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 consolidated financial statements and accompanying notes and other financial information included elsewhere in this Annual Report on Form 10-K. In addition to historical consolidated financial information, the following discussion contains forward-looking statements that reflect our plans, estimates, and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. You should review the sections titled “Note Regarding Forward-Looking Statements” for a discussion of forward-looking statements and in Part I, Item 1A, “Risk Factors” for a discussion of factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and elsewhere in this Annual Report on Form 10-K.
Overview
We strive to develop some of the most comprehensive and actionable cancer genomic tests in the world to help patients live better and longer lives. We believe we have one of the most discerning technologies to both characterize and monitor cancer – with the aim of driving a new paradigm for cancer management and guiding care from biopsy through the life of the patient. Our assays combine tumor-and-normal profiling with proprietary algorithms to deliver advanced insights even as cancer evolves over time. Our products are designed to detect recurrence at the earliest timepoints, enable selection of targeted therapies based on ultra-comprehensive genomic profiling, and enhance biomarker strategy for drug development.
Today, our platforms are routinely used by many of the largest oncology-focused pharmaceutical companies for analysis of patient samples in their clinical trials and drug development programs. Our advanced genomic sequencing and analytics also support the development of personalized cancer vaccines and other next-generation cancer immunotherapies. For example, we are providing genomic testing to Moderna in its ongoing clinical trials evaluating a personalized cancer vaccine. In addition, we partner with diagnostics companies by providing our advanced tumor profiling and analysis capabilities as an input to their products. More recently, we launched new diagnostic offerings for the clinical setting and are preparing for future expansion in the clinical diagnostics market. Finally, we have also pursued non-cancer related business opportunities, specifically within the population sequencing market, by providing whole genome sequencing ("WGS") services under contract with the U.S. Department of Veterans Affairs Million Veteran Program ("VA MVP").
As part of one of our new strategies for 2023 and beyond, we are working with a growing number of leading cancer centers and world-class academic research institutions to build and publish the clinical evidence-base to support our products and our key indications. Specifically, because of the high sensitivity of our technology, we aim to focus on three indications in the next 2-3 years: immunotherapy (IO) monitoring, breast cancer, and lung cancer. We have announced collaborations with BC Cancer, Duke University, UCSF, Criterium, and Academic Breast Cancer Consortium that will focus on building the evidence-base for our technology and these indications. If the key opinion leaders ("KOLs") we are collaborating with have a positive experience using our platform, we are optimistic this will support broader use of our platform by other KOLS, as well as clinicians in the future.
Our work in oncology is underpinned by our experience and capacity for next-generation sequencing at scale. We have the capacity to sequence and analyze approximately 200 trillion bases of DNA per week in our facility. We believe that our capacity is already larger than most cancer genomics companies, and we continue to build automation and other infrastructure to scale further as demand increases. To date, we have sequenced more than 300,000 human samples, of which more than 160,000 were whole human genomes.
In October 2022, we relocated our corporate headquarters from Menlo Park, California to a new facility in Fremont, California. We signed a 13.5-year lease that extends to 2036 for the 100,000 square foot facility, which is approximately triple the amount of space than our Menlo Park location. The new facility allows for expansion of our laboratory for testing to support pharmaceutical customers and clinical diagnostic testing. In addition, the new space is intended to support the expansion of research and development efforts to bring leading edge products and services to the marketplace. Our Menlo Park office currently continues to house our Clinical Laboratory Improvement Amendments of 1988 (“CLIA”)-certified and College of American Pathologists (“CAP”)-accredited laboratory and we expect to move our laboratory operations from Menlo Park to the new facility in 2023.
2022 Highlights
Total revenue decreased 24%, or $20.4 million, during 2022 compared to 2021, due primarily to expected lower population sequencing revenue from the VA MVP. Revenue from pharma tests, enterprise, and other customers was $56.6 million in 2022 compared to $39.8 million in 2021, an increase of 42%, driven by higher sales to Natera under our partnership to provide advanced tumor analysis for use in Natera's MRD testing offerings. Revenue from population sequencing was $8.4 million in 2022 compared to $45.7 million in 2021, due to a reduction in the value of annual task orders received from the VA MVP in the past two years.
We announce new product offerings, business developments, and research collaborations at various times during the year. Significant announcements during 2022 included the following:
First Quarter 2022:
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Received our first customer order for NeXT Personal from a large global pharmaceutical customer and processed samples for initial order.
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Announced a collaboration with the Moores Cancer Center at UC San Diego Health, a National Cancer Institute-designated Comprehensive Cancer Center, to support clinical diagnostic testing in patients with advanced solid tumors and hematological malignancies.
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Second Quarter 2022:
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Received a new US patent relating to NeXT Personal, signifying its unique place among MRD assays as it combines a highly sensitive measurement of tumor burden with the ability to simultaneously track thousands of tumor variants, both tumor-informed and prespecified, in a single panel.
Third Quarter 2022:
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Launched a research collaboration with BC Cancer using NeXT Personal to determine the optimal time for ctDNA sampling for MRD detection in colorectal and pancreatic cancers, with the aim of identifying cancer progression before current standard of care tests.
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Announced a research collaboration with Duke University, deploying NeXT Personal to profile and accurately track MRD in patients with advanced gastroesophageal cancer over the course of therapy with the aim of better predicting a patient’s immune response to therapy.
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Added two additional patents to our MRD-related IP portfolio, both with priority to January 2013; the new patents describe the detection of cancer and its recurrence by using WGS of a patient’s tumor to identify variants for a subsequently used personalized liquid biopsy assay as well as the design of the liquid biopsy assay.
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Appointed Christopher Hall as SVP (subsequently promoted to President) who will lead the company’s diagnostic business, bringing 20 years of experience including leading the commercial organization at Veracyte and growing its business to nearly $100M in diagnostic revenue.
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Launched marketing and sales outreach to oncologists to begin generating demand for NeXT Dx, the company’s tissue-based clinical test that covers the whole exome and transcriptome and assesses genomic alterations in matched tumor and normal specimens to report variants and help oncologists with decision-making for therapy selection.
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Won an exclusive five-year contract and received the initial order from the VA MVP.
Fourth Quarter 2022:
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Initiated a research collaboration with University Medical Center Hamburg-Eppendorf ("UKE") and its new Fleur-Hiege Center for Skin Cancer Research, where Dr. Klaus Pantel, Dr. Christoffer Gebhardt, and team are using NeXT Personal to track tumor response to immunotherapy ("IO") in patients with melanoma, with the aim of gathering evidence to advance the use of ultra-sensitive MRD detection in routine clinical practice for IO therapy monitoring.
Recent Events
In January 2023, we announced a headcount reduction of up to 30% to reduce expenses and extend our cash runway. The reduction in workforce is expected to be completed in March 2023.
In January 2023, partnered with Criterium and the Academic Breast Cancer Consortium (ABRCC) to conduct a prospective clinical trial to validate the clinical performance of the NeXT Personal assay to evaluate minimal residual disease (MRD) and subsequent recurrence in patients with early-stage, resectable triple negative breast cancer (TNBC).
In February 2023, we announced a partnership with Moderna to provide genomic testing for its upcoming clinical studies evaluating mRNA-4157/V940, an investigational personalized cancer vaccine, jointly developed by Moderna and Merck.
In February 2023, we made a decision to streamline our international operations by closing our operations in China as expeditiously as possible in 2023. We expect to incur one-time charges in connection with the closure, including noncash impairments of property and equipment and a lease asset. Such charges cannot be estimated at this time, but we do not expect such charges to exceed $1.5 million.
Factors Affecting Our Performance
We believe there are several important factors that have impacted, and that we expect will continue to impact, our operating performance and results of operations, including:
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The continued development of the market for genomic-based tests. Our performance depends on the willingness of pharmaceutical companies, enterprise customers, and oncologists to continue to seek more comprehensive molecular information to develop more efficacious cancer therapies.
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Increasing adoption of our products and solutions by existing customers. Our performance depends on our ability to retain and broaden adoption with existing customers. Because our technology is novel, some customers begin using our platform by initiating pilot studies involving a small number of samples to gain experience with our service. As a result, historically a significant portion of our revenue has come from existing customers. We believe that our ability to convert initial pilots into larger orders from existing customers has the potential to drive substantial long-term revenue. We expect there may be some variation in the number of samples they choose to test each quarter.
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Adoption of our products and solutions by new customers. While new customers initially may not account for significant revenue, we believe that they have the potential to grow substantially over the long term as they gain confidence in our service. Our ability to engage new customers is critical to our long-term success. Our publications, posters and presentations at scientific conferences lead to engagement at the scientific level with potential customers who often make the initial decision to gain experience with our platform. Accessing these new customers through scientific engagement and marketing to gain initial buy-in is critical to our success and gives us the opportunity to demonstrate the utility of our platform.
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Our revenue and cost are affected by the volume of samples we receive from customers from period to period. The timing and size of sample shipments received after orders have been placed is variable. Since sample shipments can be large, and are often received from a third party, the timing of arrival can be difficult to predict over the short term. Although our long-term performance is not affected, we see quarter-to-quarter volatility due to these factors. Samples arriving later than expected may not be processed in the quarter proposed and result in revenue the following quarter. Since many of our customers request defined turnaround times, we employ project managers to coordinate and manage the complex process from sample receipt to sequencing and delivery of results.
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Investment in product innovation to support growth. Investment in research and development, including the development of new products and capabilities is critical to establish and maintain our leading position. We have invested significantly in our NeXT Platform, introducing new products and additional capabilities. We are also collaborating with key opinion leaders from cancer centers, such as Mayo Clinic and UC San Diego Moores Cancer Center, to support the clinical utility of our platform. We believe this work is critical to gaining customer adoption and expect our investments in these efforts to increase.
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Leverage our operational infrastructure. We have invested significantly in our sample processing capabilities and commercial infrastructure. With our current operating model and infrastructure, we can increase our production and commercialize new generations of our platform. We expect to grow our revenue and spread our costs over a larger volume of services.
