair value of warrant liability at December 31, 2020 | | $ | — | |
Fair value of November 2021 Warrants issued | | | 14,172 | |
Decrease in fair value of November 2021 Warrants | | | (4,614 | ) |
Fair value of warrant liability at December 31, 2021 | | $ | 9,558 | |
NOTE 5. PREPAID EXPENSES AND OTHER CURRENT ASSETS
Prepaid expenses and other current assets consisted of the following (in thousands):
| | December 31, | | | December 31, | |
(in thousands) | | 2022 | | | 2021 | |
Prepaid inventory | | $ | 211 | | | $ | 368 | |
Prepaid insurance | | | 146 | | | | 138 | |
Prepaid dues and subscriptions | | | 43 | | | | 18 | |
Prepaid marketing costs | | | 24 | | | | 15 | |
Prepaid patents | | | 12 | | | | 9 | |
Tenant Allowance | | | 11 | | | | - | |
Prepaid consultants | | | - | | | | 68 | |
Prepaid sales rebates | | | - | | | | 19 | |
Prepaid rent | | | - | | | | 14 | |
Other | | | 113 | | | | 129 | |
Total prepaid expenses and other current assets | | $ | 560 | | | $ | 778 | |
NOTE 6. INVENTORY
Inventory consisted of the following (in thousands):
| | December 31, | | | December 31, | |
| | 2022 | | | 2021 | |
Raw materials and supplies | | $ | 1,273 | | | $ | 1,179 | |
Finished goods | | | 2,663 | | | | 2,682 | |
Less: Reserve for excess and obsolete inventory | | | (499 | ) | | | (641 | ) |
Total inventory, net | | $ | 3,437 | | | $ | 3,220 | |
NOTE 7. PROPERTY AND EQUIPMENT
Property and equipment consisted of the following (in thousands):
| | December 31, | | | December 31, | |
| | 2022 | | | 2021 | |
Office and laboratory equipment | | $ | 20 | | | $ | 20 | |
Furniture and fixtures | | | 157 | | | | 157 | |
Computer equipment and software | | | 412 | | | | 464 | |
Production equipment | | | — | | | | 114 | |
Leasehold improvements | | | 152 | | | | 79 | |
Total property and equipment, at cost | | | 741 | | | | 834 | |
Less: accumulated depreciation | | | (622 | ) | | | (641 | ) |
Total property and equipment, net | | $ | 119 | | | $ | 193 | |
Depreciation expense was $120 thousand and $59 thousand for the years ended December 31, 2022 and 2021, respectively.
During the years ended December 31, 2022, and 2021, the Company disposed of damaged, unusable and fully depreciated property and equipment with cost of approximately $68 thousand and $12 thousand, respectively. As a result, the Company recognized an immaterial loss on the disposal of these assets in the consolidated statements of operation for such periods.
During the year ended December 31, 2022, the Company recognized a long-lived asset impairment loss in connection with the DERMAdoctor business impairment. As such, the Company has recorded an impairment charge in the year ended December 31, 2022, of $66 thousand, net for property, plant and equipment which is reflected in the general and administrative caption in the Company’s consolidated statements of operations. The impairment information is discussed in Note 2, “Summary of Significant Account Policies”.
NOTE 8. GOODWILL
Goodwill is accounted for in accordance with ASC 350, Intangibles-Goodwill and Other. The Company does not amortize goodwill, but rather test for impairment annually or more frequently if events or circumstances indicate that an asset may be impaired. There were indications of impairment during the year ended December 31, 2022.
During the fourth quarter of 2022, the Company performed its annual goodwill impairment analysis following the steps laid out in ASC 350-20-35-3C. The Company’s annual impairment analysis includes a qualitative assessment to determine if it is necessary to perform the quantitative impairment test. In performing a qualitative assessment, the Company reviewed events and circumstances that could affect the significant inputs used to determine if the fair value is less than the carrying value of goodwill. The Company performed a Step 0 goodwill impairment analysis and determined that the fair value of the reporting unit may more likely than not be less than the carrying amount, which necessitated the Company performing the quantitative impairment test. After performing the quantitative impairment test in accordance with ASC 350-20-35-3C, the Company determined that goodwill related to its DERMAdoctor reporting unit was impaired by $4.2 million. As such, the Company has recorded a goodwill impairment charge in the year ended December 31, 2022, which is reflected in the goodwill, intangible and other asset impairment caption in the Company’s consolidated statements of operations. The impairment information is discussed in Note 2, “Summary of Significant Account Policies,”. The Company did not record any goodwill impairment charges for the year ended December 31, 2021.
The following table presents details of our goodwill during the year ended December 31, 2022:
| | Amount | |
Balance as of December 31, 2021 | | $ | 4,528 | |
Goodwill impairment | | 4,180 | |
Balance as of December 31, 2022 | | $ | 348 | |
NOTE 9. OTHER INTANGIBLE ASSETS
For the years ended December 31, 2022 and 2021, other intangible assets consisted of the following (in thousands):
| | Balance at December 31, 2022 | |
| | | | | | Accumulated | | | | | | | | | |
| | Gross | | | Amortization | | | Impairment | | | Net | |
Indefinite-lived intangible assets | | | | | | | | | | | | | | | | |
Trade names | | $ | 2,080 | | | $ | — | | | $ | (970 | ) | | $ | 1,110 | |
| | | | | | | | | | | | | | | | |
Amortizable intangible assets | | | | | | | | | | | | | | | | |
Customer relationships | | $ | 290 | | | $ | (48 | ) | | $ | (172 | ) | | $ | 70 | |
Trade secrets / product formulations | | | 2,890 | | | | (375 | ) | | $ | (1,415 | ) | | | 1,100 | |
| | | | | | | | | | | | | | | | |
Total other intangible assets | | $ | 5,260 | | | $ | (423 | ) | | $ | (2,557 | ) | | $ | 2,280 | |
| | Balance at December 31, 2021 | |
| | | | | | Accumulated | | | | | | | | | |
| | Gross | | | Amortization | | | Impairment | | | Net | |
Indefinite-lived intangible assets | | | | | | | | | | | | | | | | |
Trade names | | $ | 2,080 | | | $ | — | | | $ | — | | | $ | 2,080 | |
| | | | | | | | | | | | | | | | |
Amortizable intangible assets | | | | | | | | | | | | | | | | |
Customer relationships | | $ | 290 | | | $ | (7 | ) | | $ | — | | | $ | 283 | |
Trade secrets / product formulations | | | 2,890 | | | | (53 | ) | | | — | | | | 2,837 | |
| | | | | | | | | | | | | | | | |
Total other intangible assets | | $ | 5,260 | | | $ | (60 | ) | | $ | — | | | $ | 5,200 | |
In the fourth quarter of 2022, the Company determined that certain of its indefinite-lived and long-lived amortizable intangible assets related to its DERMAdoctor business were impaired. As such, the Company has recorded an intangible asset impairment charge of $2.6 million in the year ended December 31, 2022, which is reflected in the goodwill, intangible and other asset impairment caption in the Company’s consolidated statements of operations. The impairment information is discussed in Note 2, “Summary of Significant Account Policies,”. The Company did not record any intangible asset impairment charges for the year ended December 31, 2021.
Amortization expense was $363 thousand and $60 thousand for the years ended December 31, 2022 and 2021, respectively. Based on the amortizable intangible assets as of December 31, 2022, future amortization expenses is expected to be as follows (in thousands):
2023 | | $ | 152 | |
2024 | | | 153 | |
2025 | | | 152 | |
2026 | | | 153 | |
Thereafter | | | 560 | |
Total | | $ | 1,170 | |
NOTE 10. ACCRUED LIABILITIES
Accrued liabilities consisted of the following (in thousands):
| | December 31, | | | December 31, | |
(in thousands) | | 2022 | | | 2021 | |
Contract liabilities (see Note 14) | | $ | 1,807 | | | $ | 1,289 | |
Employee payroll and benefits | | | 261 | | | | 443 | |
Marketing costs | | | 104 | | | | 51 | |
Inventory purchases | | | 101 | | | | 0 | |
Other | | | 451 | | | | 309 | |
Total accrued liabilities | | $ | 2,724 | | | $ | 2,092 | |
NOTE 11. LINE OF CREDIT
At the time of the DERMAdoctor Acquisition, DERMAdoctor had a line of credit agreement with Bank Midwest for $500 thousand. The line of credit was terminated and repaid in full on January 6, 2022. The line of credit had an interest rate equal to the Wall Street Journal Prime Rate plus 1.50% with a floor of 5.00%. All borrowings were collateralized by substantially all assets of DERMAdoctor. As of December 31, 2022, there was no outstanding balance on the line of credit as such line of credit was terminated in the first quarter of 2022.
NOTE 12. COMMITMENTS AND CONTINGENCIES
Indemnification Agreements
As permitted under Delaware law and in accordance with its bylaws, the Company indemnifies its officers and directors for certain events or occurrences while the officer or director is or was serving at the Company’s request in such capacity. The term of the indemnification period is for the officer’s or director’s lifetime. The maximum amount of potential future indemnification is unlimited; however, the Company has a director and officer insurance policy that limits its exposure and may enable it to recover a portion of any future payments. The Company believes the fair value of these indemnification agreements is minimal. Accordingly, it has not recorded any liabilities for these agreements as of December 31, 2022.
In the normal course of business, the Company provides indemnification of varying scope under its agreements with other entities, typically its clinical research organizations, investigators, clinical sites, suppliers, and others. Pursuant to these agreements, it generally indemnifies, holds harmless, and agrees to reimburse the indemnified parties for losses suffered or incurred by the indemnified parties in connection with the use or testing of its products or product candidates or with any U.S. patent or any copyright or other intellectual property infringement claims by any third party with respect to its products. The term of these indemnification agreements is generally perpetual. The potential future payments the Company could be required to make under these indemnification agreements is unlimited. Historically, costs related to these indemnification provisions have been immaterial. The Company also maintains various liability insurance policies that limit its exposure. As a result, it believes the fair value of these indemnification agreements is minimal. Accordingly, the Company has not recorded any liabilities for these agreements as of December 31, 2022.
Legal Matters
As of December 31, 2022, there were no legal matters that, in the opinion of management, would ultimately result in liability that would have a material adverse effect on the Company’s financial position, results of operations or cash flows.
Leases
The Company leases office space for its corporate headquarters located in Emeryville, California. The initial lease term was scheduled to expire on February 28, 2022, but on January 19, 2022, the Company exercised its option to extend the term and amended the lease to extend the term through July 31, 2027.
The Company is also party to a lease for 19,136 square feet of space located in Riverside, Missouri, which it utilizes for light manufacturing, storage, distribution of products and administrative functions. The lease commenced on October 1, 2019 and expires on December 31, 2024.
In calculating the present value of the minimum lease payments, the Company utilized its incremental borrowing rate. The Company has elected to account for each lease component and its associated non-lease components as a single lease component and has allocated all of the contract consideration across lease components only. This will potentially result in the initial and subsequent measurement of the balances of the right-of-use assets and lease liability for leases being greater than if the policy election was not applied. The leases include variable components (e.g. common area maintenance) that are paid separately from the monthly base payment based on actual costs incurred and therefore were not included in the right-of-use assets and lease liability, but are reflected as an expense in the period incurred.
The components of lease expense for the years ended December 31, 2022 and 2021 were as follows (in thousands):
Lease Costs | | For the Years Ended December 31, | |
| | 2022 | | | 2021 | |
Operating lease cost | | $ | 525 | | | $ | 418 | |
Net lease cost | | $ | 525 | | | $ | 418 | |
| | | | | | | | |
Other information | | | | | | | | |
Operational cash flow used for operating leases | | $ | 540 | | | $ | 475 | |
The Company has measured its operating lease liabilities at its incremental borrowing rate over the remaining term for each operating lease. The weighted average remaining lease term and the weighted average discount rate are summarized as follows:
| | For the Years Ended December 31, | |
| | 2022 | | | 2021 | |
Weighted-average remaining lease term (in years) | | | 4.3 | | | | 2.5 | |
Weighted-average discount rate | | | 5 | % | | | 6 | % |
Future lease payments under non-cancelable leases as of December 31, 2022 were as follows (in thousands):
2023 | | $ | 535 | |
2024 | | | 549 | |
2025 | | | 431 | |
2026 | | | 444 | |
2027 | | | 290 | |
Total future minimum lease payments | | | 2,249 | |
Less imputed interest | | | (208 | ) |
Total | | $ | 2,041 | |
| | | | |
Reported as: | | | | |
Operating lease liability | | $ | 453 | |
Operating lease liability- non-current | | | 1,588 | |
Total | | $ | 2,041 | |
NOTE 13. WARRANT LIABILITY
September 2022 Warrants
On September 9, 2022, in connection with the 2022 Warrant Reprice Transaction, the Company issued the September 2022 Warrants. The September 2022 Warrants became exercisable on March 9, 2023 after being subject to an exercise restriction until the later of (i) March 9, 2023 or (ii) the date that the Reverse Stock Split, which was approved by Company stockholders on November 10, 2022, becomes effective. As a result, under ASC 480, Distinguishing Liabilities from Equity, the September 2022 Warrants were classified as equity as of December 31, 2022. See Note 14, “Stockholders’ Equity”.
The fair value of the September 2022 Warrants was determined to be $1.4 million as of the date of issuance in accordance with the following key assumptions:
Expected price volatility | | | 79.6 | % |
Expected term (in years) | | | 6.0 | |
Risk-free interest rate | | | 3.43 | % |
Dividend yield | | | 0.0 | % |
Weighted-average fair value of warrants | | $ | 4.55 | |
As of November 10, 2022, the fair value of the September 2022 Warrants was determined to be $0.5 million in accordance with the following key assumptions:
Expected price volatility | | | 79.5 | % |
Expected term (in years) | | | 5.8 | |
Risk-free interest rate | | | 3.93 | % |
Dividend yield | | | 0.0 | % |
Weighted-average fair value of warrants | | $ | 1.40 | |
November 2021 Warrants
The Company issued the November 2021 Warrants in the fourth quarter of 2021 which were all subsequently amended pursuant to the 2022 Warrant Reprice Transaction. The November 2021 Warrants, as amended, became exercisable on March 9, 2023 after being subject to a restriction upon the exercise of the November 2021 Warrants until the later of (i) March 9, 2023 or (ii) the date that the Reverse Stock Split, which was approved by the Company’s stockholders on November 10, 2022, becomes effective. See Note 14, “Stockholders’ Equity”.
Under ASC 480, Distinguishing Liabilities from Equity, the November 2021 Warrants prior to being amended were classified as liabilities as of December 31, 2021, which classification continued until the November 2021 Warrants became exercisable. The November 2021 Warrants became exercisable subsequent to December 31, 2021, on January 31, 2022 when our stockholders met and approved the necessary increase in authorized share capital available to meet the assumed exercise or conversion of the November 2021 Warrants and the Series B Preferred Stock. On January 31, 2022, as a result of the stockholder approval of the increase in authorized share capital, the November 2021 Warrants became exercisable and were reclassified from a liability to equity because the warrants require physical settlement or net share settlement.
Upon issuance, the fair value of the November 2021 Warrants was determined to be $14.2 million in accordance with the following key assumptions as of November 2, 2021:
Expected price volatility | | | 84.9 | % |
Expected term (in years) | | | 6.2 | |
Risk-free interest rate | | | 1.29 | % |
Dividend yield | | | 0.00 | % |
Weighted-average fair value of warrants | | $ | 13.30 | |
As of December 31, 2021 the fair value of the November 2021 Warrants was determined to be $9.6 million in accordance with the following key assumptions:
Expected price volatility | | | 87 | % |
Expected term (in years) | | | 6.0 | |
Risk-free interest rate | | | 1.31 | % |
Dividend yield | | | 0.00 | % |
Weighted-average fair value of warrants | | $ | 8.75 | |
On September 9, 2022, in connection with the 2022 Warrant Reprice Transaction, the Company reduced the exercise price of all of the November 2021 Warrants to $0.18 per share and amended certain other of their terms. In connection with the 2022 Warrant Reprice Transaction, a total of 9,375,000 shares of common stock (or 267,857 shares of common stock if accounting for the subsequent Reverse Stock Split) underlying the November 2021 Warrants were exercised immediately after amendment. As a result, under ASC 480, Distinguishing Liabilities from Equity, the unexercised November 2021 Warrants, as amended, were classified as liabilities as of the date of amendment.
Expected price volatility | | | 79.6 | % |
Expected term (in years) | | | 6.0 | |
Risk-free interest rate | | | 3.43 | % |
Dividend yield | | | 0.00 | % |
Weighted-average fair value of warrants | | $ | 4.55 | |
As of November 10, 2022, the fair value of the November 2021 Warrants, as amended, was determined to be $1.3 million in accordance with the following key assumptions:
Expected price volatility | | | 79.5 | % |
Expected term (in years) | | | 5.8 | |
Risk-free interest rate | | | 3.93 | % |
Dividend yield | | | 0.00 | % |
Weighted-average fair value of warrants | | $ | 1.40 | |
Amended July 2020 Warrants
On September 9, 2022, in connection with the 2022 Warrant Reprice Transaction, the Company reduced the exercise price of certain July 2020 Warrants exercisable for 4,800,000 shares of common stock (or 137,145 shares of common stock if accounting for the subsequent Reverse Stock Split) to $0.18 per share and amended certain other of their terms. In connection with the 2022 Warrant Reprice Transaction, a total of 2,100,000 shares of common stock (or 60,000 shares of common stock if accounting for the subsequent Reverse Stock Split) underlying the Amended July 2020 Warrants were exercised immediately after amendment. The remaining Amended July 2020 Warrants exercisable for 2,700,000 shares of common stock (or 77,145 shares of common stock if accounting for the subsequent Reverse Stock Split) became exercisable on March 9, 2023 after being subject to a restriction upon their exercise until the later of (i) March 9, 2023 or (ii) the date that the Reverse Stock Split, which was approved by Company’s stockholders on November 10, 2022, becomes effective. As a result, under ASC 480, Distinguishing Liabilities from Equity, the unexercised Amended July 2020 Warrants were classified as liabilities on the date of amendment.
