# Arcutis Biotherapeutics, Inc.: Form 10-Q for the period ended Sep 30, 2023

- Company: [Arcutis Biotherapeutics, Inc.](/companies/arqt.md) (CIK 1787306)
- Form: 10-Q
- Filed: 2023-11-03
- Accepted by EDGAR: Nov 3, 2023, 07:36 ET
- Period: 2023-09-30
- Accession: 0001787306-23-000124
- Inline XBRL: yes
- Main document: https://www.sec.gov/Archives/edgar/data/1787306/000178730623000124/arqt-20230930.htm
- All documents and exhibits: https://www.sec.gov/Archives/edgar/data/1787306/000178730623000124/

## Figures reported in this filing

Standardized XBRL line items for the period ended 2023-09-30.

| Line item | Period | Value | XBRL concept |
| --- | --- | ---: | --- |
| Research and development | 3 months, 2023-07-01 to 2023-09-30 | $26.2m | us-gaap:ResearchAndDevelopmentExpense |
| Research and development | 9 months, 2023-01-01 to 2023-09-30 | $86.8m | us-gaap:ResearchAndDevelopmentExpense |
| Selling, general and administrative | 3 months, 2023-07-01 to 2023-09-30 | $47.6m | us-gaap:SellingGeneralAndAdministrativeExpense |
| Selling, general and administrative | 9 months, 2023-01-01 to 2023-09-30 | $136.5m | us-gaap:SellingGeneralAndAdministrativeExpense |
| Operating income | 3 months, 2023-07-01 to 2023-09-30 | −$36.9m | us-gaap:OperatingIncomeLoss |
| Operating income | 9 months, 2023-01-01 to 2023-09-30 | −$179.9m | us-gaap:OperatingIncomeLoss |
| Interest expense | 3 months, 2023-07-01 to 2023-09-30 | $7.6m | us-gaap:InterestExpense |
| Interest expense | 9 months, 2023-01-01 to 2023-09-30 | $21.9m | us-gaap:InterestExpense |
| Income tax | 3 months, 2023-07-01 to 2023-09-30 | $3.0m | us-gaap:IncomeTaxExpenseBenefit |
| Income tax | 9 months, 2023-01-01 to 2023-09-30 | $3.1m | us-gaap:IncomeTaxExpenseBenefit |
| Net income | 3 months, 2023-07-01 to 2023-09-30 | −$44.8m | us-gaap:NetIncomeLoss |
| Net income | 9 months, 2023-01-01 to 2023-09-30 | −$195.9m | us-gaap:NetIncomeLoss |
| Diluted EPS | 3 months, 2023-07-01 to 2023-09-30 | −$0.73 | us-gaap:EarningsPerShareDiluted |
| Diluted EPS | 9 months, 2023-01-01 to 2023-09-30 | −$3.19 | us-gaap:EarningsPerShareDiluted |
| Basic EPS | 3 months, 2023-07-01 to 2023-09-30 | −$0.73 | us-gaap:EarningsPerShareBasic |
| Basic EPS | 9 months, 2023-01-01 to 2023-09-30 | −$3.19 | us-gaap:EarningsPerShareBasic |
| Diluted shares (weighted) | 3 months, 2023-07-01 to 2023-09-30 | 61,727,278 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Diluted shares (weighted) | 9 months, 2023-01-01 to 2023-09-30 | 61,462,025 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Operating cash flow | 9 months, 2023-01-01 to 2023-09-30 | −$190.8m | us-gaap:NetCashProvidedByUsedInOperatingActivities |
| Capital expenditure | 9 months, 2023-01-01 to 2023-09-30 | $422.0k | us-gaap:PaymentsToAcquirePropertyPlantAndEquipment |
| Cash and equivalents | at 2023-09-30 | $107.5m | us-gaap:CashAndCashEquivalentsAtCarryingValue |
| Current assets | at 2023-09-30 | $281.5m | us-gaap:AssetsCurrent |
| Total assets | at 2023-09-30 | $293.0m | us-gaap:Assets |
| Current liabilities | at 2023-09-30 | $41.9m | us-gaap:LiabilitiesCurrent |
| Total liabilities | at 2023-09-30 | $246.2m | us-gaap:Liabilities |
| Long-term debt | at 2023-09-30 | $200.8m | us-gaap:LongTermDebtNoncurrent |
| Shareholders' equity | at 2023-09-30 | $46.7m | us-gaap:StockholdersEquity |

## Management's discussion and analysis

As filed, 56,909 characters.

*The following discussion and analysis of our financial condition and results of operations should be read together with our unaudited condensed* consolidated *financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q, and the audited financial statements and notes thereto as of and for the year ended December 31, 2022 and the related Management's Discussion and Analysis of Financial Condition and Results of Operations, both of which are contained in our Annual Report on Form 10-K for the year ended December 31, 2022, which has been filed with the Securities and Exchange Commission (SEC). Some of the information contained in this discussion and analysis or set forth elsewhere in this Quarterly Report on Form 10-Q, including information with respect to our plans, objectives, expectations, projections, and strategy for our business, includes forward-looking statements that involve risks and uncertainties. These statements are often identified by the use of words such as “may,” “will,” “expect,” “believe,” “anticipate,” “intend,” “could,” “should,” “estimate,” or “continue,” and similar expressions or variations. Such forward-looking statements are subject to risks, uncertainties, and other factors that could cause actual results and the timing of certain events to differ materially from future results expressed or implied by such forward-looking statements. As a result of many factors, including those factors identified below and those set forth in the “Risk Factors” section of our Annual Report on Form 10-K, our actual results and the timing of selected events could differ materially from the forward-looking statements contained in the following discussion and analysis.*

### Overview

We are an early commercial-stage biopharmaceutical company focused on developing and commercializing treatments for dermatological diseases with high unmet medical needs. Our current portfolio is comprised of highly differentiated topical and systemic treatments with significant potential to treat immune-mediated dermatological diseases and conditions. We believe we have built the industry's leading platform for dermatologic product development and commercialization. Our strategy is to focus on validated biological targets, and to use our drug development platform and deep dermatology expertise to develop differentiated products that have the potential to address the major shortcomings of existing therapies in our targeted indications. We believe this strategy uniquely positions us to rapidly advance our goal of bridging the treatment innovation gap in dermatology, while maximizing our probability of technical success and financial resources.

We launched our lead product, ZORYVE, in August 2022 after obtaining our original U.S. Food and Drug Administration (FDA) approval for the treatment of plaque psoriasis, including psoriasis in the intertriginous areas (e.g. groin or axillae), in individuals 12 years of age or older. ZORYVE is approved for once-daily treatment of mild, moderate, and severe plaque psoriasis with no limitations on location or duration of use. In October 2023, we received FDA approval for an expanded indication in plaque psoriasis down to 6 years of age. We are currently working with the FDA to potentially further expand this indication in plaque psoriasis down to 2 years of age. In addition, we had our first commercial launch outside of the United States after receiving regulatory approval from Health Canada of ZORYVE in April 2023 for the treatment of plaque psoriasis in individuals 12 years or age or older. ZORYVE is a once-daily topical formulation of roflumilast, a highly potent and selective phosphodiesterase-4 (PDE4) inhibitor. PDE4 is an established biological target in dermatology, with multiple PDE4 inhibitors approved by the FDA for the treatment of dermatological conditions.

In addition to the approval of ZORYVE for plaque psoriasis, we are also developing roflumilast cream for the treatment of atopic dermatitis. In atopic dermatitis, we have successfully completed three pivotal Phase 3 clinical studies: INTEGUMENT-1 and -2 enrolled subjects 6 years of age or older and INTEGUMENT-PED enrolled subjects between the ages of 2 and 5 years. We also initiated INTEGUMENT-OLE, an open label extension study of the long-term safety of roflumilast cream 0.15% in individuals 6 years of age or older and roflumilast cream 0.05% in subjects between the ages 2 and 5 years. In the fourth quarter of 2022, we announced positive topline data from both INTEGUMENT-1 and -2 in atopic dermatitis, and in September 2023, we announced positive topline data from INTEGUMENT-PED and positive interim results from INTEGUMENT-OLE. In September 2023, we also submitted a supplemental new drug application (“sNDA”) for topical roflumilast 0.15% for the treatment of mild-to-moderate atopic dermatitis in individuals 6 years of age or older, creating potential for FDA action as early as the third quarter of 2024. Based on the positive results from the INTEGUMENT-PED study in September 2023, we expect to submit a subsequent sNDA for children ages 2 to 5 years of age following the potential initial approval of roflumilast cream 0.15% for treatment of mild-to-moderate atopic dermatitis in individuals 6 years of age or older.

We are also developing a topical foam formulation of roflumilast and have successfully completed pivotal Phase 3 clinical trials in both seborrheic dermatitis and scalp and body psoriasis. In seborrheic dermatitis, the FDA accepted our New Drug Application (NDA) for the treatment of moderate-to-severe seborrheic dermatitis in April 2023 with a target action date of December 16, 2023. If approved, we would expect to launch roflumilast foam for the treatment of seborrheic dermatitis in the first quarter of 2024. In scalp and body psoriasis, we announced positive topline data in September 2022 and we expect the data to be a sufficient basis for an sNDA submission following the potential approval of roflumilast foam for treatment of seborrheic dermatitis.

Beyond topical roflumilast, we are developing ARQ-255, a deep-penetrating topical formulation of ivarmacitinib, a potent and highly selective topical Janus kinase type 1 (JAK1) inhibitor, designed to preferentially deliver the drug deep into the hair follicle, the site of inflammation in alopecia areata, in order to potentially develop the first topical treatment for this disease. In December 2022, we announced that the first subject had been enrolled in a Phase 1b study evaluating ARQ-255 for the treatment of alopecia areata. The first subject in the alopecia areata cohort enrolled in the second quarter of 2023.

In September 2022, we acquired Ducentis and its lead asset, DS-234 (now ARQ-234), a fusion protein that is a potent and highly selective checkpoint agonist of the CD200 Receptor (CD200R). Currently in the preclinical stage, we plan to develop ARQ-234 in atopic dermatitis, where we believe it could be a potentially highly complementary biologic treatment option to roflumilast cream in that indication, if approved. ARQ-234 could potentially be used to treat other inflammatory conditions as well.

Since our inception in 2016, we have invested a significant portion of our efforts and financial resources in clinical development activities. We only recently started generating revenue from product sales and have historically funded our operations primarily with the net proceeds from equity and debt offerings. Prior to 2023, we received approximately $827.2 million in net cash proceeds through equity offerings, approximately $195.2 million in net proceeds under the Loan Agreement with SLR, and $14.5 million in net proceeds related to shares issued under our ATM. See Notes 1 and 8 to the condensed consolidated financial statements for additional information.

We have incurred net losses in each year since inception, including net losses of $44.8 million and $107.7 million for the three months ended September 30, 2023 and 2022, respectively, and net losses of $195.9 million and $239.4 million for the nine months ended September 30, 2023 and 2022, respectively. As of September 30, 2023, we had an accumulated deficit of $915.6 million and cash, cash equivalents, restricted cash, and marketable securities of $228.0 million. On October 24, 2023, we completed a public offering of shares of our common stock and prefunded warrants to purchase shares of our common stock, and received net proceeds of $94.0 million. As of September 30, 2023, we had $200.0 million outstanding under the Loan Agreement.

We expect to continue to incur losses and significant expenses as we commercialize ZORYVE in psoriasis and as we advance our product candidates and label extensions through clinical trials, regulatory submissions, and commercialization. We expect to incur significant and prioritized commercialization expenses related to the sales, marketing, manufacturing, and distribution of ZORYVE, while we focus our clinical development spend on ARQ-234, ARQ-255, and ZORYVE label extensions, if we obtain regulatory approval for them. If our available cash and marketable securities balances, amounts available under the Loan Agreement, and anticipated future cash flows from operations are insufficient to cover these expenses, we may need to fund our operations through equity or debt financings or other sources, such as future potential collaboration agreements. Adequate funding may not be available to us on acceptable terms, or at all. Any failure to obtain sufficient funds on acceptable terms as and when needed could have a material adverse effect on our business, results of operations, and financial condition. See “Liquidity, Capital Resources, and Requirements” below and Note 1 to the condensed consolidated financial statements for additional information.

We rely on third parties in the conduct of our nonclinical studies and clinical trials and for manufacturing and supply of our product candidates. We have no internal manufacturing capabilities, and we will continue to rely on third parties, many of whom are single source suppliers, for our nonclinical and clinical trial materials, as well as the commercial supply of our products.

### License Agreements & Acquisition

### AstraZeneca License Agreement

In July 2018, we entered into the AstraZeneca License Agreement with AstraZeneca, granting us a worldwide exclusive license, with the right to sublicense through multiple tiers, under certain AstraZeneca-controlled patent rights, know-how and regulatory documentation, to research, develop, manufacture, commercialize, and otherwise exploit products containing roflumilast in topical forms, as well as delivery systems sold with or for the administration of roflumilast, or collectively, the AZ-Licensed Products, for all diagnostic, prophylactic and therapeutic uses for human dermatological indications, or the Dermatology Field. Under this agreement, we have sole responsibility for development, regulatory, and commercialization activities for the AZ-Licensed Products in the Dermatology Field, at our expense, and we shall use commercially reasonable efforts to develop, obtain, and maintain regulatory approvals for, and commercialize the AZ-Licensed Products in the Dermatology Field in each of the United States, Italy, Spain, Germany, the United Kingdom, France, China, and Japan.

We paid AstraZeneca an upfront non-refundable cash payment of $1.0 million and issued 484,388 shares of our Series B convertible preferred stock, valued at $3.0 million on the date of the AstraZeneca License Agreement. We subsequently paid AstraZeneca the first milestone cash payment of $2.0 million upon the completion of a Phase 2b study of roflumilast cream in plaque psoriasis in August 2019 for the achievement of positive Phase 2 data for an AZ-Licensed Product. We also paid AstraZeneca $7.5 million upon ZORYVE's FDA approval in plaque psoriasis. We have agreed to make additional cash payments to AstraZeneca of up to an aggregate of $5.0 million upon the achievement of specific regulatory approval milestones with respect to the AZ-Licensed Products, and payments up to an additional aggregate amount of $15.0 million upon the achievement of certain aggregate worldwide net sales milestones, of which $5.0 million will become payable when we achieve $100.0 million in worldwide sales. With respect to any AZ-Licensed Products we commercialize under the AstraZeneca License Agreement, we will pay AstraZeneca a low to high single-digit percentage royalty rate on our, our affiliates’ and our sublicensees’ net sales of such AZ-Licensed Products, until, as determined on an AZ-Licensed Product-by-AZ-Licensed Product and country-by-country basis, the later of the date of the expiration of the last-to-expire AstraZeneca-licensed patent right containing a valid claim in such country and ten years from the first commercial sale of such AZ-Licensed Product in such country. We began making quarterly royalty payments in the first quarter of 2023. See Note 6 to the condensed consolidated financial statements for additional information.

### Hengrui Exclusive Option and License Agreement

In January 2018, we entered into the Hengrui License Agreement, with Hengrui, whereby Hengrui granted us an exclusive option to obtain certain exclusive rights to research, develop, and commercialize products containing the compound designated by Hengrui as ivarmacitinib, a JAK 1 inhibitor, in topical formulations for the treatment of skin diseases, disorders, and conditions in the United States, Japan, and the European Union (including for clarity the United Kingdom). We made a $0.4 million upfront non-refundable cash payment to Hengrui upon execution of the Hengrui Option and License Agreement. In December 2019, we exercised our exclusive option under the agreement, for which we made a $1.5 million cash payment, and also contemporaneously amended the agreement to expand the territory to additionally include Canada. In addition, we have agreed to make cash payments of up to an aggregate of $20.5 million upon our achievement of specified clinical development and regulatory approval milestones with respect to the licensed products and cash payments of up to an additional aggregate of $200.0 million in sales-based milestones based on achieving certain aggregate annual net sales volumes with respect to a licensed product. With respect to any products we commercialize under the Hengrui License Agreement, we will pay tiered royalties to Hengrui on net sales of each licensed product by us, or our affiliates, or our sublicensees, ranging from mid single-digit to sub-teen percentage rates based on tiered annual net sales bands subject to specified reductions. We are obligated to pay royalties until the later of (1) expiration of the last valid claim of the licensed patent rights covering such licensed product in such country and (2) the expiration of regulatory exclusivity for the relevant licensed product in the relevant country, on a licensed product-by-licensed product and country-by-country basis. Additionally, we are obligated to pay Hengrui a specified percentage, ranging from the low-thirties to the sub-teens, of certain non-royalty sublicensing income we receive from sublicensees of our rights to the licensed products, such percentage decreasing as the development stage of the licensed products advance.

The agreement continues in effect until the expiration of our obligation to pay royalties as described above, unless earlier terminated in accordance with the following: (1) by either party upon written notice for the other party’s material breach or insolvency event if such party fails to cure such breach or the insolvency event is not dismissed within specified time periods; and (2) by us for convenience upon 90 days prior written notice to Hengrui and having discussed and consulted any potential cause or concern with Hengrui in good faith.

In June 2022, we entered into a side letter agreement with Hengrui and one of its subsidiaries to extend certain rights and obligations under the Hengrui License Agreement to the subsidiary under specified circumstances, including a change of control of such subsidiary. See Note 6 to the condensed consolidated financial statements for additional information.

### Ducentis Acquisition

On September 7, 2022, we entered into a Share Purchase Agreement with Ducentis, pursuant to which we acquired all of the outstanding equity interests in Ducentis for (i) 610,258 shares of our common stock valued at approximately $12.5 million and $15.9 million in cash, inclusive of liabilities acquired, and (ii) contingent payments, the amount of which is indeterminable until achieved, which may become payable upon the achievement of certain development, regulatory, and commercial milestones. We currently, estimate that these contingent payments may be up to an aggregate of approximately $400 million (although the actual amount may differ depending on whether the applicable milestones are achieved). In addition, if applicable, we will make payments amounting to a mid-single-digit percentage of any annual net sales of Ducentis’s products exceeding $1.5 billion. As of September 30, 2023, none of the milestones were probable of achievement and, accordingly, no amounts have been recognized in the accompanying condensed consolidated financial statements with respect to these contingent payments.

Under the terms of the Share Purchase Agreement, we will develop and seek FDA approval of a therapeutic product containing Ducentis’s DS-234 product candidate, now ARQ-234, for an atopic dermatitis indication, and if FDA approval of ARQ-234 is obtained by us, to launch it in the United States.

### Huadong License and Collaboration Agreement

In August 2023, we entered into a license and collaboration agreement ("Huadong Agreement") with Hangzhou Zhongmei Huadong Pharmaceutical Co ("Huadong"), a wholly owned subsidiary of Huadong Medicine Co., Ltd., whereby Huadong received an exclusive license for the development, manufacture, and commercialization of both the cream and foam formulations of topical roflumilast in Greater China (mainland China, Hong Kong, Macau, and Taiwan) and Southeast Asia (Indonesia, Singapore, The Philippines, Thailand, Myanmar, Brunei, Cambodia, Laos, Malaysia, and Vietnam) ("Huadong Licensed Products"). Huadong will, at its expense, develop, obtain regulatory approval for, commercialize and conduct medical affairs activities for the Huadong Licensed Products, subject to certain of our approval and oversight rights.

Pursuant to the terms of the agreement, upon closing in September 2023, we received a net payment of $27.0 million, which consisted of a $30.0 million upfront payment less the applicable tax withholding obligation in China of $3.0M, and may potentially receive additional payments (i) up to an aggregate amount of $24.0 million upon the achievement of certain development and regulatory milestones and (ii) up to an aggregate amount of $40.3 million upon the achievement of certain sales milestones. In addition, we will receive tiered low double-digit to high-teen double-digit percentage royalties on Huadong’s, its affiliates’ and sublicensees’ total net sales of the Huadong Licensed Products, subject to certain royalty reductions.

The agreement term continues on a Licensed Product-by-Licensed Product and country-by-country and Region-by-Region basis until the expiration of the last Royalty Term for the last Licensed Product in the Territory. The Royalty Term is 10 years after the first commercial sale of such Licensed Product in such country or region, subject to certain termination clauses in the agreement. See Note 6 to the condensed consolidated financial statements.

### Components of Our Results of Operations

### Revenue

### Product Revenue, Net

In August 2022, in conjunction with the launch of our first FDA approved product, ZORYVE, we began to recognize revenue from product sales, net of rebates, chargebacks, discounts, and other adjustments. We will continue to evaluate trends related to revenue for ZORYVE. Additionally, if our development efforts for our other product candidates and ZORYVE label extensions are successful and result in regulatory approval, we may generate additional revenue in the future from product sales.

### Other Revenue

Other revenue relates to the Iolyx Agreement and the Huadong License and Collaboration Agreement. See Note 6 to the condensed consolidated financial statements for additional information.

### Cost of Sales

Cost of sales includes direct and indirect costs related to the manufacturing and distribution of ZORYVE, including raw materials, third-party manufacturing costs, packaging services, and freight-in, as well as third-party royalties payable on our net product sales and amortization of intangible assets associated with ZORYVE.

Our cost of sales will reflect a lower average per unit cost of materials over the next two years approximately, due to inventory that was previously expensed. As of September 30, 2023 and December 31, 2022, the value of this inventory, mostly at the raw materials stage, was approximately $10.0 million and $14.1 million, respectively.