Components of Operating Results
Revenue
We derive our revenue primarily from sales of advanced sequencing and analytics to the following four groups of customers:
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Pharma tests and services includes sales of testing services and data analytics for clinical trials and research to pharmaceutical companies in support of their drug development programs.
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Enterprise sales includes sales of tumor profiling and diagnostic tests directly to other businesses as an input to their products. Revenue from our partnership with Natera to provide advanced tumor analysis for use in Natera's MRD testing offerings currently makes up substantially all of the revenue in this category.
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Population sequencing includes sales of genomic sequencing services and data analytics to support large-scale genetic research programs. Revenue from our partnership with the VA MVP to provide population sequencing accounts for all of the revenue in this category.
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Other includes sales of genomic tests and analytics to universities and non-profits. This category also includes sales of diagnostics tests ordered by healthcare providers for cancer patients, which was insignificant in 2022.
Our ability to increase revenue will depend on our ability to further increase sales to these groups of customers and expand our customer base within each group. To do this, we are developing a growing set of state-of-the-art services and products, advancing our operational infrastructure, building our regulatory credentials, focusing our marketing efforts on large pharmaceutical companies, and seeking additional partnerships such as ours with Natera. We sell through a small direct sales force. We also anticipate increasing our revenue in the future through entrance into the clinical diagnostics market and have begun building our regulatory, clinical, and reimbursement capabilities, including hiring a national clinical sales force.
We have one reportable segment from the sale of sequencing and data analysis services. Most of our revenue to date has been derived from sales in the United States.
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Costs and Expenses
Cost of Revenue
Cost of revenue consists of raw materials costs, personnel costs (salaries, bonuses, stock-based compensation, payroll taxes, and benefits), laboratory supplies and consumables, depreciation and maintenance on equipment, and allocated facilities and information technology (“IT”) costs. We expect cost of revenue to increase as our revenue grows. We expect variability in our gross margins over the medium term due to fluctuating population sequencing revenue, investments in new capabilities such as automation of laboratory workflows, processing of diagnostic tests for the clinical market while we work to secure reimbursement, and costs related to our new Fremont facility. Over the long-term, we anticipate higher gross margins as growing revenue leads to economies of scale.
Research and Development Expenses
Research and development expenses consist of costs incurred for the research and development of our services and products and costs related to conducting studies and collaborations with partners to validate the clinical utility of our offerings. The expenses primarily consist of personnel costs (salaries, bonuses, stock-based compensation, payroll taxes, and benefits); laboratory supplies and consumables; costs of processing samples for research, product development, collaborations, and studies; depreciation and maintenance on equipment; and allocated facilities and IT costs. We include in research and development expenses the costs to further develop software we use to operate our laboratory, analyze the data it generates, and automate our operations.
We expense our research and development costs in the period in which they are incurred. We expect to increase our research and development expenses overall as we expand collaborations for clinical validation to secure reimbursement and develop our NeXT Personal test as an LDT for the clinical market, partially offset by cost reductions from our first quarter 2023 reduction in workforce and anticipated savings from our planned discontinuation of operations in China.
Selling, General and Administrative Expenses
Selling expenses consist of personnel costs (salaries, commissions, bonuses, stock-based compensation, payroll taxes, and benefits), customer support expenses, direct marketing expenses, and market research. Our general and administrative expenses include costs for our executive, accounting, finance, legal, and human resources functions. These expenses consist of personnel costs (salaries, bonuses, stock-based compensation, payroll taxes, and benefits), corporate insurance, audit and legal expenses, consulting costs, and allocated facilities and IT costs. We expense all selling, general and administrative costs as incurred.
We expect our selling, general and administrative expenses to decrease significantly in the medium term as a result of the 2023 reduction in workforce, partially offset by investments in our diagnostic sales outreach efforts.
Interest Income and Interest Expense
Interest income consists primarily of interest earned on our cash and cash equivalents and short-term investments. Our interest income increased significantly during 2022 as a result of the higher interest rate environment after the Federal Reserve began taking measures to curb inflation in 2022.
Interest expense in 2022 and 2021 is the recognition of imputed interest on noninterest bearing loans.
Other Income (Expense), Net
Other income (expense), net consists primarily of foreign currency exchange gains and losses, and realized gains or losses associated with sales of marketable securities.
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Trend Financial Information
The following selected consolidated financial data should be read in conjunction with the consolidated financial statements and the notes thereto in Item 8 of Part II, “Financial Statements and Supplementary Data”. Historical results are not necessarily indicative of future results.
Year Ended December 31,
Costs and expenses
Loss on debt extinguishment — — — (1,704 ) (4,658 )
December 31,
Consolidated Balance Sheet Data: (in thousands)
Redeemable convertible preferred stock — — — — 89,404
Results of Operations
This section generally discusses 2022 and 2021 items and year-to-year comparisons between 2022 and 2021. Discussions of 2020 items and year-to-year comparisons between 2021 and 2020 that are not included in this Annual Report on Form 10-K can be found in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the year ended December 31, 2021, which is incorporated by reference herein.
Revenue
The following table shows revenue by customer type (in thousands):
Years Ended December 31, Change
The following table shows customers that made up at least 10% of total revenue in each year presented:
Year Ended December 31,
Natera, Inc. 41% 10% *
Merck & Co., Inc. 11% * *
* Less than 10% of revenue
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Pharma tests and services
Revenue from pharma tests and services decreased 2%, or $0.7 million, in 2022. This was the result of decreases in certain customer projects, notably declines in ImmunoID NeXT samples processed for research and clinical trial projects for two large pharmaceutical customers; partially offset by increased revenue from other customer projects, notably fulfillment of an ImmunoID NeXT project with a different large pharmaceutical customer, a NeXT Liquid Biopsy project with another large pharmaceutical customer, and an ACE cancer sequencing project for a new customer.
Enterprise sales
Revenue from enterprise sales increased 204%, or $17.9 million, in 2022 primarily due to an increase in the volume of samples we tested for Natera for use in Natera's MRD testing offerings, partially offset by lower selling prices as a result of volume-based tiered pricing. The number of samples processed increased over 300% in 2022 as compared to 2021.
Population sequencing
Population sequencing revenue is made up entirely of sales to the VA MVP. The decrease of 82%, or $37.2 million, in revenue from the VA MVP in 2022 was due to a reduction in the value of annual task orders received from the VA MVP in the past two years. Specifically, we received task orders with values exceeding $36.0 million each year from 2017 to 2019. In 2020, the annual task order received from the VA MVP was $30.9 million, and in 2021 the annual task order received from the VA MVP was $9.7 million. The 2021 task order was the last task order received under our prior contract with the VA MVP, which is now expired. Our conversion of orders into revenue necessarily declined beginning in the fourth quarter of 2021 through the second quarter of 2022, which is when we completed the fulfillment of all outstanding task orders under the prior contract.
In September 2022, we entered into a new contract with the VA MVP to continue providing them WGS services. The performance period under the new contract includes a base period of one year, with four one-year renewal option periods that may be exercised upon discretion of the VA MVP. We concurrently received an initial task order with a value of up to $10.0 million, of which we fulfilled $0.9 million during the fourth quarter of 2022. We expect to recognize the remaining $9.1 million unfulfilled portion of the order in 2023.
Other
Other revenue decreased 46%, or $0.4 million, in 2022 due to lower revenue from university research projects.
Costs and Expenses
Year Ended December 31, Change
(in thousands)
Cost of revenue
The decrease in cost of revenue of 4%, or $2.1 million, in 2022 was primarily due to lower revenue levels but also improved contribution margins due to customer mix (non-population sequencing sales generally have higher contribution margins), partially offset by higher fixed laboratory costs and indirect supplies costs (enterprise and pharma customer orders require more supplies to process as compared to population sequencing orders).
Specific components of the decrease were a $12.2 million decrease in raw materials costs due to lower revenue levels plus higher contribution margins, partially offset by a $4.4 million increase in facilities costs and maintenance on lab equipment, a $3.5 million increase in labor costs due to increased headcount, and a $2.2 million increase in laboratory supplies and consumables.
Research and development
The increase in research and development expenses of 32%, or $15.6 million, in 2022 was primarily due to new product and service development, increased hiring to build our clinical offerings, and the cost of testing samples for clinical validation work.
Specific components of the increase were a $7.5 million increase in personnel-related costs primarily related to increased headcount, a $4.1 million increase in sample processing costs incurred in our laboratory for new product development, a $3.0 million increase in IT and fixed facilities costs, and a $1.0 million increase in depreciation and maintenance on research and development equipment.
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Selling, general and administrative
The increase in selling, general and administrative expenses of 34%, or $16.3 million, in 2022 was primarily due to expansion of our commercial and clinical diagnostics teams in addition to one-time charges in connection with our former chief executive officer's retirement at the end of 2022.
Specific components of the increase were a $9.6 million increase in personnel-related costs (primarily related to increased headcount but also a $2.0 million one-time charge for severance and equity modifications in connection with our former chief executive officer's retirement at the end of 2022), a $2.6 million increase in professional services (including audit fees and legal expenses), a $2.5 million increase in sales-related and travel expenses, and a $1.6 million increase in facilities costs driven by our new Fremont facility.
Interest Income, Interest Expense and Other Expense, Net
Year Ended December 31, Change
(in thousands)
Interest expense (201 ) (184 ) (2 ) 9% NM
Other income (expense), net 61 (42 ) (24 ) NM 75%
Interest income and interest expense
The increase in interest income in 2022 was due to increased yields on our investments. Interest expense in 2022 and 2021 is the recognition of imputed interest on noninterest bearing loans.
Other income (expense), net
Other income (expense), net consisted mainly of foreign currency remeasurements.
Liquidity and Capital Resources
The following tables present selected financial information and cash flow information (in thousands):
December 31,
Year Ended December 31,
From our inception through December 31, 2022, we have funded our operations primarily from $279.0 million in net proceeds from our follow-on equity offerings in August 2020 and January 2021, $144.0 million in net proceeds from our IPO in June 2019, and $89.6 million from issuance of redeemable convertible preferred stock, as well as cash from operations and debt financings. As of December 31, 2022, we had cash and cash equivalents in the amount of $89.1 million and short-term investments in the amount of $78.5 million.
We have incurred net losses since our inception. We anticipate that our current cash and cash equivalents and short-term investments, together with cash provided by operating activities, are sufficient to fund our near-term capital and operating needs for at least the next 12 months.
We have based these future funding requirements on assumptions that may prove to be wrong, and we could utilize our available capital resources sooner than we expect. If our available cash balances and anticipated cash flow from operations are insufficient to satisfy our liquidity requirements, including because of lower demand for our services or other risks described in this Annual Report on Form 10-K, we may seek to sell additional common or preferred equity or convertible debt securities, enter into an additional credit facility or another form of third-party funding or seek other debt financing. We filed a prospectus supplement in January 2022 pursuant to which we could offer and sell additional shares of our common stock up to an aggregate amount of $100.0 million through an at-the-market offering program. The sale of equity and convertible debt securities may result in dilution to our stockholders and, in the case of preferred equity securities or convertible debt, those securities could provide for rights, preferences or privileges senior to those of our common stock. The terms of debt securities issued or borrowings pursuant to a credit agreement could impose significant restrictions on our operations. Additional capital may not be available on reasonable terms, or at all.
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Our short-term investments portfolio is primarily invested in highly rated securities, with the primary objective of minimizing the potential risk of principal loss. Our investment policy generally requires securities to be investment grade and limits the amount of credit exposure to any one issuer.
As of December 31, 2022, cash and cash equivalents held by foreign subsidiaries was $0.7 million. Our intent is to indefinitely reinvest funds held outside the United States and our current plans do not demonstrate a need to repatriate them to fund our domestic operations. However, if in the future, we encounter a significant need for liquidity domestically or at a particular location that we cannot fulfill through borrowings, equity offerings, or other internal or external sources, or the cost to bring back the money is not significant from a tax perspective, we may determine that cash repatriations are necessary or desirable. Repatriation could result in additional material taxes. These factors may cause us to have an overall tax rate higher than other companies or higher than our tax rates have been in the past.
During 2022, cash used in operating activities of $70.2 million was a result of $113.3 million of net loss, partially reduced by non-cash expenses of $32.5 million (the most significant non-cash expenses were $19.4 million of stock-based compensation and $8.4 million of depreciation and amortization) and a net positive change in working capital of $10.6 million (primarily due to $13.2 million cash receipts in connection with our Fremont facility lease incentives and a $3.1 million increase in accounts payable, partially offset by a $3.0 million increase in inventory and a $2.7 million reduction in outstanding customer prepayments as we fulfilled the related revenue contracts).
During 2022, cash provided by investing activities was $52.5 million due to $102.4 million of net proceeds from short-term investments partially offset by $49.9 million in property and equipment purchases. Cash provided by financing activities of $1.4 million during the same period consisted of $2.5 million proceeds from stock option exercises and purchases under our ESPP and $1.2 million proceeds from noninterest bearing loans, partially offset by $2.3 million repayments of noninterest bearing loans.
Material Cash Requirements
Our material cash requirements in the short- and long-term consist primarily of variable costs of revenue, operating expenditures, capital expenditures, property leases, and other. We plan to fund our material cash requirements with our existing cash and cash equivalents and short-term investments, which amounted to $167.7 million as of December 31, 2022, as well as anticipated cash receipts from customers. To fund our material cash requirements in the short- and long-term, we may also seek to sell additional common or preferred equity or convertible debt securities, enter into an additional credit facility or another form of third-party funding or seek other debt financing.
Variable costs of revenue. From time to time in the ordinary course of business, we enter into agreements with vendors for the purchase of raw materials, laboratory supplies and consumables to be used in the sequencing of customer samples. However, we generally do not have binding and enforceable purchase orders beyond the short term, and the timing and magnitude of purchase orders beyond such period is difficult to accurately project. We currently expect spend in this area to increase in 2023 to support expected higher levels of revenue.
Operating expenditures. Our primary use of cash relates to paying employees, spend on professional services, spend related to research and development projects, and other costs related to our research and development, selling, general and administrative functions. We currently expect to decrease our spend in these areas as a result of our first quarter 2023 workforce reduction. On a long-term basis, we manage future cash requirements relative to our long-term business plans.
Capital expenditures. Capital expenditures are expected to decrease significantly after 2022 as we have substantially completed the one-time build-out of our new headquarters and laboratory facility in Fremont, California as of the end of 2022. Going forward, our capital expenditures are expected to consist primarily of laboratory equipment and computer equipment. We currently expect capital expenditures to be between $4 million to $6 million in each of the years 2023, 2024, and 2025.
Property leases. Our noncancelable operating lease payments were $83.8 million as of December 31, 2022. The timing of these future payments, by year, can be found in Part II, Item 8 of this Annual Report on Form 10-K in the Notes to Consolidated Financial Statements in Note 7, Leases.
Other. As of December, 2022, we had three noninterest bearing loans to finance the purchase of $6.9 million of computer hardware, internal use software licenses, and related ongoing support. In connection with the loans, we made payments of $2.3 million in 2022. Remaining payments of $2.3 million and $0.4 million due in 2023 and 2024, respectively. Further discussion of these transactions can be found in Part I, Item 1 of this Annual Report on Form 10-K in the Notes to Consolidated Financial Statements in Note 6, Loans.
Critical Accounting Policies and Estimates
Our consolidated financial statements are prepared in accordance with U.S. GAAP. The preparation of our consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, costs and expenses, and related disclosures. Our estimates are based on our historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
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An accounting policy is deemed to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimate is made, if different estimates reasonably could have been used, or if changes in the estimate that are reasonably possible could materially impact the financial statements. We believe that the assumptions and estimates associated with revenue recognition, stock-based compensation, and leases have the greatest potential impact on our consolidated financial statements. Therefore, we consider these to be our critical accounting policies and estimates.
Revenue Recognition
We generate our revenue from selling sequencing and data analysis services. We agree to provide services to our customers through a contract, which may be in the form of a combination of a signed agreement, statement of work and/or a purchase order.
We have evaluated the performance obligations contained in contracts with customers to determine whether any of the performance obligations are distinct, such that the customers can benefit from the obligations on their own, and whether the obligations can be separately identifiable from other obligations in the contract. For the significant majority of our contracts to date, the customer orders a specified quantity of a sequencing; therefore, the delivery of the ordered quantity per the purchase order is accounted for as one performance obligation. Our contracts include only one performance obligation—the delivery of the sequencing and data analysis services to the customer.
Fees for our sequencing and data analysis services are predominantly based on a fixed price per sample. The fixed prices identified in the arrangements only change if a pricing amendment is agreed with a customer. In limited cases we provide our customers a discount if samples received above a certain volume are purchased. In such cases, the discount applies prospectively. We have analyzed such discounts if they represent a material right provided to a customer. We have concluded that such discounts generally do not represent a material right provided to a customer since they are not deemed to be incremental to the pricing offered to the customer or are not enforceable options to acquire additional goods. As a result, these discounts do not constitute a material right and do not meet the definition of a separate performance obligation, except in limited instances. We do not offer retrospective discounts or rebates. Accordingly, all of the transaction price, net of any discounts, is allocated to one performance obligation. Therefore, upon delivery of the services, there are no remaining performance obligations.
Contracts that contain multiple distinct performance obligations would require an allocation of the transaction price to each performance obligation based on a relative stand-alone selling price basis. Sometimes we deliver sequencing results in two or more batches; however, since the quantity delivered per batch of each individual test per sales order in these instances is in the same ratio as in the original sales order, allocating the transaction price on a relative stand-alone selling price basis would have no impact on the revenue recognized in any period presented.
We recognize revenue when control of the promised services is transferred to our customers. Management has determined that customers obtain control when the sequencing and data analysis service results are delivered to customers. Revenue is recorded net of sales or other transaction taxes collected from clients and remitted to taxing authorities.
A customer contract liability will arise when we receive payments from a customer related to an executed contract in advance of our provision of sequencing and data analysis services to such customer. We record a customer contract liability for performance obligations outstanding related to payments received in advance for customer deposits. We expect to satisfy these remaining performance obligations and recognize the related revenue upon providing sequencing and data analysis services.
All of our revenue and trade receivables are generated from contracts with customers.
Payment Terms
Payment terms and conditions vary by contract and customer. Our standard payment terms are typically 90 days or less from the invoice date. In instances where the timing of our revenue recognition differs from the timing of its invoicing, we have determined that our contracts do not include a significant financing component. The primary purposes of our invoicing terms are to provide customers with simplified and predictable ways of purchasing our services and provide payment protection for us.
Stock-Based Compensation
For options granted to employees, non-employees, and directors, stock-based compensation is measured at grant date based on the fair value of the award. We determine the grant-date fair value of options using the Black-Scholes option-pricing model, except for certain performance-based awards for which an alternative valuation method may be used. We determine the fair value of restricted stock unit awards using the closing market price of the Company’s common stock on the date of grant. The grant-date fair value of awards is amortized over the employees’ requisite service period on a straight-line basis, or the non-employees’ vesting period as the goods are received or services rendered. Forfeitures are accounted for as they occur. Additionally, our ESPP is deemed to be a compensatory plan and therefore is included in stock-based compensation expense.
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Estimating the fair value of equity-settled awards as of the grant date using valuation models, such as the Black-Scholes option-pricing model, is affected by assumptions regarding a number of complex variables. Changes in the assumptions can materially affect the fair value and ultimately how much stock-based compensation expense is recognized. These inputs are subjective and generally require significant analysis and judgment to develop.
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Expected Term—The expected term assumption represents the weighted-average period that the stock-based awards are expected to be outstanding. We have elected to use the “simplified method” for estimating the expected term of the options, which is an available method if there is insufficient historical data about exercise patterns and post-vesting employment termination behavior. The simplified method is based on the vesting period and the contractual term for each grant, or for each vesting tranche for awards with graded vesting. The midpoint of the vesting date and the contractual expiration date is used as the expected term under this method. For awards with multiple vesting tranches, the assumed period for each tranche is computed separately and then averaged together to determine the expected term for the award.
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Expected Volatility—For all stock options granted to date, expected volatility was estimated based on an average historical stock price volatility of a peer group of publicly traded companies as we did not have sufficient trading history for our own common stock. For purposes of identifying these peer companies, we considered the industry, stage of development, size, and financial leverage of potential comparable companies.
•
Expected Dividend Yield—The Black-Scholes option-pricing valuation model calls for a single expected dividend yield as an input. We currently have no history or expectation of paying cash dividends on our common stock.
•
Risk-Free Interest Rate—The risk-free interest rate is based on the yield available on U.S. Treasury zero-coupon issues similar in duration to the expected term of the award.
Incremental Borrowing Rate
Lease liabilities are recognized at the present value of the fixed lease payments, reduced by landlord incentives, using a discount rate based on the Company’s current borrowing rate at the lease commencement date (the incremental borrowing rate), unless the rate implicit in the lease is readily determinable.
In August 2021, we entered into a 13.5-year lease for our new corporate headquarters in Fremont, California. We estimated our incremental borrowing rate as the rate implicit in the lease was not readily determinable. To determine the incremental borrowing rate, we estimated our credit rating by comparing certain financial ratios and metrics of the Company to those of other issuers with publicly-available credit ratings from Standard & Poor’s (S&P). We then adjusted yields from publicly traded corporate bonds of companies of similar size and credit rating over a term approximating the term of our lease for the nature of the collateral. Our concluded incremental borrowing rate for this lease was 5.8%, which resulted in a lease liability and right-of-use asset of $44.7 million.
In September 2022, the lease commencement date for our new facility in Fremont, California was delayed from the original intended date due to delays in the completion of the work necessary for the Company to move into the facility, which resulted in a reassessment of the lease term and consequently a remeasurement of the lease liability and corresponding adjustment to the carrying amount of the right-of-use asset based on the updated incremental borrowing rate. We estimated our incremental borrowing rate by using the same method described above and concluded that the incremental borrowing rate for the remeasured lease was 10.5%. The lease reassessment resulted in a $12.9 million reduction to right-of-use assets in 2022. The increase in our estimated borrowing rate between August 2021 and September 2022 mostly reflects the higher interest rate environment in 2022 as compared to 2021.
Recent Accounting Pronouncements
See the sections titled “Summary of Significant Accounting Policies—Recent Accounting Pronouncements” and “—Recent Accounting Pronouncements Not Yet Adopted” in Note 2 to our consolidated financial statements for additional information.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
As a “smaller reporting company”, we are not required to provide the information under this item.
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Item 8. Financial Statements and Supplementary Data.
PERSONALIS, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
Consolidated Balance Sheets 73
Consolidated Statements of Operations 74
Consolidated Statements of Comprehensive Loss 75
Consolidated Statements of Stockholders’ Equity 76
Consolidated Statements of Cash Flows 77
Notes to Consolidated Financial Statements
Note 1. Company and Nature of Business 78
Note 2. Summary of Significant Accounting Policies 78
Note 3. Revenue 83
Note 4. Balance Sheet Details 84
Note 5. Fair Value Measurements 84
Note 6. Loans 85
Note 7. Leases 85
Note 8. Stock-Based Compensation 87
Note 9. Commitments and Contingencies 90
Note 10. Basic and Diluted Net Loss Per Common Share 91
Note 11. Income Taxes 92
Note 12. Subsequent Events 94
Report of Independent Registered Public Accounting Firm 95
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PERSONALIS, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data)
Assets
Current assets
Inventory and other deferred costs 8,591 5,610
Prepaid expenses and other current assets 6,808 7,089
Liabilities and Stockholders’ Equity
Current liabilities
Accrued and other current liabilities 19,013 18,110
Long-term operating lease liabilities 41,041 52,797
Other long-term liabilities 389 2,117
Commitments and contingencies (Note 9)
Stockholders’ equity
Accumulated other comprehensive loss (912 ) (166 )
Total liabilities and stockholders’ equity $ 292,700 $ 396,528
See notes to consolidated financial statements.
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PERSONALIS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except share and per share data)
Year Ended December 31,
Costs and expenses
Other income (expense), net 61 (42 ) (24 )
Provision for income taxes 40 14 57
Net loss per share, basic and diluted $ (2.48 ) $ (1.49 ) $ (1.20 )
See notes to consolidated financial statements.
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PERSONALIS, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(in thousands)
Year Ended December 31,
Other comprehensive income (loss), net of tax
Foreign currency translation adjustment (277 ) 49 12
See notes to consolidated financial statements.
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PERSONALIS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(in thousands, except share data)
Accumulated
Additional Other Total
Common Stock Paid-In Comprehensive Accumulated Stockholders'
Shares Amount Capital Income (Loss) Deficit Equity
Exercise of common stock warrants 79,772 — — — — —
Restricted stock units vested 130,945 — — — — —
Stock-based compensation — — 8,238 — — 8,238
Foreign currency translation adjustment — — — 12 — 12
Unrealized gain on available-for-sale debt securities — — — 16 — 16
Restricted stock units vested 266,119 — — — — —
Foreign currency translation adjustment — — — 49 — 49
Unrealized loss on available-for-sale debt securities — — — (237 ) — (237 )
Restricted stock units vested 897,871 — — — — —
Foreign currency translation adjustment — — — (277 ) — (277 )
Unrealized loss on available-for-sale debt securities — — — (469 ) — (469 )
See notes to consolidated financial statements
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PERSONALIS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Year Ended December 31,
Cash flows from operating activities:
Adjustments to reconcile net loss to net cash used in operating activities
Amortization of premium on short-term investments 57 2,031 391
Changes in operating assets and liabilities
Inventory and other deferred costs (2,982 ) 29 (1,076 )
Cash flows from investing activities:
Proceeds from sales of available-for-sale debt securities — 5,059 —
Net cash provided by (used in) investing activities 52,537 (60,069 ) (65,143 )
Cash flows from financing activities:
Payments of costs related to public offerings — (342 ) (435 )
Net change in cash, cash equivalents and restricted cash (16,457 ) 38,850 13,479
Restricted cash, included in other long-term assets 1,790 1,790 —
Supplemental cash flow information:
Cash paid for interest $ — $ — $ —
Cash paid for income taxes, net of refunds 47 39 35
See notes to consolidated financial statements.
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PERSONALIS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Company and Nature of Business
Personalis, Inc. (the "Company") is a provider of advanced genomic tests for cancer. The Company also provides sequencing and data analysis services to support population sequencing initiatives. The Company’s genomic tests are sold primarily to pharmaceutical companies, biopharmaceutical companies, diagnostics companies, universities, non-profits, and government entities, while services for population sequencing initiatives are sold primarily to government entities. The principal markets for the Company’s services are in the United States and Europe.
The Company was incorporated in Delaware in February 2011 and began operations in September 2011. The Company formed a wholly owned subsidiary, Personalis (UK) Ltd., in August 2013 and a wholly owned subsidiary, Shanghai Personalis Biotechnology Co., Ltd., which is referred to as “Personalis (Shanghai) Ltd” herein, in October 2020. The Company operates and manages its business as one reportable operating segment, which is the sale of sequencing and data analysis services.
The Company has incurred losses to date and expects to incur additional losses for the foreseeable future. The Company continues to invest the majority of its resources in the development and growth of its business, including investments in product development and sales and marketing efforts. The Company’s activities have been financed to date primarily through the sale of its equity securities and cash from operations.
Note 2. Summary of Significant Accounting Policies
Basis of Presentation
The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) and the applicable rules and regulations of the Securities and Exchange Commission (“SEC”) regarding annual reporting. The consolidated financial statements include the accounts of Personalis, Inc. and its wholly owned subsidiaries, Personalis (UK) Ltd. and Personalis (Shanghai) Ltd. All intercompany balances and transactions have been eliminated in consolidation.
Use of Estimates
The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities, at the date of the consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. The estimates include, but are not limited to, useful lives assigned to long-lived assets, discount rates for lease accounting, the valuation of stock options, the valuation of stock-based awards, and provisions for income taxes and contingencies. Actual results could differ from these estimates, and such differences could be material to the Company’s consolidated financial position and results of operations.
Follow-On and At-the-Market Equity Offerings
In August 2020, the Company completed a follow-on equity offering in which it issued and sold 6,578,947 shares of its common stock at a public offering price of $19.00 per share. The Company received net proceeds of $117.5 million after deducting underwriting discounts and commissions. The Company also incurred $0.4 million of offering costs, including legal, accounting, printing and other offering-related costs.
In January 2021, the Company completed a follow-on equity offering in which it issued and sold 3,950,000 shares of its common stock at a public offering price of $38.00 per share. The Company received net proceeds of $141.1 million after deducting underwriting discounts and commissions. The underwriters of the offering exercised their option to purchase an additional 592,500 shares shortly thereafter, resulting in additional net proceeds of $21.2 million after deducting underwriting discounts and commissions. The Company also incurred $0.3 million of offering costs, including legal, accounting, printing and other offering-related costs.
In December 2021, the Company entered into an At-the-Market Sales Agreement (the “Sales Agreement”) with BTIG, LLC (“BTIG”) under which it may offer and sell its common stock having aggregate sales proceeds of up to $100.0 million from time to time through BTIG as its sales agent. BTIG will use commercially reasonable efforts to sell the Company’s common stock from time to time, based upon instructions from the Company (including any price, time or size limits or other customary parameters or conditions the Company may impose). The Company will pay BTIG a commission of up to 3% of the gross sales proceeds of any common stock sold through BTIC under the Sales Agreement. The Company is not obligated to make any sales of common stock under the Sales Agreement. No shares of the Company’s common stock have been offered or sold under the Sales Agreement.
Concentration of Credit Risk and Other Risks and Uncertainties
The Company is subject to credit risk from its portfolio of cash and cash equivalents. The Company’s cash and cash equivalents are deposited with high-quality financial institutions. Deposits at these institutions may, at times, exceed federally insured limits. Management believes these financial institutions are financially sound and, accordingly, that minimal credit risk exists.
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The Company also invests in investment‐grade debt instruments and has policy limits for the amount it can invest in any one type of security, except for securities issued or guaranteed by the U.S. government. The goals of the Company’s investment policy are as follows: preservation of principal; liquidity of investments sufficient to meet cash flow requirements; avoidance of inappropriate concentration and credit risk; competitive after‐tax rate of returns; and fiduciary control of cash and investments. Under its investment policy, the Company limits the amounts invested in such securities by credit rating, maturity, investment type, and issuer. As a result, management believes that these financial instruments do not expose the Company to any significant concentrations of credit risk.
The Company purchases various reagents and sequencing materials from sole source suppliers. Any extended interruption in the supply of these materials could result in the Company’s inability to secure sufficient materials to conduct business and meet customer demand.
The Company routinely assesses the creditworthiness of its customers and does not require collateral. The Company has not experienced any material losses related to receivables from individual customers, or groups of customers. The Company maintains an allowance for doubtful accounts, which was $0.1 million as of December 31, 2022 and 2021. The Company had no bad debt expense in any of the periods presented.
Significant customers are those that represent more than 10% of the Company’s total revenue or accounts receivable balance at each respective balance sheet date. For each significant customer, revenue as a percentage of total revenue and accounts receivable as a percentage of total accounts receivable are as follows:
Revenue Accounts Receivable
Year Ended December 31, December 31,
Merck & Co., Inc. 11% * * * 15%
AbbVie Inc. * * * * 18%
GSK plc * * * 12% *
Pfizer Inc. * * * 10% *
* Less than 10% of revenue or accounts receivable
Revenue Recognition
The Company applies the revenue recognition guidance in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 606, Revenue from Contracts with Customers (“Topic 606”).
Revenue Recognition
The revenue guidance provides a five-step framework through which revenue is recognized when control of promised goods or services is transferred to a customer at an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To determine revenue recognition for arrangements that the Company concludes are within the scope of Topic 606, management performs the following five steps: (i) identifies the contract(s) with a customer; (ii) identifies the performance obligations in the contract(s); (iii) determines the transaction price, including whether there are any constraints on variable consideration; (iv) allocates the transaction price to the performance obligations; and (v) recognizes revenue when (or as) the Company satisfies a performance obligation. At contract inception, once a contract is determined to be within the scope of the new revenue standard, the Company assesses whether individual goods or services promised within each contract are distinct and, therefore, represent separate performance obligations.
The Company derives revenue from the sale of sequencing and data analysis services. The Company’s contracts are in the form of a combination of signed agreements, statements of work, and/or purchase orders. The Company accounts for a contract with a customer when there is approval and commitment from both parties, the rights of the parties are identified, payment terms are identified, the contract has commercial substance, and it is probable that the Company will collect substantially all of the consideration to which it will be entitled.
The sequencing and data analysis services are the only distinct services that meet the definition of a performance obligation and are accounted for as one performance obligation under Topic 606. The Company recognizes revenue from such services at the point in time when control of the test results is transferred to the customer. The Company has elected to exclude all sales and value added taxes from the measurement of the transaction price. Sequencing and data analysis services are based on a fixed price per test.
Payment terms and conditions vary by contract and customer. The Company’s standard payment terms are typically 90 days or less from the invoice date. In instances where the timing of the Company’s revenue recognition differs from the timing of its invoicing, the Company does not assess whether a contract has a significant financing component if the expectation at contract inception is such that the period between payment by the customer and the transfer of the promised services to the customer will be one year or less. After assessing each of its revenue-generating arrangements to determine whether a significant financing component exists, the Company concluded that a significant financing component does not exist in any of its arrangements. The primary purpose of the Company’s invoicing terms is to provide customers with simplified and predictable ways of purchasing the Company’s services and to provide payment protection for the Company.
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Practical Expedients and Exemptions
As a practical expedient, the Company recognizes the incremental costs of obtaining contracts, such as sales commissions, as an expense when incurred since the amortization period of the asset the Company otherwise would have recognized is one year or less. Sales commissions are recorded within selling, general, and administrative expenses in the consolidated statements of operations.
Cost of Revenue
Cost of revenue consists of raw materials costs, personnel costs (salaries, bonuses, benefits, payroll taxes, and stock-based compensation), laboratory supplies and consumables, depreciation and maintenance on equipment, and allocated facilities and information technology (“IT”) costs.
Research and Development Expenses
The Company charges research and development costs to expenses as incurred, including lab and automation development costs. The expenses primarily consist of personnel costs (salaries, bonuses, stock-based compensation, payroll taxes, and benefits); laboratory supplies and consumables; costs of processing samples for research, product development, collaborations, and studies; depreciation and maintenance on equipment; and allocated facilities and IT costs.
Stock-Based Compensation
For options granted to employees, non-employees, and directors, stock-based compensation is measured at grant date based on the fair value of the award. The Company determines the grant-date fair value of options using the Black-Scholes option-pricing model, except for certain performance-based awards for which an alternative valuation method may be used. The Company determines the fair value of restricted stock unit awards using the closing market price of the Company’s common stock on the date of grant. The grant-date fair value of awards is amortized over the employees’ requisite service period on a straight-line basis, or the non-employees’ vesting period as the goods are received or services rendered. Forfeitures are accounted for as they occur. Additionally, the Company’s 2019 Employee Stock Purchase Plan (the “ESPP”) is deemed to be a compensatory plan and therefore is included in stock-based compensation expense.
Inputs used in Black-Scholes option-pricing models to measure fair value of options are summarized as follows:
Expected Term. The expected term is calculated using the simplified method, which is available if there is insufficient historical data about exercise patterns and post-vesting employment termination behavior. The simplified method is based on the vesting period and the contractual term for each grant, or for each vesting tranche for awards with graded vesting. The midpoint of the vesting date and the contractual expiration date is used as the expected term under this method. For awards with multiple vesting tranches, the assumed period for each tranche is computed separately and then averaged together to determine the expected term for the award.
Expected Volatility. The Company used an average historical stock price volatility of a peer group of publicly traded companies to be representative of its expected future stock price volatility, as the Company did not have sufficient trading history for its common stock. For purposes of identifying these peer companies, the Company considered the industry, stage of development, size, and financial leverage of potential comparable companies. For each grant, the Company measured historical volatility over a period equivalent to the expected term.
Risk-Free Interest Rate. The risk-free interest rate is based on the implied yield currently available on U.S. Treasury zero-coupon issues with remaining terms equivalent to the expected term of a stock award.
Expected Dividend Rate. The Company has not paid and does not anticipate paying any dividends in the near future. Accordingly, the Company has estimated the dividend yield to be zero.
Foreign Currency Translation
The Company considers the functional currencies of its foreign subsidiaries to be the local currency. Assets and liabilities recorded in foreign currencies are translated at the exchange rate as of the balance sheet date, and costs and expenses are translated at average exchange rates in effect during the period. Equity transactions are translated using historical exchange rates. The effects of foreign currency translation adjustments are recorded as a separate component of accumulated other comprehensive income (loss) in the consolidated balance sheets.
Comprehensive Loss
Comprehensive loss includes all changes in equity (net assets) during the period from nonowner sources. The Company’s comprehensive loss consists of its net loss, its cumulative translation adjustments, and its unrealized gains or losses on available-for-sale debt securities.
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Income Taxes
The Company uses the asset and liability method under ASC Topic 740, Income Taxes, in accounting for income taxes. Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the consolidated financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax expenses or benefits are the result of changes in the deferred tax assets and liabilities. Valuation allowances are established when necessary to reduce deferred tax assets where it is more likely than not that the deferred tax assets will not be realized.
ASC Topic 740 clarifies the accounting for uncertainty in income taxes recognized in the financial statements. ASC Topic 740 provides that a tax benefit from an uncertain tax position may be recognized when it is more likely than not that the position will be sustained upon audit, including resolutions of any related appeals or litigation processes, based on the technical merits of the position. ASC Topic 740 also provides guidance on measurement, derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition.
The Company recognizes interest and penalties related to unrecognized tax benefits within the income tax expense line in the consolidated statements of operations. Accrued interest and penalties are included within the related liability line in the consolidated balance sheets.
The Company considers undistributed earnings of its foreign subsidiaries to be indefinitely reinvested and, accordingly, no U.S. income taxes have been provided thereon.
Cash and Cash Equivalents
Cash equivalents consist of highly liquid investments with maturities at the time of purchase of three months or less. Cash equivalents include bank demand deposits and money market accounts that invest primarily in cash, U.S. Treasury bills, notes, and other obligations issued or guaranteed as to principal and interest by the U.S. Government, its agencies or instrumentalities, and repurchase agreements secured by such obligations or cash. Cash equivalents also include commercial paper and U.S. Treasury bills, which are marketable debt securities recorded at fair value and accounted for in the same manner as other marketable debt securities described below.
Short-term Investments
The Company’s investments in marketable debt securities are classified as available-for-sale and recorded at fair value. Investments with original maturities of greater than three months and remaining maturities of less than one year are classified as short-term investments. Investments with maturities beyond one year may be classified as short-term based on their highly liquid nature and because such marketable securities represent the investment of cash that is available for current operations. Short-term investments primarily consist of U.S. agency bonds, commercial paper, corporate bonds, asset-backed securities, U.S. Treasury bills, and non-U.S. Government notes.
Unrealized gains and losses are included in accumulated other comprehensive income (loss) in stockholders’ equity. Any discount or premium arising at purchase is accreted or amortized to interest income or expense. Realized gains and losses and declines in fair value, if any, judged to be other than temporary are reported in other income (expense), net. When securities are sold, any associated unrealized gain or loss initially recorded as a separate component of stockholders’ equity is reclassified out of stockholders’ equity on a specific-identification basis and recorded in earnings for the period.
The Company periodically evaluates whether declines in fair values of its investments below their book value are other-than-temporary. This evaluation consists of several qualitative and quantitative factors regarding the severity and duration of the unrealized loss as well as the Company’s ability and intent to hold the marketable security until a forecasted recovery occurs. Factors considered include quoted market prices, recent financial results and operating trends, implied values from any recent transactions or offers of investee securities, credit quality of debt instrument issuers, other publicly-available information that may affect the value of the marketable security, duration and severity of the decline in value, and management’s strategy and intentions for holding the marketable security. To date, the Company has not recorded any impairment charges on its marketable securities related to other-than-temporary declines in market value.
Fair Value Measurements
Financial assets and liabilities are recorded at fair value. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the reporting date. The hierarchy below lists three levels of fair value based on the extent to which inputs used in measuring fair value are observable in the market. Observable inputs reflect market data obtained from independent sources while unobservable inputs reflect market assumptions made by the reporting entity.
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The three-level hierarchy for the inputs to valuation techniques used to measure fair value is briefly summarized as follows:
Level 1 — Unadjusted quoted prices in active markets that are accessible to the reporting entity at the measurement date for identical assets and liabilities.
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. Level 2 inputs include the following:
•
Quoted prices for similar assets and liabilities in active markets.
•
Quoted prices for identical or similar assets or liabilities in markets that are not active.
•
Observable inputs other than quoted prices that are used in the valuation of the assets or liabilities (e.g., interest rate and yield curve quotes at commonly quoted intervals).
•
Inputs that are derived principally from or are corroborated by observable market data by correlation or other means.
Level 3 — Unobservable inputs for the assets or liabilities (i.e., supported by little or no market activity). Level 3 inputs include management’s own assumptions about the assumptions that market participants would use in pricing the asset or liability (including assumptions about risk).
This hierarchy requires the Company to use observable market data, when available, and to minimize the use of unobservable inputs when determining fair value.
Accounts Receivable, Net
Trade accounts receivable are recorded at the invoiced amount and are noninterest bearing. At each reporting period, management reviews all outstanding customer balances to determine if the facts and circumstances of each customer relationship indicate the need for a reserve. A reserve is recorded when it is probable that a loss has been incurred based on past events and conditions existing at the date of the financial statements, and the loss is reasonably estimated.
Inventory and Other Deferred Costs
Inventory, consisting of supplies used in fulfilling customer contracts, are valued at the lower of cost or net realizable value. Cost is determined using actual costs, on a first-in, first-out basis.
Other deferred costs relate to work in process for costs incurred on customer contracts that have not been completed or recognized as revenue. Other deferred costs represent materials used in sequencing services, labor, and overhead allocations.
Property and Equipment, Net
Property and equipment are recorded at cost, less accumulated depreciation and amortization, and are depreciated on a straight-line basis over the estimated useful lives of the related assets, which is generally three to five years for computer equipment, two years for software, three years for furniture and equipment, and five years for machinery and equipment. Leasehold improvements are amortized over the shorter of the lease term or the estimated useful life of the related asset. Upon retirement or sale, the cost and related accumulated depreciation and amortization are removed from the consolidated balance sheet, and the resulting gain or loss is reflected in the consolidated statements of operations. Maintenance and repairs that are not considered improvements and do not extend the useful lives of the assets are charged to expense as incurred.
Construction-in-process assets consist primarily of computer equipment and machinery and equipment that have not yet been placed in service. These assets are stated at cost and are not depreciated. Once the assets are placed into service, assets are reclassified to the appropriate asset class based on their nature and depreciated in accordance with the useful lives above.
Leases
The Company categorizes leases with contractual terms longer than 12 months as either operating or finance leases. Finance leases are generally those leases that allow the Company to substantially utilize or pay for the entire asset over its estimated life. All other leases are categorized as operating leases. As of December 31, 2022, the Company had no finance leases.
Certain lease contracts include obligations to pay for other services, such as maintenance. The Company elected to account for these other services as a component of the lease (i.e., the Company elected the practical expedient not to separate lease and non-lease components).
Lease liabilities are recognized at the present value of the fixed lease payments using a discount rate based on the Company’s current borrowing rate at the lease commencement date, adjusted for various factors including level of collateralization and term (the “incremental borrowing rate”), unless the rate implicit in the lease is readily determinable. The current portion of lease liabilities is included in “Accrued and other current liabilities.” Lease assets are recognized based on the initial present value of the fixed lease payments plus any direct costs from executing the leases and any lease prepayments. Lease assets are presented as “Operating lease right-of-use assets” as a long-term asset. Leasehold improvements are capitalized at cost and amortized over the lesser of their expected useful life
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or the lease term. Costs associated with operating lease assets are recognized on a straight-line basis within operating expenses over the term of the lease.
The Company has made an accounting policy election not to recognize right-of-use assets and lease liabilities that arise from leases with a term of 12 months or less. Fixed lease payments are recognized as an expense on a straight-line basis over the lease term. Variable lease costs are amounts owed by us to a lessor that are not fixed, such as reimbursement for common area maintenance, operating expenses, utilities, or other costs that are subject to fluctuation from period to period. The Company has also elected to include expenses related to leases with a term of one month or less in the short-term lease cost disclosure.
Recent Accounting Pronouncements
New Accounting Pronouncements Not Yet Adopted
In June 2016, the FASB issued Accounting Standards Update (“ASU”) 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which amends the impairment model by requiring entities to use a forward-looking approach based on expected losses to estimate credit losses on certain types of financial instruments, including trade receivables. The accounting update also made minor changes to the impairment model for available-for-sale debt securities. The Company will adopt the new guidance as of the beginning of the first quarter of 2023 by means of a cumulative-effect adjustment to opening retained earnings and does not expect adoption to have a material impact on the consolidated financial statements.
Note 3. Revenue
The Company disaggregates revenue by the following four customer types:
•
Pharma tests and services includes sales of testing services and data analytics for clinical trials and research to pharmaceutical companies in support of their drug development programs. Individual contracts typically contemplate a single project and involve a wide range of tests and analytics deliverables from the Company that are suitable for each particular project.
•
Enterprise sales includes sales of tumor profiling and diagnostic tests directly to other businesses as an input to their products. The Company is typically contracted to deliver a limited number of tests and analytics deliverables, but in high volume over time, and may offer tiered pricing. Revenue from the Company's partnership with Natera to provide advanced tumor analysis for use in Natera's MRD testing offerings makes up substantially all of the revenue in this category.
•
Population sequencing includes sales of genomic sequencing services and data analytics to support large-scale genetic research programs. The Company is typically contracted to deliver a similar type of test and analytic across a large volume of samples, and has historically received partial prepayment prior to performance. Revenue from the Company's partnership with the VA MVP to provide population sequencing accounts for all of the revenue in this category.
•
Other includes sales of genomic tests and analytics to universities and non-profits.
The following table presents the Company’s revenue disaggregated by customer type (in thousands):
Year Ended December 31,
Revenue from countries outside of the United States, based on the billing addresses of customers, represented 9%, 8%, and 5% of the Company’s revenue for the years ended December 31, 2022, 2021 and 2020, respectively.
Contract Assets and Liabilities
Contract assets as of December 31, 2022 and 2021 were immaterial.
Amounts collected in advance of services being provided are deferred as current liabilities in the consolidated balance sheets. The associated revenue is recognized and the contract liability is reduced as contracted services are subsequently performed. The balance of contract liabilities was $1.3 million and $4.0 million as of December 31, 2022 and 2021, respectively. Revenue recognized in 2022, 2021, and 2020 that were included in the contract liability balance at the beginning of each reporting period were $3.5 million, $19.1 million, and $33.8 million, respectively.
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Note 4. Balance Sheet Details
Inventory and other deferred costs consist of the following (in thousands):
December 31,
Total inventory and other deferred costs $ 8,591 $ 5,610
Property and equipment, net consists of the following (in thousands):
December 31,
Less: accumulated depreciation and amortization (26,926 ) (18,993 )
Depreciation and amortization expense for the years ended December 31, 2022, 2021, and 2020 was $8.4 million, $6.0 million, and $5.8 million, respectively.
Restricted cash. The Company’s restricted cash is pledged as collateral for a standby letter of credit related to a property lease. The balance of restricted cash was $1.8 million as of December 31, 2022 and 2021, and is included in other long-term assets.
Accrued and other current liabilities consist of the following (in thousands):
December 31,
Employee ESPP contributions 543 517
Total accrued and other current liabilities $ 19,013 $ 18,110
Note 5. Fair Value Measurements
The following tables show the Company’s financial assets and liabilities measured at fair value on a recurring basis and the level of inputs used in such measurements as of December 31, 2022 and 2021 (in thousands):
Adjusted Cost Unrealized Gains Unrealized Losses Fair Value Fair Value Level
Assets
Cash and cash equivalents:
Short-term investments:
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Adjusted Cost Unrealized Gains Unrealized Losses Fair Value Fair Value Level
Assets
Cash and cash equivalents:
Short-term investments:
Realized gains or losses on marketable debt securities are immaterial for the periods presented. No security has been in an unrealized loss position for 12 months or greater. The Company determined that it did have the ability and intent to hold all marketable securities that have been in a continuous loss position until maturity or recovery. As of December 31, 2022, the Company does not consider any of its marketable debt securities to be other-than-temporarily impaired. The Company’s marketable debt securities at December 31, 2022 have maturities due in one year or less.
Note 6. Loans
Equipment and Software Loans
In April 2021, the Company entered into a payment agreement with a financing entity to finance the purchase of $2.4 million of certain internal use software licenses and related software maintenance from a vendor. The financing entity and vendor are not related. The Company is obligated to repay the financed amount in three equal payments of $0.8 million in May 2021, May 2022, and May 2023. The payment agreement is noninterest bearing and the Company concluded that such interest rate (zero) did not represent fair and adequate compensation to the financing entity for the use of the related funds. Accordingly, the Company approximated the rate at which it could obtain financing of a similar nature from other sources at the date of the transaction. The resulting imputed interest rate was 7% and was used to establish the present value of the payment agreement. The discount is recognized as interest expense in the consolidated statements of operations over the life of the payment agreement.
The Company entered into two more payment agreements in April 2021 and July 2022, with the same financing entity, to finance the purchase of $3.1 million of computer hardware and related hardware maintenance and $1.3 million of internal use software licenses and related ongoing support, respectively. The Company is required to pay three equal payments of $1.0 million in July 2021, June 2022, and June 2023 for the first agreement, and three equal payments of $0.4 million in September 2022, September 2023, and September 2024 for the second agreement. The nature of these agreements and resulting accounting treatment are the same as the payment agreement described in the preceding paragraph, except the imputed interest rate was 9% for the July 2022 agreement.
The total initial present value of the payment agreements was $6.4 million and presented as proceeds from loans in the consolidated statements of cash flows. Such proceeds were used to purchase equipment, software, and related maintenance and are reflected as cash outflows in the investing and operating activities sections in the consolidated statements of cash flows. Repayments are presented as financing cash outflows in the consolidated statements of cash flows. Interest expense for the years ended December 31, 2022 and 2021 was $0.2 million each. Amounts outstanding under the payment agreements are as follows (in thousands):
December 31,
Less: unamortized discount (134 ) (220 )
Long-term portion (included in other long-term liabilities) $ 378 $ 1,688
Note 7. Leases
In 2015, the Company entered into a noncancelable operating lease for approximately 31,280 square feet of space used for its current laboratory operations. In 2020, the lease term was extended through November 2027 and includes an option to extend the term for a period of three years at prevailing market rates. The Company determined the extension option is not reasonably certain to be exercised. The lease contains a leasehold improvement incentive and escalating rent payments. In 2021, the
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Company amended the lease to expand the leased premises by an additional 14,710 square feet of space (the “Expansion Lease”). The Expansion Lease expired at the end of December 2022 and was not extended.
In 2019, the Company entered into a noncancelable three-year operating lease for a co-located data center space. In 2022, the lease term was extended through September 2025 and includes an option to extend the term for a period of three years immediately following the expiration of the term. The Company determined the extension option is not reasonably certain to be exercised.
In 2021, the Company entered into a noncancelable operating lease for approximately 100,000 square feet of space in Fremont, California to be used as the Company’s corporate headquarters and expanded laboratory facility. The lease term is 13.5 years and commenced in October 2022. The Company gained early access to the premises upon entering the lease for the purpose of constructing and installing tenant improvements, for which the landlord agreed to contribute up to $15.5 million, $13.2 million of which has been received through December 31, 2022. Such contributions become payable only upon approval by the landlord of applications for payment and are accounted for as lease incentives once the Company has incurred costs and the amounts qualify for reimbursement by the landlord. The lease incentives are then recognized as reductions to lease expense over the remainder of the lease term. The lease expires at the end of March 2036 and includes two options to extend the term for a period of five-years per option at prevailing market rates. The Company determined the extension options are not reasonably certain to be exercised. The lease also contains escalating rent payments. Due to delays in the completion of the work necessary for the Company to move into the facility, the lease commencement date was delayed from the original intended date. This change in circumstances during the third quarter of 2022 triggered a reassessment of the lease term and consequently a remeasurement of the lease liability and corresponding adjustment to the carrying amount of the right-of-use asset.
The Company also has a noncancelable operating lease for approximately 5,100 square feet of space in Shanghai, China used for its China operations, which expires at the end of June 2024, as well as various other short-term leases.
Components of lease cost were as follows (in thousands):
Year Ended December 31,
Lease cost
As of December 31, 2022, the Company’s operating leases had a weighted-average remaining lease term of 11.1 years and a weighted-average discount rate of 10.5%. The Company’s discount rates are based on estimates of its incremental borrowing rate, as the discount rates implicit in the Company’s lease cannot be readily determined. Future lease payments under operating leases as of December 31, 2022 were as follows (in thousands):
Amount
Total future minimum lease payments 83,784
Less: imputed interest (37,352 )
Present value of future minimum lease payments 46,432
Long-term operating lease liabilities $ 41,041
Cash paid for operating lease liabilities, included in cash flows from operating activities in the consolidated statements of cash flows, for the years ended December 31, 2022, 2021 and 2020, was $4.4 million, $3.3 million and $1.7 million, respectively. Right-of-use assets obtained in exchange for new operating lease liabilities, during 2022, 2021 and 2020, were $3.1 million, $46.5 million and $9.8 million, respectively. Additionally, the remeasurement of the Fremont headquarters lease liability in the third quarter of 2022 resulted in a $12.9 million reduction to right-of-use assets.
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Note 8. Stock-Based Compensation
2011 Equity Incentive Plan
In 2011, the Company established its 2011 Equity Incentive Plan (the “2011 Plan”) that provided for the granting of stock options to employees and nonemployees of the Company. Under the 2011 Plan, the Company had the ability to issue incentive stock options (“ISOs”), nonstatutory stock options (“NSOs”), stock appreciation rights, restricted stock awards, and restricted stock unit awards (“RSUs”). Options under the 2011 Plan could be granted for periods of up to 10 years. The ISOs could be granted at a price per share not less than the fair value at the date of grant.
2019 Equity Incentive Plan
The Company’s board of directors adopted and the Company’s stockholders approved the 2019 Equity Incentive Plan (the “2019 Plan”) in May 2019 and June 2019, respectively. The 2019 Plan became effective in June 2019 in connection with the Company’s IPO, and no further grants will be made under the 2011 Plan. Shares reserved and remaining available for issuance under the 2011 Plan were added to the 2019 Plan reserve upon its effectiveness.
The 2019 Plan provides for the grant of ISOs, NSOs, stock appreciation rights, restricted stock awards, RSUs, performance-based stock awards, and other forms of equity compensation. Additionally, the 2019 Plan provides for the grant of performance cash awards. ISOs may be granted only to the Company’s employees and to any of the Company’s parent or subsidiary corporation’s employees. All other awards may be granted to employees, including officers, and to non-employee directors and consultants of the Company and any of the Company’s affiliates. The exercise price of a stock option generally cannot be less than 100% of the fair market value of the Company’s common stock on the date of grant. Options under the 2019 Plan may be granted for periods of up to 10 years.
2020 Inducement Plan
The Compensation Committee of the Company’s board of directors adopted the 2020 Inducement Plan (the “Inducement Plan”) in May 2020, which became effective upon adoption. The Inducement Plan was adopted without stockholder approval, as permitted by the Nasdaq Stock Market rules. The Inducement Plan provides for the grant of equity-based awards, including NSOs, stock appreciation rights, restricted stock awards, RSUs, performance-based stock awards, and other forms of equity compensation, and its terms are substantially similar to the stockholder-approved 2019 Plan. In accordance with relevant Nasdaq Listing Rules, awards under the Inducement Plan may only be made to individuals not previously employees or non-employee directors of the Company (or following such individuals’ bona fide period of non-employment with the Company), as an inducement material to the individuals entry into employment with the Company.
2019 Employee Stock Purchase Plan
The Company’s board of directors adopted and the Company’s stockholders approved the 2019 Employee Stock Purchase Plan (the “ESPP”) in May 2019 and June 2019, respectively. Subject to any plan limitations, the ESPP allows eligible employees to contribute, normally through payroll deductions, up to 15% of their earnings for the purchase of the Company’s common stock at a discounted price per share. The price at which common stock is purchased under the ESPP is equal to 85% of the fair market value of the Company’s common stock on the first or last day of the offering period, whichever is lower. The ESPP provides for separate six-month offering periods beginning on May 1 and November 1 of each year.
Shares of common stock available for issuance under the Company’s equity incentive plans at December 31, 2022 were as follows:
Reserved for future award grants 1,958,949
Reserved for future ESPP 615,879
Total common stock reserved for stock awards 11,068,442
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Stock Option Activity
A summary of the Company’s stock option activity (excluding performance-based stock option activity summarized further below) under the 2011 Plan, 2019 Plan, and Inducement Plan for the years ended December 31, 2022, 2021, and 2020 is as follows:
Outstanding Options
Options granted to new hires generally vest over a four-year period, with 25% vesting at the end of one year and the remaining vesting monthly thereafter. Options granted as merit awards generally vest monthly over a three- or four-year period.
The aggregate intrinsic value of unexercised stock options is calculated as the difference between the closing price of the Company’s common stock of $1.98 on December 31, 2022 and the exercise prices of the underlying stock options. Out-of-the money stock options are excluded from the aggregate intrinsic value.
The weighted-average grant date fair value of options granted was $3.21, $13.14, and $7.17 per share for the years ended December 31, 2022, 2021, and 2020, respectively. As of December 31, 2022, the unrecognized stock-based compensation of unvested options was $10.3 million, which is expected to be recognized over a weighted-average period of 2.4 years.
Valuation of Stock Options
The Company estimated the fair value of stock options (excluding performance-based stock options discussed below) using the Black-Scholes option-pricing model. The fair value of stock options is recognized on a straight-line basis over the requisite service periods of the awards. The fair value of stock options was estimated using the following range of assumptions:
Year Ended December 31,
Dividend yield –% –% –%
Performance-Based Stock Option Activity
In March 2020, the Company’s board of directors granted the Company’s then Chief Executive Officer a performance-based stock option (“PSO”) to purchase 421,000 shares of common stock. The PSO was subject to the Chief Executive Officer’s continued service to the Company through the date of vesting and, if the performance condition were not met within 10 years from the date of grant, the PSO would be canceled. The shares subject to the PSO would vest in full if the Company’s average market capitalization is equal to or greater than $1 billion over a 30 calendar day period. Upon a change in control, the vesting of the shares subject to the PSO would accelerate on a pro rata basis based on the price per share in such change in control transaction multiplied by the price per share at such time divided by $1 billion, with up to 100% of the shares eligible for such accelerated vesting. During the last quarter of 2020, the Company’s average market capitalization was equal to or greater than $1 billion over a 30 calendar day period and the PSO vested in full.
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A summary of the Company’s performance-based stock option activity under the 2019 Plan for the years ended December 31, 2022, 2021 and 2020 is as follows:
Outstanding Performance-Based Options
Balance—December 31, 2019 — $ — — $ —
Options exercised —
Options cancelled —
No activities —
No activities —
As of December 31, 2022, there is no remaining unrecognized stock-based compensation cost.
Valuation of Performance-Based Stock Options
The Company estimated the fair value of the PSO using a Monte Carlo Model and the following assumptions and estimates:
Performance period (in years) 10.00
Derived service period (in years) 4.55
Risk-free interest rate 1.02 %
Dividend yield –%
Estimated fair value (per share) $ 3.31
Restricted Stock Units Activity and Valuation
A summary of the Company’s RSU activity under the 2019 Plan and Inducement Plan for the years ended December 31, 2022, 2021 and 2020 is as follows:
Unvested Restricted Stock Units
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The Company grants RSUs to employees to receive shares of the Company’s common stock. The RSUs awarded are subject to each individual’s continued service to the Company through each applicable vesting date. RSUs granted to new hires generally vest annually over a four-year period. RSUs granted as merit awards generally vest semi-annually over a three- or four-year period. The Company accounts for the fair value of RSUs using the closing market price of the Company’s common stock on the date of grant.
The aggregate fair value of unvested RSUs is calculated using the closing price of the Company’s common stock of $1.98 on December 31, 2022. As of December 31, 2022, the unrecognized stock-based compensation cost of unvested RSUs was $21.9 million, which is expected to be recognized over a weighted-average period of 2.6 years.
The Company’s default tax withholding method for RSUs is the sell-to-cover method, in which shares with a market value equivalent to the tax withholding obligation are sold on behalf of the holder of the RSUs upon vesting and settlement to cover the tax withholding liability and the cash proceeds from such sales are remitted by the Company to taxing authorities.
ESPP Activity and Valuation
During the years ended December 31, 2022, 2021 and 2020, 416,514, 128,289 and 164,164 shares of common stock were purchased under the ESPP, respectively. The fair value of stock purchase rights granted under the ESPP was estimated using the following range of assumptions:
Year Ended December 31,
Dividend yield –% –% –%
Stock-based Compensation Expense
The following is a summary of stock-based compensation expense by function (in thousands):
Year Ended December 31,
The following is a summary of stock-based compensation expense by award type (in thousands):
Year Ended December 31,
Performance-based stock options — — 1,392
Note 9. Commitments and Contingencies
Contingencies
On August 2, 2022, the Company filed a complaint in the U.S. District Court for the District of Colorado against Foresight Diagnostics Inc. (“Foresight”) for patent infringement. The complaint is based on the Company’s U.S. Patent No. 10,450,611 (the “’611 Patent”), entitled “Personalized Genetic Testing,” our U.S. Patent No. 11,299,783 (the “’783 Patent”), entitled “Methods and Systems For Genetic Analysis,” and our U.S. Patent No. 11,384,394 (the “’394 Patent”), entitled “Methods and Systems for Genetic Analysis.” The ‘611 Patent was granted on October 22, 2019 and relates to methods for personalized genetic testing by performance of sequencing assays on biological samples. The ‘783 Patent was granted on April 12, 2022 and relates to methods for sample processing and data analysis by performance of sequencing assays on biological samples that can aid in the diagnosis, monitoring, treatment, and prevention of one or more diseases. The ‘394 Patent was granted on July 12, 2022 and relates to methods for sample processing and analysis to aid in the diagnosis, monitoring, treatment, and prevention of disease. On August 17, 2022, the Company filed an amended complaint for patent infringement against Foresight. The amended complaint added our U.S. Patent No. 11,408,033 (the “’033 Patent”), entitled “Methods and Systems for Genetic Analysis.” The ‘033 Patent was granted on August 9, 2022 and relates to methods for sample processing and analysis to aid in the diagnosis, monitoring, treatment, and prevention of disease. The Company is seeking remedies
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including injunctive relief, damages and costs. On October 12, 2022, Foresight filed its answer and counterclaims in the matter, alleging and seeking declaratory judgement that its solid tumor recurrence test does not infringe the Company’s asserted patents and that the claims of our asserted patents are invalid and/or unenforceable. On November 2, 2022, the Company filed its answer to Foresight’s counterclaims. The Company believes the assertions in Foresight's counterclaims are without merit and intends to vigorously defend against these counterclaims.
Between November 30, 2022 and February 11, 2023, Foresight filed four inter partes review petitions with the USPTO, seeking to invalidate the four patents that we are asserting against Foresight in our patent infringement action. Also on November 30, 2022, Foresight filed a motion to stay our patent infringement action in the U.S. District Court for the District of Colorado pending the resolution of the inter partes review proceedings that Foresight has requested. On December 21, 2022, we filed our opposition to Foresight’s motion to stay, and on December 29, 2022 Foresight filed its reply in support of the stay. On January 5, 2023, the Court held a hearing on Foresight’s motion and on January 24, 2023, the Court granted Foresight’s motion to stay our patent infringement action pending the resolution of the inter partes review proceedings. The USPTO has yet to issue a decision regarding whether it will institute the inter partes reviews.
Litigation is inherently unpredictable, and, except for events that have already occurred, it is too early in the foregoing proceedings to predict the outcome of these proceedings, or any impact they may have on us. As such, the estimated financial effect associated with this complaint cannot be made as of the date of filing of this Annual Report on Form 10-K. Litigation is a significant ongoing expense with an uncertain outcome and may in the future be a material expense for us. Management believes this investment is important to protect our intellectual property position, even recognizing the uncertainty of the outcome.
The Company is also subject to claims and assessments from time to time in the ordinary course of business. Accruals for litigation and loss contingencies are reflected in the consolidated financial statements based on management’s assessment, including the advice of legal counsel, of the expected outcome of litigation or other dispute resolution proceedings and/or the expected resolution of contingencies. Liabilities for estimated losses are accrued if the potential losses from any claims or legal proceedings are considered probable and the amounts can be reasonably estimated. Significant judgment is required in both the determination of probability of loss and the determination as to whether the amount can be reasonably estimated. Accruals are based only on information available at the time of the assessment due to the uncertain nature of such matters. As additional information becomes available, management reassesses potential liabilities related to pending claims and litigation and may revise its previous estimates, which could materially affect the Company’s consolidated results of operations in a given period. Except for the matter described in the first paragraph of this Note 9, as of December 31, 2022, the Company was not involved in any material adverse legal proceedings.
Indemnification
In the normal course of business, the Company enters into contracts and agreements that contain a variety of representations and warranties and provide for general indemnifications. The Company’s exposure under these agreements is unknown because it involves claims that may be made against the Company in the future, but that have not yet been made. To date, the Company has not paid any claims or been required to defend any action related to its indemnification obligations. However, the Company may record charges in the future as a result of these indemnification obligations.
Note 10. Basic and Diluted Net Loss Per Common Share
Basic net loss per common share is computed by dividing net loss by the weighted-average number of common shares outstanding during the period. Diluted net loss per common share is computed using net loss and the weighted-average number of common shares outstanding plus potentially dilutive common shares outstanding during the period. Potentially dilutive common shares include the assumed exercise of outstanding in-the-money stock options and common stock warrants, assumed release of outstanding RSUs, and assumed issuance of common stock under the ESPP using the treasury stock method. The Company incurred net losses in the periods presented, and as a result, potential common shares from stock options, RSUs, and the assumed release of outstanding shares under the ESPP were not included in the diluted shares used to calculate net loss per share, as their inclusion would have been anti-dilutive.
The following table sets forth the computation of basic and diluted net loss per share attributable to common stockholders (in thousands, except share and per share amounts):
Year Ended December 31,
Net loss per common share—basic and diluted $ (2.48 ) $ (1.49 ) $ (1.20 )
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The following table sets forth the potentially dilutive shares excluded from the computation of diluted net loss per common share because their effect was anti-dilutive:
Year Ended December 31,
Note 11. Income Taxes
For financial reporting purposes, loss before income taxes includes the following components (in thousands):
Year Ended December 31,
Provision for Income Taxes
The provision for income taxes consists of the following (in thousands):
Year Ended December 31,
Current:
Federal $ — $ — $ —
Deferred:
Foreign (31 ) (29 ) —
Total deferred (31 ) (29 ) —
Provision for income taxes $ 40 $ 14 $ 57
Income tax provision related to continuing operations differ from the amounts computed by applying the statutory income tax rate of 21% to pretax loss in 2022, 2021, and 2020 as follows:
Year Ended December 31,
Expected tax (benefit) at federal statutory rate (21%) (21%) (21%)
Effect of:
State taxes (6%) (9%) (10%)
Change in valuation allowance 28% 36% 38%
Stock-based compensation 1% (3%) (4%)
Research and development credit (2%) (3%) (3%)
Other –% –% –%
Effective tax rate –% –% –%
Tax Law Changes
On March 27, 2020, the U.S. government enacted the Coronavirus Aid, Relief and Economic Security Act (“CARES Act”), which includes several U.S. income tax provisions related to, among other things, net operating loss carrybacks, alternative minimum tax credits, modifications to interest expense limitations, and an option to defer payroll tax payments for a limited period. Based on the guidance in the CARES Act, the Company deferred the payment of $0.7 million of certain payroll taxes, of which $0.3 million was paid in 2021 and the remaining balance was paid in 2022. The other provisions of the CARES Act did not have a significant impact on the Company’s consolidated financial statements.
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Deferred Tax Assets and Liabilities
Deferred income taxes reflect the net tax effects of loss and credit carryforwards and temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company’s deferred tax assets for federal and state income taxes are as follows (in thousands):
December 31,
Deferred tax assets:
Capitalized research and development 11,972 —
Deferred tax liabilities:
Property and equipment (108 ) (356 )
Operating lease right-of-use assets (7,659 ) (15,620 )