OWLET, INC. Management’s Discussion and Analysis of Financial Condition and Results of Operations. (form 10-Q)
The following discussion and analysis should be read in conjunction with the unaudited condensed consolidated financial statements and notes thereto included elsewhere in this Report and in "Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations" of our Annual Report on Form 10-K for the fiscal year endedDecember 31, 2021 (the "Form 10-K"). Certain statements we make under this Item 2 constitute "forward-looking statements" under the Reform Act. See "Cautionary Note Regarding Forward-Looking Statements" before Part I of this Report. You should consider our forward-looking statements in light of the risks discussed under "Item 1A. Risk Factors" in Part II of this Report and our unaudited condensed consolidated financial statements, related notes and other financial information appearing elsewhere in this Report, the Form 10-K and our other filings with theSEC .
Overview
Our mission is to empower parents with the right information at the right time,
to give them more peace of mind and help them find more joy in the journey of
parenting. Our digital parenting platform aims to give parents real-time data
and insights to help parents feel calmer and more confident. We believe that
every parent deserves peace of mind and the opportunity to feel their
well-rested best. We also believe that every child deserves to live a long,
happy, and healthy life, and we are working to develop products to help
facilitate that belief.
Impact of COVID-19
There continues to be worldwide impact from the novel coronavirus ("COVID-19")
pandemic. The impact of COVID-19 includes changes in consumer and business
behavior, pandemic fears, market downturns, and restrictions on business and
individual activities, which have created significant volatility in the global
economy that has led to reduced economic activity. The full extent to which the
COVID-19 pandemic will directly or indirectly impact our cash flow, business,
financial condition, results of operations and prospects will depend on future
developments that are uncertain.
As a result of the COVID-19 pandemic, we have safety procedures in place at our
headquarters and encourage our employees and contractors to work remotely, where
possible, in accordance with local public health recommendations, each of which
represented a significant change in how we operate our business. In light of the
pandemic, we expect to continue to take actions as may be required or
recommended by government authorities or as we determine are in the best
interest of our employees.
We have experienced relatively minor operational impacts on our inventory
availability and delivery capacity since the outbreak, neither of which has
materially impacted our ability to service our customers. We continue to work
with our existing manufacturing, logistics and other supply chain partners to
build key processes to ensure that our ability to service our customers is not
significantly disrupted. Ongoing actions to bolster key aspects of the supply
chain to support our continued growth include geographically diversifying
manufacturing operations to ensure adequate manufacturing capacity and to
shorten transit times, implementing alternative order fulfillment options to
reduce warehousing costs, developing contingency plans for unexpected
third-party manufacturing disruptions, and increasing headcount dedicated to
managing and optimizing supply chain processes. We have experienced cost
inflation resulting from the increased demand for raw materials and distribution
services associated with the impact of COVID-19.
Restructuring Actions
As part of a restructuring program implementation, the Company commenced a workforce reduction of approximately 74 employees that is expected to be substantially completed in the third quarter of 2022. In addition to the workforce reduction intended to increase cost-efficiencies across the organization, the Company's restructuring program includes the reduction of consulting and outside services, the reduction of marketing spend, and the prioritization and sequencing of research and development projects. In connection with the restructuring program, the Company expects to incur an estimated total amount of approximately$1.1 million in the third quarter of 2022, consisting primarily of severance, one-time termination and other related costs, all of which will result in cash expenditures primarily in the third quarter of 2022. As a result of the restructuring actions, Owlet expects to reduce run-rate operating costs, excluding share-based compensation and incentive compensation, to approximately$15 million to$19 million per quarter exiting the fourth quarter of 2022. Owlet is unable to predict with sufficient certainty items that would be included in the corresponding GAAP measure, operating expenses, including share-based compensation and incentive compensation, due to the unpredictable nature of such items, which may have a significant impact on Owlet's GAAP measures. 20 --------------------------------------------------------------------------------
Components of Operating Results
Revenues
We recognize revenue from the following sources: (1) products, (2) mobile applications, and (3) content. Revenues are recognized when control of goods and services is transferred to customers in an amount that reflects the consideration expected to be received by us in exchange for those goods and services. Substantially all of the Company's revenues were derived from product sales. Cost of Revenues Cost of revenues consists of product costs, including contract manufacturing, shipping and handling, depreciation and amortization relating to tooling and manufacturing equipment and software, warranty replacement, fulfillment costs, warehousing, hosting, and excess and obsolete inventory.
