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Table of Contents


 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

  


 

FORM 10-Q

 


 

(Mark One)

 

   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended September 30, 2020

 

OR

 

    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from _____ to_____.

 

Commission File Number: 000-50644

 

 


 

Cutera, Inc.

(Exact name of registrant as specified in its charter) 

 

 


 

Delaware

77-0492262

(State or other jurisdiction of incorporation or

organization)

(I.R.S. Employer Identification No.)

 

3240 Bayshore Blvd., Brisbane, California 94005

(Address of principal executive offices)

 

(415) 657-5500

(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

Common Stock ($0.001 par value)

CUTR

The NASDAQ Stock Market, LLC

 

 


 

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 (check one):

 

Large accelerated filer  ☐

Accelerated filer  ☒

Non-accelerated filer  ☐

Smaller reporting company  

Emerging growth company

 

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    ☒

 

The number of shares of Registrant’s common stock issued and outstanding as of October 31, 2020, was 17,632,649

 

 

 

CUTERA, INC.

 

FORM 10-Q

 

TABLE OF CONTENTS

 

 

 

Page

PART I

FINANCIAL INFORMATION

  

 

 

  

Item 1

Financial Statements (unaudited)

3

 

Condensed Consolidated Balance Sheets

3

 

Condensed Consolidated Statements of Operations

4

 

Condensed Consolidated Statements of Comprehensive Loss

5

 

Condensed Consolidated Statements of Changes in Equity

6

 

Condensed Consolidated Statements of Cash Flows

8

 

Notes to Condensed Consolidated Financial Statements

9

Item 2

Management’s Discussion and Analysis of Financial Condition and Results of Operations

25

Item 3

Quantitative and Qualitative Disclosures About Market Risk

38

Item 4

Controls and Procedures

39

 

 

  

PART II

OTHER INFORMATION

  

 

 

  

Item 1

Legal Proceedings

39

Item 1A

Risk Factors

39

Item 2

Unregistered Sales of Equity Securities and Use of Proceeds

41

Item 3

Defaults Upon Senior Securities

41

Item 4

Mine Safety Disclosures

41

Item 5

Other Information

41

Item 6

Exhibits

42

 

Signature

42

 

 

 

 

 

In this Quarterly Report on Form 10-Q, “Cutera,” “the Company,” “we,” “us” and “its” refer to Cutera, Inc. and its consolidated subsidiaries.

 

This report may contain references to its proprietary intellectual property, including among others, trademarks for its systems and ancillary products, Cutera®, AccuTip®, CoolGlide®, CoolGlide excel®, enlighten®, excel HR®, excel V®, excel V+®, LimeLight®, MyQ®, Pearl®, PicoGenesis™, ProWave®, Solera®, Titan®, truSculpt®, truSculpt® flex, Vantage®, Fraxis PRO®, Secret RF® and xeo®

 

These trademarks and trade names are the property of Cutera or the property of its consolidated subsidiaries and are protected under applicable intellectual property laws. Solely for convenience, its trademarks and tradenames referred to in this Quarterly Report on Form 10-Q may appear without the ® or symbols, but such references are not intended to indicate in any way that the Company will not assert, to the fullest extent under applicable law, its rights to these trademarks and tradenames.

 

 

PART I. FINANCIAL INFORMATION

 

ITEM 1.

FINANCIAL STATEMENTS (UNAUDITED)

 

CUTERA, INC.

 

 

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share and per share data)

(unaudited)

 

  

September 30,

2020

  

December 31,

2019

 

Assets

        

Current assets:

        

Cash and cash equivalents

 $29,394  $26,316 

Marketable investments

  13,046   7,605 

Accounts receivable, net of allowance for credit losses of $1,505 and $1,354, respectively

  17,597   21,556 

Inventories

  29,333   33,921 

Other current assets and prepaid expenses

  6,892   5,648 

Total current assets

  96,262   95,046 
         

Property and equipment, net

  2,391   2,817 

Deferred tax asset

  500   423 

Operating lease right-of-use assets

  17,645   7,702 

Goodwill

  1,339   1,339 

Other long-term assets

  5,290   6,411 

Total assets

 $123,427  $113,738 
         

Liabilities and Stockholders' Equity

        

Current liabilities:

        

Accounts payable

 $6,799  $12,685 

Accrued liabilities

  25,644   30,307 

Operating lease liabilities

  1,608   2,800 

Extended warranty liability

  1,497   1,999 

Deferred revenue

  9,580   10,831 

Total current liabilities

  45,128   58,622 
         

Deferred revenue, net of current portion

  2,244   3,391 

Income tax liability

  93   93 

Long-term debt

  7,167   - 

Operating lease liabilities, net of current portion

  16,497   5,112 

Other long-term liabilities

  292   578 

Total liabilities

  71,421   67,796 
         

Commitments and Contingencies (Notes 11 and 12)

          
         

Stockholders’ equity:

        

Common stock, $0.001 par value; authorized: 50,000,000 shares; issued and outstanding: 17,625,849 and 14,315,586 shares at September 30, 2020 and December 31, 2019, respectively

  18   14 

Additional paid-in capital

  114,410   82,346 

Accumulated deficit

  (62,423)  (36,358)

Accumulated other comprehensive income (loss)

  1   (60)

Total stockholders’ equity

  52,006   45,942 

Total liabilities and stockholders’ equity

 $123,427  $113,738 

 

The accompanying notes are an integral part of these unaudited Condensed Consolidated Financial Statements.

 

 

 

 

CUTERA, INC.

 

 

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

 (in thousands, except per share data)

 (unaudited)

 

   

Three Months Ended

   

Nine Months Ended

 
   

September 30,

   

September 30,

 
   

2020

   

2019

   

2020

   

2019

 

Net revenue:

                               

Products

  $ 33,254     $ 40,315     $ 81,390     $ 113,045  

Service

    5,878       5,802       16,350       16,872  

Total net revenue

    39,132       46,117       97,740       129,917  

Cost of revenue:

                               

Products

    14,017       16,343       40,326       50,278  

Service

    3,369       3,541       9,708       10,266  

Total cost of revenue

    17,386       19,884       50,034       60,544  

Gross profit

    21,746       26,233       47,706       69,373  
                                 

Operating expenses:

                               

Sales and marketing

    12,286       17,691       38,109       50,786  

Research and development

    3,432       3,643       10,294       10,622  

General and administrative

    7,239       7,308       23,575       18,100  

Total operating expenses

    22,957       28,642       71,978       79,508  

Loss from operations

    (1,211 )     (2,409 )     (24,272 )     (10,135 )

Other expense

    (382 )     (146 )     (586 )     (180 )

Loss before income taxes

    (1,593 )     (2,555       (24,858 )     (10,315 )

Income tax expense (benefit)

    664       73       1,207       (55 )

Net loss

  $ (2,257 )   $ (2,628 )   $ (26,065 )   $ (10,260 )
                                 

Net loss per share:

                               

Basic and Diluted

  $ (0.13 )   $ (0.19 )   $ (1.59 )   $ (0.73 )
                                 
                                 

Weighted-average number of shares used in per share calculations

                               

Basic and Diluted

    17,603       14,182       16,368       14,095  
                                 

 

The accompanying notes are an integral part of these unaudited Condensed Consolidated Financial Statements.

 

 

CUTERA, INC.