The fair value of the Amended July 2020 Warrants was determined to be $0.3 million on the date of amendment in accordance with the following key assumptions:
Expected price volatility | | | 79.6 | % |
Expected term (in years) | | | 3.4 | |
Risk-free interest rate | | | 3.58 | % |
Dividend yield | | | 0.00 | % |
Weighted-average fair value of warrants | | $ | 3.50 | |
As of November 10, 2022, the fair value of the Amended July 2020 Warrants was determined to be $0.1 million in accordance with the following key assumptions:
Expected price volatility | | | 79.5 | % |
Expected term (in years) | | | 3.2 | |
Risk-free interest rate | | | 4.15 | % |
Dividend yield | | | 0.00 | % |
Weighted-average fair value of warrants | | $ | 1.05 | |
2019 Domestic Warrants, 2019 Foreign Warrants and 2019 Ladenburg Warrants
The Company issued the 2019 Domestic Warrants, 2019 Foreign Warrants and 2019 Ladenburg Warrants (each as defined in Note 14, “Stockholders’ Equity”) in the third quarter of 2019. The terms of the 2019 Domestic Warrants, 2019 Foreign Warrants and 2019 Ladenburg Warrants all required potential cash-settlement in the event of a specified fundamental transaction. Under ASC 480, Distinguishing Liabilities from Equity, the warrants were classified as liabilities because the Company’s potential obligation to cash-settle the warrants was deemed to be beyond the Company’s control. The fair value of outstanding warrants was determined at each reporting date using a Black-Scholes option pricing model with the changes in fair value recorded in the consolidated statements of operations.
Upon issuance in the third quarter of 2019, the fair value of the 2019 Domestic Warrants, 2019 Foreign Warrants and 2019 Ladenburg Warrants was determined to be $3.1 million, $2.0 million and $0.1 million, respectively.
In the third quarter of 2020, as further described in Note 14, “Stockholders’ Equity”, the 2019 Domestic Warrants and 2019 Foreign Warrants were exercised at reduced exercise prices. The warrant liabilities associated with these warrants were adjusted to their fair values as of the date of exercise, with the change in fair values recorded in the consolidated statements of operations. The fair values were then transferred to equity. As of the date of exercise, the fair value of the 2019 Domestic Warrants and 2019 Foreign Warrants was determined to be $4.9 million and $4.2 million, respectively, in accordance with the following key assumptions:
Assumptions | | 2019 Domestic Warrants | | | 2019 Foreign Warrants | |
Expected price volatility | | | 178 | % | | | 178 | % |
Expected term (in years) | | | 4.57 | | | | 4.57 | |
Risk-free interest rate | | | 0.25 | % | | | 0.27 | % |
Dividend yield | | | 0.00 | % | | | 0.00 | % |
Weighted-average fair value of warrant | | $ | 41.30 | | | $ | 53.90 | |
There were no 2019 Domestic Warrants or 2019 Foreign Warrants outstanding as of December 31, 2022.
In the third quarter of 2020, as further described in Note 14, “Stockholders’ Equity”, the Company amended the 2019 Ladenburg Warrants. The Company’s potential obligation to cash-settle the warrants if a specified fundamental transaction occurred was amended to apply only in situations within the Company’s control. Pursuant to this change, the 2019 Ladenburg Warrants were no longer classified as liabilities. The warrant liability associated with the 2019 Ladenburg Warrants was adjusted to fair value as of the date of the amendment, with the change in fair value recorded in the consolidated statements of operations. The fair value was then transferred to equity. The fair value of the 2019 Ladenburg Warrants was determined to be $0.2 million on the date of amendment in accordance with the following key assumptions:
Expected price volatility | | | 186 | % |
Expected term (in years) | | | 4.05 | |
Risk-free interest rate | | | 0.22 | % |
Dividend yield | | | 0.00 | % |
Weighted-average fair value of warrants | | $ | 40.95 | |
The 2019 Ladenburg Warrants will no longer be adjusted to fair value in reporting periods after the amendment. All 2019 Ladenburg Warrants remained outstanding as of December 31, 2022.
NOTE 14. STOCKHOLDERS' EQUITY
Common Stock and Preferred Stock
Under the Company’s Amended and Restated Certificate of Incorporation, as amended, the Company is authorized to issue up to 150,000,000 shares of common stock and up to 5,000,000 shares of preferred stock (with rights and preferences as may be approved by the Company’s Board of Directors).
Reverse Stock Split
Effective November 15, 2022, the Company amended its Certificate of Incorporation to effect a 1-for-35 reverse split of its outstanding common stock. The Reverse Stock Split was approved by the Company’s stockholders on November 10, 2022. As a result of the Reverse Stock Split, every 35 shares of the Company’s pre-reverse split outstanding common stock were combined and reclassified into 1 share of common stock. Proportionate voting rights and other rights of common stockholders were not affected by the reverse stock split. Any fractional shares of common stock resulting from the Reverse Stock Split were rounded up to the nearest whole share. All stock options outstanding, common stock reserved for issuance under the Company’s equity incentive plans, common stock reserved for issuance under the Series B Preferred Stock and outstanding warrants were adjusted by dividing the number of affected shares of common stock by 35 and, as applicable, multiplying the exercise/conversion price by 35. Except as otherwise specifically noted, all share numbers, share prices, exercise prices and per share amounts have been adjusted, on a retroactive basis, to reflect this 1-for-35 reverse stock split.
2022 Warrant Reprice Transaction and September 2022 Warrants
On September 9, 2022, the Company entered into the 2022 Warrant Reprice Transaction, which included warrant reprice letter agreements with each of the holders of the November 2021 Warrants and certain holders of the July 2020 Warrants. Pursuant to the terms of the letter agreements, the November 2021 Warrants and certain July 2020 Warrants were amended to: (i) reduce the exercise price; (ii) provide that such warrants would not be exercisable until a later date, which was March 9, 2023; and (iii) in the case of the November 2021 Warrants, extend the termination date to September 11, 2028.
As a result of these amendments to the Amended November 2021 Warrants and the Amended July 2020 Warrants, the Company recorded a non-cash loss on modification of common stock warrants in the amount of $1.9 million. The loss represents the increase in fair value of the November 2021 Warrants, as amended, and the Amended July 2020 Warrants as a result of the modification. The increase in fair value was calculated as the difference in value immediately before and after modification using the Black-Scholes option pricing model. The fair value of the Amended November 2021 Warrants and the Amended July 2020 Warrants was determined to be $3.3 million immediately prior to the modification in accordance with the following key assumptions:
| | November 2021 Warrants | | | July 2020 Warrants | |
Expected price volatility | | | 79.6 | % | | | 79.6 | % |
Expected term (in years) | | | 5.4 | | | | 3.4 | |
Risk-free interest rate | | | 3.43 | % | | | 3.58 | % |
Dividend yield | | | 0.00 | % | | | 0.00 | % |
Weighted-average fair value of warrants | | $ | 3.15 | | | $ | 0.70 | |
The fair value of the Amended November 2021 Warrants and the Amended July 2020 Warrants was determined to be $5.2 million immediately after the modification in accordance with the following key assumptions:
| | November 2021 Warrants | | | July 2020 Warrants | |
Expected price volatility | | | 79.6 | % | | | 79.6 | % |
Expected term (in years) | | | 6.0 | | | | 3.4 | |
Risk-free interest rate | | | 3.43 | % | | | 3.58 | % |
Dividend yield | | | 0.00 | % | | | 0.00 | % |
Weighted-average fair value of warrants | | $ | 4.55 | | | $ | 3.50 | |
Additionally, in connection with the 2022 Warrant Reprice Transaction, the Company issued to certain participants in the 2022 Warrant Reprice Transaction that exercised their Amended November 2021 Warrants and their Amended July 2020 Warrants, the September 2022 Warrants to purchase a number of shares of common stock equal to 100% of the number of shares that a participant exercised under its November 2021 Warrant or Amended July 2020 Warrant, as applicable. The September 2022 Warrants are exercisable for an aggregate of 327,860 shares of common stock at an exercise price of $6.30 per share and expire on September 11, 2028.
