Outset Medical, Inc.: Form 10-Q for the period ended Mar 31, 2024

The following discussion of our financial condition and results of operations should be read together with our unaudited condensed financial statements and related notes and other financial information included elsewhere in this Quarterly Report, as well as our audited financial statements and notes thereto and the related Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our 2023 Annual Report. As used in this Quarterly Report, references to the “Company,” “we,” “us,” “our,” or similar terms refer to Outset Medical, Inc.

In addition to historical financial information, this discussion and other parts of this report contain forward-looking statements within the meaning of the federal securities laws. All statements other than statements of historical fact contained in this Quarterly Report are forward-looking statements. In some cases, you can identify these statements by forward-looking words such as “believe,” “may,” “will,” “estimate,” “continue,” “anticipate,” “intend,” “could,” “would,” “project,” “predict,” “plan,” “expect” or the negative or plural of these words or similar expressions. The forward-looking statements in this report are only predictions and are based largely on our current expectations and projections about future events and financial trends that we believe may affect our business, financial condition and results of operations. These forward-looking statements are subject to a number of known and unknown risks, uncertainties and assumptions that may cause our actual results, performance or achievements to be materially different from those expressed or implied by the forward-looking statements. Such risks and uncertainties include those described throughout this Quarterly Report, including in this discussion as well as in the section titled “Risk Factors” under Part II, Item 1A below and in Part I, Item 1A, “Risk Factors” and in Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2023. The forward-looking statements in this Quarterly Report are based upon information available to us as of the date of this Quarterly Report, and while we believe such information forms a reasonable basis for such statements, such information may be limited or incomplete, and our statements should not be read to indicate that we have conducted an exhaustive inquiry into, or review of, all potentially available relevant information. These statements, like all statements in this report, speak only as of their date, and, except as required by law we undertake no obligation to update or revise these statements, whether as a result of any new information, future developments or otherwise. These statements are inherently uncertain, and investors are cautioned not to unduly rely upon these statements.

Overview

Our technology is designed to elevate the dialysis experience for patients and help providers overcome traditional care delivery challenges. Requiring only an electrical outlet and tap water to operate, our Tablo® Hemodialysis System (Tablo) frees patients and providers from the burdensome infrastructure required to operate traditional dialysis machines. The integration of water purification and on-demand dialysate production in a single 35-inch compact console enables Tablo to serve as a dialysis clinic on wheels. With a simple-to-use touchscreen interface, two-way wireless data transmission and a proprietary data analytics platform, Tablo is a holistic approach to dialysis care. Unlike existing hemodialysis machines, which have limited clinical versatility across care settings, Tablo can be used seamlessly across multiple care settings and a wide range of clinical applications. Tablo is cleared by the FDA for use in the hospital, clinic, or home setting.

Tablo leverages cloud technology, making it possible for providers to monitor devices remotely, view treatment data, perform patient and population analytics, and automate clinical recordkeeping. Tablo's wireless connectivity enables us to release training, new features and enhancements over-the-air without interventions by field service engineers (FSEs). Tablo’s connectedness allows continuous streaming of over 500,000 device performance data points to the cloud for every treatment. We use this data, in conjunction with our diagnostic and predictive algorithms, to monitor device performance, identify and diagnose failures and, in some instances, predict and prevent potential future device failures or malfunctions. In effect, this contributes to a reduction in service hours and an increase in device uptime.

We have generated meaningful evidence to demonstrate that providers can realize significant operational efficiencies, including reducing the cost of their dialysis programs by up to 80% in the intensive care unit. In addition, Tablo has been shown to deliver robust clinical care. In studies and surveys we have conducted, patients have reported quality of life benefits on Tablo compared to other dialysis machines. We believe Tablo empowers patients, who have traditionally been passive recipients of care, to regain agency and ownership of their treatment.

Driving adoption of Tablo in the acute care setting has been our primary focus to date. We have invested in growing our economic and clinical evidence, built a veteran sales and clinical support team with significant expertise, and implemented a comprehensive training and customer experience program. Our experience in the acute care market has demonstrated Tablo’s clinical flexibility and operational versatility, while also delivering meaningful cost savings to the providers. We plan to continue leveraging our commercial infrastructure to broaden our installed base in the acute care market, as well as driving utilization and fleet expansion with our existing customers.