 

 

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

 (in thousands)

 (Unaudited)

  

   

Three Months Ended

   

Nine Months Ended

 
   

September 30,

   

September 30,

 
   

2020

   

2019

   

2020

   

2019

 

Net loss

  $ (2,257 )   $ (2,628 )   $ (26,065 )   $ (10,260 )

Other comprehensive income:

                               

Available-for-sale investments

                               

Net change in unrealized gain (loss) on available-for-sale investments

    (2 )     1       (2 )     10  

Less: Reclassification adjustment for (gains) losses on investments recognized during the period

    -       -       63       -  

Net change in unrealized gain on available-for-sale investments

    (2 )     1       61       10  

Other comprehensive gain (loss), net of tax

    (2 )     1       61       10  

Comprehensive loss

  $ (2,259 )   $ (2,627 )   $ (26,004 )   $ (10,250 )

 

The accompanying notes are an integral part of these unaudited Condensed Consolidated Financial Statements.

 

 

CUTERA, INC.

 

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

(in thousands, except share amounts)

 

Three and NineMonths Ended September 30, 2020

 

   

Common Stock

   

Additional

Paid-in

   

Accumulated

   

Accumulated

Other

Comprehensive

   

Total

Stockholders’

 
   

Shares

   

Amount

   

Capital

   

Deficit

   

Income (loss)

   

Equity

 
                                                 

Balance at July 1, 2020

    17,567,688     $ 18     $ 112,644     $ (60,166 )   $ 3     $ 52,499  

Exercise of stock options

    750    

      8    

   

      8  

Issuance of common stock in settlement of restricted stock units, net of shares withheld for employee taxes

    57,411    

      (224 )  

   

      (224 )

Stock-based compensation expense

 

   

      1,982    

   

      1,982  

Net loss

 

   

   

      (2,257 )  

      (2,257 )

Net change in unrealized gain on available-for-sale investments

 

   

   

   

      (2 )     (2 )

Balance at September 30, 2020

    17,625,849     $ 18     $ 114,410     $ (62,423 )   $ 1     $ 52,006  

 

 

 

  

Common Stock

  

Additional

Paid-in

  

Accumulated

  

Accumulated

Other

Comprehensive

  

Total

Stockholders’

 
  

Shares

  

Amount

  

Capital

  

Deficit

  

Income (loss)

  

Equity

 
                         

Balance at December 31, 2019

  14,315,586  $14  $82,346  $(36,358) $(60) $45,942 

Issuance of common stock for employee purchase plan

  39,248  

   437  

  

   437 

Exercise of stock options

  46,878  

   419  

  

   419 

Issuance of common stock in connection with public offering, net of offering costs of $2,303

  2,742,750   3   26,492  

  

   26,495 

Issuance of common stock in settlement of restricted and performance stock units, net of shares withheld for employee taxes

  481,387   1   (3,341) 

  

   (3,340)

Stock-based compensation expense

 

  

   8,057  

  

   8,057 

Net loss

 

  

  

   (26,065) 

   (26,065)

Net change in unrealized gain on available-for-sale investments

 

  

  

  

   61   61 

Balance at September 30, 2020

  17,625,849  $18  $114,410  $(62,423) $1  $52,006 

 

 

Three and Nine Months Ended September 30, 2019

 

   

Common Stock

   

Additional

Paid-in

   

Retained

Earnings

(Accumulated

   

Accumulated

Other

Comprehensive

   

Total

Stockholders’

 
   

Shares

   

Amount

   

Capital

   

Deficit)

   

Income (loss)

   

Equity

 
                                                 

Balance at July 1, 2019

    14,142,296     $ 14     $ 74,870     $ (31,642 )   $ (60 )   $ 43,182  

Exercise of stock options

    38,966    

      437    

   

      437  

Issuance of common stock in settlement of restricted and performance stock units, net of shares withheld for employee taxes, and stock awards

    18,559    

      (180 )  

   

      (180 )

Stock-based compensation expense

 

   

      3,178    

   

      3,178  

Net loss

 

   

   

      (2,628 )  

      (2,628 )

Net change in unrealized loss on available-for-sale investments

 

   

   

   

      1       1  

Balance at September 30, 2019

    14,199,821     $ 14     $ 78,305     $ (34,270 )   $ (59 )   $ 43,990  

 

 

 

   

Common Stock

   

Additional

Paid-in

   

Retained

Earnings

(Accumulated

   

Accumulated

Other

Comprehensive

   

Total

Stockholders’

 
   

Shares

   

Amount

   

Capital

   

Deficit)

   

Income (loss)

   

Equity

 
                                                 

Balance at December 31, 2018

    13,968,852     $ 14     $ 70,451     $ (24,010 )   $ (69 )   $ 46,386  

Issuance of common stock for employee purchase plan

    53,803    

      833    

   

      833  

Exercise of stock options

    79,420    

      767    

   

      767  

Issuance of common stock in settlement of restricted and performance stock units, net of shares withheld for employee taxes, and stock awards

    97,746    

      (750 )  

   

      (750 )

Stock-based compensation expense

 

   

      7,004    

   

      7,004  

Net loss

 

   

   

      (10,260 )  

      (10,260 )

Net change in unrealized loss on available-for-sale investments

 

   

   

   

      10       10  

Balance at September 30, 2019

    14,199,821     $ 14     $ 78,305     $ (34,270 )   $ (59 )   $ 43,990  

 

The accompanying notes are an integral part of these unaudited Condensed Consolidated Financial Statements. 

 

 

CUTERA, INC.

 

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 (in thousands)

  (unaudited)

 

   

Nine Months Ended September 30,

 
   

2020

   

2019

 

Cash flows from operating activities:

               

Net loss

  $ (26,065 )   $ (10,260 )

Adjustments to reconcile net loss to net cash used in operating activities:

               

Stock-based compensation

    8,057       7,004  

Depreciation of tangible assets

    1,056       1,184  

Amortization of contract acquisition costs

    2,017       2,169  

Impairment of capitalized cloud computing costs

    805    

-

 

Change in deferred tax asset

    (77 )     (2 )

Provision for credit losses

    1,750       647  

Change in right-of-use asset

    250    

-

 

Other

    327       55  

Changes in assets and liabilities:

               

Accounts receivable

    2,209       (4,232 )

Inventories

    4,588       (6,028 )

Other current assets and prepaid expenses

    (1,273 )     (1,423 )

Other long-term assets

    (1,701 )     (2,608 )

Accounts payable

    (5,886 )     2,861  

Accrued liabilities

    (4,559 )     4,900  

Extended warranty liabilities

    (502 )     (927 )

Other long-term liabilities

 

-

      (140 )

Deferred revenue

    (2,398 )     907  

Income tax liabilities

 

-

      (301 )

Net cash used in operating activities

    (21,402 )     (6,194 )
                 

Cash flows from investing activities:

               

Acquisition of property and equipment

    (774 )     (524 )

Disposal of property and equipment

 

-

      45  

Proceeds from maturities of marketable investments

    19,000       11,450  

Purchase of marketable investments

    (24,411 )     (8,304 )

Net cash provided by (used in) investing activities

    (6,185 )     2,667  
                 

Cash flows from financing activities:

               

Proceeds from exercise of stock options and employee stock purchase plan

    856       1,600  

Proceeds from long-term debt

    7,167    

-

 

Gross proceeds from equity offering

    28,798    

-

 

Offering costs on the equity offering

    (2,303 )  

-

 

Taxes paid related to net share settlement of equity awards

    (3,340 )     (750 )

Payments on finance lease obligations

    (513 )     (496 )

Net cash provided by financing activities

    30,665       354  
                 

Net increase (decrease) in cash and cash equivalents

    3,078       (3,173 )

Cash and cash equivalents at beginning of period

    26,316       26,052  

Cash and cash equivalents at end of period

  $ 29,394     $ 22,879  
                 

Supplemental disclosure of non-cash items:

               
Assets acquired under finance lease   $ 27     $ 903  

Assets acquired under operating lease

  $ 10,623     $ 11,734  

 

The accompanying notes are an integral part of these unaudited Condensed Consolidated Financial Statements.

