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 the accompanying notes thereto included elsewhere in this report.

This Management’s Discussion and Analysis of Financial Condition and Results of Operations focuses on discussion of year-over-year comparisons between 2021 and 2020. Discussion of 2019 results and year-over-year comparisons between 2020 and 2019 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 Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2020, filed with the SEC on February 23, 2021.

Coronavirus (COVID-19)

The United States economy in general and our business specifically have been negatively affected by the COVID-19 pandemic. We have seen adverse impacts as it relates to the decline in the number of patients that healthcare facilities and clinics are able to treat due to enhanced safety protocols. While we saw some level of recovery in the second quarter of 2021, the second half of 2021 was negatively impacted by the prolonged recovery from COVID-19 and increased variant cases during the period, which extended and expanded restricted access to clinics and hospitals and disrupted the recovery in patient visits versus the pre-COVID environment. There are no reliable estimates of how long the pandemic will last, whether any recovery will be sustained or will reverse course, the severity of any resurgence of COVID-19 or variant strains of the virus, the effectiveness of vaccines and attitudes towards receiving them, or what ultimate effects the pandemic will have. For that reason, we are unable to reasonably estimate the long-term impact of the pandemic on our business at this time.

Since the onset of COVID-19, we have remained proactive to ensure we continue to adapt to the needs of our employees, clinicians and patients. For a detailed listing of the changes to our business practices since the onset of the pandemic, refer to previous reports filed with the Securities and Exchange Commission. Continued modifications to our business include, but are not limited to:

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We cannot assure you that these changes to our processes and practices will be successful in mitigating the impact of COVID-19 on our business. We continue to evaluate and, if appropriate, will adopt other measures in the future related to the ongoing safety of our employees, clinicians and patients.

Overview

We are a medical technology company that develops and provides innovative medical devices for the treatment of underserved chronic diseases. Our mission is to help people suffering from chronic diseases live better and care for themselves at home. We focus our efforts on advancing the standard of care in treating underserved chronic diseases in the home setting to improve patient outcomes and quality of life and help control rising healthcare expenditures. Our areas of therapeutic focus are (1) vascular disease, with a goal of advancing the standard of care in treating lymphedema and chronic venous insufficiency, (2) oncology, where lymphedema is a common consequence among cancer survivors and (3) providing airway clearance therapy for those suffering from chronic respiratory conditions. We possess a unique, scalable platform to deliver at-home healthcare solutions throughout the United States. This evolving home care delivery model is recognized by policymakers and insurance payers as a key for controlling rising healthcare costs. Our solutions deliver cost-effective, clinically proven, long-term treatment for people with these chronic diseases.

Our current products are the Flexitouch system, Entre system and AffloVest. A predecessor to our Flexitouch system received 510(k) clearance from the U.S. Food and Drug Administration (the “FDA”) in July 2002, and we introduced the system to address the many limitations of self-administered home-based manual lymphatic drainage therapy. We began selling our more advanced Flexitouch system after receiving 510(k) clearance from the FDA in October 2006. In September 2016, we received 510(k) clearance from the FDA for the Flexitouch system in treating lymphedema of the head and neck. In June 2017, we announced that we received 510(k) clearance from the FDA for the Flexitouch Plus, the third-generation version of our Flexitouch system. In December 2020, we received 510(k) clearance for two new indications for our Flexitouch Plus system: phlebolymphedema and lipedema. We derive the vast majority of our revenue from our Flexitouch system. Sales and rentals of our Flexitouch system represented 85% and 88% of our revenue in the years ended December 31, 2021 and 2020, respectively.

We introduced our Entre system in the United States in February 2013. The Entre system is sold or rented to patients who need a simple pump or who do not yet qualify for insurance reimbursement for an advanced compression device such as our Flexitouch system. For the years ended December 31, 2021 and 2020, sales and rentals of our Entre system represented 13% and 12% of our revenue, respectively.

We previously sold and rented another proprietary product, the Actitouch system. During fiscal year 2018, we recorded a $2.5 million non-cash impairment charge to fully impair the inventory and intangible assets related to our Actitouch system due to the lack of market demand for the product. We formally discontinued this product line in the first quarter of 2020. See Note 9 - “Goodwill and Intangible Assets” to the consolidated financial statements in this report for more information regarding this impairment charge and discontinuation.

On September 8, 2021, we acquired the assets of the AffloVest respiratory therapy product line from International Biophysics Corporation (“IBC”), a privately-held company which developed and manufactures AffloVest. AffloVest is a portable, wearable vest that provides airway clearance to treat patients with chronic respiratory conditions such as bronchiectasis or conditions resulting from neuromuscular disorders. For the year ended December 31, 2021, sales of AffloVest represented 2% our revenue.

In October 2018, we licensed the intellectual property rights related to the Airwear Gradient Compression Wrap, or the Airwear wrap, in the U.S. and Canada, for use in all medical applications, including but not limited to swelling/edema and ulcers (including lymphedema and chronic venous insufficiency conditions), but excluding the use of the intellectual property in the field of prophylaxis for deep vein thrombosis. The Airwear wrap is indicated for the management of venous insufficiency, venous hypertension, venous ulcerations and lymphedema. We began selling the Airwear wrap in a limited market in the fourth quarter of 2019. We subsequently made the strategic decision to discontinue the Airwear wrap in the second quarter of 2020 and, effective July 31, 2020, Sun Scientific, Inc. terminated the license agreement with us related to the Airwear wrap. See Note 9 - “Goodwill and Intangible Assets” to the consolidated financial statements in this report for more information regarding the related impairment charge.

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To support the growth of our business, we invest heavily in our commercial infrastructure, consisting of our direct sales force, training resources, reimbursement capabilities and clinical expertise. We market our Flexitouch and Entre products in the United States using a direct-to-patient and -provider model. Our field commercial team consists of our direct sales force and a team of Field Support Specialists. The AffloVest device is sold through respiratory durable medical equipment providers throughout the United States.Our collective field commercial team, including our respiratory sales force, has grown to over 346 employees as of December 31, 2021, compared to 285 employees as of December 31, 2020.

As it relates to the impact of COVID-19 on our commercial processes, in the first half of 2021, we continued to see restrictions loosen, in line with the applicable governmental regulations. Conversely, in the second half of 2021, we were adversely impacted by the resurgence due to variants, resulting in renewed patient cancellations, absenteeism of staff and access limitations implemented by clinics and health systems. As a result, we continue to engage in virtual interactions if possible. We expect these virtual interactions with clinicians and patients to continue into the future until the pandemic subsides, and perhaps as a best practice in the future.

Additionally, with respect to sales force staffing, our results in the second half of 2021 were negatively impacted by the challenging labor market, which, in combination with some reluctance around our vaccination policy among both existing representatives and potential new hires, impacted recruiting and retention.

We invest substantial resources in our reimbursement function to improve operational efficiencies and enhance individual payer expertise, while continuing our strategic focus of payer development. Our payer relations function focuses on payer policy development, education, contract negotiations, and data analysis. Our reimbursement operations function is responsible for verifying patient insurance benefits, individual patient case development, prior authorization submissions, case follow-up, and appeals when necessary. Since the onset of COVID-19, our reimbursement function has been actively working with Medicare and a broad base of private payers to understand the ever-changing reimbursement criteria being introduced. We have seen increased flexibility in coverage criteria with select payers in which they now allow the use of virtual patient interactions in place of the previously required in-person interactions. However, as these circumstances are ever-changing, the extent to which these changes will remain in place and the impact on our business in the future are not determinable at this time.

We also have a clinical team, consisting of a scientific advisory board, in-house therapists and nurses, and a Chief Medical Officer, that serves as a resource to clinicians and patients and guides the development of clinical evidence in support of our products. Most clinical studies require observation and interaction with clinicians and patients to monitor results and progress. Given the impact of COVID-19, patient recruitment for our clinical studies involving our products and clinical outcomes had previously been suspended in 2020. In 2021, all of our clinical trials have resumed research activities, including study visits and new patient enrollments, albeit more slowly than the targeted enrollment rates.

We rely on third party contract manufacturers for the sourcing of parts, the assembly of our controllers and the manufacturing of the garments used with our Flexitouch and Entre systems. We conduct final assembly of the garments used with our Flexitouch system, perform quality assurance and ship our Flexitouch and Entre products from our facility in Minneapolis, Minnesota. The AffloVest device is currently manufactured by a third party, IBC, pursuant to a Transition Services Agreement. We plan for IBC to continue to manufacture the product on our behalf through the first half of 2022.

To date, our supply chain has not been materially impacted by COVID-19. We continue to receive our product on time and believe that we have enough safety stock to meet our short and mid-term demand. However, we cannot assure you that our supply chain will not be materially impacted in the future.

For the year ended December 31, 2021, we generated revenue of $208.1 million and had a net loss of $11.8 million, compared to revenue of $187.1 million and a net loss of $0.6 million for the year ended December 31, 2020, and revenue of $189.5 million and net income of $11.0 million for the year ended December 31, 2019.

Our primary sources of capital since our initial public offering in 2016 have been from operating income and bank financing.

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We operate in one segment for financial reporting purposes.

Components of our Results of Operations

Revenue

We derive our revenue from sales and rentals of our Flexitouch and Entre systems, to patients in the United States. Revenue growth has been driven by increased clinician, patient and payer awareness of lymphedema and the clinical efficacy of our Flexitouch system, and the launch of our Entre system in 2013. We have expanded our direct sales force, which helps us drive and support our revenue growth and intend to continue this expansion. However, any reversal in these recent trends could have a negative impact on our future revenue.

We sell or rent our Flexitouch and Entre systems either directly to patients or to the Veterans Administration on behalf of patients, who are referred to us by physicians, therapists or nurses. We bill payers, such as private insurers, Medicare, or Medicaid, on behalf of our patients and bill patients directly for their cost-sharing amounts, including any portion of an unsatisfied deductible and any copayments or co-insurance. We bill the Veterans Administration directly for the purchase or lease of our product on behalf of the patient. Approximately 13% of our revenue in each of 2021 and 2020 came from the Veterans Administration. Approximately 17% of our revenue in 2021 and 16% of our revenue in 2020 came from Medicare patients. Changes to the level of Medicare coverage for our products could reduce the number of Medicare patients who have access to our products. Our products currently are not subject to the competitive bidding process for supplying covered items to Medicare recipients.

We derive revenue from sales of our AffloVest product to accredited DME providers. These respiratory DME providers provide a full range of solutions for these patients with complex diseases, and represent a large, developed channel. Respiratory DME partners serve the role of receiving prescriptions, verifying coverage criteria, shipping, billing and training the patient. We intend to expand and support our respiratory DME partners, in an effort to help demonstrate HFCWO as a staple among the host of treatments they bring to chronic respiratory patients, thereby allowing us to continue to grow revenue from this product offering.

Our revenue has fluctuated, and we expect our revenue to continue to fluctuate, from quarter to quarter due to a variety of factors, including seasonality. See Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Seasonality” for a further discussion of factors contributing to our seasonality. Further, our revenue is impacted by fluctuations in the mix of products being sold and rented during each period and changes in the mix of our payers and contract pricing.

Furthermore, we expect our revenue to continue to increase in the future as a result of increased awareness of our solutions, expansion of our direct sales force, our DME partners, enhanced marketing and customer support efforts, continued focus on developing clinical and economic outcomes data, efforts related to expanded third-party reimbursement and longer term, potential introduction of our solutions outside the United States. We also anticipate pricing pressure from private insurers, which will result in continued downward pressure on our revenue growth rate.

Cost of Revenue and Gross Margin

Cost of revenue consists primarily of component costs, direct labor, overhead costs, product warranties, provisions for slow-moving and obsolete inventory, delivery costs for items sold or rented, and amortization related to the intangible assets related to our products. A significant portion of our cost of revenue consists of manufacturing overhead costs. These overhead costs include the cost of quality assurance, material procurement, inventory control, facilities, equipment and operations supervision and management. Cost of revenue also includes depreciation expense for product tooling and equipment as well as shipping costs. We expect overhead costs as a percentage of revenue to decrease as a result of expected increases in production volume and yields. We expect cost of revenue to increase in absolute dollars primarily if, and to the extent, our revenue grows.

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We provide a warranty for our products against defects in material and workmanship for a period of one to five years. We record a liability for future warranty claims at the time of sale for the warranty period offered to a customer in cost of revenue. If the assumptions used in calculating the provision were to materially change, such as incurring higher than anticipated warranty claims, an additional provision may be required.

We calculate gross margin as gross profit divided by revenue. Our gross margin has been and will continue to be affected by a variety of factors, including product and payer mix, production volumes, manufacturing costs and cost-reduction strategies. We continue to work to reduce product manufacturing costs through enhanced product design efforts as well as supply chain initiatives in an effort to offset anticipated price erosion. Our gross margin will likely fluctuate from quarter to quarter.

Sales and Marketing Expenses

Our sales and marketing expenses consist primarily of personnel-related expenses, including salaries, bonuses, commissions and benefits for employees. They also include expenses for patient training, social media and advertising, informational kits, public relations and other promotional and marketing activities, field sales travel and entertainment expenses, trade shows and conferences, stock-based compensation, as well as customer service. We expect sales and marketing expenses to continue to increase in absolute dollars as we expand our commercial infrastructure to drive and support our planned revenue growth. To the extent our revenue grows, we expect sales and marketing expenses to decrease as a percentage of revenue over time.

Research and Development Expenses

Research and development, or R&D, expenses consist primarily of personnel-related expenses, third-party product development costs, laboratory supplies, consulting fees and related costs, clinical research expenses, expenses related to clinical and regulatory affairs, patent amortization costs, stock-based compensation and patent legal fees, including defense costs, and testing costs for new product launches. Clinical research expenses include clinical trial management and monitoring, payment to clinical investigators, consulting fees, data management, stock-based compensation, travel expenses and the cost of manufacturing products for clinical trials. We have made substantial investments in R&D since our inception. Our R&D efforts have focused primarily on activities designed to enhance our technologies and to support development and commercialization of new and existing products. We expect R&D expenses to increase for the foreseeable future as we continue to develop, enhance and commercialize new products and expand clinical trial efforts. We expect R&D expenses as a percentage of our revenue to vary over time depending on the level and timing of initiating new product development efforts, as well as our clinical trial activities.

Reimbursement, General and Administrative Expenses

Reimbursement, general and administrative expenses consist primarily of compensation, including salaries, bonuses and benefits for employees in our patient services and advocacy, billing and collections, case management, payer relations and governmental affairs and reimbursement operations departments, as well as finance, human resources and administration, information technology, business development and general management functions, and facilities costs. Reimbursement expenses also include consulting, travel to payer case manager seminars, professional development and training, and certification expenses. General and administrative expenses also include professional services such as legal, consulting and accounting services, stock-based compensation, travel expenses, insurance and acquisition costs.

Other Income (Expense), Net

Other income (expense), net consists primarily of interest income related to investment income earned on our invested capital portfolio and interest expense related to our debt obligations.

Income Tax Expense (Benefit)

Our income tax expense (benefit) consists primarily of permanent differences related to share-based compensation activity, as well as deferred income taxes resulting from temporary differences between the reporting of amounts for financial statement purposes and income tax purposes.

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Critical Accounting Estimates

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with generally accepted accounting principles in the United States, or GAAP. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets and liabilities, and related disclosure of contingent assets and liabilities, revenue and expenses at the date of the financial statements. Generally, we base our estimates on historical experience and on various other assumptions in accordance with GAAP that we believe to be reasonable under the circumstances. Actual results may differ from these estimates and such differences could be material to our financial position and results of operations. Critical accounting estimates are those that involve a significant level of estimation uncertainty and have had or are reasonably likely to have a material impact on our financial condition and results of operations.

While our significant accounting policies are more fully described in Note 3 to our consolidated financial statements included elsewhere in this report, we believe the following discussion addresses our most critical accounting estimates, which involve significant subjectivity and judgment, and changes to such estimates or assumptions could have a material impact on our financial condition or operating results. Therefore, we consider an understanding of the variability and judgment required in making these estimates and assumptions to be critical in fully understanding and evaluating our reported financial results.

Revenue Recognition

We derive revenue from the sales and rentals of our proprietary line of Flexitouch and Entre systems, and from our sales of our recently acquired AffloVest product. We recognize revenue when control of the product has been transferred to our customer, in the amount of the expected consideration to be received for the product. Expected consideration is estimated as follows:

We update our assessment of collectability on a quarterly basis, with any adjustments for Flexitouch and Entre systems being reflected as sales and rental revenue and AffloVest products being reflected as bad debt expense within reimbursement, general and administrative expenses in the Consolidated Statements of Operations in the period of adjustment.

If in the future we determine that another method is more reasonable, or if another method for calculating these input assumptions is prescribed by authoritative guidance, the expected consideration associated with the sales and rentals of our products could change significantly. Changes in contractual pricing, payment trends and rebate structures would impact, either positively or negatively, our sales and rental revenue.

Stock-Based Compensation

The fair value of stock options is estimated at the date of grant, using the Black-Scholes option-pricing model, except for the valuation of certain “CEO” related stock options subject to a market condition which uses the Monte Carlo Simulation model. We recognize the fair value of each award as an expense on a straight-line basis over the requisite service period, which is generally the vesting period of the equity grant.

The Monte Carlo Simulation and Black-Scholes valuation models require the input of highly subjective assumptions, including the expected term of the option, the expected volatility of the price of our common stock,

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the risk-free interest rate and the expected dividend yield. These estimates involve inherent uncertainties and the significant application of management's judgment. If factors change and different assumptions are used, our stock-based compensation expense could be materially different in the future. We determined weighted-average valuation assumptions as follows:

If in the future we determine that another method is more reasonable, or if another method for calculating these input assumptions is prescribed by authoritative guidance, the fair value calculated for our stock options could change significantly. Higher volatility and longer expected lives would result in an increase to stock-based compensation expense determined at the date of grant. Stock-based compensation expense affects our cost of revenue, sales and marketing expenses, research and development expenses, and reimbursement, general and administrative expenses.

We estimate our forfeiture rate based on an analysis of our actual forfeitures and will continue to evaluate the appropriateness of the forfeiture rate based on actual forfeiture experience, analysis of employee turnover behavior and other factors. Quarterly changes in the estimated forfeiture rate can have a significant effect on reported stock-based compensation expense, as the cumulative effect of adjusting the rate for all expense amortization is recognized in the period the forfeiture estimate is changed. If a revised forfeiture rate is higher than the previously estimated forfeiture rate, an adjustment is made that will result in a decrease to the stock-based compensation expense recognized in the consolidated financial statements. If a revised forfeiture rate is lower than the previously estimated forfeiture rate, an adjustment is made that will result in an increase to the stock-based compensation expense recognized in the consolidated financial statements. The effect of forfeiture adjustments was insignificant for the years ended December 31, 2021, 2020 and 2019. We will continue to use significant judgment in evaluating the expected term, volatility and forfeiture rate related to our stock-based compensation.

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Results of Operations

Comparison of the Years Ended December 31, 2021 and 2020

The following table presents our results of operations for the periods indicated:

Year Ended

December 31, Change

Consolidated Statement % of % of

of Operations Data: revenue revenue

Revenue

Cost of revenue

Gross profit

Operating expenses

Research and development 5,659 3 % 5,264 3 % 395 8 %

Other (expense) income (531) — % 1,367 1 % (1,898) (139) %

Revenue

Revenue increased $20.9 million, or 11%, to $208.1 million in the year ended December 31, 2021, compared to $187.1 million in the year ended December 31, 2020. The increase in revenue was attributable to an increase of approximately $12.3 million, or 8%, in sales and rentals of our Flexitouch system, an increase of approximately $3.5 million, or 15%, in sales and rentals of our Entre system and $5.1 million in sales of the recently-acquired AffloVest product in the year ended December 31, 2021, compared to the year ended December 31, 2020. Beginning in March 2020 and continuing through 2020, revenue was negatively impacted by the COVID-19 pandemic, which limited our ability to access our clinician customers and their patients. Specifically, we saw healthcare facilities and clinics restricting access to their clinicians, reducing patient consultations, or closing temporarily due to COVID-19. Revenue for the first half of 2021 benefited from the initial stages of recovery from the COVID-19 pandemic, with a portion of healthcare facilities and clinics relaxing restrictions and increasing patient throughput, as well as an expanded prescriber base. Fiscal 2021 revenue also benefited from effective virtual education events and an increase in Medicare patients served. However, revenue in the second half of 2021 was negatively impacted by the prolonged recovery from COVID-19 and the resurgence due to variants, which extended and expanded restricted access to clinics and hospitals and disrupted the recovery in patient visits versus the pre-COVID environment. In addition, the challenging labor

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market coupled with our vaccine policy impacted our ability to recruit and retain quality candidates for our direct sales force.

The following table summarizes our revenue by product for the years ended December 31, 2021 and 2020, both in dollars and percentage of total revenue:

Year Ended

December 31, Change

Revenue

AffloVest 5,144 — 5,144 N.M.

Percentage of total revenue

Flexitouch system 85% 88%

Entre system 13% 12%

AffloVest 2% — %

Cost of Revenue and Gross Margin

Cost of revenue increased $5.5 million, or 10%, to $59.8 million during the year ended December 31, 2021, compared to $54.3 million during the year ended December 31, 2020. The increase in cost of revenue was primarily attributable to an increase in the number of Flexitouch and Entre systems sold and rented, the additional contribution of AffloVest, and an increase in inbound freight costs.

Gross margin was 71% for both of the years ended December 31, 2021 and 2020.

Sales and Marketing Expenses

Sales and marketing expenses increased $7.1 million, or 9%, to $86.8 million during the year ended December 31, 2021, compared to $79.6 million during the year ended December 31, 2020. The increase was primarily attributable to a:

● $0.7 million increase in demonstration equipment expense.

These increases were partially offset by a:

Research and Development Expenses

Research and development (“R&D”) expenses increased $0.4 million, or 8%, to $5.7 million during the year ended December 31, 2021, compared to $5.3 million during the year ended December 31, 2020, which was primarily attributable to an increase in professional services.

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Reimbursement, General and Administrative Expenses

Reimbursement, general and administrative expenses increased $5.5 million, or 11%, to $56.8 million during the year ended December 31, 2021, compared to $51.3 million during the year ended December 31, 2020. The increase was primarily attributable to a:

These increases were partially offset by a:

Intangible Asset Amortization and Earn-out

Intangible asset amortization and earn-out expenses increased $0.5 million to $0.7 million during the year ended December 31, 2021, compared to $0.2 million during the year ended December 31, 2020. The increase in intangible asset amortization and earn-out expense was primarily attributable to the increase in amortization related to the assets acquired in the AffloVest acquisition, partially offset by a reduction in the estimated fair value of our earn-out liability.

Other (Expense) Income, Net

Other (expense) income, net was an expense of $0.5 million for the year ended December 31, 2021, compared to income of $1.4 million for the year ended December 31, 2020. The decrease in other income was primarily due to $1.2 million received in 2020 under the CARES Act Provider Relief Fund to compensate us for lost revenuesfrom the COVID-19 public health emergency (PHE) which was recognized in the period based on our interpretation of guidance issued by the Department of Health and Human Services through January 2021.

Income Tax Expense (Benefit)

We recorded an income tax expense of $9.5 million and an income tax benefit of $1.6 million for the years ended December 31, 2021 and 2020, respectively. The current year tax expense was driven by the recording of a full valuation allowance against our deferred tax assets based on an assessment of existing positive and negative evidence which indicated these deferred tax assets would not be realizable.

Management assesses the available positive and negative evidence to estimate whether sufficient future taxable income will be generated to permit use of the existing deferred tax assets. Based on this evaluation, as of December 31, 2021, a valuation allowance of $12.0 million was recorded to recognize only the residual portion of the existing deferred tax asset that are more likely than not to be realized and which comprises the assets that will not be offset by the reversal of deferred tax liabilities. The amount of the deferred tax asset considered realizable which will be offset by reversing deferred tax liabilities, however, could be adjusted in the future if estimates of taxable income during the carryforward period are reduced or increased or if objective negative evidence in the form of cumulative losses is no longer present and additional weight is given to subjective evidence such as projections for growth.

Seasonality

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experience substantially reduced demand for our products. We typically experience higher revenue in the third and fourth quarters of the year when more patients have met their annual insurance deductibles, thereby reducing their out-of-pocket costs for our products, and because patients desire to exhaust their flexible spending accounts at year end. This seasonality applies only to purchases and rentals of our products by patients covered by commercial insurance and is not relevant to Medicare, Medicaid or the Veterans Administration, as those payers either do not have plans that have declining deductibles over the course of the plan year and/or do not have plans that include patient deductibles for purchases or rentals of our products. Further, seasonality trends have been, and may continue to be, significantly different than historical trends as a result of the COVID-19 pandemic and related impacts.

Liquidity and Capital Resources

Overview

As of December 31, 2021, we had cash and cash equivalents of $28.2 million and net accounts receivable of $62.3 million compared to cash and cash equivalents of $47.9 million and net accounts receivable of $53.3 million as of December 31, 2020. Our primary sources of capital since our initial public offering in 2016 have been from operating income and bank financing.

Cash Flows

The following table summarizes our cash flows for the periods indicated:

Year Ended

December 31,

Net cash provided by (used in):

Net Cash Provided by Operating Activities

Net cash provided by operating activities during the year ended December 31, 2021, was $2.6 million, resulting from a net loss of $11.8 million and non-cash net income adjustments of $23.9 million, which were offset by an increase in net operating assets of $8.5 million. The non-cash net income adjustments primarily consisted of $10.2 million of stock-based compensation expense, $10.2 million of deferred income tax expense and $3.7 million of depreciation and amortization expense. Changes in operating assets and liabilities, net of the acquisition in the current year, reflected stronger cash flow as compared to the prior year due primarily to improved collections in 2021, which were offset, in part, by continued investment in inventory designed to meet future projected demand, as well as payment of income tax obligations.

Net cash provided by operating activities during the year ended December 31, 2020, was $2.8 million, resulting from net loss of $0.6 million and non-cash net income adjustments of $16.2 million, which were offset by an increase in net operating assets of $12.8 million. The non-cash net income adjustments primarily consisted of $10.7 million of stock-based compensation expense, a $4.0 million non-cash adjustment for impairment losses and $2.8 million of depreciation and amortization expense. Changes in operating assets and liabilities in 2020, reflected stronger cash flow as compared to the prior year, due primarily to improved collections in 2020, offset in part by continued investment in inventory designed to return the Company to standard stocking levels.

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Net Cash (Used in) Provided by Investing Activities

Net cash used in investing activities during the year ended December 31, 2021, was $82.2 million, primarily consisting of acquisition-related payments of $79.8 million associated with the acquisition of the AffloVest business and $2.1 million in purchases of property and equipment primarily related to office equipment, production tooling and tenant improvements and $0.3 million related to the acquisition of patents and other intangible assets.

Net cash provided by investing activities during the year ended December 31, 2020, was $20.2 million, consisting primarily of $22.5 million in net proceeds from maturities of securities available-for-sale, offset by $2.1 million in purchases of property and equipment primarily related to IT infrastructure, production tooling and office equipment and $0.2 million related to the acquisition of patents and other intangible assets.

Net Cash Provided by Financing Activities

Net cash provided by financing activities during the year ended December 31, 2021, was $59.9 million, primarily consisting of borrowings of $54.8 million net of debt issuance costs incurred and $6.3 million in proceeds from exercises of common stock options and the issuance of common stock under the ESPP, partially offset by $1.2 million in taxes paid for the net share settlement of performance and restricted stock units.

Net cash provided by financing activities during the year ended December 31, 2020, was $2.1 million, consisting of proceeds from the issuance of common stock under the ESPP of $2.9 million and proceeds from exercises of common stock options of $1.1 million, partially offset by $1.9 million in taxes paid for the net share settlement of performance and restricted stock units.

Credit Agreement

On August 3, 2018, we entered into a credit agreement with Wells Fargo Bank, National Association, which was amended by a First Amendment dated February 12, 2019, a Waiver and Second Amendment dated March 25, 2019, and a Third Amendment dated August 2, 2019 (collectively, the “2018 Credit Agreement”). On April 30, 2021, we entered into an Amended and Restated Credit Agreement (the “Restated Credit Agreement”) with the lenders from time to time party thereto, and Wells Fargo Bank, National Association, as Administrative Agent. The Restated Credit Agreement amended and restated in its entirety the 2018 Credit Agreement.

On September 8, 2021, we entered into a First Amendment Agreement (the “First Amendment”), which amends the Restated Credit Agreement (as amended by the First Amendment and the Second Amendment (as defined below), the “Credit Agreement”) with the lenders from time to time party thereto, and Wells Fargo Bank, National Association, as administrative agent. The First Amendment, among other things, adds a $30.0 million incremental term loan to the $25.0 million revolving credit facility provided by the Restated Credit Agreement. The term loan and the revolving credit facility mature on September 8, 2024. The Credit Agreement provides that, subject to satisfaction of certain conditions, we may increase the amount of the revolving loans available under the Credit Agreement and/or add one or more term loan facilities in an amount not to exceed $25.0 million in the aggregate, such that the total aggregate principal amount of loans available under the Credit Agreement (including under the revolving credit facility) does not exceed $80.0 million.

Our obligations under the Credit Agreement are secured by a security interest in substantially all of our and our subsidiaries’ assets and are also guaranteed by our subsidiaries. The Credit Agreement contains a number of restrictions and covenants, including that we maintain compliance with a maximum leverage ratio, minimum fixed charge coverage ratio and a minimum consolidated EBITDA covenant. As of December 31, 2021, we were in compliance with all financial covenants under the Credit Agreement.

On September 8, 2021, in connection with the closing of the acquisition of the AffloVest business, we borrowed the $30.0 million term loan and utilized that borrowing, together with a draw of $25.0 million under the revolving credit facility and cash on hand, to fund the purchase price. The principal of the term loan is required to be repaid in quarterly installments of $750,000 commencing January 7, 2022, through July 8, 2024, with the remaining outstanding balance due on September 8, 2024.

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As of December 31, 2021, we had outstanding borrowings of $55.0 million under the Credit Agreement, comprised of $30.0 million under the term loan and $25.0 million under the revolving credit facility.

On February 22, 2022, we entered into a Second Amendment Agreement (the “Second Amendment”), which further amends the Credit Agreement. The Second Amendment modifies the maximum leverage ratio, the minimum fixed charge coverage ratio and the minimum consolidated EBITDA covenants under the Credit Agreement, and adds a minimum liquidity covenant. The Second Amendment also increases the applicable margin for LIBOR rate loans under the Credit Agreement during the period commencing on the date of the Second Amendment and ending on the last day of the fiscal quarter ending June 30, 2023.

Pursuant to the Second Amendment, on February 22, 2022, we made a mandatory principal prepayment of the term loan under the Credit Agreement of $3.0 million. Following such payment, as of February 22, 2022, we had outstanding borrowings of $51.3 million under the Credit Agreement, comprised of $26.3 million under the term loan and $25.0 million under the revolving credit facility.

For additional information regarding the Credit Agreement, including interest rates, fees and maturities, see Note 12 – “Credit Agreement” of the consolidated financial statements contained in this report.

Future Cash Requirements

Our material estimated future cash requirements under our contractual obligations and commercial commitments as of December 31, 2021, in total and disaggregated into current (payable in 2022) and long-term (payable after 2022) obligations, are summarized as follows:

Payments Due By Period

Less Than More Than

(In thousands) Total 1 Year 1-3 Years 3-5 Years 5 Years

Purchase commitments (1) $ 15,139 $ 15,139 $ — $ — $ —

Revolving line of credit payments (4) 25,000 — 25,000 — —

Adequacy of Resources

Our future cash requirements may vary significantly from those now planned and will depend on many factors, including:

● the impact of the COVID-19 pandemic on our business;

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● sales and marketing resources needed to further penetrate our market;

● expansion of our operations domestically and/or internationally;

● response of competitors to our solutions and applications;

● costs associated with clinical research activities;

● increases in interest rates;

● labor shortages and wage inflation;

● costs to develop and implement new products; and

● use of capital for acquisitions or licenses, if any.

Historically, we have experienced increases in our expenditures consistent with the growth in our revenue, operations and personnel, and we anticipate that our expenditures will continue to increase as we expand our business.

Although the impact of the COVID-19 pandemic and other factors such as inflation and rising interest rates are difficult to predict, we believe our cash, cash equivalents and cash flows from operations will be sufficient to meet our working capital, capital expenditure, debt repayment and related interest, and other cash requirements for at least the next twelve months.

Inflation and changing prices did not have a material effect on our business during the year ended December 31, 2021, and we do not expect that inflation or changing prices will materially affect our business for at least the next twelve months.

Coronavirus Aid, Relief, and Economic Security (CARES) Act

On March 27, 2020 the CARES Act was signed into law. The CARES Act is a tax-and-spending package intended to provide economic relief to address the impact of the COVID-19 pandemic. The CARES Act includes several tax provisions that, among other things, allow businesses to carry back net operating losses (“NOLs”) arising in 2018, 2019, and 2020 to the prior five tax years. In the third quarter of 2020, we collected $2.9 million related to the carry back of our NOLs arising from these prior tax years.

In addition, the CARES Act provided $100 billion in relief funds to hospitals and other healthcare providers on the front lines of the COVID-19 pandemic. An initial $30 billion of the funds were released for immediate infusion and were distributed to all facilities and providers that received Medicare fee-for-service (“FFS”) reimbursements in 2019. On April 10, 2020, we received $1.2 million of the initial allotment to all facilities and providers which was determined to be our proportionate share. Within 45 days of each reporting period end, we complied with the reporting requirements confirming funds were utilized in a manner described within the terms and conditions outlined by the U.S. Department of Health & Human Services. As of December 31, 2020, we recognized all of the funds received in the initial allotment as other income.

Off-Balance Sheet Arrangements

We did not have during the periods presented, and we do not currently have, any off-balance sheet arrangements, as defined under the applicable regulations.

Recent Accounting Pronouncements

Refer to Note 3 - “Summary of Significant Accounting Policies,” of our consolidated financial statements contained in this report for a description of recently issued accounting pronouncements that are applicable to our business.

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Item 7A. Quantitative and Qualitative Disclosures About Market Risk

Interest Rate Risk

We are exposed to market risk from changes in interest rates, primarily related to our investments and our borrowings. The principal objectives of our investment activities are to preserve principal, provide liquidity and maximize income consistent with minimizing risk of material loss. The recorded carrying amounts of cash and cash equivalents approximate fair value due to their short maturities. Our interest income is sensitive to changes in the general level of interest rates in the United States, particularly since our investments are generally short-term in nature. Based on the nature of our short-term investments, an immediate 100 basis point change in interest rates would not have a material effect on the fair market value of our portfolio. We also have exposure to variable interest rates through our credit facility, as the interest expense related to any borrowings will fluctuate with changes in LIBOR and other benchmark rates. Therefore, increases in interest rates may impact our net income or loss by increasing the cost of carrying debt.

Inflation

Inflationary factors, such as increases in our cost of revenue, sales and marketing expenses and reimbursement expenses, may adversely affect our operating results. Although we do not believe that inflation has had a material impact on our financial condition or results of operations to date, a high rate of inflation in the future may have an adverse effect on our ability to maintain and increase our gross margin, and on our sales and marketing and reimbursement expenses as a percentage of our revenue if the prices for our products do not increase as much or more than these increased costs.

Credit Risk

As of December 31, 2021, our cash and cash equivalents were maintained with one financial institution in the United States. As of December 31, 2020, our cash and cash equivalents were maintained with three financial institutions in the United States. We perform periodic evaluations of the relative credit standing of these financial institutions and believe they have sufficient assets and liquidity to conduct their operations in the ordinary course of business with little or no credit risk to us. We have not experienced any losses on our cash or cash equivalents to date.

Our accounts receivable primarily relate to revenue from the sale of our products to patients in the United States. As of December 31, 2021 and 2020, our accounts receivable were $62.3 million and $53.3 million, respectively. We had accounts receivable from two insurers representing approximately 33% and 24% of accounts receivable as of December 31, 2021. We had accounts receivable from two insurers representing approximately 37% and 22% of accounts receivable as of December 31, 2020. The credit risks associated with customers which for these purposes are insurers considers aggregation for entities that are known to be under common control.

Foreign Currency Risk

Our business is conducted in U.S. dollars and international transactions have been nominal. As we begin building relationships to commercialize our products internationally, our results of operations and cash flows may become increasingly subject to changes in foreign exchange rates.

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Item 8. Financial Statements and Supplementary Data.

Index to Financial Statements

Consolidated Balance Sheets 92

Consolidated Statements of Operations 93

Consolidated Statements of Comprehensive (Loss) Income 94

Consolidated Statements of Stockholders’ Equity 95

Consolidated Statements of Cash Flows 96

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders

Tactile Systems Technology, Inc.

Opinion on the financial statements

We have audited the accompanying consolidated balance sheets of Tactile Systems Technology, Inc. (a Delaware corporation) and its subsidiary (the “Company”) as of December 31, 2021 and 2020, the related consolidated statements of operations, comprehensive (loss) income, stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2021, and the related notes (collectively referred to as the “financial statements”). In our opinion, thefinancial statements present fairly, in all material respects, the financial position of the Companyas of December 31, 2021 and 2020, and the results of itsoperations and itscash flows for each of the three years in the period ended December 31, 2021, in conformity with accounting principles generally accepted in the United States of America.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company’s internal control over financial reporting as of December 31, 2021, based on criteria established in the 2013 Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”), and our report dated February 23, 2022 expressed an unqualified opinion.

Basis for opinion

These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

Critical audit matter

The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing separate opinions on the critical audit matter or on the accounts or disclosures to which they relate.

Transaction Price Adjustment – Uncollected Flexitouch Product Sales

As described further in Note 3. Summary of Significant Accounting Policies – Revenue Recognition to the consolidated financial statements, revenue is recognized upon transfer of control of the product to the customer based on a transaction price determined to be the amount of expected consideration to be received for the product. In most cases, there is a contracted third-party payer, such as a commercial insurer,

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Medicare or the Veteran’s Administration involved with the transaction. The transaction price is impacted by multiple factors, including the terms and conditions contracted by third-party payers. Thus, payments from third-party payers typically are less than the Company’s standard charge and represent an implicit price concession, resulting in variable consideration. The transaction price for commercial payers is determined based on the payment history of the payer drawn from actual write-off and collections experience over a rolling 18-month period, as well as historical patient collections by payer. The Company assesses the variable consideration for each Medicare claim as a percentage of the total invoice price based on ultimate approval and collection history. There is not variable consideration with sales to the Veterans Administration. The results of the variable consideration assessment are the primary source of information in estimating the recognition of net revenue and the net valuation of the related accounts receivable.

We identified the transaction price adjustment for uncollected Flexitouch product sales to commercial payers and Medicare as a critical audit matter. The principal considerations for our determination of this as a critical audit matter are:

Our audit procedures related to the Transaction Price Adjustment – Uncollected Flexitouch Product Sales included the following, among others:

/s/ GRANT THORNTON LLP

We have served as the Company’s auditor since 2015.

Minneapolis, Minnesota

February 23, 2022

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Tactile Systems Technology, Inc.

Consolidated Balance Sheets

December 31, December 31,

(In thousands, except share and per share data) 2021 2020

Assets

Current assets

Prepaid expenses and other current assets 4,141 2,638

Non-current assets

Property and equipment, net 6,750 6,957

Right of use operating lease assets 23,984 20,132

Accounts receivable, non-current 12,847 9,433

Deferred income taxes — 10,198

Liabilities and Stockholders' Equity

Current liabilities

Note payable 2,960 —

Earn-out, current 3,250 —

Accrued payroll and related taxes 12,139 11,588

Income taxes payable 16 2,658

Operating lease liabilities 2,506 2,006

Other current liabilities 3,305 1,842

Non-current liabilities

Revolving line of credit, non-current 24,857 —

Note payable, non-current 26,933 —

Earn-out, non-current 2,950 —

Accrued warranty reserve, non-current 3,108 3,235

Income taxes payable, non-current 348 —

Operating lease liabilities, non-current 23,354 19,388

Deferred income taxes 32 —

Commitments and Contingencies (see Note 13)

Stockholders’ equity:

Total liabilities and stockholders’ equity $ 244,270 $ 174,087

The accompanying notes are an integral part of these consolidated financial statements.

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Tactile Systems Technology, Inc.

Consolidated Statements of Operations

Year Ended

December 31,

(In thousands, except share and per share data) 2021 2020 2019

Revenue

Cost of revenue

Gross profit

Operating expenses

Intangible asset amortization and earn-out 739 197 194

Net (loss) income per common share

The accompanying notes are an integral part of these consolidated financial statements.

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Tactile Systems Technology, Inc.

Consolidated Statements of Comprehensive (Loss) Income

Year Ended

December 31,

Other comprehensive income (loss):

Unrealized gain (loss) on marketable securities — (21) 31

Income tax related to items of other comprehensive income (loss) — (5) 3

Total other comprehensive income (loss) — (26) 34

The accompanying notes are an integral part of these consolidated financial statements.

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Tactile Systems Technology, Inc.

Consolidated Statements of Stockholders’ Equity

Accumulated

Additional Other

Common Stock Paid-In Retained Comprehensive

Stock-based compensation — — 9,824 — — 9,824

Comprehensive income for the period — — — 10,971 34 11,005

Stock-based compensation — — 10,689 — — 10,689

Comprehensive loss for the period — — — (620) (26) (646)

Stock-based compensation — — 10,173 — — 10,173

The accompanying notes are an integral part of these consolidated financial statements.

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Tactile Systems Technology, Inc.

Consolidated Statements of Cash Flows

Year Ended December 31,

Cash flows from operating activities

Impairment losses — 4,025 —

Loss on termination of lease — — 1,148

Loss on disposal of property and equipment 20 — —

Change in fair value of earn-out liability (200) — —

Changes in assets and liabilities, net of acquisition:

Prepaid expenses and other assets (1,489) (528) (1,166)

Right of use operating lease assets 614 559 625

Medicare accounts receivable, non-current (3,414) (5,249) (2,300)

Accrued payroll and related taxes 551 1,490 2,677

Accrued expenses and other liabilities 2,175 1,308 1,729

Net cash provided by operating activities 2,631 2,794 2,510

Cash flows from investing activities

Proceeds from sales of securities available-for-sale — — 1,493

Purchases of securities available-for-sale — — (22,840)

Payments related to acquisition (79,829) — —

Purchases of property and equipment (2,103) (2,059) (5,446)

Intangible assets costs (252) (232) (542)

Other investments — (30) —

Cash flows from financing activities

Proceeds from issuance of note payable 30,000 — —

Proceeds from revolving line of credit 25,000 — —

Payment of deferred debt issuance costs (188) — —

Proceeds from exercise of common stock options 3,976 1,068 2,834

Net cash provided by financing activities 59,927 2,112 2,496

Cash and cash equivalents – beginning of period 47,855 22,770 20,099

Supplemental cash flow disclosure

Cash paid for interest $ 130 $ — $ —

Capital expenditures incurred but not yet paid $ 23 $ 17 $ 122

The accompanying notes are an integral part of these consolidated financial statements.

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Tactile Systems Technology, Inc.

Notes to the Consolidated Financial Statements

Note 1. Nature of Business and Operations

Tactile Systems Technology, Inc. (“we,” “us,” and “our”) is the sole manufacturer and distributor of the Flexitouch and Entre systems, medical devices that help control symptoms of lymphedema, a chronic and progressive medical condition. We provide these products through our direct sales force for use in the home and sell or rent them through vascular, wound and lymphedema clinics throughout the United States.

On September 8, 2021, we acquired the assets of the AffloVest respiratory therapy business (“AffloVest Acquisition”) from International Biophysics Corporation (“IBC”), a privately-held company which developed and manufactures AffloVest. AffloVest is a portable, wearable vest that treats patients with chronic respiratory conditions. The device is sold through respiratory durable medical equipment providers throughout the United States.

We were originally incorporated in Minnesota under the name Tactile Systems Technology, Inc. on January 30, 1995. During 2006, we established a merger corporation and subsequently, on July 21, 2006, merged with and into this merger corporation, resulting in us being reincorporated as a Delaware corporation. The resulting corporation assumed the name Tactile Systems Technology, Inc. In September 2013, we began doing business as “Tactile Medical.”

Our business is affected by seasonality. In the first quarter of each year, when most patients have started a new insurance year and have not yet met their annual out-of-pocket payment obligations, we experience substantially reduced demand for our products. We typically experience higher revenue in the third and fourth quarters of the year when patients have met their annual insurance deductibles, thereby reducing their out-of-pocket costs for our products, and because patients desire to exhaust their flexible spending accounts at year end. This seasonality applies only to purchases and rentals of our products by patients covered by commercial insurance and is not relevant to Medicare, Medicaid or the Veterans Administration, as those payers either do not have plans that have declining deductibles over the course of the plan year and/or do not have plans that include patient deductibles for purchases or rentals of our products. Further, seasonality trends have been, and may continue to be, significantly different than historical trends as a result of the COVID-19 pandemic and related impacts.

Note 2. Basis of Presentation

Our accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and pursuant to the rules and regulations of the SEC. We have reclassified certain prior year amounts to conform to the current year’s presentation.

The results for the year ended December 31, 2021, are not necessarily indicative of results to be expected for any future year.

Principles of Consolidation

Our accompanying consolidated financial statements include the accounts of Tactile Systems Technology, Inc. and its wholly owned subsidiary, Swelling Solutions, Inc. All intercompany balances and transactions have been eliminated in consolidation.

Risks and Uncertainties

Coronavirus (COVID-19)

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that healthcare facilities and clinics are able to treat due to enhanced safety protocols, particularly during 2020 and the first quarter of 2021. While we saw some level of recovery in the second quarter of 2021, the second half of 2021 was negatively impacted by the prolonged recovery from COVID-19 and increased variant cases during the period, which extended and expanded restricted access to clinics and hospitals and disrupted the recovery in patient visits versus the pre-COVID environment. There are no reliable estimates of how long the pandemic will last, whether any recovery will be sustained or will reverse course, the severity of any resurgence of COVID-19 or variant strains of the virus, the effectiveness of vaccines and attitudes towards receiving them, or what ultimate effects the pandemic will have. For that reason, we are unable to reasonably estimate the long-term impact of the pandemic on our business at this time. Since the onset of COVID-19, we have remained proactive to ensure we continue to adapt to the needs of our employees, clinicians and patients.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and to disclose contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

Coronavirus Aid, Relief, and Economic Security Act

We may receive cash payments from the government during a public health emergency (PHE). We consider the nature and substance of the government funds received and record the cash payment in accordance with the terms and conditions of the funds. In the year ended December 31, 2020, we received a grant of $1.2 million from the Public Health and Social Services Emergency Fund (Relief Fund), which was among the provisions of the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) signed into law on March 27, 2020. During the year ended December 31, 2020, we recorded $1.2 million in other income, which was associated with lost revenues from the COVID-19 PHE incurred in the period based on our interpretation of guidance issued by the Department of Health and Human Services through January 2021.

Comprehensive Income (Loss)

Comprehensive income (loss) reflects the change in equity of a business enterprise during a period from transactions and other events and circumstances from non-owner sources. Our comprehensive income (loss) represents net income (loss) adjusted for unrealized gains and losses on available-for-sale marketable securities and the related taxes.

Note 3. Summary of Significant Accounting Policies

Cash and Cash Equivalents

Cash and cash equivalents consist of all cash on hand, deposits and funds invested in available-for-sale securities with original maturities of three months or less at the time of purchase. Our cash was held primarily in checking accounts as of December 31, 2021, compared to money market and checking accounts as of December 31, 2020.At times the amount of cash on deposit may exceed the federally insured limit of the bank. Deposit accounts at each of the institutions are insured up to $250,000 by the Federal Deposit Insurance Corporation (FDIC). At December 31, 2021 and 2020, the Company exceeded FDIC limits at various institutions. The Company has not experienced any losses in such accounts and believes there is little to no exposure to any significant credit risk.

Marketable Securities and Equity Investments

We determine the appropriate classification of our marketable securities as available-for-sale or held-to-maturity at the time of purchase and periodically reevaluate such classification. Debt securities are classified

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as held-to-maturity when we have the positive intent and ability to hold the securities to maturity. Debt securities for which we do not have the intent or ability to hold to maturity are classified as available-for-sale.

Debt securities not classified as held-to-maturity are classified as available-for-sale and are reported at fair value, with unrealized gains and losses included in the determination of comprehensive income (loss), a component of stockholders' equity. We review our available-for-sale securities for impairment to determine if the impairment is temporary or other-than-temporary. A temporary impairment charge results in an unrealized loss being recorded in other comprehensive income (loss). Other-than-temporary impairments are recorded in net income (loss) in the period the impairment is determined to be other-than-temporary. Realized gains and losses on the sale of marketable securities are determined using the specific-identification method.

Equity investments (including equity securities) with readily determinable fair value are reported at fair value, with unrealized gains and losses included in the determination of net income (loss). For equity investments with no readily determinable fair value, we measure these investments at cost less impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. Such observable price changes may include instances where the investee issues equity securities to new investors, thus creating a new indicator of fair value, as an example. As of each of December 31, 2021 and 2020, the total carrying value of our equity investments, with no readily determinable fair value, were $0.3 million, and are included in other non-current assets on our Consolidated Balance Sheets. On an annual basis, we perform a qualitative assessment considering impairment indicators to evaluate whether these investments are impaired and also monitor for any observable price changes. During the years ended December 31, 2021 and 2020, we did not have any impairment loss on these investments.

Accounts Receivable

The majority of our accounts receivable and revenue are from commercial insurance payers and government payers, such as Medicare, the Veterans Administration and Medicaid.

Accounts receivable are recorded based on management’s assessment of the expected consideration to be received, based on a detailed review of historical pricing adjustments and collections. Management relies on the results of the assessment, which includes payment history of the applicable payer as well as historical patient collections, as a primary source of information in estimating the collectability of our accounts receivable. We update our assessment on a quarterly basis, which to date has not resulted in any material adjustments to the valuation of our accounts receivable. We believe the assessment provides reasonable estimates of our accounts receivable valuation, and therefore we believe that substantially all accounts receivable are fully collectible.

A portion of our claims to Medicare are initially denied and enter the appeals process, where many are ultimately reviewed by an Administrative Law Judge. After final adjudication of all claims, approximately 90% of the claims submitted are approved (this is on a number of claims, not a dollars claimed, basis across all our products). The appeals process can be lengthy, lasting more than a year in most cases. Accordingly, we classify a portion of our Medicare accounts receivable as non-current based on our experience with Medicare collections.

Inventories

Inventories are valued at the lower of cost (first-in, first-out method) or net realizable value.

Property and Equipment

Property and equipment are stated at cost and are depreciated using the straight-line method over their estimated useful lives of three to seven years. Leasehold improvements are depreciated over the remaining life of the respective building lease agreement.

Major expenditures for property and equipment are capitalized. Maintenance, repairs and minor renewals are expensed as incurred. When assets are retired or otherwise disposed of, their costs and related accumulated depreciation are removed from the accumulated depreciation accounts and the resulting gains or

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losses are included in income. The value of demonstration equipment in the possession of our field sales representatives is capitalized and depreciated over the estimated useful life of the equipment.

Revenue Recognition

We derive revenue from the sales and rentals of our Flexitouch and Entre systems, and from the sales of our AffloVest.

Flexitouch and Entre

We recognize revenue when control of the product has been transferred to our customer, in the amount of the expected consideration to be received for the product. In general, revenue from the sale or rental of a product is recognized upon shipment, unless circumstances dictate that control has not yet passed to the customer.

We provide a warranty for these products against defects in material and workmanship for a period of one to five years on garments and one to two years on controllers. In accordance with applicable accounting guidance, we have determined these were assurance warranties and therefore not considered a performance obligation. In addition, we did not evaluate immaterial promised goods or services in the context of the contract. As a result, the sale or rental of these products represent a single performance obligation that is satisfied at a point in time and is short-term in nature. In certain cases, we receive payment from Medicare sales over a period of time that may exceed one year. Despite these extended payment terms, no significant financing component is deemed to exist as the terms are not for the benefit of the patient with whom we have the contract. Rather, the extended payment terms occur as a result of an initial claim denial, which subsequently enters the Medicare appeals process as noted below.

We commercially distribute these products directly to patients who are referred to us by physicians, therapists or nurses. In most cases, there is a third-party payer, such as a commercial insurer, Medicare or the Veterans Administration involved with the transaction. Our contractual relationship resides with the patient when the third-party payer is either a commercial insurer or Medicare and with the Veterans Administration if the patient is covered under their services. Revenue is recognized from such sales upon transfer of control of the product to the customer at a transaction price determined by collection history. As a result, the transaction price is impacted by multiple factors, including the terms and conditions contracted by various third-party payers, and therefore payments from third-party payers typically are less than our standard charge and represent an implicit price concession, resulting in variable consideration. As most contracts are with each individual sale to a patient, we have elected the portfolio approach to determine the transaction price, and ultimately the expected consideration. The portfolios used to determine transaction price are at the payer level, with pricing for each payer assessed based on the underlying similar characteristics.

For any of our products sold to patients covered by private payers, such as commercial insurance companies, revenue is recognized upon shipment. A product is not shipped until we have received a prescription from a physician for our products and, as applicable, receipt of prior authorization from payers. At shipment, we invoice the payer for the total product price, and we recognize revenue in the amount of cash consideration anticipated to be received based on the transaction price. After the insurance payer has remitted payment, we separately invoice the patient for their portion of the payment obligation, such as copayments and deductibles. The transaction price is determined based on the payment history of the applicable payer drawn from actual write-off and collections experience from the payer over a rolling 12-month period, as well as historical patient collections.

For our products sold to Medicare patients, we recognize revenue from such sales upon shipment of our products, which can occur only after we have received a prescription from a physician and all applicable patient documentation is obtained. The transaction price for our Entre systems is determined based on the payment history using the same methodology as our private insurers. A portion of our claims for our Flexitouch system are initially denied, and enter the appeals process, which can be lengthy. We assess the variable consideration for each of these claims as a percentage of the total invoice price based on ultimate approval and collection history.

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For our products sold to the Veterans Administration on behalf of the patient, our contract is with the Veterans Administration rather than the patient. We enter into individual sales contracts with the Veterans Administration on behalf of each patient. These contracts determine the amount of consideration, which is typically paid in full within 2-3 days of shipment, and therefore there is no implicit price concession. In addition, the contracts provide for the right of control to transfer to the Veterans Administration upon delivery of the product to the patient, at which time revenue is recognized.

We incur incremental costs that directly relate to the sales of our products; however, as the amortization period would be less than one year, we have elected the practical expedient to expense these costs as incurred.

We sell and rent these products either directly to patients or the Veterans Administration on behalf of patients, who are referred to us by physicians, therapists or nurses. We bill private insurers and other payers, Medicare, and the Veterans Administration directly for purchases or rentals of our product on behalf of a patient and bill patients directly for their cost-sharing amounts, including any portion of an unsatisfied deductible and any copayments or co-insurance obligation.

A portion of our revenue is derived from patients who obtain our products under multiple-month rental arrangements. We bill these patients’ insurance payers monthly over the duration of the rental term. Title to these products passes to the patients at the end of the rental period. Patients may return the product before the end of the rental period, and as such these arrangements are deemed to be month-to-month cancelable leases in accordance with Accounting Standards Codification (“ASC”) 840, “Leases,” if they commenced prior to December 31, 2018. Accordingly, we recognized the related revenue for these rental arrangements monthly, on a pro rata basis, over the lesser of the duration of the rental period or the period during which the patient possesses the product. Rental agreements commencing after January 1, 2019, are recorded as sales-type leases in accordance with Accounting Standards Update (“ASU”) No. 2016-02, “Leases” (Topic 842) (“ASC 842”). Accordingly, as sales-type leases, the transaction price for the entire rental term is recognized upon transfer of control. We elected the practical expedient to not reassess the lease classification for leases in existence at December 31, 2018.

AffloVest

The AffloVest device is sold through durable medical equipment providers. Revenue is recognized when control of the promised goods or services is transferred to the distributors, in an amount that reflects the consideration we expect to be entitled to in exchange for transferring those goods or providing services. We account for a contract when it has approval and commitment from both parties, the rights of the parties are identified, payment terms are identified, the contract has commercial substance and collectability of consideration is probable. When determining whether the distributor has obtained control of the goods or services, we consider any future performance obligations. Generally, there is no post-shipment obligation on products sold other than warranty obligations in the normal and ordinary course of business. Consequently, revenue from the sale of the AffloVest product is recognized at shipment, unless circumstances dictate that control has not yet passed to the distributor.

Certain of our contracts include volume-based incentives which involve rebates that are negotiated at or prior to the time of sale with the customer and are redeemable only if the customer achieves a specified cumulative level of sales or sales increase. Under these incentive programs, at the time of sale, we determine the most likely amount of the rebate to be paid based on forecasted sales levels. These forecasts are updated at least quarterly for applicable customers, and the transaction price is reduced for the anticipated cost of the rebate. If the forecasted sales for a customer change, the accrual for rebates is adjusted to reflect the new rebates expected to be earned by the customer.

Amounts billed to customers for shipping and handling activities after the customer obtains control are treated as a promised service performance obligation and recorded in revenue in the accompanying Consolidated Statements of Operations. Shipping and handling costs incurred for the delivery of goods to customers are considered a cost to fulfill the contract and are included in cost of revenue sold in the accompanying Consolidated Statements of Operations.

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We provide a warranty for the AffloVest products against defects in material and workmanship for a period of five years. In accordance with applicable accounting guidance, we have determined these were assurance warranties and therefore not considered a performance obligation. In addition, we did not evaluate immaterial promised goods or services in the context of the contract. As a result, the sale of these products represents a single performance obligation that is satisfied at a point in time and is short-term in nature.

Advertising

Advertising costs are charged to operations when incurred. Advertising expense was $0.1 million for each of the years ended December 31, 2021, 2020 and 2019.

Research and Development Costs

We expense research and development costs as incurred, including expenses associated with clinical research studies and development.

Shipping and Handling Costs

Amounts billed to customers for shipping and handling activities after the customer obtains control are treated as a promised service performance obligation and recorded in total revenue in the accompanying Consolidated Statements of Operations. Shipping and handling costs incurred for the delivery of goods to customers are considered a cost to fulfill the contract and are included in cost of revenue in the accompanying Consolidated Statements of Operations.

Product Warranty

We provide a warranty for our products against defects in material and workmanship for a period of one to five years. We record a liability for future warranty claims at the time of sale for the warranty period offered to a customer. If the assumptions used in calculating the provision were to materially change, such as incurring higher than anticipated warranty claims, an additional provision may be required.

Impairment of Long-Lived Assets

We review long-lived assets, including property and equipment and patents, for impairment whenever events or changes in business circumstances indicate that the carrying amount of an asset may not be fully recoverable. We will assess long-lived assets used in operations for impairment indicators, including when undiscounted cash flows estimated to be generated by those assets are less than the assets’ carrying amount (see Note 9 – “Goodwill and Intangible Assets”).

Goodwill

Goodwill represents the excess of the purchase price paid over the estimated fair value of the net assets acquired and liabilities assumed in the acquisition of a business. Goodwill is not amortized, but is tested for impairment at least annually or on an interim basis if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value. We plan to perform our annual assessment of goodwill for impairment as of July 1st of each fiscal year. See Note 9 – “Goodwill and Intangible Assets” for additional information.

Stock-Based Compensation

Stock options are valued using the Black-Scholes option-pricing model, except that the valuation of certain “CEO” related stock options subject to a market condition involve the use of the Monte Carlo Simulation model. The Monte Carlo Simulation and the Black-Scholes valuation models require the input of highly subjective assumptions. The assumptions include the expected term of the option, the expected volatility of the price of our common stock, expected dividend yield and the risk-free interest rate. These estimates involve inherent uncertainties and the significant application of management’s judgment. If factors change and different assumptions are used, our stock-based compensation expense could be materially different in the future. We

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recognize compensation expense for these options on a straight-line basis over the requisite service period (see Note 14 – “Stockholders’ Equity”).

Income Taxes

Income taxes are accounted for under the liability method. Deferred income taxes are provided for temporary differences between the financial reporting and the tax basis of assets and liabilities. If we determine in the future that it is more likely than not that we will not realize all or a portion of the deferred tax assets, we will record a valuation allowance in the period the determination is made (see Note 16 – “Income Taxes”). Changes in tax rates are reflected in the tax provision as they occur.

Net (Loss) Income Per Common Share

Basic net (loss) income per common share is computed based on the weighted average number of shares of common stock outstanding during the period. Diluted net (loss) income per common share is computed based on the weighted average number of shares of common stock plus the effect of dilutive potential stock-based awards outstanding during the period using the treasury stock method. Dilutive potential stock-based awards include outstanding common stock options, time- and performance-based restricted stock units and employee stock purchase plan shares.

Business Segments

We operate and report in only one operating and reportable segment. Our chief operating decision maker does not use financial information below revenue to allocate resources.

Accounting Pronouncement Not Yet Adopted

In March 2020, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2020-04, “Reference Rate Reform (Topic 848) — Facilitation of the Effect of Reference Rate Reform on Financial Reporting” (“ASU 2020-04”), addressing the discontinuation of LIBOR, a widely used reference rate for pricing financial products. The ASU is intended to provide optional expedients and exceptions if certain criteria are met when accounting for contracts, hedging relationships and other transactions that reference LIBOR, or another reference rate expected to be discontinued because of reference rate reform. The application and adoption requirements of ASU 2020-04 are optional until December 31, 2022 and vary based on expedients elected. We have not elected any expedients to date and are currently evaluating any potential future impacts on the consolidated financial statements.

Recently Adopted Accounting Pronouncements

In December 2019, the FASB issued ASU No. 2019-12, “Income Taxes (Topic 740) — Simplifying the Accounting for Income Taxes” (“ASU 2019-12”), which is intended to simplify various aspects of the accounting for income taxes. ASU 2019-12 removes certain exceptions to the general principles in Topic 740 and also clarifies and amends existing guidance to improve consistent application. We adopted ASU 2019-12 as of January 1, 2021, and it did not have an impact on the consolidated financial statements.

In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments — Credit Losses” (“ASU 2016-13”), which introduced a new model for recognizing credit losses on financial instruments based on an estimate of the current expected credit losses. The new current expected credit losses (“CECL”) model generally calls for the immediate recognition of all expected credit losses and applies to financial instruments and other assets, including accounts receivable and other financial assets measured at amortized cost, debt securities and other financial assets. This guidance replaced the previous incurred loss model for measuring expected credit losses and requires expected losses on available-for-sale debt securities to be recognized through an allowance for credit losses rather than as reductions in the amortized cost of the securities. We adopted ASU 2016-13 as of January 1, 2020, and it did not have an impact on the consolidated financial statements at that time. In connection with the AffloVest Acquisition, it was determined that CECL did not have a material financial impact on the receivables related to the durable medical equipment channel.

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Note 4. Acquisitions

On September 8, 2021, we entered into an Asset Purchase Agreement (“AffloVest APA”) to acquire the AffloVest therapy business from International Biophysics Corporation (“IBC”). Under the terms of the AffloVest APA, we agreed to pay IBC a total of up to $100.0 million for the purchase of substantially all of the assets related to its branded high frequency chest wall oscillation vest therapy business, other than specifically identified excluded assets. We acquired AffloVest to further expand our position as a leader in treating patients with underserved chronic conditions in the home. The acquired assets included inventory, tooling, intellectual property, permits and approvals, data and records, and customer and supplier information. At closing, $80.0 million of the purchase price was paid, of which a total of $0.5 million was deposited into an escrow account at closing for purposes of satisfying certain post-closing purchase price adjustments and indemnification claims. Subsequent to closing, $0.2 million was returned to us as a result of working capital adjustments. The AffloVest acquisition was funded through a combination of cash on hand and proceeds from borrowings.

Two earn-out payments of up to $10.0 million each are potentially due to IBC under the AffloVest APA depending on the achievement of specified revenue targets, as follows:

The fair value of the earn-out as of the acquisition date was $6.4 million. The fair value of the earn-out, reflecting management’s estimate of the likelihood of achieving these targets, was determined by employing a Monte Carlo Simulation model. This amount and the current versus non-current allocation will be remeasured at the end of each reporting period until the payment requirement ends, with any adjustments reported in income from operations (see Note 18 – “Fair Value Measurements”).

On the date of AffloVest Acquisition, we allocated the assets acquired based on an estimate of their fair values. The following table summarizes the purchase price allocation:

(In millions) Allocated Fair Value

Inventories $ 1.6

Property and equipment(1) —

Intangible assets 53.5

Goodwill 31.1

Purchase price $ 86.2

The goodwill reflects expected synergies of combining the acquired products and customer information with our existing operations and is deductible for tax purposes over 15 years.

The following table reflects the allocation of purchase price to the acquired intangible assets and related estimated useful lives:

(In millions) Allocated Fair Value Estimated Useful Life

Customer relationships $ 31.0 13 years

Developed technology 13.0 11 years

Tradenames 9.5 Indefinite

Total intangible assets $ 53.5

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The weighted-average amortization period of the acquired intangible assets was 12.3 years.

The fair market valuations associated with the assets acquired fall within Level 3 of the fair value hierarchy, due to the use of significant unobservable inputs to determine fair value. The fair value measurements were calculated using unobservable inputs, primarily using the income approach, specifically the discounted cash flow method. The amount and timing of future cash flows within our analysis was based on our due diligence models, most recent operational budgets, long-range strategic plans and other estimates.

Transaction costs, such as legal and other costs, related to the acquisition aggregated approximately $0.8 million. These costs have been expensed as incurred and are included in reimbursement, general and administrative expenses in our Consolidated Statements of Operations.

The Consolidated Statements of Operations reflect the AffloVest operations beginning September 9, 2021. As the AffloVest business has been integrated with our existing operations, we are unable to determine the amount of AffloVest earnings from the acquisition date that’s included in the Consolidated Statements of Operations. The following unaudited pro forma information for the years ended December 31, 2021 and 2020 presents the revenues and net income assuming the acquisition of AffloVest had occurred as of January 1, 2020. This information has been prepared for comparative purposes only and is not indicative of what actual results would have been if the acquisition had taken place at the beginning of fiscal 2020, or of future results.

Year Ended

December 31,

These pro forma results include certain adjustments, primarily due to increases in amortization expense due to fair value adjustments of intangible assets, increases in interest expense due to additional borrowings incurred to finance the acquisition and amortization of debt issuance costs incurred to finance the transaction, acquisition related costs including transaction costs such as legal, accounting, valuation and other professional services, and related tax effects.

Note 5. Marketable Securities

There were no investments in marketable securities at December 31, 2021 and 2020.

There were no net pre-tax unrealized gains for marketable securities at December 31, 2021. There were no sales of marketable securities during the year ended December 31, 2021.

There were no marketable securities in an unrealized loss position at December 31, 2021 and 2020.

Note 6. Accounts Receivable

We had accounts receivable from two insurers representing approximately 33% and 24% of accounts receivable as of December 31, 2021. We had accounts receivable from two insurers representing approximately 37% and 22% of accounts receivable as of December 31, 2020. Revenue from these insurers accounted for 17% and 12% of our total revenue for the year ended December 31, 2021, and 16% and 10% for the year ended December 31, 2020. The credit risks associated with customers which for these purposes are insurers considers aggregation for entities that are known to be under common control.

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Note 7. Inventories

Inventories consisted of the following:

At December 31,

Component parts and work-in-process 10,975 11,434

Note 8. Property and Equipment

Property and equipment consisted of the following:

At December 31,

Construction in progress 1,003 778

Demonstration equipment 632 632

Less: accumulated depreciation (9,043) (7,376)

Property and equipment, net $ 6,750 $ 6,957

Depreciation expense was $2.3 million, $2.4 million and $3.0 million for the years ended December 31, 2021, 2020 and 2019, respectively.

Note 9. Goodwill and Intangible Assets

Goodwill

In the third quarter of fiscal 2021, we completed the AffloVest Acquisition. The purchase price of the AffloVest business exceeded the net acquisition-date estimated fair value amounts of the identifiable assets acquired and the liabilities assumed by $31.1 million, which was assigned to goodwill.

Intangible Assets

Our patents and other intangible assets are summarized as follows:

Weighted- At December 31, 2021

Average Gross

Amortization Carrying Accumulated Net

(In thousands) Period Amount Amortization Amount

Definite-lived intangible assets:

Defensive intangible assets 3 years 1,125 592 533

Customer accounts 1 year 125 89 36

Unamortized intangible assets:

Patents pending 565 — 565

TCMD US Equity

TCMD · 10-K · period ended 2021-12-31

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

Item 8. Financial Statements and Supplementary Data.

TCMD US Equity☆

TCMD · 10-K · period ended 2021-12-31

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

Item 8. Financial Statements and Supplementary Data.

TCMD US Equity