Tablo is also utilized for home-based dialysis. We believe our ability to reduce training time, patient dropout, and the supplies and infrastructure required to deliver dialysis in the home can drive efficiency and economic improvements to the home care model. In our home investigational device exemption (IDE) trial, patients reported specific quality of life improvements compared to their experience on the incumbent home dialysis machine. To penetrate this market successfully, we continue to focus on refining our home distribution, logistics and support systems to help ensure they are ready for scale. We are also working with providers, patients, and payors to increase awareness and adoption of transitional care units (TCUs) as a bridge to home-based therapy.

We generate revenue from the placement of Tablo consoles along with accessories, and shipping and handling charged to customers, which revenue is recognized up-front. We also earn recurring revenue from sales of consumables, including Tablo cartridge, and services, which generates significant total revenue over the life of Tablo console. Our total revenue was $28.2 million and $33.5 million for the three months ended March 31, 2024 and 2023, respectively.

We primarily sell our solutions through our direct sales organization, which covers most major metropolitan markets in the United States. Our sales organization is comprised of our capital sales team, responsible for generating new customer demand for Tablo, and our clinical sales team, responsible for driving utilization and fleet expansion of Tablo at existing customer sites. In addition, our field service team provides maintenance services and product support to our customers. Our field sales and service teams represent 49% of our total full-time employees as of March 31, 2024. The same sales organization and field service team drive Tablo penetration in both the acute and home markets. We believe the ability to leverage one team to serve both markets will result in significant productivity and cost optimization as we continue to scale our business.

Recent Developments

In July 2023, we received a warning letter (the Warning Letter) from the FDA that raised two observations. The first observation asserted that certain content reviewed by the FDA and found on our website promoted CRRT, a modality outside of the current indications for Tablo. The second observation asserted that TabloCart with Prefiltration requires prior 510(k) clearance for marketing authorization. TabloCart with Prefiltration is an accessory to Tablo launched in the third quarter of 2022. We believe the concern raised by the first observation regarding CRRT promotion has been effectively addressed through a thorough review of existing promotional materials and practices. We believe the concern raised by the second observation regarding TabloCart with Prefiltration has also been effectively addressed. Although we evaluated TabloCart with Prefiltration prior to marketing and distributing the product and concluded that no marketing authorization was necessary, we paused distribution of TabloCart with Prefiltration pending the FDA’s review and clearance of a 510(k) application that we submitted in September 2023. In early May 2024, we received 510(k) clearance from the FDA for TabloCart with Prefiltration, and we have resumed distribution of TabloCart with Prefiltration. We believe we have now taken appropriate measures to fully address the matters raised in the Warning Letter.

Key Factors Affecting Our Performance

We believe that our financial performance has been and in the foreseeable future will continue to be primarily driven by the following factors. While we believe each of these factors presents significant opportunities for our business, they also pose important challenges that we must successfully address in order to sustain our growth and improve our results of operations. Our ability to successfully address the factors below is subject to various risks and uncertainties, including those described in the section titled “Risk Factors.”

Market Acceptance of Tablo in Acute Setting

We plan to further broaden our installed base by continuing to target national and regional integrated delivery networks and health systems, sub-acute long-term acute care hospitals (LTACHs) and skilled nursing facilities (SNFs). In addition, we focus on driving utilization and fleet expansion with existing customers by providing an exceptional user experience delivered through our commercial team and a steady release of software enhancements that amplify Tablo’s operational reliability and clinical versatility. Our ability to successfully execute on this strategy, and thereby increase our revenue in the acute market, will depend on several factors. These factors include our ability to recover from the adverse impact in the field from the Warning Letter as we resume distribution of TabloCart with Prefiltration, as well as the success of our efforts to further evolve our commercial infrastructure and sales processes to support the growth of our business in the acute care market.

Expansion of Tablo within the Home Setting

We believe that a significant growth opportunity exists within the home hemodialysis market. We are partnering with innovative dialysis clinic providers, health systems and other adjacent healthcare providers who are motivated to grow their home hemodialysis population, and who share our vision of creating a seamless and supported transition to the home. We are also investing in market development over the longer term to expand the home hemodialysis market itself. The expansion of the home hemodialysis market and our ability to penetrate this market will be an important factor in driving the future growth of our business. In addition, the success of our efforts to expand within the home market, help grow new home programs and increase our revenue generated from home-based dialysis on the timeline that we anticipate will depend on several factors. These factors include our ability to further evolve our commercial infrastructure and sales processes as we scale our business in the home market.