The 2022 Warrant Reprice Transaction resulted in gross proceeds of approximately $2.1 million. The Company allocated the gross proceeds between the common stock issued for the Amended November 2021 Warrants and the Amended July 2020 Warrants exercised, and the September 2022 Warrants issued to participants by applying the relative fair value allocation methodology. The Company allocated $0.7 million in gross proceeds to the common stock issued for the Amended November 2021 Warrants and the Amended July 2020 Warrants exercised, and $1.4 million to the September 2022 Warrants which are classified as a liability. For additional information regarding the warrant liability and valuation, please see Note 13, “Warrant Liability”.
Ladenburg Thalmann & Co. Inc. (“Ladenburg”) served as the Company’s warrant solicitation agent for the 2022 Warrant Reprice Transaction in exchange for a fee equal to 8% of the total gross proceeds. The Company incurred total issuance costs of $529 thousand in conjunction with the 2022 Warrant Reprice Transaction. The Company allocated $166 thousand of the issuance costs to the warrant liability which was expensed in the Company’s consolidated statements of operations during the year ended December 31, 2022. The remaining $363 thousand was recorded as a reduction of common stock and additional paid in capital in the Company’s consolidated balance sheets.
Series C Preferred Stock and Warrants
Concurrent with the 2022 Warrant Reprice Transaction on September 9, 2022, the Company entered into the 2022 Private Placement, a private placement transaction with certain accredited investors to sell units that consisted of: (1) 3,250 shares of Series C Preferred Stock convertible into an aggregate of 516,750 shares of common stock, (2) the Short-Term Warrants exercisable for 515,876 shares of common stock at an exercise price of $6.30 per share, and (3) the Long-Term Warrants exercisable for 515,876 shares of common stock at an exercise price of $6.30 per share. The closing of the 2022 Private Placement was subject to receiving certain stockholder approvals (as obtained on November 10, 2022), effecting the Reverse Stock Split, as well as the satisfaction of other customary closing conditions. On November 18, 2022, the Company closed the 2022 Private Placement and received gross proceeds of $3.2 million from the sale of the Series C Preferred Stock and the 2022 Warrants.
As of December 31, 2022, the 1,031,752 shares of common stock underlying the 2022 Warrants (with 515,876 underlying each of the Short-Term Warrants and the Long-Term Warrants) became exercisable on March 9, 2023 at an exercise price of $6.30 with the Short-Term Warrants expiring on May 20, 2024 and the Long-Term Warrants expiring on November 20, 2024.
Series B Preferred Stock and November 2021 Warrants
On October 29, 2021, the Company entered into the 2021 Private Placement, including a securities purchase agreement with various institutional investors to sell in a private placement offering (i) an aggregate of 15,000 shares of our newly-created Series B Non-Voting Preferred Stock (the “Series B Preferred Stock”) convertible into an aggregate of 37,500,000 shares of common stock (or 1,071,429 shares of common stock if accounting for the subsequent Reverse Stock Split), and (ii) the November 2021 Warrants exercisable for 37,500,000 shares of common stock (or 1,071,429 shares of common stock if accounting for the subsequent Reverse Stock Split) for net proceeds of $14.9 million. The 2021 Private Placement closed on November 2, 2021.
The November 2021 Warrants were not immediately exercisable upon issuance. In order for the November 2021 Warrants to become exercisable, the Company was required to hold a stockholder meeting to (i) obtain stockholder approval, in accordance with Section 713(a) and (b) of the NYSE American Company Guide, for the issuance of the shares underlying the Series B Preferred Stock and the November 2021 Warrants (the “Share Issuance Proposal”) and (ii) obtain stockholder approval of an amendment to the Company’s Amended and Restated Certificate of Incorporation to increase the number of authorized shares of common stock from 100,000,000 shares to 150,000,000 shares (the “Authorized Share Increase Proposal”). The Company held a special meeting of stockholders on December 17, 2021 (the “Special Meeting”) at which the Share Issuance Approval was approved by stockholders and, at a subsequent adjournment of the Special Meeting on January 31, 2022, the stockholders approved the Authorized Share Increase Proposal. As a result of these approvals having been given by the stockholders at the Special Meeting, the November 2021 Warrants became exercisable as of January 31, 2022, and will continue to be exercisable for a period of six (6) years from such date.
The conversion by the holders of the Series B Preferred Stock was initially subject to approval of the Share Issuance Proposal. Until the Share Issuance Proposal was approved by stockholders at the Special Meeting, the holders of the Series B Preferred Stock were limited in converting their shares to an aggregate of 19.99% of the outstanding shares of common stock immediately prior to the closing of the 2021 Private Placement. As a result of the Company’s stockholders approving the Share Issuance Proposal at the Special Meeting, this limitation upon conversion of Series B Preferred Stock was no longer applicable to the holders as of December 17, 2021. The Series B Preferred Stock does not have any preemptive rights or a preference upon any liquidation, dissolution or winding-up of NovaBay. The Series B Preferred Stock does, however, have anti-dilution protection in the event that the Company sells or grants any of its common stock or any other securities, subject to certain limited exceptions, that would entitle the holder thereof to acquire common stock at an effective price per share that is lower than the then applicable conversion price of the Series B Preferred Stock.
The Company allocated the net proceeds between the Series B Preferred Stock and the November 2021 Warrants by applying the residual fair value methodology. The Company first allocated $14.2 million to the November 2021 Warrants, with the residual amount allocated to the Series B Preferred Stock. See Note 13, “Warrant Liability” for further discussion of the key assumptions used to value the November 2021 Warrants.
In connection with the issuance of the Series B Preferred Stock, the Company recorded a beneficial conversion feature of $0.7 million as a discount to Series B Preferred Stock and an increase to additional paid in capital. The Company fully amortized the discount related to the beneficial conversion feature on the deemed dividend in the consolidated statements of operations upon approval of the Share Issuance Proposal in the fourth quarter of 2022.
The Company incurred total issuance costs of $1.7 million in conjunction with the 2021 Private Placement. The Company allocated $1.6 million of the issuance costs to the warrant liability which was expensed in the Company’s consolidated statements of operations loss during the year ended December 31, 2021. The remaining $0.1 million was recorded as a reduction of Series B Preferred Stock in the Company’s consolidated balance sheets.
Each share of the Series B Preferred Stock that the Company issued in the 2021 Private Placement had a purchase price of $1,000 per share and was initially convertible at a conversion price of $0.40 into 2,500 shares of common stock, or an aggregate of 37,500,000 shares of common stock (which does not account for the Reverse Stock Split). On September 9, 2022, the 2022 Warrant Reprice Transaction provided for amendments to certain common stock purchase warrants to lower their exercise price to $0.18 per share as well as the issuance of the September 2022 Warrants also with an exercise price of $0.18 per share, which exercise price was lower than the then effective $0.40 conversion price of the Series B Preferred Stock (which does not account for the Reverse Stock Split). This triggered the Series B Preferred Stock anti-dilution feature, resulting in the automatic adjustment to the conversion price for each outstanding share of the Series B Preferred Stock to $0.18, and each outstanding share of Series B Preferred Stock became convertible into 5,556 shares of common stock (which does not account for the Reverse Stock Split). As a result of the change, the Company recorded a $5.7 million deemed Series B Preferred Stock dividend. The deemed dividend is recorded as a reduction to income available to common shareholders in the basic earnings per shares (EPS) calculation. In accordance with ASC 820, the deemed dividend was measured as the difference between (1) the fair value of the Series B Preferred Stock immediately prior to the conversion price adjustment (but without the anti-dilution protection feature) and (2) the fair value of the Series B Preferred Stock immediately after the conversion price adjustment (but without the anti-dilution protection feature). The fair value of the Series B Preferred Stock was determined to be $6.9 million immediately prior the conversion price adjustment in accordance with the following key assumptions:
Expected price volatility | | | 79.6 | % |
Expected term (in years) | | | 1.3 | |
Risk-free interest rate | | | 3.64 | % |
Dividend yield | | | 0.00 | % |
Weighted-average fair value of warrants | | $ | 8.05 | |
The fair value of the Series B Preferred Stock was determined to be $12.5 million immediately after the conversion price protection adjustment in accordance with the following key assumptions:
Expected price volatility | | | 79.6 | % |
Expected term (in years) | | | 1.3 | |
Risk-free interest rate | | | 3.64 | % |
Dividend yield | | | 0.00 | % |
Weighted-average fair value of warrants | | $ | 2.10 | |
Thereafter, the Company effected the Reverse Stock Split, which resulted in an automatic adjustment to the conversion price for each outstanding share of the Series B Preferred Stock to $6.30, and each outstanding shares of Series B Preferred Stock became convertible into 159 shares of common stock.
