Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our financial statements and the related notes to those statements included elsewhere in this Annual Report on Form 10-K. In addition to historical financial information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties, and assumptions. Some of the numbers included herein have been rounded for the convenience of presentation. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors, including those discussed under Part I. "Item 1A. Risk Factors’’ and elsewhere in this Annual Report on Form 10-K.
Overview
We are a medical technology company focused on the development and commercialization of innovative, minimally invasive solutions for patients with OSA. Our proprietary Inspire system is the first and only FDA-approved neurostimulation technology that provides a safe and effective treatment for moderate to severe OSA. We have developed a novel, closed-loop solution that continuously monitors a patient’s breathing and delivers mild hypoglossal nerve stimulation to maintain an open airway. Inspire therapy is indicated for patients with moderate to severe OSA who do not have significant central sleep apnea and do not have a complete concentric collapse of the airway at the soft palate level. In addition, patients in the U.S., Japan, and Singapore must have been confirmed to fail or be unable to tolerate positive airway pressure treatments, such as CPAP, and be 18 years of age or older, though there are no similar requirements for patients in Europe.
We sell our Inspire system to hospitals and ambulatory surgery centers ("ASCs") in the U.S. and in select countries in Europe through a direct sales organization and we sell our Inspire system in Japan and Singapore through distributors. Our direct sales force engages in sales efforts and promotional activities focused on ENT physicians and sleep centers. In addition, we highlight our compelling clinical data and value proposition to increase awareness and adoption amongst referring physicians. We build upon this top-down approach with strong direct-to-consumer marketing initiatives to create awareness of the benefits of our Inspire system and drive interest through patient empowerment. This outreach helps to educate thousands of patients on our Inspire therapy.
Although our sales and marketing efforts are directed at patients and physicians because they are the primary users of our technology, we consider the hospitals and ASCs where the procedure is performed to be our customers, as they are the purchasing agents of our Inspire system. Our customers are reimbursed the cost required to treat each patient through various third-party payors, such as commercial payors and government agencies. Our Inspire system is currently reimbursed primarily on a per-patient prior authorization basis for patients covered by commercial payors, under Local Coverage Determinations for patients covered by Medicare, and under U.S. government contract for patients who are treated by the Veterans Health Administration. As of February 10, 2023, we have secured positive coverage policies with many U.S. commercial payors, including virtually all large national commercial insurers, covering approximately 260 million lives in the U.S. In addition, all seven Medicare Administrative Contractors provide coverage of Inspire therapy when certain coverage criteria are met.
The procedures performed to implant, revise, or explant our device are described for billing purposes in the U.S. with Category I Current Procedural Terminology (“CPT”) codes (64582, 64583, and 64584, respectively). A Category I code (42975) is also used for Drug-Induced Sleep Endoscopy ("DISE") to evaluate sleep disordered breathing, which is a necessary procedure to determine which patients are appropriate for Inspire therapy. In January 2023, the final 2023 reimbursement rates were announced by the Centers for Medicare and Medicaid Services (“CMS”). The Medicare national average 2023 payment in a hospital outpatient site of service is $29,358, a decrease of 2% from the 2022 rate. The 2023 Medicare national average ASC reimbursement is $25,180, an increase of 1% over the 2022 rate. The 2023 Medicare national average physician reimbursement is $873 for implantation of a hypoglossal nerve stimulator, a 2% decrease over the 2022 payment, and $97 for the DISE procedure, a 16% decrease from the 2022 amount.
Reimbursement in other countries can often be established through a combination of private (commercial insurance) and public funding sources, or at the hospital level through innovation budgets.
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For the year ended December 31, 2022, 96.8% of our revenue was derived in the U.S. and 3.2% was derived outside of the U.S. No single customer accounted for more than 10% of our revenue.
Our direct-to-consumer marketing includes the use of social media platforms such as Facebook, Google ad placements, and radio and television commercials. In January 2021, we began airing television commercials and in January 2022, we purchased our first national television advertising spots and began airing new TV commercials. We plan to begin airing new television commercials in the first quarter of 2023. The objective of this outreach is to bring patients to our website, where they can find educational materials and videos on sleep apnea and the use and benefits of our Inspire therapy, contact information for physicians and clinical sites, and information regarding community awareness events. Further, our team leverages the Inspire Sleep app for patient education. We expect to continue to increase our direct-to-consumer activities.
In early 2020, we started a call center concept, the Inspire Advisor Care Program ("ACP"). The primary purpose of this program is to assist patients with making a connection with a qualified healthcare provider based on their specific needs. In 2022, we initiated a digital scheduling pilot program to facilitate and streamline patient access to care. We plan to expand this scheduling capability in 2023.
One of the many benefits of the ACP is the anecdotal feedback we are able to collect from patients during conversations with the ACP representatives. An example of this is the intelligence we have gathered on the impact of the Philips Respironics CPAP recall on patients interested in exploring Inspire therapy. Following the recall announcement in July 2021, it took time for patients to learn about the recall, become educated about treatment alternatives, and ultimately schedule an appointment with a healthcare provider to determine eligibility for an Inspire procedure. While we cannot quantify the impact from the recall, the feedback from the ACP as well as prior authorizations data and the Inspire Sleep app, all continue to indicate increased patient flow as a result of the Philips recall. Long term, we believe that there could be a sustained benefit to our business as a result of the recall although there can be no assurance of such benefit.
We rely on third-party suppliers to manufacture our Inspire system and its components. Many of these suppliers are currently single source suppliers. We have experienced and continue to experience supply disruptions which began during the COVID pandemic, but have managed to avoid any significant supply and inventory issues or delay in implant procedures due to those issues. We seek to maintain higher levels of inventory to protect ourselves from supply interruptions, and, as a result, we are subject to the risk of inventory obsolescence and expiration, which could lead to inventory impairment charges. For example, during the three months ended September 30, 2022, we recorded a charge of $2.8 million for obsolete inventory and component parts related to product introductions which were completed in October 2022, including the new silicone leads and the Bluetooth®-enabled patient remote.
In the U.S., our products are shipped directly to our U.S. customers and Singapore distributor on a purchase order basis, primarily by a third-party vendor with a facility in Tennessee, although we do ship some products from our facility in Minnesota. Warehousing and shipping operations for our European customers are handled by a third-party vendor with a facility located in the Netherlands. Shipments of products to our Japanese distributor are handled from our facility in Minnesota. Customers do not have the right to return non-defective product, nor do we place product on consignment. Our sales representatives do not maintain trunk stock.
Since our inception in 2007, we have financed our operations primarily through sales of our Inspire system, private placements of our convertible preferred securities, amounts borrowed under our former credit facility, and equity offerings of our common stock. We have devoted significant resources to research and development activities related to our Inspire system, including clinical and regulatory initiatives to obtain marketing approval, and sales and marketing activities. For the year ended December 31, 2022, we generated revenue of $407.9 million with a gross margin of 83.8% and a net loss of $44.9 million, compared to revenue of $233.4 million with a gross margin of 85.7% and a net loss of $42.0 million for the year ended December 31, 2021, and revenue of $115.4 million with a gross margin of 84.7% and a net loss of $57.2 million for the year ended December 31, 2020. Our accumulated deficit as of December 31, 2022 was $324.3 million.
We have invested heavily in product development. Our research and development activities have been centered on driving continuous improvements to our Inspire therapy. We have also made significant investments in clinical
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studies to demonstrate the safety and efficacy of our Inspire therapy and to support regulatory submissions. We continue to make investments in research and development efforts to develop our next generation Inspire systems and support our future regulatory submissions for expanded indications and for new markets such as additional European countries and the Asia Pacific region. For example, in 2022, we received FDA approval for additional magnetic resonance imaging ("MRI") scan conditions for use with Inspire therapy. This full-body MRI approval expands the Inspire use labeling that previously allowed only head, neck, and extremity MRI scans. Also in 2022, the FDA approved new silicone-based stimulation and sensing leads, which provides improved manufacturability, easier system implantation, increased long-term performance, and enhanced reliability. In 2021, we received FDA approvals for our Bluetooth®-enabled patient remote control, a new Inspire physician programmer platform, and an improved two-incision surgical implant procedure that eliminates one incision with a revised placement of the pressure sensing lead. We received CE Mark approval in Europe for the two-incision implant procedure in 2021. Japan's MLHW approved Inspire therapy to treat moderate to severe OSA in 2018 and was formally added to the Japan National Health Insurance Payment Listing in 2021.
We also continue to make significant investments to build our sales and marketing organization by increasing the number of U.S. and European sales representatives and continuing our direct-to-consumer marketing efforts in existing and new markets throughout the U.S. and in Europe. During 2022, we activated 246 U.S. centers bringing the total to 905 U.S. medical centers implanting Inspire therapy as of December 31, 2022. Driven by the more favorable reimbursement environment, we have increased our focus on adding ASCs. At the end of 2022, ASCs made up 23% of our total U.S. implanting centers, up from 22% at the end of 2021. Additionally, we created 68 new U.S. sales territories during 2022, bringing the total to 225 U.S. territories as of December 31, 2022.
Because of these and other factors, we may incur net losses for the next several years, and we may require substantial additional funding, which may include future equity and debt financings.
COVID-19 Pandemic Update
Our business, operations, and financial condition and results have been and may continue to be impacted by the COVID-19 pandemic. In 2020, we experienced significant reduction in revenue and product sales, as our customers were negatively impacted by the decline in the volume of elective procedures that resulted from the global healthcare system’s response to COVID-19. During the quarter ended March 31, 2021, resurgences of COVID-19 in various U.S. and European regions disrupted our ability to access our clinician customers and their patients, although surgical volumes generally returned to pre-pandemic levels by the end of the quarter. As 2021 progressed, we observed a diminishing degree of COVID-related impacts to our reported revenue. During 2022, resurgences of COVID-19 in various U.S. and international regions again impacted our revenue, although surgical volumes had generally returned to pre-pandemic levels by the end of the first quarter, and therefore the impact on the remainder of the year was less significant. We believe there continues to be some adverse impact on our revenues. We have also experienced, and continue to experience, COVID-19-related supply chain issues which has negatively impacted our inventory levels. The extent to which the COVID-19 pandemic continues to impact our results of operations and financial condition will depend on future developments that are highly uncertain and cannot be predicted, including new information that may emerge concerning the severity and longevity of COVID-19 and its variants, the resurgence of COVID-19 in regions that have begun to recover from the initial impact of the pandemic, the impact of COVID-19 on economic activity, and the actions to contain its impact on public health and the global economy. For further information, refer to “Risk Factors” in Part II, Item 1A of this Annual Report on Form 10-K.
Components of Our Results of Operations
Revenue
We derive primarily all of our revenue from the sale of our Inspire system to hospitals and ASCs in the U.S., select countries in Europe, Japan, and Singapore. We recognize revenues from sales of our Inspire system when the customer obtains control of the product, which occurs at a point in time, either upon shipment of the product or receipt of the product, depending on shipment terms.
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Our revenue has fluctuated, and may continue to fluctuate, from quarter to quarter due to a variety of factors. For example, we have historically experienced seasonality in our first and fourth quarters and have experienced adverse impacts on our revenue due to the COVID-19 pandemic and foreign currency exchange rates.
Cost of Goods Sold and Gross Margin
Cost of goods sold consists primarily of acquisition costs for the components of the Inspire system, overhead costs, scrap, and inventory obsolescence, warranty replacement costs, as well as distribution-related expenses such as logistics and shipping costs, net of shipping costs charged to customers. The overhead costs include the cost of material procurement, depreciation expense for production equipment, and operations supervision and management personnel, including employee compensation, stock-based compensation, supplies, and travel. We expect cost of goods sold to increase or decrease in absolute dollars primarily as, and to the extent, our revenue grows or declines, respectively.
We calculate gross margin as gross profit divided by revenue. Our gross margin has been and we expect it will continue to be affected by a variety of factors, including manufacturing costs, the average selling price of our Inspire system, the implementation of cost-reduction strategies, inventory obsolescence costs, which generally occur when new generations of our Inspire system are introduced, and to a lesser extent the sales mix between the U.S. and countries outside of the U.S., as our average selling price in the U.S. tends to be higher than in other countries. Our gross margin may increase slightly to the extent our production volumes increase and we receive discounts on the costs charged by our contract manufacturers, thereby reducing our per unit costs, and when we implement price increases on our products, thereby increasing our revenue. On the other hand, our gross margin may decrease slightly to the extent our materials and labor prices increase due to supply chain issues and inflation, thereby increasing our per unit costs. However, our gross margin may also fluctuate from quarter to quarter due to seasonality and foreign currency exchange rates.
Our gross margin for 2022 was lower than in previous periods primarily due to inventory obsolescence charges associated with product introductions, additional costs associated with the transition of manufacturing lines to produce our new silicone-based leads, and higher costs of certain component parts which were impacted by inflation and supply chain issues. In 2023, we expect gross margins to be in the range of 83% to 85% given continued higher costs of certain component parts, somewhat offset by the price increase which began taking effect for U.S. customers in May 2022, as well as anticipated manufacturing efficiencies.
Research and Development Expenses
Research and development expenses consist primarily of product development, engineering, clinical studies to develop and support our products, regulatory expenses, quality assurance, testing, consulting services and other costs associated with the next generation versions of the Inspire system. These expenses include employee compensation, including stock-based compensation, supplies, materials, consulting, and travel expenses related to research and development programs. Additionally, these expenses include clinical study management, payments to clinical investigators, data management and travel expenses for our various clinical studies.
We expect research and development expenses to increase in the future as we develop next generation versions of our Inspire system and continue to expand our clinical studies to further expand positive coverage policies from private commercial payors in the U.S. and enter into new markets including additional European countries and the Asia Pacific region. We expect research and development expenses as a percentage of revenue to vary over time depending on the level and timing of initiating new product development efforts and new clinical development activities.
Selling, General and Administrative Expenses
Selling, general and administrative ("SG&A") expenses consist primarily of compensation for personnel, including base salaries, stock-based compensation expense and commissions related to our sales organization, finance, information technology, human resource, and legal functions, as well as spending related to marketing, sales operations, and training and reimbursement personnel. Other SG&A expenses include training physicians, travel expenses, advertising, direct-to-consumer promotional programs, conferences, trade shows and consulting
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services, professional services fees, audit fees, insurance costs and general corporate expenses, including facilities-related expenses.
We expect SG&A expenses to continue to increase as we expand our commercial infrastructure to both drive and support our planned growth in revenue and as we increase our headcount and expand administrative personnel to support our growth and operations as a public company including finance personnel and information technology services. Additionally, we anticipate an increase in our stock-based compensation expense with grants of stock options, restricted stock units, performance stock units, and shares of our common stock purchased pursuant to our employee stock purchase plan.
Other (Income) Expense, Net
Other (income) expense consists primarily of interest and dividend income, interest expense under our former credit facility, the impacts of foreign currency transactions and remeasurements, and gains and losses on investments.
Results of Operations
Year Ended December 31, 2022 Compared to Year Ended December 31, 2021
Year Ended December 31, Change
(in thousands, except percentages)
Operating expenses:
Revenue
Revenue increased $174.5 million, or 74.7%, to $407.9 million for the year ended December 31, 2022 compared to the year ended December 31, 2021. These results reflect an increase in sales of our Inspire system of $173.9 million in the U.S. and an increase of $0.6 million outside of the U.S. Overall revenue growth was primarily due to increased utilization, increased market penetration in existing territories, expansion into new territories, and increased physician and patient awareness of our Inspire system, and to a lesser extent, a list price increase that began to impact some U.S. customers in May 2022.
During both 2022 and 2021, resurgences of COVID-19 in various U.S. and international regions disrupted our ability to access our clinician customers and their patients, although surgical volumes generally returned to pre-pandemic levels by the end of the first quarter of each year.
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Revenue information by region is summarized as follows:
Year Ended December 31,
Amount % of Revenue Amount % of Revenue $ %
(in thousands, except percentages)
Revenue generated in the U.S. was $394.8 million for the year ended December 31, 2022, an increase of $173.9 million, or 78.7%, over the year ended December 31, 2021. Revenue growth in the U.S. was primarily due to increased utilization, increased market penetration in existing territories, the expansion into new territories, increased physician and patient awareness of our Inspire system, and to a lesser extent, a list price increase that began to impact some U.S. customers in May 2022. The list price increase was substantially complete as of December 31, 2022. As noted above, U.S. revenue during both periods was negatively impacted by the COVID-19 pandemic.
Revenue generated outside of the U.S. was $13.0 million in the year ended December 31, 2022, an increase of $0.6 million, or 4.9%, over the year ended December 31, 2021. While units sold outside the U.S. increased 17.0% over the prior year period, unfavorable exchange rates adversely impacted revenue growth. As noted above, international revenue during both periods was negatively impacted by the COVID-19 pandemic.
Cost of Goods Sold and Gross Margin
Cost of goods sold increased $32.8 million, or 98.7%, to $66.1 million for the year ended December 31, 2022 compared to $33.3 million for the year ended December 31, 2021. The increase was primarily due to product costs associated with higher sales volume of our Inspire system, higher costs of certain component parts which were impacted by inflation and supply chain issues, $2.8 million of inventory obsolescence charges associated with recent product introductions, and additional costs associated with the transition of manufacturing lines to produce our new silicone-based leads.
Gross margin was 83.8% for the year ended December 31, 2022 compared to 85.7% for the year ended December 31, 2021. Gross margin for the year ended December 31, 2022 was lower primarily due to inventory obsolescence charges and costs associated with the transition of manufacturing lines described above, as well as higher costs of certain component parts caused by inflation and supply chain issues, somewhat offset by increased sales volume and a price increase which began taking effect for some U.S. customers in May 2022.
Research and Development Expenses
Research and development expenses increased $31.3 million, or 83.8%, to $68.6 million for the year ended December 31, 2022 compared to $37.4 million for the year ended December 31, 2021. This change was primarily due to an increase of $15.5 million of compensation and employee-related expenses, mainly as a result of increased headcount and stock-based compensation expense, $15.5 million for incremental ongoing research and development costs, including ongoing development of the Inspire Cloud, the next generation Inspire neurostimulator and the physician programmer, and a $0.3 million increase in regulatory submissions and clinical studies expenses.
Selling, General and Administrative Expenses
SG&A expenses increased $118.1 million, or 58.3%, to $320.7 million for the year ended December 31, 2022 compared to $202.6 million for the year ended December 31, 2021. The primary driver of this change was an increase of $72.9 million in compensation, including salaries, commissions, stock-based compensation, and other employee-related expenses, mainly as a result of increased headcount. In addition, marketing expenses
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increased $31.7 million, primarily consisting of direct-to-consumer initiatives, including new national TV advertisements, which began airing in January 2022, and the expansion of our Advisor Care Program call center. Other drivers of the change to SG&A expenses included an increase in travel expenses of $7.2 million and an increase in general corporate costs of $6.3 million primarily due to office rent expense, insurance costs, bank fees, computer equipment and software, and consulting fees.
Other (Income) Expense, Net
Other (income) expense, net changed by $5.4 million, or 256.8%, to $3.3 million of income for the year ended December 31, 2022 compared to $2.1 million of expense for the year ended December 31, 2021. This change was primarily due to an increase of $4.9 million in interest and dividend income due to higher interest rates on our higher cash and cash equivalents balances, a decrease of $0.4 million in interest expense due to the early termination of our credit facility, and an increase of $0.1 million in foreign currency translation and remeasurement gains due to exchange rates.
Income Taxes
We recorded a provision for income taxes of $0.6 million and $0.1 million for the years ended December 31, 2022 and 2021, respectively. This change was primarily due to an increase of $0.3 million in state and local taxes, as well as $0.2 million in foreign taxes.
Year Ended December 31, 2021 Compared to Year Ended December 31, 2020
For a discussion of our results of operations for the year ended December 31, 2021, including a year-to-year comparison between 2021 and 2020, refer to Part II, Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K for the year ended December 31, 2021.
Liquidity and Capital Resources
As of December 31, 2022, we had cash, cash equivalents and available-for-sale securities of $451.4 million, an increase of $227.0 million from $224.4 million as of December 31, 2021. Working capital totaled $468.8 million as of December 31, 2022, an increase of $241.6 million from December 31, 2021. We define working capital as current assets less current liabilities. The increase in working capital was primarily due the following factors:
•a $227.1 million increase in cash and cash equivalents, primarily due to proceeds from our August 2022 offering of common stock, somewhat offset by cash used to support operations, strategic investments totaling $10.5 million, and payments of $24.5 million on our former credit facility which we paid off in August 2022;
•an increase of $27.0 million in accounts receivable due to higher sales;
•the movement of $9.8 million of our long-term investments into the short-term investments category as the related maturity date is now within 12 months;
•the payoff of our credit facility of which $9.2 million was in the short-term category as of December 31, 2021 and therefore a reduction in the then-working capital balance; and
•a $2.8 million increase in prepaid expense and other current assets.
The increase in working capital was offset by the following factors:
•a $15.2 million increase in accounts payable, generally due to our business volume and headcount growth from the prior year;
•an increase of $13.9 million in accrued expenses which increased primarily due to compensation and personnel-related costs; and
•a decrease of $5.3 million in inventory balances which decreased due mainly to increased sales demand and supply chain issues.
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We proactively manage our access to capital to support liquidity and continued growth. Our sources of capital include sales of our Inspire system and registered offerings of our common stock. During the quarter ended September 30, 2022, we repaid all amounts outstanding under our former credit facility. See Note 5 to our audited financial statements for additional information on our previous credit facility. In August 2022, we completed a follow-on offering that included our offer and sale of 1,150,000 shares of common stock at a public offering price of $215.00 per share. We received net proceeds of approximately $243.8 million after deducting underwriting discounts, commissions, and offering expenses.
The primary objective of our investment activities is to preserve our capital for the purpose of funding operations while at the same time maximizing the income we receive from our investments without significantly increasing risk or decreasing availability. To achieve these objectives, our investment policy allows us to maintain a portfolio of certain types of debt securities issued by the U.S. government and its agencies, corporations with investment-grade credit ratings, or commercial paper and money market funds issued by the highest quality financial and non-financial companies. At December 31, 2022, we had $9.8 million of investments in U.S. government securities, and no investments with a contractual maturity over one year.
In 2022, our SG&A expenditures increased significantly over the prior year levels, and we anticipate further increases in 2023. Our SG&A expenditures, primarily for increasing headcount and advertising, may exceed any associated increases in revenues, and therefore would reduce our cash flow from operations. We also anticipate R&D expenses will continue to be significant in 2023, primarily related to the ongoing development of the next generation Inspire neurostimulator and the SleepSyncTM platform.
We spent $10.6 million on purchases of property and equipment in 2022, mainly on testing systems, production equipment, and leasehold improvements on our corporate office. We anticipate further capital expenditures in 2023, primarily for additional production equipment and to a lesser extent, leasehold improvements.
We believe that our existing cash and cash equivalents and available-for-sale securities, which totaled $451.4 million as of December 31, 2022, together with cash flow from operations, will provide liquidity sufficient to meet our cash needs and fund our operations and planned capital expenditures for at least the next 12 months. There can be no assurance, however, that our business will continue to generate cash flows at historic levels.
Beyond the next 12 months, our cash requirements will depend extensively on the timing of market introduction, and extent of market acceptance of, our Inspire system. Our long-term cash requirements also will be significantly impacted by the level of our investment in commercialization, entry into new markets such as Hong Kong and Australia, whether we make strategic acquisitions, and competition. We cannot accurately predict our long-term cash requirements at this time. Additionally, the COVID-19 pandemic has negatively impacted the global economy, disrupted global supply chains and created significant volatility and disruption of financial markets. An extended period of global supply chain and economic disruption could materially affect our business, results of operations, access to sources of liquidity, and financial condition. We may seek additional sources of liquidity and capital resources through additional securities offerings or through borrowings under a new credit facility. There can be no assurance that such transactions will be available to us on favorable terms, if at all.
Below is a summary of short-term and long-term anticipated cash requirements under contractual obligations existing as of December 31, 2022.
($ in thousands) Total Fiscal 2023 After Fiscal 2023
Recorded contractual obligations:
Unrecorded contractual obligations:
(1) See Note 4 to our audited consolidated financial statements.
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(2) Primarily purchase obligations to suppliers for inventory.
As of December 31, 2022, we did not have any off-balance sheet arrangements that have, or are reasonably likely to have, a current or future material effect on our financial condition, results of operations, liquidity, capital expenditures or capital resources.
Cash Flows
The following table presents a summary of our cash flow for the periods indicated:
Year Ended December 31,
(in thousands)
Net cash provided by (used in):
Effect of exchange rate on cash 75 (19)
Increase in cash and cash equivalents $ 227,125 $ 23,949
Operating Activities
Net cash provided by operating activities was $11.6 million for 2022 and consisted of a net loss of $44.9 million, non-cash charges of $54.6 million, and a decrease in net operating assets of $1.8 million. The non-cash charges consisted primarily of stock-based compensation, which increased mainly as a result of granting more stock options and restricted stock to more employees at a higher fair market value, as well as the introduction of performance stock unit grants. The remainder of the non-cash charges included depreciation and amortization, non-cash lease expense, stock issued for services rendered, and other, net. Operating assets includes accounts receivable which increased due to higher sales, and to a lesser extent prepaid expenses and other current assets. Operating assets also includes inventories, which decreased primarily due to increased sales demand and supply chain constraints. Operating liabilities includes accounts payable, which increased generally due to our increased business volume year-over-year and the costs to support the growth of our operations, and accrued expenses, which increased primarily due to compensation and personnel-related costs.
Net cash used in operating activities was $20.1 million for 2021 and consisted of a net loss of $42.0 million, non-cash charges of $28.8 million, and increase in net operating assets of $6.9 million. The non-cash charges consisted primarily of stock-based compensation, which increased mainly as a result of granting more stock options to employees at a higher fair market value. The remainder of the non-cash charges included depreciation and amortization, non-cash lease expense, stock issued for services rendered, accretion of the debt discount, and amortization of the investment premium, and other, net. Operating assets includes inventories, which increased due to manufacturing of systems inventory to meet increased sales and to establish safety stock to avoid inventory shortages in the event of COVID-related production or supply issues. Operating assets also includes accounts receivable which increased due to higher sales, and prepaid expenses and other current assets which increased primarily due to prepaid insurance. Operating liabilities includes accrued expenses, which increased primarily due to accrued compensation, and accounts payable, which increased generally due to our increased business volume year-over-year and the costs to support the growth of our operations.
Investing Activities
Net cash provided by investing activities for 2022 was $19.6 million and consisted of the purchase of strategic investments of $10.5 million and the purchases of property and equipment, net of $9.1 million, mainly for testing systems, production equipment, and leasehold improvements on our corporate office.
Net cash provided by investing activities for 2021 was $29.1 million and consisted primarily of proceeds from sales or maturities of investments of $43.8 million, partially offset by purchases of investments of $10.0 million.
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Purchases of property and equipment of $4.7 million, mainly for manufacturing test systems, production equipment, and tooling, comprised the remainder of the investing activities.
Financing Activities
Net cash provided by financing activities was $235.1 million for 2022 and consisted and consisted primarily of proceeds from the offering of common stock of $243.8 million, as well as proceeds from the exercise of stock options of $12.1 million, and proceeds from the issuance of common stock from our employee stock purchase plan of $3.7 million, partially offset by $24.5 million in payments on our long-term debt obligation, which we prepaid in August 2022, and less than $0.1 million of taxes paid on net share settlement of RSUs.
Net cash provided by financing activities was $14.9 million for 2021 and consisted of $11.5 million in proceeds from the exercise of stock options and $3.5 million in proceeds from the issuance of common stock from our ESPP.
Critical Accounting Estimates
The preparation of the financial statements in conformity with accounting principles generally accepted in the U.S. requires management to make estimates and assumptions that affect the amounts reported in the audited financial statements and accompanying notes included elsewhere in this Annual Report on Form 10-K. We believe that such estimates have been based on reasonable and supportable assumptions and the resulting estimates are reasonable for use in the preparation of the audited financial statements. Actual results could differ from these estimates.
The following area requires management estimates, assumptions, and judgments:
Inventories
Inventories are valued at the lower of cost or net realizable value, computed on a first-in, first out basis. We estimate the recoverability of our inventory by reference to internal estimates of future demands and product life cycles, including expiration of inventory prior to sale. We regularly review inventory quantities on-hand for excess and obsolete inventory and, when circumstances indicate, incur charges to write down inventories to their net realizable value. The determination of a reserve for excess and obsolete inventory involves management exercising judgment to determine the required reserve, considering future demand, product life cycles, introduction of new products, and current market conditions. Although we make every effort to ensure the accuracy of our forecasts of future product demand, any significant unanticipated changes in demand could have a significant impact on the carrying value of our inventories and reported operating results. During 2022, we recorded a $1.8 million inventory reserve related to product introductions which were completed in October 2022, including the new silicone leads and the Bluetooth®-enabled patient remote. The net inventory balance was $11.9 million and $17.2 million as of December 31, 2022 and 2021, respectively. The reserve for excess and obsolete inventory was $2.7 million and $0.3 million as of December 31, 2022 and 2021, respectively.
Stock-Based Compensation
We maintain an equity incentive plan to provide long-term incentives for eligible employees, consultants, and members of the board of directors. The plan allows for the issuance of performance stock units ("PSUs"), and during 2022, we granted PSUs to officers and key employees. The number of PSUs that will ultimately be earned is based on our performance relative to a pre-established goal for the three-year period ending December 31, 2024. Management expectations related to the achievement of the performance goal associated with PSU grants is assessed each reporting period, which determines the amount of stock-based compensation recorded during the period. The number of shares earned at the end of the three-year period will vary based on actual performance, from 0% to 200% of the number of PSUs granted. If the performance goal is not met, no shares will be earned. If 200% of the PSUs outstanding as of December 31, 2022 are ultimately earned, the total stock-based compensation recognized over the three-year period ending December 31, 2024 will be $35.3 million. If the performance condition is not met or not expected to be met, any compensation expense previously recognized associated with the grant will be reversed which will impact our operating results.
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Recent Accounting Pronouncements
A discussion of recent accounting pronouncements is included in Note 2 to our financial statements contained in this Annual Report on Form 10-K.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Interest Rate Risk
The risk associated with fluctuating interest rates is primarily limited to our cash equivalents which are carried at quoted market prices and our short-term investments. We do not currently use or plan to use financial derivatives in our investment portfolio. A hypothetical 1% change in interest rates during 2022 would have impacted interest and dividend income on our consolidated financial statements by approximately $2.4 million.
Credit Risk
As of December 31, 2022 and 2021, our cash, cash equivalents, and investments were maintained with financial institutions which we believe have sufficient assets and liquidity to conduct their operations in the ordinary course of business with little or no credit risk to us, however our cash balances were in excess of insured limits.
The primary objective of our investment activities is to preserve our capital for the purpose of funding operations while at the same time maximizing the income we receive from our investments without significantly increasing risk or decreasing availability. To achieve these objectives, our investment policy allows us to maintain a portfolio of certain types of debt securities issued by the U.S. government and its agencies, corporations with investment-grade credit ratings, or commercial paper and money market funds issued by the highest quality financial and non-financial companies. We place restrictions on maturities and concentration by type and issuer. We are exposed to credit risk in the event of a default by the issuers of these securities to the extent recorded on the consolidated balance sheets. See Note 2 to our financial statements contained in this Annual Report on Form 10-K for additional information on our cash equivalents and available-for-sale marketable securities.
Our accounts receivable primarily relate to revenue from the sale of our Inspire system to hospitals in the U.S. and Europe, primarily in Germany. We believe that the credit risk in our accounts receivable is mitigated by our credit evaluation process, relatively short collection terms, and dispersion of our customer base. We generally do not require collateral, and losses on accounts receivable have historically not been significant. No single customer represented more than 10% of our accounts receivable as of December 31, 2022 or 2021.
Foreign Currency Risk
The majority of our business is currently conducted in U.S. dollars. Any transactions that may be conducted in foreign currencies are not expected to have a material effect on our results of operations, financial position or cash flows.
Inflation Risk
Inflationary factors, such as increases in our cost of goods sold and selling and operating expenses, may adversely affect our operating results. Although we do not believe that inflation has had a material impact on our financial position or results of operations to date, a high rate of inflation in the future may have an adverse effect on our ability to maintain and increase our gross margin and selling and marketing and operating expenses as a percentage of our revenue if the selling prices of our products do not increase as much as or more than these increased costs.
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Item 8. Financial Statements and Supplementary Data.
Report of Independent Registered Public Accounting Firm
To the Stockholders and the Board of Directors of Inspire Medical Systems, Inc.
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Inspire Medical Systems, Inc. (the Company) as of December 31, 2022 and 2021, the related consolidated statements of operations and comprehensive loss, stockholders' equity and cash flows for each of the three years in the period ended December 31, 2022, and the related notes (collectively referred to as the "consolidated financial statements"). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2022 and 2021, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2022, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company's internal control over financial reporting as of December 31, 2022, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework), and our report dated February 10, 2023 expressed an unqualified opinion thereon.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
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Inventory valuation reserves
We have served as the Company's auditor since 2015.
/s/Ernst & Young LLP
Minneapolis, Minnesota
February 10, 2023
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Inspire Medical Systems, Inc.
Consolidated Balance Sheets
(in thousands, except share and per share amounts)
December 31,
Assets
Current assets:
Investments, short-term 9,821 —
Prepaid expenses and other current assets 5,505 2,660
Investments, long-term — 9,938
Operating lease right-of-use assets 6,880 7,919
Liabilities and stockholders' equity
Current liabilities:
Notes payable, current portion — 9,188
Notes payable, non-current portion — 15,799
Operating lease liabilities, non-current portion 7,536 8,796
Other non-current liabilities 146 134
Stockholders' equity
Accumulated other comprehensive loss (86) (55)
Total liabilities and stockholders' equity $ 564,876 $ 295,084
The accompanying notes are an integral part of these financial statements.
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Consolidated Statements of Operations and Comprehensive Loss
(in thousands, except share and per share amounts)
Year Ended December 31,
Operating expenses:
Other expense (income):
Other comprehensive loss:
Foreign currency translation gain 89 — —
Unrealized loss on investments (120) (84) (73)
Net loss per share, basic and diluted $ (1.60) $ (1.54) $ (2.19)
The accompanying notes are an integral part of these financial statements.
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STATEMENTS OF STOCKHOLDERS' EQUITY
(in thousands, except share amounts)
Common Stock
Stock-based compensation expense — — 12,817 — — 12,817
Other comprehensive loss — — — (73) — (73)
Adoption of ASU 2016-13, Financial Instruments - Credit Losses — — — — 12 12
Stock-based compensation expense — — 26,178 — — 26,178
Other comprehensive loss — — — (84) — (84)
Vesting of restricted stock units 569 — — — — —
Stock-based compensation expense — — 51,970 — — 51,970
Other comprehensive loss — — — (31) — (31)
The accompanying notes are an integral part of these financial statements.
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Consolidated Statements of Cash Flows
(in thousands)
Year Ended December 31,
Operating activities
Adjustments to reconcile net loss:
Non-cash stock issuance for services rendered 325 301 294
Changes in operating assets and liabilities:
Prepaid expenses and other assets (2,815) (696) 416
Net cash provided by (used in) operating activities 11,569 (20,119) (53,045)
Investing activities
Proceeds from sales or maturities of investments — 43,800 141,803
Purchases of strategic investments (10,500) — —
Financing activities
Payments on long-term debt obligation (24,500) — —
Taxes paid on the net share settlement of restricted stock units (43) — —
Effect of exchange rate on cash 75 (19) 11
Supplemental cash flow information
The accompanying notes are an integral part of these financial statements.
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Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
1. Organization
Description of Business
Inspire Medical Systems, Inc. is a medical technology company focused on the development and commercialization of innovative, minimally invasive solutions for patients with obstructive sleep apnea ("OSA"). Our proprietary Inspire system is the first and only United States ("U.S.") Food and Drug Administration ("FDA") approved neurostimulation technology that provides a safe and effective treatment for moderate to severe OSA. Inspire therapy received premarket approval ("PMA") from the FDA in 2014 and has been commercially available in certain European markets since 2011. Japan's Ministry of Health, Labour and Welfare ("MLHW") approved Inspire therapy to treat moderate to severe OSA in 2018 and was formally added to the Japan National Health Insurance Payment Listing in 2021. In 2020, the Australian Therapeutic Goods Administration approved Inspire therapy to treat moderate to severe OSA, and we are currently seeking reimbursement coverage in Australia.
2. Summary of Significant Accounting Policies
Basis of Presentation
The consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles ("U.S. GAAP") and pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC").
In the opinion of management, all adjustments, consisting of only normal recurring adjustments that are necessary to present fairly the financial position, results of operations, and cash flows have been made. The results of operations for the year ended December 31, 2022 are not necessarily indicative of the operating results for any future periods.
Use of Estimates
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts and disclosures reported in the consolidated financial statements. We use significant judgment when making estimates related to the allowance for credit losses, inventory reserves, warranty reserves, and stock-based awards. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates.
Follow-On Public Offering
In August 2022, we completed a follow-on offering that included our offer and sale of 1,150,000 shares of common stock at a public offering price of $215.00 per share. We received net proceeds of $243.8 million after deducting underwriting discounts, commissions, and offering expenses.
Cash and Cash Equivalents
We consider all highly liquid securities, readily convertible to cash, that have original maturities of 90 days or less from the date of purchase to be cash equivalents. The carrying amount reported in the consolidated balance sheets for cash is cost, which approximates fair value.
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Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
Foreign Currency
Our functional and reporting currency is the U.S. dollar. Our subsidiary has a functional currency in Euro. The consolidated financial statements are translated to U.S. dollars. Non-monetary assets and liabilities denominated in foreign currencies are translated at rates of exchange in effect at the date of the transaction. Monetary assets and liabilities denominated in foreign currencies are translated using the exchange rate prevailing at the balance sheet date. Sales and expenses denominated in foreign currencies are translated at exchange rates in effect on the date of the transaction. Foreign currency transaction gains and losses and the impacts of foreign currency remeasurement are recognized in other expense (income), net in the consolidated statements of operations and comprehensive loss. For the years ended December 31, 2022 and 2021, we recognized a total of $0.1 million and $0.2 million of gains, net, respectively. Any unrealized gains and losses due to translation adjustments are included in accumulated other comprehensive loss within stockholders' equity in the consolidated balance sheets. We had $0.1 million and $0 of unrecognized gain in our accumulated other comprehensive loss balance as of December 31, 2022 and 2021, respectively.
Investments
At December 31, 2022 and 2021, our investments consisted of U.S. government securities. Investments are reported at their estimated fair market values which are based on quoted, active or inactive market prices when available. Any unrealized gains and losses due to interest rate fluctuations and other external factors are reported as a separate component of accumulated other comprehensive loss within stockholders' equity. We had $0.2 million and $0.1 million of unrecognized loss in our accumulated other comprehensive loss balance at December 31, 2022 and 2021, respectively. Any realized gains and losses are calculated on the specific identification method and reported net in other expense (income), net in the consolidated statements of operations and comprehensive loss. For both of the years ended December 31, 2022 and 2021, we recognized $0 of gains, net.
We recognize expected credit losses on investments in accordance with Accounting Standards Update ("ASU"), ASU 2016-13, Financial Instruments - Credit Losses ("ASU 2016-13"), which we adopted effective January 1, 2020 using the modified retrospective approach. The adoption of ASU 2016-13 did not have a material impact on the amount and timing of credit losses recognized in our consolidated financial statements.
We reassess our estimated credit losses on investments each reporting period. U.S. government securities and cash equivalents are under a "zero-loss exception" for credit losses, meaning no credit loss risk calculation is necessary on those instruments due to the exceptionally low rate of default, which continues to decrease as the securities approach maturity, which for us is no longer than two years. We record changes in the allowance for credit losses for available-for-sale debt securities with a corresponding adjustment in credit loss expense on the consolidated statement of operations and comprehensive loss. No reversal of a previously recorded allowance for credit losses may be made to an amount below zero. The total allowance for credit losses was $0 at both December 31, 2022 and 2021.
Fair Value of Financial Instruments
We measure certain financial assets and liabilities at fair value on a recurring basis, including cash equivalents and investments. Fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or a liability. A three-tier fair value hierarchy is established as a basis for considering such assumptions and for inputs used in the valuation methodologies in measuring fair value:
Level 1: Observable inputs, such as quoted prices (unadjusted) for identical assets or liabilities in active markets.
Level 2: Inputs other than quoted prices in active markets for identical assets and liabilities that are observable either directly or indirectly for substantially the full term of the asset or liability.
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Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
Level 3: Unobservable inputs that are supported by little or no market activities, which would require us to develop our own assumptions.
We use the methods and assumptions described below in determining the fair value of our financial instruments.
Money market funds: Fair values of money market funds are based on quoted market prices in active markets. These are included as Level 1 measurements in the tables below.
U.S. government securities: Consists of U.S. government Treasury bills with original maturities of less than two years and are based on quoted prices in active markets. These are included as a Level 1 measurement in the tables below.
The following tables sets forth by level within the fair value hierarchy our assets that are measured on a recurring basis and reported at fair value as of December 31, 2022 and 2021. Assets are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.
Fair Value Measurements as of
EstimatedFair Value Level 1 Level 2 Level 3
Cash equivalents:
Investments:
U.S. government securities 9,821 9,821 — —
Total cash equivalents and investments $ 400,667 $ 400,667 $ — $ —
Fair Value Measurements as of
EstimatedFair Value Level 1 Level 2 Level 3
Cash equivalents:
Investments:
U.S. government securities 9,938 9,938 — —
Total cash equivalents and investments $ 199,307 $ 199,307 $ — $ —
There were no transfers between levels during the years ended December 31, 2022 and 2021.
Concentration of Credit Risk
Financial instruments, which potentially subject us to concentrations of credit risk, consist principally of cash equivalents, investments, and accounts receivable.
Our investment policy limits investments to certain types of debt securities issued by the U.S. government and its agencies, corporations with investment-grade credit ratings, or commercial paper and money market funds issued by the highest quality financial and non-financial companies. We place restrictions on maturities and concentration by type and issuer. We are exposed to credit risk in the event of a default by the issuers of these securities to the
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Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
extent recorded on the consolidated balance sheets. However, as of December 31, 2022 and 2021, we limited our credit risk associated with cash equivalents by placing investments with banks we believe are highly creditworthy.
We believe that the credit risk in our accounts receivable is mitigated by our credit evaluation process, relatively short collection terms, and dispersion of our customer base. We generally do not require collateral, and losses on accounts receivable have historically not been significant.
Accounts Receivable and Allowance for Expected Credit Losses
Trade accounts receivable are recorded at the invoiced amount and do not bear interest. Customer credit terms are established prior to shipment with the general standard being net 30 days. Collateral or any other security to support payment of these receivables generally is not required.
Each reporting period, we estimate the credit loss related to accounts receivable based on a migration analysis of accounts grouped by individual receivables delinquency status, and apply our historic loss rate adjusted for management's assumption of future market conditions. Any change in the allowance from new receivables acquired, or changes due to credit deterioration on previously existing receivables, is recorded in selling, general and administrative expenses. Write-offs of receivables considered uncollectible are deducted from the allowance. Specific accounts receivable are written-off once a determination is made that the amount is uncollectible. The write-off is recorded in the period in which the account receivable is deemed uncollectible. Recoveries are recognized when received and as a direct credit to earnings or as a reduction to the allowance for credit losses (which would indirectly reduce the loss by decreasing bad debt expense).
Inventories
Inventories are valued at the lower of cost or net realizable value, computed on a first-in, first-out basis, and consisted of the following:
December 31,
Total inventories, net of reserves $ 11,886 $ 17,231
We regularly review inventory quantities on-hand for excess and obsolete inventory and, when circumstances indicate, incur charges to write down inventories to their net realizable value. The determination of a reserve for excess and obsolete inventory involves management exercising judgment to determine the required reserve, considering future demand, product life cycles, introduction of new products and current market conditions. During the year ended December 31, 2022, we recorded a $1.8 million inventory reserve related to product introductions, including the new silicone-based leads and the Bluetooth®-enabled patient remote. The reserve for excess and obsolete inventory was $2.7 million and $0.3 million as of December 31, 2022 and 2021, respectively.
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Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
Property and Equipment
Property and equipment are stated at cost, less accumulated depreciation and amortization and consisted of the following:
December 31,
Computer equipment and software $ 1,729 $ 1,397
Less: accumulated depreciation and amortization (4,910) (3,052)
Depreciation is determined using the straight-line method over the estimated useful lives of the respective assets, generally three to five years. Leasehold improvements are amortized on a straight-line basis over the shorter of their estimated useful lives or the term of the lease. Depreciation and amortization expense was $1.9 million, $1.2 million, and $0.8 million during the years ended December 31, 2022, 2021, and 2020, respectively.
Strategic Investments
For equity securities without readily determinable fair values, we have elected the measurement alternative under which we measure these investments at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. These securities are presented within other non-current assets on the consolidated balance sheets. The balance of equity securities without readily determinable fair values was $10.5 million and $0 as of December 31, 2022 and 2021, respectively. There were no adjustments to the carrying amount during the year ended December 31, 2022.
Impairment of Long-lived Assets
Long-lived assets consist primarily of property and equipment and operating lease right-of-use asset and are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If circumstances require that an asset be tested for possible impairment, we compare the undiscounted cash flows expected to be generated by the asset to the carrying amount of the asset. If the carrying amount of the asset is not recoverable on an undiscounted cash flow basis, we determine the fair value of the asset and recognize an impairment loss to the extent the carrying amount of the asset exceeds its fair value. We determine fair value using the income approach based on the present value of expected future cash flows or other appropriate measures of estimated fair value. Our cash flow assumptions consider historical and forecasted revenue and operating costs and other relevant factors. We did not record any impairment charges on long-lived assets during the years ended December 31, 2022, 2021, or 2020.
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Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
Accrued Expenses
Accrued expenses consisted of the following:
December 31,
Product warranty liability 920 468
Operating lease liabilities, current portion 1,336 312
The following table shows the changes in our estimated product warranty liability accrual, included in accrued liabilities:
Year Ended December 31,
Balance at beginning of period $ 468 $ 159 $ 115
Settlements of warranty claims (346) (267) (93)
Balance at the end of the period $ 920 $ 468 $ 159
Revenue Recognition
We derive our revenue from sales of our products in the U.S. and internationally. Customers are primarily comprised of hospitals and ambulatory surgery centers, with distributors being used in certain international locations where we do not have a direct commercial presence.
Revenues from product sales are recognized when the customer obtains control of the product, which occurs at a point in time, either upon shipment of the product or receipt of the product, depending on shipment terms. Our standard shipping terms are free on board shipping point, unless the customer requests that control and title to the inventory transfer upon delivery. In those cases where shipping and handling costs are billed to customers, we classify the amounts billed as a component of cost of goods sold.
Revenue is measured as the amount of consideration we expect to receive, adjusted for any applicable estimates of variable consideration and other factors affecting the transaction price, which is based on the invoiced price, in exchange for transferring products. All revenue is recognized when we satisfy our performance obligations under the contract. The majority of our contracts have a single performance obligation and are short term in nature.
Sales taxes and value added taxes in foreign jurisdictions that are collected from customers and remitted to governmental authorities are accounted for on a net basis and therefore are excluded from net sales. Shipping and handling costs associated with outbound freight after control over a product has transferred to a customer are accounted for as a fulfillment cost and are included in cost of goods sold.
Variable consideration related to certain customer sales incentives is estimated based on the amounts expected to be paid based on the agreement with the customer using probability assessments.
We offer customers a limited right of return for our product in case of non-conformity or performance issues. We estimate the amount of our product sales that may be returned by our customers based on historical sales and
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Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
returns. As our historical product returns to date have been immaterial, we have not recorded a reduction in revenue related to variable consideration for product returns.
See Note 9 for disaggregated revenue by geographic area.
Cost of Goods Sold
Cost of goods sold consists primarily of acquisition costs for the components of the Inspire system, overhead costs, scrap and inventory obsolescence, warranty replacement costs, as well as distribution-related expenses such as logistics and shipping costs, net of shipping costs charged to customers. The overhead costs include the cost of material procurement, depreciation expense for production equipment, and operations supervision and management personnel, including employee compensation, stock-based compensation, supplies, and travel.
Research and Development
Research and development expenses consist primarily of product development, clinical and regulatory affairs, quality assurance, consulting services, and other costs associated with products and technologies in development. These expenses include employee compensation, including stock-based compensation, supplies, materials, consulting, and travel expenses related to research and development programs. Clinical expenses include clinical study design, clinical site reimbursement, data management, travel expenses, and the cost of manufacturing products for clinical studies.
Stock-Based Compensation
We maintain an equity incentive plan to provide long-term incentives for eligible employees, consultants, and members of the board of directors. The plan allows for the issuance of restricted stock units ("RSUs"), performance stock units ("PSUs"), and non-statutory and incentive stock options to employees, and RSUs, PSUs, and non-statutory stock options to consultants and directors. We also offer an employee stock purchase plan ("ESPP") which allows participating employees to purchase shares of our common stock at a discount through payroll deductions.
We recognize equity-based compensation expense for awards of equity instruments based on the grant date fair value of those awards as expense in the consolidated statements of operations and comprehensive loss. We estimate the fair value of stock options using the Black-Scholes option pricing model and the fair value of RSUs and PSUs is equal to the closing price of our common stock on the grant date. The fair value of each purchase under the employee stock purchase plan is estimated at the beginning of the offering period using the Black-Scholes option pricing model.
Stock-based compensation expense is recognized on a straight-line basis over the vesting term for stock options and RSUs, and over the vesting and performance period based on the probability of achieving the performance objectives for PSUs. We account for award forfeitures as they occur.
Advertising Expenses
We expense the costs of advertising, including promotional expenses, as incurred. Advertising expenses were $74.3 million, $47.8 million, and $26.4 million during the years ended December 31, 2022, 2021, and 2020, respectively.
Leases
Operating leases are included in operating lease right-of-use ("ROU") asset, accrued expenses, and operating lease liability – non-current portion in our consolidated balance sheets. ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities are recognized at the lease commencement date based on the present value of lease payments over the lease term. In determining the present value of lease payments,
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Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
we use our incremental borrowing rate based on the information available at the lease commencement date as the rate implicit in the lease is not readily determinable. The determination of our incremental borrowing rate requires management judgment based on information available at lease commencement. The operating lease ROU assets also include adjustments for prepayments, accrued lease payments, and exclude lease incentives. Our lease terms may include options to extend or terminate the lease when it is reasonably certain that we will exercise such options. Operating lease cost is recognized on a straight-line basis over the expected lease term. Lease agreements that include lease and non-lease components are accounted for as a single lease component. Lease agreements with a noncancelable term of less than 12 months are not recorded on our consolidated balance sheets.
Income Taxes
We account for income taxes using the liability method. Under this method, deferred tax assets and liabilities are determined based on the differences between the financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates that will be in effect when the differences are expected to reverse. Valuation allowances against deferred tax assets are established, when necessary, to reduce deferred tax assets to the amounts expected to be realized. As we have historically incurred operating losses, we have recorded a full valuation allowance against our net deferred tax assets, and there is no provision for income taxes other than minimal state and foreign taxes, which includes a foreign tax provision relating to uncertain tax positions. Our policy is to record interest and penalties expense related to uncertain tax positions as other expense in the consolidated statements of operations and comprehensive loss.
Comprehensive Loss
Comprehensive loss consists of net loss and changes in unrealized gains and losses due to interest rate fluctuations and other external factors on investments classified as available-for-sale, and foreign currency translation adjustments. Accumulated other comprehensive loss is presented in the accompanying consolidated balance sheets as a component of stockholders' equity.
Loss Per Share
Basic net loss per share is computed by dividing the net loss by the weighted average number of shares of common stock outstanding during the period. Diluted net loss per share is computed by dividing the net loss by the weighted average number of shares of common stock and dilutive potential shares of common stock outstanding during the period. Because we have reported a net loss for all periods presented, diluted net loss per share is the same as basic net loss per share as all potentially dilutive shares consisting of outstanding stock options, unvested RSUs and PSUs, and shares issuable under our employee stock purchase plan were antidilutive in those periods.
Purchase Commitments
As of December 31, 2022, we had purchase commitments to suppliers for purchases totaling $157.4 million.
Recent Accounting Pronouncements
We have reviewed and considered all recent accounting pronouncements that have not yet been adopted and believe there are none that could potentially have a material impact on our business practices, financial condition, results of operations, or disclosures.
3. Investments
Our investments are classified as available-for-sale and consist of the following:
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Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
Amortized Unrealized Gross Aggregate
Cost Gains Losses Fair Value
Short-Term:
Amortized Unrealized Gross Aggregate
Cost Gains Losses Fair Value
Long-Term:
U.S. government securities $ 9,993 $ — $ (55) $ 9,938
As of December 31, 2022, we had no investments with a contractual maturity of greater than two years. Currently, we do not intend to sell the investments and it is not more likely than not that we will be required to sell the investments before recovery of their amortized cost bases, which may be maturity. We do not consider those investments to be other-than-temporarily impaired as of December 31, 2022. At the end of each reporting period, we evaluate potential credit impairment on available-for-sale securities in an unrealized loss position, based on the expected cash flows to be collected and the yield-to-maturity on those securities. Securities with a valuation allowance for expected credit losses and deemed uncollectible are permanently written down, and a reversal out of the valuation allowance occurs.
4. Leases
We lease approximately 70,000 square feet of office space for our corporate headquarters under non-cancelable operating leases. The leases expire May 31, 2028 with options to renew for one additional period of five years at the then-prevailing market rate. The exercises of the lease renewal options are at our sole discretion and were not included in the lease term for the calculation of the ROU assets and lease liabilities when the leases commenced as they were not reasonably certain of exercise.
In addition to base rent, we also pay our proportionate share of the operating expenses, as defined in the leases. These payments are made monthly and adjusted annually to reflect actual charges incurred for operating expenses, such as common area maintenance, taxes, and insurance.
The following table presents the lease balances within the consolidated balance sheets:
December 31,
Right-of-use assets:
Operating lease right-of-use asset $ 6,880 $ 7,919
Operating lease liabilities:
Operating lease liability, non-current portion 7,536 8,796
Total operating lease liabilities $ 8,872 $ 9,108
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Inspire Medical Systems, Inc.
Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
The cost components of our operating leases were as follows:
Year Ended December 31,
Variable lease costs consist primarily of taxes, insurance and common area maintenance costs on our current corporate office leases.
Maturities of our lease liability for our operating lease are as follows as of December 31, 2022:
Total undiscounted lease payments 10,274
Less: imputed interest (1,402)
Present value of lease liability $ 8,872
As of December 31, 2022, the remaining lease term was 5.4 years and the weighted average discount rate was 5.3%. The operating cash outflows from our operating leases were $0.7 million, $0.1 million, and $1.0 million for the years ended December 31, 2022, 2021, and 2020, respectively.
5. Long-Term Debt
In March 2019, we amended our $24.5 million loan and security agreement, which we refer to as our former credit facility. The debt was interest only until April 1, 2022 and was scheduled to mature on March 1, 2024. The basic interest rate was the 30-day U.S. LIBOR rate, subject to a floor of 7.60%. In addition to the principal and interest payments, we were required to pay a final payment fee of 3.50% on all amounts outstanding, which was being accreted using the effective interest rate method over the term of the credit facility and was to be due at the earlier of maturity or prepayment. Borrowings were prepayable in whole at our option, subject to a prepayment fee of 1.00%.
In August 2022, we prepaid the outstanding principal balance of $19.4 million, the final payment fee of $0.9 million, and the prepayment fee of $0.2 million. As of December 31, 2022, we had no remaining amounts outstanding under our former credit facility.
6. Employee Retirement Plan
We sponsor a defined contribution employee retirement plan covering all of our full-time employees. The plan allows for eligible employees to defer a portion of their eligible compensation up to the maximum allowed by IRS Regulations. Beginning January 1, 2022, we elected to begin making voluntary matching contributions to the plan. We match 50% of the first 6% of each participating employee's contribution, up to 3% of eligible earnings. Our match contributions are made to funds designated by the participant, none of which are based on Inspire common stock. Discretionary contributions to the plan totaled $2.4 million for the year ended December 31, 2022.
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Inspire Medical Systems, Inc.
Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
7. Stock-Based Compensation
As of December 31, 2022, there were 3,824,770 shares reserved for issuance under our equity incentive plan, of which 1,372,644 shares were available for issuance.
Stock-based compensation expense is recognized on a straight-line basis over the vesting term for stock options and RSUs, and over the performance period based on the probability of achieving the performance objectives for PSUs, and is reduced by actual forfeitures as they occur. If there are any modifications or cancellations of the underlying unvested securities, we may be required to accelerate, increase, or cancel any remaining unearned stock compensation expense. Future stock-based compensation expense and unearned stock-based compensation will increase to the extent that we grant additional stock-based awards.
Stock Options
The stock options granted to employees include a four-year service period and 25% vest after the first year of service and the remainder vest in equal monthly installments over the next 36 months of service. The stock options granted to the board of directors vest in one or three equal annual installments, in each case subject to the director's continuous services through the applicable vesting date. The stock options have a contractual life of ten years.
The fair value per share of options is estimated on the date of grant using the Black-Scholes option pricing model.
Option Value and Assumptions
Year Ended December 31,
Assumptions:
Expected dividend yield —% —% —%
Expected Term — Due to our limited amount of historical exercise, forfeiture, and expiration activity, we have opted to use the "simplified method" for estimating the expected term of options, whereby the expected term equals the arithmetic average of the vesting terms and the original contractual term of the option. We will continue to analyze our expected term assumption as more historical data becomes available.
Expected Volatility — Due to our limited company specific historical and implied volatility data, we have incorporated our historical stock trading volatility with those of a group of similar companies that are publicly traded for the calculation of volatility. When selecting this peer group of public companies on which we have based our expected stock price volatility, we generally selected companies with comparable characteristics, including enterprise value, stages of clinical development, risk profiles, position within the industry, and those with historical share price information sufficient to meet the expected life of the stock-based awards. We will continue to analyze the historical stock price volatility assumption as more historical data for our common stock becomes available.
Risk-Free Interest Rate — The risk-free rate assumption is based on the U.S. government Treasury instruments with maturities similar to the expected term of our stock options.
Expected Dividend Yield — The expected dividend assumption is based on our history of not paying dividends and our expectation that we will not declare dividends for the foreseeable future.
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Inspire Medical Systems, Inc.
Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
Stock Option Activity
The aggregate intrinsic value of options exercised is the difference between the estimated fair market value of our common stock at the date of exercise and the exercise price for those options. The aggregate intrinsic value of outstanding options is the difference between the closing price as of the date outstanding and the exercise price of the underlying stock options. The total grant date fair value of options vested during the year was $30.6 million, $23.9 million and $11.1 million for the years ended December 31, 2022, 2021, and 2020, respectively. As of December 31, 2022, the amount of unearned stock-based compensation currently estimated to be expensed from now through the year 2026 related to unvested stock options is $87.0 million which we expect to recognize over a weighted average period of 2.4 years.
Restricted Stock Units
RSUs are share awards that entitle the holder to receive freely tradable shares of our common stock upon vesting. The RSUs cannot be transferred and the awards are subject to forfeiture if the holder’s employment terminates prior to the release of the vesting restrictions. The RSUs include three- or four-year service periods and vest in equal installments on each of the first four anniversaries of the date of grant, provided the employee remains continuously employed with the Company. The fair value of the RSUs is equal to the closing price of our common stock on the grant date. A summary of RSUs and related information is as follows:
Unvested at December 31, 2020 — $ — $ —
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Inspire Medical Systems, Inc.
Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
There were no RSUs granted prior to 2021. The aggregate intrinsic value of unvested RSUs was based on our closing stock price on the last trading day of the period. The aggregate intrinsic value of vested RSUs was based on our closing stock price on the date of vest. As of December 31, 2022, there was $21.3 million of unrecognized stock-based compensation expense related to RSUs to be recognized over a period of 2.4 years.
Performance Stock Units
During 2022, we granted PSUs to officers and key employees. The number of PSUs that will ultimately be earned is based on our performance relative to a pre-established goal for the three-year period ending December 31, 2024. The expense is recorded on a straight-line basis over the requisite service period based on an estimate of the number of PSUs expected to vest. Management expectations related to the achievement of the performance goal associated with PSU grants is assessed each reporting period. The number of shares earned at the end of the three-year period will vary based on actual performance, from 0% to 200% of the number of PSUs granted. If the performance condition is not met or not expected to be met, any compensation expense recognized associated with the grant will be reversed.
A summary of PSUs and related information is as follows:
Unvested at December 31, 2021 — $ — $ —
There were no PSUs granted prior to 2022. The fair value of the PSUs is equal to the closing price of our common stock on the grant date. The aggregate intrinsic value of unvested PSUs was based on our closing stock price on the last trading day of the period. As of December 31, 2022, there was $23.2 million of unrecognized stock-based compensation expense related to outstanding PSUs that is expected to be recognized over a period of approximately 2.3 years.
Employee Stock Purchase Plan
Employees may participate in our ESPP provided they meet certain eligibility requirements. The purchase price for our common stock under the terms of the ESPP is defined as 85% of the lower of the closing market price per share of our common stock on the first or last trading day of a purchase period. We issued 23,709 shares under the ESPP during 2022 and there were 905,795 shares available for future issuance under the ESPP as of December 31, 2022.
8. Income Taxes
Due to our cumulative net loss position, a valuation allowance has been required to be established for all deferred tax assets as of December 31, 2022, 2021, and 2020.
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Inspire Medical Systems, Inc.
Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
The components of our provision for income taxes are as follows:
December 31,
Current
Total provision for income taxes $ 613 $ 72 $ 115
The reconciliation of taxes at the federal statutory rate to our provision for income taxes are as follows:
Year Ended December 31,
Tax at federal statutory rate 21.0 % 21.0 % 21.0 %
State, net of federal benefit 3.4 4.0 3.6
Stock-based compensation 9.1 18.1 8.0
Research and development ("R&D") tax credit 6.4 3.3 1.4
Change in valuation allowance (40.5) (47.0) (34.1)
Significant components of net deferred tax assets and liabilities were as follows:
Year Ended December 31,
Deferred tax assets:
R&D expenditures, capitalized for tax 14,230 1,505
Interest expense carryforward — 757
Depreciation and amortization — 62
Other comprehensive loss 44 14
Deferred tax liabilities:
Depreciation (9) (59)
Total deferred tax liabilities (1,733) (2,039)
$ — $ —
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Inspire Medical Systems, Inc.
Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
Deferred income taxes reflect the tax effects of net operating loss and tax credit carryforwards and the net temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes.
As of December 31, 2022, our gross federal net operating loss carryforwards of $257.4 million will expire at various dates beginning in 2033. In addition, net operating loss carryforwards for state income tax purposes of $183.3 million will begin to expire in 2024. We also have gross R&D credit carryforwards of $10.1 million as of December 31, 2022 which will expire at various dates beginning in 2033.
Under the Tax Cuts and Jobs Act of 2017, R&D costs are no longer fully deductible and are required to be capitalized and amortized for U.S. tax purposes effective January 1, 2022. The mandatory capitalization requirement increased our deferred tax assets, which were fully offset by a valuation allowance.
Utilization of the net operating loss carryforwards and R&D credit carryforwards may be subject to an annual limitation due to the ownership change limitations provided by Section 382 and Section 383 of the Internal Revenue Code of 1986 and similar state provisions. We are currently performing a detailed analysis to determine whether an ownership change has occurred and if a limitation exists. Based on the preliminary results of the analysis, we believe there is no evidence that this limitation would hinder the utilization of our net operating loss carryforwards or R&D credit carryforwards in the future.
Realization of the deferred tax assets is dependent upon the generation of future taxable income, if any, the amount and timing of which are uncertain. Based on available objective evidence and cumulative losses, we believe it is more likely than not that the deferred tax assets are not recognizable and will not be recognizable until we have sufficient taxable income. Accordingly, the net deferred tax assets have been fully offset by a valuation allowance. The valuation allowance increased by $17.5 million and $19.8 million during the years ended December 31, 2022 and 2021, respectively.
The changes to our gross unrecognized tax benefits were as follows:
Year Ended December 31,
Balance beginning of the year $ 134 $ 85 $ 40
Increase in balances related to current year tax positions 12 49 —
Increase in balances related to prior year tax positions — — 45
We file income tax returns in the applicable jurisdictions. The 2019 to 2021 tax years remain open to examination by the major taxing authorities to which we are subject. We do not expect a significant change to our unrecognized tax benefits over the next 12 months.
Our policy is to record interest related to uncertain tax positions as interest expense and any penalties as other expense in our consolidated statements of operations and comprehensive loss. There were no interest or penalties accrued as of December 31, 2022 and 2021.
9. Segment Reporting and Revenue Disaggregation
We operate our business as one operating segment. An operating segment is defined as a component of an enterprise for which separate discrete financial information is available and evaluated regularly by the chief operating decision maker, or decision-making group, in deciding how to allocate resources and in assessing performance. Segment information is consistent with how management reviews the business, makes investing and resource allocation decisions and assesses operating performance.
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Inspire Medical Systems, Inc.
Notes to Consolidated Financial Statements
(Table amounts in thousands, except share and per share amounts)
We sell our Inspire system to hospitals and ambulatory surgery centers in the U.S. and in select countries in Europe through a direct sales organization, and in Japan and Singapore through distributors. Revenue by geographic region is as follows:
Year Ended December 31,
All of our long-lived assets are located in the U.S.
10. Loss Per Share
Basic net loss per share is computed by dividing the net loss by the weighted average number of shares of common stock outstanding during the period. Diluted net loss per share is computed by dividing the net loss by the weighted average number of shares of common stock and dilutive potential shares of common stock outstanding during the period. Because we have reported a net loss for all periods presented, diluted net loss per share is the same as basic net loss per share as all of the following potentially dilutive shares were antidilutive in those periods.
The following common stock-based awards were excluded from the computation of diluted net loss per common share for the periods presented because including them would have been anti-dilutive:
Year Ended December 31,
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Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure.
None.
Item 9A. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of December 31, 2022. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and procedures as of December 31, 2022, our Chief Executive Officer and Chief Financial Officer concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance level.
Changes in Internal Control over Financial Reporting
There was no change in the Company’s internal control over financial reporting, as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act, that occurred during the quarter ended December 31, 2022 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Management Report on Internal Control over Financial Reporting
Management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act. Internal control over financial reporting is a process designed by, or under the supervision of, a company’s principal executive and principal financial officers, or persons performing similar functions, and effected by the company’s board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles. It includes those policies and procedures that:
•pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the company;
•provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and
•provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
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Our management conducted an assessment of the effectiveness of our internal control over financial reporting as of December 31, 2022, based on the criteria set forth in “Internal Control-Integrated Framework (2013)” issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment, management concluded that, as of December 31, 2022, our internal control over financial reporting was effective.
Ernst & Young LLP, our independent registered public accounting firm that audited the consolidated financial statements included in this Annual Report on Form 10-K, has issued an audit report on our internal control over financial reporting. See Report of Independent Registered Public Accounting Firm below.
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Report of Independent Registered Public Accounting Firm
To the Stockholders and the Board of Directors of Inspire Medical Systems, Inc.
Opinion on Internal Control Over Financial Reporting
We have audited Inspire Medical Systems, Inc.’s internal control over financial reporting as of December 31, 2022, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the COSO criteria). In our opinion, Inspire Medical Systems, Inc. (the Company) maintained, in all material respects, effective internal control over financial reporting as of December 31, 2022, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of Inspire Medical Systems, Inc. as of December 31, 2022 and 2021, the related consolidated statements of operations and comprehensive loss, stockholders' equity and cash flows for each of the three years in the period ended December 31, 2022, and the related notes and our report dated February 10, 2023 expressed an unqualified opinion thereon.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects.
Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
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Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/Ernst & Young LLP
Minneapolis, Minnesota
February 10, 2023
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Item 9B. Other Information.
None.
Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections.
None.
PART III
Item 10. Directors, Executive Officers and Corporate Governance.
The information required by this Item is incorporated by reference to our definitive proxy statement for our 2023 annual meeting of stockholders to be filed with the SEC within 120 days of the fiscal year ended December 31, 2022.
Item 11. Executive Compensation.
The information required by this Item is incorporated by reference to our definitive proxy statement for our 2023 annual meeting of stockholders to be filed with the SEC within 120 days of the fiscal year ended December 31, 2022.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.
The following table provides information as of December 31, 2022, regarding our common stock that may be issued under the Inspire Medical Systems, Inc. 2007 Incentive Award Plan, as amended (the "2007 Plan”), the Inspire Medical Systems, Inc. 2017 Incentive Award Plan, as amended (the “2017 Plan”), the Inspire Medical Systems, Inc. 2018 Incentive Award Plan (the “2018 Plan”) and the Inspire Medical Systems, Inc. 2018 Employee Stock Purchase Plan (the “2018 ESPP”).
Plan category: (a) (b) (c)
Equity compensation plans approved by stockholders
Equity compensation plans not approved by stockholders — $ — —
(1) The 2007 Plan terminated in accordance with its terms on November 28, 2017; however, outstanding stock options may continue to be exercised in accordance with their terms. In connection with our IPO, we adopted the 2018 Plan and do not make grants or awards under the 2017 Plan.
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(2) Pursuant to the terms of the 2018 Plan, the number of shares of common stock available for issuance under the 2018 Plan automatically increases on each January 1, until and including January 1, 2028, by an amount equal to the lesser of (a) 739,631 shares, (b) 4% of the number of shares of common stock outstanding (on an as-converted basis) on the last day of the immediately preceding fiscal year, and (c) such smaller number of shares as is determined by our board of directors. The weighted average exercise price is calculated without taking into account restricted stock that will become issuable, without any cash consideration or other payment, as vesting requirements are achieved.
(3) Pursuant to the terms of the 2018 ESPP Plan, the number of shares reserved under the 2018 ESPP Plan will automatically be supplemented each January 1, until and including January 1, 2028, by an amount of shares equal to the lesser of a) 184,908 shares, b) 1% of the shares outstanding on the final day of the immediately preceding calendar year, and c) such smaller number of shares as the board of directors may determine.
Other
The remaining information required by this Item is incorporated by reference to our definitive proxy statement for our 2023 annual meeting of stockholders to be filed with the SEC within 120 days of the fiscal year ended December 31, 2022.
Item 13. Certain Relationships and Related Transactions, and Director Independence.
The information required by this Item is incorporated by reference to our definitive proxy statement for our 2023 annual meeting of stockholders to be filed with the SEC within 120 days of the fiscal year ended December 31, 2022.
Item 14. Principal Accounting Fees and Services.
Our independent registered public accounting firm is Ernst & Young LLP, Minneapolis, MN, Auditor Firm ID: 42.
The information required by this Item is incorporated by reference to our definitive proxy statement for our 2023 annual meeting of stockholders to be filed with the SEC within 120 days of the fiscal year ended December 31, 2022.
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PART IV
Item 15. Exhibits, Financial Statement Schedules.
(a) List of documents filed as part of this Annual Report on Form 10-K: