Mimedx Group, Inc.: Form 10-Q for the period ended Sep 30, 2023

Overview

MIMEDX is a pioneer and leader in placental biologics focused on delivering innovative solutions to patients and the healthcare professionals who treat them. With more than a decade of experience helping clinicians manage acute and chronic wounds, MIMEDX has been dedicated to providing a leading portfolio of products for applications in the wound care, burn, and surgical sectors of healthcare. All of our products sold in the United States are regulated by the U.S. Food & Drug Administration (“FDA”). We apply Current Good Tissue Practices (“CGTP”) standards in addition to terminal sterilization to produce our allografts.

During the three and nine months ended September 30, 2023, we operated under two defined internal business units: Wound & Surgical and Regenerative Medicine.

The Wound & Surgical business focuses on the Advanced Wound Care and Surgical Recovery markets through sales of our existing product portfolio and product development to serve these primary end markets. This business unit is responsible for substantially all sales of our Advanced Wound Care products, as well as the sale outside the United States of America of our micronized and certain other particulate products subject to regulation under Section 351 of the Public Health Service Act and related regulations (“Section 351”).

On June 20, 2023, we announced a plan to disband our Regenerative Medicine business unit and the suspension of our knee osteoarthritis (“KOA”) clinical trial program (the “Restructuring”) given the substantial uncertainties surrounding clinical trial costs and outcomes, as well as regulatory pathways and timing. The Company anticipates that Restructuring-related activities will materially conclude in the fourth quarter of 2023.

This discussion, which presents our results for the three and nine months ended September 30, 2023 and 2022, should be read in conjunction with our financial statements and accompanying notes in this Form 10-Q and the financial statements and accompanying notes thereto and Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022.

Executive Summary

During the third quarter ended September 30, 2023, the Company experienced broad-based growth in net sales, with contributions from each of its site-of-service categories. Much of this momentum was driven by strong commercial execution, including the acquisition of new customers and continued uptake in new products we launched in the second half of 2022, despite uncertainty in reimbursement policy for Medicare billings in the Private Office care setting. Recent operating and financial highlights include:

• Third quarter 2023 net sales of $81.7 million, an increase of 20.7% over third quarter 2022.
• GAAP net income of $8.5 million for third quarter 2023.
• Launched EPIEFFECT™, the latest addition to MIMEDX’s portfolio of Advanced Wound Care products.
• Announced $9.5 million repurchase of 5,000 shares of Series B Preferred Stock held by Hayfin Services, LLP (“Hayfin”) and its affiliates.

Results of Operations

Three Months Ended September 30, 2023 Compared to the Three Months Ended September 30, 2022

Total Company

(in thousands)

1

Net Sales

We recorded net sales for the three months ended September 30, 2023 of $81.7 million, a $14.0 million, or 20.7%, increase compared to the three months ended September 30, 2022, in which we recognized net sales of $67.7 million. Net sales in all care settings had one fewer shipping day during the three months ended September 30, 2023 compared to the same period in 2022.

Our sales by care setting were as follows (in thousands):

Net sales in the Hospital care setting were $47.4 million for the three months ended September 30, 2023, a $7.2 million or 17.9% increase compared to $40.2 million for the three months ended September 30, 2022. The increase was primarily driven by sales of our new products introduced during the third quarter of 2022.

Net sales in the Private Office care setting grew by $3.4 million, or 17.3%, to $23.0 million for the three months ended September 30, 2023, compared to $19.6 million for the three months ended September 30, 2022. The increase reflects general increases in sales volume, driven by strong commercial execution.

Net sales in Other care settings increased by $3.5 million, or 43.7%, to $11.4 million for the three months ended September 30, 2023, compared to $7.9 million for the three months ended September 30, 2022. The increase was the result of the addition of new customers and general increases in sales volume, driven by strong commercial execution.

Cost of Sales and Gross Profit Margin

Cost of sales for the three months ended September 30, 2023 and 2022 were $14.8 million and $12.2 million, respectively, an increase of $2.6 million, or 21.3%. Increases in cost of sales were driven by increases in sales volume as noted above.

Gross profit margin for the three months ended September 30, 2023 was 81.9% compared to 82.0% for the three months ended September 30, 2022. Gross profit margin was roughly flat versus the prior year period due to improvements in yield, partially offset by production variances.

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Selling, General and Administrative Expense

Selling, general and administrative (“SG&A”) expense for the three months ended September 30, 2023 was $52.6 million, compared to $53.5 million for the three months ended September 30, 2022, a decrease of $0.9 million, or 1.7%. The decrease in SG&A expense was due to decreases in professional service costs and personnel costs. Lower professional services expense resulted from a decline in fees paid to third party advisers during the three months ended September 30, 2022. The decrease in personnel costs reflects the results of our continued cost reduction efforts which began during the third quarter of 2022, together with the impact of higher comparative severance expense associated with the departure of our former CEO in the third quarter of 2022, as well as lower stock-based compensation. These decreases were offset by increases in commissions due to higher sales volumes for three months ended September 30, 2023.

Research and Development Expense

Our research and development expense decreased by $2.8 million, or 46.7%, to $3.2 million for the three months ended September 30, 2023, compared to $6.0 million for the three months ended September 30, 2022. The decline resulted from the disbanding of our Regenerative Medicine business unit lowering personnel and clinical trial expenses for three months ended September 30, 2023 and from decreases in expenses associated with the testing and development of new products launched during the three months ended September 30, 2022.

Restructuring Expense

Restructuring expense of $0.2 million for the three months ended September 30, 2023 reflects certain charges related to our Regenerative Medicine business unit wind-down activities, primarily associated with clinical trial regulatory obligations.

Investigation, Restatement and Related Expense

Investigation, restatement and related expense for the three months ended September 30, 2023 was immaterial compared to $3.0 million for the three months ended September 30, 2022. The decrease was primarily related to negotiated reductions in legal fees previously incurred under indemnification agreements with certain former members of management year-over-year. In addition, following the end of a legal proceeding, expenses under our last material indemnification agreement with our former chief financial officer substantially ceased during the third quarter of 2023.

Amortization of Intangible Assets

Amortization expense related to intangible assets was $0.2 million for each of the three months ended September 30, 2023 and 2022.

Interest Expense, Net

Interest expense, net was $1.7 million for the three months ended September 30, 2023 compared to $1.3 million for the three months ended September 30, 2022, an increase of $0.4 million, or 32.3%. The increase was the result of year-over-year increases in the reference market interest rates on our outstanding debt.

Income Tax Provision Benefit (Expense)

The effective tax rates for the Company were 6.5% and (0.6)% for the three months ended September 30, 2023 and September 30, 2022, respectively. The Company's net income is partially offset by net operating losses and research and development tax credits, in accordance with the 2018 Tax & Jobs Act legislation.

Nine Months Ended September 30, 2023 Compared to the Nine Months Ended September 30, 2022

Total Company

(in thousands)

Net Sales

We recorded net sales for the nine months ended September 30, 2023 of $234.6 million, a $41.2 million, or 21.3%, increase compared to the nine months ended September 30, 2022, for which we recorded net sales of $193.5 million. Net sales for the nine months ended September 30, 2023 in all sites of service benefited from the alleviation of the Omicron wave of the Covid-19 Pandemic, which adversely impacted sales during the nine months ended September 30, 2022. There was one fewer shipping day during the nine months ended September 30, 2023 compared to the same period in 2022.

Our sales by care setting were as follows (in thousands):

Net sales in the Hospital care setting were $136.1 million for the nine months ended September 30, 2023, a $20.0 million or 17.3% increase compared to $116.1 million for the nine months ended September 30, 2022. The increase was primarily driven by sales of our new products introduced during the third quarter of 2022.

Net sales in the Private Office care setting grew by $13.4 million, or 24.5%, to $68.2 million for the nine months ended September 30, 2023, compared to $54.8 million for the nine months ended September 30, 2022. The increase reflects general increases in sales volume, driven by strong commercial execution.

Net sales in Other care settings increased by $7.7 million, or 34.2%, to $30.3 million for the nine months ended September 30, 2023 compared to $54.8 million for the nine months ended September 30, 2022. The increase was primarily driven by the addition of new customers in certain sites of service and sales of EPIFIX in Japan.

Cost of Sales and Gross Profit Margin

Cost of sales for the nine months ended September 30, 2023 was $40.8 million, an increase of $6.8 million, or 20.2%, compared to $33.9 million for the nine months ended September 30, 2022. Increases in cost of sales were driven by increases in sales volume noted above.

Gross profit margin for the nine months ended September 30, 2023 and 2022 was 82.6% and 82.5%, respectively.

Selling, General and Administrative Expense

SG&A expense for the nine months ended September 30, 2023 decreased by $2.1 million, or 1.3%, to $156.8 million, compared to $158.8 million for the nine months ended September 30, 2022. The decrease was driven by decreases in professional services expenses, personnel costs and bad debt expense. The decrease in professional services expenses reflects $2.1 million in consulting and advisory expenses related to a withhold the vote campaign launched by a shareholder together with fees paid to other third-party advisers in 2022. There were no similar activities during 2023. The decrease in personnel costs reflects the results of our continued cost reduction efforts that began in the third quarter of 2022. Increases in stock based compensation were offset by reduced severance expense in 2023 compared to the expense associated with the departure of our former CEO in 2022. Finally, the decrease in bad debt expense was the result of the greater deterioration of credit for certain specific customers in 2022 compared to 2023.

These decreases were offset in part by increases in sales commissions, driven by increases in sales volumes, as well as, greater travel expenses, reflecting the removal of COVID-19 travel restrictions that were in place in 2022.

Research and Development Expense

Our research and development expenses increased by $0.7 million, or 4.2%, to $18.2 million for the nine months ended September 30, 2023, compared to $17.4 million for the nine months ended September 30, 2022. The increase reflects clinical trial expenses ramping up in the first half of 2023, including associated personnel costs offset in part by the disbanding of our Regenerative Medicine business unit from June 20, 2023.

Investigation, Restatement and Related Expense

Investigation, restatement and related expenses for the nine months ended September 30, 2023 decreased by $4.1 million, or 47.0%, to $4.7 million compared to $8.8 million for the nine months ended September 30, 2022. The decrease was primarily related to negotiated reductions in legal fees previously incurred under indemnification agreements with certain former members of management year-over-year. In addition, following the end of a legal proceeding, expenses under our last material indemnification agreement substantially ceased during the third quarter of 2023.

Amortization of Intangible Assets

Amortization expense increased from $0.5 million for the nine months ended September 30, 2022 to $0.6 million for the nine months ended September 30, 2023.

Restructuring Expense

Restructuring expense of $3.5 million for the nine months ended September 30, 2023 reflects certain charges related to the disbanding of our Regenerative Medicine business unit, including write-downs of prepaid clinical trial assets of $2.1 million, charges for the wind-down of our KOA clinical trial program of $0.8 million, and impairment of goodwill of $0.5 million.

Interest Expense, Net

Interest expense, net was $4.9 million for the nine months ended September 30, 2023 compared to $3.6 million for the nine months ended September 30, 2022. The increase was the result of year-over-year increases in the reference market interest rates on our outstanding debt.

Income Tax Provision Benefit (Expense)

The effective tax rates for the Company were 10.7% and (0.6)% for the nine months ended September 30, 2023 and 2022, respectively. The Company's net income is partially offset by prior net operating losses and research and development tax credits, in accordance with the 2018 Tax & Jobs Act legislation.

Discussion of Cash Flows

Operating Activities

Net cash provided by operating activities during the nine months ended September 30, 2023 was $16.5 million, compared to cash used of $12.3 million for the nine months ended September 30, 2022. The change was primarily the result of year-over-year increases in net sales, which drove increases in collections from customers, as well as year-over-year decreases in operating expenses.

Investing Activities

Net cash used for investing activities during the nine months ended September 30, 2023 was $1.7 million, compared to $1.0 million for the nine months ended September 30, 2022. This increase reflects a $0.7 million year-over-year increase in capital expenditures.

Financing Activities

Net cash provided by financing activities during the nine months ended September 30, 2023 was $0.4 million. Cash used in financing activities was $0.6 million during the nine months ended September 30, 2022. We ceased withholding shares to satisfy employee tax obligations upon vesting of equity awards in 2022. Accordingly, we did not have any cash paid for tax withholdings during the nine months ended September 30, 2023, compared to $1.2 million for the nine months ended September 30, 2022. This effect was offset by $0.6 million of cash receipts from option exercises in the nine months ended September 30, 2022, compared to $0.4 million of cash receipts from option exercises in the nine months ended September 30, 2023.

Liquidity and Capital Resources

Our business requires capital for our operating activities, including costs associated with the sale of product through direct and indirect sales channels, the conduct of research and development activities, compliance costs, and legal and consulting fees in connection with ongoing litigation and other matters.

As of September 30, 2023, we had $81.2 million of cash and cash equivalents, total current assets of $154.5 million and total current liabilities of $43.6 million, reflecting a current ratio of 3.5.

We are currently paying our obligations in the ordinary course of business.

We anticipate cash requirements related to the following items within one year of the date of the filing of this Quarterly Report:

• investments to advance and expand our existing product portfolio;
• expenditures required to achieve necessary regulatory approval and establish operations in new markets deemed strategically important toward the enhancement of our global footprint;
• costs to wind-down certain contracts associated with our KOA clinical trial program; and
• severance payments related to certain former members of management and other employees.

We have analyzed our ability to address these commitments and potential liabilities for the 12 months extending from the date of the filing of this Quarterly Report. After completing this analysis, which included a review of expectations of revenue, margins, and expenses, we believe that our existing cash and cash from operations will be sufficient to meet our obligations as they come due.

Term Loan

On June 30, 2020, we entered into a Loan Agreement with, among others, Hayfin Services, LLP, (“Hayfin”) an affiliate of Hayfin Capital Management, LLP (as amended, the “Hayfin Loan Agreement”), under which Hayfin provided us with a senior secured term loan of $50 million (the “Term Loan”). The Term Loan matures on June 30, 2025 (the “Maturity Date”).

No principal payments are due on the Term Loan until the Maturity Date. Interest is payable on the Term Loan for principal outstanding quarterly through the Maturity Date. Pursuant to Amendment No. 2 to the Loan Agreement entered into in June 2023, interest on any borrowings under the Term Loan is equal to the Secured Overnight Finance Rate (“SOFR”), plus a fallback provision of 0.15%, subject to a floor of 1.5%, plus a margin of 6.75%. An additional 3.0% margin would be applied to the interest rate upon the occurrence of an Event of Default, as defined in the Hayfin Loan Agreement. As of September 30, 2023, the Term Loan carried an interest rate of 12.3%.

The Hayfin Loan Agreement contains certain financial covenants, including a Minimum Consolidated Total Net Sales covenant, tested quarterly, and a Minimum Liquidity covenant, tested monthly (each as defined). In addition, the Hayfin Loan Agreement includes certain negative covenants and events of default customary for facilities of this type. Upon the occurrence of such events of default, all outstanding loans under the Hayfin Loan Agreement may be accelerated or the lenders’ commitments terminated. The Hayfin Loan Agreement also specifies mandatory prepayments based on a percentage of Excess Cash Flow (as defined in the Hayfin Loan Agreement, if such is generated), as well as upon the occurrence of other events specified in the Hayfin Loan Agreement.

As of September 30, 2023, we were in compliance with all financial covenants under the Hayfin Loan Agreement. A breach of a financial covenant in the Hayfin Loan Agreement, if uncured or unable to be cured, would likely result in an event of default that could trigger the lenders’ remedies, including acceleration of the entire principal balance of the loan as well as any applicable prepayment premiums.

Series B Preferred Stock

We have 100,000 shares of Series B Preferred Stock outstanding as of September 30, 2023.

The Series B Preferred Stock accumulates dividends at a rate of 6.0% per annum. Dividends are declared at the sole discretion of our Board of Directors. Dividends, if declared, are paid in cash at the end of each quarter based on dividend amounts that accumulate beginning on the last payment date through the day prior to the end of each quarter. In lieu of paying a dividend, we may elect to accrue the dividend owed to shareholders. Dividend balances accumulate at the prevailing dividend rate for each dividend period during which they are outstanding.

Each share of Series B Preferred Stock, including any accrued and unpaid dividends, is convertible into our common stock at any time at the option of the holder at a conversion price of $3.85 per common share. The Series B Preferred Stock converts automatically at any time after July 2, 2023, provided that the volume-weighted average price of a share of our common stock is $7.70 or higher (i) for 20 out of 30 consecutive trading days, and (ii) on such date of conversion.

If we undergo a change of control, we will have the option to repurchase some or all of the then-outstanding shares of Series B Preferred Stock for cash in an amount equal to the liquidation preference and any accumulated and unpaid dividends. If we do not exercise this right, holders of the Series B Preferred Stock will have the option to (1) require us to repurchase any or all of their then-outstanding shares of Series B Preferred Stock in an amount equal to the liquidation preference plus unpaid dividends, or (2) convert the Series B Preferred stock into common stock and receive their pro rata consideration thereunder.

We have not declared or paid any cash dividends on our Series B Preferred Stock since issuance. Dividends accumulated but not paid as of September 30, 2023 were $19.0 million. The Series B Preferred Stock was convertible into 30,906,441 shares of common stock as of September 30, 2023

Share Repurchases

We did not repurchase any shares of our common stock during the three months ended September 30, 2023. The timing and amount of future repurchases, if any, will depend upon our stock price, economic and market conditions, regulatory requirements, and other corporate considerations. We may initiate, suspend or discontinue purchases at any time.

On October 27, 2023, we repurchased 5,000 shares of Series B Preferred Stock held by certain entities managed by or affiliated with Hayfin Capital Management, LLP for $9.5 million in cash.

Contractual Obligations

Except as described below and as previously disclosed in our Quarterly Report for the three months ended March 31, 2023, there were no significant changes to our contractual obligations during the nine months ended September 30, 2023 from those disclosed in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results from Operations”, in our 2022 Form 10-K.

Nordic Agreement

In June 2022, we entered into a collaboration agreement (the “Nordic Agreement”) with Nordic Bioscience Clinical Development A/S (“NBCD”) to provide full operational support for our KOA clinical trial program. Under the terms of the Nordic Agreement, we were obligated to pay $10.2 million upon the achievement of specified milestones over the course of the clinical trial.

During the three months ended September 30, 2023, the Company terminated the Nordic Agreement. Pursuant to the Nordic Agreement, the Company is obligated to reimburse NBCD for services performed through the effective termination date and for non-cancelable obligations reasonably incurred prior to that date. In addition, the Company and NBCD have certain regulatory obligations to all trial participants enrolled in the study prior to the suspension of clinical trial activities. Refer to Note 16, “Restructuring,” for additional discussion.

Critical Accounting Estimates

In preparing financial statements, we follow accounting principles generally accepted in the United States, which require us to make certain estimates and apply judgments that affect our financial position and results of operations. We regularly review our accounting policies and financial information disclosures. A summary of critical accounting estimates in preparing the financial statements was provided in our 2022 Form 10-K.

In addition, during the period covered by this Quarterly Report, we identified the following critical accounting estimates which were not material to the 2022 Form 10-K.

Share-Based Compensation Expense

Description

We measure stock options and other stock-based awards granted to employees based on their fair value on the date of the grant and recognize the assessed fair value as share-based compensation expense, straight-line, over the requisite service period to achieve the award based on the vesting requirements, to the extent that the achievement of performance conditions associated with such awards, as applicable, are determined to be “probable.”

Judgments and Uncertainties

Share-based payment arrangements are measured at fair value on the grant date. The fair value of equity incentive awards, which are usually shares of our common stock, are generally measured at the last trading price on the grant date.

The fair value of stock options is calculated using an appropriate valuation technique. The valuation technique generally requires us to make certain assumptions, including (1) the fair value of the common stock, (2) the expected volatility of our stock price, (3) the expected term of the award, (4) the risk-free interest rate, and (5) expected dividends. Our expectation for volatility is generally based on historical daily share price movements, with certain adjustments for abnormal share price activity associated with events which are not expected to recur during the expected term. The expected term of the award requires us to make assumptions regarding the post-vesting behavior of the recipients, which is based off available evidence. Our assumption for the risk-free rate is derived from prevailing U.S. Treasuries with similar terms to the award on the grant date. Our assumption for dividends is derived from our own dividend history.

To the extent that any such awards are subject to a market condition, the resolution of the market condition is reflected in the fair value of the grant date. Further, the requisite service period associated with an award containing a market condition must derive the service period over which the market condition is expected to be met. Fair value and derived service periods are generally determined using a Monte Carlo simulation.

Subsequent to the determination of fair value, we recognize expense to the extent we evaluate that performance conditions associated with share-based payment arrangements are probable of occurring. In certain cases where the extent of vesting is based on the extent of achievement, we are required to determine the extent to which achievement is probable. We determine probable performance based on actual performance to date, internally-developed budgets and forecasts for periods covered by the relevant performance condition, and other evidence deemed relevant to this determination. We re-evaluate our probability assessments at least quarterly, with any revisions reflected as a cumulative adjustment to expense. Because of the cumulative nature of adjustments, during any period in which we re-evaluate probability, the adjustments could significantly impact our results of operations.

Sensitivity of Estimate to Change

During the nine months ended September 30, 2023, we granted stock options with a fair value on the grant date of $7.0 million. This estimate was determined using a Monte Carlo simulation using the following inputs:

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The granted stock options reflected an expected term based on our expectations for exercise activity. Changes in any of these assumptions could result in a revised estimate of fair value of the granted stock options, which would impact the amount of expense recognized over the requisite service period, and could materially affect the total fair value or the amount of expense recognized in a particular period.

In addition, cumulative expense recognized for unvested performance stock unit awards was $1.6 million as of September 30, 2023. This is based on determinations regarding probable resolution or the extent of probable resolution of relevant performance conditions to earn such awards. If it is subsequently determined that the performance conditions associated with these awards are no longer probable of being met, or performance conditions which were determined to be probable of occurring do not actually occur, we could reverse up to this amount of expense in the period such determination is made. Furthermore, if probable levels of achievement are later determined to be greater, or actual achievement exceeds the level of achievement assessed as probable, we could record increases to expense to reflect this level of achievement. The amount of any incremental expense recognition or reversal will depend on the magnitude and timing of such change in estimate.

Recent Accounting Pronouncements

For the effect of recent accounting pronouncements, see Note 2, “Significant Accounting Policies”, to the unaudited condensed consolidated financial statements contained herein.

We are exposed to risks associated with changes in interest rates that could adversely affect our results of operations and financial condition. We do not hedge against interest rate risk.

The interest rate on our Term Loan is determined quarterly based on the 3-month SOFR rate, subject to a floor of 1.5%. As of September 30, 2023, the interest rate on our Term Loan was 12.3%. A 100 basis point change in SOFR, to the extent that such change would not cause SOFR to be below the 1.5% floor, would change our interest expense by $0.5 million on an annualized basis.

During the three and nine months ended September 30, 2023, we incurred $0.4 million and $1.3 million in incremental interest expense compared to the equivalent periods in the prior year resulting from increases in the relevant reference rate during the intervening period.

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended, or the Exchange Act) as of the end of the period covered by this report. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures as of the end of the period covered by this report were effective at a reasonable assurance level in ensuring that information required to be disclosed by us in reports that we file or submit under the Exchange Act (i) is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and (ii) accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely discussions regarding required disclosure. We believe that a control system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the control system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected.

Changes in Internal Control over Financial Reporting

There was no change in our internal control over financial reporting (as defined in Rule 13a-15(f) and 15d-15(f) of the Exchange Act) that occurred during the fiscal quarter ended September 30, 2023 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.