As of December 31, 2022, 3,380 shares of the Series B Preferred Stock had been converted into common stock. Each of the remaining 11,620 shares of the Series B Preferred Stock as of December 31, 2022, is currently convertible into 159 shares of common stock at a conversion price of $6.30.
On September 9, 2022, in connection with the 2022 Warrant Reprice Transaction, the November 2021 Warrants were amended to reduce the exercise price to $0.18 (or $6.30 to adjust for the subsequent Reverse Stock Split) and extend the expiration date to September 11, 2028. Additionally, in conjunction with the 2022 Warrant Reprice Transaction, holders of the November 2021 Warrants, as amended, exercised a portion of their warrants at the reduced exercise price. As of December 31, 2022, the 803,574 shares of common stock underlying the November 2021 Warrants, as amended, became exercisable on March 9, 2023.
Common Stock
May 2021 At the Market Offering
In the second quarter of 2021, the Company established an at-the-market offering and equity program with Ladenburg (the “2021 ATM Program”). For additional information regarding the offering and equity program, see the Company’s Current Report on Form 8-K filed with the SEC on May 14, 2021. During the second quarter of 2021, 2,672,000 shares of common stock were issued under the 2021 ATM Program for total net proceeds of $1.8 million, net of offering costs of $0.1 million.
Common Stock Warrants
TLF Bio Innovation 2021 Warrants
On January 15, 2021, TLF Bio Innovation was granted warrants exercisable for 15,000 shares of common stock (or 429 shares of common stock if accounting for the subsequent Reverse Stock Split) with an exercise price of $0.6718 (or $23.5130 if accounting for the subsequent Reverse Stock Split) (the “TLF Warrants”). The TLF Warrants will expire five years after their issuance. The TLF Warrants are classified as equity.
2019 Domestic Warrants, 2019 Foreign Warrants, 2019 Ladenburg Warrants and July 2020 Warrants
As of December 31, 2022, there were no 2019 Domestic Warrants, 2019 Foreign Warrants, 2019 Ladenburg Warrants or July 2020 Warrants (each as defined below) outstanding. Therefore, the share amounts and related exercise prices below have not been adjusted to account for the Reverse Stock Split.
In the third quarter of 2019, the Company entered into a purchase agreement (the “2019 Purchase Agreement”) for the sale of (i) 4,198,566 shares of common stock and (ii) 4,198,566 common stock purchase warrants exercisable for 4,198,566 shares of common stock (the “2019 Domestic Warrants”) for gross proceeds of $4.2 million. The 2019 Domestic Warrants were issued with an exercise price of $1.15 and an expiration date of February 13, 2025.
The Company allocated the proceeds between the common stock and 2019 Domestic Warrants by applying the relative fair value allocation methodology. The Company first allocated $3.1 million to the 2019 Domestic Warrants, with the residual amount allocated to the common stock. See Note 13, “Warrant Liability” for further discussion of the key assumptions used to value the 2019 Domestic Warrants.
The Company incurred total issuance costs of $0.5 million in conjunction with the 2019 Purchase Agreement. The Company allocated $0.2 million of the issuance costs to the warrant liability which was expensed in the Company’s consolidated statements of operations during the period. The remaining $0.3 million was recorded as a reduction of additional paid-in capital in the Company’s consolidated balance sheets.
During the third quarter of 2020, the Company and the holders of the 2019 Domestic Warrants and the 2019 Foreign Warrants entered into exercise agreements which resulted in the cash exercise of the warrants at a reduced exercise price of $0.99. The Company received aggregate gross proceeds of approximately $6.8 million from the exercises. The Company incurred and paid other offering costs of $0.2 million. The Company also incurred and paid a $0.2 million fee to China Kington for brokering the transaction, which equaled six percent (6%) of the gross proceeds from the 2019 Foreign Warrants.
During the third quarter of 2020, the Company and all holders of the 2019 Domestic Warrants and 2019 Foreign Warrants entered into warrant repricing letter agreements. Pursuant to the agreement, in consideration for the exercise in full of the 2019 Domestic Warrants and 2019 Foreign Warrants, the Company agreed to: (1) reduce the exercise price of the 2019 Domestic Warrants and the 2019 Foreign Warrants to $0.99 per share prior to exercise, and (2) in a private placement, issue new common stock purchase warrants (the “July 2020 Warrants”) to purchase up to a number of shares of common stock, equal to 100% of the number of 2019 Domestic Warrants and 2019 Foreign Warrants currently held by such holders upon the holders exercising their warrants.
The July 2020 Warrants became exercisable nine months after their issuance, for an aggregate of 6,898,566 shares of common stock. The July 2020 Warrants have an exercise price of $1.65 per share and will expire five and a half years after their issuance. The Company determined that the common stock issued from the exercise of the 2019 Domestic and 2019 Foreign Warrants, and the July 2020 Warrants to be one unit of account, and therefore did not allocate the proceeds between the common stock and the July 2020 Warrants as, the proceeds, even if allocated, would be both recognized in additional paid-in capital.
2019 Ladenburg Warrants
Ladenburg served as the placement agent for the transaction related to the 2019 Purchase Agreement in exchange for a commission representing six percent (6%) of the gross proceeds, totaling $0.3 million, and common stock purchase warrants exercisable for 167,942 shares of common stock (or 4,799 shares of common stock as adjusted for the subsequent Reverse Stock Split) with an expiration date of August 8, 2024 (the “2019 Ladenburg Warrants”). In addition, the Company reimbursed the Placement Agent $60 thousand for certain expenses. The Company also incurred and paid other offering costs of $0.3 million.
As the 2019 Ladenburg Warrants were accounted for as a stock issuance cost, $59 thousand was allocated to the warrant liability and expensed during the period and $65 thousand was recorded as a reduction to additional paid-in capital in the Company’s consolidated balance sheets. See Note 13, “Warrant Liability” for a discussion of the key assumptions used to value the 2019 Ladenburg Warrants.
During the third quarter of 2020, the Company also entered into a reprice agreement with Ladenburg which reduced the exercise price to $0.99 per share (or $34.65 to adjust for the subsequent Reverse Stock Split) and amended certain terms of the 2019 Ladenburg Warrants. The Company’s potential obligation to cash-settle the warrants if a specified fundamental transaction occurred was amended to apply only in situations within the Company’s control. As further described in Note 13, “Warrant Liability”, the 2019 Ladenburg Warrants were no longer classified as a liability as a result of this amendment.
June 2019 Private Placement and June 2019 Warrants
As of December 31, 2022, there were no June 2019 Warrants (as defined below) outstanding. Therefore, the share amounts and related exercise prices below have not been adjusted to account for the Reverse Stock Split.
During the second quarter of 2019, the Company entered into a private placement agreement to sell 1,371,427 shares of common stock and 1,371,427 common stock purchase warrants exercisable for 1,371,427 shares of common stock (the “June 2019 Warrants”) for an aggregate subscription price of $2.4 million. Three accredited investors, Messrs. Xiao Rui Liu, Hai Dong Pang and Ping Huang, subscribed to the private placement for $1.0 million, $0.4 million and $1.0 million, respectively. China Kington served as placement agent in exchange for a commission equal to six percent (6%) of the gross proceeds, totaling $0.1 million. The Company also paid other offering costs of $27 thousand.
The June 2019 Warrants were issued with an exercise price of $0.87 and an expiration date of June 17, 2020. The June 2019 Warrants were callable by the Company if the closing price of the Company’s common stock, as reported on the NYSE American, was $1.00 or greater.
During the first quarter of 2020, a total of 228,571 June 2019 Warrants were exercised, resulting in gross proceeds of $199 thousand. The Company paid China Kington a fee of $12 thousand, or six percent (6%) of the gross proceeds, for brokering the exercise transaction.
During the second quarter of 2020, a total of 571,428 June 2019 Warrants were exercised, resulting in gross proceeds of $497 thousand. The Company paid China Kington a fee of $29 thousand, or six percent (6%) of the gross proceeds, for brokering the exercise transaction. Also, during the second quarter of 2021, all remaining 571,428 June 2019 Warrants expired unexercised.
October 2015 Warrants
As of December 31, 2022, there were no October 2015 Warrants (as defined below) outstanding. Therefore, the share amounts and related exercise prices below have not been adjusted to account for the Reverse Stock Split.
In the fourth quarter of 2015, the Company issued 442,802 common stock purchase warrants exercisable for 442,802 shares of common stock in connection with a public offering (the “October 2015 Warrants”). The warrants were issued with an exercise price of $5.00 and an expiration date of October 27, 2020. In February 2016 and May 2019, the exercise price of outstanding October 2015 Warrants was reduced to $1.81 and $0.2061 per share, respectively, pursuant to price protection provisions of the warrants. Also during the fourth quarter of 2021, a total of 22,680 October 2015 Warrants were exercised, resulting in gross proceeds of $5 thousand.
