Xtant Medical (XTNT) 10-Q2023 Q3 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

or

Commission File Number: 001-34951

XTANT MEDICAL HOLDINGS, INC.

(Exact name of registrant as specified in its charter)

(406) 388-0480

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

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. Yes ☒ 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). Yes ☒ 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.

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 ☒

Number of shares of common stock, par value $0.000001 per share, of registrant outstanding at November 13, 2023: 130,110,250.

XTANT MEDICAL HOLDINGS, INC.

FORM 10-Q

September 30, 2023

TABLE OF CONTENTS

This Quarterly Report on Form 10-Q contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and are subject to the safe harbor created by those sections. For more information, see “Cautionary Statement Regarding Forward-Looking Statements.”

As used in this report, unless the context indicates another meaning, the terms “we,” “us,” “our,” “Xtant,” “Xtant Medical,” and the “Company” mean Xtant Medical Holdings, Inc. and its wholly owned subsidiaries, all of which are consolidated on Xtant’s condensed consolidated financial statements. All intercompany balances and transactions have been eliminated in consolidation.

We own various unregistered trademarks and service marks, including our corporate logo. Solely for convenience, the trademarks and trade names in this report are referred to without the ® and ™ symbols, but such references should not be construed as any indicator that the owner of such trademarks and trade names will not assert, to the fullest extent under applicable law, their rights thereto. We do not intend the use or display of other companies’ trademarks and trade names to imply a relationship with, or endorsement or sponsorship of us by, any other companies.

We include our website address throughout this report for reference only. The information contained on or connected to our website is not incorporated by reference into this report.

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

The statements contained in this Quarterly Report on Form 10-Q that are not purely historical are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Our forward-looking statements include, but are not limited to, statements regarding our expectations, hopes, beliefs, intentions, or strategies regarding the future. In addition, any statements that refer to projections, forecasts, or other characterizations of future events or circumstances, including any underlying assumptions, are forward-looking statements. The words “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “possible,” “potential,” “predict,” “project,” “should,” and “would,” as well as similar expressions, may identify forward-looking statements, but the absence of these words does not mean that a statement is not forward looking. Forward-looking statements in this Form 10-Q may include, for example, statements about the topics below and are subject to risks and uncertainties including without limitation those described below:

The forward-looking statements contained in this Form 10-Q are based on our current expectations and beliefs concerning future developments and their potential effects on us. There can be no assurance that future developments affecting us will be those that we have anticipated. These forward-looking statements involve a number of risks, uncertainties, or assumptions, many of which are beyond our control, which may cause actual results or performance to be materially different from those expressed or implied by these forward-looking statements. These risks and uncertainties include, but are not limited to, those factors described in the “Risk Factors” section of our Annual Report on Form 10-K for the year ended December 31, 2022 and this Form 10-Q.

Should one or more of these risks or uncertainties materialize, or should any of our assumptions prove incorrect, actual results may vary in material respects from those projected in these forward-looking statements. We undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise, except as may be required under applicable securities laws.

XTANT MEDICAL HOLDINGS, INC.

Condensed Consolidated Balance Sheets

(In thousands, except number of shares and par value)

See notes to unaudited condensed consolidated financial statements.

XTANT MEDICAL HOLDINGS, INC.

Condensed Consolidated Statements of Operations

(Unaudited, in thousands, except number of shares and per share amounts)

See notes to unaudited condensed consolidated financial statements.

XTANT MEDICAL HOLDINGS, INC.

Condensed Consolidated Statements of Comprehensive Income (Loss)

(Unaudited, in thousands)

See notes to unaudited condensed consolidated financial statements.

XTANT MEDICAL HOLDINGS, INC.

Condensed Consolidated Statements of Equity

(Unaudited, in thousands, except number of shares)

See notes to unaudited condensed consolidated financial statements.

XTANT MEDICAL HOLDINGS, INC.

Condensed Consolidated Statements of Cash Flows

(Unaudited, in thousands)

See notes to unaudited condensed consolidated financial statements.

Notes to Unaudited Condensed Consolidated Financial Statements

(1) Business Description, Basis of Presentation and Summary of Significant Accounting Policies

Business Description and Basis of Presentation

The accompanying condensed consolidated financial statements include the accounts of Xtant Medical Holdings, Inc. (“Xtant”), a Delaware corporation, and its wholly owned subsidiaries, are jointly referred to herein as “Xtant” or the “Company”. The terms “we,” “us” and “our” also refer to Xtant.

All intercompany balances and transactions have been eliminated in consolidation.

Xtant is a global medical technology company focused on the design, development, and commercialization of a comprehensive portfolio of orthobiologics and spinal implant systems to facilitate spinal fusion in complex spine, deformity, and degenerative procedures.

The accompanying condensed consolidated balance sheet as of December 31, 2022, which has been derived from audited financial statements, and the unaudited interim condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America. They do not include all disclosures required by generally accepted accounting principles for annual consolidated financial statements, but in the opinion of management include all adjustments, consisting only of normal recurring items, necessary for a fair presentation.

Interim results are not necessarily indicative of results that may be achieved in the future for the full year ending December 31, 2023.

These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto, which are included in Xtant’s Annual Report on Form 10-K for the year ended December 31, 2022. The accounting policies set forth in those annual consolidated financial statements are the same as the accounting policies utilized in the preparation of these condensed consolidated financial statements, except as modified for appropriate interim consolidated financial statement presentation.

Private Placement

On July 3, 2023, we entered into a securities purchase agreement pursuant to which we issued an aggregate of 20,000,000 shares of common stock to accredited investors in a private placement at a per share purchase price of $0.75 at a closing held on July 6, 2023. The gross proceeds to us from the private placement were $15.0 million, before deducting estimated offering fees and expenses payable by us. We expect to use the net proceeds from the private placement for working capital and other general corporate purposes.

Use of Estimates

The preparation of the condensed consolidated financial statements requires management of the Company to make a number of estimates and assumptions relating to the reported amount of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenue and expenses during the period. Significant estimates include the carrying amount of property and equipment; goodwill, intangible assets and liabilities; valuation allowances for trade receivables, inventory, deferred income tax assets and liabilities; current and long-term lease obligations and corresponding right-of-use asset; estimates for the fair value of assets acquired as part of business combinations; and estimates for the fair value of long-term debt, stock options and other equity awards upon which the Company determines stock-based compensation expense. Actual results could differ from those estimates.

Restricted Cash

Cash and cash equivalents classified as restricted cash on our condensed consolidated balance sheets are restricted as to withdrawal or use under the terms of certain contractual agreements. The September 30, 2023 and December 31, 2022 balances included lockbox deposits that are temporarily restricted due to timing at the period end. The lockbox deposits are applied against our line of credit the next business day.

Concentration of Credit Risk

Financial instruments that potentially expose the Company to concentration of credit risk consist primarily of cash, cash equivalents and restricted cash. The Company maintains its cash balances primarily with two financial institutions. These balances generally exceed federally insured limits. The Company has not experienced any losses in such accounts and believes it is not exposed to any significant credit risk in cash and cash equivalents.

Long-Lived Assets

The Company reviews its long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recovered. No impairments of long-lived assets were recorded for the three and nine months ended September 30, 2023 and 2022.

Goodwill

Goodwill represents the excess of costs over fair value of assets of businesses acquired. Goodwill and intangible assets acquired in a purchase business combination and determined to have indefinite useful lives are not amortized. Instead, they are tested for impairment at least annually, and whenever events or circumstances indicate, the carrying amount of the asset may not be recoverable. No impairments of goodwill were recorded for the three and nine months ended September 30, 2023 and 2022.

The following table presents the changes in the carrying amount of goodwill:

 Schedule of Goodwill

Foreign Currency

The Company generates revenues outside the United States in multiple foreign currencies including euros, Swiss francs, British pounds and in U.S. dollar-denominated transactions conducted with customers who generate revenue in currencies other than the U.S. dollar. The Company also incurs operating expenses in euros, Swiss francs and British pounds. All assets and liabilities of foreign subsidiaries which have a functional currency other than the U.S. dollar are translated at the rate of exchange at period-end, while elements of the income statement are translated at the average exchange rates in effect during the period. The net effect of these translation adjustments is shown as a component of accumulated other comprehensive income. Foreign currency transaction gains and losses are reported in other income, net.

Fair Value of Financial Instruments

The carrying values of financial instruments, including trade accounts receivable, accounts payable, accrued liabilities, and long-term debt, approximate their fair values based on terms and related interest rates as of September 30, 2023 and December 31, 2022.

(2) Acquisition of Coflex and CoFix Product Lines

On February 28, 2023, we entered into an Equity Purchase Agreement (the “Equity Purchase Agreement”) with Surgalign SPV, Inc. (“Surgalign SPV”), a wholly owned subsidiary of Surgalign Spine Technologies, Inc., (“Seller”), Seller and Surgalign Holdings, Inc. , pursuant to which we purchased all of the issued and outstanding shares of common stock of Surgalign SPV, which shares constituted all of the outstanding equity of Surgalign SPV, for an aggregate purchase price of $17.0 million in cash (the “Purchase Price”). The closing contemplated by the Equity Purchase Agreement occurred on February 28, 2023 (the “Closing”).

Immediately prior to the Closing, Seller and its affiliates transferred and assigned to Surgalign SPV, a newly formed entity wholly owned by Seller, certain intellectual property, contractual rights and other assets related to the design, manufacture, sale and distribution of Seller’s Coflex and CoFix products in the United States (the “Coflex Business”). The Coflex and CoFix products have been approved by the U.S. Food and Drug Administration for the treatment of moderate to severe lumbar spinal stenosis in conjunction with decompression and provide minimally invasive, motion preserving stabilization.

In conjunction with the Equity Purchase Agreement, on February 28, 2023, we entered into a Transition Services Agreement with Surgalign SVP and Seller, whereby Seller agreed to provide, or cause to be provided, to us on and after the effective date of the Equity Purchase Agreement, after giving effect to the Closing, certain transitional services related to the transition of the Coflex Business.

We funded the Purchase Price with cash on hand and approximately $5.0 million of indebtedness incurred under our term loan, refer to Note 10 – Debt for additional information.

We recorded the purchase of this acquisition using the acquisition method of accounting and, accordingly, recognized the assets acquired at their fair values as of the date of acquisition. The table below represents the allocation of the total consideration for Surgalign SPV’s assets and liabilities based on management’s estimates of their respective fair values as of February 28, 2023 (in thousands):

 Schedule of Recognized Identified Assets Acquired and Liabilities Assumed 

The acquisition was recorded by allocating the costs of the net assets acquired based on their estimated fair values at the acquisition date. The fair values were based on management’s analysis, including work performed by third-party valuation specialists.

The acquisition strengthened the Company’s spine portfolio with the addition of the Coflex Business. Coflex is a differentiated and minimally invasive motion preserving stabilization implant that is FDA PMA-approved for the treatment of moderate to severe lumbar spinal stenosis in conjunction with decompression. This potential benefit resulted in the Company paying a premium for the acquisition resulting in the recognition of $3.3 million in goodwill. For tax purposes, goodwill is deductible.

(3) Acquisition of Surgalign Holdings, Inc.’s Hardware and Biologics Business

On August 10, 2023, we completed the acquisition (the “Transaction”) of the assets of Surgalign Holdings, Inc. ( “Surgalign Holdings”), and its subsidiaries used in Surgalign Holding’s hardware and biologics business. The acquired assets included specified inventory, intellectual property and intellectual property rights, contracts, equipment and other personal property, records, the outstanding equity securities of Surgalign Holdings’s international subsidiaries, and intangibles that were related to Surgalign Holding’s hardware and biologics business (collectively, the “Assets”) As part of the Transaction, we assumed and certain specified liabilities of Surgalign Holdings (collectively, the “Liabilities”), all pursuant to the Asset Purchase Agreement, dated June 18, 2023, between Surgalign Holdings and us (as amended, the “Asset Purchase Agreement”).

The Transaction was conducted through a process supervised by the United States Bankruptcy Court for the Southern District of Texas, Houston Division (the “Bankruptcy Court”) in connection with Surgalign Holdings’ bankruptcy proceedings; and therefore, we acquired the Assets with limited representations and warranties. The Bankruptcy Court issued a Sale Order on August 9, 2023 approving and authorizing the Transaction. We funded the purchase price of $5 million, plus Liabilities, with cash on hand.

We recorded the purchase of the Transaction using the acquisition method of accounting and, accordingly, recognized the assets acquired at their fair values as of the date of acquisition. Due to the proximity of the acquisition date to the balance sheet date of September 30, 2023, the initial accounting and the third-party valuation is incomplete. The primary areas of purchase price allocation that are not yet finalized are the determination of overall enterprise value and the value of its inventory and equipment. In addition, depending on the value associated with these areas, the gain on bargain purchase as well as the deferred tax liability for the difference between book and tax bases are also subject to change. The table below represents the preliminary allocation of the total consideration for Surgalign Holdings’ assets and liabilities based on management’s preliminary estimate of their respective fair values as of August 10, 2023 (in thousands):

 Schedule of Business Acquisitions

The Transaction was recorded by allocating the costs of the net assets acquired based on their estimated fair values at the acquisition date. The fair values were based on management’s analysis, including work performed by third-party valuation specialists. Managements estimates and assumptions are subject to change during the measurement period (up to one year from the acquisition date) as we finalize our valuations of assets acquired and liabilities assumed in connection with the Transaction.

Accounting Standards Codification (“ASC”) 805, Business Combinations, requires that any excess of purchase price over the fair value of assets acquired, including identifiable intangibles and liabilities assumed, be recognized as goodwill and any excess of fair value of acquired net assets, including identifiable intangible assets over the acquisition consideration, results in a gain from bargain purchase. Prior to recording a gain, the acquiring entity must reassess whether all assets acquired and assumed liabilities have been identified and recognized and perform re-measurements to verify that the consideration paid, assets acquired and liabilities assumed have been properly valued. The Transaction resulted in a gain on bargain purchase due to the estimated fair value of the identifiable net assets acquired exceeding the purchase consideration transferred by $11.0 million and is shown as a gain on bargain purchase on our condensed consolidated statement of operations. Upon completion of our assessment, we concluded that recording a gain on bargain purchase was appropriate and required under ASC 805. The bargain purchase was primarily attributable to the Transaction occurring as part of bankruptcy proceedings.

We believe that the Transaction will strengthen our growing orthobiologics and spinal fusion device portfolio, while expanding our commercial footprint with new contracts and distributors.

The following unaudited pro forma combined financial information summarizes the results of operations for the periods indicated as if the Transaction, and the acquisition of Surgalign SPV, Inc., had been completed as of January 1, 2022 (in thousands):

 Schedule of Pro Forma Combination

Pro forma information reflects adjustments that are expected to have a continuing impact on our results of operations and are directly attributable to the Transaction, and the acquisition of Surgalign SPV, Inc. The unaudited pro forma results include adjustments to reflect the amortization of the inventory step-up and the incremental intangible asset amortization to be incurred based on the preliminary values of each identifiable intangible asset. The pro forma amounts do not purport to be indicative of the results that would have actually been obtained if the Transaction had occurred as of January 1, 2022 or that may be obtained in the future, and do not reflect future synergies, integration costs, or other such costs or savings.

(4) Revenue

In the United States, we generate most of our revenue from independent commissioned sales agents. We consign our orthobiologics products to hospitals and consign or loan our spinal implant sets to the independent sales agents. The spinal implant sets typically contain the instruments, disposables, and spinal implants required to complete a surgery. Consigned sets are managed by the sales agent to service hospitals that are high volume users for multiple procedures.

We ship replacement inventory to independent sales agents to replace the consigned inventory used in surgeries. Loaned sets are returned to the Company’s distribution centers, replenished, and made available to sales agents for the next surgical procedure.

For each surgical procedure, the sales agent reports use of the product by the hospital and, as soon as practicable thereafter, ensures that the hospital provides a purchase order to the Company. Revenue is recognized upon utilization of product. Additionally, the Company sells product directly to domestic and international stocking resellers and private label resellers. Upon receipt and acceptance of a purchase order from a stocking reseller, the Company ships product and invoices the reseller. The Company recognizes revenue when control of the promised goods is transferred to the customer, in an amount that reflects the consideration the Company expects to collect in exchange for those goods or services. There is generally no customer acceptance or other condition that prevents the Company from recognizing revenue in accordance with the delivery terms for these sales transactions.

The Company operates in one reportable segment with our net revenue derived primarily from the sale of orthobiologics and spinal implant products across North America, Europe, Asia Pacific, and Latin America. Sales are reported net of returns. The following table presents revenues from these product lines for the three and nine months ended September 30, 2023 and 2022 (in thousands):

 Summary of Revenues from Product Lines 

(5) Receivables

The Company’s provision for current expected credit loss is determined based on historical collection experience adjusted for current economic conditions affecting collectability. Actual customer collections could differ from estimates. Account balances are charged to the allowance after all means of collection have been exhausted and the potential for recovery is considered remote. Provisions to the allowance for credit losses are charged to expense.

(6) Inventories

Inventories consist of the following (in thousands):

 Schedule of Inventories 

(7) Property and Equipment, Net

Property and equipment, net are as follows (in thousands):

 Schedule of Property and Equipment, Net 

Depreciation expense related to property and equipment, including property under finance leases, for the three months ended September 30, 2023 and 2022 was $0.5 million and $0.4 million, respectively, and $1.2 million and $1 million for the nine months ended September 30, 2023 and 2022, respectively.

(8) Intangible Assets

The following table sets forth information regarding intangible assets (in thousands):

 Schedule of Intangible of Assets 

(9) Accrued Liabilities

Accrued liabilities consist of the following (in thousands):

 Schedule of Accrued Liabilities 

(10) Debt

Long-term debt consists of the following (in thousands):

 Schedule of Long-term Debt 

On February 28, 2023, the Company’s term loan agreement was amended to provide an additional $5.0 million of funding. Additionally, the Company’s term loan agreement and revolving credit facility were amended on February 28, 2023 to (i) re-set the date certain fees payable in connection with optional prepayments are determined to the date the amendment was executed and consequently extend such fees’ original expiration and (ii) increase the minimum amount of interest payable under the term loan and the revolving credit facility from 1% to 2.5%.

In May 2023, the Company extended its interest only period on the term loan until June 2024 when the Company is required to make monthly principal payments of approximately $0.7 million on the term loan through the May 2026.

On August 10, 2023, the Company’s term loan agreement and revolving credit facility were amended to permit the Transaction and provide the Company with additional flexibility with respect to holding foreign subsidiaries. The amendment contains standard covenants regarding holding foreign subsidiaries. The terms of the borrowing under these agreements otherwise remain unchanged.

The effective rate of the term loan, inclusive of amortization of debt issuance costs and accretion of the final payment, was 14.43% as of September 30, 2023. The effective rate of the revolving credit agreement was 9.94% as of September 30, 2023. As of September 30, 2023, the Company had $3.3 million available under the revolving credit agreement.

The Credit Agreements contain affirmative and negative covenants customarily applicable to senior secured credit facilities, including covenants that, among other things, limit or restrict the ability of the Borrowers, subject to negotiated exceptions, to incur additional indebtedness and additional liens on their assets, engage in mergers or acquisitions or dispose of assets, pay dividends or make other distributions, voluntarily prepay other indebtedness, enter into transactions with affiliated persons, make investments, and change the nature of their businesses. In addition, the Credit Agreements require the Borrowers and the Company to maintain net product revenue at or above minimum levels and to maintain a minimum adjusted EBITDA and a minimum liquidity, in each case at levels specified in the Credit Agreements. As of September 30, 2023, we were in compliance with all covenants under the Credit Agreements.

(11) Stock-Based Compensation

On July 26, 2023, our stockholders approved and adopted the Xtant Medical Holdings, Inc. 2023 Equity Incentive Plan (the “2023 Plan”), which replaced the Xtant Medical Holdings, Inc. 2018 Equity Incentive Plan (the “2018 Plan”) with respect to future grants of equity awards, although the 2018 Plan continues to govern equity awards granted under the 2018 Plan. The 2023 Plan permits the Board of Directors, or a committee thereof, to grant to eligible employees, non-employee directors, and consultants of the Company non-statutory and incentive stock options, stock appreciation rights, restricted stock awards, restricted stock units, deferred stock units, performance awards, non-employee director awards, and other stock-based awards. The Board of Directors may select 2023 Plan participants and determine the nature and amount of awards to be granted. The maximum number of shares of our common stock available for issuance under the 2023 Plan, subject to adjustment pursuant to the terms of the 2023 Plan, is (i) 5,500,000 shares of common stock; (ii) 7,695,812 shares of common stock remaining available for issuance under the 2018 Plan but not subject to outstanding awards under the 2018 Plan as of July 26, 2023; and (iii) up to 6,686,090 shares of common stock subject to awards outstanding under the 2018 Plan as of July 26, 2023 but only to the extent such awards are subsequently forfeited, cancelled, expire, or otherwise terminate without the issuance of such shares of common stock after such date.

Stock option activity, including options granted under the 2023 Plan and 2018 Plan was as follows for the nine months ended September 30, 2023 and 2022:

 Schedule of Share-based Compensation, Stock Options Activity 

As of September 30, 2023, there was approximately $2.6 million of total unrecognized compensation expense related to unvested stock options. These costs are expected to be recognized over a weighted-average period of 2.9 years. The weighted average grant date fair value of options granted during the three months ended September 30, 2023 was $1.20.

Restricted stock unit activity for awards granted under the 2023 Plan and 2018 Plan was as follows for the nine months ended September 30, 2023 and 2022:

 Schedule of Restricted Stock Activity 

Total compensation expense related to unvested restricted stock units not yet recognized was $3.6 million as of September 30, 2023, which is expected to be allocated to expenses over a weighted-average period of 2.3 years.

(12) Warrants

As of September 30, 2023 and December 31, 2022, there were outstanding and exercisable warrants to purchase 12,187,470 shares of our common stock at a weighted average exercise price of $1.53 per share with a weighted average remaining contractual term of 3 years.

(13) Commitments and Contingencies

Litigation

We are subject to potential liabilities under government regulations and various claims and legal actions that are pending or may be asserted from time to time. These matters arise in the ordinary course and conduct of our business and may include, for example, commercial, product liability, intellectual property, and employment matters. We intend to continue to defend the Company vigorously in such matters and, when warranted, take legal action against others. Furthermore, we regularly assess contingencies to determine the degree of probability and range of possible loss for potential accrual in our financial statements. An estimated loss contingency is accrued in our financial statements if it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. Based on our assessment, we have adequately accrued an amount for contingent liabilities currently in existence. We do not accrue amounts for liabilities that we do not believe are probable or that we consider immaterial to our overall financial position. Litigation is inherently unpredictable, and unfavorable resolutions could occur. As a result, assessing contingencies is highly subjective and requires judgment about future events. While we do not believe that the ultimate resolution of any claims and lawsuits will have a material adverse effect upon our consolidated financial position, results of operations or cash flows, it is possible that the amount of ultimate loss may exceed our current accruals and that our cash flows or results of operations could be materially affected in any particular period by the unfavorable resolution of one or more of these contingencies.

Indemnification Arrangements

Our indemnification arrangements generally include limited warranties and certain provisions for indemnifying customers against liabilities if our products or services infringe a third-party’s intellectual property rights. To date, we have not incurred any material costs as a result of such warranties or indemnification provisions and have not accrued any liabilities related to such obligations in the accompanying condensed consolidated financial statements.

We have also agreed to indemnify our directors and executive officers for costs associated with any fees, expenses, judgments, fines, and settlement amounts incurred by any of these persons in any action or proceeding to which any of those persons is, or is threatened to be, made a party by reason of the person’s service as a director or officer, including any action by us, arising out of that person’s services as our director or officer or that person’s services provided to any other company or enterprise at our request.

(14) Income Taxes

Our effective tax rates for the three and nine months ended September 30, 2023 were (33.2%) and (84.7%), respectively, and differ from the statutory rate primarily due to the tax benefit associated with release of valuation allowance resulting from recognition of deferred tax liabilities in purchase accounting, and cash state taxes. Our effective tax rates for the three and nine months ended September 30, 2022 were (0.6%) and (0.8%), respectively, and differ from the statutory rate due to the valuation allowance against all deferred tax assets, and cash state taxes. Purchase accounting for the Transaction is recorded on a preliminary basis and includes the deferred tax liability recorded. Accordingly, the benefit associated with the release of the valuation allowance from the recognition of the deferred tax liability is subject to change, refer to Note 3 – Acquisition of Surgalign Holdings, Inc.’s Hardware and Biologics Business for additional information.

In evaluating the realizability of the net deferred tax assets, we take into account a number of factors, primarily relating to the ability to generate taxable income. Where it is determined that it is likely that we will be unable to realize deferred tax assets, a valuation allowance is established against the portion of the deferred tax asset. Because it cannot be accurately determined when or if we will become profitable, a valuation allowance was provided against the entire deferred income tax asset balance.

The Company did not recognize any interest or penalties related to income taxes for the three and nine months ended September 30, 2023 and 2022.

(15) Net Income (Loss) Per Share

Basic net income (loss) per share is computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding. Shares issued during the period and shares reacquired during the period are weighted for the portion of the period that they were outstanding. Diluted net income (loss) per share is computed in a manner consistent with that of basic earnings per share while giving effect to all potentially dilutive shares of common stock outstanding during the period, which include the assumed exercise of stock options and warrants using the treasury stock method. Diluted net income (loss) per share was the same as basic net income (loss) per share for the three and nine months ended September 30, 2022, as shares issuable upon the exercise of stock options and warrants were anti-dilutive as a result of the net losses incurred for those periods.

The table below sets forth the computation of basic and diluted earnings per share (in thousands, except per share data):

Schedule of Basic and Diluted Earnings Per Share 

For the three months ended September 30, 2023 and 2022, 13,856,656 and 17,192,048 stock options, restricted stock units and warrants were excluded for the diluted earnings per share calculation as they were anti-dilutive. For the nine months ended September 30, 2023 and 2022, 12,658,083 and 17,192,048 stock options, restricted stock units and warrants were excluded for the diluted earnings per share calculation as they were anti-dilutive.

(16) Supplemental Disclosure of Cash Flow Information

Supplemental cash flow information is as follows (in thousands):

 Schedule of Supplemental Cash Flow Information 

(17) Related Party Transactions

As described in more detail under Note 1 – Business Description and Summary of Significant Accounting Policies in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022 and Item 5 of Part II of this Quarterly Report on Form 10-Q, we are party to an Investor Rights Agreement, Registration Rights Agreements and certain other agreements with OrbiMed Royalty Opportunities II, LP (“Royalty Opportunities”) and ROS Acquisition Offshore LP (“ROS”), which are funds affiliated with OrbiMed Advisors LLC (“OrbiMed”). OrbiMed beneficially owns 67% of the Company’s common stock.

All related party transactions are reviewed and approved by the Audit Committee or the disinterested members of the full Board of Directors.

(18) Segment and Geographic Information

The Company operates in one segment based upon the Company’s organizational structure, the way in which the operations and investments are managed and evaluated by the chief operating decision maker (“CODM”). The Company shares common, centralized support functions which report directly to the CODM and decision-making regarding the Company’s overall operating performance and allocation of Company resources is assessed on a consolidated basis. Net revenue by geographic region are as follows:

 Schedule of Revenues by Geographic Region 

(19) Subsequent Event

On October 23, 2023, the Company acquired the nanOss production operations from RTI Surgical, Inc. (“RTI”) pursuant to an Asset Purchase Agreement dated October 23, 2023 between the Company and RTI (the “Asset Purchase Agreement”). Under the terms of the Asset Purchase Agreement, the Company acquired certain assets, including equipment and inventory, used in RTI’s synthetic bone graft business and assumed from RTI the lease for the nanOss production facility located in Greenville, North Carolina. The purchase price for the assets was $2 million in cash plus contingent payments based on future sales of next generation nanOss products. The Company previously acquired nanOss distribution rights and nanOss intellectual property with the acquisition of assets related to the biologics and spinal fixation business of Surgalign Holdings, Inc. in August 2023.

We recorded the purchase of this acquisition using the acquisition method of accounting and, accordingly, recognized the assets acquired at their fair values as of the date of acquisition. No liabilities were assumed in connection with the acquisition. Because the closing occurred on October 23, 2023, information necessary to complete the purchase accounting is not yet available.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This Management’s Discussion and Analysis provides material historical and prospective disclosures intended to enable investors and other users to assess our financial condition and results of operations. The following discussion should be read in conjunction with our condensed consolidated financial statements and accompanying notes included in this Quarterly Report on Form 10-Q and the audited consolidated financial statements and accompanying notes thereto and Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022. In addition to historical financial information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties, and assumptions. Some of the numbers included herein have been rounded for the convenience of presentation. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors, including those discussed above in “Cautionary Statement Regarding Forward-Looking Statements” and elsewhere in this Form 10-Q.

Business Overview

We develop, manufacture and market regenerative and stabilization medicine products and medical devices for domestic and international markets. Our products serve the specialized needs of orthopedic and neurological surgeons, including orthobiologics for the promotion of bone healing, implants and instrumentation for the treatment of spinal disease. We promote our products in the United States through independent distributors and stocking agents, supported by direct employees.

We have an extensive sales channel of independent commissioned agents and stocking distributors in the United States representing some or all of our products. We also maintain a national accounts program to enable our agents to gain access to integrated delivery network hospitals (“IDNs”) and through group purchasing organizations (“GPOs”). We have biologics contracts with major GPOs, as well as extensive access to IDNs across the United States for both biologics and spine hardware systems. While our focus is the United States market, we promote and sell our products internationally through stocking distribution partners in Canada, Mexico, South America, Australia, and certain Pacific region countries.

We have focused and intend to continue to focus primarily on four key growth initiatives: (1) introduce new products; (2) expand our distribution network; (3) penetrate adjacent markets; and (4) leverage our growth platform with technology and strategic acquisitions. While the intent of these four key growth initiatives is to increase our future revenues, no assurance can be provided that we will be successful in implementing these growth initiatives or increasing our future revenues.

Recent Acquisitions

Coflex and CoFix Product Lines

On February 28, 2023, we entered into an Equity Purchase Agreement (the “Equity Purchase Agreement”) with Surgalign SPV, Inc. (“Surgalign SPV”), a wholly owned subsidiary of Surgalign Spine Technologies, Inc. (“Seller”), Seller and Surgalign Holdings, Inc., pursuant to which we purchased all of the issued and outstanding shares of common stock of Surgalign SPV, which shares constitute all of the outstanding equity of Surgalign SPV, for an aggregate purchase price of $17.0 million in cash. The closing contemplated by the Equity Purchase Agreement occurred on February 28, 2023 (the “Closing”).

Immediately prior to the Closing, Seller and its affiliates transferred and assigned to Surgalign SPV, a newly formed entity wholly owned by Seller, certain intellectual property, contractual rights and other assets related to the design, manufacture, sale and distribution of Seller’s Coflex and CoFix products in the United States (the “Coflex Business”). The Coflex and CoFix products have been approved by the U.S. Food and Drug Administration for the treatment of moderate to severe lumbar spinal stenosis in conjunction with decompression and provide minimally invasive, motion preserving stabilization.

For additional information regarding the acquisition of Surgalign SPV, refer to Note 2 – Acquisition of Coflex and CoFix Product Lines in the condensed consolidated financial statements in this Form 10-Q.

Surgalign Holdings, Inc.’s Hardware and Biologics Business

On August 10, 2023, we completed the acquisition (the “Transaction”) of certain assets of Surgalign Holdings, Inc., a Delaware corporation (the “Surgalign Holdings”), and its subsidiaries on an as-is, where-is basis, including specified inventory, intellectual property and intellectual property rights, contracts, equipment and other personal property, records, all outstanding equity securities of Surgalign Holdings’ international subsidiaries, and intangibles related to the business of designing, developing and manufacturing hardware medical technology and distributing biologics medical technology, as conducted by Surgalign Holdings and its subsidiaries (collectively, the “Assets”), and certain specified liabilities of Surgalign Holdings and its subsidiaries (collectively, the “Liabilities”) pursuant to the Asset Purchase Agreement, dated June 18, 2023, between Surgalign Holdings and us (as amended, the “Asset Purchase Agreement”).

The Transaction was conducted through a process supervised by the United States Bankruptcy Court for the Southern District of Texas, Houston Division (the “Bankruptcy Court”) in connection with Surgalign Holdings’ bankruptcy proceedings. The Bankruptcy Court issued a Sale Order on August 9, 2023 approving and authorizing the Transaction. We funded the purchase price of $5 million, plus Liabilities, with cash on hand.

For additional information regarding the Transaction, refer to Note 3 – Acquisition of Surgalign Holdings, Inc.’s Hardware and Biologics Business in the condensed consolidated financial statements in this Form 10-Q.

RTI Surgical, Inc.’s nanOss Production Operations

On October 23, 2023, we acquired the nanOss production operations from RTI Surgical, Inc. (“RTI”) pursuant to an Asset Purchase Agreement dated October 23, 2023 between the Company and RTI (the “Asset Purchase Agreement”). Under the terms of the Asset Purchase Agreement, we acquired certain assets, including equipment and inventory, used in RTI’s synthetic bone graft business and assumed from RTI the lease for the nanOss production facility located in Greenville, North Carolina. The purchase price for the assets was $2 million in cash plus contingent payments based on future sales of next generation nanOss products. We previously acquired the nanOss distribution rights and nanOss intellectual property with the acquisition of assets related to the biologics and spinal fixation business of Surgalign Holdings, as described above.

For additional information regarding the acquisition of the nanOss production operations, refer to Note 19 – Subsequent Event in the condensed consolidated financial statements in this Form 10-Q.

Results of Operations

Comparison of Three and Nine Months Ended September 30, 2023 and September 30, 2022

Revenue

Total revenue for the three and nine months ended September 30, 2023 was $25.0 million and $63.2 million, respectively, which represents an increase of 73% and 48%, respectively, compared to $14.5 million and $42.7 million for the three and nine months ended September 30, 2022, respectively. These revenue increases are attributed primarily to greater independent agent sales, the effect of the contribution of Coflex and CoFix product sales, opportunistic private label sales and the effect of the contribution of additional product sales resulting from the acquisition of Surgalign Holdings, Inc. hardware and biologics business. The increase for the three-month comparison was partially offset by the effect of a shortage of stem cells used in our Osteo Vive Plus products, which we expect to continue until such time as we can find additional supply of stem cells or develop internal production of stem cells.

Cost of Sales and Gross Profit

Cost of sales consists primarily of manufacturing and product purchase costs as well as depreciation of surgical trays. Cost of sales also includes reserves for estimated excess inventory, inventory on consignment that may be missing and not returned, and reserves for estimated missing and damaged consigned surgical instruments. Cost of sales increased by 48%, or $3.1 million, to $9.7 million for the three months ended September 30, 2023 from $6.6 million for the three months ended September 30, 2022. Cost of sales increased by 32%, or $6.0 million, to $24.9 million for the nine months ended September 30, 2023 from $18.9 million for the nine months ended September 30, 2022. These increases in cost of sales are primarily due to higher sales volumes.

Gross profit as a percentage of revenue increased to 61.3% for the three months ended September 30, 2023 compared to 54.6% for the same period in 2022 and increased to 60.7% for the nine months ended September 30, 2023 compared to 55.8% for the same period in 2022. Of the increase for the three-month comparison, 410 basis points resulted from decreased charges for excess and obsolete inventory, 400 basis points resulted from greater production and production efficiencies and 480 basis points resulted from product mix, partially offset by 310 basis points related to higher product costs. Of the increase for the nine-month comparison, 510 basis points resulted from product mix, 270 basis points resulted from decreased charges for excess and obsolete inventory and 150 basis points resulted from greater production and production efficiencies, partially offset by 360 basis points related to higher product costs.

General and Administrative

General and administrative expenses consist principally of personnel costs for corporate employees, cash-based and stock-based compensation related costs, legal, accounting and professional fees, and occupancy costs. General and administrative expenses increased 92%, or $3.4 million, to $7.1 million for the three months ended September 30, 2023, compared to $3.7 million for the same period in 2022. General and administrative expenses increased 48%, or $5.5 million, to $17.0 million for the nine months ended September 30, 2023, compared to $11.5 million for the same period in 2022. The increase for the three-month comparison is primarily attributable to $1.3 million of additional compensation expense related to performance metrics and additional headcount, $0.7 million of additional legal expense resulting primarily from acquisition related activities, $0.4 million of amortization of intangible assets associated with the Coflex and CoFix product lines and $0.3 million of consulting fees. The increase for the nine-month comparison is primarily attributable to $2.2 million of additional compensation expense related to performance metrics and additional headcount, $1.6 million of additional legal and other professional fees resulting primarily from acquisition related activities, $1.0 million of additional amortization of intangible assets associated with the Coflex and CoFix product lines and $0.3 million of consulting fees resulting primarily from acquisition related activities.

Sales and Marketing

Sales and marketing expenses consist primarily of sales commissions, personnel costs for sales and marketing employees, costs for trade shows, sales conventions and meetings, travel expenses, advertising, and other sales and marketing related costs. Sales and marketing expenses increased 90%, or $5.2 million, to $11.1 million for the three months ended September 30, 2023, compared to $5.8 million for the same period in 2022. Sales and marketing expenses increased 61%, or $10.2 million, to $26.9 million for the nine months ended September 30, 2023, compared to $16.7 million for the same period in 2022. The increase for the three-month comparison is primarily due to additional commission expense of $2.9 million resulting from revenue growth and $1.7 million of additional compensation expense related to additional headcount resulting from our recent acquisitions and revenue growth and $0.3 million of additional professional service fees. The increase for the nine-month comparison is primarily due to additional commission expense of $6.1 million resulting from revenue growth, $2.9 million of additional compensation expense related to additional headcount resulting from our recent acquisitions and revenue growth, $0.5 million of additional profession service fees and $0.4 million of additional expense for travel and tradeshows.

Research and Development

Research and development expenses consist primarily of internal costs for the development of new technologies and processes. Research and development expenses were $0.5 million for the three months ended September 30, 2023 compared to $0.2 million for the same period in 2022. Research and development expense was $0.8 million for the nine months ended September 30, 2023, compared to $0.7 million for the same period in 2022. The increase in research and development expense during the three and nine months ended September 30, 2023 compared to the comparable periods in the prior year resulted primarily from increased headcount.

Interest Expense

Interest expense consists of interest incurred from our debt instruments. Interest expense was $0.8 million and $2.1 million for the three and nine months ended September 30, 2023, respectively, compared to $0.4 million and $1.2 million for the three and nine months ended September 30, 2022. The increase in interest expense during the three and nine months ended September 30, 2023 compared to the comparable periods in the prior year resulted primarily from increases to the base interest rate applied to our debt instruments and the additional borrowing of $5.0 million under our term loan agreement in February 2023. We expect that our annualized interest expense will increase approximately $0.1 million for every 50 basis points of increase to the reference rate associated with our credit agreements.

Provision for Income Taxes Current and Deferred

Income tax benefit for the three months ended September 30, 2023 was $2.3 million compared to income tax expense of $13 thousand for the same period in 2022. The change resulted primarily from the tax benefit associated with release of valuation allowance resulting from recognition of deferred tax liabilities in purchase accounting. Income tax benefit for the nine months ended September 30, 2023 was $2.3 million compared to income tax expense of $48 thousand for the same period in 2022. The change resulted primarily from the tax benefit associated with release of valuation allowance resulting from recognition of deferred tax liabilities in purchase accounting.

Liquidity and Capital Resources

Working Capital

Since our inception, we have financed our operations through primarily operating cash flows, private placements of equity securities and convertible debt, debt facilities, common stock rights offerings, and other debt transactions. The following table summarizes our working capital as of September 30, 2023 and December 31, 2022 (in thousands):

Cash Flows

Net cash used in operating activities for the first nine months of 2023 was $8.6 million compared to $3.1 million for the first nine months of 2022. This increase relates primarily to increases in accounts receivable balances.

Net cash used in investing activities for the first nine months of 2023 was $22.5 million compared to $1.1 million for the first nine months of 2022. This increase relates primarily to the use of $17.0 million of cash for the acquisition of Surgalign SPV and $4.4 million of cash for the acquisition of Surgalign Holdings’s hardware and biologics business during the first nine months of 2023.

Net cash provided by financing activities for the first nine months of 2023 was $19.4 million, consisting primarily of $5.0 million of additional borrowings under our term loan and $14.0 million of net proceeds resulting from our July 2023 private placement, compared to $3.4 million for the first nine months of 2022.

