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(Exact name of registrant
as specified in its charter)
iDelaware
i77-0701774
(State
or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
i505 S. Friendswood Drive, iSuite
401, iFriendswood, iTexas
i77546
(Address
of principal executive offices)
(Zip Code)
(i866) i788-9007
(Registrant’s telephone number, including area code)
Securities
registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
iCommon Stock, $0.001 par value per share
iCSTL
iThe
Nasdaq Global Market
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. iYes
☒No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). iYes ☒No ☐
Indicate
by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of ‘‘large accelerated filer,’’ ‘‘accelerated filer,’’ ‘‘smaller reporting company,’’ and ‘‘emerging growth company’’ in Rule 12b-2 of the Exchange Act.
iLarge
accelerated filer
☒
Accelerated filer
☐
Non-accelerated filer
☐
Smaller reporting company
i☒
Emerging growth company
i☐
If
an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐No i☒
As
of August 1, 2022, there were i26,296,968 shares of common stock, $0.001 par value per share, issued and outstanding.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. iOrganization
and Description of Business
Castle Biosciences, Inc. (the ‘‘Company,’’ “we,”“us” or “our”) was incorporated in the state of Delaware on September 12, 2007. We are a commercial-stage diagnostics company focused on providing physicians and their patients with personalized, clinically actionable information to inform treatment decisions and improve health outcomes. We are based in Friendswood, Texas (a suburb of Houston, Texas) and our laboratory operations are conducted at our facilities located in Phoenix, Arizona, Pittsburgh, Pennsylvania and San Diego, California.
Impact of COVID-19 Pandemic
Since the COVID-19 pandemic began in March 2020, we have maintained uninterrupted business operations with no interruption in turnaround times for delivery of test reports,
but we have experienced declines in test report volume in certain periods, which we believe is linked to delays and/or cancellations in patient visits in response to COVID-19, resulting in reduced diagnostic biopsies and thus reduced diagnoses of cutaneous melanoma and test reports attributable to our lead product, DecisionDx®-Melanoma, a test for cutaneous melanoma. The extent to which COVID-19 may further impact our business, consolidated results of operations, consolidated financial condition and consolidated cash flows will depend on future developments, which are highly uncertain and cannot be predicted with confidence.
2. iSummary
of Significant Accounting Policies
Basis of Presentation
iOur unaudited condensed consolidated financial statements include the accounts of Castle Biosciences, Inc. and our wholly owned subsidiaries and have been prepared in conformity with accounting principles generally accepted in the United States of America (‘‘U.S. GAAP’’).iAll
intercompany accounts and transactions have been eliminated in consolidation.
Unaudited Interim Financial Information
The accompanying condensed consolidated balance sheet as of June 30, 2022; the condensed consolidated statements of operations and comprehensive loss, the condensed consolidated statements of stockholders’ equity for the three and six months ended June 30, 2022 and 2021; and the condensed consolidated statements of cash flows for the six months ended June 30, 2022 and 2021 are unaudited. The unaudited interim condensed consolidated financial statements have been prepared on the same basis as the audited annual
financial statements and, in the opinion of management, reflect all adjustments, which include only normal recurring adjustments, necessary for the fair statement of our consolidated financial position as of June 30, 2022, the results of our consolidated operations for the three and six months ended June 30, 2022 and 2021 and our consolidated cash flows for the six months ended June 30, 2022 and 2021. The financial data and other information disclosed in these notes related to the three and six months ended June 30, 2022 and 2021 are also unaudited. The results for the three and six months ended June 30,
2022 are not necessarily indicative of results to be expected for the year ending December 31, 2022, any other interim periods, or any future year or period. The balance sheet as of December 31, 2021 included herein was derived from the audited financial statements as of that date. Certain disclosures have been condensed or omitted from the unaudited interim consolidated financial statements. These unaudited condensed consolidated financial statements should be read in conjunction with our audited consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2021 filed with the Securities and Exchange Commission on February 28, 2022.
Use of Estimates
iThe
preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Significant items subject to such estimates include revenue recognition, the valuation of stock-based compensation, assessing future tax exposure and the realization of deferred tax assets, the useful lives and recoverability of long-lived assets, the valuation of acquired intangible assets, the valuation of contingent consideration and other contingent liabilities. We base these estimates on historical and anticipated results, trends, and various other assumptions that we believe are reasonable under the circumstances, including assumptions as to future events. These estimates form the basis for
making judgments about the carrying values of assets and liabilities and recorded revenues and expenses that are not readily apparent from other sources. Actual results could differ from those estimates and assumptions. We have considered the potential impact of the COVID-19 pandemic on our estimates and assumptions. The extent to which the COVID-19 pandemic may impact our estimates in future periods is uncertain and subject to change.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
Cash
and Cash Equivalents including Concentrations of Credit Risk
iCash equivalents consist of short-term, highly liquid investments with original maturities of three months or less. Our cash equivalents consist of money market funds, which are not insured by the Federal Deposit Insurance Corporation (“FDIC”), that are primarily invested in short-term U.S. government obligations.iCash
deposits at financial institutions may exceed the amount of insurance provided by the FDIC. Management believes that we are not exposed to significant credit risk on our cash deposits due to the financial position of the institutions in which deposits are held. We have not experienced any losses on our cash or cash equivalents.
Revenue Recognition
iRevenue is recognized in accordance with Financial Accounting Standards Board (‘‘FASB’’) Accounting Standards
Codification (‘‘ASC’’) Topic 606, Revenue from Contracts with Customers (‘‘ASC 606’’). In accordance with ASC 606, we follow a five-step process to recognize revenues: (1) identify the contract with the customer, (2) identify the performance obligations, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations and (5) recognize revenues when the performance obligations are satisfied. We have determined that we have a contract with the patient when the treating clinician orders the test. Our contracts generally
contain a single performance obligation, which is the delivery of the test report, and we satisfy our performance obligation at a point in time upon the delivery of the test report to the treating physician, at which point we can bill for the report. The amount of revenue recognized reflects the amount of consideration to which we expect to be entitled, or the transaction price, and considers the effects of variable consideration. See Note 3 for further details.
Accounts Receivable and Allowance for Credit Losses
iWe classify accounts receivable
balances that are expected to be paid more than one year from the consolidated balance sheet date as noncurrent assets. The estimated timing of payment utilized as a basis for classification as noncurrent is determined by analyses of historical payor-specific payment experience, adjusted for known factors that are expected to change the timing of future payments.
iWe accrue an allowance for credit losses against our accounts receivable based on management’s current estimate of amounts that will not
be collected. Management’s estimates are typically based on historical loss information adjusted for current conditions. We generally do not perform evaluations of customers’ financial condition and generally do not require collateral. Historically, our credit losses have not been significant. The allowance for credit losses was iizero/
as of June 30, 2022, and December 31, 2021. Adjustments for implicit price concessions attributable to variable consideration, as discussed above, are incorporated into the measurement of the accounts receivable balances and are not part of the allowance for credit losses./
Goodwill
iGoodwill
represents the excess of the purchase price over the fair value of the net tangible and intangible assets acquired in a business combination. In accordance with ASC Topic 350, Intangibles—Goodwill and Other, our goodwill is not amortized but is tested for impairment on an annual basis or whenever events or changes in circumstances indicate that it may be impaired. We perform annual impairment reviews of our goodwill balance during the fourth quarter of each year. We may perform a qualitative assessment to determine if it is necessary to perform a quantitative impairment test. If we determine that a quantitative impairment test is necessary, we apply the guidance in Accounting Standards Update (“ASU”) No. 2017-04, Intangibles—Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment, by comparing the fair value of the reporting unit to its carrying
value, including the goodwill. If the carrying value exceeds the fair value, we recognize an impairment loss for the amount by which the carrying value exceeds fair value, up to the total amount of goodwill allocated to the reporting unit. We did iiiino///t
incur any goodwill impairment losses in any of the periods presented./
Acquisitions
iWe assess acquisitions under ASC Topic 805, Business Combinations, (“ASC 805”) to determine whether a transaction represents the acquisition of assets or a business
combination. Under this guidance, we apply a two-step model. The first step involves a screening test where we evaluate whether substantially all of the fair value of the gross assets acquired is concentrated in a single asset or a group of similar assets. If the screening test is met, we account for the set as an asset acquisition. If the screening test is not met, we apply the second step of the model to determine if the set meets the definition of a business based on the guidance in ASC 805. If so, the transaction is treated as a business combination. Otherwise, it is treated as an asset acquisition. Asset acquisitions are accounted for by allocating the cost of the acquisition, including transaction costs, to the individual assets acquired and liabilities assumed on a relative fair value basis without recognition of goodwill. Business combinations are accounted for using the acquisition method. Under the acquisition method, goodwill is measured as a residual
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
amount equal to the fair value of the consideration transferred less the net recognized fair value of the identifiable assets acquired and the liabilities assumed, as of the acquisition date, and transaction costs are expensed as incurred.
Contingent Consideration
Under the terms of business combinations or asset acquisitions, we may be required to pay additional consideration if specified future events occur or if certain conditions are met.
In a business combination, in accordance with ASC 805, contingent consideration is recorded at fair
value as of the acquisition date and classified as liabilities or equity based on applicable U.S. GAAP. For contingent consideration classified as liabilities, we remeasure the contingent consideration at fair value each period with changes in fair value recorded in the statements of operations and comprehensive loss each period.
For contingent consideration in transactions that are not business combinations, we apply applicable U.S. GAAP. With respect to the additional consideration that may be payable in connection with the acquisitions of Cernostics, Inc. (“Cernostics”), an asset acquisition we completed on December 3, 2021, we account for the contingent consideration as a liability in accordance with ASC Topic 480, Distinguishing Liabilities from Equity (“ASC 480”), under the guidance for obligations that must
or may be settled by issuance of a variable number of shares. In accordance with ASC 480, we record the contingent consideration initially and subsequently at fair value with changes in fair value recorded in the statements of operations and comprehensive loss each period.
Contingent consideration is classified as current or noncurrent in our condensed consolidated balance sheets based on the contractual timing of future settlement. For additional information on contingent consideration, see Notes 5 and 10.
Accrued Compensation
iWe
accrue for liabilities under discretionary employee and executive bonus plans. These estimated compensation liabilities are based on progress against corporate objectives approved by our board of directors, compensation levels of eligible individuals, and target bonus percentage levels. Our board of directors reviews and evaluates the performance against these objectives and ultimately determines what discretionary payments are made. We also accrue for liabilities under employee sales incentive bonus plans with accruals based on performance achieved to date compared to established targets. As of June 30, 2022 and December 31, 2021, we accrued $i9,835,000
and $i12,071,000, respectively, for liabilities associated with these bonus plans. These amounts are classified as current or noncurrent accrued liabilities in the condensed consolidated balance sheets based on the expected timing of payment./
Comprehensive Loss
iComprehensive
loss is defined as a change in equity during a period from transactions and other events and circumstances from non-owner sources. Our comprehensive loss was the same as our reported net loss for all periods presented.
3. iRevenue
All of our revenues from contracts with
customers are associated with the provision of diagnostic and prognostic testing services. Most of our revenues are attributable to our DecisionDx®-Melanoma test for cutaneous melanoma. We also provide a test for uveal melanoma, DecisionDx®-UM, a test for patients with cutaneous squamous cell carcinoma, DecisionDx®-SCC, two tests for use in patients with suspicious pigmented lesions, MyPath® Melanoma and DiffDx®-Melanoma, and a test for patients diagnosed with Barrett’s esophagus (“BE”), the TissueCypher® Barrett’s Esophagus Assay. We also began offering a pharmacogenomics (“PGx”) testing service focused on mental health, IDgenetix®, following a business combination completed in April 2022. Information on the disaggregation of revenues is included below.
Once we satisfy our performance obligations and bill for the service, the timing of the collection of payments may vary based on the payment practices of the
third-party payor and the existence of contractually established reimbursement rates. Most of the payments for our services are made by third-party payors, including Medicare and commercial health insurance carriers. Certain contracts contain a contractual commitment of a reimbursement rate that differs from our list prices. However, absent a positive coverage policy, with or without a contractually committed reimbursement rate, with a commercial carrier or governmental program, our diagnostic tests may or may not be paid by these entities. In addition, patients do not enter into direct agreements with us that commit them to pay any portion of the cost of the tests in the event that their insurance provider declines to reimburse us. We may pursue, on a case-by-case basis, reimbursement from such patients in the form of co-payments and co-insurance, in accordance with the contractual
obligations that we have with the insurance carrier or health plan. These situations may result in a delay in the collection of payments.
The Medicare claims that are covered by policy under a Local Coverage Determination (“LCD”) or otherwise are generally paid at a rate established on Medicare’s Clinical Laboratory Fee Schedule or by the respective Medicare contractor within i30
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
days from receipt. Medicare claims that were either submitted to Medicare prior to the LCD or other coverage commencement date or are not covered but meet the definition of being medically reasonable and necessary pursuant to the controlling Section 1862(a)(1)(A) of the Social Security Act are generally appealed and may ultimately be paid at the first (termed ‘‘redetermination’’), second (termed ‘‘reconsideration’’) or third level of appeal (de novo hearing with an Administrative Law Judge (“ALJ”)). A successful appeal at any of these levels may result in prompt payment.
In the absence of LCD coverage, contractually established
reimbursements rates or other coverage, we have concluded that our contracts include variable consideration because the amounts paid by Medicare or commercial health insurance carriers may be paid at less than our standard rates or not paid at all, with such differences considered implicit price concessions. Variable consideration attributable to these price concessions is measured at the expected value using the ‘‘most likely amount’’ method under ASC 606. The amounts are determined by historical average collection rates by test type and payor category taking into consideration the range of possible outcomes, the predictive value of our past experiences, the time period of when uncertainties expect to be resolved and the amount of consideration that is susceptible to factors outside of our influence, such as the judgment and actions of third parties. Such variable consideration
is included in the transaction price only to the extent it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainties with respect to the amount are resolved. Variable consideration may be constrained and excluded from the transaction price in situations where there is no contractually agreed upon reimbursement coverage or in the absence of a predictable pattern and history of collectability with a payor. Accordingly, in such situations revenues are recognized on the basis of actual cash collections. Variable consideration for Medicare claims that are not covered by an LCD or otherwise, including those claims undergoing appeal, is deemed to be fully constrained due to factors outside our influence (e.g., judgment or actions of third parties) and the uncertainty of the amount to be received is not expected to be resolved for a long period of time. Variable consideration is evaluated each reporting period
and adjustments are recorded as increases or decreases in revenues. Included in revenues for the three months ended June 30, 2022 and 2021 were $i578,000 and $(i166,000),
respectively, of net positive (negative) revenue adjustments associated with changes in estimated variable consideration related to performance obligations satisfied in previous periods. Such amounts of variable consideration for the six months ended June 30, 2022 and 2021 were $(i300,000) and $i5,092,000,
respectively, of net (negative) positive revenue adjustments. These amounts include (i) adjustments for actual collections versus estimated amounts and (ii) cash collections and the related recognition of revenue in current period for tests delivered in prior periods due to the release of the constraint on variable consideration.
Because our contracts with customers have an expected duration of one year or less, we have elected the practical expedient in ASC 606 to not disclose information about our remaining performance obligations. Any incremental costs to obtain contracts are recorded as selling, general and administrative expense as incurred due to the short duration of our contracts.
Contract balances consisted solely of accounts receivable (both current and noncurrent) as of June 30, 2022 and December 31, 2021.
Disaggregation of Revenues
i
The table below provides the disaggregation of revenue by type (in thousands):
We rely upon reimbursements from third-party government payors (primarily Medicare) and private-payor insurance companies to collect accounts receivable related to sales of our diagnostic and prognostic tests.
Basic loss per share is computed by dividing net loss for the period by the weighted-average number of common shares outstanding during the period. Diluted loss per share reflects the additional dilution from potential issuances of common stock, such as stock issuable pursuant to the exercise of stock options or purchases under the 2019 Employee Stock Purchase Plan (“ESPP”). The treasury stock method is used to calculate the potential dilutive effect of these common stock equivalents. However, potentially dilutive shares are
excluded from the computation of diluted loss per share when their effect is antidilutive.
Because
we reported a net loss for all periods presented, all potentially dilutive securities are antidilutive and are excluded from the computation of diluted loss per share for such periods.
i
The table below provides the weighted-average number of potential common shares associated with outstanding securities not included in our calculation of diluted loss per share for the three and six months ended June 30, 2022 and 2021
because to do so would be antidilutive (in thousands):
In
addition, in connection with the acquisitions of Cernostics and AltheaDx, Inc. (“AltheaDx”), we may issue, or may be required to issue, shares of our common stock to satisfy our contingent consideration obligations, pending the outcome of certain commercial and regulatory milestones, as required by the respective definitive agreements. See Notes 5 and 10 for additional information.
5. iiAcquisitions/
Myriad
myPath, LLC
On May 28, 2021, we completed the acquisition of all of the equity of Myriad myPath, LLC, a laboratory in Salt Lake City, for a cash purchase price of $i32,500,000. Based on the guidance in ASC 805, we concluded that substantially all of the fair value of the gross assets acquired was concentrated in a single identifiable asset, the developed technology, and therefore the transaction represents an asset acquisition rather than a business combination.
Cernostics,
Inc.
On December 3, 2021, we completed the acquisition of Cernostics, which offers the TissueCypher Barrett’s Esophagus Assay for patients with BE, for total consideration of $i49,019,000, consisting of cash consideration of $i30,732,000
and contingent consideration with an acquisition date fair value of $i18,287,000. In connection with the acquisition, we recorded a receivable as of the acquisition date for the post-closing purchase price adjustment, representing the difference between actual and estimated cash and working capital. During the three months ended June 30, 2022, we received cash of $i547,000
in settlement of this receivable.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
AltheaDx, Inc.
On April 26, 2022, we completed the acquisition of i100%
of the equity interests in AltheaDx. AltheaDx offers the IDgenetix test, a PGx test focused on mental health. We believe this acquisition enables us to expand upon our existing portfolio of testing solutions in support of our growth strategy. We have concluded that the transaction represents a business combination under ASC 805. The financial results of AltheaDx have been included in our unaudited condensed consolidated financial statements since the date of the acquisition. The amount of revenue from AltheaDx included in the unaudited consolidated statements of operations from the acquisition date was not material. The loss attributable to AltheaDx included in the unaudited consolidated statements of operations from the acquisition date was approximately $i3,383,000.
This amount does not reflect transaction costs from the acquisition or the effects of the valuation allowance reduction discussed in Note 13. Transaction costs associated with the acquisition were $ii1,711,000/
for both the three and six months ended June 30, 2022 and were recognized as expenses in the unaudited condensed consolidated statements of operations and comprehensive loss.
i
The preliminary acquisition-date fair value of the consideration transferred consisted of the following (in thousands, except shares):
The fair value of the common stock issued was measured using the April 26, 2022 closing price of $i22.40
per share, as reported by the Nasdaq Global Market.
With respect to the contingent consideration, we may be required to pay up to $i75.0 million in cash and common stock in connection with the achievement of certain milestones based on 2022, 2023 and 2024 performance and expanded Medicare coverage for the IDgenetix test (the “AltheaDx Earnout Payments”). Upon achievement of each relevant milestone event, each
milestone will be paid i50% in cash and i50%
in shares of our common stock based on a price per share equal to the volume-weighted-average price of our common stock for the i20 trading days as of the applicable milestone determination date. In accordance with the terms of the definitive agreement governing the acquisition of AltheaDx, the maximum number of shares of our common stock issuable to former AltheaDx security holders may not exceed i1,271,718
shares. Therefore, taking into consideration the number of shares already issued at closing, a maximum of i507,831 additional shares of our common stock remain issuable with respect to the AltheaDx Earnout Payments. In the event a number of shares in excess of i507,831
would otherwise be issuable in connection with the AltheaDx Earnout Payments, we will issue shares up to the maximum number permitted and pay cash for the remaining portion of the obligation. See Note 10 for additional information on the measurement of the contingent consideration.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
i
The
following table summarizes the preliminary allocation of the fair values of assets acquired and liabilities assumed in the acquisition of AltheaDx at the date of acquisition (in thousands):
The intangible asset is
comprised of developed technology with an estimated useful life of i15 years and is being amortized on a straight-line basis. The goodwill, which is not expected to be deductible for income tax purposes, was primarily attributable to potential future growth opportunities and the organized workforce.
Our calculations of the consideration transferred and the purchase price allocation for the acquisition of AltheaDx are based on a preliminary valuation and are subject to revision as the valuation is finalized and additional
information about the fair value of the assets and liabilities becomes available. The primary areas that are not yet finalized are income taxes, intangible assets, contingent consideration and the resulting goodwill. The final valuation of assets acquired and liabilities assumed is expected to be completed as soon as possible, but no later than one year from the acquisition date.
Unaudited Pro Forma Financial Information
The following unaudited pro forma financial information for the three and six months ended June 30, 2022 and 2021 combines our historical financial results and the results of AltheaDx, assuming that the companies were combined as of January 1, 2021, and includes adjustments for amortization expense from the acquired
intangible assets and additional stock-based compensation expense. Nonrecurring pro forma adjustments consist of acquisition-related transaction costs of $i1,711,000 and an income tax benefit of $i1,769,000,
both assumed to have been recognized during the six months ended June 30, 2021 and therefore removed from the three and six months ended June 30, 2022. iThe following unaudited pro forma financial information (in thousands) is for informational purposes only and is not necessarily indicative of (i) the results of operations that would have been achieved if the acquisition had taken place as of January 1, 2021
or (ii) the results of operations that are expected in future periods:
Derek J. Maetzold, our President and Chief Executive Officer, and a member of our board of directors, and Daniel M. Bradbury, the Chairperson of our board of directors, each served on the board of directors of AltheaDx until the acquisition of AltheaDx was completed, were direct or indirect beneficial owners of AltheaDx securities and received consideration in the
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
transaction.
Further, Frank Stokes, our Chief Financial Officer; Tobin W. Juvenal, our Chief Commercial Officer; Kristen Oelschlager, our Chief Operating Officer and certain immediate family members of Mr. Maetzold and Ms. Oelschlager were direct or indirect beneficial owners of AltheaDx securities and received consideration in the transaction. These individuals may receive additional consideration in the form of AltheaDx Earnout Payments if the relevant commercial and regulatory milestone events occur. Our entry into the definitive agreement to acquire AltheaDx was approved by our board of directors based upon the unanimous recommendation of a special transaction committee comprised entirely of independent members of our board of directors without any financial interest in AltheaDx or any conflict of interest with respect to the acquisition of AltheaDx.
6.
iProperty and Equipment, Net
i
Property and equipment, net consisted of the following (in thousands):
Amortization
expense of intangible assets was $i2.1 million and $i3.7 million for the three and six months ended June 30,
2022, respectively. Amortization expense of intangible assets was $ii0.3/
million for each of the three and six months ended June 30, 2021.
8. iOther Accrued and Current Liabilities
i
Other
accrued liabilities consisted of the following (in thousands):
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
9. iLeases
Adoption of ASC 842
In the fourth quarter of 2021, we adopted ASU No. 2016-02, Leases (Topic 842), and ASC Topic 842, Leases
(“ASC 842”) using the modified retrospective approach with an effective date of January 1, 2021. The adoption had no effect on the condensed consolidated statements of operations and comprehensive loss for the three and six months ended June 30, 2021. Net cash (used in) provided by operating activities, investing activities or financing activities for the six months ended June 30, 2021 were also unchanged, but the presentation of certain prior period amounts within the operating activities section of the condensed consolidated statements of cash flows has been retrospectively adjusted to give effect to the adoption of ASC 842. iThe
changes are set forth in the table below (in thousands):
Effect
on Condensed Consolidated Statements of Cash Flows
OPERATING ACTIVITIES
Adjustments to reconcile net loss to net cash used in operating activities:
Operating lease assets
$
i—
$
i462
$
i462
Operating
lease liabilities
$
i—
$
(i590)
$
(i590)
Other
liabilities
$
(i128)
$
i128
$
i—
Additionally,
the condensed consolidated statement of stockholders’ equity for the three and six months ended June 30, 2021 has been retrospectively adjusted to reflect a credit to accumulated deficit of $i21,000 in connection with the adoption of ASC 842 effective January 1, 2021.
Lease Amendment
On March 11, 2022, we amended one of our
operating leases to expand rentable space in Phoenix, Arizona. We intend to use the additional space for general office and laboratory use. The term of the amended lease will begin upon the completion of certain leasehold improvements by the Phoenix landlord (the “Phoenix Commencement Date”) and continue for an initial term of i10.3 years from the Phoenix Commencement Date. Total undiscounted future minimum payment obligations as of June 30, 2022 associated with the lease amendment totaled approximately $i1.4 million.
As of June 30, 2022, we have not recorded the lease amendment on our condensed consolidated balance sheet because we do not have possession or control of the underlying asset.
Pittsburgh Lease
On April 1, 2022, we entered into a lease agreement (the “Pittsburgh Lease”) for the lease of certain office space in Pittsburgh, Pennsylvania. We intend to use such space for general office and laboratory use. The term of the Pittsburgh Lease will begin upon the completion of certain leasehold improvements by the landlord (the “Pittsburgh Commencement Date”) and continue for an initial period of i10.5
years from the Pittsburgh Commencement Date. During the first six months of the lease term, we are required to remit base rent of $i37,800 for the period. Beginning with month seven, the base rent will be $i0.6 million
per year with annual increases ultimately resulting in base rent obligations totaling $i1.5 million per year. The landlord under the Pittsburgh Lease has agreed to contribute up to $i2.5 million
towards the cost of the leasehold improvements and we will be responsible for any costs exceeding this amount. The Pittsburgh Lease also provides us a ione-time option that would terminate the lease effective at the end of the i90th
month following the Pittsburgh Commencement Date, subject to certain conditions. If exercised, we would pay an early termination fee of $i2.3 million, subject to adjustment in the event the Pittsburgh Lease is amended to adjust the base rent. The Pittsburgh Lease provides us one ifive-year
renewal option and also provides us a right of first refusal with respect to the lease of certain additional space in the same building. As of June 30, 2022, we have not recorded the Pittsburgh Lease on our condensed consolidated balance sheet because we do not have possession or control of the underlying asset.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
10.
iFair Value Measurements
i
The table below provides information, by level within the fair value hierarchy, of
our financial assets and financial liabilities that are accounted for at fair value on a recurring basis as of June 30, 2022 and December 31, 2021 (in thousands):
Quoted Prices in Active Markets for Identical Items (Level 1)
Significant Other Observable Inputs (Level 2)
Significant Unobservable Inputs (Level 3)
Total
Assets:
Money market funds(1)
$
i327,721
$
i—
$
i—
$
i327,721
Liabilities
Contingent
consideration(2)
$
i—
$
i—
$
i18,287
$
i18,287
(1)Classified
as “Cash and cash equivalents” in the condensed consolidated balance sheets.
(2)Current portion, if any, classified as “Other accrued and current liabilities” in the condensed consolidated balance sheets.
/
Contingent Consideration
In connection with our acquisition of Cernostics, we have recorded a contingent consideration liability for the additional consideration of up to $i50.0
million that may become payable based on the achievement of certain commercial milestones relating to the year ending December 31, 2022 (“Cernostics Earnout Payments”). The Cernostics Earnout Payments may be settled in cash or shares of our common stock, at our sole discretion. The portion of any Cernostics Earnout Payments that may be settled in shares of our common stock is subject to certain limitations and the aggregate number of shares that may be issued for the Cernostics Earnout Payments may not exceed i5,034,653
shares. Any Cernostics Earnout Payments in shares of our common stock will be based on the volume weighted-average price of our common stock for the i15 trading days ending December 30, 2022. If the settlement were to occur as of June 30, 2022, we would make no Cernostics Earnout Payments based on the achievement of the performance conditions to date.
In
connection with our acquisition of AltheaDx, we have also recorded a contingent consideration liability for the additional consideration of up to $i75.0 million that may become payable based on the achievement of certain commercial milestones relating to the years ending December 31, 2022, 2023, and 2024, as discussed further in Note 5. If the settlement were to occur as of June
30, 2022, we would make no AltheaDx Earnout Payments based on the achievement of the performance conditions to date.
The contingent consideration is classified as a Level 3 fair value measurement due to the use of significant unobservable inputs and a Monte Carlo simulation to determine its fair value. The Monte Carlo simulation uses projections of the commercial milestones for the applicable period as well as the corresponding targets and approximate timing of payment based on the terms of the arrangement. The analysis for the Cernostics Earnout Payments uses assumptions for expected volatility of the financial metrics and a risk-adjusted discount rate, which were i40.0%
and i20.2%, respectively, as of June 30, 2022, and i20.0%
and i16.1%, respectively, as of December 31, 2021. The assumptions for expected volatility of the financial metrics used in the analysis for the AltheaDx Earnout Payments was i36.0%
as of June 30, 2022. The risk-adjusted discount rate for years 2022, 2023, and 2024 were i6.3%, i7.4%
and i7.5%, respectively. The contingent consideration liability is remeasured at fair value at
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
each
reporting period taking into account any updated assumptions or changes in circumstances. Any changes in the fair value are recorded as gains or losses in our condensed consolidated statement of operations and comprehensive loss.
iThe following table discloses the summary of changes in the contingent consideration liability measured at fair value using Level 3 inputs as of June 30, 2022 (in thousands):
From time to time, we may be involved in legal proceedings arising in the ordinary course of business. We believe there is no threatened litigation or litigation pending that could have, individually or in the aggregate, a material adverse effect on our financial position, results of operations or cash flows.
12. iStock
Incentive Plans and Stock-Based Compensation
Stock Incentive Plans
Effective January 1, 2022, an additional i1,268,926 shares became available under our 2019 Equity Incentive Plan (the “2019 Plan”) pursuant to an automatic annual increase. As of June 30,
2022, i586,155 shares remained available for grant under the 2019 Plan.
Stock Options
i
Stock
option activity under our stock plans for the six months ended June 30, 2022 is set forth below:
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
Employee Stock Purchase Plan
The ESPP provides for certain automatic increases in the number of shares of common stock reserved for issuance, which resulted in an additional i253,785
shares becoming available under the ESPP effective January 1, 2022. During the six months ended June 30, 2022, we issued i42,332 of common stock pursuant to scheduled purchases under the ESPP. As of June 30, 2022, i850,919
shares remained available for issuance under the ESPP.
Determining Fair Value - Summary of Assumptions
We use the Black-Scholes option pricing model to estimate the fair value of each option grant on the date of grant or any other measurement date. iThe following table sets forth the assumptions used to determine the fair value of stock options:
The
fair value of our common stock is also an assumption used to determine the fair value of stock options and purchase rights under the ESPP. The fair value of our common stock is the closing price per share, as reported by the Nasdaq Global Market, on the date of grant or other relevant determination date.
Previously, because of the limited period of time our stock had been traded in an active market, we calculated expected volatility by using the historical stock prices of a group of similar companies looking back over the estimated life of the option or the ESPP purchase right and averaging the volatilities of these companies. In the third quarter of 2021, we adjusted this calculation to include our own stock price on a relative basis to the peer group in the calculation of expected volatility, as our common stock has now been traded in an active market for more than two years.
We
use the closing price of our common stock on the date of grant to determine the fair value of RSUs.
Stock-Based Compensation Expense
i
Stock-based compensation expense related to stock options, RSUs and the ESPP is included in the statements of operations and comprehensive loss as follows (in thousands):
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
For the six months ended June 30, 2022 and 2021, the weighted-average grant date fair value of options granted was $i14.07
and $i41.35 per option, respectively, and the weighted-average grant date fair value of the purchase rights granted under the ESPP was $i19.91
and $i39.26 per share, respectively. As of June 30, 2022, the total unrecognized compensation cost related to outstanding awards was $i99,493,000,
which is expected to be recognized on a straight-line basis over a weighted-average period of i3.0 years. The total unrecognized compensation cost will be adjusted for forfeitures in future periods as they occur.