Gross Margin

Our ability to expand our gross margins depends on: first, our ability to reduce the cost of Tablo consoles; second, our ability to continue to sell Tablo cartridges, services, and accessories for Tablo consoles; and third, our ability to reduce the cost of service. Over the past three years, we have moved the production of Tablo consoles and a majority of Tablo cartridges in-house to our manufacturing facility in Tijuana, Mexico which we operate in collaboration with TACNA as part of our cost reduction activities. This has helped further our long-term gross margin expansion and supply continuity strategies while reducing the costs of Tablo console production and improving the flexibility of our operations. We will continue our cost reduction activities by using our design, engineering, supply chain and manufacturing capabilities to help further advance and improve the efficiency of our manufacturing processes, lowering the cost of parts and components and lowering our costs of production. Further, we will continue to utilize our cloud-based data system, as well as enhanced product performance, to better support our field service team and drive down service costs per console. In addition, our ability to expand gross margins will depend in part on our ability to control the average selling prices of our products and services, including by selling higher-margin accessories, consumables and services. Our ability to expand gross margins depends on our ability to successfully execute these strategies.

Impacts of Macroeconomic Factors

Global macroeconomic conditions, including inflationary pressures, rising interest rates, increased labor costs, staffing shortages and global supply chain disruptions, may impact our business and results of operations, and those of our customers, manufacturing partners and suppliers. As the duration and severity of these macroeconomic conditions remain uncertain and depend on various factors, we cannot predict what effects these macroeconomic conditions will ultimately have on our business and results of operations, our customers, or our suppliers.

Beginning in the third quarter of 2023, we began to observe an increasing number of our existing and prospective customers deferring their decisions to purchase Tablo in an environment of rising interest rates and more cautious capital spending. These deferrals served to elongate our sales cycle and the timing of delivery and installations, which, in turn, contributed to an adverse impact on our bookings and revenues starting in the second half of 2023, and we expect these negative impacts to continue into 2024. Beginning in 2022, our existing and prospective customers faced shortages of skilled nurses and other clinical personnel as well as increased labor costs, combined with economic pressures resulting from general economic and financial market conditions, primarily escalating inflation, tightening hospital operating budgets and increased scrutiny of capital purchase decisions, all of which generally have the effect of lengthening the average sales cycle and elongating the timing of installations. These factors negatively impacted our customer base on pipeline development and installation schedules, which, in turn, negatively impacted our bookings, delayed our shipments and adversely impacted our revenues for 2022 and, to a lesser extent, 2023. We have generally seen some stabilization in these challenging labor market dynamics for healthcare providers during 2023 and thereafter as compared to 2022. Moreover, we believe Tablo offers automation and ease-of-use benefits over traditional machines that can enhance our existing and potential customers’ ability to support their patient populations despite staffing shortages. However, if our customers continue to face prolonged periods of rising interest rates, capital budget constraints, volatility, uncertainty, staffing shortages, rising costs and other financial pressures, whether due to general macroeconomic conditions or otherwise, it could ultimately adversely impact our ability to expand existing customer relationships or attract new customers of Tablo, timely collect amounts due, effectively manage our inventory levels, and have a material adverse effect on our bookings, revenues, results of operations, financial condition, and, ultimately, our future growth and profitability.

In 2022, we launched a pilot clinical and administrative services program designed to help bridge our healthcare provider customers, particularly those challenged by staffing shortages, as they transition from using an outsourced inpatient dialysis provider to offering on-site inpatient dialysis services on their own. In return for a fair market value service fee, we assign members of our own employed nurses on a temporary basis to support participating providers to launch and manage an inpatient dialysis program using Tablo and, as full-time staff is hired, to help train and onboard those nurses. However, our pilot clinical and administrative services program may not be successful in achieving the objectives we intend and anticipate, may fail to meet our customers’ expectations, may not generate sufficient returns to justify our investment, or may result in unanticipated costs, which could harm our reputation and customer relationships, and adversely impact our operating margins and results of operations.