Operating Expenses
General and Administrative. General and administrative expenses consist primarily of salaries, benefits, share-based compensation, and bonuses for finance and accounting, legal, human resources and administrative executives and employees; third-party legal, accounting, and other professional services; corporate insurance; corporate travel and entertainment; depreciation and amortization of property and equipment; and facilities rent.
Sales and Marketing. Sales and marketing expenses consist primarily of salaries, commissions, benefits, share-based compensation, commissions, and bonuses for sales and marketing employees and contractors; third-party marketing expenses such as social media and search engine marketing; email marketing and print marketing. Research and Development. Research and development expenses consist primarily of salaries, benefits, share-based compensation, and bonuses for employees and contractors engaged in the design, development, maintenance and testing of our products and platforms. Other Income (Expense) Interest Expense, Net. Interest expense consists of interest incurred on our outstanding borrowings and amortization of the associated deferred financing costs net of interest income earned on our money market account.
Preferred Stock Warrant Liability Adjustment. Mark to market adjustment to recognize the change in fair value of the preferred stock warrant liability in other income (expense).
Common Stock Warrant Liability Adjustment. Mark to market adjustment to recognize the change in fair value of the common stock warrant liability in other income (expense).
Gain on Loan Forgiveness. Gain on loan forgiveness consists of the gain recognized subsequent to the forgiveness of the Small Business Administration Paycheck Protection Program loan.
Other Income (Expense), Net. Other income (expense), net includes our net gain (loss) on foreign exchange transactions.
Income Tax Provision.
Income tax provision consists primarily of
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Results of Operations
The following table sets forth our results of operations for the periods indicated in millions (note that amounts within this Item 2 shown in millions may not sum due to rounding):
For the Three
Months Ended June
30 ,
For the Six Months Ended
2022 2021 2022 2021 Revenues$ 18.3 $ 24.9$ 39.9 $ 46.8 Cost of revenues 11.7 11.4 24.5 20.6 Gross profit 6.6 13.5 15.4 26.2 Operating expenses: General and administrative 9.5 7.3 19.8 13.3 Sales and marketing 9.7 7.6 21.4 13.7 Research and development 7.8 4.5 16.3 7.9 Total operating expenses 27.0 19.4 57.4 34.9 Operating loss (20.4) (5.9) (42.1) (8.7) Other income (expense): Interest expense, net (0.2) (0.5) (0.4) (0.9) Preferred stock warrant liability adjustment - (1.0) - (5.6) Common stock warrant liability adjustment 8.8 - 1.9 - Gain on loan forgiveness - 2.1 - 2.1 Other income (expense), net 0.1 (0.1) 0.1 (0.1) Total other income (expense), net 8.7 0.5 1.6 (4.5) Loss before income tax provision (11.7) (5.3) (40.4) (13.2) Income tax provision 0.0 0.0 0.0 0.0 Net loss and comprehensive loss$ (11.7) $ (5.3)$ (40.5) $ (13.2) Revenues For the Three Months Ended For the Six Months Ended June 30, Change June 30, Change (dollars in millions) 2022 2021 $ % 2022 2021 $ % Revenues$ 18.3 $ 24.9 $ (6.6) (26.4 %)$ 39.9 $ 46.8 $ (7.0) (14.9 %) Revenues decreased by$6.6 million , or 26.4%, from$24.9 million for the three months endedJune 30, 2021 to$18.3 million for the three months endedJune 30, 2022 . The decrease in revenues year over year was primarily due to lower sales volume of Owlet sock products, impacted by both consumer sell-through levels and retailers targeting lower inventory levels, reflecting macroeconomic conditions. Customer discounts and provisions for returns were consistent to the prior year on lower sales volume. Revenues decreased by$7.0 million , or 14.9%, from$46.8 million for the six months endedJune 30, 2021 to$39.9 million for the six months endedJune 30, 2022 . The decrease in revenues year over year was primarily due to lower sales volume, impacted by both consumer sell-through levels and retailers targeting lower inventory levels, reflecting macroeconomic conditions, and higher provisions for returns of Owlet sock products. Customer discounts were consistent to the prior year on lower sales volume.