13. iIncome
Taxes
In connection with our acquisition of AltheaDx, we recorded $i1,819,000 in deferred tax liabilities based on our preliminary allocation of the fair values of assets acquired and liabilities assumed. As a result of these additional deferred tax liabilities, we determined that $ii1,769,000/
of our existing valuation allowance on deferred tax assets should be reduced, which was reflected in our income tax benefit on the condensed consolidated statements of operations and comprehensive loss for the three and six months ended June 30, 2022 as a discrete item.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
You should read the following discussion and analysis of financial condition and results
of operations together with our unaudited condensed consolidated financial statements and the related notes and other financial information included in this Quarterly Report on Form 10-Q and our audited financial statements and notes thereto as of and for the years ended December 31, 2021 and 2020 and the related Management’s Discussion and Analysis of Financial Condition and Results of Operations, including the section entitled “Critical Accounting Estimates,” included in our Annual Report on Form 10-K for the year ended December 31, 2021, as filed with the Securities and Exchange Commission (the “SEC”) on February 28, 2022. Unless the context requires otherwise, references in this Quarterly Report on Form 10-Q to “Castle,”“we,”“us”
and “our” refer to Castle Biosciences, Inc.
Forward-Looking Statements
The information in this discussion contains forward-looking statements and information within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), which are subject to the “safe harbor” created by those sections. These forward-looking statements include, but are not limited to, statements concerning the impacts of COVID-19 on our business, our strategy, future operations, future financial position, future revenues, projected costs, prospects and plans and objectives of management. The words “anticipate,”“believe,”“estimate,”“expect,”“may,”“plan,”“potential,”“will,”“would” or the negative or plural of these terms or other similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words. We may not actually achieve the plans, intentions or expectations disclosed in our forward-looking statements and you should not place undue reliance on our forward-looking statements. Actual results or events could differ materially from the plans, intentions or expectations disclosed in the forward-looking statements that we make. These forward-looking statements involve risks and uncertainties that could cause our actual results to differ materially from those in the forward-looking statements, including, without limitation, the risks set forth in Part II, Item 1A., “Risk Factors” in this Quarterly Report on Form 10-Q and in our other filings with the SEC. The forward-looking
statements are applicable only as of the date on which they are made, and we do not assume any obligation to update any forward-looking statements, except as may be required by law.
Overview
Castle Biosciences is improving health through innovative tests that guide patient care. For the diseases that our portfolio of tests cover, we believe the traditional approach to developing a treatment plan for cancers and other diseases using clinical and pathology factors alone is inadequate and can be improved by incorporating the personalized information our diagnostic and prognostic (or risk stratification) tests provide.
We currently market six proprietary multi-analyte assays with algorithmic analysis designed to answer clinical
questions in dermatologic cancers, uveal melanoma (“UM”) (a rare cancer of the eye) and Barrett’s esophagus (“BE”). We also offer a proprietary pharmacogenomic (“PGx”) test to guide optimal drug treatment for patients suffering from depression, anxiety and other mental health conditions following our acquisition of AltheaDx, Inc. (“AltheaDx”) in April 2022, as discussed below. Our revenue is primarily generated by our DecisionDx®-Melanoma risk stratification test for cutaneous melanoma, a deadly skin cancer, and our DecisionDx®-UM risk stratification test for UM.
The foundation of our business is our dermatologic cancer franchise, and our lead product is DecisionDx-Melanoma, a proprietary risk stratification gene expression profile (“GEP”) test that predicts the risk of metastasis or recurrence for patients diagnosed with invasive cutaneous melanoma. In the management of melanoma, as with
nearly all diseases, treatment plans are directed by patient risk stratification. This test has two distinct, complementary clinically actionable uses. The first revolves around predicting the likelihood of having a sentinel lymph node (“SLN”) negative biopsy result so that physicians and patients can discuss the risk and benefit of undergoing the SLN biopsy (“SLNB”) surgical procedure. The second use is to inform the appropriate treatment plan during the initial five years post-diagnosis, regardless of the decision to undergo or avoid invasive SLNB surgery. In a typical year, we estimate approximately 130,000 patients are diagnosed with invasive cutaneous melanoma in the United States, representing an estimated U.S. total addressable market (“TAM”) of approximately $540 million. We launched DecisionDx-Melanoma in May 2013. Based on the substantial clinical evidence that we have developed, we have received Medicare coverage for DecisionDx-Melanoma,
which represents approximately 50% of the addressable patient population for this test.
On August 31, 2020, we commercially launched our cutaneous squamous cell carcinoma (“SCC”) proprietary GEP test, DecisionDx®‑SCC, for use in patients with one or more risk factors (also referred to as “high-risk” SCC). We estimate 20% of SCC patients, or 200,000 annually in the United States, are classified as high risk, representing an estimated U.S. TAM of approximately $820 million.
On November 2, 2020, we commercially launched our proprietary GEP test for difficult-to-diagnose melanocytic lesions, DiffDx®-Melanoma, for use in patients with a melanocytic lesion and uncertainty related to the malignancy of the lesion. We
further expanded our commercially available dermatologic portfolio in May 2021 when we acquired Myriad myPath, LLC (the “Myriad MyPath Laboratory”) from Myriad Genetics, Inc. for a cash purchase price of $32.5 million. MyPath® Melanoma is a clinically validated GEP test that addresses the same unmet clinical need as our DiffDx-Melanoma test. Today, we offer both our MyPath Melanoma test and our DiffDx-Melanoma test under an offering that we refer to as our Diagnostic GEP offering. We believe we have demonstrated that offering both tests can lead to an improvement in actionable test results for patients with difficult-to-diagnose melanocytic lesions. Of the two million suspicious pigmented lesions biopsied annually in the United States, we estimate approximately 300,000 of those present a difficult-to-diagnose melanocytic lesion, representing an estimated U.S. TAM of approximately $600 million associated
with these two tests.
In 2021, we announced the launch of our innovative pipeline initiative to develop a genomic test aimed at predicting response to systemic therapy in patients with moderate to severe psoriasis, atopic dermatitis and related inflammatory skin conditions. In the United States alone, there are approximately 18 million patients diagnosed with psoriasis and atopic dermatitis. Approximately 450,000 of these patients annually are eligible for systemic therapies. If successful, this inflammatory skin disease pipeline test has the potential to add approximately $1.9 billion to our current estimated U.S. total addressable market (“TAM”). In 2021, we initiated a 4,800 patient, prospective, multi-center clinical study to develop and validate this pipeline test and have 54 committed sites and approximately 303 patients enrolled. Based upon our current development and validation timelines, we expect to have
initial validation and development data in 2023 and to commercialize this pipeline test by the end of 2025.
In addition to our dermatologic franchise, we also market a test for patients diagnosed with UM. DecisionDx-UM is a proprietary, risk stratification GEP test that predicts the risk of metastasis for patients with UM. We believe DecisionDx-UM is the standard of care in the management of newly diagnosed UM in the majority of ocular oncology practices in the United States. We launched DecisionDx-UM in January 2010. Based on the substantial clinical evidence that we have developed, we have received Medicare coverage for DecisionDx-UM, which represents approximately 50% of the addressable patient population for this test. We estimate approximately 2,000 patients in the United States are diagnosed annually with a uveal melanoma, representing an estimated U.S. TAM of approximately $10 million.
In
December 2021, we extended our commercial portfolio of proprietary tests into the gastroenterology market through our acquisition of Cernostics, Inc. (“Cernostics”) and the TissueCypher® platform. The TissueCypher platform focuses on unlocking, in the case of the initial test for use in patients with BE, the importance of the location of the expression of proteins or lack thereof within the morphology of the disease (also known as spatialomics). This “spatialomic” information is then interpreted using artificial intelligence approaches to predict the likelihood of progression to high-grade dysplasia and/or esophageal cancer in patients with non-dysplastic, indefinite or low-grade dysplasia BE. We estimate approximately 384,000 patients annually undergo an endoscopic biopsy with a subsequent diagnosis of non-dysplastic, indefinite or low-grade dysplastic BE, representing an estimated U.S. TAM of approximately $1 billion.
On
April 26, 2022, we completed our acquisition of AltheaDx, a commercial-stage molecular diagnostics company specializing in the field of PGx testing services that are focused on mental health, and the provider of IDgenetix®, a PGx test for mental health conditions. This acquisition enables us to offer a testing solution that we believe has the potential to accelerate our impact on patient care in an area of high unmet clinical need, significantly expand our in-market estimated U.S. TAM by approximately $5 billion and offer incremental value to patients and clinicians over the standard of care trial-and-error approach. A randomized controlled trial showed that patients diagnosed with depression, who were assessed with the IDgenetix test, showed a 2.5 times improvement in remission rates compared to those who did not have their genes tested.
The number of test reports we generate
is a key indicator that we use to assess our business. A test report is generated when we receive a sample in our laboratory, and then the relevant test information is entered into our Laboratory Information Management System, the expression of the biomarkers is measured, then a proprietary algorithmic analysis of the combined biomarkers is performed to generate a report providing the results of that analysis, which is sent to the clinician who ordered the test.
The number of GEP test reports delivered by us during the six months ended June 30, 2022 and 2021
and for the year ended December 31, 2021 are presented in the table below:
(1)Includes
DiffDx-Melanoma and MyPath Melanoma. We began offering MyPath Melanoma following our acquisition of the Myriad MyPath Laboratory on May 28, 2021. We offer both MyPath Melanoma and DiffDx-Melanoma under our Diagnostic GEP offering.
(2)We began offering the TissueCypher Barrett’s Esophagus Assay on December 3, 2021, following the completion of our acquisition of Cernostics.
(3)We began offering the IDgenetix test on April 26, 2022, following our acquisition of AltheaDx. Includes both single-gene and multi-gene tests.
For the three and six months ended June 30, 2022, our dermatologic test report
volume increased by 44.1% and 54.6%, respectively, compared to the prior period in 2021, largely driven by continued growth from our DecisionDx-Melanoma test. For a discussion of how we recognize revenue derived from our tests, refer to “Net Revenues” under “Components of Results of Operations” below.
The principal focus of our current commercial efforts is to educate clinicians and pathologists on the value of our molecular diagnostic testing products through our direct sales force in the United States. During the second quarter of 2021, we expanded our dermatologic commercial team, bringing our dermatologic sales force to the mid-60s. Starting in September 2022, we plan to have a new commercial sales team dedicated to our Diagnostic GEP offering, with the current dermatologic commercial team shifting to focus solely on DecisionDx-Melanoma and DecisionDx-SCC. In connection with our acquisition of Cernostics
in December 2021, we hired an initial commercial team of approximately 14 outside sales territories, along with commensurate internal sales associates and medical science liaisons, to support our launch of the TissueCypher Barrett’s Esophagus Assay. This dedicated team focuses on gastroenterology specialists that diagnose and manage patients with BE. Beginning in September 2022, we plan to add additional outside territories for our TissueCypher Barrett’s Esophagus Assay. Similar to our dermatologic commercial team, we will continue to assess market response in determining further commercial expansions. AltheaDx, which we acquired in late April 2022, had a commercial team covering approximately 20 outside sales territories.
We continue to see new clinicians order our dermatologic tests for the first time. For the three months ended June 30, 2022, we saw 608 new ordering clinicians
for our dermatologic tests compared to 462 during the same period of 2021. For the six months ended June 30, 2022 and 2021, we saw 1,200 and 872, respectively, new ordering clinicians for our dermatologic tests. Total ordering clinicians for our dermatologic tests were 5,661 and 3,879 for the six months ended June 30, 2022 and 2021, respectively, and 2,032 and 1,423 for the three months ended June 30, 2022 and 2021, respectively.
For additional information on the metrics we disclose, refer to “Information About Certain Metrics” below.
In developing our DecisionDx-SCC and DiffDx-Melanoma
tests, we believed that in addition to addressing significant unmet clinical needs, we would see strategic opportunities for leverage, as many of the clinicians currently ordering DecisionDx-
Melanoma would likely be the same clinicians who would find value in these other dermatologic GEP tests. For example, we found that for the six months ended June 30, 2022, approximately 68% of all clinicians ordering DecisionDx-SCC had also ordered our DecisionDx-Melanoma test during that same period.
We bill third-party payors and patients for the tests we perform. The majority
of our revenue collections is paid by third-party insurers, including Medicare. We have received local coverage determinations (“LCDs”), which provide coverage for our DecisionDx-Melanoma, MyPath Melanoma, DecisionDx-UM and IDgenetix tests that meet certain criteria for Medicare and Medicare Advantage beneficiaries, representing approximately 60 million covered lives. In 2022, DecisionDx-UM received coverage from United Healthcare that represents approximately 43 million covered lives. A ‘‘covered life’’ means a subscriber, or a dependent of a subscriber, who is insured under an insurance carrier’s policy. The TissueCypher Barrett’s Esophagus Assay is paid by Medicare at the rate published on Medicare’s Clinical Laboratory Fee Schedule (“CLFS”) for the test. Effective March 24, 2022, we received Advanced Diagnostic Laboratory Test (“ADLT”) status for our TissueCypher test, as discussed further below.
ADLT status exempts TissueCypher from what is called the “14-day rule,” which simplifies the billing process for Medicare patients.
Palmetto GBA MolDX (“Palmetto”), the Medicare Administrative Contractor (“MAC”) responsible for administering MolDX, the program that assesses molecular diagnostic technologies, issued a final expanded LCD for DecisionDx-Melanoma, effective November 22, 2020. With this expanded LCD and the accompanying billing and coding articles, we estimate that a significant majority of the DecisionDx-Melanoma tests performed for Medicare patients will meet the coverage criteria. Noridian Healthcare Solutions, LLC (“Noridian”), the MAC responsible for administering claims for laboratory services performed in Arizona, has adopted the same coverage policy as Palmetto and also issued an expanded final LCD for DecisionDx-Melanoma, effective
December 6, 2020.
In the second quarter of 2021, Palmetto and the other MACs that participate in the MolDX program each released a revised draft LCD for DecisionDx-Melanoma. The draft LCD included commentary about two publications regarding the clinical utility of GEP tests and included an assessment stating that the new data is not sufficient to change the coverage criteria. There was an open public comment period, and we submitted comments in support of Medicare coverage. The comment period ended on August 8, 2021. Palmetto issued a final LCD on May 19, 2022 with Noridian issuing the same on June 16, 2022. The final LCDs did not result in any change in coverage.
Separately, Palmetto
issued a final LCD for DecisionDx-UM, which became effective in July 2017, and Noridian issued a similar LCD that became effective in September 2017. Noridian’s LCD provides for coverage to determine metastatic risk in connection with the management of a patient’s newly diagnosed UM and to guide surveillance and referral to medical oncology for those patients.
On May 17, 2019, the Centers for Medicare & Medicaid Services (“CMS”) determined that DecisionDx-UM meets the criteria for “existing ADLT” status. Since 2021, our rate is set annually based upon the median private payor rate for the first half of the second preceding calendar year. Our rate for 2022 continues to be at $7,776, based on the calculation of the median private payor rate.
Also, on May 17, 2019,
CMS determined that DecisionDx-Melanoma meets the criteria for “new ADLT” status. Initially, the Medicare reimbursement rate was equal to the initial list price of $7,193. Since 2022, the rate is set annually based upon the median private payor rate for the first half of the second preceding calendar year. Our rate for 2022 continues to be $7,193, based on the median private payor rate.
MyPath Melanoma is currently covered under a MolDX LCD policy through Noridian, which oversees laboratories in both Utah and Arizona. Noridian issued an LCD that became effective in June 2019. On September 6, 2019, MyPath Melanoma was approved as a new ADLT. The rate for 2022 is $1,950, based on the median private payor rate.
Beginning in 2023, the rates for DecisionDx-Melanoma, DecisionDx-UM, and MyPath Melanoma tests will be set annually
based upon the median private payor rate for the first half of the second preceding calendar year. For example, the rate for 2023 will be set using median private payor rate data from January 1, 2021 to June 30, 2021.
Our TissueCypher test is processed in our Pittsburgh, Pennsylvania laboratory and falls under the Medicare jurisdiction that is managed by Novitas Solutions (“Novitas”). Novitas previously reviewed TissueCypher and we are receiving payments for claims according to the CLFS. For 2022, CMS published in its CLFS a payment rate of $2,513 for the test. On March 24, 2022, CMS determined that TissueCypher meets the criteria for “new ADLT” status. From April 1, 2022 through December
31, 2022, CMS has set the initial period rate equal to the original list price of $2,350, subject to the possible recoupment provision described below. Effective January 1, 2023, the rate will be based on the median private payor rates received between April 1, 2022 and August 31, 2022. However, for TissueCypher tests reported for April 1, 2022 through December 31, 2022, CMS has the right to recoup the difference between the actual list price and 130% of the weighted-median if the original list price is greater than 130% of the weighted-median of private payor rates.
IDgenetix is currently covered under an LCD policy through MolDX and an accompanying billing and coding article through Noridian, which oversees laboratories in California. The Medicare coverage includes depression and was recently expanded for the following seven additional mental health conditions beyond major depressive disorder: schizophrenia, bipolar disorder, anxiety disorders, panic disorder, obsessive-compulsive personality disorder, post-traumatic stress disorder and attention deficit hyperactivity disorder. The IDgenetix multi-gene panel is currently reimbursed by Medicare at approximately $1,500.
In the second quarter of 2020, we submitted our technical assessment dossier for DecisionDx-SCC to Palmetto and Noridian. The dossier was accepted as complete in the third quarter of 2020. In early 2021, we submitted our technical assessment dossier for
DiffDx-Melanoma. The dossier was accepted as complete in the first quarter of 2021. In June 2022, Palmetto and Noridian each posted a draft LCD that would provide coverage criteria for DiffDx-Melanoma. We believe the LCD for DiffDx-Melanoma will be finalized by the end of the second quarter of 2023. However, there is no assurance that any draft or final LCD will match our expectations, be posted in a timeframe consistent with our historical experience or will be posted at all. Regarding DecisionDx-SCC, no draft LCD has been posted by Palmetto or Noridian to date.
In the second quarter of 2022, following the completion of a requested medical review and pricing of our DecisionDx-SCC test by Novitas, we have been receiving reimbursement from Novitas on DecisionDx-SCC at a rate of approximately $3,800 per test. On June 9, 2022, Novitas posted a draft oncology biomarker LCD that
proposes to rely upon evidentiary reviews sourced from three databases: ClinGen, OncoKB and National Comprehensive Cancer Network (“NCCN”). Two of the databases do not review gene expression profile tests and NCCN has not yet, to our knowledge, reviewed DecisionDx-SCC. As such, if finalized as proposed, then DecisionDx-SCC would not be included as a covered test in the associated billing and coding article. We cannot predict whether this draft LCD will be finalized as proposed or what the timing of any final LCD might be.
Since becoming a public company, we have financed our operations with the revenue generated from the sale of our products, proceeds from our initial public offering of our common stock (our “IPO”) that closed in July 2019, follow-on public offerings of common stock in June 2020 and December 2020 and bank debt, which has since been repaid in full. We believe that our existing cash and cash equivalents
and anticipated cash generated from sales of our products will be sufficient to fund our operations for the next 12 months and into the foreseeable future. However, we have based these estimates on assumptions which may prove to be wrong and could result in us depleting our capital resources sooner than expected.
Our net (loss) income may fluctuate significantly from period to period, depending on the timing of our planned development activities, the growth of our sales and marketing activities, the effects of acquisitions and the timing of revenue recognition under Accounting Standards Codification (“ASC”) Topic 606, Revenue from Contracts with Customers (“ASC 606”). We expect our expenses will increase substantially over time as we:
•execute
clinical studies to generate evidence supporting our current and future product candidates;
•execute our commercialization strategy for our current and future commercial products;
•continue our ongoing and planned development of new products in our pipeline;
•seek to discover and develop additional product candidates;
•hire additional scientific and research and development staff;
•complete acquisitions of businesses, assets, products or technologies; and
•add additional operational, financial and management information systems and personnel.
Impact
of COVID-19 Pandemic
We are continuing to closely monitor the impact of the ongoing COVID-19 pandemic on our business and taking proactive efforts designed to protect the health and safety of our workforce, continue our business operations and advance our corporate objectives. We are providing the following update with respect to the impact of COVID-19 on our business:
•We have maintained and expect to continue to maintain uninterrupted business operations, with adequate access to reagents and consumables needed for testing patient samples and normal turnaround times for our delivery of test reports. We have continued to maintain our previously implemented adjustments to our operations designed to keep employees safe and comply with federal, state and local guidelines, including those regarding social distancing.
•Following
the onset of the COVID-19 pandemic, we experienced declines in orders and test report volume in certain periods. For example, in the second quarter of 2020, test reports delivered for our lead product, DecisionDx-Melanoma, decreased 18.5% compared to the second quarter of 2019. We believe these decreases in our test report volume were linked to delays and/or cancellations in patient visits, resulting in fewer diagnostic biopsies and thus a reduction in the number of diagnoses of cutaneous melanoma in response, as well as the cumulative impact on
promotional responsiveness as a result of reduced sales calls per day and in-person sales calls during the ongoing
COVID-19 pandemic.
•Our commercial team uses a combination of in-person, virtual and non-personal promotional and educational efforts. Since the beginning of 2021, we have seen improvements in the number of promotional calls per day, as well as a continued shift from virtual to in-person sales calls. During the three months ended June 30, 2022 and 2021, in-person sales calls accounted for over 99% and 90% of all calls during such periods, respectively.
•Our future results will be dependent upon the extent and duration of the COVID-19 crisis, including the emergence and spread of variants of the virus, and government restrictions, which are beyond our control. Although state and local government restrictions put in place to slow the
spread of the virus have been eased in most locations, restrictions may be reinstated from time to time in various regions depending on the circumstances, potentially impacting the flow of future patient visits as well as access to our sales targets. Even with the easing of state and local restrictions and the availability of vaccinations, patient visits and diagnoses of the diseases covered by our diagnostic and prognostic tests may be impacted by continued apprehension regarding possible exposure to the virus as well as a general shift from in-person clinical visits to telehealth approaches, which may result in missed or delayed diagnoses of skin cancer and other diseases.
As conditions are evolving, we are unable to predict how our future test report volume will be impacted, or the extent to which our results of operations, financial condition or cash flows will be impacted, by the ongoing COVID-19 pandemic or other future
public health crises. Accordingly, the test report data presented above is not necessarily indicative of our results of operations that can be expected for future periods. For more information on the potential impact of the ongoing COVID-19 pandemic on our business, see the risk factors included under “Risks Related to Our Business” and the other risk factors included in Part II, Item 1A., “Risk Factors” in this Quarterly Report on Form 10-Q.
Factors affecting our performance
We believe there are several important factors that have impacted, and that we expect will continue to impact, our operating performance and results of operations, including:
•Report volume. We
believe that the number of reports we deliver to physicians is an important indicator of the growth of adoption among the healthcare provider community. Our revenue and costs are affected by the volume of testing and mix of customers. Our performance depends on our ability to retain and broaden adoption with existing prescribing physicians, as well as attract new physicians. Our report volume could be negatively impacted by developments related to the ongoing COVID-19 pandemic or other future public health crises, as discussed above.
•Reimbursement. We believe that expanding reimbursement is an important indicator of the value of our products. Payors require extensive evidence of clinical utility, clinical validity, patient outcomes and health economic benefits in order to provide reimbursement. Our revenue depends on our ability to demonstrate the value of our diagnostic and
prognostic tests to these payors.
•Gross margin. We believe that our gross margin is an important indicator of the operating performance of our business. Higher gross margins reflect the average selling price of our tests, as well as the operating efficiency of our laboratory operations.
•New product development. A significant aspect of our business is our investment in research and development activities, including activities related to the development of new products. In addition to the development of new product candidates, we believe these studies are critical to gaining physician adoption of new products and driving favorable coverage decisions by payors for such products.
Information
About Certain Metrics
The following provides additional information about certain metrics we have disclosed in this Management’s Discussion and Analysis of Financial Condition and Results of Operation.
Test reports delivered for DecisionDx-Melanoma, DecisionDx-SCC, MyPath Melanoma/DiffDx-Melanoma, DecisionDx-UM, TissueCypher and IDgenetix represents the number of completed test reports delivered by us during the reporting period indicated. The period in which a test report is delivered does not necessarily correspond with the period the related revenue, if any, is recognized, due to the timing and amount of adjustments for variable consideration under ASC 606. We use this metric to evaluate the growth in adoption of our tests and to measure against our internal performance objectives. We believe this metric is useful to investors in evaluating the volume of our business activity
from period-to-period that may not be discernible from our reported revenues under ASC 606. We also sometimes present, on a limited basis, data on the number of orders received. We believe order data can provide additional insight on current demand trends, particularly during the ongoing COVID-19 pandemic and with respect to new product launches, when considered in conjunction with test report volume.
However, orders received in a particular period do not necessarily correspond with actual delivered test reports or reported revenues for the same period or subsequent periods.
New ordering clinicians for our dermatologic
tests represents the number of clinicians who ordered a dermatologic test from us for the first time during the reporting period specified. Our dermatologic tests consist of DecisionDx-Melanoma, DecisionDx-SCC, MyPath Melanoma and DiffDx-Melanoma. We believe this metric is useful in evaluating the effectiveness of our sales and marketing efforts in establishing new relationships with clinicians and increasing the adoption of our suite of dermatologic tests. We also believe this metric provides useful information to investors in assessing our ability to expand the use of our dermatologic tests. Since this metric is based upon the reporting period in which an order is placed, it does not necessarily correspond to the reporting period in which either a test report was delivered or revenue was recognized.
Components
of the Results of Operations
Net Revenues
We generate revenues from the sale of our products. Currently, our revenues are primarily derived from the sale of DecisionDx-Melanoma and DecisionDx-UM. We bill third-party payors and patients for the tests we perform.
Under ASC 606, we recognize revenue at the amount we expect to be entitled, subject to a constraint for variable consideration, in the period in which our tests are delivered to the treating physicians. We have determined that our contracts contain variable consideration under ASC 606 because the amounts paid by third-party payors may be paid at less than our standard rates or not paid at all, with such differences considered implicit price concessions. Variable consideration is recognized
only to the extent it is probable that a significant reversal of revenue will not occur in future periods when the uncertainties are resolved. Variable consideration is evaluated each reporting period and adjustments are recorded as increases or decreases in revenues. Variable consideration for Medicare claims that are not covered by an LCD or otherwise, including those claims undergoing appeal, is deemed to be fully constrained due to factors outside our influence (e.g., judgment or actions of third parties) and the uncertainty of the amount to be received is not expected to be resolved for a long period of time. For these fully constrained claims, we generally recognize revenue in the period the uncertainty is favorably resolved, if at all. Due to potential future changes in Medicare coverage policies and appeal cycles, insurance coverage policies, contractual rates and other trends in the reimbursement of our tests, our revenues may fluctuate significantly from period
to period. Our ability to recognize revenue for a test is dependent on the development of reimbursement experience and obtaining coverage decisions. For tests with limited reimbursement experience or no coverage, we recognize revenues on the basis of actual cash collections.
Our ability to increase our revenues will depend on our ability to further penetrate our target markets, and, in particular, generate sales through our direct sales force, develop and commercialize additional tests, including through acquisitions, obtain reimbursement from additional third-party payors and increase our reimbursement rate for tests performed.
Cost of Sales (exclusive of amortization of acquired intangible assets)
The components of our cost of sales are material and service costs associated with testing samples, personnel costs (including salaries,
bonuses, benefits and stock-based compensation expense), electronic medical record set up costs, order and delivery systems, shipping charges to transport samples, third-party test fees, and allocated overhead including rent, information technology costs, equipment and facilities depreciation and utilities. Costs associated with testing samples are recorded when the test is processed regardless of whether and when revenues are recognized with respect to that test. As a result, our cost of sales as a percentage of revenues may vary significantly from period to period because we do not recognize all revenues in the period in which the associated costs are incurred. We expect cost of sales in absolute dollars to increase as the number of tests we perform increases. Additionally, we expect cost of sales to increase with the expansion of laboratory capacity and staffing in advance of the anticipated growth of our recently launched tests and tests acquired through acquisitions.
Gross
margin and gross margin percentage are key indicators we use to assess our business. See the tables in “Results of Operations—Comparison of the three months ended June 30, 2022 and 2021” and “Results of Operations—Comparison of the six months ended June 30, 2022 and 2021” for details.
Research and Development
Research and development expenses include costs incurred to develop our diagnostic and prognostic tests, collect clinical samples and conduct clinical studies to develop and support our products. These costs consist of personnel costs (including salaries, bonuses, benefits and stock-based compensation expense), prototype materials, laboratory supplies, consulting
costs, regulatory costs, electronic medical records set up costs, costs associated with setting up and conducting clinical studies and allocated overhead, including rent, information technology, equipment depreciation and utilities. We expense all research and development costs in the periods in which they are incurred. We expect our research and development expenses to increase in absolute dollars as we continue to invest in research and development activities related to developing enhanced and new products.
We expect to use a portion of our cash and cash equivalents to further support and accelerate our research and development activities, including two
important studies that are underway to support our DecisionDx-Melanoma test. The first is the CONNECTION study, which is collecting long-term outcomes for up to 10,000 patients who have been tested with DecisionDx-Melanoma. The second is the DECIDE study, which is designed to determine the association of GEP test results with SLNB surgical decisions in patients eligible for SLNB as well as to track outcomes for patients who did and did not undergo SLNB. Also, as noted above, in 2021, we initiated our 4,800 patient, prospective, multi-center clinical study to develop, validate and bring to market a pipeline test aimed at predicting response to systemic therapy in patients with moderate to severe psoriasis, atopic dermatitis and related inflammatory skin conditions. We have also initiated two additional disease studies for pipeline tests for new indications.
We previously funded the PERSONALize study, which was evaluating the
use of DecisionDx-Melanoma in patients eligible for adjuvant therapy. Other of our sponsored studies are designed to provide risk stratification analyses within various subgroups. These studies have shown statistically and clinically significant risk stratification separation. Based upon this currently available and anticipated future data, we have decided to close the PERSONALize study.
Selling, General and Administrative
Selling, general and administrative (“SG&A”) expenses include executive, selling and marketing, legal, finance and accounting, human resources, billing and client services. These expenses consist of personnel costs (including salaries, bonuses, benefits and stock-based compensation expense), direct marketing expenses, audit and legal expenses, consulting costs, training and medical education activities, payor outreach programs and allocated overhead,
including rent, information technology, equipment depreciation, and utilities. We expect continued increases in SG&A expenses related to compliance with the rules and regulations of the SEC and The Nasdaq Stock Market LLC (“Nasdaq”). Other administrative and professional services expenses within SG&A are expected to increase with the scale of our business, but selling and marketing-related expenses are expected to increase significantly, consistent with our growth strategy.
Amortization of Acquired Intangible Assets
Amortization of acquired intangible assets are primarily associated with developed technology obtained through acquisitions, such as our acquisitions of the Myriad MyPath Laboratory in May 2021, Cernostics in December 2021 and AltheaDx in April 2022.
Change in Fair Value of Contingent Consideration
Change
in fair value of contingent consideration is associated with our acquisitions of Cernostics and AltheaDx and the related additional consideration of up to $50.0 million and $75.0 million, respectively, that may become payable based on the achievement of certain commercial milestones relating to the year ending December 31, 2022 in the case of Cernostics, and the years ending December 31, 2022, 2023 and 2024, in the case of AltheaDx (collectively, the “Earnout Payments”).
Interest Income
Interest income consists primarily of earnings on cash and cash equivalents, primarily money market funds.
Interest Expense
Interest
expense is primarily attributable to finance leases.
Income Tax (Benefit) Expense
In connection with our acquisition of AltheaDx in April 2022, and taking into consideration the additional deferred tax liabilities resulting from such acquisition, we determined that a portion of our valuation allowance should be reduced, which is reflected in our income tax benefit for the three and six months ended June 30, 2022. Our consolidated financial statements do not reflect any federal or state income tax benefits attributable to the pre-tax losses we have incurred, due to the uncertainty of realizing a benefit from those items. As of December 31, 2021, we had federal net operating loss carryforwards of $99.4 million, of which $43.5 million will begin to expire in 2030 if not utilized to offset
federal taxable income, and $55.9 million may be carried forward indefinitely. Also, as of December 31, 2021, we had state net operating loss carryforwards of $67.5 million, which begin to expire in 2028 if not utilized to offset state taxable income.
Cost
of sales (exclusive of amortization of acquired intangible assets)
$
897
$
415
$
482
Research and development
1,831
1,073
758
Selling, general and administrative
6,055
3,278
2,777
Total
stock-based compensation expense
$
8,783
$
4,766
$
4,017
Net Revenues
Net revenues for the three months ended June 30, 2022 increased by $12.1 million, or 53.1%, to $34.8 million compared to the three months ended June 30, 2021, primarily due
to a $11.5 million increase in revenue from our dermatologic tests, primarily DecisionDx-Melanoma and DecisionDx-SCC. The increase in dermatologic revenue was primarily attributable to a 44.1% increase in test volumes, with higher test reports delivered across each of our dermatologic offerings, due to a combination of the effects of our dermatologic sales force expansion during the second quarter of 2021 and increased patient flow potentially attributable to the easing of COVID-19 restrictions. The higher revenues also reflect Medicare payments on DecisionDx-SCC, as discussed above, and the effect of higher positive (negative) revenue adjustments related to tests delivered in previous periods, associated with changes in estimated variable consideration, which were $0.6 million for the three months ended June 30, 2022 compared to $(0.2) million for the three months ended June
30, 2021. The increase in revenue from our other tests (non-dermatologic) of $0.6 million was primarily attributable to our acquisitions of Cernostics in December 2021 and AltheaDx in April 2022.
Cost of Sales (exclusive of amortization of acquired intangible assets)
Cost of sales (exclusive of amortization of acquired intangible assets) for the three months ended June 30, 2022 increased by $4.0 million, or 107.9%, compared to the three months ended June 30, 2021, primarily due to higher personnel costs and increased costs of supplies and third-party services. Personnel costs have increased with additions in headcount in our laboratory testing operations, including
headcount attributable to our acquisitions of Cernostics and AltheaDx. The increased personnel costs also reflect higher salaries and wages for existing employees. Supply and services expense have increased due to higher laboratory activity, which is attributable to higher test volumes. Due to the nature of our business, a significant portion of our cost of sales expenses represents fixed costs associated with our testing operations. Accordingly, our cost of sales expense will not necessarily increase or decrease commensurately with the change in net revenues from period to period. We expect our cost of sales expenses (exclusive of amortization of acquired intangible assets) to continue to increase in future periods as we hire additional laboratory personnel and related resources to support our expected growth in volume for our dermatologic, gastrointestinal, mental health and pipeline tests.
Gross
Margin
Our gross margin percentage was 71.9% for the three months ended June 30, 2022, compared to 82.6% for the same period in 2021. The decrease was primarily due to this year’s additional investments in laboratory headcount, higher salaries and wages,
and higher amortization expense associated with our acquired intangible assets. In the near term, we expect that our gross margin percentage will decline, compared to prior periods, as we invest in additional laboratory personnel and related resources to support the anticipated growth in our test report volumes
in advance of obtaining reimbursement coverage. Additionally, our gross margin percentage will continue to be negatively impacted by amortization of intangible assets associated with recent acquisitions.
Research and Development
Research and development expenses increased by $5.1 million, or 75.6%, for the three months ended June 30, 2022, compared to the three months ended June 30, 2021. Approximately 50.1% of the increase is attributable to higher personnel costs, primarily due to expansions in headcount in support of our growth, higher salaries and wages, and higher stock-based compensation expense, and approximately 23.6% is attributable to higher costs for
clinical studies, including costs related to the PERSONALize, CONNECTION and DECIDE studies. In the second quarter of 2022, we decided to close our PERSONALize study. The remainder of the increase is primarily associated with higher costs incurred for outside legal fees. We expect to continue to increase our research and development expenses as we fund ongoing evidence development for our existing products as well as additional pipeline programs.
Selling, General and Administrative
The following table provides a breakdown of SG&A expenses (in thousands):
Sales and marketing expenses increased by $9.7 million, or 81.8%, for the three months ended
June 30, 2022, compared to three months ended June 30, 2021. Approximately $5.2 million, or 53.6%, of the increase is attributable to higher personnel costs including salaries, bonuses and stock-based compensation. Personnel costs have increased through the expansion of our dermatology-facing commercial team headcount to the mid-60s in the second quarter of 2021 and through our acquisitions of Cernostics in December 2021 and AltheaDx in April 2022. Following our acquisition of Cernostics in December 2021, we hired an initial commercial team of approximately 14 outside sales territories, along with commensurate internal sales associates and other personnel, to support our launch of the TissueCypher Barrett’s Esophagus Assay and to serve as a dedicated team focused on gastroenterology specialists that diagnose and manage patients with BE. Through our acquisition of AltheaDx,
we added a commercial team of approximately 20 outside sales territories to support our launch of the IDgenetix test. In addition to increases through sales force expansion, higher personnel costs also reflect salary increases for members of our existing sales force. The remainder of the increase in sales and marketing expenses was primarily associated with training events, meetings, travel and other general increases. The higher expenses for training events and travel reflect an increase in our sales and commercial operations related to our expanded headcount and expanded test offerings, as well a return to more in-person activities resulting from the continued easing of COVID-19 restrictions. Stock-based compensation expense included in sales and marketing expense was $2.9 million for the three months ended June 30, 2022, compared to $1.5 million for the three months ended June
30, 2021.We expect sales and marketing expenses to increase in future periods as we intend to expand our outside sales territories and sales force further during 2022, as discussed under “Overview” above.
General and administrative expenses increased by $7.0 million, or 77.7%, for the three months ended June 30, 2022, compared to three months ended June 30, 2021. The increase is primarily attributable to $3.6 million in higher personnel costs including salaries, bonuses and stock-based compensation. The higher personnel costs reflect expanded headcount in our administrative support functions, including that related to the acquisitions of Cernostics and AltheaDx, as well as higher rates of pay. Stock-based compensation expense included in general and administrative expense was $3.2 million for the three months ended
June 30, 2022, compared to $1.8 million for the three months ended June 30, 2021. Furthermore, we incurred $1.7 million of transaction costs associated with our acquisition of AltheaDx. The remainder of the increase in general and administrative expenses was primarily associated with professional fees and other general increases.
Amortization of Acquired Intangible Assets
Amortization of acquired intangible assets increased by $1.8 million for the three months ended June 30, 2022, compared to the three months ended June 30, 2021. The increase is primarily associated
with amortization of developed technology attributable
to the acquisitions of the Myriad MyPath Laboratory, Cernostics, and AltheaDx in May 2021, December 2021 and April 2022, respectively.
Change in Fair Value of Contingent Consideration
The change in fair value of contingent consideration for the three months ended June 30, 2022 of $20.4 million, a net gain, is primarily related to the remeasurement
of the Earnout Payments associated with our acquisition of Cernostics and reflects changes in management’s projections regarding attainment of certain commercial milestones. There was no such activity during the three months ended June 30, 2021.
Interest Income
Interest income increased by $0.3 million for the three months ended June 30, 2022, compared to the three months ended June 30, 2021, primarily as a result of higher interest rates.
Income
Tax (Benefit) Expense
Our income tax benefit was $2.0 million for the three months ended June 30, 2022 and was primarily attributable to a reduction of $1.8 million in our valuation allowance on net deferred tax assets resulting from our acquisition of AltheaDx in April 2022. Specifically, we took into consideration the additional deferred tax liabilities resulting from the acquisition and determined that a portion of our existing valuation allowance should be reduced. Other than this item, we recorded minimal amounts in income tax benefit because in both the three months ended June 30, 2022 and 2021, the income tax benefit of the pre-tax loss was largely offset by corresponding changes in the valuation allowance on net deferred tax assets, as we have determined that it is more
likely than not that these benefits will not be realized.
Stock-Based Compensation Expense
Stock-based compensation expense, which is allocated among cost of sales, research and development expense and SG&A expense, totaled $8.8 million for the three months ended June 30, 2022, compared to $4.8 million for the three months ended June 30, 2021. We expect material increases in stock-based compensation expense in future periods, reflecting mainly higher awards outstanding due to growth in our headcount. As of June 30, 2022, we had 482 employees compared to 292 as of June
30, 2021. As of June 30, 2022, the total unrecognized stock-based compensation cost related to outstanding awards was $99.5 million, which is expected to be recognized on a straight-line basis over a weighted-average period of 3.0 years. We expect to continue granting stock-based compensation awards, which we expect to further contribute to increases in stock-based compensation expense in future periods.
Cost
of sales (exclusive of amortization of acquired intangible assets)
$
1,750
$
925
$
825
Research and development
3,659
2,131
1,528
Selling, general and administrative
11,793
6,623
5,170
Total
stock-based compensation expense
$
17,202
$
9,679
$
7,523
Net Revenues
Net revenues for the six months ended June
30, 2022 increased by $16.1 million, or 35.4%, to $34.8 million compared to the six months ended June 30, 2021, primarily due to a $14.9 million increase in revenue from our dermatologic tests, primarily DecisionDx-Melanoma and DecisionDx-SCC, and to a lesser extent, a $1.2 million increase in revenue from our other tests (non-dermatologic). The increase in dermatologic revenue was primarily attributable to a 54.6% increase in test volumes, with higher test reports delivered across each of our dermatologic offerings, due to a combination of the effects of our dermatologic sales force expansion during the second quarter of 2021 and increased patient flow potentially attributable to the easing of COVID-19 restrictions. The higher revenues also reflect Medicare payments on DecisionDx-SCC, as discussed above. The higher volumes were partially offset by the effect of lower positive (negative) revenue adjustments related
to tests delivered in previous periods, associated with changes in estimated variable consideration, which were $(0.3) million for the six months ended June 30, 2022 compared to $5.1 million for the six months ended June 30, 2021. The year-over-year decrease is primarily attributable to the effect of favorable adjustments related to the settlement and collection during the six months ended June 30, 2021 of certain groups of receivables from prior years that did not recur during the six months ended June 30, 2022. The increase in revenue from our other tests (non-dermatologic) of $1.2 million was primarily attributable to higher test report volume of DecisionDx-UM and the acquisitions of Cernostics in December 2021 and AltheaDx in April 2022.
Cost
of Sales (exclusive of amortization of acquired intangible assets)
Cost of sales (exclusive of amortization of acquired intangible assets) for the six months ended June 30, 2022 increased by $6.9 million, or 102.7%, compared to the six months ended June 30, 2021, primarily due to higher personnel costs and increased costs of supplies and third-party services. Personnel costs have increased with additions in headcount in our laboratory testing operations, including headcount attributable to our acquisitions of Cernostics and AltheaDx. The increased personnel costs also reflect higher salaries and wages for existing employees. Supply and service expenses have increased due to higher laboratory activity, which is attributable to higher test volumes. Due to the nature of our business, a significant portion of our cost of sales expenses
represents fixed costs associated with our testing operations. Accordingly, our cost of sales expense will not necessarily increase or decrease commensurately with the change in net revenues from period to period. We expect our cost of sales expenses (exclusive of amortization of acquired intangible assets) to continue to increase in future periods as we hire additional laboratory personnel and related resources to support our expected growth in volume for our dermatologic, gastrointestinal, mental health and pipeline tests.
Gross Margin
Our gross margin percentage was 71.8% for the six months ended June 30, 2022, compared to 84.7% for the same period in 2021. The decrease was primarily due to
lower revenue adjustments related to tests delivered in previous periods, higher personnel costs attributable to investments in laboratory headcount as well as higher salaries and wages, and higher amortization expense associated with our acquired intangible assets. In the near term, we expect that our gross margin percentage will decline, compared to prior periods, as we invest in additional laboratory personnel and related resources to support the anticipated growth in our report volumes for tests in advance of obtaining reimbursement coverage. Additionally, our gross margin percentage will continue to be negatively impacted by amortization of intangible assets associated with recent acquisitions.
Research and Development
Research and development
expenses increased by $10.0 million, or 78.6%, for the six months ended June 30, 2022, compared to the six months ended June 30, 2021. Approximately 50.7% of the increase is attributable to higher personnel costs, primarily due to expansions in headcount in support of our growth, higher pay rates and higher stock-based compensation expense, and
approximately 22.0% is attributable to higher costs for clinical studies, including costs related to the PERSONALize, CONNECTION and DECIDE studies. In the second quarter of 2022, we decided to close our PERSONALize
study. The remainder of the increase is primarily associated with meeting costs and travel expenses. We expect to continue to increase our research and development expenses as we fund ongoing evidence development for our existing products as well as additional pipeline programs.
Selling, General and Administrative
The following table provides a breakdown of SG&A expenses (in thousands):
Sales and marketing expenses increased by $18.3 million, or 84.9%, for the six months
ended June 30, 2022, compared to six months ended June 30, 2021. Approximately $10.6 million, or 57.9%, of the increase is attributable to higher personnel costs including salaries, bonuses and stock-based compensation. Personnel costs have increased through the expansion of our dermatology-facing commercial team headcount to the mid-60s during the second quarter of 2021 and through our acquisitions of Cernostics in December 2021 and AltheaDx in April 2022. Following our acquisition of Cernostics, we hired an initial commercial team of approximately 14 outside sales territories, along with commensurate internal sales associates and other personnel, to support our launch of the TissueCypher Barrett’s Esophagus Assay and to serve as a dedicated team focused on gastroenterology specialists that diagnose and manage patients with BE. Through our acquisition of AltheaDx, we
added a commercial team of approximately 20 outside sales territories to support our launch of the IDgenetix test. In addition to increases through sales force expansion, higher personnel costs also reflect salary increases for members of our existing sales force. The remainder of the increase in sales and marketing expenses was primarily associated with training events, meetings, travel and other general increases. The higher expenses for training events and travel reflect an increase in our sales and commercial operations related to our expanded headcount and expanded test offerings, as well a return to more in-person activities resulting from the continued easing of COVID-19 restrictions. Stock-based compensation expense included in sales and marketing expense was $5.7 million for the six months ended June 30, 2022, compared to $3.0 million for the six months ended June
30, 2021. We expect sales and marketing expenses to increase in future periods as we intend to expand our outside sales territories and sales force further during 2022, as discussed under “Overview” above.
General and administrative expenses increased by $10.7 million, or 61.2%, for the six months ended June 30, 2022, compared to six months ended June 30, 2021. The increase is primarily attributable to $6.3 million in higher personnel costs including salaries, bonuses and stock-based compensation. The higher personnel costs reflect expanded headcount in our administrative support functions, including that related to the acquisitions of Cernostics and AltheaDx, as well as higher rates of salaries and wages. Stock-based compensation expense included in general and administrative expense was $6.1 million for the six
months ended June 30, 2022, compared to $3.6 million for the six months ended June 30, 2021. Furthermore, we incurred $1.7 million of transaction costs associated with our acquisition of AltheaDx. The remainder of the increase in general and administrative expenses was primarily associated with professional fees and other general increases.
Amortization of Acquired Intangible Assets
Amortization of acquired intangible assets increased by $3.5 million for the six months ended June 30, 2022, compared to the six months ended June 30, 2021. The increase
is primarily associated with amortization of developed technology attributable to the acquisitions of the Myriad MyPath Laboratory, Cernostics, and AltheaDx in May 2021, December 2021 and April 2022, respectively.
Change in Fair Value of Contingent Consideration
The change in fair value of contingent consideration for the six months ended June 30, 2022 of $17.8 million, a net gain, is primarily related to the remeasurement of the Earnout Payments associated with our acquisition of Cernostics and reflects changes in management’s projections regarding attainment of certain commercial milestones. There was no such activity during the six months ended June
30, 2021.
Interest income increased by $0.3 million for the six months ended June 30, 2022, compared to the six months ended June 30, 2021, primarily as a result of higher interest rates.
Income
Tax (Benefit) Expense
Our income tax benefit was $1.8 million for the six months ended June 30, 2022, and was primarily attributable to a reduction of $1.8 million in our valuation allowance on net deferred tax assets resulting from our acquisition of AltheaDx in April 2022. Specifically, we took into consideration the additional deferred tax liabilities resulting from the acquisition and determined that a portion of our existing valuation allowance should be reduced. Other than this item, we recorded minimal amounts in income tax benefit because in both the six months ended June 30, 2022 and 2021, the income tax benefit of the pre-tax
loss was largely offset by corresponding changes in the valuation allowance on net deferred tax assets, as we have determined that it is more likely than not that these benefits will not be realized.
Stock-Based Compensation Expense
Stock-based compensation expense, which is allocated among cost of sales, research and development expense and SG&A expense, totaled $17.2 million for the six months ended June 30, 2022, compared to $9.7 million for the six months ended June 30, 2021. We expect material increases in stock-based compensation expense in future periods, reflecting mainly higher awards outstanding due to growth in our headcount. As
of June 30, 2022, we had 482 employees compared to 292 as of June 30, 2021. As of June 30, 2022, the total unrecognized stock-based compensation cost related to outstanding awards was $99.5 million, which is expected to be recognized on a straight-line basis over a weighted-average period of 3.0 years. We expect to continue granting stock-based compensation awards, which we expect to further contribute to increases in stock-based compensation expense in future periods.
Liquidity and Capital Resources
Sources of Liquidity
Our principal sources of liquidity are our cash and
cash equivalents and cash generated from the sale of our products. As of June 30, 2022 and December 31, 2021, we had cash and cash equivalents of $273.2 million and $329.6 million, respectively. In addition to the revenue generated from the sale of our commercial products, we have financed our operations through our IPO in July 2019, two follow-on public offerings of common stock in June 2020 and December 2020, and a $25.0 million secured term loan credit facility, which we repaid in full in December 2020.
On December 14, 2020, we filed an automatically effective shelf registration statement on Form S-3 (File No. 333-251331) (our “Shelf Registration Statement”) with the SEC as a “well-known
seasoned issuer.” The Shelf Registration Statement allows us to issue an indeterminate number or amount of common stock, preferred stock, debt securities and warrants from time to time in one or more offerings. However, there can be no assurance that we will complete any further offerings of securities under our Shelf Registration Statement. Any future offerings under our Shelf Registration Statement will be dependent upon, among other factors, market conditions, available pricing, our financial condition, investor perception of our prospects, our capital needs and our ability to maintain status as a well-known seasoned issuer. Our market capitalization as of August 1, 2022 is below the level required to maintain status as well-known seasoned issuer in the future.
As mentioned above, we expect to use a portion of our cash and cash equivalents, including any proceeds from
subsequent offerings under our Shelf Registration Statement, to further support and accelerate our research and development activities, including the clinical studies noted above in “Components of the Results of Operations—Research and Development.”
Material Cash Requirements
Our primary uses of capital are, and we expect will continue to be, compensation and related expenses, clinical research and development services, laboratory operations, equipment and related supplies, legal and other regulatory expenses, general administrative costs and, from time to time, expansion of our laboratory and office facilities in support of our growth. We anticipate that a substantial portion of our cash requirements in the foreseeable future will relate to the further commercialization of our currently marketed products, the development of our future product candidates in our pipeline and
the potential commercialization of these pipeline products, should their development be successful.
In December 2021, we acquired Cernostics for $30.7 million in cash and in April 2022, we acquired AltheaDx, for $30.5 million in cash and $17.1 million in shares of our common stock. Under the definitive agreement to acquire Cernostics, we also agreed to pay up to an additional $50.0 million of Earnout Payments, based on the achievement of certain commercial milestones relating to the year ending December 31, 2022. With respect to AltheaDx, we agreed to pay up to an additional $75.0 million, 50% in cash and 50% in common stock, based on the achievement of certain commercial milestones relating to the years ending December 31, 2022, 2023 and 2024.
In each case, the number of shares of our common stock that may be issued in connection with the Earnout Payments is subject to limitations, as discussed in Notes 5 and 10 to the unaudited
condensed consolidated financial statements. Our actual liability with respect to these commercial milestone payments from our acquisitions will depend, in part, on our ability to successfully integrate the TissueCypher Barrett’s Esophagus Assay (acquired from Cernostics) and IDgenetix (acquired from AltheaDx) into our suite of commercial product offerings and the timing thereof.
Since our inception, we have generally incurred
significant losses and negative cash flows. For the year ended December 31, 2021 we had a net loss of $31.3 million and an accumulated deficit of $93.8 million as of December 31, 2021. For the six months ended June 30, 2022, we had a net loss of $26.3 million and an accumulated deficit of $120.0 million as of June 30, 2022. Our ability to generate revenue sufficient to achieve profitability will depend heavily on the successful commercialization of our currently marketed products and the products we plan to launch in the future as well as our spending on research and development activities. We expect to incur additional expenses and losses in the future as we invest in the commercialization of our existing products, the development of our future product candidates and the
commercialization of our product candidates. Further, we expect that any acquisitions of businesses, products, assets or technologies will also increase our expenses. We believe that our existing cash and cash equivalents and anticipated cash generated from the sale of our commercial products will be sufficient to fund our operations for the next twelve months. We believe we will meet longer-term expected cash requirements and obligations through a combination of existing cash and cash equivalents, anticipated cash generated from sales of our products and issuances of equity securities or debt offerings, including through our Shelf Registration Statement. However, we have based these estimates on assumptions that may prove to be wrong, and we could utilize our available capital resources sooner than we expect. There are numerous risks and uncertainties associated with developing genomic tests, including, among others, the uncertainty of:
•successful
commencement and completion of clinical study protocols;
•successful identification and acquisition of tissue samples;
•the development and validation of genomic classifiers; and
•acceptance of new genomic tests by physicians, patients and third-party payors.
Because of the numerous risks and uncertainties associated with research, development and commercialization of product candidates, we are unable to estimate our exact working capital requirements. Our future funding requirements will depend on and could increase significantly as a result of many factors, including those listed above as well as those listed in Part II, Item 1A., “Risk Factors” in this Quarterly Report on Form 10-Q.
We
do not currently have any committed external source of funds. In the event additional funding is required, we expect that we would use a combination of equity and debt financings, which may not be available to us when needed, on terms that we deem to be favorable or at all. To the extent that we raise additional capital through the sale of equity or convertible debt securities, the ownership interest of our stockholders will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect the rights of common stockholders. Debt financing and preferred equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making acquisitions or capital expenditures or declaring dividends. Any disruptions to, or volatility in, the credit and financial markets or any deterioration in overall economic conditions may make
any necessary debt or equity financing more difficult to obtain, more costly and/or more dilutive. If we are unable to raise additional funds through debt or equity financings or other arrangements when needed, we may be required to delay, limit, reduce or terminate our product discovery and development activities or future commercialization efforts.
Leases
We have entered into various operating and finance leases, which are primarily associated with our laboratory facilities and office space. Total undiscounted future minimum payment obligations under our operating leases and finance leases as of June 30, 2022 totaled approximately $10.1 million, of which $0.7 million is payable through the remainder of 2022 and $9.4 million through the end of 2033. The leases expire on various dates through 2033 and provide certain options to renew
for additional periods. On March 11, 2022, we amended an existing lease agreement to lease additional laboratory space in Phoenix, Arizona. On April 1, 2022, we entered into a new lease agreement with an initial term of 10.5 years for laboratory and office space located in Pittsburgh, Pennsylvania. As of June 30, 2022, neither of the two leases had commenced. Upon commencement, we expect these two leases to increase our undiscounted future minimum payment obligations by a total of approximately $13.8 million.
Net cash used in operating activities was $30.4 million for the six months ended June 30, 2022, and was primarily attributable to the net loss of $26.3 million, the change in fair value of contingent consideration of $17.8 million, increases in accounts receivable of $5.6 million and deferred income taxes of $1.8 million, partially offset by non-cash stock compensation expense of $17.2 million and depreciation and amortization of $4.8 million.
Net cash used in operating activities was $10.1 million for the six months ended June 30, 2021, and was primarily attributable to the net loss of $13.1 million, increases in accounts receivable of $5.3 million and recoupment of $2.2 million of an advance payment from CMS under its Accelerated and Advance Payment Program, partially
offset by non-cash stock compensation expense of $9.7 million and decreases in prepayments and other current assets of $1.3 million.
The $20.4 million additional net cash used in operating activities for the six months ended June 30, 2022 compared to the six months ended June 30, 2021 is primarily due to cash requirements associated with the increases in operating expenses, the majority of which were attributable to salaries, bonuses and benefits due to our growth in headcount, as discussed in further detail under “Results of Operations—Comparison of the six months ended June 30, 2022 and 2021” above. The effect of the higher expenses on net cash used in operating activities was partially offset by cash inflows from the
higher revenues.
Investing Activities
Net cash used in investing activities was $27.9 million for the six months ended June 30, 2022 and consisted primarily of the cash portion of the AltheaDx purchase consideration of $26.7 million (net of cash and cash equivalents acquired) and purchases of property and equipment of $1.8 million. Net cash used in investing activities was $34.8 million for the six months ended June 30, 2021 and consisted primarily of the purchase of Myriad MyPath Laboratory of $33.2 million (including transaction costs) and purchases of property and equipment of $1.7 million.
Financing Activities
Net cash provided by financing activities was $1.9 million for the six months ended
June 30, 2022, and primarily consisted of $1.5 million in proceeds from contributions to the employee stock purchase plan and $0.5 million in proceeds from the exercise of stock options.
Net cash provided by financing activities was $3.4 million for the six months ended June 30, 2021, and primarily consisted of $2.3 million in proceeds from the exercise of stock options and $1.4 million in proceeds from contributions to the employee stock purchase plan.
Inflation
In 2021, the rate of inflation in the United States began to increase and has since risen to levels not experienced in over 40 years. We are experiencing inflationary
pressures, primarily in personnel costs, and we anticipate impacts on other cost areas within the next twelve months. The extent of any future impacts from inflation on our business and our results of operations will be dependent upon how long the elevated inflation levels persist and the extent to which the rate of inflation further increases, if at all, neither of which we are able to predict. If elevated levels of inflation were to persist or if the rate of inflation were to accelerate, the purchasing power of our cash and cash equivalents may be diminished, our expenses could increase faster than anticipated and we may utilize our capital resources sooner than expected. Further, given the complexities of the reimbursement landscape in which we operate, our payors may be unwilling or unable to increase reimbursement rates to
compensate for inflationary impacts. As such, the effects of inflation may adversely impact our results of operations, financial condition and cash flows.
Critical Accounting Estimates
During the six months ended June 30, 2022, except as noted below, there were no significant changes to the information discussed under “Critical Accounting Estimates” included in the Management’s Discussion and Analysis of Financial Condition and Results of Operations section of our Annual Report on Form 10-K for the year ended December 31, 2021.
The following is an
updated discussion of our critical accounting estimates related to contingent consideration. This information should be read in conjunction with our other information on critical accounting estimates included in our Annual Report on Form 10-K for the year ended December 31, 2021.
Contingent Consideration
Under the terms of business combinations or asset acquisitions, we may be required to pay additional consideration if specified future events occur or if certain conditions are met.
In a business combination, in accordance with to ASC Topic 805, Business Combinations, contingent consideration is recorded at fair value as of the acquisition date and classified as liabilities or equity based on applicable accounting principles generally accepted
in the United States of America (“U.S. GAAP”). For contingent consideration classified as liabilities, we remeasure the contingent consideration at fair value each period with changes in fair value recorded in the statements of operations and comprehensive loss each period.
For contingent consideration in transactions that are not business combinations, we apply applicable U.S. GAAP. With respect to the additional consideration that may be payable in connection with the acquisition of Cernostics, an asset acquisition we completed on December 3, 2021, we account for the contingent consideration as liability in accordance with ASC 480, Distinguishing Liabilities from Equity (“ASC 480”), under the guidance for obligations that must or may be settled by issuance of a variable number of shares. In accordance with ASC
480, we record the contingent consideration initially and subsequently at fair value with changes in fair value recorded in the condensed consolidated statements of operations and comprehensive loss each period.
Liabilities for contingent consideration are classified as a “Level 3” fair value measurements (as defined in Note 11 to our consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2021) due to the use of significant unobservable inputs and a Monte Carlo simulation to determine its fair value. The Monte Carlo simulation uses projections of the commercial milestones for the applicable period as well as the corresponding targets and approximate timing of payment based on the terms of the arrangement. The analysis also uses assumptions for expected volatility of the financial metrics and a risk-adjusted discount
rate. The assumptions and estimates we use in the Monte Carlo simulation require considerable judgment and may change in future periods as a result of new information. For example, during the three months ended June 30, 2022, as a result of a change in management’s projections regarding the outcome of certain commercial milestones associated with our acquisition of Cernostics, the fair value of the related contingent consideration liability decreased by $20.8 million.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
As a smaller reporting company, we are not required to provide the information required by this Item.
Item
4. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Exchange Act) that are designed to ensure that information required to be disclosed in the reports that we file or submit under the Exchange Act is (1) recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms and (2) accumulated and communicated to our management, including our principal executive officer and principal financial officer, to allow timely decisions regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible
controls and procedures.
Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of June 30, 2022. Based upon the evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance level.
Changes in Internal Control over Financial Reporting
There have been no changes in our internal control
over financial reporting (as defined in Rules 13a-15(f) or 15d-15(f) under the Exchange Act) that occurred during the second quarter of 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
PART II—OTHER INFORMATION
Item 1. Legal Proceedings.
From time to time, we may be involved in legal proceedings arising in the ordinary course of business. We believe there is no pending or threatened litigation that could have, individually or in the aggregate, a material adverse effect on our financial position, results of operations or cash
flows.
Item 1A. Risk Factors.
Risk Factors Summary
We face many risks and uncertainties, as more fully described in this section under the heading “Risk Factors.” Some of these risks and uncertainties are summarized below. The summary below does not contain all of the information that may be important to you, and you should read this summary together with the more detailed discussion of these risks and uncertainties contained in “Risk Factors.”
Risk Related to our Financial Condition
•We rely upon a small number of third-party payors for a significant portion of our revenue.
•Our
method of recognizing revenue may not reflect our underlying business.
•We have incurred significant losses since inception, and we may never achieve profitability.
•We are an early, commercial-stage company and have a limited operating history, which may make it difficult to evaluate our current business and predict our future performance.
•Our financial results could fluctuate in the future, causing the market price of our stock to decline substantially.
•If our internal control over financial reporting is ineffective, we may not be able to accurately report our financial results or file our periodic reports in a timely manner.
•We
may need to raise additional capital to commercialize new products, to expand operations or to fund existing operations.
Risks Related to our Business
•Our revenue heavily relies upon the sale of a single product and our current or future products may not achieve or maintain significant commercial market acceptance.
•We have been, and may continue to be, adversely impacted by the COVID-19 pandemic, which has, at times, caused decreased test report volume.
•Billing for our products is complex and we require substantial time and resources to collect payment.
•We rely on third parties for sample collection, preparation and delivery.
•A
depletion or loss of our sample database could significantly harm our business.
•If our primary clinical laboratory facility becomes damaged or inoperable or we are required to vacate our existing facility, our ability to conduct our laboratory work for our commercial products and pursue our research and development efforts may be jeopardized.
•New product development is lengthy and complex, and our revenues could be limited if we are unable to increase and support adoption of our products by both physicians and other healthcare providers.
•We rely on limited or sole suppliers for some of the reagents, equipment, chips and other materials used by our products, and we may not be able to find replacements or transition to alternative suppliers if these suppliers are
unable or unwilling to continue providing these materials.
•The sizes of the addressable markets for our current and future products have not been established with precision and may be smaller than we estimate.
•The diagnostic testing industry is subject to rapid change, which could make our current or future products obsolete.
Risks Related to Reimbursement and Government Regulation
•We currently have limited reimbursement coverage for our lead product,
DecisionDx-Melanoma, and if third-party payors, including government and commercial payors, do not provide sufficient coverage of, or adequate reimbursement for, our products, our commercial success, including revenue, will be negatively affected.
•We conduct business in a heavily regulated industry and failure to comply with regulatory requirements, including those established by the CMS, and the U.S. Food and Drug Administration (“FDA”) or changes in enforcement discretion for laboratory developed tests could harm our business.
•Data from our clinical studies may change materially, which could harm our business.
•Changes in healthcare policy, statutes or regulations, or our ability to comply with applicable healthcare requirements, could have a material adverse
effect on our business and operations.
Risks Related to Intellectual Property
•If we are unable to obtain and maintain sufficient intellectual property protection for our technology, our ability to successfully commercialize our products may be impaired.
•Our commercial success depends significantly on our ability to operate without infringing upon the intellectual property rights of third parties.
•We rely on information technology systems that we license from third parties and other royalty-bearing license agreements.
Risks Related to Employee Matters and Managing Growth and Other Risks Related to Our Business
•We
are highly dependent on the services of our key personnel, including our President and Chief Executive Officer.
•Our employees and any current or potential commercial partners may engage in misconduct or other improper activities, including non-compliance with regulatory standards and requirements and insider trading.
•We have, and may continue to, engage in strategic transactions, such as the acquisition of businesses, assets, products or technologies, which could be disruptive to our existing operations, divert the attention of our management team and adversely impact our liquidity, cash flows, financial condition and results of operations.
•Our business may be negatively impacted by cybersecurity threats, natural disasters and public health crises.
•Product
or professional liability lawsuits against us could cause us to incur substantial liabilities and could limit our commercialization of our products.
Risks Related to Ownership of Our Common Stock.
•The price of our common stock may be volatile or may decline regardless of our operating performance, and you may lose all or part of your investment.
•We have broad discretion in the use of working capital and may not use it effectively or in ways that increase our share price.
•Related party transactions that create conflicts of interest, or the appearances of conflicts of interest, may harm our business and cause our stock price to decline.
•The concentration
of our stock ownership will likely limit your ability to influence corporate matters, including the ability to influence the outcome of director elections and other matters requiring stockholder approval.
•Delaware law and provisions in our amended and restated certificate of incorporation and amended and restated bylaws could make a merger, tender offer or proxy contest difficult, thereby depressing the trading price of our common stock.
•Our amended and restated certificate of incorporation provides that the Court of Chancery of the State of Delaware is the exclusive
forum for certain disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers or employees.
Risk Factors
You should consider carefully the risks described below, as well as the other information in this Quarterly Report on Form 10‑Q, before deciding whether to purchase, hold or sell shares of our common stock. The occurrence of any of the following risks could harm our business, financial condition, results of operations and/or growth prospects or cause our actual results to differ materially from those contained in forward-looking statements we have made in this report and those we may make from
time to time. You should consider all of the factors described as well as the other information in this Quarterly Report on Form 10-Q, including our unaudited condensed consolidated financial statements and the related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” when evaluating our business. The risk factors set forth below that are marked with an asterisk (*) are new or contain changes to the similarly titled risk factors included in our Annual Report on Form 10-K for the year ended December 31, 2021. If any of the following risks actually occur, our business, financial condition, results of operations and future growth prospects could be materially and adversely affected. In these circumstances, the market price of our common stock could decline and you may lose all or part of your investment.
Additional risks and uncertainties not presently known to us or that we currently deem immaterial also may impair our business operations.
Risks Related to Our Financial Condition
Our reliance upon a small number of third-party payors for a significant portion of our revenue may materially adversely affect our financial condition and results of operations.
We receive a substantial portion of our revenue from a small number of third-party payors, primarily Medicare. Our revenue for our test reports provided for patients covered by Medicare and Medicare Advantage plans as a percentage of total revenue, was 57% and 28%, respectively, for the year ended December 31, 2021 and
58% and 29%, respectively, for the year ended December 31, 2020. If our largest current payors were to significantly reduce, or cease to pay, the amount they reimburse for our products, or if they do not reach favorable coverage and reimbursement decisions for our products, or attempt to recover amounts they had already paid, it could have a material adverse effect on our business, financial condition and results of operations and cause significant fluctuations in our results of operations.
Due to how we recognize revenue, our quarterly revenues may not reflect our underlying business.*
We have concluded that our contracts include variable consideration because the amounts paid by Medicare or commercial health insurance carriers may be paid
at less than our standard rates or not paid at all, with such differences considered implicit price concessions. Variable consideration attributable to these price concessions is measured at the expected value using the ‘‘most likely amount’’ method under ASC 606. The amounts are determined by historical average collection rates by test type and payor category taking into consideration the range of possible outcomes, the predictive value of our past experiences, the time period of when uncertainties expect to be resolved and the amount of consideration that is susceptible to factors outside of our influence, such as the judgment and actions of third parties. Determining variable consideration through a consideration of these factors involves a significant level of estimation uncertainty, and our estimations may turn out to be incorrect. Such variable consideration is included in the transaction price only to the extent it is probable that a significant reversal in the
amount of cumulative revenue recognized will not occur when the uncertainties with respect to the amount are resolved. Variable consideration may be constrained and excluded from the transaction price in situations where there is no contractually agreed upon reimbursement coverage or in the absence of a predictable pattern and history of collectability with a payor. Variable consideration for Medicare claims that are not covered by an LCD or otherwise, including those claims undergoing appeal, is deemed to be fully constrained due to factors outside our influence (e.g., judgment or actions of third parties) and the uncertainty of the amount to be received is not expected to be resolved for a long period of time. Variable consideration is evaluated each reporting period and adjustments are recorded as increases or decreases in revenues. As a result of the timing and amount of adjustments for variable consideration, our operating results and comparisons of such results
on a period-to-period basis may be difficult to understand and may not be meaningful. In addition, these fluctuations in revenue may make it difficult for us, for research analysts and for investors to accurately forecast our revenue and operating results. If our revenue or operating results fall below expectations, the price of our common stock would likely decline.
We have incurred significant losses since inception, and we may never achieve profitability.*
Since our inception, we have had a history of net losses. For the year ended December 31, 2021 we had a net loss of $31.3 million and an accumulated deficit of $93.8 million as of December 31, 2021. For the six months ended June 30, 2022, we had a net loss of $26.3 million. As
of June 30, 2022, we had an accumulated deficit of $120.0 million. We cannot predict if we will achieve profitability in the near future or at all. We expect to incur losses in the future as we plan to invest significant additional funds toward the expansion of our commercial organization, the conduct of clinical utility and validity studies to support adoption of our products and the development or acquisition of additional products. We also expect significant increases in our stock-based compensation expense in future periods, reflecting higher stock option valuations as a public company and additional awards outstanding due to increased headcount. Additionally, our performance could be affected by the impacts of the ongoing COVID-19 pandemic, the invasion of Ukraine by Russia, economic slowdowns, recessions or market corrections, inflation, rising interest rates and tightening of credit markets resulting from the pandemic,
the conflict or another cause. Due to the requirements associated with being a public company, including those associated with no longer qualifying as an emerging growth company, we expect to continue incur significant additional legal, accounting and other expenses. We also expect that any acquisitions of businesses, assets, products or technologies will increase our expenses. These increased expenses will make it harder for us to achieve future profitability. We may also incur significant losses in the future for a number of reasons, many
of which are beyond our control, including the other risks described in this Quarterly Report on Form 10‑Q, adoption
of our products, coverage of and reimbursement rates for our products from third-party payors, and future research and development activities. Our failure to achieve profitability in the future could cause the market price of our common stock to decline and make it more difficult or costly for us to raise additional capital.
We are an early, commercial-stage company and have a limited operating history, which may make it difficult to evaluate our current business and predict our future performance.
We are an early commercial-stage company and have a limited operating history. Our limited operating history may make it difficult to evaluate our current business and this makes predictions about our future success or viability subject to significant uncertainty. In particular, we intend to use a portion of our working capital to increase our headcount, including through the expansion
of our sales and marketing and research and development teams, which will increase our operating costs in a manner not historically reflected in our consolidated financial statements. In combination with our other anticipated increased operating expenses in connection with the ongoing demands of a public company, these anticipated changes in our operating expenses may make it difficult to evaluate our current business, assess our future performance relative to prior performance and accurately predict our future performance.
We will continue to encounter risks and difficulties frequently experienced by early commercial-stage companies, including those associated with increasing the size of our organization and the prioritization of our commercial, research and business development activities. If we do not address these risks successfully, our business could suffer.
Changes in financial
accounting standards or practices may cause adverse, unexpected financial reporting fluctuations and affect our reported operating results.
Accounting principles generally accepted in the United States of America are subject to interpretation by the Financial Accounting Standards Board, the SEC, and various bodies formed to promulgate and interpret appropriate accounting principles. A change in accounting standards or practices can have a significant effect on our reported results and may even affect our reporting of transactions completed before the change is effective. New accounting pronouncements and varying interpretations of accounting pronouncements have occurred and may occur in the future. Changes to existing rules or the questioning of current practices may adversely affect our reported financial results or the way we conduct our business. As of December 31, 2021,
we are no longer an emerging growth company and now apply public company adoption dates for new or revised accounting standards.
Our quarterly and annual operating results and cash flows may fluctuate in the future, which could cause the market price of our stock to decline substantially.
Numerous factors, many of which are outside our control may cause or contribute to significant fluctuations in our quarterly and annual operating results. For example, following the onset of the COVID-19 pandemic in 2020 we experienced decreases in revenue and test report volumes. These fluctuations may make financial planning and forecasting uncertain. In addition, these fluctuations may result in unanticipated decreases in our available cash, which could negatively affect our business and prospects. In addition, one or more of such factors may cause our revenue or operating expenses in one period
to be disproportionately higher or lower relative to the others. As a result, comparing our operating results on a period-to-period basis may be difficult to understand and may not be meaningful. You should not rely on our past results as indicative of our future performance.
In addition, a significant portion of our operating expense is relatively fixed in nature, and planned expenditures are based in part on expectations regarding future revenue. Accordingly, unexpected revenue shortfalls could decrease our gross margins and cause significant changes in our operating results from quarter to quarter. If this occurs, the trading price of our stock could fall substantially.
This variability and unpredictability caused by factors such as those described above could also result in our failing to meet the expectations of industry or financial analysts or investors for any period. If
our revenue or operating results fall below the expectations of analysts or investors or below any guidance we may provide, or if the guidance we provide is below the expectations of analysts or investors, the price of our common stock could decline substantially. Such a stock price decline could occur even when we have met any previously publicly stated guidance we may provide.
If our internal control over financial reporting is not effective, we may not be able to accurately report our financial results or file our periodic reports in a timely manner, which may cause adverse effects on our business and may cause investors to lose confidence in our reported financial information and may lead to a decline in our stock price.
Effective internal control over financial reporting is necessary for us to provide reliable financial reports in a timely manner. A material weakness is a deficiency,
or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the annual or interim consolidated financial statements will not be prevented or detected on a timely basis.
If we fail to adequately staff our accounting and finance function or fail to maintain adequate internal control over financial reporting, any new or recurring material weaknesses could prevent our management from concluding our internal control over financial reporting is effective and could result in our auditor issuing an adverse opinion on our internal control over financial reporting. If we
identify any future significant deficiencies or material weaknesses, the accuracy and timeliness of our financial reporting may be adversely affected, our ability to prevent material misstatements in our consolidated financial statements could be impaired, a material misstatement in our consolidated financial statements could occur and we may be unable to maintain compliance with securities law requirements regarding timely filing of periodic reports, which could cause our business to suffer and our stock price to decline.
Since becoming a publicly traded company in 2019, we have increased the headcount of our accounting and finance functions to further support the demands placed upon us as a public company, including the requirements of the Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley”). We expect to continue expending significant time and resources related to our internal control over financial reporting, including
by further expanding our finance and accounting staff over time, but there can be no assurance our efforts will be effective.
We may need to raise additional capital to fund our existing operations, commercialize new products or expand our operations.*
We believe our existing cash and cash equivalents and anticipated cash generated from sales of our products will be sufficient to fund our operations for the foreseeable future. If our available cash and cash equivalents and anticipated cash generated from sales of our products are insufficient to satisfy our liquidity requirements including because of lower demand for our products, lower than currently expected rates of reimbursement from third-party payors or other risks described in this Quarterly Report on Form 10‑Q, we may finance our cash needs through a combination of equity offerings, debt financings, collaborations,
strategic alliances and marketing, distribution or licensing arrangements. We do not currently have any committed external source of funds. In addition, we may seek additional capital due to favorable market conditions or strategic considerations, even if we believe we have sufficient funds for our current or future operating plans.
We may consider raising additional capital in the future to expand our business, to pursue strategic investments, to take advantage of financing opportunities or for other reasons, including to:
•increase our sales and marketing efforts for the DecisionDx-Melanoma, DecisionDx-SCC, DiffDx-Melanoma, MyPath Melanoma, DecisionDx-UM, TissueCypher and IDgenetix tests and address competitive developments among these or future commercial products;
•fund ongoing evidence
development for our existing products as well as additional pipeline programs;
•expand our laboratory testing facility and related testing capacity;
•expand our technologies into other types of skin cancer, ocular cancer, gastrointestinal or mental health management and detection products;
•acquire, license or invest in technologies;
•acquire or invest in complementary businesses or assets; and
•finance capital expenditures and general and administrative expenses.
Our present and future funding requirements will depend on many factors, including:
•our
ability to achieve revenue growth;
•our rate of progress in establishing payor coverage and reimbursement arrangements with third-party payors;
•our rate of progress in, and cost of the sales, marketing, coverage and reimbursement activities associated with, establishing adoption of our lead product, DecisionDx-Melanoma, among our other products;
•the cost of expanding our laboratory operations and offerings, including our sales, marketing, coverage and reimbursement efforts;
•our rate of progress in, and cost of research and development activities associated with, diagnostic products in research and early development;
•the potential
cost of, and delays in, the development of new products as a result of changes in regulatory oversight applicable to our products;
•acquisitions of businesses, assets, products or technologies;
•the effects on our operations of general political and economic conditions, including the COVID-19 pandemic, the invasion of Ukraine by Russia, economic slowdowns, recessions or market corrections, the duration and effects of elevated inflation, rising interest
rates and tightening of credit markets resulting from the pandemic, the conflict or another cause; and
•the effect of competing technological and market developments.
To the extent that we raise additional capital through the sale of equity or convertible debt securities, your ownership interest will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect your rights as a common stockholder. Debt financing and preferred equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making acquisitions or capital expenditures or declaring dividends.
If we raise additional funds through collaborations, strategic alliances or marketing, distribution
or licensing arrangements with third parties, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or products, or grant licenses on terms that may not be favorable to us.
Any disruptions to, or volatility in, the credit and financial markets or any deterioration in overall economic conditions, resulting from the pandemic, the conflict or another cause, may make any necessary debt or equity financing more difficult to obtain, more costly and/or more dilutive. If we are unable to raise additional funds through equity or debt financings or other arrangements when needed, we may be required to delay, limit, reduce or terminate our commercialization, research and development efforts or grant rights to third parties to market and/or develop products that we would otherwise prefer to market and develop ourselves.
Risks
Related to Our Business
Our revenue currently depends primarily on sales of DecisionDx-Melanoma, and we will need to generate sufficient revenue from this and other products to grow our business.*
Most of our revenue in 2021 and 2020 was derived from the sale of our lead product, DecisionDx-Melanoma. While we also derive revenue from DecisionDx-UM, DecisionDx-SCC, our Diagnostic GEP offering (which consists of MyPath Melanoma and DiffDx-Melanoma), the TissueCypher Barrett’s Esophagus Assay and the IDgenetix test, we expect that the majority of our revenue for the foreseeable future will be derived from sales of DecisionDx-Melanoma. Further, we believe that our long-term commercial success will depend on our ability to develop and market additional products. Our ability to derive revenue from DecisionDx-Melanoma, DecisionDx-UM, DecisionDx-SCC, MyPath Melanoma, DiffDx-Melanoma, the
TissueCypher Barrett’s Esophagus Assay, the IDgenetix test and any future products that we commercialize or acquire is uncertain and depends on favorable coverage and reimbursement policies from government payors, such as Medicare, and from private payors, such as insurance companies. Without positive coverage policies, our products may not be reimbursed and we may not be able to recognize revenue. If we are unable to increase sales and expand coverage and reimbursement for DecisionDx-Melanoma, develop and commercialize other products, and successfully obtain coverage and adequate reimbursement for such products, our revenue and our ability to achieve profitability would be impaired, and the market price of our stock could decline substantially.
The COVID-19 pandemic has adversely impacted and could continue to adversely impact our business, including the demand for our test reports, as well as the business or operations of
physicians and other healthcare providers who order our test reports and the third-party payors responsible for reimbursement for our tests, customers and other third parties with whom we conduct business.*
Public health crises such as pandemics or similar outbreaks have adversely impacted and could continue to adversely impact our business.As a result of the ongoing COVID-19 pandemic, or public health crises, and federal, state and local government responses to these events, we have and/or may in the future experience disruptions that could adversely impact our business, including, but not limited to:
•decreased test report volume due to a decline in orders of DecisionDx-Melanoma and DecisionDx-UM tests as patient visits for routine examinations and biopsies have been, and may continue to be, delayed and/or
canceled;
•disruption of our sales and commercialization activities due to limitations on our ability to communicate with physicians as a result of travel restrictions and hindered means of communicating with physicians;
•delays or disruptions by third parties in the collection, preparation or delivery of the tumor samples that we test;
•delays or difficulties in delivering test reports, interruptions in research and development and other limitations of key business activities due to members of our workforce becoming ill, compliance with applicable vaccination mandates and/or stay-at-home or other similar orders imposed by or that may be imposed by state and local governments, including at our Phoenix, Arizona, San Diego, California, Pittsburgh, Pennsylvania and Friendswood,
Texas locations;
•delayed reimbursement from third-party payors, disruption in our supply channel and other adverse impacts on our business resulting from the negative effects of the COVID-19 pandemic on our suppliers, service providers and other third parties on whom we rely; and
•delayed or postponed interactions with regulators and other important agencies and contractors, due to limitations in employee resources, travel restrictions or forced furlough of government employees.
Following the onset of the COVID-19 pandemic,
we experienced declines in orders and test report volume in certain periods. For example, in the second quarter of 2020, test reports delivered for our lead product, DecisionDx-Melanoma, decreased 18.5% compared to the second quarter of 2019. We believe these decreases in our test report volume were linked to delays and/or cancellations in patient visits, resulting in fewer diagnostic biopsies and thus a reduction in the number of diagnoses of cutaneous melanoma in response, as well as the cumulative impact on promotional responsiveness as a result of reduced sales calls per day and in-person sales calls during the ongoing COVID-19 pandemic.
Our future results will be dependent upon the extent and duration of the COVID-19 crisis, including the emergence and spread of variants of the virus, and government restrictions, which are beyond our control. Although state and local government restrictions put in place to slow the spread
of the virus have been eased in most locations, restrictions may be reinstated from time to time in various regions depending on the circumstances, potentially impacting the flow of future patient visits as well as access to our sales targets. Even with the easing of state and local restrictions and the availability of vaccinations, patient visits and diagnoses of the diseases covered by our diagnostic and prognostic tests may be impacted by continued apprehension regarding possible exposure to the virus as well as a general shift from in-person clinical visits to telehealth approaches, which may result in missed or delayed diagnoses of skin cancer and other diseases.
Under legislation enacted (or that may be enacted) by the United States federal government to respond to COVID-19, we have received and may receive in the future, cash payments or other forms of assistance allocated to healthcare and other companies. The eligibility
requirements for any such payments or other assistance may be subject to restrictive terms and conditions, which may be ambiguous or subject to further modification, interpretation and guidance issued by government agencies on an ongoing basis. In the event we fail to comply with any of the terms or conditions associated with a payment we receive or if the terms and conditions or related interpretations change, we may be required to return it. The receipt of government payments or other assistance during the COVID-19 crisis has generated negative publicity for some companies and may continue to generate negative publicity for companies in the future. If we receive any negative publicity as a result of receiving or accepting a government payment or other assistance, such as the $1.9 million in provider relief funds we received from The U.S. Department of Health and Human Services (“HHS”) on April 16, 2020, it could
harm our reputation, trigger a review or audit by applicable government agencies and/or adversely impact our stock price.
The COVID-19 crisis continues to evolve. The extent to which COVID-19 will further impact our business will depend on future developments, which are highly uncertain and cannot be predicted with confidence, such as the duration of the crisis, resurgences of the virus, the emergence and spread of variants of the virus, vaccination rates, vaccination mandates, vaccination effectiveness, therapeutic treatments, the use of telemedicine, travel restrictions, stay-at-home or other similar orders and social distancing in the United States and other countries, business closures or business disruptions and the effectiveness of actions taken in the United States and other countries to contain and treat the virus. Any of these factors, individually or in combination, could materially and adversely affect our business,
results of operations, financial condition or cash flows. In addition, the current and potential adverse impacts of the COVID-19 crisis on our business, financial condition, results of operations and growth prospects, may also have the effect of heightening many of the other risks and uncertainties described elsewhere in this “Risk Factors” section.
Billing for our products is complex and requires substantial time and resources to collect payment.*
Billing for clinical laboratory testing services is complex, time-consuming and expensive. Depending on the billing arrangement and applicable law, we bill various payors, including Medicare, Medicaid, private insurance companies, private healthcare institutions, and patients, all of which have different billing requirements. We generally bill third-party payors for products and pursue reimbursement on a case-by-case basis where
pricing contracts are not in place. To the extent laws or contracts require us to bill patient co-payments or co-insurance, we must also comply with these requirements. We may also face increased risk in our collection efforts, including potential write-offs of accounts receivable and long collection cycles, which could adversely affect our business, results of operations and financial condition.
Several factors make the billing process complex, including:
•differences between the billing rates and reimbursement rates for our products;
•compliance with complex federal and state regulations related to billing
government healthcare programs, including Medicare, Medicaid, Veterans Health Administration and TRICARE;
•disputes among payors as to which party is responsible for payment;
•differences in coverage and information and billing requirements among payors, including the need for prior authorization and/or advanced notification;
•the effect of patient co-payments or co-insurance and our
ability to collect such payments from patients;
•changes to billing codes used for our products;
•changes to requirements related to our current or future clinical studies, including our registry studies, which can affect eligibility for payment;
•ongoing monitoring provisions of LCDs for our products, which can affect the circumstances under which a claim would be considered medically necessary;
•incorrect or missing billing information; and
•the resources required to manage the billing and claims appeals process.
We use standard industry billing codes, known as Current Procedural Terminology
codes, to bill for our products. If these codes were to change, there is a risk of an error being made in the claim adjudication process. Such errors can occur with claims submission, third-party transmission or in the processing of the claim by the payor. Claim adjudication errors may result in a delay in payment processing or a reduction in the amount of the payment we receive.
As we introduce new products, we may need to add new codes to our billing process as well as our financial reporting systems. Failure or delays in effecting these changes in external billing and internal systems and processes could negatively affect our collection rates, revenue and cost of collecting.
Additionally, our billing activities require us to implement compliance procedures and oversight, train and monitor our employees, and undertake internal audits to evaluate compliance with applicable laws
and regulations as well as internal compliance policies and procedures. When payors deny our claims, we may challenge the reason, low payment amount or payment denials. Payors also conduct external audits to evaluate payments, which add further complexity to the billing process. If the payor makes an overpayment determination, there is a risk that we may be required to return all or some portion of prior payments we have received.
Additionally, the Patient Protection and Affordable Care Act of 2010, as amended by the Health Care and Education Reconciliation Act of 2010 (collectively, the “ACA”) requires providers and suppliers to report and return any overpayments received from government payors under the Medicare and Medicaid programs within 60 days of identification. Failure to identify and return such overpayments exposes the provider or supplier to liability under federal false claims laws. These billing complexities,
and the related uncertainty in obtaining payment for our products, could negatively affect our revenue and cash flow, our ability to achieve profitability, and the consistency and comparability of our results of operations.
In addition to the complexities noted above, we rely upon a third-party software application in the administration of our billing and collection process. Any significant disruption in our billing operations or the discovery of a deficiency in the design of our billing process could adversely impact our ability to generate and send invoices, calculate revenues, track payments and collect our accounts receivable. Although to date we have not experienced any disruptions or identified any deficiencies with our billing process or billing system, there can be no assurances that any disruptions or deficiencies will not occur in the future. Additionally, any failure in the design or operation of our internal controls
related to our billing and collection processes could adversely impact our ability to conclude on the effectiveness of our internal control over financial reporting and could cause our auditor to issue an adverse opinion on our internal control over financial reporting.
We rely on third parties for tissue sample collection, preparation and delivery. Any defects in sample collection or preparation by such third parties and any delays in delivery of such samples could cause errors in our test reports and delay our ability to deliver test reports in a timely manner, which could significantly harm our business.*
The tissue samples that we test are biopsied, preserved, prepared and delivered to us by third parties, including dermatopathologists and laboratory facilities. As such, we rely on these third parties to prepare, label and deliver the tissue samples that we test in compliance
with applicable laws and guidelines, and in a timely manner. Therefore, the accuracy and correctness of the test reports that we deliver are dependent on proper chain of custody and appropriate methods of sample collection or preparation utilized by these third parties, and our ability to timely deliver reports is dependent upon the ability of these third parties to provide these samples to us in a timely manner. The ability of these third parties to provide these samples to us in a timely manner could be delayed by events beyond our control, including but not limited to natural disasters and public health epidemics, such as the COVID-19 pandemic. Any errors in any part of the sample collection or preparation process could cause us to deliver incorrect test reports, potentially resulting in harm to patients whose physicians implement a change in treatment decisions based upon our test report. If we are unable to timely deliver test reports, physicians may be less likely
to
recommend and order our products. The occurrence of any of the foregoing could significantly harm our reputation and our results of operations, causing significant harm to our business.
We rely on our database of samples for the development and improvement of our products. Depletion or loss of our samples could significantly harm our business.
The development and validation of accurate products is a complex process that requires access to tissue specimens and long-term outcomes data. Our research and development efforts to improve our existing commercial products
and develop new pipeline products may require the depletion of our existing database of samples. If our samples are lost or destroyed, or substantially depleted before we are able to generate meaningful data, we may be unable to improve our existing products, continue the development of pipeline products or validate product candidates. While we have historically been able to create and maintain a large sample bank to expand the clinical use of our products and develop new products, we may be unable to do so in the future. If we were unable to maintain or replenish our sample bank, we may be unable to improve our products or develop new products.
If our primary clinical laboratory facility becomes damaged or inoperable or we are required to vacate our existing facility, our ability to conduct our laboratory analysis and pursue our research and development efforts may be jeopardized.*
We
currently perform most of our testing and store our database of tumor samples at our primary clinical laboratory facility in Phoenix, Arizona. Our facility and equipment could be harmed or rendered inoperable by natural or man-made disasters, including war, fire, earthquake, power loss, communications failure, terrorism, burglary, public health crises (including restrictions that may be imposed on businesses by state and local governments under stay-at-home or similar orders and mandates) or other events, which may make it difficult or impossible for us to perform our testing services for some period of time or to receive and store samples. The inability to perform tests or to reduce the backlog of sample analysis that could develop if our facility becomes inoperable, for even a short period of time, may result in the loss of revenue, loss of customers or harm to our reputation, and we may be unable to regain that revenue, those customers or repair our reputation in
the future. Furthermore, integral parties in our supply chain are operating from single sites, increasing their vulnerability to natural disasters and man-made disasters or other sudden, unforeseen and severe adverse events.
In addition, the loss of our tissue samples due to such events could limit or prevent our ability to conduct research and development analysis on existing tests as well as tests in active pipeline development.
While we have a business continuity plan in place, and have an additional laboratory facility in close proximity to our primary facility to support our growth and provide certain operational redundancy, our facilities and the equipment we use to perform our testing and research and development could be unavailable or costly and time-consuming to repair or replace. It would be difficult, time-consuming and expensive to rebuild our facilities, to locate
and qualify a new facility, replace certain pieces of equipment or license or transfer our proprietary technology to a third-party, particularly in light of licensure and accreditation requirements. Even in the unlikely event that we are able to find a third party with such qualifications to enable us to resume our operations, we may be unable to negotiate commercially reasonable terms.
We carry insurance for damage to our property and the disruption of our business, but this insurance may not cover all of the risks associated with damage or disruption to our business, may not provide coverage in amounts sufficient to cover our potential losses and may not continue to be available to us on acceptable terms, if at all.
Our current or future products may not achieve or maintain significant commercial market acceptance.
We believe our commercial
success is dependent upon our ability to continue to successfully market and sell our products, to continue to expand our current relationships and develop new relationships with healthcare providers, to expand and maintain coverage for our products, and to develop and commercialize new products. Our ability to achieve and maintain commercial market acceptance of our existing and future products will depend on a number of factors, including:
•our ability to increase awareness of our products through successful clinical utility and validity studies;
•the rate of adoption of our products by physicians and other healthcare providers;
•our ability to achieve guideline inclusion for our products;
•the
timeliness with which we can provide our clinical reports to the ordering physician;
•the timing and scope of any regulatory approval for our products, if such approvals become required, and maintaining ongoing compliance with regulatory requirements;
•our ability to obtain and maintain positive coverage decisions for our products from government and commercial payors;
•our ability to obtain and maintain adequate reimbursement from third-party payors, including Medicare, Medicare Advantage plans
and BlueCross BlueShield plans, which accounted for an aggregate of approximately 92% and 93% of our total revenue for the years ended December 31, 2021, and 2020, respectively;
•the impact of our investments in research and development and commercial growth;
•negative publicity regarding our or our competitors’ products resulting from scientific publications, or defects or errors in the products; and
•our ability to further validate our products through clinical research and accompanying publications.
We cannot assure you that we will be successful in addressing each of these factors or other factors that might affect the
market acceptance of our products. If we are unsuccessful in achieving and maintaining market acceptance of our products, our business and results of operations will suffer.
New product development involves a lengthy and complex process, and we may be unable to develop and commercialize, or receive reimbursement for, on a timely basis, or at all, new products.
We continually seek to develop new product offerings, which requires us to devote considerable resources to research and development. Before we can commercialize a new pipeline product, we will need to expend significant resources in order to conduct substantial research and development, including clinical utility and validity studies, and further develop and scale our laboratory processes and infrastructure to accommodate additional products. For example, in 2021, we launched our innovative pipeline to develop a genomic test
aimed at predicting response to systemic therapy in patients with moderate to severe psoriasis, atopic dermatitis and related inflammatory skin conditions. We have initiated a 4,800 patient, prospective, multi-center clinical study to develop and validate this inflammatory skin disease pipeline test with the expectation of having initial validation and development data in 2023 and in launching this pipeline test by the end of 2025.
Our product development process takes time and involves a high degree of risk, and such development efforts may fail for many reasons, including failure of the product to perform as expected, failure to successfully complete analytic and clinical validation, or failure to demonstrate the clinical utility of the product.
As we develop new products, we will have to make significant investments in research and development, marketing, selling, coverage and
reimbursement activities. Typically, few research and development projects result in a commercialized product, and there can be no assurance that we will be able to successfully develop new products that can be commercialized. At any point, we may abandon development of a product or we may be required to expend considerable resources conducting research, which would adversely affect the timing for generating potential revenue from a new product and our ability to invest in other products in our pipeline. If a clinical validation study fails to demonstrate the prospectively defined endpoints of the study or if we fail to sufficiently demonstrate analytical validity or clinical utility, we might choose to abandon the development of the product, which could harm our business. In addition, competitors may develop and commercialize competing products or technologies faster than us or at a lower cost.
We may experience limits on
our revenue if we are unable to increase and support adoption of our products by physicians and other healthcare providers.*
Physicians and other healthcare providers may be unwilling to adopt our products due to their reliance on existing traditional clinical and pathology staging criteria and our ability to generate revenue from our products would be significantly impaired if we were unable to educate physicians, healthcare providers, patients and third-party payors about the benefits and advantages of our products. The COVID-19 crisis has impacted our in-person healthcare interactions, such as field-based sales and medical affairs, and we have had to convert visits, programs and projects to be performed online and by telephone. Although our in-person healthcare interactions have returned to more normal levels, they may become subject to restrictions or cancellations from time to time, due to the uncertainties surrounding
the duration, extent and ongoing impacts of the COVID-19 crisis, possibly impacting the effectiveness of our efforts. We will need to continue to educate physicians and pathologists about the benefits and cost-effectiveness of our products through published papers, presentations at scientific conferences, one-on-one marketing efforts by our sales force and one-on-one education by our medical affairs team. However, physicians and other healthcare providers may be reluctant to adopt our products in circumstances where our products are not incorporated into the current standard of care or practice guidelines. For example, while clinical utility of DecisionDx-Melanoma has been demonstrated in peer-reviewed publications, the SLNB surgery is the most widely used staging tool for determining a cutaneous melanoma patient’s metastatic risk. Whether healthcare providers adopt DecisionDx-Melanoma as a complementary or triage diagnostic method relative to the SLNB surgery will depend
on our ability to increase awareness of DecisionDx-Melanoma and its clinical validation.
In addition, all of our testing services are performed by our certified laboratories located in Phoenix, Arizona, San Diego, California and Pittsburgh, Pennsylvania, under the Clinical Laboratory Improvement Amendments of 1988 (“CLIA”) rather
than by local laboratory or pathology practices. Accordingly, it may be difficult for us to collect samples from pathologists, and pathologists may be reluctant to support our testing services.
We rely on limited or sole suppliers for
some of the reagents, equipment, chips and other materials used by our products, and we may not be able to find replacements or transition to alternative suppliers.*
We rely on limited or sole suppliers for certain reagents and other materials and components that we use for our products. Some of these items are unique to these suppliers and vendors. While we have developed alternate sourcing strategies for these materials and vendors, we cannot be certain whether these strategies will be effective or the alternative sources will be available when we need them. If these suppliers can no longer provide us with the materials we need, if the materials do not meet our quality specifications or are otherwise unusable, if we cannot obtain acceptable substitute materials, or if we elect to change suppliers, an interruption in laboratory operations could occur, we may not be able to deliver patient reports on a timely basis, or at
all, and we may incur higher one-time switching costs. Any such interruption may significantly affect our future revenue, cause us to incur higher costs, and harm our customer relationships and reputation. In addition, in order to mitigate these risks, we maintain inventories of these supplies at higher levels than would be the case if multiple sources of supply were available. If our testing volume decreases or we switch suppliers, we may hold excess supplies with expiration dates that occur before use which would adversely affect our losses and cash flow position. As we introduce any new products, we may experience supply issues as we ramp up test volume, or encounter additional disruptions to trade, commerce, pricing stability, credit availability and global supply chain continuity as a result of the invasion of Ukraine by Russia, particularly if we contract with suppliers
with operations or commercial relationships in Eastern Europe or to the extent the conflict escalates to involve additional countries, further economic sanctions or wider military conflict. If we should encounter delays or difficulties in securing, reconfiguring or revalidating the equipment, reagents or other materials we require for our products, our business, financial condition, results of operations and reputation could be adversely affected.
If our products do not meet the expectations of physicians and patients, our operating results, reputation and business could suffer.
Our success depends on physician and patient confidence that we can provide reliable, high-quality information that will improve treatment outcomes, lower healthcare costs and enable better patient care. We believe that patients, physicians and other healthcare providers are likely to be particularly sensitive
to defects and errors in our products, including if our products fail to accurately predict risk of metastasis with high accuracy from samples, and there can be no guarantee that our products will meet their expectations. As a result, the failure of our products to perform as expected could significantly impair our operating results and our reputation, including if we become subject to legal claims arising from any defects or errors in our products or reports.
If we are unable to compete successfully, our business will suffer and we may be unable to increase or sustain our revenue or achieve profitability.
We face competition from companies and academic institutions that have either developed or may seek to develop products intended to compete with our products.
In addition, competitors may develop their own versions of our solutions
in countries where we do not have patents or where our intellectual property rights are not recognized and compete with us in those countries, including encouraging the use of their solutions by physicians in other countries.
Some potential competitors may have longer operating histories, larger customer bases, greater brand recognition and market penetration, substantially greater financial, technological and research and development resources and selling and marketing capabilities, and more experience dealing with third-party payors. As a result, they may be able to respond more quickly to changes in customer requirements, devote greater resources to the development, promotion and sale of their products than we do or sell their products at prices designed to win significant levels of market share. We may not be able to compete effectively against these organizations. Increased competition and cost-saving initiatives on the
part of governmental entities and other third-party payors are likely to result in pricing pressures, which could harm our sales, profitability or ability to gain market share. In addition, competitors may be acquired by, receive investments from or enter into other commercial relationships with larger, well-established and well-financed companies. Certain potential competitors may be able to secure key inputs from vendors on more favorable terms, devote greater resources to marketing and promotional campaigns, adopt more aggressive pricing policies and devote substantially more resources to test development than we can. In addition, companies or governments that control access to testing through umbrella contracts or regional preferences could promote our competitors or prevent us from performing certain services. If we are unable to compete successfully against current and future
competitors, our business will suffer and we may be unable to increase market acceptance and sales of our products, which could prevent us from increasing our revenue or achieving profitability and could cause our stock price to decline. As we add new tests and services, we will face many of these same competitive risks for these new tests.
The sizes of the markets for our current and future products have not been established with precision and may be smaller than we estimate.*
Our estimates of the total addressable markets for the DecisionDx-Melanoma, DecisionDx-UM, DecisionDx-SCC, MyPath Melanoma, DiffDx-Melanoma,
TissueCypher and IDgenetix tests are based on a number of internal and third-party estimates, including, without limitation, the annual rate of patients with the applicable indications, the list price of our products relative to the reimbursement we expect to receive from third-party payors and the assumed prices at which we can sell our products in markets that have not been established. For example, we estimate that the total addressable market for DecisionDx-Melanoma is approximately $540 million, which is based, in part, on our review of multiple publications which show that diagnosis of melanoma is underreported by 30% to 72%. While we believe our assumptions and the data underlying our estimates are reasonable, these assumptions and estimates may not be correct and the conditions supporting our assumptions or estimates may change at any time, thereby reducing the predictive accuracy of these underlying factors. As
a result, our estimates of the annual total addressable market for our current or future products may prove to be incorrect. If the actual number of patients who would benefit from our products, the price at which we can sell future products, or the annual total addressable market for our products is smaller than we have estimated, it may impair our sales growth and have an adverse impact on our business.
The diagnostic testing industry is subject to rapid change, which could make our current or future products obsolete.
Our industry is characterized by rapid changes, including technological and scientific breakthroughs, frequent new product introductions and enhancements and evolving industry standards, all of which could make our current products and the other products we are developing obsolete. Our future success will depend on our ability to keep pace with the evolving needs
of physicians and patients on a timely and cost-effective basis and to pursue new market opportunities that develop as a result of scientific and technological advances. In recent years, there have been numerous advances in technologies relating to the diagnosis and treatment of cancer. There have also been advances in methods used to analyze very large amounts of molecular information. We must continuously enhance our existing products and develop new products to keep pace with evolving standards of care. If we do not update our products to reflect new scientific knowledge about cancer biology, information about new cancer therapies or relevant clinical studies, our products could become obsolete and sales of our current products and any new products we develop could decline or fail to grow as expected.
Risks
Related to Reimbursement and Government Regulation
We currently have limited reimbursement coverage for our lead product, DecisionDx-Melanoma, and if third-party payors, including government and commercial payors, do not provide sufficient coverage of, or adequate reimbursement for, our products, our commercial success, including revenue, will be negatively affected.*
Our revenue depends on achieving broad coverage and adequate reimbursement for our products from third-party payors, including both government and commercial third-party payors. If third-party payors do not provide coverage of, or do not provide adequate reimbursement for, a substantial portion of the list price of our products, we may need to seek additional payment from the patient beyond any co-payments and deductibles, which may adversely affect demand for our products. Coverage determinations by a third-party
payor may depend on a number of factors, including, but not limited to, a third-party payor’s determination of whether our products are appropriate, medically necessary or cost-effective. If we are unable to provide third-party payors with sufficient evidence of the clinical utility and validity of our products, they may not provide coverage, or may provide limited coverage, which will adversely affect our revenues and our ability to succeed. To the extent that more competitors enter our markets, the availability of coverage and the reimbursement rate for our products may decrease as we encounter pricing pressure from these competitors.
Since each third-party payor makes its own decision as to whether to establish a policy to cover our products, enter into a contract with us and set the amount it will reimburse for a product, these
negotiations are a time-consuming and costly process, and they do not guarantee that the third-party payor will provide coverage or adequate reimbursement for our products. In addition, the determinations by a third-party payor whether to cover our products and the amount it will reimburse for them are often made on an indication-by-indication basis.
In cases where there is no coverage policy or we do not have a contracted rate for reimbursement as a participating provider, the patient is typically responsible for a greater share of the cost of the product, which may result in further delay of our revenue, increase our collection costs or decrease the likelihood of collection.
Our claims for reimbursement from third-party payors may be denied upon submission, and we may need to take additional steps to receive payment, such as appealing the denials. Such appeals and other processes
are time-consuming and expensive and may not result in payment. Third-party payors may perform audits of historically paid claims and attempt to recoup funds years after the funds were initially distributed if the third-party payors believe the funds were paid in error or determine that our products were medically unnecessary. If a third-party payor audits our claims and issues a negative audit finding, and we are not able to overturn the audit findings through appeal, the recoupment may result in a material adverse effect on our revenue. Additionally, in some cases commercial third-party payors for whom we are not a participating provider may elect at any time
to
review claims previously paid and determine the amount they paid was too much. In these situations, the third-party payor will typically notify us of their decision and then offset whatever amount they determine they overpaid against amounts they owe us on current claims. We cannot predict when, or how often, a third-party payor might engage in these reviews and we may not be able to dispute these retroactive adjustments.
Under ASC 606, we recognize revenue at the amount we expect to be entitled, subject to a constraint for variable consideration, in the period in which our tests are delivered to the treating physician. We have determined that our contracts contain variable consideration under ASC 606 because the amounts paid by third-party payors may be paid at less than our standard rates or not paid at all, with such differences
considered implicit price concessions. Variable consideration is recognized only to the extent it is probable that a significant reversal of revenue will not occur in future periods when the uncertainties are resolved.
Variable consideration is evaluated each reporting period and adjustments are recorded as increases or decreases in revenues. Variable consideration for Medicare claims that are not covered by an LCD or otherwise, including those claims undergoing appeal, is deemed to be fully constrained due to factors outside our influence (e.g., judgment or actions of third parties) and the uncertainty of the amount to be received is not expected to be resolved for a long period of time. For these fully constrained claims, we generally recognize revenue in the period the uncertainties are resolved, if favorable. Due to potential future changes in Medicare coverage policies and appeal cycles, insurance coverage policies,
contractual rates and other trends in the reimbursement of our tests, our revenues may fluctuate significantly from period to period.
Although we are an in-network participating provider with some commercial third-party payors, including several Blue Cross Blue Shield plans, and certain large, national commercial third-party payors, including Aetna, other commercial third-party payors have issued non-coverage policies that currently categorize our tests as experimental or investigational. If we are not successful in obtaining coverage from third-party payors, in reversing existing non-coverage policies, or if other third-party payors issue similar non-coverage policies, this could have a material adverse effect on our business and operations.
Palmetto, the MAC responsible for administering MolDX, the program that assesses molecular diagnostic technologies, issued a final LCD for
DecisionDx-Melanoma, which became effective on December 3, 2018, and issued a final expanded LCD effective November 22, 2020. This LCD provides for coverage of DecisionDx-Melanoma for certain SLNB-eligible patients with cutaneous melanoma tumors with clinically negative sentinel node basins who are being considered for SLNB to determine eligibility for adjuvant therapy. The final expanded LCD also covers use of DecisionDx-Melanoma by physicians for assessment of appropriate treatment plans, regardless of the decision to undergo or avoid the SLNB surgery. In the second quarter of 2021, Palmetto and the other MACs that participate in the MolDX program each released a revised draft LCD for DecisionDx-Melanoma. The draft LCD included commentary about two publications regarding the clinical utility of GEP tests and included an assessment stating that the new data is not sufficient
to change the coverage criteria. There was an open public comment period, and we submitted comments in support of Medicare coverage. The comment period ended on August 8, 2021. Palmetto issued a final LCD on May 19, 2022 with Noridian issuing the same on June 16, 2022. The final LCDs did not result in any change in coverage.
Separately, Palmetto issued a final LCD for DecisionDx-UM effective July 10, 2017. This LCD provides for coverage of DecisionDx-UM to determine metastatic risk in connection with the management of a patient’s newly diagnosed UM and to guide surveillance and referral to medical oncology for those patients.
We worked with Palmetto to obtain these positive coverage
decisions through the submission of a detailed dossier of analytical and clinical data to substantiate that the tests meet Medicare’s medical necessity requirements. Per their joint operating agreement, Noridian, the MAC responsible for administering claims for laboratory services performed in Arizona, has adopted the same coverage policy as Palmetto for DecisionDx-UM and DecisionDx-Melanoma. This coverage process is lengthy, time-consuming, has changed over time, may change in the future and requires significant dedication of resources, and as we develop new products, we may be unsuccessful in receiving LCD determinations for those products or in maintaining our current LCDs. On a periodic basis, CMS requests bids for its MAC services, and MAC jurisdictions have changed in the past. A change in our MAC, or future changes in the MolDX program, the elimination of the program, or a change in the administrator of that program, may affect our ability to obtain Medicare coverage
and reimbursement for products for which we have coverage, for products for which we do not yet have coverage, or for any products we may launch in the future, or delay payments for our tests.
Under Medicare, payment for products like ours is generally made under the CLFS with payment amounts assigned to specific procedure billing codes. In April 2014, Congress passed the Protecting Access to Medicare Act of 2014 (“PAMA”) which included substantial changes to the way in which clinical laboratory services are paid under Medicare. Under PAMA, certain laboratories are required to report to CMS commercial third-party payor payment rates and volumes for each test they perform. CMS uses this data to calculate a weighted median payment rate for each test, which will be used to establish revised Medicare CLFS reimbursement rates for the test. Laboratories that fail to report the required payment information may be subject to
substantial civil monetary penalties. We bill Medicare for our products, and therefore we are subject to reporting requirements under PAMA.
In the second quarter of 2020, we submitted our technical assessment dossier for DecisionDx-SCC to Palmetto and Noridian. The dossier was accepted as complete in the third quarter of 2020. In early 2021, we submitted our technical assessment dossier for DiffDx-Melanoma. The dossier was accepted as complete in the first quarter of 2021. In June 2022, Palmetto and Noridian each posted a draft LCD that would provide coverage criteria for DiffDx-Melanoma. We believe the LCD for DiffDx-Melanoma will be finalized by the end
of the second quarter of 2023. However, there is no assurance that any draft or final LCD will match our expectations, be posted in a timeframe consistent with our historical experience or will be posted at all. Regarding DecisionDx-SCC, no draft LCD has been posted by Palmetto or Noridian to date.
In the second quarter of 2022, following the completion of a requested medical review and pricing of our DecisionDx-SCC test by Novitas, we have been receiving reimbursement from Novitas on DecisionDx-SCC at a rate of approximately $3,800 per test. On June 9, 2022, Novitas posted a draft oncology biomarker LCD that proposes to rely upon evidentiary reviews sourced from three databases: ClinGen, OncoKB and NCCN. Two of the databases do not review gene expression profile tests and NCCN has not yet, to our knowledge, reviewed DecisionDx-SCC. As such, if finalized as proposed, then DecisionDx-SCC
would not be included as a covered test in the associated billing and coding article. We cannot predict whether this draft LCD will be finalized as proposed or what the timing of any final LCD might be.
If we are unable to obtain and maintain adequate reimbursement rates from commercial third-party payors, this may adversely affect our Medicare rate. It is unclear what impact new pricing structures, such as those adopted under PAMA, may have on our business, financial condition, results of operations or cash flows.
The U.S. federal government continues to show significant interest in pursuing healthcare reform and reducing healthcare costs. Similarly, commercial third-party payors may seek to reduce costs by limiting coverage or reducing reimbursement for our products. Any government-adopted reform measures or changes to commercial third-party payor coverage and reimbursement policies
could cause significant pressure on the pricing of, and reimbursement for, healthcare products and services, including our products, which could decrease demand for our products, and adversely affect our sales and revenue.
In addition, some third-party payors have implemented, or are in the process of implementing, laboratory benefit management programs, often using third-party benefit managers to manage these programs. The stated goals of these programs are to help improve the quality of outpatient laboratory services, support evidence-based guidelines for patient care and lower costs. The impact on laboratories, such as ours, of active laboratory benefit management by third parties is unclear, and we expect that it could have a negative impact on our revenue in the short term. It is possible that third-party payors will resist reimbursement for the products that we offer, in favor of less expensive products, may require
pre-approval for our products or may impose additional pricing pressure on and substantial administrative burden for reimbursement for our products.
We expect to continue to focus substantial resources on increasing coverage and reimbursement for our current products and any future products we may develop. We believe it may take several years to achieve broad coverage and adequate contracted reimbursement with a majority of third-party payors for our products.
However, we cannot predict whether, under what circumstances, or at what payment levels third-party payors will cover and reimburse our products. If we fail to establish and maintain broad adoption of, and coverage and reimbursement for, our products, our ability to generate revenue could be harmed and our future prospects and our business could suffer.
Our products are currently
marketed as laboratory developed tests, and any changes in regulations or the FDA’s enforcement discretion for laboratory developed tests, or violations of regulations by us, could adversely affect our business, prospects, results of operations or financial condition.*
The diagnostics industry is highly regulated, and we cannot assure you that the regulatory environment in which we operate will not change significantly and adversely in the future. In many instances, there are no significant regulatory or judicial interpretations of these laws and regulations. Although the FDA has statutory authority to assure that medical devices are safe and effective for their intended uses, the FDA has generally exercised its enforcement discretion and not enforced applicable regulations with respect to in vitro diagnostics that are designed, manufactured and used within a single laboratory. These tests are referred to as laboratory developed
tests (“LDTs”). We currently market our products as LDTs.
The FDA has adopted a policy of enforcement discretion with respect to LDTs whereby the FDA does not actively require premarket review of LDTs or otherwise impose its requirements applicable to other medical devices on LDTs. However, the FDA has stated its intention to modify its enforcement discretion policy with respect to LDTs. The FDA could ultimately modify its current approach to LDTs in a way that would subject our products marketed as LDTs to the enforcement of additional regulatory requirements. Moreover, legislative measures have recently been proposed in Congress that, if ultimately enacted, could provide the FDA with additional authority to require premarket review of and regulate LDTs. If and when such changes to the regulatory framework occur, we could for the first time be subject to enforcement of regulatory requirements as a device manufacturer
such as registration and listing requirements, medical device reporting requirements and the requirements of the FDA’s Quality System Regulation. We may be required to conduct clinical trials prior to continuing to sell our existing
products or launching any other products we may develop. This may increase the cost of conducting, or otherwise harm, our business.
Moreover, even if the FDA does not modify its policy of enforcement discretion, the FDA may disagree that we are marketing our LDTs within the scope of its policy of enforcement discretion and may impose significant regulatory requirements. While we believe
that we are currently in material compliance with applicable laws and regulations as historically enforced by the FDA, we cannot assure you that the FDA will agree with our determination. A determination that we have violated these laws and regulations, or a public announcement that we are being investigated for possible violations, could adversely affect our business, prospects, results of operations or financial condition.
If the FDA begins to actively regulate our diagnostic products, we may be required to obtain premarket clearance under Section 510(k) of the U.S. Federal Food, Drug and Cosmetic Act (“FDCA”) or a premarket approval (“PMA”). The process for submitting a 510(k) premarket notification and receiving FDA clearance usually takes from three to 12 months, but it can take significantly longer and clearance is never guaranteed. The process for submitting and obtaining FDA approval of a PMA is much
more costly, lengthy and uncertain. It generally takes from one to three years or even longer, and approval is not guaranteed. PMA approval typically requires extensive clinical data and can be significantly longer, more expensive and more uncertain than the 510(k) clearance process. Despite the time, effort and expense expended, there can be no assurance that a particular device ultimately will be cleared or approved by the FDA through either the 510(k) clearance process or the PMA process on a timely basis, or at all. Moreover, there can be no assurance that any cleared or approved labeling claims will be consistent with our current claims or adequate to support continued adoption of and reimbursement for our products. If premarket review is required for some or all of our products, the FDA may require that we stop selling our products pending clearance or approval, which would negatively impact our business. Even if our products are allowed to remain on the market
prior to clearance or approval, demand or reimbursement for our products may decline if there is uncertainty about our products, if we are required to label our products as investigational by the FDA, or if the FDA limits the labeling claims we are permitted to make for our products. As a result, we could experience significantly increased development costs and a delay in generating additional revenue from our products, or from other pipeline products.
If the FDA imposes significant changes to the regulation of LDTs it could reduce our revenues or increase our costs and adversely affect our business, prospects, results of operations or financial condition.
We conduct business in a heavily regulated industry, and failure to comply with federal, state and foreign laboratory licensing requirements and the applicable requirements of the FDA or any other regulatory authority, could cause
us to lose the ability to perform our tests, experience disruptions to our business, or become subject to administrative or judicial sanctions.*
The diagnostics industry is highly regulated, and the laws and regulations governing the marketing of diagnostic tests are extremely complex. Areas of the regulatory environment that may affect our ability to conduct business include, without limitation:
•federal and state laws applicable to test ordering, documentation of tests ordered, billing practices and claims payment and/or regulatory agencies enforcing those laws and regulations;
•federal and state fraud and abuse laws;
•federal and state laboratory anti-mark-up laws;
•coverage
and reimbursement levels by Medicare, Medicaid, other governmental payors and private insurers;
•restrictions on coverage of and reimbursement for tests;
•federal and state laws governing laboratory testing, including CLIA, and state licensing laws and accreditation requirements;
•federal and state laws and enforcement policies governing the development, use and distribution of diagnostic medical devices, including LDTs;
•federal, state and local laws governing the handling and disposal of medical and hazardous waste;
•federal and state Occupational Safety and Health Administration rules and regulations; and
•the
Health Insurance Portability and Accountability Act of 1996 (“HIPAA”) and similar state health data privacy laws.
In particular, the FDCA defines a medical device to include any instrument, apparatus, implement, machine, contrivance, implant, in vitro reagent, or other similar or related article, including a component, part, or accessory, intended for use in the diagnosis of disease or other conditions, or in the cure, mitigation, treatment, or prevention of disease, in man or other animals. Our products are considered by the FDA to be subject to regulation as medical devices, and marketed under FDA’s policy of
enforcement
discretion for LDTs. Among other things, pursuant to the FDCA and its implementing regulations, the FDA regulates the research, testing, manufacturing, safety, labeling, storage, recordkeeping, premarket clearance or approval, marketing and promotion, and sales and distribution of medical devices in the United States to ensure that medical products distributed domestically are safe and effective for their intended uses. In addition, the FDA regulates the import and export of medical devices manufactured between the United States and international markets.
We are also subject to CLIA, a federal law that regulates clinical laboratories that perform testing on specimens derived from humans for the purpose of providing information for the diagnosis, prevention or treatment of disease. CLIA regulations establish specific standards with respect to personnel qualifications, facility administration, proficiency testing, quality control,
quality assurance and inspections. Any testing subject to CLIA regulation must be performed in a CLIA-certified or accredited lab. CLIA certification or accreditation is also required in order for us to be eligible to bill state and federal healthcare programs, as well as commercial third-party payors, for our products.
We have a current CLIA accreditation under the College of American Pathologists (“CAP”) program to conduct our tests at our clinical reference laboratory in Phoenix, Arizona. In April 2022, we acquired a laboratory in San Diego, California which is currently CLIA-certified and CAP accredited. Additionally, our laboratory in Pittsburgh, Pennsylvania, which we acquired in December of 2021, is currently CLIA-certified and we are working through the application and inspection process toward CAP accreditation.CAP maintains a clinical laboratory accreditation
program. While not required for the operation of a CLIA-certified laboratory, many private insurers require CAP accreditation as a condition to contracting with clinical laboratories to cover their tests. In addition, some countries outside the United States require CAP accreditation as a condition to permitting clinical laboratories to test samples taken from their citizens. CAP accredited laboratories are surveyed for compliance with CAP standards every two years in order to maintain accreditation. Failure to maintain CAP accreditation could have a material adverse effect on the sales of our products and the results of our operations. Therefore, to maintain our CLIA accreditation, we have elected to be subject to survey and inspection every two years by CAP. Moreover, CLIA inspectors may make random inspections of our laboratory from time to time.
Our most recent CAP inspection occurred in March 2022 for our Phoenix, Arizona
laboratory. Our CLIA accreditation certificate for our Pittsburgh, Pennsylvania laboratory expires on December 20, 2022, and the certificate for our San Diego, California laboratory expires in 2024.
In addition, certain states require our laboratory to be licensed in such states in order to test specimens from those states. Accordingly, our laboratory is also licensed by California, Maryland, New York, Pennsylvania and Rhode Island. Other states may have similar requirements or may adopt similar requirements in the future.
Although we have obtained licenses from states where we believe we are required to be licensed, we may become aware of other states that require out-of-state laboratories to obtain licensure in order to accept specimens from the state, and it is possible that other states currently have such requirements or will
have such requirements in the future.
In order to test specimens from New York, LDTs must be approved by the New York State Department of Health (“NYSDOH”) on a test-by-test basis before they are offered. Our laboratory director must also be separately qualified to be a laboratory director in New York. DecisionDx-Melanoma, DecisionDx-UM, DecisionDx-PRAME, DecisionDx-SCC, DiffDx-Melanoma and IDgenetix have each been formally approved. In July 2022, we submitted TissueCypher for review by NYSDOH and expect a response in the first quarter of 2023. Our laboratory director has been qualified by NYSDOH. We are subject to periodic inspection by NYSDOH and are required to demonstrate ongoing compliance with NYSDOH regulations and standards. To the extent NYSDOH identified any non-compliance and we are unable to remedy such non-compliance, the State of New York could withdraw approval for our products. We will need to seek NYSDOH
approval of any future LDTs we develop and want to offer for clinical testing to New York residents, and there can be no assurance that we will be able to obtain such approval.
We may also be subject to regulation in foreign jurisdictions as we seek to expand international utilization of our products or such jurisdictions adopt new licensure requirements, which may require review of our products in order to offer them or may have other limitations such as restrictions on the transport of human tissue samples necessary for us to perform our tests that may limit our ability to make our products available outside of the United States. Complying with licensure requirements in new jurisdictions may be expensive, time-consuming and subject us to significant and unanticipated delays.
Failure to comply with applicable clinical laboratory licensure requirements may result in a range of enforcement
actions, including suspension, limitation or revocation of our CLIA accreditation and/or state licenses, imposition of a directed plan of action, onsite monitoring, civil monetary penalties, criminal sanctions and revocation of the laboratory’s approval to receive Medicare and Medicaid payment for its services, as well as significant adverse publicity. Any sanction imposed under CLIA, its implementing regulations, or state or foreign laws or regulations governing clinical laboratory licensure or our failure to renew our CLIA accreditation, or a state or foreign license, could have a material adverse effect on our business, financial condition
and results
of operations. Even if we were able to bring our laboratory back into compliance, we could incur significant expenses and potentially lose revenue in doing so.
Doing business with the public sector, including the U.S. government, subjects us to risk of audits, investigations, sanctions and penalties.*
We have entered into, and may enter into in the future, contracts with the U.S. government or other governmental entities, and this subjects us to statutes and regulations applicable to companies doing business with the government. Government contracts normally contain additional requirements that may increase our costs of doing business, reduce our profits (or increase our losses) and expose us to liability
for failure to comply with these terms and conditions. Such requirements may include mandatory socioeconomic compliance requirements, including labor requirements, non-discrimination and affirmative action programs and environmental compliance requirements. Being a government contractor also subjects us to reviews, audits and investigations regarding our compliance. If we fail to comply with our obligations associated with being a government contractor, our contracts may be subject to termination, and we may be subject to financial and/or other liability under our contracts, which could adversely affect our results of operations.
The FDA may modify its enforcement discretion policy with respect to LDTs in a risk-based manner, and we may become
subject to extensive regulatory requirements and may be required to conduct additional clinical trials prior to continuing to sell our existing tests or launching any other tests we may develop, which may increase the cost of conducting, or otherwise harm, our business.
If the FDA changes or ends its policy of enforcement discretion with respect to LDTs, and our products become subject to the FDA’s requirements for premarket review of medical devices, we may be required to cease commercial sales of our products and conduct clinical trials prior to making submissions to the FDA to obtain premarket clearance or approval. If we are required to conduct such clinical trials, delays in the commencement or completion of clinical trials could significantly increase our product development costs and delay commercialization of any currently marketed testing that we may be required to cease selling or the commercialization of any future
tests that we may develop. Many of the factors that may cause or lead to a delay in the commencement or completion of clinical trials may also ultimately lead to delay or denial of regulatory clearance or approval. The commencement of clinical trials may be delayed due to insufficient patient enrollment, which is a function of many factors, including the size of the patient population, the nature of the protocol, the proximity of patients to clinical sites and the eligibility criteria for the clinical trial.
The FDA requires medical device manufacturers to comply with, among other things, current good manufacturing practices for medical devices, known as the Quality System Regulation, which requires manufacturers to follow elaborate design, testing, control, documentation and other quality assurance procedures during the manufacturing process; the medical device reporting regulation, which requires that manufacturers report
to the FDA if their device may have caused or contributed to a death or serious injury or malfunctioned in a way that would likely cause or contribute to a death or serious injury if it were to recur; labeling regulations, including the FDA’s general prohibition against promoting products for unapproved or ‘‘off-label’’ uses; and the reports of corrections and removals regulation, which requires manufacturers to report to the FDA if a device correction or removal was initiated to reduce a risk to health posed by the device or to remedy a violation of the FDCA caused by the device which may present a risk to health.
Even if we were able to obtain FDA clearance or approval for one or more of our products, if required, a diagnostic test may be subject to limitations on the indications for which it may be marketed or to other regulatory conditions. In addition, such clearance or approval may contain requirements for costly post-market
testing and surveillance to monitor the safety or efficacy of the test.
In addition, the FDA’s and other regulatory authorities’ policies may change and additional government regulations may be enacted that could prevent, limit or delay regulatory approvals. If we are slow or unable to adapt to changes in existing requirements or the adoption of new requirements or policies, or if we are not able to maintain regulatory compliance, we may lose any marketing authorization that we may have obtained and we may not achieve or sustain profitability, which would adversely affect our business, prospects, financial condition and results of operations.
Interim, topline and preliminary data from our clinical studies that we announce or publish from time to time may change as more data become available and are subject to audit and verification procedures that could result in material changes
in the final data.
From time to time, we may publicly disclose preliminary or topline data from our clinical studies, which is based on a preliminary analysis of then-available data, and the results and related findings and conclusions are subject to change following a more comprehensive review of the data related to the particular study. We also make assumptions, estimations, calculations and conclusions as part of our analyses of data, and we may not have received or had the opportunity to fully and carefully evaluate all data. As a result, the topline results that we report may differ from future results of the same studies, or different conclusions or considerations may qualify such results once additional data have been received and fully evaluated. Topline
data also remain subject to audit and verification procedures that may result in the final data being materially different from the preliminary data we previously published. As a result, topline data should be viewed with caution until the final data are available. From time to time, we may also disclose interim data from our clinical studies. Interim data from clinical studies that we may complete are subject to the risk that one or more of the clinical outcomes may materially change as more patient data become available. Adverse differences between preliminary or interim data and final data could significantly harm our reputation and marketing efforts.
Further, others, including healthcare providers or payors, may not accept or agree with our assumptions, estimates, calculations, conclusions or analyses or may interpret or weigh the importance of data differently,
which could impact the value of the particular program, the approvability or commercialization of the particular product candidate or product and our company in general. In addition, the information we choose to publicly disclose regarding a particular study is based on what is typically extensive information, and you or others may not agree with what we determine is the material or otherwise appropriate information to include in our disclosure, and any information we determine not to disclose may ultimately be deemed significant with respect to future decisions, conclusions, views, activities or otherwise regarding our business. If the topline or interim data that we report differ from actual results, or if others, including healthcare providers or payors, disagree with the conclusions reached, our ability to commercialize, our product candidates may be harmed, which could harm our
business, operating results, prospects or financial condition.
Changes in healthcare policy could increase our costs, decrease our revenues and impact sales of and reimbursement for our products.*
In March 2010, the ACA became law. This law substantially changed the way healthcare is financed by both government and commercial third-party payors, and significantly impacted our industry. The ACA contains a number of provisions that are expected to impact our business and operations, some of which in ways we cannot currently predict, including those governing enrollment in state and federal healthcare programs, reimbursement changes and fraud and abuse, which impact existing state and federal healthcare programs and will result in the development of new programs. Among other things, the ACA required medical device manufacturers to pay a sales tax equal to 2.3% of the price for which
such manufacturer sells its medical devices, and began to apply to sales of taxable medical devices after December 31, 2012, but was suspended in 2016. Further, the 2020 federal spending package permanently eliminated, effective January 1, 2020, the medical device tax and “Cadillac” tax on high-cost employer-sponsored health coverage and, effective January 1, 2021, also eliminated the health insurer tax.
Since 2016, there have been efforts to repeal all or part of the ACA, and the previous administration and the U.S. Congress have taken action to roll back certain provisions of the ACA.
For example, on June 17, 2021, the U.S. Supreme Court dismissed a challenge on procedural
grounds that argued the ACA is unconstitutional in its entirety because the “individual mandate” was repealed by Congress. Thus, the ACA will remain in effect in its current form.Further, prior to the U.S. Supreme Court ruling, on January 28, 2021, President Biden issued an executive order that initiated a special enrollment period for purposes of obtaining health insurance coverage through the ACA marketplace, which began on February 15, 2021, and remained open through August 15, 2021. The executive order also instructed certain governmental agencies to review and reconsider their existing policies and rules that limit access to healthcare, including among others, reexamining Medicaid demonstration projects and waiver programs that include work requirements, and policies
that create unnecessary barriers to obtaining access to health insurance coverage through Medicaid or the ACA. It is possible that the ACA will be subject to judicial or Congressional challenges in the future. It is unclear how any such challenges and the healthcare reform measures of the Biden administration will impact the ACA and our business.
On August 2, 2011, the Budget Control Act of 2011 was signed into law, which, among other things, reduced Medicare payments to providers by 2% per fiscal year, effective on April 1, 2013 and, due to subsequent legislative amendments to the statute, including the Infrastructure Investment and Jobs Act, will remain in effect through 2030, unless additional Congressional action is taken. The CARES Act and other COVID-19 relief legislation suspended the 2% Medicare sequester from May
1, 2020, through March 31, 2022. Under current legislation, the actual reduction in Medicare payments will vary from 1% in 2022 to up to 3% in the final fiscal year of this sequester. Further, Congress is considering additional health reform measures as part of other reform initiatives.
We anticipate there will continue to be proposals by legislators at both the federal and state levels, regulators and commercial third-party payors to reduce costs while expanding individual healthcare benefits. For example, it is possible that additional governmental action is taken in response to the COVID-19 crisis. Certain of these changes could impose additional limitations on the prices we will be able to charge for our products, the coverage of or the amounts of reimbursement available for our products from third-party payors, including government and commercial payors.
We are subject to numerous federal and state healthcare statutes and regulations, and complying with laws pertaining to our business is an expensive and time-consuming process. If we are unable to comply, or have not fully complied, with such laws, we could face substantial penalties and a material adverse effect to our business and operations.*
Physicians, other healthcare providers and third-party payors play a primary role in the recommendation of our products. Our arrangements with healthcare providers, third-party payors and customers may expose us to broadly applicable fraud and abuse and other healthcare laws and regulations that affect the business and financial arrangements and relationships through which we market and sell our products. The laws that affect our ability to operate include, but are not limited to:
•the
federal Anti-Kickback Statute (“AKS”), which prohibits, among other things, any person or entity from knowingly and willfully soliciting, receiving, offering or paying any remuneration, directly or indirectly, overtly or covertly, in cash or in kind, to induce or reward either the referral of an individual for, or the purchase, order or recommendation of an item or service reimbursable, in whole or in part, under a federal healthcare program, such as the Medicare and Medicaid programs. The term ‘‘remuneration’’ has been broadly interpreted to include anything of value, such as specimen collection materials or test kits. There are a number of statutory exceptions and regulatory safe harbors protecting some common activities from prosecution, however these are drawn narrowly. Additionally, a person or entity does not need to have actual knowledge of the statute or specific intent to violate it in order to have committed a violation. Violations are subject to civil
and criminal fines and monetary penalties of up to $100,000 for each violation, plus up to three times the remuneration involved, imprisonment of up to ten years and exclusion from government healthcare programs. In addition, the ACA codified case law that a claim including items or services resulting from a violation of the AKS constitutes a false or fraudulent claim for purposes of the federal False Claims Act (“FCA”);
•the Stark Law, which prohibits a physician from making a referral for certain designated health services covered by the Medicare or Medicaid program, including laboratory and pathology services, if the physician or an immediate family member of the physician has a financial relationship with the entity providing the designated health services and prohibits that entity from billing, presenting or causing to be presented a claim for the designated health services furnished pursuant
to the prohibited referral, unless an exception applies. Sanctions for violating the Stark Law include denial of payment, civil monetary penalties and exclusion from the federal healthcare programs. Failure to refund amounts received as a result of a prohibited referral on a timely basis may constitute a false or fraudulent claim and may result in civil penalties and additional penalties under the FCA;
•federal civil and criminal false claims laws, such as the FCA, which can be enforced by private citizens through civil qui tam action, and civil monetary penalty laws prohibit individuals or entities from, among other things, knowingly presenting, or causing to be presented through distribution of template medical necessity language or other coverage and reimbursement information, false, fictitious or fraudulent claims for payment or approval by the federal government, including federal healthcare programs,
such as Medicare and Medicaid, and knowingly making, using or causing to be made or used a false record or statement material to a false or fraudulent claim, or knowingly making a false statement to improperly avoid, decrease or conceal an obligation to pay money to the federal government. In addition, a claim including items or services resulting from a violation of the AKS constitutes a false or fraudulent claim for purposes of the FCA. Private individuals can bring False Claims Act ‘‘qui tam’’ actions, on behalf of the government and such individuals, commonly known as ‘‘whistleblowers,’’ may share in amounts paid by the entity to the government in fines or settlement. When an entity is determined to have violated the federal civil False Claims Act, the government may impose civil fines and penalties, plus treble damages, and exclude the entity from participation in Medicare, Medicaid and other federal healthcare programs;
•the
Eliminating Kickbacks in Recovery Act of 2018 (“EKRA”) prohibits payments for referrals to recovery homes, clinical treatment facilities, and laboratories. EKRA’s reach extends beyond federal healthcare programs to include private insurance (i.e., it is an “all payor” statute). For purposes of EKRA, the term “laboratory” is defined broadly and without reference to any connection to substance use disorder treatment. The law includes a limited number of exceptions, some of which closely align with corresponding federal Anti-Kickback Statute exceptions and safe harbors, and others that materially differ;
•HIPAA, which, among other things, imposes criminal liability for executing or attempting to execute a scheme to defraud any healthcare benefit program, including private third-party payors, knowingly and willfully embezzling or stealing from a healthcare benefit program, willfully
obstructing a criminal investigation of a healthcare offense, and knowingly and willfully falsifying, concealing or covering up a material fact or making any materially false, fictitious or fraudulent statement or representation, in connection with the delivery of or payment for healthcare benefits, items or services. Like the AKS, a person or entity does not need to have actual knowledge of the statute or specific intent to violate it in order to have committed a violation;
•HIPAA, as amended by the Health Information Technology for Economic and Clinical Health Act (“HITECH”), and their implementing regulations, which imposes privacy, security and breach reporting obligations with respect to
individually identifiable health information upon entities subject to the law, such as health plans, healthcare clearinghouses and certain healthcare providers, known as covered entities, and their respective business associates, individuals or entities that perform services for them that involve individually identifiable health information as well as their covered subcontractors. Failure to comply with the HIPAA’s obligations can result in civil monetary penalties, and, in certain circumstances, criminal penalties. HITECH also created new tiers of civil monetary penalties, amended HIPAA to make civil and criminal penalties directly applicable to business associates, and gave state attorneys general new authority to file civil actions for damages or injunctions in U.S. federal courts to enforce HIPAA and seek attorneys’ fees and costs associated with pursuing federal civil actions;
•state
laws that prohibit other specified practices, such as billing physicians for tests that they order or providing tests at no or discounted cost to induce physician or patient adoption; insurance fraud laws; waiving coinsurance, copayments, deductibles, and other amounts owed by patients; billing a state Medicaid program at a price that is higher than what is charged to one or more other third-party payors employing, exercising control over or splitting professional fees with licensed professionals in violation of state laws prohibiting fee splitting or the corporate practice of medicine and other professions;
•federal and state consumer protection and unfair competition laws, which broadly regulate marketplace activities and activities that potentially harm consumers;
•the federal transparency requirements under the Physician Payments
Sunshine Act, created under the ACA, which requires, among other things, certain manufacturers of drugs, devices, biologics and medical supplies reimbursed under Medicare, Medicaid, or the Children’s Health Insurance Program to annually report to CMS information related to payments and other transfers of value provided to physicians (defined to include doctors, dentists, optometrists, podiatrists and chiropractors), other healthcare professionals (such as physician assistants and nurse practitioners) and teaching hospitals and information regarding physician ownership and investment interests, including such ownership and investment interests held by a physician’s immediate family members. Failure to submit required information may result in civil monetary penalties for all payments, transfers of value or ownership or investment interests that are not timely, accurately, and completely reported in an annual submission, and may result in liability under other federal
laws or regulations. We believe that we are exempt from these reporting requirements. We cannot assure you, however, that our regulators, principally the federal government, will agree with our determination, and a determination that we have violated these laws and regulations, or a public announcement that we are being investigated for possible violations, could adversely affect our business;
•the prohibition on reassignment of Medicare claims, which, subject to certain exceptions, precludes the reassignment of Medicare claims to any other part;
•state and foreign law equivalents of each of the above federal laws, such as anti-kickback and false claims laws, which may impose similar or more prohibitive restrictions, and may apply to items or services reimbursed by any non-governmental third-party payors, including private insurers;
and
•federal, state, local and foreign laws that govern the privacy and security of health information in certain circumstances, including state health information privacy and data breach notification laws which govern the collection, use, disclosure, and protection of health-related and other personal information, many of which differ from each other in significant ways and often are not pre-empted by HIPAA, thus complicating compliance efforts.
As a clinical laboratory, our business practices may face additional scrutiny from government regulatory agencies such as the Department of Justice, the U.S. Department of Health and Human Services Office of Inspector General (“OIG”) and CMS. Certain arrangements between clinical laboratories and referring physicians have been identified in fraud alerts issued by the OIG as implicating the AKS. The OIG has
stated that it is particularly concerned about these types of arrangements because the choice of laboratory, as well as the decision to order laboratory tests, typically are made or strongly influenced by the physician, with little or no input from patients. Moreover, the provision of payments or other items of value by a clinical laboratory to a referral source could be prohibited under the Stark Law unless the arrangement meets all criteria of an applicable exception. The government has been active in enforcement of these laws as they apply to clinical laboratories.
We have entered into consulting and scientific advisory board arrangements, speaking arrangements and clinical research agreements with physicians and other healthcare providers, including some who could influence the use of our products. Because of the complex and far-reaching nature of these laws, regulatory agencies may view these transactions as prohibited
arrangements that must be restructured, or discontinued, or for which we could be subject to other significant penalties. We could be adversely affected if regulatory agencies interpret our financial relationships with providers who may influence the ordering of and use of our products to be in violation of applicable laws.
The scope and enforcement of each of these laws is uncertain and subject to rapid change in the current environment of healthcare reform. Federal and state enforcement bodies have recently increased their scrutiny of interactions between
healthcare companies, healthcare providers and other
third parties, including charitable foundations, which has led to a number of investigations, prosecutions, convictions and settlements in the healthcare industry. It is possible that governmental authorities may conclude that our business practices, including our consulting arrangements with physicians, as well as our financial assistance programs, do not comply with current or future statutes, regulations, agency guidance or case law involving applicable healthcare laws. Responding to investigations can be time and resource-consuming and can divert management’s attention from the business. Any such investigation or settlement could increase our costs or otherwise have an adverse effect on our business.
Ensuring that our business arrangements with third parties comply with applicable healthcare laws and regulations is costly. If our operations are found to be in violation of any of these laws or any other current or future
governmental laws and regulations that may apply to us, we may be subject to significant civil, criminal and administrative penalties, damages, fines, disgorgement, imprisonment, exclusion from government funded healthcare programs, such as Medicare and Medicaid, contractual damages, reputational harm, diminished profits and future earnings, additional reporting obligations and oversight if we become subject to a corporate integrity agreement or other agreement to resolve allegations of non-compliance with these laws, and the curtailment or restructuring of our operations, any of which could substantially disrupt our operations. If any of the physicians or other healthcare providers or entities with whom we do business is found to be not in compliance with applicable laws, they may be subject to significant criminal, civil or administrative sanctions, including exclusions from government funded healthcare programs.
We are
subject to certain U.S. anti-corruption, anti-money laundering, export control, sanctions, and other trade laws and regulations and may become subject to their similar foreign equivalents. We can face serious consequences for violations.
U.S. and foreign anti-corruption, anti-money laundering, export control, sanctions, and other trade laws and regulations prohibit, among other things, companies and their employees, agents, legal counsel, accountants, consultants, contractors, and other partners from authorizing, promising, offering, providing, soliciting, or receiving, directly or indirectly, corrupt or improper payments or anything else of value to or from recipients in the public or private sector. Violations of these trade laws can result in substantial criminal fines and civil penalties, imprisonment, the loss of trade privileges, debarment, tax reassessments, breach of contract
and fraud litigation, reputational harm, and other consequences. We have direct or indirect interactions with officials and employees of government agencies or government-affiliated hospitals, universities, and other organizations. We also expect that we may engage in non-U.S. activities over time. We expect to rely on third-party suppliers and/or third parties to obtain necessary permits, licenses, and patent registrations. We can be held liable for the corrupt or other illegal activities of our personnel, agents, or partners, even if we do not explicitly authorize or have prior knowledge of such activities. Any violations of the laws and regulations described above may result in substantial civil and criminal fines and penalties, imprisonment, the loss of export or import privileges, debarment, tax reassessments, breach of contract and fraud litigation, reputational harm and
other consequences.
We are subject to stringent and changing state, federal, local, foreign, and other privacy and security laws, regulations, rules, contractual obligations, policies and other obligations, and our failure to comply or perceived failure to comply with those obligations could result in regulatory investigations or actions; litigation; fines and penalties; disruptions of our business operations; reputational harm; loss of revenue or profits; loss of customers or sales; and other adverse business consequences.*
In the ordinary course of our business, we collect, store, use, transmit, disclose, or otherwise process (“Process”) confidential, proprietary, and sensitive data, including PHI, personal information, credit card and other financial information, intellectual property and proprietary business information owned or controlled by ourselves or our customers,
payors and other parties. Our data processing activities may subject us to numerous data privacy and security obligations, such as laws, regulations, guidance, industry standards, external and internal privacy and security policies, contracts and other obligations that govern the Processing of personal information by us and on our behalf.
In the United States, numerous federal, state, and local governments have enacted data privacy and security laws, including federal health information privacy laws, state data breach notification laws, state health information privacy laws, and federal and state consumer protection laws (e.g., Section 5 of the Federal Trade Commission Act). For example, HIPAA, as amended by HITECH, imposes specific requirements relating to the privacy, security, and transmission of individually identifiable health
information.Additionally, California has enacted several laws governing the Processing of personal information, such as the California Consumer Privacy Act of 2018 (“CCPA”), which provides California residents certain rights relate to their personal information, the California Rights Privacy Act of 2020 (“CPRA”), effective January 1, 2023, which will expand the CCPA, and the California Confidentiality of Medical Information Act, which restricts the use and disclosure of health information and other personal information. Although the CCPA exempts some personal information processed in the context of clinical trials, the CCPA, to the extent applicable to our business and operations, may increase compliance costs and potential liability with respect to other personal information we maintain about California residents.In
addition, other states have enacted or proposed privacy laws, further complicating compliance efforts.Outside the United States, there are also an increasing number of laws,
regulations, industry standards and other obligations concerning privacy and security, including for example the European Union’s (“EU”) General Data Protection Regulation (EU) 2016/679 (“GDPR”), the United Kingdom’s GDPR (“UK GDPR”), Brazil’s General Data Protection Law (Lei Geral de Proteção de Dados Pessoais, or “LGPD”) (Law No. 13,709/2018), and China’s Personal Information Protection Law (“PIPL”).
Moreover, certain jurisdictions have enacted data localization laws and cross-border personal information transfer laws, which could make it more difficult to transfer personal information across jurisdictions (such as transferring or receiving personal information that originates in the EU).Existing mechanisms that may facilitate cross-border personal information transfers may change or be invalidated. The more reliant our business is on the ability to effectuate cross-border data transfers, the more impact we may experience in light of any changes in the legal landscape.
In addition, privacy advocates and industry groups have proposed, and may in the future propose, standards with which we are legally or contractually bound to comply. In addition to data privacy and security laws, we may be contractually subject to industry standards
adopted by industry groups and may become subject to such obligations in the future. For example, we may also be subject to the Payment Card Industry Data Security Standard (“PCI DSS”). The PCI DSS requires companies to adopt certain measures to ensure the security of cardholder information, including using and maintaining firewalls, adopting proper password protections for certain devices and software, and restricting data access. Noncompliance with PCI-DSS can result in penalties ranging from $5,000 to $100,000 per month by credit card companies, litigation, damage to our reputation, and revenue losses. We may also rely on vendors to process payment card data, and those vendors may be subject to PCI DSS, and our business may be negatively affected if our vendors are fined or suffer other consequences as a result of PCI DSS noncompliance
More generally, we may also bound by contractual obligations related to data
privacy and security, and our efforts to comply with such obligations may not be successful. For example, certain privacy laws, such as the GDPR and the CCPA, require our customers to impose specific contractual restrictions on their service providers. Additionally, we may publish privacy policies and other statements regarding data privacy and security, and, if these policies or statements are found to be deficient, lacking in transparency, deceptive, unfair, or misrepresentative of our practices, we could experience adverse consequences.
Our obligations related to data privacy and security are quickly changing in an increasingly stringent fashion, creating some uncertainty as to the effective future legal framework. These laws may be subject to varying interpretations, creating complex compliance issues for us and our clients. Preparing for and complying with these obligations requires us to devote significant resources
(including, without limitation, financial and time-related resources).
These obligations may necessitate changes to our information technologies, systems, and practices and to those of any third parties that process personal information on our behalf.In addition, these obligations may require us to change our business model or to take on more onerous obligations in our contracts.Although we endeavor to comply with all applicable obligations, we may, at times, fail or be perceived to have failed to do so.Moreover, despite our efforts, our personnel or third parties upon whom we rely on may fail to comply with such obligations, which could negatively impact our business operations and compliance
posture. Failure or perceived failure to comply with these obligations could result in significant consequences, including but not limited to government enforcement actions (which could include civil, criminal, and administrative penalties), private litigation, additional reporting requirements and/or oversight, bans on processing personal information, and orders to destroy or not use personal information.Any of these events could have a material adverse effect on our reputation, business, or financial condition, including but not limited to: increase our cost of providing our services, decrease demand for our services, reduce our revenue, interrupt our business operations, limit our ability to develop our services, expenditure of time and resources to defend any claim or inquiry, and adverse publicity.
Ethical, legal and social concerns related to the use of genetic information
could reduce demand for our products.
Genetic testing has raised ethical, legal, and social issues regarding privacy and the appropriate uses of the resulting information. Governmental authorities have, through the Genetic Information Nondisclosure Act of 2008, and could further, for social or other purposes, limit or regulate the use of genetic information or genetic testing or prohibit testing for genetic predisposition to certain conditions, particularly for those that have no known cure. Ethical and social concerns may also influence governmental authorities to deny or delay the issuance of patents for technology relevant to our business. While we do not currently perform genetic tests for genetic predisposition to certain conditions, these concerns may lead patients to refuse to use, or clinicians to be reluctant to order, our genomic tests or genetic tests for somatic mutations even if permissible. These and other ethical,
legal and social concerns may limit market acceptance of our products or reduce the potential markets for our products, either of which could have an adverse effect on our business, financial condition, or results of operations.
If we are unable to obtain and maintain sufficient intellectual property protection for our technology, or if the scope of the intellectual property protection obtained is not sufficiently broad, our competitors could develop and commercialize
diagnostic tests similar or identical to ours, and our ability to successfully commercialize our products may be impaired.*
We rely on patent protection as well as trademark, copyright, trade secret and other intellectual property rights protection as well as nondisclosure, confidentiality and other contractual restrictions to protect our brands and proprietary tests and technologies, all of which provide limited protection and may not adequately protect our rights or permit us to gain or keep any competitive advantage. If we fail to protect our intellectual property, third parties may be able to compete more effectively against us. In addition, we may incur substantial litigation costs in our attempts to recover or restrict use of our intellectual property.
As is the case with other life science companies, our success depends in large part on our ability to obtain and maintain
protection of the intellectual property we may own solely or jointly with others or in-license from others, particularly patents, in the United States and other countries with respect to our products and technologies. We apply for patents covering our products and technologies and uses thereof, as we deem appropriate. However, obtaining and enforcing life sciences patents is costly, time-consuming and complex, and we may fail to apply for patents on important tests, services and technologies in a timely fashion or at all, or we may fail to apply for patents in potentially relevant jurisdictions. We may not be able to file and prosecute all necessary or desirable patent applications, or maintain, enforce and license any patents that may issue from such patent applications, at a reasonable cost or in a timely manner. It is also possible that we will fail to identify patentable aspects of our research and development output before it is too late to obtain patent protection.
We
may not have the right to control the preparation, filing and prosecution of patent applications, or to maintain the rights to patents licensed from or to third parties. Therefore, these patents and applications may not be prosecuted and enforced in a manner consistent with the best interests of our business.
Our patent portfolio as of December 31, 2021 includes 12 issued U.S. patents and ten pending U.S. patent applications, with foreign counterparts. It is possible that none of our pending patent applications will result in issued patents in a timely fashion or at all, and even if patents are granted, they may not provide a basis for intellectual property protection of commercially viable tests or services, may not provide us with any competitive advantages, or may be challenged and invalidated by third parties. It is possible that others will design around our future patented
technologies. We may not be successful in defending any suchchallenges made against our patents or patent applications. Any successful third-party challenge to our patents could result in the unenforceability or invalidity of such patents and increased competition to our business. Even if our patents are held valid and enforceable, they may still be found insufficient to provide protection against competing products and services sufficient to achieve our business objectives. We may have to challenge the patents or patent applications of third parties, such as to counter infringement or unauthorized use. In addition, in an infringement proceeding, a court may decide that a patent of ours is invalid or unenforceable, or may refuse to enjoin the other party from using the technology at issue on the grounds that our patents do not cover the technology in question. Even if we prevail against an infringer in a U.S. district
court or foreign trial-level court, there is always the risk that the infringer will file an appeal and the initial court judgment will be overturned at the appeals court and/or that an adverse decision will be issued by the appeals court relating to the validity or enforceability of our patents. The outcome of patent litigation or other proceeding can be uncertain, and any attempt by us to enforce our patent rights against others or to challenge the patent rights of others may not be successful, or, if successful, may take substantial time and result in substantial cost, and may divert our efforts and attention from other aspects of our business.
The patent positions of life sciences companies can be highly uncertain and involve complex legal and factual questions for which important legal principles remain unresolved. No consistent policy regarding the breadth of claims allowed in such companies’ patents has emerged to date
in the United States or elsewhere. Courts frequently render opinions in the life sciences field that may affect the patentability of certain inventions or discoveries, including opinions that may affect the patentability of methods for analyzing or comparing DNA sequences.
In particular, the patent positions of companies engaged in the development and commercialization of genomic diagnostic tests are particularly uncertain. Various courts, including the U.S. Supreme Court, have rendered decisions that affect the scope of patentability of certain inventions or discoveries relating to certain diagnostic tests and related methods. These decisions state, among other things, that a patent claim that recites an abstract idea, natural phenomenon or law of nature (for example, the relationship between particular genetic variants and cancer) are not themselves patentable. Precisely what constitutes a law of nature is uncertain, and
it is possible that certain aspects of genetic diagnostics tests would be considered natural laws. Accordingly, the evolving case law in the United States may adversely affect our ability to obtain patents and may facilitate third-party challenges to any owned or licensed patents. The laws of some foreign countries do not protect intellectual property rights to the same extent as the laws of the United States, and we may encounter difficulties in protecting and defending such rights in foreign jurisdictions. The legal systems of many other countries do not favor the enforcement of patents and other intellectual property protection, particularly those relating to life science technologies, which could make it difficult for us to
stop the infringement of our patents in such countries. Proceedings to enforce our patent rights in foreign jurisdictions could result in substantial cost and divert our efforts and attention from other aspects of our business.
To the extent our intellectual property offers inadequate protection, or is found to be invalid or unenforceable, we would be exposed to a greater risk of direct competition, and our competitive position could be adversely affected, as could our business. Both the patent application process and the process of managing patent disputes can be time-consuming and expensive. Moreover, if a third party has intellectual property rights that cover the practice of our technology, we may not be able to fully exercise or extract value from our intellectual property rights. The following examples are illustrative:
•others
may be able to develop and/or practice technology that is similar to our technology or aspects of our technology, but that are not covered by the claims of the patents that we own or control, assuming such patents have issued or do issue;
•we or our licensors or any future strategic partners might not have been the first to conceive or reduce to practice the inventions covered by the issued patents or pending patent applications that we own or have exclusively licensed;
•we or our licensors or any future strategic partners might not have been the first to file patent applications covering certain of our inventions;
•others may independently develop similar or alternative technologies or duplicate any of our technologies without infringing our intellectual property
rights;
•it is possible that our pending patent applications will not lead to issued patents;
•issued patents that we own or have exclusively licensed may not provide us with any competitive advantage, or may be held invalid or unenforceable, as a result of legal challenges by our competitors;
•our competitors might conduct research and development activities in countries where we do not have patent rights and then use the information learned from such activities to develop competitive tests for sale in our major commercial markets;
•third parties performing manufacturing or testing for us using our products or technologies could use the intellectual property of others without obtaining a proper
license;
•parties may assert an ownership interest in our intellectual property and, if successful, such disputes may preclude us from exercising exclusive rights over that intellectual property;
•we may not develop or in-license additional proprietary technologies that are patentable;
•we may not be able to obtain and maintain necessary licenses on commercially reasonable terms, or at all; and
•the patents of others may have an adverse effect on our business.
Should any of these events occur, they could significantly harm our business and results of operations.
Changes in patent law in the United States and
other jurisdictions could diminish the value of patents in general, thereby impairing our ability to protect our products.*
As is the case with other life sciences companies, our success is heavily dependent on intellectual property, particularly patents relating to our research programs and products. Obtaining and enforcing patents in the life sciences industry involves both technological and legal complexity and is therefore costly, time consuming and inherently uncertain. Changes in either the patent laws or interpretation of the patent laws in the United States or the United States Patent and Trademark Office (“USPTO”) rules and regulations could increase these uncertainties and costs. Patent reform legislation in the United States and other countries, including the Leahy-Smith America Invents Act (“AIA”), signed into law on September 16, 2011, could increase
those uncertainties and costs surrounding the prosecution of our patent applications and the enforcement or defense of our issued patents. The AIA includes a number of significant changes to U.S. patent law. These include provisions that affect the way patent applications are prosecuted, redefine prior art and provide more efficient and cost-effective avenues for competitors to challenge the validity of patents. These include allowing third-party submission of prior art to the USPTO during patent prosecution and additional procedures to attack the validity of a patent in USPTO administered post-grant proceedings, including post-grant review, inter partes review, and derivation proceedings. For applications filed after March 15, 2013 that do not claim the benefit of applications filed before that date, the AIA transitioned the United States from a first to invent system to
a first-inventor-to-file system in which, assuming that the other statutory requirements are met, the first inventor to file a patent application will be entitled to the patent on an invention regardless of whether a third party was the first to invent the claimed invention. The AIA and its implementation could increase the uncertainties and costs surrounding the prosecution of our patent applications, our ability to obtain future patents, and the enforcement or defense of our issued patents, all of which could have a material adverse effect on our business, financial condition, results of operations and prospects.
The U.S. Supreme Court has ruled on several
patent cases in recent years, either narrowing the scope of patent protection available in certain circumstances or weakening the rights of patent owners in certain situations.
Depending on future actions by the U.S. Congress, the U.S. courts, the USPTO and the relevant law-making bodies in other countries, the laws and regulations governing patents could change in unpredictable ways that would weaken our ability to obtain new patents or to enforce our existing patents and patents that we might obtain in the future.
Our in-licensed intellectual property has been discovered through government funded programs and thus may be subject to federal regulations such as ‘‘march-in’’ rights, certain reporting requirements and a preference for U.S.-based companies, and compliance with such regulations may limit our exclusive rights, and limit our ability to contract
with non-U.S. manufacturers.*
Intellectual property rights that have been in-licensed pursuant to a license agreement (the “License Agreement”) with The Washington University in St. Louis, Missouri (“WUSTL”) have been generated through the use of U.S. government funding, and are therefore subject to certain federal regulations. As a result, the United States federal government may retain certain rights to intellectual property embodied in our current or future product candidates under the Bayh-Dole Act. These federal government rights include a ‘‘nonexclusive, nontransferable, irrevocable, paid-up license’’ to use inventions for any governmental purpose. The Bayh-Dole Act also provides federal agencies with ‘‘march-in rights.’’ March-in rights allow the government, in specified circumstances, to require the contractor or successors in title to the patent to grant a ‘‘nonexclusive, partially exclusive, or exclusive
license’’ to a ‘‘responsible applicant or applicants’’ if it determines that (1) adequate steps have not been taken to commercialize the invention, (2) government action is necessary to meet public health or safety needs or (3) government action is necessary to meet requirements for public use under federal regulations. If the patent owner refuses to do so, the government may grant the license itself.
The U.S. government also has the right to take title to these inventions if the licensor fails to disclose the invention to the government or fails to file an application to register the intellectual property within specified time limits. Intellectual property generated under a government funded program is also subject to certain reporting requirements, compliance with which may require us to expend substantial resources. In addition, the U.S. government requires that any products embodying any of these inventions or produced
through the use of any of these inventions be manufactured substantially in the United States, and the License Agreement requires that we comply with this requirement. This preference for U.S. industry may be waived by the federal agency that provided the funding if the owner or assignee of the intellectual property can show that reasonable but unsuccessful efforts have been made to grant licenses on similar terms to potential licensees that would be likely to manufacture substantially in the United States or that under the circumstances domestic manufacture is not commercially feasible. This preference for U.S. industry may limit our ability to contract with non-U.S. product manufacturers for products covered by such intellectual property. To the extent any of our owned or future in-licensed intellectual property is also generated through the use of U.S. government funding, the
provisions of the Bayh-Dole Act may similarly apply.
Issued patents covering our products and related technologies could be found invalid or unenforceable if challenged.
The issuance of a patent is not conclusive as to its inventorship, scope, validity or enforceability. Some of our patents or patent applications (including licensed patents) have been, are being or may be challenged at a future point in time in an opposition, nullification, derivation, reexamination, inter partes review, post-grant review or interference action in court or before patent offices or similar proceedings for a given period after allowance or grant, during which time third parties can raise objections against such grant. In the course of such proceedings, which may continue for a protracted period of time, the patent owner may be compelled to limit the
scope of the allowed or granted claims thus attacked, or may lose the allowed or granted claims altogether. Any successful third-party challenge to our patents in this or any other proceeding could result in the unenforceability or invalidity of such patents, which may lead to increased competition to our business, which could harm our business. In addition, if the breadth or strength of protection provided by our patents and patent applications is threatened, regardless of the outcome, it could dissuade companies from collaborating with us to license, develop or commercialize current or future diagnostic tests.
We may not be aware of all third-party intellectual property rights potentially relating to our products. Publications of discoveries in the scientific literature often lag behind the actual discoveries, and patent applications in the United States and other jurisdictions are typically not published until approximately
18 months after filing or, in some cases (e.g., U.S. applications for which a request not to publish has been filed), not until such patent applications issue as patents. We might not have been the first to make the inventions covered by each of our pending patent applications and we might not have been the first to file patent applications for these inventions. To determine the priority of these inventions, we have and may have to participate in interference proceedings, derivation proceedings or other post-grant proceedings declared by the USPTO that could result in substantial cost to us. The outcome of such proceedings is uncertain. We can give no assurance that all of the potentially relevant art relating to our patents and patent applications has been found; overlooked prior art could be used by a third party to challenge the validity, enforceability and scope of our patents or prevent a patent from issuing from a
pending patent application. As a result, we may not be able to obtain or maintain protection for certain inventions. No assurance can be
given that other patent applications will not have priority over our patent applications. In addition, changes to the patent laws of the United States allow for various post-grant opposition proceedings that have not been extensively tested, and their outcome is therefore uncertain. Therefore, the validity, enforceability and scope of our patents in the United States and other countries cannot be predicted with certainty and, as a result, any patents that we own or license may not provide sufficient protection against our
competitors. Furthermore, if third parties bring these proceedings against our patents, we could experience significant costs and management distraction.
Our commercial success depends significantly on our ability to operate without infringing upon the intellectual property rights of third parties.
The life sciences industry is subject to rapid technological change and substantial litigation regarding patent and other intellectual property rights. Our potential competitors in both the United States and abroad, may have substantially greater resources and are likely to make substantial investments in patent portfolios and competing technologies, and may apply for or obtain patents that could prevent, limit or otherwise interfere with our ability to make, use and sell our products. Numerous third-party patents exist in fields relating to our products and technologies, and it is difficult
for industry participants, including us, to identify all third-party patent rights relevant to our products and technologies. Moreover, because some patent applications are maintained as confidential for a certain period of time, we cannot be certain that third parties have not filed patent applications that cover our products and technologies.
Patents could be issued to third parties that we may ultimately be found to infringe. Third parties may have or obtain valid and enforceable patents or proprietary rights that could block us from using our technology. Our failure to obtain or maintain a license to any technology that we require may materially harm our business, financial condition and results of operations. Furthermore, we would be exposed to a threat of litigation.
From time to time, we may be party to, or threatened with, litigation or other proceedings with third parties,
including non-practicing entities, who allege that our products, components of our products, and/or proprietary technologies infringe, misappropriate or otherwise violate their intellectual property rights. The types of situations in which we may become a party to such litigation or proceedings include:
•we may initiate litigation or other proceedings against third parties seeking to invalidate the patents held by those third parties or to obtain a judgment that our products or technologies do not infringe those third parties’ patents;
•we may participate at substantial cost in International Trade Commission proceedings to abate importation of products that would compete unfairly with our products or technologies;
•if a competitor files patent applications that claim
technology also claimed by us or our licensors, we or our licensors may be required to participate in interference, derivation or opposition proceedings to determine the priority of invention, which could jeopardize our patent rights and potentially provide a third party with a dominant patent position;
•if third parties initiate litigation claiming that our products or technologies infringe their patent or other intellectual property rights, we will need to defend against such proceedings;
•if third parties initiate litigation or other proceedings seeking to invalidate patents owned by or licensed to us or to obtain a declaratory judgment that their products, services, or technologies do not infringe our patents or patents licensed to us, we will need to defend against such proceedings;
•we
may be subject to ownership disputes relating to intellectual property, including disputes arising from conflicting obligations of consultants or others who are involved in developing our products and technologies; and
•if a license to necessary technology is terminated, the licensor may initiate litigation claiming that our products or technologies infringe or misappropriate its patent or other intellectual property rights and/or that we breached our obligations under the license agreement, and we would need to defend against such proceedings.
These lawsuits and proceedings, regardless of merit, are time-consuming and expensive to initiate, maintain, defend or settle, and could divert the time and attention of managerial and technical personnel, which could materially adversely affect our business. Any such claim could also force us to do one or more of
the following:
•incur substantial monetary liability for infringement or other violations of intellectual property rights, which we may have to pay if a court decides that the diagnostic test or technology at issue infringes or violates the third party’s rights, and if the court finds that the infringement was willful, we could be ordered to pay treble damages and the third party’s attorneys’ fees;
•stop manufacturing, offering for sale, selling, using, importing, exporting or licensing the diagnostic test or technology incorporating the allegedly infringing technology
or stop incorporating the allegedly infringing technology into such test or technology;
•obtain from the owner of the infringed intellectual property right a license, which may require us to pay substantial upfront fees or royalties to sell or use the relevant technology and which may not be available on commercially reasonable terms, or at all;
•redesign our products and technologies so they do not infringe or violate the third party’s intellectual property rights, which may not be possible or may require substantial monetary expenditures and time;
•enter into cross-licenses with applicable third party, which could weaken our overall intellectual property position;
•lose the opportunity to license
our technology to others or to collect royalty payments based upon successful protection and assertion of our intellectual property against others;
•find alternative suppliers for non-infringing technologies, which could be costly and create significant delay; or
•relinquish rights associated with one or more of our patent claims if our claims are held invalid or otherwise unenforceable.
Third parties may be able to sustain the costs of complex intellectual property litigation more effectively than we can because they have substantially greater resources. In addition, intellectual property litigation, regardless of its outcome, may cause negative publicity, adversely impact our business, cause delays, or prohibit us from marketing or otherwise commercializing our products and technologies.
Any uncertainties resulting from the initiation and continuation of any litigation could have a material adverse effect on our ability to raise additional funds or otherwise have a material adverse effect on our business, results of operation, financial condition or cash flows.
Furthermore, because of the substantial amount of discovery required in connection with intellectual property litigation, there is a risk that some of our confidential information could be compromised by disclosure during this type of litigation. There could also be public announcements of the results of hearings, motions or other interim proceedings or developments, which could have a material adverse effect on the price of our common stock. If securities analysts or investors perceive these results to be negative, it could have a material adverse effect on the price of our common stock. The occurrence of any of these events may have a material adverse
effect on our business, results of operation, financial condition or cash flows.
We depend on information technology systems that we license from third parties. Any failure of such systems or loss of licenses to the software that comprises an essential element of such systems could significantly harm our business.*
We depend on information technology systems for significant elements of our operations, such as our Laboratory Information Management System, including test validation, specimen tracking and quality control, our bioinformatics analytical software systems, our test report generating systems and billing systems. Essential elements of these systems depend on software that we license from third parties. If we are unable to maintain the licenses to this software or our software providers discontinue or alter the programs on which we rely, it could render our test reports unreliable
or hinder our ability to generate accurate test reports, among other things. Any of the foregoing could have a material adverse effect on our competitive position, business, financial conditions, results of operations and prospects.
We rely on licenses from third parties, and if we lose these licenses or are not able to obtain licenses to third-party technology on reasonable grounds or at all, then we may not be able to continue to commercialize existing diagnostic tests, be subjected to future litigation and may not be able to commercialize new diagnostic tests in the future.
We are party to certain royalty-bearing license agreements that grant us rights to use certain intellectual property, including patents and patent applications, in certain specified fields of use. Although we intend to develop products and technologies through our own internal research, we may need to obtain
additional licenses from others to advance our research, development and commercialization activities. Our license agreements impose, and we expect that future license agreements will impose, various development, diligence, commercialization and other obligations on us.
In the future, we may identify third-party technology we may need, including to develop or commercialize new diagnostic tests or services. In return for the use of a third party’s technology, we may agree to pay the licensor royalties based on sales of our solutions. Royalties are a component of the cost of our products or services and affect our margins. We may also need to negotiate licenses to patents or patent applications before or after introducing a commercialized test. The in-licensing and acquisition of third-party intellectual property rights is a competitive area, and a number of more established companies are also pursuing strategies to in-license
or acquire third-party intellectual property rights for technologies that we may consider attractive or necessary.
These established companies may have a competitive advantage over us due to their size, cash resources and greater clinical development and commercialization capabilities. Furthermore, companies that perceive us to be a competitor may be unwilling to assign or license rights to us. In addition, we expect that competition for the in-licensing or acquisition of third-party intellectual property rights for technologies that are attractive to us may increase in the future, which may mean fewer suitable opportunities for us as well as higher acquisition
or licensing costs. We may not be able to obtain necessary or strategic licenses to patents or patent applications, and our business may suffer if we are unable to enter into these licenses on acceptable terms or at all, if any necessary licenses are subsequently terminated, if the licensors fail to abide by the terms of the licenses or fail to prevent infringement by third parties, or if the licensed patents or other rights are found to be invalid or unenforceable.
In spite of our efforts, our licensors might conclude that we have materially breached our obligations under such license agreements and might therefore terminate the license agreements, thereby removing or limiting our ability to develop and commercialize tests and technology covered by these license agreements. If these in-licenses are terminated, or if the underlying patents fail to provide the intended exclusivity, competitors or other third parties might have
the freedom to seek regulatory approval of, and to market, tests identical to ours and we may be required to cease our development and commercialization activities. For example, we license certain intellectual property from WUSTL that is incorporated into DecisionDx-UM. In 2021, we provided over 1,600 test reports for DecisionDx-UM. If this license agreement were terminated, we would be unable to continue to issue test reports and thus sales of DecisionDx-UM. Any of the foregoing could have a material adverse effect on our competitive position, business, financial conditions, results of operations and prospects.
Moreover, disputes may arise with respect to any one of our licensing agreements, including:
•the scope of rights granted under the license agreement and other interpretation-related issues;
•the
extent to which our products, technology and processes infringe on intellectual property of the licensor that is not subject to the licensing agreement;
•the sublicensing of patent and other rights under our collaborative development relationships;
•our diligence obligations under the license agreement and what activities satisfy those diligence obligations;
•the inventorship and ownership of inventions and know-how resulting from the joint creation or use of intellectual property by our licensors and us and our partners; and
•the priority of invention of patented technology.
If we do not prevail in such disputes, we may lose any of such license agreements.
In
addition, the agreements under which we currently license intellectual property or technology from third parties are complex, and certain provisions in such agreements may be susceptible to multiple interpretations.
The resolution of any contract interpretation disagreement that may arise could narrow what we believe to be the scope of our rights to the relevant intellectual property or technology, or increase what we believe to be our financial or other obligations under the relevant agreement, either of which could have a material adverse effect on our business, financial condition, results of operations and prospects. Moreover, if disputes over intellectual property that we have licensed prevent or impair our ability to maintain our current licensing arrangements on commercially acceptable terms, we may be unable to successfully
develop and commercialize the affected diagnostic tests, which could have a material adverse effect on our business, financial conditions, results of operations and prospects.
Our failure to maintain such licenses could have a material adverse effect on our business, financial condition and results of operations. Any of these licenses could be terminated, such as if either party fails to abide by the terms of the license, or if the licensor fails to prevent infringement by third parties or if the licensed patents or other rights are found to be invalid or unenforceable. Absent the license agreements, we may infringe patents subject to those agreements, and if the license agreements are terminated, we may be subject to litigation by the licensor. Litigation could result in substantial costs and be a distraction to management. If we do not prevail, we may be required to pay damages, including treble damages, attorneys’ fees,
costs and expenses, royalties or, be enjoined from selling our products or services, including DecisionDx-Melanoma and DecisionDx-UM, which could adversely affect our ability to offer our products or services, our ability to continue operations and our financial condition.
We may not be able to protect our intellectual property rights throughout the world.
Filing, prosecuting and defending patents on our products in all countries throughout the world would be prohibitively expensive. The requirements for patentability may differ in certain countries, particularly developing countries, and the breadth of patent claims allowed can be inconsistent. In addition, the laws of some foreign countries do not protect intellectual property rights to the same extent as the laws of the United States, and we may encounter difficulties in protecting and defending such rights in foreign jurisdictions.
Consequently, we may not be able to prevent third parties from practicing our inventions in all
countries outside the United States, or from selling or importing products made using our inventions in and into the United States or other jurisdictions. Competitors may use our technologies in jurisdictions where we have not obtained patent protection to develop their own tests or products and may also export infringing tests or products to territories where we have patent protection, but enforcement is not as strong as in the United States. These products may compete with our products. Our patents or other intellectual property rights may not be effective or
sufficient to prevent them from competing.
Many companies have encountered significant problems in protecting and defending intellectual property rights in foreign jurisdictions. The legal systems of many other countries do not favor the enforcement of patents and other intellectual property protection, particularly those relating to life science technologies, which could make it difficult for us to stop the infringement of our patents in such countries. We do not have patent rights in certain foreign countries in which a market may exist. Moreover, in foreign jurisdictions where we do have patent rights, proceedings to enforce our patent rights could result in substantial cost and divert our efforts and attention from other aspects of our business, could put our patents at risk of being invalidated or interpreted narrowly and our patent applications at risk of not issuing, and could provoke third parties to assert claims
against us. We may not prevail in any lawsuits that we initiate and the damages or other remedies awarded, if any, may not be commercially meaningful. Accordingly, our efforts to enforce our intellectual property rights around the world may be inadequate to obtain a significant commercial advantage from the intellectual property that we develop or license. We may not be able to stop a competitor from marketing and selling in foreign countries tests, products and services that are the same as or similar to our products and technologies, in which case our competitive position in the international market would be harmed.
If we are unable to protect the confidentiality of our trade secrets, the value of our technology could be materially adversely affected and our business could be harmed.
In addition to pursuing patents on our technology, we also rely on trade secrets, including unpatented
know-how, technology and other proprietary information, to maintain our competitive position. We take steps to protect our trade secrets, in part, by entering into agreements, including confidentiality agreements, non-disclosure agreements and intellectual property assignment agreements, with our employees, consultants, academic institutions, corporate partners and, when needed, our advisers. However, we cannot be certain that such agreements have been entered into with all relevant parties, and we cannot be certain that our trade secrets and other confidential proprietary information will not be disclosed or that competitors will not otherwise gain access to our trade secrets or independently develop substantially equivalent information and techniques. For example, any of these parties may breach the agreements and disclose our proprietary information, including our trade secrets, and once disclosed, we are likely to lose trade secret protection and may not be able
to obtain adequate remedies for such breaches. Such agreements may not be enforceable or may not provide meaningful protection for our trade secrets or other proprietary information in the event of unauthorized use or disclosure or other breaches of the agreements, and we may not be able to prevent such unauthorized disclosure. If we are required to assert our rights against such party, it could result in significant cost and distraction.
Monitoring unauthorized disclosure is difficult, and we do not know whether the steps we have taken to prevent such disclosure are, or will be, adequate. If we were to enforce a claim that a third party had illegally obtained and was using our trade secrets, it would be expensive and time-consuming, and the outcome would be unpredictable. In addition, courts outside the United States may be less willing to protect trade secrets.
We also seek to
preserve the integrity and confidentiality of our confidential proprietary information by maintaining physical security of our premises and physical and electronic security of our information technology systems, but it is possible that these security measures could be breached. If any of our confidential proprietary information were to be lawfully obtained or independently developed by a competitor, absent patent protection, we would have no right to prevent such competitor from using that technology or information to compete with us, which could harm our competitive position.
We may be subject to claims that our employees, consultants or independent contractors have wrongfully used or disclosed confidential information of third parties.
We do and may employ individuals who previously worked with universities or other companies, including potential competitors. We could in the future
be subject to claims that we or our employees, consultants, or independent contractors have inadvertently or otherwise used or disclosed alleged trade secrets or other confidential information of current or former employers or competitors. Although we try to ensure that our employees, consultants and independent contractors do not use the intellectual property, proprietary information, know-how or trade secrets of others in their work for us, we may become subject to claims that we caused an individual to breach the terms of his or her non-competition or non-solicitation agreement, or that we or these individuals have, inadvertently or otherwise, used or disclosed the alleged trade secrets or other proprietary information of a current or former employer or competitor. Although, we are currently not subject to any such claims.
While we may litigate to defend ourselves against these claims, even if we are successful, litigation
could result in substantial costs and could be a distraction to management and other employees. If our defenses to these claims fail, in addition to requiring us to pay monetary damages, a court could prohibit us from using technologies or features that are essential to our
products, if such technologies or features are found to incorporate or be derived from the trade secrets or other proprietary information of the current or former employers. Therefore, we could be required to obtain a license from such third-party employer to commercialize our products or technology. Such a license may not be available on commercially reasonable terms or at all.
Moreover,
any such litigation or the threat thereof may adversely affect our reputation, our ability to form strategic alliances or sublicense our rights to collaborators, engage with scientific advisors or hire employees or consultants, each of which would have an adverse effect on our business, results of operations and financial condition.
If our trademarks and trade names are not adequately protected, then we may not be able to build name recognition in our markets of interest and our business may be adversely affected.*
We have not yet registered certain of our trademarks in all of our potential markets, although we have registrations for, among others, the DiffDx-Melanoma, DecisionDx-UM, DecisionDx-Melanoma, DecisionDx-SCC, MyPath Melanoma, TissueCypher and IDgenetix tests in the United States. Our current or future registered or unregistered trademarks or trade names may be challenged,
infringed, circumvented or declared generic or descriptive determined to be infringing on other marks. We may not be able to protect our rights to these trademarks and trade names or may be forced to stop using these names, which we need for name recognition by potential partners or customers in our markets of interest. During trademark registration proceedings, we may receive rejections. Although we would be given an opportunity to respond to those rejections, we may be unable to overcome such rejections. In addition, in the USPTO and in comparable agencies in many foreign jurisdictions, third parties are given an opportunity to oppose pending trademark applications and to seek to cancel registered trademarks. Opposition or cancellation proceedings may be filed against our trademarks, and our trademarks may not survive such proceedings. In addition, third parties have used trademarks similar and identical to our trademarks in foreign jurisdictions and have filed or
may in the future file for registration of such trademarks. If they succeed in registering or developing common law rights in such trademarks, and if we are not successful in challenging such third-party rights, we may not be able to use these trademarks to market our products in those countries. If we are unable to establish name recognition based on our trademarks and trade names, we may not be able to compete effectively and our business may be adversely affected. We may license our trademarks and trade names to third parties, such as distributors. Although these license agreements may provide guidelines for how our trademarks and trade names may be used, a breach of these agreements or misuse of our trademarks and tradenames by our licensees may jeopardize our rights in or diminish the goodwill associated with our trademarks and trade names.
We may be subject to claims challenging the inventorship of our patents and other
intellectual property.
We or our licensors may be subject to claims that former employees, collaborators or other third parties have an interest in our owned or in-licensed patents, trade secrets or other intellectual property as an inventor or co-inventor. For example, we or our licensors may have inventorship disputes arise from conflicting obligations of employees, consultants or others who are involved in developing our products. Litigation may be necessary to defend against these and other claims challenging inventorship or our or our licensors’ ownership of our owned or in-licensed patents, trade secrets or other intellectual property. If we or our licensors fail in defending any such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights, such as exclusive ownership of, right to use, or right to exclude others from using, intellectual property that is important to our products.
Even if we are successful in defending against such claims, litigation could result in substantial costs and be a distraction to management and other employees. Any of the foregoing could have a material adverse effect on our business, financial condition, results of operations and prospects.
In addition, while it is our policy to require our employees and contractors who may be involved in the development of intellectual property to execute agreements assigning such intellectual property to us, we may be unsuccessful in executing such an agreement with each party who in fact develops intellectual property that we regard as our own. Our assignment agreements may not be self-executing or may be breached, and we may be forced to bring claims against third parties, or defend claims they may bring against us, to determine the ownership of what we regard as our intellectual property.
Obtaining
and maintaining our patent protection depends on compliance with various required procedures, document submissions, fee payments and other requirements imposed by governmental patent agencies, and our patent protection could be reduced or eliminated for non-compliance with these requirements.
Periodic maintenance fees, renewal fees, annuity fees and various other governmental fees on patents and/or applications must be paid to the USPTO and various governmental patent agencies outside of the United States at several stages over the lifetime of the patents and/or applications. We have systems in place to remind us to pay these fees, and we employ an outside firm and rely on our outside counsel to pay these fees due to non-U.S. patent agencies. The USPTO and various non-U.S. governmental patent agencies require compliance with a number of procedural, documentary, fee payment and other similar provisions during the patent application
process. We employ reputable law firms and other professionals to help us comply, and in many cases, an inadvertent lapse can be cured by payment of a late fee or by other means in accordance with the applicable rules. However, there are situations in which non-compliance can result in abandonment or lapse of the patent or patent application, resulting in
partial or complete loss of patent rights in the relevant jurisdiction, such as failure to respond to official actions within prescribed time limits, non-payment of fees and failure to properly legalize and submit formal documents. If we, or our licensors, fail to maintain the patents and patent applications
covering our products and technologies, potential competitors may be able to enter the market without infringing our patents and this circumstance would have a material adverse effect on our business.
Patent terms may be inadequate to protect our competitive position on our products for an adequate amount of time.
Patents have a limited lifespan, and the protection patents afford is limited. In the United States, if all maintenance fees are timely paid, the natural expiration of a patent is generally 20 years from its earliest U.S. non-provisional filing date. Various extensions may be available, but the term of a patent, and the protection it affords, is limited. Even if patents covering our products are obtained, once the patent term has expired, we may be open to competition from competitive tests or products. Given the amount of time required for the development, testing and
regulatory review of potential new tests or products, patents protecting such tests or products might expire before or shortly after such tests or products are commercialized. As a result, our owned and licensed patent portfolio may not provide us with sufficient rights to exclude others from commercializing tests or other products similar or identical to ours.
Risks Related to Employee Matters and Managing Growth and Other Risks Related to Our Business
We are highly dependent on the services of our key personnel.*
We are highly dependent on the services of our key personnel, including Derek J. Maetzold, our President and Chief Executive
Officer. Although we have entered into agreements with our key personnel regarding their employment, they are not for a specific term and each of may terminate their employment with us at any time, though we are not aware of any present intention of any of these individuals to leave us.
Our research and development programs and laboratory operations depend on our ability to attract and retain highly skilled scientists and technicians. We may not be able to attract or retain qualified scientists and technicians in the future due to the competition for qualified personnel among life science businesses, particularly near our laboratory facilities and office spaces located in Phoenix, Arizona, Pittsburgh, Pennsylvania, San Diego, California and our corporate headquarters in Friendswood, Texas. This competition has become exacerbated by the increase in employee resignations currently taking place throughout the United States as
a result of the COVID-19 pandemic, which is commonly referred to as the “great resignation.” We may also experience employee turnover as a result of the ongoing “great resignation.” In response to competition, rising inflation rates and labor shortages, we may need to adjust employee cash compensation, which would affect our operating costs and our margins, or equity compensation, which would affect our outstanding share count and cause dilution to existing stockholders. We also face competition from universities and public and private research institutions in recruiting and retaining highly qualified scientific personnel. We may have difficulties locating, recruiting or retaining qualified salespeople. Recruiting and retention difficulties can limit our ability to support our research and development and sales programs. All of our employees are at-will, which means that either we or the employee may terminate their employment at any time.
Our
employees, clinical investigators, consultants, speakers, vendors and any current or potential commercial partners may engage in misconduct or other improper activities, including non-compliance with regulatory standards and requirements and insider trading.
We are exposed to the risk of fraud or other misconduct by our employees, clinical study investigators, consultants, speakers, vendors and any potential commercial partners. Misconduct by these parties could include intentional, reckless and/or negligent conduct or disclosure of unauthorized activities to us that violates: federal laws and regulations or those of comparable foreign regulatory authorities, including those laws that require the reporting of true, complete and accurate information; manufacturing standards; federal and state health and data privacy, security, fraud and abuse, government price reporting, transparency reporting requirements, and other healthcare
laws and regulations in the United States and abroad; sexual harassment and other workplace misconduct; or laws that require the true, complete and accurate reporting of financial information or data. Such misconduct could also involve the improper use of information obtained in the course of clinical studies, which could result in regulatory sanctions and cause serious harm to our reputation. We have adopted a code of conduct applicable to all of our employees, as well as a disclosure program and other applicable policies and procedures, but it is not always possible to identify and deter employee misconduct, and the precautions we take to detect and prevent this activity may not be effective in controlling unknown or unmanaged risks or losses or in protecting us from governmental investigations or other actions or lawsuits stemming from a failure to comply with these laws or regulations. If any such actions are instituted against us, and we are not successful in defending
ourselves or asserting our rights, those actions could have a significant impact on our business, including the imposition of significant civil, criminal and administrative penalties, damages, fines, disgorgement, individual imprisonment, exclusion from government funded healthcare programs, such as Medicare, Medicaid and other federal healthcare programs, contractual damages, reputational harm, diminished profits and future earnings, additional integrity
reporting and oversight obligations, and the curtailment or restructuring of our operations, any of which could adversely affect our ability to operate our business and our results of operations.
We
may be unable to manage our future growth effectively, which could make it difficult to execute our business strategy.*
We have experienced significant revenue growth in a short period of time. We may not achieve similar growth rates in future periods. You should not rely on our operating results for any prior periods as an indication of our future operating performance. To effectively manage our anticipated future growth, we must continue to maintain and enhance our financial, accounting, human resources, laboratory operations, customer support and sales administration systems, processes and controls. Failure to effectively manage our anticipated growth could lead us to over-invest or under-invest in development, operational and administrative infrastructure, result in weaknesses in our infrastructure, systems, or internal controls, give rise to operational mistakes, losses, loss of customers, productivity or business opportunities,
and result in loss of employees and reduced productivity of remaining employees.
We also anticipate further growth in our business operations. For example, since May 2021, we have completed the acquisitions of Myriad MyPath Laboratory, Cernostics and AltheaDx, each of which we expect will contribute to our future growth. These acquisitions and other future growth could create strain on our organizational, administrative and operational infrastructure, including laboratory operations, quality control, customer service and sales organization management. We expect to continue increasing our headcount and hire more specialized personnel in the future as we grow our business and expand our product offerings. We will need to continue to hire, train and manage additional qualified scientists, laboratory personnel, client and account services personnel, and sales and marketing staff and improve and maintain our technology to effectively
manage our growth. If our new hires perform poorly, if we are unsuccessful in hiring, training, managing and integrating these new employees or if we are not successful in retaining our existing employees, our business may be harmed.
In addition, our anticipated growth could require significant capital expenditures and might divert financial resources from other projects such as the development of new diagnostic tests and services. As we commercialize additional diagnostic and prognostic tests, we may need to incorporate new equipment, implement new technology systems, or hire new personnel with different qualifications. Failure to manage this growth or transition could result in turnaround time delays, higher costs, declining quality, deteriorating customer service, and slower responses to competitive challenges. A failure in any one of these areas could make it difficult for us to meet market expectations for our products
and could damage our reputation and the prospects for our business.
We may not be able to maintain the quality or expected turnaround times of our products, or satisfy customer demand as it grows. Our ability to manage our growth properly will require us to continue to improve our operational, financial and management controls, as well as our reporting systems and procedures. The time and resources required to implement these new systems and procedures is uncertain, and failure to complete this in a timely and efficient manner could adversely affect our operations. If our management is unable to effectively manage our anticipated growth, our expenses may increase more than expected, our revenue could decline or grow more slowly than expected and we may be unable to implement our business strategy. The quality of our products and services may suffer, which could negatively affect our reputation and harm our ability to retain
and attract customers.
We may engage in strategic transactions, such as the acquisition of businesses, assets, products or technologies, which could be disruptive to our existing operations, divert the attention of our management team and adversely impact our liquidity, cash flows, financial condition and results of operations.*
From time to time, we may consider strategic opportunities and engage in transactions such as acquisitions of businesses, assets, products or technologies, as well as technology licenses or investments in complementary businesses. For example, in May 2021, December 2021 and April 2022, we completed the acquisitions of the Myriad MyPath Laboratory, Cernostics and AltheaDx, respectively. These and any other strategic acquisition transactions may entail numerous operational and financial risks, including:
•delays,
difficulties and higher than expected costs associated with integration activities, such as those involving operational processes, regulatory and licensure compliance, personnel and information technology systems;
•disruption of our existing business operations and diversion of management’s time, focus and attention;
•decreases in our liquidity and operating cash flows, increases in our overall operating costs, substantial amounts of amortization expense, increased capital expenditure requirements and non-recurring charges, including possibleimpairments of acquired assets and losses on the remeasurement of contingent consideration;
•incurrence of substantial debt or dilutive issuances of equity securities, the assumption
of additional liabilities and exposure to unknown liabilities;
•inability to retain key personnel of any acquired businesses; and
•failure to realize any of the anticipated revenues, synergies, efficiencies or other benefits of a transaction within our estimated time frame or at all.
With regard to our acquisitions of the Myriad MyPath Laboratory, Cernostics and AltheaDx, actual results may differ materially from our plans and expectations. For example, there can be no assurances regarding our ability to successfully scale
and integrate the MyPath Melanoma, TissueCypher and IDgenetix tests into our commercial offerings and the ability of the combined strengths of Castle, the Myriad MyPath Laboratory, Cernostics or AltheaDx to position us for continued growth and success as a leader in the diagnostics space. Further, there are inherent execution and business risks associated with managing the integration and growth objectives of more than one acquisition at the same time and such circumstances may have the effect of heightening the operational and financial risks related to acquisitions noted above and the other risks described in this “Risk Factors” section.
We are unable to predict the timing, size or nature of any future transactions, whether they will be completed or financed on favorable terms, if at all, or what the impact of those transactions might be on our financial results, including if such transactions are not effectively
and profitably integrated into our business. Our failure to successfully complete the integration of any business that we acquire could have an adverse effect on our prospects, business activities, cash flows, financial condition, results of operations and stock price. Additionally, our ability to successfully integrate, manage and derive financial and other benefits from any acquired business, asset, product or technology is unproven.
Our ability to use net operating loss carryforwards and certain other tax attributes to offset future taxable income may be subject to limitations.
As of December 31, 2021, we had federal net operating loss (“NOL”) carryforwards of approximately $99.4 million, of which $43.5 million will begin to expire in 2030 if not utilized to offset taxable income, and $55.9 million may be carried forward
indefinitely. Also, as of December 31, 2021, we had state net operating loss carryforwards of $67.5 million, which begin to expire in 2028 if not utilized to offset state taxable income.
Under the legislation known as the Tax Cuts and Jobs Act of 2017 (“TCJA”), as modified by the CARES Act, federal NOLs generated in taxable years beginning after December 31, 2017 may be carried forward indefinitely, but the deductibility of such NOL carryforwards in taxable years beginning after December 31, 2020 is limited to 80% of taxable income. It is uncertain if and to what extent various states will conform to the TCJA or the CARES Act.
In addition, under Sections 382 and 383 of the Internal Revenue Code of 1986, as amended, and corresponding
provisions of state law, if a corporation undergoes an ‘‘ownership change’’ (which is generally defined as a greater than 50% change (by value) in its equity ownership over a three-year period), the corporation’s ability to use its pre-change NOL carryforwards and other pre-change tax attributes to offset its post-change income or taxes may be limited. We have experienced ownership changes in the past and we may also experience additional ownership changes in the future as a result of subsequent shifts in our stock ownership, some of which may be outside of our control. If an ownership change occurs and our ability to use our NOL carryforwards is materially limited, it would harm our future operating results by effectively increasing our future tax obligations. In addition, at the state level, there may be periods during which the use of NOL carryforwards is suspended or otherwise limited, which could accelerate or permanently
increase state taxes owed.
If our information technology systems or data, or those of third parties upon which we rely, are or were compromised, we could experience adverse consequences resulting from such compromise, including but not limited to regulatory investigations or actions; litigation; fines and penalties; disruptions of our business operations; reputational harm; loss of revenue or profits; loss of customers or sales; and other adverse consequences.
In the ordinary course of business, we Process proprietary, confidential, and sensitive information (including but not limited to intellectual property, proprietary business information and personal information). We manage and maintain our applications and information utilizing a combination of on-site systems, managed data centers, and cloud-based data centers, and we are increasingly dependent upon information technology
systems, infrastructure and information to operate our business.
It is critical that we do so in a secure manner to maintain the confidentiality, availability and integrity of such information. We also have outsourced elements of our operations to third parties, including third-party service providers and technologies to help operate critical business systems to Process proprietary, confidential and sensitive information, and as a result we manage a number of third-party contractors who have access to our proprietary, confidential and sensitive information. Our ability to monitor these third parties’ cybersecurity information security practices is limited, and these third parties may not have adequate information security measures in place.
Cyberattacks, malicious internet-based activity, and online and offline fraud are prevalent, continue to increase, and are becoming increasingly
difficult to detect. Threat actors, personnel (such as through theft or misuse), hacktivist, sophisticated
nation-states, and nation-state-supported actors now engage and are expected to continue to engage in cyber-attacks, including without limitation nation-state actors for geopolitical reasons and in conjunction with military conflicts and defense activities.During times of war and other major conflicts, we and the third parties upon which we rely may be vulnerable to a heightened risk of these attacks, including cyber-attacks that could materially disrupt our systems and operations, supply chain, and ability
to produce, sell and distribute our goods and services. Despite the implementation of security measures designed to protect against a security incident, we and our contractors and consultants are vulnerable to a variety of evolving threats including but not limited to service interruptions, system malfunction, natural disasters, terrorism, war, public health crises, telecommunication and electrical failures, malware (including as a result of advanced persistent threat intrusions), malicious code, ransomware, supply chain attacks, denial-of-service attacks (such as credential stuffing), social engineering and other attempts to affect service reliability and threaten the confidentiality, integrity and availability of our proprietary, confidential and sensitive information. In particular, ransomware attacks have become increasingly prevalent and severe and can lead to significant interruptions in our operations, loss of data and income, reputational harm, and diversion
of funds.Extortion payments may alleviate the negative impact of a ransomware attack, but we may be unwilling or unable to make such payments due to, for example, applicable laws or regulations prohibiting such payments. Supply-chain attacks have also increased in frequency and severity, and we cannot guarantee that third parties and infrastructure in our supply chain or our third-party partners’ supply chains have not been compromised or that they do not contain exploitable defects or bugs that could result in a breach of or disruption to our information technology systems (including our services) or the third-party information technology systems that support us and our services. Future or past business transactions (such as acquisitions or integrations) could expose us to additional cybersecurity risks and vulnerabilities, as our systems could be negatively affected by vulnerabilities present in acquired or integrated
entities’ systems and technologies. Any of the previously identified or similar threats could cause a disruption or security incident, which could result in unauthorized, unlawful, or accidental loss of, damage to, modification of, destruction of, alteration of, encryption of, disclosure of, access to, or acquisition of our information and could interrupt our ability to provide our services.
While we have not experienced any such system failure, accident or material security incident to date, we cannot assure you that our data protection efforts and our investment in information technology have or will prevent security incidents, and we may be unable in the future to detect vulnerabilities in our information technology systems because such threats and techniques change frequently, are often sophisticated in nature, and may not be detected until after a security incident has occurred.
Applicable data privacy and security obligations may require us to notify relevant stakeholders of security incidents, including affected individuals, the Secretary of the HHS, states Attorneys General and others.Such disclosures are costly, and the disclosures or failure to comply could lead to adverse consequences.
If we or a third party upon whom we rely experience a security incident or are perceived to have experienced a security incident, we may experience government enforcement actions, additional reporting requirements and/or oversight, restrictions on Processing data (including personal information), litigation, indemnification obligations, negative publicity, reputational harm, monetary fund diversions, interruptions in our operations, and other harms.Such consequences may disrupt our operations (including our ability
to conduct our analyses, provide test results, bill payors or patients, process claims and appeals, provide customer assistance, conduct research and development activities, collect, process, and prepare company financial information, provide information about our products and other patient and physician education and outreach efforts through our website, and manage the administrative aspects of our business), damage our reputation, negatively impact our ability to grow our business, and others. For example, we maintain a tumor specimen database comprised of over 60,000 samples.Some of these samples were used to develop and validate DecisionDx-Melanoma, and, of those, some are currently being used to improve upon the test and some will be used in the future. If we were to lose this database, our ability
to further validate, improve and therefore maintain and grow sales of DecisionDx-Melanoma could be significantly impaired.
Our contracts may not contain limitations of liability, and there can be no assurance that the limitations of liability in our contracts would be enforceable or adequate or would otherwise protect us from liabilities or damages if we fail to comply with applicable privacy and security obligations. We cannot be sure that our insurance coverage will be adequate or sufficient to protect us from or adequately mitigate liabilities or damages with respect to claims, costs, expenses, litigation, fines, penalties, business loss, information loss, regulatory actions or material adverse impacts arising out of our privacy and security
practices, Processing or security incidents we may experience, or that such coverage will continue to be available on commercially reasonable terms or at all.
Product or professional liability lawsuits against us could cause us to incur substantial liabilities and could limit our commercialization of our products.
We face an inherent risk of product and professional liability exposure related to our products. The marketing, sale and use of our products could lead to the filing of product liability claims were someone to allege that our products identified or reported inaccurate or incomplete information, or otherwise failed to perform as designed. We may also be subject to liability for errors
in, a misunderstanding of or inappropriate reliance upon, the information we provide in the ordinary course of our business activities.
If we cannot successfully defend ourselves against claims that our products caused injury or otherwise failed to function properly, we could incur substantial liabilities. Regardless of merit or eventual outcome, product liability claims may result in:
•decreased demand for our current tests any tests that we may develop, and the inability to commercialize such tests;
•injury to our reputation and significant negative media attention;
•reluctance of experts willing to conduct our clinical studies;
•initiation
of investigations by regulators;
•significant costs to defend the related litigation and diversion of management’s time and our resources;
•substantial monetary awards to study subjects or patients;
•product recalls, withdrawals or labeling, or marketing or promotional restrictions; and
•loss of revenue.
We currently carry product liability insurance. However, the amount of this insurance may not be adequate to cover all liabilities that we may incur. Insurance coverage is increasingly expensive. We may not be able to maintain insurance coverage at a reasonable cost or in an amount adequate to satisfy any liability that may arise.
International
expansion of our business exposes us to business, regulatory, political, operational, financial, and economic risks associated with doing business outside of the United States.*
While we currently accept orders from customers outside of the United States, our historical business strategy has been directed toward customers within the United States. Our long-term business strategy contemplates potential international expansion. Doing business internationally involves a number of risks, including:
•multiple, conflicting and changing laws and regulations such as privacy regulations, tax laws, export and import restrictions, economic sanctions and embargoes, employment laws, regulatory requirements and other governmental approvals, permits and licenses;
•limits in our ability to penetrate international
markets if we are not able to perform tests locally;
•logistics and regulations associated with shipping tissue samples, including infrastructure conditions and transportation delays;
•difficulties in staffing and managing foreign operations;
•failure to obtain regulatory approvals for the commercialization of our products in various countries;
•complexities and difficulties in obtaining intellectual property protection and enforcing our intellectual property;
•complexities associated with managing multiple payor reimbursement regimes, government payors, or patient self-pay systems;
•financial
risks, such as longer payment cycles, difficulty collecting accounts receivable, the impact of local and regional financial crises on demand and payment for our products and exposure to foreign currency exchange rate fluctuations;
•natural disasters, political and economic instability, including wars, terrorism, and political unrest, outbreak of disease, boycotts, curtailment of trade and other business restrictions; and
•regulatory and compliance risks that relate to maintaining accurate information and control over sales and distributors’ activities that may fall within the purview of the U.S. Foreign Corrupt Practices Act (“FCPA”) its books and records provisions, or its anti-bribery provisions.
Additionally, financial markets around the world experienced volatility following the
invasion of Ukraine by Russia in February 2022. In response to the invasion, the United States, United Kingdom and EU, along with others, imposed significant new sanctions and export controls against Russia, Russian banks and certain Russian individuals and may implement additional sanctions or take further punitive actions in the future. The full economic and social impact of the sanctions imposed on Russia (as well as possible future punitive measures that may be implemented), as well as the counter measures imposed by Russia, in addition to the ongoing military conflict between Ukraine and Russia, which could conceivably expand into the surrounding region, remains uncertain; however, both the conflict and related sanctions have resulted and could continue to result in disruptions to trade, commerce, pricing stability, credit availability, and/or supply chain continuity, in both Europe and globally,
and has introduced significant uncertainty into global markets. While we do not operate in Russia, Ukraine or Eastern Europe, as the adverse effects of this conflict continue to develop and potentially spread, both in Europe and throughout the rest of the world, our business and results of operations may be adversely affected, particularly to the extent this conflict escalates to involve additional countries, further economic sanctions or wider military conflict. Any of these factors could significantly harm our future international expansion and operations and, consequently, our revenue and results of operations.
Requirements associated with being a public company will continue to increase our costs as well as divert significant company resources and management attention.*
We are subject to the reporting requirements
of the Exchange Act or the other rules and regulations of the SEC and any securities exchange relating to public companies. Sarbanes-Oxley, as well as rules subsequently adopted by the SEC and Nasdaq to implement provisions of Sarbanes-Oxley, impose significant requirements on public companies, including requiring establishment and maintenance of effective disclosure and financial controls and changes in corporate governance practices. Further, pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the SEC has adopted additional rules and regulations in these areas, such as mandatory ‘‘say on pay’’ voting requirements that now apply to us since we are no longer an emerging growth company effective December 31, 2021. Stockholder activism, the current political environment and the current high level of government intervention and regulatory reform may lead to substantial new regulations and disclosure
obligations, which may lead to additional compliance costs and impact the manner in which we operate our business in ways we cannot currently anticipate. Compliance with the various reporting and other requirements applicable to public companies requires considerable time and attention of management. We cannot assure you that we will satisfy our obligations as a public company on a timely basis.
We expect the rules and regulations applicable to public companies to increase our legal and financial compliance costs and to make some activities more time-consuming and costly. We were previously afforded exemptions from certain public company reporting requirements as a result of our status as an emerging growth company. Effective December 31, 2021, we ceased to be an emerging growth company. If we are unable to comply with these requirements on a timely basis or if the attention
of our management and personnel is diverted from other business concerns, it could have a material adverse effect on our business, financial condition and results of operations. The increased costs will increase our net loss or decrease our net income, and may require us to reduce costs in other areas of our business or increase the prices of our products. In addition, as we expand, it may be more difficult or more costly for us to obtain certain types of insurance, including directors’ and officers’ liability insurance, and we may be forced to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage. The impact of these events could also make it more difficult for us to attract and retain qualified personnel to serve on our board of directors, our board committees or as executive officers.
If we fail to comply with environmental, health and safety laws and regulations,
we could become subject to fines or penalties or incur costs that could have a material adverse effect on the success of our business.
We, and the third parties with whom we share our facilities, are subject to numerous environmental, health and safety laws and regulations, including those governing laboratory procedures and the handling, use, storage, treatment and disposal of hazardous materials and wastes. Each of our operations involve the use of hazardous and flammable materials, including chemicals and biological and radioactive materials. Our operations also produce hazardous waste. We generally contract with third parties for the disposal of these materials and wastes. We cannot eliminate the risk of contamination or injury from these materials. We could be held liable for any resulting damages in the event of contamination
or injury resulting from the use of hazardous materials by us or the third parties with whom we share our facilities, and any liability could exceed our resources. We also could incur significant costs associated with civil or criminal fines and penalties.
Although we maintain workers’ compensation insurance to cover us for costs and expenses we may incur due to injuries to our employees resulting from the use of hazardous materials, this insurance may not provide adequate coverage against potential liabilities. We do not maintain insurance for environmental liability or toxic tort claims that may be asserted against us in connection with our storage or disposal of biological, hazardous or radioactive materials.
In addition, we may incur substantial costs in order to comply with current or future environmental, health and safety laws and regulations. These current or future laws
and regulations may impair our research and development. Failure to comply with these laws and regulations also may result in substantial fines, penalties or other sanctions.
Our business could be adversely impacted by inflation.*
In 2021, the rate of inflation in the United States began to increase and has since risen to levels not experienced in over 40 years. We are experiencing inflationary pressures, primarily in personnel costs, and we anticipate impacts on other cost areas within the next twelve months. The extent of any future impacts from inflation on our business and our results of operations will be dependent upon how long the elevated inflation levels persist and the extent to which the rate of inflation further increases, if at all, neither of which we are able to predict. If elevated levels of inflation were to persist or if the rate of inflation were to accelerate, the purchasing
power of our cash and cash equivalents may be diminished, our expenses could increase
faster than anticipated and we may utilize our capital resources sooner than expected. Further, given the complexities of the reimbursement landscape in which we operate, our payors may be unwilling or unable to increase reimbursement rates to compensate for inflationary impacts. As such, the effects of inflation may adversely impact our results of operations, financial condition and cash flows.
Our business could be adversely affected by natural disasters, public health epidemics and other events beyond our control.*
Although
we maintain crisis management plans, our business operations are subject to interruption by natural disasters and other events and catastrophes beyond our control, including, but not limited to, earthquakes, floods, fires, tornadoes, hurricanes, power or other utility outages, telecommunications failures and public health crises. Further, outbreaks of epidemic diseases, such as the COVID-19 pandemic discussed above, or Russia’s invasion of Ukraine in February 2022, or the fear of such events, could provoke responses, including government-imposed travel restrictions that could impede the mobility and effectiveness of our sales force, disrupt our operations or those of our suppliers and service providers. The ultimate impact of any of these or similar events is highly uncertain and could have a material adverse impact on our operations.
Risks
Related to Ownership of Our Common Stock
The price of our common stock may be volatile or may decline regardless of our operating performance, and you may lose all or part of your investment.*
The market price of our common stock may fluctuate significantly in response to numerous factors, many of which are beyond our control, including:
•our operating performance and the performance of other similar companies;
•our success in marketing and selling our products;
•reimbursement determinations by third-party payors and reimbursement rates for our products;
•changes in our projected operating results that we provide
to the public, our failure to meet these projections or changes in recommendations by securities analysts that elect to follow our common stock;
•regulatory or legal developments in the United States and other countries;
•the level of expenses related to product development and clinical studies for our products;
•our ability to achieve product development goals in the timeframes we announce;
•announcements of clinical study results, regulatory developments, acquisitions, strategic alliances or significant agreements by us or by our competitors;
•the success or failure of our efforts to acquire, license or develop additional tests;
•recruitment
or departure of key personnel;
•general economic conditions and market conditions specific to our industry;
•interest rates and the rate of inflation;
•the extent and duration of the impacts on our operations of general political and economic conditions, including the COVID-19 pandemic, the invasion of Ukraine by Russia, economic slowdowns, recessions or market corrections, the duration and effects of elevated inflation, rising interest rates and tightening of credit markets resulting from the pandemic, the conflict or another cause;
•trading activity by a limited number of stockholders who together beneficially own a significant percentage of our outstanding common stock;
•the
size of our market float; and
•any other factors discussed in this Quarterly Report on Form 10-Q.
For example, following our April 4, 2022 announcement of our entry into a definitive agreement to acquire AltheaDx, our stock price decreased 16.5% the next day and experienced further declines in the days that followed. In addition, the stock market in general, and diagnostic and life sciences companies in particular, have experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to the operating performance of these companies. Broad market and industry factors may negatively affect the market price of our securities, regardless of our actual operating performance. In the past, stockholders of other companies have filed securities class action litigation following periods
of market volatility. If we were to become involved in securities litigation, it could subject us to substantial costs, divert resources and the attention of management from our business and adversely affect our business.
If there are substantial sales of shares of our common stock, the price of our common stock could decline.*
The price of our common stock could decline if there are substantial sales of our common stock, particularly sales by our directors, executive officers and significant stockholders, or if there is a large number of shares of our common stock available for sale and the market perceives that
sales will occur. Shares held by directors, executive officers and other affiliates are subject to volume limitations under Rule 144 under the Securities Act.
Certain of our stockholders have rights, subject to some conditions, to require us to file registration statements covering their shares or to include their shares in registration statements that we may file for ourselves or our stockholders. We filed such a registration statement in January 2022 to register the resale of shares of our common stock issuable in connection with our acquisition of Cernostics in December 2021. In June 2022, we filed a registration statement to register the resale of shares of our common stock that were issued and that may be issuable in connection with our acquisition of AltheaDx in April 2022. We have registered shares of common stock that we have issued and may issue under our employee equity incentive plans. As a result, these shares
will be able to be sold freely in the public market upon issuance.
The market price of the shares of our common stock could decline as a result of the sale of a substantial number of our shares of common stock in the public market or the perception in the market that the holders of a large number of shares intend to sell their shares.
We have broad discretion in the use of working capital and may not use it effectively or in ways that increase our share price.*
We cannot specify with any certainty the particular uses of working capital, but we currently expect such uses will include: funding selling and marketing activities, including expansion of our sales force to support the ongoing commercialization of current and future products; research and development related to the continued support of our current products, as well as the development
of our product pipeline; and other general corporate purposes, including acquisitions and the costs associated with being a public company. The failure by our management to apply our working capital effectively could adversely affect our business and financial condition. Pending its use, we may invest working capital in a manner that does not produce income or that loses value. These investments may not yield a favorable return to our investors.
If securities or industry analysts do not publish research or publish inaccurate or unfavorable research about our business, our stock price and trading volume could decline.
The trading market for our common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. If one or more of the analysts who cover us downgrade our common stock or publish inaccurate or unfavorable research
about our business, our common stock price would likely decline. If one or more of these analysts cease coverage of us or fail to publish reports on us regularly, demand for our common stock could decrease, which might cause our common stock price and trading volume to decline.
Our disclosure controls and procedures may not prevent or detect all errors or acts of fraud.
We are subject to the periodic reporting requirements of the Exchange Act. We designed our disclosure controls and procedures to reasonably assure that information we must disclose in reports we file or submit under the Exchange Act is accumulated and communicated to management, and recorded, processed, summarized and reported within the time periods specified in the rules and forms of the SEC. We believe that any disclosure controls and procedures or internal controls and procedures, no matter how well-conceived
and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met.
These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. For example, our directors or executive officers could inadvertently fail to disclose a new relationship or arrangement causing us to fail to make any related party transaction disclosures. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by an unauthorized override of the controls. Accordingly, because of the inherent limitations in our control system, misstatements due to error or fraud may occur and not be detected. In addition, we do not have a risk management program or processes or procedures for identifying and addressing risks to our business in other areas.
We
have and may continue to enter into related party transactions that create conflicts of interest, or the appearances of conflicts of interest, which may harm our business and cause our stock price to decline.*
We have entered into related party transactions that create conflicts of interest between our interests and the interests of our directors and executive officers. For example, we employ three children and a brother-in-law of Derek J. Maetzold, our President and Chief Executive Officer, three children and a son-in-law of Kristen M. Oelschlager, our Chief Operating Officer, and the son of Tobin W. Juvenal, our Chief Commercial Officer, in each case in non-officer positions. Additionally, Derek J. Maetzold and Daniel M. Bradbury, the chairperson of our board
of directors, each served on the board of directors of AltheaDx,
a commercial-stage molecular diagnostics company that we acquired in April 2022. Further, each of the following individuals was a direct or indirect beneficial owner of AltheaDx securities and received consideration in the transaction: Mr. Bradbury; Mr. Maetzold; Thomas Sullivan, John Maetzold and Peter Maetzold, immediate family members of Mr. Maetzold; Frank Stokes, our Chief Financial Officer; Tobin Juvenal, our Chief Commercial Officer; Kristen Oelschlager, our Chief Operating Officer; and Joshua Albers and Allysa
Topel, immediate family members of Ms. Oelschlager.
These types of related party arrangements are required to be disclosed in our annual proxy statement and/or in the notes to our consolidated financial statements based on certain criteria. We may engage in other transactions in the future involving our executive officers, directors and their family members and/or entities which they control or are affiliated, which could cause individuals in our management to seek to advance their economic interests or the economic interests of certain related parties above ours. Although we have a written policy on related party transactions that involves independent review and oversight by the audit committee of our board of directors, there can be no assurances that conflicts of interest will not exist, or that we will be able to adequately address or mitigate any actual or perceived conflicts of interest, and stockholders, analysts,
proxy advisory firms, the news media and other parties may view these transactions as representing conflicts of interest or as otherwise inappropriate, which may result in negative public perception and reputational harm, and could impair our ability to enter into new customer relationships or attract and retain employees. Potential, perceived and actual conflicts of interest could cause investors to question the independence of our management, the adequacy and effectiveness of our disclosure controls and procedures or the integrity of our corporate governance procedures and compensation practices, which could have a material adverse effect on the trading price of our common stock and our business, financial condition and results of operations.
We are a smaller reporting company and we cannot be certain if the scaled disclosure requirements applicable to smaller reporting companies will make our common stock less attractive
to investors.*
Effective as of June 30, 2022, we have requalified as a smaller reporting company as defined in the Exchange Act. We may take advantage of certain of the scaled disclosures available to smaller reporting companies beginning with this Quarterly Report on Form 10-Q and will be able to take advantage of these scaled disclosures for so long as the market value of our voting and non-voting common stock held by non-affiliates is less than $250.0 million measured on the last business day of our second fiscal quarter, or our annual revenue is less than $100.0 million during the most recently completed fiscal year and the market value of our voting and non-voting common stock held by non-affiliates is less than $700.0 million measured on the last business day of our second fiscal quarter.
We cannot predict if investors will
find our common stock less attractive because we will rely on these scaled disclosures. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our stock price may be more volatile.
We do not intend to pay dividends for the foreseeable future.
We have never declared nor paid cash dividends on our capital stock. We currently intend to retain any future earnings to finance the operation and expansion of our business, and we do not expect to declare or pay any dividends in the foreseeable future. Consequently, stockholders must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investment.
The concentration of our stock ownership will likely limit your ability to influence corporate matters,
including the ability to influence the outcome of director elections and other matters requiring stockholder approval.*
Based upon shares outstanding as of June 30, 2022, our executive officers, directors and the known holders of more than 5% of our outstanding common stock, in the aggregate, beneficially owned approximately 27%of our common stock. As a result, these stockholders, acting together, will have significant influence over all matters that require approval by our stockholders, including the election of directors and approval of significant corporate transactions. Corporate actions might be taken even if other stockholders oppose them. This concentration of ownership might also have the effect of delaying or preventing a change of control of our
company that other stockholders may view as beneficial.
Delaware law and provisions in our amended and restated certificate of incorporation and amended and restated bylaws could make a merger, tender offer or proxy contest difficult, thereby depressing the trading price of our common stock.
Provisions of our amended and restated certificate of incorporation and amended and restated bylaws may delay or discourage transactions involving an actual or potential change in our control or change in our management, including transactions
in which stockholders might otherwise receive a premium for their shares or transactions that our stockholders might otherwise deem to be in their best interests. Therefore, these provisions could adversely affect the price of our common stock. Among other things, our amended and restated certificate of incorporation and amended and restated bylaws:
•permit our board of directors to issue up to 10,000,000 shares of preferred stock, with any rights, preferences and privileges as they may designate (including the right to approve an acquisition or other change in our control);
•provide that the authorized number of directors may be changed only by resolution of the board of directors;
•provide that the board of directors or any individual director may only be removed with cause and the affirmative vote of the holders of at least 66-2/3% of the voting power of all of our then outstanding common stock;
•provide that all vacancies, including newly created directorships, may, except as otherwise required by law, be filled by the affirmative vote of a majority of directors then in office, even if less than a quorum;
•divide our board of directors into three classes;
•require that any
action to be taken by our stockholders must be effected at a duly called annual or special meetings of stockholders and not be taken by written consent;
•provide that stockholders seeking to present proposals before a meeting of stockholders or to nominate candidates for election as directors at a meeting of stockholders must provide notice in writing in a timely manner and also specify requirements as to the form and content of a stockholder’s notice;
•do not provide for cumulative voting rights (therefore allowing the holders of a majority of the shares of common stock entitled to vote in any election of directors to elect all of the directors standing for election, if they should so choose);
•provide that special meetings of our stockholders may be called only
by the chairperson of the board, our Chief Executive Officer or by the board of directors pursuant to a resolution adopted by a majority of the total number of authorized directors;
•provide that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware (or, if and only if the Court of Chancery of the State of Delaware lacks subject matter jurisdiction, any state court located within the State of Delaware or, if and only if all such state courts lack subject matter jurisdiction, the federal district court for the District of Delaware) will be the sole and exclusive forum for the following types of actions or proceedings under Delaware statutory or common law: (i) any derivative action or proceeding brought on our behalf; (ii) any action or proceeding asserting a claim of breach of a fiduciary duty owed by any of our current or former directors,
officers or other employees to us or our stockholders; (iii) any action or proceeding asserting a claim against us or any of our current or former directors, officers or other employees, arising out of or pursuant to any provision of the Delaware General Corporation Law, our certificate of incorporation or our bylaws; (iv) any action or proceeding to interpret, apply, enforce or determine the validity of our certificate of incorporation or our bylaws; (v) any action or proceeding as to which the Delaware General Corporation Law confers jurisdiction to the Court of Chancery of the State of Delaware; and (vi) any action
asserting a claim against us or any of our directors, officers or other employees governed by the internal affairs doctrine, in all cases to the fullest extent permitted by law and subject to the court’s having personal jurisdiction over the indispensable parties named as defendants; provided these provisions of our amended and restated certificate of incorporation and amended and restated bylaws will not apply to suits brought to enforce a duty or liability created by the Exchange Act or any other claim for which the federal courts have exclusive jurisdiction; and
•provide that unless we consent in writing to the selection of an alternative forum, the federal district courts of the United States of America shall be the exclusive
forum for the resolution of any complaint asserting a cause of action arising under the Securities Act, subject to and contingent upon a final adjudication in the State of Delaware of the enforceability of such exclusive forum provision.
The amendment of any of these provisions, with the exception of the ability of our board of directors to issue shares of preferred stock and designate any rights, preferences and privileges thereto, would require approval by the holders of at least 66-2/3% of our then-outstanding common stock.
In addition, as a Delaware corporation, we are subject to Section 203 of the Delaware General Corporation Law. These provisions may prohibit large stockholders, in particular those owning 15% or more of our outstanding voting stock, from merging or combining with us for a certain period of time. A Delaware corporation may opt out of this provision by express
provision in its original certificate of incorporation or by amendment to its certificate of incorporation or bylaws approved by its stockholders. However, we have not opted out of this provision.
These and other provisions in our amended and restated certificate of incorporation, amended and restated bylaws and Delaware law could make it more difficult for stockholders or potential acquirers to obtain control of our board of directors or initiate actions that are opposed by our then-current
board of directors, including delay or impede a merger, tender offer or proxy contest involving our company. The existence of these provisions could negatively affect the price of our common stock and limit opportunities for you to realize value in a corporate transaction.
Our amended and restated certificate of incorporation provides that the Court of Chancery of the State of Delaware is the exclusive forum for certain disputes between us and our stockholders, which could limit our
stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers or employees.
Our amended and restated certificate of incorporation provides that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware (or, if and only if the Court of Chancery of the State of Delaware lacks subject matter jurisdiction, any state court located within the State of Delaware or, if and only if all such state courts lack subject matter jurisdiction, the federal district court for the District of Delaware) will be the sole and exclusive forum for the following types of actions or proceedings under Delaware statutory or common law: (i) any derivative action or proceeding brought on our behalf; (ii) any action or proceeding asserting a claim of breach of
a fiduciary duty owed by any of our current or former directors, officers or other employees to us or our stockholders; (iii) any action or proceeding asserting a claim against us or any of our current or former directors, officers or other employees arising out of or pursuant to any provision of the Delaware General Corporation Law, our amended and restated certificate of incorporation or amended and restated bylaws; (iv) any action or proceeding to interpret, apply, enforce or determine the validity of our amended and restated certificate of incorporation or our amended and restated bylaws; (v) any action or proceeding
as to which the Delaware General Corporation Law confers jurisdiction to the Court of Chancery of the State of Delaware; and (vi) any action asserting a claim against us or any of our directors, officers or other employees that is governed by the internal affairs doctrine, in all cases to the fullest extent permitted by law and subject to the court’s having personal jurisdiction over the indispensable parties named as defendants; provided these provisions would not apply to suits brought to enforce a duty or liability created by the Exchange Act, or any other claim for which the federal courts have exclusive jurisdiction. This provision would not apply to suits brought to enforce a duty or liability created by the Exchange Act. Furthermore, Section 22 of the Securities Act creates concurrent jurisdiction for federal and state courts over all such Securities Act actions. Accordingly, both state and federal courts have jurisdiction to entertain such claims. To prevent
having to litigate claims in multiple jurisdictions and the threat of inconsistent or contrary rulings by different courts, among other considerations, our amended and restated certificate of incorporation and amended and restated bylaws provide that unless we consent in writing to the selection of an alternative forum, the federal district courts of the United States of America shall be the exclusive forum for the resolution of any complaint asserting a cause of action arising under the Securities Act, subject to and contingent upon a final adjudication in the State of Delaware of the enforceability of such exclusive forum provision. While the Delaware courts have determined that such choice of forum provisions are facially valid, a stockholder may nevertheless seek to bring a claim in a venue
other than those designated in the exclusive forum provisions. In such instance, we would expect to vigorously assert the validity and enforceability of the exclusive forum provisions of our amended and restated certificate of incorporation. This may require significant additional costs associated with resolving such action in other jurisdictions and there can be no assurance that the provisions will be enforced by a court in those other jurisdictions.
These choice of forum provisions may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers or other employees and may discourage these types of lawsuits. Furthermore, the enforceability of similar choice of forum provisions in other companies’ certificates of incorporation has been challenged in legal proceedings,
and it is possible that a court could find these types of provisions to be inapplicable or unenforceable. If a court were to find the choice of forum provisions contained in our amended and restated certificate of incorporation to be inapplicable or unenforceable in an action, we may incur additional costs associated with resolving such action in other jurisdictions.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
Use of Proceeds from IPO of Common Stock
On July 29, 2019, we completed the IPO, pursuant to which we issued and sold 4,600,000 shares of our common
stock, including 600,000 shares associated with the full exercise of the underwriters’ option to purchase additional shares, at a price to the public of $16.00 per share.
The offer and sale of all of the shares of our common stock in the IPO were registered under the Securities Act pursuant to our Registration Statements on Form S-1, as amended (File Nos. 333-232369 and 333-232796), which were declared or became effective on July 24, 2019.
There has been no material change in our planned use of the net proceeds from the IPO as described in the final prospectus filed with the SEC on July 26, 2019,
relating to our Registration Statements on Form S-1 (File Nos. 333-232369 and 333-232796).
Since the effective date of our registration statement through June 30, 2022, we have not used any of the net proceeds from the IPO. Pending such uses, we have invested, and plan to continue to invest, the balance of the net proceeds from the IPO in cash and cash equivalent securities or highly liquid investment securities.
Inline
XBRL Instance Document—the instance document does not appear in the Interactive Data File as its XBRL tags are embedded within the Inline XBRL document.
# Schedules and exhibits to this exhibit have been omitted pursuant to Item 601(a)(5) of Regulation S-K. A copy of any omitted schedule or exhibit will be furnished to the SEC upon request; provided, however, that we may request confidential treatment pursuant to Rule 24b-2 of the Exchange Act for any schedule or exhibit so furnished.
+ Pursuant
to Item 601(b)(2) of Regulation S-K, certain portions of this exhibit have been omitted (indicated by “[***]”) because we have determined that the information is not material and is the type that we treat as private or confidential. In addition, certain schedules and exhibits have been omitted pursuant to Item 601(b)(2) of Regulation S-K. A copy of any omitted schedule or exhibit will be furnished to the SEC upon request; provided, however, that we may request confidential treatment pursuant to Rule 24b-2 of the Exchange Act for any schedule or exhibit so furnished.
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