### Operating Expenses

### Research and Development Expenses

Since our inception, we have focused significant resources on our research and development activities, including conducting nonclinical studies and clinical trials, manufacturing development efforts, and activities related to regulatory filings for our product candidates. Research and development costs are expensed as incurred. These costs include direct program expenses, which are payments made to third parties that specifically relate to our research and development, such as payments to clinical research organizations, clinical investigators, manufacturing of clinical material, nonclinical testing, and consultants. In addition, employee costs, including salaries, payroll taxes, benefits, stock-based compensation, and travel for employees contributing to research and development activities are classified as research and development costs. We allocate direct external costs on a program specific basis (topical roflumilast program, topical JAK inhibitor program, and early stage programs). Our internal costs are primarily related to personnel or professional services and apply across programs, and thus are not allocable on a program specific basis.

We expect to continue to incur substantial research and development expenses in the future as we develop our product candidates. In particular, we expect to incur substantial research and development expenses for the ongoing pediatric and open label extension Phase 3 trials of roflumilast cream for atopic dermatitis, ARQ-255 for alopecia areata, and development of ARQ-234 for atopic dermatitis.

We have entered, and may continue to enter, into license agreements to access and utilize certain molecules for the treatment of dermatological diseases and disorders. We evaluate if the license agreement is an acquisition of an asset or a business. To date, none of our license agreements have been considered to be an acquisition of a business. For asset acquisitions, the upfront payments, as well as any future milestone payments made before product approval, are immediately recognized as research and development expense when due, provided there is no alternative future use of the rights in other research and development projects.

The successful development of our product candidates is highly uncertain. At this time, we cannot reasonably estimate the nature, timing, or costs required to complete the remaining development of roflumilast cream, roflumilast foam, ARQ-255, and ARQ-234 or any other product candidates. This is due to the numerous risks and uncertainties associated with the development of product candidates. See “Risk Factors” for a discussion of the risks and uncertainties associated with the development of our product candidates.

### Selling, General and Administrative Expenses

Our selling, general and administrative expenses consist primarily of salaries and related costs, including payroll taxes, benefits, stock-based compensation, and travel, and costs related to sales and marketing of ZORYVE. Other selling, general and administrative expenses include legal costs of pursuing patent protection of our intellectual property, insurance, and professional services fees for auditing, tax, and general legal services. We expect our selling, general and administrative expenses to continue to increase in the future as we continue to commercialize ZORYVE and potentially other product candidates and support our operations, including increased expenses related to legal, accounting, insurance, regulatory, and tax-related services associated with maintaining compliance with exchange listing and SEC requirements, directors and officers liability insurance premiums, and investor relations activities.

### Other Income, Net

Other income, net primarily consists of interest income earned on our cash, cash equivalents, and marketable securities.

### Interest Expense

Interest expense is related to interest incurred on our long term debt.

### Provision for Income Taxes

Provision for income taxes is related to the Huadong License and Collaboration Agreement. See Note 6 to the condensed consolidated financial statements for additional information.

### Results of Operations

### Comparison of the Three Months Ended September 30, 2023 and 2022

The following table sets forth our results of operations for the periods indicated:

*(in thousands)*

| Revenues: | Three Months Ended September 30, 2023 | 2022 | Change $% |  |
| --- | ---: | ---: | ---: | ---: |
| Product revenue, net | $8,109 | $725 | $7,384 | 1018% |
| Other revenue | 30,000 | — | 30,000 | \* |
| Total revenues | 38,109 | 725 | 37,384 | 5156% |
| Operating expenses: |  |  |  |  |
| Cost of sales | 1,182 | 269 | 913 | 339% |
| Research and development | 26,236 | 69,731 | (43,495) | (62)% |
| Selling, general, and administrative | 47,595 | 35,473 | 12,122 | 34% |
| Total operating expenses | 75,013 | 105,473 | (30,460) | (29)% |
| Loss from operations | (36,904) | (104,748) | 67,844 | (65)% |
| Other income (expense): |  |  |  |  |
| Other income, net | 2,721 | 1,938 | 783 | 40% |
| Interest expense | (7,559) | (4,899) | (2,660) | 54% |
| Loss before income taxes | (41,742) | (107,709) | 65,967 | (61)% |
| Provision for income taxes | 3,023 | — | 3,023 | \* |
| Net loss | $(44,765) | $(107,709) | $62,944 | (58)% |

\*Not applicable

### Product revenue, net

We began recording U.S. product revenue in the third quarter of 2022 following the FDA approval and subsequent commercial launch of ZORYVE in August 2022, and Canada product revenue in the second quarter of 2023 following the Health Canada approval and subsequent commercial launch of ZORYVE in June 2023. Net product revenue increased by $7.4 million for the three months ended September 30, 2023 compared to three months ended September 30, 2022. The increase in revenue was primarily driven by end customer demand.

### Other revenue

Other revenue is a result of license revenues received in connection with the Huadong Agreement. See Note 6 to the condensed consolidated financial statements for additional information.

### Cost of Sales

Cost of sales increased by $0.9 million for the three months ended September 30, 2023 compared to three months ended September 30, 2022. The increase is related primarily to additional ZORYVE product costs incurred. Prior to the date on which the initial regulatory approval was received, costs of raw materials were recorded as research and development expense. Therefore, cost of sales will reflect a lower average per unit cost until the related inventory is sold, which is expected to occur over the next two years. See Note 6 to the condensed consolidated financial statements for additional information.

### Research and Development Expenses

*(in thousands)*

| Direct external costs: | Three Months Ended September 30, 2023 | 2022 | Change $% |  |
| --- | ---: | ---: | ---: | ---: |
| Topical roflumilast program | $6,020 | $21,901 | $(15,881) | (73)% |
| Topical JAK inhibitor program | 978 | 1,113 | (135) | (12)% |
| Other early stage programs | 2,026 | 132 | 1,894 | 1435% |
| In-process research and development | — | 29,630 | (29,630) | (100)% |
| Indirect costs: |  |  |  |  |
| Compensation and personnel-related | 12,289 | 11,251 | 1,038 | 9% |
| Other | 4,923 | 5,704 | (781) | (14)% |
| Total research and development expense | $26,236 | $69,731 | $(43,495) | (62)% |

Research and development expenses decreased by $43.5 million, or 62%, for the three months ended September 30, 2023 compared to the three months ended September 30, 2022. The decrease was primarily due to IPR&D expense as a result of the acquisition of ARQ-234 from Ducentis, as well as the completion of Phase 3 studies of roflumilast cream in atopic dermatitis and roflumilast foam in seborrheic dermatitis and scalp and body psoriasis. Additionally, manufacturing costs recorded as research and development expenses decreased as we began capitalizing such costs to inventory upon FDA approval of ZORYVE in July 2022. The increase in compensation and personnel related expense is mainly due to accrued severance related to headcount reductions implemented in September 2023.

### Selling, General, and Administrative Expenses

Selling, general, and administrative expenses increased by $12.1 million, or 34%, for the three months ended September 30, 2023 compared to the three months ended September 30, 2022. The increase was primarily due to higher compensation and personnel-related expenses of $5.3 million, higher sales and marketing expenses of $4.0 million, and higher professional services of $1.4 million. These increases were primarily due to our commercialization efforts, including the hiring of our full sales force for ZORYVE.

### Other Income, Net

Other income, net increased by $0.8 million for the three months ended September 30, 2023 compared to the three months ended September 30, 2022, primarily due to the impact of higher interest rates, partially offset by a lower marketable securities balance.

### Interest Expense

Interest expense increased by $2.7 million for the three months ended September 30, 2023 compared to the three months ended September 30, 2022, due to an increase in our long-term debt balance and the impact of higher interest rates. See Note 8 to the condensed consolidated financial statements for additional information.

### Provision for Income Taxes

Income tax expense of $3.0 million for the three months ended September 30, 2023 was primarily due to income tax expense related to withholding tax on the Huadong License and Collaboration Agreement.

### Comparison of the Nine Months Ended September 30, 2023 and 2022

The following table sets forth our results of operations for the periods indicated:

*(unaudited)*

*(in thousands)*

| Revenues: | Nine Months Ended September 30, 2023 | 2022 | Change $% |  |
| --- | ---: | ---: | ---: | ---: |
| Product revenue, net | $15,660 | $725 | $14,935 | 2060% |
| Other revenue | 30,420 | — | 30,420 | \* |
| Total revenues | 46,080 | 725 | 45,355 | 6256% |
| Operating expenses: |  |  |  |  |
| Cost of sales | 2,741 | 269 | 2,472 | 919% |
| Research and development | 86,800 | 148,558 | (61,758) | (42)% |
| Selling, general, and administrative | 136,471 | 85,101 | 51,370 | 60% |
| Total operating expenses | 226,012 | 233,928 | (7,916) | (3)% |
| Loss from operations | (179,932) | (233,203) | 53,271 | (23)% |
| Other income (expense): |  |  |  |  |
| Other income, net | 9,114 | 2,501 | 6,613 | 264% |
| Interest expense | (21,950) | (8,737) | (13,213) | 151% |
| Loss before income taxes | (192,768) | (239,439) | 46,671 | (19)% |
| Provision for income taxes | 3,088 | — | 3,088 | \* |
| Net loss | $(195,856) | $(239,439) | $43,583 | (18)% |

\*Not applicable

### Product revenue, net

We began recording product revenue in the third quarter of 2022 following the approval of ZORYVE by the FDA and our subsequent commercial launch in the United States in August 2022, and Canada product revenue in the second quarter of 2023 following the Health Canada approval and subsequent commercial launch of ZORYVE in June 2023. Net product revenue increased by $14.9 million for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022, which was driven by an increase in end customer demand.

### Other revenue

Other revenue is a result of shares of common stock acquired in connection with the Iolyx Agreement and license revenues received in relation to Huadong Agreement. See Note 6 to the condensed consolidated financial statements for additional information.

### Cost of Sales

Cost of sales increased by $2.5 million for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022. The increase is primarily related to increased product costs associated with the sales of ZORYVE. Prior to the date on which the initial regulatory approval was received, costs of raw materials were recorded as research and development expense. Therefore, cost of sales will reflect a lower average per unit cost until the related inventory is sold, which is expected to occur over the next two years.

### Research and Development Expenses

*(unaudited)*

*(in thousands)*

| Direct external costs: | Nine Months Ended September 30, 2023 | 2022 | Change $% |  |
| --- | ---: | ---: | ---: | ---: |
| Topical roflumilast program | $28,974 | $68,214 | $(39,240) | (58)% |
| Topical JAK inhibitor program | 2,832 | 2,505 | 327 | 13% |
| Other early stage programs | 3,869 | 625 | 3,244 | 519% |
| In-process research and development | — | 29,630 | (29,630) | (100)% |
| Indirect costs: |  |  |  |  |
| Compensation and personnel-related | 34,784 | 30,880 | 3,904 | 13% |
| Other | 16,341 | 16,704 | (363) | (2)% |
| Total research and development expense | $86,800 | $148,558 | $(61,758) | (42)% |

Research and development expenses decreased by $61.8 million, or 42%, for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022. The decrease was primarily due to IPR&D expense as a result of the acquisition of ARQ-234 from Ducentis, as well as the completion of Phase 3 studies of roflumilast cream in atopic dermatitis and roflumilast foam in seborrheic dermatitis and scalp and body psoriasis.

### Selling, General, and Administrative Expenses

Selling, general, and administrative expenses increased by $51.4 million, or 60%, for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022. The increase was primarily due to an increase in compensation and personnel-related expenses of $26.3 million, an increase in sales and marketing expenses of $17.4 million, and an increase in professional services of $4.8 million. These increases were primarily related to commercialization efforts for ZORYVE.

### Other Income, Net

Other income, net increased by $6.6 million for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022, primarily due to the impact of higher interest rates, partially offset by a lower marketable securities balance.

### Interest Expense

Interest expense increased by $13.2 million for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022, due to an increase in our average long-term debt balance and the impact of higher interest rates. See Note 8.

### Provision for Income Taxes

Income tax expense of $3.1 million for the nine months ended September 30, 2023 was primarily due to income tax expense related to withholding tax on the Huadong License and Collaboration Agreement.

### Liquidity, Capital Resources, and Requirements

### Sources of Liquidity

Our primary sources of capital to date as of September 30, 2023 have been private placements of preferred stock, our IPO completed in January 2020, our follow-on financings in October 2020, February 2021, and August 2022, our Loan Agreement, our ATM, and revenue from the sale of our approved product. We have incurred operating losses since our inception and have an accumulated deficit as a result of ongoing efforts to develop and commercialize our products and product candidates, including conducting nonclinical and clinical trials and providing selling, general and administrative support for these operations. As of September 30, 2023, we had cash, cash equivalents, restricted cash, and marketable securities of $228.0 million, and an accumulated deficit of $915.6 million. On October 24, 2023, we completed a public offering of shares of our common stock and prefunded warrants to purchase shares of our common stock, and received net proceeds of $94.0 million. We maintain cash balances with financial institutions in excess of insured limits. As of September 30, 2023, we had $200.0 million outstanding under the Loan Agreement. See Notes 1 and 8 to the condensed consolidated financial statements for additional information.

We believe that our existing capital resources will be sufficient to meet the projected operating requirements for at least 12 months from the date of issuance of our financial statements.

If our capital resources are insufficient to satisfy our requirements, we may need to fund our operations through the sale of our equity securities, accessing or incurring additional debt, entering into licensing or collaboration agreements with partners, grants, or other sources of financing. There can be no assurance that sufficient funds will be available to us at all or on attractive terms when needed from these sources. If we are unable to obtain additional funding from these or other sources when needed it may be necessary to significantly reduce our current rate of spending through, among other things, reductions in staff and delaying, scaling back, or stopping certain research and development programs, nonclinical studies, clinical trials or other development activities, and commercialization efforts. Insufficient liquidity may also require us to relinquish rights to product candidates at an earlier stage of development or on less favorable terms than we would otherwise choose. In addition, market conditions impacting financial institutions could impact our ability to access some or all of our cash, cash equivalents and marketable securities, and we may be unable to obtain alternative funding when and as needed on acceptable terms, if at all.

We have based our projected operating requirements on assumptions that may prove to be incorrect and we may use all our available capital resources sooner than we expect. Because of the numerous risks and uncertainties associated with research, development, and commercialization of pharmaceutical products, we are unable to estimate the exact amount of our operating capital requirements. Any future funding requirements will depend on many factors, including, but not limited to:

- the timing, receipt, and amount of sales of any current and future products;
- the scope, progress, results, and costs of researching and developing our lead product candidates or any future product candidates, and conducting nonclinical studies and clinical trials, in particular our planned or ongoing development activities of roflumilast cream in plaque psoriasis and atopic dermatitis, roflumilast foam in seborrheic dermatitis and scalp psoriasis, ARQ-255 in alopecia areata, and our formulation and nonclinical efforts for ARQ-234;
- suspensions or delays in the enrollment or changes to the number of subjects we decide to enroll in our ongoing clinical trials;
- the number and scope of clinical programs we decide to pursue, and the number and characteristics of any product candidates we develop or acquire;
- the timing of, and the costs involved in, obtaining regulatory approvals for any future product candidates;
- the number and characteristics of any additional product candidates we develop or acquire;
- the cost of manufacturing ZORYVE or any future product candidates and any products we successfully commercialize, including costs associated with building out our supply chain;
- the cost of commercialization activities for ZORYVE or any future product candidates are approved for sale, including marketing, sales and distribution costs, and any discounts or rebates to obtain access;
- our ability to establish and maintain strategic collaborations, licensing or other arrangements and the financial terms of any such agreements that we may enter into;
- the costs related to milestone payments to AstraZeneca, Hengrui, or any future collaborator or licensing partner, upon the achievement of predetermined milestones;
- any product liability or other lawsuits related to our products;
- the expenses needed to attract and retain skilled personnel;
- the costs involved in preparing, filing, prosecuting, maintaining, defending, and enforcing our intellectual property portfolio; and
- costs associated with any adverse market conditions or other macroeconomic factors.

### Indebtedness

On December 22, 2021 we entered into a loan and security agreement, or Loan Agreement, with SLR and the lenders party thereto. The Loan Agreement was amended and restated on January 10, 2023 to include Arcutis Canada, Inc. as a borrower and party to the Loan Agreement. Pursuant to the Loan Agreement, the lenders agreed to extend term loans to us in an aggregate principal amount of up to $225.0 million, comprised of: (i) a tranche A term loan of $75.0 million, (ii) a tranche B-1 term loan of $50.0 million, (iii) a tranche B-2 term loan of up to $75.0 million, available in minimum increments of $15.0 million, and (iv) a tranche C term loan of up to $25.0 million. We refer to the tranche A, tranche B, and tranche C term loans together as our Term Loans. As security for the obligations under the Loan Agreement, we granted SLR, for the benefit of the lenders, a continuing security interest in substantially all of our assets, including our intellectual property, subject to certain exceptions.

The tranche A term loan was funded on December 22, 2021. Following the approval of ZORYVE, we drew down $125.0 million on the tranche B term loans, which we received in August 2022. See Notes 1 and 8 to the condensed consolidated financial statements for additional information. The tranche C term loan is available following the achievement of a net product revenue milestone of $110.0 million, calculated on a trailing six month basis. The tranche C term loan will remain available for funding until September 30, 2024.

Principal amounts outstanding under the Term Loans will accrue interest at a floating rate equal to the applicable rate in effect from time to time, as determined by SLR on the third business day prior to the funding date of the applicable Term Loan and on the first business day of the month prior to each payment date of each Term Loan. The applicable rate is a per annum interest rate equal to 7.45% plus the greater of (a) 0.10% and (b) the per annum rate published by the Intercontinental Exchange Benchmark Administration Ltd. (or on any successor or substitute published rate) for a term of one month, subject to a replacement with an alternate benchmark rate and spread in certain circumstances. On September 30, 2023, the rate was 12.88%. Starting in July 2023, the Secured Overnight Financing Rate (SOFR) for a term of one month was substituted for the benchmark rate.

Interest payments are payable monthly following the funding of any Term Loan. Any principal amounts outstanding under the Term Loans, if not repaid sooner, are due and payable on January 1, 2027, or the Maturity Date. We may voluntarily prepay principal amounts outstanding under the Term Loans in minimum increments of $5.0 million, subject to a prepayment premium of (i) 3.0% of the principal amount of such Term Loan so prepaid prior to December 22, 2022, (ii) 2.0% of the principal amount of such Term Loan so prepaid after December 22, 2022 and prior to December 22, 2023, or (iii) 1.0% of the principal amount of such Term Loan so prepaid after December 22, 2023 and prior to December 22, 2025.

If the Term Loans are accelerated due to, among others, the occurrence of a bankruptcy or insolvency event, we are required to make certain mandatory prepayments, including fees applicable by reason of such prepayment.

The Loan Agreement contains customary representations and warranties and customary affirmative and negative covenants, including, among others, restrictions on our ability to merge or consolidate with any other entity, to incur additional indebtedness, or to pay any dividends or other distributions on capital stock. We have also agreed to a financial covenant whereby, beginning with the month ending December 31, 2023, we must generate net product revenue in excess of specified amounts for applicable measuring periods pursuant to the Loan Agreement; provided, however, that such financial covenant shall not apply if our average market capitalization over the trailing five day period prior to the last day of any measurement month is equal to or in excess of $400.0 million. We were in compliance with all covenants under the Loan Agreement as of September 30, 2023.

In addition, the Loan Agreement contains customary events of default that entitle the lenders to cause any indebtedness under the Loan Agreement to become immediately due and payable, and to exercise remedies against us and the collateral securing the Term Loans. Upon the occurrence and for the duration of an event of default, an additional default interest rate, or the Default Rate, equal to 4.0% per annum will apply to all obligations owed under the Loan Agreement.

In connection with the Loan Agreement, we are obligated to pay (i) a final fee equal to 6.95% of the aggregate original principal amount of the Term Loans funded upon the earliest to occur of the Maturity Date, the acceleration of any Term Loan and the prepayment, refinancing, substitution or replacement of any Term Loan and (ii) a certain amount of lenders’ expenses incurred in connection with the execution of the Loan Agreement. Additionally, in connection with the Loan Agreement, we entered into an Exit Fee Agreement, whereby we agreed to pay an exit fee in the amount of 3.0% of each Term Loan funded upon (i) any change of control transaction or (ii) a revenue milestone, calculated on a trailing six month basis. Notwithstanding the prepayment or termination of the Term Loan, the exit fee will expire 10 years from the date of the Loan Agreement.

On November 1, 2023, we entered into an amendment to the Loan Agreement. Pursuant to the amendment, the terms of the Loan Agreement were revised to, among others, (i) eliminate the undrawn tranche C term loan of up to $25.0 million, (ii) modify the financial covenant relating to minimum net product revenue and remove the market capitalization threshold, and (iii) include an additional minimum financing covenant. The amended Loan Agreement provides for term loans in aggregate principal amount of up to $200.0 million, which amounts were fully drawn as of September 30, 2023. Pursuant to the amendment, the modified financial covenant requires us to generate a minimum net product revenue equal to 75% of each month's projected net product revenue as set forth in our annual plan for the respective period, tested on a trailing 12 month basis for the month ending December 31, 2023 and then tested on a trailing six month basis, as of the end of each month, for the month ending January 31, 2024 and each month thereafter. Pursuant to the amendment, each annual plan shall be approved by our board of directors and SLR, in its capacity as collateral agent, in its reasonable discretion. Any failure by us to deliver such annual plan on or before December 15 of the prior year shall be an immediate event of default. In addition, we agreed to raise at least $31.0 million in net cash proceeds, during the period commencing on November 1, 2023 and ending on April 1, 2024, from (a) the sale or issuance of the our equity interests, (b) business development or collaboration agreements (including upfront, milestone, royalty and other payments), or (c) subordinated debt, in each case as permitted pursuant to the terms of the Loan Agreement. Any failure by us to raise such net cash proceeds during the specified period shall be an immediate event of default.

### Cash Flows

The following table sets forth our cash flows for the periods indicated:

*(in thousands)*

|  | Nine Months Ended September 30, 2023 | 2022 |
| --- | ---: | ---: |
| Cash used in operating activities | $(190,813) | $(186,650) |
| Cash provided by (used in) investing activities | 242,418 | (129,400) |
| Cash provided by financing activities | 2,034 | 300,836 |
| Effect of exchange rate changes on cash | (118) | — |
| Net increase (decrease) in cash, cash equivalents, and restricted cash | $53,521 | $(15,214) |

### Net Cash Used in Operating Activities

During the nine months ended September 30, 2023, net cash used in operating activities was $190.8 million, which consisted of a net loss of $195.9 million and a change in net operating assets and liabilities of $23.9 million, partially offset by net non-cash charges of $29.0 million. The net non-cash charges were primarily related to stock-based compensation expense of $30.1 million.

During the nine months ended September 30, 2022, net cash used in operating activities was $186.7 million, which consisted of a net loss of $239.4 million and a change in net operating assets and liabilities of $2.8 million, partially offset by net non-cash charges of $55.6 million. The net non-cash charges were primarily related to acquired in-process research and development of $29.6 million and stock-based compensation expense of $23.4 million.

### Net Cash Provided by (Used in) Investing Activities

During the nine months ended September 30, 2023, net cash provided by investing activities was $242.4 million, which was comprised primarily of proceeds from the maturities of marketable securities of $350.5 million, partially offset by purchases of marketable securities of $107.7 million.

During the nine months ended September 30, 2022, net cash used in investing activities was $129.4 million, which was comprised primarily of purchases of marketable securities of $377.3 million, cash paid for IPR&D related to the acquisition of Ducentis of $15.5 million and a milestone payment made to AstraZeneca of $7.5 million, partially offset by the proceeds from the maturities of marketable securities of $271.1 million.

### Net Cash Provided by Financing Activities

During the nine months ended September 30, 2023, net cash provided by financing activities was $2.0 million, which was comprised of $1.0 million in proceeds from the issuance of common stock upon the exercise of stock options and $1.0 million in proceeds from the issuance of common stock as part of our ESPP.

During the nine months ended September 30, 2022, net cash provided by financing activities was $300.8 million, which was comprised primarily of the net cash proceeds received from our August 2022 public stock offering of $161.6 million, our August 2022 debt facility draw down of $125.0 million, and our March 2022 sale of stock under our ATM facility of $14.5 million.

### Contractual Obligations and Contingent Liabilities

The following summarizes our significant contractual obligations as of September 30, 2023.

### Facility Operating Lease

In April 2020, we amended our lease agreement for our facility in Westlake Village, California to relocate to a new expanded space including 22,643 square feet. The lease payment term for the new space began on December 30, 2020 and will terminate 91 months thereafter, with a renewal option term of five years. We have a one-time option to cancel the lease after month 67.

The lease is subject to fixed rate escalation increases with an initial base rent of $76,000 per month and includes rent free periods aggregating approximately one year. The amended lease agreement required that we deliver a letter of credit to the landlord of $1.5 million upon occupying the space, which is allowed to be reduced throughout the lease period as rent obligations are met. Accordingly, as of September 30, 2023, we have a letter of credit and related restricted cash account of $0.9 million. The total commitment under the operating lease agreement is $5.1 million, including $0.3 million for the remaining three months of 2023, $1.0 million for each of the years 2024 through 2025, $1.1 million for each of the years 2026 through 2027, and $0.6 million for the year 2028. See Note 7 to the condensed consolidated financial statements for additional information.

### Long-Term Debt Obligations

As of September 30, 2023, we had $200.0 million outstanding under our Loan Agreement. See Notes 1 and 8 to the condensed consolidated financial statements for additional information. The total commitment under the Loan Agreement as of September 30, 2023 is $298.9 million, including $6.6 million for the remaining three months of 2023, $26.2 million for the year 2024, $26.1 million for each of the years 2025 through 2026, and $213.9 million for the year 2027. These amounts do not represent or include any future draw downs, but instead represent only the contractually obligated minimum payments of interest, principal, and loan fees related to the funding of the $75.0 million tranche A term loan on December 22, 2021 and the $125.0 million tranche B term loan on August 2, 2022.

### License Agreements & Acquisition

The terms of certain of our license agreements and our acquisition of Ducentis require us to pay potential future milestone payments based on product development and commercial success. The amount and timing of such obligations are unknown or uncertain. These potential obligations are further described in Note 6 to the condensed consolidated financial statements.

### Manufacturing Agreements

We have entered into manufacturing supply agreements for the commercial supply of ZORYVE, which include certain minimum purchase commitments. Firm future purchase commitments under these agreements are approximately $1.2 million within the next three months, and approximately $0.8 million per year for 2024 and 2025. This amount does not represent all of our anticipated purchases, but instead represents only the contractually obligated minimum purchases or firm commitments of non-cancelable minimum amounts.

### Indemnification

In the normal course of business, we enter into contracts and agreements that contain a variety of representations and warranties and provide for general indemnifications. Our exposure under these agreements is unknown because it involves claims that may be made against us in the future, but have not yet been made. To date, we have not paid any claims or been required to defend any action related to our indemnification obligations. However, we may record charges in the future as a result of these indemnification obligations.

In accordance with our certificate of incorporation and bylaws, we have indemnification obligations to our officers and directors for specified events or occurrences, subject to some limits, while they are serving at our request in such capacities. There have been no claims to date, and we have director and officer insurance that may enable us to recover a portion of any amounts paid for future potential claims.

### Off-Balance Sheet Arrangements

We did not have during the periods presented, and we do not currently have, any off-balance sheet arrangements, as defined under SEC rules.

### Critical Accounting Policies and Use of Estimates

The preparation of our condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and the notes to the financial statements. Some of those judgments can be subjective and complex, and therefore, actual results could differ materially from those estimates under different assumptions or conditions. A summary of our critical accounting policies is presented in Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations, of our Annual Report on Form 10-K for the year ended December 31, 2022. There were no material changes to our critical accounting policies during the nine months ended September 30, 2023.

### Recent Accounting Pronouncements

See Note 2 to our condensed consolidated financial statements.

## Market risk

As filed, 3,037 characters.

We are exposed to market risks in the ordinary course of our business. These risks primarily include interest rate sensitivities. As of September 30, 2023, we had cash and cash equivalents of $107.5 million, restricted cash of $0.9 million, and marketable securities of $119.6 million; which consist of bank deposits, money market funds, commercial paper, government securities, and corporate debt securities. The primary objective of our investment activities is to preserve capital to fund our operations. We also seek to maximize income from our investments without assuming significant risk. Because our investments are primarily short-term in duration, we believe that our exposure to interest rate risk is not significant, and a 1% movement in market interest rates would not have a significant impact on the total value of our portfolio.

In addition, as of September 30, 2023, we had $200.0 million outstanding under our Loan Agreement. Amounts outstanding under our Loan Agreement bear interest at a floating rate equal a per annum interest rate equal to 7.45% plus the greater of (a) 0.10% and (b) the per annum rate published by the Intercontinental Exchange Benchmark Administration Ltd. (or on any successor or substitute published rate) for a term of one month, subject to a replacement with an alternate benchmark rate and spread in certain circumstances. Starting in July 2023, the Secured Overnight Financing Rate (SOFR) for a term of one month was substituted for the benchmark rate. As a result, we are exposed to risks related to our indebtedness from changes in interest rates. Based on the amount outstanding under our Loan Agreement as of September 30, 2023, for every 100 basis point increase in the interest rates, we would incur approximately $2.0 million of additional annual interest expense. We do not currently engage in hedging transactions to manage our exposure to interest rate risk, but higher interest expense would be offset in part by higher earnings on our cash and marketable securities. We may in the future use swaps, caps, collars, structured collars or other common derivative financial instruments to reduce interest rate risk. It is difficult to predict the effect that future hedging activities would have on our operating results.

We are exposed to foreign currency exchange risk as our Canadian subsidiary operates with the Canadian dollar as its functional currency. The majority of our transactions occur in U.S. dollars. The fluctuation in the value of the U.S. dollar against the Canadian dollar affects the reported amounts of expenses, assets and liabilities. If we expand our international operations our exposure to exchange rate fluctuations will increase. At September 30, 2023 we had cash balances denominated in Canadian dollars of $4.0 million. We currently do not hedge any foreign currency exposure. A hypothetical 10% change in foreign exchange rates during any of the periods presented would not have a material impact on our condensed consolidated financial statements.

## Controls and procedures

As filed, 4,277 characters.

### Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as of September 30, 2023, our disclosure controls and procedures are designed at a reasonable assurance level and are effective to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the SEC, and that such required information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures.

### Management Report on Internal Control Over Financial Reporting

Management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rule 13a-15(f) under the Exchange Act. Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an assessment of the effectiveness of our internal control over financial reporting based our assessment on the criteria set forth in "Internal Control - Integrated Framework (2013)" issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on the results of our assessment, our management concluded that our internal control over financial reporting was effective as of September 30, 2023.

### Changes in Internal Control over Financial Reporting

There have been no changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the nine months ended September 30, 2023 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

### Inherent Limitations on Effectiveness of Controls and Procedures

Our internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. GAAP.

Our internal control over financial reporting includes those policies and procedures that:

(i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets;

(ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. GAAP, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and

(iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of our assets that could have a material effect on the financial statements.

Management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our internal controls will prevent or detect all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of internal controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. Also, any evaluation of the effectiveness of controls in future periods are subject to the risk that those internal controls may become inadequate because of changes in business conditions, or that the degree of compliance with the policies or procedures may deteriorate.

## Risk factors

As filed, 6,087 characters.

For a discussion of our potential risks and uncertainties, see the information in Part I, "Part I, Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2022 and our Quarterly Report on Form 10-Q for the quarter ended June 30, 2023. Other than the risk factors set forth below, there have been no material changes to the risk factors disclosed in our Annual Report on Form 10-K for the year ended December 31, 2022 and our Quarterly Report on Form 10-Q for the quarter ended June 30, 2023. Additional risk factors not presently known to us or that we currently deem immaterial may also impair our business or results of operations. We may disclose changes to such factors or disclose additional factors from time to time in our future filings with the SEC.

***The terms of our loan and security agreement require us to meet certain operating and financial covenants and place restrictions on our operating and financial flexibility. If we raise additional capital through debt financing, the terms of any new debt could further restrict our ability to operate our business.***

As of September 30, 2023, we had $200.0 million outstanding under our Loan Agreement. On November 1, 2023, we entered into an amendment to the Loan Agreement, pursuant to which the terms were revised to, among others, (i) eliminate the undrawn tranche C term loan of up to $25.0 million, (ii) modify the financial covenant relating to minimum net product revenue and remove the market capitalization threshold, and (iii) include an additional minimum financing covenant. The amended Loan Agreement provides for term loans to the Company in an aggregate principal amount of up to $200.0 million, which amount was fully drawn on September 30, 2023. As security for the obligations under the Loan Agreement, we granted SLR, for the benefit of the lenders, a continuing security interest in substantially all of our assets, including our intellectual property, subject to certain exceptions.

The Loan Agreement contains a number of representations and warranties and affirmative and restrictive covenants, including financial covenants, and the terms may restrict our current and future operations, particularly our ability to respond to certain changes in our business or industry, or take future actions. The Loan Agreement includes a financial covenant whereby, beginning with the month ending December 31, 2023, we must generate minimum net product revenue for applicable measuring periods. Pursuant to the amendment to the Loan Agreement, this financial covenant requires us to generate a minimum net product revenue equal to 75% of each month’s projected net product revenue as set forth in our annual plan for the respective period, tested on a trailing 12 month basis for the month ending December 31, 2023 and then tested on a trailing six month basis, as of the end of each month, for the month ending January 31, 2024 and each month thereafter. Each annual plan shall be approved by our board of directors and SLR, in its capacity as collateral agent, in its reasonable discretion. Failure to deliver such annual plan on or before December 15 of the prior year will result in an event of default. In addition, pursuant to the amendment to the Loan Agreement, we agreed to a minimum financing covenant to raise at least $31.0 million in net cash proceeds, during the period commencing on November 1, 2023 and ending on April 1, 2024, from (i) the sale or issuance of equity interests, (ii) business development or collaboration agreements (including upfront, milestone, royalty and other payments), or (iii) subordinated debt, in each case as permitted pursuant to the terms of the Loan Agreement. Failure by the Company to satisfy this minimum financing covenant will result in an event of default. We may not be able to raise such amounts on favorable terms, or at all.

If the debt under the Loan Agreement were accelerated due to an event of default or otherwise, we may not have sufficient cash or be able to sell sufficient assets to repay this debt, which would harm our business and financial condition. If we do not have or are unable to generate sufficient cash to repay our debt obligations when they become due and payable, either upon maturity or in the event of a default, our assets could be foreclosed upon and we may not be able to obtain additional debt or equity financing on favorable terms, if at all, which may negatively impact our ability to operate and continue our business as a going concern. Moreover, regardless of a potential event of default, the debt under the Loan Agreement matures and is due on January 1, 2027. As a result, we may need to refinance or secure separate financing in order to repay amounts outstanding when due, however, no assurance can be given that an extension will be granted, that we will be able to renegotiate the terms of the agreement with the lender or that we will be able to secure separate debt or equity financing on favorable terms, if at all.

In order to service our indebtedness, we need to generate cash from our operating activities or additional equity or debt financings. Our ability to generate cash is subject, in part, to our ability to successfully execute our business strategy, as well as general economic, financial, competitive, regulatory and other factors beyond our control. We cannot assure you that our business will be able to generate sufficient cash flow from operations or that future borrowings or other financings will be available to us in an amount sufficient to enable us to service our indebtedness and fund our other liquidity needs. To the extent we are required to use cash from operations or the proceeds of any future financing to service our indebtedness instead of funding working capital, capital expenditures or other general corporate purposes, we will be less able to plan for, or react to, changes in our business, industry and in the economy generally. This may place us at a competitive disadvantage compared to our competitors that have less indebtedness.

Filed Nov 3, 2023.
Source: SEC EDGAR, the filing index for accession 0001787306-23-000124. Last ingested by Listed: Nov 4, 2026, 20:19 ET. No prices; not investment advice.