Cost of Revenues and Gross Margin
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For the Three Months Ended For the Six Months Ended June
June 30, Change 30, Change
(dollars in millions) 2022 2021 $ % 2022 2021 $ %
Cost of revenues $ 11.7 $ 11.4 $ 0.3 2.7 % $ 24.5 $ 20.6 $ 3.9 18.7 %
Gross profit $ 6.6 $ 13.5 $ (6.9) (51.0 %) $ 15.4 $ 26.2 $ (10.8) (41.3 %)
Gross margin 36.1 % 54.2 % 38.6 % 55.9 %
Cost of revenues increased by $0.3 million , or 2.7%, from $11.4 million for the
three months ended June 30, 2021 to $11.7 million for the three months ended
June 30, 2022 . The increase was primarily due to cost inflation, including
increased material and transportation costs. Gross margin decreased from 54.2%
for the three months ended June 30, 2021 to 36.1% for the three months ended
June 30, 2022 primarily due to cost inflation and provisions for returns and
customer discounts which were consistent to the prior year on lower sales
volume.
Cost of revenues increased by $3.9 million , or 18.7%, from $20.6 million for the
six months ended June 30, 2021 to $24.5 million for the six months ended
June 30, 2022 . The increase was primarily due to cost inflation, including
increased material and transportation costs and inventory rework costs for
inventory returned as a result of the FDA Warning Letter. Gross margin decreased
from 55.9% for the six months ended June 30, 2021 to 38.6% for the six months
ended June 30, 2022 , primarily due to cost inflation, higher provisions for
returns, and customer discounts which were consistent to the prior year on lower
sales volume.
General and Administrative
For the Three Months Ended For the Six Months Ended
June 30, Change June 30, Change
(dollars in millions) 2022 2021 $ % 2022 2021 $ %
General and administrative $ 9.5 $ 7.3 $ 2.2 30.3 % $ 19.8 $ 13.3 $ 6.5 49.0 %
General and administrative expense increased by $2.2 million , or 30.3%, from
$7.3 million for the three months ended June 30, 2021 to $9.5 million for the
three months ended June 30, 2022 . The increase was driven primarily by increased
compensation expense, including share-based compensation, from additional
general and administrative headcount. Additionally, the Company incurred
incremental ongoing costs of being a public company, including the increased
cost of insurance.
General and administrative expense increased by $6.5 million , or 49.0%, from
$13.3 million for the six months ended June 30, 2021 to $19.8 million for the
six months ended June 30, 2022 . The increase was driven primarily by increased
compensation expense, including share-based compensation, from additional
general and administrative headcount. Additionally, the Company incurred
incremental ongoing costs of being a public company, including the increased
cost of insurance.
Sales and Marketing
For the Three Months Ended For the Six Months Ended
June 30, Change June 30, Change
(dollars in millions) 2022 2021 $ % 2022 2021 $ %
Sales and marketing $ 9.7 $ 7.6 $ 2.2 28.5 % $ 21.4 $ 13.7 $ 7.7 56.0 %
Sales and marketing expense increased by $2.2 million , or 28.5%, from $7.6
million for the three months ended June 30, 2021 to $9.7 million for the three
months ended June 30, 2022 . The increase was primarily driven by an increase in
compensation expense, including share-based compensation, from additional sales
and marketing headcount, and increases in digital advertising.
Sales and marketing expense increased by $7.7 million , or 56.0%, from $13.7
million for the six months ended June 30, 2021 to $21.4 million for the six
months ended June 30, 2022 . The increase was primarily driven by an increase in
compensation expense, including share-based compensation, from additional sales
and marketing headcount, and increases in digital advertising and retail channel
marketing spend.
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Research and Development
For the Three Months Ended For the Six Months Ended
June 30, Change June 30, Change
(dollars in millions) 2022 2021 $ % 2022 2021 $ %
Research and development $ 7.8 $ 4.5 $ 3.3 72.0 % $ 16.3 $ 7.9 $ 8.4 105.2 %
Research and development expense increased by $3.3 million , or 72.0%, from $4.5
million for the three months ended June 30, 2021 to $7.8 million for the three
months ended June 30, 2022 . These increases were primarily driven by an increase
in compensation expense, including share-based compensation, from additional
research and development headcount, an increase in consulting expenses, and an
increase in spend associated with FDA submissions.
Research and development expense increased by $8.4 million , or 105.2%, from $7.9
million for the six months ended June 30, 2021 to $16.3 million for the six
months ended June 30, 2022 . These increases were primarily driven by an increase
in compensation expense, including share-based compensation, from additional
research and development headcount and an increase in consulting expenses.
Other Income (Expense)
For the Three Months Ended For the Six Months Ended
June 30, Change June 30, Change
(dollars in millions) 2022 2021 $ % 2022 2021 $ %
Interest expense, net $ (0.2) $ (0.5) $ 0.3 (58.1 %) $ (0.4) $ (0.9) $ 0.5 (52.4 %)
Preferred stock warrant
liability adjustment $ - $ (1.0) $ 1.0 (100.0 %) $ - $ (5.6) $ 5.6 (100.0 %)
Common stock warrant
liability adjustment $ 8.8 $ - $ 8.8 NM $ 1.9 $ - $ 1.9 NM
Gain on loan forgiveness $ –
(100.0 %) $ -$ 2.1 $ (2.1) (100.0 %) Other income, net$ 0.1 $ (0.1) $ 0.2 (150.8 %)$ 0.1 $ (0.1) $ 0.2 (205.8 %) NM - Not meaningful For the three months endedJune 30, 2022 , we recognized a gain of$8.8 million for the mark to market adjustment for common stock warrants resulting from the decrease in the fair value of the common stock warrants.
For the six months ended
For the three and six months ended
Liquidity and Capital Resources
Owlet's operations have been funded primarily with proceeds from the Merger and PIPE investment, borrowings under our loan facilities, and sales of our products and services. As ofJune 30, 2022 , we had cash and cash equivalents of$37.3 million . Funding Requirements In accordance with Accounting Standards Update No. 2014-15, Disclosure of Uncertainties about an Entity's Ability to Continue as a Going Concern (Subtopic 205-40), the Company has evaluated whether there are conditions and events, considered in the aggregate, that raise substantial doubt about the Company's ability to continue as a going concern within one year after the date that the unaudited condensed consolidated financial statements are issued. Since inception, the Company has experienced recurring operating losses and generated negative cash flows from operations, resulting in an accumulated deficit of$183.9 million as ofJune 30, 2022 . During the year endedDecember 31, 2021 and the six months endedJune 30, 2022 , we had negative cash flows from operations of$40.6 million and$55.7 million , respectively. As ofJune 30, 2022 , we had$37.3 million of cash on hand.
Year over year declines in revenue, the current cash balance, recurring operating losses, and negative cash flows from operations since inception, in addition to the noncompliance with its revenue covenant (see Note 5 to the condensed consolidated financial statements),
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As the Company continues to address these financial conditions, management has undertaken the following actions:
•As described further in Note 5 to the condensed consolidated financial statements, the Company has entered into a waiver agreement withSilicon Valley Bank ("SVB") related to the covenant violation and maintains access to a line of credit, with reduced capacity, during this period. The Company is actively engaged with SVB to come to terms on a further restructured financing arrangement, including revised financial covenants for future periods.
•As described further in Note 13 to the condensed consolidated financial statements, we have undertaken restructuring actions, which significantly reduced employee headcount and will reduce operating spend. This includes the reduction of consulting and outside services, the reduction of marketing programs, and the prioritization of and sequencing of researching and development projects.
There can be no assurance that the Company will generate sufficient future cash flows from operations due to potential factors, including but not limited to inflation or recession or reduced demand for the Company's products. If revenues further decrease from current levels, the Company may be unable to further reduce costs, or such reductions may limit our ability to pursue strategic initiatives and grow revenues in the future. Should the Company be unable to come to terms on an amendment of its loan and security agreement, or require further funding in the future, there can be no assurance that we will be able to obtain additional debt or equity financing on terms acceptable to us, if at all.
FDA Warning Letter Returns
A refund liability of
Loan and Security Agreement with
The Company has an amended and restated loan and security agreement (the "A&R LSA") with SVB which we entered into onApril 22, 2020 , and which replaced the loan and security agreement previously in place (the ''Original LSA''). These agreements provided us with both a line of credit (the ''SVB Revolver'') and a term loan (the ''Term Note''). OnJanuary 31, 2022 , the Company further amended the A&R LSA, which modified the SVB Revolver annual interest rate, decreased the advance rate for borrowing base assets, and increased the cash and cash availability streamline threshold. The amendment also modified the Term Note annual interest rates, replaced the existing EBITDA covenant for 2022 and beyond with a net revenue covenant, and increased the minimum liquidity threshold from$5.0 million to$30.0 million . Our borrowing capacity under the SVB Revolver was$17.5 million as ofJune 30, 2022 . The SVB Revolver is an asset based lending facility subject to borrowing base availability which is limited by borrowing base calculations based on the sum of specified percentages of eligible accounts receivable and eligible inventory. Borrowing base availability can be significantly impacted based upon the period's eligible accounts receivable and eligible inventory, and may be lower than borrowing base capacity. As ofJune 30, 2022 , the SVB Revolver bore interest at an annual rate equal to (i) the greater of the bank's prime rate plus 0.75%, or 5.00% when a streamline period is in effect and (ii) the greater of the bank's prime rate plus 1.25%, or 5.00% at all other times. Prior toJanuary 31, 2022 , the SVB Revolver bore interest at an annual rate equal to (i) the greater of the bank's prime rate plus 0.75%, or 5.50% when a streamline period is in effect and (ii) the greater of the bank's prime rate plus 1.25%, or 6.00% at all other times. Each streamline period commences the first day of the month following a written report of our liquidity and ends the first day after we fail to maintain a required cash and cash availability streamline threshold, provided no event of default has occurred and is continuing. If an event of default has occurred and is continuing, SVB may maintain our streamline status at its discretion. The required cash and cash availability streamline threshold was$50.0 million as ofJune 30, 2022 , which the Company did not maintain and was therefore not within a streamline period. The actual interest rate on the SVB Revolver was 6.00% as ofJune 30, 2022 . The SVB Revolver is subject to renewal and is scheduled to mature onApril 22, 2024 . As ofJune 30, 2022 , there was$4.3 million of outstanding borrowings under the SVB Revolver. Our Term Note had an aggregate principal balance of$11.0 million as ofJune 30, 2022 . As ofJune 30, 2022 , the Term Note bore interest at a rate equal to the greater of the bank's prime rate plus 2.50%, or 5.75%, and required 30 consecutive equal monthly payments of principal and matures onApril 1, 2024 .
Prior to
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Our borrowings under the A&R LSA and its subsequent amendments are secured by substantially all of our current and future assets.
As ofJune 30, 2022 , the Company was in violation of its minimum net revenue requirement for the three months endedJune 30, 2022 under the amended and restated loan and security agreement, which governs both the Company's term loan and its line of credit. OnAugust 10, 2022 , the Company received and entered into a waiver agreement with SVB. This agreement waives the minimum net revenue covenant violation for the three months endedJune 30, 2022 , lowers the minimum liquidity covenant from$30.0 million to$22.5 million , and reduces the line of credit capacity from$17.5 million to$5.0 million . The Company does not currently expect that it will be in compliance with the minimum net revenue covenant for the third and fourth quarter of 2022, which were not amended under the waiver agreement. As a result, the$11.0 million term note and the Company's line of credit with$4.3 million of outstanding borrowings is presented as a current liability. The Company is actively engaged with SVB to come to terms on a further restructured financing arrangement, including revised financial covenants for future periods. If the Company is unable to come to terms regarding an amendment, and the Company is in violation of its covenants in future periods, SVB can elect to take certain actions, including terminating the line of credit and declaring the principal amount of the term note and line of credit as immediately due and payable.
Financed Insurance Premium
InJuly 2022 , the Company renewed its corporate liability policies and entered into a new short-term commercial premium finance agreement withFirst Insurance Funding totaling$3.0 million to be paid in eleven equal monthly payments, accruing interest at a rate of 4.40%.
Cash Flows
The following table summarizes our cash flow (in millions):
Six
Months Ended
2022 2021
Net cash used in operating activities $ (55.7) $ (15.6)
Net cash used in investing activities (1.2) (0.7)
Net cash (used in) provided by financing activities (0.9) 11.5
Net change in cash and cash equivalents $ (57.8) $ (4.8)
Operating Activities
For the six months ended June 30, 2022 , net cash used in operating activities
was $55.7 million as compared to net cash used in operating activities of $15.6
million in the prior year. The change in operating cash flows was driven by a
higher net loss excluding the impact of non-cash charges and higher working
capital usage. Working capital usage was driven by higher receivable levels,
higher inventory, including the impact of return to vendor activity, and a
decrease in accounts payable and accrued and other expenses as compared to an
increase in the prior year. The Company expects the settlement of the accrued
returns resulting from the Warning Letter to have a negative impact to cash
flows from operations during the fiscal year ended 2022.
Investing Activities
For the six months endedJune 30, 2022 , net cash used in investing activities increased to$1.2 million from$0.7 million for the six months endedJune 30, 2021 due to higher purchases of intangible assets.
Financing Activities
For the six months endedJune 30, 2022 , net cash used in financing activities was$0.9 million as compared to net cash provided by financing activities of$11.5 million for the six months endedJune 30, 2021 , primarily driven by payments of long-term debt in 2022 compared to proceeds from long-term debt during the six months endedJune 30, 2021 .
Critical Accounting Policies and Estimates
There have been no material changes from the critical accounting policies and
estimates disclosed in our 2021 Annual Report on Form 10-K, other than policies
disclosed in this Quarterly Report on Form 10-Q.
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