From a supply chain perspective, we have worked closely with our manufacturing partners and suppliers to enable us to source key components and maintain appropriate inventory levels to meet customer demand, and have not experienced material disruptions in our supply chain to date. However, macroeconomic factors such as rising inflation, increasing labor costs, and surges and shifts in consumer demand have disrupted the operations of certain of our third-party suppliers, resulting, in some cases, in increased lead times and higher component costs. We believe that localizing production of a majority of Tablo cartridges in Mexico (to our Mexico-based contract manufacturer and, more recently, in-house at our manufacturing facility) has helped achieve cost reductions through lower freight costs, further our long-term gross margin expansion and supply continuity strategies and improve the flexibility of our operations. However, we may face increased supply chain constraints in the future, which could negatively impact our ability to meet customer demand on a timely basis, result in customer dissatisfaction and adversely impact our operating margins and results of operations.

Results of Operations

The following table summarizes our results of operations for the three months ended March 31, 2024 and 2023 (in thousands):

Comparison of the Three Months Ended March 31, 2024 and 2023

Revenue

(dollars in thousands)

Product revenue decreased by $7.4 million or 26% for the three months ended March 31, 2024 as compared to the same period in the prior year. This decrease was driven by a $9.7 million decrease in console revenue which was partially offset by a $2.3 million increase in consumable revenue due to the growth in our console installed base.

Service and other revenue increased by $2.1 million or 36% for the three months ended March 31, 2024 as compared to the same period in the prior year. This increase was primarily due to services associated with the growth in our console installed base.

Gross Profit and Gross Margin

(dollars in thousands)

Gross profit increased by $1.8 million or 28% for the three months ended March 31, 2024 as compared to the same period in the prior year. Gross margin improved by 10.0 percentage points for the three months ended March 31, 2024, as compared to the same period in the prior year. This improvement in gross profit and gross margin was primarily driven by a higher mix of consumable and service and other revenue, both of which had improved gross margin year over year. The higher consumable gross margin resulted from lower cost per unit and a higher average selling price for consumables. Such improvement was partially offset by a lower average selling price for consoles.

Operating Expenses

(dollars in thousands)

Research and development expenses decreased by $1.2 million or 8% for the three months ended March 31, 2024, as compared to the same period in the prior year. This decrease was primarily due to an overall decrease in compensation-related and stock-based compensation expense, consulting expense, and infrastructure costs resulting from our cost reduction efforts implemented in the fourth quarter of 2023. These decreases were partially offset by the severance and related charges recorded in the current year.

Sales and marketing expenses decreased by $3.3 million or 14% for the three months ended March 31, 2024 as compared to the same period in the prior year. The decrease was primarily driven by an overall decrease in compensation-related and stock-based compensation expense, travel, consulting and marketing expenses resulting from our cost reduction efforts implemented in the fourth quarter of 2023. These decreases were partially offset by the severance and related charges recorded in the current year and higher freight expenses due to higher volume in consumable sales.

General and administrative expenses decreased by $0.3 million or 3% for the three months ended March 31, 2024 as compared to the same period in the prior year. This decrease was primarily due to an overall decrease in consulting expenses, infrastructure costs, and compensation-related expense resulting from our cost reduction efforts implemented in the fourth quarter of 2023. Our insurance costs also decreased as compared to the prior year. These decreases were partially offset by an increase in stock-based compensation expense and the severance and related charges recorded in the current year.

Other Income (Expense), Net

(dollars in thousands)

The increase in interest income and other income, net for the three months ended March 31, 2024 as compared to the same period in the prior year was driven by higher interest rates.

The increase in interest expense for the three months ended March 31, 2024 as compared to the same period in the prior year was due to the increase in interest rate and a higher outstanding balance under the SLR Term Loan Facility in 2024.

Liquidity and Capital Resources

Sources of Liquidity

As of March 31, 2024, we had cash, cash equivalents, restricted cash and short-term investments of $230.2 million.

Since our inception, we have incurred net losses and negative cash flows from operations. To date, we have financed our operations and capital expenditures primarily through sales of redeemable convertible preferred stock and common stock, revenue from sales, debt financing, and proceeds from employee exercise of stock options and ESPP purchases.

We expect to continue to incur significant expenses for the foreseeable future and to incur operating losses in the near term while we make investments to support our anticipated growth. We may raise additional capital through the issuance of additional equity financing, debt financings, including through refinancing our existing debt, or other sources. If this financing is not available to us at adequate levels or on acceptable terms, we may need to reevaluate our operating plans. If we do raise additional capital through public or private equity offerings, the ownership interest of our existing stockholders will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect our existing stockholders’ rights. If we raise additional capital through debt financing (including through our existing debt), we will be subject to an increase in our interest expense which may negatively affect our cash flow. We also are subject to covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making capital expenditures or declaring dividends. We believe that our existing cash, cash equivalents and short-term investments, cash generated from sales, and proceeds received from the debt financing described in Note 7 of the accompanying condensed financial statements above, will be sufficient to meet our anticipated needs for at least the next 12 months from the issuance date of this Quarterly Report.

Cash Flows Summary

The following table summarizes the cash flows for each of the periods indicated (in thousands):

Operating Activities

The net cash used in operating activities of $45.9 million for the three months ended March 31, 2024 was due to a net loss of $39.9 million, the amortization of premiums on investments of $1.6 million and a net cash outflow from the change in our operating assets and liabilities of $15.5 million, which were adjusted by stock-based compensation expense of $8.2 million, depreciation and amortization of $1.5 million, non-cash interest expense of $0.6 million, provision for inventories of $0.5 million, and non-cash lease expense of $0.3 million. The net cash outflow from operating assets and liabilities was primarily driven by an increase in inventory, a decrease in accrued compensation and related benefits primarily due to annual cash bonus payouts for 2023, an increase in accounts receivable resulting from the timing of collection, and a decrease in accrued expenses and other current liabilities. The net cash outflow from operating assets and liabilities was partially offset by an increase in deferred revenue and accounts payable.

Investing Activities

The net cash used in investing activities of $59.0 million for the three months ended March 31, 2024 was due to the purchases of short-term investment securities of $98.7 million and the purchases of property and equipment of $0.4 million, which was partially offset by the maturities of short-term investment securities of $40.0 million.

Financing Activities

The net cash provided by financing activities of $68.6 million for the three months ended March 31, 2024 was due to the net proceeds of $66.5 million from borrowings under the SLR Term Loan Facility and the proceeds from employee exercises of stock options and ESPP purchases.

Critical Accounting Estimates

Management’s discussion and analysis of the financial condition and results of operations is based on the 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 that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported revenues and expenses incurred during the reporting periods. The estimates are based on historical experience and on various other factors that 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.

There have been no new or significant changes in our critical accounting estimates as compared to the critical accounting estimates disclosed in Part II Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of our 2023 Annual Report.

Our market risks related to interest rate and foreign currency exchange rates are described in Part II Item 7A, “Qualitative and Qualitative Disclosures About Market Risk” of our 2023 Annual Report. Our exposure to market risks has not changed materially since December 31, 2023.

Evaluation of Disclosure Controls and Procedures

Our management, with the participation and supervision of our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rule 13a-15(e) and 15d-15(e) under the Exchange Act as of the end of the period covered by this Quarterly Report. Our disclosure controls and procedures are designed to ensure that information required to be disclosed in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures are also designed to provide reasonable assurance that such information is accumulated and communicated to our management, including our Chief Executive Officer and the Chief Financial Officer, to allow timely decisions regarding required disclosures. Any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objective and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were effective at a reasonable assurance level as of the end of the period covered by this Quarterly Report.

Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) during our most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

You should carefully consider the risk factors discussed in Part I, “Item 1A. Risk Factors” in our 2023 Annual Report, which could materially affect our business, financial position, or future results of operations. There have been no material changes to the risk factors described in our 2023 Annual Report, except as set forth below. The risks described in our 2023 Annual Report as updated below are not the only risks that we face. Additional risks and uncertainties not precisely known to us, or that we currently deem to be immaterial, may also arise and materially impact our business. If any of these risks occur, our business, results of operations and financial condition could be materially and adversely affected and the trading price of our common stock could decline.

While we recently resumed distribution of TabloCart with Prefiltration following the FDA’s clearance of our 510(k) submission, we may continue to experience disruptions as a result of the warning letter and our prior distribution pause on TabloCart with Prefiltration.

In July 2023, we received a warning letter (the Warning Letter) from the FDA that raised two observations. The first observation asserted that certain content reviewed by the FDA and found on our website promoted CRRT, a modality outside of the current indications for Tablo. The second observation asserted that TabloCart with Prefiltration requires prior 510(k) clearance for marketing authorization. TabloCart with Prefiltration is an accessory to Tablo launched in the third quarter of 2022.

We believe the concern raised by the first observation regarding CRRT promotion has been effectively addressed through a thorough review of existing promotional materials and practices. We believe the concern raised by the second observation regarding TabloCart with Prefiltration has also been effectively addressed. Although we evaluated TabloCart with Prefiltration prior to marketing and distributing the product and concluded that no marketing authorization was necessary, we paused distribution of TabloCart with Prefiltration pending the FDA’s review and clearance of a 510(k) application that we submitted in September 2023. In early May 2024, we received 510(k) clearance from the FDA for TabloCart with Prefiltration, and we have resumed distribution of TabloCart with Prefiltration.

While we believe we have now taken appropriate measures to fully address the matters raised in the Warning Letter, we cannot guarantee that the FDA will be fully satisfied with our response or the remedial measures we have taken, or that we will not receive other warning letters or be subject to other FDA enforcement actions in the future.

Moreover, our business and operations have experienced disruptions as a result of the Warning Letter and our pause on the distribution of TabloCart with Prefiltration, including reputational harm, customer uncertainty regarding the matters addressed in the Warning Letter, diversion of management’s time and attention, as well as adverse impacts on our bookings and revenues. For example, beginning in the third quarter of 2023 and continuing through the first quarter of 2024, we observed more customers than we anticipated choosing to defer their Tablo console purchasing and installation until TabloCart with Prefiltration became available again, and we also experienced marketplace confusion in relation to the Warning Letter, particularly regarding Tablo’s range of therapeutic modalities. These factors, combined with other macroeconomic factors, served to elongate our sales cycle and the timing of delivery and installations which, in turn, had an adverse impact on our bookings and revenues for the second half of 2023 and the first quarter of 2024. Even as we resume distribution of TabloCart with Prefiltration following its FDA clearance, if we are unable to sufficiently recover from these disruptions and any reputational harm at the levels or on the timeframes we anticipate, we may experience further disruptions which could include adverse impacts on our backlog, our ability to expand customer relationships or attract new customers, as well as reduced demand for TabloCart and/or, potentially, Tablo. Any of these factors could materially and adversely affect our results of operations, financial condition and growth prospects.

If we or our suppliers fail to comply with ongoing FDA or other foreign regulatory authority requirements, or if we experience unanticipated problems with our products, these products could be subject to restrictions or withdrawal from the market.

Even though we have obtained 510(k) clearance for Tablo, it and any other product for which we obtain clearance or approval, and the manufacturing processes, post-market surveillance, post-approval clinical data and promotional activities for such product, will be subject to continued regulatory review, oversight, requirements, and periodic inspections by the FDA and other domestic and foreign regulatory bodies. In particular, we and our suppliers are required to comply with FDA’s Quality System Regulation (QSR) and other regulations enforced outside the United States which cover the manufacture of our products and the methods and documentation of the design, testing, production, control, quality assurance, labeling, packaging, storage and shipping of medical devices. The QSR requires that each manufacturer establish a quality systems program by which the manufacturer monitors the manufacturing process and maintains records that show compliance with FDA regulations and the manufacturer’s written specifications and procedures relating to the devices. QSR compliance is necessary to receive and maintain FDA clearance or approval to market new and existing products. Regulatory bodies, such as the FDA, enforce the QSR and other regulations through periodic audits and inspections. The failure by us or one of our suppliers to comply with applicable statutes and regulations administered by the FDA and other regulatory bodies, or the failure to timely and adequately respond to any adverse inspectional observations or product safety issues, could result in, among other things, any of the following enforcement actions:

• FDA untitled letters, FDA Form 483s, FDA warning letters, it has come to our attention letters, fines, injunctions, consent decrees and civil penalties;
• unanticipated expenditures to address or defend such actions
• customer notifications for repair, replacement, refunds;
• recall, detention or seizure of our products;
• operating restrictions or partial suspension or total shutdown of production;
• refusing or delaying our requests for 510(k) clearance or PMA approval of new products or modified products;
• withdrawal of 510(k) clearances or PMA approvals that have already been granted;
• refusal to grant export approval for our products; or
• criminal prosecution.

For example, the FDA conducted their first quality system inspection of our San Jose, California facility which concluded in February 2023. At completion, the FDA issued a Form FDA-483 identifying four inspectional observations. We provided our response plan to the FDA in March 2023 and have since completed the associated remediation workstreams to fully address these observations. We continue to provide the FDA with updates as to the status of these 483-related workstreams. Although we believe we are in material compliance with the QSR and have addressed the observations identified in the Form-483, there is no guarantee that subsequent inspections of our facility by the FDA or other regulatory authorities will not result in similar observations with respect to our quality system, which could adversely affect our business.

The FDA can also publish Safety Communications or Letters to Health Care Providers when the agency becomes aware of new issues involving a specific product or, or more broadly, a product family. These communications are posted on the FDA’s website and describe the FDA’s analysis of a current issue and provide specific regulatory approaches and clinical recommendations for patient management. If any of these actions were to occur it would harm our reputation and cause our product sales and profitability to suffer and may prevent us from generating revenue. Furthermore, our key component suppliers may not currently be or may not continue to be in compliance with all applicable regulatory requirements which could result in our failure to produce our products on a timely basis and in the required quantities, if at all.

In addition, we are required to conduct costly post-market testing and surveillance to monitor the safety or effectiveness of our products, and we must comply with medical device reporting requirements, including the reporting of adverse events and malfunctions related to our products.

Later discovery of previously unknown problems with our products, including unanticipated adverse events or adverse events of unanticipated severity or frequency, manufacturing problems, or failure to comply with regulatory requirements such as QSR, may result in changes to labeling, restrictions on such products or manufacturing processes, withdrawal of the products from the market, voluntary or mandatory recalls, a requirement to repair, replace or refund the cost of any medical device we manufacture or distribute, fines, suspension of regulatory approvals, product seizures, injunctions or the imposition of civil or criminal penalties which would adversely affect our business, operating results and prospects.

For example, in May 2022, the FDA published a Letter to Healthcare Providers entitled "Potential Risk of Exposure to Toxic Compounds When Using Certain Hemodialysis Machines Manufactured by Fresenius Medical Care – Letter to Health Care Providers." In that communication, the agency stated that it is evaluating the potential risk of exposure to non-dioxin-like (NDL) polychlorinated biphenyl acids (PCBAs) and NDL polychlorinated biphenyls (PCBs) with certain hemodialysis machines marketed in the United States. The FDA stated that the source of the NDL PCBAs and NDL PCBs is from the silicone tubing used as a part of the hydraulics in those machines and the dialysate lines. Although Tablo was not the subject of the FDA’s Letter to Healthcare Providers, the FDA reached out to Outset regarding the tubing used in Tablo. In a series of discussions with the FDA, the agency requested that we conduct a targeted analysis and a screening analysis on the tubing currently used in Tablo. We aligned with the FDA on testing and screening protocols prior to conducting our analysis of the data. In parallel, we filed a 510(k) application, and received subsequent 510(k) clearance from the FDA for, PCB-free silicone tubing in December 2023. As previously disclosed, in early March 2024, we proactively initiated a workstream to replace the remaining few silicone segments in new and existing Tablo consoles with the new, PCB-free, silicone tubing, and this action is well underway. In April 2024, we were notified by the FDA that it has designated this correction as a Class 1 recall, similar to the classification they have made with respect to other manufacturers whose medical devices contain NDL PCBAs and NDL PCBs with the potential of patient exposure. While we are continuing with the field correction as planned, and this recall does not at this time involve the removal of Tablo from the marketplace, the recall may nevertheless damage our reputation with customers and harm our financial results and business. Furthermore, these negative impacts could be exacerbated if the FDA publishes a safety notice specific to Tablo or subjects us to other enforcement actions.

We are highly dependent on our senior management team and key personnel, and our business could be harmed if we are unable to attract and retain personnel necessary for our success in a cost-effective manner.

We are highly dependent on our senior management, including our chief executive officer, Leslie Trigg, and other key personnel. Our success will depend on our ability to retain senior management and to attract and retain qualified personnel in the future, including sales and marketing professionals, scientists, clinical specialists, engineers and other highly skilled personnel and to integrate current and additional personnel in all departments. The loss of members of our senior management, sales and marketing professionals, scientists, clinical and regulatory specialists and engineers could result in delays in product development and harm our business. If we are not successful in attracting and retaining highly qualified personnel, or if we are unable to do so in a cost-effective manner, it would have a material adverse effect on our business, financial condition, and results of operations.

Competition for skilled personnel in our market is intense and has recently intensified further due to industry trends in many areas where our employees are located. Further, the increased availability of hybrid or remote working arrangements has expanded the pool of companies that can compete for our employees and employment candidates. Such competition may limit our ability to hire and retain highly qualified personnel on acceptable terms, or at all. We may experience higher compensation costs to retain senior management and experienced personnel that may not be offset by improved productivity. Moreover, in order to improve operational efficiencies, reduce operating expenses, and streamline our overall organizational structure, we substantially completed a restructuring of our organization in the fourth quarter of 2023, and we implemented an additional workforce reduction plan in May 2024. These recent restructurings, as well as any future restructurings, may adversely affect our ability to attract and retain employees. To induce valuable employees to remain at our company, in addition to salary and cash incentives, we have issued and may continue to issue equity awards that vest over time. The value to employees of equity awards that vest over time may be significantly affected by movements in our stock price that are beyond our control and may at any time be insufficient to counteract more lucrative offers from other companies. Despite our efforts to retain valuable employees, members of our management, scientific and development teams may terminate their employment with us on short notice. Our employment arrangements with our employees provide for at-will employment, which means that any of our employees could leave our employment at any time, with or without notice. We also do not maintain “key man” insurance policies on the lives of these individuals or the lives of any of our other employees.

Our customers are facing financial pressures including capital budget constraints, staffing shortages and increased costs, that have had, and may continue to have, a negative impact on our revenue.

Beginning in the third quarter of 2023, we began to observe an increasing number of our existing and prospective customers deferring their decisions to purchase Tablo in an environment of rising interest rates and more cautious capital spending. These deferrals served to further elongate our sales cycle and the timing of delivery and installations which in turn, contributed to an adverse impact on our bookings and revenues starting in the second half of 2023, and we expect these negative impacts to continue into 2024. Beginning in 2022, our existing and prospective customers faced shortages of skilled nurses and other clinical personnel as well as increased labor costs, combined with economic pressures resulting from general economic and financial market conditions, primarily escalating inflation, tightening hospital operating budgets and increased scrutiny of capital purchase decisions, all of which generally have the effect of lengthening the average sales cycle and elongating the timing of installations. These factors negatively impacted our customer base on pipeline development and installation schedules, which, in turn, negatively impacted our bookings, delayed our shipments and adversely impacted our revenues for 2022 and, to a lesser extent, 2023. Moreover, in February 2024, Change Healthcare, a large provider of healthcare payment systems, experienced a cyberattack on its information technology systems, causing disruptions to healthcare providers across the United States, including financial impacts such as reduced reimbursements and cash flow. We believe several of our customers experiencing these disruptions deferred both Tablo console and treatment purchases until their cash flow normalized, adversely impacting our revenues for the first quarter of 2024. If our customers continue to face prolonged periods of rising interest rates, capital budget constraints, volatility, uncertainty, staffing shortages, cash flow challenges, rising costs and other financial pressures, whether due to general macroeconomic conditions, cybersecurity events or otherwise, it could ultimately adversely impact our ability to expand existing customer relationships or attract new customers of Tablo, timely collect amounts due, effectively manage our inventory levels, and have a material adverse effect on our bookings, revenues, results of operations, financial condition, and, ultimately, our future growth and profitability.

In 2022, we launched a pilot clinical and administrative services program designed to help bridge our healthcare provider customers, particularly those challenged by staffing shortages, as they transition from using an outsourced inpatient dialysis provider to offering on-site inpatient dialysis services on their own. In return for a fair market value service fee, we assign members of our own employed nurses on a temporary basis to support participating providers to launch and manage an inpatient dialysis program using Tablo and, as full-time staff is hired, to help train and onboard those nurses. However, our pilot clinical and administrative services program may not be successful in achieving the objectives we intend and anticipate, may fail to meet our customers’ expectations, may not generate sufficient returns to justify our investment, or may result in unanticipated costs, which could harm our reputation and customer relationships and adversely impact our operating margins and results of operations.