 

 

CUTERA, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 1. Summary of Significant Accounting Policies

 

Description of Operations and Principles of Consolidation

 

Cutera, Inc. (“Cutera” or the “Company”) provides energy-based aesthetic systems for practitioners worldwide. The Company develops, manufactures, distributes and markets energy-based product platforms for use by physicians and other qualified practitioners, enabling them to offer safe and effective aesthetic treatments to their customers. The Company currently markets the following system platforms: enlighten, excel, Fraxis PRO, Juliet, Secret RF, truSculpt and xeo. Several of the Company’s systems offer multiple hand pieces and applications, providing customers the flexibility to upgrade their systems. The sales of (i) systems, system upgrades, and hand pieces (collectively “Systems” revenue); (ii) replacement hand pieces, Titan, truSculpt 3D,truSculpt iD and truSculpt flex cycle refills, as well as single use disposable tips applicable to Fraxis PRO, Juliet and Secret RF (“Consumables” revenue); (iii) the distribution of third party manufactured skincare products (“Skincare” revenue); and (iv) the leasing of equipment through a membership program; are collectively classified as “Products” revenue. In addition to Products revenue, the Company generates revenue from the sale of post-warranty service contracts, parts, detachable hand piece replacements (except for Titan, truSculpt 3D, truSculpt iD and truSculpt flex and service labor for the repair and maintenance of products that are out of warranty, all of which are collectively classified as “Service” revenue. 

 

The Company’s corporate headquarters and U.S. operations are located in Brisbane, California, where the Company conducts manufacturing, warehousing, research and development, regulatory, sales and marketing, service, and administrative activities. The Company also maintains regional distribution centers (“RDCs”) in selection locations across the U.S. These RDCs serve as forward warehousing for systems and service parts in various geographies. The Company markets, sells and services the Company’s products through direct sales and service employees in North America (including Canada), Australia, Austria, Belgium, France, Germany, Hong Kong, Japan, Spain, Switzerland and the United Kingdom. Sales and Services outside of these direct markets are made through a worldwide distributor network in over 40 countries. The condensed consolidated financial statements include the accounts of the Company and its subsidiaries. All inter-company transactions and balances have been eliminated.

 

Risks and Uncertainties

 

The Company's future results of operations involve a number of risks and uncertainties. Factors that could affect the Company's future operating results and cause actual results to vary materially from expectations include, but are not limited to, rapid technological change, continued acceptance of the Company's products, stability of global financial markets, cybersecurity breaches and other disruptions that could compromise the Company’s information or results, management of international activities, competition from substitute products and larger companies, the Company’s ability to obtain and maintain regulatory approvals, government regulations and oversight, patent and other types of litigation, the Company’s ability to protect proprietary technology from counterfeit versions of the Company's products, strategic relationships and dependence on key individuals.

 

On January 30, 2020, the World Health Organization, or WHO, announced a global health emergency because of the COVID-19 outbreak, and the risks to the international community as the virus spreads globally beyond its point of origin.

 

In  March 2020, the WHO declared the COVID-19 outbreak a pandemic. The COVID-19 outbreak is negatively affecting the United States and global economies. As the COVID-19 outbreak continued to spread, governmental authorities ordered quarantines, shelter-in-place, and restrictions on the conduct of business operations related to the COVID-19 outbreak. In certain geographies, these measures remain in place on some level, and these measures and restrictions had, and continue to have, an impact on the Company's business. The COVID-19 impact, led the Company to implement cost control measures. The COVID-19 outbreak also impacted the Company’s results of operations during the nine months ended  September 30, 2020. The Company expects the COVID-19 outbreak to continue to affect its operations and those of third parties on which the Company relies, which could cause disruptions in the Company’s supply chain and contract manufacturing operations. Though the shelter-in-place orders were lifted or eased allowing certain businesses to open up, government authorities  may order additional restrictions, quarantines or shelter-in-place. The Company has commenced limited manufacturing and currently has inventory on hand for the next 180-240 days to meet its forecasted demand, but the Company must be able to continue to have access to its supply chain to meet demand beyond that period.

 

Beginning in the second half of its first quarter of 2020, and through the date of this report, the Company has experienced decreasing levels of customer demand for its products and the on-going procedures performed with the existing installed base that utilize procedure based consumable products. As a result of COVID-19, some of its customers have been required to shelter-in-place and cease operation of their practice. In other cases, as aesthetic practices reopened and resumed treating patients, practitioners were obligated to implement new safety procedures resulting in fewer patients treated.

 

9

 

In response to the COVID-19 outbreak, the Company took actions to reduce expenses, including discontinuing nonessential services and programs, instituting cost controls on travel and entertainment, implementing further cost-cutting measures and evaluating whether the workforce is able to execute additional efficiency improvements’. For example, the directors on the Company's board of directors agreed to a 25% reduction in their fees, the Company's Chief Executive Officer and its President and Chief Operating Officer had a 25% reduction in their salaries and other members of management had significant reductions in their salaries, which will remain in place until such time as the Company's business operations and economic conditions improve. The Company also instituted salary reductions for the remainder of its employees and initiated furloughs and subsequent reductions-in-force that initially affected approximately 42% of its workforce. Only 22% of the Company’s workforce was impacted as of the third quarter of 2020, as several previously furloughed positions ended and the employees have come back to work.

 

In addition, to facilitate the conservation of cash, bonuses owed to management from the 2019 Management Bonus Program were paid mostly in equity (Note 8) rather than in cash during the second quarter of 2020.

 

As a result of the events and impact surrounding the COVID-19 pandemic, the Company assessed whether any impairment of its goodwill or its long-lived assets had occurred, and has determined that no charges other than an impairment loss of $0.8 million on capitalized cloud computing costs related to the indefinite delay of the implementation of cloud-based enterprise resource planning software had occurred as of  September 30, 2020The Company’s assumptions about future conditions important to its assessment of potential impairment of its long-lived assets, and goodwill, including the impacts of the COVID–19 pandemic and other ongoing impacts to its business, are subject to uncertainty, and the Company will continue to monitor these conditions in future periods as new information becomes available, and will update its analyses accordingly.

 

Unaudited Interim Financial Information

 

In the opinion of the Company, the accompanying unaudited condensed consolidated financial statements included in this report reflect all adjustments (consisting of only normal recurring adjustments) necessary for a fair statement of its consolidated statements of financial position as of September 30, 2020 and 2019, its consolidated statements of results of operations, comprehensive loss, changes in equity, and cash flows for the three and nine months ended September 30, 2020, and 2019. The December 31, 2019 condensed consolidated balance sheet was derived from audited financial statements, but does not include all disclosures required by generally accepted accounting principles in the United States of America (“GAAP”). The results for interim periods are not necessarily indicative of results for the entire year or any other interim period.  Presentation of certain prior year balances have been updated to conform with current year presentation. The accompanying condensed consolidated financial statements should be read in conjunction with the Company’s previously filed audited financial statements and the related notes thereto included in the Company’s annual report on Form 10-K for the year ended December 31, 2019 filed with the Securities and Exchange Commission (the “SEC”) on March 16, 2020, and amended in a filing on Form 10-K/A with the SEC on April 14, 2020.