Current and Prior Credit Facilities

On May 6, 2021, the Company, as guarantor, and our subsidiaries, as borrowers (collectively, the “Borrowers”), entered into a Credit, Security and Guaranty Agreement (Term Loan) (the “Term Credit Agreement”) and Credit, Security and Guaranty Agreement (Revolving Loan) (the “Revolving Credit Agreement” and, together with the Term Credit Agreement, the “Credit Agreements”) with MidCap Financial Trust, in its capacity as agent (“MidCap”).

The Term Credit Agreement provides for a secured term loan facility (the “Term Facility”) in an aggregate principal amount of $12.0 million (the “Term Loan Commitment”), which was funded to the Borrowers immediately, and an additional $5.0 million tranche available solely at the discretion of MidCap and the lenders, for the purposes agreed to between the Company, the Borrowers and the lenders in advance of the making of loans under such additional tranche (the “Discretionary Tranche”). The Revolving Credit Agreement provides for a secured revolving credit facility (the “Revolving Facility,” and, together with the Term Facility, the “Facilities”) under which the Borrowers may borrow up to $8.0 million (such amount, the “Revolving Loan Commitment”) at any one time, the availability of which is determined based on a borrowing base equal to percentages of certain accounts receivable and inventory of the Borrowers in accordance with a formula set forth in the Revolving Credit Agreement. All borrowings under the Revolving Facility are subject to the satisfaction of customary conditions, including the absence of default, the accuracy of representations and warranties in all material respects and the delivery of an updated borrowing base certificate.

On March 7, 2022, the Credit Agreements were amended to, among other things, (i) provide for a waiver of compliance with respect to the Company’s minimum adjusted EBITDA requirement if and so long as the Company’s liquidity (as specifically defined in the Credit Agreements) is in excess of $14 million and there is not otherwise an event of default under the Credit Agreements, commencing with the next delivery of the compliance certificate required under the Credit Agreements, and (ii) re-set the date certain fees payable in connection with optional prepayments are determined to the date the amendment was executed and consequently extend such fees’ original expiration. In addition, the exit fees were increased by 25 basis points.

On February 28, 2023, in connection with the acquisition of Surgalign SPV, the Term Credit Agreement was amended pursuant to an Amendment No. 3 to Credit, Security and Guarantee Agreement (Term Loan) (“Term Amendment No. 3”) to provide approximately $5.0 of funding for such acquisition, which replaced the Discretionary Tranche. In addition to the Term Amendment No. 3., we entered into an Amendment No. 3 to Credit, Security and Guarantee Agreement (Revolving Loan) (together with the Term Amendment No. 3, the “Amendments No. 3”), which amends the Revolving Credit Agreement. Additionally, the Amendments No. 3 (i) re-set the date certain fees payable in connection with optional prepayments under the Term Credit Agreement and the Revolving Credit Agreement are determined to the date the amendments were executed and consequently extended such fees’ original expiration and (ii) increased the minimum amount of interest payable under the Term Credit Agreement and the Revolving Credit Agreement from 1% to 2.5%.

On August 10, 2023, in connection with the acquisition certain assets and liabilities of Surgalign Holdings, Inc. that were related to Surgalign Holding, Inc.’s hardware and biologics business, the Company entered into a Limited Consent and Amendment No. 4 to Credit, Security and Guarantee Agreement (Term Loan) (“Term Amendment No. 4”), which amends the Credit, Security and Guarantee Agreement (Term Loan) by and among the Company, as guarantor, and its U.S. subsidiaries, as borrowers, MidCap Financial Trust, as agent, and the financial institutions party thereto (as amended, the “Term Credit Agreement”), and a Limited Consent and Amendment No. 4 to Credit, Security and Guarantee Agreement (Revolving Loan) (“Revolving Amendment No. 4” and, together with Term Amendment No. 4, the “Amendments No. 4”), which amends the Credit, Security and Guarantee Agreement (Revolving Loan) by and among the Company, as guarantor, and its U.S. subsidiaries, as borrowers, MidCap Funding IV Trust, as agent, and the financial institutions party thereto (as amended, the “Revolving Credit Agreement” and, together with the Term Credit Agreement, the “Credit Agreements”).

The Amendments No. 4 permit the acquisition of certain assets and liabilities of Surgalign Holdings, Inc., as described above, and provide the Company with additional flexibility with respect to holding foreign subsidiaries. The Amendments No. 4 contain standard covenants regarding holding foreign subsidiaries. The terms of borrowing under the Credit Agreements otherwise remain unchanged.

The Facilities have a maturity date of May 1, 2026 (the “Maturity Date”). In May 2023, the Company extended its interest only period on the Term Facility until June 2024 when the Company is required to make monthly principal payments of approximately $0.7 million on the Term Facility through the Maturity Date. Each of the Borrowers, and the Company, as guarantor, are jointly and severally liable for all of the obligations under the Facilities on the terms set forth in the Credit Agreements. The Borrowers’ obligations, and the Company’s obligations as a guarantor, under the Credit Agreements are secured by first-priority liens on substantially all of their assets, including, without limitation, all inventory, equipment, accounts, intellectual property and other assets of the Company and the Borrowers.

As of September 30, 2023, the Company had $4.0 million outstanding and $3.3 million of availability under the Revolving Facility.

The loans and other obligations pursuant to the Credit Agreements bear interest at a per annum rate equal to the sum of the SOFR rate, as such term is defined in the Credit Agreements, plus 0.11%, plus the applicable margin of 7.00% in the case of the Term Credit Agreement, and 4.50% in the case of the Revolving Credit Agreement, subject in each case to a floor of 2.50%. As of September 30, 2023, the effective rate of the Term Facility, inclusive of amortization of debt issuance costs and accretion of the final payment, was 14.43%, and the effective rate of the Revolving Facility was 9.94%.

The Credit Agreements contain affirmative and negative covenants customarily applicable to senior secured credit facilities, including covenants that, among other things, limit or restrict the ability of the Borrowers, subject to negotiated exceptions, to incur additional indebtedness and additional liens on their assets, engage in mergers or acquisitions or dispose of assets, pay dividends or make other distributions, voluntarily prepay other indebtedness, enter into transactions with affiliated persons, make investments, and change the nature of their businesses. In addition, the Credit Agreements require the Borrowers and the Company to maintain net product revenue at or above minimum levels and to maintain a minimum adjusted EBITDA and a minimum liquidity, in each case at levels specified in the Credit Agreements. As of September 30, 2023, we were in compliance with all covenants under the Credit Agreements.

Cash Requirements

We believe that our $8.7 million of cash and cash equivalents as of September 30, 2023, together amounts available under the Facilities and cash provided by operating activities, will be sufficient to meet our anticipated cash requirements through at least November 2024. However, we may require or seek additional capital to fund our future operations and business strategy prior to November 2024. Accordingly, there is no assurance that we will not need or seek additional financing prior to such time.

We may elect to raise additional financing even before we need it if market conditions for raising additional capital are favorable. We may seek to raise additional financing through various sources, such as equity and debt financings, additional debt restructurings or refinancings, or through strategic collaborations and license agreements. We can give no assurances that we will be able to secure additional sources of funds to support our operations, or if such funds are available to us, that such additional financing will be sufficient to meet our needs or on terms acceptable to us. This is particularly true if economic and market conditions deteriorate.

To the extent that we raise additional capital through the sale of equity or convertible debt securities or the restructuring or refinancing of our debt, the interests of our current stockholders may be diluted, and the terms may include discounted equity purchase prices, warrant coverage, liquidation or other preferences or rights that would adversely affect the rights of our current stockholders. If we issue common stock, we may do so at purchase prices that represent a discount to our trading price and/or we may issue warrants to the purchasers, which could dilute our current stockholders. If we issue preferred stock, it could adversely affect the rights of our stockholders or reduce the value of our common stock. In particular, specific rights or preferences granted to future holders of preferred stock may include voting rights, preferences as to dividends and liquidation, conversion and redemption rights, sinking fund provisions, and restrictions on our ability to merge with or sell our assets to a third party. Additional debt financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making capital expenditures or declaring dividends. Prior to raising additional equity or debt financing, we may be required to obtain the consent of the Agent under our Credit Agreements and/or OrbiMed Royalty Opportunities II, LP and ROS Acquisition Offshore LP under our Investor Rights Agreement with them, and no assurance can be provided that they would provide such consent, which could limit our ability to raise additional financing and the terms thereof. In addition, the investors in our 2022 private placement have certain participation rights with respect to certain future equity offerings for capital raising purposes.