During the fourth quarter of 2020, all remaining 15,320 October 2015 Warrants expired unexercised.
March 2015 Warrants
As of December 31, 2022, there were no March 2015 Warrants (as defined below) outstanding. Therefore, the share amounts and related exercise prices below have not been adjusted to account for the Reverse Stock Split.
In the first quarter of 2015, the Company issued 649,133 common stock purchase warrants exercisable for 649,133 shares of common stock in connection with a private placement offering (the “March 2015 Warrants”). The exercise price of individual March 2015 Warrants varied between $15.00 and $16.25 per share at the time of issuance. The Company issued 278,200 of the March 2015 Warrants with an expiration date of March 6, 2020, and the remaining 370,933 March 2015 Warrants with an expiration date of September 6, 2015. In October 2015, in connection with a separate financing event, the exercise price of all outstanding March 2015 Warrants was reduced to $5.00 per share and the expiration date of all outstanding warrants expiring on September 6, 2015, was extended to March 6, 2020. In February 2016 and May 2019, the exercise price of all outstanding July 2011 Warrants was reduced to $1.81 and $0.2061 per share, respectively, pursuant to price protection provisions of the warrants.
During the first quarter of 2020, a total of 70,000 March 2015 Warrants were exercised, resulting in gross proceeds of $14 thousand. Also in the first quarter of 2020, all remaining 7,419 March 2015 Warrants expired unexercised.
July 2011 Warrants
As of December 31, 2022, there were no July 2011 Warrants (as defined below) outstanding. Therefore, the share amounts and related exercise prices below have not been adjusted to account for the Reverse Stock Split.
In the third quarter of 2011, the Company issued 139,520 common stock purchase warrants exercisable for 139,520 shares of common stock in connection with a registered direct financing (the “July 2011 Warrants”). The July 2011 Warrants were issued with an exercise price of $33.25 and an expiration date of July 5, 2016. In October 2015, in connection with a separate financing event, the exercise price of outstanding July 2011 Warrants was reduced to $5.00 per share and the expiration date extended to March 6, 2020. In February 2016 and May 2019, the exercise price of outstanding July 2011 Warrants was reduced to $1.81 and $0.2061 per share, respectively, pursuant to price protection provisions of the warrants.
In March 2020, a total of 35,107 July 2011 Warrants expired unexercised.
The details of all outstanding warrants as of December 31, 2022 were as follows:
| | Warrants (in thousands) | | | Weighted- Average Exercise Price | |
Outstanding at December 31, 2020 | | | 201 | | | $ | 57.13 | |
Warrants granted | | | 1 | | | $ | 23.51 | |
Warrants expired | | | — | | | $ | — | |
Outstanding at December 31, 2021 | | | 202 | | | $ | 57.13 | |
Warrants granted | | | 2,431 | | | $ | 8.18 | |
Warrants exercised | | | (327 | ) | | $ | 6.30 | |
Warrants expired | | | — | | | $ | — | |
Outstanding at December 31, 2022 | | | 2,306 | | | $ | 7.70 | |
NOTE 15. EQUITY-BASED COMPENSATION
Equity Compensation Plans
In October 2007, the Company adopted the 2007 Omnibus Incentive Plan (the “2007 Plan”) to provide for the granting of equity awards, such as stock options, unrestricted and restricted common stock, stock units, dividend equivalent rights, and stock appreciation rights to employees, directors and outside consultants, as determined by the Board. The 2007 Plan expired on March 15, 2017. Upon expiration, new awards cannot be issued pursuant to the 2007 Plan, but outstanding awards continue to be governed by its terms. Stock options granted under the 2007 Plan expire no later than ten years from the date of grant. All stock options outstanding under the 2007 Plan were fully vested as of December 31, 2021.
In March 2017, the Company adopted the 2017 Omnibus Incentive Plan (the “2017 Plan”), which was approved by stockholders on June 2, 2017, to provide for the granting of equity awards, such as nonqualified stock options (“NQSOs”), incentive stock options (“ISOs”), restricted stock, performance shares, stock appreciation rights (“SARs”), RSUs and other share-based awards to employees, directors, and consultants, as determined by the Board. The 2017 Plan does not affect awards previously granted under the 2007 Plan. Upon adoption, the 2017 Plan allowed for awards of up to 66,243 shares of the Company’s common stock, plus an automatic annual increase in the number of shares authorized for awards on the first day of each of the Company’s fiscal years beginning January 1, 2018 through January 1, 2027 equal to (i) 4% of the number of shares of common stock outstanding on the last day of the immediately preceding fiscal year or (ii) such lesser number of shares of common stock than provided for in Section 4(a)(i) of the 2017 Plan as determined by the Board. On March 6, 2022, the number of shares available for future awards under the 2017 Plan was increased by 54,590 shares. As of December 31, 2022, there were 90,591 shares available for future awards under the 2017 Plan.
Under the terms of the 2017 Plan, the exercise price of NQSOs, ISOs and SARs may not be less than 100% of the fair market value of the common stock on the date of grant and, if ISOs are granted to an owner of more than 10% of the Company’s stock, then not less than 110% of the fair market value of the common stock on the date of grant. The term of awards will not be longer than ten years, or in the case of ISOs, not longer than five years with respect to holders of more than 10% of the Company’s stock. Stock options granted to employees generally vest over four years, while options granted to directors and consultants typically vest over a shorter period, subject to continued service. The Company issues new shares to satisfy option exercises under the 2007 Plan and the 2017 Plan.
59
Stock Option Summary
The following table summarizes information about the Company’s stock options and restricted stock outstanding at December 31, 2021, and activity during the year ended December 31, 2022:
(in thousands, except years and per share data) |
|
Options |
|
|
Weighted- Average Exercise Price |
|
|
Weighted- Average Remaining Contractual Life (years) |
|
|
Aggregate Intrinsic Value |
|
Outstanding at December 31, 2021 |
|
|
127 |
|
|
$ |
48.77 |
|
|
|
7.6 |
|
|
$ |
460 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options granted |
|
|
19 |
|
|
$ |
9.62 |
|
|
|
|
|
|
|
|
|
Restricted stock units granted |
|
|
5 |
|
|
$ |
— |
|
|
|
|
|
|
|
|
|
Restricted stock units vested |
|
|
(3 |
) |
|
$ |
— |
|
|
|
|
|
|
|
|
|
Options forfeited/cancelled |
|
|
(15 |
) |
|
$ |
93.48 |
|
|
|
|
|
|
|
|
|
Restricted stock units cancelled |
|
|
(1 |
) |
|
|
— |
|
|
|
|
|
|
|
|
|
Outstanding at December 31, 2022 |
|
|
132 |
|
|
$ |
37.99 |
|
|
|
7.5 |
|
|
$ |
69 |
|
Vested and expected to vest at December 31, 2022 |
|
|
97 |
|
|
$ |
50.41 |
|
|
|
7.1 |
|
|
$ |
10 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Vested at December 31, 2022 |
|
|
63 |
|
|
$ |
68.89 |
|
|
|
6.2 |
|
|
$ |
— |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable at December 31, 2022 |
|
|
63 |
|
|
$ |
68.89 |
|
|
|
6.2 |
|
|
$ |
— |
|
The aggregate intrinsic value in the table above is calculated as the difference between the exercise price of the underlying stock option awards and the closing market price of the Company’s common stock as quoted on the NYSE American as of December 31, 2022 for options that have a quoted market price in excess of the exercise price. There were no stock option awards exercised during the years ended December 31, 2022 and 2021.
As of December 31, 2022, total unrecognized compensation cost related to unvested stock options and restricted stock was approximately $0.5 million. This amount is expected to be recognized as stock-based compensation expense in the Company’s consolidated statements of operations over the remaining weighted average vesting period of 2.04 years.
Stock Option Awards to Employees and Directors
The Company grants options to purchase common stock to its employees and directors at prices equal to or greater than the market value of the stock on the dates the options are granted. The Company has estimated the value of stock option awards as of the date of grant by applying the Black-Scholes option pricing model using the single-option valuation approach. The application of this valuation model involves assumptions that are judgmental and subjective in nature. See Note 2, “Summary of Significant Account Policies,” for a description of the accounting policies that the Company applied to value its stock-based awards.
During the years ended December 31, 2022 and 2021, the Company granted options to employees and directors to purchase an aggregate of 18,607 and 14,748 shares of common stock, respectively.
The weighted-average assumptions used in determining the value of options are as follows:
|
|
For the Years Ended December 31, |
|
Assumptions |
|
2022 |
|
|
2021 |
|
Expected price volatility |
|
|
158 |
% |
|
|
164 |
% |
Expected term (in years) |
|
|
6.45 |
|
|
|
6.19 |
|
Risk-free interest rate |
|
|
2.36 |
% |
|
|
1.05 |
% |
Dividend yield |
|
|
0.00 |
% |
|
|
0.00 |
% |
Weighted-average fair value of options granted during the period |
|
$ |
9.22 |
|
|
$ |
22.37 |
|
Expected Price Volatility—This is a measure of the amount by which the stock price has fluctuated or is expected to fluctuate. The computation of expected volatility was based on the historical volatility of our own stock.
Expected Term—This is the period of time over which the options granted are expected to remain outstanding. The expected life assumption is based on the Company’s historical data.
Risk-Free Interest Rate—This is the U.S. Treasury rate for the week of the grant having a term approximating the expected life of the option.
Dividend Yield—The Company has not made any dividend payments nor does the Company have plans to pay dividends in the foreseeable future.
Forfeitures are estimated at the time of grant and reduce compensation expense ratably over the vesting period. This estimate is adjusted periodically based on the extent to which actual forfeitures differ, or are expected to differ, from the previous estimate.
During the years ended December 31, 2022 and 2021, the Company granted 5,148 and 34,291, shares of restricted stock to employees and directors, respectively.
For the years ended December 31, 2022 and 2021, the Company recognized stock-based compensation expense of $0.2 million and $0.7 million, respectively, for option awards to employees and directors.
Stock-Based Awards to Non-Employees
During the years ended December 31, 2022 and 2021, the Company did not grant options exercisable for shares of common stock to non-employees in exchange for advisory and consulting services.
The Company did not grant restricted stock to non-employees during the year ended December 31, 2022.
In connection with former director Mr. Sieczkarek’s resignation, the Company entered into a two-year consulting agreement with Mr. Sieczkarek under which he is entitled to receive additional shares of fully vested registered stock in exchange for consulting services. According to the terms of the agreement, the stock units are to be issued in two tranches of $0.2 million each for a total aggregate fair market value equal to $0.4 million. The number of shares issued for each tranche is calculated using the closing price on each respective grant date. In July 2021, the Company issued 9,382 shares to Mr. Sieczkarek to fulfill the second tranche. The expense related to the shares issued under the consulting agreement was recorded over the term of the Consulting Agreement.
For the year ended December 31, 2022, the Company recognized a nominal amount of stock-based compensation expense as relates to non-employees. For the year ended December 31, 2021, the Company recognized stock-based compensation expense of $240 thousand, related to non-employee options and restricted stock grants.
Summary of Stock-Based Compensation Expense
A summary of the stock-based compensation expense included in results of operations for the options and restricted stock awards discussed above is as follows (in thousands):
|
|
For the Years Ended December 31, |
|
|
|
2022 |
|
|
2021 |
|
Research and development |
|
$ |
20 |
|
|
$ |
10 |
|
Sales and marketing |
|
|
52 |
|
|
|
129 |
|
General and administrative |
|
|
148 |
|
|
|
794 |
|
Total stock-based compensation expense |
|
$ |
220 |
|
|
$ |
933 |
|
NOTE 16. DISTRIBUTION AGREEMENTS
Transactions under the Company’s major distribution agreements are recognized upon transfer of control of product sold to its major distribution partners at the amount of consideration that the Company expects to be entitled to. The Company records contract liabilities for the amounts that are estimated to be subject to significant reversal, including allowances for services, discounts, rebate programs, and product returns.
61
Product Sales Discounts and Allowances
The following table presents activities and ending reserve balances for each significant category of discounts and allowance, which constitute variable consideration for the year ended December 31, 2022 (in thousands):
| | Chargebacks, Discounts for Prompt Payment | | | Other Customer Fees | | | Rebates | | | Total | |
Balance at December 31, 2021 | | $ | 1,150 | | | $ | 83 | | | $ | 56 | | | $ | 1,289 | |
Provision related to sales made in: | | | | | | | | | | | | | | | | |
Current period | | $ | 1,865 | | | $ | 65 | | | $ | 448 | | | $ | 2,378 | |
Payments and customer credits issued | | $ | (1,342 | ) | | $ | (95 | ) | | $ | (423 | ) | | $ | (1,860 | ) |
Balance at December 31, 2022 | | $ | 1,673 | | | $ | 53 | | | $ | 81 | | | $ | 1,807 | |
The following table presents activities and ending reserve balances for each significant category of discounts and allowance, which constitute variable consideration for the year ended December 31, 2021 (in thousands):
| | Chargebacks, Discounts for Prompt Payment | | | Other Customer Fees | | | Rebates | | | Total | |
Balance at December 31, 2020 | | $ | 537 | | | $ | 91 | | | $ | 102 | | | $ | 730 | |
Provision related to sales made in: | | | | | | | | | | | | | | | | |
Current period | | $ | 1,374 | | | $ | 135 | | | $ | 723 | | | $ | 2,232 | |
Payments and customer credits issued | | $ | (761 | ) | | $ | (143 | ) | | $ | (769 | ) | | $ | (1,673 | ) |
Balance at December 31, 2021 | | $ | 1,150 | | | $ | 83 | | | $ | 56 | | | $ | 1,289 | |
Contract Assets and Liabilities
The Company receives payments from our distribution partners established in each contract. Amounts are recorded as accounts receivable when the Company’s rights to consideration is unconditional. The Company may be required to defer recognition of revenue for upfront payments until it performs its obligations under these arrangements, and such amounts are recorded as deferred revenue upon receipt.
The following table presents contract assets and liabilities reported in the consolidated balance sheets (in thousands):
| | December 31, | | | December 31, | | | December 31, | |
| | 2022 | | | 2021 | | | 2020 | |
Contract assets | | $ | - | | | $ | 19 | | | $ | 144 | |
| | | | | | | | | | | | |
Contract liabilities | | | | | | | | | | | | |
Current portion | | $ | 4 | | | $ | 54 | | | $ | 2 | |
Long-term portion | | $ | - | | | $ | - | | | $ | - | |
Total contract liabilities | | $ | 4 | | | $ | 54 | | | $ | 2 | |
Avenova Spray Pharmacy Distribution Agreements and Specialty Pharmacies
Avenova Spray is made available in local pharmacies and major pharmacy retail chains under nationwide distribution agreements with McKesson Corporation, Cardinal Health and AmerisourceBergen. The Company has also entered into direct agreements with preferred pharmacy networks as part of our Partner Pharmacy Program. During the years ended December 31, 2022 and 2021, the Company earned $0.1 million and $0.6 million, respectively, in sales revenue for its Avenova Spray product from these distribution and partner pharmacy agreements.
Under these product distribution arrangements, the Company had a contract liability balance of $1.6 million as of December 31, 2022 and $0.9 million as of December 31, 2021. The contract liability is included in accrued liabilities in the consolidated balance sheets. The Company also recorded a prepayment of $19 thousand for rebates related to these distribution agreements as of December 31, 2021, with no such prepayment recorded in the 2022 period, that is recorded in the prepaid expenses and other current assets in the consolidated balance sheets (see Note 5, “Prepaid Expenses and Other Current Assets”).
Over-the-Counter Sales of Avenova Spray
Avenova Spray was launched online on June 1, 2019 direct to U.S. customers. Avenova Spray is offered primarily for sale on Amazon.com, the Company’s website (Avenova.com), Walmart.com, select CVS stores and online on CVS.com. These channels provide the Company with more stable pricing and provide customers with easy access to our product. During the years ended December 31, 2022 and 2021, the revenue generated from Avenova Spray in these channels was $6.5 million and $6.6 million, respectively.
DERMAdoctor Products Distribution Agreements
DERMAdoctor products are sold through distribution arrangements with third parties such as Costco and others. During the years ended December 31, 2022 and 2021, the Company earned $0.9 million and $0.2 million, respectively, in sales revenue for its DERMAdoctor products from these distribution agreements.
Under these distribution arrangements, the Company had a contract liability balance of $0.2 million as of December 31, 2022, and $0.4 million as of December 31, 2021. The contract liability is included in accrued liabilities in the consolidated balance sheets.
NOTE 17. EMPLOYEE BENEFIT PLAN
The Company has a 401(k) plan covering all eligible employees. The Company made an election to change the terms of the 401(k) plan such that, beginning on January 1, 2022, the Company elected to make a matching contribution equal to 100% of the first 3% of compensation deferred, plus 50% of the next 2% of compensation deferred. The Company contributed $125 thousand to the plan in the year ended December 31, 2022. During the year ended December 31, 2021, the Company had not elected to contribute to the 401(k) plan and made no contributions.
NOTE 18. INCOME TAXES
For the years ended December 31, 2022 and 2021, loss before provision for income taxes consisted of the following (in thousands):
| | For the Years Ended December 31, | |
| | 2022 | | | 2021 | |
United States | | $ | (10,608 | ) | | $ | (5,824 | ) |
International | | | — | | | | — | |
| | $ | (10,608 | ) | | $ | (5,824 | ) |
For the years ended December 31, 2022 and 2021, the federal and state income tax provision is summarized as follows (in thousands):
| | For the Years Ended December 31, | |
| | 2022 | | | 2021 | |
Current | | | | | | | | |
Federal | | $ | — | | | $ | — | |
State | | | — | | | | — | |
Other | | | — | | | | — | |
Total current tax expense | | $ | — | | | $ | — | |
| | | | | | | | |
| | | | | | | | |
Deferred | | | | | | | | |
Federal | | | — | | | | — | |
State | | | — | | | | — | |
Other | | | — | | | | — | |
Total deferred tax expense | | $ | — | | | $ | — | |
| | | | | | | | |
Income tax provision | | $ | — | | | $ | — | |
Deferred income taxes reflect the net tax effects of (a) temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, and (b) operating losses and tax credit carryforwards.
The tax effects of significant items comprising the Company's deferred taxes as of December 31, 2022 and 2021 are as follows (in thousands):
| | For the Years Ended December 31, | |
| | 2022 | | | 2021 | |
Deferred tax assets: | | | | | | | | |
Net operating losses | | $ | 35,234 | | | $ | 33,455 | |
Stock options | | | 750 | | | | 884 | |
Research and development credits | | | 641 | | | | 641 | |
Accruals | | | 464 | | | | 306 | |
Operating lease liabilities | | | 472 | | | | 19 | |
Property and equipment | | | 13 | | | | 10 | |
Other deferred tax assets | | | 331 | | | | 376 | |
Total deferred tax assets | | | 37,905 | | | | 35,691 | |
Deferred tax liabilities: | | | | | | | | |
Operating lease right-of-use assets | | | (472 | ) | | | (19 | ) |
Total deferred tax liabilities | | | (472 | ) | | | (19 | ) |
| | | | | | | | |
Valuation allowance | | | (37,433 | ) | | | (35,672 | ) |
Net deferred taxes | | $ | — | | | $ | — | |
ASC 740, Income Taxes, requires that the tax benefit of net operating losses, temporary differences and credit carryforwards be recorded as an asset to the extent that management assesses that realization is “more likely than not”. Realization of the future tax benefits is dependent on the Company's ability to generate sufficient taxable income within the carryforward period. Because of the Company's recent history of operating losses, management believes that recognition of the deferred tax assets arising from the above-mentioned future tax benefits is currently not likely to be realized and, accordingly, has provided a valuation allowance.
The valuation allowance increased by $1.8 million and $2.8 million during the years ended December 31, 2022 and 2021, respectively.
Net operating loss and tax credit carryforwards as of December 31, 2022, are as follows (in thousands):
| | | | | Expiration |
| | Amount | | Years |
Net operating losses, federal (Post December 31, 2017) | | $ | 38,087 | | Does Not Expire |
Net operating losses, federal (Pre January 1, 2018) | | $ | 94,886 | | Beginning in 2024 |
Net operating losses, state | | $ | 111,012 | | Beginning in 2028 |
Tax credits, federal | | $ | 542 | | Beginning in 2031 |
Tax credits, state | | $ | 125 | | Indefinite |
Effective January 1, 2009, the Company adopted a new accounting standard that provides guidance on accounting for uncertainty in income taxes. The adoption had no effect on the Company's financial statements. A reconciliation of the beginning and ending balances of the unrecognized tax benefits during the below years are as follows (in thousands):
| | | For the Years Ended December 31, | |
| | | 2022 | | | | 2021 | |
Unrecognized benefit - beginning of period | | $ | 974 | | | $ | 974 | |
Change during the period | | | — | | | | — | |
Unrecognized benefit - end of period | | $ | 974 | | | $ | 974 | |
The entire amount of the unrecognized tax benefits would not impact our effective tax rate if recognized. The balance of unrecognized tax benefits increased as a result of a comprehensive analysis to substantiate the company's research and orphan drug credits. Accrued interest and penalties related to unrecognized tax benefits are classified as income tax expense and were immaterial. The Company files income tax returns in the United States and in California. Other jurisdictions are not significant. The tax years 2019 - 2022 remain open in the federal jurisdiction and 2018 - 2022 for California. The Company is not currently under examination by income tax authorities in federal, state or other jurisdictions.
The effective tax rate of the Company's provision (benefit) for income taxes differs from the federal statutory rate as follows:
| For the Years Ended December 31, | |
| 2022 | | 2021 | |
Statutory rate | 21.0 | % | | 21.0 | % |
State tax | 7.9 | % | | 11.2 | % |
Change in valuation allowance | | (48.0 | %) | | (47.7 | %) |
Warrant/equity expenses | 20.2 | % | | 16.7 | % |
Stock-based compensation expense | | (4.2 | %) | | (1.1 | %) |
Other | | (0.1 | %) | | (0.1 | %) |
Change in value of earnout | 3.2 | % | | — | % |
Total | 0.0 | % | | 0.0 | % |
NOTE 19. RELATED PARTY TRANSACTIONS
Related Party Revenue
The following table summarizes information about the Company’s related party revenue and cost of goods sold during the years ended December 31, 2022 and 2021, respectively (in thousands):
| | For the Years Ended December 31, | |
| | 2022 | | | 2021 | |
Related party revenue: | | | | | | | | |
NeutroPhase | | $ | 976 | | | $ | 368 | |
Total related party revenue | | $ | 976 | | | $ | 368 | |
| | | | | | | | |
Cost of goods sold | | | | | | | | |
NeutroPhase | | $ | 954 | | | $ | 325 | |
Total related party expenses | | $ | 954 | | | $ | 325 | |
Related party accounts receivable was $0.2 million and $0.1 million as of December 31, 2022 and December 31, 2021, respectively.
On November 17, 2020, the Company entered into a consulting agreement with Eric Wu. Eric Wu is Partner and Senior Vice President of China Kington and the brother of Bob Wu, who serves on the Company’s Board of Directors. Pursuant to the Agreement, Eric Wu acted as a consultant to the Company in support of product expansion efforts as well as in potential financings and other transaction opportunities. The term of the Agreement was for twelve months. As consideration for his services, the Company granted Eric Wu options exercisable for 300,000 shares of the Company’s common stock (or 8,572 shares of common stock if accounting for the subsequent Reverse Stock Split) under the Company’s 2017 Omnibus Incentive Plan with an exercise price equal to the Company’s closing stock price on the date of the grant (as subsequently adjusted for the Reverse Stock Split) and vesting on the one year anniversary of the grant date. Stock-based compensation expense of $152 thousand was recorded for the year ended December 31, 2021 related to Eric Wu’s options, with no stock-based compensation expense related to Eric Wu’s options recorded in the year ended December 31, 2022.
NOTE 20. SEGMENT REPORTING
The Company’s chief operating decision maker (“CODM”), who is the Company’s Chief Executive Officer, allocates resources and assesses performance based on financial information of the Company. The CODM reviews financial information presented for each reportable segment for purposes of making operating decisions and assessing financial performance.
Prior to the DERMAdoctor Acquisition in November 2021 (see Note 3, “Business Combination”), the Company was managed as a single segment focused on commercializing Avenova Spray in the United States. After the DERMAdoctor Acquisition, the Company began managing and aggregating its operational and financial information in accordance with two reportable segments: (1) Optical & Wound Care and (2) Skin Care. The Optical & Wound Care segment consists of products historically sold by NovaBay prior to the DERMAdoctor Acquisition. The Skin Care segment consists of products acquired in the DERMAdoctor Acquisition and skincare products subsequently sold under the DERMAdoctor brand.
65
Select financial information for each segment is as follows:
| | Year | | | | | | | Year | | | | | |
| | Ended | | | Percentage | | | Ended | | | Percentage | |
| | December 31, | | | of Product | | | December 31, | | | of Product | |
| | 2022 | | | Revenue | | | 2021 | | | Revenue | |
Optical & Wound Care | | $ | 10,239 | | | | 71 | % | | $ | 9,555 | | | | 94 | % |
Skin Care | | | 4,165 | | | | 29 | % | | | 649 | | | | 6 | % |
Total sales, net | | $ | 14,404 | | | | 100 | % | | $ | 10,204 | | | | 100 | % |
| | Year | | | | | | | Year | | | | | |
| | Ended | | | Percentage | | | Ended | | | Percentage | |
| | December 31, | | | of Total | | | December 31, | | | of Total | |
| | 2022 | | | Operating Loss | | | 2021 | | | Operating Loss | |
Optical & Wound Care | | $ | 5,645 | | | | 39 | % | | $ | 8,682 | | | | 98 | % |
Skin Care | | | 8,772 | | | | 61 | % | | | 180 | | | | 2 | % |
Total operating loss | | $ | 14,417 | | | | 100 | % | | $ | 8,862 | | | | 100 | % |