 

Accounting Policies

 

These unaudited condensed consolidated financial statements are prepared in accordance with the rules and regulations of the SEC applicable to interim financial statements. While these statements reflect all normal recurring adjustments that are, in the opinion of management, necessary for fair presentation of the results of the interim period, they do not include all of the information and footnotes required by GAAP for complete financial statements. These condensed consolidated financial statements should be read in conjunction with the financial statement disclosures in its annual report on Form 10-K for the year ended December 31, 2019 filed with the SEC on March 16, 2020, and amended in a filing on Form 10-K/A with the SEC on April 14, 2020.

 

The Company uses the same accounting policies in preparing quarterly and annual financial statements. Unless otherwise noted, amounts presented within the Notes to condensed consolidated financial statements refer to the Company’s continuing operations. Note 1 provides information about the Company’s adoption of the new accounting standard for credit losses.

 

Use of Estimates

 

The preparation of condensed consolidated financial statements in conformity with GAAP requires the Company’s management to make estimates and assumptions that affect the amounts reported of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the accompanying notes, and the reported amounts of revenue and expenses during the reported periods. Actual results could differ materially from those estimates.  

 

On an ongoing basis, management evaluates its estimates, including those related to warranty obligations, sales commission, allowance for credit losses, and sales allowances, valuation of inventories, fair value of goodwill, useful lives of property and equipment, impairment testing for long-lived-assets, incremental borrowing rates related to the Company’s leases, assumptions regarding variables used in calculating the fair value of the Company's equity awards, expected achievement of performance based vesting criteria, management performance bonuses, fair value of investments, the standalone selling price of the Company's products and services, the period of benefit used to capitalize and amortize contract acquisition costs, variable consideration, contingent liabilities, recoverability of deferred tax assets, residual value of leased equipment, useful life, lease term and effective income tax rates. Management bases estimates on historical experience and on various other assumptions that are believed to be reasonable, the results of which form the basis for making judgments about the carrying values of assets and liabilities.

 

10

 

Accounting for Leases as a Lessor

 

In the second quarter of 2020, the Company began leasing equipment to customers through a membership program where the customer pays a fixed monthly fee over the lease term. Along with the leased equipment, the membership program provides customers with a warranty service and a fixed amount of consumables per month for the term of the lease. The Company has made an accounting policy election to account for qualifying lease components and associated non-lease components as a single component; accordingly, a lease component and an associated warranty service non-lease component are combined and accounted for as an operating lease.  The consumables do not qualify for the practical expedient and are accounted for as a separate non-lease component in accordance with Topic 606 on Revenue from Contracts with Customers.  The Company allocates the membership program contract consideration to each component proportionately on a relative standalone selling price basis.

 

The lease agreements are typically for three years; however, the customer has the ability to terminate the lease after twelve months with no penalty. As such, the Company has determined the initial term of the lease to be twelve-months, after which the lease converts to a month-to-month lease for up to an additional two years. Rental charges are a fixed monthly fee, paid at the beginning of each month, over the term of the lease.

 

All leases entered into to date under the membership program are classified as operating leases. The underlying asset in an operating lease arrangement is carried at depreciated cost within property and equipment, net, on the condensed consolidated balance sheets. Depreciation is calculated using the straight-line method over the useful life of the leased asset and is recognized as cost of product revenue. The depreciable basis is the original cost of the equipment less the estimated residual value of the equipment at the end of the lease term.

 

The Company recognizes operating lease revenue on a straight-line basis over the lease term and expenses deferred initial direct costs on the same basis. Operating lease revenue is included within product revenue on the consolidated statements of operations. Impairment of equipment under operating leases is assessed on the same basis as other long-lived assets.

 

See Note 11 of the Notes to the condensed consolidated financial statements for more information regarding leasing arrangements. 

 

Recently Adopted Accounting Pronouncements

 

In June 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2016-13, Financial Instruments-Credit Losses (Topic 326):"Measurement of Credit Losses on Financial Instruments", which replaces the incurred loss methodology with an expected credit loss methodology that is referred to as the current expected credit loss (CECL) methodology. ASU 2016-13 is effective for fiscal years beginning after December 15, 2019, with early adoption permitted. The amendments in this update are required to be applied using the modified retrospective method with an adjustment to accumulated deficit and are effective for the Company beginning with fiscal year 2020, including interim periods. The measurement of expected credit losses under the CECL methodology is applicable to financial assets measured at amortized cost, including loan receivables, available for sale securities and held-to-maturity debt securities. An entity with available for sale securities and trade receivables will be required to use historical loss information, current conditions, and reasonable and supportable forecasts to determine expected lifetime credit losses. Pooling of assets with similar risk characteristics is also required. The Company adopted ASU 2016-13 on January 1, 2020 on a modified retrospective basis. Upon adoption, the standard did not have a material impact on the consolidated financial statements.

 

The Company identified trade receivables and available-for-sale debt securities as impacted by the new guidance. However, the Company determined that the historical losses related to these available-for-sale debt securities are not material as the Company invests in high grade short-term securities.

 

The Company establishes an allowance for credit losses on trade receivables based on the credit quality of clients, current economic conditions, the age of the accounts receivable balances, historical loss information, and current conditions and forecasted information, and write-off amounts against the allowance when they are deemed uncollectible. 

 

11

 

The Company’s allowance for credit losses increased from $1.4 million at December 31, 2019 to $1.5 million at September 30, 2020, due to increase in aged accounts receivable. During the three and nine months ended September 30, 2020, the Company recognized a provision for credit losses of $53,000 and $1.8 million, respectively, and wrote off $0.3 million and $1.5 million against the allowance for credit losses, respectively.

 

In August 2018, the FASB issued ASU No. 2018-13, “Fair Value Measurement (Topic 820): Disclosure Framework- Changes to the Disclosure Requirements for Fair Value Measurement”, to improve the fair value measurement reporting of financial instruments. The amendments in this update require, among other things, added disclosure of the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. The amendments in this update eliminate, among other things, disclosure of the reasons for and amounts of transfers between Level 1 and Level 2 for assets and liabilities that are measured at fair value on a recurring basis and an entity's valuation processes for Level 3 fair value measurements. The amendments in this update are effective for the Company beginning with fiscal year 2020, with early adoption permitted. Retrospective application is required for all amendments in this update except the added disclosures, which should be applied prospectively. The adoption of the amendments in this update did not have a material impact on the Company’s consolidated financial position and results of operations.

 

Recently Issued Accounting Pronouncements Not Yet Adopted by the Company

 

In December 2019, the FASB issued ASU No. 2019-12 “Income Taxes (Topic 740)-Simplifying the Accounting for Income Taxes”, to remove certain exceptions and improve consistency of application, including, among other things, requiring that an entity reflect the effect of an enacted change in tax laws or rates in the annual effective tax rate computation in the interim period that includes the enactment date. The amendments in this update will be effective for the Company beginning with fiscal year 2021, with early adoption permitted. Most amendments within the standard are required to be applied on a prospective basis, while certain amendments must be applied on a retrospective or modified retrospective basis. The adoption of the amendments in this update is not expected to have a material impact on the Company’s consolidated financial position and results of operations.

 

In March 2020, the FASB issued ASU No. 2020-04, “Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting.” ASU No. 2020-04 provides optional expedients and exceptions for applying U.S. GAAP to contract modifications and hedging relationships, subject to meeting certain criteria that reference LIBOR or another rate that is expected to be discontinued. The amendments in ASU No. 2020-04 are effective for all entities as of March 12, 2020 through December 31, 2022. The Company is currently assessing the impact of ASU No. 2020-04 and the LIBOR transition on its consolidated financial statements. 

 

The Company reviewed all other recently issued, but not yet effective, accounting pronouncements and does not expect the future adoption of any such pronouncements will have a material impact on the Company’s consolidated financial statements.

 

 

Note 2. Cash, Cash Equivalents and Marketable Investments

 

The Company invests its cash primarily in money market funds and in highly liquid debt instruments of U.S. federal and municipal governments and their agencies, commercial paper and corporate debt securities. All highly liquid investments with stated maturities of three months or less from date of purchase are classified as cash equivalents; all highly liquid investments with stated maturities of greater than three months are classified as marketable investments. The majority of the Company’s cash and investments are held in U.S. banks and the Company's foreign subsidiaries maintain a limited amount of cash in their local banks to cover their short-term operating expenses.

 

The Company determines the appropriate classification of its marketable investments at the time of purchase and re-evaluates such designation at each balance sheet date. The Company’s marketable investments have been classified and accounted for as available-for-sale securities. Investments with remaining maturities of more than one year are viewed by the Company as available to support current operations and are classified as current assets under the caption marketable investments in the accompanying condensed consolidated balance sheets. Investments in available-for-sale debt securities are measured at fair value. Credit losses on impaired available-for-sale debt securities are recognized through an allowance for credit losses. Credit losses recognized on an available-for-sale debt security should not reduce the net carrying amount of the available-for-sale debt security below its fair value. Any changes in fair value unrelated to credit are recognized as an unrealized gain or loss in other comprehensive income.

 

The following tables summarize the components, and the unrealized gains and losses position, related to the Company’s cash, cash equivalents and marketable investments (in thousands):

 

September 30, 2020

 

Amortized

Cost

  

Gross

Unrealized

Gains

  

Gross

Unrealized

Losses

  

Fair Market

Value

 

Cash and cash equivalents

 $29,394  $  $  $29,394 
                 

Marketable investments:

                

U.S. government notes

  3,149         3,149 
   Commercial Paper  8,546          8,546 
   Corporate Debt Securities  1,350   1      1,351 

Total marketable investments

  13,045   1      13,046 
                 

Total cash, cash equivalents and marketable investments

 $42,439  $1  $  $42,440 

 

12

 

December 31, 2019

 

Amortized

Cost

  

Gross

Unrealized

Gains

  

Gross

Unrealized

Losses

  

Fair

Market

Value

 

Cash and cash equivalents

 $26,316  $  $  $26,316 
                 

Marketable investments

                

U.S. government notes

  4,114         4,114 

Commercial paper

  3,491         3,491 

Total marketable securities

  7,605         7,605 
                 

Total cash, cash equivalents and marketable securities

 $33,921  $  $  $33,921 

 

As of September 30, 2020 and December 31, 2019, the net unrealized gains were $1,000 and zero, respectively, and were related to interest rate changes on available-for-sale marketable investments. The Company has concluded that it is more-likely-than-not that the securities will be held until maturity or the recovery of their cost basis. No securities were in an unrealized loss position for more than 12 months. 

 

The following table summarizes the contractual maturities of the Company’s available-for-sale securities, classified as marketable investments, as of September 30, 2020 (in thousands): 

 

  

Amount

 

Due in less than one year

 $13,046 

Due in 1 to 3 years

   

Total marketable investments

 $13,046 

 

 

 

Note 3. Fair Value of Financial Instruments

 

Fair value is an exit price representing the amount that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The fair value hierarchy contains three levels of inputs that may be used to measure fair value, in accordance with ASC 820, as follows:

 

● Level 1: inputs, which include quoted prices in active markets for identical assets or liabilities;

 

● Level 2: inputs, which include observable inputs other than Level 1 inputs, such as quoted prices for similar assets or liabilities, quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the asset or liability. For available-for-sale securities, the Company reviews trading activity and pricing as of the measurement date. When sufficient quoted pricing for identical securities is not available, the Company uses market pricing and other observable market inputs for similar securities obtained from various third-party data providers. These inputs either represent quoted prices for similar assets in active markets or have been derived from observable market data; and

 

● Level 3: inputs, which include unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the underlying asset or liability. Level 3 assets and liabilities include those whose fair value measurements are determined using pricing models, discounted cash flow methodologies, or similar valuation techniques, as well as significant management judgment or estimation.

 

In determining fair value, the Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible as well as considers counterparty credit risk in its assessment of fair value.

 

13

 

As of September 30, 2020, financial assets measured and recognized at fair value on a recurring basis and classified under the appropriate level of the fair value hierarchy as described above were as follows (in thousands):

 

September 30, 2020

 

Level 1

  

Level 2

  

Level 3

  

Total

 

Cash equivalents:

                

Money market funds and commercial paper

 $13,951  $  $  $13,951 

Marketable investments:

                

Available for sale securities

  3,149   9,897      13,046 

Total assets at fair value

 $17,100  $9,897  $  $26,997 

 

 

As of December 31, 2019, financial assets measured and recognized at fair value on a recurring basis and classified under the appropriate level of the fair value hierarchy as described above was as follows (in thousands): 

 

December 31, 2019

 

Level 1

  

Level 2

  

Level 3

  

Total

 

Cash equivalents:

                

Money market funds

 $6,311  $  $  $6,311 

Short term marketable investments:

                

Available-for-sale securities

  4,114   3,491      7,605 

Total assets at fair value

 $10,425  $3,491  $  $13,916 

 

 

Money market funds and U.S. Treasury bills are highly liquid investments and are actively traded. The pricing information on these investment instruments are readily available and can be independently validated as of the measurement date. This approach results in the classification of these securities as Level 1 of the fair value hierarchy. 

 

Corporate debt, U.S. government-backed securities, and commercial paper are measured at fair value using Level 2 inputs. The Company reviews trading activity and pricing for these investments as of each measurement date. When sufficient quoted pricing for identical securities is not available, the Company uses market pricing and other observable market inputs for similar securities obtained from various third party data providers. These inputs represent quoted prices for similar assets in active markets or these inputs have been derived from observable market data. This approach results in the classification of these securities as Level 2 of the fair value hierarchy. The average remaining maturity of the Company’s Level 2 investments as of September 30, 2020 is 0.2 years and all of these investments are rated by S&P and Moody’s at A or better. The Company recognizes transfers between levels of the fair value hierarchy as of the end of the reporting period. There were no transfers within the hierarchy during the three and nine months ended September 30, 2020 and the year ended December 31, 2019, respectively.

 

 

Note 4. Balance Sheet Details

 

Inventories

 

As of September 30, 2020 and December 31, 2019, inventories consist of the following (in thousands):

 

  

September 30,

2020

  

December 31,

2019

 

Raw materials

 $15,627  $17,935 

Work in process

  1,567   2,016 

Finished goods

  12,139   13,970 

Total

 $29,333  $33,921 

  

Other Long-term Assets 

 

During the nine months ended  September 30, 2020the Company recognized in general and administrative expense an impairment loss of $0.8 million for capitalized cloud computing costs related to a cloud-based enterprise resource planning software. There was no impairment loss recognized in the three months ended September 30, 2020. The capitalized cloud computing costs were recorded in other long-term assets on the balance sheet.

 

Accrued Liabilities

 

As of September 30, 2020 and December 31, 2019, accrued liabilities consist of the following (in thousands):

 

  

September 30,

2020

  

December 31,

2019

 

Accrued payroll and related expenses

 $9,121  $14,341 

Sales and marketing accruals

  2,011   2,527 

Inventory accruals

  2,579   1,008 

Warranty liability (see Note 5)

  2,924   4,401 

Sales tax

  3,590   3,922 

Other

  5,419   4,108 

Total

 $25,644  $30,307 

 

14

 

Product Remediation Liability

 

During the fourth quarter of 2018, the Company recognized a liability for a product remediation plan related to one of its legacy systems. This was related to a voluntary action initiated by the Company to replace a component in one of the Company’s legacy products. The remediation plan consists primarily of replacement of a component in the system. The accrued liability consists of cost of materials and labor to replace the component in all units that are under the Company's standard warranty or are covered under the existing extended warranty contracts. The Company recorded a liability of approximately $5.0 million in 2018. 

 

As of September 30, 2020 and December 31 2019, approximately $0.5 million of the total product remediation liability balance was accrued as a component of the Company’s product warranty and included in accrued liabilities, and $1.5 million and $2.0 million, respectively, was separately recorded as Extended warranty liabilities.

 

In the nine months ended  September 30, 2020, the Company settled $0.5 million related to Extended warranty liability. No amounts of the product remediation warranty were settled in the nine months ended  September 30, 2020. As of  September 30, 2020, the product remediation warranty and extended warranty liability were $0.5 million and $1.5 million, respectively.

 

 

Note 5. Warranty and Extended Service Contract

 

The Company has a direct field service organization in North America (including Canada). Internationally, the Company provides direct service support in Australia, Belgium, France, Germany, Hong Kong, Japan, and Switzerland, as well as through third-party service providers in Spain and the United Kingdom. In several other countries, where the Company does not have a direct presence, the Company provides service through a network of distributors and third-party service providers.

 

After the original warranty period, maintenance and support are offered on an extended service contract basis or on a time and materials basis. The Company provides for the estimated cost to repair or replace products under standard warranty at the time of sale. Costs incurred in connection with extended service contracts are recognized at the time when costs are incurred.

 

The following table provides the changes in the product standard warranty accrual for the three and nine months ended September 30, 2020 and 2019 (in thousands): 

 

  

Three Months Ended

September 30,

  

Nine Months Ended

September 30,

 
  

2020

  

2019

  

2020

  

2019

 

Beginning Balance

 $3,155  $4,832  $4,401  $4,668 

Add: Accruals for warranties issued during the period

  1,274   1,504   3,234   5,656 

Less: Settlements made during the period

  (1,505)  (1,930)  (4,711)  (5,918)

Ending Balance

 $2,924  $4,406  $2,924  $4,406 

 

The settlements presented in the table exclude costs related to extended service contracts cost, which were $0.2 million and $0.5 million in the three and nine months ended September 30, 2020, respectively, to replace a component in one of the Company's legacy products. 

 

 

Note 6. Deferred Revenue

 

The Company records deferred revenue when revenue is to be recognized subsequent to invoicing. For extended service contracts, the Company generally invoices customers at the beginning of the extended service contract term. The Company’s extended service contracts typically have one, two or three year terms. Deferred revenue also includes payments for installation and training. Approximately 81% of the Company’s deferred revenue balance of $11.8 million as of September 30, 2020 will be recognized over the next 12 months.

 

15

 

The following table provides changes in the deferred revenue balance for the three and nine months ended September 30, 2020 and 2019 (in thousands):

 

  

Three Months Ended

September 30,

  

Nine Months Ended

September 30,

 
  

2020

  

2019

  

2020

  

2019

 

Beginning Balance

 $11,779  $13,859  $14,222  $11,855 

Add: Payments Received

  3,854   3,624   9,314   13,075 

Less: Revenue

  (3,809)  (4,010)  (11,712)  (11,457)

Ending Balance

 $11,824  $13,473  $11,824  $13,473 

 

Costs for extended service contracts were $1.9 million and $5.6 million, respectively, for the three and nine months ended September 30, 2020, and $2.3 million and $6.5 million, respectively, for the three and nine months ended September 30, 2019.

 

 

Note 7. Revenue

 

Effective January 1, 2018, the Company recognizes revenue under ASC Topic 606. Revenue is recognized upon transfer of control of promised products or services to customers in an amount that reflects the consideration to which the Company expects to be entitled in exchange for promised goods or services. The Company’s performance obligations are satisfied either over time or at a point in time. Revenue from performance obligations that are transferred to customers over time accounted for approximately 17% and 13% respectively, of the Company’s total revenue for the nine months ended September 30, 2020 and 2019.

 

The Company has certain system sale arrangements that contain multiple products and services. For these bundled sale arrangements, the Company accounts for individual products and services as separate performance obligations if they are distinct. The Company’s products and services are distinct if a customer can benefit from the product or service on its own or with other resources that are readily available to the customer, and if the Company’s promise to transfer the products or service to the customer is separately identifiable from other promises in the sale arrangements. The Company’s system sale arrangements can include all or a combination of the following performance obligations: the system and software license (considered as one performance obligation), system accessories (hand pieces), training, other accessories, extended service contracts, and time and materials services.

 

For the Company’s system sale arrangements that include an extended service contract, the period of service commences at the expiration of the Company’s standard warranty offered at the time of the system sale. The Company considers the extended service contracts terms in the arrangements that are legally enforceable to be performance obligations. Other than extended service contracts and marketing services, which are satisfied over time, the Company generally satisfies all performance obligations at a point in time. Systems, system accessories (hand pieces), service contracts, training, and time and materials services are also sold on a stand-alone basis, and these performance obligations are satisfied at a point in time. For contracts with multiple performance obligations, the Company allocates the transaction price of the contract to each performance obligation on a relative standalone selling price basis.

 

Nature of Products and Services

 

Systems

 

Systems revenue is generated from the sale of systems and from the sale of upgrades to existing systems. A system consists of a console that incorporates a universal graphic user interface, a laser or other energy based module, control system software and high voltage electronics, as well as one or more hand pieces. In certain applications, the laser or other energy-based module is contained in the hand piece, such as with the Company’s Pearl and Pearl Fractional applications, rather than within the console. 

 

The Company offers customers the ability to select the system that best fits their practice at the time of purchase and then to cost-effectively add applications to their system as their practice grows. This provides customers the flexibility to upgrade their systems whenever they choose and provides the Company with a source of additional Systems revenue.

 

The system or upgrade and the right to use the embedded software represent a single performance obligation as the software license is integral to the functionality of the system or upgrade.

 

The Company does not identify calibration and installation services for systems other than enlighten as performance obligations because such services are immaterial in the context of the contract. The related costs to complete calibration and installation for systems other than enlighten are immaterial. Calibration and installation services for enlighten systems are identified as separate performance obligations.

 

For systems sold directly to end-customers that are credit approved, revenue is recognized when the Company transfers control to the end-customer, which occurs when the product is shipped to the customer or when the customer receives the product, depending on the nature of the arrangement. When collectability is not established in advance of receipt of payment from the customer, revenue is recognized upon the later of the receipt of payment or the satisfaction of the performance obligation. For systems sold through credit approved distributors, revenue is recognized at the time of shipment to the distributor.

 

16

 

The Company typically receives payment for its system consoles and other accessories within 30 days of shipment. Certain international distributor arrangements allow for longer payment terms.

 

Skincare products

 

The Company sells third-party manufactured skincare products in Japan. The third-party skincare products are purchased from a third-party manufacturer and sold to licensed physicians. The Company acts as the principal in this arrangement, as the Company determines the price to charge customers for the skincare products, and controls the products before they are transferred to the customer. Sales of skincare products are typically the subject of contracts in which the skincare products represent the sole performance obligations. The Company recognizes revenue for skincare products at a point in time.

 

Consumables and other accessories

 

The Company classifies its customers' purchases of replacement cycles for truSculpt iD and truSculpt flex, as well as replacement Titan and truSculpt 3D hand pieces, as Consumable revenue, which provides the Company with a source of recurring revenue from existing customers. The Juliet and Secret RF products have single use disposable tips which must be replaced after every treatment. Sales of these consumable tips further enhance the Company’s recurring revenue. The Company’s systems offer multiple hand pieces and applications, which allow customers to upgrade their systems. The Company classifies as product revenue the sales of systems, system upgrades, hand pieces, hand piece refills (applicable to Titan® and truSculpt) and the distribution of third-party manufactured skincare products.

 

Equipment leasing

 

The Company leases equipment to customers through membership programs and receives a fixed monthly fee over the term of the arrangement. The Company classifies its lease income as product revenue and recognizes it over the term of the lease (Notes 1 and 11). Revenue from equipment leases was not material in the three and nine months ended September 30, 2020.

 

 

Extended service contracts

 

The Company offers post-warranty services to its customers through extended service contracts that cover parts and labor for a term of one, two, or three years. Service contract revenue is recognized over time, using a time-based measure of progress, as customers benefit from the service throughout the service period. The Company also offers services on a time-and-materials basis for systems and detachable hand piece replacements. Revenue related to services performed on a time-and-materials basis is recognized when performed. These post-warranty services serve as additional sources of recurring revenue from the Company’s installed product base.

 

Training

 

Sales of systems to customers include training on the use of the system to be provided within 180 days of purchase. The Company considers training a separate performance obligation as customers can immediately benefit from the training together with the customer’s system. Training is also sold separately from systems. The Company recognizes revenue for training when the training is provided. Training is not required for customers to use the systems.

 

Significant Judgments

 

The determination of whether two or more contracts entered into at or near the same time with the same customer should be combined and accounted for as one contract may require the use of significant judgment. In making this determination, the Company considers whether the contracts are negotiated as a package with a single commercial objective, have price interdependencies, or promise goods or services that represent a single performance obligation.

 

While the Company’s purchase agreements do not provide customers with a contractual right of return, the Company maintains a sales allowance to account for potential returns or refunds as a reduction in transaction price at the time of sale.

 

The Company determines standalone selling price ("SSP") for each performance obligation as follows:

 

Systems: The SSPs for systems are based on directly observable sales in similar circumstances to similar customers.

  

Extended service contracts: SSP is based on observable price when sold on a standalone to similar customers.

 

17

 

Loyalty Program

 

The Company launched a customer loyalty program during the third quarter of 2018 for qualified customers located in the U.S. and Canada. Under the loyalty program, customers accumulate points based on their purchasing levels which can be redeemed for such rewards as the right to attend the Company’s advanced training event for truSculpt, or a ticket for the Company’s annual forum. A customer’s account must be in good standing to receive the benefits of the rewards program. Rewards are earned on a quarterly basis and must be used in the following quarter. Customers receive a notification regarding their rewards tier by the fifth day of the following quarter. All unused rewards are forfeited. The fair value of the reward earned by loyalty program members is included in accrued liabilities and recorded as a reduction of net revenue at the time the reward is earned. As of September 30, 2020 and December 31, 2019, the accrual for the loyalty program included in accrued liabilities was $0.4 million and $0.2 million, respectively.

 

Deferred Sales Commissions

 

Incremental costs of obtaining a contract, which consist primarily of commissions and related payroll taxes, are capitalized and amortized on a straight-line basis over the expected period of benefit, except for costs that are recognized when product is sold. The Company uses the portfolio method to recognize the amortization expense related to these capitalized costs related to initial contracts and such expense is recognized over a period associated with the revenue of the related portfolio, which is generally two to three years.

 

Total capitalized costs as of September 30, 2020 and December 31, 2019, respectively, were $3.4 million and $4.6 million and are included in Other long-term assets in the Company’s condensed consolidated balance sheet. Amortization expense for these assets was $0.6 million and $2.0 million, respectively, during the three and nine months ended September 30, 2020 and $0.8 million and $2.2 million respectively, during the three and nine months ended September 30, 2019. The amortization expense related to these capitalized costs is included in sales and marketing expense in the Company’s condensed consolidated statement of operations.

 

 

Note 8. Stockholders’ Equity and Stock-based Compensation Expense

 

Issuances of Common Stock

 

On April 21, 2020, the Company issued and sold an aggregate of 2,742,750 shares of the Company’s common stock, par value $0.001 per share at a price to the public of $10.50 per share. The shares include the full exercise of the underwriter’s option to purchase an additional 357,750 shares of common stock. The Company received net proceeds from the offering of approximately $26.5 million, after deducting underwriting discounts, commissions, and offering expenses of $2.1 million.

 

Stock-Based Compensation

 

The Company’s equity incentive plans are broad-based, long-term programs intended to attract and retain talented employees and align stockholder and employee interests. In  June 2020stockholders approved an amendment and restatement of the 2019 Equity Incentive Plan (the “Prior Plan”) as the Amended and Restated 2019 Equity Incentive Plan (the “Restated Plan”) and approved an additional 600,000 shares, available for future grants. The Restated Plan provides for the grant of incentive stock options, non-statutory stock options, RSAs, restricted stock units (“RSUs”), stock appreciation rights, performance stock units, performance shares, and other stock or cash awards.

 

The Company’s Board of Directors granted its executive officers, senior management and certain employees 22,423 and 94,101 performance stock units (“PSUs”) during the three and nine months ended September 30, 2020, respectively. The PSUs granted in the three and nine months ended September 30, 2020 vest subject to the recipients continued service and to the achievement of certain operational goals for the Company’s 2020 fiscal year which consist of the achievement of revenue targets for consumable products, and the achievement of specific product milestones.

 

On  April 1, 2020the Company issued RSUs to settle bonuses owed to management under the 2019 Management Bonus Program. In the past, the Company has paid these bonuses with cash on hand. However, due to the economic conditions resulting from COVID-19, fully vested shares were issued in lieu of cash. The Company issued 209,981 shares related to this bonus payment to management and recognized $2.6 million in stock-based compensation expense. The Company also recorded an equivalent reduction in bonus expense as a result of the settlement of the bonus in shares.

 

The Company’s Board of Directors also granted its executive officers, senior management and certain employees zero and 421,417 RSUs,  during the three and nine months ended September 30, 2020, respectively, and granted stock options for 60,000 shares of common stock during the three and nine months ended September 30, 2020. The annual RSUs granted vest over four years at 25% on each anniversary of the grant date.

 

Under the Restated Plan, as amended, the Company issued 58,161 and 528,265 shares of common stock during the three and nine months ended September 30, 2020, respectively, in conjunction with stock options exercised and the vesting of RSUs and PSUs, net of shares withheld for employee taxes.

 

18

 

As of September 30, 2020, there was approximately $12.8 million of unrecognized compensation expense, net of projected forfeitures, for stock options and stock awards. The expense is expected to be recognized over the remaining weighted-average period of 2.48 years. The actual expense recorded in the future may be higher or lower based on a number of factors, including, actual forfeitures experienced and the degree of achievement of the performance goals related to the PSUs granted.

 

Activity under the Restated Plan is summarized as follows:

 

      

Options Outstanding

 
  

Shares

Available

for Grant

  

Number of

Stock

Options

Outstanding

  

Weighted-

Average

Exercise

Price

 

Balance, December 31, 2019

  761,705   295,699  $25.52 

Additional shares reserved

  600,000       

Stock awards granted

  (789,978)  60,000     

Options exercised

    (46,878)  8.77 

Options canceled

  64,959   (64,959)  38.14 

Stock awards canceled

  431,096       

Balance, September 30, 2020

  1,067,782   243,862  $26.33 

 

Stock-based Compensation Expense

 

Stock-based compensation expense by department recognized during the three and nine months ended September 30, 2020 and 2019 were as follows (in thousands):

 

  

Three Months Ended

September 30,

  

Nine Months Ended

September 30,

 
  

2020

  

2019

  

2020

   2019* 

Cost of revenue

 $326  $430  $1,359  $1,103 

Sales and marketing

  648   1,365   2,618   3,080 

Research and development

  254   443   1,344   1,076 

General and administrative

  754   940   2,736   1,745 

Total stock-based compensation expense

 $1,982  $3,178  $8,057  $7,004 

 

*Included in the nine-month ended September 30, 2019 stock-based compensation expense is the charge in connection with the accelerated vesting of 4,667 shares of the Company’s former CEO, in accordance with his separation agreement dated January 4, 2019.

 

 

 

Note 9. Net Loss Per Share

 

Basic net loss per share is computed using the weighted-average number of shares outstanding during the period. In periods of net income, diluted shares outstanding include the dilutive effect of in-the-money equity awards (stock options, restricted stock units, performance stock units and employee stock purchase plan contributions), which is calculated based on the average share price for each fiscal period using the treasury stock method. 

 

Diluted earnings per share is the same as basic earnings per share for the periods in which the Company had a net loss because the inclusion of outstanding common stock equivalents would be anti-dilutive.

 

The following table sets forth the computation of basic and diluted net loss and the weighted average number of shares used in computing basic and diluted net loss per share (in thousands, except per share data):

 

  

Three Months Ended

September 30,

  

Nine Months Ended

September 30,

 
  

2020

  

2019

  

2020

  

2019

 

Numerator:

                

Net loss

 $(2,257) $(2,628) $(26,065) $(10,260)

Denominator:

                

Weighted average shares of common stock outstanding used in computing net income (loss) per share, basic

  17,603   14,182   16,368   14,095 

Dilutive effect of incremental shares and share equivalents

            

Weighted average shares of common stock outstanding used in computing net loss per share, diluted

  17,603   14,182   16,368   14,095 

Net loss per share:

                

Net loss per share, basic and diluted

 $(0.13) $(0.19) $(1.59) $(0.73)

 

19

 

The following numbers of shares outstanding, prior to the application of the treasury stock method, were excluded from the computation of diluted net loss per common share for the periods presented because including them would have had an anti-dilutive effect (in thousands):

 

  

Three Months Ended

September 30,

  

Nine Months Ended

September 30,

 
  

2020

  

2019

  

2020

  

2019

 

Options to purchase common stock

  232   398   246   443 

Restricted stock units

  733   648   735   523 

Performance stock units

  24   221   83   166 

Employee stock purchase plan shares

  17   94   57   94 

Total

  1,006   1,361   1,121   1,226 

 

 

 

Note 10. Income Taxes

 

The Company calculates the provision for income taxes during interim reporting periods by applying an estimate of the annual effective tax rate for the full fiscal year to ordinary income or loss for the interim reporting period. When applicable, the year-to-date tax provision reflects adjustments from discrete tax items.

 

For the three and nine months ended September 30, 2020, the Company's income tax expense were $0.7 million and $1.2 million, respectively, compared to income tax expense of $73,000 and income tax benefit of $55,000 for the three and nine months ended September 30, 2019, respectively.


The Company's income tax expense for the three months ended  September 30, 2020 is due primarily to income taxes in foreign jurisdictions. As the Company's U.S. operations are projecting to be in a taxable loss position in fiscal year 2020, and based on all available objectively verifiable evidencethe Company believes it is more likely than not that the tax benefits of the U.S. losses incurred will not be realized. Accordingly, the Company will continue to maintain a full valuation allowance on the U.S. deferred tax assets.

 

On  March 27, 2020, the U.S. federal government enacted the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”). The CARES Act changed several of the existing U.S. corporate income tax laws by, among other things, increasing the amount of deductible interest, allowing companies to carry back certain Net Operating Losses (“NOLs”) and increasing the amount of NOLs that corporations can use to offset income. The CARES Act did not have a material impact on the Company's income tax provision, deferred tax assets and liabilities, and related taxes payable. The Company is currently assessing the future implications of these provisions within the CARES Act on the Company's consolidated financial statements, but does not expect the impact to be material.

 

 

Note 11. Leases

 

The Company is a party to certain operating and finance leases for vehicles, office space and storages facilities. The Company’s material operating leases consist of office space, as well as storage facilities, and finance leases consist of automobiles. The Company’s facility leases generally have remaining terms of 1 to 10 years, and some facility leases of which include options to renew the leases for up to 5 years. The Company leases space for operations in the United States, Japan, Belgium, France and Spain. In addition to the above facility leases, the Company also routinely leases automobiles for certain sales and field service employees under finance leases.

 

The Company determines if a contract contains a lease at inception. Operating lease assets and liabilities are recognized at the lease commencement date. Operating lease liabilities represent the present value of lease payments not yet paid. Operating lease assets represent the right to use an underlying asset and are based upon the operating lease liabilities adjusted for prepayments or accrued lease payments, initial direct costs, lease incentives, and impairment of operating lease assets. To determine the present value of lease payments not yet paid, the Company estimates the incremental secured borrowing rates corresponding to the maturities of the leases. The Company based the rate estimates on prevailing financial market conditions, credit analysis, and management judgment.

 

20

 

The Company recognizes expense for these leases on a straight-line basis over the lease term. Additionally, tenant incentives used to fund leasehold improvements are recognized when earned and reduce the Company’s right-of-use asset related to the lease. These are amortized through the right-of-use asset as reductions of expense over the lease term.

 

In June 2020, the Company amended its Japan Tokyo office lease by extending the lease by three years through 2024.

 

On  July 9, 2020, the Company amended its lease agreement for its headquarters building located at 3420 Bayshore Boulevard, Brisbane, California. The amendment provides for the following:

 

 

the extension of the lease term, with the extended term to begin on  February 1, 2023 and continue until  January 31, 2028;

 

the abatement of the monthly base rent for the four month period beginning  September 1, 2020 and ending  December 31, 2020;

 

the amendment of monthly base rent during the extension term to approximately $0.2 million for  January 2021 with annual increases of 3.5% thereafter; and

 

the waiver by the Company of its early termination right in the lease.

 

Supplemental balance sheet information related to leases is as follows (in thousands):

  

Leases

Classification

 

September 30,

2020

 

Assets

     

Right-of-use assets

Operating lease right-of-use assets

 $17,645 

Finance lease

Property and equipment, net*

  563 

Total leased assets

 $18,208 

 

* Finance lease assets included in Property and equipment, net. 

 

Liabilities

Classification

    

Operating lease liabilities

     

Operating lease liabilities, current

Operating lease liabilities

  1,608 

Operating lease liabilities, non-current

Operating lease liabilities, net of current portion

  16,497 

Total operating lease liabilities

 $18,105 
      

Finance lease liabilities

     

Finance lease liabilities, current

Accrued liabilities*

  407 

Finance lease liabilities, non-current

Other long-term liabilities

  292 

Total finance lease liabilities

 $699 

 

* Finance lease liabilities included in Accrued liabilities

 

Lease costs during the three months ended September 30, 2020:

    

Finance lease cost

Amortization expense

 $121 

Finance lease cost

Interest for finance lease

  14 

Operating lease cost

Operating lease expense

  752 

 

Lease costs during the nine months ended September 30, 2020:

    

Finance lease cost

Amortization expense

 $545 

Finance lease cost

Interest for finance lease

  49 

Operating lease cost

Operating lease expense

  2,208 

 

Cash paid for amounts included in the measurement of lease liabilities during the nine months ended September 30, 2020 were as follows:

 

Operating cash flow

Finance lease

 $49 

Financing cash flow

Finance lease

  513 

Operating cash flow

Operating lease

  1,987 

 

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