Notes to Condensed Consolidated Financial Statements
(unaudited)
(In Thousands, Except Per Share Amounts)
1.Basis of Presentation
General
Unless the context otherwise requires, all references in these Notes to “Axogen,” the “Company,” “we,” “us” and “our” refer to Axogen, Inc. and its wholly owned subsidiaries Axogen Corporation (“AC”), Axogen Processing Corporation, and Axogen Europe GmbH.
The accompanying unaudited condensed consolidated financial statements include the accounts of the Company as of September 30, 2022, and December 31, 2021, and for the three and nine months ended September 30, 2022, and 2021. The Company’s condensed consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X, and; therefore, do not include all information and footnotes necessary for a fair presentation of consolidated financial position, results of operations, and cash flows in conformity with accounting principles generally accepted in the United States of America (“US GAAP”) and should be read in conjunction with the audited financial statements of the Company for the year ended December 31, 2021, which are included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021.
The interim condensed consolidated financial statements are unaudited and in the opinion of management, reflect all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of results for the periods presented. Results for interim periods are not necessarily indicative of results for the full year. All intercompany accounts and transactions have been eliminated in consolidation.
The results of operations for the three and nine months ended September 30, 2022, are not necessarily indicative of the results to be expected for the full year due primarily to the impact of the continued uncertainty of general economic conditions that may impact our markets for the remainder of fiscal year 2022. Specifically, there can be no assurance that the resurgence of COVID-19 will not affect future results.
Certain prior year amounts have been reclassified for consistency with the current year presentation. These reclassifications had no effect on the reported results of operations.
2.Summary of Significant Accounting Policies
Please see Note 2 to the Company’s consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021, filed with the Securities and Exchange Commission (“SEC”) on February 28, 2022 for a description of all significant accounting policies.
Cash and Cash Equivalents and Concentration
The Company considers highly liquid investments with maturities of three months or less at the date of acquisition as cash equivalents in the accompanying condensed consolidated financial statements. The Company has not experienced any losses related to these balances; however, as of September 30, 2022, $13,818 of the cash and cash equivalents balance was in excess of Federal Deposit Insurance Corporation limits. The Company had restricted cash balances of $6,251 for each of the periods ended September 30, 2022, and December 31, 2021. The September 30, 2022, and December 31, 2021, balances both include $6,000 and $250, which represent collateral for two irrevocable standby letters of credit. See "Note 8 - Long-Term Debt, Net of Debt Discount and Financing Fees."
The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported in the condensed consolidated balance sheets that sum to the total of the same amounts shown in the condensed consolidated statements of cash flows:
| | | | | | | | | | | |
(In thousands) | September 30, 2022 | | December 31, 2021 |
Cash and cash equivalents | $ | 14,318 | | | $ | 32,756 | |
Restricted cash | 6,251 | | | 6,251 | |
Total cash, cash equivalents, and restricted cash shown in the statement of cash flows | $ | 20,569 | | | $ | 39,007 | |
Stock-Based Compensation
The Company measures stock options granted to employees at a premium price based on market conditions, such as the trading price of the Company’s common stock, using a Monte Carlo Simulation model in estimating the fair value at grant date. The determination of the fair value is affected by the Company's stock price, as well as assumptions regarding several subjective variables. These variables include, but are not limited to, the Company’s expected stock price volatility over the term of the awards. The Company determines the expected life of each award giving consideration to the contractual terms, vesting schedules, and post-vesting forfeitures. The Company uses the risk-free interest rate on the implied yield currently available on U.S. Treasury issues with an equivalent remaining term approximately equal to the expected life of the award. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in the Company’s consolidated statements of operations. The expense has been reduced for forfeitures as they occur.
The Company recognizes expense for all stock-based compensation awards, including stock options, restricted stock units ("RSUs"), and performance stock units ("PSUs") granted to employees eligible for retirement, as defined within the award notice and allowing for continued vesting post-retirement, over the retirement notice period and continuously updates its estimate of expense over the notice period each reporting period if a retirement notice has not been provided.
Costs of Goods Sold
Cost of sales includes direct labor and materials costs related to each product sold or produced, including processing, quality assurance labor and scrap, as well as facility and warehousing overhead supporting our manufacturing operations. All of our manufacturing costs are included in cost of sales.
Shipping and Handling
All shipping and handling costs, including facility and warehousing overhead, directly related to bringing the Company’s products to their final selling destination are in included in selling and marketing expenses. Shipping and handling costs included in sales and marketing were $1,330 and $1,366 for the three months ended September 30, 2022, and 2021, respectively and $3,863 and $3,657 for the nine months ended September 30, 2022, and 2021, respectively.
Recent Accounting Pronouncements
In November 2021, the Financial Accounting Standards ("FASB") amended Accounting Standards Codification ("ASC") 832, Government Assistance (issued under Accounting Standards Update ("ASU") 2021-10, Disclosures by Business Entities about Government Assistance). This amendment requires annual disclosures about transactions with a government that are accounted for by applying a grant or contribution accounting model by analogy, including, (1) the types of transactions; (2) the financial statement line items affected by the transaction, and; (3) significant terms and conditions associated with the transactions. The Company adopted the guidance on January 1, 2022 and the adoption of ASU 2021-10 did not to have a material impact on the Company's condensed consolidated financial condition, results of operations or disclosures.
3. Inventory
Inventory consisted of the following (in thousands):
| | | | | | | | | | | |
| September 30, 2022 | | December 31, 2021 |
Finished goods | $ | 12,823 | | | $ | 11,011 | |
Work in process | 903 | | | 813 | |
Raw materials | 5,390 | | | 4,869 | |
Inventory | $ | 19,116 | | | $ | 16,693 | |
The provision for inventory write-down was $452 and $395 for the three months ended September 30, 2022, and 2021, respectively, and for the nine months ended September 30, 2022, and 2021, the Company had adjustments to the provision for inventory write-downs of $1,381 and $2,850 (including the write-down of Avive inventory of $1,251 in the 2021 period), respectively.
4. Property and Equipment, Net
Property and equipment, net consisted of the following (in thousands):
| | | | | | | | | | | |
| September 30, 2022 | | December 31, 2021 |
Furniture and equipment | $ | 5,408 | | | $ | 5,100 | |
Leasehold improvements | 15,569 | | | 14,952 | |
Processing equipment | 4,229 | | | 3,984 | |
Land | 731 | | | 731 | |
Projects in process | 58,595 | | | 45,660 | |
Finance lease right-of-use assets | 131 | | | 110 | |
Property and equipment, at cost | 84,663 | | | 70,537 | |
Less: accumulated depreciation and amortization | (9,796) | | | (7,614) | |
Property and equipment, net | $ | 74,867 | | | $ | 62,923 | |
The Company further added to its projects in process total which is related to our Axogen Processing Center (“APC Facility”). See "Note 12 - Commitments and Contingencies."
Depreciation expense consisted of following (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended September 30, | | Nine Months Ended September 30, |
| 2022 | | 2021 | | 2022 | | 2021 |
Depreciation expense | $ | 764 | | | $ | 654 | | | $ | 2,182 | | | $ | 2,059 | |
Depreciation expense is allocated among cost of sales, sales and marketing, research and development, and general and administrative expense on the condensed consolidated statements of operations.
5. Intangible Assets, Net
The Company’s intangible assets consisted of the following (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| September 30, 2022 | | December 31, 2021 |
| Gross Carrying Amount | | Accumulated Amortization | | Net Carrying Amount | | Gross Carrying Amount | | Accumulated Amortization | | Net Carrying Amount |
Amortizable intangible assets: | | | | | | | | | | | |
Patents | $ | 3,245 | | | $ | (342) | | | $ | 2,903 | | | $ | 2,469 | | | $ | (234) | | | $ | 2,235 | |
License agreements | 1,101 | | | (943) | | | 158 | | | 1,101 | | | (852) | | | 249 | |
Total amortizable intangible assets | 4,346 | | | (1,285) | | | 3,061 | | | 3,570 | | | (1,086) | | | 2,484 | |
| | | | | | | | | | | |
Unamortized intangible assets | | | | | | | | | | | |
Trademarks | 387 | | | — | | | 387 | | | 375 | | | — | | | 375 | |
Total intangible assets | $ | 4,733 | | | $ | (1,285) | | | $ | 3,448 | | | $ | 3,945 | | | $ | (1,086) | | | $ | 2,859 | |
Amortization expense consisted of the following (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended September 30, | | Nine Months Ended September 30, |
| 2022 | | 2021 | | 2022 | | 2021 |
Amortization expense | $ | 66 | | | $ | 52 | | | $ | 198 | | | $ | 148 | |
Expected future amortization of intangible assets as of September 30, 2022, is as follows (in thousands):
| | | | | |
Year Ending December 31, | Expected Amortization Expense |
2022 (excluding the nine months ended September 30, 2022) | $ | 68 | |
2023 | 237 | |
2024 | 169 | |
2025 | 169 | |
2026 | 167 | |
Thereafter | 2,251 | |
Total amortized intangible assets | $ | 3,061 | |
License Agreements
The Company has License Agreements with the University of Florida Research Foundation and the University of Texas at Austin in which certain royalty payments are paid quarterly.
Royalty expense consisted of the following (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended September 30, | | Nine Months Ended September 30, |
| 2022 | | 2021 | | 2022 | | 2021 |
Royalty expense | $ | 848 | | | $ | 687 | | | $ | 2,287 | | | $ | 2,037 | |
Royalty fees are included in sales and marketing expense on the accompanying condensed consolidated statements of operations.
6. Fair Value Measurement
Fair value is defined as the price that would be received upon the sale of an asset or paid to transfer a liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value maximize the use of observable inputs and minimize the use of unobservable inputs. The fair value hierarchy defines a three-level valuation hierarchy for classification and disclosure of fair value measurements as follows:
Level 1 – Quoted prices in active markets for identical assets or liabilities.
Level 2 – Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
Level 3 – Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
There has been no movement between Level 1 and Level 2 or between Level 2 and Level 3 from December 31, 2021, to September 30, 2022. Assets and liabilities measured at fair value are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.
Debt Derivative Liabilities
The Debt Derivative Liabilities are measured using a ‘with and without’ valuation model to compare the fair value of the Company's financing agreement with Oberland Capital including the identified embedded derivative features and the fair value of a plain vanilla note with the same terms. The fair value of the Oberland Facility including the embedded derivative features was determined using a probability-weighted expected return model based on four potential settlement scenarios for the Oberland Facility due to (a) a 5% probability of a mandatory prepayment event of the Oberland Facility on December 31, 2023; (b) a 15% probability of a mandatory prepayment event of the Oberland Facility on March 31, 2026; (c) a 5% probability of the prepayment of the Oberland Facility at the Company’s option on December 31, 2025; and (d) a 75% probability that the Oberland Facility will be held to its scheduled maturity dates in accordance with the terms of the debt agreement. The estimated settlement value of each scenario, which would include any required make-whole payment, is then discounted to present value
using a discount rate that is derived based on the initial terms of the Oberland Facility at issuance and corroborated utilizing a synthetic credit rating analysis.
The significant inputs that are included in the valuation of the Debt derivative liability - first tranche include:
| | | | | | | | | | | | | | |
| September 30, 2022 | | December 31, 2021 | |
Input | | | | |
Remaining term (years) | 4.75 years | | 5.5 years | |
Maturity date | June 30, 2027 | | June 30, 2027 | |
Coupon rate | 9.5% - 12.3% | | 9.5 | % | |
Revenue participation payments | Maximum each year | | Maximum each year | |
Discount rate | 14.7% | | (1) | 10.72% | | (1) |
Probability of mandatory prepayment before 2024 | 5.0 | % | (1) | 5.0 | % | (1) |
Estimated timing of mandatory prepayment event before 2024 | December 31, 2023 | (1) | December 31, 2023 | (1) |
Probability of mandatory prepayment 2024 or after | 15.0 | % | (1) | 15.0 | % | (1) |
Estimated timing of mandatory prepayment event 2024 or after | March 31, 2026 | (1) | March 31, 2026 | (1) |
Probability of optional prepayment event | 5.0 | % | (1) | 5.0 | % | (1) |
Estimated timing of optional prepayment event | December 31, 2025 | (1) | December 31, 2025 | (1) |
(1)Represents a significant unobservable input
The significant inputs that are included in the valuation of the Debt derivative liability - second tranche include:
| | | | | | | | | | | | | | |
| September 30, 2022 | | December 31, 2021 | |
Input | | | | |
Remaining term (years) | 5.75 years | | 6.5 | |
Maturity date | June 30, 2028 | | June 30, 2028 | |
Coupon rate | 9.5% - 12.3% | | 9.5% | | |
Revenue participation payments | Maximum each year | | Maximum each year | |
Discount rate | 18.3 | % | (1) | 13.21 | % | (1) |
Probability of mandatory prepayment before 2024 | 5.0% | | (1) | 5.0% | | (1) |
Estimated timing of mandatory prepayment event before 2024 | December 31, 2023 | (1) | December 31, 2023 | (1) |
Probability of mandatory prepayment 2024 or after | 15.0% | | (1) | 15.0% | | (1) |
Estimated timing of mandatory prepayment event 2024 or after | March 31, 2026 | (1) | March 31, 2026 | (1) |
Probability of optional prepayment event | 5.0% | | (1) | 5.0% | | (1) |
Estimated timing of optional prepayment event | December 31, 2025 | (1) | December 31, 2025 | (1) |
(1)Represents a significant unobservable input
The following table presents the financial assets and liabilities that the Company measured at fair value on a recurring basis as of September 30, 2022, classified in accordance with the fair value hierarchy (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | |
| Fair Value Measurements Using |
| (Level 1) | | (Level 2) | | (Level 3) | | Total |
Assets: | | | | | | | |
Money market funds | $ | 7,610 | | | $ | — | | | $ | — | | | $ | 7,610 | |
U.S. government securities | 22,874 | | | — | | | — | | | 22,874 | |
Commercial paper | — | | | 15,918 | | | — | | | 15,918 | |
Total assets | $ | 30,484 | | | $ | 15,918 | | | $ | — | | | $ | 46,402 | |
| | | | | | | |
Liabilities | | | | | | | |
| | | | | | | |
Debt derivative liabilities | — | | | — | | | 4,407 | | | 4,407 | |
Total liabilities | $ | — | | | $ | — | | | $ | 4,407 | | | $ | 4,407 | |
The following table presents the financial assets and liabilities that the Company measured at fair value on a recurring basis as of December 31, 2021, classified in accordance with the fair value hierarchy (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | |
| Fair Value Measurements Using |
| (Level 1) | | (Level 2) | | (Level 3) | | Total |
Assets: | | | | | | | |
Money market funds | $ | 22,012 | | | $ | — | | | $ | — | | | $ | 22,012 | |
U.S. government securities | 12,081 | | | — | | | — | | | 12,081 | |
| | | | | | | |
Commercial paper | — | | | 39,249 | | | — | | | 39,249 | |
| | | | | | | |
Total assets | $ | 34,093 | | | $ | 39,249 | | | $ | — | | | $ | 73,342 | |
| | | | | | | |
Liabilities | | | | | | | |
| | | | | | | |
Debt derivative liabilities | $ | — | | | — | | $ | 5,562 | | | $ | 5,562 | |
Total liabilities | $ | — | | | $ | — | | | $ | 5,562 | | | $ | 5,562 | |
The changes in Level 3 liabilities measured at fair value on a recurring basis for the three and nine months ended September 30, 2022, were as follows (in thousands):
| | | | | | | | | | | |
Three Months Ended September 30, 2022 | | | |
Beginning Balance, July 1, 2022 | | | $ | 4,876 | |
| | | |
| | | |
| | | |
Change in fair value included in net loss | | | (469) | |
Ending Balance, September 30, 2022 | | | $ | 4,407 | |
| | | | | |
Nine Months Ended September 30, 2022 | |
Beginning Balance, January 1, 2022 | $ | 5,562 | |
| |
| |
| |
Change in fair value included in net loss | (1,155) | |
Ending Balance, September 30, 2022 | $ | 4,407 | |
The changes in Level 3 liabilities measured at fair value on a recurring basis for the three and nine months ended September 30, 2021, were as follows (in thousands):
| | | | | |
Three Months Ended September 30, 2021 | |
Beginning Balance, July 1, 2021 | 54,439 | |
| |
| |
| |
| |
| |
Change in fair value of Oberland Facility | (826) | |
Change in fair value of debt derivative | 46 | |
Ending Balance, September 30, 2021 | $ | 53,659 | |
| | | | | |
Nine Months Ended September 30, 2021 | |
Beginning Balance, January 1, 2021 | $ | 39,352 | |
| |
| |
| |
Addition of Oberland Facility - second tranche | 13,827 | |
Addition of debt derivative - second tranche | 1,173 | |
Change in fair value of Oberland Facility | (845) | |
Change in fair value of debt derivative | 152 | |
Ending Balance September 30, 2021 | $ | 53,659 | |
The fair value of cash, restricted cash, accounts receivable, accounts payable and accrued expenses approximate the carrying values because of the short-term nature of these instruments. The Oberland Facility is classified as Level 3 within the fair value hierarchy. The carrying value and estimated fair value of the Oberland Facility were $45,487 and $49,392 at September 30, 2022, and $45,325 and $52,605 at December 31, 2021, respectively. See "Note 8 - Long-Term Debt, Net of Debt Discount and Financing Fees."
7. Leases
The Company leases administrative, manufacturing, research and distribution facilities through operating leases. Several leases include fixed payments including rent and non-lease components such as common-area or other maintenance costs.
On January 27, 2022, the Company entered into a Commercial Lease Amendment ("Amendment") with JA-Cole L.P., with an effective date of February 1, 2022, pursuant to the original Commercial Lease dated April 21, 2015, as amended (the "Lease"). The lease is for the office and warehouse facility located in Burleson, Texas. The Amendment revised the commencement date to May 1, 2022, and the expiration date to April 30, 2027. The Company accounted for the Lease revisions as a lease modification in accordance with ASC 842, Leases, as the modification effectively terminated the existing lease and created a new lease which commenced on February 1, 2022. The Company valued the lease using a 11.3% incremental borrowing rate and recorded a right-of-use asset and a lease liability of $641 as a result of this amendment.
On August 22, 2022, the Company, entered into the First Amendment to Lease Agreement (the “First Amendment”) with Ja-Cole, L.P. with an effective date of October 1, 2022, pursuant to the original Commercial Lease dated October 1, 2020, as amended (the "Lease"). The lease is for the office and warehouse facility located in Burleson, Texas. The First Amendment adds an additional 2,500 square feet to the Leased Premises, for a total of 5,000 square feet and revises the expiration date of the Lease to mean September 30, 2027. The Company accounted for the Lease revisions as a lease modification in accordance with ASC 842, Leases, as the modification effectively terminated the existing lease and created a new lease. The Company valued the lease using a 12.8% incremental borrowing rate and recorded a right-of-use asset and a lease liability of 221 as a result of this amendment.
Total operating lease expense for the three months ended September 30, 2022, and 2021 was $1,337 and $1,211 respectively and $4,100 and $3,652 for the nine months ended September 30, 2022, and 2021, respectively.
Supplemental balance sheet information related to the operating and financing leases is as follows: | | | | | | | | | | | |
(In thousands, except lease term and discount rate) | September 30, 2022 | | December 31, 2021 |
Operating Leases | | | |
Right-of-use operating assets | $ | 14,751 | | | $ | 15,193 | |
Current maturities of long-term lease obligations | $ | 1,523 | | | $ | 1,825 | |
Long-term lease obligations | $ | 20,615 | | | $ | 20,794 | |
Financing Leases | | | |
Right-of-use financing leases (1) | $ | 46 | | | $ | 42 | |
Current maturities of long-term lease obligations | $ | 7 | | | $ | 9 | |
Long-term lease obligations | $ | 19 | | | $ | 4 | |
| | | |
Weighted average operating lease term (in years): | 10.9 | | 12.1 |
Weighted average operating financing term (in years): | 4.2 | | 2.2 |
| | | |
Weighted average discount rate operating leases | 10.48 | % | | 10.32% | |
Weighted average discount rate financing leases | 11.69% | | | 7.23% | |
(1) Financing leases are included within property and equipment, net on the condensed consolidated balance sheets.
Future minimum lease payments under operating and financing leases at September 30, 2022, were as follows:
| | | | | |
(In thousands) | |
2022 (excluding the nine months ended September 30, 2022) | $ | 1,092 | |
2023 | 3,476 | |
2024 | 3,253 | |
2025 | 3,336 | |
2026 | 3,348 | |
2027 | 2,921 | |
Thereafter | 20,931 | |
Total | $ | 38,356 | |
Less: Imputed interest | (16,192) | |
Total lease liability | $ | 22,164 | |
Less: Current lease liability | (1,530) | |
Long-term lease liability | $ | 20,634 | |
8. Long-Term Debt, Net of Debt Discount and Financing Fees
Long-term debt, net of debt discount and financing fees consists of the following:
| | | | | | | | | | | |
(In thousands) | September 30, 2022 | | December 31, 2021 |
Oberland Facility - first tranche | $ | 35,000 | | | $ | 35,000 | |
Oberland Facility - second tranche | 15,000 | | | 15,000 | |
Less - unamortized debt discount and deferred financing fees | (4,513) | | | (5,179) | |
Long-term debt, net of debt discount and financing fees | $ | 45,487 | | | $ | 44,821 | |
Oberland Facility
On June 30, 2020, the Company entered into a seven-year financing agreement with Oberland Capital (the "Oberland Facility") and obtained the first tranche of $35,000 at closing. On June 30, 2021, the second tranche of $15,000 was drawn down by the Company.
The Oberland Facility requires quarterly interest payments for seven years. Interest is calculated as 7.5% plus the greater of LIBOR or 2.0% (9.8% as of September 30, 2022). Each tranche of the Oberland Facility has a term of seven years from the date of issuance (with the first tranche issued on June 30, 2020, maturing on June 30, 2027 and the second tranche issued on June 30, 2021, maturing on June 30, 2028). In connection with the Oberland Facility, the Company entered into a revenue participation agreement with Oberland Capital, which provides that, among other things, a quarterly royalty payment as a percentage of the Company’s net revenues, up to $70 million in any given fiscal year, subject to certain limitations set forth therein, during the period commencing on the later of (i) April 1, 2021, and (ii) the date of funding of a tranche of the loan, and ending on the date upon which all amounts owed under the Oberland Facility have been paid in full (the “Revenue Participation Agreement”). Payments under the Revenue Participant Agreement commenced on September 30, 2021. The royalty structure of the Revenue Participant Agreement results in approximately 1.0% per year of additional interest payments on the outstanding loan amount. The Company recorded interest expense of $49 and $337 for this Revenue Participation Agreement for the three months ended September 30, 2022, and 2021 and $756 and $590 for the nine months ended September 30, 2022 and 2021, respectively. The Company exceeded the maximum annual revenue participation threshold of $70,000 during the third quarter of 2022. The Company pays Oberland Capital quarterly debt interest on the last day of the quarter. The Company paid $1,249 and $1,218 for the three months ended September 30, 2022, and 2021, respectively, and $3,637 and $2,890 for the nine months ended September 30, 2022, and 2021, respectively. The Company capitalized interest of $1,450 and $1,338 for the three months ended September 30, 2022 and 2021, respectively and $4,474 and $2,526 for the nine months ended September 30, 2022 and 2021, respectively, towards the costs to construct and retrofit the APC Facility in Vandalia, OH. See "Note 12 - Commitments and Contingencies." Since inception, the Company has capitalized interest of $9,748 related to this project. The capitalized interest is recorded as part of property and equipment, net in the condensed consolidated balance sheets. As of September 30, 2022, the Company was in compliance with all financial covenants. See "Note 12 - Commitments and Contingencies."
Embedded Derivatives
The Debt Derivative Liabilities are recorded at fair value, with the change in fair value reported in the condensed consolidated statements of operations at each reporting date. The fair values of the Debt Derivative Liabilities were $4,407 and $5,562 at September 30, 2022, and December 31, 2021, respectively. See "Note 6 - Fair Value Measurement."
Unamortized Debt Discount and Financing Fees
The unamortized debt discount consists of the remaining unamortized initial fair values of the embedded derivatives related to the first and second tranches of the Oberland Facility. The debt discount is amortized over the respective life of the related tranche and recorded in interest expense using the effective yield method.
The financing fees for the Oberland Facility were $642 and were recorded as a contra liability to the debt facility. The financing fees are amortized over the life of the first tranche of the Oberland Facility and recorded in interest expense.
Amortization of debt discount and deferred financing fees for the three months ended September 30, 2022, and 2021 was $225 and $157, respectively, and for the nine months ended September 30, 2022, and 2021 was $667 and $384, respectively.
Other credit facilities
The Company had restricted cash of $6,251 at September 30, 2022, and December 31, 2021. The September 30, 2022, and December 31, 2021, balances both include $6,000 and $250, which represent collateral for two irrevocable standby letters of credit.
9. Stock-Based Incentive Plans
The Company maintains two share-based incentive plans: the Axogen, Inc. Second Amended and Restated 2019 Long-Term Incentive Plan, (“2019 Plan”), and the Axogen 2017 Employee Stock Purchase Plan (“2017 ESPP”). As of September 30, 2022, 3,340,010 shares of common stock were available for issuance under the 2019 Plan. The Company recognized share-based compensation expense, which consisted of compensation expense related to stock options, PSUs and RSUs based on the value of share-based payment awards that are ultimately expected to vest during the period and stock-based compensation expense of $3,849 and $2,911 for the three months ended September 30, 2022 and 2021, respectively, and $11,437 and $9,410 for the nine months ended September 30, 2022, and 2021, respectively.
A summary of the stock option activity is as follows: | | | | | | | | | | | | | | | | | | | | | | | |
| Options | | Weighted Average Exercise Price | | Weighted Average Remaining Contractual Life | | Aggregate Intrinsic Value (in thousands) |
Outstanding, December 31, 2021 | 3,194,738 | | | $15.65 | | | 6.45 | | $ | 2,236 | |
| | | | | | | |
Granted | 1,185,749 | | | $9.13 | | | | | |
Exercised | (153,290) | | | $4.44 | | | | | |
Cancelled | (229,964) | | | $14.83 | | | | | |
| | | | | | | |
Outstanding, September 30, 2022 | 3,997,233 | | | $14.20 | | | 6.77 | | $ | 7,772 | |
Exercisable, September 30, 2022 | 2,117,574 | | | $15.63 | | | 4.85 | | $ | 4,059 | |
The Company used the following weighted-average assumptions for options granted during the nine months ended September 30, 2022: | | | | | | | | | | | | |
| | | | |
Expected term (in years) | | 6.02 | | |
Expected volatility | | 61.06 | % | | |
Risk free rate | | 2.26 | % | | |
Expected dividends | | — | % | | |
As of September 30, 2022, there was approximately $8,251 of total unrecognized compensation costs related to unvested stock options. These costs are expected to be recognized over a weighted-average period of 2.6 years.
Restricted and Performance Stock Units
A summary of the restricted and performance stock unit activity is as follows:
| | | | | | | | | | | | | | | | | | | | | | | |
| Outstanding Stock Units |
| Stock Units | | Weighted-Average Fair Value at Date of Grant per Share | | Weighted Average Remaining Vesting Life | | Aggregate Intrinsic Value (in thousands) |
Unvested, December 31, 2021 | 1,730,765 | | | $ | 18.45 | | | 1.51 | | $ | 19,633 | |
| | | | | | | |
Granted | 1,916,963 | | | $ | 8.31 | | | | | |
Released | (315,275) | | | $ | 14.12 | | | | | |
Forfeited | (331,260) | | | $ | 13.42 | | | | | |
| | | | | | | |
Unvested, September 30, 2022 | 3,001,193 | | | $ | 12.98 | | | 1.82 | | $ | 35,774 | |
Performance Stock Units
At September 30, 2022, the total future stock compensation expense related to non-vested performance awards at maximum target payout is expected to be approximately $3,774. As of September 30, 2022, there was approximately $17,487 of total unrecognized compensation costs related to both the PSU and RSU unvested awards. The Company expects to recognize these costs over a weighted-average period of 2.8 years.
On March 16, 2022, the Compensation Committee of the Board of Directors approved PSUs that were tied to 2022, 2023 and 2024 revenue (the “2022 PSU award.”) The 2022 PSU award consists of a targeted award of 526,467 shares with a payout ranging from 0% to 150% upon achievement of specific revenue goals.
Employee Stock Purchase Plan
The Company also maintains the 2017 ESPP, which allows eligible employees to acquire shares of the Company’s common stock through payroll deductions at a discount to market price. A total of 600,000 shares of the Company’s common stock are authorized for issuance under the 2017 ESPP, and as of September 30, 2022, 126,674 shares remain available for issuance.
10. Net Loss Per Common Share
The following reflects the net loss attributable to common shareholders and share data used in the basic and diluted earnings per share computations using the two-class method:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended September 30, | | Nine Months Ended September 30, |
(In thousands, except per share amounts) | | 2022 | | 2021 | | 2022 | | 2021 | |
Numerator: | | | | | | | | | |
Net loss | | $ | (4,318) | | | $ | (7,141) | | | $ | (23,533) | | | $ | (21,699) | | |
Denominator: | | | | | | | | | |
Weighted-average common shares outstanding (Basic) | | 42,220,519 | | | 41,467,596 | | | 42,008,013 | | | 41,087,568 | | |
Weighted-average common shares outstanding (Diluted) | | 42,220,519 | | | 41,467,596 | | | 42,008,013 | | | 41,087,568 | | |
Net loss per common share (Basic and Diluted) | | $ | (0.10) | | | $ | (0.17) | | | $ | (0.56) | | | $ | (0.53) | | |
| | | | | | | | | |
Anti-dilutive shares excluded from the calculation of diluted earnings per share (1) | | | | | | | | | |
Stock options | | 3,132,722 | | | 1,471,539 | | | 3,083,519 | | | 1,308,191 | | |
Restricted stock units | | 441,866 | | | 542,074 | | | 498,966 | | | 359,895 | | |
(1) These common equivalent shares are not included in the diluted per share calculations as they would be anti-dilutive if the Company was in a net income position.
11. Income Taxes
The Company has not recorded current income tax expense due to the generation of net operating losses. Deferred income taxes are accounted for using the balance sheet approach, which requires recognition of deferred tax assets and liabilities for the expected future consequences of temporary differences between the financial reporting basis and the tax basis of assets and liabilities. A valuation allowance is provided when it is more likely than not that a deferred tax asset will not be realized. A full valuation allowance has been established on the deferred tax asset as it is more likely than not that a future tax benefit will not be realized. In addition, future utilization of the available net operating loss carryforward may be limited under Internal Revenue Code Section 382 as a result of changes in ownership.
The Company identifies and evaluates uncertain tax positions, if any, and recognizes the impact of uncertain tax positions for which there is a less than more likely than not probability of the position being upheld when reviewed by the relevant taxing authority. Such positions are deemed to be unrecognized tax benefits and a corresponding liability is established on the condensed consolidated balance sheet. The Company has not recognized a liability for uncertain tax positions. If there were an unrecognized tax benefit, the Company would recognize interest accrued related to unrecognized tax benefits in interest expense and penalties in operating expenses. The Company’s remaining open tax years subject to examination by federal tax authorities include the years ended December 31, 2019, through 2021.
12. Commitments and Contingencies
Service Agreements
On August 6, 2015, the Company entered into a License and Service Agreement ("CTS Agreement") with Community Blood Center, (d/b/a Community Tissue Service) ("CTS") which has been extended through December 31, 2023. In accordance with the CTS Agreement, the Company pays CTS a facility fee for use of clean room/manufacturing, storage and office space, which the Company accounts for as an embedded lease in accordance with ASC 842, Leases. The Company also pays CTS for service in support of its manufacturing process such as for routine sterilization of daily supplies, providing disposable supplies, microbial services and office support. The Company paid fees to CTS during the three months ended September 30, 2022, and 2021, of approximately $541 and $630, respectively, and during the nine months ended September 30, 2022, and 2021 of approximately $1,785 and $1,901 which are included in cost of goods sold on the accompanying condensed consolidated statements of operations.
In December 2011, the Company entered into a Master Services Agreement for Clinical Research and Related Services. The Company was required to pay $151 upon execution of this agreement and the remainder monthly based on activities associated with the execution of Axogen’s phase 3 pivotal clinical trial to support the BLA for Avance Nerve Graft. Payments made under this agreement were $279 and $362 for the three months ended September 30, 2022, and 2021, respectively, and $963 and $794 for the nine months ended September 30, 2022, and 2021, respectively.
Concentrations
Vendor
Substantially all of the Company’s revenue is currently derived from five products, Avance Nerve Graft, Avive Soft Tissue Membrane (currently, market availability is suspended), Axoguard Nerve Protector, Axoguard Nerve Connector, and Axoguard Nerve Cap for the treatment of peripheral nerve damage. Of these five products, Avance Nerve Graft represents approximately half of the Company’s total revenue. The Company has an exclusive distribution agreement with Cook Biotech for the purchase of Axoguard which expires June 30, 2027. The agreement with Cook Biotech establishes a formula for the transfer cost of the Axoguard products and requires certain minimum purchases by the Company, although, through mutual agreement, the parties have not established such minimums and to date have not enforced such provision.
The agreement allows for termination provisions for both parties. The loss of the ability to sell the Axoguard products could have a material adverse effect on the Company’s business until other replacement products would be available.
Axogen Processing Center Facility
The Company is highly dependent on the continued availability of its processing facilities at the Community Blood Center facility (“CTS”) in Dayton, Ohio and could be harmed if the physical infrastructure of this facility is unavailable for any prolonged period of time.
On July 31, 2018, the Company purchased the APC Facility in Vandalia, Ohio, located near the CTS processing facility where Avance Nerve Graft is currently processed. The APC Facility, when and if operational, will be the new processing facility for Avance Nerve Graft to provide continued capacity for growth and to support the transition of Avance Nerve Graft to a biologic product. The APC Facility is comprised of a 107,000 square foot building on approximately 8.6 acres of land. The Company paid $731 for the land, which is recorded as land in property and equipment, net on the condensed consolidated balance sheet. The Company paid $4,300 for the building which is recorded in projects in process in property and equipment, net on the condensed consolidated balance sheet.
On July 9, 2019, the Company entered into a Standard Form of Agreement Between Owner and Design-Builder with CRB Builders, L.L.C., (“CRB”), in which CRB will renovate and retrofit the APC Facility. For the three and nine months ended September 30, 2022, the Company recorded $2,688 and $8,119, respectively, of expenditures related to renovations and design and build in projects in progress. The Company has recorded $43,534 from inception-to-date related to this project. In addition to these project costs, the Company has capitalized interest of $1,450 and $4,474 for the three and nine months ended September 30, 2022, and $9,748 inception-to-date to the project. These items are recorded as projects in process in property and equipment, net on the condensed consolidated balance sheet.
Fair Value of the Debt Derivative Liabilities
The fair value of the Debt Derivative Liabilities was determined using a probability-weighted expected return model based upon four potential settlement scenarios for the Oberland Facility discounted to present value and compared to fair value of a plain vanilla note. The Company estimated the make-whole payments required under the Oberland Facility to generate an internal rate of return equal to 11.5% through the scheduled maturity dates, less the total of all quarterly interest and royalty payments previously paid to Oberland Capital. The calculation utilized the XIRR function in Microsoft Excel as required by the Oberland Facility. If the debt is not prepaid but instead is held to its scheduled maturities, the Company’s estimate of the make-
whole payment for the first tranche and second tranches due on June 30, 2027, and June 30 2028, respectively, is approximately zero. The Company has consistently applied this approach since the inception of the debt agreement on June 30, 2020.
In the first quarter of 2022, the Company became aware that Oberland Capital may have an alternative interpretation of the calculation of the make-whole payments that the Company believes does not properly utilize the same methodology utilized by the XIRR function in Microsoft Excel as described in the Oberland Facility. The Company estimates the top end of the range of the make-whole payments if the debt is held to scheduled maturity under an alternative interpretation to be approximately $9,200 for the first tranche of the Oberland Facility on June 30, 2027, and approximately $3,600 for the second tranche of the Oberland Facility on June 30, 2028. Further, if the debt is prepaid prior to the scheduled maturity dates and subject to the alternative interpretation, the make-whole payment would be larger than the amounts herein. The make whole-payments as described above, have decreased due to rising interest rates: however, there have been no further updates since reported in the Company's Annual Report on Form 10-K as of and for the year ended December 31, 2021.
Legal Proceedings
The Company is and may be subject to various claims, lawsuits, and proceedings in the ordinary course of the Company's business. Such matters are subject to many uncertainties and outcomes are not predictable with assurance. While there can be no assurances as to the ultimate outcome of any legal proceeding or other loss contingency involving the Company. In the opinion of management, such claims are either adequately covered by insurance or otherwise indemnified, or are not expected, individually or in the aggregate, to result in a material, adverse effect on the Company's financial condition, results of operations or cash flows. However, it is possible that the Company's results of operations, financial position and cash flows in a particular period could be materially affected by these contingencies.
On January 9, 2019, Plaintiff Neil Einhorn, on behalf of himself and others similarly situated, filed a putative class action complaint in the United States District Court for the Middle District of Florida alleging violations of the federal securities laws against Axogen, Inc., certain of its directors and officers (“Individual Defendants”), and Axogen’s 2017 Offering Underwriters and 2018 Offering Underwriters (collectively, with the Individual Defendants, the “Defendants”), captioned Einhorn v. Axogen, Inc., et al., No. 8:19-cv-00069 (M.D. Fla.). Plaintiff asserts that Defendants made false or misleading statements in connection with the Company’s November 2017 registration statement issued regarding its secondary public offering in November 2017 and May 2018 registration statement issued regarding its secondary public offering in May 2018, and during a class period of August 7, 2017 to December 18, 2018. In particular, Plaintiff asserts that Defendants issued false and misleading statements and failed to disclose to investors: (1) that the Company aggressively increased prices to mask lower sales; (2) that the Company’s pricing alienated customers and threatened the Company’s future growth; (3) that ambulatory surgery centers form a significant part of the market for the Company’s products; (4) that such centers were especially sensitive to price increases; (5) that the Company was dependent on a small number of surgeons whom the Company paid to generate sales; (6) that the Company’s consignment model for inventory was reasonably likely to lead to channel stuffing; (7) that the Company offered purchase incentives to sales representatives to encourage channel stuffing; (8) that the Company’s sales representatives were encouraged to backdate revenue to artificially inflate metrics; (9) that the Company lacked adequate internal controls to prevent such channel stuffing and backdating of revenue; (10) that the Company’s key operating metrics, such as the number of active accounts, were overstated; and (11) that, as a result of the foregoing, Defendants’ positive statements about the Company’s business, operations, and prospects, were materially misleading and/or lacked a reasonable basis. Axogen was served on January 15, 2019. On February 4, 2019, the Court granted the parties’ stipulated motion which provided that Axogen is not required to file a response to the complaint until thirty days after Plaintiff files a consolidated amended complaint. On June 19, 2019, Plaintiff filed an Amended Class Action Complaint, and on July 22, 2019, Defendants filed a motion to dismiss. Plaintiff filed opposing papers on August 12, 2019. The Court held a status hearing on September 11, 2019, and stayed all deadlines regarding the parties’ obligations to file a case management report. On December 4, 2019, the parties presented oral arguments. On April 21, 2020, the Court dismissed the complaint without prejudice, finding the Plaintiff failed to state a claim upon which relief could be granted. The Plaintiff filed a Second Amended Class Action Complaint on June 22, 2020. Axogen filed a motion to dismiss on August 6, 2020. The Plaintiff filed an opposition on September 20, 2020. The Court held oral argument on February 25, 2021. On March 19, 2021, the Court dismissed the Second Amended Complaint with prejudice, finding again that the Plaintiff failed to state a claim upon which relief could be granted. On April 14, 2021, Plaintiff filed a notice of appeal. Plaintiff filed its opening brief on June 28, 2021. The Company filed its appellee brief on August 11, 2021. The Plaintiff filed a reply brief on September 14, 2021. The Eleventh Circuit heard oral argument the week of March 8, 2022. On August 1, 2022, the Eleventh Circuit affirmed the dismissal of the complaint with prejudice.