Critical Accounting Estimates

Management’s discussion and analysis of our financial condition and results of operations is based on our financial statements, which have been prepared in accordance with U.S. GAAP. The preparation of these financial statements requires us to make estimates and assumptions for the reported amounts of assets, liabilities, revenue, expenses, and related disclosures. Our estimates are based on our historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions, and any such differences may be material.

There have been no changes in our critical accounting estimates during the nine months ended September 30, 2023, as compared to the critical accounting estimates described in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022, other than with respect to the fair value of assets acquired as part of the Coflex, CoFix product lines, and the acquisition of Surgalign Holdings, Inc.’s hardware and biologics business and the new critical accounting estimates below in light of such acquisition.

Business Combinations

When applicable, we account for the acquisition of a business in accordance with the accounting standards codification guidance for business combinations, whereby the total consideration transferred is allocated to the assets acquired and liabilities assumed, including amounts attributable to non-controlling interests, when applicable, based on their respective estimated fair values as of the date of acquisition. Goodwill represents the excess of consideration transferred over the estimated fair value of the net assets acquired in a business combination.

Assigning estimated fair values to the net assets acquired requires the use of significant estimates, judgments, inputs, and assumptions regarding the fair value of domestic and international assets and liabilities, including intangible assets that are separately identifiable from goodwill, inventory, and property, plant, and equipment. While the ultimate responsibility for determining estimated fair values of the acquired net assets resides with management, for material acquisitions, we may retain the services of certified valuation specialists to assist with assigning estimated fair values to certain acquired assets and assumed liabilities, including intangible assets that are separately identifiable from goodwill, inventory, and property, plant, and equipment. Estimated fair values of acquired intangible assets that are separately identifiable from goodwill, inventory, and property, plant, and equipment are generally based on available historical information, future expectations, available market data, and assumptions determined to be reasonable but are inherently uncertain with respect to future events, including economic conditions, competition, technological obsolescence, the useful life of the acquired assets, and other factors. These significant estimates, judgments, inputs, and assumptions include, when applicable, the selection of an appropriate valuation method depending on the nature of the respective asset, such as the income approach, the market or sales comparison approach, or the cost approach; estimating future cash flows based on projected revenues and/or margins that we expect to generate subsequent to the acquisition; applying an appropriate discount rate to estimate the present value of those projected cash flows we expect to generate; selecting an appropriate terminal growth rate and/or royalty rate or estimating a customer attrition or technological obsolescence factor where necessary and appropriate given the nature of the respective asset; assigning an appropriate contributory asset charge where needed; determining an appropriate useful life and the related depreciation or amortization method for the respective asset; and assessing the accuracy and completeness of other historical financial metrics of the acquiree used as standalone inputs or as the basis for determining estimated projected inputs such as margins, customer attrition, and costs to hold and sell product.

In determining the estimated fair value of intangible assets that are separately identifiable from goodwill, we typically utilize the income approach, which discounts the projected future cash flows using a discount rate that appropriately reflects the risks associated with the projected cash flows. Generally, we estimate the fair value of acquired customer relationships using the relief from royalty method under the income approach, which is based on the hypothetical royalty stream that would be received if we were to license the acquired trade name. For most other acquired intangible assets, we estimate fair value using the excess earnings method under the income approach, which is typically applied when cash flows are not directly generated by the asset, but rather, by an operating group that includes the particular asset. In certain instances, particularly in relation to developed technology or patents, we may utilize the cost approach depending on the nature of the respective intangible asset and the recency of the development or procurement of such technology. The useful lives and amortization methods for the acquired intangible assets that are separately identifiable from goodwill are generally determined based on the period of expected cash flows used to measure the fair value of the acquired intangible assets and the nature of the use of the respective acquired intangible asset, adjusted as appropriate for entity-specific factors including legal, regulatory, contractual, competitive, economic, and/or other factors such as customer attrition rates and product or order lifecycles that may limit the useful life of the respective acquired intangible asset. In determining the estimated fair value of acquired inventory, we typically utilize the cost approach for raw materials and the sales comparison approach for work in process, finished goods, and service parts. In determining the estimated fair value of acquired property, plant, and equipment, we typically utilize the sales comparison approach or the cost approach depending on the nature of the respective asset and the recency of the construction or procurement of such asset.

We may refine the estimated fair values of assets acquired and liabilities assumed, if necessary, over a period not to exceed one year from the date of acquisition by taking into consideration new information that, if known as of the date of acquisition, would have affected the estimated fair values ascribed to the assets acquired and liabilities assumed. The judgments made in determining the estimated fair value assigned to assets acquired and liabilities assumed, as well as the estimated useful life and depreciation or amortization method of each asset, can materially impact the net earnings of the periods subsequent to an acquisition through depreciation and amortization, and in certain instances through impairment charges, if the asset becomes impaired in the future. During the measurement period, any purchase price allocation changes that impact the carrying value of goodwill will affect any measurement of goodwill impairment taken during the measurement period, if applicable. If necessary, purchase price allocation revisions that occur outside of the measurement period are recorded within cost of sales, selling expenses or general and administrative expenses within our consolidated condensed statements of operations depending on the nature of the adjustment.

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

Limitations on Effectiveness of Controls and Procedures

In designing and evaluating our disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints, and that management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs.

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our principal executive officer and principal financial officer, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of September 30, 2023. Based upon that evaluation, our principal executive officer and principal financial officer concluded that as of September 30, 2023, our disclosure controls and procedures were effective.

Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the three months ended September 30, 2023, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting, other than changes implemented to integrate the internal controls of Surgalign SPV and Surgalign Holdings’s hardware and biologics business with our internal controls.

PART II. OTHER INFORMATION

item 1. legal proceedings

Our legal proceedings are discussed in Note 13 – Commitments and Contingencies in the notes to our condensed consolidated financial statements in this Form 10-Q.

item 1a. risk factors

Although this Item is inapplicable to us as a smaller reporting company, we hereby disclose the following revised and new risk factors from those described in our annual report on Form 10-K for the fiscal year ended December 31, 2022:

Our dependence on key suppliers of raw materials puts us at risk of interruptions in the availability of our products, which could reduce our sales and adversely affect our operating results and harm our reputation. In particular, because of a current stem cell shortage, we expect our revenues in future periods to be adversely affected by this shortage until such time as we can find additional supply of stem cells or develop internal production of stem cells.

We rely on key suppliers for certain raw materials used in our products. Among the key suppliers we do business with are the producers of stem cells used in our OsteoVive viable cell allograft. Our dependence on third-party suppliers involves several risks, including limited control over availability and pricing. Suppliers of such raw materials may decide, or be required, for reasons beyond our control, to cease supplying such raw materials and components to us or to raise their prices. Shortages of raw materials, quality control problems, production capacity constraints, or delays by suppliers have in the past and in the future could negatively affect our ability to meet our production goals. For example, in the third quarter of fiscal 2023, stem cells used to produce our OsteoVive viable cell allograft became unavailable and may remain unavailable for the foreseeable future. Elutia Inc. (formerly Aziyo Biologics, Inc.), one of our key suppliers of stem cells, recently voluntarily recalled its viable bone matrix products and suspended shipments of all viable bone matrix products from all donor lots. This recall has led to the American Association of Tissue Banks imposing additional regulations and has also constrained the overall supply of stem cells, with other stem cell suppliers now favoring larger customers during this shortage. As a smaller customer, we have encountered difficulties in receiving any supply of stem cells. Stem cells may continue to be unavailable to us or may be available only at elevated prices. Our revenues during the third quarter of fiscal 2023 were adversely affected as a result of the stem cell shortage and we expect our revenues in future periods to continue to be adversely affected by the stem cell shortage until such time as we can find additional supply of stem cells or develop internal production of stem cells. In addition, our sales of other products could be adversely affected by other similar shortages in the future. Such shortages and constraints adversely affect our revenues and other operating results and may also adversely affect our reputation.

Our actual operating results may differ significantly from our guidance, which could cause the market price of our common stock to decline.

We recently initiated the issuance of guidance regarding our future performance, such as our anticipated annual revenue, that represents our management’s estimates as of the date of release. This guidance, which consists of forward-looking statements, is prepared by our management and is qualified by, and subject to, the assumptions and the other information contained or referred to in the release. Our guidance is not prepared with a view toward compliance with published guidelines of the American Institute of Certified Public Accountants, and neither any independent registered public accounting firm nor any other independent expert or outside party compiles, examines or reviews the guidance and, accordingly, no such person expresses any opinion or any other form of assurance with respect thereto.

Guidance is based upon a number of assumptions and estimates that, while presented with numerical specificity, is inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control and are based upon specific assumptions with respect to future business decisions, some of which will change. We generally state possible outcomes as high and low ranges which are intended to provide a sensitivity analysis as variables are changed but are not intended to represent that actual results could not fall outside of these ranges. The principal reason that we release this data is to provide a basis for our management to discuss our business outlook with analysts and investors. We do not accept any responsibility for any projections or reports published by any such persons.

Guidance is necessarily speculative in nature, and it can be expected that some or all of the assumptions of the guidance furnished by us will not materialize or will vary significantly from actual results. Accordingly, our guidance is only an estimate of what management believes is realizable as of the date of release. Actual results will vary from the guidance and the variations may be material. Investors should also recognize that the reliability of any forecasted financial data will diminish the farther in the future that the data are forecast. In light of the foregoing, investors are urged to put the guidance in context and not to place undue reliance on it.

Any failure to successfully implement our operating strategy or the occurrence of any of the events or circumstances set forth in this Quarterly Report on Form 10-Q could result in the actual operating results being different than our guidance, and such differences may be adverse and material. The failure to achieve such guidance could disappoint investors and analysts and cause the market price of our common stock to decline.

We have completed acquisitions and business combinations in the past, including our recent acquisition of certain assets of RTI Holdings, Inc., our recent acquisition of certain assets and liabilities of Surgalign Holdings, Inc. and our acquisition of Surgalign SPV, and our current business strategy includes targeted strategic acquisitions in the future. Acquisitions and business combinations are risky and may harm our business, reputation, operating results and financial condition.

One of our key growth initiatives is to add depth to our product offerings through targeted strategic acquisitions. In furtherance of this strategy, we acquired Surgalign SPV during the first quarter of 2023, certain assets and liabilities of Surgalign Holdings during third quarter of 2023 and certain assets and liabilities of RTI Holdings, Inc. during fourth quarter of 2023. We may complete acquisitions and business combinations in the future. Our ability to complete acquisitions and business combinations will depend, in part, on the availability of suitable candidates at acceptable prices, terms, and conditions; our ability to compete effectively for acquisition candidates; and the availability of capital and personnel to complete such acquisitions and run the acquired business effectively. Any acquisition or business combination could impair our business, reputation, operating results and financial condition. The benefits of an acquisition or business combination may take more time than expected to develop or integrate into our operations, and we cannot guarantee that previous or future acquisitions or business combinations will, in fact, produce any benefits. Acquisitions and business combinations may involve a number of risks, the occurrence of which could adversely affect our business, reputation, operating results and financial condition, including:

In addition, effective internal controls are necessary for us to provide reliable and accurate financial reports and to effectively prevent fraud. The integration of acquired businesses may result in our systems and controls becoming increasingly complex and more difficult to manage. We devote significant resources and time to comply with the internal control over financial reporting requirements of the Sarbanes-Oxley Act of 2002. However, we cannot be certain that these measures will ensure that we design, implement, and maintain adequate control over our financial processes and reporting in the future, especially in the context of acquisitions of other businesses, regardless of whether such acquired business was previously privately or publicly held. Any difficulties in the assimilation of acquired businesses into our control system could harm our operating results or cause us to fail to meet our financial reporting obligations. Also, some acquisitions, such as our acquisition of Surgalign SPV, our acquisition of certain assets and liabilities of Surgalign Holdings, Inc., and our acquisition of certain assets of RTI Holdings, Inc., may require the consent of the lenders under our credit agreements with MidCap and/or the consent of OrbiMed Royalty Opportunities II, LP and ROS Acquisition Offshore LP, which are funds affiliated with OrbiMed Advisors LLC, under our Investor Rights Agreement. We cannot predict whether such approvals would be forthcoming or the terms on which the lenders or these investors would approve future acquisitions. These risks, among others, could be heightened if we complete a large acquisition or other business combination or multiple transactions within a relatively short period of time.

Our clinical trials involve risk and expense and may fail to demonstrate competent and reliable evidence of the safety and effectiveness of our products, which in the case of product in development would prevent or delay their commercialization.

As a result of our acquisition of the Coflex product line, we are required by the U.S. Food and Drug Administration (“FDA”) to conduct a post-market surveillance study. In addition, we may be required to conduct other clinical studies that demonstrate competent and reliable evidence that our products are safe and effective before we can commercialize our products. Clinical testing is expensive and can take many years to complete, and its outcome is inherently uncertain. We cannot be certain that our planned clinical trials or any other future clinical trials will be successful. In addition, even if such clinical trials are successfully completed, we cannot guarantee that the FDA or foreign regulatory authorities will interpret the results as we do, and more trials could be required before we submit our products for approval. To the extent that the results of the trials are not satisfactory to the FDA or foreign regulatory authorities for support of a marketing application, we may be required to expend significant resources, which may not be available to us, to conduct additional trials in support of potential approval of our products. Even if regulatory approval is secured for any of our products, the terms of such approval may limit the scope and use of our products, which may also limit their commercial potential. The commencement or completion of any clinical trial may be delayed or halted, or be inadequate to support approval of a pre-market approval (“PMA”) application, for numerous reasons, including, but not limited to, the following:

Worldwide economic and market conditions, including with respect to financial institutions, and social instability could adversely affect our revenue, liquidity, financial condition, or results of operations.

The health of the global economy, and the credit markets and the financial services industry in particular, as well as the stability of the social fabric of our society, affects our business and operating results. The global economic slowdown, inflation, rising interest rates and the prospects for recession, as well as past and potential future disruptions in access to bank deposits or lending commitments due to bank failures, could materially and adversely affect our revenue, liquidity, financial condition and results of operations. For example, the 2023 closures of Silicon Valley Bank, Signature Bank and First Republic Bank and their placement into receivership with the Federal Deposit Insurance Corporation (“FDIC”) created bank-specific and broader financial institution liquidity risk and concerns. Although depositors at these institutions will continue to have access to their funds, future adverse developments with respect to specific financial institutions or the broader financial services industry may lead to market-wide liquidity shortages. The failure of any bank with which we deposit our funds or otherwise do business could reduce the amount of cash we have available for our operations or delay our ability to access such funds. Any such failure may increase the possibility of a sustained deterioration of financial market liquidity, or illiquidity at clearing, cash management and/or custodial financial institutions. In the event we have a commercial relationship with a bank that fails or is otherwise distressed, we may experience delays or other issues in meeting our financial obligations. If other banks and financial institutions enter receivership or become insolvent in the future in response to financial conditions affecting the banking system and financial markets, our ability to access our cash and cash equivalents and investments may be threatened and could have a material adverse effect on our business and financial condition. Additionally, the credit and financial markets may be adversely affected by the war between Russia and Ukraine and measures taken in response thereto, as well as the conflict between Israel and Hamas. If the credit markets are not favorable, we may be unable to raise additional financing when needed or on favorable terms. Our customers may experience financial difficulties or be unable to borrow money to fund their operations, which may adversely impact their ability to purchase our products or to pay for our products on a timely basis, if at all. In addition, adverse economic conditions, such as the lingering economic impacts of COVID-19, continuing supply chain disruptions, labor shortages and persistent inflation, and measures taken in response thereto, including recent interest rate increases, could also adversely impact our suppliers’ ability to provide us with materials and components, which may negatively impact our business. As with our customers and vendors, these economic conditions make it more difficult for us to accurately forecast and plan our future business activities.

item 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

We did not sell any unregistered equity securities of our Company during the quarter ended September 30, 2023, other than the issuance of shares of our common stock in connection with our private placement, as reported in a Current Report on Form 8-K as filed with the SEC on July 3, 2023.

item 3. DEFAULTS UPON SENIOR SECURITIES

Not applicable.

item 4. MINE SAFETY DISCLOSURES

Not applicable.

item 5. OTHER INFORMATION

Not applicable.

item 6. EXHIBITS

The following exhibits are being filed or furnished with this Quarterly Report on Form 10-Q: